Cramer's Investing Club: PayPal's future prospects make the banged-up stock a buy

Published Wed, Feb 2 20223:49 PM ESTUpdated Wed, Feb 2 20224:36 PM EST

There's no sugar coating it — the PayPal (PYPL) trading action following Tuesday night's earnings release was downright ugly. With an eBay unwind headwind that has lasted far longer than expected and PayPal management suspending longer-term active accounts guidance while being seemingly unable to correctly forecast near-term dynamics, credibility is on the line. While action like we are seeing Wednesday — down more than 24% to roughly $132 per share — can cause even the most dispassionate investors to act emotionally, we want to check that emotion at the door and provide a more constructive view. To be clear, this is not meant to be a defense of the quarter or management's commentary — but rather, with everyone well aware of what has and can go wrong, we want to take a moment to think about what they may be overlooking and what moves management can still make to get back on track. Quality over quantity Starting with the 2025 active accounts target, while the removal of this target is certainly disappointing, perhaps management isn't wrong to be rethinking their approach. Take a look at the online sports betting space. Wynn Resorts (also a Club stock and reporting earnings after the bell Wednesday) pivoted its strategy in the industry, stating the cost of acquisition that companies are paying in an effort to grab market share is simply not justifiable based on their calculation of the long term value of an acquired customer. That determination means the upfront cost simply isn't warranted based on the potential longer-term returns. That dynamic has resulted from the incredible competition being seen in the online sportsbook market. A similar level of competition can be called out in the fintech space with public and private companies including (but not limited to) names like Block , formerly Square, Affirm , Sofi , Payoneer , Adyen, Stripe, Klarna, traditional banks investing in-app offerings and mega cap tech names like Apple and Alphabet pushing into the market and competing for new accounts. Given this dynamic, it stands to reason that simply adding users, no matter the cost, may not be the best move from a long-term profitability standpoint. After all, what good is another 100 million accounts if you can't profit off them? Instead, with all this competition out there, perhaps management is right to be more focused on increasing engagement with the current base and growing average revenue per user (ARPU), rather than driving account growth at all costs. Put another way, in an environment characterized by intense promotional activity quality over quantity may be the best train of thought going forward. PayPal supplementing the disclosure of net new actives with the addition of monthly active unique users and APRU metrics should help explain this story. So, with engagement now being the focus, what can management do to help drive this and increase ARPU as a result? The obvious move is to increase features on the new app. While we have seen features added in recent months, including bill pay and online shopping built right in thanks to new partnerships with large online marketplaces (like Amazon , which represents ~40% of the U.S. ecommerce market and will offer pay with Venmo later this year), there are still more on the way including a savings account and plans to introduce an equity trading platform (users can already trade crypto on the app). In fact, on the call management noted that only about 50% of the base is currently on the new app and that when customers on the app discover new services, the average revenue per active increases by 25%, indicating that increased engagement does indeed lead to increased monetization. So, at its core while eBay is masking it right now, the new focus is bearing fruit in the form of increased monetization. That said, outside of building new services internally — which we do believe is the correct long-term strategy with the benefits becoming more evident once we finally get the eBay headwind behind us and reported growth rates are able to rebound to the 20% range — a few strategic acquisitions could also help with engagement and monetization efforts. Thoughts on acquisition targets With an equity platform being an obvious addition to the platform and shares of Robinhood trading near all-time lows, it could prove an interesting target for PayPal. That said, given it would likely soak up the equivalent of all of its cash, PayPal may be better off building it out internally. Furthermore, equity trading platforms are not exactly unique and there are many options for users who want to trade stocks or options, or get the latest price quotes. So, while it may help engagement, it does little to differentiate the platform other than making it a one stop shop for one's financial needs — though even then, many are looking to do the same. With that in mind, another platform that could fit nicely into the new PayPayl app and likely increase engagement due to the unique nature of its offerings would be Rally, a privately held, alternative investment platform. Rally offers intraday trading similar to the stock market — but rather than shares of public companies, users trade shares of everything from rare wine, to cars, video games, comic books, fashion accessories, sports memorabilia, historical documents and more. Given that these items are all unique to the platform (after all, how many places do you know of that will sell you shares in a ~$200,000 triceratops skull or ~$500,000 Apple-1 computer signed by Steve Wozniak), users are forced to engage with the platform if they want price updates — and as we noted previously, engagement is the key to monetization. Another target could be the sneaker trading platform StockX, which is rumored to be in talks for an IPO later this year and was valued around at ~$3.8 billion as of April 2021. Similar to our view on Rally, StockX offers a more unique trading experience than something like an equity platform and as a result could help to differentiate PayPal from the likes of SoFi or Block's Cash App. The caveat to both of these ideas (Rally and StockX) is that while they would differentiate the platform, it would also shake up the business model — something that may not be viewed positively by investors given the current concerns with management's execution. In the case of StockX, PayPal would need to take on the responsibility of authenticating items — in the case of Rally, they would be responsible for appraising alternative assets, purchasing them and maintaining them until an exit event. Where we stand Ultimately, this is a difficult period for the company and while we can toss around ideas that may help improve PayPal's super app ambitions, what it comes down to is execution and management reinstalling investor confidence in their ability to navigate this difficult environment. The stock remains in the penalty box, and the upcoming print will certainly be make or break for management's credibility. That said, at the end of the day, PayPal remains an industry leader with the most widely accepted digital wallet in the world, new services — which are proven to increase ARPU — are on the way and there remains a large runway ahead to monetize Venmo, where management expects to realize over 50% revenue growth in FY2022 and eventually launch overseas. This is not a failed business model. Tuesday night was a full reset of expectations after a Covid pandemic induced pull forward of activity. At sub-30x forward earnings with an ex-eBay growth profile of just over 20% annually and the eBay headwind expected to be behind us as we enter the second half of the year (though we acknowledge that that is very much a "show me" dynamic given the poor guidance in here in recent quarters), we believe that current levels are baking in peak pessimism and not ascribing enough value to the longer-term opportunity as management pivots away from user growth at all costs and works to increase the quality and monetization of PayPal's user base. With all that, we want to make our current view on the stock crystal clear. As disappointing as the release and guidance were, we believe Wednesday's share plunge to be overdone and representative of a total capitulation and a washout in the shareholder base (volume today is ~8x the 90-day average). Were we not restricted, we would be buying this "emotional give up" into the close. (Jim Cramer's Charitable Trust is long PYPL, WYNN, AAPL, GOOGL and AMZN. See here