Is PayPal Stock a Buy After Selling Off in 2022?

PayPal’s PYPL development of a network of merchants and consumers early in the evolution of e-commerce allowed the company to build and maintain an enviable competitive position. In recent years, PayPal’s growth has remained turbocharged by the ongoing shift toward electronic payments and the rise of e-commerce, which the coronavirus accelerated. However, the company might see some headwinds this year as the positives from the pandemic reverse.

Longer term, we see a mix of competitive opportunities and threats that create a fairly wide range of outcomes. Services like Apple Pay represent competition. On the other hand, PayPal remains a preferred partner in the online space and could leverage this into a growing presence in point-of-sale transactions. Venmo, its rapidly growing but still unprofitable peer-to-peer platform, probably won’t be a major driver anytime soon and its future is difficult to predict, but it has potential to create upside above our fair value estimate.

Key Morningstar Metrics for PayPal

• Fair Value Estimate: $135
• Star Rating: 4 Stars
• Economic Moat Rating: Narrow
• Moat Trend Rating: Stable

Economic Moat Rating

Payment processing of any type is highly scalable, as once a payment platform is established, there is little incremental cost to additional transactions. If viewed through the lens of the acquiring industry, PayPal has material scale, with over $1.2 trillion in annual volume, but falls well short of the volume handled by larger players. However, the acquiring industry contains niches, and within the e-commerce space, PayPal is a clear leader, which we think places a narrow economic moat around its operations. We typically think of a network effect as a very strong source of advantage, and one that often gives rise to a wide moat. In PayPal’s case, though, we think the effect is more mild, as the company is a relatively small piece of the overall electronic payment infrastructure.

Read more about PayPal’s moat rating.

Fair Value Estimate for PayPal Stock

Our $135 fair value estimate equates to 28.6 times our projected 2023 adjusted earnings per share forecast. While growth will likely slow a bit in 2022 as the company works past some headwinds, we think PayPal has a clear path to strong growth over the next few years and that it can continue to generate solid growth over the long haul as it rides the secular shift toward electronic payments generally and e-commerce and mobile payments more specifically. Our projections result in an 14% revenue CAGR over the next five years and 12% over the next 10 years. We expect the company’s strong growth to propel solid margin expansion over time. We project operating margins to hit 23% by 2031, compared with 17% in 2021. We use a cost of equity of 9%.

Read more about PayPal’s fair value estimate.

Risk and Uncertainty

The payment processing industry is evolving, and it is possible that new competition and future disruption could significantly reduce the profitability that PayPal can generate or cut it out altogether. As its revenue is directly tied to revenue at its merchant customers, PayPal is sensitive to macroeconomic conditions. PayPal’s international operations present currency and execution risk. Some governments have shown a preference for local payment processors, which could freeze PayPal out of certain markets. Venmo is a business seeing very high growth but is not yet profitable. The ultimate economics of this business are difficult to predict. Acquisitions could destroy value if the company overpays or fails to effectively integrate these operations. Finally, any company involved in processing payments has potential exposure to breaches in its systems.

Read more about PayPal’s risk and uncertainty.

PayPal Bulls Say

• There is still plenty of runway for growth in electronic payments. Electronic payments only surpassed cash payments on a global basis a couple of years ago.
• The scalable nature of the business should allow PayPal to improve its margins over time.
• PayPal’s long-running experience in online payments is a unique asset that is becoming more valuable as e-commerce becomes a bigger piece of the pie.

PayPal Bears Say

• The separation between online and point-of-sale transactions is blurring, and PayPal may increasingly come into competition with larger companies.
• Alipay and WeChat provide examples of how governments could favor local players, which could shut PayPal out of some emerging-market opportunities.
• Opportunities to monetize Venmo could be limited.

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