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Is Block Stock Undervalued?

Consumer reliance on digital products has been a constant theme of the coronavirus pandemic. Corporations are increasingly using e-signature platforms offered by DocuSign or Adobe, while videoconferencing tools offered by companies like Zoom Communications have facilitated communication in a stay-at-home environment. Also comprising the ever-growing digital web are financial services like payments and investing.

Despite robust revenue growth and impressive suite of products, Block (NYSE: SQ) stock is down roughly 26% over the last month. Although the stock is already experiencing some valuation compression as technology stocks enter correction territory, some investors may still be wary of the investments that Block has made over the last 12 months. Let's dig in and find out if Block is building the foundation to a leading payments platform.

Let's piece it together

In December of last year, digital-payments company Square rebranded as Block. This may have occurred because the company benefited greatly from the rising enthusiasm of crypto during the pandemic. Block generated less than $1 million in Bitcoin revenue in 2019, which surged to $4.6 billion in 2020. Through the first nine months of 2021, Bitcoin revenue has continued to gain steam as the company generated $8.1 billion in Bitcoin revenue. It might be reasonable for investors to have assumed that the rebrand to Block was a nod to crypto and the blockchain technology on which it operates.

As per the company's own press release, the rebrand to Block was not specifically focused on one asset or technology. The Square brand was synonymous with the company's seller business, which was primarily focused on facilitating e-commerce for small- and medium-sized businesses with an integrated product suite of commerce solutions, business software, and banking services. Over the last few years, the company has introduced a number of new products such as its peer-to-peer payments-platform Cash App, as well as the acquisition of music-streaming service Tidal and buy now, pay later (BNPL) innovator Afterpay.

The rebrand to Block is not only a nod to crypto, but also to the company's growth. CEO Jack Dorsey and his leadership team have made a number of strategic investments that are serving as the foundational building blocks to create an impenetrable fintech leader.

Image source: Getty Images.

Disrupting the financial-services ecosystem

The financial-services industry is becoming more fragmented because many traditional banks and incumbent providers lack a broad suite of services or don't move at the velocity that consumers demand in a digital world. This dynamic is causing a shift in how people and businesses conduct and process commerce. Block has kept a keen eye on the needs of consumers and has invested heavily in enhanced product features in an effort to win market share.

One of the most lucrative drivers of growth for Block in recent years is the advent of Cash App. While competing service Venmo, which is owned by Paypal, provides users a social-friendly way to engage in peer-to-peer payments, Block developed Cash App's functionality beyond this. Cash App users can set up direct-deposit payments, purchase Bitcoin, and trade stocks.

These product developments have expanded Block's total addressable market and helped the company appeal to a demographic beyond small businesses. The company is doubling down on its efforts to differentiate its platform, and is using acquisitions to do so. Through its addition of Tidal, the company launched a new membership tier that will send and process payments to artists. This is beneficial for Block as it will generate revenue from processing fees, as well as attract a new demographic of users that are interested in supporting artists onto the Cash App platform where it can cross-sell other features.

The addition of Afterpay to its ecosystem is another logical move. Buy now, pay later is essentially an alternative to a credit card and has risen in popularity during the pandemic, fueled by a boom in online shopping.

Keep an eye on valuation

While many growth stocks and technology companies fell from intra-year highs during the final months of 2021, many of the underlying factors causing this valuation compression were influenced by near-term economic concerns over inflation and potentially rising interest rates. For a company like Block, inflation concerns could lead to consumers holding onto cash longer and forgoing purchases or investments. Should this be the case, Block's near-term upside would be limited.

It's important to keep your eyes on the bigger picture. As of the time of this writing, Block trades for less than six times its trailing-12-month sales. For context, buy now, pay later competitor Affirm trades at 33 times sales, while Paypal trades at nine times sales. Given her bullish stance on the cryptoeconomy and the impressive performance of Cash App, it may not be surprising that famed tech investor Cathie Wood has been going bargain hunting, buying the dip in Block after it hit a new 52-week low in early January.

What are the fundamentals saying?

Block's ecosystem offers consumers greater functionality compared to competition like Affirm, and the company is growing revenue at a faster pace than PayPal. However, Block is hovering near a low and trading at a considerable discount compared to its competition. While near-term concerns around the impacts of inflation and consumer spending on Block's business have merit, the company has been quietly engineering a fintech behemoth built for long-term success.

Given the company's increasing revenue growth and vision to build a one-stop shop super-app, Block's ecosystem is quickly becoming more robust than its competitors. It may be fair to say that Block has fallen to a bottom and is a good buy at this valuation.

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The Motley Fool owns and recommends Affirm Holdings, Inc., Afterpay Limited, Bitcoin, Block, Inc., DocuSign, PayPal Holdings, and Zoom Video Communications. Adam Spatacco owns shares of Block and Bitcoin. The Motley Fool recommends Adobe Inc. and recommends the following options: long January 2022 $75 calls on PayPal Holdings. The Motley Fool has a disclosure policy.


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