Since John Donahoe succeeded Meg Whitman as EBay’s chief executive officer in March 2008, the world’s biggest online marketplace has returned less than 2 percent to shareholders. In the same span, its rival Amazon.com Inc. (AMZN) overtook EBay in equity value after more than doubling to $83 billion.
While EBay is worth $40 billion, separating PayPal, its online payments unit that is increasing sales twice as fast, would boost the combined value of the entities by as much as 30 percent, according to data compiled by Huntington Asset Advisors and Bloomberg. A spinoff would also let EBay finance its transformation into an online retailer more like Amazon without raising PayPal’s borrowing costs (EBAY), Morgan Keegan & Co. said.
“It may simply be better for PayPal to not be buried inside EBay,” Peter Sorrentino, who helps oversee $14.5 billion at Huntington, including shares of EBay, said in a telephone interview. “That’s something I would hope they’ve looked at as an exit strategy. Then that would allow you to jack up EBay.”
Alan Marks, a spokesman at San Jose, California-based EBay, said it has no plans to spin off the unit. He referred to a letter Donahoe sent to PayPal employees after the division’s former President Scott Thompson announced last week that he will become Yahoo! Inc.’s CEO.
“PayPal’s vision is clear,” Donahoe said in the letter. “PayPal had an outstanding 2011. Our strategies are set and we have a strong, focused leadership team in place.”
Relative Value
Founded in 1995 by Pierre Omidyar as AuctionWeb, EBay sold its first item -- a broken laser pointer owned by Omidyar -- for $14.83. Under Whitman, who became EBay’s CEO in 1998, the auction site grew into a $78 billion company by December 2004 before losing almost half its market value as more consumers turned to online retailers such as Amazon and its acquisition of Skype Technologies SA failed.
While Donahoe, 51, was hired to replace Whitman in March 2008 after revenue growth at EBayslowed (EBAY) for four straight years, the stock has appreciated (EBAY) just 1.4 percent to $30.63 since, according to data compiled by Bloomberg.
In the same period, shareholders of Seattle-based Amazon were rewarded with a 162 percent increase, the data show.
While analysts say the underlying value (EBAY) of EBay’s separate businesses are worth almost $39 a share, investors are discounting PayPal’s faster growth potential because sales from its marketplace business haven’t kept pace, according to Justin Patterson, a Nashville-based analyst at Morgan Keegan.
Lack of Credit
Revenue at PayPal, which EBay bought for about $1.18 billion in October 2002, has increased more than 75 percent in the past 12 months versus three years ago, according to data compiled by Bloomberg. Sales at EBay’s marketplace division have risen less than 10 percent. The online payments unit now accounts for about 40 percent of EBay’s revenue (EBAY), the data show.
“The growth is in PayPal,” Patterson said in a telephone interview. “It’s not getting as much credit. There is an inherent conglomerate discount that investors put on it, that is not necessarily in sell-side analysts’ price targets. Spinning out PayPal is one way to get that valuation (EBAY)more quickly.”
By spinning off PayPal, EBay’s shareholders could own two businesses with a combined value of as much as $40 a share, based on an estimate from Huntington’s Sorrentino.
“That’s a way of monetizing it for shareholders because it’s clear the market isn’t giving them that,” he said.
More Like Amazon
Separating the two would also enable EBay to borrow money to boost the long-term growth of its merchant-based business and compete with Amazon without jeopardizing PayPal’s profitability.
PayPal, which relies on the short-term debt markets to finance its operations, would have to pay a higher interest rate if EBay’s credit rating (EBAY) was lowered.
EBay has already increased spending on branding and technology in the past year, and started an advertising campaign in the last three months of 2011 after marketing expenses rose 29 percent in the third quarter.
To gain more retailers, EBay also unveiled its X.commerce platform in October that lets developers create products and connect with merchants without requiring them to use EBay.
With PayPal, “you have a need for a high credit rating to access short-term funding,” Jason Paraschac, a New York-based analyst at Fitch Ratings, who has an A rating on EBay’s debt, said in a telephone interview. “The EBay marketplaces business does not have those financing needs. As the business matures and growth slows down, from the capital standpoint, it makes sense to add leverage. That would negatively impact PayPal.”
Big Enough
Colin Gillis, an analyst at BGC Partners LP in New York, says keeping EBay and PayPal as an integrated business makes more sense as more consumers use mobile devices to shop and pay for goods and services. Much of PayPal’s growth also comes from EBay itself, because retailers that sell on the online marketplace are required to offer PayPal as a payment option.
“You don’t want to have different accounts, different processes -- you want to link these things together as much as possible,” Gillis said in a telephone interview. “It also gives you that end-to-end data on the entire transaction. If you’re a merchant you have to take PayPal.”
With more than 100 million active accounts and the value of processed payments approaching $30 billion in the third quarter, Keith Wirtz, who oversees $14.6 billion as chief investment officer at Fifth Third Asset Management in Cincinnati, says that PayPal is now big enough so it doesn’t need to rely on EBay.
‘Muddied Up’
PayPal said last week that it will start a partnership with Home Depot Inc. (HD) this year to let shoppers use the payment system at checkout in the home improvement chain -- its first agreement to move away from EBay’s Internet business and allow purchases to be processed on in-store terminals.
A plan to separate PayPal would also help attract qualified CEO candidates after the departure of its president, Wirtz said.
As an independently run financial-services company, PayPal could gain a valuation that exceeds the earnings multiples investors pay to own the world’s largest payments networks -- San Francisco-based Visa Inc. (V) and Mastercard Inc. of Purchase, New York -- by as much as 20 percent, he said.
Applying that premium to Visa’s multiple (V) on its projected earnings this year would value PayPal at more than 20 times as a separate company, data compiled by Bloomberg show.
That’s 50 percent higher than EBay’s valuation of 13.3 times estimated profit (EBAY) for 2012, the data show.
“PayPal’s growth rates would warrant that kind of a premium,” Wirtz said in a telephone interview. Using PayPal “goes well beyond the EBay act itself. If it were a public company, you would see a valuation that’s centered on them and not be muddied up by being within EBay. Their relationship may be in a stage where it’s in a shareholder’s interest (EBAY) for the two to separate,” he said.
To contact the reporter on this story: Danielle Kucera in San Francisco atdkucera6@bloomberg.net.
To contact the editors responsible for this story: Daniel Hauck at dhauck1@bloomberg.net; Katherine Snyder at ksnyder@bloomberg.net; Tom Giles at tgiles5@bloomberg.net.
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