PayPal (NASDAQ:PYPL) has experienced a significant bull ride over the last few months, achieving a 30% increase from pre-pandemic levels and almost a 90% rebound from the market lows in March. While the rebound is partly justified from the digitalization process brought about from stay-at-home orders, the stock faces challenges that could slow down the upside at these levels.
Business Growth Is Strong – Honey Is Contributing
After a slowdown in March, growth rates have experienced a rapid acceleration in April and May.
Figure 1 – Source: PayPal financials
The pandemic helped to boost active accounts numbers, now up 140% from February levels. On the recent post-earnings conference call, CEO Daniel Schulman recently reported that PayPal had its historical largest single day of transactions on May 1st.
Similar trends were experienced by other e-commerce companies such as Amazon (NASDAQ:AMZN) of course, but also Shopify (NYSE:SHOP) and eBay (NASDAQ:EBAY), with the latter recently lifting its Q2 guidance.
Figure 2 – Source: PayPal financials
Engagement levels are also up 30%, showing that the stay-at-home orders are still actively influencing consumers mindset and spending behaviour. PayPal’s growth was majorly driven by its digital wallet app Venmo and by the closure of Honey acquisition. Regarding Honey, PayPal CEO Daniel Schulman recently disclosed an impressive 180% increase in net new accounts.
Short-term trends are therefore pointing upwards for PayPal’s business, with the stock reacting accordingly and now $160 a share. However, PayPal is not playing alone in the e-commerce space. In the digital wallet segment, Square’s (NYSE:SQ) Cash App is growing faster than Venmo, and the recent eBay growth could translate into a bigger piece taken out of PayPal’s revenue when the partnership ends this July.
Challenges – PayPal Mobile And Venmo Getting Outperformed
The digital wallets market is getting bigger, with research pointing at a $7.5 trillion market by 2024. There is definitely room for several players to grow at this stage, but in the long term, the circle could get smaller and smaller. Hints can be taken from China, where mobile payments account for 68% of total payments (vs. 15% in the US) and the market is majorly controlled by only two big players, WeChat and AliPay (NYSE:BABA). PayPal is building a strong ecosystem aiming at connecting digital wallets with physical stores, with online stores and now even with discount finder Honey, creating an omnichannel experience currently unique in the United States.
However, the consumer side of the channel is getting outperformed by Square’s cash app. Money transfers between peers work best when the users are all sharing the same platform, and for this reason consolidation in the market should be expected (and already happened in more matured markets such as China). Cash App is growing at a faster rate (Figure 3), shown by the significantly higher download rates and the number 1 position in the financial applications category for both Android and IOS.
Figure 3: Cash App (left) Vs. PayPal Mobile (right) – Source: App Annie Intelligence
Challenges – eBay’s Slice Is Growing, But The Agreement Ends Next Month
Many of you are probably aware that eBay is soon switching payment processor from PayPal to Adyen (OTCPK:ADYEY), with the deal with PayPal ending this July. During the Q4 earnings call, CEO Dan Schulman anticipated that eBay would be approximately 6% of total TPV. It seems like a small number, but eBay at the time constituted a significant 14% of revenue (although in decline from the 26% share of 2015). Due to eBay’s recent growth, the revenue share coming from eBay is probably not going to decline as expected. The agreement with eBay is coming to an end soon, but PayPal will still be selectable as a payment option on the eBay marketplace until 2023. Should users continue to opt for PayPal as a payment method, the revenue share coming from eBay will not be significantly affected in the short term. However, in the long term, eBay will achieve completed independence from PayPal. At that point, a ~14% revenue cut for PayPal could be very significant.
Conclusion & Takeaway
The recent run-up in PayPal’s stock price may be partly justified by a faster shift to digital payments and changes in consumers behaviour. However, a growing segment like digital wallets faces competition challenges, and the revenue diversification away from eBay should experience a slowdown. I remain bullish in the long term due to the potential growth in the digital market, but at this price, I rate PayPal a HOLD.
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Disclosure: I am/we are long SQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.