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Square Inc. (SQ) Stock Analysis

Updated: Feb 3, 2020

Current price: $71.14


Market cap: 30.94B


Overall assessment: BUY

Why did it pique my interest?


  1. Was doing analysis on SQ’s clone from Brazil StoneCo (STNE) and read a lot about Square Inc. (SQ) along the way. I decided to do an analysis on it as well.

  2. Grew from around $10 to $100 (10 times) from 2016 to September 2018. Since then, the graphic is building a flag (triangle) which is considered a bullish formation.

  3. Going profitable next year: After a few quarters of hovering from profit to loss Square Inc. EPS was positive in Q3 2019. Analysts' predictions are that EPS will be positive for 2020 with a mean estimate of $0.75 and $0.95 for 2021.

  4. SQ is growing sales at an average of 40% every year.

  5. Big coverage by analysts with the average consensus “Overweight,” meaning “Buy.”

  6. Bullish article here: https://www.fool.com/investing/2019/08/05/where-will-square-be-in-5-years.aspx



Overview: company, category description


Square, Inc. engages in the provision of credit card payment processing solutions. It is a cohesive commerce ecosystem that helps sellers start, run, and grow their businesses. Once a seller downloads the Square Point of Sale mobile app, they can quickly and easily take their first payment, typically within minutes. Once on this system, sellers gain access to features such as next-day settlements, digital receipts, payment dispute management, data security, and Payment Card Industry (PCI) compliance. The firm offers additional point-of-sale services, financial services, and marketing services. The company was founded by Jack Dorsey and Jim McKelvey in February 2009 and is headquartered in San Francisco, CA.


The company does not share the number of subscribers, but an interesting chart provided in their 2018 annual report shows revenue coming from new and old subscribers. This way you can see both the revenue growth of subscribers who joined some time ago vs. those who just joined this year. As you can see revenue for all clients who subscribed in the past (except maybe 2015 cohort) is steadily growing meaning the current customers are quite happy with Square products. In addition, Square is gaining new customers every year at a slowly increasing pace.


As noted previously, after the long run from 2016 to September 2018, when the stock went up from ~10$ to $100 peak, the price is building a triangle or a flag. Usually a bullish sign, but need to see which way it breaks from this triangle.



Financial overview


Square Inc. (SQ) sales were growing well from one quarter to the next for the past 4 years. EPS is growing as well and has just hit the positive side.



Key financial ratings/Stock Value


The coverage for the stock by analysts is strong, with 37 analysts predicting EPS to stay positive next year.


With the current price of $71.14 and estimated $0.75 2020 EPS and $0.95 EPS for 2021, the forward PE comes to:

· 94 for 2020

· 75 for 2021

This is extremely high. Let’s check if company growth warrants such a high PE score. The EPS estimates below are not very useful as the company is going from negative EPS in 2019 to positive in 2020 and we can only see that analysts estimate EPS will grow 22% from 2020 to 2021.


We have established from above that sales for SQ were growing at ~40% per year in the past. Given SQ is operating in a large market of the USA and has still a lot of room to grow. With relative consistency of growth in the past, I think they will continue to grow revenue at this rate for the next few years. Let’s check the degree of Operating Leverage for Square Inc.


Dividing EBITDA % growth every quarter by Sales % growth for the same quarters we get that on average; if there are no unplanned expenses, the company EBITDA grows ~5-5.5% for every 1% of growth in sales. Profit increases on average 3%, but Profit is more volatile right now with little factors making it swing too much. Thus, with 40% growth per year, we should expect EBITDA to grow 200%-220% per year and profit (less reliable) should grow 120% per year.


Now, this is drastically different from analysts’ predictions above, but they do predict that EPS will grow from 0.06 in Q3 2019 to $0.21 in Q4 2019 and $0.16 in Q1 2019 (decline likely due to seasonality with many people shopping around Christmas). Also, they may be thinking the slowdown in sales is near – nobody knows exactly. However, just looking at the chart below that I already showed above, growth in revenue is sourced in large part. Deciphering the chart below the company grows revenue from past clients by an average of 20% every year. Also, just looking at the below graph the growth in new customers every year does not stop and is increasing.

Using the price-to-earnings growth ratio (PEG), we get a score of 95/120 = 0.79 which is strong. Usually, a ratio below 1 is considered to be good as the stock is said to be undervalued. Internet - Software stocks are, on average, holding a PEG ratio of 2.63. However, please note that when we get to such high numbers of 95 and 120, this stock becomes risky. Anything goes bad with the 120% number and PEG can easily triple or quadruple (technically it can go to infinity).


Other financial ratios

Square Inc. seems to be doing OK on financial health with a quick ratio of 2.04 when ratio considered to be good when it is 1:1 or higher. Capital structure (ability to repay the debt) is also not a problem.



Ratings by analysts


While Zack’s gives a 3 to like 90% of all stocks, I still check that score in addition to others. It is a 3-hold score. However, it has an A for Growth.


Compilation of recommendations from analyst on marketwatch.com website gives an overall Overweight (Buy) mean recommendation. 6 out of 41 analysts saying Sell.



Who owns it? Changes in ownership


The stock is actively traded by institutions with institutional ownership standing at almost 72% with 347 players owning a stake in it. Last quarter it seems there was a lot of trading with many players selling, but many buying or increasing their positions. This aligns well with the graph that we saw above as the stock goes up and down in a triangle.



Buzz (StockTwits, Investment board)


StockTwits is actively talking about SQ (obviously). Activity is good with 900 posts.

The recent sentiment was generally positive and actually increased in the past few days:



Risks


There are a few risks discussed above:

  1. Stock is currently overpriced with PE of 95. While PEG is good, it is still risky: if anything goes bad with any of the next financial reports, the stock price will decline.

  2. While SQ was growing revenue at around 40% per year. All signs show it can still continue to grow in the next few years. However, analysts seem to be a bit conservative about growth targets. However, they still think the stock is a Buy.



Overall assessment and summary


Definitely, a stock to watch and buy if it breaks out from the triangle with the strong volume on the breakout.


My assessment is BUY


You have a different opinion about this stock? I made an error in assumptions? You have additional information to share? Please leave your comments below.


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