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What’s the “Tiny Device Changing Entire Financial Industry?”

Exponential Tech investor says "It’s about the size of a stamp, co-invented by a Silicon Valley billionaire, and at the heart of a $7.6 trillion wealth grab…"

By Travis Johnson, Stock Gumshoe, November 29, 2016

Exponential Tech Investor is a relatively new newsletter service from the Bonner & Partners stable, but that Bonner/Agora connection means it’s getting a lot of play — and we’ve seen a lot of questions about this latest pitch for the service that hints at a “Tiny Device” that editor Jeff Brown says is “Changing the Entire Financial Industry” … so that’s our topic for today.

That newsletter will run you $2,500 a year at their current price, and so far it has mostly been focused on highlighting brand new IPOs that Brown finds compelling — so far he has pounded the table for Editas and Intellia (NTLA), both in the CRISPR/gene editing space, and both of those have done poorly after a quick initial spurt — which means his service presumably stopped out of those positions early and no longer holds those stocks in its recommended portfolio (Brown makes a point of saying in the ad that he sticks to a firm 25% trailing stop loss strategy, which, given the timing of his teaser pitches about these two stocks, would have meant selling both at roughly break-even — though in both those cases the 25% stop loss was certainly the right move, NTLA is a little lower than that sale price now and EDIT has fallen another 50%).

So, presuming that you don’t want to shell out $2,500 just to learn about this “tiny device,” let’s dig into it a little bit and see what he’s really talking about — then, if you feel like it, you can certainly subscribe to his newsletter. Signing up for a substantial and ongoing financial commitment just to learn a “secret” is a dumb idea, mostly because that means you’re subliminally predisposed to be enthusiastic about that secret and believe the marketing hype if you paid for it and fall in love with an investment, perhaps with even more money than that $2,500 at risk… but that doesn’t mean the Exponential Tech Investor newsletter is necessarily terrible. Let’s dig in, check out the clues in the ad, and give you a head start on some critical thinking so you can make your own call.

The ad features a photo of a little white square that Brown says is that “tiny device” that’s helping to change the financial industry, and lays it on n ice and thick:

“How you invest…

“How you bank…

“How you retire…

“Right down to how you buy groceries…

“It’s ALL changing.

“And depending on how you act today…

“You could make a fortune.

“That’s because, as the financial industry radically changes, many old “establishment” companies will be replaced by a brand new type of financial company…

“Forbes recently published an article calling this: “a global phenomenon.”

“And investing in this trend now, while it’s still taking off, means you could make stellar profits.

“In fact, one of these new companies changing finance is behind the tiny device I just showed you.

“I predict an investment in it could give you a 1,000% return over the next few years…”

Who isn’t impressed with a 1,000% return, right? There’s even a little chart with a green arrow showing us how cool a 1,000% gain is… yee-ha! (and yes, for the math challenged among us, that means you “could make ten times your money”).


“Why Am I So Confident?

“Because the co-inventor of this tiny device was a billionaire by age 35.

“He’s currently the CEO of TWO public companies.

“And he’s been compared to Steve Jobs, the visionary founder of Apple.

“In short, he’s a moneymaking genius.

“Now, his little device could be shipping to as much as 20 million US businesses…

“And it will help make thousands of new millionaires…

“In this presentation, I’ll reveal how you could be among them.”

And then he gets out the trowel:

“… the financial market this company operates in is worth $7.6 trillion.

“That’s more than 650,000% bigger than this company’s revenue.

“So honestly, my 1,000% gain prediction could be conservative.

“Bottom line is, this single stock could be a “retirement maker”…

“You could pay for your grandkid’s college tuition free and clear…

“Perhaps buy a yacht and sail the world…

“Whatever you want…

“All thanks to a small investment in a single stock.”

And that’s pretty much a textbook example of “don’t think this way about any investment” — if you go into an investment thinking that the technology is so cool and unique that it will give you massive returns and be a “retirement maker,” you’re going to be predisposed to take lots more risk with that stock — either taking too big a position, or refusing to think critically about the stock if the company’s prospects change.

So erase that from your mind. But what’s the stock? Well, I kept looking for some little tidbit that would tell me that the photos were just an example, but with the other clues in the ad it’s quite clear that the stock Brown is teasing is, in fact, Square (SQ), the payment solutions company co-founded by Twitter (TWTR) CEO Jack Dorsey.

Square is best-known for that little square card reader that goes into your iPhone jack and for the associated software that lets small businesses accept credit cards without buying or leasing specialized card equipment or big computerized cash registers. They were one of the early companies to offer this kind of service, starting about six years ago, and they went public just over a year ago in the fall of 2015. The price today is pretty close to where it was trading around the IPO, though it’s had a few ups and downs in the intervening months.

And I have, frankly, been a little tempted by Square during some of its dips as well — mostly because I see the devices, especially their iPad-based register systems with card readers built in, in probably about two out of three small businesses in my travels, and hear good things from the companies who use the service. I’ve not been able to talk myself into buying shares just yet, partly because of the high valuation relative to their current financial state and partly because they’re in an extremely competitive and fast-changing space and I haven’t yet gotten comfortable with how much of an opportunity Square has to actually become a dominant provider. Their market opportunity is quite visible to lots and lots of other well-funded startups who also have compelling and inexpensive hardware and software and services for small business payment processing, to say nothing of the large banks and credit card companies and hardware firms who are also quite aware that this is an industry worth participating in, and it’s early enough that just being “sticky” as a solution provider is not enough — they can’t just hold on to their customers, which is pretty easy for most service providers because switching providers is a pain in the arse, they have to take a good share of the new card-accepting businesses to justify their current $4 billion valuation.

PayPal is one obvious easy competitor to note, partly because they’ve been trying to leverage their brand into in-person payments (and keep sending me little blue triangular card-reader doohickeys that work much like Square’s even though I don’t actually have a physical store here at Stock Gumshoe), but everyone from Verifone (PAY) to Visa (V) is also trying to make sure that they get their piece of each penny that flows through our increasingly cashless economy. Verifone, for one, was heavily touted many times as a big beneficiary of the “cashless economy” over the past decade, but, thanks in part to the competitive nature of the business, is still trading at about the same price you could have bought shares for in 2006 or 2007 — and that’s still just a $2 billion company today.

Square has almost caught up with Verifone in terms of revenue, and could quite possibly catch them over the next few quarters — Square’s revenue has grown about 60% since they went public and is now at about $1.6 billion. Verifone’s sales are actually declining currently, though only down a few percent over last year. That’s just one fairly well-known competitor for the basic card equipment/payment network services, there are hundreds of others. And, of course, there’s also the hot flavor-of-the-year venture company Stripe, which is likely to go public in 2017 and is growing much faster than Square, though they’re known more for their “cloud payments” system as an enabler of online commerce than as a provider of card-reading gadgets for farmers’ markets and small businesses — Stripe has a private market valuation of almost $10 billion now.

So part of the risk is that everyone and his brother is trying to develop a better point of sale (POS) system to compete with Square, though they’re also all slightly different and difficult to compare with each other — and they are all angling for just a little slice of the 2-3.5% fee that pretty much all all retailers (online or in person) suffer through as the cost of accepting credit card payments. Most of that fee goes to the bank that offers the card and to the card network itself (Visa or MasterCard), though the acquirer also gets a little slice and that accounts for much of Square’s revenue — they report their “transaction profit” as being about 1% (the balance comes from hardware, which they lose money on but use to acquire new customers, and from other services like payroll, scheduling, etc. that can be bundled with the Square payment systems).

What do things look like for Square right now? Well, you can check out their latest quarterly shareholder letter to get a general picture, but they are growing pretty nicely — with one big hiccup: Starbucks is transitioning off of Square’s system, presumably because they’re big enough and savvy enough to design their own system and pay lower fees, and that has been hitting Square’s revenue in a pretty big way this year. That’s one reason why you’ll see the Square numbers reported as “adjusted” in that letter, the adjustment is their way of trying to give you an impression of what their business is looking like (and would have looked like in past quarters) without the Starbucks revenue. So on that front they look like they’re growing, even though revenue will be substantially lower next year than it was in 2015.

Analysts have bought into those adjustments, so that’s what the Street is looking at — and they’re expecting that SQ will continue to lose money over the next couple years — they see losses of 30 cents a share next year and 16 cents in 2018, so the trend is moving in the right direction, but the projections are pretty tepid on the revenue growth side — those analysts are expecting only $1.1 billion in revenue in 2018 (still using the “adjusted” revenue number), which would be a nice improvement from this year’s $682 million but still means that the growth is slowing down from 20% in 2017 to 25% in 2018. That will still allow them to get close to profitability, assuming that they can get more efficient as they grow (they don’t need to invest heavily in their infrastructure or R&D to add each new customer), but they really need to hit and probably exceed those top-line revenue growth numbers to assuage investor worries.

Lack of profitability is OK for a growth company, but it will be worrisome if it becomes difficult for them to grow — for a company with a tiny market share like Square, handling something like $50 billion worth of annual payments out of a payment card market of probably more than $5 trillion, you really don’t want to see the growth decelerate yet… if it gets expensive to grow, or if other larger customers (like Starbucks) graduate to different payment solutions as they grow and drop Square, there will be more worries because there isn’t a lot of room to improve net revenue margins beyond that 1% unless they can also cross-sell a lot of other services (payroll, etc.) to their payment solutions customers. And, of course, if we have a recessionary environment at some point, or small businesses are squeezed, then Square could find itself really fighting for customers in order to keep their gross payment volume growing — their small business customers are very cost-sensitive, and may be even more so if their own business fundamentals are deteriorating.

So it’s not guarantee, and there are lots of companies trying to compete in the same space… but Square has, like Shopify (SHOP) in the online space, clearly built a bit of a brand that is appealing to small businesses who are looking for relatively low-cost, high-ease business relationships… and they are finding incremental revenue increases from offerings like cash advances (paying retailers immediately instead of waiting two or three days for the credit card payment to clear, for example, for an extra 1% fee). I remain conflicted and haven’t bought shares yet, but there is some power in a brand and in ease of use — especially for small businesses who see that several other small businesses in their town also are using Square iPad registers without any real startup costs.

The worries, for me, are focused on whether they can grow fast enough to justify their $4 billion valuation, and whether they’ll end up competing tooth and nail with PayPal and the Verifone and the various bank-related payment processing systems and seeing their margins continually pressured… but of all the payment companies out there now, Square is certainly the one that appeals to me the most because of its early market share gains and the potential for growth if they can hold off the competition.

Square’s growth potential and “story” is compelling, as is their branding, but there is a certain comfort in investing instead in the truly dominant companies in this space, MasterCard (MA) and Visa (V), even though they look pretty pricey, because they’ve proven that they really won’t be supplanted by new technologies… or, if you want some more diversification and just want to benefit from the continuing “cashless” trend in general, in the PureFunds ISE Mobile Payments ETF (IPAY), which has more than 20% in the big networks (MC, V, Amex and Discover) but does also have exposure to PayPal and some of the “old” payment processors and equipment companies like Fiserv and Western Union and Verifone and NCR … as well as a 3% weighting in Square shares.

That’s just my dithering take, though, and it’s similar to the thoughts I’ve been having about Square for most of the past year, so perhaps your response will be more definitive — what do you think? Will Square dominate in-person credit card payment “terminals” over the next few years? Will they take market share and expand and justify this big market capitalization? What’s your bet? Let your fellow investors know with a comment below.

P.S. This “Cashless economy” stuff is not new, of course, as credit card payment volumes continue to soar ever higher every year in almost every country — lots of other “cashless” companies have been teased in the past, the most recent one I’ve covered was probably Larry Edelson’s pitch about the “war on cash” early this year.

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6 years ago

What happens to Square when most payments are done with a smartphone?

👍 1992
David B.
David B.
6 years ago
Reply to  JohnM

Funny JohnM as the first thing I thought of after just reading the article title was immediately the Cell Phone. Even dumb cell phones are being utilized in African countries for financial transactions right now.

👍 855
Daniel Millen
6 years ago

Keep an eye out on Toast – I have no idea when they will IPO but they are growing like a weed! They mostly cater to restaurants but they just introduced an inventory module and online ordering and it’s only a matter of time before they advance into regular retail.

They run on Android platform so their terminals are $100 cheaper on average than iPad based terminals, offer a lower charge per swipe and their system can be as simple or as complicated as your business needs it to be.

I have no vested interest in Toast – having recently opened a small business (bar / restaurant) I priced out and took a hard look at all available POS services including square and went with Toast. Square is very limited especially in terms of inventory tracking and itemizing receipts which will ultimately affect their ability to retain clients as they grow more stores more SKU etc.

Thanks for all you do!

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6 years ago