Shopify's (SHOP 1.25%) business has undergone several iterations over the past few years. While it started as a tool to give businesses of all sizes e-commerce access, it quickly morphed into an all-encompassing solution, including logistics and digital payment processing. In June, Shopify announced it was selling its logistics division to Flexport, reversing many decisions that significantly expanded its reach.
A few days ago, we got our first look into the next iteration of Shopify, and the results were fantastic. But is this new-look Shopify worth buying? Let's find out.
Shopify Logistics wasn't generating a lot of money
Logistics is a cost-intensive business. While Shopify's roots indicated it was a high-margin software company, product warehouses, and the robots inside of them aren't cheap and don't provide nearly the return on capital of other investments.
Now that the company has spun off this segment, it will take a revenue hit, but should start seeing margins improve for the trimmed-down business. Second quarter results were strong but included a partial time period when logistics added revenue.
But how much will this affect Shopify's Q3 results now that the logistics division is completely gone? Not a lot, it turns out.
Management expects Q3 revenue to grow in the low 20% range year over year. That would indicate Q3 revenue of about $1.65 billion, assuming a 21% growth rate. However, that growth rate includes a 3% to 4% headwind caused by the logistics business sale. Therefore, we can estimate that the logistics business added approximately $55 million in revenue each quarter.
That's ridiculously low, versus its overall revenue, and makes investors wonder why Shopify was interested in this expansion in the first place. But now that it has sold off this division, investors can focus on the new Shopify.
And the trimmed Shopify looks like an excellent investment.
Shopify had a solid Q2
In Q2, Shopify grew revenue 31% year over year to $1.69 billion. Now that we know the logistics business was only about 3% of Shopify's total business, we can move on from worrying about how that will affect the overall business.
Despite this growth rate, Shopify still lost $1.63 billion from operations, with $1.34 billion resulting from the logistics business sale. This will be an essential line item to watch as Shopify transitions back to an e-commerce solutions business model, and investors will want to see profits relatively soon.
Regardless, Shopify's Q2 was excellent, and the finances should only improve as time progresses from the logistics sale.
However, investors weren't as impressed with Shopify's quarter, and the stock plummeted 8% on the day of earnings (this also coincided with a heavy down day for the markets). As a result, Shopify's valuation is cheaper than before but still quite pricey.
SHOP PS Ratio data by YCharts.
While 12 times sales may not seem that expensive for a software company, investors must understand that Shopify's gross margins aren't as high as its peers. In Q3, management expects its gross margin to be 3% to 4% higher than last year's Q3, which would project the margin to be around 52%. Compared to the 80% margins often seen in the software world, Shopify should trade at a discount to its peers.
But is Shopify's stock too expensive to buy here? I'd say no. The company is projecting strong growth to continue, transforming the business to return to a higher-margin model. With that in mind, I think taking a small position in the stock should be OK with the lookout to add more shares if the stock price drops further. However, the stock seems too expensive now to add a significant position.
