On Nov. 19, financial technology company WEX (NYSE: WEX) announced it had been granted a license to process electronic payments in the Netherlands, the seventh largest European economy by GDP and a completely new European market for WEX.
The company now operates in 11 countries, but 86% of its revenue in 2018 came from U.S. operations, meaning it still has a significant opportunity to expand internationally. And that is just one of the growth avenues WEX is pursuing in an effort to double in size over the next five years.
What is WEX?
Most investors probably haven’t heard of this Portland, Maine company. But if you appreciate paying at the pump, you owe some of your appreciation to WEX, as the company claims to have “developed the concept of unattended fueling” in the 1980s. WEX’s fuel cards used to be its only source of revenue.
Today, WEX is actively diversifying its business into three main segments. To put it simply, in each of these three segments WEX is serving businesses by providing them with payments solutions to their employees.
WEX’s fleet solutions segment (mostly fuel cards) accounts for 61% of revenue. One might wonder why WEX fuel cards even exist anymore. Why wouldn’t corporations just go with a credit card? The answer is that WEX’s payments system captures data that credit cards don’t — like odometer readings. This data helps companies control fraud and allows WEX’s fleet solutions to fill a crucial niche in the payments sector.
Its travel and corporate solutions segment is next with 21% of revenue. Think fuel cards but for paying hotel bills, airfare, and making international purchases. Again, one might wonder why this is a necessary service. WEX issues single-use transaction authorizations, meaning that if theft occurs, companies won’t be on the hook for exorbitant expenses — just up to the predetermined authorized amount. Further, it cuts down on fraud by not allowing employees an open-ended credit limit.
And finally, its health and employee benefits segment (health savings account managements software and more) accounts for 18% of revenue. To me, this is the most interesting of the three segments. WEX offers a SaaS (software as a service) product for employers to manage their health benefits program. As we’ll see, this is a primary growth driver going forward.
Slowing revenue growth
WEX has been a hot growth stock, more than doubling the return of the S&P 500 over the last three years, and it was recognized as one of the Fortune 100 Fastest-Growing Companies of 2019. But lately, revenue growth has slowed.
|2019 YTD||$1.28 billion||15.5%|
In WEX’s third-quarter earnings call, CEO Melissa Smith underscored the concern over slowing revenue growth. She said that while third-quarter revenue grew 19% year over year, organic growth came in at only 8% with the rest driven by acquisitions.
One of the primary drags on WEX’s growth right now is low gas prices. That may be surprising, but remember 61% of revenue comes from its fleet solutions segment , and almost half of that segment’s revenue is generated by charging a percentage-based fee on processed gas payments. Lower gas prices mean smaller transactions and therefore reduced fees. In fact, the company’s 2018 annual report stated that for every penny gas prices fall, WEX estimates it loses $1.2 million in revenue. So far in 2019, average monthly gas prices are down $0.16 compared with 2018, according to data from the Department of Energy.
But still more growth opportunities
WEX realizes that, although it’s been a market-beating business, it’s relied too much on U.S. fleet solutions in the past. But the company projects that the fleet solutions segment will become a smaller part of overall revenue in the future. While the company is projecting 4% to 8% annual organic growth for fleet solutions long term, its travel segment is projected to grow 10% to 15%, and its health segment is forecast to grow 15% to 20%. Over time that means that these three business segments will become more balanced with one another, mitigating the future impact of falling gas prices.
Returning to WEX’s health segment, one of the key metrics of a SaaS business is account growth, and in WEX’s third quarter, health accounts grew 18% year over year. For now, this is the company’s least profitable business segment but should see increasing profitability as long as accounts keep growing. It’s already showing modest improvement. Operating margin for this segment through the first nine months of 2018 was 26%. In the same period this year, operating margin is at 27%. Look for that profitability to continue increasing in coming quarters.
We started this article with the news of WEX’s license to operate in the Netherlands. Returning now to the thought of international growth, Europe is still a largely untapped market for WEX. But its niche products are certainly useful there too, and the company is set on expanding throughout the continent — the Netherlands being just the second piece of that puzzle. To underscore WEX’s determination to expand abroad, the company acquired Go Fuel Card earlier this year for $266 million with cash on hand. This gives the company over 200,000 cards being used in four European countries and lays more of a foundation for international growth in 2020 and beyond.
The company plans to double both revenue and earnings over the next three to five years. Talk is cheap, but WEX does have some credibility when it sets a business goal. At the end of 2014, the company had its first investor day, at which it established long-term goals of annual revenue growth of 10% to 15% and annual adjusted net earnings growth of 15% to 20%. Over the past five years, the company has had compound annualized revenue growth of 15.8%, exceeding the goal. It also has had compound annualized adjusted net earnings growth of 12.5%, slightly underperforming expectations. So results haven’t been perfect, but it has at least been in the ballpark of what was promised.
Looking at the company’s growth opportunities, the balance of business segments, and management’s vision of a five-year double, this is definitely a company to add to your watch list. It currently trades under 20 times forward earnings, which tells me Wall Street isn’t pricing this stock for the growth opportunities it has.
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