• Brett Schafer

Deep Dive: PayPal

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Show Notes

(Ryan) What they do: Through a range of different services, PayPal helps customers and merchants transfer money. Their goal is to enable merchants and consumers to manage and move their money anywhere in the world, anytime, on any platform, and using any device. And they do this through the core PayPal site, Venmo, and Xoom but they also bought Honey for $4B and they own some financial services providers like PayPal credit, Braintree, iZettle, and HyperWallet. So they have a ton of different financial technology services and they collect nearly all their revenue from transfer fees. Which come in different forms and different rates.

Between all its services PayPal has 392M active accounts with ~90% of those being consumers and the other 10% being merchants.

(Ryan) History: The company was originally known as Confinity and it was founded in 1998 by Peter Thiel and Max Levchin. This was at a time when e-commerce was really burgeoning and payments were trying to be made over the internet. And the idea was simple. Share your email, banking, and credit card info in exchange for a quick and easy payments system. Within two years the company was renamed PayPal.

At the time payments were being made by checks and money orders via the USPS, so no wonder this had success. They had 1M customers by 2000, thanks in large part to becoming the mainstream form of payments on Ebay. And then the company went public in 2002 only to be acquired by Ebay shortly after for $1.5B.

In 2013 Paypal acquired braintree for $800M which was the owner of Venmo. But shortly after that Carl Icahn started pushing the company to part ways with Ebay and they did eventually split with Paypal amassing a $49B market cap on its first day of trading.

(Brett) Industry/Landscape/Competition:

  1. Fintech market is around $5.5 trillion globally and expected to grow at 20% CAGR. So huge market and fast growing (you can see why so many investors are excited about fintech)

  2. Competitors: Banks, Square, Apple/Google/Samsung, Afterpay, SoFi, Visa/Mastercard/Amex. Tons of competitors and it depends on what segment you are looking at

(Brad) Management and Ownership:

Management

1. President & CEO Dan Schulman

a. Verizon BOD

b. former board chairman at Symantec

c. former President of Enterprise Growth at AMEX

d. former CEO of Virgin Mobile

e. former President of Consumer at AT&T

f. Reminder icons like Max Levchin & Peter Thiel were founders

2. CFO John Rainey

a. Nasdaq BOD

b. former EVP & CFO at UAL

3. The team is uniformly full of super stars

Ownership

1. 82.3% held by insiders

a. Vanguard & Blackrock are your two biggest holders with 12% of the float together

b. general pattern of accumulation over last several months

2. There are options packages being exercised but not a ton of insider ownership

a. Schulman owns roughly a quarter of a million shares vs. 87 million for Vanguard

b. he does have other stock & options packages so keep that in mind

(Brett) Valuation:

  1. Market cap of $309 billion, ticker PYPL

  2. EV slightly lower but doesn’t change much

  3. P/S of 13.5

  4. P/GP of 27.9

  5. P/FCF of 58

  6. Share count has been fairly steady, dropped a bit

  7. $6 billion in long-term investments on the books. THey run a fintech venture fund which could be factored in if doing more detailed analysis

(Ryan) Earnings:

  1. Q1 TPV of $285B, up 50% YoY

  2. Revenue of $6.03B, up 29% YoY

  3. EPS nearly doubled

  4. Net new active accounts up 4% QoQ

  5. FCF of ~$1.5B or a FCF margin of 25%

  6. 42.2 Payment transactions per active account on a TTM basis, up 7% YoY

(Brad) Balance sheet and liquidity:

  1. $5.7B in cash

  2. another $7.3B in short term investments for around $13B in highly liquid assets

  3. another $2.7B in loans & interest receivable

  4. $8.9 billion in long term debt with about a billion due for the next few years

  5. Paying a maximum of 3.3% interest on the debt pristine reputation

(Ad)

Anecdotal Evidence/Customer Stories:

  1. (Ryan) I’m not a huge fan of the paypal website, just a bit hard to navigate. I’m a chronic venmo user and it might be one of the best network effect businesses of all time. However, they get a lower take rate from that and Cash App hamstrings them because if they start charging too much switchin isn’t too tough.

  2. (Brett) Venmo is solid, old school PayPal function is a bit clunky. However, from what management is saying they are basically going to retire that over the next few years if these new initiatives go well.

  3. (Brad: I lived on venmo in undergrad. Nobody used Cash App in Ann Arbor it was Venmo only. Big fan.

Future growth opportunities:

  1. (Ryan) SuperApp. They’ve got a whole bunch of useful businesses, why not engrain them into one? Dan Schulman the CEO has talked about this before. Allowing customers to shop, pay, save, invest, budget, all from a single spot. Apparently Alipay is kind of like this. Only problem would be making sure that the installed base is willing/able to adapt. If you mess it up, you could risk a lot.

  2. (Brett) Honey Acquisition. Brought on over 10 million active accounts, and seems to fit in perfectly with what Paypal is doing (and should fit in with Venmo nicely, if they can get the experience right). 

  3. (Brad) I really think Venmo is still in its infancy despite the massive install base. Cash app has done so much more to create more extensive value & to get its users on the platform as frequently as possible. Venmo is already massive & still has a long, long way to go in terms of product innovation. I expect to be paying for groceries & golf balls with venmo in the future

Highlights and lowlights:

  1. (Ryan) Highlights: Massive installed base. For B2B payments processing it still has the most notoriety. And a bit of a network effect, where if someone wants to pay you and they constantly use Paypal, you’re inclined to use PayPal. They also have ~$8B in its buyback program remaining and it appears they’ve been very thoughtful about utilizing it. Lowlights: Switching to a superapp could be tricky. And there’s a lack of clarity around the core business among young people.

  2. (Brett) Highlights: Very defensible position for whatever way the payment landscape falls (crypto, QR codes, traditional, BNPL, or a little of both), strong tailwind and Venmo/SuperApp Wallet’s are a good idea. CEO seems solid but would need to do more digging. Lowlights: They let Square eat their lunch with Cash App, and it will likely be tough for them to move into in-person transactions I think. But overall very, very hard to find lowlights to this business.

  3. (Brad): This is about the most cash-rich fintech native company in the World. It has the funds to do pretty much whatever it wants & the proven management team to continue winning. Lowlight is all of that competition entering the field. Whether it’s from Goldman Sach’s Marcus or new entrants galore competition is about as fierce as it gets.

Bull Case:

(Ryan) Those competitive advantages sustain. Those that adopted venmo early stay with it forever, and the business continuously compounds. They continue trimming the fat operationally (just finished a round of layoffs), boost FCF margins, and you have a market beating business for years to come.

(Brett) PayPal gets to $4 – $5 trillion in annual TPV on the backs of successful Super App and Venmo wallet rollouts. All the additive solutions like BNPL, QR codes, Honey, and merchant solutions fit well on top of these wallets.

(Brad) Venmo becomes the new credit card & things like BNPL take off. We use it to buy groceries & pay for meals, vacations or anything else.

Bear Case:

(Ryan) Death by a thousand cuts or worse yet, they fumble a superapp launch and immediately create churn. Then between that and multiple compression, they fail to provide any sort of tremendous return for shareholders. But their ability to print cash kind of limits their downside.

(Brett) Small attacks from all sides from competition leads to stagnating TPV growth and substantial multiple compression. At this valuation investors should be expecting high teens FCF growth for the foreseeable future. If that can’t happen it will be a bad investment. (Brad) The cash app path is not as easily replicable & this company has to lean on the success of its legacy financial services business as Venmo is not as monetizable as we thought for whatever reason. Companies like SoFi, Robinhood WeBull etc. manage to innovate at a faster pace & erodes venmos user base lead

Chit Chat Money is sponsored by 7investing. Use our link or enter promo code “CCM” at check-out to get $10 off your first month of the service.

Disclosure: The authors and podcast guests are not financial advisors. Brett Schafer and Ryan Henderson are portfolio managers at Arch Capital. Clients of Arch Capital may hold securities discussed on this podcast.

#PayPal #PYPL

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