PayPal: A story of scale

Disclosure: The author may own securities in the referenced company or companies. This is not financial advice or a recommendation, and not a substitute for due diligence. 

Question @DonzelliSamuel: What did you mean by PYPL at 19x/economy of scale? Just operating margins?

TLDR: Yes, but it’s more than that.

What “Economy of Scale” Looks Like on the Financials
This quarter you saw it in action: revenue up 6%, non-GAAP operating income up 18%, Net Income up 14%, Non-GAAP EPS up 22%, and FCF up 31% (can I get a shout out for the buybacks?)

Why Non-GAAP?
PYPL’s been in transition, and Non-GAAP filters out the one-time noise, showing you what the actual business model will look like once the dust settles.

The Real Test of Scale: Volumes
With volume up 9%, you get a 6% revenue bump, and an 18% jump in operating leverage. Tax rates? Not really the focus mid-turnaround—way too much noise there. But that FCF increase? Now that has some implications for strategy.

Pre-2020 Strategy: Roll-Up Approach
Let’s get real about PYPL’s pre-2020 days: it was a classic roll-up, buying growth and riding the Private Equity train with “concepts,” revenue & subscriptions. Margins? Miserable. Elliott came in 2022, after asking at the 2021 Quarter analyst calls something like: it’s nice you’re all about revenue, but what about actually turning a profit? Wasn’t that the point post EBAY spin-out?

I had no qualms shorting PYPL when it hit nearly $300 with margins that thin. And I covered just before Elliot took its stake in 2022.

Elliott Exits Early—Why?
Elliott tapped out way sooner than you’d expect for a play like this. Usually, if the goal is moving from roll-up to profitability, you give it time. Maybe they got skittish with everyone chanting “higher rates forever.” I didn’t buy that nonsense—lots of macro folks overlook what’s really driving CPI inflation. (You can see my past posts on that.)

Post-Elliott Strategy: From Roll-Up to Platform
Despite the uncertainty, PYPL kept executing, pivoting to become a true e-commerce platform. It’s not flashy, but it’s strategic. If you’re already embedded with tons of consumer accounts, why not aim to drive more sellers to want to be paid with PYPL? This isn’t buyer demand but rather a seller-driven push. And here’s the kicker: it’s pretty close to AMZN’s approach, which, last I checked, isn’t doing too shabby.

Developed Markets, International Markets & Cross Border
The big question now: Can PYPL boost its value proposition for developed markets? That’s where Braintree comes in. The contract will obscure this until 2025, but it helps PYPL’s offering to integrate further into the other “stuff” a seller needs that is ALSO a part of financial tech. Meanwhile, PYPL continues to do well on cross-border with EM sellers accessing DM & Braintree integrations only solidify those benefits. It’s super misunderstood how much “extra” happens financially for cross-border commerce transactions and why PYPL has an advantage here that is hard for smaller fintechs to easily replicate. 

Financials: What Should Strategy Investors Watch?

1. Will it work?

2. What does it mean for growth and margins?

This operating margin increase is a solid sign, esp given you’re getting FCF release. That means a lot of the bigger sections of R&D are done and you can just start returning it to shareholders. Realize too that FCF this quarter includes the L from the European BNPL biz. Don’t even get me started on BNPL. That was my first sign to consider shorting PYPL in 2021.

Back to Economy of Scale
All this plays out in a weaker consumer spending environment. Relative to what it could be, cross-border spending—while growing—is slower, reflecting a global environment that has NOT yet eased or re-entered growth phase.  Also, housing starts are down, and even apparel growth is price-driven, not volume-driven. Business spending hasn’t fully recovered. And while biz spending is NOT e-commerce, biz spend often has a secondary impact of muted consumer spending.

If you check out the transaction data from V, AXP, and MA (reporting soon), you’ll notice transaction growth slowing. Some blame the election or macro uncertainties; I’d argue yes, and also, this has been going on for some time. There is pent-up demand and inventory re-stock that has happened at lower levels that could benefit PYPL on a 2025 turn.

Bottom line? If transaction volumes return, we could see above-trend spending. If not, this might just stay dead money and I’m wrong AF. 

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