Investing behind broad secular trends is a worthwhile strategy to undertake. Leading companies in a particular space can benefit from a rising tide as an industry continues to grow and become a larger part of the global economy. With this in mind, an extremely lucrative area to look at is digital payments.
Within this secular trend, Mastercard (MA 1.04%) is a popular ticker. The payments giant has seen its shares rise 102% over the past five years (as of this writing), crushing both the S&P 500 and the Nasdaq Composite Index during the same time. But what does the future hold? Put differently, is this blue chip stock a buy?
Here's what investors need to know.
NYSE: MA
Key Data Points
Mastercard has momentum on its side
While many companies struggle with a normalization period in a post-pandemic environment, as well as what appears to be a deteriorating macroeconomic situation, Mastercard's operations keep humming along. During 2022, gross dollar volume (GDV), or the value of payments the business handles, jumped 5.9%. This helped net sales increase 18% year over year, with free cash flow (FCF) of $10.1 billion, up 17% year over year. Thanks to a resurgence of consumer interest in travel, Mastercard's cross-border fees were up 30% year over year in the fourth quarter, a potential ongoing catalyst to pay attention to.
Since Mastercard collects a tiny fee from every transaction that runs across its payments network, the business is essentially an inflation hedge. If consumers are forced to spend more money on things, the gross dollar volume of the payments Mastercard processes can increase. And this favorable dynamic supports higher revenue.
Besides the recent success, which is a positive sign given the macro headwinds, the long-term opportunity is huge. According to McKinsey, a consultancy, the revenue opportunity in the global payments industry will be $3 trillion in 2026, up 43% from $2.1 trillion in 2021.
Mastercard's revenue has increased with relative consistency at a compound annual rate of 11.6% between 2012 and 2022, a stellar increase, no doubt. If the company can simply continue doing what it has been doing throughout its history, its GDV, net revenue, and FCF are set to be markedly higher well into the future. This raises the chances that shares will be much higher as well.
Mastercard's quality might justify the valuation
For such a dominant company with strong trailing returns, it's not a surprise that Mastercard's stock currently trades at a price-to-earnings (P/E) ratio of 35, a substantial premium to the market. Mastercard is also more expensive than its chief rival, Visa, which trades at a P/E of 31 right now. For what it's worth, Mastercard's current valuation multiple is in line with its trailing-10-year average, and the stock has crushed the market over the past decade. This could indicate that shares should be trading at a premium valuation.
This might be a valid argument, given just how wonderful of a business Mastercard really is. If there was a ranking of the best companies in the world, this one would surely be among those at the top of the list. Margins are through the roof, growth has been impressive, and as I touched on earlier, Mastercard is ridiculously profitable on an FCF basis. And thanks to its minimal capital expenditures, it can continue to grow while returning excess capital back to shareholders. In the fourth quarter, Mastercard paid out $473 million in dividends and repurchased $2.4 billion of its stock. From a shareholder perspective, these are the kinds of things you like to see.
And looking at the competitive landscape, it's difficult to find any looming threats to Mastercard's dominance. Sure, Visa is the leading card payments network in the world, but both of these businesses have had a stranglehold on the industry for quite some time, competing in a rational manner so as to not threaten their powerful positions. The opportunity is so massive to continue ushering in a cashless society that there will be room for both Visa and Mastercard to keep up their gains going forward. That's a great outlook to consider.
From a quality perspective, Mastercard is top-notch. Investors then need to consider if the valuation is worth it. Instead of buying your entire allocation to this stock at once, it might be a better idea to dollar-cost average into Mastercard over several months to take advantage of multiple entry prices. This is a company you definitely want in your portfolio for the long haul.
