Shopify Inc: The Bear Case From a Bull

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Since its May 2015 IPO, Shopify's (NYSE: SHOP) stock is up a sizzling 260%, making early investors a fortune along the way.

Yet even the best-performing businesses have risks, and it's important to study the threats that could derail your investments. That way, you won't be blindsided by them, and you can identify the key trends you should be watching.

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On that note, here are the major bear arguments against Shopify.

Market opportunity concerns 

During Shopify's second-quarter earnings call, CEO Tobias Lutke told the story of how he was "laughed out of busy offices" when he was trying to raise capital early in the company's history. Many potential investors back then believed that the multichannel commerce platform's entire addressable market was only about 40,000 stores, and therefore would not succeed. Even now, with Shopify's merchant network recently surpassing 500,000 businesses, some bears still question its ultimate growth potential. After all, how many e-commerce entrepreneurs are there out there?

Well, management says that Shopify is just scratching the surface of the massive market it serves. In its IPO filing, the company noted that approximately 10 million merchants with fewer than 500 employees operate in its key geographies, and 46 million such merchants worldwide. Therefore, Shopify currently has only 5% penetration in its core markets and about 1% of its total addressable market.

Moreover, with average annual revenue per user of $1,243 in 2016, Shopify's global market opportunity could ultimately exceed $57 billion. For a company that expects to generate approximately $645 million in revenue in 2017, this enormous amount of untapped expansion potential offers the prospect of exponential growth in the coming years.


If Shopify is to deliver on that promise, though, it will eventually have to demonstrate that it can deliver sizable profits along with its torrid revenue growth. In this regard, many bears would have you believe that Shopify's lack of profits demonstrates a major weakness in its business model.

I, on the other hand, would argue that Shopify's current losses do not signal an inability to profitably operate its business, but rather a choice -- and a wise one at that -- to forgo short-term profits in favor of long-term growth and value creation. I agree with my colleague Brian Stoffel that Shopify's best move is to continue to invest heavily in order to expand its moat and grow its market share, thereby seizing the incredible opportunity it has before it to become the "de-facto platform" for e-commerce entrepreneurs. Such long-term thinking should maximize the value Shopify ultimately delivers to its customers and, in turn, its investors.

High valuation

Perhaps the bears' biggest criticism of Shopify's stock is its seemingly astronomical price tag. Though, it should be noted that Shopify's lack of earnings means traditional valuation metrics such as trailing P/E aren't useful. And I've already addressed Shopify's decision to sacrifice near-term earnings in order to maximize future profits, so a metric like forward P/E -- which currently checks in at a whopping 423 based on analysts' estimates for 2018 -- is also not very meaningful. But even I must admit that at 18 times sales, Shopify is a premium-priced stock.

As such, Shopify's shares are likely to be volatile. If the company's growth slows, or if the market as a whole suffers a correction, Shopify will likely get hit much harder than the average stock.

Yet, as a high-quality business with tremendous growth prospects, I'd argue that Shopify deserves its premium valuation. In my experience, stocks of such companies often appear expensive -- except in the rear-view mirror. That's why even some shrewd, self-proclaimed value investors are buying Shopify's stock. And if you believe, as I do, that Shopify's best days are still to come, you may want to consider doing the same.

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Joe Tenebruso has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Shopify. The Motley Fool has a disclosure policy.