Block Inc (SQ)

[eastunder]

Is SQ Stock A Buy Or Sell? Bulls Eye Margin Growth, Bears See Afterpay Risk

https://www.investors.com/news/technology/sq-stock-buy-now/?src=A00220

REINHARDT KRAUSE09:01 AM ET 09/22/2022
When you think of SQ stock, cryptocurrency Bitcoin quickly comes to mind. There's also a big acquisition to mull for Square stock as well as a corporate rebranding.

Amid rising fears of a U.S. recession, one question is how resistant Square-parent Block (SQ) will be to a business downturn versus other digital payment companies. Also, the price of Bitcoin has again dropped below a key level of $20,000.

Meanwhile, Block stock has retreated about 63% in 2022. SQ stock has under-performed versus the S&P 500, which is down nearly 21%.

Square on Jan. 31 closed the acquisition of Australia-based consumer lending startup Afterpay. Its growth has slowed. And, "buy now, pay later (BNPL) fintech companies like Afterpay face increased regulation.

At Mizuho Securities, analyst Dan Dolev downgraded Block stock on Sept. 22 to neutral.

"After years of rightfully being deemed the most innovative name in payments, we believe user fatigue, plateauing inflows, loss of the best-of-breed POS status, and BNPL mis-execution are blocking SQ's growth," Dolev said in a report.

"SQ still has enormous potential, but it is not being realized. Instead, BNPL estimates continue to come down and projects like Bitcoin — which accounts for 5% of gross profit — seem to disproportionately preoccupy management's attention," he added.

Square Stock: Earnings Mixed

Square reported June-quarter earnings and revenue that fell from a year earlier but beat estimates. Operating profit and gross payment volume missed views.

Earnings before interest, taxes, depreciation and amortization, or EBITDA, came in above expectations.

"The company has pulled back on experimental and less efficient spend, along with adjusting its risk loss modelling and slowing the pace of hiring," Deutsche Bank analyst Bryan Keane said in a note to clients. "Due to scale and a new cost discipline focus, we believe SQ stock is positioning for material margin expansion in 2023 and 2024."

In its core business, Square stock aims to build a two-sided digital payments ecosystem, with products designed for both merchant sellers and consumer buyers. The Square Cash App helps individuals manage money, buy stocks and cryptocurrency, and more.

Cash App user growth and monetization is key to the outlook for SQ stock. Cash App growth soared during the coronavirus pandemic amid government economic stimulus. The bearish view is that Cash App growth will slow as the U.S. economy normalizes.

Block Stock: New Corporate Branding

Square on Dec. 1 changed its name to Block, while retaining the ticker SQ. In part, the move reflected the company's commitment to blockchain technology, which underpins cryptocurrency. SQ stock has dropped 72% since the rebranding to Block.

Meanwhile, the price of Bitcoin stood at $19,240 on Sept. 22. In June, Bitcoin fell below $19,000. Crypto assets have been under pressure.

The price of Bitcoin has retreated 71% since peaking around $68,900 in November. For investors in Square stock, a key question is when the price of Bitcoin will bottom.

The company retains the Square brand for merchants that use its point-of-sale technology and services.

At an investor day in May, Chief Executive Jack Dorsey said Block has "an ecosystem of ecosystems" business model.

The strategy is designed to create a positive feedback loop among business units as the company expands, he said. But Square did not provide multi-year guidance on revenues and margins.

Square Stock: Cash App Growth Key

"Square delivered a confident, thoughtful and coherent message with a strategic focus," Susquehanna analyst James Friedman said in his note to clients. "SQ is focusing on integrating its Cash App and Square ecosystems (largely via Afterpay), adding services and cross-selling to Cash App customers and growing its adjacent other business lines."

At the Goldman Sachs conference in September, Square said the Cash App now has 47 million monthly active users, up slightly from 44 million at the end of 2021.

Some Cash App metrics were a bright spot when Square reported March-quarter earnings. The company reported earnings, revenue, operating profit and gross payment volume that missed analyst estimates, despite lowered expectations.

Square is diversifying on the merchant side. Merchants with less than $125,000 in annual payment volume represented only 34% of Square's gross payment volume mix in December, down from 57% in 2016, noted a UBS report.

Square and Twitter (TWTR) had the same CEO in Dorsey. But Dorsey resigned as Twitter CEO in late 2021, ending the executive-sharing arrangement.

Under Dorsey, Square embraced cryptocurrency Bitcoin. At RBC Capital, analyst Daniel Perlin says Bitcoin is more than a consumer acquisition tool for SQ stock.

Square Stock: Big Bet On Buy Now, Pay Later

In a recent note, Perlin said Block aims to build infrastructure that enables bitcoin-based commerce on its merchant platform.

"Crypto/bitcoin remains a small and volatile contributor today, but could develop into a more cohesive strategy and financial contributor longer-term," he wrote.

Block in 2021 said it plans to build a system for bitcoin mining. In addition, Square created a new business line to help developers build financial services products focused on Bitcoin.

Announced Aug. 1, the Afterpay deal was originally valued at $29 billion. With the big drop in Block stock, the deal was valued at less than $15 billion at closing.

Afterpay competes in the emerging "buy now, pay later" market that encroaches on credit card networks. Apple (AAPL) has emerged as a rival to Afterpay. Another rival of Afterpay is Affirm Holdings (AFRM).

Some investors questioned whether Block needed to buy a company in this sector as opposed to building up its own capabilities or partnering. Competition is heating up in the buy now, pay later market.

Block's 2022 guidance includes an expected $1 billion in Afterpay operating expenses. UBS analyst Rayna Kumar in a report said the "risk profile" of Afterpay has changed amid rising interest rates and the potential of increased regulation.

Square stock surged in 2020 during the coronavirus outbreak as investors focused on the growth of its consumer Cash App. They shrugged off worries over Square stock exposure to small businesses and restaurants that might close because of the coronavirus pandemic.

Square has closed the acquisition of a majority stake in Jay-Z's Tidal music streaming service for $297 million in cash and stock.

Block Stock: Competition Heats Up

With multiple products, SQ stock faces stiff competition in both consumer financial apps and the small business market. Analysts expect Square's rivalry with PayPal Holdings (PYPL) to heat up as they improve digital wallets.

What's more, Apple (AAPL) on Feb. 8 said it's rolling out a new iPhone app. The new app will turn iPhones into a point-of-sale terminal. The service will allow merchants to accept contactless credit or debit cards. And, Apple is moving into the buy now, pay later market.

Other rivals include First Data's (FDC) Clover unit, Shopify (SHOP), merchant acquirers, and well-funded startup Stripe.

Square disclosed a new $170 million investment in Bitcoin in early 2021 on top of its $50 million purchase in October 2020. The company reports Bitcoin holdings as unrealized gains on investments, and they will be excluded from adjusted earnings, analysts say.

The company also is interested in developing a Bitcoin hardware wallet.

Cash App users are able to buy, hold and sell Bitcoin. Square's adjusted revenues from Bitcoin are sales to app users, minus the cost of purchasing the digital currency.

But Square's Bitcoin business has gross profit margins of only around 2%, analysts say.

Square Stock: Payments Ecosystem

For merchants, Square makes credit-card readers that plug into mobile devices. Its Square Capital division provides loans to sellers. While Square retains only 10% of Square Capital loans on its balance sheet, there's still a risk of defaults.

Prior to the Covid-19 outbreak, SQ stock analysts were divided on whether Square revenue growth would reaccelerate with margin improvement following a period of elevated investments. The Square Cash App, a peer-to-peer money-transfer service, competes with PayPal's Venmo, Zelle and others.

Amid the coronavirus pandemic, Cash App emerged as a digital alternative to traditional banks. Consumers used the Cash App's direct-deposit feature to receive government stimulus payments, for example. But Cash App gross profit growth slowed over the summer, analysts say, as stimulus programs expired.

Square is testing a short-term borrowing feature for Cash App users. Square offers loans of $20 to $200. Cash App users are expected to pay pack the loans in four weeks, with interest.

Also, the Cash App provides a stock trading feature. Cash App offers a debit card through a deal with Marqeta.

The bearish view is that Cash App's momentum proves transitory with low customer retention after the coronavirus pandemic eases.

The Square Cash app, Square Capital and Instant Deposit all contribute to the company's subscription and services revenue. One key for Square is cross-selling more services to its existing pool of merchants, analysts say.

To broaden its consumer platform, Square plans to buy Credit Karma's tax business for $50 million in cash. It's a free service for consumers.

Block Stock: Moving Upmarket To Bigger Sellers

With roots in serving such micromerchants as food trucks and farm-stand vendors, Square has moved "upmarket," targeting larger businesses.

SQ stock ranks among the top 10 fintech companies. Bigger fintech companies include Visa (V), Mastercard (MA), PayPal, Fidelity National Information Services (FIS), Fiserv (FISV) and American Express (AXP).

In addition to selling credit-card readers, Square provides software for point-of-sale and back offices in order to manage inventory and other tasks.

Square recently focused on software products that can be used across many industries, such as invoicing, payroll and marketing. It also aims to integrate its payment tools into e-commerce platforms.

Block on May 18 said it has acquired privately held GoParrot, a digital ordering and marketing platform for restaurants.

Instant Deposit Speeds Up Process

The company's Square Instant Deposit allows merchants to immediately receive payments instead of waiting a few days for settlement.

Meanwhile, Square Card is a business prepaid debit card issued in partnership with Sutton Bank to small business owners on the Square platform.

Square on March 2 said its Utah-based industrial bank has launched services to small businesses. Called Square Financial Services, the bank will offer loans and deposit accounts.

In trying to move upmarket, Square takes on Worldpay and Global Payments (GPN).

Some fintech companies are merging, giving them greater scale vs. Square.

The company recently sold Caviar, a food ordering and delivery service, to DoorDash for $410 million.

One key question as competition heats up is the outlook for the gross payment volume — total volume of sales in dollars generated by merchant customers — also known as GPV. It's a key financial metric for rivals like PayPal as well.

SQ Stock Fundamental Analysis

In Q2, Square earnings were 18 cents per share on an adjusted basis, down 72% from the year-earlier period. Analysts had projected earnings of 16 cents a share.

Also, Square said revenue dropped 6% to $4.4 billion, as Cash App transactions for digital cryptocurrency Bitcoin fell. Analysts had predicted revenue of $4.33 billion.

Operating profit came in at $1.47 billion, up 29%, vs. estimates of $1.495 billion.

Gross payment volume from merchant customers rose 23% to $52.5 billion, vs. estimates of $53.187 billion.

In addition, Cash App gross profit rose 29% to $705 million. Excluding Afterpay, Cash App gross profit rose 15%.

The company said earnings before interest, taxes, depreciation and amortization, or EBITDA, came in at $187 million. Analysts had estimated $140 million.

Amid the Afterpay acquisition, Square's transaction and loan losses increased 225% year-over-year to $157 million. In its first full quarter since the merger, Afterpay contributed $150M in gross profit.

Assuming a stable macro environment, Block management said it expects Cash App and Square to sequentially grow gross profit each quarter throughout 2022.

Block Stock Technical Analysis

After its disappointing initial public offering in November 2015, Square stock meandered. In June 2016, SQ stock still traded just above its initial public offering price of 9.

That soon changed. Square stock went on a big run starting in 2016. One analyst called Square the next FANG stock, joining the likes of Facebook (FB), Amazon (AMZN), Netflix (NFLX) and Alphabet's (GOOGL) Google in stature.

Following its big run, Square stock fell more than 50% in late 2018 as many technology companies also crashed. Not many stocks roar back after a 50% correction.

It takes time for them to digest gains and set up for another extended surge into new highs.

SQ stock clawed back in 2019. Then shares surged in 2020 as investors focused on the growth of its consumer Cash App.

But Block stock disappointed in 2021, especially in the back half of the year.

Square has wrestled with finding the right balance of revenue growth, investments and profitability.

Is Square Stock A Buy Or Sell Right Now?

Square's Relative Strength Rating is only 11 out of a best-possible 99, according to IBD Stock Checkup. The best stocks tend to have an 80 or better RS Rating.

The relative strength line, the blue line in the chart above, compares a stock's price performance with that of the S&P 500. A downward-trending RS line tells you the stock is underperforming the general market.

Block stock holds an IBD Composite Rating of 21 out of a best possible 99.

IBD's Composite Rating combines five separate proprietary ratings into one easy-to-use rating. The best growth stocks have a Composite Rating of 90 or better.

SQ stock, meanwhile, has an Accumulation/Distribution Rating of D-plus. The rating runs from a best-possible A+ to a worst-possible E. The rating analyzes price and volume changes in a stock over the past 13 weeks of trading. A falling Accumulation/Distribution Rating would be a sign that institutional buyers are exiting.

As of Sept. 22, SQ stock has no valid entry point. Block stock has neared a 52-week low.

Square stock needs to form a new base to be actionable.

In addition, it's worth noting that Square stock uses a dual class structure of common stock, which gives insiders more voting power.

According to Macquarie: "Block has a dual class structure of common stock where Class B common stock have ten votes per share vs. Class A at one vote per share. As a result, Class B holders have a more voting power. As of December 2020, Class B stockholders (executive officers, employees, directors and their affiliates) held 62.8% of the voting power of Block."