PayPal (NASDAQ:PYPL) stock is down over 16% YTD. Its revenue has consistently been growing in the past 5 years, from $15.45 billion in 2018 to $27.51 billion in 2022, representing a 12.24% 5-YR CAGR. From looking at its income statement, two problems emerge.
There has been a slowdown in revenue growth. Revenue growth was 21% in FY2020 and 18% in FY2021. In FY2022, the pace slowed to 8% and hasn’t increased.
The main reasons were the end of the pandemic and rising fintech competition. E-commerce transactions declined post-pandemic, with some customers reverting to cash.
Gross margins have been declining, causing net income to decrease. From FY2021 to FY 2022, gross margins declined from 47% to 42%. This was due to increased credit losses, as well as PayPal’s unbranded checkout (Braintree), becoming a larger share of the revenue.
A Closer Look at PYPL Stock
Overall, PayPal’s biggest problem is that many no longer consider it a “growth stock” because of its size and slowing growth. However, the market has oversold PYPL stock to where it offers some significant value.
It trades at a forward P/E ratio of only 10.95x, much lower than over 20x by the S&P 500 index. This is true even as PayPal’s earnings have been growing at a much quicker pace. Compared to most of its competitors, PayPal is also trading at a lower P/E despite being a clear market leader.
Two things in the near term could pick up revenue growth and improve earnings. First, inflation is slowing down and could help pick up e-commerce activity.
Sales slowed down in 2022 but are projected to normalize and continue growing because a recession is now unlikely. In addition, the cutting of interest rates will help tech stocks such as PayPal recover in their valuations.
No matter the macro environment, PayPal has been resilient, as total payment volume growth accelerated to 15% YoY to $388 billion, and the amount of payment transactions grew at 11% YoY, which is an increase from FY2022.
The Bottom Line
Finally, PayPal’s new CEO Alex Chriss is enacting a plan to cut operating expenses. In the last few years, due to the company’s many acquisitions and explosive growth from the pandemic, PayPal’s cost structure has lots of bloat that can be reduced to improve earnings.
In Q3 2023, PayPal has already increased operating leverage (the change in operating income divided by the change in revenue) by 5.4%.
Overall, PayPal’s fundamental business looks solid. Macroeconomic developments and internal cost-cutting will help PayPal recover in 2024.
Even if they don’t, there is now a good margin of error in its valuation, making it a safer investment even if the thesis is wrong. I believe PayPal represents a good risk-to-reward at its current prices.
On the date of publication, Michael Que did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
The researchers contributing to this article did not hold (either directly or indirectly) any positions in the securities mentioned in this article.