Can Square's brand overcome its tardiness to the merchant gateway party?

Square has become a name synonymous with mobile point of sale transactions, having ignited the industry back in 2009 with the audio port card reader.

The company has significantly broadened its value proposition since then to include a host of products and services designed to give SMEs the necessary tools to grow their businesses. However, conspicuously absent among the smorgasbord of offerings has been the ability for small merchants to set up an online payment solution managed directly by Square.

Square recently launched Square Checkout, its own brand of online payment portal. The announcement cites one of the key reasons for bringing this product to market is that buyers and sellers “recognize, trust and love the Square brand”. However, Square is very late to the online gateway scene in a highly crowded landscape. Will its existing brand cache be sufficient for Square Checkout to both win new business and displace existing SME e-commerce solutions?

Square Snapshot

The most recent 10Q from Square provides a valuable window on how the company is evolving. By far the largest share of the revenue pie comes from transactions, which grew 34% from just over $300 million in Q1 2016 to $403 million in Q1 2017. While just a fraction of this, subscription and services based more than doubled between Q1 2016 and Q1 2017 from $24 million to $49 million. However, over the same time, hardware revenues shrank 44%, from $16 million to just over $9 million.

The dip in hardware revenue is not surprising. Square’s modus operandi from the outset was to follow the tried and tested "razor / razor blade" model, with the mobile card reader and accompanying app made available at massively subsidized prices (free), and revenue generated on the 2.75% fee per card transaction. This worked remarkably well, as was seen by the abundance of companies that replicated both the technology and the business model. This high degree of commoditization explains in part the dipping revenues from sales of the card reader.

The U.S. transition to EMV also has an impact on hardware revenues. The bill of materials for an EMV card reader compared to a mag stripe reader necessitated Square charging its merchant base for the upgrade from free to $29.99. In doing so, Square is likely to have thinned the customer herd from unprofitable occasional Square users to those that are prepared to pay for the ability to take EMV cards, presumably because their business relies on frequent physical card payments. Further, Square’s new hardware has been designed less for the hobbyist and more for legitimate SMEs that are likely to take higher value transactions.

There may however be a more serious dynamic underway for Square. The company has worked hard to outgrow its beginnings and move upstream to larger retail businesses. But, there is a growth ceiling where more traditional POS vendors have a solid foothold and deep roots into incumbent payment processors. Square could be reaching a saturation point at the lower end of the retail market and faced with an impenetrable wall of legacy POS from above. For this reason, Square’s expansion into e-commerce may be a necessary direction in ensuring future transaction revenue growth

E-Commerce. Growing, but is there room for Square?

If events of the last few months in retail are an indicator of the future, there are no signs of e-commerce growth abating. Research from eMarketer forecasts that global e-commerce sales will reach over $2.3 trillion in 2017 (10% of total retail sales), up from $1.9 trillion in 2016. This level of growth is expected to be sustained well into 2020 when it will nearly double to over $4 trillion (over 14% of total retail sales).

Further, the divisions between online and offline retail domains are increasingly blurring. While this has been most apparent with the very largest retailers, no merchant is sufficiently inoculated to avoid cross contamination. In fact, there is a significant latent opportunity for the growth of e-commerce in the small business arena. According to a 2016 survey of 352 small businesses conducted by Clutch, only 54% had a website. Of the remaining 46% that didn’t have a website, 32% stated the reason for not having one was that it was not relevant to their business or industry. It may well be that these attitudes will change as retail segments previously considered to be securely firewalled from online threats have their business models upended overnight.

Square’s beachhead

The opportunity for Square as an e-commerce platform is therefore likely to be small businesses that have grown accustomed and trusting of Square products and services in the physical world and due to benevolent or benign market shifts, now require an online retail presence. With integrated analytics, Square’s value proposition lies in providing a holistic view of both online and offline transactions for SMEs that may be struggling to capture changing customer dynamics and trends. The hyperbolic ‘recognition, trust and love’ might go a long way in persuading e-commerce rookies to choose Square over a plethora of others.