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Paypal (PYPL) Stock | NYSE: PYPL

The Payment Powerhouse

PayPal is an online payments business supported all around the world. Their main focus is working with online money transfers to serve as an alternative to traditional methods such as checks and money orders.

PayPal was spun off from eBay in 2015 and provides electronic payment solutions to merchants and consumers, with a focus on online transactions. The company had 377 million active accounts at the end of 2020, including 29 million merchant accounts. The company also owns Xoom, an international money transfer business, and Venmo, a person-to-person payment platform.

PayPal’s mission is to democratize financial services to ensure that everyone, regardless of background or economic standing, has access to affordable, convenient and secure products to take control of their financial lives.

Growth

58

Valuation

57

Quality

75
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Where Are We Now

Updated on: 11/11/2021

Conviction Score

9

As a democratizer of payments and financial services, PayPal is near the top of our list when it comes to companies set to benefit from huge megatrends. With that, we think PayPal’s recent selloff provides a much more attractive valuation today than just a few weeks ago.

  • We think recent weakness is mainly stemming from PayPal’s retail customer supply-chain issues and somewhat weak revenue growth guidance of 18% in 2021 vs. 2020. We would not fret over the short run here – we think there is value in considering PayPal for a 5+ year investment.

  • PayPal remains a major beneficiary of COVID-induced shifts to digital forms of payment as well as general network effects. Accordingly, total payment volume rose 26% since last year to $310 billion with over 415 million active accounts in the PayPal ecosystem.

Investment Thesis

  1. PayPal is the industry leading payment processing company who revolutionized payments on the internet upon their founding.

  2. The business operates a secure and fast payment rail to facilitate money transfers and payments over the internet with almost half a billion active accounts.

  3. The growth of Venmo in Person to Person (P2P) has been explosive and leads the P2P money transfer market share.

  4. PayPal benefits from a two-sided network effect with payments via the internet. As the number of merchants that accept PayPal and the consumers/business that utilize the service grow, the whole ecosystem improves and becomes harder to disrupt.

  5. PayPal will continue to benefit from the enormous secular growth of digital payments globally and is well positioned to take advantage of new trends that arise in payments globally.

The Basics

PayPal was the front runner to introduce the idea of P2P transactions. Before PayPal’s time, individuals opted to use checks and money orders to send money to one another. This platform allows users to sit in the comfort of their home and send money to anyone around the world in a matter of seconds.

In addition to online money transfers, PayPal also offers services such as debit cards for payments, credit card readers for businesses, and even lines of credits for small businesses.

Despite having many services, over 90% of PayPal’s revenue comes from transactions. They take a small percentage of the transaction total when dealing with a merchant and consumer. P2P transactions, like two friends sending money to each other, is completely free.

The business has taken the market by storm, increasing annual revenue at mindboggling rates.

PayPal Revenue Segments (Q3 2021)

Source: PayPal Investor Relations

The Digital Wallet

In 1998, three entrepreneurs, Max Levchin, Peter Thiel, and Luke Nosek developed a cyber security business under the name Confinity. After limited success, the team decided to work on an idea with electronic payments. Thus, the start of the digital wallet, and the company PayPal, in 1999.

Just a few months after PayPal released to the market, the business merged with Elon Musk and his company X.com, to work on online banking. The company was trying to put a lot more emphasis on the ease of online banking and money transfer. In 2002, PayPal went public, trading for $13 a share, of which the largest shareholder being Elon Musk, owning 11.7%.

A few months later, eBay acquired the company for $1.5 billion. This helped to expand the practicality and usage of PayPal as nearly 25% of transactions made on eBay were done solely through PayPal.

As the years went by, PayPal began acquiring more and more companies to focus on security support and expansion into new markets. Most notably in 2015, PayPal acquired Xoom to help users send money internationally with ease.

Since PayPal’s split with eBay in 2015, the company has taken off in the online payment industry, increasing its Total Payment Volume by nearly 300% and reaching 392 million active accounts in Q1 2021.

Payments

Digital Payment technology has revolutionized the way E-Commerce and money transfer works. The industry is growing by the year with a Compound Annual Growth Rate (CAGR) of 20%.

In terms of digital payment market share, PayPal leads the industry with nearly 58%. The three main companies trailing behind are Stripe, Amazon Pay, and Square Inc.

Due to PayPal being the front runner of online payments, they have solidified their place in the industry. Their strong payment security, fast processing times, and simplistic accessibility are the driving force to keep consumers on the platform.

Payment Processing Market Share

Source: Datanyze

Paying Friends for Pizza

You and your friends go out for pizza. One person pays and everyone has to pay them back. Before P2P technology, the only way to pay your friend back was to rummage through your pocket and find the spare cash, assuming you had exact change.

What PayPal introduced is a way to just open up your phone and send the exact amount to them. The transaction is safe, protected, and fast.

Since the introduction of the technology, many companies have entered the P2P payments market, such as Venmo, Zelle, and Square Inc.’s CashApp. In 2013, PayPal acquired Venmo, allowing the company to have two massive outlets to dominate the P2P market.

What was great about acquiring Venmo is that both companies can serve two different sectors of the same industry. PayPal focuses on business made transactions that are safe and secure, to help merchants. On the other hand, Venmo is centered more around the recreational aspect of sending money, such as paying friends for a split bill.

Riding the Rails

Before the age of digital payments, you would typically get your money from the bank. Here’s the problem: You have to actually present yourself to the bank and on top of that, the bank has to actually be open.

What PayPal popularized is a system that is open 24/7 and you can access it from your couch. It is called a real-time payment rail. This type of digital infrastructure network emphasizes the idea of a transfer of funds between two accounts in a fast and secure manner.

How Payment Rails workSource: Toptal

PayPal and Stripe - the company’s main competitor in ecommerce transactions - use these rails to provide their merchants along with recreational users, access to easy money transfer.

Interac, a company that helps Canadian Banks provide e-transfer, use the same system of payment rails to send money digitally.

Growth, and Lots of it

PayPal’s success can be seen in practice, as majority of E-Commerce stores have a PayPal plug-in to pay, but it can also be seen through their numbers. This company has seen proven growth in their Total Payment Value (TPV), Revenue, Operating Margin, and Free Cash Flow (FCF).

TPV and annual revenue have a strong correlation for PayPal as more transactions processed means more revenue is generated.

Finally, with a company all about payments and money, cash is king. Fortunately for the company, it is generating tons of (growing) free cash flow. This is especially important for the company right now as they are focusing primarily on bringing new products and technology to the market.

PayPal Revenue ($M) (Q3 2021)

PayPal Free Cash Flow ($M) (Q3 2021)

Buy Now, Pay Later

PayPal’s main goal is to create an innovative version of the “digital wallet”. A platform that can help you accomplish anything related to money. Currently, the platform allows P2P services, paying merchants for business, and recently added in an embedded trading platform for stocks and cryptocurrency.

Their next initiative is a “Buy Now, Pay Later” campaign. At select stores, users are able to purchase items and have the ability to pay it off at a later time. Based on studies and forecasts, this campaign will allow PayPal to increase weekly TPV by 12%. As mentioned before, TPV and revenue have a direct correlation, thus this initiative could be beneficial to drive up margins even more.

Risks

Despite currently the digital payment market, PayPal does not come without any risks.

The one issue that many people will bring up is that PayPal is in control of your money. In the sense, despite it being your money, PayPal can freeze the account whenever they want. This is primarily done for security reasons, but not having access to your account at times may be troublesome, especially for business owners. Many people have spoken out about this issue and PayPal has yet to provide a confident solution.

The biggest risk moving forward is competition. Stripe is an API-first business gaining a significant amount of market share. Developers can simply cut and paste a snippet of code to have Stripe payments set up. It is that easy.

In minutes, start-ups can accept payments and have a dashboard for their financials with Stripe. They have been very successful in taking market share from PayPal.

Bottom Line

PayPal is the juggernaut of digital payments. Their revolution in the digital payments industry and versatile services are what allow them to perform so well in the market. Despite having strong competition with companies like Stripe and Square Inc., PayPal continues to hit record numbers in active users and TPV to help the business succeed.

The company has seen stellar growth year over year, especially since their split with eBay in 2015. This is due to their technology in changing the digital payments industry along with their active stance on providing new services to the market. Should they continue to lead the market, they will still hold the title of the Payment Powerhouse.

There is still a long runway for growth across payments riding secular tailwinds in digital payments, person-to-person transactions and ecommerce. PayPal holds a strong position and optionality as new trends in payments emerge.

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