Shares of PayPal Holdings Inc. (PYPL -1.35%) have skyrocketed this year and are now up an amazing 84% year to date, crushing the S&P 500's 18.6% return by comparison. The company has enjoyed quite a year, announcing partnership after partnership with credit card companies, banks, and big tech companies that make it easier and more convenient for account holders to use the platform. PayPal also sold its U.S. consumer credit portfolio to Synchrony Financial for almost $7 billion in a move that had been in the works for over a year in order to free up cash flow to pursue higher-margin opportunities. It also acquired Swift Financial and TIO Networks to increase its offerings and make it a more holistic payment platform.
There were a number of actions taken by the company that contributed to its huge success in 2017, but some stand out as particularly important. What I believe to be the most significant factors to PayPal's big year include its growing network effect, the long-awaited rollout of Pay with Venmo, and its capitalization on the growth of mobile commerce. Let's take a closer look at how these factors led the company to such an amazing year.
PayPal Holdings had a year to remember in 2017 as its stock price rose an incredible 84%. Image source: PayPal Holdings Inc.
PayPal's growing network effect
One of the most exciting developments for PayPal shareholders this year was the accelerating growth of the company's user base. In its third quarter, active customer accounts increased to 218 million, a 14% year-over-year increase, a number that includes 17 million merchant accounts. This growth is fueling PayPal's biggest advantage, its network effect. The beauty of this growth is that it feeds itself. As more users sign up for the platform, the more merchants will want to accept the platform. The more merchants accept the platform, the more it becomes attractive to users.
This network effect is seen in the company's user engagement levels as well. Active accounts are now averaging 32.8 payment transactions on a trailing-12-month basis, a 9% increase year over year. PayPal CEO Dan Schulman is definitely aware of this growing advantage. In the company's second-quarter conference call, transcribed by S&P Global Market Intelligence, he said:
[W]e have 210 million people now in the platform ... [We are] maybe at a tipping point of these network effects right now where there are so many merchants on the platform, so many consumers on the platform that it's a must-have for people, especially as they move into mobile checkout experiences ... I look at a number of things that we've done over the course of the last several years, and they're beginning to take hold in the market and are really driving our results.
PayPal's engagement with its active users has been increasing. Image and data source: PayPal Holdings Inc. Q3-17 Investor Update.
Pay with Venmo's big launch
Venmo, the peer-to-peer app so popular with millennials, has experienced nothing but explosive growth since being acquired by PayPal. The payment app processed $9.4 billion of payment volume in the third quarter, a 93% increase year over year. While PayPal management does not reveal the number of users on the platform, it did say that Venmo experienced a record number of net new active accounts this quarter. What makes this particularly exciting is that Venmo can now be used to make purchases at over 2 million retailers across the United States.
Before this rollout, Venmo virtually made no money on its P2P services. Giving its active user base a chance to make purchases at retailers will finally monetize this platform for PayPal, though management cautions for investors to maintain "measured expectations" in the near term. Still, the nationwide rollout represents "a leg of growth for us, profitable growth into the future, and we've got a multiyear outlook going on what this will be." That's a big deal.
Riding the mobile commerce tidal wave
As smartphones become a bigger part of our everyday lives, it's only natural that we will use them more and more for shopping. Studies seem to back up this simple reflection. Business Insider expects mobile commerce, also known as m-commerce, to reach 45% of total e-commerce sales by 2020, good for about $284 billion. The consulting group comScore observes that people spend more time shopping on mobile devices than PCs by a 2-to-1 margin.
Schulman is well aware of the importance of m-commerce. In the company's most recent conference call, he said, "Mobile is becoming the defining force in digital payments. It is rapidly blurring the distinction between online and offline and accelerating the adoption of digital payments."
PayPal is perfectly poised to capitalize on this trend thanks to One Touch, a platform that allows users to register a device with PayPal. Once registered, they can make purchases from participating merchants with just one click or touch. Merchants love the platform because it removes cumbersome steps from the checkout process like entering a credit card number, shipping address, and other information before the customer makes a purchase. As of the completion of the company's third quarter, more than 6 million merchants and 70 million consumers were using the platform.
One Touch has driven PayPal's mobile payment volume, the amount of payments it processes originating from mobile devices. The company's mobile payment volume rose to $40 billion in the third quarter, a 54% increase year over year; mobile payment volume now makes up slightly more than a third of PayPal's total payment volume.
Clearly, several factors have contributed to PayPal's amazing success this year. Its network effect is leading to accelerating active user growth. Venmo is now being accepted by more than 2 million merchants across the U.S., meaning that for the first time in the platform's history, it is expected to add to PayPal's top and bottom lines. To cap it all off, PayPal has managed to capitalize on huge megatrends like m-commerce. With these catalysts in place, it's easy to see why 2017 was such a great year for the company and why 2018 might be even better.
