EBay Thrives on Mobile Shoppers

Our favorable long-term view on  eBay (EBAY) remains fully intact following a strong second-quarter showing from the company. PayPal continues to evolve into a more diversified facilitator of commerce through new offline transaction-processing capabilities, but in our view, consumers' increasing comfort with mobile shopping and the halo effect it is having on other aspects of eBay's business were the clear highlights from the quarter. 

With an expansive network of buyers and sellers and leading payment-processing innovations, we've long held the position that eBay was well-positioned to capitalize on consumers' gravitation toward mobile shopping and merchants' increasing acceptance of mobile payment processing. However, management's updated outlook for $10 billion in mobile gross merchandise volume transacted and $10 billion in mobile payment volume processed in 2012--a notable increase from the $8 billion and $7 billion forecast earlier in the year and more than double the $5 billion and $4 billion in volumes last year--was modestly ahead of our expectations and makes eBay one of the early leaders in this rapidly growing field.

We believe the company is on track to meet its 2013 revenue and segment-level profitability targets ($6.5 billion-$7.0 billion and 25%-26% for PayPal, $7.5 billion-$8.0 billion and 38%-42% for marketplace, $1.2 billion-$1.3 billion for GSI), and even though further mobile commerce innovations could lead to upside in our base-case assumptions in the years to come, we've taken a more conservative outlook for near-term international revenue growth and margin expansion amid global macroeconomic pressures and will keep our fair value estimate intact for now. Still, even after moderate gains in the stock price Thursday morning, we believe eBay's potential in the global commerce landscape remains underappreciated by the market--shares are trading around 15 times our 2013 adjusted earnings-per-share estimate (14 times excluding $4.40 per share in cash on the balance sheet as of June) and an enterprise value/adjusted EBITDA multiple of roughly 11 times--and find the current valuation to be an attractive entry point.

EBay's marketplaces segment posted impressive currency-neutral, top-line growth of 14%, driven primarily by a 15% gain in currency-neutral, nonvehicle gross merchandise volumes to $16.2 billion (the highest quarterly organic growth rate since 2006), an acceleration in active user growth (which increased 7.8% year over year to 104.8 million users), and a 19.7% increase in the number of items sold. Core international marketplaces gross merchandise volumes (excluding vehicles) rose 8% to $9.9 billion on a reported basis, but increased 16% on a currency-neutral basis on strong growth from both Europe and Asia-Pacific. Based on strength in several categories where the company has made website enhancement in recent years (fashion, tickets, and parts/accessories), marketing efforts focused on raising consumer awareness of the marketplaces segment's fixed-price offerings, as well as increased free shipping (48% of all marketplaces transactions shipped free during the second quarter, up 11% year over year), eBay's marketplaces have clearly become a more relevant shopping destination in the eyes of consumers across the globe. Marketplaces segment-level operating margins improved 80 basis points to 39.6% during the quarter despite increased technology and marketing investments, demonstrating the leverage inherent in this segment. 

PayPal also carried its momentum into the second quarter, with currency-neutral revenue increasing 23% following a 20% increase in total payment volumes ($34.5 billion), a 12.9% increase in active users to 113.2 million, and a 21-basis-point increase in the take rate (stemming from a mix shift toward Bill Me Later payments and cross-border transactions). More importantly, PayPal's profitability remained healthy despite numerous infrastructure and technology-related investments, with segment-level margins of 25.8% representing nearly 400 basis points of improvement and keeping the company on track to meet (and likely exceed) the high end of its 2013 objective of 24%-26%. PayPal's in-store point-of-sale rollout continues to make progress, with 15 additional national retail chains beyond  Home Depot (HD) committing to accept PayPal this year, including  Abercrombie & Fitch (ANF) and Jos. A. Bank. Interestingly, management pointed out that some retailers (such as
 Office Depot (ODP)) are exploring adding not only PayPal to their point-of-sale terminals but also their mobile commerce sites, demonstrating PayPal's multichannel appeal. We remain confident in our five-year PayPal segment revenue growth and profitability projections (high-teen average annual revenue growth with segment-level margins reaching the 26% range), though we acknowledge that the large addressable market of approximately $10 trillion (the total value of commerce transactions expected by 2013, according to Economist Intelligence Unit) provides PayPal with multiple upside opportunities in the years to come.

Strong top-line and segment-level margin results from the marketplaces and PayPal units, coupled with solid contribution from GSI (which posted 9% growth on strong volumes), resulted in second-quarter earnings per share of $0.56 (adjusted for one-time items), a penny above consensus expectations. Although management acknowledged the possibility of macroeconomic headwinds in Europe during the back half of the year, eBay's outperformance in North America during the first half of the year gave management confidence to leave its 2012 outlook intact, including revenue between $13.8 billion and $14.1 billion and non-GAAP earnings per share of $2.30-$2.35 per share. Our estimates were previously near the high end of both estimates, and we don't plan material changes to our near-term forecasts (which assume continued market share gains from PayPal and increased traction within the marketplaces segment).

Although it is a relatively small deal, eBay's acquisition of card.io earlier in the week strikes us as highly complementary to PayPal. Card.io has developed technology that allows users to scan credit card information via smartphone cameras, which should not only make mobile commerce transactions easier, but as management noted on its second-quarter conference call, could also develop into a customer-acquisition tool.

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