Green Dot Turns Into Target on Prepaid Demand: Real M&A

Green Dot Corp., the largest U.S. seller of prepaid debit cards, is offering potential buyers the biggest bargain in one of the fastest-growing areas of consumer finance.

Green Dot’s market value fell by almost two-thirds this year to $473 million as increased competition from rivals such as American Express Co. threatens its hold on card sales at retailers including Wal-Mart Stores Inc. That’s left the Monrovia, California-based company trading at 2.4 times earnings before interest, taxes, depreciation and amortization, the cheapest in the U.S. consumer-finance industry, according to data compiled by Bloomberg.

Piper Jaffray Cos. said banks may be lured by Green Dot’s foothold in the prepaid card industry, which grew 18 percent last year as consumers rebuffed higher fees on checking accounts. Even as that growth draws more competitors, credit-card lenders Capital One Financial Corp. and Discover Financial Services may consider buying Green Dot, Wedbush Inc. said. With a free cash flow yield that’s almost double the industry median, Green Dot could draw bids of as much as $15 a share, a 53 percent premium, according to First Analysis Corp.

“There’s a lot of value here,” John Kraft, a Lake Oswego, Oregon-based analyst at D.A. Davidson & Co., said in a telephone interview. “Despite what’s happening with the stock, these guys are still the leader in the space, and so anyone who wants to get a jump start would love to have Green Dot’s network and distribution partners.”

Brian Ruby, a spokesman for Green Dot who works for ICR Inc., declined to comment on whether the company had been approached by any suitors or would be open to a sale.

Retail Distribution

Incorporated in 1999, Green Dot is a financial-services company offering prepaid, reloadable debit cards at retailers from Wal-Mart, its biggest distributor, to Walgreens drug stores and Kroger supermarkets. The company, which completed its initial share sale in 2010, bought Provo, Utah-based Bonneville Bancorp the following year to gain its own banking operations.

Green Dot shares plunged 61 percent on July 27, their biggest one-day drop, after the company slashed its 2012 earnings forecast on expectations that its results would be crimped as retailers started offering other prepaid debit cards to compete with its products. The stock plunged again last week, bringing its year-to-date decline to 69 percent, after Wal-Mart said it would expand distribution of a rival card it developed in partnership with American Express.

Today, Green Dot climbed 5.8 percent to $10.37, the biggest gain in the Russell 2000 Financial Services Index.

One of Green Dot’s strengths “was their distribution channel and the fact that they had this exclusive arrangement in those distribution channels,” Sanjay Sakhrani, a New York-based analyst with KBW Inc., said in a phone interview. “Those exclusive agreements have been broken down.”

Card Growth

Green Dot’s enterprise value of $247 million last week was lower relative to Ebitda than any other U.S. consumer finance firm and less than a third of the group’s median multiple of 8.4 times, according to data compiled by Bloomberg.

Even as the possibility of increased competition drags down Green Dot’s stock, the company may attract banks looking to take advantage of growth in the prepaid card market, Michael Grondahl, an analyst with Piper Jaffray, wrote in a Sept. 24 note to clients.

“It is likely more banks are looking for ways to enter the market, and entry may need to be expedited to remain competitive,” Grondahl wrote. Green Dot “could be a possible acquisition target as it would give a buyer instant scale and legitimacy in prepaid.”

Banking Trends

About 13 percent of U.S. consumers had prepaid cards in 2011, compared with 11 percent in 2010, according to a study released in April from Pleasanton, California-based Javelin Strategy & Research. Over the same period, the number of consumers using checking accounts, debit and credit cards all declined, the study showed.

More consumers are turning to prepaid cards to avoid checking account fees that have surged as the Dodd-Frank Act curbs banks’ revenue from other sources including debit transactions and overdraft charges.

Prepaid cardholders on average said they pay about $1.96 to add money to their cards, according to the Javelin study. For a traditional checking account, an average consumer may pay about $7.72 a month in monthly and automated-teller-machine fees this year, 21 percent more than in 2006, Javelin said in a separate report earlier this year.

Green Dot may charge as much as a $4.95 activation fee for cards purchased through a store, plus $5.95 a month unless cardholders meet certain transaction or other requirements. The company doesn’t charge an activation fee for cards purchased on the Internet.

Expanding Appeal

“Prepaid meant something three years ago that it’s not going to mean three years from now,” David Robertson, the Carpinteria, California-based publisher of the Nilson Report, which tracks consumer payment systems, said in a phone interview. “At one time it was almost completely identifiable with the unbanked and underbanked. Now, that is not going to go away, but the number of people who are looking for prepaid products will expand.”

Banks from Citigroup Inc. and Bank of America Corp. to Wells Fargo & Co. may seek to buy Green Dot to take advantage of the growth in prepaid cards, according to Robertson.

Credit-card firms Capital One and Discover also may be interested in bidding for the company, said Gil Luria, a Los Angeles-based analyst at Wedbush.

For the “card-based financial institutions, this would be very incremental and accretive,” Luria said in a phone interview. “They’re buying a money-making business.”

Cash Flow

Representatives for Bank of America, Wells Fargo, Capital One and Discover declined to comment on whether they would be interested in acquiring Green Dot. A Citigroup spokeswoman didn’t respond to phone messages or e-mails seeking comment.

Green Dot’s minimal debt and cash flow generation could even appeal to a private-equity firm, according to Larry Berlin, a Chicago-based analyst at First Analysis.

Green Dot had total debt of just $35.5 million at the end of the second quarter, and cash of $262 million, according to data compiled by Bloomberg. Its free cash flow yield, a measure of how much cash from operations a business generates relative to its share price, is 18.6 percent, almost twice the median 9.5 percent for the U.S. consumer finance industry, the data show.

“If you do things right, you could run a good amount of free cash flow out of it, lever it up a bit and make a good multiple on the exit in a few years,” Berlin said in a phone interview.

Potential Roadblocks

While a buyer could offer as much as $15 a share for Green Dot, management may not be willing to sell as its stock trades almost 70 percent below this year’s peak, he said. Also, Wal-Mart’s decision to expand sales of the American Express prepaid cards may make Green Dot “a little bit less attractive” for both strategic and financial buyers, Berlin said.

Green Dot’s purchase of Bonneville Bancorp, which was approved by the U.S. Federal Reserve Board in November, may also deter potential buyers, particularly a private-equity firm or non-bank suitor, according to Andrew Jeffrey, a San Francisco-based analyst with SunTrust Robinson Humphrey Inc.

While the deal allowed Green Dot to issue prepaid cards backed by its own deposits and to reduce costs, it also places an additional regulatory barrier to a takeover, Jeffrey said.

“It has a bank charter, and that’s just messy,” he said in a phone interview. “Any non-bank company would effectively have to get regulatory approval to buy it, and why anybody would want to be a bank these days is beyond me.”

‘Big Network’

Even so, if a buyer didn’t want the bank assets, it could spin them off as part of the transaction, said Michael Lippert, a fund manager at New York-based Baron Capital Inc., which oversees about $17 billion.

“It’s not a deal breaker,” he said in a phone interview. “There’s certainly some assets they have that could be interesting to somebody else. They have this big network of retailers, in particular, and places where you can reload the card, and that’s probably valuable to someone else who wants to be in the prepaid business.”

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