Block, Inc. (filing issuer: Square, Inc.) — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Dollar figures below are U.S. dollars; financial-statement amounts are rounded from thousands. Results are unaudited.
Business context and reporting period
Square operated two ecosystems: Seller, offering payment processing, software, hardware and financial services to businesses; and Cash App, offering consumer payments and financial tools, including bitcoin and stock investing. Effective June 30, 2020, the company began reporting these as two segments. The quarter was significantly affected by COVID-19 restrictions, which pressured Seller activity, while Cash App and bitcoin-related activity grew.
Key financial metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Total net revenue | $1.924 billion | $1.174 billion | $3.305 billion | $2.134 billion |
| Gross profit | $596.8 million | $465.8 million | $1.135 billion | $862.6 million |
| Gross margin | 31.0% | 39.7% | 34.4% | 40.4% |
| Operating loss | $23.1 million | $0.8 million | $113.3 million | $22.9 million |
| Net loss | $11.5 million | $6.7 million | $117.4 million | $44.9 million |
| Adjusted EBITDA (non-GAAP) | $97.9 million | $105.3 million | $107.3 million | $167.0 million |
| Gross Payment Volume (GPV) | $22.8 billion | $26.8 billion | $48.5 billion | $49.4 billion |
Bitcoin revenue was $875.5 million in Q2, up 600%, and $1.182 billion for the first half, up 520%. Bitcoin costs rose almost in step, so this revenue added relatively little gross profit; bitcoin revenue is sensitive to customer demand and bitcoin prices. Subscription and services revenue grew 38% in Q2 and 37% in the first half, driven primarily by Cash App. Transaction revenue fell 12% in Q2, while first-half transaction revenue increased 1% despite GPV falling 2%.
Segment performance: Q2 Cash App revenue was $1.200 billion and gross profit was $281.1 million, compared with $260.5 million and $105.3 million, respectively, a year earlier. Seller revenue was $723.4 million, down 17%, and gross profit was $315.7 million, down 9%. Segment revenue and gross profit comparisons exclude Caviar, which was sold in 2019.
Cash flow: For the first half, operating cash flow was negative $151.8 million, versus positive $165.8 million in 2019; investing cash flow was negative $302.3 million, versus negative $95.8 million; and financing cash flow was positive $1.367 billion, versus negative $42.4 million. Cash, cash equivalents and restricted cash increased $907.5 million to $2.006 billion. Management attributed operating cash use in part to PPP lending retained in the portfolio, working-capital movements and the net loss.
Liquidity and debt: At June 30, cash, cash equivalents and restricted cash totaled $2.006 billion, with $1.161 billion of marketable debt securities. Management reported approximately $3.7 billion of available funds, including the undrawn $500 million revolving facility; cash, restricted cash and marketable securities alone totaled $3.167 billion. Long-term debt carrying value was $1.778 billion, representing convertible notes with $2.049 billion principal outstanding. The company also had $447.8 million of PPPLF advances, collateralized by PPP loans, at 0.35% interest. The revolving facility had no borrowings outstanding.
The company reported $7.812 billion of total assets, $5.886 billion of total liabilities and $1.926 billion of stockholders’ equity. Accumulated deficit was $627.7 million. Transaction and loan loss expense was $37.6 million in Q2 and $146.5 million for the first half, compared with $34.3 million and $62.1 million, respectively, in 2019.
Material changes versus the prior comparable period
- Q2 total revenue increased 64%, primarily because of sharply higher Cash App bitcoin revenue; gross profit rose 28%, but gross margin fell to 31.0% from 39.7% as bitcoin revenue carries high corresponding costs.
- Q2 GPV declined 15%, and Seller revenue declined 17%, reflecting COVID-19 closures and reduced commerce. The company reported improving Seller GPV trends from mid-April as restrictions eased and sellers shifted toward contactless and card-not-present sales.
- First-half transaction and loan loss expense more than doubled, reflecting COVID-related reserve estimates, although Q2 reserve revisions included better-than-expected realized transaction losses and improved loan-loss trends.
- Cash App marketing, product development and general and administrative costs increased. Adjusted EBITDA and adjusted EPS declined year over year in both Q2 and the first half, despite revenue growth.
- The company issued $1.0 billion of 2025 convertible notes in March and entered into a new $500 million revolving credit facility in May. It also began using PPPLF advances to fund PPP loans.
Outlook, commentary, risks and unusual items
- Management said the duration and severity of COVID-19 impacts were uncertain and expected the pandemic and economic disruption to have a material adverse effect on business, results, financial condition and cash flows. It anticipated reduced operating cash inflows and continued uncertainty in customer demand, reopening patterns and stimulus programs.
- Management stated available funds were sufficient for liquidity needs for the foreseeable future and working capital and planned capital expenditures for at least the next 12 months. It was evaluating investment pace and limiting certain discretionary spending. No quantified revenue, profit or GPV guidance was provided in the supplied filing text.
- Square facilitated approximately $873.4 million of PPP loans through a bank partner and sold $399.0 million to an investor. The company warned that documentation, eligibility, forgiveness, servicing and SBA guarantee requirements could expose it to losses, litigation, regulatory scrutiny or reputational harm. PPP loans held for sale had a reported carrying value of $465.5 million.
- Bitcoin revenue and associated costs are both volatile. Other material risks include seller failures and chargebacks, loan performance, reliance on third-party processors, cybersecurity and service interruptions, and extensive financial-services and privacy regulation. Two processors represented approximately 50% and 35% of settlements receivable at quarter-end.
- Texas tax authorities indicated they would assess $38 million, including interest and penalties, for a sales and use tax audit. The company disputed the position and said it would defend its treatment; additional exposure for later periods could be material. A July 2020 San Francisco tax settlement was described as not material to the June 30 statements.
- A $21.0 million gain from an observable price change in a non-marketable equity investment reduced other expense in the first half. Q2 net loss was also affected by higher operating expenses and interest expense. Share-based compensation was $173.5 million for the first half.
- Management reported disclosure controls and procedures were effective at a reasonable assurance level and that no material change in internal control over financial reporting was identified during the quarter.
Important facts for investors to verify
- Whether Seller GPV and revenue continued to recover after the quarter, and how reopening trends, stimulus and contactless commerce affected subsequent results.
- Cash App growth and gross profit excluding bitcoin revenue, and the extent to which bitcoin-related revenue growth translates into durable economics.
- Subsequent transaction and loan losses, chargebacks, seller insolvencies, and the performance and forgiveness of PPP loans securing the $447.8 million PPPLF advances.
- The status and potential financial consequences of the $38 million Texas tax assessment and other tax or legal contingencies.
- Debt conversion, repayment and dilution implications, including the company’s stated intention to settle future note conversions in shares and the terms of its hedge and warrant arrangements.
- Liquidity and operating cash generation, noting that reported liquidity includes restricted cash and securities, and that working-capital balances can fluctuate materially.
- Non-GAAP measures alongside GAAP results: the company identifies share-based compensation as a significant recurring expense and cautions that Adjusted EBITDA and adjusted EPS are supplemental, not substitutes for GAAP measures.