As a value investor, finding good bets in the booming technology sector can be difficult. More often than not, profitable tech companies tend to trade at elevated valuation multiples, sending value investors searching for opportunities in other business sectors.
Unexpected market volatility, however, could temporarily push high-quality tech stocks into the undervalued territory, and prudent value investors need to double down on these opportunities. E-commerce giant eBay Inc. (EBAY, Financial) is a highly profitable tech company that is trading at attractive valuation multiples, and a careful evaluation reveals multiple catalysts that could help the stock price move higher in the next few years.
The macroeconomic outlook is favorable
2020 started as a very challenging year for businesses of every nature, and there was no exception for the global e-commerce industry as well. However, things took a dramatic change for the better when online shopping proved to be the only form of shopping that was available for the majority of the global population without risking exposure to Covid-19.
Although supply-side issues persisted as a result of the temporary closures or capacity reductions of many manufacturing plants, global e-commerce sales grew 27.6% year-over-year in 2020, even though total retail sales declined 3% according to data from eMarketer.
For 2021, eMarketer projects retail sales to rebound sharply and report growth in excess of 5%. However, it would be reasonable to assume that the e-commerce sales growth rate will decline sharply this year as consumers are likely to head out in numbers in the second half of 2021 to shop at brick-and-mortar stores to break the monotony of online shopping.
In the coming years, the e-commerce industry is still likely to benefit from the millions of users who purchased goods online for the first time. As illustrated below, the e-commerce penetration rate in the United States hit a new high in 2020, and the trend has been upward-sloping since 2010.
Source: Digital Commerce 360
This trend is likely to continue in the future on a global scale because of a few reasons. First, the internet penetration rate in emerging markets is on the rise thanks to billion-dollar infrastructure development projects carried out by governments. This will prompt many consumers in densely populated countries such as India, China, Brazil and Argentina to purchase goods online for the first time ever in their lives, thereby increasing the total addressable market opportunity for eBay and other leading players in the industry.
Second, there is a rising middle-income society in many Asian nations, and this paints a positive picture for overall retail sales growth in the most populous continent on earth. A high proportion of this expected growth in sales will come from online channels because of favorable demographics.
Third, consumers are increasingly embracing products and services that provide an added convenience, whether it be dining, ordering food, or even shopping for groceries and other household items. Because of this development, it is reasonable to expect an even higher number of consumers to turn to online shopping in the future, and this will be a growth driver for eBay.
Fourth, the rising popularity of entrepreneurship will help eBay and other online marketplaces that depend on onboarding new sellers to their platforms grow their community and the number of products available for sale. Starting a business gained popularity once again in 2020 as layoffs and furloughs prompted Americans to look for alternative sources of income. According to data from the United States Census Bureau, new business applications reached a record high in mid-2020.
Source: U.S. Census Bureau
Many individuals pursuing entrepreneurship is a good sign for the likes of eBay as some of these business owners are likely to open merchant stores on online marketplaces to reach potential customers.
The company is well-positioned to grow
As one of the leading players in the e-commerce industry, eBay is in a strong position to convert favorable industry conditions into higher earnings. eBay has already emerged as the go-to platform to find used items in many major economies in the world, and the company recently announced a strategic initiative named the "Authenticity Guarantee" program to help buyers identify sellers who are offering genuine products. In the past, many users have complained about sellers who market counterfeit products in a bid to scam customers, and eBay is finally making a move to put an end to this, which is likely to attract new customers to the platform.
The company introduced Certified Refurbished products to its marketplace in 2020 as well, and this will be another growth driver in the future. According to Morningstar analyst David Swartz, refurbished products have an addressable market opportunity of $500 billion, and it makes sense for eBay to tap into this market segment considering its platform visitors are already buying billions of dollars worth of used items every year.
The company continues to invest in improving the functionality of its mobile applications as well, which paves the way for strong revenue growth in the coming years. M-commerce, which is used to classify online shopping that takes place using handheld devices, is expected to grow at a stellar rate through the next 5 years, and this confirms eBay is on the correct path. According to data from eMarketer, M-commerce accounted for 45% of all online transactions in 2020, and the penetration is projected to increase to over 50% in the next couple of years.
Dividend growth is in the cards
eBay has always been a cash-rich business, and the company historically used excess cash to fund acquisitions and invest in the business in the hopes of generating higher returns.
The company is increasingly reaching a mature stage, and it announced the first-ever dividend in the history of the company back in January of 2019. The company raised its quarterly dividend in each of the last two fiscal years, and currently pays a quarterly dividend of 18 cents which translates into a forward dividend yield of 1.29% at the market price of around $56.35 on March 15. As illustrated below, the dividend is well covered and the company distributes only a very small percentage of its free cash flows to shareholders.
Source: GuruFocus
As eBay continues to mature in the next few years, I think it would be reasonable for the company to distribute the bulk of its earnings to shareholders via dividends and buybacks, which is a welcome sign for value investors.
Takeaway
As the market continues to reach new highs, identifying bargains is becoming difficult. The tech sector remains the most richly valued market segment, but eBay stock is still trading at a forward price-earnings ratio of just 16.69 in comparison to the consumer discretionary sector average of 20.24.
The company is unlikely to grow in leaps and bounds, but I think slow and steady growth can be expected in the next five years because of favorable macroeconomic developments and the company's strong presence in the e-commerce industry. Shares seem to be cheaply valued in the market, and there is potential for dividend growth as well.
Disclosure: The author does not own any shares mentioned in this article.
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