Despite second-quarter earnings reports being essentially in line with expectations, PayPal (NASDAQ:PYPL) saw a significant increase. The engagement of activist investor Elliott Management and the company’s evident dedication to increasing profit margins, in my opinion, is what’s behind the confidence.
This formerly high-flying tech firm has fallen so far in price that it may be considered a value investment. The investment offer is straightforward, albeit it may be understated given my continued belief in the viability of this secular growth story. I reaffirm that I think the stock is firmly a buy.
The stock price of PayPal
PayPal’s share price reached a high of almost $310 during the epidemic, but it has subsequently dropped by about 70%. Since then, the stock has increased by double digits, but I see much more upside.
Critical Metrics for PayPal Stock
PayPal had previously projected a quarterly revenue increase of 9%, and the company achieved this. PayPal’s growth rates have slowed down as a result of difficult comparisons as well as eBay’s (EBAY) departure from PYPL in 2021. On a currency-neutral basis, total payment volumes increased by 15% when eBay was excluded.
Over the previous year, earnings per share decreased by 19%. The aforementioned eBay withdrawal and the fact that the business profited from releasing credit loss reserves in the corresponding quarter of the previous year were both cited as the leading causes of that reduction. Absent these two variables; EPS would have essentially remained flat, reflecting rising operating costs.
PayPal bought back 8 million shares for an average price of $98.71 during the quarter, returning $750 million to shareholders through share repurchases. In the past, PayPal bought its stock without discrimination (at high prices), but now when stock prices are down, I have no problem with the share repurchase program. The firm also approved a new $15 billion share repurchase authorization.
PayPal increased its non-GAAP earnings expectation from $3.93 per share to $3.97 per share, a decrease from the previous guidance that called for up to a 13 percent gain in net revenue growth.
PayPal anticipates achieving that profit expansion thanks to expense savings of $900 million. In my opinion, this emphasis on profitability may have been partly driven by activist shareholder Elliott Management. As the company advances beyond challenging comparables, I continue to anticipate higher growth rates for the coming year.
PayPal also has set savings goals for the upcoming fiscal year of at least $1.3 billion, intending to reinvest some of those savings in “high-conviction growth opportunities.”
PayPal added that it would host an investor day to explain the new approach in the early months of 2023; this could help to boost investor confidence in the interim.
Should I buy, sell, or hold PYPL?
PYPL is selling at a recent multiple of 4 times revenue and 25 times earnings. I anticipate significant margin expansion over the long run, given the operating leverage that the business model may achieve.
I envision PYPL trading at 8.4x sales, implying a stock price of $203 per share, based on assumptions of 40 percent long-term net margins, a 1.5x price to earnings growth ratio (‘PEG ratio’), and 14 percent growth.
That predicts a price increase of more than 100% from recent pricing. Due to Elliott Management’s engagement, I can also see multiples increasing shortly. It appears that the company is now prioritizing margin expansion when the market has been rewarding current profits.
The competition and slowing development rates are, in my opinion, the main worry in this situation. Because PYPL reduces friction during the payment process, it has an indisputable value addition to e-commerce companies (no need to enter payment and address details every time).
However, rivals like Apple (AAPL) Pay, Shopify (SHOP) Pay, and others are starting to compete. Due to competition, probably, PYPL will never be able to achieve higher growth rates.Given the company’s current price, I would contend that this possibility has already been included because, because of operating leverage, I can see PYPL generating significant bottom-line growth even in the absence of robust top-line growth.
Because of the price and my belief that secular growth will resume in 2019, I consider PYPL a strong buy.
Featured Image: Megapixl © Doroo
