Square (NYSE:SQ) has risen 148% since the beginning of the year and over 137% in the past year. I believe there is more to go on the upside with SQ stock, potentially significantly more.
I argued in my last article last month that Square was likely to rise as much as 32% annually over five years. That was when the stock was at $128.55 on July 29. It is now over $155, as of Friday, Aug. 21., up over 20.5%.
My point at the time was that if Square’s Cash App continues its rise, SQ stock could rise over 400% over 4 or 5 years. This is because Square’s market capitalization might logically start to approach the market capitalization of PayPal (NASDAQ:PYPL).
PayPal’s Valuation and SQ Stock
The difference in valuation has now narrowed. Square has a market cap of $68.79 billion, whereas PayPal’s is now $230.89 billion. PayPal is now just 3.356 times larger than Square, rather than 4 times a month ago. That means that over the next four years, SQ stock could rise 35.% annually over 4 years if it were to catch up to PayPal’s valuation.
Again, this assumes that the Cash App begins to overtake the company’s revenue and finances as I suspect it will.
Moreover, if it takes only three years for this to happen, Square would only have to rise by 49.7% annually for three years.
In other words, compounded over three years, SQ stock would reach PayPal’s market cap at this rate. Again, this assumes that the market believes that the Cash App is what drives Square’s revenues and profits.
Cash App Profits Soar
And why shouldn’t it? In Square’s latest earnings release for Q2 2020 came out on Aug. 4, after my article last month, Square said its Cash App’s gross profit grew 167% year over year to $281 million. This is getting close to its Seller ecosystem gross profits of $316 million, which were down 9%.
In other words, Square is reinventing itself. And it couldn’t have come more just in time. Restaurants and customer-facing businesses are still struggling.
The growth is accelerating for Cash App. For example, last quarter Cash App represented just 40% of gross profits. This quarter it represented 47%. Expect to see that number go over 50% to 60 % by the end of the year.
At that point, the market will begin to realize my point about the valuation arbitrage with PayPal. I suspect it will begin to accelerate the market cap differential between the two even earlier than three years from now.
What Is Driving Cash App Growth?
A huge portion of the popularity is bitcoin. You can buy, sell, and transfer bitcoin on Cash App. This is extremely popular with young people. Cash App also allows you to hold the bitcoin. It is becoming a major competitor to Coinbase, in this regard.
For example, last quarter Square said that its total net revenue was $1.92 billion, up 64% year-over-year. But without bitcoin transactions, its net revenue would have been flat year-over-year at $1.05 billion.
All this became even more clear to me the other day. My Millennial-aged son told me that he does all his online betting by sending bitcoin via Cash App to an offshore site. When he makes a successful win and they transfer the bitcoin proceeds back to him he can immediately cash it into dollars on Cash App.
What to Do With SQ Stock
Square stock is on a tear that will likely last several years at least. After I wrote my last article and realized what was going on – how Square was reinventing itself – and I started buying the stock.
This is one of those few situations where I am going to be buying the stock as it keeps rising. I have only one other situation like this, and it kind of goes against my grain. I would rather buy the stock more as it falls. The problem is I don’t think there will be many opportunities to do this in the future.
So I am average costing into my position as the stock rises. It’s a little scary, but if you understand why to do it – as the stock is likely to triple over the next three or four years, it makes sense to do it.
As of this writing, Mark Hake, CFA owns a position in Square stock and is likely to buy more. Mark Hake runs the Total Yield Value Guide, which you can review here.
