After the US stock market closed on February 23rd Beijing time, digital payment company Block (SQ.US) released its Q4 2022 financial report. The details are as follows:

1. Disappointment in Lending Business at Square: The Square segment, which is aimed at merchants, achieved a total revenue of $1.76 billion this quarter, slightly lower than the market expectation of $1.8 billion. However, the comparable growth rate of Square's original business was only 10% after removing the revenue contribution from the acquisition of Afterpay. This decrease is quite significant compared to the growth rate of over 20% in the previous two quarters and is also faster than other consumer-related companies that the company covers.

Upon closer examination, the reason is that the lending business, which is seen as the second growth curve beyond payments, experienced a sharp decline. The service revenue from software and lending, excluding consolidated impacts, only grew by 3% year-on-year. The loan amount newly issued to merchants this quarter was $1.16 billion, and the growth rate plummeted to only 36.5%.

In our view, the core reason is that interest rates continue to rise, and the ability and willingness of merchants to borrow have both declined as economic conditions worsen, causing lending, which is the second curve of the business, to not only fail to promote revenue growth for the segment but become a drag instead.

2. Cash App--Focusing on Monetization but Still Growing Independently: The growth of the personal mobile wallet Cash App, which is aimed at consumers, was mostly driven by improvements in penetration and monetization rates, which presents the opportunity for independent growth. After removing the bitcoin trading business, the Cash App segment achieved revenue of $1.02 billion this quarter, higher than the market expectation of $0.95 billion. Furthermore, the comparable revenue growth rate of Cash App's core business, after further removing incremental revenue, rose as high as 51%, having grown against the trend for two consecutive quarters, which was an outstanding performance.

Specifically, the subscription services mostly related to co-branded bank card services and immediate withdrawals to bank accounts (after removing consolidated impact) achieved revenue of RMB 770 million this quarter, with a year-on-year growth rate of 53%, which is the main driving force behind Cash App's growth.

In fact, the company recently announced that it will continue to collaborate with banks to launch various debit and merchant-oriented credit card services, and use the Cash App Card as a lever to transform Cash App into the primary entry point for users to access banking services, thereby evolving from a P2P software into an all-around financial service portal.

Square has Weaknesses but Cash App is Strong and Profitable: Adding up all its businesses, the company's total revenue this quarter was $4.52 billion, an increase of 14% year-on-year. The core revenue, which is more crucial after removing the bitcoin segment, was $2.82 billion, a year-on-year increase of 33%, which is basically in line with market expectations.

More significantly, the overall gross profit this quarter reached $1.66 billion, a year-on-year increase of 40.5%. The gross profit margin also rose from 34.7% in the previous quarter to 35.7%, performing better than market expectations.After excluding the gross profit contributed by Afterpay, the comparable gross profit increased by 7% YoY, which is lower than revenue growth. It can be seen that the gross profit margin of the original business of the Square segment has decreased YoY, and the poorly performing high-margin lending business has also dragged down the gross profit.

After excluding the Bitcoin business, the Cash App segment achieved a gross profit of USD 810 million, significantly higher than the market expectation of USD 750 million. The actual gross profit margin was 79.5%, which was basically in line with market expectations. Therefore, the main source of surprise was still the higher revenue.

If costs are not saved, profits will suffer again: Despite total revenue (ex. BTC) increasing by 33% YoY and total gross profit increasing by 41% YoY, the company's total operating expenses reached USD 1.79 billion this quarter, with YoY growth of 45%. It can be seen that after the company's performance was surprisingly strong last quarter, the management's attitude towards expense investment has become more aggressive, leading to poor profitability this quarter.

In particular, while the market and promotion expenses were still strictly controlled, the investment in general and administrative expenses and research and development expenses increased significantly, with YoY growth both exceeding 50% and increasing. Although the company's gross profit growth is good and better than expected, the cost investment was not contained, leading to a substantial increase in GAAP operating losses to USD 135 million, significantly higher than the market expectation of a loss of USD 84 million.

1Q23 Performance Guidance: Looking ahead to the next quarter, the company only gave guidance on the growth rate of gross profit in January and February of this year, which is around 25%. Compared with the growth of 40% this quarter, it is still significantly slower, indicating that the management's expectations for growth in the first quarter of this year are not good.

At the same time, the management has guided that non-GAAP operating expenses in 1Q will increase by another USD 30 million to USD 143 million QoQ, which is higher than the market expectation of USD 138 million. Moreover, under the expectation of further decline in gross profit growth, the company will still increase its cost investment. It can be seen that the management is somewhat stubborn, and in the case of unsatisfactory profit performance this quarter, the profit in the next quarter may not be good.

Overall, the performance of Block this quarter on the revenue side was in line with expectations. The payment business fluctuates with consumer spending, so it will slow down but will still remain relatively strong. However, the biggest problem reflected in this quarter is that the lending business, which was originally expected to drive revenue and profit growth, whether it is the operational loan for merchants or BNPL for consumers, is expected to have little improvement in the short to medium term in a high-interest rate environment and increased default risk, which has a considerable impact on the space for the company's growth.

Another problem is that after seeing the improvement in performance last quarter, the management became overly optimistic and relaxed control over expense investment, which resulted in increased investment in a situation where revenue growth was not outstanding and is likely to slow down further in the future, leading to the loss of profitability again.It is very likely that the growth and profitability performance in the future will not look good.

The good news is that with nearly 50 million monthly active users, the monetization pace of Cash App, America's largest fintech app, is steadily advancing, transforming into a comprehensive financial service entrance. If the management can match cost investment and income growth reasonably, and continue to release the value of Cash App, the company is more likely to have outstanding performance.

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1. What you need to know about Block

Although Block is not a giant in terms of revenue scale, its business composition is quite complicated. Readers can briefly understand the company's business composition through the table below, in order to better understand Block's financial report and our analysis below. In brief, the company's core business consists of two major parts: the Square ecosystem for merchants, and the Cash App ecosystem for individuals.

1. Square business: providing merchants with POS machine hardware and payment settlement services and cornerstone, and extending to merchant business loan business (Square Loan), and ERP/CRM and other merchant management software services.

2. Cash App business: based on free P2P transfer service between individuals, and extending to C2B payment (Cash for Business or Cash App Pay), co-branded bank card services, installment shopping services (Afterpay), stock investment (commission-free), and bitcoin trading and other functions. The company records the total transaction volume of Bitcoin as revenue (not net price difference), so the revenue scale and fluctuation of Bitcoin business are relatively large.

In addition, the company acquired the installment shopping company Afterpay in the first quarter of 22, and allocated 50% of the revenue to Square and Cash App respectively. The company also acquired or established new businesses such as the Tidal music streaming app, Spiral cryptocurrency development platform, and TBD decentralized technology development platform, which currently account for a very small proportion and do not need to be considered.

The following are detailed comments on the financial report:

2. Payments are still holding up, but lending is "cooling"

First of all, the Square board facing merchants achieved a total revenue of 1.76 billion US dollars this season, a year-on-year increase of 19%, slightly lower than the market expectation of 1.8 billion. If we exclude the contribution of 130 million in revenue from the acquisition of Afterpay (allocated to Square and Cash App boards respectively based on 50%), the growth rate of Square's original business in this quarter is only 10%, while there was still over 20% growth in the previous two quarters.The decline in the growth rate of Square's segment is relatively greater than that of the growth-oriented vertical platform covered by Dolphin. Looking at the growth rate of business segments within the Square platform,

The largest contribution to transaction fee revenue this quarter is about USD 1.35 billion, a year-on-year increase of 12%. The slowdown in growth rate of 17% in the previous quarter was still reasonable. The volume-based business that commissions based on consumer payment amount basically follows the trend of the macro economy.
The subscription services business, including providing ERP/CRM services and funding loans to merchants, had a revenue of USD 236 million after excluding the impact of Afterpay's consolidation, with a year-on-year growth rate of only 3%, which is the culprit that dragged down the growth of the Square segment. Behind it, Dolphin thinks the most likely reason is the continuously rising interest rates and the decline in the ability and willingness of merchants to borrow as the economic prosperity declines, which not only failed to increase revenue of the second-curve business of borrowing, but also became a drag.
Sales revenue from selling payment hardware, which is a losing-business strategy to attract merchants, was USD 36 million, a slight decrease of 1% year-on-year. From this, we can infer that the number of newly registered merchants on the Square platform may have decreased.

For the company's payment revenue and subscription service revenue, the company also disclosed corresponding operating data, allowing us to better understand the actual operating situation behind revenue growth.

First, let us take a look at the situation of new merchant loans that may have caused the company's service revenue growth to plummet. As expected, the company issued new loans of USD 1.16 billion this quarter, and the year-on-year growth rate "breaks the knee" and drops to only 36.5%. This verifies that the willingness or ability of Square merchants to borrow has declined.

Specifically, the payment amount (GPV) completed by Square merchants' terminals was USD 49 billion, a year-on-year increase of 15%, which can be regarded as a relatively resilient growth. The C2B payment volume completed through Cash App also reached USD 4.4 billion, which also increased by 17%. Although the payment amount growth of the C-end App is higher than that of the merchant side, the leading margin is not high.

The company achieved a total payment amount of USD 53 billion this quarter, which is slightly less than the market's expected USD 55 billion.

And the average fee rate for payment business this season, calculated by dividing this season's payment revenue by the payment amount (GPV), remained steady at 2.8%. The good news is that it has not continued to decline, but overall it is still low. The reason behind it is that as the company's service to large and medium-sized merchants grows, merchants' bargaining power increases, and the company's payment fee rate will continue to decline in the medium term.

However, Dolphin Jun would like to emphasize once again that the growth of large and medium-sized merchants is not a bad thing for the company, but rather one of the company's key strategies. Large and medium-sized merchants can promote more GPV growth with fewer merchant numbers , and larger merchants with higher revenue scale are more likely to use Square's other value-added subscription services, promoting the company's non-payment revenue and gross profit growth.

Looking at the payment amount contributed by merchants of different sizes, the share of GPV contributed by large and medium-sized merchants with annual sales of over $500,000 has slightly decreased compared to the previous quarter. However, from historical experience, 4Q seems to have had this seasonal change, possibly due to the higher frequency of online and offline spending by residents during holidays. Overall, the contribution of large and medium-sized merchants' GPV is still on the rise.

3. Cash App business still has penetration logic and can break out of independent trends

Compared with the Square segment highly related to macroeconomic trends, in the immature digital payment market in the United States, the growth of personal mobile wallet Cash App for consumers is more driven by the logic of penetration rate improvement, so its sensitivity to the macroeconomic cycle is not that high, and it has the potential to achieve independent growth, and its performance this season has exceeded market expectations.

Excluding the Bitcoin trading business, the Cash App segment achieved revenue of $1.02 billion this season, exceeding the market expectation of $950 million. After further excluding the incremental revenue from Afterpay, Cash App's core business revenue growth rate is as high as 51%, and its disadvantage has accelerated for two consecutive quarters, which is gratifying. Specifically in terms of income types:

Fee income based on C2B payments within Cash App was $120 million, up 18% year-on-year. The growth rate of payment revenue on the Square merchant side is basically the same. That is, Cash App payments have not shown an increase in penetration rate, and 17% revenue growth is still quite low, indicating that the promotion of mobile wallets in the US C2B payment field is still progressing slowly.
A subscription service mainly based on joint bank card and instant withdrawal to bank account, with a revenue of 770 million yuan this season, excluding Afterpay and with a year-on-year growth of 53%, has become the main driving force for Cash App's monetization growth.

According to this season's Shareholder Letter, the gross profit contribution of the Cash App joint bank card (Cash App Card) for the full year 2022 reached US$750 million, an increase of 56% year-on-year. This can be said to be the main driving force behind the growth of the segment, contributing 26% of the gross profit of the Cash App segment as a whole.

Although this still reflects the higher status of bank cards in the minds of American residents compared to mobile wallets, the company has recently announced that it will continue to work with banks to launch various debit and credit cards for merchants, and to use Cash App Card as a means of making Cash App the first entry point for users to use banking services, rather than P2P transfers being the main feature.

In addition, according to data from third-party institutions, Cash App's new download volume and active user counts (including DAU and MAU metrics) both showed a noticeable downward trend in the fourth quarter. Among them, the new download volume has turned negative year-on-year, and the growth of active user counts has dropped from a level of over 30% in the third quarter to less than 10%. It can be seen that Cash App's traffic growth also has a slowing trend, and how to improve monetization in the future may be the company's focus.

Bitcoin and other businesses.

The revenue from Bitcoin business this season is US$1.83 billion, slightly higher than the market expectation by 3%. The absolute value of revenue has remained around US$1.7 billion for four consecutive quarters, indicating that the Bitcoin segment has stabilized after the volatility. Recently, with the signal of slowing inflation growth, digital currencies and other risky assets have also rebounded significantly in the past 2-3 months, with increased trading activity, promoting the company's revenue growth.

However, although the revenue scale of the Bitcoin segment seems huge, its actual proportion of the company's total gross profit is only 2%-3%, and its impact on the company's actual performance can be ignored. The Bitcoin business mainly plays a role in traffic generation and increasing user usage time, so compared to the performance of the segment, the activity of the cryptocurrency market is more worthy of attention.

Note: Bitcoin stock price chart, screenshot from CoinMarketCap

Finally, the company's newly acquired Buy Now Pay Later (BNPL) company Afterpay achieved revenue of 260 million yuan under the favorable seasonal trend of shopping and vacation, with a good increase on a month-on-month basis, but its performance on a year-on-year basis is hard to evaluate due to the lack of historical data.

However, like the significant slowdown in merchant lending growth within the Square sector, the market is currently not optimistic about the recent growth of BNPL companies. The reasons are similar: the ability of users to bear debt is declining, and the risks of default and regulatory compliance are rising.

At the same time, according to third-party data, Afterpay's active users have been shrinking year-on-year since the second quarter of 2022, after experiencing high growth for 21 years, due to the decline of the US consumption potential. According to media reports, the company is relatively cautious in promoting Afterpay, and is strict in approving and lending to new users. As long as users have overdue behavior, the company will permanently stop lending, to avoid a large number of bad debts seriously affecting the company's financial performance.

Meanwhile, the government is also upgrading its regulation of the BNPL model, and the Australian government is reportedly considering managing the BNPL model the same way as bank loans or credit cards. Therefore, with the downward pressure on the economic vitality of Europe and the United States, the medium-term growth prospects of the BNPL business as a consumer loan are probably not optimistic.

V. Gross profit continues to improve

Taking all of the above businesses into account, the company's total revenue for this quarter was 4.52 billion US dollars, an increase of 14% year-on-year. Due to the better-than-expected performance of the Cash App sector, the overall revenue slightly exceeded the market's expectation of 4.65 billion yuan. After excluding the Bitcoin income, which accounts for nearly half of the total income but does not contribute much profit, the most important core revenue is 2.82 billion yuan, an increase of 33% year-on-year, which is basically in line with the market expectations.

From the perspective of gross profit that the company is more concerned about, Block achieved a gross profit of USD 1.66 billion this quarter, a year-on-year increase of 40.5%. The gross profit margin also increased from 34.7% in the previous quarter to 35.7%. The company's gross profit growth exceeded the revenue growth rate and was 3% higher than expected.

Looking at the breakdown of the different segments:

Square realized a gross profit of RMB 800 million, slightly higher than the market expectation of RMB 790 million. Excluding the gross profit contribution from Afterpay, the comparable gross profit increased by 7% year-on-year, lower than the revenue growth. It is apparent that the gross profit margin of the original business of Square has decreased year-on-year, and the main reason is believed to be the poor performance of the high gross margin lending business.
Excluding the Bitcoin business, Cash App achieved a gross profit of USD 810 million, significantly higher than the market expectation of USD 750 million. The actual gross profit margin of Cash App (excluding BTC) this quarter was 79.5%, basically the same as the market expectation. Therefore, the source of the higher-than-expected performance mainly comes from higher revenue.
Although the revenue scale of the Bitcoin business is huge, the gross profit is very thin. The gross profit this quarter was USD 35 million, a decrease from the previous quarter and lower than the market expectation. However, the absolute value is small and has little impact on the overall performance.

VI. No Saving, No Profit

As the company's total revenue fluctuates greatly due to the impact of the Bitcoin business, the proportion of expenses to revenue is not very meaningful. Therefore, we mainly observe the year-on-year growth rate of expenses. Overall, while total revenue (excluding BTC) increased by 33% and total gross profit increased by 41% year-on-year, the company's total operating expenses this quarter were USD 1.79 billion, a year-on-year growth rate of 45%.

It can be seen that after the company's performance exceeded expectations and remained strong in the previous quarter, the management also stated that the future will be long-term growth with more balanced control of growth and expenses. Therefore, the expense growth this quarter was still significantly higher than the revenue and gross profit growth, resulting in poor performance for the company.

Looking at the breakdown, except for market and promotional expenses, which are still strictly controlled, the investment growth rate this quarter was only 11%. Both management expenses and R&D expenses have increased significantly, with a year-on-year growth rate of over 50% and an increasing growth rate. It can be seen that the company has been increasing its efforts in expenditure. Considering that the company is still promoting the integration of Afterpay and existing Square and Cash App, and continuously launching new functions, the R&D expenses have increased.In addition, it is worth noting that the company's bad debt losses this quarter have also reached 155 million yuan, an increase compared to the previous quarter, and given the macroeconomic environment, there is still an increase in bad debt risk.

Therefore, although the company's gross profit growth is good and stronger than expected, the expense management was not well-controlled, leading to a significant increase in GAAP operating losses to 135 million yuan, significantly higher than the market's expected loss of 84 million yuan. After excluding equity incentive expenses and other adjustments, the Non-GAAP operating profit calculated by Dolphin Jun has reached 181 million yuan, which is still a poor quarter compared with historical performance.

Long Bridge Dolphin Investment Research Block's Past Research:

Financial Report Review

November 4, 2022 conference call "Block: Increasing user revenue and wallet share is a top priority (3Q22 conference call transcript)"

November 4, 2022 financial report review "Customer borrowing and spending, Block spending extravagantly"

August 5, 2022 conference call "Block: Investment pace in the near future will slow down, but the determination to diversify long-term business remains unchanged (conference call transcript)"

August 5, 2022 financial report review "Block is still investing aggressively even when the money is slow to come in"

In-Depth Analysis

July 19, 2022 "Square's bubble needs to be squeezed as there is more promise than delivery"On June 21, 2022, "The Trillion-Dollar Choice of Payment: Square and PayPal, Who Will Come Out On Top" was published.

Risk Disclosure and Statement of this Article: Dolphin Research's Disclaimer and General Disclosure