Formerly one of the top pandemic-era stocks, Shopify (SHOP 0.29%) has fallen from its pedestal. While its stock once traded for more than $150, it's only about $30 now. However, this isn't because the business it gained during 2020 and 2021 disappeared; it's because the growth and profitability it had disappeared.

Still, Shopify isn't in a negative growth state, and at its current levels it may be significantly oversold. As a result, I think Shopify has plenty of potential for investors, although it may be years before it can reclaim its all-time high.

Rising expenses and falling growth

Shopify's drop was caused by its evaporating growth and profitability. Shopify's software provides the e-commerce infrastructure necessary to operate a business, including a website, payment processing, and inventory management. In the early stages of the pandemic, Shopify saw a rush of new customers as businesses scrambled to establish an online presence. However, over the next two years, Shopify saturated its market, leaving very few potential customers, at least for its core product.

Additionally, the U.S. e-commerce adoption rate spiked in 2020. This action caused many e-commerce providers (like Shopify) to go all-in on this opportunity. However, as the world opened up, e-commerce market penetration regressed to its normal trendline.

Graph of e-commerce adoption growth rate.

Image source: Shopify and U.S. Census Bureau.

This reversion was cited as a primary catalyst for Shopify's recent layoffs -- a 10% workforce reduction. The layoffs will also help Shopify regain its profitability, which it lost in Q2.

Quarter Net Profit Unrealized Gain (Loss) on Investments Adjusted Net Profit Adjusted Profit Margin
Q2 2022 ($1.203 billion) ($1.008 billion) ($195 million) -15%
Q2 2021 $0.876 billion $0.78 billion $96 million 9%

Data source: Shopify.

Shopify's profitability loss is pretty dramatic, but it isn't as bad as the headline numbers make it seem because of unrealized losses on its investments. Likely, those same investments that looked so good on paper last year lost Shopify money this year.

However, its operating expenses ballooned from $481 million last year to $846 million this year -- 76% growth. Compared to year-over-year revenue growth of 16%, this shows serious misallocation of resources, as spending about $4.75 only to get $1 back isn't a great business strategy.

Investors will need to wait and see what Q3 will bring in terms of expenses. Still, with the handsome severance package the laid-off employees received, it may be a few quarters before we see any operating margin improvement. That's a bleak picture of a formerly red-hot business, but I think there's still an investible company here.

Shopify will expand its payments and logistics solutions

Shopify still showed some bright spots in Q2. Ironically, its offline gross merchandise volume increased 47% year over year, showing that omnichannel will be necessary for it moving forward. Additionally, the Shopify Payments platform saw its marketplace penetration rise to 53% versus 48% last year.

Processing an increasingly higher volume of payments will generate more revenue from purchases and expand how much revenue Shopify generates with each customer when it has its hand in every step of an e-commerce transaction.

Another step of the e-commerce transaction is delivery. Shopify is increasing its warehouse space and deploying its improved warehouse management system across its fulfillment network. This upgrade increased the delivery rate in two days or less from just 2% to 70% -- that's a significant improvement that will give Shopify's merchants a better chance to win business from the largest commerce companies. With Shopify's acquisition of Deliverr, this number should steadily improve, as Deliverr will help distribute inventory across warehouses, so the seller's product can be efficiently shipped to customers.

So while Shopify's first growth phase is over (getting businesses set up with an e-commerce site), its second phase is just beginning. Additionally, with the stock trading for 7.8 times sales, it's not terribly expensive considering the business's upside if its merchants continue adopting Shopify's solutions.

Shopify has a long way to go to regain its profitability and grow sustainably. However, the company is taking the proper steps to right the ship, which makes me confident as a shareholder. It may be some time before Shopify shareholders get clarity on the company's new direction, but at the stock's current valuation, there isn't a lot of risk in taking a position in the stock right now.