Adyen Stock: A Bargain Buy or Overpriced?

Here’s a fun fact: The U.S. tech industry has shed more than 350,000 jobs since the beginning of 2022. On the other hand, the economy as a whole added millions of new employees, with overall unemployment hovering near a record low of 3.4%. On the other other hand, tech stocks have significantly outperformed the broader S&P (up 24% versus 10% as of May 16) since the beginning of the year. This is despite the “challenging macroeconomic environment” that has been the refrain of every tech company’s earnings call in recent memory. 

There are probably a few reasons behind this apparent incongruity between layoffs and stock performance. The simple version: Layoffs = companies taking steps to run lean now that capital has dried up, which investors reward by sending stock prices higher. The bizarro world of the Rona sent tech stock valuations through the roof, causing a hiring spree. The subsequent crash that sunk tech stocks (at least temporarily) and startup valuations forced some soul-searching around growth at all costs. 

The big takeaway: tech companies over-hired a lot of overpriced talent. Consider that the average tech worker makes at least six figures. Some back-of-the-napkin math ($100,000 per tech work X 350,000 unemployed tech workers) suggests that tech companies have probably shaved $35 billion off their payrolls over the last 18 months or so – not to mention saving money on all those fancy, free lunches of organic, free-range chicken and arugula salads. Meanwhile, one of our favorite fintech companies hired about 1,200 new employees in 2022, with plans to do the same again this year. Add in some capital expenditures (CapEx) and gross margins took a hit, keeping Adyen stock (ADYEN.AS) on the sidelines of the recent rally, though it trades on the Amsterdam stock exchange, so the comparison isn’t as straightforward. Let’s straighten this out.

Checking In with Adyen Stock

Adyen is one of the biggest publicly traded digital payment companies not named Block (formerly Square) or PayPal. We went long on Adyen stock because the Amsterdam-based company is growing revenues like gangbusters, with the added bonus of actually being profitable. Its revenues are geographically diversified, which is another key metric. Its turnkey payments platform does it all, from processing transactions online and at point of sale to risk management and fraud protection. And, of course, there are analytics that capture consumer behavior to provide insights on how people are spending their money.

The growth story only got better in 2022. Adyen managed to grow both total and net revenues by 33%. (All numbers have been converted from Euros to U.S. dollars.) The former jumped from about $6.5 billion to $9.8 billion, but quite a bit of that money goes toward paying the fees levied by the 250-plus different vendors supported by Adyen’s payments platforms. For example, the transaction fee charged by Visa or Mastercard for every transaction basically passes through Adyen from its customers directly to the credit card company. The company derives most of its net revenue from settlement and processing fees it charges to merchants. That amounted to about $1.4 billion, up from about $1.1 billion in 2022.

In addition, the amount of money flowing through Adyen’s digital payment platform, what the company calls process volume, jumped nearly 50% to about $835 billion. (For perspective, PayPal reported nearly $1.36 trillion in total payment volume compared to $1.25 trillion the prior year, which is only an 8% increase year-over-year.) More than 80% of the increase in process volumes came from pre-existing Adyen customers, with a churn rate of less than 1%. 

Growing Workforce, Shrinking Margins

Now let’s revisit Adyen’s increasing headcount. As we already noted, most tech companies have been steadily laying off employees for nearly 18 months. In fact, PayPal (PYPL) dumped 7% of its workforce, about 2,000 workers, earlier this year. Yet Adyen added 1,200 employees in 2022 and announced it would hire a similar number this year. That would more than double the company’s total workforce in just two years. Adyen has been scaling immensely, with a 35% compound annual growth rate in total process volume since 2019 but did not go on the same hiring spree as its peers during the 2020-21 boom times. 

In retrospect, that was a brilliant move. Now the company has its pick of talent without paying the premium salaries and perks. Adyen also went on a bit of a buying spree in the CapEx department, spending more than $100 million, or 7% of net revenues, on its data centers. The result was a drop in margin from 63% to 55% in 2022. These are the sorts of long-term investments in a company’s future that investors should reward, not penalize with a 15% hit to the share price back in February. There are other reasons why shares might trade lower than they are today, which we’ll get into now. 

The ESG Problem

The biggest wart on this picture isn’t how Adyen is investing its money but how the company is giving it away. As we noted in our previous article, Adyen is something of an ESG company for investors who want to feel good about themselves while drinking $6 fair-trade lattes and complaining about the homeless guy outside the coffee shop asking for change. The company’s latest financial report contains another 30 pages or more about how its long-term outlook is not limited to business but the “long-term trajectory of the world around us.” Most of those efforts seemed nominal to the bottom line such as providing its technology to enable charitable giving free of charge.

However, last year Adyen announced it would annually donate 1% of its net revenue to initiatives that support the United Nations’ Sustainable Development Goals. That works out to about $14.5 million in charitable giving for 2022 – money that won’t be reinvested in the company. We’ve written extensively about our concerns regarding socially responsible investing, and even posted a video on it, so we won’t waste more time beating this dead horse. Incidentally, they still eat horse meat in the Netherlands, if you need further proof of the misguided priorities here. (If you’re going to eat horse meat, do it right and eat it raw like the Japanese do.)

Is Adyen Stock Overpriced?

While we could question the wisdom of ESG policies all day long, there is a more fundamental question we should ask here: Is Adyen stock overpriced? The company’s current market cap is nearly $48 billion. Based on $9.8 billion in revenue, that gives us a simple valuation ratio (market cap/annual revenue) of just under 5, which would put it very much in line with other stocks in our Nanalyze Disruptive Tech Portfolio. (Normally, we use annualized revenues based on the most recent quarter, but like many Euro stocks, Adyen only provides half-year financial results, so we’re using 2022 actuals in this case.) Anything over 20 is considered too richly valued.

On the surface, Adyen looks like a good value, right? However, most of that revenue is just pass-through income, as we described earlier. Adyen is just collecting vendor fees from merchants and then skimming a little something something for itself. One could argue that net revenue is the more accurate reflection of the company’s revenue-generating capacity. In that case, the simple valuation ratio (SVR) skyrockets to 34 ($48 billion/$1.4 billion in net revenue). While we normally don’t approach it that way, it makes sense in this case.

Compare that against PayPal, which has an SVR of less than 2.4 ($68 billion market cap/$28 billion annualized revenue). However, PayPal’s definition of “Net Revenues” isn’t the same as Adyen’s, and they also don’t break down their business segments such that we can perform an apples-to-apples comparison. Basically a revenue-based valuation comparison between payments providers – including Block (SQ) with an SVR of 2 – is largely useless. When Block sells bitcoin to their customers and calls it “revenues,” we’d need to seriously scrutinize their financials to figure out what actually ought to be counted as revenues.

Conclusion

We added Adyen stock to our portfolio mainly because of the strong revenue growth and geographic diversification. The company is well managed, with management executing on its vision and strategy. Its technology appears to be able to keep pace with the rapid changes happening in this corner of the fintech sector, such as being the first platform to support Apple’s Tap-to-Pay in 2022. The addition of more than 2,000 tech workers should only accelerate the company’s ability to innovate and race past bigger, slower competitors like PayPal. But based on the company’s adjusted SVR and its free-spending EGS ways, Adyen stock is a hold for us until we see an order of magnitude change in either net revenue (way up) or market cap (way down).

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