Hindenburg’s Block attack ‘not just hot air’

Analysts say the Afterpay parent company faces potential fines and will likely be forced to clean up its customer database and remove fake accounts.

Jack Dorsey, co-founder and CEO of Block, at a crypto-currency conference in 2021. Picture: Marco Bello / AFP

Hindenburg’s short selling attack on Block hasn’t shifted the company’s fundamentals but also “isn’t just hot air” according to E & P Financial technology analyst Paul Mason, who said on Tuesday the payments giant now faces potential regulatory fines and will be forced to clean up its database and remove fake accounts.

Shares in Block were sent spiralling on both Wall Street and the ASX late last week following report a report from short seller Hindenburg, which claimed the company’s Cash App helped facilitate fraud, and refused to “unbank” customers who showed patterns indicating they might be involved in sex trafficking.

Hindenburg, which revealed a short position in the Jack Dorsey-led payments outfit, said its report followed a thorough two-year investigation.

“From a financial perspective, the Afterpay acquisition looks to be a dud. Prior to Block’s acquisition, Afterpay reported remarkably low delinquency rates. Those have surged following the acquisition, according to a report citing Fitch Ratings data,” the report reads.

Block – formerly known as Square – is threatening to sue Hindenburg, calling the report inaccurate and said it was “designed to deceive and confuse investors.” Hindenburg’s Block attack follows a report alleging electric vehicle company Nikola was “intricate fraud built on dozens of lies over the course of its Founder and Executive Chairman Trevor Milton’s career,” with Mr Milton later convicted of fraud.

Two months ago Hindenburg also attacked Indian mining giant Adani, leading to a seismic $US53bn drop in fortune for its chairman Gautam Adanim and a loss of $US120bn for his conglomerate.

“If Hindenburg’s report proves accurate, my guess at repercussions for Block is a minor (low single digits per cent) impact on total Cash App subs after they clean up the database and remove any outstanding fake accounts, and then also potentially a regulatory imposition such as a fine around historical (not present) KYC/AML deficiencies in their processes,” Mr Mason wrote in a research note on Thursday.

“This is to say that the general long term settings our financial model and valuation would remain largely unchanged, but there is some potential for negative on-time payments to regulators in a downside scenario.

“Hindenburg illustrates the ability to change your screen name in Cash App to mismatch vs the underlying details, and then demonstrates that they have procured a Visa Debit card (Cash Card) with the fake name (Donald J Trump) on the card. Block will likely have to make some changes to their policies or internal systems around this over time.”

To test its thesis, Hindenburg Research opened accounts in the name of Tesla chief executive Elon Musk and former US president Donald Trump, then obtaining a Cash App card under the “obviously fake Donald Trump account”, which “promptly” arrived in the mail.

Morgan Stanley analysts said that the number of fraudulent Cash App accounts like has a small impact on Block’s current economics.

“We are largely unconcerned by the direct economic impact that removal of all fraudulent accounts could have, and instead are more preoccupied by the potential friction that could come from changes to pre-onboarding requirements,” the analysts wrote. “We estimate that for 2024, Cash App will contribute 53 per cent of corporate gross profit, so even if 10-20 per cent of Cash App gross profit is tied to fraudulent/illicit activity that would only represent 5 to 11 per cent of total corporate gross profit.”

Block’s ASX-listed securities closed up 5.9 per cent at $96.00 each.