PayPal: Cash Flow Analysis Indicates Long-Term Upside

  • PayPal’s platform enables merchants to accept digital payments both in stores and online.
  • PayPal continues to innovate around digital payments, with the recent addition of QR Code payments and the Venmo credit card.
  • PayPal’s platform targets a $110 trillion addressable market.
  • Based on my DCF analysis, PayPal is ~6% overvalued at current prices. But given PayPal’s strong competitive position and substantial market opportunity, the stock is a buy for long-term investors.

Investment Thesis

The world is undergoing a shift towards digital solutions, and digital payments are an undeniable part of that transition. PayPal (PYPL), as an enabler of digital payments, is well-positioned to capture value in the coming years.

My investment thesis is summarized in the following points:

1. PayPal’s management has stated that their total addressable market is $110 trillion. And this number is expanding each year, as digital payments become more prevalent both in stores and online.

2. PayPal benefits from a strong network effect, which effectively engages users on both sides of the transaction. As evidence of this, active accounts have grown at 16% per year, but total payment volume has grown faster (26% per year) since 2015.

3. PayPal’s financial performance in recent years has been exceptional. Since 2015, revenue has grown at 18% per year, earnings have grown at 19% per year, and free cash flow has grown at 28% per year.

PayPal’s Business

PayPal’s ecosystem of consumer-facing and merchant-facing products enable digital payments both online and in stores.

For merchants, PayPal functions as a payment processor, allowing them to accept in-store payments made with cards or digital wallets, like the PayPal app, or even Apple (AAPL) Pay and Google (NASDAQ:GOOG) (GOOGL) Pay. PayPal also functions as a payment gateway, which allows merchants to securely accept online payments. Merchants can choose between Payflow Link, a free gateway hosted by PayPal, or for $35 per month, merchants can use Payflow Pro, which provides a more customizable checkout experience.

For consumers, PayPal and Venmo function as digital wallets, enabling P2P transfers and (more recently) in store payments.