Block’s (NYSE:SQ) growth story remains quite impressive. Yet, the stock has been underperforming over the past year. It is, in fact, still drifting at the same levels it did in August 2018, even though the company has demonstrated some remarkable progress in recent times. This leads me to believe that the market may not be accurately pricing Block’s prospects, indicating strong upside potential for shares, moving forward.
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On the one hand, there is no doubt that several challenges are currently impacting the company’s performance, such as a decline in bitcoin (BTC-USD) related revenues and a slowdown in economic growth that is negatively affecting Block’s merchants.
On the other hand, we can’t ignore that Block’s ecosystem is evolving rapidly, with CashApp, in particular, delivering impressive metrics. Additionally, there are crystal-clear signs of improving margins and profitability prospects. Given these factors, I am bullish on the stock.
Block Does Not Need Bitcoin to Drive Growth
In the second half of 2021, Block was riding high on a wave of growth and soaring stock prices, thanks in no small part to the frenzy surrounding cryptocurrencies – particularly Bitcoin. However, with the trading volumes for cryptos (including Bitcoin) now in a state of notable decline, the company finds itself without the external revenue boost it once enjoyed.
Nevertheless, Block’s fundamental businesses are still thriving, thanks to its creative solutions. Though the prior year’s bitcoin-related activity made for a tough comparison, Block still managed to achieve robust 14% revenue growth, clocking in at a staggering $4.65 billion in Q4.
Cash App Dominates App Store
Block’s growth prospects remain impressive, with much of its success credited to the remarkable performance of its star player — Cash App. Claiming the coveted #1 position in the Finance category on the U.S. App Store, Cash App’s exceptional features, effortless usability, and unrivaled convenience have left even the most established competitors, such as Paypal (NASDAQ:PYPL) and its subsidiary Venmo, in the dust.
Cash App boasted a staggering 51 million monthly active transacting users, a remarkable 16% increase from the previous year. As more and more users embrace Cash App, with many adopting its Cash App Card, the app continues to generate greater engagement within Block’s dynamic ecosystem. With this steady expansion, Block remains firmly positioned to drive top-line growth, as evidenced by its impressive 33% year-over-year revenue growth to $2.82 billion if we exclude bitcoin-related revenues.
Subscriptions & Services: Explosive Performance
Block’s Subscription and Services division saw even more explosive growth, with revenues soaring to a staggering $1.31 billion, marking an outstanding 69% increase from the previous year’s figures. While it’s true that this massive increase can be partially attributed to last year’s takeover of Afterpay, the Buy Now, Pay Later (BNPL) company, the division’s organic growth was also remarkable. In fact, Subscription and Services-based revenues, excluding the acquisition of BNPL, rose by an impressive 35%, reaching $1.04 billion.
One Step Closer to GAAP Profitability
Besides the fact that Block has managed to retain its organic growth at satisfactory levels, I am happy to see that the company is making steady progress toward achieving GAAP profitability. This is largely due to the improving margins driven by economies of scale and synergies within its ecosystem.
In Q4, Block posted a record gross profit of $1.66 billion, a 40% year-over-year increase. Approximately half of that, $848 million, was produced by CashApp, whose gross profits skyrocketed 61% year-over-year. Square contributed the rest of this amount, with its gross profit coming in at $801 million, up 22% year-over-year. Gross profit growth of 40% exceeding revenue growth of 33% exhibited Block’s overall margin expansion story.
The increase in gross profits pushed adjusted EBITDA to $281 million in Q4, up 52.7% compared to last year. Hence adjusted EBITDA margins also expanded. Admittedly, Block has had a fairly hard time controlling some of its discretionary expenses, including its stock-based compensation, which jumped by 55% to $274.5 million. This led to the company reporting a GAAP net loss of $117.6 million for the quarter.
That’s certainly not a pretty number for shareholders to see, especially in the current environment. The last thing investors want to see these days is heavy dilution on top of losses. Nevertheless, through expanding margins, the company is getting closer by the quarter to reaching GAAP profitability, which I would bet could be the case during the second half of 2023.
Is SQ Stock a Buy, According to Analysts?
Turning to Wall Street, Block has a Strong Buy consensus rating based on 19 Buys and five Holds assigned in the past three months. At $99.24, the average Block stock price target implies 34% upside potential.
The Takeaway
Overall, despite the hurdles that Block is currently facing, such as declining bitcoin-related revenues and economic headwinds that affect its merchants and transacting users, the company has demonstrated impressive growth in its fundamental businesses.
Both Cash App and Subscription & Services revenues continue to grow at exceptional rates given the current trading environment, while the company is steadily undergoing a margin expansion story which should lead to GAAP profitability sooner than later.
At a forward P/E of about 40, the stock might not come across as a bargain. However, as the momentum of margin expansion picks up pace, it can lead to a snowball effect on both margins and net income. So, don’t let the multiple deceive you, though do keep in mind the market may perceive it quite literally, which could keep shares under pressure.
