At first, shares of e-commerce solutions provider Shopify (NYSE:SHOP) plunged on concerns that the coronavirus pandemic was bringing the global economy to a screeching halt and killing consumer discretionary spending everywhere. From early February to late March, Shopify stock was essentially cut in half, from $600 to $300.
Then, the rebound happened.
Over the past four weeks, SHOP stock has essentially doubled and skyrocketed its way back towards $600 as investors have entertained the notion that the coronavirus pandemic is actually a tailwind for the e-commerce company.
Before Covid-19, many small merchants and retailers relied heavily on their physical stores to drive sales. Those physical stores are now closed. If merchants or retailers want to move product, they have to build e-commerce enabled websites. As such, thousands of merchants across the world are likely rushing to Shopify to help them build websites and keep their businesses alive.
A tweet from Shopify’s Chief Technology Officer confirmed as much. The Shopify platform is now handling Black Friday-level traffic. Every. Single. Day.
Time to buy into the rally? Nope. Maybe the opposite.
Shopify stock is a long-term winner. All growth investors should always hold the stock in their portfolio. But this big rally is an opportunity to do some profit-taking, not add more. Here’s why.
Shopify Is a Long-Term Winner
The long-term bull thesis on SHOP stock is both simple and compelling.
Shopping is migrating from offline to online. As it does, websites are becoming the new storefronts. Just as every retailer and merchant needed a physical store front in order to drive brand awareness and sales back in 2005, they need a website in order to drive brand awareness and sales today.
More than that, retailers and merchants also need robust online selling tools. Websites aren’t enough. Consumers are increasingly discovering products on social media feeds, through text messages from friends, via third-party marketplaces, so on and so forth. Retailers need online selling tools to help them process, handle, and maximize sales through all of those digital channels.
Shopify offers all of those solutions on one platform, starting with building e-commerce enabled websites and extending into a robust suite of online social and marketplace selling tools. And they are the best in the market at doing so, with second-to-none brand equity.
Shopify’s share of total e-commerce sales measured just 1.7% in 2019. That share has been climbing at a steady 0.3% clip per year since 2016. It will continue to grow over the next several years as more merchants and retailers rely more heavily their own direct sales channels to drive growth.
Sustained share expansion in the double-digit growth e-commerce market will power sustained 20%-plus revenue growth for Shopify over the next several years. On top of healthy ~60% gross margins and positive operating leverage, that should lead to 30%-plus profit growth, the likes of which will guide SHOP stock higher in the long run.
Valuation Risks Sizable
Although Shopify stock is a long-term winner, I don’t think chasing this coronavirus-inspired rally is the best idea for two reasons.
First, SHOP stock is pushing up against valuation barriers here. That is, even as someone who has been extremely bullish on Shopify’s growth prospects since 2017, I don’t see the current SHOP stock price as being supported by the fundamentals.
My modeling suggests that Shopify will grow to control ~7.5% of the global e-commerce market by 2030 (from 1.7% today), with revenues north of $20 billion (from $1.6 billion today), operating margins north of 30% (from 1-2% today), and earnings per share of $35 (versus 30 cents in 2019).
In other words, I see Shopify by growing by a whole bunch over the next decade. Still, that isn’t enough growth to warrant today’s price tag. Based on a 35-times forward exit multiple and a 10% annual discount rate, $35 in 2030 earnings per share implies a 2020 price target for SHOP stock of $520.
Second, the premium valuation in Shopify stock coincides with a global economy still in shutdown. Yes, the coronavirus curve is flattening. Yes, there has been positive news on the treatments front. And yes, economic activity should normalize over the next few months.
Still, these are risky times. Almost no risk is priced into SHOP stock. That is an unattractive discrepancy.
Bottom Line on SHOP Stock
Shopify stock is a long-term winner. But on the heels on nearly doubling over the past month, the stock is also very richly valued today, against an economic backdrop that is still riddled with risks. As such, I wouldn’t chase this rally. Instead, I’d hold a core position, do some profit-taking, and wait for the next dip to buy more.
Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been rated one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he was long SHOP.