Payments in the Pandemic – Paypal

Paypal is very well positioned to capture new volume both short term and long term growth

First off, best wishes to you and your family during these challenging times. I had intended to get this out last week, but found the need to invest in family. My family is doing fine, I’m fortunate to have all of my children, grandchildren and parents within 10 miles of Davidson North Carolina. We are like the rest of you, navigating needs for family support and volunteering in our community.. All of which has changed up our schedules. My hope is that we all find some way to create good out of this terrible event. 

In this Blog

  1. Massive disruption in Commerce has created fundamental changes in payments and consumer behavior. 
    • Discretionary and T+E spend is dropping 40-80%. Visa and Mastercard have both revised growth from mid teens to low single digits. Paypal has maintained low end guidance. 
    • eCommerce is clear winner right now, estimate that Paypal’s core eCommerce TPV could be 40-60% above average 
    • Consumer behavior changes driven by the pandemic will rapidly accelerate the move away from physical retail (See 1 April WSJ).
  2. Paypal is very well positioned to capture new volume both short term and long term growth.

Current State – Earnings

From a commerce (and payment) perspective, this pandemic has wrought fundamental change. McKinsey reports (see WSJ ) eCommerce purchase volume soaring over 80% (since Feb). Industry analyst Craig Mauer (Autonomous/AllianceBernstein) has done a fantastic job of breaking this down by vertical, geography and discretionary/non-discretionary. 

While T+E related verticals have seen revenue decline 50-80%, and discretionary spending take hit of 40-50%, non-discretionary has seen a rise of 20-45% (driven by grocery). Across all of these spend types there is a significant shift in volume to online/mobile (card not present) and away from cash/Card-Present: ordering groceries, amazon, food delivery, …etc. The impact of this change in consumer behavior is complex. Visa and Mastercard have both revised earnings with expected growth dropping from mid teens to low single digits (see Visa 8-K, MA 8-K). Visa’s 8-K provided the following

Paypal’s Feb 27 update, outlined the impact of Covid-19 on cross border eCom, but maintained guidance “at the lower end of our previously guided range of $4.78 – $4.84 billion. We are reaffirming our first quarter 2020 GAAP and non-GAAP EPS guidance”.  

Behavior Change

Clearly no one can estimate the change that will occur in the next 5 years. Our lack of preparedness for this event is shocking, particularly as leaders like Bill Gates outlined the impact of a highly contagious virus (2018 lecture). We have never been a more connected society. Pandemics have consistently come in waves.. And drive fundamental changes in social structure, healthcare and commerce.  Just as the Spanish flu of 1918 drove creation of public health, hygiene and social distancing.. This event will also forever change our society, including how we shop and interact.

Consumers behavior will change.. But how? What elements of this behavior change are likely to “stick” long term and drive a reassessment of long term growth. For example, yesterday’s WSJ (see 1 April WSJ) paints a bleak picture for shopping malls and physical retail. Direct to Consumer (DTC) was already the hottest growth area for CPG, how is it adapting in an economy with greatly reduced discretionary spend and disposable income? (note: this will be the subject of a following blog) 

Assessing Paypal

First off the obvious, I’m not a financial analyst and this is not meant to guide your investment decisions. Rather I’m breaking down how I evaluate Paypal and the long term implications of changes in consumer behavior. Paypal is no longer a one trick pony processing payments for eBay. They have 5 key lines of business. PayPal, PayPal Credit, Braintree, Venmo, Xoom, hyperwallet, and iZettle. Their 4Q19 investor presentation was widely viewed as the best investor communication in their history as a public (stand alone) company. 

While most payment players have offsetting CP/T+E losses with eCom/mCom gains PayPal is positioned well to capture significant new growth. I look at this business through a sensitivity analysis perspective. My estimates of how changes in behavior could impact Paypal’s core revenue drivers.

  • 1% increase in Active Users drives $163M in revenue
  • 1% increase in Customer Engagement drives $163M in revenue (Currently 38 transaction per year)
  • 1% increase in eCommerce Acceptance drives $150MM in revenue (2019 grew 29% 22M Merchants- FX Neutral)
  • 1% increase in new Merchant Services drives $20M in revenue (ex Honey)
  • 1% increase in Lending drives $8MM in Revenue ($10B portfolio, ~8% NIM)

There is a degree of overlap in the correlations between these numbers, but there is also a high degree of “network effects”. For example, great acceptance leads to greater number of transactions per user, who gets credit? Merchant acceptance? Or Active user growth?  This approach is useful for assigning business priorities and for accessing the size of the opportunity (change) for Paypal. 

Let me give an example of my math for case 1

  • 40 transactions per user
  • 250M Active Paypal users (not including Venmo)
  • $50 Average Transaction size
  • 260bps take rate (factoring out Venmo)

1% increase in Active = 2.5M consumers * $50 * 40 * .026 = $162.5M (annualized)

Scenario – Ridiculous

  • 10% increase in Active Customers
  • 20% increase in Customer Engagement
  • 10% increase in Merchant Acceptance

Revenue Impact – $6.4B (not likely)

Obviously this seems wrong. However, rumor is that Paypal has seen a 60% increase in volume during the first few weeks of the pandemic. Most would point out that consumer discretionary spend will be decreasing, and that only grocery and restaurant take out will be beneficiaries (neither of which are traditional PP Verticals). This would point to a new scenario with decreased consumer engagement, but increased acceptance (as Paypal works to attack growth verticals and expand merchant services). 

Scenario – Likely

  • 10% increase in Active Customers
  • 10% DECREASE in customer engagement (40% decrease in discretionary, 30% growth in eCom – channel shift)
  • 10% increase in Merchant Acceptance
  • 20% increase in Merchant Services

Revenue Impact – $1.7B (incremental – 22% above baseline)

Key Assumptions – Discussion

In my opinion, PayPal looks set to gain in most scenarios. While net consumer spend is decreasing, channel shift and opportunity to create new services allows PayPal to capture incremental growth (ex braintree menu hosting for small restaurants). If PayPal can execute on non discretionary (ie Grocery) or on other growth categories, increased engagement will drive a chain reaction “network effect”. 

Outside the scope of today’s discussion is how Paypal could play a role in Government subsidy payout or in small business lending.. 

I have not wrapped this up cleanly.. But wanted to get this out. 

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