Araxi: Where to from here?

Fintech specialist Capital Appreciation has taken on a bold new identity as Araxi — though the market, despite a mini price spurt recently, is still not sold on the company’s solid long-term track record and growth prospects.

The share is afforded a trailing earnings multiple of less than 10, with the dividend yield sitting at a mouth-watering 6.8%. This “steady Eddie” rating probably reflects that, despite the change in corporate identity, things are certainly still flowing in the same direction.

Araxi’s payments division still provides the group’s steady stream of earnings, while the software consulting division remains in a ditch, dragging down overall profitability.

The software division has undergone restructuring in the latest half-year after many years of underperformance. Some staff have taken voluntary redundancy, and other internal changes have been made in an effort to become leaner and more profitable. The first half didn’t yet reflect the profitability goals set by management, with restructuring costs recorded in the first-half results — as a restatement of prior-period comparative figures due to a 10-year auditor rotation — hindering a clean comparison.

This plethora of accounting treatment changes and restatements affected both divisions. Still, changes in revenue recognition accounting treatment affected the software division more than the payments division. This made making true comparisons — at least with a high level of confidence — difficult for investors, despite the company’s best efforts to provide normalised figures and as much explanation as possible.

Revenue in the software division was down 20.2% to R256.7m and ebitda cratered 82.7% to R6.9m, after R10m in restructuring costs. But a R32m multiyear fee flattered the previous year’s ebitda.

Management is optimistic that its changes are having an impact and that work done in the software division this half will bear fruit in the second. It noted a tangible pickup in client confidence and spend, albeit off a low base, as did small technology group PBT Holdings in its results. Investors will keenly await second-half results, but without a palpable improvement in profitability, they will be left questioning management capability and the strategic rationale for holding on to a division that has proved a millstone around the group’s neck since 2017.

Interestingly, Araxi CEO Bradley Sacks says the software division is where there could be blue sky for the business, especially as AI will change fintech radically: “AI has moved from experimentation to a focus on unlocking business value.”

For now, the stellar performance of the payments division is bailing out group-level profitability and growth. The number of terminals in customers’ hands rose to 446,000, up from 50,000 in 2017. The ebitda margin also lifted in this half to 47.6%, up 3.5% from the prior comparative period.

Management noted a trend towards customers buying terminals outright and a move away from rentals and leasing, which had been the theme over the past two to three years. The pickup in terminal sales had an effect on working capital and cash conversion, with trade receivables on the high side, but this will convert to cash in the current period. As the terminal estate grows, the fees generated from transaction income, software licences and maintenance and support services continue to become a more meaningful part of the division’s revenue, with attractive margins captured along the way.

AI has moved from experimentation to a focus on unlocking business value

—  Bradley Sacks

After the results Araxi issued a cautionary statement, noting it is considering a possible acquisition in the payments space. This is a highly complex ecosystem with a multitude of moving parts in the value chain, so it is hard to say exactly where an acquisition might be found.

One can only speculate on the transaction, but anything that adds further scale to the payments division should be highly accretive and synergistic with Araxi.

Given that payments are a broad ecosystem, one could make a case for Araxi buying a business such as Yoco or Sureswipe, given their terminal estates. Araxi could look to expand into online payments via an Ozow or Zapper. Some of the more full-stack payment players include fast-growing Stitch Money and established player Peach Payments.

Araxi management has consistently said it wants to grow international revenues mainly by following its clients. This could bring into play a cross-border remittance business such as Mama Money or a global payments business such as SmartPesa, both of which are longer odds at this stage.

There are some opportunities that can be ruled out, however. Sacks notes: “We would not consider buying a bank. We see our role as enabling the banking sector.”

Araxi, for example, worked with South Africa’s largest bank by client numbers, Capitec, on real-time fraud detection. Araxi’s Synthesis software unit developed a system which can detect and block fraud before transactions are completed; this reduces exposure to fast-evolving fraud patterns. It uses dynamic, model-driven detection instead of rigid rules.

Araxi will also benefit from a number of secular growth trends. Sacks says digital payments are expected to grow 5%-10% a year by value for the rest of the decade, with a total value of close to R4-trillion by 2029. This number was barely R1-trillion in 2020.

And there is considerable room for growth in the rest of Africa to reach South African levels. Payments of 118 times per card per year are more than double those in Nigeria (51), which in turn are double those in Egypt (24). In Kenya — where South Africa’s big banks all compete — it is barely five times.

Sacks says international players will stimulate demand for digital banking services, notably global money transfer business Wise and the innovative London-based digital bank Revolut.

Araxi also has a few venture capital-style investments in LayUp Technologies and AssetPool. While only high-level figures and commentary were provided for both equity investments, they are still on track. Hopefully, one day a bonsela will come the way of Araxi investors from these two businesses, but if it doesn’t, they won’t break the bank.

Factoring in all of the above, where does that leave Araxi? It is still one of the more interesting and attractive small-cap counters on the JSE. It has R300m in cash to deploy against this potential acquisition, though it seems doubtful the purchase price will be anywhere near that amount.

Noting the heady multiples slapped on fintech counters on major bourses offshore, some punters feel Araxi should pursue a listing on an international stock exchange, possibly the Nasdaq.

Sacks points out that payment businesses command earnings multiples of 20-50 internationally. Araxi’s multiple hovers between 9 and 10.5.

While this is quite good for a South African small cap (most are in the low to mid-single digits), Araxi is still too small to be of much interest to local and international institutional investors.

But Sacks says that with a market cap of barely $100m, it doesn’t make sense for Araxi to look at listing on other bourses. He concedes that as the business grows, listing overseas could become more viable — which might make the potential acquisition all the more intriguing.