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Why I Bought Square Stock After a 154% Rally in 2017

By Brian Withers - Feb 11, 2018 at 7:02AM

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Find out why this company is described as “life changing” for its customers.

I bought shares of Square (SQ 3.97%) in the last week of 2017 after it had an incredible year. While I was disappointed that I had missed a tremendous run from this payments company, I took a cue from Motley Fool co-founder David Gardner who doesn't shy away from stocks that have already seen strong price appreciation.

Taking a second look at the company, here are the five reasons that convinced me to add Square to my portfolio.

1. Scalable platform

At its core, Square is a software platform company. A platform is an efficient way to deliver a product or service to a mass market. The software code is created once and put into the cloud for customers to use. In Square's case, its product serves millions of sellers, enabling them to capture $17.4 billion in payments volume in the company's most recent quarter. It doesn't release much data on transaction or seller numbers, but in its May 2017 investor day presentation, the company shared that it processed an incredible 35 transactions per second over the 12 months ending March 31, 2017.

A scalable platform is a great way to optimize company resources and create long-term value with minimal costs.

2. Expanding offerings

Square started as a way for sellers to collect credit card payments for in-person transactions, but it has become much more than that. The company has expanded into an entire ecosystem that helps sellers start, run, and grow their businesses.

Eight pictures representing Square's ecosystem of payments, point of sale, receipts, payroll, analytics, finance, invoices, and marketing.

Square has expanded from payments into an entire ecosystem for sellers. Image source: Square.

Enabling small business owners to manage employees, payroll, and customer appointments for a monthly subscription fee means they can compete with much larger companies. The billions of data points collected on the platform allow Square to constantly improve the platform to ensure sellers continue to gain value from their subscription. The company also allows third-party apps for niche solutions or integration with a seller's existing system, which makes the platform "sticky", meaning customers are less likely to switch to another platform.

3. Revenue aligned with its customers

One of my favorite aspects of Square is that the company receives more revenue when its customers are successful. The company generates revenue from three sources:

Square Revenue by Source Q3-2017 Growth (YOY)
Transaction-based fees $510 million 31%
Subscription and services $65 million 84%
Hardware sales $23 million  23%
Total $598 million 33%

YOY = year over year.

The largest component of the top line comes from each sale a customer makes. Square charges a 2.93% fee, on average, of the gross payment amount from each transaction. This aligns Square with its sellers' as they grow their businesses, helping to ensure that the company's day-to-day decision making is in the best interests of its users.

4. Tremendous growth and a huge market

Despite everything I've already mentioned, if the company wasn't growing, I wouldn't be investing. The stock's enviable performance in 2017 was in part due to Square's tremendous growth. Double-digit growth rates in all segments of its business are reflective of a strong business and a large market. The company has its eyes on over $60 billion of opportunities in the U.S. across payments, e-commerce, software, Square capital, and its food delivery service Caviar. The company projects the global opportunities are six to seven times larger than the domestic market.

Square's card reader attached to an iPhone capturing a credit card.

With Square's credit card reader, sellers can swipe the card or read a chip. Image source: Square.

5. Customers love Square

Square boasts a net promoter score (NPS) of 66, which is a measure of customer satisfaction (from -100 to +100) where a score of 70 is considered "world class".

I talked with a longtime Square customer who owns his own board game company. He called it a "life changing" product. Before he used Square, his in-person sales at weekend conventions would require him to fill out individual credit card forms for each customer and then spend an entire day after the show typing up the data. Some of the cards would be declined, leaving him no revenue from that sale. With Square, he can turn any mobile device into a cash register and instantly know whether he payments will go through, all while eliminating his "after show" administration. Square has become an integral part of his small business.

While I'm happy with the 25% gain I've already logged since the end of 2017, I'm looking to hold this company for many years to come. Square is a pricey stock with a price-to-sales ratio of 8.3, but I wouldn't hesitate to add a small position in a well-diversified portfolio with the intent to hold for the long term.

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