Sundry Photography
PayPal’s (NASDAQ:PYPL) generally upbeat second-quarter financial results, along with its increased Q3 guidance, suggest that worries about the fintech company’s market share are overdone. Moreover, statements by PayPal’s management also support the latter conclusion, and the rapid, expected growth of the digital payments market should also help dull the blow of any market share losses by the firm.
Also, importantly, the relatively low valuation of PayPal stock makes the shares attractive even if it does lose some market share going forward. Finally, the firm has multiple, upcoming, positive catalysts.
In light of all of these points, I view PYPL stock as a buy for conservative investors looking for exposure to a Big Tech firm.
PayPal’s Strong Q2 Results, Impressive Guidance, and Bullish Statements
For many months, the Street has been convinced that Apple’s (AAPL) Apple Pay would take a great deal of market share from PayPal, crippling PayPal’s financial results in the process. These fears intensified in June after Apple added new features to Apple Pay.
But PayPal’s Q2 results and full-year guidance suggests that these fears may be overdone. Last quarter, the fintech leader’s revenue jumped 8.2% versus the same period a year earlier, while its transaction margin dollars (its gross profits on transactions) climbed 8% year-over-year. Also, noteworthy was the fact that its total payment volume increased 11% YOY.
And on the guidance front, PayPal now expects its earnings per share, excluding certain items, to climb by low-to-mid-teen percentage levels this year.
That’s significant growth for a rather mature company. What’s more, in April, the tech giant only expected its adjusted EPS to increase by mid-to-high-single-digit-percentage levels in 2024.
The meaningful guidance increase indicates that the changes which Apple made to Apple Pay via the release of the new version of its operating system has not had a meaningful, negative impact on PayPal’s business. The new version of Apple’s OS has been available to anyone who signed up for a free developer account since June.
Speaking on the company’s earnings call held on July 30, CEO Alex Chriss reported that PayPal remained the top “branded” platform in the fintech sector, while it had lost no market share on desktops in “the past four years.” And according to the CEO, desktop accounts for 40%-50% of all fintech checkouts.
Category Growth and the Low Valuation of PayPal Stock
According to one report, the global digital payments market is expected to increase at a compound annual growth rate of 21% between 2024 and 2030. Therefore, even if PayPal does lose several percentage points of market share to Apple annually. It can continue to grow quite rapidly due to the large expansion of the digital-payments space.
Turning to valuation, the shares have a rather low forward Enterprise value/EBITDA ratio of 11.05, versus the sector average of 10.85. Although PayPal’s ratio is slightly above the sector average, its rapid growth more than compensates for the small gap. And on a forward price-to-sales basis, PayPal is changing hands at 2.3, well below the 3.24 level at which its peer, SoFi, is trading.
That’s despite the fact that, in the 12 months that ended in June, SoFi lost $113.3 million, while PayPal generated net income of $4.44 billion.
Quantifying Apple’s Potential Threat to PayPal
Let’s assume that Chriss is correct when he says that 40%-50% of all fintech checkouts are done on desktops, and that the average amount spent on desktop and mobile orders are the same. Let’s say that 60% of PayPal’s total payment volume (TPV) is exposed to competition from Apple Pay, which is likely to be primarily used on iPhones, and PayPal loses 5% of its revenue from that market annually to Apple Pay. Last quarter, that would have lowered PayPal’s overall TPV, which came in at $416. 8 billion in Q2, by 3% or $12.5 billion, leaving it at $404.3 billion.
But since, as I noted above, the entire digital payments market is expected to increase at a compound annual growth rate of 21% between 2024 and 2030, PayPal’s TPV would likely still grow significantly overall despite such a revenue loss to Apple. Indeed, PayPal’s TPV increased by 11% year-over-year last quarter.
Risks Going Forward
Apple Pay’s growth may expand tremendously as more users download the app’s new features, stunting PayPal’s expansion and causing PYPL stock to drop a great deal.
Another major firm in the fintech space, such as Square (SQ) and/or SoFi (SOFI), could introduce a new, improved product that may take significant amounts of market share from PayPal, causing a similar phenomenon. Further, a recession in the U.S. and other developed economies would likely cause the growth of the e-commerce sector to decline a great deal, greatly undermining PayPal’s financial results.
Multiple, Upcoming, Positive Catalysts
As the result of a settlement with the European Union, Apple is, for the first time, opening up its near-field communications and its Secure Element Application Programming Interface, or API, to other companies.
Chriss, PayPal’s CEO, has suggested that the change would enable his firm to launch a digital wallet which would be embedded in the iPhone’s operating system. Specifically, on the company’s Q1 earnings call, he stated that NFC openings would “make it ‘very easy’ for PayPal to ‘provide a wallet in an Android or iPhone operating system.'” Also on the Q2 call, Thriss stated that, as a result of the NFC change, PayPal would “be prepared shortly to be able to play in that space.”
Last month, Dan Dolev, an analyst at Japanese bank Mizuho, wrote that there would be strong demand for an app that would allow consumers to use PayPal’s Venmo offering through their iPhones. The analyst added that implementing such an app may “lift (PayPal’s) transaction margin dollars” because it would be relatively inexpensive for the company.
It appears that PayPal will soon begin providing a digital wallet on iPhones for the first time. iPhone owners tend to be fairly wealthy. Moreover, Mizuho’s Dolev has reported that there would be significant demand for an iPhone-based Venmo app and indicated that such an app could be meaningfully profitable for PayPal due to its low cost for the company.
In light of these points, I believe that there is a high chance that PayPal will implement digital wallets on iPhones and that they will move the company’s profits significantly higher.
Moreover, Fastlane, a new service launched by PayPal earlier this year, allows consumers to very quickly pay for items while using the guest checkout option on e-commerce websites.
Users save their payment and shipping information with Fastlane by PayPal one time. When they utilize the service on subsequent occasions, they just have to enter their email addresses, enter a code texted to them, and place the order.
The total addressable market for Fastlane would likely be huge. That’s because, according to research firm Capterra, “43% of consumers favor online guest checkout, and 72% would use it even when they have an account.” And e-commerce websites would likely be eager to use it, since data shows that long guest checkout times often result in lost sales, according to Loyalty360, an association that focuses on customer loyalty issues.
