While the company’s narrative is highly alluring, its fundamentals firmly point towards a company with decelerating revenue growth rates and a stock that is clearly overvalued. With no upside potential left for new shareholders, investors would do well to sidestep this stock now. Here’s why:
A Very Alluring Narrative
Shopify is a leading e-commerce company helping merchants from small entrepreneurs to large brands start and scale their e-tail operations. Shopify has carefully positioned itself with tailwinds at its back as more merchants attempt to grow their online presence, making Shopify's merchants on an aggregated basis the second largest e-commerce retailer in the U.S.
In fact, as of Q4 2019, Shopify held a greater portion of market share of the U.S. retail e-commerce market -- 5.9% -- than eBay (EBAY) - Get Free Report (5.7%) or Walmart (WMT) - Get Free Report (4.7%).
Shopify’s Chief Operating Officer Harley Finkelstein argues that for Shopify to succeed it must go where the customers are: be it online or offline. It plans to do this by offering merchants enhanced point of sale (POS) hardware to make merchant's transaction experience seamless, as well as supporting their shipping needs by offering eligible merchants greater flexibility through diverse shipping profiles and parcel insurance.
Having acquired 6 River Systems for $450 million last year, the AI-powered fulfillment network has gained rapid traction. Nonetheless, Shopify argues that Shopify’s fulfillment network is in the first year of a five-year trajectory to ensure that through its platform merchants are well-positioned to compete on the global stage.
A Dose of Reality
Shopify’s ambitions to grow wallet share from an expanding merchant base is showing no signs of slowing down.
However, its revenue growth rates are clearly showing signs of slowing down. Specifically, after growing its revenues by 59% in 2018 and 47% in 2019, its revenue growth rate is guided towards just 37% for the year ahead.
Valuation - No Margin of Safety
Further complicating the thesis for investors, even if we push aside the evidence that Shopify’s revenue growth rates are slowing down, is what sort of multiple should investors be willing to pay for a company expected to grow at mid-to-high 30%? This is obviously a difficult question to answer, but more than 37 times trailing sales is clearly the wrong multiple.
Furthermore, Shopify has still shown absolutely no path to profitability, despite being a maturing company. Surely this should give investors pause.
Put another way, Shopify claims to be investing for rapid growth, yet its revenue growth rates are slowing down. Also, we should bear in mind that over the past three years there has been a clear trend that Shopify's gross profit margins are compressing, with Q4 2019 marking the lowest gross profit margins over the past ten consecutive quarters. This is not aligned with the narrative of an asset-light operation.
The Bottom Line
Shopify is going to great lengths to take market share in a growing total addressable market for e-commerce. However, with so much of its best case scenario already priced in many times over, new shareholders are primed for disappointment. Investors considering this stock would do well to revisit it when a cheaper valuation prevails.