Silicon Valley flair: Afterpay deal opens up a new world for investors

The idea behind buying Afterpay – with the support of its co-founders Nick Molnar and Anthony Eisen – is that the Australian fintech will act as a bridge between Block’s Cash app and its Seller app.

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Afterpay will gain access to Block’s extensive merchant and consumer customers in the critical US market, and Block will get Afterpay’s buy now, pay later and online shopping platforms. Supporters think the company’s long-term potential is to be a “super app” on par with China’s WeChat.

The merger is all-scrip, meaning existing Afterpay shareholders can choose to be paid in US-listed Block shares, or they can hold the stock through a dual-listing on the ASX. The final hurdle the deal still needs to clear is approval from the Bank of Spain, which is expected in early 2022.

Among institutional investors canvassed by The Sydney Morning Herald and The Age, there was widespread support for bringing the two firms together. Yet few investors had yet made up their minds about investing in Block, suggesting the stock may be just as divisive as Afterpay has been.

Ophir Asset Management portfolio manager Steven Ng, a long-time Afterpay shareholder, says the fund is open to retaining its stake in Block, assuming the takeover goes ahead. He says the merger should ramp up the growth of both Block and Afterpay’s businesses.

“From a Block perspective, it looks like Afterpay could act as the glue that brings together the Cash and Seller ecosystems,” Ng says. “I think it accelerates both Block and Afterpay’s strategy.”

Investment analyst at Holon Global Investments, Todd O’Dea, says the merger should support Afterpay’s growth at a time of fierce competition in BNPL, but the fund has not determined whether it will invest in Block.

“We will probably see a lot of consolidation in the next couple of years in that BNPL market. Being able to pair up with Block and get access to 70 million cash-app users will be very value accretive,” O’Dea says.

Payments is the part of banking that is experiencing the most disruption from fintechs, and some see this as another attractive trait of Block.

Jun Bei Lui, who manages about $1 billion at Tribeca Investment Partners, likes the payments business owned by Block, and believes the merger can fuel Afterpay’s access to capital and scale that it needs. Even so, she has been selling down her position in Afterpay so that it is in line with the company’s weighting. “It’s mainly just because it’s a very different business now,” Liu says.

Crypto volatility

A key concern for Liu – and many others – is Block’s cryptocurrency exposure. At its latest quarterly results, revenue from bitcoin trading was $US1.8 billion ($2.5 billion), a third lower than the June quarter, largely in response to volatility in the digital asset’s price. For some investors, such wild swings are a turn-off.

While Liu says cryptocurrency trading will eventually find its place, she says it’s difficult to put a valuation on a cryptocurrency trading business, and at the moment she is not convinced the risk-reward trade-off makes sense for her investors.

“The challenge is that cryptocurrencies is such a volatile space. The volatility of cryptocurrencies is five times that of the sharemarket,” Liu says.

Managing director of White Funds Management Angus Gluskie says crypto risks will be a key issue for an ASX investor to consider if they are looking at Block shares, alongside its international exposure. “We haven’t made up our mind, however it’s clearly got exposure in areas which carry great risk,” he says. “My personal feeling is cryptocurrencies have endless supply and ultimately no value. So it’s a pretty dangerous space to be in.”

Yet as crypto assets become more mainstream, with Commonwealth Bank set to offer bitcoin trading, there are plenty in the market who are comfortable with some crypto exposure.

Nick Healy, portfolio manager of Wilson Asset Management’s global equities fund, says Block’s exposure to the volatile bitcoin market is something for potential investors to be aware of – but it wouldn’t necessarily hold back the market’s interest in the stock.

“I wouldn’t say volatility would be a reason to rule it out, but it would certainly be something you would want to be aware of going in,” he says. “Jack Dorsey has made his interests in cryptocurrencies clear.”

Holon’s O’Dea does not see Block’s bitcoin exposure as a problem either, saying it is a way to gain exposure to cryptocurrency assets. “If anything, it might be good to have a bit more innovation on the ASX, and a bit more diversification away from banks and miners,” O’Dea says.

Ophir’s Ng also says he is not worried about the company’s bitcoin revenue. “It just makes the revenue look more volatile – but for us it’s the gross margin that’s important,” he says.

‘My personal feeling is cryptocurrencies have endless supply and ultimately no value. So it’s a pretty dangerous space to be in.’

Angus Gluskie, White Funds Management

Moreover, Ng says Block’s move to offer bitcoin trading to customers is an example of the company’s willingness to innovate.

Like all “growth” stocks including Afterpay, Block’s shares have also been on a rollercoaster ride, surging more than six-fold from their COVID-19 lows to $US247.26 when the deal with Afterpay was announced in August. Since then, however, they have dropped more than 30 per cent.

Also like Afterpay, the company has never paid a dividend and it does not expect to pay one in the forseeable future, as it focuses on growth.

US centre of gravity

A final issue confronting potential Block investors is geography. While it will be dual-listed, the company is US-focused, and local investors will have far less access to management than they had with Afterpay. Block has a market capitalisation of more than $US80 billion, but the weighting of the ASX-listed Block shares on the local market is uncertain.

Opal Capital Management portfolio manager, Omkar Joshi, predicts local interest in ASX-listed Block shares will fade away over time, as has occurred with Unibail-Rodamco, the owner of Westfield, which has a dual listing in Australia.

“At the end of the day, Block is a US business. Investors in Australia are not really going to spend much time on it,” says Joshi, who does not currently hold Afterpay shares.

Even so, there are examples of ASX-listed companies with a solid local following that have a US focus, such as California-based medical device company ResMed.

Whether or not Australian investors choose to embrace Block, its size, its innovative flair and its potential to disrupt banking may make it hard to ignore.