If you've set foot in a small (or not-so-small) business over the past few years, you may have noticed a clean white credit card reader when you went to pay. More and more of those "squares" are popping up in stores as the financial technology company behind them, Square (SQ 5.71%), continued to expand its presence through 2017.
Square's business had a banner year this past year, surpassing analysts' expectations and sending the stock rocketing to an all-time high in late fall. The stock has come down some since announcing a slightly disappointing fourth-quarter earnings outlook, but the long-term growth prospects are still strong.
After a stellar 2017, what's in store for Square in 2018?
Image source: Square.
Finding new investments
At one point in 2017, Square's top line was growing so quickly management couldn't find effective ways to invest all the cash that was coming in. CFO Sarah Friar had previously guided for an adjusted EBITDA margin expansion of about 5%. Even with an expected EBITDA margin contraction in the fourth quarter, the company's full-year guidance now sits at 7% in margin expansion for the full year.
Granted, generating more cash than you know what to do with is a pretty good problem to have. But if Square doesn't find new ways to invest, it risks losing customers to any number of competitors that are also looking to innovate in the space. Square says its competitive advantage is its ecosystem of services. The larger the ecosystem, the better its customer retention -- and its ability to attract new customers.
CEO Jack Dorsey expounded on the company's simple philosophy to creating new products during the third-quarter earnings call. "The approach we have taken on our roadmap is to quickly identify the most critical need for our customer, whether that's a seller or an individual. And to make our solution best of class." However, he wouldn't provide any details about what might be in the works for 2018.
Nonetheless, 2017 should have primed management to support a faster rate of investment in new products. That should produce earnings results more in line with Friar's outlook and analysts' expectations instead of the hefty earnings beats the company produced throughout 2017.
Expanding to new markets
Square expanded to Europe in 2017 with the introduction of its service in the United Kingdom. The company now operates in the United States, Canada, Australia, Japan, and the U.K. Still, nearly all of its revenue comes from its home country.
Through the first nine months of 2017, less than 5% of Square's revenue came from international markets. However, international revenue growth accelerated quite a bit in the third quarter. Friar expects "ongoing momentum" in the international markets.
As a result, investors should expect Square to potentially enter new markets or step up its marketing spending in its existing international markets (or both) in order to fuel that momentum. Square doesn't benefit from the same first-mover advantages in foreign markets as it does in the U.S. As a result, it has to spend more on marketing to drive sales in those markets. Investors shouldn't be surprised if marketing spend continues to climb higher as a percentage of sales, but keep an eye on international revenue growth.
Don't expect another repeat performance
While Square shares have come down from its somewhat absurd all-time high, the valuation is still relatively high. That said, its enterprise-value-to-sales ratio is more in line with competitors now, and Square appears to have better growth prospects than other major players in the industry considering its leading position in the United States as well as its relatively small size.
It's hard to see the stock increasing over 150% again in 2018, but Square is one of the best investment choices in financial technology.
