One of the oldest staples in fintech is PayPal (PYPL +0.67%). The company founded by Silicon Valley legend Peter Thiel is nearly 20 years old, and was long part of eBay's ecosystem after eBay acquired it in 2002. Roughly a decade after becoming a subsidiary of eBay, PayPal acquired a company called Braintree (which owned the massively popular peer-to-peer payments app Venmo).
PayPal was spun out of eBay in 2015, and has been operating as a stand-alone entity since. During this time the fintech world has seen a surge in new entrants to the market. Whether it's buy now, pay later services, digital neobanks, or payment processors, there seems to be an app for just about everything. And PayPal is becoming increasingly vulnerable.
While the company may be seen as antiquated, I'll outline why PayPal still has a lot to offer given its multi-faceted operation. With the stock trading at rock-bottom levels, now could be a great time to buy the dip in a financially strong business.
Is PayPal a falling knife?
One of the more unique aspects of PayPal's business is that it helps both consumers and merchants. Consumers can use PayPal as a digital wallet, while merchants can use the platform as a payment service provider. This approach has helped PayPal build a two-sided network in which it can cross-sell a variety of different products and services.
However, during the company's second quarter, which ended June 30, PayPal reported total revenue of $7.3 billion, which was only 7% growth year over year. Some investors might find this level of growth uninspiring given PayPal's broad reach.
On the surface, I would tend to agree. However, a more thorough look might shine some light on the long-term picture.
PayPal is guiding toward free cash flow of $5 billion for 2023, which would be very much in line with historical cash flow generation. In turn, the company has been able to use its cash flow for a number of acquisitions, as well as share repurchases.
Yet despite building such a differentiated and prolific business, investors seem to keep punishing PayPal. The stock is trading near its lowest price-to-earnings (P/E) levels since it spun out of eBay almost 10 years ago and appears to be extremely discounted relative to peers (but more on that later). Given this dynamic, does PayPal have anything going for it, or is it a trap waiting for bag holders?
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Take note of the new CEO
One of the most discounted factors for PayPal right now is its new CEO, Alex Chriss. Chriss is a former executive at personal finance company Intuit, and was the brains behind the company's acquisition of Mailchimp.
I see a lot of overlap between PayPal and Intuit, and it's not just because each of these companies operates in financial services. Intuit was long known for tools such as accounting software QuickBooks, budgeting app Mint, and tax service TurboTax.
But a few years ago the company turned heads when it acquired marketing automation start-up Mailchimp. Why would a company building a financial services suite want to buy a marketing automation platform?
Simply put, because it differentiates the business model. Intuit is far from the only company that offers tools that make accounting, billing, invoicing, and other tasks more manageable. But with the addition of Mailchimp, Intuit immediately increases its total addressable market, which provides the company with the ability to cross-sell its array of products to existing Mailchimp users.
In essence, Intuit evolved from a financial services software company that might have people using one or two of its products to a full-spectrum end-to-end provider for business owners. And Chriss was the driver behind the deal.
With assets such as Braintree, Venmo, and online coupons app Honey, PayPal has an portfolio of products that I think are operating below their potential.
There are numerous ways these subsidiaries can be further monetized, including debit cards and strategic partnerships aimed at leveraging PayPal products as exclusive online check-out options. But right now it seems PayPal's products are only used occasionally among consumers who have a litany of other competing services to choose from.
While I am not saying that PayPal has a game-changing acquisition up its sleeve, I do think that Chriss will figure out ways to transform PayPal and turn it into a connected ecosystem.
The valuation looks enticing
NASDAQ: PYPL
Key Data Points
PYPL PE Ratio data by YCharts
The chart above illustrates the P/E ratio over the last year for PayPal benchmarked against those of a number of competitors. PayPal stock trades far below payment processors Mastercard and Visa.
Moreover, PayPal's P/E of 15 is less than half that of rival Adyen, which has had its own series of challenges as of late. On top of all that, SoFi, Block, Shopify, and Affirm are not generating consistently profitable earnings, so including those companies in this analysis would not add much value.
The point I am trying to make is that while those companies offer convenient services for consumers, none of the other operations have figured out how to sustain profitability. PayPal, on the other hand, has strong free cash flow trends despite its muted revenue growth rate.
In other words, even as competition intensifies and growth decelerates, PayPal still manages to maintain a healthy financial profile overall.
PayPal stock is currently trading at 52-week lows. Moreover, given its depressed valuation relative to those of its peers, it's tempting not to buy.
I think investors are exiting positions in PayPal purely based on fear of the competitive landscape. While the threats from newer entrants seem very real, long-term investors should zoom out and think about the bigger picture. The company has a number of catalysts aimed at increasing user stickiness, and I personally believe the new CEO will inject some much-needed life into the operation.
While there is a lot to prove, the expectations for PayPal appear to be extremely low. I would take advantage of the price action and use this as an opportunity to dollar-cost average into a long-term position.
