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Block: Lowering Long-Term Margin Assumptions

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Block SQ is a fast-growing, highly scalable business, which creates a wide range of future possibilities. This consideration is the primary factor behind our Very High uncertainty rating. After reassessing our assumptions in light of the company’s recent performance, we think it is appropriate to lower our long-term margin assumptions given the lack of improvement in profitability. As a result, we are reducing our fair value estimate for Block to $83 per share from $98. We will maintain our narrow moat rating.

We still expect margins to improve significantly in the years ahead as Block more fully monetizes its client base and scales. Management historically has preferred an adjusted EBITDA margin metric. This figure excludes interchange revenue from top-line results and excludes certain costs. We don’t see this metric as indicative of true economic profitability, as it excludes stock compensation, which we view as a real and ongoing cost for the firm. Management has previously stated that the company can achieve a margin level of 35%-40% on this basis, although it has never provided a timeline. Our projections assume Block can ultimately achieve an EBITDA margin level of 33%—which equates to a GAAP operating margin of 9%—by the end of our 10-year projection period.

On a separate note, the company has also announced that the head of its Square business will depart at the beginning of October, and that CEO Jack Dorsey has taken over as the head of Square. In our view, this is not optimal, and we hope that the situation is temporary.

The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.

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Brett Horn

Senior Equity Analyst
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Brett Horn, CFA, is a senior equity analyst for Morningstar Research Services LLC, a wholly owned subsidiary of Morningstar, Inc. He covers insurers and credit bureaus. He also oversees the equity research team’s stewardship rating methodology.

Before joining Morningstar in 2006, Horn worked in the banking industry for about a decade, most recently as a commercial loan officer for First Bank, where he was responsible for underwriting loans and managing relationships with middle market clients. Before that, Horn worked for Mizuho Corporate Bank, where he managed loan portfolios and client relationships, primarily with Fortune 500 companies.

Horn holds a bachelor’s degree in business administration, with a concentration in finance, from the University of Wisconsin and a master’s degree in business administration from the University of Illinois. He also holds the Chartered Financial Analyst® designation. He ranked first in the business and industrial services industry in The Wall Street Journal’s annual “Best on the Street” analysts survey in 2013, the last year the survey was conducted.

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