The Block Inc CDI (ASX: SQ2) share price has been pummelled this year, alongside many other ASX tech shares.
Since hitting the ASX boards in January, Block has seen its share price almost cut in half. Shares last changed hands at $89.60 apiece, tumbling 49% in the year to date.
But amidst the volatility, here are a few reasons why I'm still holding onto my Block shares as a long-term play.
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A powerful two-sided network
Block's core business centres on two separate but interrelated ecosystems: the seller ecosystem and the Cash App.
The seller ecosystem, also known as Square, is where it all started. And it's what the company is best known for in Australia.
Here, Square provides an integrated suite of hardware, software, and services that help merchants run their businesses across physical and digital channels. Square's bread and butter is point-of-sales and payment processing. But it also offers a range of complementary, sticky subscription services, including payroll, inventory, loyalty programs, invoicing, rostering, and online.
Alongside Square sits the dominant Cash App, which is currently only available in the US and the UK. Cash App started as a peer-to-peer payments platform that allows users to quickly send and receive money. But, primarily in the US, it's since expanded into stock trading, Bitcoin trading, debit cards, and direct deposits.
Both of these ecosystems have significant cross-selling opportunities. Meanwhile, Cash App, in particular, boasts strong network effects. The virality of Cash App saw it become the eighth most downloaded app in the US in 2021, contributing to customer acquisition costs of just $10.
Block's seller and consumer ecosystems are powerful in their own right. But they could be even more powerful together, with the potential for a closed-loop system where money travels back and forth between Square merchants and Cash App users.
Nevertheless, a strong presence on both sides of the network – buyers and sellers – creates plenty of opportunities for Block to take an even bigger bite out of the growing commerce pie.
Moving upmarket
Square initially targeted small businesses, a segment of the market that typically wasn't served by the big banks.
Recognising the company's success, Jamie Dimon, CEO of America's largest bank JPMorgan Chase (NYSE: JPM), once commented: "Square innovated where we should have".
With a mission of enabling small businesses to accept card payments, it created a square-shaped card reader that plugged straight into a smartphone's headphone jack. These readers landed in customers' hands in 2010.
As we know, in the years that followed, Square has developed several other card readers, along with a suite of complementary software and solutions to meet its customers' every need.
After resonating with small business owners, Square now has its sights set on moving upstream. It's trying to gain traction among larger businesses, which have lower churn and rake in higher payment volumes.
With this, its fastest-growing cohort is what Square calls 'mid-market sellers'. These are merchants with annualised gross payment volume (GPV) greater than US$500,000. In the most recent set of second-quarter 2022 results, gross profit from these sellers grew 24% year on year to made up 39% of the GPV mix. This is up from 35% in 2Q21 and 27% in 2Q20.
Importantly, mid-market sellers typically use more of Square's products, developing deeper relationships with the payments company. In 2021, 38% of Square's gross profit came from sellers using four or more products. This was up from 10% five years ago.
To top it all off, Block boasts positive dollar-based net retention across its historical annual cohorts for both Square and Cash App. In other words, Block is not only retaining customers but these customers are also engaging and spending more over time.
Flourishing market opportunity
Block believes its seller ecosystem represents a US$120 billion-plus gross profit opportunity. Meanwhile, Cash App adds a further US$70 billion-plus to the company's total addressable market (TAM) in the US alone.
The company's penetration rates are in the low single digits for both ecosystems, leaving a tremendous runway to grow.
As investors, we learn to dismiss management's often highly optimistic (and sometimes, very promotional) addressable market figures.
But there's no denying that the global payments industry is one of the most lucrative spots to be in. And Block already has a strong foothold to carve out more market share at the expense of incumbents.
What's more, Block has consistently expanded its addressable market over time by rolling out new solutions, opening up new verticals, and growing upmarket.
But another key growth lever is global expansion, particularly for the Square ecosystem.
In the second quarter of 2021, just 8% of Square's gross profit came from outside of the US. After entering new regions and rolling out more products in its existing international markets, this figure dialled up to 13% in the most recent quarter of 2Q22.
The runway for growth here is substantial, given that Square only operates in eight countries outside of the US, three of which came online in 2021 or 2022. In fact, Australia currently holds the crown as Square's largest international market after the company ventured down under in 2016.
Bottom line
In my view, Block shares are a high-risk, high-reward proposition packed full of optionality and compelling growth drivers. But there are notable risks to be mindful of.
Increasingly fierce competition could threaten Block's growth avenues, the company's exposure to Bitcoin adds another dimension to the investment case, and there's no guarantee that its success in the US will be replicated internationally at scale.
In saying this, the company has a tremendous opportunity at its feet in an industry where multiple players can win. With a history of innovation and an established two-sided network, I think Block is uniquely placed to capitalise on secular tailwinds and grow its presence in a booming market.
