Investors can't get enough of Shopify (SHOP 1.11%) stock. It's up more than 100% this year as it continues to crank out double-digit sales growth while getting costs under control. It's a leading e-commerce stock with long-term opportunity, and as inflation looks like it might be beginning to abate, it could be a winner even in the short term.
I'll explain why the premise is solid. But then I'll tell you why I still wouldn't buy it today.
A leading player in a hot industry
E-commerce has been a buzzword for years already, but it has come into its own over the past few years since customers have become more reliant on digital shopping. According to Statista, e-commerce is expected to expand at a compound annual growth rate of nearly 10% through 2028. It reached 21% of total retail sales in 2022 and expects to hit 25% by 2025.
Shopify is the largest e-commerce software platform in the U.S., with $56 billion processed in gross merchandise volume in the 2023 third quarter and 28% of overall market share. It's benefiting from e-commerce growth rates and is poised to continue to benefit as it signs up more clients and hooks them in for more services.
Many of Shopify's customers are small businesses that employ its easy-to-use services to get up and running quickly, but the company now also targets larger enterprise clients that buy bigger packages. Shopify launches new products all the time that smooth out consumer "pain points" -- or inconveniences in the e-commerce experience -- helping it capture greater market share.
A few years of both gains and setbacks
Shopify outperformed early in the pandemic when small businesses quickly joined its platform to gain access to online shoppers when storefronts closed. Revenue soared, and it briefly became net profitable following a successful script of scaling leading to profits. However, management miscalculated the ongoing demand and ended up with a bloated infrastructure.
It made a compelling case for acquiring Deliverr last year to offer streamlined fulfillment capabilities for its merchant network, but ultimately, it wasn't the right time. Shopify recently shed the company to focus on its core activities, which will help it manage its expenses more effectively as it tries to scale toward profitability again.
The company is making progress. Gross profit increased 36% year over year in the third quarter, outpacing revenue growth, and gross margin improved from 48.5% last year to 52.6% this year.
Even as retailers feel the pressure these days from inflation, Shopify experiences it less. While it counts on processing volume for some of its revenue, it also takes revenue for hosting merchants on its platform, and that doesn't change based on volume. So while sales growth has slowed, it was still robust at 25% year over year in 2023's third quarter.
Why I'm not buying today
The problem with Shopify stock right now is its valuation. It already has a market cap of $88 billion, and shares are expensive, trading at almost 14 times trailing-12-month sales. That's a premium valuation that already accounts for a good deal of sales growth. Consider how it stacks up to similar companies like Amazon, Wix, and Global-e Online, and Shopify looks like it might be overpriced.
SHOP PS Ratio data by YCharts. PS Ratio = price-to-sales ratio.
Wall Street doesn't see too much growth ahead because the price already looks inflated. In fact, the average consensus is for the stock to stay flat over the next 12 to 18 months. The highest target price is only 19% more than today's level, and more than half of covering analysts rate Shopify stock as a hold.
Some investors might be interested in taking a position if the price dips. It has a wide-open market opportunity as e-commerce accelerates. However, other investors might want to consider stocks that provide better value now.
