PYPL: An attempt to analyse the status quo of PayPal

25 May 2023

Hi all, this is my virgin piece of fundamental analysis for the public, so please bear with me, feel free to dm me for any suggestions or questions :D

A brief intro :
So i guess, anyone who've been following with PayPal (bear or bulls ) are mostly likely either ridden with doubts of whether if PayPal is cheap enough to buy or plagued with uncertainies of whether if PayPal's glory moments are over and doomed for a downfall as we see players like Apple coming into the payment scene or Adyen finding huge growth as a challenger. Different from what we used to see from usual fundamental analysis, where they focus estimating the target's intrinsic value, this piece approaches from a different angle where we focus more on relative comparative, a relatively realist approach to search for what is PayPal's comparative advantage and taken into the account of market sentiment, how low can PayPal go based on historical data. In other words, this analysis is focused on evaluating whether PayPal is shit or not, and how shit the price could go to. I omitted going over the upside case because that's only gonna be realized either there comes an improved outlook for PayPal or market environment changes into a better light, and who the hell doesnt know the upside potential of PayPal lol.... Therefore, this piece perhaps ( and hopefully could ) would provide some clarity or guidance if you are seeking a mean reversion play on PayPal. :D

So! The piece could be broken down into 3 parts:
Part 1: PayPal's competitive advantage analysis (this is the wordy part, its quite narrative, so its agree/disagree kind of content, basically my point of view on PayPal's competitive advantage)
Part 2: Relative financial comparison between PayPal and its peers (this part focuses in providing light on how good/bad is PayPal compared to its peers)
Part 3: Valuation Analysis (This part focuses on the floor price for PayPal in bearish market, and a very very very base case target, although i havent put down the estimated time it will reach the target which is not my style, but generally i make my time estimates based on technical approach and i hate making unsupported presumptions, so i'll probably follow up with another update in the future? )

Frankly i couldnt post pictures in here, without those charts, im sorry if it causes some confusion as yall read this piece, could dm me for the pics and chart

Here it goes: _________________________________________________________________________________________________________________________________________________________

Update view on payment future competitive landscape and Paypal’s competitiveness
Background: At the dawn of credit card economics, merchant acquirers established a foundation of merchants to accept credit cards, while issuers distributed the cards. Merchant acquirers offered two key services: managing merchant accounts and processing payments. Initially, banks assumed this role, but the fragmented nature of offline retail made it cost-prohibitive for them to individually approach each merchant. This gave rise to third-party merchant acquirers who persuaded merchants to accept credit cards, while banks transitioned to a back-end role. Due to its early success in capturing the e-commerce payment market and its substantial user base, PayPal has been able to command higher rates and achieve higher margins than traditional merchant acquirers in the offline retail space. However, as ecommerce became more prominent, we see more challengers entering Paypal’s space.

Theme: Traditional online merchant acquirer TAM faces downward revision, effectively changing the CURRENT investment rationale of merchant acquirer’s value ( meaning : market values significant growth over value, whether this rationale persists depends how long Adyen could keep up its high growth traction)
• With the emergence of challengers such as Adyen, a price war has erupted in the large e-commerce merchant acquiring space, leading to compressed profit margins for companies like PayPal that previously enjoyed high margins. This trend is particularly pronounced among e-commerce platforms with significant GMV, such as eBay and Amazon. The impact on individual SMBs is less pronounced as these merchants tend to prioritize convenience and agility. As payment processing becomes increasingly commoditized, the economics of transaction-based revenue models are being challenged by wholesale payment economics. Adyen’s low pricing strategy in the large e-commerce enterprise space has gained significant traction, leading to a downward revision of traditional online merchant acquirers’ TAM expectations.
• Despite a downward revision of traditional online merchant acquirers’ TAM due to changes in the revenue model for large enterprises, we do not anticipate a corresponding decrease in payment service TAM or merchant discount rates (MDR) from the merchant perspective. For example, when eBay switched from PayPal to Adyen due to Adyen’s lower pricing, the MDR remained unchanged from the merchant perspective, with eBay capturing the largest proportion of the acquirer cut. We expect this trend of role shifting to continue among large e-commerce platforms, with traditional online merchant acquirers being relegated to a back-end role (8-20bps) while online platforms assume the role of acquirer (~100-150bps minus 8-20bps, this gain is reflected in increased operating margins rather than top-line revenue) due to the platforms’ control of GMV traffic and user base. This further underscores the importance of an end-to-end online traffic network in the online payment industry. In the online payment industry, those who control the traffic are increasingly able to capture acquirer revenue.”

• Meanwhile, Apple is emerging as a strong challenger to PayPal in the payment industry due to its suite of payment products and its existing base of 1.5 billion iPhone users (compared to PayPal’s 435 million users). Applying the end-to-end network logic discussed above, we see tremendous potential for Apple in the payment industry. The future role and competitiveness of PayPal remain uncertain. To better understand PayPal’s competitive advantage in terms of its end-to-end network, we have developed a rating matrix that compares PayPal with its two largest potential competitors, Adyen and Apple, in terms of the irreplaceability and sufficiency of their innate services on both the consumer and merchant sides. High scores on both the consumer and merchant sides in terms of irreplaceability or sufficiency indicate stronger bargaining power to command higher take rates or sign exclusive deals with platforms or merchants that exclude competitors respectively

Irreplaceability:

On the consumer side, we assess replaceability by the stickiness of the company’s digital wallet, which is determined by the range and uniqueness of its bounded service and product offerings. Apple scores highest in this regard due to its strong brand and loyal iPhone customer base, which serves as a powerful entry point for internet traffic and online payments. Adyen scores 0 due to its lack of a digital wallet service and thus limited reach on the consumer side. PayPal scores lower than Apple but higher than Adyen because it offers a digital wallet product but lacks a strong anchor like Apple’s iPhone to drive stickiness

On the merchant side, we assess replaceability by the stickiness of a company’s merchant services, which include merchant account services, payment gateway services, processing services, and other value-added services such as fraud/risk analytics and foreign exchange services. These services increase the innate switching cost for merchants considering other payment service providers. Adyen scores highest in this metric due to its ability to provide the widest range of product offerings among the three companies. Adyen offers a full-stack solution by serving as an acquiring bank (due to its bank license), a processor, and a gateway/POS provider, providing great convenience to merchants who would otherwise have to manage these three vendors separately. Apple scores 0 because it does not currently provide merchant services. Acquirers integrate Apple Pay into their omnichannel offerings when serving their merchants, indirectly expanding Apple Pay’s acceptability among retailers. However, Apple Pay does not charge merchants; instead, it profits by charging issuing banks (~0.15%). PayPal scores second in this metric because it relies on other vendors to provide the breadth of products that Adyen offers. PayPal’s merchant account services are enabled through partnerships with JP Morgan and Wells Fargo, and its processing is provided by leveraging Fiserv First Data and Paymentech’s processing network. This results in lower margins for PayPal (due to profit-sharing with multiple parties) and inconvenience for merchants who have more vendors to interact with and manage

Sufficiency:

On the consumer side, sufficiency is assessed by the widespread adoption of digital wallets and their ability to facilitate both online and offline payments. Apple reigns supreme in this regard, with ApplePay being widely accepted across both retail spaces. Paypal comes in second, with a strong online presence but limited offline acceptability. Adyen, on the other hand, scored a 0 due to the absence of a digital wallet

On the business side, sufficiency is assessed by the vendor's ability to provide omnichannel payment services and compatibility with current payment methods, as well as their presence in both online and offline retail spaces. This determines whether a merchant can rely solely on one vendor to process multiple types of payments instead of requiring multiple vendors. Adyen receives the highest score due to their extensive acceptance of digital wallet payment methods, including ApplePay, Paypal, Alipay, Afterpay, and others. Additionally, Adyen boasts a strong presence in the offline retail space through their full-stack solution that enables customers to process both online and offline payments. Paypal scores second due to their lack of presence in offline retail (Paypal iZettle POS lacks traction) and limited digital wallet payment options (unbranded only accepts ApplePay, GooglePay, and SamsungPay besides its own wallet products). Apple scores a 0 due to their lack of merchant services. Even if Apple provided merchant services, they only cover their own iPhone customers, which does not include Android users, which makes their service availability significantly skewered.

In conclusion, while PayPal may not have a significant advantage in any one quadrant compared to its biggest potential challengers, we believe that its competitive advantage and uniqueness lie in the comprehensiveness of its end-to-end network in the payment market. This is supported by the observed relationship between these three players, which raises the question of whether they are symbiotic or competitive in nature

Although Adyen and PayPal are direct competitors in the acquirer field, their relationship is ultimately symbiotic due to PayPal’s presence on the consumer side. Without the acceptance of the world’s largest digital wallet, a solution cannot be considered full-stack. This logic also explains why PayPal accepts Apple Pay among its limited payment method options - Apple’s consumer presence is simply too strong. The symbiotic relationship between Adyen and PayPal can be viewed as one-sided mutualism in the short term, but potentially parasitic in the long term. In the mutual sense, Adyen’s full-stack solution means that every new client it develops can help expand PayPal’s acceptance reach and generate revenue for both parties. However, in a potentially parasitic sense, expanding PayPal’s acceptance reach could further strengthen its end-to-end network core and increase its bargaining power. The competition between Adyen and PayPal is limited to the acquiring space, but Adyen cannot substitute or eliminate PayPal’s presence due to their one-sided symbiotic relationship, as long as PayPal maintains its strong consumer side presence. We do not analyze potential conflicts between Apple and PayPal in the acquiring space because Apple does not currently offer acquiring services

While we have concluded that PayPal is resilient in the face of Adyen’s challenge, the question remains as to how PayPal will fare against Adyen in the acquiring space. Specifically, whether its competitive advantage in comprehensiveness can translate into growth and stronger margins. To determine whether this could be an edge for PayPal, we need to understand what merchants look for when choosing a payment service provider and what strengths a provider needs to have in order to meet those demands


Merchants seek to optimize their bottom line by increasing payment success rates and minimizing costs, including both monetary costs such as MDRs and chargebacks, and efficiency costs associated with managing payment systems

Merchants’ objective of optimizing profits through payment systems can be distilled into three key goals: maximizing coverage, achieving high acceptance rates, and maintaining low fail rates
• Coverage maximization entails the acceptance of a wide range of payment methods, including cards, digital wallets, foreign currency, and even cryptocurrencies, across both offline and online channels. This necessitates a service provider with a robust product offering capable of integrating multiple payment methods into their solution.
• While acceptance and fail rates are generally influenced by factors such as consumer creditworthiness and the network infrastructure between banks, the rise of fintech has enabled companies to facilitate more payments through innovative business models such as BNPL and instant loans, leveraging data to drive their success.

From a cost minimization perspective, merchants have three key objectives: reducing chargebacks, lowering fees, and increasing management efficiency.
• Management efficiency can be enhanced through the use of well-designed SaaS tools and comprehensive service solutions that streamline backend payment operations and allow merchants to focus on their core business objectives. This tests the strength of a provider’s product offerings.
• Transaction fees, determined by acquirers through the setting of MDRs, are subject to ongoing price competition in the payment market. This tests the economics of payment companies and their ability to manage margins as payment processing without value-added services becomes increasingly commoditized.
• Chargebacks, which occur when customers dispute charges and request reversals from issuers, result in lost revenue and additional fees for merchants. High chargeback rates can also hinder a merchant’s ability to access and accept payments from payment networks. While chargebacks due to merchant or customer errors are natural and cannot be alleviated by payment service providers, providers can play a role in mitigating fraud-related chargebacks by leveraging data to identify fraudulent activities such as identity fraud, money laundering, and friendly fraud

To meet merchant demands, service providers must demonstrate strength in three key areas: product offerings, data capabilities, and company economics.
• Achieving strength in product offerings requires investment in R&D headcount and technology.
• Strength in company economics depends on management efficiency, business strategy, and macro factors, necessitating strong management skills to maintain efficient operations and gain a competitive edge.
• Strength in data can be determined by the comprehensiveness of data source and size. The comprehensiveness of a company’s data sources refers to the breadth and depth of the data that it collects and uses. Service providers with more comprehensive data sources can gather a wider range of data which in terms improve transaction success rate and risk management which can translate into better satisfaction from merchant and also access to new markets such as BNPL or instant loan which requires high risk management. Since data is a unique asset that varies from one company to another, competitive differentiation in this area is heterogeneous in nature. This means that companies can differentiate themselves from their competitors based on the quality and comprehensiveness of their data.
• While data’s competitive advantage is heterogeneous in nature, products and economics may be more homogeneous within an industry. This means that companies may have similar products and business models, making it difficult to differentiate themselves from their competitors. In such cases, data can be a key differentiating factor that sets a company apart and drives its success
• In conclusion, data represents a distinct competitive advantage that companies can achieve over their competitors, while other strengths may be more indistinct due to their homogeneous nature. PayPal, with its unique end-to-end network, has strong potential to form a heterogeneous advantage over its peers
o Adyen’s lack of a consumer-facing product such as a digital wallet limits its ability to gather holistic data on consumer behavior. This hinders its ability to optimize transaction success rates and access market opportunities that require risk management
o Apple’s data comprehensiveness is inherently limited by its inability to capture data from the Android user base. While it may have access to more comprehensive data within its own user cohort, this sample is skewed and prone to bias if used to provide financial services to the general public
• However, Paypal has not been quite successful in strengthening its potential or rather defending its potential position as we see the user growth has gone stagnant and even experienced shrinkage in in Q1 20203 and initiatives such as adding features to create super app which reinforces consumer side strength, or strategic acquisition that could expands network strength kept getting constantly delayed (still no super app feature) or lagging behind other players (iZettle lags behind Square and Clover from Fiserv, Braintree experience smaller growth compared to Adyen in the same field even though Braintree has smaller volume, Xoom does not get traction at all in its international space and currently looking for buyers for this business) , all the while challengers from both sides nibble at PayPal business. We seriously blame this predicament on mismanagement. To determine how good/bad and the position of paypal is currently in, we compared Paypal’s financial with its peers.

Peer Analysis (In our comps group, we included incumbents such as FISV, FIS, GPN and challenger such as ADYEN, we omitted SQ due to too much noise effect from its btc selling business. Comparison done across GAAP)

Financial perspective summing up 2022 performance:
• PayPal's total payment volume (TPV) growth was slightly below average compared to other companies in the market, excluding Adyen which had a significant growth. PayPal's TPV grew by 9.07%, while incumbents grew by an average of 10.46%. However, PayPal's revenue growth was on par with the average incumbent growth, showing almost double growth compared to companies like GPN and FIS, but slightly slower than FISV. Specifically, PayPal's revenue grew by 8.46%, while incumbents grew by 6.76% and FISV grew by 9.31%
o Takeaway: PayPal's TPV growth is slightly below the average incumbents' growth, with incumbents such as FISV still experiencing higher growth compared to PayPal. However, even though its peers outperform PayPal in terms of TPV growth, this doesn't necessarily translate into significant revenue growth for them, except for Adyen. This could mean that the incremental TPV was achieved with cheaper pricing models or take rates. Overall, PayPal's narrative remains relatively rigid in terms of acquiring space in its end-to-end network, as it continues to experience healthy growth both in terms of TPV and revenue, despite the disadvantages. PayPal's disadvantage yet also its strength lies in its high take rate, and it remains to be seen if cheaper pricing will convince merchants to switch away from PayPal. At present, we don't see this as a widespread scenario yet.

• From gross operation perspective, PayPal continues to have the highest take rate and net take rate (excluding transaction-related costs) among its peers, with its take rate at 2.02% compared to the average of 0.97% and net take rate at 1.01% compared to the average of 0.4%. Although PayPal's take rate has slightly decreased, the decrease is relatively small compared to other incumbents, with a delta of -0.02% compared to FISV's -0.07% and GPN's -0.06%. However, PayPal's net take rate delta was slightly lower than its peers at -0.03% compared to the average of -0.01%, mainly due to increased transaction costs from a shift in product mix. In terms of gross margin, PayPal achieved a lower gross margin compared to its incumbent peers, but a significantly higher margin than Adyen. It is worth noting that only PayPal and Adyen experienced a decrease in gross margin, while incumbents saw an increase in gross margin
o Takeaway: Here reverifies Paypal’s pricing power as PayPal maintains its position as having the highest take rate and net take rate among its peers. Although PayPal's take rate has slightly decreased, the decrease is relatively small compared to other incumbents, it is to be noted the significancy and relativeness of the decrease in take rate compared to its existing take rate, whereas Paypal has the highest take rate with the lowest decrease in take rate versus its peers with comparably lot lower existing take rate but took the action to cut their rates higher than Paypal. However, gross margin wise (which reflects net take rate), Paypal seemed to be in an disadvantage as it leverages third party infrastructure to power its business thus subject to changes in transaction cost whereas incumbents could use their existing infrastructure to offset certain costs, therefore we see decrease in gross margin for Paypal while increase for incumbents. Adyen although had their own infrastructure which naturally meant they should have similar margin as incumbents, but they shared their bigger cut to platforms and thus had significantly lower margins, question is whether it’s possible for Adyen to recover that part of lost margin or whether they can create new source of margin improvement in the future.

• From an operations perspective, PayPal's operating margin is above the industry average, but not quite as high as FISV's. PayPal's operating margin is at 13.94%, compared to the industry average of 11.43% (using FIS's 2021 EBIT margin due to an outlier event that caused a plummet in their 2022 margin), and FISV's 21.09%. While PayPal's operating margin experienced a decrease, the same occurred with industry peers, except for FISV, with a delta EBIT margin of -2.86% compared to GPN's -8.8%, Adyen's -2.5%, and FISV's +6.99%. The net margin tells a similar story to EBIT margin, where PayPal performed better than its peers, except for FISV
o Takeaway: Paypal generally has better profitability than its peers but trails behind FISV. However since the OPEX mainly consists of headcounts, for PYPL to reach operation efficiency similar to FISV is a seeable possibility (management mentioned implementing AI to further streamline its operation and cut cost in Q1 2023)

• Summarizing 2022 and the narrative for Paypal: Paypal performance certainly wasn’t satisfying, yet doesn’t signifies downfall yet. Given with increase competition and the ongoing price war, Paypal still achieved on par growth without sacrificing much profitability (in terms of its take rate) compared to its peers. Yet given its solidness, the focus of narrative and also the paradox has been how well Paypal can defend against its competitor and securing its “land” instead of focusing on the growth outlook of Paypal, and that’s bad as we’ve already put Paypal on the loser perspective yet evidently understandable since we couldn’t see any healthy growth points in near future from Paypal nor did management shared any solid guidance in growth other than cutting OPEX. We believe the turning point would come when Paypal stops playing the defensive war and goes on the offensive side as we either see improve topline growth or solid growth look from management (which probably would come after new CEO is on board).
o But in ranking perspective, we believe PYPL currently ranks below FISV due to FISV generally achieved better topline growth and has healthier operation metrics; ranks below Adyen due to significant disparity in growth; but ranks higher than FIS and GPN due to better growth and healthier operation metrics

After concluding 2022 performance, we look at 2023 Q1 and see how things have changed for Paypal. In this comparison, we omitted Adyen due to lack of quarterly data (Adyen released earning semi-annually) and we omitted GPN and FIS due to we already concluded PYPL superiority over them and therefore does not provide much upside guidance (mean-reversion wise).

Financial perspective summing up 2023 Q1 performance:
• Since FISV does not disclose TPV data, making it challenging to determine its precise growth in this area. However, assuming FISV's take rate remained at 1.2% (indicating no change in take rate) or 1.13% (signifying a cut in take rate similar to the end of 2022), it could mean FISV experienced YoY growth in TPV of around 9.88% - 16.7%, compared to PayPal's 9.76% growth (orange area in below chart reflects incremental TPV if take rate was 1.13%). In regards to revenue, PayPal's revenue growth was slightly lower than FISV's, with PayPal's revenue growth at 8.59% versus FISV's 9.88%.
o Takeaway: Fiserv remains outperforming Paypal in topline growth. And we’ve yet to see PYPL has achieved better topline growth compared to historic self. Topline growth outlook remains lackluster


• In regards to gross operation, we omit FISV and do a self-comparative on Paypal due to missing data on FISV’s TPV. Paypal take rate decreased by 0.02% compared to 2022Q1, resulting 1.99% take rate, and 0.05% decrease at net take rate, resulting 0.94% net take rate. In terms of gross margin, FISV outperformed Paypal, achieving 55.9% margin with a 3.56% incremental increase compared to 2022Q1 while Paypal achieved 47.09% margin with a 2.05% decremental decrease.
o Takeaway: Very lackluster for Paypal. The unbranded segment is impacting Paypal’s margin quite significantly now. However, management in 2023 Q1 mentioned that unbranded segment was a “strategic imperative” instead of a pure revenue pump move. Management believed they could expand margin in the future (effects happening around 2024) with value added services.



• In terms of operational margin, Paypal sees both greater incremental increase in EBIT and net margin compared to FISV (delta ebit margin 3.22% vs 0.14%, delta net margin 3.44% vs -3.79%). However, Paypal’s margin still trails behind FISV ( ebit margin 14.9% vs 20.59%, net margin 11.29% vs 12.38%)
o Takeaway: It’s certainly a relief to see certain signs of betterment. Paypal achieved the margin improvement through cutting headcounts. It’s also possible to view FISV’s EBIT margin as a guidance as how much more Paypal could improve internally and offset the decremental effects on gross margin side before affecting its net profitability


• Summarizing 2023 Q1 performance and relating it back to 2022, we certainly did see profitability improvements, however that’s achieved through internal and a solid topline growth outlook still remains ambiguous, data-wise or management’s comment-wise. And therefore Paypal still ranks below FISV, which explains the ratio difference among PYPL and its peers: ADYEN had very overvalued forward PE due to its explosive growth ~63.4x, with FISV coming in second with relatively lot reasonable ratio ~16.2x , and PYPL placing third with ~12.3x and GPN+FIS placing behind with ratio under 10x. If we compared Paypal with peers including the good players, Paypal definitely felt undervalued which is below the industry mean of 22.1x, however the perspective changes if we only compare with the bad players and Paypal would have been seen not much undervalued as it seemed to be

• Therefore, narrative becomes very important. Do we put Paypal on the losing side or the winner side? We’ve discussed about the fundamental and intrinsic value of end to end network which gave a potential optimistic outlook, yet the financials depicted a slight pessimistic or vague outlook. We believe as growth norms out, market ultimately rewards long term profitability and efficiency, which are companies with higher profit efficiency. Short term growth gains can be gained with short-term strategies such as undercutting tactics or increase underlying opex, but those can be self-harming as it doesn’t benefit profitability and could provide a lag-hindrance on the long-term. Therefore, its important to look at how efficient are companies generating profit as well. For that, we look at ROIC, return on invested capital.

Profit efficiency: (since Adyen only provides semi-annual data, Adyen’s data is in semi annual while others are in quarterly)
• ROIC analyses the return generated by investing capital in operations. When comparing PayPal's ROIC to incumbents in the payments industry, we can see that PayPal has had a clear lead, although it is behind Adyen. It's worth noting that PayPal's ROIC has been on an upward trend, increasing over the past several quarters, while Adyen's ROIC has been on a downward trend. Additionally, we should consider the size difference between the invested capital of PayPal and Adyen, as PayPal's invested capital is more than 10 times that of Adyen. This can impact the comparison of their ROIC since a larger capital base can be more challenging to efficiently invest and generate high returns. PayPal's ability to generate profit more efficiently than its peers is evident, but to determine whether PayPal's ROIC is truly generating value for its shareholders, we must consider the cost of capital. By examining ROIC-WACC (ROIC minus weighted average cost of capital), we can determine if the return generated by PayPal's invested capital is sufficient to cover its inherent cost, and thus whether it is truly generating value for its shareholders.


(omitted FIS data due to producing too much noise on chart)

• When we compare a company's ROIC to its WACC, we can determine whether the company is generating value for its shareholders with their invested capital. The WACC represents the average cost of capital. By comparing ROIC to WACC, we can determine if the return generated by the company's investments is sufficient to cover its inherent cost and whether it is truly generating value for shareholders. In the case of PayPal, it still has a clear lead over its peers, and even surpassed Adyen when we compare PayPal's 2023Q1 data with Adyen's 2022H2. On the other hand, the incumbents' ROIC-WACC is mostly negative, which means that the return on ROIC is not generating enough value for their shareholders. Furthermore, it's worth noting that PayPal's ROIC-WACC is on an upward trend, while Adyen's is on a quick downward trend. To gain a clearer picture of how these companies are using their capital to drive growth, we could analyze their CapEx and OpEx. This would provide insights into how efficiently the company is investing in its operations, and whether it is focusing on growth opportunities that generate high returns and create value for shareholders.




• By analyzing the CapEx and OpEx of PayPal and its competitors, we can see that PayPal has been cutting its expenses while its peers have been spending aggressively. However, this aggressive spending has not translated into positive returns on invested capital. Instead, the growth seen by PayPal's peers has come at the expense of their ROIC. This can be attributed to declining profitability due to an ongoing price war in the industry. As a result, the ROIC or ROIC-WACC has been sacrificed, with the expenses invested not generating enough gains or profits to cover the cost of capital. This can lead to a loss of shareholder confidence when the company struggles to improve its bottom line while maintaining growth. Looking back at the topline growth, it is now clear that the growth experienced by PayPal's peers was not sustainable and has negatively impacted their ROIC-WACC. However, PayPal's more conservative approach to expenses has allowed it to maintain a stronger ROIC-WACC, even if that has come at the expense of topline growth. On a different narrative, one could say if Paypal had chosen to expand as aggressive as its peers in the expenditures, the topline outlook wouldn’t have looked as bleak relative to others.



• PayPal's clear lead in profit efficiency compared to its peers is certainly an advantage, we now had more clarity on the healthiness of its business, but it may not necessarily translate into a higher valuation in the stock market in short term, as PayPal was priced with a lower forward P/E ratio compared to companies like Fiserv. Even though the ultimate long term metric we look at was profitability, short-term-wise, the market may put different weight on other factors, such as growth prospects, risks, market conditions and sentiments, which can deviate the stock's valuation away from its reasonable value. To answer this, we conduct a valuation analysis to determine the relative fair price for PayPal and whether if there was a misprice in market.


Valuation analysis:
• We first compare their forward PE with their revenue year-over-year growth and profit margin on a yearly basis. Our findings suggest that, in general, the market places greater emphasis on topline growth rather than bottomline improvements. This trend is particularly evident since 2018, with a stronger correlation observed between forward PE and topline growth compared to bottomline improvement. However, this was not always the case, as we observe a stronger correlation between PE and bottomline prior to 2018 for FISV, GPN, and FIS. The reasons for this shift in market focus in the midst of a value over growth market sentiment are complex, but one possible explanation is the exceptional short-term growth of Adyen in a mature market. This shift towards growth over value sentiment may continue as long as Adyen sustains this high level of growth, or until bottomline concerns erode market confidence
• Now that we know market values growth over value. We can then compare historic topline growth with its respective forward PE, to draw a sense of corresponding level of forward PE towards corresponding topline growth. Based on the consensus from Bloomberg, Paypal’s revenue growth is expected to be 7.44% in 2023 with a net margin of 12.91%. Based on this assumption, we look back at the incumbents historic forward PE with similar growth and margins
o FISV: between 2014-2017, the net margin was around 13% and the revenue growth was evidently below 5%, the forward PE at that time was comfortably above 20x+ (circled in red on FISV chart)
o GPN: between 2012-2016, topline growth was on similar level and net margin was slightly lower (around 9% level), the forward PE at the time was within around 13-22x range (circled in red on GPN chart)
o FIS: between 2013-2015 and 2017-2018, the topline growth and net margin were both worst off compared to PayPal’s expectations, yet the forward PE at the time was around 20x level
• And therefore, its fair to say, the current level expectation on PayPal’s topline growth and net margin is due for a fair 15-20x forward PE ratio, if we assume market condition and environment to be constant (which could bring us to a price range around 84.3 to 112). However the assumption was evidently unrealistic, as the above assumption on forward PE only sounds fair in normal circumstances but we are not in normal times as market predicts we have 60% heading towards recession, rumoring a similar fate in the 1970s, and so we look at how market could adjust in those turbulent times.


• To analyze a bear market scenario and relate it back to PayPal, we have two propositions of angles to analyze it. First we look at how the market retracts in 1970s, due to lack of data/targets in payment service at those times, we take the SPX index as the benchmark. The other angle is to look at how payment service industry performed in bear market scenario where we look at 2000s and 2008
o According to the data on multpl.com/s-p-500-pe-ratio , between 1970-1980, the ATH PE (not forward) for SPX was at 18.12x (1973) and the ATL PE was at 7.39 (1980), after 1980, the market started to trend bk up to the ATH level in about 12 years. The adjustment was around -59%. As we do a beta test on PYPL with SPX, beta- was 1.228 (which is the beta effect when market is on a downtrend), the raw beta was 1.325 (which is the beta effect based on historic data including both up and down trend), we estimate the adjustment on PYPL from ATH to ATL on the PE will be around -73% to -78%. In that case, the ATH for PYPL happened at 2020, start of the pandemic which is 108.48x PE (for apple to apple purpose, the chart is in yearly due to given SPX PE data was in yearly basis as well), therefore we estimate the trough point for PE to be around 23.86 - 29.3x, which currently is at 25.1x according to Bloomberg. So its quite confident to say we are close to historic support level. (If we consider the worst case scenario, which is 23.86x PE, the share price would be 58.9)


o On a different angle, we look at how the incumbents performed during the 2000s and 2008, we plotted the red line signaling the ATH forward PE and pink line signaling the ATL forward PE around those periods:
FISV: Forward PE adjusted from close to 40x to around 10x level, although it is to be noted that this adjustment covered 2 bearish moments (~-75%)
FIS: Forward PE adjusted from around 16.5x to 9x in 2000s (~- 45%)
GPN: Forward PE adjusted from 32x to 13.5x in 2008s (~-57.8%)
We do a beta test and with S&P 500 transaction & payment processing service custom index and we see the beta- is 1.095, the raw beta is 1.115. We predict the range of adjustment for PYPL forward PE from ATH since pandemic (which is around 61.7x) could be ~-60.25% to -83.63%, the lowest trough point for forward pe would be 10.1x, indicating a share price of 56.78.


• To summarize from above findings, the safe to buy or the floor price range would be at range of 56-59, and assuming topline growth and net margin does not deviate too far below from expectation, the mean reversion play would be aiming for a base case target of 84.3 - 112, when market adjust back to norm. (suggesting a covered call play, since its more likely a flat market, or u can sell puts at 50s or even at 40s , 40s is based on historic volume profile )