Updated on May 19th, 2022 by Aristofanis Papadatos
PayPal (PYPL) is a high-quality tech stock, with a great performance record and promising growth prospects ahead. The stock rewarded its shareholders with impressive returns until it peaked, almost a year ago. Between 2015 and the summer of 2021, the stock more than quintupled.
However, the stock of PayPal has plunged 68% during the last 12 months. The reasons behind the steep decline of the stock are its rich valuation at its peak, the heated competition in its business, which has exerted pressure on its margins, and the bear market of the entire NASDAQ this year.
Nevertheless, PayPal still sports a market capitalization of $90 billion. This makes it a large-cap stock, defined as those with market caps above $10 billion.
You can download your free copy of the large-cap stocks list, along with relevant financial metrics like price-to-earnings ratios, dividend yields, and payout ratios, by clicking on the link below:
Unfortunately, income investors may overlook PayPal, as the company does not pay a dividend. This is fairly common among growth stocks, particularly those in the technology sector, as it is much more profitable to reinvest the earnings in the business than to distribute them to the shareholders. Of the 500 stocks that comprise the S&P 500 Index, nearly 90 do not pay a dividend to their shareholders.
Income-oriented investors who are attracted by the promising growth prospects of PayPal stock might wonder whether the company will pay a dividend anytime soon. While the initiation of a dividend cannot be excluded, PayPal is not likely to initiate a dividend for many more years.
PayPal operates as a technology platform and digital payments company that enables digital and mobile payments on behalf of consumers and merchants worldwide. The company’s payments platform allows consumers to send and receive payments, withdraw funds to their bank accounts, and hold balances in their PayPal accounts in various currencies.
PayPal benefits from a strong secular trend, namely the shift of consumers from physical payments to digital payments. Thanks to PayPal, consumers and companies can execute payments in a few seconds, much faster than they can pay by following the traditional bank channels, even in electronic banking.
Thanks to this secular trend, PayPal has grown its revenues and its earnings at a breathtaking pace over the last eight years. During this period, the company has grown its revenue at a double-digit rate every single year, from $5.7 billion in 2012 to $25.8 billion in the last 12 months. It has also more than quadrupled its earnings, from $778 million in 2012 to $3.6 billion in the last 12 months. The consistency in its growth clearly reflects the strong underlying trend that supports the company.
However, competition has begun to heat in this business, with the emergence of some small competitors, which offer much more attractive fees than PayPal. This development has caused a deceleration in the growth pattern of PayPal, especially in its earnings.
In the first quarter of this year, PayPal grew its total payment volume 13% over the prior year’s quarter and its revenue 7%.
Source: Investor Presentation
While this growth rate may be satisfactory for a typical company, it is much less than the ~30% growth that PayPal enjoyed in 2020-2021, partly thanks to the coronavirus crisis, which accelerated the shift of consumers from physical payments to digital payments.
Moreover, PayPal added 2.4 million net new active users in the quarter. However, it incurred a 28% decrease in its adjusted earnings per share, mostly due to the heating competition, which is pressuring the margins of the company.
It is also remarkable that eBay, which used to be the flagship of PayPal, currently generates just 5%-6% of the total payment volume of the company. This is not a concerning trend, as the core business of PayPal is the most promising one, but the decline in earnings is unprecedented for the company.
As shown in the chart below, operating margins have been under pressure in recent quarters.
Source: Investor Presentation
Given the intense competition and the increased focus of consumers on the level of fees, it will be hard for PayPal to reverse the trend in its margins.
Management has provided poor guidance for this year, as it expects earnings per share of $3.81-$3.93.
Source: Investor Presentation
At the mid-point, this guidance implies a 16% decrease in earnings per share. It will be the first year of lower earnings for PayPal in more than a decade.
PayPal has an exceptionally strong growth driver, namely the continuous shift of consumers from physical to digital payments. The digitalization of the global economy combined with the increasing popularity of digital wallets is sufficient to keep PayPal in its growth trajectory for more than a decade.
PayPal has grown its revenue and its earnings per share by 18.0% per year and 20.7% per year, respectively, on average over the last eight years. When a company grows at such a fast pace, it usually decelerates over time due to its growing size. Indeed, PayPal has decelerated this year but not due to its size, mostly because the high profitability of this business has attracted new entrants.
PayPal had previously offered a bright 3-5 year outlook, expecting 17%-18% annual revenue growth and 20% annual earnings-per-share growth.
Source: Investor Presentation
Management withdrew this outlook a few months ago due to the challenges facing the company. Nevertheless, it is important to note that analysts still expect PayPal to grow its earnings per share by ~20% per year on average during 2023-2025.
PayPal has an unparalleled scale in digital wallets and it enjoys a meaningful business moat. It also has a strong brand name, whose reliability is paramount in the world of digital payments. PayPal also has strong relationships with regulators around the world, while it also enjoys enviable data modeling capabilities. All these features constitute significant competitive advantages, which are likely to help PayPal remain by far the largest player in its business for years.
Some tech stocks cannot pay dividends to their shareholders due to their lack of earnings. Uber (UBER) and Lyft (LYFT) have not managed to become profitable yet while Nikola (NKLA) has not managed to generate positive free cash flows yet. This is not the case for PayPal, which has posted excessive profits and free cash flows for several years in a row.
Will PayPal Ever Pay A Dividend?
The only reason that PayPal has not initiated a dividend yet is its high growth rate. This means that it is more profitable to invest cash flow back in the business instead of distributing it to the shareholders. Investors should keep in mind that investing in the business should always be prioritized over paying dividends, as it is the growth of business that produced impressive returns during 2015-2021.
As PayPal still has many years of high earnings growth ahead, it is not likely to initiate a dividend anytime soon. Instead, its management is likely to remain focused on its growth initiatives and do its best to navigate through the current challenges facing the company.
In fact, if PayPal initiates a dividend at some point in the future, its stock could plunge on the announcement, as investors might assume that the high-growth era of the company is approaching an end. Therefore, the shareholders of PayPal should be completely satisfied as long as the company keeps growing at a fast pace, without initiating a dividend.
High-growth companies do not offer a dividend for another reason as well. Their stocks usually enjoy such a rich valuation that a dividend is meaningless for the shareholders. To provide a perspective, PayPal is currently trading at a price-to-earnings ratio of 20.
Therefore, if the company distributes 30% of its earnings in the form of dividends, it will offer just a 1.5% dividend yield. Such a yield will be meaningless compared to the growth potential of the company, meaning there is little incentive for the company to initiate a dividend at this time.
To sum up, PayPal is currently facing a headwind due to increased competition but it is likely to return to its growth trajectory next year thanks to the continuous shift of consumers from physical to digital payments.
As a result, the company will continue investing a significant portion of its earnings in its business and hence it is not likely to initiate a dividend for the next several years. Whenever PayPal initiates a dividend, it might be a negative signal, as it will essentially imply that its growth is about to decelerate.
See the articles below for analysis on whether other stocks that currently don’t pay dividends will one day pay a dividend: