Last option contract. Will not touch options with a ten-foot pole.
Position: Jan 15 2021 300 P (Cost: 10.20)
CNN Fear & Greed Index
Shopify 1Q Earnings Review
Total revenue in the first quarter was $470mm, a 47% increase from the comparable quarter in 2019; represents a ~5% beat to analyst estimates
Subscription Solutions revenue grew 34% to $188mm
MRR as of March 31, 2020, was $55mm, up 25% compared with $44mm as of March 31, 2019
Merchant Solutions revenue grew 57% to $282mm
GMV for the first quarter was $17.4 billion, an increase of $5.5 billion, or 46%, over the first quarter of 2019
Operating cash flow loss of ~$85mm for the quarter (but who cares about profitability)
Positive Highlights from a Bull’s Perspective
Shopify will benefit immensely from the expanded universe of merchants as many of them will likely stay with Shopify even when the pandemic passed.
It is difficult to switch your entire online platforms, when Shopify provides such a seamless, reliable, and convenient solution.
The influx of large corporations will significantly expand Shopify’s penetration in the more profitable Shopify Plus category.
While the mom-and-pop customers and SMBs have underpinned Shopify’s previous growth, the next leg of growth will be driven by the extension of the Shopify ecosystem into more demanding and profitable customers.
Shopify could benefit from higher GMVs, more value-added services, and enhanced margins if it is able to capture more large customers.
Deepening of relationships between its ecosystem and its merchants, fortify Shopify’s status among merchants.
Investments might induce a short-term spike in investments but will provide sustained growth for years to come.
Selected statements from Mgmt. or Company filing
New stores created on the platform grew 62% between March 13, 2020 and April 24, 2020 compared to the prior six weeks, driven by the shift of commerce to online as well as by the extension of the free trial from 14 to 90 days
Strong January and February merchant sales further boosted by elevated buying in March driven by COVID of food and other essentials and items such as home office and gym equipment contributed to Q1 GMV
New types of merchants, such as food stores, are migrating to Shopify Plus
GMV growth accelerated in April compared with the first quarter of 2020
Positive Highlights from a Bear’s Perspective
Shopify has the highest ’21/’20 revenue growth rate, the stock is also the most expensive at 29x off ’21 revenue. More established and mature e-commerce businesses such as Amazon (AMZN) and eBay (EBAY) are trading at lower multiples around 3x ’21 revenue.
Chewy (CHWY) is a specialty pet food online retailer that is trading at 2.0x ’21 revenue.
Selected statements from Mgmt. or Company filing
It is unclear how sustainable consumer spending levels will be in this uncertain economic
It is unclear how many in this [new merchant] cohort will sustainably generate sales
March and April saw more merchants downgrade from Shopify Plus to lower-priced plans than in January and February
We anticipate a portion of this funding [Shopify Capital] to go toward [merchant] business continuity instead of growth activities
MRR growth was impacted by lighter international merchant adds; and, an uptick of subscription cancellations and merchant downgrades to lower-priced subscription plans in March
If economic growth slows further or if a recession develops, consumers may not have the financial means to make purchases from our merchants and may delay or reduce discretionary purchases
So What Does This All Mean?
I spent a considerable amount of time trying to rationalize the recent run-up and still cannot justify these share price levels. Here are my predictions:
MRR for the next several quarters will be flat and may even decline
Was $55mm as 1Q/20 compared to $54mm at the end of Q4/19
Shopify already guided to headwinds from free trials but they expect this to pick back up again in 3Q once the trial period ends
I expect users to continue to downgrade in an effort to conserve cash or outright cancel
- But there’s the expectation that this recent 62% uptick in trials will end up as merchants once the trial expires and that this should result in Shopify’s Month Recurring Revenues re-accelerating once again.
GMV will not stay at these elevated levels
A majority of the categories mentioned on the call are one-time in nature (e.g. home, fitness, entertainment, leisure and hobby products)
Food, beverage, and tobacco product category most likely experienced a massive ramp in the first several weeks of April as buyers “hoarded” supplies
Consumer discretionary spending will become more challenging over the coming months as the reality of this “V” shape recovery sets in
As expected, they just issued a secondary
Should marginally put pressure on the share price near-term
Ownership breakdown is really odd for a $85bn market cap company
65% owned by institutions, 10% by insiders and 25% by the public/retail
CEO and a Director account for nearly all of the insider holdings
COO owns a total of 78 shares, Chief Product Officer owns a total of 47 shares, CTO will own zero shares once his Intent to Sale goes through on June-1, Chief Legal Officer owns a total of 1 share, etc.
I think the retail category can be sum up by yesterday’s Buy the Dip post
Sort by new and look at all the users absolutely having no idea what they’re looking at but wanting in
These guys have never missed on earnings. Again, I believe even a quarter of flat/to declining growth will change the perception of driving the stock down. Once that happens it’s a race to the bottom.
How Shopify Makes Money
1) Subscription Solutions (~40% of total revenues)
Sale of subscription services to host a website. $SHOP offers different pricing plans depending on need ranging from $29 to a few thousand per month.
The more merchants that enroll on the platform or upgrade to a premium plan, the higher the revenues.
2) Merchant Solutions (~60% of total revenues)
The majority of this bucket is payment and transaction fees. In order words, $SHOP takes a cut of the gross merchandise volume processed on the platform. The more the sales process, the higher the revenues.
What Shopify Sells
Discretionary products. Think apparel & footwear, beauty & personal care, home furnishings, and your cousin’s million-dollar dropship idea. Example of brands on the platform include:
Apparel: Kith, GymShark, Allbirds, Steve Madden, Chubbies
Beauty: Kylie Jenner Cosmetics, Jeffrey Star Cosmetics, ColourPop
Other: Nestle, Staples, Haus, Bullet Proof Coffee, Bombas Socks
Future online sales trends will align with specific industries based on consumer concerns and needs.
Brands on the $SHOP platform are for the most part consumer discretionary spending, not essential.
Press release on April 1 saying they will meet/slightly beat Q1 guidance on the strong momentum of “January and February.” Also, suspend the full year 2020 guidance.
Why no mention of March or suspend guidance?
Extending a 90-day free trial to all new standard plan signups
Originally was 14-days. Short-term users will be up but they will not generate revenue from the subscription (for at least 1Q) and how many will actually stay on the platform past the trial?
Offering a “Pause” plan. If merchants are having difficulty meeting the monthly plan fee, for just $9 (was lowered from $14 a few days ago) $SHOP will pause the store but that merchant cannot make sales
Why would a merchant continue to pay an expense if they can’t generate revenue?
CTO tweets they are experiencing Black Friday traffic and that may double
Of course traffic will be up since users are creating new stores. No surprise there but since when does traffic equate to sales?
This same CTO also filed an Intent to Sell form on March 23 for 13,000 shares or roughly $8.5mm at current share price levels.
More than 27,000 discount codes have been recently created
Indicates merchants are trying to boost sales by heavily discounting
Recent social media postings pushing merchants to “pivot”
Why pivot into something else if sales are great? Why push other ancillary items like gift cards or pay to view online classes?
I won’t even dive into the multiples but SHOP needs to show growth to make its current/future valuation work.
I expect Q1 to be in-line or a slight beat per their press release.
Stock may also rise from $AMZN reporting positive results next week. Q2/3/4 are where things unfold.
Subscription revenue: Should be down/flat as
1) users churn off the platform (already a persisting issue),
2) premium members downgrade their subscription to a more basic plan to cut expenses, and
3) new users being offered a 90-free trial.
This will be minimally off-set by merchants that successfully stay on the platform past the 90 days but I expect this conversion rate to below (see an example of new stores created above).
Merchant revenue: Gross merchandise volume processed should be down as the volume processed on the platform declines from discounted or lost sales.
This will be minimally off-set by merchants that are experiencing growth in sales (a small minority).
Also, there a risk of them issuing secondary (diluting shareholders) to raise cash.
They don’t need it but you have already seen a majority of companies doing so to “shore up the balance sheet.”
Showing flat/to little growth in an environment where they are expected to take share will tank the stock back to pre-COVID levels.
If Shopify has a profit margin of 22.5% by 2030, which is high and very optimistic considering the fulfillment network that it’s building, this would add up to earnings of $5.5B.
We don’t know how many shares will be outstanding by then.
But suppose the number of shares grows by 3% yearly, which doesn’t seem unlikely because of the share offerings and the stock-based compensations.
That would take us to roughly 160 million shares.
Earnings of $5.5B and 160 million shares outstanding, that would add up to EPS of $34.38.
With Shopify’s stock price of $750 now, that is a 10-year forward PE of 21.81.
But fewer assumptions are built in there because their revenue streams are more predictable.
I would consider everything under a 10-year forward P/E of 10 (or PE10 for short) for Shopify cheap, which means $343.8 ($34.38×10).
At $500, the PE10 would be around 15.
Now, beware, this is with very optimistic earnings and a very high net profit margin.
But let’s take another method here too, with fewer assumptions.
Let’s take the final net profit margin of 22.5% and apply it to the revenue projection of 2020: $2.25B.
That would add up to $506M in profits.
With the current 119M shares, that would mean EPS of $4.25. With the current stock price of about $750, this would mean a P/E ratio of 176.5.
With a growth of around 43%, the ‘virtual PEG’ is above 4. This ‘virtual PEG’ is very high, and I’d prefer it to be at 1.5 or lower.
That would mean $274 (1.5*43*4.25). Again, this method shows, even with very optimistic net margins, that Shopify is severely overvalued.
In November 2018, when I called Shopify cheap, the virtual PEG was just 1.
Now I know that there are a lot of ifs and assumptions here, but if they are off the chart, it will be on the optimistic side, not the pessimistic one.
I still love Shopify and I will keep my eyes on the stock price.
But at this level, there’s too much growth priced into the stock.
The PE10 and the virtual PEG show that the stock is worth between $275 and $350 and that’s with very optimistic numbers.
Lacking any negative catalysts in the near-term , probable to reach $1k than $300
Q2 will be interesting. Analysts are expecting $500m in revenues, but hard to justify pending 2Q Earnings.