eBay Inc. — Q2 2011 Form 10-Q
Reporting period: Three and six months ended June 30, 2011. eBay operates Marketplaces, Payments (PayPal and Bill Me Later), and GSI, acquired on June 17, 2011. GSI results are included only from the acquisition date.
Financial performance
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Net revenue | $2.760 billion | $2.215 billion | $5.306 billion | $4.411 billion |
| Gross profit | $1.987 billion | $1.600 billion | $3.803 billion | $3.190 billion |
| Operating income | $519 million | $485 million | $1.084 billion | $973 million |
| Net income | $283 million | $412 million | $759 million | $810 million |
| Diluted EPS | $0.22 | $0.31 | $0.58 | $0.61 |
Q2 revenue rose 25%; gross margin was about 72.0% versus 72.2%, while operating margin fell to 19% from 22%, principally due to acquisitions. Net income fell 31%, primarily reflecting a $256.5 million loss on the GSI-related divestiture and $57.3 million in acquisition-related transaction costs. The reported tax provision was a benefit of $7.6 million in Q2; the effective tax rate was 3%, versus 17% a year earlier, partly due to the divestiture loss and settlements of uncertain tax positions.
Growth was led by Payments: Q2 net total payment volume increased 34% to $28.7 billion and Payments revenue rose 31%. Marketplaces gross merchandise volume excluding vehicles grew 17% to $14.7 billion; Marketplaces revenue rose 19%. International revenue grew 28% in Q2 and represented about 55% of total revenue. Foreign currency movements added approximately $116.7 million to Q2 revenue versus the prior year.
For the first six months, operating cash flow was $1.482 billion, compared with $1.145 billion. Capital expenditures, net, were $388 million, implying free cash flow of approximately $1.094 billion under eBay's definition, versus $785 million in 2010. Cash and cash equivalents declined to $3.266 billion from $5.577 billion at year-end, mainly reflecting acquisitions. Cash, time deposits, and fixed-income securities classified as cash equivalents and short-term investments totaled approximately $6.0 billion, down from $7.8 billion at year-end.
At June 30, total debt was $2.546 billion, including $1.0 billion of commercial paper at a weighted average rate of 0.18% and $1.530 billion of long-term debt. No borrowings were outstanding under the $1.8 billion credit agreement; $0.8 billion remained available for other permitted purposes after reserving $1.0 billion to backstop commercial paper. eBay reported compliance with debt covenants. Funds receivable and customer accounts were matched by funds payable and amounts due to customers at $3.362 billion each.
Material changes and unusual items
- eBay acquired GSI for approximately $2.4 billion and completed six other acquisitions during the first half; acquisitions drove substantial increases in goodwill and intangible assets. Goodwill was $8.264 billion at quarter-end.
- Immediately after the GSI acquisition, eBay sold GSI's licensed sports merchandise business and 70% of ShopRunner and RueLaLa to NRG Commerce. Consideration included a note with a $467 million face value but a $286.8 million recorded fair value; the transaction produced the $256.5 million loss. eBay retained a 30% interest in ShopRunner and RueLaLa, carried at $75.2 million.
- Six-month investing cash outflow was $3.806 billion, including $2.847 billion for acquisitions. Financing included $781 million of share repurchases and $700 million of net commercial-paper borrowings. Approximately $1.163 billion remained under the $2 billion repurchase authorization.
- Loans and interest receivable, principally Bill Me Later consumer receivables, were $1.040 billion. The portfolio's weighted-average FICO score was 698; about 91% was current. eBay bears the loss risk on receivables it purchases from the issuing bank.
Outlook, risks and contingencies
Management expected Q3 2011 results to be led by continued Payments strength, particularly net TPV growth, and continued Marketplaces strength, especially in the U.S.; GSI was expected to contribute significantly to revenue growth. Management also said it would continue investing in growth, innovation, and strategic acquisitions. The filing provides no specific numerical earnings or revenue guidance.
Key risks include competitive pressure and slower growth in established Marketplaces, integration and execution risks from acquisitions, foreign-exchange exposure, payment fraud and transaction losses, Bill Me Later credit and funding risks, regulatory requirements for payments, data security and privacy, and system availability. GSI's platform enhancement and client migration program was expected to continue through 2013 and carries technical, cost, and client-retention risks.
Legal matters include ongoing intellectual-property and counterfeit-goods disputes. A French appeal had reduced the damages award in the Dior/Guerlain-related matter to EUR 5.7 million, with further appeal pending; injunction-related proceedings remained. The European Court of Justice issued an opinion in the L'Oréal matter in July 2011, and the case returned to the U.K. court. Approximately 147,000 users had sued eBay's Korean subsidiary over a 2008 data breach; an appeal involving approximately 34,000 plaintiffs was pending. Management said probable legal accruals were not material, but it could not estimate potential non-monetary remedies in disclosed matters.
After quarter-end, eBay announced agreements to acquire Magento and Zong, both subject to customary closing conditions and then expected to close in Q3 2011. The PayPal Money Market Fund was scheduled to liquidate on July 29, 2011. The filing also identifies tax examinations and $241.8 million of gross unrecognized tax benefits; the balance could change significantly over the next 12 months, although the possible adjustment range was not estimable.
Important facts for investors to verify
- Whether underlying operating growth and margins offset acquisition costs and the GSI divestiture loss; distinguish reported results from pro forma GSI figures.
- Whether GSI integration, client retention, platform migration, and recovery of the NRG note progress as planned.
- Bill Me Later receivable quality, charge-offs, funding needs, and exposure to changes in consumer credit conditions.
- Developments in the French and L'Oréal proceedings, Korean data-breach litigation, and tax examinations.
- Cash availability and repatriation considerations: approximately $4.9 billion of cash and similar assets were held outside the U.S., and distribution could entail additional U.S. tax in some circumstances.