Sold PYPL after thesis broke on management red flags; holding for acquisition is a gamble with high opportunity cost.

I got to say I I probably have the same sort of hesitations toward fashion retail companies that you have towards payments companies. I think it's also fair to say that we both have been proven right.

I mean, we will speak today also about a company that's called PayPal and that didn't do too well for us.

Speaking about cutting losses, let's go to our second loser that has actually just staged somewhat of a comeback, at least a small one. The average price of my personal PayPal position, which is the company that we're talking about, has been in the low to mid60s.

So, I would actually be close to break even right now after the Stripe and Advent takeover offer. Unfortunately, I'm not break even. I sold at a significant loss. And it also wasn't a small position for me, especially in my personal portfolio.

We sold our portfolio position after earnings in February of this year and it was only partly due to earnings and the numbers. It was also just because I fired the CEO who was actually a big part of my thesis and in the end I think you can say that there were just too many red flags around the company.

PayPal is basically still the household name whenever it comes to payment companies and that's sort of the baseline right >> and you see that whenever we look at how many companies have copied the PayPal model.

So, when I looked at the company for the first time, pretty much exactly one year ago, I think, I thought I would look at it to sort of figure out, well, it's an outdated business that would slowly deteriorate and that's why it's cheap and thus it wouldn't make it part of our portfolio.

However, and maybe that's where the mistake started, I like the business much more than I initially thought.

I mean, PayPal had a new, somewhat new, at least CEO who came in just one and a half to two years earlier. And he had a much more modern idea of what PayPal is supposed to be or should become.

He first made sure that the low margin business was cut and that the core of the business so you know the branded checkout also B2B to some extent now and also Venmo which is sort of a newer bet they go back to being profitable and at the same time he grew the buy now pay later business quite fast and began building you know new initiatives like an ads business and all of that seemed to work quite well and after the cost cutting measures revenue growth began to accelerate again while margins also went up

>> there was also a lot going on with the agentic commerce side of things too. I believe you had deals with Perplexity and Open AI where PayPal became the first payment provider to be integrated into those LLMs and all that sort of news. That was very exciting.

>> It was exciting back then. And this is also when the stock reached new multi-year highs and it actually looked like thesis was playing out even earlier than I expected. But then we slowly but surely started to see some yellow flags.

And since I want to do this episode to sort of evaluate why and when things actually went wrong, I think this is where I would start. So on paper, things still look pretty great.

And perhaps I would have made the same decision of buying PayPal today under the same circumstances of last year. I honestly don't really know still to this day.

But you know getting back to PayPal between Q3 and Q4 of last year several things made me question what exactly is going on. So the first one was the biggest one communication right when you followed managers that were responsible for specific business units.

They were always very enthusiastic and you know they had plenty to say. So Marita for example was responsible for the ads business. He was very outspoken in talking about how the world things are going.

Well, and Mark is also the one who built the highly successful ads business at another one of our portfolio holdings, Uber, and also for Amazon. So, he certainly knows what he's doing.

But weirdly enough, the seauite of PayPal just stopped talking about the ads business at some point. And after enthusiastically announcing it earlier and while Margarita was still giving pretty promising updates that was not only the case for ads but it was also the case for many many of the initiatives that they just announced a couple of weeks a couple of months earlier.

And at the same time you had a CFO who still goes on nerves actually and who repeatedly said in interviews saying how bad the macro looked and that it was basically a tough environment for the business to operate in.

You know, if that's the honest assessment, I think that's great and thanks for saying that and being honest to shareholders. But why do you agree to do what felt like half a dozen interviews back to back when you don't have to say anything about that?

And mind you, most competitors back then, they didn't seem to have the same problems with the macro. And if you're the only one struggling with macro, well, perhaps it's not the macro after all.

And maybe this should have been the moment to sell the position. I mean, it was still trading in the7s to $80 range at that point. So we would have even made a nice little profit but paper was still valued so attractively with you know buyback yield of I think even back then about 10%.

It just had a good Q3 earnings print and also reasonable catalysts for the future because of all those initiatives that I just felt like overlooking some of those yellow flags.

And then Q4 came and not only were the numbers a negative surprise but an even bigger negative surprise came the CEO Alex Chris being fired. And so I took that as an admission that the new initiatives weren't working out as planned.

>> Yeah, I think that had to be the message to our shareholders. And in hindsight, it's always easy to label these yellow flags we mentioned as red flags, but I don't know. I feel like selling could have easily been an overreaction, too.

I mean, when a company is as cheap as PayPal, news always skews negative, right? Just like analyst estimates, for example, they should give you usually an idea of what's to come.

But if you actually look at them, most of the time they just run behind the stock price. So when it goes up, they raise their price targets and when it goes down, they lower them.

And you see all sorts of negative news coming. And that's also what you saw with PayPal.

And still, when the PayPal CEO got fired, it was clear that things didn't go well behind the scenes for at least a couple of months. And the management team just I don't know them not mentioning the initiatives anymore. you know, macro is blamed.

Although competitors don't experience the same headwinds, the CFO is talking another book than the CEO. It just all looks so different from a couple of months back.

>> But what probably makes the PayPal case so interesting too is that the bare case has always been that even if these catalysts didn't work out, these new initiatives for the business, that would be a possibility.

But still, you had a cash printing machine buying back 10 to 15% of shares per year. And that is another way you can grow earnings per share and still had some of the best assets in all of payments.

So either they would become a share cannibal and that would drive some baseline earnings per share growth or they would be bought out. And the second option is now a very real possibility.

You have Stripe and the PE firm Advent put out an offer to buy PayPal for $60 per share. And at the time of recording, PayPal has already declined that offer. But that is maybe part of a normal negotiation process.

So they may still be willing to sell but only at a higher price.

And considering that we've could have recovered a relatively large chunk of our losses if we had held on and waited for this offer, would you say it was a mistake not to hold on to the position?

Because I mean the idea was basically that this very scenario playing out would be the margin of safety and that was baked into the model and it did provide a layer of safety.

Yeah, I think it's a tough question. There are two ways or perhaps concepts to consider in my mind.

So the first is the idea of opportunity cost, right? I mean capital invested in PayPal cannot be invested in any other stock and it sounds quite simple but it's also consequential in you know investing and since not only makes you question whether any given stock will outperform the market and therefore presents a better opportunity than just buying an index but also whether there's another stock with maybe a similar risk profile but a better potential return.

So, opportunity costs have essentially been why we did decide to sell PayPal. And I had a clear thesis in mind when buying the stock. And I sort of knew which metrics and business units mattered most to me.

And I had an idea of the progress that I wanted to see. And that thesis slowly deteriorated and eventually it broke, you know.

And while my margin of safety scenario, which you just mentioned, a PayPal acquisition, is now playing out, or at least it's in the process, I also knew that this would be much more of a gamble than my original thesis.

Because, as you mentioned, PayPal just rejected the bid valued at $60 per share. So perhaps it can get much more, but perhaps Stripe will just distance itself from the deal, and then you need to find a completely new buyer.

And there might be one, but I think the point is this has turned into a gamble now of when and at what price PayPal will be sold.

And with that uncertainty, I felt like we probably have better opportunities to allocate capital to. >> And just for the sake of giving the whole picture, the argument for why you should hold on to positions like PayPal, but also Lululemon is to trust that you bought the asset at a cheap enough price that in the long run you will make your money back or make a profit one way or the other.

in my personal portfolio, PayPal was really, really small bet, smaller than yours for sure, Daniel. So, I kind of just kept holding on to it because the stakes were a lot lower.

And then I actually sold on the news of the takeover offer, meaning I was able to recover a chunk of my losses. And that was simply dumb luck.

It's a much better business obviously than PayPal and probably also Lulu ever were. If you look at both Lulu's and PayPal stock chart, then you just layer the topline growth over it, you will see there's a pretty strong correlation there for both of those companies.

I talked about the mistakes I made with, you know, not acting up on the yellow flags I saw with PayPal.

PayPal fired their CEO and then had a CFO that was openly saying very different things about the strategy.

So I feel like and that sort of goes to our PayPal point if we do have you know deep dives into a company and we do that and we know everything that's important we might just got to put more trust into our decision-m and the same might go for Adobe.

You can point out all the yellow flags of PayPal and then you compare them to what we see with Adobe and if the Adobe investment fails, you can easily say that it was so obvious and we didn't learn anything from our PayPal mistake.

I think PayPal is a pretty good example of that with this potential acquisition now and how that factors into what we thought was our margin of safety at the time.

I mean we obviously know you would have never bought PayPal and I would have never bought Lululemon.