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Dongles and Dollars Keep Square on the Move

03/13/2019 5:00 am EST

Focus: TECHNOLOGY

Jon Markman

Editor, Tech Trend Trader, The Power Elite, and Strategic Advantage

Square Inc. (SQ) used to be about credit card readers; today, it’s all about cash, asserts Jon Markman, growth stock expert and editor of the industry-leading advisory service, Strategic Advantage.

The San Francisco company’s shareholder letter, posted on Feb. 27, revealed strong fourth quarter financial results, and showed Cash, its peer-to-peer payment app, garnered 15 million monthly users. It’s a business breakout investors should be watching.

Square has always been a company on the move. Its iconic postage stamp sized dongles, point of sale terminals and customer relationship management software helped countless bodegas, hair salons, craft fair artists and neighborhood coffee shops embrace the digital era.

Pop the reader into the 3.5mm headphone jack on any smartphone and it became an instant checkout system. It was the epitome of cool, and a Trojan Horse into the world of banking.

Traditionally, banks competed fiercely to court small businesses. The game changed with the Great Recession of 2008 when banks recoiled under the weight of increased regulation. Mom and Pop businesses were left in the lurch.

Last year, the outline of Square’s banking ambitions came into full view. According to a Wall Street Journal report, Square Financial Services would grow into a full service, virtual bank with loans, and deposit accounts -- the whole shebang.

The company would use its prowess in data science and machine learning to make instant small loans. And with an initial capital base of $56 million, that business would become the backbone of a legitimate fintech ecosystem.

Today that ecosystem already includes transaction processing, software tools for bookkeeping, tax preparation, a customer relationship management suite, and a vibrant third party developer network.

Square logged $464 million in adjusted sales during the last quarter of 2018, a solid 65% increase year over year. Subscription and services revenues surged 144%, to $194 million. The full year results were equally impressive. Revenues exploded 134%, to $592 million.

Cash is a big part of sales. Jack Dorsey, chief executive officer, explained the peer-to-peer application accounted for “more than half” of revenues. People are using the app to pay rent and exchange money with family and friends. That is leading to more downloads, and more network effects.

The company is positioning Square Card to do the same for small businesses. Launched in January, the debit card allows business owners immediate access to their Square merchant receipts. In theory, an entrepreneur could open a new business without ever visiting a traditional bank.

Without anyone noticing, Square managed to build a big digital payments platform. It has well-developed person to person, mobile and online channels.

Traders were disappointed with the first quarter guidance. Square now expects to earn 6 to 8 cents, versus the FactSet expectation of 11 cents per share. In my opinion, investors should not worry about earnings. It is too early in the growth stage of the business.

Organic revenue growth is paramount. And Square has that in abundance. Square shares trade at 113x forward earnings, and 10.7x sales. They are up 41.4% this year, and 72.4% during the past 12 months. It's buyable for growth investors on pullbacks.

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