Watch to Watch for When Block Reports Earnings

As Block (SQ -0.19%) begins to expand its offerings, it's taking on more risk and becoming a more leveraged business. In this segment from "The Future of Fintech," recorded on Feb. 3, Motley Fool contributors Matt Frankel, Jason Hall, and Danny Vena share their concerns about how effectively Block can move forward with a cohesive strategy. 

Matt Frankel: As you can see, Block or Square, it's still acceptable to call it Square, I think until they change the ticker symbol. But that one is down over the past three months by about 58 percent. That's a pretty big drop for a large company like that. That's worse than PayPal's performance. It's sold off on the heels of PayPal's earnings. We want to go over what we are looking for and what we're going to be watching when they report their earnings shortly.

A couple of little tidbits here. Block, they just finished acquiring Afterpay, which we're going to talk about a little more in the buy now, pay later space and already made it available for their merchants to integrate into their platform. I want to get your thoughts on what that's going to mean for the business. I'm looking to see a banking update. Remember Square got a banking charter not that long ago and established its own bank called Square Financial Services. This is its banking subsidiary. If you remember the Square Capital business loans platform. It's now just called Square Lending. It's part of their bank.

In the third quarter, they didn't make any money. But Square doesn't really care about profitability at this point, unlike PayPal. Their net income was zero, to be to be exactly was $0.1 million. Which on the context of Square is like nothing. Their gross profit was up 43 percent year-over-year. But they choose to investment most of their money in the business. There's still an all-out growth mode unlike PayPal. Their gross payment volume was a little over 45 billion. Remember, PayPal's was about 1.3 trillion annualized. This works out to about 180 billion annualized, so a significantly smaller business. That was up 92 percent year-over-year. But remember that's compared to the COVID lockdown period. Square has a disproportionate exposure to physical retail unlike PayPal.

Cash App revenue was up 33 percent excluding Bitcoin. Remember bitcoin technically makes up the bulk of Cash App revenue, but that's just is bitcoin that's being bought and sold by customers, not necessarily anything related to profit. They get a little percentage off that.

Square has almost seven billion dollars in cash sitting on its balance sheet. Which for a company that now is valued at, say about 60 billion, that's a pretty impressive stockpile of cash that they can use at this point. They've been very active with acquisitions. Afterpay was an all stock deal, but they also acquired Title, if you remember. They made a few bolt-on acquisitions over the years and continue to do so. Guys, we can start with Jason, I guess, what are you watching when Block reports its earnings? Do you call it Block yet?

Jason Hall: I'm not ready to call it Block yet [laughs] I'm working through that. But eventually I'll get there. A couple of things I just want to quickly point out just to emphasize what you were talking about. Sure, this company, it's not generating GAAP profits on a consistent basis, but it's been cash flow positive for over five years now. I think that's important. It does have a ton of cash, but it also has a pretty sizable amount of debt. I think it's really about managing the balance sheet effectively. I think it's really important.

What I really want to have a better idea about is how they plan on monetizing. They're putting their fingers into a lot more pies. The Afterpay deal, we've talked about that before. Not just the monetization, but also continuing to integrate these things because you have all of these disparate parts of the business and there's some inter-related aspects, but not always. I mean, Cash App doesn't have to tie into Square at all. As a matter of fact there's opportunities to use Cash App outside of the Square ecosystem completely. That's a positive, because it can allow it to participate in more ways that people move money back and forth.

But my biggest concern, I think, is renaming the company Block to separate the corporate branding from Square. Is Square's being like the merchant payments platform and all of those merchant services that it provides is, I really want to have a better idea of what their cohesive strategy is, I guess is what I'm trying to say in a bit of an cohesive way. My concern, frankly is Jack is so bitcoin-oriented in his global view of the economy and finance and money. How many other voices in the room are going to be behind the company's cohesive strategy? Is it going to be able to be effective at allocating capital?

I think they spent way too much money on Afterpay. They can't be fast and loose. Because essentially we're talking about what, about two and half billion dollars of net cash on the balance sheet. Again, that's not knowing exactly what the balance sheet looks like now because the Afterpay deal is closed, it's going to be another three weeks or so before we see the actual balance sheet at the end of the fiscal period. I just have legitimate questions about what is the cohesive strategy going to be and as you're becoming more things and you're taking on more risk, because that Afterpay thing means this is going to be a more leveraged business, how effectively you are going to be with your strategy? I really want to see how that looks and what management says. I mean, I'm not even concerned about the results as much as I am about the strategy, Danny.

Danny Vena: I want to spin off of one of the things that you said. I'm going to share my screen here for just a minute to look at.

Jason Hall: I'm amazed you could pick one, I said like 30 things and none of them very well.

Danny Vena: [laughs] Well, this is the one that really stuck out to me. This is from Square's third quarter and you notice I called it Square so I'm not ready to call it Block yet. I don't think they thought about the implications of the term Blockhead when they were renaming this company.

Jason Hall: I shared the gift of Charlie Brown whiffing on the football the day the announcement was made by the way.

Danny Vena: My brain went straight there. When you look at what has happened over the past several quarters, whenever cryptocurrency has been on a tear, then Block's revenue has done well. When cryptocurrency has been in the toilet, Block's revenue has not done as well. If you look at this little footnote here on the bottom of Page 2, it says in the third quarter, total revenue was up 27 percent, and excluding bitcoin revenue, total revenue was up 45 percent. During the third quarter was when cryptocurrency was doing really well. Now, things slowed down a bit in the fourth quarter and they've gotten even worse in the first quarter.

I remember an article that I wrote several quarters back where when you look at Square's organic growth excluding bitcoin transactions, it was much lower, Cash App growth, which is something Square has been hanging its hat on for years saying this is our big growth area. That growth was tepid when you factor out all of the bitcoin transactions. I think one of the things that is a potential pitfall for Block and for Square's Cash App is the fact that if there is a significant slowdown in bitcoin transactions. I think we're seeing the selling portion of that. Then I think there's going to be a lull and during that lull there's not going to be as many cryptocurrency transactions. I think you're going to see Square's total revenue fall off a cliff, primarily because of cryptocurrency. The company is going to have to try to make up for that inorganic growth and I think that a tough thing to do.