Profit Inflection and Durable Revenue Growth
Earlier this year, Shopify decided to abandon its ambitious plan to expand into logistics and delivery services for its merchant customers due to high costs. However, as a software and payments provider for e-commerce websites, Shopify boasts excellent unit economics. The recent cost savings have highlighted the profitability of its core business. Additionally, Shopify increased its subscription prices by up to 33% at the beginning of the year, further boosting its revenue.
In the third quarter, Shopify recorded a 25% year-over-year growth in revenue, amounting to $1.7 billion. Furthermore, the operating margin reached 7%, a significant improvement compared to the previous year’s steep losses. Investors can expect Shopify’s operating margin to continue climbing higher in the coming years.
Competitive Threats from Industry Giant Amazon
Given Shopify’s strong performance, it’s unsurprising that its shares have more than doubled this year. However, there is an important factor to consider: the potential threat from Amazon and its Buy With Prime service. Released in 2022, Buy With Prime enables merchants to include a payment button on their websites, allowing Amazon Prime members to enjoy program benefits, especially fast shipping, outside of Amazon’s platform.
Shopify’s main revenue driver, Shop Pay checkout solution, earns a fee on every dollar spent on its merchants’ websites. However, if customers switch to Buy With Prime, this revenue stream could be jeopardized. Initially, Shopify discouraged merchants from using Buy With Prime, but it has since reached an agreement with Amazon to integrate the service into its platform officially.
While Shopify may experience reduced revenue from Shopify Payments if more shoppers use Buy With Prime, this potential headwind is not expected to impede Shopify’s long-term growth.
Valuation Considerations
Despite the aforementioned factors, in 2024, Shopify may not be an ideal investment option.
As of now, Shopify’s revenue over the past year amounts to $6.7 billion. Assuming an optimistic outlook where revenue nearly doubles to $13 billion in three years, let’s also assume a 20% profit margin by 2026. Even under these circumstances, the stock would have a price-to-earnings ratio (P/E) of 38.
Comparatively, the S&P 500 currently has a forward P/E of 21. Even if Shopify achieves significant revenue growth and profitability expansion in the next three years, without any change in its share price, its valuation would still be twice that of the broader market. Considering the high premium, Shopify may not be a wise investment for 2024. After all, even for compelling growth stocks like Shopify, price matters.