It has been a rollercoaster seven weeks for India’s preeminent fintech Paytm, which on January 31 was accused by the Reserve Bank of India (RBI) of “persistent noncompliance.” To be precise, it was Paytm Payments Bank that the RBI named, and it is the payments unit of the company that ceased to exist as of March 15. The good news for Paytm is that the RBI’s crackdown on its payment bank is not a lethal blow – and was never intended as such.
Indeed, the National Payments Corporation of India (NPCI) on March 14 greenlighted Paytm’s application to serve as a third-party application provider. While this license will not permit Paytm to offer as many services as the company did through its payments bank, it will allow Paytm to continue providing payments on the NPCI’s United Payments Interface (UPI) rail, which dominates digital retail transactions in India.
To be sure, Paytm has long trailed Walmart-backed PhonePe and Google Pay in terms of UPI market share. PhonePe has more than 45% of the market, and Google Pay about 35%, while Paytm has about 11%. However, UPI is so ubiquitous in India that even a modest share of this market is crucial to maintaining competitiveness as a payments firm. There were about 12.1 billion UPI transactions in February, up 61% year-on-year, according to the NPCI.
With the shutdown of Paytm Payments Bank, several incumbent lenders will step in to serve as Paytm’s partners to provide continuity for UPI transactions: Stake Bank of India (SBI), Axis Bank, Yes Bank and HDFC Bank. With the four new bank partnerships, Paytm will essentially become a payments platform like PhonePe and Google Pay, relying on the networks of its banking partners instead of an in-house one. The likely reason that Paytm has four banking partners is the preference of the NPCI for any large UPI player to work with at least three lenders.
Damage assessment
While Paytm will survive the loss of its payments bank, damage has been done to its business model, bottom line and overall brand. The most overt losses thus far have occurred in terms of market capitalization. Paytm’s stock has lost about 45% of its value since January 30, the day before the RBI cracked down on Paytm Payments Bank. The stock is currently trading at about 421 Indian rupees (INR). Between January 31 and February 5 alone, Paytm lost about US$2.5 billion in market capitalization.
Investors have reacted with cautious optimism to the NPCI’s issuance of a TPAP license, with the stock rising about 5% on March 15. However, Paytm’s stock will have to do a lot better than that just to recover the loss in market capitalization since January 30.
Even assuming that Paytm’s share price fully covers, questions remain about how the loss of its payments bank will impact the fintech giant’s path to profitability. Investment bank Macquarie, which has always been bearish on Paytm, wrote in a Feb. 12 research note that it expects Paytm will see a significant reduction in revenue and that the regulatory crackdown poses a “serious risk of exodus of customers.”
Macquarie further noted that Paytm is also likely to face challenges retaining its lending partners. The Indian fintech giant lacks a license to operate as a non-banking financial company (NBFC), and acts as a distributor in connecting lending partners with borrowers. When Macquarie spoke to some of Paytm’s lending partners, it found that “they are re-looking at their relationship with Paytm, which eventually could lead to a decline in lending business revenues.” To that end, AB Capital, which is one of Paytm’s largest lending partners, has already lowered its BNPL exposure to the fintech giant and will probably continue doing so in the future.
Meanwhile, with the end of the payment bank’s operations, a significant number of Paytm staff members will lose their jobs, according to Reuters. In a March 14 report, Reuters said that Paytm Payments Bank will cut 20% of its employees, of which there were a total of 2,775 as of December 2023, according to Indian analytics firm Traxcn.
While investors may approve of the move to cut staff given that revenue is forecast to fall, it will not be good for morale at Paytm. "Employees are frustrated because the management has gone back on their word that nobody will be laid off," a source told Reuters. In an internal town-hall meeting in February, Paytm CEO Vijay Shekhar Sharma reportedly assured the bank's staff there would be no layoffs.
Lessons learned
The downfall of Paytm Payments Bank likely signals greater overall scrutiny of Indian fintechs going forward. We believe that India’s regulators – much like their counterparts in China in the past – recognized the importance of digital finance for boosting financial inclusion and thus initially took a relatively relaxed approach towards compliance among fintechs. However, in recent years, India’s fintech sector has grown exponentially and companies like Paytm are increasingly opting to list on local stock exchanges, where they must play by the rules of public markets. The expectations regulators have for public companies are different than for those only beholden to venture capitalists and other private investors.
It appears that India’s Financial Intelligence Unit (FIU) initiated a review of Paytm Payments Bank after receiving information from law enforcement agencies about some entities reportedly engaged in illegal acts, including organizing and facilitating online gambling, and routing proceeds through the bank. An investigation of the payments bank also revealed hundreds of thousands of accounts lacking proper identification and an "unusually" high number of dormant accounts. These accounts, in the view of the RBI and India’s financial crime fighting agency, pose a substantial money-laundering risk – an allegation that Paytm has refuted.
Regulators say that Paytm was repeatedly warned about these issues but did not address them with the urgency they expected. We believe that the multiple compliance problems coupled with the fintech giant’s failure to prioritize their correction resulted in the RBI’s decision to effectively shut down Paytm Payments Bank.
A new normal
Going forward, Paytm will have to invest much more in compliance and in general – at least for a while – take a more conservative approach to expansion to ensure regulators are happy. It may take a while for the reality to set in, but when it does, retail investors may be disappointed.
For their part, key institutional investors have been gradually exiting or paring down their respective stakes in Paytm since 2022. In November 2023, Berkshire Hathaway exited Paytm, selling its full stake in the company for about 13.7 billion INR through a bulk deal. According to Tech Crunch, Warren Buffett’s company exited Paytm at a loss of about 40% on the investment it made in 2018. Additionally, SoftBank has been steadily offloading its shares in Paytm, with its most recent sale of the company’s stock in late February reducing its stake from 5.01% to 2.83%. SoftBank had reportedly lost about US$100 million on the US$1.4 billion investment it made in Paytm as of early February. Further, wary of the impact of Sino-Indian tensions on the business environment for Chinese companies in India, Ant Group has also been steadily reducing its stake in Paytm.
To be sure, there are still reasons to be optimistic about Paytm’s future. In the October to December 2023 period, Paytm posted an operating profit – which the company defines as core profit before cost of employee stock options – for the fifth consecutive quarter. The figure was 2.19 billion INR, a significant improvement over 310 million INR during the same period a year earlier. Consolidated revenue, meanwhile, increased 38% to 28.5 billion rupees, with its payments business contributing 61% to the total.
We will be watching closely to see how Paytm Payments Bank going offline impacts the Indian fintech giant’s lending revenue, which is crucial to its growth and was already set to fall following a decision by the RBI last year to raise the amount of capital that banks and non-bank lenders need to set aside to cover potential defaults when providing personal loans. In response to the regulator’s decision, Paytm said that it would reduce sub-50,000 rupee loan distribution and offset the loss by focusing on bigger ticket loans to consumers and merchants.
This strategy will be put to the test in the coming months. Paytm’s earnings in the January-March period, which should be reported in late April or early May, should shed some light on how well Paytm is recovering from its most significant regulatory challenge since its establishment nearly 15 years ago.
