Fulfillment Plans Can Support High-Flying Shopify Stock


Shopify (NYSE:SHOP) stock simply looks too expensive. There’s little doubt that Shopify has a huge opportunity in the small-business space. But the valuation of Shopify stock looks close to absurd. SHOP stock trades at about 22 times its expected 2019 revenue  and 320 times next year’s expected earnings.

Why Shopify Stock at $300 Makes Sense in the Big Picture



Indeed, on a fundamental basis I called SHOP stock overvalued twice this year. Shopify stock was under $200 when I wrote both columns. SHOP stock trades around $290 at the moment, even after a pullback in recent sessions. It’s gained 125% in 2019 alone, and over 1,000% since the beginning of 2016.

Despite those gains, I still believe SHOP stock is too expensive. But there are reasons why it’s soared, as I wrote last month, and there’s no real reason why it has to come back to Earth any time soon. In fact, after examining plans that SHOP disclosed last week, I think there may be more reason than ever to believe that Shopify stock can keep flying for quite awhile.

Shopify Moves Into Fulfillment

The big news from the conference was that Shopify is moving into fulfillment.  That is, SHOP will actually process the orders shipped by its merchants. The company plans to spend roughly a billion dollars to set up a network of fulfillment centers.

The analogue is obvious: Shopify is moving into the territory of Amazon.com (NASDAQ:AMZN). That’s not necessarily a surprise;  I’ve called out Shopify as a company that could be the next Amazon. But Shopify is making a bigger move than many may have expected.

And it is a move that makes some sense. The whole point of SHOP is that small merchants can benefit from the company’s large size That obviously applies to distribution and processing as well.

Shopify can pool orders from different merchants, cutting shipping costs. It can automate processes in a way that individual customers can’t. Across the board, Shopify can cut overall costs and pass some of the savings onto its customers, while keeping a nice chunk for itself.

Why the Fulfillment Initiative Can Keep SHOP Stock Near Its Highs

Shopify stock rallied on the news, though as noted, it’s given back those gains. Looking forward, however, fulfillment can be a driver for SHOP stock for two key reasons.

First, it expands the company’s addressable market, which in turn boosts its longer-term growth prospects. Shopify now only gets a cut of the value of its orders; once its fulfillment efforts are ready to go, however, it will take a portion of the processing and distribution costs as well. More revenue should mean more profits and a higher valuation for SHOP stock.

Secondly, fulfillment adds another aspect to the outlook of Shopify stock. Outlook matters for growth stocks. The company’s fulfillment operation, as an analyst noted, probably won’t be profitable until 2023. That’s not necessarily a bad thing, though. Investors have a full four years to look forward to those profits.

As the huge gains of SHOP stock and so many other growth stocks show, investors can stay optimistic about long-term profits for some time to come. Analysts can bump up their own price targets to keep pace with higher share prices, causing stocks to rise even more. Even investors who are bearish on SHOP need to understand that fulfillment adds another potential reason for investors to keep bidding SHOP stock higher, at least in the near-term.

The Risks to Shopify Stock

Fulfillment seems to destroy the argument for shorting SHOP stock. It’s always dangerous to short based on valuation. Add to that a potential growth driver that is over four years away, and properly timing a short seems difficult at best now.

Longer-term, however, I still see reasons to be skeptical about Shopify stock for three reasons. First, the valuation of SHOP stock is prohibitive. Its growth is impressive and its triple-digit price-earnings multiple is inflated by its still-thin margins. But SHOP stock might be the most expensive stock in the market at the moment.

Second, I still question what will happen to SHOP when the economy turns. Small businesses are notoriously precarious during a recession, as I’ve written in the past. SHOP stock is thus more cyclical than most software-as-a-service plays. That means it will take a bigger hit if any macro troubles arise. The market is valuing most cyclicals right now at a discount, but no such discount is priced into Shopify stock. It seems likely, if not certain, that Shopify’s growth will decelerate quickly if economic worries rise.

Finally, the fulfillment business  is risky Shopify is trying to be like Amazon, and that’s not easy. The effort may cost well more than $1 billion: Walmart (NYSE:WMT) and Target (NYSE:TGT) have spent multiple billions building their own infrastructure. Even at a smaller size, the business is tough. PFSWeb (NASDAQ:PFSW), a small fulfillment play, trades at a five-year low at the moment. Rivals like SapientRazorfish (acquired by Publicis (OTCMKTS:PUBGY)) and Radial (owned by bpost (OTCMKTS:BPOSY)) have struggled lately as well.

At some point, I still believe SHOP stock will come back to Earth. But I increasingly believe that won’t happen anytime soon. And with the promise of fulfillment profits, the decline may take even longer.

As of this writing, Vince Martin is long shares of PFSWeb. He has no positions in any other securities mentioned.

Article printed from InvestorPlace Media, https://investorplace.com/2019/06/fulfillment-plans-another-potential-support-high-flying-shop-stock/.

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