Where Will PayPal Stock Be in 5 Years?

On Jan. 31, 2018, PayPal's (PYPL 2.90%) former parent company and longtime e-commerce partner eBay (EBAY 1.32%) made a shocking announcement. Instead of sticking with PayPal as its preferred payment platform, eBay partnered with its Dutch rival Adyen (ADYE.Y -1.57%) to replace all its services over the following five years.

That five-year transition, which concluded this month, throttled PayPal's top-line growth. A surge in online and peer-to-peer payments throughout the pandemic temporarily masked that problem, but its growth decelerated after those tailwinds dissipated -- and that slowdown was exacerbated by inflation and other macro headwinds.

Image source: PayPal.

PayPal's stock closed at a record high of $308.53 per share on July 23, 2021, during the buying frenzy in growth and meme stocks. But today, it's trading at only about $73 -- which is actually 14% lower than its closing price on Jan. 31, 2018. The S&P 500 rose more than 60% during the same period. Will PayPal underperform the market again over the next five years?

Reviewing PayPal's biggest challenges

If we look at PayPal's growth in active accounts, free cash flow (FCF), and total revenues over the past five years, we can see its growth accelerate throughout the pandemic in 2020 -- then cool off significantly in 2021 and 2022.

Data source: PayPal. YOY = year over year. FCF = free cash flow.

That slowdown cast a dark cloud over the lofty long-term goals it set in early 2021. It had claimed that between 2020 and 2025, it could nearly double its number of active accounts from 377 million in 2020 to 750 million, more than double its annual revenues to over $50 billion, and more than double its annual FCF from $5 billion to over $10 billion.

PayPal withdrew its closely watched target of reaching 750 million active accounts last February, and it will likely miss its revenue and FCF targets for 2025. It blamed that slowdown mainly on the macro headwinds, but its final decoupling from eBay and competition from similar platforms are also likely curbing its near-term growth.

Those headwinds should persist throughout the rest of 2023. In the first quarter of 2023, its number of active accounts only rose 1% year over year to 433 million. Its revenue grew 9% to $7.0 billion, but its FCF dipped 3% to $1.0 billion. For the full year, analysts expect its revenue to rise 8% to $29.6 billion.

What will happen over the next five years?

PayPal's longer-term roadmap is murky because CEO Dan Schulman, who has led the company since its spin-off from eBay in 2015, plans to retire by the end of 2023 -- but the board hasn't named a successor yet. So, for now, investors can only look at Schulman's previous strategies to see where PayPal might be headed over the next few years.

Prior to its separation from eBay, PayPal expanded its fintech ecosystem with several big acquisitions, including the peer-to-peer payments app Venmo, the payments gateway provider Braintree, and the online money transfer company Xoom. After its spin-off, it expanded its platform with buy now, pay later (BNPL) services, cryptocurrency purchases, and deeper partnerships with credit card companies like Visa and Mastercard.

But all those growth strategies are still heavily dependent on the macro environment -- which should remain difficult as long as interest rates remain elevated.

Between 2022 and 2025, analysts expect PayPal's revenue to grow at a compound annual growth rate (CAGR) of only 8% to $35 billion. If it maintains the same CAGR for the following three years, it would only generate about $44 billion in revenues in 2028.

To counter that slowdown, PayPal has been cutting costs (including layoffs for 7% of its workforce earlier this year) and buying back more shares to boost its earnings per share (EPS). PayPal's adjusted operating margin declined from 21.7% in 2018 to 21.3% in 2022, but analysts expect it to expand to 23.4% in 2025. On a generally accepted accounting principles (GAAP) basis, its EPS is expected to more than double from $2.06 in 2022 to $4.66 in 2025 -- representing a robust CAGR of 31%.

If Schulman's successor follows the same conservative playbook, PayPal should generate slower sales growth with stable earnings growth through 2028. But if the next CEO sacrifices its margins to expand its ecosystem, it could generate higher sales with lower profits. I think the former scenario is more likely to happen -- since PayPal's high-growth days are over, and it faces some formidable challenges -- but it could still profit from the secular expansion of the digital payments market.