PayPal (NASDAQ:PYPL) May Not be as ‘Cheap’ as it Appears

Shares of PayPal ( NASDAQ: PYPL ) rose as much as 13% last week after the company released its financial results for the first quarter. Although the company lowered its guidance for the remainder of the year, the market appears to have been expecting things to be even worse.

Key takeaways from this analysis:

• Falling EPS estimates could make the price appear expensive later in the year.
• Sentiment may remain weak until there is tangible evidence of a turnaround.
• The long-term picture remains promising.

First-quarter highlights:

• Revenue: $6.5 bln which was 7% higher than a year ago and slightly higher than expected.
• Non-GAAP EPS: $0.88 which was expected, but down 28% from a year ago.
• Transaction revenue fell slightly from the previous quarter.
• Net new active accounts: Up 9% year over year, but growth lower than the previous quarter.
• Full-year guidance: 
  • Revenue growth is expected to be 13% compared to the previous estimate of 17%.
  • Non-GAAP EPS expected to be between $3.81 and $3.93, compared to consensus estimate of $4.62.

The lowered guidance was disappointing for investors. However, some market watchers believe the bad news is now out of the way , and the outlook can only improve from here.

The Long-Term Opportunity

PayPal is arguably the leading fintech company outside of China and now has 429 million active accounts. As the digital economy grows, more transactions are being done using digital wallets and with services like PayPal. Although the company has lots of competitors, its strong brand recognition gives it a significant edge — vendors know that more customers use PayPal than competing services, so it's the first option they consider using to process their payments.

These attributes suggest the long-term outlook for PayPal is promising. The medium and short term is less certain though, as the valuation may still be at risk — and a few more weak quarters could weigh on sentiment. 

Is PayPal ‘Cheap’?

The current valuation appears attractive according to several measures. But it will appear less attractive if analyst estimates continue to fall — which seems likely given the lowered guidance.

Our estimate of PayPal’s fair value, based on a DCF model using analyst forecasts , is $316. This suggests the stock is trading at a 72% discount. However, a model like this is only as good as the inputs, and in this case, the inputs are likely to change. If estimates are lowered again, the fair value estimate will fall too. 

PayPal’s P/E (price to earnings) ratio based on its EPS over the last 12 months is 24.4x. This is a lot lower than the average for the IT industry (29.9x), but the IT industry is also expected to grow earnings at a higher rate (~13.2% vs ~8.7% for PayPal.)

However, as the following graph illustrates, the trailing 12-month GAAP EPS are expected to fall from $3.60 now, to $2.23 by December. This means the forward P/E ratio is much higher at 39x, which is quite high when we consider the single-digit growth rate.

It’s also worth mentioning that analyst estimates for December 2022 are closely tied to the company's own guidance which is quite specific. Estimates for 2023 and beyond are based on Wall Street analysts' own projections which vary more and could be subject to change.

The Bottom Line for Investors

PayPal is well positioned to benefit from the future growth of e-commerce and the digital economy. However, there is some uncertainty over the next few quarters, and earnings are expected to fall further before they begin to rise again. 

The current valuation may appear quite attractive if you are optimistic about the longer term. But the P/E ratio is set to rise over the next few quarters and declining forecasts may weigh on sentiment. This could mean there will be better opportunities later in the year.

To keep track of EPS forecasts and other key metrics, check out our analysis page for PayPal .

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Simply Wall St analyst Richard Bowman and Simply Wall St have no position in any of the companies mentioned. This article is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.