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As many pundits and analysts have pointed out, there's no doubt that the valuations of Square (NASDAQ: SQ) and Shopify (NASDAQ: SHOP ) are huge. The gigantic valuations of Square stock and SHOP stock may prove to be justified, if pretty much everything goes their way, enabling their businesses to continue to quickly expand and become much more profitable.
Stepped-up competition from companies like Amazon (NASDAQ: AMZN ) and PayPal (NASDAQ: PYPL) , or macro factors like an intense recession are a real threat, though. If they don't find a way to keep growing their businesses and profits rapidly, the valuations of Square stock and Shopify stock will prove to be too high. As a result, Square stock and Shopify stock will drop rapidly.
At this point, given all of the potential obstacles SQ and SHOP are facing, along with their gigantic valuations, I think they each only have a roughly 35% chance of preventing their stocks from eventually dropping sharply in the next year or two.
Moreover, I would estimate that there is only a 10% chance that either SQ stock or SHOP stock will rise more than 300% over the next five years.
How to Jumpstart Square Stock and SHOP Stock
But, by combining forces, SQ and SHOP would dramatically increase their chances of lighting a fire under SQ stock and SHOP stock.
The main concept is pretty simple. A merger of equals would create one of the biggest cross-selling opportunities in history. Of course, most of Square's customers currently use its products to make face-to-face sales, and most of SHOP's customers use its products to build online stores.
Put a different way, SQ primarily services customers who concentrate on selling their products in brick-and-mortar stores or on the road, while SHOP's bread and butter is facilitating online sales.
There is likely a bit of overlap between the two companies' customer bases, since some businesses are beginning to have a physical and online presence, and the lion's share of businesses currently focus on one venue or the other.
So if the two companies merge, they could greatly increase their customer bases by aggressively marketing their products to the other's customers.
Specifically, SQ could sell its point-of-sale tools and its debit card to SHOP's customers, and SHOP could market its software and platform to Square's customers.
As InvestorPlace columnist Luke Lango has pointed out, retail is now a combination of brick-and-mortar and e-commerce. Consequently, many of Square's physical-only customers will eventually look to sell their products online, while many of SHOP's online-only customers will eventually try to sell their products face-to-face.
By merging, SHOP and SQ can more efficiently target each other's customers, since SQ will have easy access to the contact information and other data on SHOP's customers and vice versa.
Square Stock and Raising Capital
I believe that many investors and banks would be tremendously enthusiastic about a merger between SQ and SHOP. As a result, SQ stock and SHOP stock would rise dramatically going into and immediately after the deal.
Furthermore, banks would jump to lend money to the companies at very favorable terms. The rally of Square stock and Shopify stock, along with the companies' new loans, would enable them to recruit more and better talent using stock-based compensation and higher salaries.
They could also acquire more and better companies, and sell shares of SHOP stock and SQ stock to raise a great deal of additional money. Using the additional funds, they could develop and launch new products, such as insurance and wealth management services, both of which, by the way are offered by Alibaba's (NYSE :BABA ) fintech unit, Ant Financial.
Alibaba Has Shown the Way
Speaking of BABA, after combining forces, SQ and SHOP will have access to a tremendous amount of customer data and capital. Using those assets, they can expand into many businesses and efficiently use artificial intelligence to become the American version of Alibaba.
Thanks to its data on small businesses, large investments, and prolific use of AI, BABA's ecosystem has successfully expanded into many areas other than e-commerce, including lending, logistics, online payments and advertising.
Merging would indeed enable SQ and SHOP to emulate BABA, become one of the most valuable companies in the world and closely rival or even surpass Amazon.
As of this writing, the author did not own shares of any of the companies mentioned.
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