PayPal (PYPL 1.84%) was once one of the best-performing stocks out there. From its spinoff from eBay in July 2015 to its peak price in July 2021, shares rose about 740%, a monster gain.
But it's been all downhill since then. As of this writing, the shares are 80% off that all-time high.
Despite this poor performance, this payments and fintech giant is still a smart stock to buy, especially on the dip. But investors should heed one warning sign.
A quality business with great attributes
I think there are many reasons to like PayPal. By operating a two-sided platform, with 35 million merchants and 393 million individual accounts, this business benefits from network effects. The greater the adoption PayPal gets from both user groups, the more valuable the platform becomes because there's higher utility. This is what makes up the company's economic moat.
The stock's performance doesn't show it, but this is an extremely profitable enterprise. PayPal consistently generates positive free cash flow (what's left from cash flow after business investments and capital expenditures), with $4.6 billion estimated for 2023. Plus, management is focused on aggressively buying back shares.
I also want to point out that PayPal is still posting healthy growth, even in the face of macro headwinds. Revenue and total payment volume grew 8% and 15%, respectively, in the most recent quarter.
For all these positive qualities, investors are only being asked to pay a price-to-earnings ratio of 18.5. That's a discount to the overall S&P 500.
NASDAQ: PYPL
Key Data Points
Competition adds uncertainty to the mix
Based on the points outlined here, PayPal isn't like most fintech companies out there. This is a great business that has a track record of success. And it looks like a smart investment to make right now.
However, astute investors are always concerned about any risk factors. In PayPal's case, we can't ignore how incredibly competitive the payments landscape has become.
This shouldn't be surprising. PayPal has long been at the forefront of the rise of digital payments. And this has been the case both for consumers and merchants. This success, though, attracted an army of competitors.
On the merchant side, PayPal competes in a variety of areas, like fees, fraud minimization, authorization rates, and the customer experience. From a merchant's perspective, there are a lot of service providers to choose from that go up against PayPal's Braintree. Privately held Stripe, Shopify, and Adyen are formidable opponents, all posing challenges to PayPal.
Consumers probably care most about ease of use and ubiquitous acceptance. On that latter point, PayPal outshines rivals. In 2022, it was the most widely accepted digital wallet among the 1,500 biggest retailers in North America and Europe, with nearly 80% penetration.
From personal experience, though, I have rarely used PayPal as a checkout option. And most of the people I know don't, either. I use Venmo all the time (also a PayPal holding), but the business doesn't generate any revenue from me sending and receiving money to friends.
On the other hand, I find myself using a key competitor service, Apple Pay, almost every day, it seems like. The fact that Apple owns the mobile operating platform and can put its payment methodology above others is a key advantage.
Shopify's Shop Pay, Alphabet's Google Pay, and Block's Cash App are other popular consumer-facing digital wallets that compete with PayPal's offering.
From an investment perspective, when aiming to own a stock for the next five to 10 years, the competitive landscape must factor into the decision-making process. That's because changes that happen in the industry can either positively or negatively impact a particular business and its trajectory.
Investors can't ignore the heightened competition, which adds an element of heightened risk to the PayPal investing thesis. If you still like the stock, initiating a tiny position could be the right move.
