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Computer Service

s: Finan

cial Tec

hnology

Computer Services: Financial Technology

May 27, 2014

Gil Luria (213) 688-4501 [email protected]

Aaron Turner (213) 688-4429 [email protected]

Timing and Sizing the Era of Bitcoin

• We believe bitcoin related technologies will disrupt payments markets and other trust-based markets within the next few years and for decades to follow. We also see an emerging opportunity within the Internet of Things.

• Like other new major technology disruptions (e.g. Social, Mobile) we believe the disruption from bitcoin will take longer than expected but have an even more profound impact than anticipated. We believe bitcoin adoption is going through the “adoption chasm”, making the timing of broader implementation of the technology still 1-3 years away. This is congruent with a bitcoin release version 0.9 (not even 1.0), the recent Mastercoin issuance and early stages of the Ethereum release.

• Seeing the era of bitcoin as lasting between 2 years from now and 20 years from now diffuses much of the criticism cast on bitcoin technologies. This mindset addresses the two major types of criticism of bitcoin we observe - lack of current functionality (“I can’t transfer money to Mexico any cheaper yet”, “I can only use it on Overstock”, “I can’t pay taxes with it”) and failure at the logical extreme (“what happens in 2140 when miners don’t get paid by new coin?”, “what if mining pools get too big”, “how will governments react when bitcoin replaces their currency?” and even “what if a billionaire decides to bring bitcoin down?”). We believe the bitcoin value proposition will become more apparent as applications currently in development come to market with longer-term concerns being quelled as the ecosystem matures.

• We see the scope of disruption as substantial considering 20% of US GDP is generated by industries whose main function is as a trusted 3rd party, US bank fees generate $250 billion a year and global payments related revenues exceed $300 billion a year (pages 3-5). Although payment transaction fees are the most obvious fees that could be reduced by using bitcoin technology, we believe the use of the blockchain asset ledger and bitcoin protocol could also challenge financial services fees such as deposit fees, foreign exchange fees, escrow, trust management fees, collections fees, etc.

• In addition to the disruption of decentralized trust, we see a potential role for bitcoin in the emerging area of machine-to-machine communication (The Internet of Things). We believe M2M communication will require mechanisms for prioritizing resources and allowing internet connected devices to transact. Since there are no restrictions on bitcoin wallets being owned and operated by a device, we believe bitcoin and Ethereum may become enabling technologies. Some early examples of applications may be using payments to reduce distributed denial of service (DDoS) attacks or spam emails.

• We see the path to disruption going through a development of bitcoin infrastructure (i.e. on ramps, wallets, merchant services), financial institutions embracing the technology and regulators fine tuning their approach and providing clarity. Some of the most significant improvements to happen this year have been around security, with the introduction of multi-signature transactions and account insurance in the wake of Gox losses. We believe that the fact that much of bitcoin balances need to be held offline in cold storage as ironic considering the goals of digitizing transactions, and believe that improvements in security measures will eventually eliminate the need for this mechanism. Another key aspect of the emerging infrastructure around bitcoin will be the introduction of robust, secure, regulated and liquid exchanges in the US over the next few months and the eventual separation of trading venues from custody functions as is typical in other capital markets.

• While we see the key long-term driver of the price of an individual bitcoin as the expectation of future transaction volumes through the bitcoin network, drivers such as Chinese regulation and trading anomalies (e.g. Gox-related) will be more pronounced in determining short-term fluctuations. We ascribe the most recent positive price movement to the absence of these short-term negative drivers.

• Key metrics continue to grow at an impressive rate including a doubling of VC investments in less than 3 months and Blockchain.info and Coinbase exceeding 3 million wallets combined (page 10). We believe some of these early venture investments have already created growing substantial businesses as merchant acquirer Bitpay raised its latest round of funding at a $160 million valuation.

Computer Services: Financial Technology| 2

Figure 1: Chasm of Adoption and Trough of Disillusionment

Source: CoinDesk, Wedbush Securities, Inc.


Figure 2: Portion of US GDP from Trust-Based Industries

Value added (Millions of dollars) 2012 2012%Gross domestic product 16,244,586 100.0

Agriculture, forestry, fishing, and hunting 201,138 1.2

Mining 429,656 2.6

Utilities 275,148 1.7

Construction 581,073 3.6

Manufacturing 2,034,333 12.5

Wholesale trade 962,694 5.9

Retail trade 927,849 5.7

Transportation and warehousing 471,637 2.9

Information 776,740 4.8

Finance, insurance, real estate, rental, and leasing 3,172,548 19.5

Finance and insurance 1,078,153 6.6

Federal Reserve banks, credit intermediation, and related activities 435,033 2.7

Securities, commodity contracts, and investments 184,592 1.1

Insurance carriers and related activities 413,066 2.5

Funds, trusts, and other financial vehicles 45,463 0.3

Real estate and rental and leasing 2,094,395 12.9

Real estate 1,917,249 11.8

Rental and leasing services and lessors of intangible assets 177,146 1.1

Professional and business services 1,937,240 11.9

Professional, scientific, and technical services 1,140,168 7.0

Legal services 225,249 1.4

Computer systems design and related services 229,792 1.4

Miscellaneous professional, scientific, and technical services 685,126 4.2

Educational services, health care, and social assistance 1,339,698 8.2

Arts, entertainment, recreation, accommodation, and food services 596,547 3.7

Other services, except government 352,014 2.2

Government 2,186,268 13.5

Sum of Trust-Based Service Sectors $3,397,798As a percentage of GDP 21%

Source: Bureau of Economic Analysis, Wedbush Securities, Inc.


Figure 3: Aggregate US Banks Non Interest Income

($ in 000's) % of total NoteTotal interest income 470,759 Domestic office loans 353,453 Foreign office loans 23,062 Lease financing receivables 4,744 Balances due from depository institutions 4,965 Securities 67,153 Trading accounts 11,317 Federal funds sold 3,616 Other interest income 2,449Total interest expense 53,614 Domestic office deposits 27,090 Foreign office deposits 6,479 Federal funds purchased 2,565 Trading liabilities and other borrowed money 14,344 Subordinated notes and debentures 3,135Net interest income 417,146Provision for loan and lease losses 32,124Total noninterest income 251,832 35% Fiduciary activities 30,991 Service charges on deposit accounts 33,752 Trading account gains and fees 22,246 Interest rate exposures 8,540 Foreign exchange exposures 8,350 Equity security and index exposures 2,459 Commodity and other exposures 1,392 Credit exposures 1,456 Investment banking, advisory, brokerage and underwriting fees and commissions 10,735 Venture capital revenue 18 Net servicing fees 17,844 Net securitization income 1,404 Insurance commission fees and income 3,442 Net gains (losses) on sales of loans 13,383 Net gains (losses) on sales of other real estate owned -349 Net gains (losses) on sales of other assets (except securities) 2,295 Other noninterest income 116,072 16% Includes payments revenueTotal noninterest expense 416,762 Salaries and employee benefits 187,727 Premises and equipment expense 43,871 Other noninterest expense 173,421 Amortization expense and goodwill impairment losses 11,743Securities gains (losses) 4,482Income (loss) before income taxes and extraordinary items 224,573Applicable income taxes 69,376Extraordinary gains (losses), net 253Net income (loss) attributable to bank 154,667Net income (loss) attributable to noncontrolling interests 783Net income (loss) attributable to bank and noncontrolling interests 155,451Net charge-offs 53,222Cash dividends 87,137Retained earnings 67,530Net operating income 152,062

Source: FDIC, Wedbush Securities, Inc.


Figure 4: Global Payment Card Fees

2013

Merchant Discount

Rate

Total Fees Generated ($ billion)

Global Credit Volume $8,597 2% $172Global Debit Volume 11,970 1% 120US Credit 2,486 2% 50US Debit 2,250 1% 22

Total Global $20,567 $292Total US 4,736 72

Source: Nilson, Wedbush Securities, Inc.

Figure 5: Cross Border Money Remittance Fees

Western Union revenue 2013Consumer-to-Consumer 4,434Consumer-to-Business 609Business Solutions 393

Cross BorderRevenue

($millions)Volume

($billions)Overall

blended rateWestern Union 4,434 $82.0 5%MoneyGram 1,288 42.9 3%EEFT 370 12.0 3%XOOM 122 5.5 2%Total Public 6,214 142 4%

Overall Estimated 2014 Cross Border Remittance Volume $436.0 billionOverall Revenue Generated from Cross Border Remittance $19.0 billion

Source: Company data, Wedbush Securities, Inc.

Figure 6: Wells Fargo – Noninterest Income

FY2013 Noninterest Income Trust and Investment Fees 13,430.0 33%Mortgage Banking 8,774.0 21%Deposit Service Charges 5,023.0 12%Other Banking Fees 4,340.0 11%Net Gains from Equity Investments 1,472.0 4%Card Fees 3,191.0 8%Insurance 1,814.0 4%Net Gains from Trading 1,623.0 4%Other Noninterest Income 1,313.0 3%Total 40,980.0

Source: Company data, Wedbush Securities, Inc.


Figure 7: Bitcoin Venture Funds Raised

Source: Venture Scanner, Wedbush Securities, Inc.

Figure 8: Bitcoin Market Capitalization

Source: Blockchain.info, Wedbush Securities, Inc.


Figure 9: Estimated USD Transaction Volume


Figure 10: Miners Revenue



Figure 11: Country-specific Response to Bitcoin as of May 27, 2014

Source: BitLegal, Wedbush Securities, Inc.

Figure 12: Country-specific Response to Bitcoin as of February 2014

Source: BitLegal, Wedbush Securities, Inc.


Figure 13: Hash Rate


Figure 14: Average Transaction Confirmation Time



Figure 15: Blockchain Size


Figure 16: Blockchain.info Wallet Number of Users



Figure 17: Crypto Currency Market Cap

Source:coinmarketcap.com, Wedbush Securities, Inc.


Analyst Certification I, Gil Luria, Aaron Turner, certify that the views expressed in this report accurately reflect my personal opinion and that I have not and will not, directly or indirectly, receive compensation or other payments in connection with my specific recommendations or views contained in this report. Disclosure information regarding historical ratings and price targets is available at http://www.wedbush.com/ResearchDisclosure/DisclosureQ114.pdf Investment Rating System: Outperform: Expect the total return of the stock to outperform relative to the median total return of the analyst’s (or the analyst’s team) coverage universe over the next 6-12 months. Neutral: Expect the total return of the stock to perform in-line with the median total return of the analyst’s (or the analyst’s team) coverage universe over the next 6-12 months. Underperform: Expect the total return of the stock to underperform relative to the median total return of the analyst’s (or the analyst’s team) coverage universe over the next 6-12 months. The Investment Ratings are based on the expected performance of a stock (based on anticipated total return to price target) relative to the other stocks in the analyst’s coverage universe (or the analyst’s team coverage).* Rating Distribution (as of March 31, 2014)

Investment Banking Relationships (as of March 31, 2014)

Outperform:54% Neutral: 43% Underperform: 3%

Outperform:22% Neutral: 2% Underperform: 0%

The Distribution of Ratings is required by FINRA rules; however, WS’ stock ratings of Outperform, Neutral, and Underperform most closely conform to Buy, Hold, and Sell, respectively. Please note, however, the definitions are not the same as WS’ stock ratings are on a relative basis. The analysts responsible for preparing research reports do not receive compensation based on specific investment banking activity. The analysts receive compensation that is based upon various factors including WS’ total revenues, a portion of which are generated by WS’ investment banking activities. Wedbush Equity Research Disclosures as of May 27, 2014

Company Disclosure

Research Disclosure Legend

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directly involved in the preparation of this report has a long position in the common stocks. 11. WS or one of its affiliates beneficially own 1% or more of the common equity securities. 12. The analyst maintains Contingent Value Rights that enables him/her to receive payments of cash upon the company’s meeting

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* WS changed its rating system from (Strong Buy/Buy/Hold/Sell) to (Outperform/ Neutral/Underperform) on July 14, 2009. Please access the attached hyperlink for WS’ Coverage Universe: http://www.wedbush.com/services/cmg/equities-division/research/equity-research Applicable disclosure information is also available upon request by contacting Ellen Kang in the Research Department at (213) 688-4529, by email to [email protected], or the Business Conduct Department at (213) 688-8090. You may also submit a written request to the following: Business Conduct Department, 1000 Wilshire Blvd., Los Angeles, CA 90017.

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Consumer Products Communications and Application Software Biotechnology/Biopharmaceuticals/BioDefenseRommel T. Dionisio (212) 938-9934 Shyam Patil, CFA (213) 688-8062 Gregory R. Wade, Ph.D. (415) 274-6863Alicia Reese (212) 938-9927 Andy Cheng (213) 688-4548 David M. Nierengarten, Ph.D. (415) 274-6862

Christopher N. Marai, Ph.D. (415) 274-6861Footwear, Apparel and Accessories Enterprise Security Dilip Joseph (415) 273-7308Corinna Freedman (212) 668-9876 Sanjit Singh (212) 938-9922

Emerging PharmaceuticalsHealthy Lifestyles Computer Services: Financial Technology Liana Moussatos, Ph.D. (415) 263-6626Kurt M. Frederick, CFA CPA (415) 274-6822 Gil B. Luria (213) 688-4501Alicia Reese (212) 938-9927 Aaron Turner (213) 688-4429 Healthcare Services - Managed Care

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