Square, Inc. (Block, Inc. per request metadata) — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. Unaudited results; amounts below are USD unless noted. The filing registrant was Square, Inc.
Business context
Square provided managed payment processing and seller tools, hardware, Square Capital lending, and Cash App financial services, including bitcoin trading. The company reported one operating and reportable segment. In July it agreed to sell Caviar; the sale closed October 31, 2019, after quarter-end, for $410 million gross proceeds: $310 million cash and $100 million DoorDash preferred stock, subject to contractual adjustments.
Financial results and liquidity
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net revenue | $1,266.5m | $882.1m | $3,400.1m | $2,365.6m |
| Gross profit | $500.0m | $352.7m | $1,362.6m | $923.6m |
| Operating income (loss) | $32.1m | ($9.9m) | $9.2m | ($33.5m) |
| Net income (loss) | $29.4m | $19.6m | ($15.5m) | ($10.2m) |
| Adjusted EBITDA (non-GAAP) | $131.3m | $71.0m | $298.3m | $175.2m |
Q3 gross margin was approximately 39.5%, versus 40.0% a year earlier; nine-month gross margin was approximately 40.1%, versus 39.0%. Bitcoin revenue is reported gross, with nearly corresponding bitcoin costs, so headline revenue growth is not equivalent to growth in net economics. Q3 diluted GAAP EPS was $0.06; nine-month diluted loss per share was $0.04. Adjusted diluted EPS (non-GAAP) was $0.25 for Q3 and $0.57 for nine months.
- Revenue drivers: Q3 revenue rose 44% year over year. Transaction-based revenue increased 25%, alongside 25% GPV growth to $28.2 billion. Subscription and services revenue grew 68%; bitcoin revenue grew 245%, partly reflecting launch timing and increased customer demand. Larger sellers contributed 55% of Q3 GPV, versus 52% a year earlier.
- Cash flow: Nine-month operating cash flow was $404.6m, versus $118.7m; investing cash outflow was $296.7m, versus $775.3m; financing cash outflow was $86.2m, compared with $690.7m of inflow. Cash, cash equivalents and restricted cash ended at $653.9m.
- Liquidity and debt: Cash, cash equivalents and marketable debt securities totaled $1.734bn, excluding restricted cash; including restricted cash, the filing’s summary gives $1.776bn. Convertible notes had $1.074bn aggregate principal outstanding ($928.9m net carrying value), due in 2022 and 2023. The $375m revolving facility was undrawn and fully available; the company reported covenant compliance.
- Balance sheet: Total assets were $4.001bn and total liabilities $2.751bn at September 30. Customers payable was $1.268bn, primarily reflecting customer funds and payment-settlement obligations.
Material changes and unusual items
- Revenue increased 44% year over year in both the quarter and nine-month period. Growth reflected GPV expansion, Cash App, Square Capital, seller Instant Deposit, and, for the nine-month comparison, the Weebly and Zesty acquisitions.
- Operating expenses rose 29% in Q3 and 41% for nine months. Nine-month share-based compensation was $218.0m, up from $157.9m. Transaction, loan and advance losses increased 49% for nine months to $94.8m, including higher losses associated with a growing and aging loan portfolio and new loan products.
- Other expense/income was affected by Eventbrite investment revaluation: a $16.5m loss for nine months in 2019 versus a $36.9m gain in 2018. This contributed to the nine-month net loss.
- The company adopted lease accounting guidance on January 1, 2019, recognizing operating lease right-of-use assets and liabilities; it also derecognized a $149m build-to-suit asset and liability. New Oakland and St. Louis office leases are expected to commence in 2020.
- Adjusted Revenue, a non-GAAP measure, was $602.2m for Q3, but the company said Q3 would be its final reporting period for this measure following SEC staff communications.
Outlook, risks and contingencies
Management said existing cash, investments and available credit were expected to meet working-capital needs and planned capital expenditures for at least the next 12 months. The filing provided no quantified revenue or earnings guidance. Management noted continuing investment in products, personnel and growth, and cautioned that interim results are not necessarily indicative of full-year results.
- Tax dispute: Square contested San Francisco’s classification of its business for gross-receipts and payroll tax purposes. It estimated potential additional taxes, interest and penalties of approximately $0–$56m for 2016–2018 and the first nine months of 2019, with further future exposure possible. No reserve was recorded for this dispute. A tax deficiency notice for 2016–2017 was received October 16, 2019.
- Caviar-related matters: The company agreed to indemnify DoorDash for certain liabilities, including specified litigation. Courier misclassification cases were ongoing; potential liability was not reliably estimable.
- Operational and financial risks: Key disclosed exposures include payment processor concentration, fraud and chargebacks, loan credit and funding risks, cybersecurity and privacy, regulation of financial and bitcoin services, competition, and dependence on third-party processors and suppliers. Hardware tariffs on China imports were already pressuring margins.
- Convertible notes: The 2022 Notes were convertible during Q4 2019 under the stock-price test. The company expected to settle future conversions in shares, but repayment, repurchase or cash settlement could require significant liquidity depending on circumstances.
- Controls: Management concluded disclosure controls were effective at a reasonable assurance level; no material change to internal control over financial reporting was identified during the quarter.
Investor verification priorities
- Assess underlying growth and profitability using GPV, gross profit and cash flow alongside headline revenue, particularly given bitcoin’s high-volume, low-margin presentation.
- Track loan and transaction losses, loan-sale funding and investor demand, and whether loss growth outpaces the portfolio.
- Confirm the Caviar sale proceeds, preferred-stock value and any contractual adjustments, indemnities or post-sale revenue and cost effects.
- Monitor the San Francisco tax litigation and potential $0–$56m exposure, plus any subsequent assessment or reserve.
- Review note conversion, dilution and maturity obligations, the 2022 Notes’ conversion status, and the company’s share-settlement policy.
- Compare non-GAAP Adjusted EBITDA and Adjusted EPS with GAAP results, considering recurring share-based compensation and other excluded costs.