1 Reason to Invest in Block Today and 1 Reason to Stay Away
Block is making noise in the fintech arena.
Block (SQ -3.33%) shares have encountered plenty of turbulence in recent months. The company's pandemic-induced bull run lasted until late 2021 when Block's stock price reached almost $300 per share. Since then, shares of the fintech leader have plunged, leaving many investors to ponder whether or not they should buy Block stock today.
Block shares have tumbled 55% in the past year as part of a broader tech sell-off related to rising interest rates, inflation, and concerns involving Russia and Ukraine. The company's fundamentals remain strong, and its runway for growth is extremely promising. Many stocks have returned to earth after trading at all-time highs, making them more attractive investment opportunities than they once were.
Let's explore one reason for and against buying shares of Block at this time.
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Buy Block because of its robust runway for growth
It's hard to argue with Block's growth, both historical and projected. While investors shouldn't completely ignore Block's top line, they should primarily focus on gross profit. This is because Block's sales are significantly influenced by fluctuations in the price of Bitcoin (BTC -0.25%). In short, consumers can buy Bitcoin on Block's Cash App platform. Serving as the middleman, Block purchases Bitcoin from private brokers and applies a small margin before selling it to Cash App users. Hence, the company's Bitcoin revenue is greatly impacted by customer demand and the cryptocurrency's market price. This is why we should focus more on gross profit -- it's a better indicator of the company's financial health and overall stability. In 2021, Bitcoin revenue totaled more than 50% of sales. However, it only represented 5% of gross profit.
Now that I've explained that, let's talk about Block's spectacular growth. The company's gross profit grew 62% year over year in 2021, up to $4.42 billion. On the earnings front, Block's non-GAAP (adjusted) EPS ascended to $1.71, translating to a monstrous 104% increase from a year ago. If Wall Street's forecasts are accurate, we should expect to witness robust earnings expansion for Block in the coming years. Analysts are modeling an EPS of $4.22 in fiscal year 2025, indicating an average annualized growth of 22% from last year's figures.
Cash App continues to be the epicenter of Block's growth story. This past year, Cash App's gross profit increased 69% year over year, up to $2.1 billion. Initially designed to make peer-to-peer payments simpler, Cash App continues to evolve into a do-it-all financial platform. Block's Cash App ecosystem now competes with companies in debit and prepaid cards, stock trading, tax filings, digital wallets, and Bitcoin exchange spaces, among other areas. It's clear to me that Block intends to revolutionize the way people view and engage in the financial services industry. There's no question that the company is making its name heard either -- Block's growth has been remarkable, and all signs point to further success.
Don't buy Block because of its valuation
I like what Block is doing from an operational perspective, but its shares remain richly priced. According to Morningstar data, Block is trading at a price/earnings-to-growth (PEG) ratio of 3.28. Generally speaking, a PEG ratio above 1 denotes that a stock is overvalued, but it's not uncommon for high-growth companies like Block to carry higher multiples. Even so, when you compare Block's PEG ratio to peers like PayPal (PYPL 0.00%), Visa (V -0.33%), and Mastercard (MA 0.03%), the company appears quite expensive.
PayPal, Visa, and Mastercard carry PEG ratios of 1.12, 1.59, and 1.58, respectively. This averages out to 1.43, which is more than two times lower than Block's current PEG multiple. Don't rush into buying Block shares today. Sure, the stock is cheaper than it was six months ago, but it's still overvalued relative to close competitors.
What am I doing today?
I'm indifferent to Block as it stands today. The best investments often happen when we're able to acquire fundamentally sound businesses at low prices. Block meets the first half of that criteria, but its valuation is still lofty compared to industry peers. I think Block is a good business with tremendous upside, but I'm staying on the sidelines for now. If the time comes when Block's valuation is more aligned with its fundamentals, I'll certainly consider starting a position in the stock.