Episode 43 The Square IPO

Summary Notes


Hosts Ben Gilbert and David Rosenthal of the "Acquired" podcast delve into the 2015 IPO of Square, responding to significant listener interest. They discuss Square's journey from a mobile payment solution for small businesses to a comprehensive financial services provider, emphasizing the company's innovative approach to enabling entrepreneurs to accept credit card payments. The episode highlights Square's growth, its strategic misstep with the Starbucks deal, and CEO Jack Dorsey's dual role as CEO of both Square and Twitter during the IPO. The hosts critique Square's IPO timing and execution, noting the complexities of private vs. public valuation and the impact on employees. They also touch on the company's resilience and success post-IPO, despite the challenging narrative surrounding its public debut.

Summary Notes


  • Ben Gilbert and David Rosenthal introduce themselves as hosts of the Acquired podcast.
  • Episode 43 focuses on the 2015 Square IPO, a topic requested by many listeners.
  • They mention the podcast is driven by their personal interests and listener feedback.

"Today we are covering the 2015 square ipo to much, much demand from a lot of our listeners out there. From David, from myself living on our Google Doc for way too long, we now have enough distance from it that we feel comfortable retrospectively covering it as an acquired episode."

This quote explains the rationale behind choosing the 2015 Square IPO as the topic for Episode 43. The hosts acknowledge the high demand for this topic from their audience and their own interest in it.

Listener Engagement and Feedback

  • The hosts appreciate the feedback from the audience, gathered through a survey.
  • They announce the winner of a pair of AirPods as part of a survey promotion.
  • They encourage listeners to write reviews on the Apple Podcasts app to help grow the show.

"We did our survey and we had a tremendous amount of feedback. That said, it seems like you guys just kind of do whatever you want to do, and we hope that you guys like that because that is indeed how this works."

This quote highlights the importance of listener feedback in shaping the podcast. The hosts acknowledge that while they follow their interests, they also consider what the audience enjoys.

Sponsorship from Pilot

  • Pilot is a company that provides accounting, tax, and bookkeeping services for startups and growth companies.
  • Pilot has grown significantly, now backed by major investors including Sequoia, Index, Stripe, and Jeff Bezos.
  • The hosts discuss the importance of outsourcing non-core activities like accounting to focus on what improves the product and customer experience.

"Pilot is the one team for all of your company's accounting, tax and bookkeeping needs. And in fact now is the largest startup focused accounting firm in the US."

This quote introduces Pilot as a sponsor and emphasizes its role in supporting startups with financial services, highlighting its growth and status in the industry.

The Origins of Square

  • The history of Square begins with Jim McKelvey Jr., who faced issues selling his glass faucets because he couldn't accept credit cards.
  • Jack Dorsey, co-founder of Square, had previously worked with McKelvey as an intern.
  • The narrative of Square's founding emphasizes the difficulty small business owners faced in obtaining merchant accounts to accept credit card payments.

"But if you think about the type of business owner who was able to get approved for a merchant account these days, you had to be tremendously established. I mean, it was really unfriendly to entrepreneurs and not tech entrepreneurs, but like people who are starting these little businesses."

This quote explains the problem that Square aimed to solve: the inaccessibility of credit card payment systems for small, newly established businesses.

The Relationship Between McKelvey and Dorsey

  • McKelvey and Dorsey had a long-standing relationship that predated the founding of Square.
  • Dorsey worked for McKelvey's company as a teenager and was supportive of a pivot in the company's direction.
  • This relationship played a significant role in the eventual partnership that led to the creation of Square.

"Now that's a connection we are reaching way back here at acquired. And Jack had also grown up in St. Louis, Missouri, many years after Jim and had gotten a summer job in high school. Working for Jack, you know, was totally on board with the pivot."

The quote emphasizes the long-standing connection between McKelvey and Dorsey, which was instrumental in their collaboration on Square.

The True Origin Story of Square

  • The official origin story of Square is that it was inspired by McKelvey's inability to sell his glass faucets via credit card.
  • There are claims that the actual inception of Square involved more individuals, including Professor Robert Morley, who had developed card reading technology.
  • Morley later sued Square and settled for $50 million, indicating his significant contribution to the company's technology.

"It turns out that probably most likely, and Jack's actually talked about that, that idea wasn't square. It was to start an electric car company and compete with Tesla."

This quote suggests that the original idea that brought McKelvey and Dorsey together might not have been Square but another venture entirely, demonstrating how the founding story can evolve over time.

The Power of Founding Stories

  • Founding stories often become simplified and mythologized over time.
  • These narratives serve to communicate the company's mission and values to customers, employees, and investors.
  • The hosts discuss the importance and impact of these founding stories in the tech industry.

"Early reinvented founder stories, I think are probably more common than actual organic, live as it happened, founder stories, like when you hear the picture perfect, too good to be true entrepreneur post IPo, describing this simple insight that they had when they were."

The quote reflects on the tendency for founding stories to be crafted or embellished after the fact to create compelling narratives that resonate with the company's audience.

Early Days of Square and Mobile Payments

  • Square revolutionized the point of sale (POS) market by targeting a new market segment.
  • Initially, Square was intended for mobile payments, not competing directly with traditional POS systems.
  • The iPhone was only two years old; mobile payments were a novel concept.

"You really don't think you're going to be competing, really in that point of sale market of people that stand behind a counter."

The quote highlights the initial perception that Square was not a direct competitor to traditional POS systems, focusing instead on a new segment of mobile payment users.

Personal Experiences with Square

  • David Rosenthal was excited about Square for personal transactions, such as selling items on Craigslist.
  • Ben Gilbert used Square for personal transactions, similar to how Venmo is used today.
  • The novelty of accepting credit card payments on a personal phone was a significant draw.

"I remember when Square first came out, being really excited and getting a reader myself."

The quote reflects the initial excitement and personal use cases that individuals found for Square, even if they were not traditional businesses.

Square's Key Innovations

  • Square's hardware allowed payments via phone, which was a significant innovation.
  • The backend technology for fraud prevention was a critical component of Square's success.
  • Square enabled a new class of merchants to accept payments, which was previously difficult due to fraud concerns and industry barriers.

"But the bigger part of it was enabling anyone to accept payments like we were talking about."

This quote summarizes Square's innovation in making payment acceptance accessible to a wider range of users, beyond just the hardware aspect.

User Experience and Fraud Prevention

  • Square differentiated itself with an exceptional user experience for merchants.
  • They introduced the concept of cloud POS, competing with more traditional, less user-friendly systems.
  • Square excelled at reducing fraud for a new class of merchants using machine learning for underwriting.

"They did the best job of reducing fraud with this new merchant class."

The quote emphasizes Square's effectiveness in fraud prevention, which was a significant factor in their ability to onboard a new class of merchants.

Competitors and Market Response

  • Competitors like PayPal and Verifone struggled with underwriting and experienced fraud losses.
  • Verifone shut down its competing product due to these losses and publicly criticized Square.
  • Square's risk management strategy involved gradually increasing transaction limits as trust was built with merchants.

"Verifone actually shut down their competing product because of fraud losses."

The quote explains the challenges competitors faced in the market, particularly with fraud, and how Square's approach differed.

Market Expansion and Enabling Small Businesses

  • Before Square, a vast majority of small businesses in the US couldn't accept credit cards.
  • Square's entry into the market unlocked a significant opportunity for card networks like Visa and Mastercard.

"So 24 of the 36 million small businesses in the US under $100,000 in revenue could not accept credit cards."

This quote highlights the scale of the market opportunity that Square tapped into by enabling small businesses to accept credit cards.

Business Model and Pricing Strategy

  • Square provided free card readers, disrupting the traditional cost structure of POS systems.
  • They charged a flat fee for transactions, simplifying the complex fee structures of the time.
  • The simplicity and transparency of Square's pricing attracted many small merchants.

"They make the card reader free. So if you want to join square, you sign up online, you enter some information."

The quote describes Square's disruptive business model, which removed the financial barrier to entry for small merchants.

Critique of the Credit Card Industry

  • The credit card industry was criticized for its opaque fee structures and delayed payments to merchants.
  • Square's approach was more transparent and merchant-friendly, offering faster access to funds.

"The credit card industry is like the biggest fast one pulled of all time."

This quote criticizes the traditional credit card industry's practices, contrasting them with Square's more transparent approach.

Square's Rapid Growth and Product Development

  • Square's design-focused approach resulted in a high-quality user experience from the start.
  • The company quickly developed enterprise-class features, partly driven by a partnership with Starbucks.
  • Square evolved from a payment system to a comprehensive suite of business management tools.

"It was birthed as a perfectly formed product."

The quote reflects the perception of Square as a fully realized and well-designed product upon its initial release.

Square's Impact on the POS Market

  • Square pioneered the cloud POS category and solidified its position through product development.
  • The company's growth is partly due to the expansion of the cloud POS industry itself.
  • Square capitalized on the Starbucks deal to advance its POS system capabilities.

"It's really like they kind of pioneered this category and then really solidified their position in the category by forcing themselves to do all this work, much of it probably from the Starbucks deal."

The quote acknowledges the role of the Starbucks partnership in accelerating Square's development and position in the POS market.

Acquired Flywheel Concept

  • Square's business model operates like a flywheel, where merchant success fuels Square's growth.
  • The more merchants use Square and grow their business, the more transactions occur, leading to higher revenue for Square.
  • Square charges fees for certain services while offering others for free, similar to AWS.
  • The acquisition of Caviar provides a food delivery option for restaurants, contributing to Square's flywheel.
  • Square Capital offers loans, generating additional revenue.
  • The main goal is to help merchants grow, which in turn increases Square's profits.

"Yeah, well, it's a flywheel. It's an acquired flywheel."

This quote introduces the concept of the acquired flywheel, emphasizing that merchant growth and Square's growth are interconnected, driving each other forward.

Starbucks Transaction-Based Revenue Hangover

  • Square's partnership with Starbucks was initially profitable but turned out to be costly.
  • Starbucks transactions were broken out as a separate revenue source, which became zero after the deal ended.
  • The partnership left Square with a "massive hangover" due to its high cost despite generating good revenue.

"And so this Starbucks thing, it leaves them with a massive hangover."

The quote highlights the negative aftermath of the Starbucks deal for Square, indicating that despite revenue, the deal was ultimately detrimental to Square's financial health.

Square's Valuation and Growth

  • In 2012, Square raised a significant funding round and was valued at $3.25 billion.
  • By 2014, without going public, Square raised $150 million at a $6 billion valuation from investors including the Singapore sovereign wealth fund and Goldman Sachs.
  • Square experienced substantial growth in payment volumes and revenue, making real margin dollars from transactions.

"They were valued, I think at three and a quarter billion dollars in that round."

This quote refers to Square's valuation during a funding round in 2012, which is significant as it demonstrates the company's growth and investor confidence.

Square's IPO and Financial Strategy

  • Square approached break-even after the Starbucks deal, with a net loss that was decreasing over time.
  • They paid down their fixed costs and prepared for an IPO with a bright future.
  • Despite challenges in 2015, including the Starbucks deal and Jack Dorsey's dual CEO roles at Twitter and Square, they went public in November 2015.
  • The IPO was priced at $9 per share, below the target range, with a $2.9 billion valuation—half of the last private round.
  • The "ratchet" provision required Square to issue additional stock to certain investors, leading to a $93 million stock issuance.

"They go public on November 19, 2015, at $9 a share, which equates to a $2.9 billion valuation."

This quote explains the specifics of Square's IPO, including the share price and valuation, which were notably lower than the valuation during their last private funding round.

Goldman Sachs' Conflict of Interest

  • Goldman Sachs, as an investor and lead underwriter, faced a conflict of interest during Square's IPO.
  • Goldman Sachs benefited from the ratchet provision, which incentivized a lower IPO pricing.
  • The bank's dual role raised questions about the fairness and integrity of the IPO process.

"The incentive for Goldman as the lead underwriter on this IPO is to actually price it lower."

The quote points out the conflict of interest for Goldman Sachs, suggesting that the bank had a financial incentive to underprice Square's IPO due to the ratchet provision.

Square's Business Fundamentals and Growth Potential

  • Square's business model has low churn rates and predictable revenue.
  • The company's focus on small businesses and bundled services contributes to its growth.
  • Cohort-based analysis shows that revenue from growing businesses offsets losses from customer churn.
  • Square's marketing strategies and service offerings create a sustainable, growing business.

"Square has this CAC to LTV ratio where they can figure out, boy, when we deploy x in marketing spend, we make it back plus 30% or so in less than two years."

This quote explains Square's customer acquisition cost to lifetime value ratio, highlighting the efficiency and effectiveness of their marketing investments and the predictability of their business model.

Square's Narrative and Market Perception

  • The narrative around Square's IPO was negative, with concerns about overvaluation and the viability of the payments industry.
  • Square's internal narrative focused on helping merchants grow rather than just processing payments.
  • The company's success post-IPO contradicted the negative press, proving the strength of its business fundamentals.

"If you listened to the press around the time of the Square IPO... it was like, this was the worst of times."

The quote reflects the media's negative perception of Square during its IPO, contrasting with the company's actual performance and growth trajectory.

Square's Position as a Small Business Company

  • Square's branding as a small business company, rather than just a payments company, gives it flexibility and strength.
  • The company's mission aligns with providing essential services to businesses, including capital, customer acquisition, and loyalty.

"Square isn't a payments company. Square is a small business company."

This quote emphasizes Square's broader role in supporting small businesses, which is central to its brand and strategy, beyond just offering payment processing services.

Access to Capital and IPO Decision

  • Square needed more capital post-Starbucks deal to leverage scale and grow.
  • The decision to go public was influenced by the need for capital and the limitations of private market funding.
  • The IPO allowed Square to continue its growth trajectory and invest in marketing for predictable returns.

"Let's talk about access to capital a little bit, and this will help us guide a little bit of our criteria for grading."

The quote introduces the topic of access to capital as a key factor in Square's decision to go public, which is an important consideration for evaluating the success and rationale of the IPO.

Public vs. Private Company Valuations

  • Public company valuations are concrete as ownership percentage is tied to actual shares.
  • Private company valuations can be inflated due to preferences that protect investors.
  • Liquidation preferences in private markets reduce investor risk and complicate valuations.

If you're a public company and somebody says, I will give you a valuation of $1 billion and I will own X shares that are worth 20% of the company, then they actually own X shares that are worth 20% of that company.

This quote emphasizes the tangibility of valuations and ownership in public companies, where share ownership directly correlates with company valuation.

But if a private investor, if the price goes down or the company gets sold for $200 million, like, tough luck.

The quote highlights the risks associated with private investments, where the outcome can be less favorable and investor protections are not as strong as in public markets.

So the way that that sort of works is you can say, hey, I'm going to take 20% of this company and give you $200 million and value you at a billion dollars, but if you sell for less than a billion.

This explains how private market valuations can be misleading, as they may not reflect the actual value realized in a sale, due to investor protections like liquidation preferences.

The Impact of Liquidation Preferences

  • Liquidation preferences ensure investors recoup their investment before other shareholders in a sale.
  • This can lead to situations where employees and common shareholders receive less than expected.
  • High valuations with liquidation preferences can be problematic if the company's value decreases.

If you sell for 500 million, I'm still going to take my 200 million back. If you guarantee a return like the ratchet, it's like, no, I'm going to take my 200 million and I'm going to take a 20% return.

The quote explains that liquidation preferences can guarantee investors a return even if the company sells for less than the valuation, impacting other shareholders.

And so you get yourself into this situation where suddenly you have a $6 billion valuation. You start to realize that the public markets aren't going to give you that $6 billion valuation.

This highlights the potential disconnect between private valuations with preferences and what the public market is willing to value a company at, leading to challenges during an IPO.

Employee Compensation and Stock Options

  • Stock options are a key part of employee compensation in startups.
  • High valuations can lead to stock options with strike prices that are unrealistic, affecting employee compensation.
  • Realizing stock options may not be valuable can lead to employee attrition and dissatisfaction.

So employees are hired in, they're given 25% of their compensation in the form of stock options. But it turns out those stock options have a strike price where the valuation of the company is $6 billion.

This quote illustrates how employees may be compensated with stock options that could be worthless if the company's valuation is not realistic, leading to potential undercompensation.

Right. And people started to sort of realize this, where they're hired in and they're like, wait a minute, I'm never going to be able to.

The quote captures the moment when employees recognize that their stock options may not provide the financial benefits they expected, which can lead to dissatisfaction and turnover.

The Importance of Valuing Companies on Fundamentals

  • Investors and founders should value companies based on fundamentals, especially at later stages.
  • Overvaluing a company can harm employees and affect the company's long-term success.
  • Early-stage valuations are challenging, but later-stage companies should have clearer fundamentals.

But when you have your investor hat on, that's why you really need to value companies based on fundamentals.

This quote underscores the necessity for investors to base their valuations on the fundamental performance of a company rather than market hype or inflated metrics.

Like taking a $6 billion valuation because you can get it and it feels good, is like, all nice and well, but you just screwed your employees if you take it with all this structure.

This highlights the potential negative consequences for employees when a company is overvalued, particularly when the valuation includes complex financial structures.

The Role of Experience in Startup Management and Investing

  • Experience is invaluable in managing and investing in startups.
  • The complexity of terms and financial structures in investments has grown significantly.
  • Both lived and synthetic experiences contribute to better decision-making in the startup ecosystem.

It takes being really hard in the weeds doing the research on this stuff, being a venture capitalist, being someone with early stage shares, or being a founder of a company that goes through many rounds of this stuff to really see how this plays out.

The quote emphasizes the depth of understanding and experience required to navigate the complexities of startup financing and management effectively.

Just the value of experience when it comes to startup management and startup investing.

This quote highlights the overarching theme that experience is critical for success in the startup world, both from a management and investment perspective.

Square's Strategic Decisions and IPO Timing

  • Timing is crucial for a company's strategic decisions, including IPOs.
  • Square's decision to IPO later than perhaps optimal led to a challenging period.
  • The Starbucks deal and other factors may have influenced Square's timing and strategy.

And in thinking about that one option, and this is, I think, really hard to expect this of someone. But one option is back when they had that, I think their series D, that was Starbucks and city and soccer, was in the neighborhood of three and a half billion instead of that private round, they could have just tried to go public.

This quote discusses the hypothetical scenario where Square could have chosen to go public earlier, potentially leading to a more favorable outcome.

I wonder if it would have been interesting to see if they'd gone that path. I wonder, though if the Starbucks deal was just too volatile at that point and if they were still figuring out how bad it was.

This reflects on the potential reasons why Square may have delayed their IPO, considering the impact of the Starbucks deal and its financial implications.

The Value of Experience in Startup Management

  • Experience provides valuable insights into various outcomes of startup financing and operations.
  • The evolution of term sheets and investment agreements underscores the increasing complexity of the startup investment landscape.
  • Experience, whether direct or vicarious, is essential for navigating the startup ecosystem.

I think you really see the value of experience. Every time I look into one of these companies, my eyes gets opened by all the different scenarios that happen.

The quote conveys the speaker's recognition of the diverse and complex scenarios that can occur in the startup world, highlighting the importance of experience in understanding these nuances.

This is a great one, which is like just the value of experience when it comes to startup management and startup investing.

This quote reinforces the theme that experience is a critical asset in managing and investing in startups, contributing to better judgment and decision-making.

Square's Resilience and Growth

  • Despite facing challenges, Square has shown resilience and is now in a strong position.
  • The company's ability to introduce new products and achieve predictable growth is notable.
  • Square's experience illustrates the importance of right decisions in tough times.

It is really a testament to a lot of the things they did right. That they've come as far as they have.

This quote acknowledges Square's successful navigation through difficult periods and its resultant solid standing in the market.

The company's in a pretty great place right now. It has predictable growth.

The quote highlights Square's current favorable position and steady growth, which reflects the company's resilience and strategic decisions.

The Significance of Timing in Square's IPO

  • Timing can greatly influence the success of a company's IPO.
  • Square's IPO timing may have been suboptimal, but their product timing was excellent.
  • The company's ability to capitalize on market trends and consumer behavior was crucial.

I feel like the timing of the IPO was so bad. But the timing of the company and the product, I think this is just a fantastic example of what we talk about a lot on this show of riding waves and timing those waves, right?

This quote juxtaposes the poor timing of Square's IPO with the excellent timing of the company's founding and product launch, which capitalized on market trends.

Merchant services industry and just instant product market fit. It's so rare. I mean, that's like an iPhone style event that happens so rarely where something gets released and just everyone is like, yes, nailed it.

The quote emphasizes the rarity and significance of achieving instant product-market fit, as Square did with its services, likening it to the impact of the iPhone's release.

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