2023-09-06 05:43:19 ET
Summary
- Block's extensive ecosystem and reach have led to concerns, but many of these uncertainties are already reflected in the stock price.
- The company is actively addressing its cost structure and reallocating resources to enhance efficiency and profitability, signaling management's commitment to delivering value to investors.
- Despite competitive challenges, Block remains a player in the digital payment space, with a relatively discounted valuation compared to peers, potentially presenting a compelling investment opportunity.
Investment Thesis
Block ( SQ ) is a company that manages ecosystems of tools and services and remains focused on the goal of economic empowerment. Block serves a diverse range of customers, including businesses of all sizes, consumers, artists, retailers, and developers, through their various ecosystems and products.
As you can see from this paragraph, Block's reach is extensive. And that's the problem. The company has a lackluster narrative, one that is overstretched and has to compete on too many fronts.
While I recognize these negative considerations, and there are more than enough reasons to give this stock a miss, I remain tepidly bullish on this stock. After all, I believe that a lot of this negativity is already priced into its stock. And a lot of the uncertainty surrounding this name will in time pass.
Here's why I'm optimistic about Block.
Why Block? Why Now?
Block is striving to create an ecosystem of ecosystems, with a focus on providing tools and services to distinct customer groups. An ecosystem, in their terms, is a collection of tools and services that work together seamlessly, reinforcing each other's functionality. These ecosystems are designed to serve various customer needs and are all united by a shared purpose of economic empowerment.
Block has two primary ecosystems: Square and Cash App. The Square ecosystem was initially established to enable businesses (sellers) to accept card payments. Square combines software, hardware, and financial services to create a cohesive and efficient platform for sellers.
On the other hand, the Cash App ecosystem is focused on providing financial products to help consumers manage their money more effectively. It started with simple money transfer capabilities but has since expanded to include various financial services, such as storing, sending, receiving, spending, and investing money.
Additionally, Block is making investments in emerging ecosystems related to TIDAL (a platform for musicians and their fans) and bitcoin (with projects like Spiral, TBD, and bitcoin hardware initiatives). These investments aim to serve new audiences and address inefficiencies in the financial system.
From my description above you can see just how spread this $35 billion market cap company has become. And perhaps that's part of the problem.
For their part, Block's message is that they are dissatisfied with the current quo and are committed to reforming its cost structure, particularly management's sometimes extravagant, stock-based remuneration.
Indeed, Block's shareholder letter emphasizes the company's objective to strengthen its sales and marketing operations, with a strong emphasis on efficiency, brand expense reductions, and a concentration on channels with proven results.
Moreover, aligned with this effort, Block has decided to wind down operations in certain markets where expected growth and profitability have not materialized. These resources will be reallocated to strategic areas with higher potential returns.
The message is loud and clear, Block believes that it has more in its tank and that it can still deliver investors with an attractive opportunity.
Revenue Growth Rates Need to Stabilize in a Super Competitive Landscape
The problem investors have with Block is that its growth rates have recently been all over the place. Last year's Q2, Block had negative y/y growth rates, while this time around against that easier revenue base, the business delivered very strong revenue growth rates.
How readily can investors "buy into" Block as a mid-20% CAGR business? And more importantly, how sustainable can this growth be, given Block's highly competitive landscape?
Block faces competition from several companies in different segments. For example, PayPal's ( PYPL ) extensive reach and brand recognition make it a formidable rival, particularly in the online payments space. Venmo (also PayPal) is another direct competitor to Block's Cash App ecosystem. Venmo focuses on peer-to-peer money transfers and has gained popularity among younger consumers, challenging Cash App's position in this market segment. While Block and PayPal/Venmo offer similar services, their strategies and user bases differ, creating a competitive landscape in the financial technology industry.
Another notable competitor for Block is Stripe, although it primarily competes with Block's Square ecosystem. Stripe provides a wide range of payment processing and online commerce solutions for businesses, emphasizing developer-friendly tools and seamless integrations. Stripe's services cater to online businesses, e-commerce platforms, and startups, making it a strong contender in the digital payment space.
Also, Stripe is a major competitor in the digital payment processing and commerce industry. While Block caters to a diverse range of businesses, including SMEs and retailers, both online and offline, Stripe primarily targets online businesses, startups, and e-commerce platforms. One key difference being that Stripe focuses on providing developer-friendly solutions, for businesses to integrate payment processing into their applications. Put simply, Block's approach emphasizes an integrated ecosystem and it has clearly built its narrative on that front, while Stripe's strength lies in flexibility and customization.
With all this uncertainty and competition, what sort of valuation makes sense for Block?
SQ Stock Valuation -- Already Heavy Discounted
The graphic above requires interpretation. For now, don't focus on their respective forward multiples, instead, notice how the whole sector hasn't re-rated higher in 2023. This is a broad statement, but it's vaguely accurate, payment solutions providers haven't found favor with investors in 2023. Why? Because of the reasons I've just described above, it's just so competitive that it's difficult to ascertain if any of them has any "real moat" or competitive advantage. For example, does it truly make much difference if a customer uses Venmo or Cash App? Or Stripe or the Square ecosystem? Will Shift4 Payments ( FOUR ) and Toast ( TOST ) remain in their respective markets, or may Adyen ( OTCPK:ADYEY ) become a more significant player in the United States over time?
I honestly don't know the answer to most of these questions. But I believe the simple fact that we are already discussing them, means that it's already factored into the share price.
After all, now looking back at the graphic above, Block appears to be the cheapest of its peer group. This means that there's already a lot of negativity priced into its share price. And there's very little reason to remain bullish on this stock. And therein lies the opportunity!
The Bottom Line
I must admit, Block presents a perplexing case. On one hand, the company's vast reach, with its numerous ecosystems and services, seems almost too extensive to manage efficiently. The narrative around Block appears somewhat lackluster, as it competes on multiple fronts and faces considerable uncertainty. Negative growth rates in the past and an intensely competitive landscape raise doubts about its future prospects. Rivals like PayPal, Venmo, and Stripe loom large, each with their unique strengths and competitive strategies.
However, despite these reservations, I find myself cautiously optimistic about Block. It's clear that the company is dissatisfied with the status quo and is actively addressing its cost structure and efficiency. The commitment to strengthening sales and marketing operations, along with reallocating resources strategically, demonstrates a strong desire to deliver value to investors.
While Block's growth rates may have been inconsistent, there's still the potential for it to be a mid-20% compound annual growth rate business. What's more, Block's current valuation appears discounted relative to its peers, suggesting that a lot of the negativity is already priced into its stock. In this ever-competitive landscape, this could be the opportunity investors have been waiting for.
For further details see:
Block: Market Concerns Priced In, Time To Turn Bullish (Upwards Revised)