Everyone Is Talking About PayPal. Is It a Good Long-Term Option?

PayPal (PYPL 0.42%) used to be a fantastic company to own. This was until about three years ago. After reaching its all-time high price in July 2021, shares have crashed 79%. They are up just 3% this year (as of June 4). This poor performance is enough of a reason for investors to talk about what’s happening with PayPal.

However, besides its stock being well off its peak, this leading fintech enterprise was in the news recently because of a new initiative by the management team. Let’s look at what management is up t and whether it helps make PayPal a good long-term investment option.

Data is a valuable resource

In late May, PayPal announced the launch of a new digital advertising segment. As part of this move, the business hired Mark Grether, formerly an ad executive at Uber. This provides a new potentially sizable revenue source that could one day move the needle for the company.

That’s because there are very few businesses out there that have the data, as well as the ability to collect it, that PayPal does. And to be more specific, PayPal knows what customers are buying. It has 427 million active accounts and handled a whopping $404 billion in total payment volume and 6.5 billion transactions in the first quarter.

According to its May 28 press release, the goal is to provide the tools that can enable merchants to “sell more products and services effectively” while at the same time “enable consumers to discover more of what they love.” I can envision a person signing into their PayPal or Venmo account and immediately seeing offers for products that are completely relevant to them based on their purchasing history. Depending on the structure, merchants could pay if a transaction actually happens.

Whatever the specifics may be, you can see how this can be a lucrative segment for PayPal one day, one that can drive profitable revenue growth. According to Grand View Research, the global digital advertising market is expected to be worth almost $1.2 trillion in 2030.

Solid business at a cheap price

Even without the introduction of an ad division, PayPal is still a high-quality business. It has an economic moat that stems from powerful network effects. With a massive user base of merchants and consumers, the platform becomes more valuable as it expands. This setup of having both sides of a transaction as your customers demonstrates how difficult it would be to start a new payment network from scratch.

However, the stock is trading at a dirt-cheap valuation right now. You can buy shares at a forward P/E ratio of just 15.4. That’s a steep discount to the S&P 500.

I don’t think this bargain multiple is justified. PayPal benefits from the secular trends of digital payments and e-commerce, not to mention digital advertising now. That should provide at least some growth potential, even if it won’t be at the pace of previous years.

And this is a financially sound enterprise, which the valuation doesn’t suggest. Not only does PayPal have a net cash position of $6.7 billion (as of March 31), but it raked in a combined $14.2 billion in free cash flow (FCF) in 2021, 2022, and 2023. And this year, executives believe the company will generate $5 billion of FCF. Virtually all of this is used to repurchase shares, which is a smart capital allocation policy.

This is really not a struggling business. However, investors seem to be worried about the competition in the payments industry. PayPal is still a leader in the space, and at the current valuation, it looks like an excellent long-term buy.