Shares of Shopify (NYSE:SHOP) initially dropped after the company reported what was essentially a double-beat-and-raise fourth quarter earnings report that checked off all the right boxes. But as of this writing, Shopify stock had recovered its initial losses and closed up 1.4% from pre-earnings levels.
There’s some worry on the Street that the initial weakness in Shopify stock following great numbers is a sign of a maxed out stock. To a degree, that is what’s happening here. Heading into the Q4 print, Shopify stock was up 25% year-to-date, and more than 40% since Christmas Eve. Against that rally, it is only natural that Shopify stock pulls back as investors “sell the news”.
But, “the news” here is very good. Revenue growth was above 50% again. So was gross merchandise volume (GMV) growth. Subscription revenue growth was yet again above 40%. Merchant solutions revenue growth was above 60%. Gross payment volume (GPV) was right around 40%. Gross margins were stable. Operating margins improved. The guide was healthy, and implied continued robust revenue and profit growth.
Overall, Shopify’s quarter was very, very good, and underscored that this company remains on a long term winning trajectory. As such, weakness is Shopify stock is just a near-term phenomena as this stock retreats from overbought conditions. Once it does, the stock will resume it’s uptrend, and $200 prices look doable later in 2019.
Blowout Quarters Are the Norm for SHOP
Shopify’s fourth-quarter numbers were really good. Broadly speaking, revenue growth remains robust, and isn’t slowing by all that much, nor is it expected to slow much in the future. The underlying revenue drivers remain healthy as all operational metrics continue to grow at a robust rate, too. Gross margins are stable. Operating margins continue to expand with scale. Profits are roaring higher and expected to continue to do so next year.
But, the stock is down. Why? Because Shopify stock had rallied 40%-plus over the past six weeks in anticipation of strong numbers, and had rushed into technically overbought territory, with the Relative Strength Index over 70. Thus, SHOP was due for a pullback.
From this perspective, investors shouldn’t read too much into the post-earnings drop in Shopify stock. It is simply a healthy and natural pullback after a torrid run higher. From here, the stock will likely consolidate around the $160’s, let the technicals catch up, and then proceed to rally to $200 by the end of the year.
Long-Term Fundamentals Are Healthy
The important thing with Shopify stock is that strong Q4 numbers underscore that the long-term fundamentals remain healthy.
In the big picture, Shopify is democratizing the supply of commerce services so that anyone can sell anything to anyone.
In doing this, Shopify is part of the coordinated economy megatrend wherein companies are turning single-supplier ecosystems into multi-supplier ecosystems, and in so doing, are producing optimal outcomes for consumers and suppliers and unlocking tremendous value. This megatrend isn’t slowing any time soon, and Shopify has mitigated competition with respect to democratizing and coordinating seller services. As such, over the next several years, Shopify should remain a huge growth company powered by the continued democratization of commerce services.
Shopify is just scratching the surface of its global potential with GMV of $41.1 billion in 2018, versus a global consumer spend pool that measures in the trillions of dollars. Thus, while today’s 50%-plus revenue growth rates will slow with scale, they won’t slow by much since Shopify’s global penetration rate is so low, meaning this will remain a 30%-plus revenue growth company for the foreseeable future. During that stretch, gross margins should remain healthy, and opex rates should come down with scale, implying tremendous opportunity for operating margins to race higher.
All together, I think $10 in EPS is doable by 2025, assuming a $7.5 billion revenue base and 20% operating margins. Application software stocks normally trade around 34 forward earnings. Based on that average multiple, a reasonable 2024 price target for SHOP stock is $340. Discounted back by 10% per year, that equates to a 2019 price target of over $200.
Bottom Line on Shopify Stock
Shopify stock is a long term winner with huge growth potential in a multi-year window. Right now, the stock is failing to rally on good news because it had already rallied so much in anticipation of that good news. Ultimately, this weakness will end quickly, and when it does, Shopify stock will reverse course and march towards $200.
As of this writing, Luke Lango was long SHOP.