Block: What Investors Need To Watch In Q2 2022 Earnings (NYSE:SQ)

Elevator Pitch

I rate Block, Inc.’s (NYSE:SQ) stock as a Hold. In my prior update for SQ written on March 11, 2022, I touched on Block’s outlook for the next decade. I do a preview of SQ’s upcoming Q2 2022 financial results with this latest article.

Investors need to watch consumer-related metrics, the sell-side’s consensus numbers, and the company management’s comments at the prior quarterly earnings call to do a preview of Block’s upcoming results. I come to the conclusion that the expectations for Block’s Q2 2022 earnings are muted, implying a low probability of a negative surprise for SQ when it reports results later this week.

But SQ’s Q2 2022 results should still be poor, as evidenced by expectations of declines in both its top line and bottom line for the coming quarter. On the other hand, Block still boasts significant potential for growth in the long run, as seen with its Total Addressable Market or TAM projections revealed at its Investor Day in May. As such, I think that Block is a Hold, rather than an outright Buy or Sell.

Date Of Announcement For Block’s Upcoming Earnings

Block previously disclosed in a press release dated July 5, 2022 that the company will announce its earnings for the second quarter of 2022 on August 4, 2022 after trading hours.

What To Expect From SQ Earnings

Q2 2022 should be a tough quarter for SQ.

The Wall Street analysts’ consensus financial projections point to Block’s revenue declining by -7.4% YoY from $4,681 million in the second quarter of 2021 to $4,335 million in Q2 2022 as per S&P Capital IQ data. Assuming that the sell-side analysts are right, Q2 2022 will represent the second consecutive quarter of YoY top line contraction for SQ.

The expectations of lower sales on a YoY basis for SQ in Q2 2022 are reasonable, taking into account metrics relating to consumer spending and consumer confidence. A July 28, 2022 Reuters article noted that the growth in US “consumer spending” for the second quarter of 2022 was “at its slowest pace in two years.” A Seeking Alpha News article published earlier on July 26, 2022 highlighted that US consumer confidence has declined for three straight months running between May 2022 and July 2022.

Given that the users of Block’s Cash App in general tend to be younger and less well-off, the company’s top line is more likely to be adversely affected by weaker consumer confidence and a reduction in consumer spending.

Block is also expected to deliver weaker profitability for the upcoming quarter. As per consensus estimates obtained from S&P Capital IQ, SQ’s EBITDA is forecasted to fall by -62.0% YoY to $137 million in the second quarter of the current year. Similarly, Block’s non-GAAP adjusted earnings per share or EPS is estimated to drop by -75.7% YoY to $0.16 in Q2 2022.

The expected sharp decline in the operating profit and the bottom line for SQ in the upcoming quarter isn’t a surprise. Costs relating to the integration of Afterpay (acquisition of Australian BNPL company completed at the end of January) and continued investments to sustain long-term growth are expected to dampen Block’s profitability in the second quarter.

Block had previously guided at its Q1 2022 investor briefing on May 5, 2022 that its total non-GAAP operating costs will increase by +$245 million QoQ in Q2 2022, of which the +$65 million QoQ growth is attributable to Afterpay. Notably, SQ had mentioned at the first-quarter earnings call that it expects its operating costs to rise by $1.2 billion YoY (or +35%) for full-year FY 2022, excluding the impact from Afterpay. This indicates that Block will continue to prioritize growth over profitability in the foreseeable future.

Block’s Q2 Earnings Should Still Meet Expectations

There shouldn’t be any significant earnings miss or negative surprises associated with Block’s upcoming Q2 2022 earnings, as investors’ expectations for the stock have been sufficiently lowered.

In the past three months, SQ’s Q2 2022 consensus non-GAAP adjusted EPS has already been cut by a hefty -43.4%. During this period, 21 of the 47 sell-side analysts have reduced their respective second-quarter bottom line projections for Block.

Separately, Block’s shares have fallen by -71.4% in the past one year, as compared to a much milder -6.3% pullback for the S&P 500. Based on valuation data obtained from S&P Capital IQ, Block trades at an undemanding consensus forward next twelve months’ Enterprise Value-to-Revenue multiple of 2.4 times now.

In a nutshell, SQ’s Q2 2022 financial results are expected to be poor. But the market’s expectations are low as evidenced by the revisions to Block’s consensus numbers and its current valuations, so a substantial sell-down in SQ’s shares post-Q2 results announcement is unlikely.

SQ’s Long-Term Growth Potential

Block is facing substantial challenges in the near term. The company’s financial performance is inevitably impacted by weak consumer spending in the current economic environment. SQ also needs to continue investing for future growth which will hurt its short-term profitability, at a time when investors are favoring companies generating steady and consistent earnings.

However, if one focuses on the long term, SQ does have an attractive growth profile. At its earlier 2022 Investor Day held on May 18, 2022, Block shared that its estimate of the company’s total TAM (in terms of gross profit) is approximately $190 billion.

Based on SQ’s actual FY 2021 gross profit of $4.4 billion, Block’s penetration of its overall addressable market is under 3%. Specifically, only about 4% of baby boomers in the US are active users of the Cash App; while its Square business (formerly referred to as the Seller business) has yet to achieve a 1% penetration of the mid-market seller segment.

Closing Thoughts For Block

Block is a Hold. On the negative side of things, SQ’s Q2 2022 financial results won’t be pretty, with both its revenue and earnings forecasted to contract on a YoY basis in the upcoming quarter. On the positive side of things, Block’s poor near-term outlook has been priced into its valuations, while its positive long-term growth prospects remain intact.