Where has all the cash gone?
Who made the first electronic payment? Some say it was a bunch of students from Stanford and MIT who used ARPANET to buy pot in the early 70s. Others say it was Jane Snowball, a British grandmother who hacked a Videotex (think TV connected to phone line) to order groceries in 1984. But whilst both transactions were highly creative, they were settled offline, which means they don’t count as fully fledged electronic transactions.
The first proper online payment actually took place on 11th August 1994, when a very smart man by the name of Dan Kohn sold a CD to a buddy in Philadelphia. In exchange for a copy of "Ten Summoner's Tales" (a Chaucerian take on love and morality described by Rolling Stone as cementing "Sting’s status as one of pop’s certified big thinkers"), the lucky buyer parted company with $12.48 plus shipping, paid online via credit card. In doing so, they executed the first ever encrypted transaction and fired the starting gun on a new chapter in the story of capitalism.
Emerging markets are already mobile.
The global picture shows us that payments are only going one way, and that’s mobile. Non-cash transactions conducted via e-wallets were estimated to total 42 billion globally in 2016, of which 71% were conducted by payment apps and e-wallets. China alone accounted for 16.3 billion transactions! How did this happen?
First and foremost, many EM countries are mobile-first cultures with surprisingly high smartphone penetration, as people depend on cheap phones to access products and services rather than expensive laptops and desktop computers. Android has made affordable smartphones a reality and electronic payment providers in Emerging Markets (especially China) have done a fantastic job in overcoming trust issues through provision of escrow functionality, giving buyers and sellers the comfort they need to transact. Alibaba's glorious leader Jack Ma says, “When we created Alipay in 2003, we did it to resolve the issue of trust between people. And by resolving the issue of trust, we’ve also resolved the issue of payment.”
Further, the oligopolistic structure of the market has enabled companies with existing e-commerce and search platforms to reach large volumes of users with their payment offerings. WeChat Pay is part of Tencent. Alipay is owned by Ant Financial and is the main payment method on Tmall and Taobao, the two biggest e-commerce platforms in China. These tech giants launched their mobile payment offerings into captive audiences, the underlying scale of which has created attractive network effects. When it comes to the population density of the largest Asian countries, size breeds size.
But perhaps the biggest reason for the explosion of mobile payments in China and India (not to mention Indonesia) is the fact that countries don’t have to contend with legacy infrastructure, meaning they’ve been able to skip traditional developmental stages and leapfrog their way to an (almost) frictionless payment ecosystem.
This is a recurring theme here at Three Body Capital and an important factor in our overall investment approach. It’s something we noticed on a recent trip to meet with entrepreneurs and investors in Indonesia. Things that we perceive as groundbreaking and futuristic here in London (mobile payments, cashback on retail purchases, ride-hailing) are a prosaic part of everyday life in South-East Asia.
Excited or terrified?
E-payments are clearly big business in Indonesia, with GoPay and Ovo fast becoming household names. But, as with many emerging markets, there's a lack of robust data on just how quickly adoption is growing.
AlphaWise and Morgan Stanley Research recently surveyed around 1,600 online shoppers and e-wallet users in Indonesia across a range of cities, including Jakarta, Surabaya and Palembang. The results are pretty exciting (or terrifying, depending how you're positioned vis-à-vis Indonesian banks).
Digital payments had a 38% share of all payment options, which is astounding in and of itself. But when you consider that 77% of e-wallet users had only been using digital payments for less than 12 months, you get a sense of how quickly things are changing. We're talking about a 55% net increase in payment usage for e-wallets over the past year alone. If growth continues at that rate, traditional payments (and the companies that facilitate them) could be wiped out in months, not years!
We believe Indonesia is the perfect test bed to express our transformational investment philosophy on both long and short sides. Thanks to its massive population, lack of legacy infrastructure and capitalistic culture, change is occurring much more quickly here than other markets in our investment universe. In Indonesia, we glimpse the future of financial services globally - one that’s unrecognisable from the past.
The exponential adoption of e-payments in Indonesia poses great risks to investors who are unwilling to reconsider deeply held biases, or simply too slow to wake up and smell the coffee. And it poses huge opportunities to those who are willing to ask difficult questions about themselves and their portfolios, embracing the non-linearity of change.
The rise of technology companies as financial intermediaries threatens the traditional banking model and promises high profile casualties across both emerging and developed markets. This isn’t just about blockchain - it’s about tech companies with huge user bases and data science capabilities owning end demand for financial services. Indeed, "Finance 2.0" is a core investment theme for Three Body Capital.
"Cashless" has now become a buzzword, helping strategy consultants rack up air-miles and achieve that coveted gold card status. Journalists don’t fly business, but they keep up with their mortgage payments by writing advertorials for old school payment companies on this very topic, informing us that “the UK is the third most cashless society in the world, pipped to the post by Canada and Sweden”, and that "China ranks at number six in the list [...] let down by a lack of credit card usage and a high remaining prevalence for cash payments, using cashless methods for only 10pc of transactions."
"Cashless" is actually pretty unhelpful/useless in describing the rise of electronic payments all over the world, since the term lumps together contactless card payments and mobile proximity payments (both QR and NFC). And the truth is, vast numbers of people worldwide simply don’t carry plastic around with them.
Another (we believe far more useful) way to visualise the proliferation in electronic payments is to look at mobile payment penetration as a percentage of smartphone users. In this arena, the largest Emerging Markets countries dominate their Developed Market counterparts.
China is obviously a huge outlier, thanks to the mass adoption of WeChat and Alipay. These "superapps" offer mobile payments for almost everything, bundling multiple product and services together to make making dreaded “life admin” quick, easy and painless for Chinese consumers.
Most people who read TechCrunch know that mobile - and mobile payments - are massive in China. But it’s incredible to see India beating the US in terms of mobile payment adoption relative to smartphone penetration. This is a direct consequence of the well-publicised demonetisation project of 2016, during which the government voided up to 86% of circulating cash but failed to ensure a smooth transition, resulting in Indian consumers and businesses turning to digital wallets as an alternative transaction medium. Although this outcome wasn’t anticipated, the government got what it wanted in the end, driving commerce into electronic channels that can be better monitored and monetised for tax revenue.
Emerging markets' biggest export.
Mobile payments are another example of "Reverse Innovation" in action. Emerging markets are no longer simply importers of cutting edge technology, they are exporters too. China is famous for being the “workshop of the world” (sorry Birmingham, but times change), adept at repurposing existing technologies at cheaper price points. But looking at the top-down investment that China is making in fields such as AI and satellite internet, it seems increasingly likely that its biggest export is going to be innovation itself. Nothing demonstrates this better than the fact that while shoppers on London’s Oxford Street and NYC’s Fifth Avenue wave around small rectangles of plastic, teenagers in Shanghai are paying for taxi rides with their mobiles and buskers accept tips via their own QR codes.
We created Three Body Capital to help investors capitalise on transformative trends. Finance 2.0 is a massive investment theme, but benefiting from this shift in consumer behaviour is going to take impeccable timing. Here’s the thing though – here at Three Body Capital, we believe a wholesale shift in the way people in Emerging Markets consume financial services is already well underway, and the results will assert themselves in valuations must faster than most investors think. The same can be said for tokenisation, which we will explore in a future blog post.