So everyone saw that there was a massive reset of tech names. Without a doubt, Block (NYSE:NYSE: SQ), formerly known as Square, is a veritable fintech powerhouse and that whole industry has been destroyed in the last month or so. The action in space reminds us a lot of what we saw in prolonged crashes like the dot-com bubble, or even the bear market that was the financial crisis of 2008-2009. Block’s stock price had fallen from near $290 to just over $82 from peak to trough in the past few months, which is good for a drop of more than 70%, but it seems that a short-term bottom has been reached.
In our last buy call on the stock, we made it clear that the company was growing like wildfire and heading more towards profitability. We issued a buy alert because the stock actually gained reasonable value when it broke below $100. As traders, we must have jumped below $100, good for a 30-40% gain. This quick comeback was a bit of luck, but the reasoning to buy was rooted in buying an oversold stock in “tech value” territory, as we like to say. Additionally, a high degree of short interest coverage has helped move the stock over the past week or two.
Make no mistake, we think the stock is heading back towards that $200 level this year. We think the stock, while trading a little more calmly, should see a very volatile move, either back to that level near $200 or back to testing lows. We think the latter will need a bit more market jitters, while the former will need to see some bullish catalysts like an end to the war in Ukraine peacefully. Right now, the title has corrected, but is now looking for direction, and it’s not going to be sideways in our view. Block’s most recently reported numbers show the company remains operationally sound, despite the market giving it a major haircut (even after the rebound). We expect the stock to move strongly, taking inspiration from the macroeconomic situation.
Block’s Q4 Higher and Lower Numbers
The company continues to experience significant expansion. In the fourth quarter, revenue was $4.08 billion, a solid 29% year-over-year increase. Additionally, we have to reiterate that this was a beat from consensus estimates. All lines of business are performing well and overall gross profit was $1.18 billion, up 47% year-over-year. In addition, revenue from transactions increased.
Transaction revenue is growing and these volumes are essential
It’s really important to note that transaction revenue was $1.31 billion, up 41% year-over-year, while gross profit was $545 million, up by 39% compared to the quarter of the previous year. These figures show the strength of the expansion that the company has benefited from. The volume of transactions is essential. Critical. That said, volumes were better than expected, up from a year ago. Square processed $46.3 billion in GPV, up 45% year-over-year. Services-based revenue increased to $772 million while gross profit was $622 million, up 63% year-over-year. Very solid. With a warm economy, we expect continued strength.
Crypto and Cash App continue to go from strength to strength
Cash App that has driven such growth for Block over the years. Cash App generated $2.55 billion in revenue in the fourth quarter and $518 million in gross profit. It was a big increase from last year. It should be noted that the price of Bitcoin was a little weak in the fourth quarter. Volatility contributes to trading revenue, but the company has good bitcoin exposure on its balance sheet. As Block owns a lot of Bitcoin, the stock continues to trade with a slight correlation to the bitcoin price. However, most of the business is still transaction-based, and small businesses are also making a comeback. Loyalty remains strong and frankly, it’s the regular active customers that drive transaction revenue. And since small businesses are no longer reeling from COVID, they are once again contributing heavily to Block’s revenue. In fact, small businesses, through the Square ecosystem, were responsible for $1.47 billion in revenue and $657 million in gross profit, both up more than 49% and 54% from compared to a year ago, respectively. Again, solid growth.
SQ stock will rally violently if the company becomes truly profitable
These names with high revenue growth, little to no profits, have been crushed lately with the ongoing rate hike cycle and market sell-off. For Block, revenue is clearly in growth mode and the company is actually posting positive earnings. But it really needs to increase its earnings for the valuation to improve. The stock fell dramatically, which artificially boosted the valuation and made it a buy. But margins, and of course expenses, are key to watch. While the gross margin is solid, operating expenses are very high and have even increased this quarter. The rise both the degree of increase exceeded the revenue gains. Operating expenses were $1.24 billion, up 63% year over year, resulting in net losses in the quarter. Net loss was $77 million, while EPS was a loss of $0.15. For the year, the company reported net earnings of $0.44 per share. This puts the stock at around 300 times trailing earnings. What about as we look to the future?
Looking to the year, we expect EPS of $1.00-2.00; this puts the stock at a still expensive but much more reasonable EPS of 130 to 65X FWD. Yes, it’s still expensive, but if bitcoin takes off, so will the stock. Small businesses are back. Other valuation metrics suggest the stock remains attractive at $130, as price 2.9x sells. The company will become much bigger over the next two years as long as the economy does not enter a recession. While some see it as possible, we are in the strong economy camp. We believe stocks are a buy here.