A new species of whales was discovered in Mexico. I kinda had mixed feelings after reading this. On one hand, I was glad we made this discovery. On the other, there may be some ignorant and greedy people trying to hunt them down for food or just an ego booster.
Shortly before 2009, Jim McKelvey and Jack Dorsey were looking for a business idea to work on together. Jim was operating a glassblowing studio at the time. He had a customer come in ready to pay for an order. The customer had an American Express card, which the studio couldn’t accept. Jim lost the sale. He started to dig into the payment world and soon realized that there was a problem. The payment world is highly complicated with different credit card vendors and a myriad of rules and fees. To make its store accessible, a merchant had to work different credit card networks. Worse, in 2004, credit card vendors were making 45 times the amount of revenue on Small & Medium Sized merchants (SMB) as much as the revenue on large corporations.
The two co-founders of Square came up with an idea of a simple-to-use dongle that could read different credit cards, along with unprecedented transparency over fees to eliminate confusion for vendors. Their value proposition to customers was to simplify the process of working with different card vendors and to avoid the situation that some cards like Amex couldn’t be accepted. To lessen the fees for merchants, Square waived the per transaction fee and relied on the sale of their dongle, a small cut of interchange from transactions and likely a one-time fee to be able to use the dongle. That’s how the company started.
Fast forward to 2020, you can hardly recognize that Square company. It has grown leaps and bounds so that their offerings expanded to include a set of solutions for business and consumers. On the seller ecosystem side, Square offers software, hardware and financial services, namely:
Software: Online store, Square for different industries, Gift Card, Marketing, Dashboard
Hardware: different POS types
Financial services: managed payments, instant transfer, Square Card and Square Capital
On the Cash App side, the app can enable users to store & transfer funds to another person, spend via a debit card called Cash Card and invest in stocks, ETFs or Bitcoin.
How does Square make money?
Transaction-based revenue: Square takes a small cut from every transaction from some services that they help facilitate through products and services
Subscriptions and fees: For some Square services, customers have to either subscribe or pay fees to be able to use them, including Square Capital, Instant Transfer, Cash Card, website & domain hosting and other
Hardware: Square also makes money from selling their hardware, including Stand, Register and Terminal, card swiping devices and chip readers
Bitcoine: allowing users to buy, sell and deposit Bitcoin, Square makes money in this segment by charging a fee for every transaction as well as raking in the difference in Bitcoin’s prices. For instance, the company might buy a Bitcoin at $9,950 and sell it at $10,000, netting $50 in revenue, on top of 1.7% in transaction fees
Square has been growing very nicely in the last five years. The top line increased from $1.3 billion in 2015 to $4.7 billion in 2019, a CAGR of almost 38%. Meanwhile, the company went from losing money to the tune of $175 million in 2015 to making a modest operational income of $27 million in 2019.
In terms of segment revenue, transaction-based was the dominant source of revenue, making up 66% of Square’s revenue in 2019. On the other, Bitcoin was the fastest growing segment, growing at 211% YoY, followed by Subscription & Services.
Among Square’s segments, hardware is consistently the one that loses money. It’s the case of razor and blades. Square is willing to lose dozens of millions on hardware if that means they can make hundreds of millions of dollars in return from services. Meanwhile, Bitcoin’s gross margin is routinely at 2% while Square has made great improvements on the margin of Transaction-based and Subscriptions & Services.
The growth of Cash App
Cash App has grown more important to Square over the years. The application was responsible for around 22-23% of the company’s revenue in Q2 2019, but the figure grew to 62% in Q2 2020, leaving the seller ecosystem only responsible for 38% of the total revenue. While the numbers for Cash App look impressive, most of the growth was attributed to the increase in Bitcoin revenue, even though Transaction-based and Subscription & Services also recorded nice growth. Additionally, Square increased the pile with a lower gross margin between Cash App and Seller ecosystems. If Cash App had 23% gross margin in Q2 2020, Seller notched 44%.
Over the years, Square has increased their marketing leverage. Sales & Marketing as % of revenue for Cash App decreased from 27% in Q2 2019 to 12% a year later. As a result, even though Cash App offers a lower gross margin than Seller, I suspect the increased marketing leverage enabled Square to turn a profit in Q2 2020. Whether this will persist as a routine in the future or whether it is mainly driven by Covid-19 remains to be seen.
Square defines “active transacting customers ” as those who have at least one cash inflow or outflow during a month. The base that had 1 million active transacting customers in Dec 2015 grew to 30 million in June 2020. Covid-19 helped accelerate the use of Cash App as these customers transacted 15 times per month or more on average every other day, up 50% from a year ago.
At the end of FY 2019, over 50% of Cash App customers brought revenue to the company, a figure that was exceeded in Q2 2020 as the company reported an uplift. Revenue per customer, excluding bitcoin, was $45 on an annualized basis, compared to $30 in Q4 FY2019 and $15 in 2017.
Cause for concern
While Cash App seems to be going on the right track, Square does seem to have a problem at hand with the Seller ecosystem. In Q2 2020, Seller revenue decreased to $723 million from $870 million a year ago. In the meantime, Shopify’s revenue almost doubled in Q2 2020, compared to a year ago while offering essentially the same solutions and going after the same market as Square. Another competitor that had an impressive growth in the same quarter is Amazon. Their 3rd party segment’s revenue grew by 52% YoY. As I expect us to continue struggling with the pandemic in the months to come, what I have seen so far shows that Square may have a tough time competing to facilitate eCommerce with the likes of Amazon or Shopify. Other players include eBay, Google, Etsy, BigCommerce or Facebook.
It’s valuable indeed to help businesses manage their operations, but it’s not enough. The biggest worry of businesses is to generate revenue. As the pandemic fast-tracks eCommerce, revenue usually means website traffic. Amazon is the king of eCommerce in the US. Shopify partnered with Walmart, Facebook and Pinterest to bring traffic to their vendors. Meanwhile, I am not aware that Square has a similar capability to bring traffic to their customers. That’s a huge missing piece in their puzzle.
Another challenge that Square has to face for its Seller ecosystem is fulfillment. Walmart, Shopify and Amazon all have their fulfillment network. Even though Square already partnered with UPS, it’s not the same as owning that capability themselves, especially when the fulfillment demand scales up.
Cash App is also having to deal with a growing and fierce competition. Apple is pushing very hard to market Apple Pay, Apple Cash and Apple Card, whose basic utility is the same as that of Cash App and Cash Card. There is also Paypal/Venmo, Facebook with their own payment system and neobanks such as Point App. Although Cash App is in a pretty good shape, there is still a lot of work to do to stay competitive and fend off rivals. Having the ability to invest and trade Bitcoin is nice, but 1/ I don’t believe both features offer a high margin and 2/ they aren’t likely to keep consumers exclusive on Cash App. One can easily use Robinhood for trading and Apple services for other purposes.
Compared to their rival Shopify, Square has an advantage of having their feet in the consumer world as well. If they can manage to connect the consumer and seller side by offering consumer trend insights in real time to their sellers, that will be a great selling point to sellers. For Cash App customers, they need to find a way to keep customers active and use their services more. Recently, a new feature was added to let users access short-term loans of less than $200. However, the feature is a horizontal expansion and not everyone will be happy with a high interest loan. Cash App needs to get customers locked in by giving them more utility than the likes of Apple, Paypal and a host of other competitors.
In sum, Square is spinning a lot of disks at the same time. One can argue that catering to both the Seller and Cash App ecosystems spreads thin Square’s focus and resources, but to fend off fierce rivals on both sides, that is likely what Square has to do. As a fan of eCommerce and fintech, I am very interested in seeing what awaits Square in the future.
Disclaimer: I own Shopify and Amazon stocks in my personal portfolio.
Slack filed an antitrust complaint against Microsoft over Teams to the EU. On the surface, I don’t think Slack is going to win the case, if the EU decides to formally launch an investigation. How Microsoft structures their Microsoft 365 offers does give customers a choice to include Teams or not, a counterpunch to the core of Slack’s complaint. I wrote my thoughts here
Both strategies yield the same result: that foreign affiliate employment increased as a direct response to increasingly stringent restrictions on H-1B visas. This effect is driven on the extensive and intensive margins; firms were more likely to open foreign affiliates in new countries in response, and employment increased at existing foreign affiliates. The effect is strongest among R&D-intensive firms in industries where services could more easily be offshored. The effect was somewhat geographically concentrated: foreign affiliate employment increased both in countries like India and China with large quantities of high-skilled human capital and in countries like Canada with more relaxed high-skilled immigration policies and closer geographic proximity. These empirical results also are supported by interviews with US multinational firms and an immigration lawyer
A few days ago, Walmart and Shopify announced a strategic partnership that would allow Shopify merchants to list products on Walmart website and still manage their stores through the Canadian company’s system. Below is what Walmart said in their press release
The U.S. eCommerce business grew 74% in total last quarter, and growth in marketplace outpaced the overall business even as first-party sales were strong. As we launch this integration with Shopify, we are focused on U.S.-based small and medium businesses whose assortment complements ours and have a track record of exceeding customers’ expectations.
We’re excited to be able offer customers an expanded assortment while also giving small businesses access to the surging traffic on Walmart.com. Shopify powers a dynamic portfolio of third-party sellers who are interested in growing their business through new, trusted channels. This integration will allow approved Shopify sellers to seamlessly list their items on Walmart.com, which gives Walmart customers access to a broader assortment.
Growing our Marketplace is a strategic priority, and we are going to be smart as we grow. We will start integrating new sellers now and expect to add 1,200 Shopify sellers this year. Shopify has a long history of helping small businesses leverage scale, and we’re proud to be part of the solution that is helping customers and other retailers.
What does Shopify do? Why may it benefit from Walmart?
While Walmart is a household name in the US, Shopify is much less known as its business is typically behind-the-scenes. Shopify offers solutions that help individuals and businesses launch their online presence. Shopify services range from apps that build an actual online store, payments, marketing, fulfillment, shipping and order management. Essentially, Shopify can give you all back-end services you need to start an online business tomorrow. Shopify customers pay a monthly subscription to have access to its offerings and extra fees whenever the customers want to use additional services.
Although the company didn’t make money from its operations as of 2019 yet, its revenue doubled compared to 2018.
Investors seem to have confidence in the outlook of the company, especially when e-Commerce gained traction amid the Covid-19 crisis. For the past year, Shopify stock has grown by almost 185% from $300 to $869 as of this writing. Despite Shopify’s growth, it is still a long way to go to unseat Amazon as the king of eCommerce in the US. According to eMarketer, Shopify had only 5.9% market share compared to Amazon’s 37%.
Shopify’s business model puts it in a direct collision course with Amazon’s own 3rd party marketplace. Individuals and small businesses can list their products on both Amazon and Shopify. Although it’s unclear which option is more financially beneficial to merchants, one thing is clear: Amazon has a lot more traffic to its site. Amazon reported that its US site has 150 million unique visitors alone. What small business can hope to compete with that kind of website traffic? Merchants, when thinking about which marketplace they should be on, definitely have to take into account the traffic that Amazon brings.
If merchants sign up with Amazon’s 3rd party marketplace, that’s business lost for Shopify. Hence, recent partnerships, with Facebook, Pinterest and Walmart, are aimed to help merchants reach a bigger potential client base without merchants having to stretch operationally further. As a business owner, you don’t want to run your store on three different systems, do you? The executive from Shopify even said as much.
“Few companies in the world match the sheer size and scale of Walmart,” said Satish Kanwar, Shopify’s vice president of product. The deal opens the door for small and medium-sized businesses “to access the 120 million customers who visit Walmart.com every month.”
To new businesses, sudden exposure to 120 million customers a month is absolutely a huge draw. For comparison, Amazon reported that its US website attracted 150 million visitors a month. This partnership, along with others such as those with Facebook and Pinterest, catapults Shopify into a respectable contender in empowering merchants.
Plus, it may not have to worry about losing potential customers to Walmart’s own marketplace. It was reported that Walmart’s marketplace tool wasn’t popular among merchants on the market. Hence, Shopify can pitch to potential customers the prospect of reaching millions of customers while using its well-built tools. I think this move is more about appealing to new merchants and keeping the current customers from jumping ship to Amazon than poaching merchants from Amazon. I doubt that merchants which are well established on Amazon’s platform will be interested in disruption to their business and leaving the most popular marketplace for anything else.
Additionally, I suspect this partnership is focused on the US market alone. Walmart is as American a brand as it can get, and US is its strongest market. Meanwhile, 68% of Shopify’s revenue came from the US market. Stretching resources further to compete with Amazon overseas doesn’t really make sense.
What may Walmart gain from this partnership?
In addition to its stores, Walmart also has a marketplace.
When it first launched in 2009, it had fewer than 1 million SKUs available online. Today, the retailer’s total e-commerce presence represents more than 75 million. In 2019, Walmart added 10,000 new sellers to its marketplace, bringing the total last November to over 32,000
Despite the progress, Walmart is still clearly behind Amazon in the eCommerce space as the Arkansas-based company only had 4.7% market share, compared to Amazon’s 37%. Industry long-time watchers said that Walmart’s marketplace tools weren’t as good as Amazon’s and that merchants didn’t buy in the appeal of Walmart (Source: Modern Retail). Plus, I suspect that Amazon carries a lot more SKUs and merchants, making it a better choice for shoppers than Walmart.
To compete with Amazon, Walmart needs to scale its assortment fast, efficiently and overcome its own inferior internal system.
By leveraging the highly received tools from Shopify, Walmart will allow merchants to be on Walmart’s website without having to use its own internal tools, effectively eliminating any friction that can scare sellers away. On Walmart’s side, it won’t have to spend resources on acquiring thousands of new merchants. Moreover, more merchants and products will make Walmart’s website more appealing and enable it to woo shoppers from Amazon.
In short, with this partnership, Walmart can bring more merchants onboard efficiently in a short amount of time while Shopify can bring its merchants to a potential bigger customer base and hopefully attract more future business. While there is still a long way to go to unseat Amazon, I think this collaboration has a great deal of potential and I am excited to see how it will unfold in the future.
What do you think? Leave a comment to share your thoughts.
Starbucks has around $1.6 billion in stored value card liabilities outstanding. This represents the sum of all physical gift cards held in customer’s wallets as well as the digital value of electronic balances held in the Starbucks Mobile App.* It amounts to ~6% of all of the company’s liabilities.
This is a pretty incredible number. Stored value card liabilities are the money that you, oh loyal Starbucks customer, use to buy coffee. What you might not realize is that these balances simultaneously function as a loan to Starbucks. Starbucks doesn’t pay any interest on balances held in the Starbucks app or gift cards. You, the loyal customer, are providing the company with free debt.
Interested in how enterprise SaaS companies whose some or all of their revenue come from subscriptions, I set out to collect data from the companies that I know offer subscriptions to enterprise customers. Please be aware that this is my personal research stemming from intellectual curiosity only. They are not meant to be anything more than that.
Data is collected from the latest year in the companies’ latest annual reports to ensure that seasonality factor is removed
The metrics include subscription gross margin (subscription gross profit/subscription revenue), overall gross margin, Sales & Marketing expense as % of revenue, R&D as % of revenue, SG&A as % of revenue and net dollar expansion rate (or retention rate)
If there is a difference between subscription gross margin and overall gross margin, it’s because those companies also generate revenue from other sources such as hardware or professional services
Much as I tried to keep the figures accurate, do use them at your discretion