Apple's (AAPL) mobile payment solution, Apple Pay, should emerge as a game-changer in commerce, even though it may take many years before reaching full adoption by merchants and consumers. In this report, we provide an in-depth analysis of the Apple Pay solution and how it fits within the existing credit card ecosystem today. We think that Apple Pay will create a ripple effect for all parties - Apple, merchants, card issuers, and networks - even if our medium-term estimates of Apple Pay's potential contribution to the company's top line appear somewhat muted.
For Apple, we view Apple Pay as a hard-to-replicate service that will generate incremental earnings, but more important, raise switching costs around the iOS platform. The rise of Apple Pay may have only a limited effect on the credit card ecosystem, as lower fraud costs to issuers are likely to be paid out to Apple, all while credit-based transactions rise modestly.
We still view eBay (EBAY) as a best stock idea and the most actionable way to invest in the mobile payment space, and we tend to view Apple Pay as an opportunity for PayPal and its Braintree subsidiary, rather than a threat. Finally, Google (GOOG) and Facebook (FB), in particular, have the necessary assets in cloud and mobile technologies to become relevant in mobile payments.
Apple Pay's initial economic impact on card issuers, acquirers, and payment networks will be limited.
We think some low-value transactions will shift from cash to Apple Pay and fraud costs will fall, but lower interchange revenue for card issuers is likely to partially offset these benefits. Apple Pay is a source of new fees and volume for networks, but Apple's relatively low global market share limits the upside.
Apple's focus on consumer, rather than merchant, applications is unlikely to affect acquirers in the near term. We see Apple's strategy to embed payments as a key feature into iOS and the App Store, along with its ability to translate user enthusiasm into adoption, as critical factors in establishing a moat in the payment business.
In our view, Apple leveraged its strengths in vertical integration, brand equity, and premium hardware to build a service that requires immense cooperation and it may be difficult for Google to compete as effectively because of the openness of the Android ecosystem. While we calculate that Apple Pay should add a few billion dollars of revenue per year in the long term, we are the most interested in the service in terms of enhancing the iOS user experience and developing switching costs (the source of Apple's narrow moat).
EBay remains on our Best Stock Ideas list and is our most actionable idea in the mobile payments space. While most of the headlines paint Apple Pay as a potential threat to PayPal, we actually see the launch opening up several opportunities. PayPal has entrenched itself as a key player in mobile payments, and as the mobile payment industry evolves, we see opportunities for PayPal and its Braintree subsidiary to become both a facilitator of mobile transactions and a key mobile app funding source.
Two of the most common growth subsectors in technology are likely to have an impact on payment systems: cloud computing and mobility. Merchants, both physical and online, have been developing non-payment mobile applications for Android and iOS, primarily for marketing and loyalty programs. We believe this behaviour is training both merchants and consumers to use smartphones and embrace mobile payments, at least eventually.
