Is Shopify Stock Getting Ahead of Its Fundamentals?

Investors in online marketplace Shopify (NYSE:SHOP), one of Canada’s best tech names, have enjoyed the stock’s stellar move up  in 2019; so far this year,  SHOP stock has soared 133%. On June 20, the Shopify stock reached an all-time high of $338.94.

Is Shopify Stock Getting Ahead of Its Fundamentals?

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Shopify is expected to report its second-quarter earnings on July 30. Now that SHOP’s earnings are approaching, let’s look at what may be next for SHOP stock, which has been a darling of Wall Street since its IPO in 2015.

SHOP’s Q1 Earnings and Background

On Apr. 30, SHOP reported strong Q1 results that beat analysts’ average estimates on both the top and bottom line, thanks to strong demand for its subscription solutions. Shopify reported revenues of $320.4 million, which was up almost 50% year-on-year. Its net loss came in at $24.2 million.

In a nutshell, Shopify sells out-of-the-box e-commerce solutions. The company’s growth comes from two segments: “Merchant Solutions” and “Subscription Solutions.”

Merchant Solutions includes tools that enable merchants to serve their customers better and sell more products. Within Merchant Solutions, SHOP offers payment services, shipping services, and a working capital management tool.

Subscription Solutions offer merchants of all sizes monthly recurring subscription plans that cost from under $10 to over $2,000 per month. SHOP now has over 800,000 sellers, an increase of 25% over the past year.

Shopify Plus, the premium version of Shopify, has over 5,300 customers, including names like Johnson & Johnson (NYSE:JNJ), Unilever (NYSE:UL), and the Obama Foundation.

A quarter of the company’s monthly recurring revenues comes from Shopify Plus merchants.  SHOP has recently launched a multi-currency feature for Shopify Plus merchants who also use Shopify Payments.

During the Q1 earnings conference call, CEO Tobi Lutke stressed that SHOP would continue to innovate and launch new products and services for both merchants and their customers. Wall Street also expects the company to continue to grow via acquisitions.

Shopify Stock’s Global Growth

Management has also been looking at expanding overseas, especially in non-English-speaking countries, as the company’s next key growth area.  In Q1, the company’s overseas customer base grew, enabling its international revenue growth to accelerate.

Earlier in the year, Shopify launched its payment gateway, Shopify Payments, in Germany, making bank account transfers possible there. Several of Canada’s provinces have used Shopify to launch online cannabis stores, giving Shopify even more global visibility.

In its efforts to expand beyond the core English-speaking countries, the company has recently made the Shopify website available in six other languages: French, German, Japanese, Italian, Brazilian Portuguese, and Spanish; the website is soon expected to be available in 11 languages.

In other words, Shopify is an attractive company with excellent growth prospects in cloud-based e-commerce , both in North America and globally. However, investors also need to be aware of some question marks facing SHOP stock.

Should Investors Be Concerned About the Valuation of SHOP Stock?

SHOP stock bears point out that, given the high valuation of Shopify stock, the shares would be hit hard if a recession occurs. Even if the stock market does not go up as rapidly as it has over the past decade, then the momentum of high-flying names like SHOP stock will slow down, too.

For example, SHOP stocks’s price-sales (P/S) ratio is high enough to make value investors run for cover. Shopify stock’s P/S ratio stands at about 30. To put the metric into perspective, the S&P 500’s average price-sales ratio is 2.1.

Another way to look at this number is to compare the company’s current  P/S ratio with its P/S ratios over time. Since going public, SHOP stock’a lowest and highest P/S level has respectively been 6.86 and 30.

In other words, at present, its P/S ratio is at its highest level ever. That essentially means that the owners of SHOP stock are paying a lot more for Shopify stock now than they were when the P/S ratio was 6.

Another way to analyze the P/S ratio is to compare it with the ratios of  companies in similar sectors. The P/S ratio of Amazon (NASDAQ:AMZN) is four. Alibaba’s (NASDAQ:BABA), P/S ratio stands at eight. And MercadoLibre (NASDAQ:MELI) stock’s P/S is 17.

Although the P/S ratio of SHOP stock is very high, investors should also remember that it is only one of many valuation metrics. Moreover,  it does not take into account the profitability or costs of Shopify.

What Else Could Derail SHOP Stock?

SHOP bulls are happy to point out that the company’s revenue growth is showing no sign of slowing down.

But on the other hand, Shopify has not yet reported any profits.  If SHOP cannot keep meeting the Street’s aggressive growth forecasts, then the owners of SHOP stock may become more concerned about its lack of profit, and Shopify stock could drop.

During Q1, SHOP launched its TV and film content division, Shopify Studios, Wall Street is debating why Shopify has decided to create such content. And in June, SHOP announced that it would be launching a fulfillment network and offer two-day shipping across 99% of the continental U.S. Analysts believe this ambitious strategy is likely to be quite costly for Shopify.

Instead of focusing on profits, management wants to expand the company by launching new businesses. Therefore, those who plan to own SHOP stock over the long-term  need to pay attention to the cash flows from its new ventures.

Many investors have been quite concerned about the various reports by short seller Citron Research which regards Shopify’s business model as a “get-rich-quick-scheme.” Moreover, several analysts have recently downgraded SHOP stock in response to its stellar bull run.

Finally, those investors who follow short-term technical charts will be interested to know that Shopify stock has spent a good portion of 2019 in overbought territory. It is possible that some profit-taking will negatively impact SHOP stock in the near future, possibly prior to its Q2 earnings report.

The Bottom Line on Shopify Stock

In a few weeks, SHOP stock is likely to release another strong quarterly report. However,  SHOP stock is simply too expensive for me to hit the “buy” button on it at these levels.

SHOP is a growth stock and a speculative stock. Therefore, in the coming weeks, I expect SHOP to be a battleground between investors and traders. While long-term investors would like to see Shopify stock go over the $350 level, traders are likely to keep it between $300 and $250.

Those who have benefited from SHOP’s  2019 gains should possibly consider taking profits as we look ahead to the next earnings report.

Well-performing stocks tend to keep on winning, and the recent strength of Shopify stock might be a good indication that within three or four years, investors who buy SHOP on weakness are likely to be rewarded handsomely.

As of this writing, Tezcan Gecgil did not hold a position in any of the aforementioned securities.



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