In the last year, digital fintech companies like Square (SQ) and PayPal (PYPL) have outperformed traditional payment companies like Mastercard (MA). Innovation and earnings growth seem to be the differentiating factors, and these digital fintech companies have also been spreading their wings. For example, Square commenced its industrial banking operations this month.
So, can SQ stock remain in a long-term uptrend? There are catalysts that point to sustained business growth and shareholder value creation.
Cash App Is A Cash Flow Machine
Monthly active user growth for the company’s Cash App is a key reason for the stock’s run-up. Cash App had 24 million monthly active users in FY2019. This has increased by 50% to 36 million users in FY2020. Further, more than 80 million customers have made transactions using Cash App, which underscores the potential reengagement opportunity and sustained growth in active users.
Besides the increase in users, monetization metrics have also improved. In 2020, the gross profit per monthly transacting active customer reached $41, reflecting a 70% gain on a year-over-year basis.
It’s worth noting that for FY2020, the Cash App generated $5.97 billion in revenue and $1.23 billion in gross profit. That said, Bitcoin revenue and gross profit for the year was $4.57 billion and $97 million, respectively.
Therefore, excluding Bitcoin, Cash App revenue was $1.4 billion, with a gross profit of $1.1 billion. This implies a gross profit margin of 81%. Clearly, the Cash App is a game changer for the company.
Even if it’s assumed that Cash App users double in the next two years, the company is positioned to deliver gross profit in excess of $2 billion.
Additionally, Bitcoin adoption is on the rise. For FY2020, Bitcoin gross profit was $97 million, which was 12x higher on a year-over-year basis. Strong growth is likely in the coming years even as margins are slim. On top of this, Cash App has also enabled trading in stocks and ETFs. This is another factor that’s likely to lead to an increase in active users.
For FY2020, Square generated operating cash flow (OCF) of $381 million. It will not be surprising if the OCF is over $1 billion in the next 12-24 months. Therefore, the key factor will be monetization from the Cash App.
Seller Ecosystem Will Continue To Grow
Recently, the company’s Cash App has been in the limelight. However, the seller ecosystem segment continues to deliver steady growth. As an overview, the seller ecosystem consists of software, hardware and financial services products, and the company generates revenue through monetization of these products through service or subscription fees.
For FY2020, the segment reported $1.5 billion in gross profit, up 8.5% on a year-over-year basis. The company believes that the seller ecosystem has a $85 billion market opportunity in the U.S. What’s more, 10% market share would imply $8.5 billion in revenue from the segment.
Furthermore, international markets add to the total addressable market opportunity. E-commerce growth has accelerated as a result of the pandemic and Square can be integrated on websites to allow sellers to manage online and offline business.
Overall, Cash App is on a high growth trajectory and the business commands a higher gross margin. That being said, given the potential market size, the seller ecosystem will continue to support growth and cash flows.
Wall Street Weighs In
Square’s Moderate Buy consensus rating breaks down into 19 Buys, 11 Holds and 3 Sells. Additionally, the average analyst price target of $276.48 implies 14% upside potential. (See Square stock analysis on TipRanks)
Concluding Thoughts
For all businesses, valuations ultimately depend on the ability to generate cash flows. Square seems well positioned on that front, with the Cash App leading the way.
Disclosure: On the date of publication, Faisal Humayun did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Disclaimer: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities.
