Although the market took a bit of a breather since the start of August, the S&P 500 and the Nasdaq Composite index still remain in or near bull-market territory. Investors might be ready to put some money to work, but many of them don't know where to find great value right now.
PayPal (PYPL 2.90%) might be one solution. This is a competitively advantaged enterprise that's still posting solid fundamental gains, but it's no doubt dealing with economic conditions that might be scaring some investors away.
However, I think this fintech stock might be just what your portfolio needs.
PayPal has a compelling valuation
There's no question that PayPal has been a dud for shareholders in recent years. After the stock skyrocketed 740% from the time it spun off from e-commerce platform operator eBay in July 2015 to its all-time high in July 2021, it has been an unfortunate ride for investors. Right now, the stock is 82% below that peak price. And shares are down 20% so far this year, despite the broader market's partial recovery.
As a result of its fall from grace, investors have the chance to buy PayPal's stock at a forward price-to-earnings multiple of 11.5. Since the start of 2021, its shares have never been this cheap. And that valuation is a huge discount to the S&P 500's forward earnings ratio of 19.2.
Value investors might be staring right at a bargain in the fintech industry.
PayPal is seeing slower growth
To be fair, PayPal's shares did perform poorly over concerns about the company's softening fundamentals. Its business boomed during the worst days of the pandemic because of the surge in the use of online shopping and digital payments. But the return to more normal consumer behaviors and the difficult financial comparisons to those outlier periods have made its more recent numbers look less than stellar.
The macroeconomic backdrop is another headwind. Because the PayPal platform specializes mostly in discretionary spending categories, inflation and higher interest rates might be holding some consumers back from making as much use of its offerings.
Nonetheless, the fact that the company is still growing its key metrics at a healthy clip in what has otherwise been a very challenging operating environment deserves acknowledgment. In 2022, total payment volume and revenue were up 9% and 8%, respectively, with similar gains registered through the first six months of 2023. And its profitability is impressive. Management expects the business to generate $5 billion in free cash flow this year.
If PayPal can get back to consistent double-digit percentage growth in the not-too-distant future, then the market might start to appreciate this company again, leading to a higher valuation and happy shareholders.
PayPal benefits from an economic moat
PayPal is also in a favorable spot in the payments industry thanks to the huge lead it has due to its early-mover advantages. The company was founded more than two decades ago, and it helped spearhead electronic payments on the backs of e-commerce growth. This has resulted in PayPal owning the most widely used digital wallet in North America and Europe. Moreover, the business is known for safe and seamless payment solutions that give users the trust they need. Trust takes time to build.
By operating a two-sided platform, PayPal also benefits from network effects. The fact that so many merchants accept it -- 35 million active accounts -- makes the service extremely valuable for the 396 million active individual accounts controlled by consumers. And all these consumers provide merchants with a global customer base.
To illustrate how wonderful it is for a company to benefit from strong network effects, imagine that I wanted to start a payments network from scratch. I'd first need to develop the right technology, while also complying with the laws and regulations in the different jurisdictions I'd operate in. Then would come the hard part: Without any users, I'd have to find ways to sign up both merchants and consumers, without being able to offer either group an immediately compelling use case. Merchants would have little to no demand from customers wanting to use my service; consumers wouldn't have anywhere to shop at that accepted payment through it. Getting a critical mass of users on both sides is an expensive and lengthy task for any potential competitors.
Taking a look at PayPal, there are a lot of things to like about the business. Perhaps the smart move would be to consider adding this stock to your portfolio.
