Where did half the year go already?
Stepping into July 2023, savvy investors are searching for the next big thing. The tech sector is doing fine overall, but some tech stocks have lagged behind the sector and the broader stock market. Though that doesn't necessarily mean you should count them out just yet.
We put together a panel of tech experts who dove deep into the market, emerging with three compelling picks that have swooned recently but now seem poised for a revival. These under-the-radar picks, steeped in innovation and adaptive strategies, are setting the stage for a potent comeback. Let's explore why our experts believe these three tech stocks could be set to outperform in the second half of 2023 -- and beyond.
PayPal shakes up its business model
Nicholas Rossolillo (PayPal Holdings): Digital wallet and payments giant PayPal (PYPL 2.90%) has been lumbering along for over a year in the aftermath of the e-commerce growth collapse (following the e-commerce boom early in the pandemic). Competition is high in the digital money space. Going forward, PayPal must prove to the market that it can continue to grow at a moderate pace over the long term, boost its profit margins, and return excess cash to shareholders along the way. No pressure.
The company just took (in my opinion) a positive step in that direction when it announced it was selling present and future consumer loans from off its balance sheet. The buyer will be alternative asset investor giant KKR (KKR 0.71%).
Early in the pandemic, buy-now, pay-later (BNPL) credit options took off. PayPal got in on the party, too, and BNPL continues to grow. However, originating loans (because that's ultimately what this product is) requires PayPal to either sell the loan to a third party or hold the loan on its balance sheet and collect payments and interest from the consumer. As I pointed out a few months ago, PayPal has begun to look more like a lender as a result of holding some of those loans.
But I don't own PayPal stock because it's a bank. I own it because I believe in the power of digital payments -- an asset-light business model that yields a fee (think of it like a toll) when consumers opt to pay for purchases with an app, in this case, usually PayPal or its Venmo subsidiary.
To refocus its efforts, PayPal will sell 40 billion euros' worth of current and future BNPL loans from its European operation to KKR. PayPal will retain all customer-facing relationships, which means PayPal will go back to being more of a loan originator than a lender.
Management said this transaction was already factored into its guidance for 2023 earnings per share (EPS) and adjusted EPS growth provided in May. However, now that the deal with KKR is official, PayPal will be increasing its 2023 cash return to shareholders from $4 billion to $5 billion via stock buybacks.
By some metrics, PayPal looks cheap. It trades for 28 times trailing-12-month EPS but only 15 times free cash flow. Selling those loans could narrow the discrepancy between the two valuation metrics. And if PayPal continues to grow its earnings by an average low-teens percentage in the coming years, this stock could eventually rally along with the rest of the tech market.
Freelancing is here to stay, and so is Fiverr
Anders Bylund (Fiverr International): I can't help getting excited when I look at Fiverr International's (FVRR 3.74%) stock chart. This chart peaked in early 2021, plunging dramatically as soon as effective COVID-19 vaccines became widely available. You see, many investors expected the freelance services marketplace to run into a brick wall as people got back to traditional office jobs.
That didn't happen. Fiverr's trailing revenues stand at $339 million today, a full 78% above the trailing sales when the stock peaked.
But the stock kept sliding lower and lower as bears embraced many reasons to take another step down. Recently, the rise of artificial intelligence tools, like OpenAI's ChatGPT, gave rise to the idea that creative freelancers won't be needed much longer -- just fire up a machine to do the same job but faster and cheaper!
So you can pick up Fiverr stock for about $26 per share these days, more than 92% below those dizzying heights of 2021. It trades at the bargain-bin valuation of 14 times forward earnings. Remember, I'm talking about a healthy business with robust top-line growth and solid cash profits.
And the AI threat strikes me as a misunderstanding. Even the best AI systems can't conjure high-quality creative content out of thin air. If anything, Fiverr should see rising interest in freelancers who know how to guide a text-writing, image-painting, or music-composing AI system into producing something worthwhile.
The reasons behind this dramatic price drop don't seem to make sense in the long run. Fiverr is poised for a robust rebound over the next couple of years as the global economy normalizes and even the skeptics start to see that this freelancer service platform has staying power and a robust business plan.
"Buy when there's blood in the streets," they say. Well, Fiverr's stock is essentially floating in the red stuff, with a nourishing drink in one hand and big dreams in its proverbial head. In other words, Fiverr looks like a great buy right now.
Naspers and Prosus give new reasons for its discount to assets to close
Billy Duberstein (Naspers/Prosus): South African conglomerate Naspers (NPSNY 1.64%) and its European subsidiary Prosus (PROSY 2.25%) are collectively known as the biggest shareholder of Tencent (TCEHY 2.19%), the large gaming, social media, fintech, and software giant that dominates the Chinese internet.
The argument for owning Naspers or Prosus, which each have a 43%-57% split claim on the same set of assets, was that it would be akin to owning Tencent but at a massive discount. Prosus trades at a discount to the value of its Tencent holdings alone, which make up 82% of its net asset base, and a 37% discount to the value of all its listed and unlisted assets. Meanwhile, Naspers trades at an even larger 46% discount to the net value of its assets.
That discount has remained for years, much to the frustrations of Naspers' and Prosus' shareholders. However, Prosus' recent earnings call gave not one but several reasons that discount could close in the near or intermediate future.
First, Naspers and Prosus had, since 2019, a complicated cross-holding structure in which each held positions in the other entity. The reasons are complicated but involved rules in South Africa for exchange-listed companies' ownership thresholds, which were a potential roadblock to the company's ongoing share repurchases. However, on the call, management noted it had received permission from South Africa to simplify the business structure and eliminate the cross-holding.
That means the company may continue repurchasing Naspers and Prosus shares unrestricted, with each company retaining the same ownership of assets. The elimination of the cross-holding, which should happen later this summer or fall, should remove a layer of complexity for investors and, therefore, narrow the discount.
Speaking of buybacks, the share buyback program announced last year appears to be a success. Last year, Prosus announced it would sell a little bit of its massive Tencent stake every trading day and then repurchase the same amount of Prosus and Naspers shares. Given the massive discount, this actually adds to the per-share value of Prosus' Tencent stake, even as it sells down shares.
Over the past year, Prosus has sold down about $12 billion of Tencent and repurchased as much in Naspers and Prosus shares at a discount, reducing the free float by over 20% and increasing Prosus' net asset value per share by 6%. The buyback has also somewhat reduced the valuation discount, which used to be even bigger but is still large. As long as the discount remains, Prosus and Naspers will keep scooping up their own shares at a discount.
But the biggest way the discount could eventually close is if Prosus received any credit whatsoever for its non-Tencent assets, which make up about 18% of the company's net asset base and are growing fast. These other assets include core businesses in food delivery, fintech, ed-tech, and classifieds. Prosus also has smaller e-commerce companies and venture technology investments.
While e-commerce struggled in the post-pandemic year, the other four core businesses, though still unprofitable, displayed a high 36% collective growth over the past year. Still, Prosus has determined these businesses will inflect to profitability in the first half of fiscal 2025, which is the second half of calendar year 2024. It does appear that losses bottomed out late last year and are now inflecting upwards:
Image source: Naspers.
The increasing profits should be aided by the sale of the OLX Auto business, which contributes to a lot of the company's current losses and management has announced it intends to sell. Once this business has been sold and the remaining attractive businesses begin to generate profits, that cash can be deployed into more investments or even share buybacks instead of consuming cash as they have in the past.
Given the enormous discount to assets at which shares still trade, the prospect of greater sources of cash flow and repurchases besides selling Tencent could be the catalyst that closes the discount further. So the elimination of the cross-holding, the ongoing buybacks, and the non-Tencent businesses on track to generate profits could all conspire to close the discount, leading to big potential gains.
