PayPal Holdings, Inc. — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015; unaudited. Unless stated otherwise, amounts are in U.S. dollars. PayPal was distributed to eBay stockholders on July 17, 2015, so the reported historical statements are combined/pre-separation results and include eBay cost allocations.
Business context and performance
PayPal operates a global digital and mobile payments platform, including PayPal, PayPal Credit, Venmo and Braintree. Q2 growth was driven primarily by payment volume and transaction growth.
- Q2 total payment volume (TPV) rose 19% to $67.5 billion; payment transactions increased 25% to 1.16 billion and active customer accounts increased 11% to 169 million.
- For the six months, TPV increased 18% to $130.5 billion, transactions rose 24% to 2.28 billion and active accounts increased 11% to 169 million.
Financial results and liquidity
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net revenue | $2.297B | $1.983B | $4.434B | $3.857B |
| Operating income | $398M | $330M | $720M | $648M |
| Net income (loss) | $305M | $281M | $560M | $(101)M |
| Diluted EPS | $0.25 | $0.23 | $0.46 | $(0.08) |
| Operating cash flow | $622M | $560M | $1.166B | $985M |
| Free cash flow | $391M | $464M | $741M | $789M |
- Revenue grew 16% in Q2 and 15% for the half-year. Q2 operating income grew 21%; six-month operating income grew 11%. GAAP operating margins were approximately 17.3% and 16.2%, respectively, versus 16.6% and 16.8% in the comparable periods.
- Management-reported non-GAAP operating margin was 23% in Q2 versus 21%; for the six months it was 22% in both years. Non-GAAP measures exclude specified items and should be considered alongside GAAP results.
- Transaction and loan losses increased 28% in Q2 and 33% for the six months. The loss rate on TPV was 0.27% in Q2 versus 0.25%, and 0.28% for the half versus 0.25%.
- Six-month net income improved substantially from the prior-year loss, largely because 2014 included a roughly $650M deferred tax charge related to undistributed foreign earnings. The effective tax rate was 22% for the 2015 half-year versus 116% in 2014.
- Free cash flow declined 16% in Q2 and 6% for the half, primarily reflecting higher capital spending. Six-month investing cash outflow was $3.752B, including $4.465B of investment purchases, $425M of property and equipment purchases, and acquisition spending; financing cash inflow of $2.972B included an approximately $3.8B contribution from eBay.
- At June 30, cash and cash equivalents were $2.562B and available-for-sale investments were approximately $4.077B. Management reported $6.639B of cash, cash equivalents and available-for-sale investments, excluding customer-account assets. Customer funds receivable and customer accounts of $11.386B were matched by funds payable and amounts due to customers.
- Total liabilities were $14.171B and equity was $12.740B. The filing text does not provide a clear standalone funded-debt balance. In July, PayPal entered a $2B five-year unsecured revolving facility; no amounts were drawn as of July 17.
Material changes, outlook and risks
- PayPal became an independent public company after quarter-end. Separation-related costs, eBay allocations and dependence on eBay arrangements make historical results potentially nonrepresentative of future standalone costs and performance.
- Transaction revenue increased 15% in both comparison periods. Growth below TPV growth reflected a greater share of volume from large merchants, which generally pay lower rates. Other value-added revenue rose 21% in Q2, including a $26M initial premium from selling participation interests in consumer loans.
- Consumer loans and interest receivable were $3.152B at June 30, down from $3.586B at year-end; the filing attributes the decrease primarily to loan participation sales. About 90% of the portfolio was current. PayPal also had $22.1B of unused credit available to PayPal Credit accountholders, which is not an expected draw amount.
- Management provided no specific financial guidance. It said available liquidity, operating cash generation and potential third-party funding were expected to be sufficient for operations, capital expenditures and the PayPal Credit portfolio for the foreseeable future.
- PayPal agreed to acquire Xoom for approximately $890M net of cash, subject to customary conditions and regulatory approvals, with closing expected in Q4 2015. The filing also reports Q2 acquisitions of Paydiant and CyActive, with aggregate gross consideration of approximately $281M.
- Key exposures include rising transaction and credit losses, foreign-currency movements, competition and technology execution, cybersecurity and service interruptions, extensive financial-services regulation, and dependence on third-party lenders and processors. The company noted that foreign-exchange movements negatively affected six-month revenue by approximately $166M, partly offset by hedges.
- In May, PayPal settled CFPB allegations concerning PayPal Credit practices through a consent order requiring $15M in consumer redress, a $10M penalty and changes to disclosures and business practices. An OFAC settlement concerning historical transactions had no material financial-statement impact. The company stated that probable legal accruals were not material, but litigation outcomes remain uncertain.
- The estimated maximum potential exposure under buyer and seller protection programs was $73.250B; management cautioned this is not representative of likely actual exposure. The related transaction-loss allowance was $190M.
Important facts for investors to verify
- How standalone operating costs, margins and cash generation compare with the eBay-allocated historical figures after separation.
- Whether transaction-loss and loan-loss growth moderates, and how loan participation sales affect future credit revenue and risk.
- How much liquidity is unrestricted for corporate use, given customer funds are separately matched to customer obligations, and whether PayPal uses its revolving facility.
- Whether eBay-related revenue, customer acquisition arrangements and transition agreements remain stable after separation.
- Progress on CFPB consent-order compliance, Xoom closing and integration, and any material changes in regulatory, litigation or protection-program exposure.