1 simple question for investors looking at buying PayPal shares

Investors rushed to buy PayPal (NASDAQ:PYPL) shares on Tuesday (28 October) after the firm announced a deal with OpenAI. But I’ve a big question about the stock for investors.

Over the last 10 years, PayPal’s free cash flow has been around $46bn. So my question is pretty simple: where’s all that money gone?

Where’s the money gone?

Spoiler alert: I’m not saying there’s anything untoward with PayPal or its accounting practices – to the best of my knowledge, there isn’t. But its cash does just seem to disappear.

The company hasn’t paid a dividend in the last 10 years, so all its cash has been retained in the business. But the firm’s book value has only increased by about $12bn. 

Share buybacks are another part of the story, but PayPal’s only reduced its share count by around 15% in the last decade. Based on the current market-cap, that’s around $10bn.

That still leaves about half of the company’s free cash flow unaccounted for. And this is a question anyone even thinking of buying the stock needs to find an answer to. 

Stock-based compensation

A big part of the answer is stock-based compensation. These are stock options PayPal gives its employees as part of their overall salary. Since they aren’t cash expenses, they don’t affect free cash flow. But the firm has to offset this with share buybacks to avoid diluting its existing shareholders – and that does use up cash.

PayPal’s stock-based compensation expenses since 2015 have has been around $11.2bn. So offsetting this with share repurchases accounts for around 25% of the firm’s free cash.

On the face of it, the stock looks cheap at a free cash flow multiple of around 13. But this is based on entirely ignoring stock-based compensation, which I think is entirely unjustifiable.

OpenAI

The latest news pushing the stock higher is the deal with OpenAI. ChatGPT’s moving into e-commerce and PayPal’s signed a deal to facilitate payments. If this is the future of e-commerce, there’s no doubt it’s where the company needs to be. And while it’s a key reason for long-term optimism, it raises yet more questions.

It isn’t clear, for example, whether the firm’s going to be the exclusive payment provider or just an option. And there isn’t yet confirmation of how the fee structure will work. 

If PayPal’s going to be the sole payment processor on ChatGPT with a promising cut of sales, the potential’s huge. But this hasn’t been confirmed, so investors can’t count on it. 

Sell?

I think PayPal’s share price surging is an opportunity. But I see it as a chance for investors who own the stock to consider getting out of it.

Stock-based compensation costs mean the share price isn’t as cheap as its free cash flow multiple makes it look. And the OpenAI deal is – so far – very light on details. 

Maybe this develops into something more promising. But for now, I think investors should seriously think about whether they can’t find better buying opportunities elsewhere.

The post 1 simple question for investors looking at buying PayPal shares appeared first on The Motley Fool UK.

More reading

• Here’s where analysts expect the Aviva share price to be next year
• The Aston Martin share price is largely unchanged despite another disappointing set of results
• £10,000 invested in this FTSE 250 stock at the start of 2025 is now worth over £29,000
• This could be the hottest stock market sector for the coming year…
• 5 world-class dividend shares to consider for retirement, as picked by ‘experts’

Stephen Wright has no position in any of the shares mentioned. The Motley Fool UK has recommended PayPal. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

See author's posts