Pushback On Square

Investment Analysis Clubs Saul’s Investing Discussions
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Saul, I have to say I’m surprised of your impatience with Square before seeing what 2019 brings.

-Their last quarter revenue growth was similar to Twilio accelerating to 68%

-They can introduce a product and because of Dorsey’s social media expertise can promote consumer products like the cash app and grow faster than Paypal’s Venmo and now have it copy them. It’s good to be the innovator in this space.

-Optionality in SPADES. They have come up with a Payroll app, talks about getting into banking and competing with Robinhood as a discount broker. Competing with Coinbase for buying and selling Cryptocurrencies. So many avenues that can keep revenue growth growing like Amazon did for years to come.

-Catherine Wood from Ark Investments recently came out and said she met with Sarah Friar after she left Square. After their meeting, her conviction in the company only grew and has rebought the shares she sold earlier and increased her position.

-Tax loss selling for those who bought on the run up. If your Square you probably keep your powder dry with exciting new products and the announcement of your new CFO until 2019, when the markets in general have stabilized.

  • True their is alot of competition but Square like Tesla is leveraged by a Ceo known for innovation, brand awareness, and the owner of the most important social network for idea creation.

-Alot of folks have loss confidence in the traditional banks and having a Fintech style disruptor like Square in your port is prudent in my opinion.

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Hi gclever,
I like your arguments. They will help give motivation to keep me from selling out of the remainder of my position.
Best,
Saul

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Gclever88,

Thanks for opening that thread. I think it’s better to discuss SQ separately because it has been a core holding for many on this board and, as Saul mentioned elsewhere, is certainly worth a more detailed discussion.

Just to repeat Saul’s short list of worries:

Well, Square’s market is unbanked tiny merchants, (and restaurants), and
first of all, their clients will be hit hard in any recession, and
second, while they can go up-market from ‘tiny’ merchants to some ‘very small’ merchants, they are really in a little niche market with no way to take over the world, and
third, thinking of leadership, their admired CFO, Sarah, left and their CEO, who was the CEO of Twitter as well, responded to the crisis of his CFO leaving by abandoning both companies and going off on a meditation retreat in the South Pacific,
fourth, they have plenty of competition (PayPal, etc), while companies like Alteryx, Twilio, Okta, Zscaler, etc, don’t seem to have much effective competition, and
fifth, unlike the above mentioned SaaS companies, Square has gone down and down and down, and hasn’t bounced with the rest, and
finally, their market cap is $23 billion and much harder to quadruple a $23 billion company than a company with a market cap of $3 billion.

Let me try to share my thoughts:

  1. Recession worries are, in my opinion, the main reason for the share price drop. Also, because they lend money to costumers and haven’t seen a recession doing this kind of business yet, there is even more uncertainty. However, let’s assume that the market also thinks that SQ is, relatively speaking, not such a good investment now because of these recession concerns. Isn’t most of that already priced in by now? On the other hand, if SQ shares are held back by recession concerns right now, will they only be able to pull back if those recession fears vanish? If so, when will the market stop worrying about a possible recession?

  2. I’m not sure if they are in a little niche market. I never really perceived them like that to be honest. I also don’t think that they don’t have many opportunities to go up-market. On the contrary, if I compare SQ to most stocks discussed here I actually see the biggest market opportunity. This basically comes down to the global phenomenon of the war against cash. Someone already mentioned it but the key here is optionality – SQ has plenty of that in my opinion which makes it an exciting long-term investment.

  3. Saul, you already said that this comment was a bit sarcastic. I agree that the visual on that meditation retreat and the timing of it is a bit weird, to say the least. But Jack has been a good CEO, which is evidenced by the companies performance. That hasn’t changed even with the stock price tanking the last couple of months (it was also up a lot leading into that). As to Sara leaving, it has been discussed on this board to some length and I think the key takeaway was that her departure shouldn’t be overstated. She was a great CFO and spokeswoman for the company but she is not the most important person of the business like, for example, Elon Musk for Tesla or Jeff Bezos for Amazon. Gclever88, that was a great find on Cathy Wood and quite reaffirming. Can you maybe share the source?

  4. I don’t worry so much about competition. It’s like with Netflix. They are not really competing against Hulu or Amazon Prime Video or YouTube but more against legacy TV companies. The Fool once coined the term „coopetition“, the idea being that companies in new and growing markets not only threaten but also help each other (arguably to an even larger extent if they are competing against old paradigm companies). In this context, I don’t really worry about competitive threats to Square. In my eyes, if you look at the bigger picture, they are not as much competing against PayPal or Shopify, but more against traditional banking (and the old way of paying in cash). In other words, SQ will do well, regardless of the competition. Other than that, it is more than visible in Squares financial results that they are not really suffering from competitive threats. That hasn’t changed. I checked their Q3 results again bc I remembered that the Street was a bit disappointed with the quarter. The fact is that their growth is still accelerating, which many of you have pointed out already. Certainly doesn’t look like competitive pressure rising to me.

  5. Can’t argue with that. :slight_smile: Maybe the market is telling us something of substance, maybe not. Looking at the business I failed to identify any tangible weaknesses. For me, nothing has changed in the business since the company went up to almost $100 to when it fell to the $50s now. Probably it was rising a bit too fast in the first place and now it has pulled back a bit too much as well.

  6. Yes, their market cap is 6-7 times higher than many of our smaller IT vendors but also (without having hard numbers to rely on right now, just my perception) their market opportunity is sooo much larger. This goes back to point 2 (optionality and the war on cash). So I wouldn’t worry about that. PYPL is at a market cap of $100 billion and growing, Visa at $290 bil and growing, MA at $195 bil and growing. The fintech market is so big and so full of opportunities, it’s one of my least concerns that SQ will run out of possibilities to grow.

Bottom line: I still like SQ a lot. In hindsight, it would have been smart to exit the stock for a bit when it reached the peak of positive hype and was trading at very high multiples. However, I never really tried to time the market like that and don’t plan to try that in the future – I have a feeling I would be pretty bad at that. I wouldn’t sell SQ now that they have fallen so much, which in my opinion is not really based on the business deteriorating but an unfortunate cumulation of some negatively perceived events (CFO leaving, slightly disappointing guidance) and mainly just worries over a coming recession – which I have no ability to predict. And if I remember correctly, this all came on the back of a huge rally which was probably supported by a lot of momentum trading. Obviously, these people will avoid the stock now for technical reasons. But if the business continues to perform, which I think it will, the shares should be up again sooner or later. I’m happy to wait that out.

Best
Niki

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Gclever88,

I just saw that actually you brought up the optionality point. Sorry for missing that. It is the 1st January after all… ^^

Anyhow, it is a great point and in my view a big part of the long-term SQ-investment-thesis.

Niki

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To me, I think SQ is unmatched in its ability to deliver meaningful, new products with customer success and revenue growth… that’s exponentially growing its business. Its absolutely the next Amazon in my mind. It is one stock that I hope to NOT sway out of without clear proof that my thesis is broken.

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I agree that the visual on that meditation retreat and the timing of it is a bit weird, to say the least.

Niki,

With regard to Sarah Friar, it was also a bit weird how she was going to stay for three months to help with the transition and then, all of a sudden, it was “Oops, I’m leaving tomorrow!” And then Jack saying “We’re putting in two transition co-CFOs starting tomorrow”. It sure made me wonder what was going on. There were just too many worry issues for me to keep such a big position.

Saul

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Looking at SQ from a different angle, the following is a comparison of the Fintech stocks, using my model for P/S. The model I use considers three factors, growth rate (in the last 12 month)(positive), Gross Margin (positive), and market cap (negative). It has a goodness of fit at ~90%, i.e., 90% of the stock price is explainable using the three factors.

Ticker	P/S	Model P/S	Rev Growth	Gross Margin	CAP(Billions)	P/S-deviation
SQ	7.8	10.3	        60.3%	        28.4%	         23.1	        -33.0%
PYPL	6.2	4.7	        18.1%	        40.2%	         98.1	        23.5%
MA	13.3	13.3	        14.7%	        86.4%	         192.3	        0.3%
V	14.0	14.7	        11.0%	        96.7%	         288.6	        -5.2%

From my modeling, SQ is substantially discounted at its current price, PYPL is over-valued, MA and V are fully valued.

Now compare SQ with other SaaS stocks that have been discussed by many on this board:

Ticker	P/S	Model P/S	Rev Growth	Gross Margin	CAP(Billions)	P/S-deviation
SQ	7.8	10.3	        60.3%	        28.4%	         23.1	        -33.0%
AYX	19.7	16.0	        52.9%	        60.2%	         3.58	         18.7%
TWLO	15.2	12.3	        57.9%	        38.5%	         8.5	         18.6%
TTD	11.8	15.0	        51.3%	        57.7%	         4.95	        -26.9%
ZS	22.8	16.1	        43.0%	        71.3%	         4.87	         29.4%
ESTC	23.5	19.9	        71.6%	        56.4%	         4.97	         15.1%
OKTA	18.7	13.0	        50.7%	        49.2%	         6.8  	         30.6%
MDB	20.0	15.4	        58.3%	        51.8%	         4.32	         22.8%
NEWR	11.1	14.3	        32.1%	        70.7%	         4.57	        -29.1%
WIX	7.8	14.3	        41.3%	        63.8%	         4.32	        -84.9%
NTNX	6.2	11.7	        20.1%	        65.8%	         7.45	        -87.9%
SAIL	8.6	12.0	        30.0%	        59.3%	         2.04	        -40.7%
ABMD	20.8	13.7	        30.3%	        71.7%	         14.33	         34.1%

We can see that all of Saul's 6-stars and 5-stars, with the exception of TTD, carry a premium because people chase after these crushers/disruptors. On the other hand, we can expect a huge upside from the severely discounted stocks such as SQ, NTNX, WIX, SAIL even NEWR if the market turns positive on their stories.
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Sorry guys, my post is not properly formatted - I am new the posting here.

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Klay,

Your gross margins data looks way off to me.

Here’s what I have in comparison, from the last Q reporting

https://docs.google.com/spreadsheets/d/1T9AO9ZMUAtVms4hzvbtX…

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tchalla-

I saw the differences, for example OKTA has a gross margin of 70% from your table, while mine = 49.2%

I used the data from total from Yahoo.finance for my modleing. The gross margin was calculated as the ratio between Rev (ttm) and the Gross Profit (ttm). For example, OKTA is rev = 364.28M, gross profit = 179.24M, resulting in a gross profit of 49.2%.

How did you calculate your gross margin?

Thanks,

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Tchalla is correct.

Tinker

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Tchalla and Tinker-

Some of The REV Growth (LTM) and the REV Growth (NTM) numbers from Tchalla’s table are also different than the numbers from Yahoo.Finance. Do you use a different data source?

Klay

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Klay,

I have learned from Saul to use the numbers from the investor relations website of the company you are looking at. You can also get a lot of extra info from the conference calls that you will probably not get from Yahoo or other sources. Then there is no way to get numbers messed up or mixed up. It might seem like more work but we are talking about your money here. I believe it to be well worth the extra effort. Also, I have found that I get a better sense of the company and what they see for themselves this way, instead of only numbers (that may or may not be accurate).

Daniel

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Saul,

I agree with your decision to decrease your position size, mine was never above 5% to begin with (I also own some MA and PYPL). So maybe that’s why I‘m a bit more relaxed about this management confusion. But definitely something to watch more closely in future reports. I’m sure there will be questions in the next cc about that. Thanks for raising my awareness!

Niki

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Klay,

TChalla is giving company provided “adjusted” revenue, not official GAAP numbers, which is what Yahoo uses. The “adjusted” numbers are supplementary from Square for their own use in determining how they see Square’s business executing without the impact of pass through revenue to credit card companies.

The market usually uses GAAP for revenue and non-GAAP for earnings. For earnings that’s because companies exclude certain one time expenses that are non recurring. The adjusted revenue for SQ excludes revenue that is recurring, so I view it only as supplementary and not SQs real numbers. Others disagree.

Darth

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I think I need to remind people that I didn’t exit Square, I just reduced my position, and it is still larger than my positions in Abiomed, Guardant, and Vericel, for instance.
Saul

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I still like SQ here. SQ is down a bunch from its high, but it has always been very volatile. It was still up about 60% last year. I have about a 5% position.

Why I still like SQ.

  1. The market is huge and growing (growing TAM). All financial transactions world wide are moving to electronic. (war on cash)

  2. The company is continuing to quickly innovate, and is trying all kinds of new services to see what works.

  3. Providing banking options to the unbanked is recession resistant. Where else are they going to go? Back to payday loans and expensive check cashing?

  4. Revenue growth has been accelerating.

  5. SQ is a $23 B company, but is way smaller than most of it’s competitors, Visa, MC, Paypal, etc. I could see SQ as a $100B company in 5 years.

  6. Caviar will be huge, competing with Uber Eats, Door Dash, Grubhub, etc.

What I am keeping an eye on and would make me reduce my position

  1. Sarah Friar leaving is my biggest concern. Didn’t seem like a move up so why leave. SQ should have their pick of a great replacement, and if they don’t get someone very impressive, I will be worried.

  2. smaller competition. Shopify, now Wix, Robinhood, etc. Smaller companies are moving in from the website building side, and fintech side. Need to watch the revenue growth rates to make sure they aren’t losing market share.

  3. Want to see continued innovation and new products in 2019.

  4. Want to see adjusted revenue growth above 50%.

Thanks,
Jim

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I used the data from total from Yahoo.finance for my modleing.

Klay, never get your figures from Yahoo finance. There’s no way to tell where their robot gets its figures. Just Google Investor Relations OKTA, for instance, and open the last press release and Adjusted Gross Margin will be usually in the first few lines or first paragraph.
Best,
Saul

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Interesting thread for sure, because I have been on the fence with my SQ for some time now. Not fond of the Dorsey antics myself. Was not a fan of them getting into lending either. But this just came out - SQ is Fool’s one stock to buy in 2019. FWIW.

https://www.fool.com/investing/2019/01/01/1-stock-to-buy-in-…

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SQ is Fool’s one stock to buy in 2019

Not to be confused with “Fool’s number 1 stock to buy in 2019,” ie- SQ is one of many that MF recommends/suggests.

That said, thanks for sharing the article…I was under the impression SQ wasn’t catering to just small vendors, but this tends to confirm that.

-Speedy (still long SQ)

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