Thinking Points

  • Wellnet (TSE: 2428) got its start in 1996 when a Sapporo-based gas company recruited current CEO Kazuhiro Miyazawa. Today, the company is a leader in convenience store bill payment systems.
  • Over the last several years, however, business performance has suffered, largely due to contract negotiations with large customers and Japan’s move toward a cashless society introducing competition.
  • Thus far, the company hasn’t addressed its legacy business’ performance decline. Instead, it has directed attention toward the new business ventures under development, making it difficult to analyze Wellnet’s business quality.
  • At 1,042 yen per share, some sources show Wellnet’s EV/EBIT multiple at 1.5x. Adjusted for payment service deposits, however, the company trades at an adjusted EV/EBIT of 21.6x. The company has a market cap of 19,154 million yen ($172 million USD).
  • Investors are best advised to avoid investing in Wellnet until the company discloses more financial information about its new business ventures and a breakdown of its legacy business’ performance.

Introduction

Wellnet (TSE: 2428) is payment services agency known for its multi payment offering, which allows customers of online businesses to pay for products and services at a nearby convenience store. Today, the company’s biggest revenue source is Amazon Japan and Yahoo!.

Source: Company filings


Although Wellnet maintained operating margins well above 10% in the past, recent performance has declined, largely due to renegotiation of contracts and emerging competition. The company is pursuing several new business lines now, including online long distance bus ticketing services and utility payment services.

The business & environment

Wellnet got its start in 1996, when current CEO Kazuhiro Miyazawa started working for Ichitaka Gas One, a gas company in Japan’s northernmost metropolitan area, Sapporo. After college, Kazuhiro originally started working at Toyo Keiki, a manufacturer of gas meters, of which Ichitaka Gas One was a customer.

The two companies were closely tied, working together to build new systems. One day, as Kazuhiro made one of his frequent visits to Ichitaka Gas One, the CEO of the company stopped and asked him if he would like to join Ichitaka Gas One and work on whatever he likes for the next three years. Kazuhiro promptly accepted the offer and joined Ichitaka Gas One.

In thinking about what sort of business to build, Kazuhiro was conscious about the fact that Sapporo is quite far from Tokyo or Osaka, where the bulk of Japanese consumers are located. Hence, any physical product would require logistical costs. Coincidentally, this was just around the time when Windows 95 first hit the market, and the internet was rapidly spreading.

Kazuhiro decided to pursue an internet based business as it required no logistical costs. As he conducted his own research, he heard that E-commerce will continue to grow, and that eventually convenience stores will be used to make payments. In fact, at the time, some utility companies already accepted payments through convenience stores.

Although the convenience store payment functionality already existed, Kazuhiro focused on the fact that, it was difficult for small and medium sized businesses to accept payments at convenience stores. This was largely because there was no packaged software, and only companies with the resources to develop a payment system were able to accept payments at convenience stores.

Kazuhiro proceeded to build a Windows-based packaged software that enabled payment processing at convenience stores, and offered the software with no upfront costs. The software quickly spread and the company started collecting transaction fees. Today, Wellnet is the #1 convenience store cash payment settlement system.

More recently, however, company performance has deteriorated. This is mainly due to emerging competition and renegotiation of contracts.

Source: Company filings


Investors looking at financial data prior to 2011 will notice a steep decline in revenues from 2010 to 2011. This is largely due to a change in revenue accounting for one of Wellnet’s services. The company developed a system for the convenience store chain Circle K Sankus (now under Family Mart UNY Holdings [TSE: 8028]) where instead of purchasing physical prepaid cards for phones, customers can order the same thing online using a kiosk at the convenience store, without physically having a card. Initially, Wellnet recorded gross sales, then switched to net sales (i.e., transaction revenues).

As far as emerging competition goes, Japan is quickly moving toward a cashless society, and dozens of alternative payment processing services have emerged. Examples include Line Pay, GMO Payment Gateway (TSE: 3769), Rakuten Pay, PayPay, and more.

According to a 2018 presentation by the Ministry of Economics, Trade, and Industry (Japanese), Japan’s cashless payment rate was 18.4% in 2015, up from 11.9% in 2008. In comparison, most other countries like the United States (45%), UK (54.9%), France (39.1%), S. Korea (89.1%), and China (60%) had much higher cashless payment rates. The only first world nation with rates lower than Japan was Germany (14.9%).

Cashless payment adoption is expected to continue, with the backing of the Japanese government. This will likely further pressure Wellnet’s legacy business, which mostly consists of enabling cash payment at convenience stores.

Interestingly, Wellnet’s earnings presentation and company filings hardly touch on the subject of declining business performance other than mentioning that it is declining. Instead, the company directs attention to mainly the two new businesses it is developing.

In the 2018 earnings presentation, the reason for business performance decline is described in two brief sentences on the summary slide, with no further discussion later in the presentation. The reasons are price renegotiations with large operators (presumably Amazon Japan or Yahoo!, or both) and a decline in convenience related revenues (i.e., online purchase of prepaid cards at kiosk mentioned earlier).

Wellnet offered a breakdown in revenues in prior years, but stopped in 2016. Without a closer examination of price renegotiations, breakdown of revenues, and business performance metrics for new business, it is difficult to estimate Wellnet’s business performance.

As for the new businesses, Wellnet is developing a cashless service that helps consumers manage bills. The company developed an app which is connected to several regional utility companies and many national and regional banks. Where Wellnet is covered, users can pay their bills using the app without cash physically changing hands.

The second business Wellnet is developing is one that enables long distance bus operators to sell tickets through an app. The company is targeting a fragmented bus operator market, not particularly dissimilar in structure to the small and medium online businesses it originally targeted.

Both new businesses appear to be doing well, however, Wellnet does not disclose any financial information. Instead, the company shows its list of partnered firms. These consist of banks and utility companies for the bill payment app and bus and train companies for the long distance bus ticketing app.

Wellnet has not provided guidance for fiscal 2019, but is targeting 5,000 million yen ($45 million USD) in ordinary income by fiscal 2021 as a part of its medium term plan (2016-2021).

Shareholders

As of Q2 2019 (ending December 31st, 2018), Wellnet had 19,400,000 shares issued and 643,020 shares in treasury, putting outstanding shares at 18,756,980.

Here are the major shareholders:

Source: Company filings & Nikkei


Wellnet has issued 9 different rounds of stock options. As of fiscal 2018 (ending June 30th, 2018), there were 2,008,300 options outstanding. Seeing that treasury shares declined between Q4 2018 and Q2 2019 and no announcement was made about retiring shares, we’ve estimated that the company currently has 1,825,664 options outstanding as of Q2 2019. 1,586,100 of the options are exercisable after August 1st, 2019 with an exercise price of 1,322 yen per share.

Financials & Valuation

  • Wellnet started out as a new business venture within another company a little over two decades ago, and is a leader in convenience store bill payment systems today.
  • Over the last several years, however, business performance has suffered, largely due to contract negotiations with large internet retailers and emerging competition.
  • Thus far, the company hasn’t addressed its legacy business’ performance decline. Instead, it has directed attention toward the new business ventures under development.
  • At 1,042 yen per share, Wellnet trades at an adjusted EV/EBIT of 21.6x with a market cap of 19,154 million yen ($172 million USD).
  • Investors are best advised to avoid investing in Wellnet until the company discloses more financial information about its new business ventures and a breakdown of its legacy business’ performance.

Wellnet got its start in 1996 when a Sapporo-based gas company recruited current CEO Kazuhiro Miyazawa with an offer to work on a new business venture of his choice for three years. After some careful thought, Kazuhiro decided to build a convenience store bill payment system geared for small and medium sized online business operators. Today, the company has grown to be the largest convenience store bill payment system.

The business isn’t without troubles, however, with Japan increasingly becoming a cashless society. Dozens of alternative payment options have emerged, which require no cash changing hands. This combined with Wellnet’s large customers renegotiating prices has resulted in a significant deterioration of the company’s performance over the last several years. Interestingly, the company has not addressed these issues in its filings or presentations and instead directs attention to its new business ventures.

Although the new business ventures seem to be performing well, Wellnet offers no financial metrics. Furthermore, the company has not broken down revenues by service since 2016, and has not offered guidance for 2019. This makes analyzing the business quality difficult. One thing is certain, however, and it is that Japan’s cashless movement threatens Wellnet’s legacy offerings.

At 1,042 yen per share, the company trades at 1.5x EV/EBIT with a market cap of 19,154 million yen ($172 million USD). There is, however, one important adjustment that is required. Wellnet’s balance sheet shows 18,150 million yen ($163 million USD) in cash & equivalents as of Q2 2019. Under current liabilities, the balance sheet shows payment service deposits of 13,831 million yen ($124 million USD). This is money that Wellnet has received for payment on behalf of its customer, but has not yet transferred to customer accounts. Net of this, and adjusted for a small sum of investment securities, cash & equivalents come out to 4,526 million yen ($40.7 million USD).

Adjusting for the net cash & equivalent balance, we get an adjusted EV/EBIT multiple of 21.6x. Furthermore, the company has approximately 1,825,664 shares in the form of unexercised stock options (~9.4% of issued shares), although the bulk of the options have an exercise price of 1,322 yen per share. Investors are best advised to avoid investing in Wellnet until the company discloses more information, particularly with regards to the new business ventures’ financial performance and a historical breakdown of revenues by service.

The bottom line

Wellnet is a leader in convenience store bill payment systems geared for small to medium sized online businesses. More recently, however, Japan’s cashless movement combined with Wellnet’s large customers renegotiating prices have considerably deteriorated the company’s business performance. Furthermore, the company has not addressed the business performance decline in its legacy business. Instead, it directs attention to its new business ventures. Still, the company no longer provides a breakdown in revenues, which makes it difficult to analyze its business quality. At today’s 1,042 yen per share price, some sources show Wellnet’s EV/EBIT multiple at 1.5x. The more appropriate multiple should be adjusted for payment service deposits, which brings the multiple closer to 21.6x, and even higher when adjusting for unexercised stock options (~9.4% of issued shares). Investors are best advised to avoid investing in Wellnet until the company discloses more information, particularly with regards to the new business ventures’ financial performance and a historical breakdown of revenues by service.


Kenkyo Investing
Kenkyo Investing

Kenkyo Investing applies a value investing approach to Japanese equities, providing insights that are often unavailable to non-Japanese speakers.