Growth worries have put the brakes on PayPal’s exceptional share price progress since the summer, but we believe that a major cloud has been lifted recently that could spark a recovery.

San Jose-based PayPal is probably the most familiar online payments platform to readers. It was the first digital payment company of scale and remains the world’s dominant digital wallet provider with more than 30 million online merchants signed up, at least twice that of Facebook, now called Meta.

But after missing third quarter revenue forecasts and giving underwhelming fourth quarter to 31 December 2021 and 2022 guidance, hard growth questions are now getting asked and many investors have been selling. PayPal reported revenue of $6.18 billion versus $6.23 billion expected. Earnings per share came in at $1.11, after adjustments, compared to $1.07 forecast by analysts.

Shares in PayPal fell 12% in the days following the announcement on 8 November and out of the top 10 stakes of long-time fan Blue Whale Growth Fund (BD6PG78). It now has its lowest ever PayPal allocation at less than 2% of its £1.1 billion assets, confirmed manager Stephen Yiu.

‘We are reviewing our position,’ he told Shares in the wake of the announcement.

PayPal does remain among Fundsmith Equity’s (B41YBW7) top 10 holdings, as of 12 November 2021.

SOCIAL MEDIA SMOG

One dark cloud that has hovered over PayPal has been speculation that the payments company was mulling spending up to $45 billion to buy social media platform Pinterest. ‘I can see why it would do it,’ said Yiu, but multi-billion dollar acquisitions is not what Blue Whale signed up for. ‘The game has changed,’ the fund manager said.

Blue Whale was among many sceptical investors that were left cold by an expensive purchase of Pinterest. PayPal shares fell 11.5% in three days after the possible deal surfaced, a sign that investors doubted its wisdom.

PayPal was said to have seen Pinterest as a unique opportunity to connect with customers sooner in the shopping process, but because the two companies hadn’t nailed down a deal when the story leaked in October, it left the payments company in the awkward position of not being able to explain its rationale for the acquisition to shareholders.

The question of rationale is now redundant after PayPal said in a subsequent statement that it was ‘not pursuing an acquisition of Pinterest at this time’.

Alternative acquisitions could emerge in time but for now it leaves PayPal to concentrate on its organic growth opportunities. On this front there was good news in the third quarter update from Venmo. It is another PayPal payments platform that was targeted at millennials in the mobile and social media space, one used to seed the next generation of PayPal users.

It looks like Amazon also wants to use Venmo to attract younger shoppers after the pair struck an agreement that allows Amazon shoppers to check out using the payments app from 2022. ‘This is obviously a very significant effort in our Venmo monetisation efforts,’ PayPal chief executive Dan Schulman said of the agreement.

BREAKING NEW PAYMENTS GROUND

This is landmark stuff, according to Stephen Yiu. ‘Amazon has never done payment partnerships - it has always required credit and debit cards or its own Amazon Pay app,’ the Blue Whale manager said.

Venmo has more than 80 million users in the US.

The Venmo app deal with Amazon comes as PayPal prepares for an eBay-less future. Six years after the companies split apart, eBay is in the process of transitioning sellers off PayPal and onto its own payment system. PayPal said volume on eBay marketplaces dropped 45% in the quarter and now represents less than 4% of revenue.

PayPal remains highly ambitious. It had 416 million users in total at the end of September this year and is aiming to almost double that base to 750 million by 2025 or 2026. Deeper expansion in established US and European markets will be important, but the big growth drivers remain China and India.

That’s a big ask, believes Blue Whale’s Stephen Yiu, and potentially means adding millions of consumers that will be of lower value to PayPal. The implications of this for the company’s rough 21% net profit margins forecast for the current year remains unclear, but it is another reason to pause for thought, in the fund manager’s eyes.

Yet having fallen from a record $308.53 in July 2021 to the current $208.30, we believe the share price may be over-egging the doubts and not giving fair credit to PayPal’s ongoing opportunities.

Consensus forecasts call for earnings growth of 16% next year before a return to the mid-20s in 2023, implying $5.40 earnings per share and $6.81 from the $4.61 anticipated for the full year 2021, for a 2022 price to earnings multiple of 38, falling to 30.5 the year after.

Disclaimer: The author Steven Frazer owns shares in Blue Whale Growth Fund and Fundsmith Equity

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