buy it now
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Buy It Now
eBay shares are undervalued
May 26, 2010
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RecentStock Price:
$21.59
Recent Valuation
World’s largest online auction business
Strong cash flow generator
Low capital needsCash rich balance sheet
No debt
Embedded in the com an is Pa Pal one of the
eBay Inc: Investment Thesis
Capitalization:
Enterprise
Value: $23.39bnEquity Market
Value: $28.22bn
u p es:
13x ’10e EPS
11.9x ‘10e FCF
largest online payment processorsMarket leader
Strong secular growth
Intrinsic value of company not currently reflected
in the market
Company worth significantly more on sum-of-
the-parts basis
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eBay is misunderstood by The Street...
•eBay is still viewed as a tech company,
although it should be viewed as both a
“retailer”/auctioneer and a payment processor
within the eBay portfolio, the company is not being
priced appropriately
• On a sum-of-the-parts basis, eBay remains
significantly undervalued by 33-52% over twoyears
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Opportunities for value creation
• As eBay’s share price has continued to
stagnate, the case for shareholder activismgrows
Separation of Marketplace and Payments
us nesses Factor loan receivables to eliminate credit risk
Improve transparency on payments business
Return cash to shareholders via dividend or share
buyback program
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eBay Management has historically pursued a bolt-on acquisition strategy with mixed results
Craigslist
PayPal
Skype
StumbleUpon
..others haven’tSome deals made sense..
u uGmarket
e a er
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This what Warren Buffett refers to as the “Institutional Imperative”
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Today, eBay is comprised of two distinct corebusinesses
• Auction and fixed priced
listings
• Payment processing
on & off eBay
Marketplace Payments
• mm users• Fee based revenues
• Mature business
• ~61% of revenues
• ~40% profit margin
• Slow grow, low multiple
business
• 80mm users• Fee based revenues
• Growth business
•~32% of revenues
• ~19% profit margin
• Rapidly expanding, high
multiple business
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• eBay provides users a platform to buy and sell goods online, either in
fixed or auction form Fees earned from listing volume but primarily based on value of
good sold
No inventory risk
Lo al customer base
Marketplace businesses
High switching costs, pricing power and moat
• Marketplace business has matured
Growth in Gross Market Value (GMV) sold has moderated but isstable
• Business has been migrating towards fixed price listings (~55% of total)
Company is branding itself more as a retail outlet
No real margin differential between fixed and auction listings
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The Marketplace business is in the midst of
a multi-year turnaround
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eBay’s turnaround story
• eBay began to have difficulty attracting sellers
and buyers due to fee adjustments and pooruser experience
The company has since taken a number of steps as part of it’s 3-year plan to
Attracting sellers by offering lower insertion fees,
higher final value fees
Improving search algorithms, web interfaceProviding top seller discounts
Introducing buyer protection
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rig t t e s ip
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The Marketplace business is on its way tobecoming stronger than ever
eBay remains one of the top shopping destinations on the web
The eBay brand is synonymous with value, selection and security
Sticky customer base as many sellers rely on eBay for their livelihood in an industry with no real competitor
Increasingly frugal consumer will come to eBay in search of good prices
Core auction business remains one-of-a-kind
e ay ne wor commun y s a mos mposs e o rep ca e, g v ng e company a w e moa
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eBay should be thought of in many respects as a royalty business, offeringcustomers access to it’s platform and it’s invaluable outlet to the world’s
buyers for a fee.
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Payments business
• PayPal facilitates payments betweenbuyers and sellers for purchases on andoff eBayAllows bu ers to kee sensitive information
secure and private while shopping onlineProvides for convenient paying and buyer
protection
Fosters incremental sales at lower costs to
merchants due to trust and convenience PayPaloffers
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PayPal is a unique and valuable asset
Dominant market leader in rapidly expanding online
payment industry Secular tailwind in the form of increased e-
commerce and use of plastic
network of users and merchantsAdoption growing quickly outside the US
Takes virtually no credit risk*
Earns float on +2bn customer balances
Earns fees primarily based on market value of transaction
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*see slide on “Bill Me Later”
PayPal is slowing becoming the crown jewel of eBay but the value of the business is not currently
reflected in the company’s share price
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eBay’s other revenue generators
• Advertising
(12% revenue; Marketplace/PayPal mix)
• Skype (equity interest)
•
• Other web properties (shopping.com,
rent.com)
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eBay’s two core business are worth more today
than is currently reflected in it’s share price
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How much is eBay worth?How much is eBay worth?
Illustrative eBay Stand-Alone Value
2009E 2010E 2011E 2012E
YoY Growth Rate 10.00% 5.00% 5.00%
GMV (mm) 57,206 62,927 66,073 69,377
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. . . .
Net Revenue 4,290 4,719 4,955 5,203
Segment Margin 40.00% 40.00% 40.00% 40.00%
Operating Profit 1,716.18 1,887.80 1,982.19 2,081.30
10x Forward Multiple 18,878 19,822 20,813 21,437
14x Forward Multiple 26,429 27,751 29,138 30,012
Average Market Value 22,654 23,786 24,976 25,725
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Illustrative PayPal Stand-Alone Value
How much is eBay worth?
2009E 2010E 2011E 2012E
YoY Growth Rate 25.00% 20.00% 20.00%
TPV (mm) 71,616 89,520 107,424 128,909
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. . . .
Net Revenue 1,547 1,934 2,320 2,784
Segment Margin 19.00% 19.00% 19.00% 19.00%
Operating Profit 293.91 367.39 440.87 529.04
18x Forward Multiple 5,511 6,613 7,936 9,022
25x Forward Multiple 9,185 11,022 13,226 15,036
Average Market Value 7,348 8,817 10,581 12,029
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Combined Business Value
2010E 2011E 2012E
Paypal + Ebay Market Value (mm) 33,265 36,350 38,656
Cash & Cash Equivalents 4,943 4,943 4,943
Total Market Value 38,208 41,293 43,599
Share Outstanding 1,331 1,331 1,331
eBay shares are currently undervalued by ~33-52% over a 2 year span using a 12x and21.5x forward multiple on the Marketplace and PayPal businesses respectively. Thisrepresents an IRR of 23%.
In the future, PayPal should also deliver higher segment margins as business requiresless reinvestment, driving shares higher.
You are also getting over $1bn in advertising revenue, $100mm communications revenueand a 35% equity stake in Skype ($965mm value) for free.
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Ebay Stand-Alone Share Price 17.87 18.76 19.33Paypal Stand-Alone Share Price 7.12 8.55 9.72
Cash Per Share 3.71 3.71 3.71
Total Share Value 28.71 31.02 32.76
Upside Potential 32.96% 43.70% 51.72%
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Spinning off PayPal will…
• Create two companies: a mature
Marketplace business (Mature Co.) and a
growth Payments business (Growth Co.)
•
g g e n eren va ue o e company
• Allow the two business to trade at their
proper valuations
• Give shareholders the right to decide whatthey want to own (Marketplace, Payments
or both)
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Seems simple enough, so what’s theproblem?
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Management has showing a willingness to divestunits (StumbleUpon, Skype)..
“And I get a question frequently on PayPal of wouldn’t we bebetter off with PayPal being separate? Our sense is no, thatactually there are strong synergies between PayPal and eBay, thateBay continues to provide PayPal with new customers, that thereis still growth for PayPal left on eBay…And there’s nothing about
-- ,
quite the contrary; being part of the overall portfolio allows us tomove on an acquisition and opportunity like Bill Me Later. So weare focused on trying to take advantage of the synergies. We don’tthink we’ve fully realized the synergies between eBay and PayPal.”
John Donahoe,
eBay CEOQ3 2008 Earnings Call
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Management seems willing to divest units(StumbleUpon, Skype)…(cont’d)
“We are continuing to drive success in our business in each of these unitsas well as trying to drive synergies and we still see strong synergiesbetween eBay and PayPal. In particular, we see the synergies around eBayprovide new users to PayPal, in essence, for free, and that continues tobe the case. That's still about half of PayPal's new users. So, our intent is
them. If and when those synergies run their course, we would reevaluateit then, but, I think for now, we feel quite good about those synergies andobviously the synergies between the alternative ecommerce formats ineBay and PayPal continue to be strong.”
John Donahoe,eBay CEO
Q4 2008 Earnings Call
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Management seems willing to divest units(StumbleUpon, Skype)…(cont’d)
“ Is everything on the table? Yes, in the following sense. We viewour job as to drive maximum value for our shareholders. We
believe the best way we can do that is to have strong core
businesses that have synergies we’re extracting and we grow
those businesses and strengthen them over time and that willdeliver the best value to shareholders.”
John Donahoe,
eBay CEO
Q1 2009 Earnings Call
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…but remains hesitant when it comes to PayPal
“ There continues to be strong synergies between eBayand PayPal. You saw that in the increased penetrationPayPal has had on eBay…eBay continues to provide a
for free and eBay Inc.’s balance sheet allows us toinvest in PayPal’s business and make investments likeBill Me Later that further its position.”
John Donahoe,
eBay CEO
Q1 2010 Earnings Call
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It’s time to spin-off PayPal
• 18 months later, the situation is worth revisiting
• Management’s rationale for retaining PayPal is no longer justified(i.e., tapping eBay as a source of “free growth”, use of eBay
balance sheet) and relies heavily upon on “synergies"
PayPal has already captured ~60+% of the eBay market (potential$60 GMV
-
PayPal has likely generated enough cash flow of its own to grow the businessgoing forward
As a public company, PayPal would also be able to raise capital of its own
• The view that eBay is “not holding back” PayPal’s
growth is inaccurate and irrelevant PayPal would gain wider acceptance if it weren’t under a
“competitor’s” umbrella
The sole goal of management is the maximization of shareholder
value, which would be accomplished via a PayPal Spin-off 26
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PayPal’s growth is becoming less dependent oneBay
40.00%
50.00%
60.00%
70.00%
Paypal TPV by Segment
0.00%
10.00%
20.00%
30.00%
Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10
eBay as % TPV Merchant Services as % TPV Bill Me Later as a % TPV
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PayPal’s TPV is growing at 43% CAGR off eBay versus 6% on eBay
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PayPal continues to be the driving force behindeBay’s growth
40.00%
50.00%
60.00%
Revenue Growth by Segment
-10.00%
0.00%
10.00%
20.00%
30.00%
2005 2006 2007 2008 2009
Total Revenue Growth Marketplace Revenue Growth Payments Revenue Growth
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Management seems reluctant to let PayPal go as it will highlight the slowdown atthe core business.
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It’s time to spin-off PayPal..(cont’d)
• However, the proposal has merits:
Allows eBay to focus on fixing its core business
Allows PayPal to grow without being hampered by
eBay’s ongoing restructuring
Allows the market to properly value two distinctbusinesses
Opens up strategic deals with eBay’s rival
merchants which previously were not willing to deal
with PayPal
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Proposal 2: Sell “Bill Me Later” Receivables,
Improve Transparency
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Bill Me Later
• Business acquired by eBay under the PayPal
umbrella in late 2008 for $1.2bn• Provides transactional credit to customers, both
PayPal and non-PayPal purchases
• Loans are extended by CIT and repurchased byeBay
• Current loan book stands at $641mm
• Businesses don’t seem to have synergies with theexception of cross-selling
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Acquisition Rationale
“On Bill Me Later..the intention was to take the number
one – PayPal – and the number two alternative onlinepayment businesses with very complementary skillsand put them together, leveraging the complements.
,
presence; PayPal with a very strong, small sole-proprietor SMB kind of presence. With thecombination of the product, the platform and the salesforce that we would be able to increase our presence
with large and small merchants…”John Donahoe,
eBay CEO
Q3 2009 Earnings Call
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Bill Me Later loans are likely of questionablequality
• While cross selling opportunities may make
strategic sense, retaining credit risk does not
Consumers financing eBay and other purchases through BillMe Later likely have poor credit scores and lack alternative
means of procuring credit
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Bill Me Later loans are likely of questionablequality (cont’d)
Based on company data, loans carry roughly a 22% yield pre-
write-offs
These rates hint at the (poor) quality of the underlying
borrower
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Interestingly, the company does not disclose theaverage FICO score for its Bill Me Now clients
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If the loans were of good quality, the company would havenothing to hide
How can shareholders gain comfort around risk without requisite data?
If Bill Me Later is going to be a meaningful profit driver, how does eBayget away with withholding this level of information?
Is Bill me Later a business eBay should be involved in?
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Why is PayPal taking credit risk?Why is PayPal taking credit risk?
• Classic example of corporate style drift
• eBay is not in the credit assessment
business
are they investing in them?
• eBay’s core competencies are auctions and
payments; they should leave the loan
underwriting and investing business to
consumer finance companies and other
investment vehicles36
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PayPal would be more attractive to investorswithout the credit risk
• Credit card networks without credit
exposure (V, MA) trade at premiums to
those who do have credit exposure (AXP)
• The same logic applies to paymentprocessors
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Given PayPal’s access to supplemental borrower data and the attractiveyields of the loans, eBay can easily find an appropriate buyer for this risk
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Proposal III: Initiate Dividend/Share
Buyback
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Management has cited future acquisitions and the tax
penalties associated with moving cash to keep from returnmonies to shareholders..
“As you know, the reality of that cash is about $400
million sits here in the U.S. and the rest of it off-shore,so the inherent flexibility we have to use our strongbalance sheet and our strong cash flows here
associated with it…and from a more macroperspective, I would say we always look at our inherentcapital structure and the best way to maintain ourfinancial flexibility to invest and grow while
redeploying our capital to shareholders, and we’llcontinue to do that.”John Donahoe,
eBay CEO
Q3 2008 Earnings Call
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..but more recently has stated it would considerreturning cash to shareholders
“ … we will continue to look for acquisitions
that will strengthen our two core businessesand we will look to opportunistically
don’t believe the value of the firm isadequately reflected in the stock price. That’s
what we have been doing over the last couple
of years and we’ll continue to do that.”John Donahoe,
eBay CEO
Q3 2009 Earnings Call
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Mature Co. will have enough cash to meet it’s goals of reinvesting in
the business while still returning cash to shareholders
• eBay has over 4bn of cash on its balance sheet
• As a mature, high cash-flow generative business,Mature Co. should initiate a dividend/sharebuyback to return excess cash to shareholders
• Management pre ers to reinvest in t e usinessand has occasionally bought back shares
• Given the companies’ mixed acquisition historyand growth profile of the Marketplace business,
shareholders would be well served with a returnof capital
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Conclusion: Buy It Now • eBay is comprised of a maturing but profitable auction
business and a high growth payments business
• Company boasts a fortress balance sheet, great
customer loyalty and strong cash flow generation
• n a sum-o - e-par s as s, s ares are s gn can y
undervalued
• Potential catalysts to unlock value:
Spin-off payments business
Eliminate credit risk/improve transparency Initiate dividend/buyback program
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Upside potential: 33-52% over two years