Paypal Holdings Inc (PYPL) didn’t do much for investors after its spin off from eBay (EBAY), but 2016 should be a year when PYPL stock starts to outperform.
For one thing, it’s the right type of stock at the right time. Rising rates, sluggish economic growth, a strong dollar and low oil prices have investors favoring growth stocks over value stocks.
A large-cap tech name with outsized earnings potential like PYPL stock should be popular in such an environment.
Militating against that is PayPal management has to do a better job of managing expectations, and convincing Wall Street that its high-volume (and less profitable) strategy is the way to go.
PayPal stock was shellacked the first time it reported results as an independent company. The company missed the Street’s revenue forecast — albeit just barely. Revenue came to $2.26 billion vs. an estimate of $2.27 billion, according to a survey by Thomson Reuters.
The hammering was probably overdone. Plenty of companies get a pass on top lines coming up short of expectations. Besides, the bottom line was not a concern. Indeed, earnings beat analysts average forecast by 2 cents a share.
PYPL Concerns Are Overblown
What freaked out the market was that PYPL is becoming less profitable at a faster-than-expected rate. In the most recent period, the payment company’s take rate — or the piece of every transaction it gets to keep — dropped to 3.24% from 3.39%.
But this decrease is by design. PYPL is focusing on relationships with big game like retailer Macy’s (M) and ride-sharing startup Uber, which are able to negotiate lower fees because of the volume they bring to the table. Just because mobile payments company Square (SQ) is losing money on its Starbucks (SBUX) doesn’t mean PYPL will in its own dealings with the biggest retailers.
PYPL is focusing on volume, and if it has to forgo some margin to get that, so be it. The success of PayPal Holdings and PYPL stock ultimately rests with capturing new users and getting them to use the service more often.
PayPal hasn’t yet recovered from the beating it took post earnings. Shares are off 8% since they closed at $39.35 in their first trading day on the Nasdaq. You’d think the risk in PayPal’s take rate has to be at least partly discounted in the stock by now.
At the same time, PYPL stock has, in fact, showed signs of upside momentum. It snapped back strongly from its lowest levels in September. PYPL fell to a low of $30, about 30% off its highs as an independent company, but has jumped more than 20% since then even in the face of mixed earnings.
Tech names and growth stocks should be in favor in 2o16, and PYPL checks both of those boxes. Once the market realizes that the sky is not falling with the take rate, sentiment will improve and PYPL’s price-to-earnings multiple will expand.
That makes PYPL a buy for the new year.
As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.
