Since its IPO, One 97 Communications, or Paytm as it is better known, is down more than 50% from its issue price. Since this was India’s biggest initial public offering to date, many investors must have lost a lot of money.
This in an environment where even public sector stocks have risen. So what was wrong with Paytm? Investors all over the world place great importance on loss-making digital companies simply because they expect them to become monopolies or at least near-monopolies in the coming years. Like Zomato and Swiggy, they are expected to hold huge market shares in the food delivery industry.
Regarding Paytm, although it is present in several companies, 70% of its income comes from its digital payments activity. How are things looking on that front? Typically, when evaluating a digital company, investors look for “network effects” that could cause it to exercise some form of monopoly power. As Jonathan Knee writes in The illusion of the platform“Network effects have been touted as the primary source of competitive advantage in the digital age. This phenomenon makes a product inherently better with the addition of each new user.” For example, each new user of WhatsApp increases the value of this network by reinforcing the dynamic of “I am on WhatsApp” because everyone is on this platform .
In the case of Instagram, celebrities open accounts there because that’s where their fans are, while regular users do the same because that’s where the celebrities are.
In the case of Paytm, this would mean that merchants must accept payments through this platform because users like to pay that way and buyers must use Paytm to pay because merchants prefer it that way. However, this dynamic is unlikely to occur in our market simply because other major competitors like Google Pay and PhonePe have equally deep pockets. Furthermore, India’s Unified Payments Interface (UPI) has partly removed network effects in the digital payments industry from the equation.
Moreover, as Suresh Ganapathy and Param Subramanian of Macquarie Research point out in a recent research note:[Reserve Bank of India’s] proposed regulations on digital payments could cap wallet fees… Add to that, Paytm’s foray into insurance was recently rejected by the insurance regulator…. full commercial banking license.
Paytm has also been betting big on lending. Nevertheless, the average ticket size of its loans has decreased. As Macquarie analysts note: “Over the past 12 months, Paytm’s average ticket size for loans it has disbursed has steadily declined to less than ₹5,000 levels. This led them to conclude that the company mainly provides low-value loans to buy now and pay later. This limits the potential of the business to generate higher revenue.
This brings us to the much larger issue of all the so-called innovation that is happening in finance. There is no denying that genuine efforts are being made to speed up international payment systems or advance financial inclusion at a much faster rate. But the problem is that investors, markets and the media tend to get carried away with the buzzwords thrown at them. As Knee writes: “…’artificial intelligence’, ‘winner takes all’, ‘network effects’, ‘big data’ and other buzzwords are regularly invoked as a sort of of ‘trigger’ to inspire the belief that you clearly have a winner in your hands and no further scrutiny is needed.”
But there is a rather fundamental point that we seem to forget here. As John Kenneth Galbraith writes in A Short History of Financial Euphoria: “The world of finance continually hails the invention of the wheel, often in a slightly more volatile version. All financial innovation involves, in one form or another, the creation of debt.
This also applies to the latest round of financial innovations, where terms such as “buy now, pay later”, “peer-to-peer lending”, etc., have become buzzwords. It’s worth asking what kind of social need solves something like “buy now, pay later.” Also, unlike bank lending, in peer-to-peer lending the lending risk is borne by the individual using a platform to make such a loan.
In conclusion, financial innovations can ensure that our loan market expands. Consider the case of subprime mortgage loans granted in the United States and Europe due to the innovation of asset securitization. It expanded the market. But what she couldn’t guarantee was that those loans would be repaid. Therefore, success in finance depends not just on granting more loans, but on repaying those loans. This remains a major risk, which may impose limits on the growth of such platforms.
Also, keep in mind that the financial system is already a very competitive space, with commercial banks, non-banking financial corporations (NBFCs), small banks, cooperative banks, micro- finance and even individual lenders competing for business. Many of the positive reviews of new-age fintech companies don’t seem to take this competition into account. Not all of the competitors that exist will sit idly by on defense.
Vivek Kaul is the author of “Bad Money”.
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