Activist investor campaign and involvement
Current situation with shares of eBay strikingly remind one of a very similar situation with Yahoo back in 2012. Back then, a well-known activist investor Daniel Loeb and his hedge fund firm Third Point LLC acquired a large stake in shares of Yahoo Inc, and publicized the hidden value of its Asian assets – namely, a 40% stake in Alibaba and a 35% stake in Yahoo Japan. Management did not understood the hint, and a more hostile and high-profile activist campaign followed. With new CEO and other reforms, corporate governance improved. Shareholder-friendly actions such as share buybacks were taken, and a great amount of shareholder value was unlocked, with a culmination that came in 2014 IPO of Alibaba Group. Shares of Yahoo did not move much in the first year since Third Point’s involvement. However, in May of 2012, signs of progress started to appear: Yahoo’s CEO Scott Thompson resigned. Since then Yahoo shares started a steady move up and returned 228% in a little over 2.5 years.
A similar situation, in my view, is developing at EBay. Carl Icahn, a well-known activist shareholder accumulated a 3.7% stake in the company. Similar to Yahoo, issues of corporate governance were raised by activist investor, as well as the value of a hidden asset (PayPal). It took some time for activist investor’s campaign to bear fruits, but in September of 2014, EBay agreed to spin-off PayPal in 2015 into a separate company.
It seems that now is the perfect time to separate PayPal. On the one hand, growing competition can harm PayPal and take away its leading market position if it remains tied-up with EBay. Once separate, the company will be able to define its own destiny and take any strategic steps to remain competitive and profitable. On the other hand, mobile payments and mobile banking industries present attractive growth opportunities for PayPal. Industry experts think that mobile payments industry is poised to experience tremendous growth during next few years. Gartner Group predicts that global mobile transaction volume and value will grow at an average annual growth rate of 35% between 2012 and 2017. Firm’s analysts forecast that by 2017, it will be a market worth $721 billion with more than 450 million users. Obviously, PayPal is one of the companies that is best positioned to profit from these trends.
To arrive at our valuation, we made few simplifying assumptions. Financials used are annualized numbers that are based on first 9 months’ results of EBay. To arrive at PayPal’s EBITDA, we used EBay’s EBITDA/Revenue ratio and Payments segment revenue. PayPal’s 2014 estimated EBITDA is $2,107 million. Using an EV/EBITDA valuation multiple of x15, annual EBITDA growth rate of 20%, and free cash flow that equates to 80% of EBITDA, in three years PayPal can be valued at $62 billion or about $50 per share. To put this into perspective, such amount represents 90% of EBay’s current value.
Remaining EBay’s business is estimated to generate $2,657 million EBITDA in 2014. Assuming a 10% growth rate and a valuation multiple of x15, by the end of 2017 EBay can be valued at $61 billion or about $49 per share.
EBay’s current net debt is a cash holding of $2,795 million or about $2.25 per share.
These three parts together add up to a little over $100 per share, providing investors with a possible upside of 80% over a three year holding period. Involvement of an activist shareholder, attractive valuation and growth prospects, and recently announced spin-off of EBay’s PayPal business provide a realistic path to unlock shareholder value. We therefore believe that shares of EBay present a very attractive investment opportunity for long-term, value-oriented investors.