eBay???s Q3 Beats Estimate, Shares Down On Marketplaces Concern

eBay Inc. (EBAY) shares slid 1.2% post its earnings report, as the all-important marketplaces business didn’t do that well. PayPal, which will be spun off next year, remains a far more important driver of growth.

Ebay Inc - Earnings Surprise | FindTheBest

Revenue

Gross revenue of $4.35 billion was down 0.3% sequentially and up 11.8% year over year, missing the Zacks Consensus Estimate of around $4.37 billion by a sliver and in the middle of eBay’s guidance range of $4.30-4.40 billion.

The bulk of revenue (85%) continues to come from transactions, with the balance coming from marketing services. Both categories grew double-digits from the year-ago quarter but while transaction revenue was flat sequentially, marketing services revenue declined.

Revenue Breakup

eBay’s has three segments: Marketplaces, which refers to the revenue earned from the sale of goods available on eBay properties; Payments, which refers to revenues generated through Paypal; and Enterprises, which comprise mainly of services rendered following the acquisition of GSI.

The three segments generated 49%, 45% and 6% of quarterly revenue, respectively. The sequential change was not material, but on a year-over-year basis, the Payments segment growth of 20.4% was the most significant. Marketplaces grew a much slower 6.4%, followed by Enterprise, which grew 2.8%.

International revenue growth of 14.1% from the year-ago quarter trumped U.S. revenue growth of 9.5%. International contribution of around 53% was also higher than the U.S.

Volumes

eBay’s Marketplaces gross merchandise volume (GMV) was down 2.0% sequentially while growing 9.3% year over year (a notable deceleration from the last 10 quarters) although the U.S./International mix is roughly the same at 39%/61%. Active buyers were a good bit higher than in both the previous and year-ago quarters. Fixed price volumes grew 15% in the last quarter.

eBay’s Paypal was the major driver of revenue, generating total payment volume (TPV) growth of 2.8% and 29.1% (28% on a currency-adjusted basis) from the previous and year-ago quarters, respectively. TPV strength in the last quarter was on account of the increased PayPal adoption by merchant sites and increased usage by consumers all over the world. PayPal’s mobile payments volume jumped 72%, accounting for 20% of total payments volume. Management expects PayPal to process $1 billion worth of mobile transactions this year.

eBay’s enabled commerce volume (ECV) grew 2.3% sequentially and was 26.8% above the year-ago level.

Mobile enabled commerce volume jumped 67% from last year to $13.5 billion.

Margins

The pro forma gross margin for the quarter was 68.6%, down 7 bps sequentially and 95 bps year over year. The take rate was down from both the previous and year-ago quarters. This is the main reason for the gross margin decline despite such a strong jump in volumes. Transaction margins also declined, hit by the higher loss rate with transaction expenses flat sequentially and down significantly from the year-ago quarter. Gross profit dollars dropped 1.1% sequentially while remaining 10.3% from the year-ago quarter.

Operating expenses of $2.13 billion were up 0.9% sequentially and 18.8% from last year. The operating margin shrank 63 bps and 337 bps, respectively from the previous and year-ago quarters to 19.7%. The sequential decline was due to higher expenses across the board but the decline from last year was mostly attributable to higher S&M expenses as a percentage of sales.

Excluding the impact of intangibles amortization on a tax-adjusted basis, the pro forma net income was $749.0 million or 17.2% of sales compared to $738.6 million or 16.9% in the previous quarter and $723.0 million or 18.6% in the year-ago quarter.

Including the special item, the GAAP net income was $673 million ($0.54 per share) compared to $676 million ($0.53 per share) in the Jun 2014 quarter and $689 million ($0.53 per share) in the Sep quarter of last year.

Balance Sheet and Cash Flow

The company has a solid balance sheet, with cash and short term investments of $10.39 billion, up $3.02 billion during the quarter (due to the proceeds from debt issuance). eBay generated $1.37 billion in cash from operations and spent $427 million on capex, netting a free cash flow of $941 million (down from $1.23 billion in the last quarter). eBay also spent $20 million on acquisitions and $8 million on share repurchases.

Outlook

Management expects fourth-quarter 2014 revenue of $4.85-4.95 billion (up 12.6% sequentially and 8.2% year over year at the mid-point), which was short of consensus expectations of $5.16 billion. The company expects to generate a GAAP EPS of 73 to 76 cents and a non-GAAP EPS of 88 to 91 cents. The EPS guidance is better than the Zacks Consensus of 81 cents, but management excludes stock-based compensation from calculations that is not considered by Zacks.

Conclusion

The marketplaces business has become all-important since eBay will soon be spinning off PayPal. eBay has already taken necessary measures to strengthen the marketplaces business, beginning with the fixed price format, moving on to wooing big sellers and customers, improving the technology and navigation of its properties, investing in better fulfillment services and specially focusing on mobile customers. Its drive to provide complete online solutions for traditional retailers should further add to this growth.

It goes without saying that major online retailers, such as Amazon.com (AMZN) and Alibaba (BABA) are not going to make things easy for eBay. Additionally, Google (GOOGL) has been making some plays in the online retail/payments segment that potentially increase competition for the company. Apple also has the potential to encroach on its all-important Payments business.

However, the increasing competition, prolonged investments and execution risks make us cautious, which is the reason the shares carry a Zacks Rank #4 (Sell).

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