eBay: Getting Something for Nothing

Oct.19.08 | About: eBay Inc. (EBAY)

In my first post I had made the point that investors have un-fairly punished the whole of eBay (NASDAQ:EBAY) for its struggling core site. I pointed out that eBay is now made up of a lot more then just auctions and their healthy high growing properties are now suffering "guilt by association."

Paypal is sleeping with the enemy

I received many challenges on how I breakdown my original revenue lines, and I want to thank those critics. My goal is always first give all the facts, and then give my opinion.

Here are two good points that eBay shorts made:

  1. Much of Paypal's revenue comes from eBay's auctions sites
  2. Much of eBay's Marketing services also come from eBay's auctions sites

I want to tip my hat to people that pointed this out and take these points into account.

Let's take a closer look

So how much of PayPal's revenue comes from the (now perceived as cancerous) eBay auction sites?

49% and falling – here is the percentage of Paypal's revenue from eBay auction sites for the last 4 quarters

  • 56% Q4 2007
  • 54% Q1 2008
  • 51% Q2 2008
  • 49% Q3 2008

As you can see the trend is that more and more of Paypal's revenue is coming not from eBay auctions sites but from Merchant Services, like the non-widely known recent agreement for WalMart.com to accept Paypal.

In an effort to sever revenue associated with eBay, let me be conservative and assume half of the revenue generated from Paypal's eBay relationship will go away – that still gives us a ttm (trailing twelve month) revenue total of $1.73 Billion (out of $2.34 B) in revenue and growing 27% Y/Y. During a recent investor conference John Donahoe disclosed that PayPal's operating margins (excluding options) is expected to come around 20% in 2009. That gives us a net income of approximately $346 Million for the Paypal unit for the last 12 months.

Following the same exercise for Marketing Services (assuming one half of the advertising on eBay will be toast and a 40% operating margin) we get a (ttm) $263 million in net income and growing at 50+% Y/Y.

We all can agree Skype has no synergies with eBay and we can safely claim its full net income does not rely on eBay auctions sites. So Skype's (ttm) contribution is approximately 89 million in net income growing at 40+% Y/Y (again using John Donohoe's disclosed operating margin of Skype of approximately 16% & 40% for marketing revenue)

In total we get:

$346 million from Paypal (excluding ½ of eBay transactions)
$263 million from Marketing Services (taking out ¼ for 'foreseen' eBay losses in traffic)
$89 million from Skype
----
=(ttm) Net Income (excluding taxes) of $698 Million

That gives us an EPS of non-Auction entities of .54 cents a share based on a diluted share count of $1.29 B.

54 cents per share gives us a P/E (based on $15 as of early 10/17/2008) of 27*

Okay, okay so what does this all mean?

How does a P/E of 27* compare to other large dotcoms?

As of early 10/17/2008, we get:

  • Google (NASDAQ:GOOG) @ 282 P/E is 25
  • Yahoo (NASDAQ:YHOO) @13 P/E is 25
  • Amazon (NASDAQ:AMZN) @53 P/E is 38
  • Baidu (NASDAQ:BIDU) @240 is 71

So essentially you're getting healthy high growing companies like Paypal, Skype, Kijiji, Shopping.com, 25% of Craigslist, Shopping.com, and Rent.com (among others) for a reasonable P/E of 27*. This is in-line with other dotcoms, and more importantly completely taking eBay.com (and all its international counterparts) out of the equation.

Don't throw the baby out with the bath water

I hope I've proven my point that the market has completely written off eBay auction sites as the next AOL. This may be true, but as I've clearly laid out above - investing in eBay today at $15 has this assumption already priced in; you're in effect getting eBay.com (and all its international auction sites) for free. I personally don't think eBay is going away any time soon, and I acknowledge the monumental challenges ahead. The fact remains that there is still no better place to sell or buy your vintage 1977 Led Zeppelin shirt...and as the Oracle says, if you can something for nothing, you're already ahead.

*Will be higher depending on tax rate.

Stock position: Long on eBay.