ebay initiating coverage 9-10-07

eBay (EBAY): Initiating Coverage with a “HOLD” recommendation

• Industry: Internet Services • EBAY: NASDAQ; $34.99 • 12-month price target: $37.00

Company Description eBay Inc. is a person-to-person trading community on the Internet. The Company's service is used by buyers and sellers for the exchange of personal items such as coins, collectibles, computers, memorabilia, stamps, and toys. eBay is also the owner of payment solutions provider PayPal and the communications application Skype. Valuation and Recommendation: We are initiating coverage of eBay with a Hold rating and a price target of $37. We believe that a slight slow down in the core auction business is going to more than made up by the growth in payments and communications. We are fine tuning our model, but we believe that there is a good chance for margin, earnings and multiple expansion going forward. Jackson Securities, LLC seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decisions. Please also refer to the important disclosures found on page number 11. Analyst Certification is found on page number 11.

Date 9/10/07

Current Price $34.9952WK HI $37.4452WK LO $26.64EPS (TTM) $0.99Shares Outstanding 1.36BMarket Cap. $47.5BDividend Yield NAPrice/Earnings (TTM) 35XPrice/Sales (TTM) 7XEV/Revenue (TTM) 6.5XEV/EBITDA (TTM) 19XEBITDA (TTM) $2.28B Brian Bolan Director of Research Technology Jackson Securities, LLC 300 S. Wacker Dr., Suite 2450 Chicago, IL 60606 Ph: (312) 253-0578 Fax: (312) 986-0560 [email protected]

Hold initiated 9/10/07: $34.99 Target: $37.00

eBay (EBAY)

2Brian Bolan Research Analyst – Technology

Introduction to eBay Originally created to trade Pez candy dispensers, eBay has grown from an internet trading post to an e-commerce goliath. Its main business of facilitating trade in an auction format has seen consistent growth over the last several years and management moved to expand the business into several complementary segments. The core of the eBay business is facing slowing growth and competition really only coming from Amazon.com and Overstock.com as Yahoo! has shuttered its auction operations. Skype, which saw possibly the fastest ramp-up of users ever, has seen its some issues with downtime and certainly less buzz by the media since being acquired by eBay. The payment solution provided by PayPal is another story, with Google’s recent deployed of Checkout, competition looks to be gaining moment and the departure of key leadership raises more questions about the direction of what could be a key to the future of eBay. Key Products The core of eBay has been the electronic trading place. It brings

together buyers and sellers in an auction format in hopes of maximizing the final payment price. The company charges a listing fee as well as percentage of the final bid price. This electronic trading place is just one of the platforms of the eBay

Marketplace. Included in the

marketplace platform would be properties like Rent.com,

eBay Listings

Source: Dealscart.com

eBay (EBAY)


Shopping.com, and the numerous classified websites that the company operates including Kijiji.com and LoQUo.com. Tracking the auctions is one may to get a handle on where the core business is headed. The chart shows a precipitous near term downturn in the number of auctions. We believe that this may be caused by the recent turmoil in the stock market as well as the overall credit crunch that has gripped the market over the last several months. Tracking this business in terms of Gross Merchandise Value is one metric that eBay management focuses on. We don’t believe that investors have paid that much attention to this number, and we want to point out that this metric gives us an excellent base measure when assigning a valuation. We will discuss this topic further in the valuation section of this report. Purchase of PayPal in October of 2002 was a watershed moment for the company. Recognizing that the payment solution was needed and the one being the most widely used was PayPal, management moved to add them to the platform. Since then, PayPal has grown via the expansion of the eBay platform of electronic trading. Efforts to expand PayPal into more mainstream areas have yielded little in. We expect eBay to continue to attack the market outside of the eBay platform. The growth of PayPal has stalled lately, but still represents a powerful force in the market. As of the end of the most recent quarter, PayPal had 153M accounts. In comparing PayPal to a large money center bank, we see that most banks will normally have between 60-80 million accounts, far fewer than PayPal and experiencing significantly less growth that PayPal. PayPal earns revenue in five ways. First, PayPal earns transaction fees when a Business or Premier account receives a payment. Second, PayPal earns a foreign exchange fee when a user converts a balance from one currency to another. Third, PayPal may earn fees when a user withdraws money to a non-U.S. bank account, depending on the amount of the withdrawal. Fourth, PayPal earns a return on certain customer balances. Finally, PayPal may earn ancillary revenues from a suite of financial products, including the

eBay (EBAY)


PayPal-branded debit card, the PayPal-branded credit card and the PayPal Buyer Credit offering In owning PayPal, eBay was in a unique position to see that a growing online communications tool was receiving nearly 25% of its revenue from PayPal customers. When it came time to sell that business, Skype talked to the major internet companies, but the most obvious synergies were with eBay. Skype has nearly 220 million registered users, and competes with companies like Vonage (VG), Microsoft (MSFT), Yahoo! (YHOO) and other Voice Over Internet Protocol (VoIP) providers including the cable companies that offer VoIP as part of their “triple play” offerings. In the most recent quarter, Skype added 24 million new users and announced partnerships with Wal-Mart, Toshiba and Salesforce.com. Skype offers high-quality voice communications to anyone with an Internet connection anywhere in the world. The Skype software enables free VoIP calls between Skype users online. Skype’s software also offers a robust set of features, including voicemail, instant messaging, call forwarding, conference calling and Skype video. The only data points the company is releasing are Skype to Skype (STS) minutes and Skype out minutes. The STS minutes in 2Q07 were 7.1B, which was about the same as it was in the same period a year ago, and 1.3B minutes for Skype Out, or 57% growth from the year ago period. Industry Outlook The market for auctions is basically made up of eBay and Amazon.com and Overstock. Amazon.com does not break out the sales that result from used items but it clearly a significant part of their business. Overstock deals mainly with liquidation items and merchandise that is no longer in production. Yahoo! recently shuttered its auctions platform. There are several niche players in the auction space, but we believe most of their success depends on the lack of that specific niche merchandise available on eBay. It is clear that if you want to sell

eBay (EBAY)


an item via auction, eBay is the place to do it as they have the most buyers. That PayPal payment solution market is growing, as online payments continue to increase in frequency and size. Recently, Yahoo! and PayPal have forged an agreement to where PayPal is the exclusive payment solution for the online search company. PayPayl competes with Google’s Checkout product, one that launched with great fanfare but has yet to really post significant results. Most of the buzz surrounding Checkout is coming from subsidized purchases from online retailers. An example of this comes from Blue Nile, an online diamond and jewelry retailer. Customers that would purchase certain items via checkout received $10 off. Blue Nile noted that this increased sales of lower dollar items. There has been talk of Amazon.com offering a payment solution to third party customers. This product would undoubtedly compete with both Google Checkout and PayPal. A large player with significant financial backing would lead to more competition and possibly put pressure on margins. At the same time, PayPal is the de-facto standard for online payments and unseating them from that position would take something very significant. Guidance The company is looking for full-year '07 revenue in the range of $7.3 billion to $7.45 billion, a full year operating margin of approximately 33% and EPS in the range of $1.34 to $1.38. Looking to the third quarter, we expect net revenues to be in the range of $1.775 billion to $1.825 billion, and EPS of $0.31 to $0.33. Current consensus estimates are calling for $1.814B in revenue and earnings per shares of $0.33.

eBay (EBAY)


Management Discussion eBay has had a number of key people to help drive their leadership position as a provider of commerce and communication solutions. Meg Whitman As president and CEO of eBay since March 1998, Meg Whitman has led the company to become an unparalleled global ecommerce engine. Meg’s expertise in brand building, combined with her consumer technology experience, has helped eBay evolve into a leading company that is reshaping online commerce, payments and communications around the world. Prior to eBay, Meg was general manager of Hasbro Inc.'s Preschool Division, responsible for global management and marketing of two of the world's best-known children's brands, Playskool and Mr. Potato Head. From 1995 to 1997, Meg was president and chief executive officer of Florists Transworld Delivery (FTD), the world's largest floral products company. While at FTD, she oversaw its transition from a florist-owned association to a for-profit, privately owned company. Meg spent 1989 to 1992 at the Walt Disney Company, highlighted by her work as senior vice president of marketing for the Disney Consumer Products Division. She also worked for eight years at Bain & Company’s San Francisco office where she was a vice president. Meg began her career at Procter & Gamble in Cincinnati where she worked in brand management from 1979 to 1981. Meg is on the Board of Directors of Procter & Gamble and DreamWorks Animation. Meg received a Bachelor of Economics from Princeton University and a Master of Business Administration from Harvard Business School. A few years ago, Disney was looking for a new CEO, and eBay investors held their collective breaths for a few days as Meg mulled over the opportunity. In the end, Meg stayed put and is likely to continue to remain with eBay for the foreseeable future. Bob Swan Senior Vice President, Finance and Chief Financial Officer, eBay

eBay (EBAY)


As senior vice president, finance and chief financial officer at eBay, Bob Swan is responsible for all aspects of eBay's finance function including controllership, financial planning and analysis, tax, treasury, audit, mergers and acquisitions, and investor relations. Prior to joining eBay, Bob was CFO and executive vice president at Electronic Data Systems Corporation (EDS). Bob oversaw the financial responsibility for a global organization with revenues of more than $20 billion and 117,000 employees. Prior to EDS, Swan served as CFO and executive vice president at TRW, Inc. Bob also held executive-level positions at Webvan Group, Inc., providing him with valuable Silicon Valley experience. He began his career with General Electric (GE) in 1985 and spent 15 years in a variety of positions, including corporate audit staff and CFO at GE Transportation Systems and GE Medical Systems-Europe. He left GE in 1999 as vice president of finance and CFO of GE Lighting. Bob received a Bachelor of Science in business administration from The State University of New York (SUNY) at Buffalo. He

also received a Master of Business Administration from SUNY Binghamton. Growing by Acquisitions Much like other Internet companies, eBay has grown via acquisition. With the major acquisitions of PayPal ($1.178B in 2002) and Skype ($2.117B in 2005) grabbing most of the headlines, we point out that there have been numerous smaller transactions as well. Since 2000, eBay has acquired no less than 30 companies. Shopping.com was acquired by eBay in 2005 for approximately $500M. The deal has helped drive traffic to eBay, and importantly

has helped in the critical area for growth for the core business, the eBay stores.

Source: Bloomberg

eBay (EBAY)


Other more recent acquisitions include stumbleupon.com and stubhub.com. Stubhub.com was purchased for approximately $310M in January of 2007. The main business of Stubhub is the sale and resale of tickets for concerts, theater, sporting events and other live entertainment events. The company has forged a number of strategic partnerships with professional sports teams (notably the Tampa Bay Buccaneers of the National Football League) to enable them to offer the sale and resale of tickets. This allows for the trusted entity (sports franchise) to encourage customers to sign up for the service. Preliminary research on StubHub suggests that it is a very high margin business, but at the same time, the cost of tickets and adjoining fees for the service often price potential consumers out. Many questioned the acquisition of StumbleUpon.com, a user generated search community. Management noted on the most recent conference call that they bought the company due to their search technology. Social Networking The social networking phenomenon that started with MySpace and continued with the meteoric rise of Facebook has not gone unnoticed by eBay. On the most recent conference call, management discussed eBay To Go, which will enable auctions to become portable. The idea that MySpace and Facebook users can place auctions on their respective sites or blogs is something that should drive growth in the business. A potential acquisition of a web 2.0 social networking play does not look to be in the future of eBay. Instead, as mentioned on the most recent conference call, eBay sees the phenomenon as social commerce. This statement is indicative that partnerships will take precedence to acquisitions in this space.

eBay (EBAY)


Click Fraud Click fraud is an industry wide problem, but how does it affect eBay? eBay is a huge purchaser of online advertising, and has significant relationships with both Yahoo! (YHOO: BUY) and Google (GOOG: BUY). eBay has spent millions of dollars in online marketing, usually trying to obtain the top position on numerous keywords that would result in searches through the eBay auction system. Click fraud would affect eBay in a number of ways, but mostly in cases where bots or programs do searches and then click on the top advertisement. These false clicks would end up benefiting the search companies and hurting eBay by making eBay pay for a click that did virtually nothing. Risks Any investment in a technology company such as eBay is bound to carry some risk and there is no exception to that rule. We believe that there are some inherent risks that all technology companies face and they include, but are not limited to, the loss of high caliber human capital and inability to adapt to changes in the business environment. eBay also faces other significant risks like increasing competition. Google and its new checkout product have made a big splash in the market, with a substantially subsidy, advertisers are likely to adopt this new payment method. Should consumers also adopt this new method, eBay and its PayPal division could suffer. The age of the stealth Internet play has mostly come and gone, but in the event that another company builds a better, faster and bigger mouse trap (communication tool / payment solution / online marketplace), a negative impact would be felt on eBay’s share price. Finally, as a growth company, the market gave eBay a substantial multiple, but quickly took it away in 2005 as growth stalled out. The company went on a quick shopping spree and bought Shopping.com to stimulate growth and then later purchased Skype

eBay (EBAY)


to regained its growth company moniker and multiple. Should the company be viewed as a growth company that does not have a lot of growth, a shrinkage of eBay’s multiple would significantly hurt the per share price of eBay stock. We suggest that investors consult the company’s 10K for more on risks. Valuation We believe the best way to measure the value of shares of eBay is to look at earnings. Earnings are the main factor one should consider when evaluating any stock. The stocks with the higher growth in earnings deserve the higher multiple. Another way to look at the valuation of eBay based off of Gross Merchandise Value (GMV). In future reports we will explore this idea in more detail. The GMV metric is one that the company devotes a lot of time to. In short, we believe that the GMV to earnings metric is an excellent barometer of efficiency in the system. As far as using it price the stock, we believe there are several methods to accomplish this and in future reports we will go into greater detail. We are installing a target of $37 per shares. We believe a multiple of 26x this years earnings estimate may prove to be a bit too conservative. Our earnings estimate of $1.38 is in-line with the street consensus but may be a bit too conservative. This being said, we believe the potential for both earnings and multiple expansion is highly probable. We are still fine tuning our model due to the expected increase in marketing for the upcoming fall campaign. The teaser campaign of “Windorphins” and expected increases in offline advertising are still being evaluated. We expect our model to be published before the next earnings announcement.

eBay (EBAY)


Disclosures: Analyst Certification I, Brian Bolan, hereby certify that the views expressed in this research report accurately reflect my personal views about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report. I may be compensated in part based on the overall profitability of Jackson Securities, LLC, which includes earnings from investment banking and all other aspects of the firm’s business. Conflicts of interest: Neither Jackson Securities nor any of its publishing analysts or their immediate family members has a position in the securities described herein. Compensation:

• The research analyst has not received compensation based upon investment banking revenues or from the subject company in the last 12 months.

• Jackson Securities has not in the last 12 months managed or co-managed a public offering of securities, received compensation for investment banking services from the subject company or any compensation for products or services other than investment banking

• Jackson Securities will seek investment banking compensation from the subject company in the next 3 months. Position as Officer or Director: Neither the research analysts nor members of their immediate households occupy positions as an officer or director with the company/companies mentioned in this report. Market Making: Jackson Securities does not make a market in this stock Explanation of Ratings: Buy - Expected 12-month absolute performance of +10% or higher than the market price at which time the rating was issued. Hold - Expected 12-month absolute performance of +5% to –5% from the price at the time the rating was issued. Sell - Expected 12-month absolute performance of –10% or lower than the market price at which time the rating was issued. Distribution of Ratings: Jackson Securities, LLC has a distribution of ratings among its coverage universe as follows: Buys – 44.4% (16 of 36 active recommendations) Holds –50.0% (18 of 36 active recommendations) Sells – 5.6% (2 of 36 active recommendations) Jackson Securities has provided investment banking services within the previous 12 months with the following percentage of the companies they have rated: Buys – 0.0% (0 of 36 active recommendations) Holds – 0.0% (0 of 36 active recommendations) Sells – 0.0% (0 of 36 active recommendations) Risks: General economic conditions, economic slowdown/recession, adverse industry news. Other Important Disclosures and Disclaimers Disclaimer: This communication is neither an offer to sell nor a solicitation of an offer to buy any securities mentioned herein. This material should not be construed as an offer to sell or the solicitation of an offer to buy any securities mentioned herein in any jurisdiction where such an offer or solicitation would be illegal. We are not soliciting any action based on this material. This document is for general information only, and it does not constitute a personal recommendation or take into consideration the particular investment objectives, financial condition or financial needs of any clients. Before acting on any advise or recommendation in this research report, clients should consider seek professional advice. Past performance is not a guide to future performance. Future returns are not guaranteed, and a loss of original capital may occur. The information contained herein has been obtained from sources that we believe to be reliable, but we do not guarantee its accuracy or completeness. Any opinions expressed herein are statements of our judgment on the date appearing on this material only and are subject to change without notice. We endeavor to provide updates on a reasonable basis of the information discussed in research reports, but there may be reasons which prevent us from doing so.

ebay initiating coverage 9-10-07

Documents