Paytm Business Model Explained: How It Makes Money?

Did you apply for the Paytm IPO and get unlucky enough to get the allotment? Are you sitting on a loss in your portfolio now? 

Well, you're not alone. But there's good news: Vijay Shekhar Sharma, the founder of Paytm, has just bought an additional stake in the company. This is seen as a positive sign, and it has caused the share price to increase. 

To read all the details about this buying and selling of stakes, make sure to read "What is happening with Paytm?"

So, is it time to buy Paytm stock, or is it still too risky?

In this article, we'll take a closer look at Paytm's business model and financials. We'll also analyze the performance of the stock so far. By the end of this article, you'll have a better understanding of whether or not Paytm is a good investment.

So, are you ready to find out? Let's get started!

Paytm: What does the company do?

Paytm is a digital payment and financial services company in India. It offers a variety of services, including:

• Mobile payments: Paytm users can make payments to merchants using their mobile phones. This can be done by scanning a QR code, entering a merchant ID, or using the Paytm wallet.
• Online payments: Paytm users can make online payments for services, such as shopping, travel, etc.
• Recharges: Paytm users can recharge their mobile phones, DTH, data cards, and other prepaid services.
• Money transfers: Paytm users can send money to friends and family using their mobile phones.
• Bill payments: Paytm users can pay their utility bills, insurance premiums, and other bills using their mobile phones.
• Financial services: Paytm offers a variety of financial services, such as loans, insurance, and investment products.

Paytm is one of the most popular digital payment platforms in India. It has over 300 million users and 20 million merchants. Paytm is a key player in the Indian digital payments market and is helping to drive the growth of cashless payments in the country.

Payments Industry Overview

In India, digital payments are going crazy, making it one of the fastest-growing digital payments markets in the world. According to the National Payments Corporation of India (NPCI), the value of digital payments in India was estimated to be over $1 trillion in 2022, and it is expected to reach $3 trillion by 2027. This growth is being driven by a number of factors, which include:

• The increasing use of smartphones and the internet in India.
• The rise of e-commerce and online shopping.
• The government's push for a cashless society.
• The convenience and security of digital payments.

One of the most popular digital payment methods in India is UPI (Unified Payments Interface). UPI is a real-time payment system that allows users to make payments to merchants and individuals using their bank account details. 

Below is the graph which shows the monthly value of UPI transactions done in the past 6 months. For the month of July, it was at ₹15.34 lakh crore. 

• The number of unique online transacting users in India is expected to grow from 35 crore to 70-75 crore by FY 2030.
• From March 2021 to March 2023, retail loans expanded at a CAGR of 24.8%. By FY 2026, retail lending is expected to grow to $1 trillion, and MSME lending to a $600 billion market.
• The Buy Now, Pay Later (BNPL) industry is expected to grow at a CAGR of 65% from FY21 to FY26, reaching $35 billion by FY26. Of this, US$24 billion is expected to come from online channels and the remainder from offline channels.

What does this mean for consumers?

• The ability to pay for various goods and services will be simpler and more secure for consumers.
• They will have more credit options available to them, including BNPL, which can help them better manage their money.
• They will have easier access to online shopping.
• Using digital payments will enable them to save time and money.

Overall, the growth of digital payments is good news for consumers in India. The ecosystem will become more convenient and secure for them to make payments for the things they need and want.

Paytm's Business Model and Revenue Generation

In an interview, when asked about the business model of Paytm, Vijay Shekhar Sharma stated that they drive revenue growth with low Customer Acquisition Costs (CAC), high engagement payments business and cross selling financial services products. This statement simply means that he aims to create a business where he gains a customer from one business and then encourages him to use the other businesses. More like,

Paytm makes money from a variety of sources, which include:

1. Payment processing fees: Paytm charges businesses a fee to use its platform to process payments. Depending on the kind of payment instrument used, the charge is a percentage of the transaction value. For instance, UPI payments have cheaper fees than credit card payments.

2. Subscription fees: When businesses use Paytm's payment systems, such as Soundbox and Electronic Data Capture machines, they must pay a monthly subscription fee. The subscription cost also varies based on the kind of device.

3. Loan disbursement fees: Paytm partners with banks to offer loans to its users and charges a fee for each loan that it disburses.

4. Marketing services: Paytm offers marketing services to businesses and charges a fee for these services.

5. Co-branded credit cards: Paytm has co-branded credit cards with SBI and HDFC. For each credit card it issues and for each transaction done with the card, Paytm charges a fee.

6. Commerce business: Online shopping, booking travel, and food delivery are all part of Paytm's commercial operations. Through subscription fees, advertising, and commissions, Paytm generates revenue from this business.

Let’s understand what the image depicts.

So, for Entry-level merchants, Paytm offers a free Mobile QR code that can be used to accept payments through UPI or Paytm Payment Instruments. This offering is free for merchants because of government incentives, and it helps to encourage merchants to adopt digital payments.

Then, we have the small retailers who can upgrade to Soundbox devices, which allow for better payment reconciliation and help build trust in digital payments among merchants. Paytm charges a monthly subscription fee for Soundbox devices, which helps to generate revenue for the company.

Mid-sized and large retailers can use Point Of Sale devices from Paytm, which allows them to accept both mobile and card payments. Paytm charges a Merchant Discount Rate (MDR) for these transactions, which is a percentage of the transaction value. Paytm also charges a monthly subscription fee for POS devices. Average monthly subscription fees for active devices are ₹100, while monthly fees for some high-end devices are ₹250.

For online and omnichannel merchants, Paytm offers a robust payment gateway product that allows merchants to accept payments across all channels. Paytm charges an MDR and platform fees for this service.

If you want to read about Paytm Payments Bank's Fall, click on the link.

Financial Performance of Paytm

Let's examine the financials now that we are familiar with the business concept of the company. We shall compare the results of Q1 2023 and Q1 2024 since the results of the first quarter of 2024 were just released.

The revenue, for the past three years, is growing and has gone up to ₹7,990 crore, and the EBITDA(Loss) has also narrowed down from ₹1,655 crore to ₹176 crore.

Want to know the current Paytm's Share Price Today, Market Cap, Price Chart, and Balance Sheet? Click on the link to know!

So, speaking about Paytm's revenue, the company categorizes it into two main segments:

1. Payment and Financial Services, and
2. Commerce and Cloud Services.

Within the Payment and Financial Services segment, the revenue is divided into the following subcategories:

• Payment Services to Consumers,
• Payment Services provided to Merchants and
• Financial Services and others.

Let's look at some numbers. The breakdown of revenue is as follows: 

Key revenue metrics (in ₹ crore)
	Q1 2023	Q1 2024
Payment Services to Consumers	519	554
Payment Services to Merchants	557	842
Financial Services and Others	271	522

The revenue from the Commerce and Cloud Services to Merchants went up from ₹331 crore in Q1 2023 to ₹405 crore in Q1 2024.

Moving on, the loans distributed were worth ₹5,554 crore in the first quarter of 2023, and by the first quarter of 2024, they had increased by 167% to ₹14,845 crore. 

The table below displays the Value of Loans Disbursed over the previous three years (in ₹ crore).

	FY 2021	FY 2022	FY 2023
Q1	44	632	5,554
Q2	206	1,257	7,313
Q3	468	2,181	9,958
Q4	687	3,553	12,554

Gross Merchandise Value (GMV) went up from ₹2.96 lakh crore to ₹4.05 lakh crore. A rising GMV for the business indicates that they are able to generate more money, which can be used to make other investments.  Simply put, more people are utilising Paytm to make purchases.

Look at the graph below, which shows the GMV from Q1 2023 to Q1 2024, to gain a better idea.

The total number of transactions also increased to 963 crore in Q1 2024 from 613 crore in Q1 2023; this is encouraging for the platform because it will increase sales and boost profitability.

Now that we have a better understanding of the company's operations and finances, here is some information that was discussed on the Paytm conference call. 

Paytm's Quarterly Call Recap

Here is a brief review of the key points that were covered in the July 2023 conference call.

1. Revenue Growth: Paytm reported 39% year-on-year revenue growth, driven by its payment and financial services business. 

Reason: Increased adoption of mobile payments, QR-based payments on the credit side, and the expansion of the loan distribution business.

2. Profitability: The company's profit contribution margin increased from 51% to 56%. 

Reason: Higher-margin payment and financial services segment. Paytm aims to become free cash flow positive by the end of the year and has already added cash to its reserves.

3. Payment Business: The payments business has scaled up with increased profitability.

Reasons: Growth in monthly transacting users and merchant subscriptions. Paytm expects the growth drivers in its business to include increased adoption of mobile payments, QR-based payments on the credit side, and the expansion of the loan distribution business. 
Subscription revenues continue to grow, with 68 lakh merchants paying for device subscriptions as of March 2023, more than doubling its growth YoY from 29 Lakh as of March 2022. 

4. Loan Distribution Business: The loan distribution business has seen significant growth, with loans distributed through the Paytm platform reaching nearly ₹15,000 crore, which is set to increase further.

Reason: The company plans to add three to four new lending partners this year, including banks which signifies that they will have more money to lend, which will be beneficial for their loan distribution business. 

5. Regulatory Approvals: Paytm is awaiting regulatory approvals for its payment aggregation and payment bank businesses, but its current operations have not been affected.

6. Future Growth and Opportunities: Paytm is focused on enhancing its service and sees opportunities for growth in both the consumer and merchant sides. The company believes there will be new products and revenue streams in the future, but it is hard to predict what they will be. Paytm is focusing on giving more payment options and better success rates to gain market share among payment aggregators. The company believes there is room for multiple large players in the market and opportunities for everyone to coexist and expand.

Here's some publicly presented information about Paytm and what it means for existing and future investors.

👉 The revenue from financial services as a percentage of loans disbursed is trending downwards at around 3.5% to 3.75%. 

Interpretation: It signals that their financial services are getting less profitable or that they are having trouble making enough money from them to cover the costs of the loans they offer. 
This can make people wonder whether their financial service products will remain viable and successful. 🤔

👉 The number of merchant loans during the quarter also stayed flat due to seasonality, but the company expects higher demand in the future.

Interpretation: Possibly a clue that there is less demand than Paytm anticipated for merchant loans. Numerous causes, including the decline in India's economy and increasing competition in the merchant lending market, may be to blame for this.

It can be expensive and time-consuming for Paytm to expand into new regions. The company's merchant lending business could suffer if it is unable to successfully enter these new markets.
Another possible reason can be that it is overpriced or not suited to the particular requirements of businesses. 

👉 The average take rate for loans is not expected to increase beyond the current range of 3.5% to 3.75%.

Interpretation: A lower take rate simply means that Paytm will generate less revenue from each loan, which could hurt its profitability.

Also, it was mentioned that the company expects the take rate to remain stable or increase slightly in the future. There are two reasons for it:

First, the company is reducing interchange fees. Interchange fees are fees that Paytm pays to banks when it processes payments. Paytm is cutting costs by lowering these fees, which could help to make up for the decreased take rate.

Second, Paytm is not passing on the increase in repo rates to consumers. Repo rates are the interest fees that banks charge one another for quick loans. Repo rates rise because banks find it more expensive to lend money, which may result in higher interest rates for customers. Paytm is not, however, passing these higher interest rates forward to customers, which may reduce its profits.

👉 The indirect costs have been growing at around 40% and are expected to come down in the next few quarters.

Interpretation: This situation could potentially pose obstacles for Paytm's business, putting pressure on its financial performance and overall operations.

Will the business be able to properly manage and minimise these costs? 🤔

👉 The split between loan distribution and collection services is around 0.5% to 0.75% for collection incentives and the rest for distribution.

Interpretation: To put it simply, when Paytm helps consumers get loans, a small portion of the profits (between 0.5% and 0.75%) are used to encourage timely loan repayments. The remaining profits are used to fund consumer loans.

👉 Also, as the platform and merchant network grow, depreciation is expected to increase, potentially affecting the company's financials due to higher asset wear and tear.

It's also important to understand that they do not guarantee collections and are not liable if the loan portfolio performs below expectations. This point is important because it shows that Paytm is not taking unnecessary risks when it conducts its loan distribution business.

I know you all might be thinking,

Although these factors do not always mean that they are undesirable, they must be taken into account in order to evaluate the business fairly.

Moving on to the next section where you will read about,

My Vishesh Tippani 

The note ban that took place in 2016 gave Paytm the first-mover advantage and must have made them feel like👇

The user base skyrocketed, and they became the biggest beneficiary. But soon after, the government came up with UPI, and slowly all the fintech platforms like Google Pay and PhonePe accepted UPI. Since Paytm was late to adopt UPI, it lost customers to these new rivals. Then came the IPO, which turned into a disaster due to their high valuations, and their stock price has been steadily declining ever since. And then the business and the shareholders felt👇

What I feel is that they are entering into all the fields of finance without having proper expertise in any of them. Their only successful businesses are the Payments Bank and FasTag. 

The advantage that they had is the vast user data, but in 2021, the Account Aggregator initiative by RBI took away that too. Having a huge base of user data is beneficial in several ways, as it can be utilised to generate new products and services, target marketing campaigns, detect fraud, and assess risk. Thus it is a crucial asset for Paytm or any other FinTech company for that matter, and may help in the expansion and success of the business.

What do Zomato and Paytm have in common? Both of the businesses are losing money!🥲 
But jokes aside, their business strategy is based on the idea that, rather than concentrating on revenue and profits, they are currently working on getting users accustomed to their platform by making appealing offers and cashback, which will encourage users to stick with their platform and ultimately increase profitability. 

Acquiring vast user data can be expensive. To reach a large number of users, Paytm will need to spend money on marketing and advertising. This may result in cash burn, which occurs when a business spends more cash than it receives. Despite every attempt, there is still a chance that the company won't have successful results. This is due to the uncertainty of customer retention, as individuals may choose to continue or discontinue using the product even after an extended period of use.

Well, now that they have changed the ownership structure and are ready to face the overall increased competition in the FinTech sector there might be a possibility of them turning profitable, provided they face and tackle regulatory issues and focus on improving the business model.

The Bottom Line

Paytm is a jack of all trades, master of none. It offers a wide range of payment services but doesn't excel in any of them. Paytm is able to profit from UPI payments despite its low margins by upselling loans and payment equipment to its users. However, this is a risky approach as it relies on users being willing to take debt.

Although Paytm is still growing, it is uncertain if it will be able to turn profitable in the long run. The company has a lot of potential, but it also has several risks. 

In conclusion, Paytm is the perfect example of a kid who wants to be a doctor, a lawyer, and an astronaut all at the same time. However, will Paytm become all of them or fail and become none?

*Disclaimer: The stocks and companies discussed above aren't a recommendation from Insider by Finology and shall not be construed as a replacement for professional advice. Consult a professional or conduct the necessary research before making investment decisions.