Square: Stock of the week

Andrew Willis: Earlier this year, Square (SQ) decided to buy an additional 170 million US dollars worth of Bitcoin, after the 50 million it bought in October. Why? And what should investors make of the purchases? Were they for any actual operational purpose?

Probably not. While the payment processor allows the purchase and sale of bitcoin through its mobile payment app, we think it was just a sign of enthusiasm – which we note is shared with CEO Jack Dorsey…

Still, the company is participating in the popularity of Bitcoin as a broker through Cash App, and that hints at a key success factor in person-to-person payments generally… It’s a business we see with high growth potential and as operating separately from Square’s small merchant solutions, whose growth could be interrupted by uncertain macroeconomic conditions.

Senior equity analyst Brett Horn appreciates the company’s efforts to build out its consumer business surrounding Cash App. It might need it. Square’s merchant business is a niche segment with high pricing and constrained margins. Sitting at around a 160 per cent premium to our fair value at the moment, we believe investors might be expecting an overly optimistic scenario ahead…

We do appreciate how difficult it is to value such a highly scalable business that’s still seeing strong growth – but with micro-merchants, the company’s been creating, rather than stealing market share. With person-to-person payments, however, it looks like Cash App is positioning itself as a survivor in what we see as a winner-take-all environment.

For Morningstar, I’m Andrew Willis.