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In the wake of a large-scale fintech sell-off, PayPal Holdings, Inc. (NASDAQ:PYPL) has seen its shares drop tremendously over the last couple of months. From a very overvalued level, shares have now dropped to a below-average valuation. PayPal has a solid long-term growth outlook I believe, even though it’s not as dominant as some other payment companies, such as Visa (V) or Mastercard (MA).
With the market seemingly in panic mode when it comes to PayPal, sending shares lower every day, investors with a long-term focus could benefit a lot from the current, pretty weak sentiment by buying when the market is fearful. One can argue that investors should wait for shares to bottom out before stepping into a position, but the current very oversold condition could make a bounce likely in the near term.
During the first phase of the pandemic, some tech companies that were seen as pandemic beneficiaries saw their shares rally to new highs, even as the broad market was struggling. This included PayPal Holdings and many of its peers in the fintech industry. On the back of rising e-commerce sales, investors were convinced that PayPal and its peers would grow massively in the pandemic environment. And indeed, 2020 and 2021 were very solid years for PayPal:
PYPL results (Seeking Alpha)
We see that PayPal was able to grow its revenue by around 20%-30% between Q2 2020 and Q2 2021, i.e. during the first year of the pandemic. During the second half of 2021, growth slowed down but remained at a solid low-teens level. Looking at PYPL’s share price history, the market was overreacting quite a lot to this compelling underlying growth. PYPL’s shares did not rise by 20% or 30% in 2020 and 2021. Instead, shares climbed from $108 at the beginning of 2020 to $310 at the peak, which equates to a 190% increase in its share price. This was clearly not warranted by the underlying growth the company experienced. Instead, these huge share price gains were primarily driven by massive multiple expansion. That is a great thing to happen for those that bought before multiples started to expand and that sold at the top. But for those that bought at historically high valuations, the story is different. Despite the fact that PayPal has continued to deliver solid business growth in the last two quarters, those that bought at the highs have seen their investment crash by around 70% — it will take a 200% increase in PayPal’s share price for them to break even. Valuations don’t matter until they do, and those that chased PYPL without considering the high valuation paid the price.
For those that remained on the sidelines, or that locked in gains on the way up, the recent massive pullback could provide for a compelling entry point, however. In 2022 alone, PayPal has dropped by 42%, and the company has lost about $240 billion in market capitalization from the highs seen last year. PayPal is not alone in that, however. Instead, many other “bubbly”, overly expensive pandemic favorites among the fintech names have performed badly in recent months as well:
SoFi Technologies (SOFI), Upstart Holdings (UPST), and LendingClub (LC) all saw their shares drop by 50% to 60%+ from the highs they hit last year. PayPal thus is not an outlier. Instead, it has performed more or less in line with how some of its peers performed. The whole industry was trading at unreasonable levels last year and has now been correcting for months.
PayPal is a household name with strong brand recognition and belongs to the largest payment companies in the world. Its total payment volume has easily surpassed $1 trillion in 2021:
PYPL TPV and revenue (PYPL presentation)
With total payment volume at $1.25 trillion in 2021, PayPal is still substantially smaller than some of the credit card giants such as Visa (which has TPV of around $3 trillion per quarter) or Mastercard, but outside of those two, PayPal is a leading player in the payment space. PayPal also managed to grow its payment volume at an attractive pace in 2021, at 33%.
Revenue, meanwhile, grew by 18% in 2021. That’s a very solid growth rate in absolute terms, but at the same time, the substantial discrepancy between PayPal’s TPV growth and its revenue growth shows that the company’s take rate continues to decline — which naturally isn’t positive at all. As long as TPV continues to grow at a rapid pace, revenues should continue to grow, however.
For 2022, PayPal is forecasting payment volumes of $1.5 trillion, or about 20% more than in 2021. Revenues are expected to climb by around 16% this year. On one hand, this means that the take rate will continue to shrink, as revenues will underperform TPV growth again. But the discrepancy will be lower than in 2021, which indicates that the take rate is declining at a slower pace this year. If PayPal manages to stop the take rate declines eventually, that would be a very positive development, as it would allow the company to grow its revenue in line with future TPV growth.
The overall payment volume growth outlook for PayPal is solid beyond 2022 as well. E-commerce spending will continue to grow around the globe, with projections seeing double-digit growth in 2023, 2024, and 2025:
E-commerce growth (statista.com)
With global e-commerce sales continuing to grow, fintech companies and payment solution players such as PayPal operate with steady macro tailwinds. In other areas, the macro outlook is positive as well. In a world that grows ever more connected, cross-border payment volumes should continue to climb. Here, PayPal is advantaged to benefit from market growth, as its technology and availability in many different countries positions it well to be one of the top players in processing these growing cross-border payment volumes.
With PayPal adding new users constantly (10 million during the most recent quarter alone), it should be able to grow its payment volumes at an attractive pace for many years. With more and more consumers around the world accessing the internet, PayPal still has significant growth potential when it comes to the number of customers it serves.
PayPal always was seen as a growth company, thus its shares never were particularly cheap. Even before shares moved upwards at a rapid pace in 2020 and 2021, PayPal used to be a pricy stock:
The 5-year and 7-year median earnings multiples are in the 50s. At the heights during the COVID bubble, PayPal was even more expensive, however. At a peak price of $310 in 2021, shares were valued at around 70x 2021’s earnings per share — it is not surprising that buying at that valuation didn’t work out for investors.
Likewise, PayPal always traded with a relatively high EV/EBITDA multiple, with the longer-term median readings standing at around 30. During the heights in 2021, shares were even more expensive.
With shares dropping to just above $100, they have become way more reasonably valued, however. Based on current expectations, shares are, in fact, trading at a huge discount compared to how PYPL was valued in the past:
Shares are trading for 23x this year’s expected earnings per share, while the earnings multiple based on next year’s expected EPS is just 18. Likewise, the EV/EBITDA multiple is standing at just 17 today. These valuations are roughly half as high as the longer-term median valuations shown above. One can argue, of course, that PYPL always was too expensive when it traded at 50x earnings or higher in the past, and that seems like a very reasonable argument to me. On top of that, investors should also consider that the law of large numbers dictates that PayPal’s growth in the coming years will likely be weaker than over the last five years. 2022 will also be a year during which PayPal will not grow its earnings per share meaningfully, despite solid revenue growth being expected, which can be explained by management’s plan to invest in growth initiatives such as its Pay Later offerings.
There are thus good reasons to believe that PayPal will never again trade at 50x net profits, but the current valuation nevertheless seems far from high. A company that grows its revenue at double-digits and that will likely do so for years, and that trades at just above 20x net profits, seems like a very reasonable value to me.
PayPal has ramped up its buybacks in Q4, returning $1.5 billion to its owners via share repurchases in that quarter alone ($3.4 billion in all of 2021). With shares becoming way less expensive in 2022 so far, PayPal hopefully will ramp up its buybacks further. Shares have dropped more than 40% so far this year, which means that buybacks at current prices are way more powerful than they were last year. In retrospect, timing with buybacks in 2021 has not been great at all, but the company’s interest in returning cash to its owners via buybacks generally is positive. If PayPal keeps that going, the share count could shrink quite a lot this year and beyond.
From a technical perspective, PayPal’s shares are oversold in the short term. The stock’s relative strength index stands at an abysmally low 21 right now, with RSI readings below 30 generally suggesting that shares are oversold. From a technical perspective, a bounce would thus not be overly surprising. On the other hand, there’s the old adage of never trying to catch a falling knife — and PYPL surely is a falling knife right now. Since markets are still pretty jittery due to macro factors such as Fed policy, the Ukraine situation, etc. it seems very much possible that PYPL will fall under $100 in the coming days or weeks. Waiting for an even more opportune entry point could thus pay off.
During the pandemic, PYPL was bid up to bubble levels. Over the last couple of months, however, the market seems to be in panic mode — shares have sold off massively, with them dropping more than 40% in 2022 alone. Shares have fallen through their historical valuation ranges and are now trading at a huge discount compared to how PYPL was valued in the past. From a technical perspective, shares are way oversold as well.
I do believe that PayPal is very reasonably valued today and that there is a good chance that investors will see healthy returns over the coming years when they buy today. But waiting for an even better entry point could allow for even better returns. Since markets are willing to sell fintech companies at any price right now, even lower entry points would not be a large surprise, I believe.
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This article was written by
If you want to reach out, you can send a direct message here on Seeking Alpha, or an email to jonathandavidweber@gmail.com.
Disclosure:
I work together with Darren McCammon on his Marketplace Service Cash Flow Kingdown.
Disclosure: I/we have a beneficial long position in the shares of V, MA either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
