Since going public last November, Square (NYSE:SQ) has traded in a rather small range for a volatile stock in the rapidly shifting mobile payments market. In fact, the stock has mostly traded within the range of the first trading day.
Unlike the other hot private stocks in the prior years, Square came public reasonably priced. The IPO pricing of $9 per share instantly set what has mostly held as the floor for the stock. Though, the amount of diluted shares outstanding has worked to constrain any rallies in the stock.
The quarterly results for Q2 were again strong in comparison to estimates. The company continues to lose money, but the market is starting to better understand the adjusted revenues metric. This revenue metric that excludes the Starbucks (NASDAQ:SBUX) revenues and transactions costs surged over 50%.
A big aid to the growth in the company is the ability of the management team to expand the total addressable market. Square has gone from a mobile payments provider of the small mom and pop businesses to one moving up the chain into businesses with in excess of $500,000 in annual gross payment volumes.
Source: Square Q216 shareholder letter
At the same time, Square has found a way to provide working capital to businesses the company helps process payments. The transactional insight into the business makes the loans lower risk.
The ability to capture new business opportunities is why investing in a management team is sometimes more crucial than the original business concept.
The biggest hiccup to the investment thesis remains the massive diluted share count. Square listed 334 million shares outstanding with the Q2 report. The company listed the following amount with the last 10-Q.
Source: Square Q116 10-Q
The nearly 124 million shares not listed in diluted share counts since the company isn't profitable is a massive hidden impact to future earnings. Square actually has the potential for over 450 million diluted shares outstanding. The end result is a stock worth closer to $5.0 billion and not the listed $3.9 billion.
The confusing share counts and adjusted revenues are most visible in the following P/S ratio chart. A lot of the market data picks up the total revenues that include transaction costs and Starbucks revenue that is going away soon. At the same time, the crucial market valuation isn't pulling in the true value that includes an incredible amount of stock options.
Using the high-end guidance for adjusted revenues of $670 million combined with the fully diluted market valuation of $4.95 billion, Square actually trades for roughly 7.4x projected sales forecasts.
The key investor takeaway is to keep an eye on the true share count and market valuation. For this reason, Square is difficult to chase. The stock looks appealing on a dip back to $10.50 to close the gap from surge following the earnings report.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in SQ over the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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