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Square Inc Has a Real Business, But It’s Not Bitcoin

Seriously, this bitcoin madness is getting out of hand. Every other micro cap is announcing that it’s adopting blockchain technology, so it can be called a bitcoin play and drive its stock up. If it isn’t that, mention the word “bitcoin” in conjunction with any company and watch the stock go to the moon.

So Square Inc (NYSE:SQ) mentioned a few weeks ago that it would allow users to pay with bitcoin to each other, and even buy and sell bitcoin. The stock surged. Yet, this is a ludicrous reason to buy Square stock.

Square is about financial services which, like energy, are wrapped into the DNA of human experience. Everything is transactional, and nowadays, much of it is electronic. Square has created a technological advance — a simple and effective transactional platform.

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So far, Square stock is up because shareholders like that its platform is being adopted at a rather quick pace, with gross payment volume more than doubling between 2014 and 2016 and continuing to grow at a double-digit pace.

There are several issues Square has to deal with, though, before I’d ever consider buying Square stock. It has competition which is well-entrenched and growing. Trying to compete on a budget against something like Paypal Holdings Inc (NASDAQ:PYPL), MasterPass from Mastercard Inc (NYSE:MA) or any of a dozen other platforms, is going to be challenging.

Still, revenues for Square stock are pretty good. In its last report, revenue increased 29% to $586 million. Gross profit increased by 44% to $219 million.

The other issue, though, is that Square stock is more capital-constrained than its bigger peers. The expense side of the equation is really difficult to handle because development is expensive and so is keeping up with technology, not to mention marketing.

The good news is that operating losses are declining, and SQ is getting closer to delivering break-even results. After nine months in 2016, Square was running a $150 million loss, but that’s been cut to just $40 million.

As I previously mentioned in another article, I’m particularly interested in Square’s business in lending money to businesses. Specifically, if a merchant has enough history, Square will consider acting as a lender to the business.

These are essentially merchant cash advances that carry a very attractive interest rate, but which Square instead sells off to a third-party bank. Thus, they give up the big upside in exchange for incremental revenue but remove risk from the deal.

It is not, however, quite clear to me how Square can generate almost $20 million in losses from this division unless it does, in fact, take on some kind of risk. I think Square has something here, but it needs to rejigger its underwriting and third-party bank deal.

Bottom Line on Square Stock

So, forget the bitcoin nonsense. This hysteria will blow over, and it’s not the business that will drive Square stock. For me, the way to handle SQ stock is to wait for the inevitable market meltdown and buy a small position. I do not see Square as having a very long lifespan independently. I am sure one of the big processors or banks will buy them out.

Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance, and is the Manager of The Liberty Portfolio at www.thelibertyportfolio.com. He does not own any stock mentioned. He has 23 years’ experience in the stock market and has written more than 1,800 articles on investing. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.

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