Block, Inc. Q1 2022 Earnings Review: forget Bitcoin, Square and Cash App can deliver further growth

Yesterday Block ( SQ 0.00%↑ ), formerly known as Square, reported Q1 2022 results. There were two unknowns going into the earnings. First, the company completed the acquisition of Afterpay in February, so this was the first quarter of consolidated reporting. Second, rising inflation and worsening consumer sentiment raised concerns about consumer spending, and thus, revenue prospects for the companies in the payments space. Block reported a strong quarter and continued growth in both, Square and Cash App, segments. It was a pleasure to read the Shareholder Letter and listen to the earnings call: no excuses, no blaming of the economy, just strong execution by the team. Let the numbers speak for themselves!

If you are new to Block, I suggest reading my newsletter on the company’s Q4 and Full Year 2021 results. In short, the company operates two segments: Square, an acquiring business serving small and medium-size merchants, and Cash App, a mobile wallet with over 40 million consumers. In Q1 2022 the company completed the acquisition of Afterpay, one of the largest Buy Now Pay Later players globally.

Revenue

Block reported revenue of $3.96 billion in Q1 2022, which represents a 22% decline from Q1 2021. However, you should keep in mind that Block generated $3.5 billion in Bitcoin revenue in Q1 2021 (compared with $1.7 billion in Q1 2022). Thus, excluding Bitcoin, Block’s revenue grew 44.2% YoY (from $1.55 billion in Q1 2021 to $2.23 billion in Q1 2022).

It should be noted that at the beginning of the year, Block completed the acquisition of Afterpay, one of the leading Buy Now Pay Later providers in the world. Thus, Q1 2022 revenue includes $129.8 million from Afterpay, equally split between Square and Cash App segments ($64.9 million each).

As I argued previously, it is worth decomposing Block’s revenue into two components: Square and Cash App. Thus, the company reported $1.44 billion in revenue for its Square segment, which represents 41.9% YoY growth. Square’s revenue consists of transaction-based revenue (78% of the total segment’s revenue for the quarter), software and services-based revenue (19.5%), and hardware revenue (2.4%).

Given the large weight of the transaction-based revenue in the segment’s total revenue, it is worth looking at the Gross Processing Volume (GPV) and the Take Rate development. Thus, in Q1 2022 GPV grew 31.3% YoY to $43.5 billion, and the Take Rate declined from 2.90% in Q1 2022 to 2.83% in Q1 2022. The decline in the Take Rate most likely is attributed to the change in the card transaction mix and a larger share of offline transactions, which are usually priced cheaper than online transactions.

As you can see, the segment’s revenue grew at a much faster pace than GPV (42% YoY vs 31% YoY), which can be explained by the increase in the subscription and services-based revenue, which grew 133% YoY. Subscription and services-based revenue contributed 11.9% of the segment’s revenue in Q1 2021, and 19.5% in Q1 2022. Subscription and services-based revenue includes the revenue from software sales and lending originated by Square Loans.

Cash App generated $2.46 billion in revenue for the quarter, which represents a 39% decline compared to Q1 2021. Bitcoin revenue is fully attributed to the Cash App segment, which explains the decline.

Thus, excluding Bitcoin, Cash App generated $732 million in revenue for the quarter, which represents a 38% YoY growth. Cash App usage, and consequently revenue, exploded during the pandemic (thus 100%+ YoY growth in revenue for multiple quarters); however, it is great to see that the segment continues to grow at a 30%+ rate despite the reopening of the economy.

Gross Profit

Block reported $1.18 billion in Gross Profit for the quarter, which represents a 47% YoY growth. Again, the extraordinary Bitcoin revenue that the company booked in Q1 2021 distorts the picture (and thus, 22% decline in revenue, and 47% growth in gross profit). Block’s gross profit margin on Bitcoin was 2.1% in Q1 2021 and 2.5% in Q2, 2022. As the result, Bitcoin plays a marginal role in the company’s gross profit.

Please note that the acquisition of Afterpay contributed $92.2 million to the company’s Q1 2022 gross profit, which was equally split between Square and Cash App segments ($46.1 million each).

Square reported $661 million in gross profit for the quarter, which represents a 41.3% YoY growth. I would argue that Q1 2022 was a strong quarter for Square, as it managed to deliver gross profit growth sequentially, despite the first quarters usually being the slowest part of the year for merchants.

Cash App generated $624 million in gross profit for the quarter, an increase of 25.9% compared to Q1 2021. Excluding Bitcoin, gross profit stood at $580 million for the quarter, which represents a 38% YoY growth. Bitcoin contributed 3.35% of the total gross profit for the company, and 6.95% of the segment’s gross profit.

Block reported a 32.7% gross profit margin in Q1 2022, an improvement from a 19.1% gross profit margin in Q1 2021. Again, the improvement comes from the change in Bitcoin contribution. Thus, gross profit margins for Square and Cash App (excl. Bitcoin) were almost unchanged compared to the previous year (45.8% and 79.3% respectively). I am still fascinated by the almost 80% gross profit margin for Cash App (excluding Bitcoin)!

In the final note, it is worth mentioning that international operations contributed $78 million to the company’s gross profit in Q1 2022, a 100% increase from $39 million in Q1 2021. International operations (including Afterpay) now contribute 12% of Square’s gross profit (up from 8% in Q1 2021). Excluding Afterpay, gross profit from international operations grew 49% YoY.

Operating Expenses

Block booked $1.52 billion in Operating expenses in Q1 2022, a 70% increase compared to Q1 2021. As can be seen from the chart below, this was the second quarter in a row, when the operating expenses (including share-based compensation) exceeded the gross profit. “Sales and marketing expenses” contributed 33%, “Product development expenses” contributed 31.9%, “General and administrative expenses contributed 29.2%, and “Transaction and loan losses” contributed the remaining 6% of the total operating expenses.

If we express operating expenses as a percentage of the gross profit, then we can see that those increased over the board compared to Q1 2021. My understanding is that the company is not optimizing for GAAP profitability (and instead uses Adjusted EBITDA), but it is still concerning to see “Product development” and “General and administrative” growing quarter to quarter for the fourth time in a row.

Net Income (Loss) and Adjusted EBITDA

Block reported a Net Loss of $207.4 million in Q1 2022, a decline from a Net Income of $39 million in Q1 2021. As per the company’s comments, the Net Income was negatively impacted by “one-time Afterpay-related transaction charges of $42 million, $31 million of amortization of acquired intangible assets, and $66 million of one-time accelerated stock-based compensation”, which was partially offset by an unrealized gain of $50 million driven by the revaluation of equity investments. Excluding these items, Net Loss was $114 million.

As mentioned above, I don’t think that the company’s management is optimizing for the Net Income given the numerous opportunities to invest in growth. Thus, the company reported an Adjusted EBITDA of $195.4 million in Q1 2022, a decline from an Adjusted EBITDA of 236.2 million in Q1 2021.

The main adjustments include share-based compensation (including accelerated share-based compensation mentioned above), depreciation and amortization, and acquisition-related costs (part of which was related to the Afterpay acquisition).

Things to Watch in 2022

• Integration of Afterpay into Square and Cash App. The company’s management sees Afterpay as a critical element that will connect Square (merchants) and Cash App (consumers) ecosystems. In particular, the management sounded bullish on integrating the Afterpay marketplace (directory of merchants accepting Afterpay as a payment method) into Cash App. The marketplace generates increment business for merchants and is expected to generate incremental business for both Cash App and Square.

• Gross Profit growth for Square and Cash App. Square generated a 41% YoY growth, and Cash App (excluding Bitcoin) generated a 38% YoY growth in gross profit. Both businesses managed to maintain margin levels over time, so it is important to see if these businesses can maintain the growth rate as well. In particular, Square’s growth is supported by the subscription and service-based revenues (including Square Loans), while Cash App’s growth is driven by the increasing customer base and activity.

• International expansion. The company put global expansion as a key strategic initiative for the year, but for now, the international business contribution is marginal. During the quarter, Square expanded to Spain (in addition to Canada, the United Kingdom, Australia, and France), and the acquisition of Afterpay should give the company a further boost in Australia and the UK. Growing an acquiring business is a slow process, so I wouldn’t expect immediate results, but it is important to see progress.

• Company’s investment in the Bitcoin ecosystem. As I wrote above, Bitcoin revenue has a marginal contribution to the company’s profitability given the low gross margin. However, Jack Dorsey, the company’s founder and CEO, is known for being bullish on the mass adoption of Bitcoin as a payment instrument (hence the company’s investment into SPIRAL and TBD), so I am excited to see what this passion will yield for the company.

Overall, I think this was a great quarter for the company. If you exclude Bitcoin, which heavily distorts the picture and complicates the comps, the company delivered strong growth in both Square and Cash App segments, while maintaining gross margins. The management didn’t blame the economy or historically-high levels of inflation and just delivered strong results. Hats off!

Source of the data used above: Investor Relations

Disclosure & Disclaimer: despite rocky performance in 2021 and early 2022, I have open positions in most of the companies covered in this newsletter, as I am extremely bullish on the transformation in the financial services industry. However, none of the above is financial advice, and you should do your research.