PayPal Holdings, Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; compared with Q1 2019. Amounts are in U.S. dollars. PayPal operates a global digital payments platform, including PayPal, Venmo, Braintree, Xoom, PayPal Credit, iZettle and Honey.
Financial performance
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net revenue | $4.618 billion | $4.128 billion | +12% |
| Operating expenses | $4.220 billion | $3.610 billion | +17% |
| Operating income / margin | $398 million / 9% | $518 million / 13% | Income down 23% |
| Net income | $84 million | $667 million | Down 87% |
| Diluted EPS | $0.07 | $0.56 | Down 87% |
| Cash from operating activities | $1.504 billion | $1.027 billion | +46% |
- Transaction revenue rose 13% to $4.215 billion; other value-added services revenue increased 2% to $403 million. Total payment volume (TPV) grew 18% to $190.567 billion. Active accounts increased 17% to 325 million, including 10.2 million added through Honey; payment transactions rose 15% to 3.261 billion.
- Transaction and credit losses increased 73% to $591 million. Credit losses were $344 million versus $55 million, primarily reflecting COVID-related macroeconomic assumptions and growth in consumer and merchant lending. Transaction losses fell 14% to $247 million.
- Other expense was $135 million, versus $199 million of other income in Q1 2019, chiefly due to unrealized losses on strategic investments. The 68% effective tax rate, compared with 7%, primarily reflected tax expense on an intra-group transfer of intellectual property.
- Operating cash flow was $1.504 billion. Investing activities used $2.568 billion, including $3.612 billion net cash for acquisitions; financing activities provided $2.241 billion, including a $3.0 billion revolver draw. Cash, cash equivalents and restricted cash ended at $16.742 billion.
Balance sheet and liquidity
- At March 31, cash and cash equivalents were $7.854 billion; short- and long-term investments totaled $4.698 billion. Funds receivable and customer accounts were $22.817 billion, largely associated with customer funds and not equivalent to unrestricted corporate liquidity.
- Total debt was $7.967 billion: $5.0 billion principal of senior notes and $3.0 billion outstanding under the revolving credit facility. The revolver had $2.0 billion of remaining capacity; its outstanding balance carried a 2.19% weighted-average rate.
- PayPal said available cash, operating cash generation and expected access to capital would be sufficient for foreseeable needs, while noting that some cash supports regulatory and customer-balance requirements. It drew $3.0 billion on the revolver to increase flexibility amid COVID-19 uncertainty.
Material changes and unusual items
- PayPal completed its Honey acquisition in January for approximately $4.0 billion in total consideration, including about $3.6 billion cash and $400 million in assumed equity awards. Honey contributed about one percentage point to revenue growth; acquired Honey and GoPay businesses together weighed on operating margin by approximately three percentage points.
- Adoption of the expected-credit-loss standard on January 1 reduced retained earnings by $168 million. The allowance for loans and interest receivable was $754 million at quarter-end, versus $258 million at December 31, 2019.
- PayPal repurchased approximately $800 million of stock during the quarter. A new workforce restructuring initiative resulted in $29 million of charges; management expected it to be substantially completed by year-end 2020.
- Management forecast peak unemployment of approximately 9% in Q2 2020 for its credit-loss estimates. A one-percentage-point increase in the principal-and-interest coverage ratio would increase the allowance by approximately $45 million.
Outlook, commentary and risks
- The filing provides no numerical earnings or revenue guidance. Management said the duration and severity of COVID-19 effects were uncertain and expected adverse impacts on transaction revenue growth in affected areas for the remainder of 2020.
- COVID-19 reduced activity in travel, events and cross-border commerce; growth in online retail, gaming and food partly offset declines. The company also cited potential higher merchant and consumer defaults, fraud, operational disruption and support costs. Payment holidays and other customer assistance could reduce future credit-related revenue.
- Management tightened credit underwriting and lending terms and reduced maximum loan sizes in response to economic uncertainty. Merchant and consumer credit portfolio performance warrants attention: merchant net charge-off rate was 9.7% versus 6.8% a year earlier; consumer net charge-off rate was 3.6% versus 3.3%.
- Other risks include foreign-exchange exposure, strategic-investment volatility, evolving payments regulation, cybersecurity and litigation. PayPal disclosed ongoing OFAC inquiries and an AUSTRAC compliance review in Australia; the potential impact of the latter could not be estimated. A securities lawsuit related to TIO was dismissed with prejudice, but plaintiffs appealed.
- The company reported effective disclosure controls and no material change in internal control over financial reporting. No material off-balance-sheet arrangements were reported.
Key facts for investors to verify
- Whether subsequent credit-loss provisions and actual charge-offs align with the COVID-19 unemployment assumptions used at quarter-end.
- Whether TPV and revenue trends recover or weaken further, especially in travel, events, cross-border commerce and lower-fee P2P transactions.
- How Honey integration, acquisition-related costs and the workforce reorganization affect operating expenses and margins.
- Corporate liquidity available after excluding customer funds and regulatory requirements, and the use and cost of the $3.0 billion revolver borrowing.
- Developments in the AUSTRAC review, OFAC matters and TIO appeal, including any financial or operational consequences.