PayPal Stock: Valuation Hits All-Time Low (NASDAQ:PYPL)

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When we last covered PayPal (NASDAQ:PYPL) we were not shy about declaring where we thought the stock was headed.

Competition is heating up and margin crush is only halfway done. Valuation is so far above what we would pay that we are taking a hard pass to even sell cash secured puts on this one. That said, the stock is far below the 50 and 200-day moving averages, so a pause in the downtrend almost seems certain. We think it remains range bound between $75 and $100 for some time and then we should expect to see new lows as the year progresses.

Source: If It Falls Another 50%, It Might Become A Value Stock

The stock is down another 20% from there, underperforming the S&P 500 (SPY) by more than 8%. It also breached the low end of the range we had suggested. We take a look at the bull thesis today and tell you why we can see a bounce next in this stock.

Don’t Confuse A Bull Market With Brains

Since our primary warnings on PYPL, we have always been uncomfortable with the valuation. If you look at the return profile for this stock as well, and we went back to the peak price for this, you can see how much it was driven by valuation expansion.

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Data by YCharts

Sales were up just 159% since 2015, while the stock had gone parabolic and was up 713%. What the market gives, especially in the form of quick undeserved gains, it almost always takes away as well. Fast forward to today and we see that revenue growth since 2015 is now almost double that of the stock price gain.

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Data by YCharts

That has led the price-to-sales ratio to finally start looking like something investors can buy from a longer-term standpoint. At 3.0X 2023 sales, your odds of losing money are rapidly diminishing.

Chart
Data by YCharts

Outlook

In this bizarre world where we are seeing 16X and 3X price to sales, within 2 years of each other, one has to decipher the profit rate possible. After all, sales are useless if they cannot be effectively converted into free cash flow. In this arena, analysts have been and still are, hopelessly lost. The estimates for 2022 were so outlandish, that every single analyst had recently downgraded earnings estimates.

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Seeking Alpha

What is equally bizarre here, is the downgrade of future years. EPS estimates are falling by about the same amount and the thinking is that PYPL will get back to 20% plus EPS growth rates.

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Seeking Alpha

We give that a 0% probability.

These estimates are rendered even more out of touch with reality by the fact that their estimates for revenue growth are far under that for earnings growth. Analysts expect margin expansion.

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Seeking Alpha

We will note here that in 2022 revenues should be up 11% and profits should be down 15%. Such trends never reverse on a dime. In fact, with more financial technology companies coming for PYPL, we expect profit margins to keep dropping. So our own numbers are actually lower than the lowest ones on the street.

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Yahoo Finance

We think PYPL won’t hit $4.00 in earnings in either 2022 or 2023.

Why We Are (Slightly) Bullish

Analyst estimates aside, PYPL offers a very good chance of delivering 5-7% annual returns from this point. Of course, for investors who had got used to 5-7% returns a month during the final bubble mania stage, this might come as a rude shock. Our rationale here is based on earnings stabilizing next year and then growing very slowly as everyone competes for the same pie. We still think PYPL’s moat holds up, but revenue growth will be shallow and earnings will grow even less. But what makes us most bullish here is the options setup that far exceeds our return prospects. We are looking at the June 2023 options below and those are almost exactly 1 year out.

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June 2023 Options (Seeking Alpha)

Rather than buy a stock where the return profile is 5-7% annual returns for the long run, we can get a 22.29% annualized return, even if the stock drops 5% from here.

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Author’s App

That is quite an attractive setup, relative to our opinion of the return prospects.

Verdict

PYPL has taken the “buy because it is going up” speculators to the cleaners. The multiple has compressed and we are about 80% done with that compression. The ultimate irony will be if PYPL does hit $60 per share in 2022 (See, What Tops At 16X Sales Will Bottom At 16X Earnings).

Investors need to throw out the past growth which is not coming back. They also need to throw out the past multiple which is never ever coming back. But as part of a diversified portfolio where you are aiming to get market beating returns, a defensive allocation with options might make sense for the conservative investor.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

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