Under the Spotlight Wall St: PayPal (PYPL)

Setting up an e-commerce business in the late 90s wasn’t a simple process. Processing payments in an efficient and safe manner was a difficult proposition. Even today people are still scared to give websites their credit card information, so imagine how tough it was to convince consumers to do that when online shopping was in its infancy.

As a matter of fact, if you were a small business owner or just trying to buy and sell goods on an online marketplace like Craigslist or eBay ($EBAY), you most likely wouldn’t even be able to accept credit card payments. And if wire transfers aren’t cheap in America today, back in the 90s they were even more expensive.

This set the perfect scenario for a digital wallet like PayPal ($PYPL) to emerge. In reality, the company didn’t kick off as PayPal. It wasn’t even a single company: PayPal was the result of a successful merger between Peter Thiel’s, Max Levchin’s and Luke Nosek’s company Confinity and Elon Musk’s, Harris Fricker’s, Christopher Payne’s and Ed Ho’s company X.com.

Initially Confinity was focused on security software, but found no success in those efforts. It pivoted to become a digital wallet, which was named PayPal and launched in 1999. Meanwhile, X.com was an online bank that wanted to take money transfers to the next level. It was a perfect match and the two companies merged in March 2000.

By 2001, the company had over 12.8m registered accounts and a total payment volume (TPV) of over US$3.5b, which would be over US$5.8b adjusted to inflation today. In early 2002, just after the dot-com bubble burst, PayPal decided to go public. Being one of the few companies that managed to survive the crash, it was able to raise US$70.2m and caught the attention of some very important players of the digital economy.

In The Bay Area

PayPal went public valued just shy of US$1b, with around 68% of its revenue coming from online retailers like eBay. With that in mind, it wasn’t surprising when eBay decided to cut the middleman and acquire the digital wallet, taking it private once again. By the time the acquisition by eBay was settled in October 2002, the retailer decided to pay US$1.5b in its own stock. That’s a return of over +50% in less than 12 months, in a period of distressed markets.

At first it may seem like eBay overpaid, but the investment clearly paid off. Not only because 25% of eBay sales were transacted through PayPal at the time, but because PayPal continued to grow beyond 100m users under eBay’s umbrella, and made many important acquisitions such as VeriSign and Venmo.

If PayPal disrupted wire payments for e-commerces, Venmo would disrupt money transfers between people. With more than 4,200 banks operating in the country, banking in America is extremely competitive. But having such a diluted market also means that settling cash transfers between different banks takes time, and fees can be huge. Through Venmo’s easy-to-use smartphone app, Americans could suddenly transfer money and make payments seamlessly without having to pay a dime. This made Venmo extremely popular and eventually responsible for almost a fifth of PayPal’s TPV.

The Split

By 2012, PayPal’s TPV had reached US$145b, generating over US$1.3b in revenue – 40% of eBay’s revenue. Activist billionaire investor Carl Icahn, along with other PayPal shareholders, thought the company would be better off without the retailer, and pushed for a spin-off. In July 2014, PayPal would go public once again, reaching a market cap of over US$49b.

Since the divorce, PayPal skyrocketed, processing around US$200b in payments in the last quarter of 2019, up from US$53b in 2014. When the pandemic hit in 2020 and e-commerce took off, PayPal gained traction and its TPV rose to US$940b. Shares soared, and by July 2021 the company would reach a market cap of US$385b, more than three times its value during the trough of March 2020.

Heavy Headwinds

But what goes up must come down. Facing fierce competition from names like Klarna, Stripe, and Block’s Cash App, PayPal would soon have severe trouble maintaining its growth rate. The company’s net income began to fall, from US$1.2b in Q2 2021 to US$509m in Q1 2022. Not a single quarter in between presented any earnings growth.

Active user growth was also stunted, with 2021 showing a drop of 33% in new active users, now totalling 426m. This sharp drop made the PayPal share price tank by 75% from its all-time high, erasing almost US$300b in market value. 

For FY23, the company expects its revenue to grow within the range of 11%-13%, with TPV surpassing US$1.4t and 10m new active users added. But what scares investors is that those forecasts were made in April, before recession fears started to gain traction in the public sphere. In an environment where interest rates are rising and people might be spending less due to inflation or a recession, PayPal has yet to prove that the worst lies far behind.

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This does not constitute financial advice nor a recommendation to invest in the securities listed. The information presented is intended to be of a factual nature only. Past performance is not a reliable indicator of future performance. As always, do your own research and consider seeking financial, legal and taxation advice before investing.