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Funding Thesis
I consider PayPal’s (NASDAQ:PYPL) conservative reset of expectations for this quarter (through the steerage they gave final quarter) units the corporate up for a powerful purchase regardless of current underwhelming quarters. The fintech’s upcoming earnings announcement has set expectations at a consensus EPS estimate at $1.22, up 4.31% YoY. Income estimates stand at $7.52 billion, a 6.77% rise YoY. I attribute this to the corporate’s technique of providing a extra attainable efficiency benchmark. I believe these numbers will show conservative in hindsight, setting them as much as surpass preliminary expectations.
With this name, I anticipate the corporate’s deal with product innovation, notably by the combination of AI, to develop roots and present how it’s revitalizing their core companies and develop its market enchantment to get better the energetic accounts it misplaced over the earlier quarters and improve transaction volumes at their retailers.
Whereas PayPal’s new CEO who has been with them for lower than a yr, he’s wanting to show he can beat monetary forecasts, and lift low valuation expectations. Due to these elements, I consider the inventory presents a compelling robust purchase because it approaches its earnings announcement.
Why I’m Doing a Observe Up Piece
In January, I discussed the potential for PayPal’s Venmo bank card to contribute to PayPal’s progress trajectory. Leveraging a well known however I consider under-monetized model inside PayPal’s ecosystem (Venmo) might drive each person engagement and transaction quantity. Since then, PayPal introduced a set of six new innovations by AI-driven personalization for retailers and shoppers. This announcement included a brand new PayPal checkout expertise, Fastlane by PayPal for sooner visitor checkout experiences, Good Receipts providing AI-personalized suggestions, a sophisticated provides platform for real-time, tailor-made service provider provides, a revamped PayPal shopper app, and enhanced enterprise profiles on Venmo.
With PayPal’s scheduled earnings announcement, I believe it’s important to higher assess the preliminary affect of those improvements on the corporate’s monetary and operational metrics. I believe these earnings as pivotal as they need to present highly effective insights on how these new options can be translated into accelerating the corporate’s monetary efficiency and market penetration, particularly contemplating the bold aim of revolutionizing commerce globally by its President and CEO Alex Chriss.
For this reason given the numerous curiosity from buyers within the consequence of PayPal’s strategic path, particularly in gentle of current improvements, a follow-up can create insights for buyers.
Background
PayPal’s inventory has been on a downhill for nearly 3 years now, down 78.68% from its peak in July of 2021 at $309.48/share. This has been largely attributed to a slowdown in post-pandemic e-commerce spending and elevated competitors inside the digital funds business. I additionally consider that the easing of pandemic restrictions led to a shift in shopper conduct again in the direction of in-person transactions and different diversified cost strategies (Paypal has a greater presence in on-line checkout techniques vs. bodily level of sale techniques).
In response to those challenges, PayPal appointed a brand new CEO, Alex Chriss, in September 2023 to spearhead a turnaround technique for the fintech firm. His appointment coincided with a strategic pivot in the direction of leveraging AI to boost their offerings and operations and tackle a few of the points which have affected PayPal’s efficiency within the earlier quarters.
In the course of the PayPal Innovation Day, a number of new initiatives have been unveiled which, regardless of receiving mixed reviews, sign a constructive path underneath Chriss’s management. These improvements are a part of a broader technique to rejuvenate the platform’s enchantment and usefulness by stunning the “world” – within the phrases of CEO Chriss throughout an interview in January. However the hype quickly rapidly pale as analysts have been skeptical in regards to the matter.
While the hype faded I think that is due to analysts not understanding the power of these innovations. For example one of these innovations (one click checkout) helps companies reduce checkout times by 40% and leads to a 70% cart to checkout conversion rate. This is powerful and will help more merchants switch to providing Paypal as a payment option.
Despite a forecast suggesting a low YoY growth of just 4.21%, in Q1 2024, I find upside in the new strategic initiatives that might turn the tables in the next three years. The company’s shift away from providing an annual revenue forecast to a more cautious quarterly guidance approach also reflects its flexibility in an uncertain market.
Alex Is Rightsizing The Ship
Though PayPal has misplaced 7 million active users over nine months in 2023, its total payment volume has grown by 12% YoY, which suggests that while the user base has dropped, the remaining users are transacting more frequently or at higher values, indicating effective monetization of active users. In my opinion, I think many of these accounts that dropped off were inactive users anyway so I would classify this loss of users as a more conservative accounting of who actually uses Paypal vs. the company losing real, active users. I think Alex is reorienting investors around more conservative metrics that make him and the firm set to beat expectations.
With this, I also think that the company’s decision to right-size its global workforce by cutting 2,500 jobs, or 9% of its total headcount will boost its top and bottom lines and significantly improve efficiency. PayPal started implementing cost-cutting measures in 2023 when they let go of 2,000 employees. I believe this is the company’s response to the industry’s adjustment after the massive over-hiring among tech workers in 2021, which will improve its net income per employee (TTM), which is currently at $156,100 or 91.94% higher than the sector median of $81,670.
Q1 Expectations
I am bullish on PayPal’s Q1 2024 performance. Consensus EPS estimate calls for Q1 2024 to come in at $1.22/share, up by 4.21%YoY. Revenue is projected to reach $7.52 billion, up by 6.77% compared to a year ago.
I expect its Q1 2024 earnings to push the stock higher, given I think these estimates are conservative (because the company likely guided conservative last quarter with new management). Q4 2023 was the first full quarter with Alex as CEO.
Adding to this, the whisper number is also higher for the quarter. While sell side expectations call for EPS of $1.22/share, many investors think they will report higher than this, at $1.26/share, when they report on April 30th.
Finally, I expect more commentary on distributions to shareholders. According to PayPal’s CFO Jamie Miller:
…we’re in a healthy capital position. We continue, to have very healthy free cash flow. And as a result of that, our decision early on was, we have to begin returning more of that to our shareholders.
Until we’ve got a more formed play, around growth, and how we want to deploy. So, for this year, we said we will deploy, or do buybacks of at least $5 billion, which is – will be more than 100% of our free cash flow, which we think is a pretty healthy profile for now. And then, we’ll reassess that, as we get later in the year. -Wolfe Research FinTech Form.
Valuation
Paypal is at present trading at a forward P/E Non-GAAP ratio of 12.84. For comparison, its industry has an average forward P/E of 10.36. While this is higher than the sector median, the company sports revenue growth of 7.72%, which is 55.17% higher than the sector median of 4.97%.
Although its active user base shrunk by 2% YoY in Q4 2023, I think it can leverage more on the total volume of transactions per active account (TPA) to support its revenue. Before their former CEO Dan Schulman retired, TPA was recorded at 54.7, driven mostly by Braintree transactions. By Q4 2023, this increased to 58.7%, up by 14% for QoQ and YoY.
With this, I think the company can leverage their stronger revenue growth to command a stronger P/E ratio. Given the company is growing at 55.17% higher than the sector median, I think the company should be able to have a P/E ratio that is also 55.17% higher than the sector median. This would give them a P/E ratio of 16.08, or upside potential of 25.23% higher than where the company’s stock is today.
The reason I think we should consider higher revenue growth as a part of why the company should trade has to do with a Warren Buffett valuation metric.
In essence, Warren Buffett looks at Return on Equity (ROE) when deciding if he should pay up for a higher P/E on a stock. If the stock is producing higher returns for the dollars invested inside the company, then it only makes sense the market should reward a stock with a higher price to earnings ratio. The company is expected to grow its profits faster in the future so you should be willing to pay more. This is a part of the GARP (Growth at A Reasonable Price) metrics that Buffett was taught by his longtime business partner, Charlie Munger.
For Paypal, their (ROE) is 20.55% over the last 12 months, over 94.93% higher than the sector median of 10.54%.
In this case, I believe we should pay up (a higher than sector median P/E) for higher than sector median revenue growth (this is GARP). On the EPS side, non-GAAP EPS is set to grow at 11.04% this year, 261.44% higher than the sector median growth of 3.05%.
What I am saying is that we are currently paying a 23.87% premium over sector median forward P/E for access to revenue growth that is 55.17% better than median and EPS growth that is 261.44% better than the sector median.
On other metrics the company trades below sector median. For example, trades at a 12.96% discount on forward Price to sales (2.18 vs. 2.5), and a 28.64% discount on forward EV/Sales (2.11 vs. 2.95).
I’m optimistic. Not only does the company trade at face value below sector median on multiple fronts, but when you factor in the quality of the business you are buying into compared to the premium you are paying for it I think this is a great deal for investors all around. I am a value investor at heart. I like to buy stocks where my dollar invested will go the furthest. For PayPal, I feel like I pay a premium valuation to access an exponentially better company. This feels like a good value buy to me.
Where This Fits In With My Previous Valuation
Previously, I called for 63% upside based on where Paypal’s stock is compared to some of its close peers (think Square and others). Since then, I have seen the company guide far more conservatively with their announcements which means I do not think the stock could run up as much with the hype from new product announcements until these announcements lead to faster growth of the bottom line. With this, I am lowering my upside estimate to 25.23% from here. While the stock is up ~8% since I rated it a buy, this 25.23% additional upside would compound to mean a total of roughly 35% upside in the stock from when I first covered it. 35% upside is more conservative than 63%. If the company blows the doors off with this quarter I am willing to raise my estimate.
Risks To Thesis
One of the company’s biggest risks is increasing competition.
Growing competitors within the International Funds market (valued at $2.64 trillion in 2023) and projected to develop $4.78 trillion by 2029, can be a serious problem for PayPal. Though the vast majority of U.S. adults use PayPal, the company is losing its share of consumer clients to rivals. PayPal acquired Venmo in 2013 to compete against the newly launched Cash App by Block, and Apple Pay that was released a year later. It should be noted that the latter (Apple) locks in users in the Apple ecosystem by integrating the app into the iOS platform including features that are exclusive to Apple devices to secure revenue opportunities. On the banking front Zelle offers a key competitive offering too for peer to peer payments.
Braintree, on the other hand, faces stiff competition against Stripe when it comes to PayPal’s merchant accounts. Stripe has a more global footprint and accepts more currencies compared to other systems.
On top of this, increased government oversight by the government may drive internal changes in the organization. The Consumer Financial Protection Bureau (CFPB) announced in November 2023 that it will pursue examinations on digital wallet and payment app companies including PayPal similar to what it conducts on other financial institutions. This would benefit consumers in terms of transparency in their financial transactions and potentially put an end to Apple’s and Google’s respective lock-in strategies. In early April 2024, PayPal won a case against the CFPB that challenged its fee disclosures, so this might set a precedent if the planned CFPB supervision gets the green light or not.
While the payments processor faces competitive and regulatory hurdles, I’m still bullish. The company’s lower valuation and still strong (and likely underestimated) growth give solid margins of error for the company to navigate competitive and legal risks.
Conclusion
As PayPal approaches its Q1 2024 earnings, I’m bullish about their potential to meet, if not exceed, expectations. The strategic initiatives, particularly those introduced under Chriss’s leadership, are expected to start reflecting positively in the upcoming earnings. A strong earnings report next week I think could result in upgrades from sell side analysts and act as a key upside catalyst.
New administration, a leaner firm and new improvements make this quarter pivotal. I’m a powerful purchase going into it. I believe the corporate can execute.
