Summary
Business
PayPal Holdings, Inc. operates a technology platform that enables digital payments
on behalf of merchants and consumers worldwide. It operates a two-sided network at
scale that connects merchants and consumers that enables its customers to connect,
transact, and send and receive payments through online and in person, as well as
transfer and withdraw funds using various funding sources, such as bank accounts,
PayPal or Venmo account balance, PayPal and Venmo branded credit products comprising
its installment products, credit and debit cards, and cryptocurrencies, as well as
other stored value products, including gift cards and eligible rewards. The company
provides payment solutions under the PayPal, PayPal Credit, Braintree, Venmo, Xoom,
Zettle, Hyperwallet, Honey, and Paidy names. The company was founded in 1998 and is
headquartered in San Jose, California.
Moat & Earnings
The positive momentum in the financial sector has led to a protracted expansion over the past
year, only second to the technology sector, which has primarily outperformed all other
groups. Insurers in property and casualty have led the rally, followed by asset management
companies and diversified banks. In contrast, shell companies and actors in mortgage
financial services are the only two losers over the past year, the latter industry
losing a massive 32% of its valuation. Insurance companies, financial data providers,
and stock exchange operators have recently shown relative strength. In contrast,
shell companies and actors in mortgage financial services continue to lag, the
latter losing 8% in the current week and 15% over the past month. Financial
conglomerates and banking institutions have also shown some signs of weakness.
Typically, those companies are susceptible to interest rate changes and become
more relevant to the extremes of a stock market cycle.
With the US consumer having boosted its consumption pace through significant debt
accumulation, the debt carried forward has reached new record levels. Credit card
balances have risen to $1.1T, with an increase of $27 billion in Q2 2024, marking
a 5.8% rise compared to last year. Auto loan balances grew by $10B, reaching $1.63T.
Mortgage balances grew by $77B, reaching $12.52T by the end of June. In total,
household debt increased to $17.80T in the second quarter, with an overall
delinquency rate unchanged from the previous quarter, with 3.2% of outstanding
debt currently in some stage of delinquency. The personal savings rate continued to drop,
standing at 3.4% by the end of Q2, at levels seen during the financial crisis of 2008,
raising questions about the consumer's economic health and the sustainability of
the consumption pace.
The Amplify Mobile Payments ETF (IPAY) has continued recovering after bottoming in
October 2023, breaking above its 200-day Exponential Moving Average [EMA] while
confirming this breakout and forming an uptrend channel. The industry benchmark
isn't showing strong momentum. Still, it seems to be set for a moderate positive
performance as observed in the relative strength when compared to the broader
equity market, represented by the iShares Russell 2000 ETF (IWM), the positively
crossing Moving Average Convergence Divergence [MACD], and consistent buying
pressure, as indicated by the uptrending On Balance Volume [OBV] indicator.
PYPL is still underperforming the broader technology market, the Nasdaq
Composite (IXIC), or, more narrowly, the Nasdaq-100 tracked by the Invesco QQQ
ETF (QQQ), and buying pressure is still sluggish, as observed in the flat OBV.
However, as shown in its price action and the prolonged flat MACD, the stock has
bottomed. It is overcoming significant overhead resistance, a sign it could be
set up for entering a new uptrend cycle.
As PayPal continues to demonstrate strength due to operating optimization
and stable customer activity growth. Revenue totaled $7885 mln (+8.2% y/y). Total
payment volume totaled $416 814 mln (+10.7% y/y) and the total take-rate was
1.72% (-0.03% y/y). Decline in take-rate continues due to exceeding growth of
unbranded checkout (Venmo, Braintree) volumes. Adjusted EBITDA totaled $1701
mln (+19.3% y/y). Though the company doesn't disclose its headcount numbers,
operations & support expenses decreased to $436 mln (-11% y/y). It is likely
that PayPal will cut customer support, optimizing the bottom-line structure,
so the margins remain increasing even despite the exceeding growth of less
profitable business segments. Free cash flow totaled $1368 mln. Management
raised the guidance for free cash flow in 2024 from $5 bln to $6 bln
(We expect $6 bln). It is planned to direct all FCF toward repurchasing
shares. Annualized buyback yield will total ~ 8.1%.
PayPal is executing on its plans to reaccelerate business growth, as average revenue
per user and account engagement continue to rise at a fast pace. In the second quarter,
PayPal delivered growth in the number of active users for the first time since 2022,
with the metric expanding by 2 mln to 429 mln (+0.5% q/q). The average number of
transactions per active account was 60.9 (+11% y/y) and the
average size of a transaction was $63.3 (+2.2% y/y). Importantly, due to the initiative
to move merchants to the parent platform, the dilution of the payment structure slowed
down and the income of the transaction segment came to $3608 mln (+8% y/y).
The payment processing rate, or take rate, averaged 1.72% of TPV (-0.03% y/y). The faster
development of third-party networks (Venmo, Braintree) continues to weigh on the take rate,
but management said it keeps working on Braintree's pricing, so we believe that
transaction processing margins, while still being squeezed, will return to moderate
growth as early as 2025 as merchant agreements are renegotiated. The most important
aspect that management discussed at the conference call was competition.
For the past few months, the market has been wary of increased competition from Apple and
other payment service providers, but the growth of PayPal's total payments volume remains
healthy. Moreover, PayPal's market share in the PC payment niche remained unchanged, and
the service continues to be the most popular payment method for online shoppers that use
their PCs and laptops.
Risks
PayPal has underperformed the market for quite some time due to negative information
background. Though financials have been growing at healthy rates, delivering revenue
& EPS beats for many consecutive quarters, the narrative has been largely negative.
PayPal's strategy isn't about aggressive market expansion. It was back in 2022 when
the management said that loyal customer activity was the main focus, and the strategy
is working perfectly. If we look at Q2 2022 operating metrics, there were 429 mln active
customers, about 5 513 mln payment transactions and $339 719 mln of total payment volume.
Then, in Q2 2024 there were still only 429 mln active accounts, but the payment
transactions number grew to 6 580 mln and the TPV - to $416 814 mln. Basically,
the LTV of an average PayPal customer increased by 23%, far outpacing inflation rates.
PayPal isn't burning cash trying to compete with digital payments upstarts. Rather than
fueling rivalry, the company prefers to collaborate. It's better to make a dollar on a
cross-transaction than to spend a hundred on the possibility of making two dollars sometime
in the future. Cooperation already includes Apple Pay, Payoneer, Mastercard and many other
companies. Recently, PayPal agreed to expand its partnership with Adyen, which will provide
additional momentum for branded checkout.
Although there is serious competition in mobile payments, PayPal's management mentioned
that they don't see the market share deteriorating in the PC segment.
The digital payments industry is highly competitive, with significant players like Apple,
Square, and traditional financial institutions ramping up their efforts. Apple's expanding
presence with Apple Pay, in particular, poses a threat to PayPal's market share, especially
in the mobile payments segment. Although PayPal has maintained its dominance in the PC
payment niche, increased competition could erode its market position over time.
We believe that the risk is mostly mitigated by the collaboration efforts, and the
risk-premiums are already attractive enough.
We believe that management's efforts to encourage merchants to use Branded Checkout
(Fastlane, PPCP) will support the TPV structure and margins, but there's still a risk
that profitability could decline in the future, especially as the impact of cost
reductions fade.
PayPal's strategy relies heavily on partnerships with other payment service providers
and technology companies. Any disruption or changes in these relationships, such as a
shift in priorities or technological compatibility issues, could negatively impact
PayPal's ability to grow or maintain its market share.
As a global payments provider, PayPal is subject to a complex web of regulations across
different jurisdictions. Changes in regulatory frameworks, data privacy laws, or financial
transaction standards could impose additional costs or limit the company's operational
flexibility. Moreover, any legal disputes or fines related to compliance issues could
harm PayPal's reputation and financial standing.
PayPal's performance is tied to consumer spending and global economic conditions.
Economic downturns, fluctuations in currency exchange rates, or changes in consumer
behavior could adversely affect the company's transaction volumes and overall revenue
growth. Additionally, PayPal's exposure to international markets increases its
vulnerability to geopolitical risks and regional economic instability.
Conclusion
PayPal's ability to maintain revenue growth and optimize its operational structure
highlights its resilience in a competitive market. The company's focus on enhancing
customer engagement and leveraging strategic partnerships positions it well for
sustained performance. With strong free cash flow supporting shareholder returns through
buybacks, PayPal is set to deliver value even as it navigates challenges from competitors.
Overall, PayPal's balanced approach between growth and profitability makes it a compelling
investment opportunity.
To manage the position, we recommend keeping an eye on financial statements of PayPal
and its competitors (Visa, MasterCard, Affirm, Square) industry research (McKinsey,
Capgemini, Worldpayglobal).
AryaFin Engine© - An AI FinTech Venture - 2024 Disclaimer