Block Q4 2022: Strong on financial discipline, doesn’t mention Bitcoin

Announcing Blocks’s Q4 2022 results, Jack Dorsey wanted to look serious about making money. With a stock price down two thirds since its pandemic peak, Block’s founder and CEO didn’t mention Bitcoin once. Instead, he told investors that he was making financial discipline the cornerstone of the company’s strategy. Going into 2023, he explained “each of our ecosystems must show a believable path to gross profit retention of over 100% and Rule of 40 on adjusted operating income.”  

The profit retention target requires each cohort of customers to generate more profit than the previous year. Dorsey said: “In the simplest terms, it means that our customers find value in our offerings and want to stick with us.” Cashapp and Square both met this test in 2022 but the mere fact of measuring cohorts is something that other payment companies, especially the unicorns, could learn from.

The second new test, the rule of 40, is a common yardstick used by software businesses. It states that the sum of profit margin and revenue growth should be greater than 40% and is said to encourage a focus on growing profitable revenue. Profit, of course, is a matter of opinion, so it’s to Dorsey’s credit that he’s going to define this measure based on operating income not EBITDA. This is welcome recognition that employee stock compensation and depreciation/amortisation are costs to the stockholders even if they are not cash costs to the business. In 2022, this measure was 23% when excluding the one-off boost from the Afterpay acquisition. Management will now need to focus on growing both top and bottom lines..

Cost control will be getting close attention. Although it hasn’t made layoffs, Block has slowed the pace of hiring. It expects to increase headcount 10% in 2023 compared with 46% growth in 2022. Sales and marketing expense will moderate to 5%-10% growth compared to 25%. 

Square, Block’s original proposition is the area which most interests us at Business of Payments, and continues to outperform traditional payment processors. But the years of explosive growth are gone, not least because of Square’s focus on Main Street SMBs. As a result, Square seems to be making relatively slow progress in eCommerce. Square gross payment volume (GPV) was up 14% to $49bn in Q4 2022. Card present was up 17% and “card not present” grew just 9%. Management called out “moderation in the GPV growth rates for discretionary verticals in the U.S. beginning in November, primarily for food and drink and retail.”

Plans to verticalize Square seem to be progressing nicely. CFO Amrita Ahuja revealed that Square is in the early stages of building out a software-led-with-embedded-financial-services sales team” with a focus on restaurants, retail and services. Only a minority of merchants now use the simple Square card reader. Most adopt more sophisticated tools. Ahuja explained “software plus integrated payments have become the significant portion of the Square business, 75% of Square’s gross profit.”

44% of Square profit comes from merchants taking four or more products compared to 29% three years ago. Mid-market sellers (>$500K GPV) with four or more products have 15x greater retention than those with just one which also helps the cohort profit retention target that Block is now highlighting. Square sees $500K-$10m GPV as the sweet spot and makes up half of its US addressable market. 

In contrast to the steepling growth seen when the proposition launched in the USA, international expansion of Square has been a more modest affair. Non-US GPV grew 23% in Q4 (or 39% at constant currencies) with profits growing the same percentage to $83m, excluding BNPL. The international business is steady at 10% of total Square gross profits.

Square aims for product parity across its international markets and has introduced Square for Retail and Square Appointments in Australia, and Square Appointments in Ireland. During 2022, Square originated $400m of small business loans in its international markets and claims that loss rates are similar to the US.

Square’s other business is Cashapp and it’s turning into a monster. With 51m monthly active users, it now makes as much gross profit as Square and has no less than five revenue streams with more than $100m gross profit: Instant deposit, Cashapp card, business accounts, Cashapp Borrow and Bitcoin. 

It’s understandable that Dorsey doesn’t want to talk much about crypto. Block’s Bitcoin revenue was down 29% in 2022 although the business seems to have stablised. Q4 revenue was down just 7% at $1.8bn. Buying and selling Bitcoin is a low margin operation. That $1.8bn revenue line generated just $35m gross profit at 2% margins. The total value of Bitcoin held by Block on behalf of its customers fell from $1.1bn to $428m from Dec 21 to Dec 22.

Despite changing the name of the company from Square to Block in recognition of its high state of excitement about decentralised finance, management didn’t mention Bitcoin once the investor call and none of the analysts asked about it. The $220m Bitcoin that Block purchased “for investment purposes” has been written down to $102m. But Dorsey is not giving up. Block recently led an investment round in a Kenyan Bitcoin miner.  

Block warns of investment slowdown

Block shrugged off the crypto meltdown with better-than-expected Q3 results but is not immune to the tech slowdown and announced that 2022 investment would be $519m less than originally planned. There are more cuts to come. 

Heading into 2023, Amrita Ahuja, CFO said “We’re focused on operating more efficiently, and we expect to slow our pace of expense growth… we expect to significantly moderate our pace of hiring … we intend on pulling back on lower ROI, more experimental areas, including brand and awareness spend across both our Square and Cash App ecosystems.”

The company is now genuinely a business of two halves. Cash App, a wallet and financial ecosystem, has proved very popular in the US and is generating as much profit as the original Square merchant business. 

Block sees After Pay (the Australian BNPL provider acquired for $29bn) as the bridge between the consumer facing Cash App and the merchant-facing Square. Connecting the ecosystems will be complicated and management admits it is “early in our evolution of Cash App as a shopping destination…. This is a multi-year journey.” There are signs that Jack Dorsey could build the super-app that Elon Musk has been dreaming about but After Pay’s financial performance has been modest so far – GAAP revenue up 6% and gross profit down 3% in Q3. Block will stop breaking out BNPL financials after the anniversary of the purchase which might be a wise move.

At Square, gross payment volume (GPV) was up 20% to $50bn, US growth was 17% but the emerging international business grew at 40% or 55% at constant currency. This indicates that international payment volume was c.$5bn in Q3 or around 10% of total. Amrita Ahuja, CFO said “Australia and Canada remain strong while we saw a macro related slowdown in the UK.” The UK comment is consistent with feedback from other processors including FIS. 

Profit from international operations grew to $121m, up 40% excluding the maiden contribution from After Pay.

Recognising that the rest of the world is not like the US, Square will now focus “on improving product parity in both new and existing markets.” For example, it will now process QR payments in Japan (PayPay). It has launched After Pay (called Clear Pay) in the UK at a very chunky merchant fee of 6% plus 30p per transaction. 

While many competitors are focused solely on partnering with POS software vendors, Square has written its own products for three vertical markets – retail, restaurants and appointments. Profit from these solutions was up 45% in Q3 compared to a year earlier. CEO Jack Dorsey said Square’s freemium model “gives a more accessible offering to sellers has improved our top of funnel and provided a strong path to monetization.”

Square is one of the first partners of Apple to launch Tap to Pay (softpos) on iPhones. This eliminates the need for a payment terminal although as a Square Reader is just $49, it’s only the very smallest business that will notice the cost saving. No data was disclosed about Tap to Pay’s performance.

As its business matures, Square is steadily moving upmarket. Merchants processing more than $500K annually now account for 40% of volume with an annual growth rate of 45%. Dorsey puts this down to Square’s developer platform “which plays a significant role in allowing us to scale our ecosystem” and allows it to integrate processing with 3rd party POS software vendors. Dorsey highlighted an auto dealership in Colorado with 12 locations which used Square’s Terminal API and went live with new locations in 2 hours compared with six days for its previous supplier.

12% of Block’s profits from international operations

Much commentary on Block’s Q2 2022 results focused on its quixotic Bitcoin strategy but there was also news of its steady progress upmarket and away from reliance on the US.  

International gross payment volume (GPV) processed grew 45% compared with 22% in the US, with revenue up 78% to $257m. International gross profit doubled to $98m including a maiden contribution from BNPL and now accounts for 12% of the global total. Excluding BNPL, international gross margin grew 40% to $67m.

Product launches continue apace, as you’d expect from a business spending an eye-popping $512m on product development in the quarter. Block launched 44 products “across our international markets in the first half of 2022 making significant progress on closing product parity gaps while also launching new markets.” This included Square Register in Ireland and Square for Retail in France and Spain. 

The proportion of GPV from larger merchants (across all geographies) continues to grow and almost 40% is now accounted for by those processing over $500K per annum.  

Meanwhile, in filings at Companies House, Block revealed that UK revenue rose by 110% in 2021 to £25.1m. Square Loans – a merchant cash advance product in which repayments are scaled to a proportion of card payments received –  will be launched in 2022/3.