Shares of Canadian e-commerce solutions provider Shopify (NYSE:SHOP) have been on fire in 2019, with SHOP stock rising over 120% this year. That means SHOP stock has doubled and then some, all over the course of just six months.
I have long maintained that this gigantic rally by SHOP stock was justified by its improving fundamentals, and that the company’s long-term profit-growth potential is enormous. This company is aggressively and successfully disrupting the $20 trillion-plus global retail sales market. Shopify’s market share is still relatively small, but the company is growing quickly. Current trends indicate that SHOP will continue to ramp quickly. At the same time, its gross margins are high and its operating-spending rate is falling as its revenue rises.
All those dynamics (market share expansion, high revenue growth, and strong margin expansion) should persist for the foreseeable future. As they do, Shopify’s profit growth will be second-to-none. That robust profit growth will ultimately keep SHOP stock on a healthy uptrend over the long-term. As a result, in the long run, the only place Shopify stock is going is higher.
But, in the near-term, SHOP stock finally seems slightly overvalued. The company’s fundamentals are stretched and the technicals indicate that SHOP stock is overextended. Everything just seems slightly stretched fir SHOP stock at this point, and it would do the stock some good to take a breather after its record rally.
I wouldn’t be surprised to see SHOP stock trade roughly flat into the end of the year. After that, it will resume its long-term uptrend. But at this point in time, Shopify stock seems due for a breather.
Shopify Stock Needs a Breather
Almost everything about Shopify stock seems slightly stretched now.
The valuation of SHOP stock certainly seems stretched. SHOP stock trades at 26 times SHOP’s forward sales. That’s a big multiple. The S&P 500 trades at two times its forward sales. The FANG stocks trade between 3.5-times and 8.1-times their forward sales. Shopify’s peers in the STARS group trade between ten times and 16 times their forward sales. Indeed, the only non-IPO stocks in my coverage universe which are more richly valued on a forward sales basis than Shopify are Okta (NASDAQ:OKTA), MongoDB (NASDAQ:MDB), and the marijuana stocks.
SHOP’s technicals seem stretched, too. SHOP presently trades about 75% above its 200-day moving average. That nearly matches an all-time high divergence between SHOP stock price and its 200-day. The last time SHOP stock was this far above its moving averages was back in mid-2017, after the stock had rallied from $40 in December 2016 to $100 by June 2017. Over the next several months, Shopify stock bounced around, but ultimately made no upward progress. SHOP closed 2017 right around $100.
Sentiment towards SHOP is also stretched.SHOP stock continues to rise, so analysts keep upping their price targets. But the analysts can’t seem to catch up with SHOP, and today, the average price target on SHOP stock is about $300. That’s below Shopify’s current price. In other words, although excessively bullish Wall Street analysts keep upgrading SHOP stock, their price targets are still below the current stock price.
Across the board, then, it’s easy to see that SHOP stock appears slightly over its skis at this point in time.
Shopify Stock Will Run Higher in the Long-Term
Given the near-term stretched nature of Shopify stock, I wouldn’t be surprised to see this stock trade roughly flat into the end of the year. But investors shouldn’t assume that SHOP stock will never rally again. Instead, it’s just a necessary breather before the stock takes its next leg higher.
SHOP is pioneering a new era of decentralized direct retail that enables any seller to sell any product to any buyer through any channel. This new retail model results in better outcomes for consumers because increased supply leads to lower prices and enhanced convenience.
It also results in better outcomes for sellers because new sellers are coming to SHOP and succeeding after they failed on other websites. As a result, because this new model is enabling buyers and sellers to win, it is gaining traction and coming into the mainstream. As it has done so, Shopify’s reach and importance have grown tremendously.
SHOP’s growth appears to be far from over. Shopify accounted for less than 1.5% of global e-commerce sales in 2018, and its gross merchandise value grew by 50%-plus last quarter, as it has for the past several quarters. Thus, there is plenty of room for SHOP to keep growing at a robust pace over the next several years.
Further, Shopify has now jumped into the physical retail realm, meaning that its addressable market just went from e-commerce sales, which generated $2.8 trillion last year, to total commerce sales, which were worth $23.9 trillion last year. That’s a big jump, and it means that this company’s revenue ramp is indeed far from over.
Overall, Shopify has huge revenue growth potential over the next several years. On top of big gross margins and an operating-spending rate that has the potential to fall rapidly as SHOP’s revenue rises, high revenue growth should result in even stronger profit growth. I realistically think $25 in earnings per share is doable for SHOP by fiscal 2030. Based on a 30-times forward multiple, which is average for high-growth stocks, that implies a ten-year-forward price target for SHOP stock of $750.
The Bottom Line on SHOP Stock
Shopify stock is a winner, and in the long run, SHOP is heading for $750. But in the near term, the stock is fundamentally, technically, and optically stretched.
As a result, investors should hold onto most of their SHOP stock, but they should take some profits off the table and buy back SHOP on its next big dip, which could happen anytime now.
As of this writing, Luke Lango was long SHOP and OKTA.