Is It Time for eBay to Bite the Bullet?

Is It Time for eBay to Bite the Bullet?

There comes a time in every stock's life when it must grow up and bite the bullet of adulthood. That's not to say the company won't continue to grow, or that the stock should be sold. In fact, there might be decades of respectable growth ahead, but the days of huge earnings growth are probably over.

This "adulthood" stage usually is accompanied by the decision to pay a dividend to reward shareholders. It seems like this is exactly where eBay is at today.

Look at the big picture
When you think about where eBay has been and everything the company has been able to endure, you could argue the company has done amazingly well. eBay wanted to connect buyers and sellers, but the company wasn't alone. Before the Internet bubble burst, there were companies offering the same service as eBay, but most have disappeared.

What is more unbelievable is eBay is growing in spite of huge competition both domestically and abroad. On both sides of the pond, is willing to go toe-to-toe with anyone.

In the Latin American marketplace, eBay faces a competitor in MercadoLibre that essentially does what eBay does. The company offers a similar marketplace division, as well as its PayPal equivalent MercadoPago.

To say that eBay's business is different than it used to be is an understatement. First, the company's sales are now 71% fixed-price driven as opposed to auction sales. Second, whereas PayPal used to be just a great way for eBay to help buyers and sellers transact business, today that business is expanding into physical retail.

When it comes to sales growth, eBay's revenue growth of 14% in the current quarter did lag the two competitors we've mentioned but is still respectable for a maturing company. However, relative to Amazon's 24% sales growth and MercadoLibre's 45% sales growth in local currencies, eBay looks like a much slower growth business.

Though eBay is growing slower than some of its peers, the company's Marketplaces business grew new users by 14% and PayPal grew new accounts by 17%. One way investors might look at eBay's overall growth is looking at "total enabled commerce volume," which grew by 21%. The bottom line is, eBay is doing well and operating cash flow and free cash flow are on the rise.

Things are going so well, the company needs to write a few more checks
As you can tell, eBay is performing well and the company is rewarding shareholders in part by repurchasing shares already. However, with diluted shares down less than 0.5% in the last year, shareholders aren't exactly being lavished with cash.

By comparison, Amazon is repurchasing shares and actually retired slightly more than 1% of its outstanding shares in the last year. MercadoLibre, on the other hand, is the fastest growing of the bunch and its share count stayed essentially flat.

The biggest difference between Amazon and MercadoLibre compared to eBay is eBay generates consistent free cash flow. In Amazon's last quarter, the company reported negative core free cash flow, while MercadoLibre posted more than $20 million in positive free cash flow.

By comparison, eBay generated $729 million in core free cash flow (net income + depreciation - capital expenditures). Since eBay's business is established, the company's capital expenditures are relatively stable. To be conservative, if eBay decided to pay a dividend using just 50% of free cash flow, the company could afford to continue repurchasing shares, pay the dividend, and still have cash left over.

In the current quarter of this $729 million in free cash flow, the company used $146 million on share repurchases. With a 50% payout ratio, the company would still have been able to use $219 million on dividend payments.

With about 1.3 billion shares outstanding, this $219 million would equate to a $0.17 quarterly dividend. On an annualized basis, this would mean a dividend of $0.68, and at current prices would mean a yield of 1.4%.

With companies like Microsoft, Cisco, EMC, and others instituting dividends in the last few years, these companies have grown up. Given eBay's competitive position and strong cash flow, it's probably time for the company to bite the bullet as well.

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Chad Henage has no position in any stocks mentioned. The Motley Fool recommends, eBay, and MercadoLibre. The Motley Fool owns shares of, eBay, and MercadoLibre. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Originally published