On September 30th, eBay Inc. (EBAY) announced that its board of directors had approved a plan to spin off PayPal, creating an independent, publicly traded company. The company expects to complete the separation in the second half of 2015, in the interest of maximizing shareholder value as well as the growth potential for its business.
The move came as a surprise, as activist-investor Carl Icahn made headlines earlier this year with a seemingly-failed push to get the online auctioneer to spin off the PayPal segment. Mr. Icahn expressed dismay with eBay’s management and board of directors, in terms that were unusually outspoken even by his standards. In short, he claimed eBay was holding onto a prized asset for its own benefit (the payment processing subsidiary generates roughly half of the top line), at the expense of shareholders, who, he believed, had yet to fully benefit from the realization of PayPal’s potential.
Meanwhile, PayPal co-founder (and current Tesla (TSLA) CEO), Elon Musk stated that it was clear to him that with many competitors emerging in the industry, it made little sense for PayPal to remain a subsidiary of the online auctioneer. At that time, however, eBay quickly shot down the suggestion of a spinoff. It even rejected a toned-down plan from Mr. Icahn that aimed to conduct an initial public offering for 20% of PayPal in order to demonstrate the segment’s value on the market. After a deal was reached in April to placate Icahn, a spinoff seemed off the table.
The PayPal division, which has processed more than $200 billion in total payment volume over the past twelve months, was an early leader in the digital payments field. It was acquired by eBay in 2002, in what now appears to have been a sharp move, as the payments business has grown exponentially, and PayPal now has 152 million active digital accounts, a sum that is growing rapidly.
The company named Dan Schulman the new president of PayPal when it made the spinoff announcement. Mr. Schulman previously served as president of American Express’ (AXP – Free AmEx Stock Report) Enterprise Growth Group and led that company’s global strategy to expand its alternative mobile and online payment services. He will assume the role of Chief Executive Officer following the planned IPO. This move highlights PayPal’s need for competitive and focused leadership to deal with the fast-changing environment in the electronic payments industry. Indeed, mobile payments are liable to be a key component of PayPal’s future, and integral to its long-term strategy. The current president of eBay Marketplaces, Devin Wenig, will take over as CEO of eBay, which will include the eBay Marketplaces and eBay Enterprise units.
Several factors may be behind management’s change of heart. PayPal’s growth continues to outpace that of eBay’s core online-auction business. Furthermore, the successful initial public offering of Alibaba (BABA) renewed investor focus on the highly competitive, yet lucrative Internet retail market. Indeed, much of the argument among those who have wanted a spinoff has been that PayPal has failed to fully exploit its leadership position in such a fast-growing market, and has lost out to less-encumbered competitors. Apple’s (AAPL) new mobile payments service, Apple Pay, appears set to change the landscape significantly. Thus, raising funds and broadening its strategic focus will likely behoove PayPal going forward, which may be easier as an independent company with a single brand and focus.
Furthermore, the PayPal separation has won the battle of logic as investors and others have had time to weigh in. When eBay first acquired PayPal in 2002, the vast majority of PayPal’s payment volume came from eBay-related transactions. However, as the importance of electronic payments spread throughout the economy, that proportion steadily declined, to the point that today only about a quarter of PayPal’s transactions by value are related to the online auction house.
The move should enable each business to optimize its capital structure and allow for more flexibility in responding to a changing competitive environment. eBay shares are priced to slightly outperform the broader market over the coming 3- to 5-years, but the spinoff may reward shareholders sooner as the market will likely place a premium on PayPal’s shares in light of its growth potential.