Shopify Inc (TO:SHOP) (NYSE:SHOP)) is a provider of a cloud-based, multi-channel commerce platform designed for small and medium-sized businesses. Shopify operates with a simple business model and customer centric services.
Since the IPO, the stock has soared more than 300% on strong financial and operating performance. More transactions take place online every day, and Shopify has positioned itself as a key player with a powerful platform that resonates with businesses of all sizes. If it can continue growing its merchant rolls, help them sell more products every day, and keep expenses in line, Shopify has the potential to be the next Amazon.com (NASDAQ:AMZN) for investors.
Investment Thesis
– Large and growing addressable SMB market
– Rapidly-growing SaaS and success-based business model
– Engaged and expanding partner ecosystem that is difficult to replicate
Large and growing addressable SMB market
According to AMI, a global small- and medium-business (SMB) insights company, in 2014, there were 46 million SMBs with 10 million operating in Shopify's core markets. With more than 325,000 merchants already signed up, Shopify claims just 3.3% of its core addressable market and less than 1% of its global addressable market. There are decades of growth potential in Shopify's industry, and management plans to gain a larger percentage of market share each year.
Many publications have made the comparison between Shopify and Amazon.com. Investors in Shopify who are hoping, or expecting, Amazon-like returns from Shopify’s stock will almost surely be disappointed. Amazon’s size, economies of scale, and technology have allowed it to dominate the industries it is involving with like no other company before.
Shopify, on the other hand, is involved in a single industry (e-commerce), and its technology is unlikely to disrupt other sectors as Amazon has done in the past. Shopify is, however, quickly establishing itself as the dominate player in the e-commerce infrastructure space, helping mainly small- and medium-sized businesses grow their online sales. Shopify is also fattening its margins by continuing to increase the number of value-added services.
Shopify shareholders should be heartened by the fact that the company is operating in rapidly-growing industry and its market penetration thus far is quite small. A big risk for investors is that a large player could try and enter this market, although a more plausible scenario is for Shopify to be acquired by a bigger company, Amazon.com itself being the most-likely suitor.
Rapidly growing SaaS and success-based business model
Shopify is an e-commerce platform that allows merchants, large and small, to create new cloud-based websites in a matter of minutes. Before a service like Shopify, it used to cost thousands of dollars to hire designers and developers to create custom e-commerce sites. Now, it only costs a monthly fee. Shopify derives revenue through two methods: merchant solutions (the small percentage merchants pay Shopify when they make a sale) and subscription solutions (the fees merchants pay on a monthly basis to use the platform). The success of the business model can be seen through the strong growth in monthly recurring revenues (MRR) and gross profits the company is making in the recent past.
Engaged and expanding partner ecosystem that is difficult to replicate
A rich ecosystem of app developers, theme designers and other partners has evolved around the Shopify platform. With ~11,000 active partners referring merchants over the last year, the company has built a strong, symbiotic relationship with partners that continue to grow. This ecosystem has grown in part due to the platform’s functionality, which is highly extensible and can be expanded through application program interface and the ~1,400 apps available in the Shopify App Store. The app ecosystem also integrates additional functionality. The partner ecosystem helps drive the growth of merchant base, which in turn further accelerates growth of the ecosystem.
Financial analysis
Subscription solutions revenues increased US$27.9 million, or 63.9%, for the three months ended June 30, 2017, compared with the same period in 2016. The period-over-period increase was primarily a result of growth in MRR, which was driven largely by the higher number of merchants using platform.
Merchant solutions revenues increased US$37.1 million, or 86.3%, for the three months ended June 30, 2017, compared with the same period in 2016. The increase in merchant solutions revenues was primarily a result of Shopify Payments revenue growing in the three months ended June 30, 2017, compared with the same period in 2016.
Gross profit increased US$39.3 million, or 82.7%, for the three months ended June 30, 2017, compared with the same period in 2016. As a percentage of total revenues, gross profit increased from 54.8% in the three months ended June 30, 2016 to 57.3% in the three months ended June 30, 2017, due principally to the growth of the higher margin merchant solutions products: Shopify Shipping and Shopify Capital, as well as higher margins on Shopify Payments and subscription solutions revenues versus the same period in 2016.
Valuation and Outlook
Shopify currently trades at price to sales ratio of 21.2x, almost three times the industry average and above Amazon.com (which itself is very expensive). Shopify is not presently making profit, and is returning its earnings back into building up the merchant base and improving the overall platform. Given the mammoth growth the company is witnessing in terms of the number of merchants, GMV and revenues, indicates performance similar to Amazon. If Shopify continues to grow at similar pace and keeping the expenses in line, Shopify has all the potential to be the next Amazon.com for the investors.
Disclosure: Neither the author nor any of the principals at SmallCapPower, or their family members, own shares in any of the companies mentioned above.
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