Squarespace Stock: Watch Potential M&A And New Business Formation

Elevator Pitch

I rate Squarespace, Inc. (NYSE:SQSP) stock as a Hold.

This is an update of my initiation article for Squarespace published previously on September 27, 2021. SQSP’s shares have fallen by -31% year-to-date, as investors have become increasingly worried about a slowdown in new business formation which will affect the company’s short-term business outlook. However, Squarespace’s stock did outperform the S&P 500 in the past month, because the market was excited about the potential of SQSP becoming a takeover target. In summary, I have a neutral view of Squarespace’s prospects, taking into account both M&A potential and headwinds relating to fewer new business applications.

Potential Mergers & Acquisitions

Investors are considering the possibility of SQSP either being acquired or acquiring other companies in the current market environment.

In the past one month, Squarespace’s shares have outperformed the broader market. SQSP’s stock price declined by -4% in the last month, which was relatively better the S&P 500’s -9% drop in the same time period. This was largely driven by news flow relating to one of Squarespace’s peers.

Seeking Alpha News reported on September 19, 2022, that “activist investor Starboard Value is said to have taken a 9% stake in Wix.com (WIX).” Bank of America’s (BAC) sell-side analyst thinks that Starboard, which also has a 5% shareholdings interest in GoDaddy (GDDY), wants to “push for industry consolidation”, according to another September 20, 2022 Seeking Alpha News article.

Notably, SQSP’s share price jumped by +6% from $20.98 as of Friday, September 16, 2022, to $22.32 as of Monday, September 19, 2022. This is a clear sign of the market acknowledging that Squarespace could possibly be an M&A target.

There are two key factors supporting the consolidation of the website builder industry.

Firstly, a larger combined player emerging from industry consolidation will benefit from economies of scale and be in a better position to achieve top-line and bottom-line growth.

Secondly, valuations of the listed players have become more attractive for acquisitions to take place. According to S&P Capital IQ’s valuation data, WIX’s consensus forward next twelve months’ Enterprise Value-to-Revenue multiple has compressed from a one-year peak of 7.8 times to 2.9 times now. Similarly, SQSP’s consensus forward Enterprise Value-to-Revenue ratio has derated from its 52-week high of 8.0 times to 3.7 times currently.

On the flip side, the challenging market conditions, which have led to opportunities for industry consolidation, also make it more probable that Squarespace acquires other businesses on its own as well.

SQSP appears to be keen on acquisitions, as per the company’s comments at recent investor calls.

At the company’s most recent Q2 2022 earnings briefing, Squarespace emphasized that “we’ll remain opportunistic” when questioned about the possibility of future M&A transactions. SQSP also shared at the JPMorgan (JPM) Global Technology, Media & Communications Conference that the company will focus on “sub-$100 million acquisitions” which “are accretive” and “focus on some aspect of the commerce part of what we do.”

As I noted earlier, the valuations of SQSP’s peers like Wix.com have come down significantly, so it should be reasonably easy for Squarespace to find cheap acquisition targets in this current market environment.

New Business Formation

As discussed in the preceding section, Squarespace’s stock price performance in the last one month has been fairly decent thanks to expectations of SQSP being an acquirer or being acquired. But SQSP’s shares have actually done poorly for most of this year. In 2022 year-to-date, Squarespace’s stock price fell by -31%, as compared to the S&P 500’s -24% correction during the same time frame.

The market is concerned that the weak macroeconomic environment and the easing of Work-From-Home, or WFH, tailwinds will be a drag on Squarespace’s financial performance in the short term. This explains why SQSP’s shares haven’t done well on an absolute and a relative basis this year.

A key metric to watch for Squarespace is the U.S. Census Bureau’s business formation statistics. The most recently monthly business formation data for August 2022, released on September 14, 2022, show that seasonally adjusted monthly U.S. business applications declined by -1.0% MoM (Month-on-Month) to 421,503 in August.

It is worth highlighting that the August 2022 seasonally adjusted monthly U.S. business applications are still above the 200,000-300,000 historical range between 2011 and 2019 prior to the COVID-19 pandemic. Nevertheless, monthly U.S. business applications have fallen a fair bit from the peak of approximately 500,000 achieved in 2020.

Squarespace acknowledged at its most recent quarterly earnings call that “weak new business formation” had hurt the company’s Q2 2022 net new subscriptions numbers. SQSP also noted that there was a “correlation” between “small business formations” and the performance of its “main products” historically.

The near-term outlook for Squarespace is murky. On one hand, there might be fewer new businesses started, as COVID-19 transitions into an endemic state and the economy slows. On the other hand, more people might consider becoming entrepreneurs if we enter into a recession and the unemployment rate rises significantly.

Concluding Thoughts

I have a Hold rating for Squarespace’s shares. I like the fact that the current market environment makes it likely that SQSP will either be taken over as part of industry consolidation or well-positioned to acquire attractively-priced M&A targets. But I also have concerns that a decline in new business formation numbers could be a leading indicator of Squarespace’s future financial performance. As such, I have decided to keep my Hold rating for SQSP unchanged.