Block, Inc. Q4 2021 Earnings Review: coming out of the pandemic stronger than ever
Block, Inc ( SQ ), the company formerly known as Square, reported Q4 2021 and Full Year 2021 results yesterday. Last year Block made it loud and clear that despite being a sizeable public company they have no intentions of stopping innovation and experimentation. Thus, they kicked off 2021 by acquiring a music streaming service TIDAL (for $350 million), acquired one of the largest “Buy Now Pay Later” players in the world, Afterpay (for $29 billion in an all-stock deal, which turned to be $13.9 billion deal at the close in February 2021), and wrapped up the year by changing the name to Block to highlight their growing focus on Bitcoin experiments.
On top of that, Jack Dorsey, CEO, and co-founder of the company, finally left his job at Twitter to focus solely on Block. Let’s look at their results to understand what’s ahead for the company.
How Block makes money
Block used to operate two primary businesses: Square, an acquiring business helping merchants accept payments both online and offline, and Cash App, a mobile wallet offering consumers basic financial services, such as payments and debit cards, stock investing, as well as Bitcoin buying and selling.
Last year the company also acquired Afterpay, one of the largest BNPL players globally; however, the acquisition was completed in early 2022; thus, 2021 financials do not include this business (you can learn more about the Afterpay scale here). In addition, the company also acquired a majority stake in TIDAL, a music streaming service in 2021; however, per the company’s filling “TIDAL did not have a material impact on the Company's condensed consolidated financial statements”.
Finally, Block group includes SPIRAL and TBD, which are the company’s initiatives aiming to promote mass adoption of Bitcoin (issuing developer and designer grants, development of a non-custodial wallet, designing Bitcoin mining gear, etc.).
Square (“Seller” in the table above) generates most of its revenue by charging merchants a fee for processing payments (“Transaction-based revenue”). In addition, it makes money from such services as Square Loans, software subscriptions, and Instant Transfers for merchants (“Subscription and services-based revenue”). Finally, it sells and leases POS terminals and cash registers (“Hardware revenue”). In 2021, Square generated 29% of the company’s revenue, and 52% of the company’s gross profit (revenue less directly attributable costs, i.e. card scheme costs and “interchange” fees).
Cash App generates most of its revenue from Bitcoin transactions (“Bitcoin revenue”); however, as we will see later, such transactions have low margin, and thus; make a limited contribution to “Gross profit”. In addition, it charges customers for such services as Cash Cards and Instant Deposits (“Subscription and services-based revenue”), as well as peer-to-peer transactions to business accounts, and payments sent from credit cards (“Transaction-based revenue”). Cash App business generated 70% of the company’s revenue and 47% of the company’s gross profit.
Revenue generated by TIDAL is included in the “Corporate and Other” segment, my understanding is that SPIRAL and TBD do not generate any revenue as of now.
Block reported $4.1 billion in revenue for Q4, 2021, and $17.7 billion in revenue for the full year 2021, which represents 29% YoY growth for the quarter, and 86% YoY growth for the full year.
The chart above illustrates that Block benefited from the pandemic and its revenue skyrocketed in 2020 and 2021; however, the company’s main businesses, Square and Cash App, were impacted differently. Thus, Square benefited from the growth in e-commerce but was negatively impacted by the closures and bankruptcies of its offline merchants in the early days of the pandemic. Cash App, in the meantime, benefited from the explosion of Bitcoin prices and trading volumes. As the economy started reopening in 2021, Square's fortunes regained momentum, and Cash App returned to more sustainable (but still high) growth rates.
While discussing Cash App, it is important to decompose its revenue into Bitcoin and non-Bitcoin revenue. As I will illustrate later, Bitcoin trading has very low marginal profitability, and at the same time constitutes a large share in Cash App’s revenue. In addition, I would argue that Bitcoin is a nice unpredictable “extra” for the Cash App business; meaning that Bitcoin trading activity (and thus, the revenue the company regenerates from this service) will continue to be driven by market sentiment and crypto price fluctuations rather than the company’s actions.
Finally, Block generates most of its revenue (97%) in the United States. However, the company started expanding into Europe (United Kingdom, France, Spain) with its Square business in 2021. The company’s management also called out global expansion as “one of Square’s key strategic priorities in 2022 given the significant market opportunity”.
Block reports “Gross Profit” as a measure of marginal profitability. Thus, the company reported $1.18 billion in gross profit for Q4 2021, and $4.42 billion in gross profit for the full year 2021, which represents 47% YoY growth for the quarter and 62% YoY growth for the full year 2021.
In terms of Gross Profit, Square and Cash App are similar size businesses; however, Gross Profit for Square has been consistently growing over the last three years (except the early days of the pandemic), while Cash App Gross Profit took a dip in the second half of 2022 (due to lower Bitcoin trading activity).
As I argued above, Bitcoin trading generates lots of revenue for Cash App, but given the low margins and unpredictability of volumes for this service, I would look at it separately from the rest of the Cash App business. As you can see below, Gross Profit generated by Bitcoin trading spiked during 2020 - 2021, but has been decreasing since its peak in Q1 2021. Overall, the Bitcoin trading service generated 10.5% of Cash App’s Gross Profit in 2021.
Take Rate and Gross Margins
Let’s finally connect the company’s Revenue and Gross Profit by decomposing gross margins. Similarly to the above discussion on Revenue and Gross Profit, it doesn’t make much sense to look at "combined” gross profit margins for the whole company. We should rather look at three components: 1) Square, 2) Cash App excl. Bitcoin and 3) Bitcoin trading. Block is expected to report Afterpay’s numbers in its Q1 2022 earnings, and I would see Afterpay becoming the fourth large component (“block”) of the company.
The chart below illustrates that Square's gross margins remained quite stable (and even grew) during the last three years, while Cash App’s gross margins took a nosedive after revenue from Bitcoin trading started exploding in early 2020.
The chart below illustrates how “boring” is Square’s business (“boring” is used in its most positive sense here, implying predictability). The company consistently generates 85-87% of its revenue from transactions (charging merchants a fee for processing payments) and consistently earns a 40%+ margin on those transactions.
You can also see a positive trend of increasing margins in 2020-2021; however, I wouldn’t get very excited about that, as most likely it is driven by a higher share of e-commerce transactions during pandemic years (e-commerce transactions carry higher fraud risk, and thus, acquirers charge merchant higher fees while not always occurring higher costs).
A look at Square’s Take Rate (% of transactions it charges merchants as a fee), one can see the same “boring” predictability; namely, the Take Rate slightly fluctuated staying around 2.9% level during the last three years. Again, I would not make any conclusions about decreasing the Take Rate in late 2021, as most likely it is driven by the proportion of e-commerce and “card present” transactions.
With Take Rate, Gross Margin, and the share of transaction-based revenue in total Square’s revenue being quite stable, it all comes down to the growth in Gross Processing Volume; and the evolution of Gross Processing Volume has been anything but “boring”. As the chart below illustrates, Square delivered 25% YoY growth in 2019, then was heavily hit by the pandemic in 2020, and then went for unsustainably high growth in 2021.
Doing a similar exercise for Cash App margins supports my statement about Bitcoin revenue. As you can see from the chart below, Cash App’s gross margin for Bitcoin trading ranged from 1.3-2.4% in 2019 - 2021, while the share of Bitcoin revenue went from 37% in Q1 2019 to 87% at its peak in Q1 2021.
However, this is not Bitcoin that I wanted to illustrate with this chart, but the 80%+ gross margin that Cash App earns on the rest of its services. Forget about Bitcoin for a second: Cash App booked $2.3 billion in revenue excluding Bitcoin trading in 2021 and generated an 81% gross margin on this revenue.
The company reported over 44 million Cash App Monthly Active customers at the end of 2021 (up from 36 million at the end of 2020, and 24 million at the end of 2019), of which 13 million were using Cash Card every month (“Monthly Cash Card Actives”). The company also boasts an average Customer Acquisition Cost for Cash App at approximately $10 in 2021.
Block reported $54.6 million in Operating loss in Q4 2021 (down from $45.2 million income in Q4 2020), and $161.1 million in Operating income for the full year 2021 (up from $18.8 million loss in 2020). The company’s key operating expenses in 2021 were “Sales and marketing” (38% of total operating expenses), “Product development” (33%), and “General and administrative” (23%).
Looking at the Operating Income (Loss) by quarter, I believe it is fair to conclude that the company is not aiming to deliver income and instead reinvests the money it earns into growth. I might be wrong, but the operating income the company delivered in the Q3 2020 - Q3 2021 period was just a result of the quarterly planning, whereas the revenue for a quarter exceeded internal forecasts resulting in operating income.
This becomes even more evident if we compare Operating expenses with Gross profit; thus, as can be seen from the chart below the company spends almost exactly everything it earns in gross profits (and the deviation from 100% come from the budgeting process and overestimating/underestimating gross profit for the quarter).
Looking into where the company spends, Sales and marketing increased during 2020 - 2021 (exceeding 30% of the revenue) as the company started investing heavily into customer acquisition for Cash App, while Product development and G&A expenses decreased as the company scaled its operations and revenues. Thus, during 2021, Block spent $1.62 billion on sales and marketing, of which $997 million (or 62%) went into Cash App marketing.
The company reported Net loss of $76.8 million for Q4 2021 (down from Net income of $293.9 in Q4 2020), and Net income of $166.3 million for the full year 2021 (down from Net income of $213 million for the full year 2020).
The Net income charted per quarter follows Operating income pattern, and a few spikes are explained by one-off transactions: “In the fourth quarter of 2019, we completed the sale of Caviar to DoorDash, which resulted in a gain of $373 million….In the fourth quarter of 2020, we recognized a gain of $274 million related to equity investments, driven primarily by a gain of $255 million as a result of the mark-to-market valuation of our DoorDash investment” and “In the second quarter of 2021, we recognized a $77 million gain on our equity investments and a $45 million bitcoin impairment loss”.
As many high-growth tech companies, Block uses stock-based compensation to incentivize its employees and recruit best talent, as well as grows through acquisitions. Thus, in addition to GAAP Net Income, the company reports non-GAAP Adjusted Net Income, which, among other smaller items, adjusts for stock-based compensation and amortization of acquisitions.
Thus, the company reported Adjusted Net Income (diluted) of $141.6 million for Q4, 2021 (down from $169.4 million in Q4, 2020), and $897.6 million for the full year 2021 (up from $426.4 million for the full year 2020).
As a summary, the company reported $0.27 Adjusted Net Income per diluted share for Q4, 2021 (down from $0.32 per share in Q4 2020), and $1.71 Adjusted Net Income per diluted share for the full year 2021 (up from $0.84 per share in the full year 2020).
Things to watch in 2022
Integration of Afterpay. As I wrote previously, Afterpay is one of the largest Buy Now Pay Later businesses globally (and as is almost double the size of Affirm). It will be interesting to see Afterpay product being incorporated into Square merchant solutions and Cash App.
Growth of Square business. As illustrated above, Square’s business is driven solely by the Gross Processing Volume as the take rate and margins are pretty stable. The company put global expansion as a key strategic initiative, but given a tiny share of global business, growth should come from company’s home market too.
Cash App excl. Bitcoin. I am extremely excited about 80%+ gross margins of Cash App business (excluding Bitcoin), and I totally understand why the company is investing heavily into the growth of Cash App user base. My concern is that it already boasts 44 million active monthly customers, so the question is how far it can go?
Company’s investment into Bitcoin ecosystem. As I wrote above, Bitcoin revenue is a nice extra, but nothing to rely on in the future (given low margins and unpredictability of market activity). However, Jack Dorsey, the company’s founder and CEO, is know for being bullish on mass adoption of Bitcoin as a payment instrument (hence company’s investment into SPIRAL and TBD), so I am excited to see what this passion will yield for the company.
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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.