PayPal Holdings, Inc. 10-Q

Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including statements that involve expectations, plans, or intentions (such as those relating to future business, future results of operations or financial condition, new or planned features or services, mergers or acquisitions, or management strategies). Additionally, our forward looking statements include expectations related to anticipated impacts of the outbreak of the novel coronavirus. These forward-looking statements can be identified by words such as “may,” “will,” “would,” “should,” “could,” “expect,” “anticipate,” “believe,” “estimate,” “intend,” “strategy,” “future,” “opportunity,” “plan,” “project,” “forecast,” and other similar expressions. These forward-looking statements involve risks and uncertainties that could cause our actual results and financial condition to differ materially from those expressed or implied in our forward-looking statements. Such risks and uncertainties include, among others, those discussed in Part I, Item 1A, Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2019 (the “2019 Form 10-K”), as supplemented in the risk factors set forth below in Part II, Item 1A, Risk Factors, of this Form 10-Q, as well as in our unaudited condensed consolidated financial statements, related notes, and the other information appearing elsewhere in this report and our other filings with the Securities and Exchange Commission (“SEC”). We do not intend, and undertake no obligation except as required by law, to update any of our forward-looking statements after the date of this report to reflect actual results or future events or circumstances. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. You should read the following “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in conjunction with the unaudited condensed consolidated financial statements and the related notes that appear elsewhere in this report. Unless otherwise expressly stated or the context otherwise requires, references to “we,” “our,” “us,” “the Company,” and “PayPal” refer to PayPal Holdings, Inc. and its consolidated subsidiaries. Business Environment We are a leading technology platform and digital payments company that enables digital and mobile payments on behalf of merchants and consumers worldwide. PayPal is committed to democratizing financial services and empowering people and businesses to join and thrive in the global economy. Our goal is to enable our merchants and consumers to manage and move their money anywhere in the world, anytime, on any platform, and using any device. We also facilitate person-to-person (“P2P”) payments through our PayPal, Venmo, and Xoom products and services and simplify and personalize shopping experiences for our consumers through our Honey Platform. Our combined payment solutions, including our core PayPal, PayPal Credit, Braintree, Venmo, Xoom, iZettle, and Hyperwallet products and services, comprise our proprietary Payments Platform. We operate globally and in a rapidly evolving regulatory environment characterized by a heightened regulatory focus on all aspects of the payments industry. That focus continues to become even more heightened as regulators on a global basis focus on important issues such as countering terrorist financing, anti-money laundering, privacy, cybersecurity, and consumer protection. Some of the laws and regulations to which we are subject were enacted recently, and the laws and regulations applicable to us, including those enacted prior to the advent of digital and mobile payments, are continuing to evolve through legislative and regulatory action and judicial interpretation. New or changing laws and regulations, including the way laws and regulations are interpreted and implemented, as well as increased penalties and enforcement actions related to non-compliance, could have a material adverse impact on our business, results of operations, and financial condition. Therefore, we monitor these areas closely to design compliant solutions for our customers who depend on us. Information security risks for global payments and technology companies like us have significantly increased in recent years. Although we have developed systems and processes designed to protect data we manage, prevent data loss and other security breaches and effectively respond to known and potential risks, and expect to continue to expend significant resources to bolster these protections, we remain subject to these risks and there can be no assurance that our security measures will provide sufficient security or prevent breaches or attacks. For additional information regarding our information security risks, see Part I, Item 1A, Risk Factors in our 2019 Form 10-K, as supplemented and, to the extent inconsistent, superseded below (if applicable) in Part II, Item 1A, Risk Factors in this Form 10-Q. 46 Table of Contents In March 2020, the World Health Organization declared the outbreak of the novel coronavirus (“COVID-19”) as a pandemic. The rapidly changing global market and economic conditions as a result of COVID-19 have impacted, and are expected to continue to impact, our operations and business. To protect the health and safety of our employees, we have modified our business practices, including restrictions on employee travel, enabling the majority of our workforce to work from home, establishing a strict health and safety protocol for our offices that remain open including limitations on site visitors, and restricting physical participation in meetings, events, and conferences, among other modifications. We will continue to actively monitor the situation and may take further actions that alter our business operations as may be required by federal, state, or local authorities or that we determine are in the best interests of our employees, customers, and business partners. The broader implications of the COVID-19 outbreak on our business, financial condition, and results of operations remain uncertain. While the current macroeconomic environment as a result of the COVID-19 outbreak has adversely impacted general consumer and merchant spending with a more pronounced impact on travel and events verticals, the spread of COVID-19 has also accelerated the shift from in-store shopping and traditional in-store payment methods (e.g., credit cards, debit cards, cash) towards e-commerce and digital payments and resulted in increased customer demand for safer payment and delivery solutions (e.g. contactless payment methods, buy online and pick up in store) and a significant increase in online spending in certain verticals that have historically had a strong in-store presence. On balance, our business has benefited from these behavioral shifts, including a significant increase in net new active accounts and payments volume. To the extent that consumer preferences revert to pre-COVID-19 behaviors as mitigation measures to limit the spread of COVID-19 are lifted, our business, financial condition, and results of operations could be adversely impacted. The COVID-19 outbreak has adversely impacted, and is likely to continue to adversely impact global commerce due to reduced business activity and customer spending, and increased unemployment rates, among other factors, which could materially and adversely impact our business, financial condition, and results of operations in future periods. For additional information on how COVID-19 has impacted and could continue to negatively impact our business, see below for specific discussion in the respective areas, and also refer to Part II, Item 1A, Risk Factors in this Form 10-Q. The United Kingdom (“U.K.”) held a referendum in June 2016 in which a majority of voters approved an exit from the European Union (“EU”), commonly referred to as “Brexit.” The U.K. formally exited the EU (and the European Economic Area (“EEA”)) on January 31, 2020 and a transition period is in place until December 31, 2020 during which time the U.K. will remain in both the EU customs union and single market and follow EU rules, including those extending to EEA states. There is a significant lack of clarity over the terms of the U.K.’s future relationship with the EU, and the international bodies that are linked to it, after this date. We are currently unable to determine the impact that Brexit will have on our business, as any impact will depend, in part, on the outcome of tariff, trade, regulatory, and other negotiations. For additional information on how Brexit could affect our business, see Part II, Item 1A, Risk Factors in this Form 10-Q. Brexit could adversely affect U.K., regional (including European), and worldwide economic and market conditions, and could contribute to instability in global financial and foreign currency exchange markets, including volatility in the value of the British Pound and Euro. We have foreign currency exchange exposure management programs designed to help reduce the impact from foreign currency exchange rate movements. Net revenues generated from our U.K. operations constituted 11% of total net revenues for each of the three and six months ended June 30, 2020 and June 30, 2019, respectively. During each of these periods, net revenues generated from the EU (excluding the U.K.) constituted less than 20% of total net revenues. Approximately 38% and 37% of our gross loans and interest receivables as of June 30, 2020 and December 31, 2019, respectively, were generated from our U.K. operations. Approximately 8% and 6% of our gross loans and interest receivables as of June 30, 2020 and December 31, 2019, respectively, were generated from the EU (excluding the U.K.). 47 Table of Contents Overview of Results of Operations The following table provides a summary of our condensed consolidated financial results for the three and six months ended June 30, 2020 and 2019: Three Months Ended June 30, Percent Increase/(Decrease) Six Months Ended June 30, Percent Increase/(Decrease) 2020 2019 2020 2019 (In millions, except percentages and per share data) Net revenues $ 5,261 $ 4,305 22 % $ 9,879 $ 8,433 17 % Operating expenses 4,310 3,600 20 % 8,530 7,210 18 % Operating income $ 951 $ 705 35 % $ 1,349 $ 1,223 10 % Operating margin 18 % 16 % ** 14 % 15 % ** Other income (expense), net $ 848 $ 238 256 % $ 713 $ 437 63 % Income tax expense $ 269 $ 120 124 % $ 448 $ 170 164 % Effective tax rate 15 % 13 % ** 22 % 10 % ** Net income $ 1,530 $ 823 86 % $ 1,614 $ 1,490 8 % Net income per diluted share $ 1.29 $ 0.69 86 % $ 1.36 $ 1.25 9 % Net cash provided by operating activities $ 2,383 $ 1,174 103 % $ 3,887 $ 2,201 77 % All amounts in tables are rounded to the nearest million, except as otherwise noted. As a result, certain amounts may not recalculate using the rounded amounts provided. ** Not meaningful Three Months Ended June 30, 2020 and 2019 Net revenues increased $956 million, or 22%, in the three months ended June 30, 2020, compared to the same period of the prior year driven primarily by growth in total payment volume (“TPV”, as defined below under “Net Revenues”) of 29% compared to the same period of the prior year. Our acquisition of Honey Science Corporation (“Honey”) contributed approximately one percentage point to the growth rate of net revenues for the three months ended June 30, 2020. Total operating expenses increased $710 million, or 20%, in the three months ended June 30, 2020, compared to the same period of the prior year due primarily to increases in transaction expense, technology and development expenses, transaction and credit losses, and general and administrative expenses. Our acquisitions of Honey and a 70% equity interest in Guofubao Information Technology Co. (GoPay), Ltd. (“GoPay”) collectively contributed approximately six percentage points to the growth rate of total operating expenses for the three months ended June 30, 2020. Operating income increased by $246 million, or 35%, in the three months ended June 30, 2020, compared to the same period of the prior year due to growth in net revenues, partially offset by an increase in operating expenses. Our operating margin was 18% and 16% in the three months ended June 30, 2020 and June 30, 2019, respectively. Operating margin for the three months ended June 30, 2020 was positively impacted by revenue growth of 22%, outpacing operating expenses growth of 20%. Our acquisitions of Honey and GoPay collectively had a negative impact of approximately three percentage points on our operating margin for the three months ended June 30, 2020. Net income increased by $707 million, or 86%, in the three months ended June 30, 2020, compared to the same period of the prior year due to the previously discussed increase in operating income of $246 million, an increase of $610 million in other income (expense), net driven primarily by unrealized gains on strategic investments, and partially offset by an increase in income tax expense of $149 million driven primarily by tax expense on unrealized gains on strategic investments. Six Months Ended June 30, 2020 and 2019 Net revenues increased $1.4 billion, or 17%, in the six months ended June 30, 2020, compared to the same period of the prior year driven primarily by growth in TPV of 23%. Our acquisition of Honey contributed approximately one percentage point to the growth rate of net revenues for the six months ended June 30, 2020. 48 Table of Contents Total operating expenses increased $1.3 billion, or 18%, in the six months ended June 30, 2020, compared to the same period of the prior year due primarily to increases in transaction expense, transaction and credit losses, technology and development expenses, and general and administrative expenses. Our acquisitions of Honey and GoPay collectively contributed approximately six percentage points to the growth rate of total operating expenses for the six months ended June 30, 2020. Operating income increased by $126 million, or 10%, in the six months ended June 30, 2020, compared to the same period of the prior year due to growth in net revenues, partially offset by an increase in operating expenses. Our operating margin was 14% and 15% in the six months ended June 30, 2020 and June 30, 2019, respectively. Operating margin for the six months ended June 30, 2020 was negatively impacted by an increase in transaction and credit losses due primarily to the impact of macroeconomic forecasts on the lifetime expected credit losses on our portfolio of loans and interest receivable, as discussed below. Our acquisitions of Honey and GoPay collectively had a negative impact of approximately three percentage points on our operating margin for the six months ended June 30, 2020. Net income increased by $124 million, or 8%, in the six months ended June 30, 2020, compared to the same period of the prior year due to the previously discussed increase in operating income of $126 million, an increase of $276 million in other income (expense), net driven primarily by unrealized gains on strategic investments, and partially offset by an increase in income tax expense of $278 million, driven primarily by tax expense related to the intra-group transfer of intellectual property and tax expense on unrealized gains on strategic investments. Impact of Foreign Currency Exchange Rates We have significant international operations that are denominated in foreign currencies, primarily the British Pound, Euro, Australian dollar, and Canadian dollar, subjecting us to foreign currency exchange risk which may adversely impact our financial results. The strengthening or weakening of the U.S. dollar versus the British Pound, Euro, Australian dollar, and Canadian dollar, as well as other currencies in which we conduct our international operations, impact the translation of our net revenues and expenses generated in these foreign currencies into the U.S. dollar. In the three and six months ended June 30, 2020, we generated approximately 50% and 48%, respectively, of our net revenues from customers domiciled outside of the U.S. In each of the three and six months ended June 30, 2019, we generated approximately 47% of our net revenues from customers domiciled outside of the U.S. Because we generate substantial net revenues internationally, we are subject to the risks of doing business outside of the U.S. See Part I, Item 1A, Risk Factors in our 2019 Form 10-K, as supplemented and, to the extent inconsistent, superseded (if applicable) below in Part II, Item 1A, Risk Factors in this Form 10-Q. We calculate the year-over-year impact of foreign currency exchange movements on our business using prior period foreign currency exchange rates applied to current period transactional currency amounts. While changes in foreign currency exchange rates affect our reported results, we have a foreign currency exchange exposure management program in which we designate certain foreign currency exchange contracts as cash flow hedges intended to reduce the impact on earnings from foreign currency exchange rate movements. Gains and losses from these foreign currency exchange contracts are recognized as a component of transaction revenues in the same period the forecasted transactions impact earnings. In the three and six months ended June 30, 2020 and June 30, 2019, year-over-year foreign currency movements relative to the U.S. dollar had the following impact on our reported results: Three Months Ended June 30, 2020 Six Months Ended June 30, 2020 (In millions) Unfavorable impact to net revenues (exclusive of hedging impact) $ (74) $ (124) Hedging impact 33 75 Unfavorable impact to net revenues (41) (49) Favorable impact to operating expense 38 75 Net (unfavorable) favorable impact to operating income $ (3) $ 26 Three Months Ended June 30, 2019 Six Months Ended June 30, 2019 (In millions) Unfavorable impact to net revenues (exclusive of hedging impact) $ (93) $ (209) Hedging impact 58 110 Unfavorable impact to net revenues (35) (99) Favorable impact to operating expense 50 112 Net favorable impact to operating income $ 15 $ 13 49 Table of Contents While we enter into foreign currency exchange contracts to help reduce the impact on earnings from foreign currency exchange rate movements, it is impossible to predict or eliminate the total effects of this exposure. We also used a foreign currency exchange contract, designated as a net investment hedge, to reduce the foreign currency exchange risk related to our investment in a foreign subsidiary. Gains and losses associated with this instrument will remain in accumulated other comprehensive income until the foreign subsidiary is sold or substantially liquidated. Additionally, in connection with our services that are paid for in multiple currencies, we generally set our foreign currency exchange rates daily and may face financial exposure if we incorrectly set our foreign currency exchange rates or as a result of fluctuations in foreign currency exchange rates between the times that we set our foreign currency exchange rates. Given that we also have foreign currency exchange risk on our assets and liabilities denominated in currencies other than the functional currency of our subsidiaries, we have an additional foreign currency exchange exposure management program in which we use foreign currency exchange contracts to offset the impact of foreign currency exchange rate movements on our assets and liabilities. The foreign currency exchange gains and losses on our assets and liabilities are recorded in other income (expense), net, and are offset by the gains and losses on the foreign currency exchange contracts. These foreign currency exchange contracts reduce, but do not entirely eliminate, the impact of foreign currency exchange rate movements on our assets and liabilities. Financial Results Net Revenues Our revenues are classified into the following two categories: • Transaction revenues : Net transaction fees charged to merchants and consumers on a transaction basis primarily based on the volume of activity, or TPV, completed on our Payments Platform. Growth in TPV is directly impacted by the number of payment transactions that we enable on our Payments Platform. We earn additional fees on transactions where we perform currency conversion, when we enable cross-border transactions (i.e., transactions where the merchant and consumer are in different countries), to facilitate the instant transfer of funds for our customers from their PayPal or Venmo account to their debit card or bank account, and other miscellaneous fees. • Revenues from other value added services : Net revenues derived primarily from revenue earned through partnerships, referral fees, subscription fees, gateway fees, and other services we provide to our merchants and consumers. We also earn revenues from interest and fees earned primarily on our portfolio of loans receivable, and interest earned on certain assets underlying customer balances. Active accounts, number of payment transactions, number of payment transactions per active account, and TPV are key non-financial performance metrics (“key metrics”) that management uses to measure the performance of our business, and are defined as follows: • An active account is an account registered directly with PayPal or a platform access partner that has completed a transaction on our Payments Platform or through our Honey Platform, not including gateway-exclusive transactions, within the past 12 months. A platform access partner is a third party whose customers are provided access to PayPal’s Payments Platform through such third party’s login credentials. The number of active accounts provides management with additional perspective on the growth of accounts across our Payments and Honey Platforms as well as the overall scale of our platforms. The acquisition of Honey contributed approximately 10.2 million new active accounts on the date of acquisition in January 2020. • Number of payment transactions are the total number of payments, net of payment reversals, successfully completed on our Payments Platform or enabled by PayPal via a partner payment solution, not including gateway-exclusive transactions. • Number of payment transactions per active account reflects the total number of payment transactions within the previous 12-month period, divided by active accounts at the end of the period. The number of payment transactions per active account provides management with insight into the number of times a customer is engaged in payments activity on our Payments Platform in a given period. 50 Table of Contents • TPV is the value of payments, net of payment reversals, successfully completed on our Payments Platform, or enabled by PayPal via a partner payment solution, not including gateway-exclusive transactions. As our transaction revenue is typically correlated with TPV growth and the number of payment transactions completed on our Payments Platform, management uses these metrics to gain insights into the scale and strength of the Payments Platform, the engagement level of our customers, and underlying activity and trends which are indicators of current and future performance. We present these key metrics to enhance investors’ evaluation of the performance of our business and operating results. Net Revenues Analysis The components of our net revenues for the three and six months ended June 30, 2020 and 2019 were as follows: Three Months Ended June 30, Percent Increase/(Decrease) Six Months Ended June 30, Percent Increase/(Decrease) 2020 2019 2020 2019 (In millions, except percentages) Transaction revenues $ 4,945 $ 3,878 28 % $ 9,160 $ 7,609 20 % Revenues from other value added services 316 427 (26) % 719 824 (13) % Net revenues $ 5,261 $ 4,305 22 % $ 9,879 $ 8,433 17 % Transaction revenues Transaction revenues grew by $1.1 billion, or 28%, and $1.6 billion, or 20%, for the three and six months ended June 30, 2020, compared to the same periods of the prior year. The increase was mainly attributable to our core PayPal products and services, due primarily to strong growth in TPV and the number of payment transactions, both of which resulted primarily from an increase in our active accounts, and to a lesser extent, an increase in revenue from currency conversion fees driven by foreign exchange volatility. The current macroeconomic environment as a result of the COVID-19 outbreak has adversely impacted general consumer and merchant spending with a more pronounced impact on travel and events verticals. However, we have experienced strong growth in online retail, gaming, and food volume, offsetting this decline. The duration and severity of the impacts of COVID-19 remain unknown, and we currently expect that we will continue to experience adverse impacts to our transaction revenue growth rate in affected verticals for the remainder of the year. The following table provides a summary of our active accounts, number of payment transactions, TPV, and related metrics: Three Months Ended June 30, Percent Increase/(Decrease) Six Months Ended June 30, Percent Increase/(Decrease) 2020 2019 2020 2019 (In millions, except percentages) Active accounts (1) 346 286 21 % 346 286 21 % Number of payment transactions 3,742 2,973 26 % 7,003 5,811 21 % Number of payment transactions per active account 39.2 39.0 — % 39.2 39.0 — % TPV $ 221,731 $ 172,359 29 % $ 412,299 $ 333,851 23 % Percent of cross-border TPV 17 % 18 % ** 17 % 18 % ** All amounts in the table are rounded to the nearest million, except as otherwise noted. As a result, certain amounts may not recalculate using the rounded amounts provided. (1) Includes 10.2 million active accounts contributed by Honey on the date of acquisition in January 2020. ** Not meaningful Transaction revenues grew more slowly than TPV for the three and six months ended June 30, 2020, compared to the same periods in the prior year due to a higher proportion of P2P transactions (primarily from our Venmo and core PayPal products) from which we earn lower fees and a lower proportion of cross border transactions, partially offset by foreign currency exchange hedging gains. Changes in prices charged to our customers did not significantly impact transaction revenue growth for both the three and six months ended June 30, 2020. 51 Table of Contents Revenues from other value added services For the three and six months ended June 30, 2020, net revenues from other value added services decreased $111 million, or 26%, and $105 million, or 13%, compared to the same periods in the prior year. The decrease for the three and six months ended June 30, 2020 was primarily attributable to a decrease in revenue earned from transition servicing activities provided to Synchrony Bank (“Synchrony”), which ended in the second quarter of 2019, and a decline in interest earned on certain assets underlying customer balances resulting from lower interest rates. Additionally, a decrease in interest and fee income on our loans and advances receivable contributed to the decline in net revenues from other value added services for the three and six months ended June 30, 2020 due to an increase in the allowances provided for interest and fees receivable, a decline in originations and payment holidays that we provided to our customers as a part of our COVID-19 payment relief initiatives. This decline was partially offset by incremental revenues from our acquisition of Honey, which contributed approximately 14 and 13 percentage points to the growth rate for the three and six months ended June 30, 2020, respectively. Additionally, the decline in the six months ended June 30, 2020 was partially offset by an increase in our revenue share with Synchrony compared to the same period of the prior year. The total gross loans and interest receivable balance was $4.0 billion as of June 30, 2020 and $3.4 billion as of June 30, 2019, reflecting a year-over-year increase of 18% driven primarily by growth in our consumer receivable portfolio. In response to the COVID-19 outbreak, we have taken both proactive and reactive measures to support our merchants and consumers that have loans and interest receivables due to us under our credit product offerings. These measures are intended to reduce financial difficulties experienced by our customers and include providing payment holidays, under which we granted payment deferrals to borrowers for varying periods of time in certain cases. These measures have adversely impacted and are expected to continue to adversely impact the recognition of interest and fee income in future periods. Given the uncertainty surrounding the COVID-19 outbreak, including the duration and the ultimate impact it may have on the financial condition of our merchants and consumers, the extent of these types of actions and the impact they may have on our interest and fee income is not determinable. In addition, consumers that have outstanding loans and interest receivable due to Synchrony may be offered similar support, and ultimately may experience similar hardships that result in increased losses recognized by Synchrony, which may result in a decrease in our revenue share earned from Synchrony in future periods. In the event the overall return on the PayPal branded credit programs funded by Synchrony does not meet a minimum rate of return (“minimum return threshold”) in a particular quarter, our revenue share for that period would be zero. Further, in the event the overall return on the PayPal branded credit programs managed by Synchrony does not meet the minimum return threshold as measured over four consecutive quarters and in the following quarter, we would be required to make a payment to Synchrony, subject to certain limitations. Through June 30, 2020, the overall return on the PayPal branded credit programs funded by Synchrony exceeded the minimum return threshold. Operating Expenses The following table summarizes our operating expenses and related metrics we use to assess the trends in each: Three Months Ended June 30, Percent Increase/(Decrease) Six Months Ended June 30, Percent Increase/(Decrease) 2020 2019 2020 2019 (In millions, except percentages) Transaction expense $ 1,843 $ 1,627 13 % $ 3,582 $ 3,176 13 % Transaction and credit losses 440 318 38 % 1,031 659 56 % Customer support and operations 423 399 6 % 822 787 4 % Sales and marketing 414 356 16 % 785 685 15 % Technology and development 631 483 31 % 1,236 994 24 % General and administrative 512 419 22 % 998 838 19 % Restructuring and other charges 47 (2) ** 76 71 7 % Total operating expenses $ 4,310 $ 3,600 20 % $ 8,530 $ 7,210 18 % Transaction expense rate (1) 0.83 % 0.94 % ** 0.87 % 0.95 % ** Transaction and credit loss rate (2) 0.20 % 0.18 % ** 0.25 % 0.20 % ** (1) Transaction expense rate is calculated by dividing transaction expense by TPV. (2) Transaction and credit loss rate is calculated by dividing transaction and credit losses by TPV. ** Not meaningful 52 Table of Contents Transaction Expense Transaction expense increased by $216 million, or 13%, and $406 million, or 13%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to the increase in TPV of 29% and 23% for the three and six months ended June 30, 2020, respectively. The decrease in transaction expense rate for the three and six months ended June 30, 2020, compared to the same periods of the prior year was due primarily to favorable changes in product mix and funding mix. Our transaction expense rate is impacted by changes in product mix, regional mix, funding mix, and assessments charged by payment processors and other financial institutions when we draw funds from a customer’s credit or debit card, bank account, or other funding sources. The cost of funding a transaction with a credit or debit card is generally higher than the cost of funding a transaction from a bank or through internal sources such as a PayPal or Venmo account balance, or PayPal Credit. For each of the three and six months ended June 30, 2020 and 2019, approximately 2% of TPV was funded with PayPal Credit. For the three and six months ended June 30, 2020, approximately 40% and 39% of TPV, respectively, was generated outside of the U.S. For both the three and six months ended June 30, 2019, 41% of TPV was generated outside of the U.S. As we expand the availability and presentation of alternative funding sources to our customers, our funding mix may change, which could increase or decrease our transaction expense rate. Transaction and Credit Losses The components of our transaction and credit losses for the three and six months ended June 30, 2020 and 2019 were as follows: Three Months Ended June 30, Percent Increase/(Decrease) Six Months Ended June 30, Percent Increase/(Decrease) 2020 2019 2020 2019 (In millions, except percentages) Transaction losses $ 271 $ 247 10 % $ 518 $ 533 (3) % Credit losses 169 71 138 % 513 126 307 % Transaction and credit losses $ 440 $ 318 38 % $ 1,031 $ 659 56 % Transaction loss rate (1) 0.12 % 0.14 % 0.13 % 0.16 % (1) Transaction loss rate is calculated by dividing transaction losses by TPV. Transaction losses increased by $24 million, or 10%, and decreased $15 million, or 3%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year. The increase in the three months ended June 30, 2020 was primarily due to growth in TPV, partially offset by benefits realized through improvements in risk management capabilities. The decrease in the six months ended June 30, 2020 was due to benefits realized through improvements in risk management capabilities, which more than offset the increase in transaction losses resulting from growth in TPV over the same period. These factors also contributed to a decrease in our transaction loss rate in the three and six months ended June 30, 2020, compared to the same periods of the prior year. The duration and severity of the impacts of the COVID-19 outbreak remain unknown. The negative impact on macroeconomic conditions could increase the risk of merchant bankruptcy, insolvency, business failure, or other business interruption which may result in an adverse impact on our transaction losses, particularly for merchants that sell goods or services in advance of the date of their delivery or use. 53 Table of Contents Credit losses increased by $98 million, or 138%, and $387 million, or 307%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to an increase in provisions for our loans and interest receivable associated with changes in current and projected macroeconomic conditions, including qualitative adjustments to account for the impact from varying degrees of merchant performance in the current environment and expected performance in future periods, as well as payment holidays provided as a part of our COVID-19 payment relief initiatives. Our estimate of the macroeconomic impact on lifetime expected credit losses is most significantly impacted by projected unemployment trends and benchmark credit card charge-off rates, which directly correlate to the forecast of loans and interest receivables that will charge off in the future. Credit losses for the three months ended June 30, 2020 include the impact of a sharp increase in actual unemployment rates, expectations of a prolonged recovery period, and an overall deterioration in macroeconomic projections as compared to the three months ended March 31, 2020. If the actual unemployment and charge-offs vary from these projections as of June 30, 2020, the credit losses recognized in future periods will be impacted. Credit losses for the three and six months ended June 30, 2020 consisted primarily of approximately $100 million and $327 million, respectively, of provision associated with the deteriorating macroeconomic projections, and to a lesser extent, provisions associated with credit quality and originations during the same period. The consumer loans and interest receivables balance as of June 30, 2020 and June 30, 2019 was $1.5 billion and $909 million, respectively, representing a year-over-year increase of 63% driven by growth in international markets. Approximately 89% and 93% of our consumer loans receivable outstanding as of June 30, 2020 and June 30, 2019, respectively, were due from consumers in the U.K. The following table provides information regarding the credit quality of our consumer loans and interest receivable balance: June 30, 2020 2019 Percent of consumer loans and interest receivables current (1), (2) 97.7 % 97.1 % Percent of consumer loans and interest receivables > 90 days outstanding (1), (2), (3) 1.4 % 1.3 % Net charge off rate (4) 4.9 % 3.5 % (1) Prior period revised to conform to the current period presentation. (2) Includes the impact of payment holidays provided by the Company as a part of our COVID-19 payment relief initiatives. (3) Represents percentage of balances which are 90 days past the billing date to the consumer. (4) Net charge off rate is the annual ratio of net credit losses, excluding fraud losses, on consumer loans receivables as a percentage of the average daily amount of consumer loans and interest receivables balance during the period. The increase in the net charge off rate for consumer receivables at June 30, 2020 as compared to June 30, 2019 was primarily attributable to the continued expansion and maturity of our international consumer loan receivable portfolio. We offer business financing solutions to certain small and medium-sized merchants. Total merchant loans, advances, and interest and fees receivable outstanding, net of participation interest sold, as of June 30, 2020 were $2.5 billion, compared to $2.4 billion as of June 30, 2019, representing a year-over-year increase of 3%. The increase in merchant loans, advances, and interest and fees receivable outstanding was due primarily to the growth in our business financing solutions through March 31, 2020, offset by a reduction in originations in the three months ended June 30, 2020 due to modifications in our acceptable risk parameters as well as a shift to originations through the Paycheck Protection Program for which we do not own the receivables. Approximately 86% and 8% of our merchant receivables outstanding as of June 30, 2020 were due from merchants in the U.S. and U.K., respectively, as compared to 84% and 10% as of June 30, 2019. The following table provides information regarding the credit quality of our merchant loans, advances, and interest and fees receivable balance: June 30, 2020 2019 Percent of merchant receivables within original expected or contractual repayment period (1) 85.6 % 91.0 % Percent of merchant receivables > 90 days outstanding after the end of original expected or contractual repayment period (1) 5.2 % 3.9 % Net charge off rate (2) 7.0 % 7.7 % (1) Includes the impact of payment holidays provided by the Company as a part of our COVID-19 payment relief initiatives. (2) Net charge off rate is the annual ratio of net credit losses, excluding fraud losses, on merchant loans and advances as a percentage of the average daily amount of merchant loans, advances, and interest and fees balance during the period. 54 Table of Contents The decline in the percent of merchant receivables within the original expected or contractual repayment period, and increase in percent of merchant receivables greater than 90 days outstanding at June 30, 2020 as compared to June 30, 2019, was primarily due to an increase in payment delinquency driven by financial difficulties experienced by our merchants associated with the economic impact of COVID-19. The decrease in the net charge off rate for merchant receivables was primarily attributable to the suspension of aging of a significant portion of our merchant receivables over the duration of the payment holiday which resulted in a decrease in the charge off of accounts in the three months ended June 30, 2020. We expect the net charge off rate to increase through the remainder of the year as the payment holidays continue to expire. During the three and six months ended June 30, 2020, modifications to the acceptable risk parameters of our credit products in response to the impacts of the COVID-19 outbreak resulted in the implementation of a number of risk mitigation strategies, including reduction of maximum loan size, tightening eligible terms, and a shift from automated to manual underwriting of loans and advances. These changes in acceptable risk parameters have resulted in a deceleration in the growth of our borrowing base during the three months ended June 30, 2020. Beginning in July 2020, we expect to offer certain merchants amended payment plans to existing loans receivable, which may include longer repayment terms and modifications to existing fee structures. While the impact of COVID-19 on the economic environment remains uncertain, the longer and more severe the outbreak, the more likely it is to have a material adverse impact on our borrowing base, which is primarily comprised of small and medium-sized merchants, and a continued reduction in the volume of lending activity during the remainder of the year. For additional information, see “Note 11—Loans and Interest Receivable” in the notes to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q. Customer Support and Operations Customer support and operations expenses increased by $24 million, or 6%, and $35 million, or 4%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to an increase in employee-related expenses and contractors and consulting costs in our operations function that support the growth of our active accounts and payment transactions. The increase in the six months ended June 30, 2020 compared to the same period of the prior year was also attributable to customer onboarding and compliance costs. Sales and Marketing Sales and marketing expenses increased by $58 million, or 16%, and $100 million, or 15%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to higher spend on marketing programs and increases in amortization of acquired intangibles and employee-related expenses, partially offset by a decline in consulting services. Our acquisitions of Honey and GoPay collectively contributed approximately 21 and 20 percentage points to the growth rate of sales and marketing expenses for the three and six months ended June 30, 2020, respectively. Technology and Development Technology and development expenses increased by $148 million, or 31%, and $242 million, or 24%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to increases in employee-related expenses, amortization of acquired intangibles, and data center and cloud computing services utilized in delivering our products. Our acquisitions of Honey and GoPay collectively contributed approximately 16 and 15 percentage points to the growth rate of technology and development expenses for the three and six months ended June 30, 2020, respectively. General and Administrative General and administrative expenses increased by $93 million, or 22%, and $160 million, or 19%, in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year due primarily to increases in professional services expenses, including those attributable to acquisition-related transaction expense, employee-related expenses, depreciation expense, and charitable contributions supporting racial equality. The increase in the six months ended June 30, 2020 was also attributable to expenses related to contingencies. Our acquisitions of Honey and GoPay collectively contributed approximately 13 percentage points to the growth rate of general and administrative expenses for both the three and six months ended June 30, 2020. Restructuring and Other Charges Restructuring and other charges increased by $49 million and $5 million in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year. 55 Table of Contents During the first quarter of 2020, management approved a strategic reduction of the existing global workforce, which resulted in restructuring charges of $26 million and $55 million during the three and six months ended June 30, 2020, respectively. The approved strategic reduction in 2020 is part of a multiphase process to reorganize our workforce concurrently with the redesign of our operating structure, which we expect will span multiple quarters. We primarily incurred employee severance and benefits costs, as well as other associated consulting costs under the 2020 strategic reduction. This strategic reduction is expected to be substantially completed by the end of 2020. Additionally, in the second quarter of 2020, we incurred asset impairment charges of $21 million due to the write-off of a certain right of use lease asset and related leasehold improvements in conjunction with the exiting of certain leased properties. During the first quarter of 2019, management approved strategic reductions of the existing global workforce which resulted in restructuring charges of $78 million. The approved strategic reductions for 2019 were intended to better align our teams to support key business priorities, and included the transfer of certain operational functions between geographies, as well as the impact of the transition of servicing activities provided to Synchrony, which ended in the second quarter of 2019. We primarily incurred employee severance and benefits expenses under the 2019 strategic reductions, which were substantially completed by the first quarter of 2020. For information on the associated restructuring liability, see “Note 17—Restructuring and Other Charges” in the notes to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q. Other Income (Expense), Net Other income (expense), net increased $610 million and $276 million in the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year. The increase was driven by net unrealized gains of $670 million and $366 million on strategic investments during the three and six months ended June 30, 2020, respectively, compared to the same periods of the prior year primarily due to favorable changes in fair value related to our marketable equity securities. The increase in the three and six months ended June 30, 2020 was partially offset by an increase in interest expense associated with our fixed rate notes issued in the third quarter of 2019 and second quarter of 2020, as well as a decline in interest income driven by lower interest rates. Income Tax Expense Our effective income tax rate was approximately 15% and 13% for the three months ended June 30, 2020 and 2019, respectively. The increase in our effective income tax rate for the three months ended June 30, 2020, compared to the same period of the prior year was due primarily to an increase in tax expense associated with unrealized gains on strategic investments, partially offset by a favorable shift in earnings. Our effective income tax rate was approximately 22% and 10% for the six months ended June 30, 2020 and 2019, respectively. The increase in our effective income tax rate for the six months ended June 30, 2020, compared to the same period of the prior year was due primarily to tax expense related to the intra-group transfer of intellectual property and tax expense on unrealized gains on strategic investments, partially offset by a favorable shift in earnings. Our calculation of income tax expense for the three and six months ended June 30, 2020 is dependent in part on forecasts of full year results. The impact of the COVID-19 outbreak to the economic environment is uncertain and difficult to predict and may change these forecasts, which could materially impact tax expense as reported for the three and six months ended June 30, 2020. 56 Table of Contents Liquidity and Capital Resources We require liquidity and access to capital to fund our global operations, including customer protection programs, our credit products, capital expenditures, investments in our business, potential acquisitions and strategic investments, working capital, and other cash needs. The following table summarizes our cash, cash equivalents, and investments as of June 30, 2020 and December 31, 2019: June 30, 2020 December 31, 2019 (In millions) Cash, cash equivalents, and investments (1)(2) $ 13,523 $ 11,722 (1) Excludes assets related to funds receivable and customer accounts of $29.0 billion and $22.5 billion at June 30, 2020 and December 31, 2019, respectively. (2) Excludes total restricted cash of $75 million and $64 million at June 30, 2020 and December 31, 2019, respectively, and strategic investments of $2.6 billion and $1.8 billion as of June 30, 2020 and December 31, 2019, respectively. Foreign Cash, Cash Equivalents, and Investments Cash, cash equivalents, and investments held by our foreign subsidiaries were $6.7 billion as of June 30, 2020 and $7.2 billion at December 31, 2019, or 50% and 61% of our total cash, cash equivalents, and investments as of those respective dates. At December 31, 2019, all of our cash, cash equivalents, and investments held by foreign subsidiaries were subject to U.S. taxation under Subpart F, Global Intangible Low Taxed Income (“GILTI”), or the one-time transition tax under the Tax Cuts and Jobs Act of 2017. Subsequent repatriations to the U.S. will not be taxable from a U.S. federal tax perspective but may be subject to state or foreign withholding tax. A significant aspect of our global cash management activities involves meeting our customers’ requirements to access their cash while simultaneously meeting our regulatory financial ratio commitments in various jurisdictions. Our global cash balances are required not only to provide operational liquidity to our businesses, but also to support our global regulatory requirements across our regulated subsidiaries. As such, not all of our cash is available for general corporate purposes. Available Credit and Debt In May 2020, we issued fixed rate notes with varying maturity dates for an aggregate principal amount of $4.0 billion. Proceeds from the issuance of these notes may be used for general corporate purposes, which may include funding the repayment or redemption of outstanding debt, share repurchases, ongoing operations, capital expenditures, and possible acquisitions of businesses, assets, or strategic investments. As of June 30, 2020, we had $9.0 billion in fixed rate debt outstanding with varying maturity dates. In September 2019, we entered into a credit agreement (the “Credit Agreement”) that provides for an unsecured $5.0 billion, five-year revolving credit facility that includes a $150 million letter of credit sub-facility and a $500 million swingline sub-facility, with available borrowings under the revolving credit facility reduced by the amount of any letters of credit and swingline borrowings outstanding from time to time. In March 2020, we drew down $3.0 billion under the Credit Agreement. In May 2020, we repaid the $3.0 billion using proceeds from the May 2020 debt issuance. As of June 30, 2020, no amounts were outstanding under the Credit Agreement. We maintain uncommitted credit facilities in various regions throughout the world, with borrowing capacity of approximately $130 million in the aggregate. This available credit includes facilities where we can withdraw and utilize the funds at our discretion for general corporate purposes. Interest rate terms for these facilities vary by region and reflect prevailing market rates for companies with strong credit ratings. As of June 30, 2020, substantially all of the borrowing capacity under these credit facilities was available, subject to customary conditions to borrowing. Other than as described above, there are no significant changes to the available credit and debt disclosed in our 2019 Form 10-K. For additional information, see “Note 12—Debt” in the notes to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q. We have cash pooling arrangements with a financial institution for cash management purposes. Each arrangement allows for cash withdrawals from the financial institution based upon our aggregate operating cash balances held within the financial institution (“Aggregate Cash Deposits”). Each arrangement also allows us to withdraw amounts exceeding the Aggregate Cash Deposits up to an agreed-upon limit. The net balance of the withdrawals and the Aggregate Cash Deposits are used by the financial institution as a basis for calculating our net interest expense or income under each arrangement. As of June 30, 2020, we had a total of $3.0 billion in cash withdrawals offsetting our $3.0 billion in Aggregate Cash Deposits held within the financial institution under the cash pooling arrangements. 57 Table of Contents Liquidity for Loans Receivable Portfolio Growth Growth in our portfolio of loan receivables increases our liquidity needs and any inability to meet those liquidity needs could adversely affect our business. We continue to evaluate partnerships and third party sources of funding for our loans receivable portfolio. In June 2018, the Luxembourg Commission de Surveillance du Secteur Financier (the “CSSF”) agreed that PayPal’s management may designate up to 35% of European customer balances held in our Luxembourg banking subsidiary to be used for European and U.S. credit activities. As of June 30, 2020, the cumulative amount approved by management to be designated for credit activities aggregated to $2.0 billion and represented approximately 26% of European customer balances potentially available for corporate use by us at that date as determined by applying financial regulations maintained by the CSSF. We may periodically seek to designate additional amounts of customer balances, if necessary, based on utilization of the approved funds and anticipated credit funding requirements. Our objective is to expand the availability of our credit products with capital from external sources, although there can be no assurance that we will be successful in achieving that goal. Under certain exceptional circumstances, corporate liquidity could be called upon to meet our obligations related to our European customer balances. In April 2020, PayPal was approved to participate in the U.S. Government’s Paycheck Protection Program, which is designed to provide a direct incentive for small businesses to keep their workers on payroll during the COVID-19 outbreak. Loans made under this program are funded by an independent chartered financial institution that we partner with, and the related receivables are not purchased by PayPal. We receive a fee for providing origination services and loan servicing for the loans and retain operational risk related to those activities. As of July 28, 2020, originations facilitated through PayPal under this program were approximately $2.1 billion. Credit Ratings As of June 30, 2020, we continue to be rated investment grade by Standard and Poor’s Financial Services, LLC, Fitch Ratings, Inc., and Moody’s Investors Services, Inc. We expect that these credit rating agencies will continue to monitor our performance, including our capital structure and results of operations. Our goal is to be rated investment grade, but as circumstances change, there are factors that could result in our credit ratings being downgraded or put on a watch list for possible downgrading. If that were to occur, it could increase our borrowing rates, including the interest rate on borrowings under our credit agreements. Risk of Loss The risk of losses from our buyer and seller protection programs are specific to individual customers, merchants, and transactions, and may also be impacted by regional variations in, and changes or modifications to, the programs, including as a result of changes in regulatory requirements. For the periods presented in these condensed consolidated financial statements included in this report, our transaction loss rates ranged between 0.12% and 0.16% of TPV. Historical loss rates may not be indicative of future results. The duration and severity of the impacts of the COVID-19 outbreak remain unknown. Its negative impact on macroeconomic conditions could increase the risk of merchant bankruptcy, insolvency, business failure, or other business interruption, which may result in an adverse impact on our transaction losses, particularly for merchants that sell goods or services in advance of the date of their delivery or use. Stock Repurchases and Acquisitions During the six months ended June 30, 2020, we repurchased approximately $1.0 billion of our common stock in the open market under our stock repurchase programs authorized in April 2017 and July 2018. The July 2018 stock repurchase program became effective during the first quarter of 2020 upon completion of the April 2017 stock repurchase program. As of June 30, 2020, a total of approximately $9.0 billion remained available for future repurchases of our common stock under our July 2018 stock repurchase program. In January 2020, we completed our acquisition of Honey for approximately $3.6 billion in cash and approximately $400 million in assumed restricted stock, restricted stock units, and options, subject to vesting conditions. We believe our acquisition of Honey will enhance our value proposition by allowing us to further simplify and personalize shopping experiences for consumers while driving conversion and increasing consumer engagement and sales for merchants. For additional information, see “Note 4—Business Combinations” in the notes to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q. 58 Table of Contents Other Considerations In the second quarter of 2020, we announced our commitment to invest $530 million to support racial equality. The investments will include: charitable contributions, grants to small businesses, internal investments to support and strengthen diversity and inclusion initiatives, and an economic opportunity fund, which will include bolstering our relationships with community banks and credit unions serving underrepresented minority communities, as well as investing directly into black- and minority-led startups and minority-focused investment funds. Our liquidity, access to capital, and borrowing costs could be adversely impacted by declines in our credit rating, our financial performance, and global credit market conditions, as well as a broad range of other factors including those related to the COVID-19 outbreak discussed elsewhere in this Form 10-Q. In addition, our liquidity, access to capital, and borrowing costs could be negatively impacted by the outcome of any of the legal or regulatory proceedings to which we are a party. See Part I, Item 1A, Risk Factors in our 2019 Form 10-K, as supplemented and, to the extent inconsistent, superseded below in Part II, Item 1A, Risk Factors in this Form 10-Q, as well as “Note 13—Commitments and Contingencies” to the condensed consolidated financial statements in Part I, Item 1 of this Form 10-Q for additional discussion of these and other risks that our business faces. We believe that our existing cash, cash equivalents, and investments, cash expected to be generated from operations, and our expected access to capital markets, together with potential external funding through third party sources, will be sufficient to fund our operating activities, anticipated capital expenditures, and our credit products for the foreseeable future. Depending on market conditions, we may from time to time issue debt, including in private or public offerings, to fund our operating activities, finance acquisitions, make strategic investments, repurchase shares under our stock repurchase program, or reduce our cost of capital. Cash Flows The following table summarizes our condensed consolidated statements of cash flows: Six Months Ended June 30, 2020 2019 (In millions) Net cash provided by (used in): Operating activities $ 3,887 $ 2,201 Investing activities (10,073) (5,957) Financing activities 8,519 2,498 Effect of exchange rates on cash, cash equivalents, and restricted cash (72) (1) Net increase (decrease) in cash, cash equivalents, and restricted cash $ 2,261 $ (1,259) Operating Activities We generated cash from operating activities of $3.9 billion in the six months ended June 30, 2020 due primarily to operating income of $1.3 billion, as well as adjustments for non-cash expenses including: provision for transaction and credit losses of $1.0 billion, stock-based compensation of $635 million, and depreciation and amortization of $590 million. Net income was also adjusted for net unrealized gains on our strategic investments of $739 million and changes in other assets and liabilities of $639 million, primarily related to an increase in funds payable and amounts due to customers of $705 million partially offset by actual cash transaction losses incurred during the period. We generated cash from operating activities of $2.2 billion in the six months ended June 30, 2019 due primarily to operating income of $1.2 billion, as well as adjustments for non-cash expenses related to provision for transaction and credit losses of $659 million, stock-based compensation of $470 million, and depreciation and amortization of $458 million. Net income was also adjusted for unrealized gains on our strategic investments of $398 million and changes in other assets and liabilities of $303 million, primarily related to actual cash transaction losses incurred during the period. In the six months ended June 30, 2020 and 2019, cash paid for income taxes, net was $70 million and $176 million, respectively. 59 Table of Contents Investing Activities The net cash used in investing activities of $10.1 billion in the six months ended June 30, 2020 was due primarily to purchases of investments of $14.8 billion, acquisitions (net of cash acquired) of $3.6 billion, changes in funds receivable from customers of $1.1 billion, and purchases of property and equipment of $399 million. These cash outflows were partially offset by maturities and sales of investments of $9.8 billion and proceeds from the sale of property and equipment of $120 million. The net cash used in investing activities of $6.0 billion in the six months ended June 30, 2019 was due primarily to purchases of investments of $13.2 billion, changes in funds receivable from customers of $2.2 billion, changes in principal loans receivable, net of $732 million, and purchases of property and equipment of $357 million. These cash outflows were partially offset by maturities and sales of investments of $10.5 billion. Financing Activities We generated cash from financing activities of $8.5 billion in the six months ended June 30, 2020 due primarily to $7.0 billion of cash proceeds from the issuance of long-term debt in the form of fixed rate notes as well as proceeds from borrowings under our Credit Agreement and changes in funds payable and amounts due to customers of $5.9 billion. These cash inflows were partially offset by the repayment of outstanding borrowings under our Credit Agreement of $3.0 billion, the repurchase of $1.0 billion of our common stock under our stock repurchase programs, and tax withholdings related to net share settlement of equity awards of $421 million. We generated cash from financing activities of $2.5 billion in the six months ended June 30, 2019 due primarily to changes in funds payable and amounts due to customers of $3.1 billion and borrowings under a prior credit agreement of $500 million, partially offset by the repurchase of $756 million of our common stock under our stock repurchase programs and tax withholdings related to net share settlement of equity awards of $449 million. Effect of Exchange Rates on Cash, Cash Equivalents, and Restricted Cash Foreign currency exchange rates had a negative impact of $72 million on cash, cash equivalents, and restricted cash for the six months ended June 30, 2020 due to the strengthening of the U.S. dollar against certain foreign currencies, primarily the Brazilian real. Off-Balance Sheet Arrangements As of June 30, 2020, we had no off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on our consolidated financial condition, results of operations, liquidity, capital expenditures, or capital resources. Critical Accounting Policies and Estimates The application of U.S. GAAP requires us to make estimates and assumptions about certain items and future events that directly affect our reported financial condition. We have established detailed policies and control procedures to provide reasonable assurance that the methods used to make estimates and assumptions are well controlled and are applied consistently from period to period. The accounting estimates and assumptions as described in our 2019 Form 10-K and as supplemented and, to the extent inconsistent, superseded within this section are those that we consider to be the most critical to our financial statements. An accounting estimate is considered critical if both (a) the nature of the estimate or assumption is material due to the levels of subjectivity and judgment involved, and (b) the impact within a reasonable range of outcomes of the estimate and assumption is material to our financial condition. Senior management has discussed the development, selection, and disclosure of these estimates with the Audit, Risk and Compliance Committee of our Board of Directors. Our significant accounting policies, including recent accounting pronouncements, are described in our 2019 Form 10-K and as supplemented and, to the extent inconsistent, superseded within “Note 1 — Overview and Summary of Significant Accounting Policies” to the condensed consolidated financial statements in this report. A quantitative sensitivity analysis is provided where that information is reasonably available, can be reliably estimated, and provides material information to investors. The amounts used to assess sensitivity are included to allow users of this report to understand a general directional cause and effect of changes in the estimates and do not represent management’s predictions of variability. For all of these estimates, it should be noted that future events rarely develop exactly as forecasted, and estimates require regular review and adjustment. 60 Table of Contents Transaction and credit losses Transaction and credit losses include the expense associated with our customer protection programs, fraud, chargebacks, and credit losses associated with our loans receivable balances. Our transaction and credit losses fluctuate depending on many factors, including: total TPV, current and projected macroeconomic conditions, including unemployment rates and merchant insolvency events, changes to and usage of our customer protection programs, the impact of regulatory changes, and the credit quality of loans receivable arising from transactions funded with our credit products, which include our PayPal Credit consumer products and merchant loans and advances arising from our PPWC and PPBL products. We establish allowances for estimated transaction losses arising from processing customer transactions, such as chargebacks for unauthorized credit card use and merchant-related chargebacks due to non-delivery of goods or services, buyer protection program claims, and account takeovers. Additions to the allowance, in the form of provisions, are reflected in transaction and credit losses on our condensed consolidated statements of income. The allowances are monitored regularly and are updated based on actual claims data. The allowances are based on known facts and circumstances, internal factors including experience with similar cases, historical trends involving loss payment patterns, the mix of transaction and loss types, as well as current and projected macroeconomic factors, as appropriate. We also establish an allowance for loans and interest receivable, which represents our estimate of lifetime expected credit losses inherent in our portfolio of loans and interest receivable. This evaluation process is subject to numerous estimates and judgments. The allowance is primarily based on expectations of credit losses based on historical lifetime loss data as well as macroeconomic factors. Loss curves are generated using historical loss data for our loan portfolios and are applied to segments of each portfolio, categorized by geographic region, first borrowing vs. reuse, delinquency, and vintage, among other factors. We then apply macroeconomic factors such as forecasted trends in unemployment and benchmark credit card charge-off rates, which are sourced externally, using a single scenario that is most appropriate to the economic conditions applicable to a particular period. We utilize externally sourced macroeconomic scenario data to supplement our historical information due to the limited period in which our credit product offerings have been in existence. Projected loss rates, inclusive of historical loss data and macroeconomic factors, are applied to the principal amount of our consumer and merchant receivables. Further, we may include qualitative adjustments that incorporate incremental information not captured in the quantitative estimates of our expected lifetime losses. Our consumer receivables are primarily revolving in nature and do not have a contractual term, however the reasonable and supportable forecast period we have included in our projected loss rates based on externally sourced data is approximately seven years. Our merchant receivables vary in contractual term, however the reasonable and supportable forecast period considered for projected loss rates is approximately 2.5 to 3.5 years, dependent upon the product. The allowance for loss against the interest and fees receivable is determined primarily by applying loss curves by geography, delinquency, and period of origination, among other factors. Determining appropriate expected credit loss allowances for loans and interest receivable is an inherently uncertain process and ultimate losses may vary from the current estimates. We regularly update our allowance estimates as new facts become known and events occur that may impact the settlement or recovery of losses. The allowances are maintained at a level we deem appropriate to adequately provide for lifetime expected credit losses at the balance sheet date after incorporating the impact of externally sourced macroeconomic forecasts. These forecasts project scenarios for future unemployment and benchmark credit card charge-off rates. As of June 30, 2020, we utilized externally published projections indicating a forecasted peak U.S. unemployment rate over the reasonable and supportable period of approximately 14% in the second quarter of 2020, resulting in an overall principal and interest coverage ratio of approximately 22%. A significant change in the forecasted macroeconomic factors could result in a material change in our allowances. Our allowance as of June 30, 2020 has been adjusted to account for the proactive and reactive measures that we have taken that are intended to reduce financial difficulties experienced by our customers. These qualitative adjustments were made to incorporate varying degrees of merchant performance both in the current environment as well as expected future performance, and to account for payment holidays granted. Our allowance as of June 30, 2020 has not been adjusted to account for the potential impacts of the Coronavirus Aid, Relief, and Economic Security Act or the “CARES Act”, which are also intended to help mitigate the negative impact the current pandemic may have on the financial condition of our customers. We are unable to predict the ultimate impact of these actions which may result in adjustments to our allowance for loans and interest receivable in future periods. An increase of 1% in the principal and interest coverage ratio would increase our allowances by approximately $39 million based on the loans and interest receivable balance outstanding as of June 30, 2020. 61 Table of Contents