It's clear today that Shopify's (SHOP -2.04%) business is going through more than just a modest growth hangover period following pandemic-related demand surges in 2020 and 2021. The e-commerce platform is shaking up its management team, projecting bigger losses ahead, and posting weaker engagement metrics.
Yet the plunging stock price reflects those bearish trends and might create a great buying opportunity for investors who believe Shopify will maintain its leadership position. Let's take a look at whether the stock can generate market-beating returns for investors from here.
The bearish case
Shopify is a much stronger business than it was just a few years ago. Sales have expanded at an over 50% compound annual rate since mid 2019, reflecting market share growth in a soaring e-commerce niche.
But those gains have slowed down to a crawl lately. Shopify's sales growth is barely in the double digits today after climbing toward 100% in earlier phases of the pandemic. The company also misread those earlier spikes, making large capital commitments as if the demand boost were permanent.
The combination of slowing growth and rising spending has harmed the bottom line, with operating profit margin diving into negative territory. Investors had been excited to see that key metric moving toward 10% of sales as recently as mid 2021.
Rebound possibilities
There are some tantalizing signs that the business will recover its past momentum. Shopify is still attracting new merchants to the platform, for example, and expanding its business at a faster rate than the broader e-commerce market. Those net losses have a lot to do with one-off merger activity, too, and cash flow is much stronger than those losses imply.
Management is also making serious changes to address its prior missteps. Besides shaking up the executive team, it is pulling back spending while being careful to keep investing in long-term growth initiatives.
On a recent earnings call, management said this recalibration was a direct response to demand shifts back toward offline commerce. "The normalized rate of spend online, which is where most of our merchants' orders occur, has recet certainly higher than where it was in 2019, [but] the rate is lower than we had planned for," president Harley Finkelstein said.
Where is the value?
The bullish thesis boils down to Shopify returning to faster sales growth as its operating profit margin rises back toward 10% of sales. The fact that both of these metrics have been moving in the wrong direction for several quarters helps explain why the stock has tumbled so far in 2022.
Yet its market share gains and prime position in the niche should allow Shopify to rebound as the wider e-commerce market settles back to its fast, but not blazing, growth rate. That recovery might speed up just when the company's cost cuts begin boosting earnings, too, which would amplify profitability growth and cut into those net losses.
Investors with lower risk tolerances might want to avoid this stock until that earnings rebound is clear, potentially by early 2023. However, potentially bigger returns will be available to those who are willing to hold the stock before that clarity develops. In either case, owners of this growth stock have good reasons to hold it today.
