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PayPal Is a Magnificent Stock to Buy Hand Over Fist, But You'll Regret Not Knowing This 1 Key Risk

It's been a rough go for PayPal (NASDAQ: PYPL) shareholders. The digital payments behemoth once saw its share price rise 740% from the day it was spun off from eBay in June 2015 to its all-time high in July 2021.

As of this writing, though, the fintech stock sits 81% below that peak price. Investors haven't been happy with slowing growth amid macro uncertainty.

It's not all bad news. There are lots of reasons to appreciate this magnificent growth stock, but bullish investors can't ignore a critical risk factor.

Reasons to be bullish

Higher interest rates and ongoing inflationary pressures have negative impacts on a business like PayPal. The electronic payments platform skews toward discretionary purchase activity, so when consumers cut back on spending, PayPal feels the pain. Revenue rose 8.5% in 2022 and 8.2% in 2023, much slower growth rates than in previous years.

However, those growth rates are still healthy, all things considered. And it's worth pointing out that the total payment value (TPV) PayPal processed last year of more than $1.5 trillion was 22% higher than it was two years ago. The platform is seeing greater usage, which is obviously a positive sign since the company earns revenue primarily from transaction fees.

PayPal currently has 426 million active accounts, which consist of both individuals and merchants. Serving both sides of a transaction has developed powerful network effects, which is the company's economic moat. The fact that PayPal is accepted in more than 200 countries and regions makes the service extremely valuable for consumers. And because hundreds of millions of individuals use PayPal, it's almost a no-brainer for a merchant to accept this as a method of payment. Consequently, the network gets stronger over time.

We can't ignore how profitable of an enterprise this is. By looking at the stock price, you would think that the company was losing massive amounts of money each quarter. This isn't the case.

PayPal reported an adjusted operating margin of 22.4% in 2023, with free cash flow totaling $4.2 billion during the 12-month period.

Investors who have been on the sidelines watching the business might be tempted to buy shares right now. That's because the stock trades at a ridiculously cheap price-to-earnings ratio of 15.3. That's significantly below PayPal's historical average while representing a huge discount to the S&P 500.

Heightened uncertainty

Despite all the compelling reasons to be bullish on PayPal, there's one major risk factor that investors need to know about. I'm talking about competition.

To its credit, PayPal has been a leader in digital payments for over two decades. And it has built itself into a trusted brand when it comes to moving money around on a worldwide basis. But the payments landscape is incredibly lucrative and massive, so it's not a shock that there are numerous competitors all trying to get their piece of the pie.

PayPal feels pressure on two fronts. On the consumer side, PayPal's digital wallet and peer-to-peer service Venmo go up directly against Block's Cash App. In fact, Venmo and Cash App have a lot of the same functionality.

And on the same front, Apple Pay has quickly become a major player in the payment space. The advantage the tech giant has is that it controls one of the most popular mobile operating systems, so it can put its payment mechanism ahead of rivals. Apple also has the financial resources to continue innovating and launching new features to its global user base.

On the merchant side, PayPal's Braintree is certainly registering rapid growth, with TPV up 30% in 2023 on a year-over-year basis. But the competition is stiff. If I'm a merchant, I can reach out to Shopify, Adyen, or Stripe for a seamless, low-cost, turnkey solution to start accepting payments.

As a result, while PayPal might look like an attractive investment based on what I discussed above, the constantly changing competitive landscape makes it hard to know what the industry will look like even five years from now. And this is a risk that shareholders need to incorporate in their decision-making process.

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Neil Patel has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Adyen, Apple, Block, PayPal, and Shopify. The Motley Fool recommends eBay and recommends the following options: short April 2024 $45 calls on eBay and short March 2024 $67.50 calls on PayPal. The Motley Fool has a disclosure policy.

PayPal Is a Magnificent Stock to Buy Hand Over Fist, But You'll Regret Not Knowing This 1 Key Risk was originally published by The Motley Fool