Square is a financial technology company headquartered in San Francisco California and was found by Jack Dorsey who is also the founder and CEO of social media giant Twitter. Square has a unique range of revenue generators ranging from transaction revenue, SaaS revenue, Bitcoin revenue and point of sale (POS) hardware revenue. Currently, its CashApp has over 40 million active users and 10 million people are using the Square Cash Card. Square is currently valued at 133 billion dollars and the shares are up over 2,000% since going public in 2015.
The Good: Unique Business Model and Underlying Value Proposition.
In summary, Square’s value proposition is basically economic empowerment and building a P2P FinTech ecosystem. The economic empowerment proposition is achieved by providing an easy to use hardware and software to help enrich business owners. The P2P ecosystem, is achieved through the Cash app which allows individuals to send, spend and save money on the app. What I love about Square’s initiatives is it further increases efficiency within the private sector and provides innovation in sectors where large players such as big banks are reluctant to do themselves. Whether it’s B2B or B2C, Square provides a great value to the consumer by saving them both time and money.
Square’s business model has also proven to be extremely effective in providing high top line growth, increasing optionality to expand into new segments and generating decent margins. The top line growth has been off the charts with gross profits increasing at an CAGR of 49% from 2015-2020. The firms most lucrative revenue generators come from transactions and subscriptions/services. Transaction revenue comes from charging merchants a fee to process payments and charging for CashApp’s peer-to-peer transactions. The subscription and serviced based revenue comes from services such as the Square Plus Plan, website domain names, expedited transfer fees, Square Capital, customer engagement, payroll services and gift cards. Transactions currently generate a 43% gross margin and the subscriptions and services revenue brought in a wopping 85% gross margin year-to-date. Square however is looking to become much more than just assisting merchants and peer-to-peer payments, Square has expanded into asset management, bank accounts, loans and credit services. Square’s strategic initiative is to encompass everything from retail banking to merchant selling and having it all under one ecosystem. As an investor, I love this level of optionality.
The Bad: The New Heavily Reliant Bitcoin Segment
The Bitcoin Segment generates revenue by charging a transaction fee for every purchase and sale of Bitcoin. CashApp has allowed its users to buy and sell Bitcoin since 2018 and over the past 2 and half years the segment has skyrocketed with a CAGR of 407%. In fact, the revenue growth in the Bitcoin segment has been so prolific that it is now Square’s largest revenue generator at 60%. I love that Square incorporated Bitcoin within their CashApp and struck while the iron was hot, but I still believe Bitcoin is a huge wildcard as an asset class due to future regulatory headwinds. In addition, Bitcoin is also extremely popular right now, but that hype could easily go away as quickly as it came which could decimate Squares top line growth. Lastly, Square has approximately 5% of its cash equivalents in Bitcoin and if they continue to buy more they increase their risks of receiving impairment losses going forward.
The Ugly: The Valuation
It doesn’t take a quant or statistician to know that Square is aggressively overpriced trading over 250 times earnings and EBITDA. By any financial model you use, whether it be DCF, EPS projection or EV/EBITDA, Square is wildly overpriced. Although analyst have high hopes for the firm, I simply cannot bring myself to pay that kind of premium just because of future growth.
Conclusion
Square from a qualitative basis is extremely attractive, however from a quant perspective the shares would need to fall at least 60% for me to take a long position in them. The company’s forward looking prospects seem exciting and as an outsider I look forward to see what they do next. Unfortunately, the price you pay determines your compounded rate of return and because I’ve learned from the school of Warren Buffet and not Cathy Wood, I will have to stick with my consensus that the shares need a heavy correction before I buy.