SQ with Nobias technology: Are Block Shares A Buy Down 51% From Their All-Time Highs?
On November 29th, 2021, Jack Dorsey, who co-founded Twitter stepped down from his CEO position at Twitter to focus on running Block (which was then called Square), the financial technology company that he also founded and served as CEO.
Dorsey’s dual-CEO position was always viewed as out of the ordinary and he (as well as the companies that he led) were often criticized (the bears’ argument was that he could not possibly dedicate the time, energy, and passion that each company deserved to them because his attention was divided). Shortly after Dorsey dedicated himself solely to Square, the company changed its name to Block. In the company’s press release regarding the name change/rebrand, Block said: “The change to Block acknowledges the company’s growth. Since its start in 2009, the company has added Cash App, TIDAL, and TBD54566975 as businesses, and the name change creates room for further growth. Block is an overarching ecosystem of many businesses united by their purpose of economic empowerment, and serves many people—individuals, artists, fans, developers, and sellers.”
Many people believe that Block is also meant to stand for blockchain, due to Dorsey’s outspoken belief that the blockchain technologies and crypto currencies are the future of global finance. One might have thought that Dorsey’s intense focus on Block would have been bullish for shares. However, since he stepped down from his Twitter CEO position, Block shares have fallen approximately 33.5%.
SQ Jan 2022
Without a doubt, Dorsey is an incredibly talented individual. And, with crypto currency being all the rage these days in the fintech space, there are a myriad of individuals who agree with his long-term bullish outlook. But, even so, the sentiment surrounding SQ shares remains very negative (the stock is trading just above its 52-week low). Therefore, we wanted to take a look at the recent articles and reports published by the credible analysts and authors that are tracked by the Nobias algorithm to see whether or not this significant dip is one worth buying?
Neil Patel, a Nobias 5-star rated author, recently touched upon Block’s name change/re-brand, saying that the company’s name change represents a “renewed focus”. Patel wrote, “Not only does the name of this booming fintech business implicitly reference blockchain technology, which is the foundation for cryptocurrencies, but company founder and Chief Executive Officer Jack Dorsey hasn't been shy about voicing his support for Bitcoin (CRYPTO: BTC) in particular. He thinks it can be the native currency of the internet.” He continued, “Bitcoin is already a major part of Block's business. Not only did the company purchase $50 million worth of Bitcoin in the fourth quarter of 2020 and another $170 million in the first quarter of last year, but Block also offers individuals ways to interact with the cryptocurrency.”
Block offers individuals a way to store and transact with Bitcoin with its Cash App. Patel points out that during Block’s latest quarter, the company generated $42 million in gross profit from Bitcoin trading. He said, “This figure has soared from just $2 million two years ago, and it seems likely to head higher in the future as Bitcoin becomes more mainstream.” However, he also points out that Block’s total gross profit during its most recent quarter was $1.1 billion, meaning that its Bitcoin trading profits still represent a very small portion of its gross profit pie. But, to bullish investors, this represents a long-term growth opportunity. For instance, thus far, unlike its competitors, Cash App does not offer trading/investing with other non-Bitcoin crypto currencies. It’s unclear as to whether or not Cash App will adopt other popular digital currencies in the short-term or not (Dorsey makes it clear that he’s a huge believer in Bitcoin as a leader in the crypto currency space). But, without a doubt, this remains a large opportunity for Cash App and Block overall.
Patel also mentions two other interesting long-term opportunities for Block, with its renewed blockchain technology focus. He highlighted the company’s TBD and Spiral initiatives, which set Block apart from many of its legacy big-finance peers. He wrote, “TBD was launched in the second quarter of 2021 and is an open developer platform built to make it easy to create decentralized finance (DeFi) applications. These usually are built on top of a programmable blockchain that enables smart contracts such as Ethereum. TBD's aim is to build DeFi apps, such as a decentralized exchange, for Bitcoin.”
Regarding Spiral, he said, “The Spiral initiative, originally called Square Crypto, was launched in 2019 with the stated goal to "improve the Bitcoin ecosystem by contributing to free and open-source projects." Projects like the Lightning Development Kit and the Bitcoin Development Kit are trying to improve Bitcoin's user experience, which can be intimidating and a serious roadblock to mass adoption.”
Since he stepped down at Twitter, Dorsey’s focus on Block has been fiercely focused on increasing the functionality and practicality of Bitcoin and the cryptocurrency market overall. It’s clear that Dorsey believes crypto is the future of finance and he wants to ensure that this company is well situated to take advantage of this. Patel said, “It's probably not a stretch to say that Bitcoin is quite literally the future of Block. For shareholders in this thriving fintech business, accepting this fact is critical to understanding the stock and where it's headed.”
While it’s true that Block’s focus on Bitcoin separates itself from its peers and provides the company with interesting upside potential, it also means that SQ’s share price is likely to be more correlated with the performance of Bitcoin itself, which has been relatively poor during recent months. This is the point that Ryan Downie, a 5-star Nobias author, recently made in his article on Block. Downie said,“Shares of Block (NYSE:SQ), formerly Square, dropped 22.5% in December, mostly due to Bitcoin's (CRYPTO:BTC) falling price. Relatively poor performance of growth stocks and other high-valuation stocks contributed to the losses as well.”
For comparison’s sake, during the last month, Bitcoin’s price has fallen 17.16% and the S&P 500 is down 0.47%. In short, it’s clear that SQ shares are more closely tracking BTC instead of the S&P 500, during the recent past, at least. But, as Downie points out, Block has a long way to go before it’s able to translate its Bitcoin related revenues into Bitcoin related profits, which will ultimately fall to its bottom line and result in earnings-per-share improvement. He said, “Bitcoin now represents nearly 50% of overall revenue, but only 4% of gross profit.” And, this is a problem for many investors, due to the fact that SQ shares trade with an elevated price-to-earnings multiple, in relation to the broader market as well as its peers, and therefore, the company is going to need to see its Bitcoin bets pay off in a major way (in terms of continued gross profit growth) for the company’s operations to justify its valuation, even after its recent sell-off.
Right now, the S&P 500 is trading for roughly 21x consensus forward earnings estimates. The overall price-to-earnings ratio of the Financial Select Sector SPDR ETF (XLF) is just 11.44x right now. Block, on the other hand, trades with a blended price-to-earnings ratio of 83.5x and a forward price-to-earnings ratio of $76.5x (based upon the current consensus 2022 earnings-per-share estimate of $1.85).
The analyst community on Wall Street expects to see SQ post EPS growth of 10% in 2022 and 54% in 2023. These estimates represent strong growth prospects; however, to justify a 77x P/E ratio, Block will have to maintain this double digit growth rate for quite a long time.
Because of SQ’s speculative valuation, Downie makes it clear that there could be a bumpy road ahead for the company and its shareholders, largely due to the company’s new Bitcoin related focus. He wrote, “There's still a lot of technological, functional, and regulatory uncertainty around Bitcoin and cryptos. Even if they are completely commonplace in 10 years, we don't know exactly what that world will look like. Sometimes the most influential early movers are supplanted by new arrivals who perfect what others invented. That's unfortunate for the real pioneers of disruption. With all that uncertainty, crypto investors are quick to get squeamish, and the markets are highly speculative.”
Furthermore, Downie concluded his piece saying, “Still, Block's fortunes will ultimately be tied to crypto and the blockchain for the foreseeable future. The company seems to be making big bets on digital currencies and tokens. That could prove a very shrewd long-term move for an up-and-coming fintech giant, but it's going to create volatility for shareholders in the meantime.”
Richard Bowman, a Nobias 5-star rated analyst, posted an article highlighting his fair value calculation of Block, primarily using a discounted cash flow methodology, which pointed towards the belief that SQ shares are incredibly undervalued after their recent sell-off.
At one point in his piece, Bowman said, “Block offers an exciting and growing portfolio of services to consumers and sellers, and is arguably better positioned to disrupt the banking sector than any other company.” This speaks towards the tremendous growth potential that the company has due to its rather unique focus on blockchain technology. However, Bowman notes that when using a traditional price-to-earnings ratio to evaluate SQ shares, they do appear quite expensive, having recently traded with a triple digit P/E multiple. But, this can be misleading, he says, due to the strong growth potential that Block has moving forward.
Bowman uses the discounted cash flow method, which looks at 10-year estimations, even longer-term estimates to arrive at the stock’s terminal value, and then eventually arrives at SQ’s Total Equity Value in the present, which Bowman’s system says is $130 billion (he breaks his formula down in detail in the article linked above). Then, he wrote, “To get the intrinsic value per share, we divide this by the total number of shares outstanding.” This led Bowman to the conclusion that Block’s fair value (on December 31st, 2021) was $281.66.
Nicholas Ward is a Senior Investment Analyst at Wide Moat Research. He has spent the last 8 years writing about the stock market at various publications, including Seeking Alpha, The Street, Forbes Real Estate Investor, Sure Dividend, The Dividend Kings, iREIT, Safe High Yield, and The Intelligent Dividend Investor.
At the time, SQ was trading for roughly $158/share, which meant that shares were trading at a 44% discount to his fair value estimate. Since 12/21/2021, SQ’s sell-off has continued. Today, shares trade for $141.54. This means that relative to Bowman’s fair value estimate, SQ trades with an approximate 50% discount.
Looking at the average price target that the Nobias rated 4 and 5-star Wall Street analysts, we see that the credible individuals that we track, in aggregate, are even more bullish than Bowman. The average price target amongst these credible analysts for SQ is currently $292.75. This means that at today’s $141.54 share price, SQ is trading at a 51.7% discount. And, the community of credible authors (4 and 5 star rated individuals) is also quite bullish, with 86% of opinions that our algorithm has tracked coming in with a “Bullish” sentiment.
With all of this in mind, it appears that SQ’s recent dip does represent an interesting buying opportunity; however, it is very important to note that most reports that we read highlighted the stock’s speculative nature and there appears to be consensus that SQ shares will continue to experience abnormally high volatility moving forward (meaning that this is likely not a suitable investment for those with weak intestinal fortitude/risk appetite).
Disclosure: Nicholas Ward is long SQ. Nicholas Ward wrote this article for Nobias at their request with a view of giving investors a balanced perspective based on the writings of Nobias highly rated analysts and bloggers. Nobias has no business relationship with any company whose stock is mentioned in this article and does not have a position in this stock.
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Disclaimer: The Nobias star rating is based on past performance results and is not an indicator of future results. These past performance returns do not represent returns that any investor actually earned. Assumptions made include the ability to purchase the stocks recommended by the author under liquid markets where the transaction would be at the market price for the day. In reality, loss in liquidity may have a material impact on the returns that actually may have been earned. Further, returns are calculated without any including transaction costs, management fees, performance fees or expenses, or reinvestment of dividends and other income. This information is provided for illustrative purposes only.