Shopify has made it clear they are in the product-market fit stage and will scale between 2021-2023, as referenced in a recent investor presentation. Product-market fit is an exploratory stage where profits are not prioritized. Once product-market fit is achieved, the growth trajectory can move very quickly.
Gross Merchandise Volumeis growing 51% year-over-year at $13.8 billion.
Shopify makes 2.63% of GMV, or $361M of the $13.8 billion. Compare this to Amazon.com who makes 26.7% of GMV ($42.7 billion on $160 billion GMV, in 2018) and eBay who makes 11.7% of GMV ($10.86 billion on $92.6 billion, in 2018).
In June, Shopify announced the Shopify Fulfillment Network to serve as a dedicated fulfillment center and to speed up deliveries to help merchants remain competitive. The goal of the fulfillment center is to put independent retailers with 10 to 10,000 orders per day on par with the fulfillment centers of larger retailers. To date, only early access to the fulfillment center is available.
faf607f5-be25-40d7-8f8a-579174b86d69_Shopify-Premium-Analysis-10-2019.pdf
Shopify 2019 Analysis
Introduction:
Shopify is a stock that comes with a heated debate due to prospects for high growth and immense volatility. The stock has a high valuation (at times), and momentum traders are attracted to the stock, which hasn’t helped the volatility. To illustrate, 52-week low is $117.64 and the 52-week high is $409.61.
This analysis will look at where Shopify is today, and Shopify’s potential by 2023, with ideas for entry. From Shopify’s acquisition strategy and fulfillment plans, it is very unlikely the Shopify we see today will be the Shopify of the future. This is due to the acquisition strategy, and Shopify’s clear ambitions to be more than point-of-sale software.
The risk is Shopify’s high valuation compared to the timing of when Shopify will report the anticipated profits from the new fulfillment center and expansion potential (2021-2023). New investors risk over-paying now for the Amazon-like aspirations that may materialize in two years from now. In addition, investors who have early positions risk exiting due to broader market volatility that is driven by momentum reversals and rotation into value. The goal will be for new investors to enter at a price where there is upside potential and for existing investors to remain invested at an unshakable valuation.
The reason to stay long on Shopify, is that industries get disrupted and e-commerce is overdue for disruption. Amazon’s pay structure is not fair to merchants at 26%. eBay is stagnant in revenue growth for nearly 10 years (fluctuating between $8B to $10B). Shopify is already the third largest online retailer in the United States and is doing one thing very well that the others neglect: emphasizing the merchant (whereas Amazon’s focus is the customer). I believe this piece to the product-market fit will carry Shopify through the hurdles of taking market share from one of Wall Street’s favorite darlings (Amazon) – more on this below.
Product Overview
The question many investors ask about Shopify is whether it can compete with Amazon — or even Alibaba? Today, this is not a possibility as Amazon and Alibaba drive traffic to products and take a premium for helping secure the sale. They own the domain website, so customers are loyal not to the merchant, but to Amazon and Alibaba.
I believe this could be where Shopify will end up, eventually. If the fulfillment center is a success, which will take some time to test and gather traction, then the back-end will be set up for the front-end development of a website or some kind of product aggregator – whether that’s a website domain or another recommendation engine.
For Shopify, it makes sense to first build out the fulfillment center for their point-of-sale software in order for a successful pivot.
Amazon had a very successful pivot from selling books to selling all retail items. For an investor to see a pivot, it requires looking beyond where the company is today.
Shopify counts over 800,000 merchants as customers compared to Amazon’s 5 million marketplace sellers. Shopify charges the sellers 2-3% compared to 26.5%. Amazon is also predominantly a United States presence with about ¾ of sales occurring domestically. Shopify does not break out these numbers but it is widely understood to have a global strategy.
As mentioned previously, an important distinction between Shopify and Amazon is that Shopify places the importance on the merchant while Amazon places the importance on the retail customer. While Amazon builds out 1-day shipping, Shopify is building out tools for platforms and tools for merchants.
Perhaps unfamiliar to public markets, the phrase “chicken and the egg” is often talked about in private markets. This phrase refers to the question of which comes first for a product or service – the buyers or the sellers. Shopify’s strategy to attract merchants through increased services and decreased costs is a very valid approach, and in my opinion, this is what will cement Shopify’s success.
Shopify is very clear they are in the product-market fit stage and will scale between 2021-2023, as referenced in a recent investor presentation. Product-market fit is an exploratory stage where profits are not prioritized. Once product-market fit is achieved, the growth trajectory can move very quickly.
Source: Shopify 2019 Investor Day
Fundamentals
Shopify has grown at a pace of roughly 55%-60% year-over-year or more for quite a few consecutive years. The company is profitable on an adjusted basis, yet is not profitable by GAAP standards. The adjusted operating margins are at an estimated $20 to $30 million this year.
Adjusted earnings came in at 14 cents in the most recent quarter, up from 2 cents a year ago. Shopify reported revenue of $362 million, up from $245 million, and ahead of earnings estimates of $350 million. Net losses were at $28.7 million, or 26 cents per share, compared to $24 million, or 23 cents per share in the year-ago quarter.
Shopify’s full year revenue is expected to be in the range of $1.51 billion to $1.53 billion. GAAP operating loss is expected to be between $145 million and $155 million with an adjusted operating income of $20 to $30 million.
Next quarter, Shopify expects to report revenue between $377 million to $382 million, above consensus estimates of $374 million. GAAP operating loss is $44 million to $47 million with adjusted operating income between $0 to $3 million.
There is some criticism around the stock-based compensation that has been paid, as the spread between GAAP and non-GAAP is wider than many other companies in a similar revenue bracket.
Shopify has held frequent, secondary-offerings. In September, Shopify offered 1.9 million shares, raising $600 million. In December, Shopify sold 2.6 million shares, which followed a 4.8 million share offering earlier in the year.
GMV
Gross Merchandise Volume is growing 51% year-over-year at $13.8 billion.
Shopify makes 2.63% of GMV, or $361M of the $13.8 billion. Compare this to Amazon.com who makes 26.7% of GMV ($42.7 billion on $160 billion GMV, in 2018) and eBay who makes 11.7% of GMV ($10.86 billion on $92.6 billion, in 2018).
Percentage of GMV illustrates the power of owning the domain. Notably, from an investment standpoint, eBay is not a growth stock with stagnant revenue and Amazon is not a pureplay – therefore, these are not perfect comparables for valuation even if their business models are similar.
With that said, eBay makes 7x more in quarterly revenue than Shopify and roughly $500 million in net income per quarter, yet Shopify commands a higher market cap than eBay. Therefore, Shopify’s growth is being duly rewarded and the question remains if there is upside potential for new investors.
Product Launches & Acquisitions
In June, Shopify announced the Shopify Fulfillment Network to serve as a dedicated fulfillment center and to speed up deliveries to help merchants remain competitive. The goal of the fulfillment center is to put independent retailers with 10 to 10,000 orders per day on par with the fulfillment centers of larger retailers. To date, only early access to the fulfillment center is available.
In the most recent earnings call, COO Harley Finkelstein stated Shopify will spend $1 billion on the fulfillment center over the next five years, while CFO Amy Shapero said the company plans to bring seven warehouses online this year.
The announcement of the fulfillment center places Shopify closer to online retail rivals, such as Amazon and eBay, while distancing Shopify competitively from point of sale systems, such as Square or Stripe. Shopify will also offer custom shipping boxes and additional value adds, although the real value is in easing the inventory and fulfillment details that can become complicated with third-party logistics providers.
Notably, eBay announced a rival fulfillment center at their user conference in July.
This month, Shopify announced the acquisition of 6 River Systems, which will add collaborative robot fleets to Shopify’s Fulfillment Network. 6 River Systems builds robots that speed up production in warehouses. The company’s collaborative robot named “Chuck” guides employees through facilities and each step of the packaging process. The acquisition will bring on board robotics experts who worked on Amazon’s Kiva Systems.
The acquisition of 6 Rivers is strategic as the company will have annual revenue of $30 million in 2020 and will increase the company’s expenses by $25 million in the current year, adding no material value.
Last May, Shopify acquired the B2B wholesale purchasing platform, Handshake. Handshake’s platform offers the ability for merchants to handle sales directly rather than pass off the sale to a third-party marketplace. The team from the acquisition became part of Shopify Plus, the enterprise-level part of the business that can handle over 10,000 transactions per minute. B2B e-commerce sales in the United States reached $1 trillion in 2018, with Shopify Plus making up 24% of revenue in 2018.
Borderless Retail & B2B eCommerce
Shopify’s mission is to offer borderless retail. The company envisions a future where North American shoppers can easily and seamlessly purchase from Europe, Asia and other continents without the level of friction and delays experienced today. Expanding globally is an area where Shopify plans to offer expertise. The company offers many tools and marketing ideas for small to medium-sized retailers. Statistics provided by Shopify indicate that 57% of online shoppers make purchases from overseas retailers.
B2B eCommerce, which is the exchange of goods and services between companies, has overtaken B2C eCommerce. According to Statista Digital Market Outlook, the global B2B eCommerce market will be worth $12.2 trillion in 2019 compared to $2 trillion for the B2C market. Keep in mind, Asia Pacific contributes 80% to the market, with the majority off limits in China, with North America’s share being 12%. According to Gartner, spending on B2B eCommerce is expected to grow at over 15% during 2015-2020. According to Statista, the North American Market is estimated to be worth $1.4 trillion in 2019, up from $606 billion in 2013, growing at 15.3%. Europe is growing at 5.6% CAGR.
source: Statista
Shopify is not on the map as a competitor in the B2B eCommerce space. The major players are Amazon, Alibaba, Rakuten, Mercateo, Global Sources, Walmart and IndiaMART.
Amazon, especially, is doing well in this space and has made an effort to work with startups with Amazon’s newer B2B platform called Launchpad. The company partnered with crowdfunding platforms, venture capitalists and startup accelerators, like Kickstarter, IndieGogo and Y Combinator, to provide capital to help B2B startups launch and scale. The UK launch of the platform was also supported by the startup community and platforms such as Crowdcube. This is more of the level where Shopify competes, compared to Alibaba or Mercateo.
Conclusion:
Shopify has stated they are in the product-market fit stage. Investors should use this to their advantage as many doubting investors may lose patience by the time the company reaches its growth trajectory stage. The financials are not likely to provide the safety net most investors need to be comfortable as the company is 1-2 years from its major growth phase.
Shopify currently has a forward price-to-sales of 24, and thus, you should believe in a company’s strategy when there is a higher valuation. From a go-to-market strategy and unique value proposition perspective, Shopify has an excellent strategy, in my opinion – which is to focus on the merchants. You can expect Shopify to undercut Amazon on the merchant costs while iterating until their fulfillment is on par. This is attacking Amazon on the flank, so to speak, rather than head-on by focusing on the customer. Therefore, with proper execution, Shopify has a viable competitive advantage.
Technical Analysis
By Knox Ridley
Moving Averages
Shopify (SHOP) has broken both its 20-day and 50-day moving average, with the 20-day crossing over the 50 to the downside. This crossover is notable, but as you can see, this happens quite frequently when SHOP goes into a correction.
The 20-day is typically viewed as a normal pullback defense, while the 50-day is considered an uptrend defense.
The 20-day is clearly pointing down, which can be seen in the above chart by looking at the orange line, while the 50-day is just beginning a slower arch down, which can be seen in green. When the 50-day begins to shift its direction, it’s much more notable, and warrants caution.
The 200-day is highlighted in purple. As you can see, the price is approaching this average, but is still above it. We will want to watch how the price reacts to this level. Typically, the 200-day is strong support, so any break below should be noted.
Internal Strength
Relative Strength Index (RSI):
Regarding Shopify, there are a few points worth noting. First, notice the blue trend lines in the price of SHOP and in the RSI. These trendlines started at the December 2018 bottom. As the price moved along a specific upward trendline, highlighted in blue, so did the RSI, also highlighted in blue, which is indicating a healthy uptrend. Both of the trends broke in unison, which is highlighted by the black arrows, indicating that the current uptrend is over. The extent of the downtrend is the question to answer.
if you look at the horizontal red line at the 27 mark of the RSI, this line has acted as support for the uptrend since 2016. Until the RSI breaks above 60, the momentum is pushing down.
Moving Average Convergence/Divergence (MACD):
The MACD is an indicator used to gauge momentum as well as changes in trends. You’ll notice the intensity of the current downtrend in the MACD. The redline running along the -5.75 line has acted as strong support going back to 2016. The MACD’s momentum never broke this level. Today, the MACD broke through this support with force, making much lower lows. Therefore, the downtrend we are in may not be over.
Conclusion:
According to the MACD, the current downtrend has a level of momentum that we have not seen in Shopify, so far. The 50-day is beginning to point down, which is a further indication of weakness. We will want to watch the 27 line on the RSI as well as the below moving averages. If we break these levels, expect more downside to follow.
Head and Shoulder
A Head and Shoulder pattern is a widely regarded bearish pattern. The dotted black line indicates the “neckline,” or support at $281.75. If this level breaks, and is confirmed by price failing to break back above the price region, expect downside to follow. Anyone holding Shopify and is looking to protect gains, I would hold a stop just below this level at $281. As you’ll see in the next section, this support level also lines up with an important Fibonacci level as well, which adds to the importance of this support region.
Elliot Wave
Elliot Wave Theory is, in my opinion, one of my favorite tools for organizing a game plan for a position. According to Elliot Wave, the market moves in a 5-wave, move in the primary direction of the trend, and then 3 moves in a corrective direction, and then repeats. These moves line up with and are confirmed by Fibonacci ratios, which are viewed as accurate in many instances. Whether you believe in this theory or not does not matter, because the market believes it. In other words, time and time again we see the market react to these ratios, which is why I use it to gauge a general game plan.
Aerial View (primary count):
In the case of SHOP, from the 2016 uptrend, we can see a clear 5-wave up trend, highlighted in green. My primary count has us completing 5 waves up; however, it’s worth noting that SHOP has a history of extending its 5th wave. My primary count will be invalidated with new highs.
If you want to play this bullish scenario before confirmation, place a stop below the neckline of the head and shoulders pattern, which also coincides with the 138.2% extension within Wave 5’s count ($281). I see this support region as the determining factor – if it holds, expect an extended 5th wave and new highs, but if it breaks, I’m expecting a deeper than expected pullback.
If the head and shoulders pattern is confirmed, we will likely reach the box in green highlighted in the graph, which coincides with a cluster of extensions and retrace levels. It’s worth noting that there are not a lot of support levels below the current level we are hovering over. If this level breaks, I’m expecting a retrace to at least the 23.6% retrace level ($196 region).
Fibonacci ratios place a low point is around the 38.2% retrace – around the $125 region. This is unlikely even in a worst-case scenario, however, some Wave 2s hit these Fibonacci ratios. Due to Shopify’s fundamental strength, this is unlikely.
Once the wave-2 retrace is complete, we will start a powerful wave 3 on this larger degree in blue, which my calculations have us going well beyond to new highs. The primary goal is to catch the wave-3.
Close Up View:
The above chart offers a significant clue to where we are in the overall count, and further evidence I am using to justify caution. When we see 5-waves on any level, it indicates the direction of the main/primary trend. When we see 5-waves down on a smaller level, after a 5-wave uptrend, it’s an indication of a trend change.
We can clearly see a 5-wave pattern down from the highs, which is highlighted in magenta, and a retrace back to the exact 50% retrace level. This retrace level unfolded in a 3-wave corrective pattern. This information on the micro level tells me that more downside could follow. This is important because even if you want to play the upside, then please mind the $281 region as an appropriate stop.
