LONDON, (Reuters Breakingviews) - PayPal is taking a worthwhile $2.2 billion step into physical payments. That’s how much the digital pioneer is paying for Sweden’s iZettle, which makes mobile card readers for small merchants. The price looks high, but PayPal should make it back by boosting its appeal to real-world retailers.

The former payments arm of online auctioneer eBay has a plentiful cash pile after agreeing to sell a $5.8 billion U.S. credit portfolio to a consumer finance group. Late on Thursday, the company run by Daniel Schulman said it was buying Stockholm-based iZettle for $2.2 billion - double the valuation the startup was seeking in a possible initial public offering, according to the Financial Times.

The loss-making Swedish company generates revenue by charging businesses a fee to use its handy card readers and smartphone software. Based on its 2018 net revenue forecast of $130 million, the price tag is about 17 times sales. Listed U.S. rival Square, which also facilitates in-store payments in return for a small cut, is valued at 13 times forecast sales, according to Eikon. Had Schulman been able to strike a deal at that multiple, he would have saved PayPal about $460 million and still beaten iZettle’s mooted IPO price by almost 60 percent.

Yet the deal probably makes sense for PayPal, whose main source of revenue is the 19 million merchants – mostly small businesses – which process payments over its online network. The U.S. company in 2012 introduced its “PayPal Here” in-store card reader to tap the offline transactions it reckons make up 90 percent of global commerce, but failed to gain serious traction. Buying iZettle gives it one of the most popular products in Europe, which should process about $6 billion of payments this year.

The returns look reasonable too. Assume iZettle hits its financial target of 40 percent revenue growth and a 35 percent EBITDA margin. If depreciation and amortisation are negligible - as they were last year - PayPal’s post-tax return on the acquisition in 2023 would be $203 million, or about 9 percent. And that’s before factoring in any boost from plugging iZettle’s products into PayPal’s vast network of customers. That beats simply returning cash to shareholders.

CONTEXT NEWS

- PayPal on May 17 agreed to buy Sweden’s iZettle for $2.2 billion. The Stockholm-based startup offers mini card readers allowing small businesses to turn smartphones and tablets into payment registers.

- The business was preparing an initial public offering valuing it at around $1.1 billion, the Financial Times reported on May 1. It expects to generate gross revenue of $165 million this year, with about $6 billion of total payments volume expected to be processed over its services.

- PayPal Chief Executive Dan Schulman said: "Small businesses are the engine of the global economy and we are continuing to expand our platform to help them compete and win online, in-store and via mobile."

(Editing by Peter Thal Larsen and Bob Cervi)

© Reuters News 2018