eBay Inc. ($70.7 billion enterprise value) will soon be spinning off PayPal. I believe that PayPal’s life as a publicly traded company may prove to be extremely short lived. In the payment processing space, valuations and synergies are such that a host of large processors will likely opt to preemptively purchase PayPal soon after separation from eBay Inc. I consider the most likely potential acquirer to be American Express Inc. (AXP-NYSE, $81.23). Other prospective purchasers include, but are not limited to, Visa, MasterCard, Google and Apple Inc.
Amex represents a busted growth stock. Selling for roughly 15.6X the 2016 low end Wall Street earnings estimate ($5.21 per share forecast), the company, in my analysis, needs a transformative purchase to shore up an increasingly shaky operating model. A purchase of Paypal would do just that.
Amex would logically purchase PayPal in a cash and stock combination and would require a hefty opening bid to prevent counterbids from the likes of Visa Inc. (V-NYSE, $70.27), MasterCard Inc. ($93.65), Google (GOOG-NASDAQ, $537.36) or Apple Inc (AAPL-NASDAQ, $130.07).
According to the 10-K and recent 10-Q filed by EBAY, Paypal now generates more than 50% of the total revenues of EBAY. 2015 fiscal revenues for Paypal may exceed $9 billion US and 2016 revenues could surpass $10.4 billion. Net operating margins for fiscal 2014 were 23.2% and appear to have the potential to surpass 25% for 2015. Economies of scale are good; operating margins might readily exceed 26% in 2016.
The critical assumption in the spin-off is the allocation of corporate overhead and the allocation of interest expense, depreciation and amortization. If the split is applied in a relatively straightforward fashion, the overhead expenses of Paypal will roughly be equivalent to the depreciation and amortization expenses. This rudimentary estimate suggests that the net operating margins will closely approximate EBITDA. This suggests that EBITDA might touch $2.3 billion for 2015 and may rise to $2.7 billion in 2016.
Rapidly growing payment processors, such as MasterCard, are presently selling for roughly 18X EBITDA. Should PayPal command an equivalent value, this could imply a 2016 fair market value of about $48.6 billion, or roughly $40.16 per share (assuming a simple 1-1 spinoff of eBay to PayPal). PayPal does not generate the same high EBITDA margins as MasterCard, but is growing its revenue base at a much faster pace. Accordingly, it would not be unreasonable to apply a similar valuation to PayPal.
As for eBay, the company could be fairly valued at roughly 15X EBITDA. assuming that the 2016 EBITDA touches $3.3 billion, this implies a 2016 fair market value of potentially $49.5 billion.
On a sum-of-parts basis, the spin-off could potentially result in two separately traded investments worth a combined $98.1 billion. This represents a potential gain of roughly 38% over the course of the next 18 months.
How would a takeout multiple price PayPal?
I believe that a bidding war could commence for PayPal. Any of the firms mentioned above have the financial wherewithal, and also the motivation, to modestly overpay for the acquisition. Any of the potential purchasers could easily wring synergies from a combination, in the form of overhead efficiencies. More importantly, there is a defensive component buying PayPal. Visa, MasterCard or Amex could offer incentives of change pricing schedules so as to funnel more PayPal transactions through their proprietary interchange networks and away from the competitors. Let us not forget that PayPal is a customer of all of the big 3 processors.
A 22x operating margin multiple, in this low interest rate environment, could readily be justified. This could represent a valuation per share of $49 US, or about 25% higher than my assumed spin-off price.
My assumption is that Amex will be the company most in need of PayPal. The Amex model, as I have previously opined, is broken. The company badly needs to make a transformative purchase of some size. MasterCard could also readily justify a purchase using its shares as currency. Visa should not be excluded as a possible bidder, although their potential roll-up of the European division is likely to result in additional financial leverage in the mid-term. Finally, Google and Apple could make an all cash offer without relying upon any borrowings.
In summary, a purchase of EBAY, prior to the spin-off, looks timely under my proposed scenario. A sum-of-parts valuation appears to provide good upside potential. The scarcity of a large name in the payment processing space could readily produce a bidding war among the companies determined to maintain monopolistic profitability.
Leave a Reply
You must be logged in to post a comment.