The data underlines Shopify as a high-quality growth stock priced to generate stellar long-term returns.
The stock market continues to march higher, making it harder to find the no-brainer buying opportunities that can set investors up for big-time returns. Still, there is always a deal somewhere, and Shopify (SHOP 5.49%) jumps off the page as a table-pounding buy today.
Sure, the stock has had a tough couple of years and trades at only half its all-time highs, and no, you shouldn’t buy a stock simply because it’s lower than it once was.
Instead, consider these five reasons that make Shopify arguably one of the best additions you can make to your portfolio today.
1. E-commerce exposure
People spending discretionary income drives the U.S. and world economies. Consumer spending drives nearly 70% of America’s economic output. Many places around the world depend on tourism as their economic backbone. That’s what’s so exciting about e-commerce. Technology is changing the world, and commerce is becoming increasingly digital.
It’s an enormous opportunity for Shopify, which sells an ecosystem of software tools and services that help merchants, big or small, open and operate an online store. Global e-commerce spending is in the trillions and is only growing. So is Shopify, whose gross merchandise value (GMV) grew 22% year over year to $67.2 billion in the second quarter. There’s no reason Shopify, which serves over two million merchants, can’t continue to expand its user base and GMV for years to come.
2. A sticky ecosystem
Shopify continually adds new products and services so merchants can do more on its platform. Shopify’s services go beyond the store itself. Merchants can run virtually their entire operation on the platform, including marketing, point-of-sale, customer service, order fulfillment, and more. Plus, Shopify integrates with many third-party apps.
The more Shopify can do for merchants, the stickier the ecosystem becomes and the more pricing power it has. Price increases contributed to Shopify’s 27% year-over-year subscription revenue growth in Q2. Growing your merchant base and slowly raising your prices can create durable growth when the merchants need your product.
3. Payments success
The company hit a home run when it expanded into financial services with Shopify Payments and Shop Pay. In Q2, Shopify processed $41.1 billion in payments, approximately 61% of GMV. This has helped Shopify build an enormous revenue stream outside its subscription business. Shopify Payments is part of Merchant Services, which grew 19% year over year in Q2 and represented $1.5 billion of Shopify’s total revenue of $2 billion for the quarter.
Shop Pay is a consumer-facing finance product with a simple checkout process and buy now, pay later lending. Approximately 39% of Q2 GMV used Shop Pay. Shopify Payments and Shop Pay should continue to help push growth as the company’s total GMV grows.
4. Strong earnings growth ahead
Most companies undergo a maturation process. They lose money initially but become profitable as revenue grows and begins outpacing expenses. Shopify’s earnings started to ramp up as annual revenue crossed $1 billion. However, Shopify made a mistake trying to build a first-party logistics business. After backtracking and divesting its logistics assets, Shopify is profitable again:
SHOP Revenue (TTM) data by YCharts
Shopify’s dramatically higher revenue is trickling down and setting the stage for earnings growth. Analysts estimate that Shopify will grow earnings by an average of nearly 40% annually over the next three to five years. That would mean earnings double every two years, a recipe for fantastic investment returns if the company can perform up to expectations.
5. A surprisingly attractive valuation
Shopify trades at a price-to-earnings ratio (P/E) of 70 using estimated 2024 earnings. That seems expensive since the broader market (S&P 500) trades at an average of 21 times earnings estimates. However, a high P/E ratio doesn’t necessarily mean a stock is expensive.
The stock’s P/E ratio is very reasonable if Shopify proceeds to grow earnings at a 40% clip (or something close). The price/earnings-to-growth ratio (PEG) compares a stock’s valuation to its earnings growth. Generally, a PEG ratio under 2 is reasonable, and Shopify’s is 1.75 today. Long-term investors don’t need a jaw-droppingly low price, because Shopify’s growth should burn off that high valuation.
Considering that the market is anticipating 40% annualized growth over several years, Shopify could grow at an above-average rate for years beyond that. Healthy companies don’t typically grow at such high rates and stop overnight. I expect growth to moderate as the business matures, which should make investors very happy over the years. Shopify’s strong execution in a large and growing e-commerce landscape should make the stock a long-term winner.
Justin Pope has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Shopify. The Motley Fool has a disclosure policy.