PayPal (NASDAQ:PYPL) and Square (NYSE:SQ) are both major players in the booming digital payments industry. PayPal was spun off from eBay (NASDAQ:EBAY) in July 2015, and Square went public just four months later. PayPal's stock has risen by about 150% over the past four years, while Square's stock surged by more than 350%.

Both companies dazzled investors with their robust revenue growth and expanding fintech ecosystems, which introduced new peer-to-peer payment services like PayPal's Venmo and Square's Cash. Square, which is growing faster than PayPal, clearly attracted more bulls. But will Square continue to outperform its larger rival over the long term? 

A woman uses a payments app on a smartphone.

Image source: Getty Images.

The key differences between PayPal and Square

PayPal was founded over two decades ago and was acquired by eBay shortly after its IPO in 2002. PayPal initially served as eBay's main payment platform, and gradually expanded to accept payments on other websites and payments via email, Facebook Messenger, its main app, and Venmo.

It also expanded into the physical retail market with a debit card, card-swiping devices, and point-of-sale (POS) systems for merchants. And it offers loans to small businesses via its Working Capital lending arm. PayPal generated 53% of its revenues in the U.S. and the remaining 47% from international markets last year.

Square, which was founded nine years ago, initially sold credit-card swiping dongles for smartphones. Its seminal device, the Square Reader, led to the launch of the Square Stand, which turned iPads into POS systems; and the Square Register, a stand-alone POS system. The company expanded its ecosystem to include enterprise tools for analytics, payroll management, web design, e-commerce, and other services -- which turned it into a one-stop-shop for digitizing a business.

It too offers loans to small businesses via Square Capital. For consumers, Square has the Cash App -- which resembles Venmo, but adds bitcoin and free stock-trading features. Square generated 95% of its revenues domestically last year, but it's gradually expanding into foreign markets like Canada, Australia, the U.K., and Japan.

Square Register.

Image source: Square.

Which company is growing faster?

PayPal and Square generate most of their revenues by retaining a cut of each payment processed on their platforms. Therefore, investors should first compare the two companies' growth in total/gross payment volumes (GPV) over the past year.

Gross Payments Volume Growth (YOY)

Company

Q4 2018

Q1 2019

Q2 2019

Q3 2019

Q4 2019

PayPal

23%

22%

24%

25%

22%

Square

28%

27%

25%

25%

25%

YOY = Year-over-year. Source: Company earnings reports.

The companies are gaining at comparable rates, but PayPal processed $711.9 billion in payments in 2019, which dwarfs Square's $106.2 billion. However, Square continues to generate much stronger revenue growth than PayPal.

Revenue Growth (YOY)

Company

Q4 2018

Q1 2019

Q2 2019

Q3 2019

Q4 2019

PayPal

13%

12%

12%

19%

17%

Square

51%

43%

44%

44%

41%

YOY = Year-over-year. Source: Company earnings reports.

Square mainly attributes its more-rapid growth to the expansion of its subscription and services ecosystem. That portion of its business posted 45% annual revenue growth last quarter and accounted for 21% of its top line. The core growth engines for that higher-margin business include the Cash App, Square Capital, and subscription services for sellers.

To boost its revenues, PayPal relies heavily on the growth of Venmo, which posted 65% growth in payment volumes last quarter. However, Square Cash actually surpassed Venmo in U.S. downloads last year, according to App Annie, and PayPal continues to take a more restrained approach to the expansion of its fintech ecosystem.

Profitability and valuations

PayPal is firmly profitable by GAAP and non-GAAP metrics for two main reasons. Its massive scale, which reaches over 200 countries and regions with support for 25 currencies, enables it to squeeze consistent profits from a massive user base of 305 million active accounts. It's also less aggressive than Square in its ecosystem investments.

Square is only consistently profitable by non-GAAP metrics, which exclude significant expenses like stock-based compensation. It has occasionally eked out quarterly GAAP profits thanks to gains from its investment in Eventbrite and its sale of Caviar, but it probably won't generate consistent GAAP profits anytime soon.

For 2020, PayPal management expects the company's revenues will rise by 17% to 18%, and forecasts its non-GAAP earnings will grow by 9% to 12%. At $110, the stock trades at 32 times the midpoint of that forecast -- which is a bit frothy relative to its growth rates.

Square expects its revenue to rise by 30% (33% after excluding Caviar) in 2020, and for its non-GAAP EPS to grow by 13% to 18%. At $80, the stock trades at 74 times the midpoint of that guidance -- which gives it a significantly frothier valuation than PayPal.

The winner: Square

PayPal and Square are both solid long-term investments in the war on cash. But if I had to choose one over the other, I'd pick Square -- which is more aggressive, willing to take chances on speculative markets like bitcoin, and has more room for overseas growth. It's a more volatile stock, but it could generate higher returns than PayPal over the long term.