eBay (NASDAQ:EBAY) reported its second quarter results on Wednesday after the close. Investors were relieved with the report which was essentially in line with consensus estimates as some were fearful that all the recent bad publicity and developments could have had a bigger negative impact on the business.
That being said, CEO John Donahoe has a lot of work to do for the remainder of the year. Despite the recent underperformance I remain cautious amidst fierce competitive pressures.
Highlights For The Second Quarter
eBay posted second quarter revenues of $4.37 billion which was up by 12.6% compared to the comparably period last year. Revenues missed consensus estimates at $4.39 billion.
Earnings growth was limited to 5.6% with earnings advancing to $676 million. Share repurchases managed to boost earnings per share growth to 8.2% as earnings rose by four cents to $0.53 per share.
On a non-GAAP basis, earnings were up by six cents to $0.69 per share. This came in a penny better than anticipated.
Looking Into The Results
As is very clear, PayPal is the growth driver behind eBay's continued expansion. Revenues at PayPal rose by 19.8% to $1.95 billion, making up nearly half of total revenues. Underlying this growth is a 29% increase in commerce value being enabled to $55.0 billion.
The number of accounts rose by 15% to 152.5 million while the total number of payments jumped by 21% to 850.2 million. The so important ¨take¨ rate which are the revenues as a percentage of revenues came in at 3.53%. This is down 26 basis points compared to last year, and down 2 basis points on a sequential basis.
Marketplace revenues came in at $2.17 billion. The namesake and traditional business posted 8.6% revenue growth compared to last year. Total enabled commerce volume rose by 12% to $20.5 billion.
And last is the relative small enterprise business which posted a merely 3% increase in sales to $267 million. Margins are relatively high but are shrinking as commerce volume jumped by 15% to $940 million.
It is clearly disappointing to see earnings growth trailing topline sales results. Operating costs jumped by 90 basis points while gross margins were down by 70 basis points. Part of this of course has to do with the fact that enabled commerce volume at both PayPal and eBay's marketplace outpaces actual revenue growth amidst price and rate pressure. Higher operating costs were the result of strategic investments as well as costs associated with the security breach.
Given today's heightened focus on taxes, realize that eBay only reported a 15.8% effective tax rate, far below statutory tax rates. This is as much money is earned abroad, which does result in sizable repatriation charges when cash is being send back home.
For the current third quarter, eBay sees revenues of $4.3-$4.4 billion which would imply sales growth of 12.1% at the midpoint of the range.
Despite flattish sequential revenues, earnings are expected to face more pressure. GAAP earnings are seen between $0.51 and $0.53 per share, down from a reported $0.53 per share in the second quarter. Non-GAAP earnings are set to fall towards $0.65-$0.67 per share.
The third quarter outlook looks soft compared to consensus estimates with analysts anticipating earnings of $0.70 per share on sales of $4.42 billion.
Full year sales are seen at $18-$18.3 billion which implies $5.0-$5.3 billion in revenues for the so important holiday quarter. Non-GAAP earnings are seen between $2.95-$3.00 per share. This is as the company expects to post a tiny profit on a GAAP basis for the year due to tax repatriation charges taken in the first quarter.
eBay ended the quarter with $12.4 billion in cash, equivalents and short term investments. Subtracting $5.3 billion in debt, results in a net cash position of about $7.1 billion.
Trading around $51 per share, eBay's equity is valued at $64 billion which values operating assets at $57 billion. This values the company at roughly 3.1 times sales and roughly 20 times GAAP earnings after backing out cash repatriation charges.
Given the healthy balance sheet, eBay is already returning cash to investors as it bought back $1.7 billion worth of shares during the quarter. At the moment its board has authorized management to repurchase another $2.2 billion worth of shares.
Multiple Headwinds Are Affecting eBay
CEO John Donahoe is having a rough year. He is aiming to fence off competition in the two core businesses, has to deal with activist investors, saw a huge data breach and faces the results from changes in algorithms at Google's (NASDAQ:GOOG) search engine.
Competition is hurting eBay in both the payment and market place unit. PayPal is still dominant, but attractive take rates have attracted interest from start-ups, while industry giants like Amazon.com (NASDAQ:AMZN) and Google are looking into the area as well. Amazon is furthermore a big competitor in the marketplace business in which it is reporting superior revenue growth, while traditional retailers are ramping up their e-commerce investments as well.
Perhaps following the much anticipated public offering of Alibaba later this summer, the Chinese e-commerce giant could become a worthy competitor on at least a global basis as well. Reports indicated that the Chinese giant is entering the US e-commerce market after previously mainly focusing on China.
Furthermore Donahoe witnessed a very public and though fight with activist investor Carl Icahn, which urged Donahoe to spin-off the PayPal unit. The company and Donahoe settled the disagreements with Icahn but the poor share price performance, which has caused losses for Icahn at current levels, will undoubtedly pressure Donahoe.
The breach resulting from a cyber attack has had in impact as well, with eBay asking customers to change their passwords back in May. The effects of this were notable in the short term, being a big driver behind operating costs increases. At last was the departure from PayPal's boss David Marcus which was highly regarded. Marcus left for a top job at Facebook (NASDAQ:FB).
The market is relieved by the numbers, possibly anticipating a bigger impact from the recent weaker news and distractions. That being said, enabled commerce volume of $61.6 billion was up by 26% as a sizable portion of these volume gains were offset by compressing take rates.
Shares now trade around 20 times earnings after backing out the net cash position. While growth is still impressive at lower double-digit rates, there are clearly plenty of reasons to worry. Of course competition and continued pressure on take rates are two of my main concerns which could erode the core businesses.
Long term investors have seen their up and downs. Unlike many competitors, shares actually peaked in 2004 and not during the dotcom bubble. Shares fell from $60 that year to lows of $10 during the crisis, but underlying growth at PayPal which it acquired about a decade ago has pushed up shares significantly. Since the end of 2012, shares have now largely traded in a $50-$60 trading range, lagging overall markets and technology stocks in recent years.
The valuation has therefore become more appalling based on price-earnings ratios, while the competitive risks are larger as well in my eyes.
At current levels I don't view the risk-reward opportunity as compelling enough. Trading around $45 per share I might be included to pull the trigger.
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