PayPal (PYPL, Financial) is the legacy fintech giant which saw its share price increase by 147% in 2020, but has now crashed down by 68% and trades at the same price as in 2019.
The company has faced increasing competition in the “fintech wars” and has seen its Net New Active (NNA) account growth slow down substantially. Amongst this drama, the cheif financial officer and executive vice president of PayPal’s customer operations, John Rainey, is leaving the company after several years to go to Walmart (WMT, Financial).
However, despite this the company's growth struggles, its financials remain very strong, and it still has a well-established customer network. With the company set to report earnings for its first quarter of fiscal 2022 next week, has future bad news already been priced in, or does the stock have further left to fall?
Business overview
PayPal was founded in 1998 by Elon Musk and Peter Thiel. They offered an enticing value proposition to online merchants - “trusted online payments." This was unheard of at the time and one of the key preventive factors which stopped many people from shopping online. The company’s innovation and technology led to eBay (EBAY, Financial) acquiring them for $1.5 billion in 2022. This was brilliant for PayPal as it secured them as the number one payments platform for eBay and gave them immense credibility.
However, by 2015, eBay announced they would spin off PayPal into a separate publicly traded company due to pressure from activist investor Carl Icahn (Trades, Portfolio). EBay then dealt another blow to PayPal by planning to scale the platform out when their agreement ended in 2020. However, they are still offering PayPal as a way to pay until 2023.
PayPal has still managed to grow despite rising competition and has over 392 million users and merchants as of 2021. The company processes 41 million transactions every day and according to Statista, it is the third most popular mobile payment method accepted by online merchants worldwide, just behind credit and debit cards.
In a landmark agreement with Amazon (AMZN, Financial), Amazon will offer PayPal’s P2P payments platform Venmo as a payment option starting in 2022. This is great news for the company amongst a lot of uncertainty with regards to new user account growth.
User growth slowing
PayPal’s NNA accounts peaked at 21.3 million in the second quarter of 2020, but growth has now slowed down considerably with only 9.8 million new accounts added in the fourth quarter of 2021, which was below the 2019 baseline level. The more worrying thing is that the 9.8 million accounts included 3.2 million accounts from the Paidy acquisition in 2021. Paidy is a Japanese buy now, pay later company which PayPal acquired for $2.7 billion in 2021.
Source: PayPal investor materials
Thus, if we subtract the acquisition users, PayPal's NNA account additions were just 6.6 million organically. Now, 6.6 million extra accounts is still great, but the trend is worrying and a major sign of increased competition. On a personal note, I have a PayPal account but don’t particularly like using it due to the clunky interface.
PayPal expects to add up to 20 million NNA accounts in 2022, which is much less than the 48.9 million NNA accounts in 2021. This is one of the main reasons the stock has sold off, but it does seem the majority of the bad news is already priced into market expectations as the stock now trades at the same price as it did in 2019.
Financials
PayPal has increased their revenue from $21.4 billion in 2020 to $25.3 billion in 2021, representing 18% growth. Gross profit jumped from $11.7 billion to $13.9 billion, also up 18%, which is fantastic. Operating income grew from $3.4 billion to $4.3 billion, up 26%. They are guiding for net revenue to continue to grow by 15% in 2022, which is a positive sign.
PayPal's gross margin has decreased slightly over the past few years but is still a solid 55%, while their operating margin is up slightly at 17%.
PayPal also has a strong return on capital employed of 62%, which is higher than its historic average of 54%. They have an ok balance sheet with $9.5 billion in cash and $8 billion in debt.
Valuation
In terms of valuation, the GF value line, a unique intrinsic value estimate from GuruFocus, suggests the stock is currently significantly undervalued.
PayPal is still a fantastic fintech company and has the financials to back it up. They have achieved rapid revenue growth and profitability over the past few years. However, NNA growth is now starting to slow down as the company faces increasing pressure from competition. This is the major issue moving forward and why the stock seems to have declined so heavily.
As the company releases earnings next week, I personally believe the bad news may already be priced in, although recession fears may also be a part of the story.
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