For all of 2017 and most of 2018, Square (NYSE:SQ) was one of the hottest stocks in the market. Investors were drooling over the payment processor’s high growth trajectory, strong margin gains, and ability to win share in the global-payments market. During that stretch, SQ stock went from $14 in early 2017 to over $100 by October 2018.
But things just haven’t been the same for SQ stock since topping the $100 mark in October. Stock market volatility is what started the selloff of SQ stock. But, even as financial markets have rebounded to all time highs in 2019, Square stock hasn’t followed suit, mostly because the company’s growth is slowing. When richly valued SQ stock traded at $100, it was not priced for slowing growth.
So while the S&P 500 currently trades just 1% off its all-time highs, SQ stock still trades nearly 30% off its all-time highs. Does this relative underperformance make SQ a great buy or a name that must be avoided?
I think SQ stock is a great buy at this point. Here are the four major reasons for my opinion.
Square Is Supported by Powerful Growth Trends
The first big reason to buy SQ stock is that the core growth outlook of SQ remains healthy and looks poised to remain healthy for the foreseeable future.
This company is helping usher in a new era of cashless commerce, providing systems and machines which allow retailers of all shapes and sizes to process non-cash payments of all types. Because the world is moving towards phasing out cash, Square’s position as a facilitator of non-cash payments has enabled the company’s top line to increase at a robust, 40%-plus rate for the last several years.
The movement away from cash is still in its early stages. Around 30% of all purchases are still made with cash. That number will eventually fall to zero, meaning that there’s still a ton of room for companies in the cashless payment market to grow. As that market continues to expand, SQ will continue to grow rapidly over the next few years.
Square’s Margins Are Consistently Marching Higher
The second reason to buy SQ stock has do with its improving profitability and its potential for further margin gains.
Once upon a time, SQ was a barely profitable, hyper-growth company. But over the past several quarters, its margins have consistently, quickly risen as its growth has lowered the impact of its operating costs. At the end of 2017, its trailing twelve month adjusted EBITDA margins were around 14%. By the end of 2018, that number had risen to 16%. By the end of 2019, it’s projected to hit 18%.
These consistent margin gains should continue. Square makes most of its money through transaction-based and subscription-based revenue. Those are high-margin revenue streams. Square’s gross margins last quarter were around 80%. With its high gross margins and rapid revenue growth, SQ’s bottom line looks well-positioned to climb meaningfully over the next several quarters.
The Company Has a Small Portion of a Huge Market
The third reason to buy SQ stock is that its market is large,while its share of the market is small.
Square has a huge addressable market. Because the company facilitates payments for retailers of all shapes and sizes and through all channels, Square’s addressable market is basically the entire pool of global retail sales. That’s a $20 trillion-plus pool. Square’s gross payment volume last year was under $85 billion. That means Square obtained just 0.35% of the global retail market in 2018.
But that’s up from 0.29% share in 2017 and 0.23% share in 2016. Thus, Square’s market share is expanding at a healthy rate, while its market is enormous. Because Square’s share is so small and its market is so big, its market-share expansion can persist for a long time, powering continued robust growth for Square.
Management Is Relentlessly Innovative
The fourth and final reason to buy SQ stock is that the company’s management is relentlessly innovative, and that innovation has enabled SQ to expand its addressable market, while constantly growing rapidly.
Square started off as a brick-and-mortar credit card processor. The company is so much more than that no. It facilitates non-cash payments in both the physical and digital retail channels.
SQ has launched services like Square Capital and Square Payroll to help retailers better manage their businesses. It’s also unveiled Square Cash App, enabling it to to jump into the consumer person-to-person payment market. At the same time, it owns a food delivery network (Caviar) and has created a Square for Restaurants system aimed at integrating delivery and takeout orders into a single point of sale system.
All in all, Square has, time and time again, illustrated an impressive talent for innovation, and all that innovation is largely why Square has generated and will continue to sustain high revenue growth rates.
The Bottom Line on SQ Stock
Once upon a time, SQ stock was one of the market’s favorite stocks. That is no longer true today. But its core growth fundamentals remain solid, so the market’s dislike of SQ stock won’t last long. Once it passes, Square stock will roar higher.
As of this writing, Luke Lango was long SQ.