Block: We Have Never Seen Anything Like This – Seeking Alpha

There is no doubt the Block (SQ), formerly known as Square, is a real fintech disruptor. The stock has been absolutely decimated in the last few months and we have really never seen anything like it, though close comparisons to the dotcom bubble could be drawn. We do not think that innovation stocks are in a bubble, because it is clear that the bubble has popped. Block’s share price had fallen from nearly $290 to just over $82 peak to trough in the last few months, which is good for a 70% plus fall. Safe to say any bubble popped. But with the company growing like wildfire, and moving more into profitability, shares actually became reasonably valued when they dipped under $100. It is amazing to think about, but on extreme high growth tech valuation metrics it really was attractive in our opinion. The company’s just reported numbers which are driving this stock higher to end the week suggest the Street recognizes things were overdone. A high degree of short interest may have helped propel covering as well. We have lost money in this stock in our last two trades, but we cannot back away from the long-term potential of the company and the stock especially at these levels. Make no mistake. We despise losing money, but our stop losses which we used kept us from losing another 90 plus points on our last trade. We really liked the stock sub $200 and that proved to be painful, but the market overshoots to the downside a lot. We think the stock climbs back toward that $200 level this year and still remain bullish. As traders, we love coming back in under $100.

Square’s Q4 headline earnings results impress

Revenues have really taken off since cryptocurrency, such as Bitcoin, buying and selling was introduced to the platform. In the just announced quarter, net revenue was $4.08 billion up 29% year-over-year. This was a beat versus consensus. Excluding Bitcoin (BTC-USD) transactions, total net revenue in the second quarter was $2.12 billion, up 51% year-over-year.

As you can see, even without bitcoin this remains very impressive growth, even if it’s not as explosive as it had been in the past. Still its growing like wildfire. However, with Bitcoin you can see how important it has been to the growth of the company in the last year plus. All lines of business are performing well. Overall, gross profit was $1.18 billion up 47% year-over-year, and this is strong, and rose mildly from Q3 2021 as well.

Block’s transaction revenue and GPV gross profit

Revenue from transactions was $1.31 billion rising 41% year-over-year, while gross profit was $545 million, up 39% from the year ago quarter. This is strong, contributing to the solid headline numbers.

Keep in mind that volumes are a critical item to watch. Volumes were better than expected, surging from a year ago. Square processed $46.3 billion in GPV up 45% year-over-year. This also was higher than the $45.4 billion in GPV in the sequential Q3. The fact that transaction-based gross profit as a percentage of GPV was 1.18%, down 5 basis points year-over-year and down 2 basis points quarter-over-quarter, was one item of concern to note, but remains strong.

We also some solid strength once again in subscription and services-based revenue. This revenue here rose to $772 million while gross profit was $622 million, up 63% year-over-year. This was an incredible result.

From the “Corporate and other revenue” line there was $56 million generated mostly from TIDAL. That said the big items of interest were Cash App and Bitcoin which are huge revenue sources.

Cash App and Bitcoin are huge revenue sources

You should be aware that the biggest driver of overall growth is Cash App which has truly been a gamechanger over the last few years. Cash App generated $2.55 billion of revenue while delivering $518 million of gross profit. This was a big increase from last year we have to tell you. That caught us by surprise to some degree though we did anticipate strength from last year. Revenue rose 18%, while gross profit rose 37% from last year. Of course, Bitcoin was a large part of this. If we back out Bitcoin, Cash App revenue was $590 million, up 42% year-over-year.

It’s worth noting that the price of Bitcoin was a bit weak in Q4. Ups and downs of course, but it was volatile. While the volatility helps with trading revenue, the company has a good amount of exposure to Bitcoin on its balance sheet. The company is highly invested in Bitcoin. You can expect the stock to continue to trade with a slight correlation with the price of bitcoin. However, the bulk of the business is still transaction based, and small business is back too. In the shareholder letter management states:

We drove growth in net new transacting actives and strong engagement across products in our Cash App ecosystem. On average, transacting actives brought more funds into their Cash App accounts: Inflows per active in the fourth quarter were relatively stable on a quarter over-quarter basis and increased on a year over-year basis, even though the fourth quarter of 2021 was less impacted by government disbursements than in comparison periods. For our Cash App ecosystem, we have achieved positive annual gross profit retention for our historical cohorts, demonstrating that existing customers have remained on the platform and increased their engagement with Cash App over time. We have seen strength in retention during recent years, with annual gross profit retention of greater than 125% for each of the past four years

Retention remains strong. Active customers are driving transaction revenues. More cash is in their wallets on the ecosystem, and small business is no longer crushed by COVID.

COVID-19 is not gone, but it’s not hurting small business anymore

So the Square (formerly ‘seller’) ecosystem is largely driven by small businesses. They were crushed during COVID, and started coming back on in H2 2020, with much better ramp up in 2021, and were pretty much back at full capacity for the holiday season. The reopening was real and was a catalyst. Small businesses, as part of the broader seller, or Square, ecosystem, were responsible for $1.47 billion of revenue and $657 million of gross profit, both up over 49% and 54% from a year ago, respectively. Once again, solid growth.

Block’s operating expenses and earnings

As you can see revenue generation is clearly in growth mode and the company is generally earnings positive. However, operating expenses rose this quarter, and they outpaced the revenue gains. Something to watch. Operating expenses were $1.24 billion, rising 63% year-over-year. Net loss was actually $77 million, which is a little bearish. Excluding losses from investments and equity revaluations, EPS was a loss of $0.15. For the year, the company saw net income of $0.44 per share.

Looking ahead at Block’s expectations

So, what can we expect as we look ahead? Well, in the release and shareholder letter the company provided their January and early February business trends which seem to be strong. Here are the main highlights:

For the months of January and February, in aggregate, Square GPV is expected to be up 35% year over year, and the two-year CAGR is expected to be up 16%. Square GPV growth experienced a slowdown in January, which we believe was due to the effects of the omicron variant, before growth recovered in February. For the months of January and February, in aggregate, Square GPV is expected to be up 35% year over year, and the two-year CAGR is expected to be up 16%. Square GPV growth experienced a slowdown in January, which we believe was due to the effects of the omicron variant. On January 31, 2022, we completed the acquisition of Afterpay. Afterpay will be included in our first quarter financial results for the months of February and March 2022. We intend on reporting Afterpay’s financial results allocated to each of our Square and Cash App ecosystems.

This update is mostly positive, though increases in operational expenses are of course a concern. As we look ahead to the year we expect $1.00-$2.00 in EPS this puts the stock at a still pricey but much more reasonable 67X FWD EPS as far as tech goes. But on a price to sales metric, a good measure of growth tech valuation, we are at a much more reasonable 2.4X.

Final thoughts on Block

Look like it or not Bitcoin pricing and volatility matters. The macro environment has been horrendous. Small businesses matter and they are back firing on all cylinders. Afterpay is now on board and will contribute to Q1. While traditional valuation metrics are still tough to use, the metrics for high growth tech suggest this stock has become much more reasonable and we once again believe shares are a buy here.