eBay: All is not well

Forget the Skype acquisition debacle. It's eBay's core business you should be worried about.

That's the takeaway from Wall Street on Thursday after eBay reported what appeared to be strong third quarter results (also see Techmeme). But there's the fine print. Currency effects--if you haven't noticed the dollar has plummeted against every major currency to pad U.S. company financial results--and a low tax rate are what delivered eBay's upside surprise.

Derek Brown, an analyst at Cantor Fitzgerald, hammered home eBay's problems.

"We urge investors to look through this 'beat-and-raise' quarter and focus on the glaring weakness of eBay's core Marketplace franchise (which drives 70%-plus of total revs) and the fact that upside is being fueled almost exclusively by FX (currency) gains, acquisitions, and a much lower-than-expected tax burden."

By the numbers, Brown estimated that eBay's revenue was boosted by $54 million and operating income by $24 million because of a weak dollar. Revenue collected in Europe looks a lot better when translated into the peso, err dollar.

But the currency crutch really didn't help eBay's earnings per share all that much. The real crutch was a 10 percent tax rate compared to an expected 25 percent rate, said Brown in a research note. That lower tax rate added roughly 7 cents a share to 8 cents a share to eBay earnings.

Meanwhile, the growth prospects aren't looking so hot. eBay's total listings fell 5 percent in the third quarter from a year ago and active users fell quarter to quarter (by roughly 300,000) for the first time ever, but were up 4 percent from a year ago, said Brown, who rates eBay shares a "sell."

This theme was reiterated throughout Wall Street research notes on Thursday and on eBay's conference call. In other words, there's a reason eBay is lowering insertion fees by 35 percent for the holidays--it is losing market share and needs to increase listings. Thomas Weisel analyst Shawn Milne said he expects that eBay will tweak pricing going forward. The takeaway: The days of eBay's pricing power is waning.

Deutsche Bank analyst Jeetil Patel said in a note that eBay may be facing a worst case scenario ahead.

We think eBay is facing a worst case scenario in its business, due to 2% transaction volume growth (& potentially declining soon), user disengagement, higher ad costs, declining purchase frequency, rising seller costs and operating margin pressures. eBay's recent listing fee discount reinforces the challenges in the business.

Patel leaves us with a key question: If eBay's business was so good why is it cutting fees so aggressively? Indeed, if eBay's core business is beginning to wane the Skype acquisition will be the least of its worries.