Looking at Shopify (NYSE:SHOP) stock from a glass half-full perspective, the company is still growing rapidly and continues to have multiple, promising initiatives.
Pessimists, on the other hand, can point to the company’s less-than-impressive profitability in the third quarter. Also hurting the shares’ outlook are their very high valuation and the fact that the e-commerce sector has fallen out of favor with Wall Street.
Rapid Growth and Promising Innovations
In Q3, Shopify’s top line jumped 46% year-over-year to $1.1 billion. Its subscriptions solutions sales rose 37%, and its monthly recurring revenue climbed 33% to $99 million. Meanwhile, its Merchant Solutions revenue jumped 51% and its gross merchant volume climbed 35% to $41.8 billion.
Further, in the first nine months of 2021, the company’s GMV exceeded the total from all of 2020.
Of course, these metrics are especially notable because, in general, e-commerce became less popular during the second half of last year as the pandemic started easing and most lockdowns ended.
On the initiatives front, the company launched Shopify Markets, which helps merchants sell their products overseas. As of November, the firm was working to link its payments platform to Alphabet’s (NASDAQ:GOOG, NASDAQ:GOOGL) Google and to ensure all of its transactions Meta Platforms (NASDAQ:FB) Facebook were carried out with its payments system by the end of 2021.
Most intriguingly, Shopify made a deal with Chinese e-commerce giant JD.com (NASDAQ:JD). Under the agreement, Shopify’s customers will be able to sell their product on JD.com’s large platform. “By letting {Shopify’s} merchants easily list their products on JD’s cross-border ecommerce platform JD Worldwide, this new sales channel opens access to JD’s 550 million active customers in China,” Shopify stated in a Jan. 18 blog post.
If the deal allows Shopify’s merchants to meaningfully penetrate the huge Chinese e-commerce market, the pact would likely move the needle in a positive direction for Shopify and SHOP stock.
Profitability and Valuation
Shopify’s Q3 operating profit, excluding a $30.1 million payment caused by an office lease termination, came in at $140.2 million. The e-commerce giant, however, paid out $232.45 million of stock-based compensation. Consequently, its adjusted operating income less its stock-based compensation was -$92.25 million.
Since stock-based compensation is definitely a means of paying ongoing costs, i.e. employee compensation, I think that it makes sense to factor it into companies’ operating profits. What’s more, large amounts of stock-based compensation tends to dilute the value of companies’ shares, putting downward pressure on their value.
As far as valuation, the forward price-sales ratio of SHOP stock, based on analysts’ average 2022 sales estimate, is 18. That’s a very high price-sales ratio for a company with low operating profitability.
E-Commerce Is Not Well-Liked by the Street
With e-commerce slowing as the pandemic eases, the sector appears to have fallen out of favor with large investors. On Dec. 28, Roth Capital cut its price target on SHOP stock to $1,650 from $1,800, citing lower valuations for e-commerce companies. The firm, however, did keep a “buy” rating on the shares.
Indeed, in recent months many e-commerce stocks have tumbled. In the three months, for example, Shopify dropped 25%, while Wayfair (NYSE:W) plunged 34% and Overstock (NASDAQ:OSTK) tumbled 42%. Even the mighty Amazon (NASDAQ:AMZN) has given back 7.5% during that period.
The Bottom Line on SHOP Stock
Shopify will probably continue growing rapidly, and a number of its initiatives are very promising. Still, given the stock’s still-elevated valuation, I agree with research firm Atlantic Equities, which recently contended that Shopify’s 2022 growth is already priced into its shares.
Moreover, with much of the Street not enamored with e-commerce companies and marginally profitable firms, SHOP stock is likely to struggle for some time.
But if the company’s initiatives cause its growth and profitability to meaningfully improve at some point in the future, the shares could very well be worth buying at that time.
On the date of publication, Larry Ramer did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Larry Ramer has conducted research and written articles on U.S. stocks for 14 years. He has been employed by The Fly and Israel’s largest business newspaper, Globes. Larry began writing columns for InvestorPlace in 2015. Among his highly successful, contrarian picks have been GE, Ford, solar stocks, and Snap. You can reach him on StockTwits at @larryramer.
