2022 added more consequence to the beaten down list of stocks on Nasdaq. Shopify (NYSE:SHOP) stock sparked a sell-off after it posted quarterly earnings results. The company included an outlook warning, lowering its forward guidance. Markets mistakenly thought that the growth it experienced in 2021 would continue.
Now, Investors who hold SHOP stock for its outsized growth potential are re-evaluating its fair value. After panicking investors sold shares from $900 before the Q4 report to $656.88 (at the time of writing), is the bearishness overdone?
Strong Holiday Fails to Lift SHOP Stock
Shopify posted revenue of $1.38 billion in the fourth quarter, up by 41.1% Y/Y. The firm, which provides essential internet infrastructure for commerce, reported that its merchants had a strong holiday selling season. This included strong sales over the Black Friday Cyber Monday weekend. They benefited from Shopify’s commerce technologies. They will continue to leverage the platform’s high-performing infrastructure and features.
Merchants have tools such as the Point of Sale Pro offering that Shopify introduced in 2020. This enables them to connect their offline operations to their centralized dashboard. With point-of-sale, their buyers get an easy shopping experience on multiple channels, from online to in-person shopping.
Despite the strong revenue growth, Shopify’s expenses grew at a faster rate. Sales and marketing expenses almost doubled to $275.5 million. Similarly, research and development costs nearly doubled to $273.9 million. Shopify ended Q4 with a negative net income. It lost $371.4 million in the quarter. Still, the company earned $23.38 a share for the year, or $2.90 billion.
Shopify expects the full year 2022 revenue will grow at lower than the 57% revenue growth rate it achieved last year. Investors should have expected the weaker guidance. It does not have Covid-19 triggered acceleration that lifted ecommerce growth in the first half of 2021. Furthermore, customers do not have a government stimulus in 2022.
Shopify changed its terms with apps and themes developers. For example, it eliminated a revenue share on partners’ first one million dollars of revenue. In addition, it is shifting from gross to net revenue recognition for theme sales. This will hurt Subscriptions Solutions revenue in the first half of this year. The headwind is especially pronounced in the first quarter.
Shopify’s commercial incentives and marketing and sales efforts will not lift growth in the near term. Instead, those efforts will accelerate revenue throughout 2022.
The industry is facing a technology talent crunch. Companies must pay increasing cash compensation to secure and retail talented workers. Chief Financial Officer Amy Shapero said that Shopify more than doubled its R&D hiring last year. Because it is the best place to work and seeks innovation, it will appeal to new hires.
Shopify will operate more fulfillment centers instead of running on an asset-light business model. This will empower Shopify to control quality, while adding to costs. It will implement an unified network warehouse management system. This will enable Shopify to offer 2-day delivery for more than 90% of the US population. This initiative will cost $2 billion through 2024. This includes a $1.4 billion capital expenditure. Fortunately, strong volume growth will justify lower the payback period.
On Stockrover, a quant scoring site, SHOP stock scores a 99/100 on quality.
The site assigned an 80% margin of safety. Investors who bought the stock today should expect returns of up to 80% (at a $1,200 fair value). Wall Street analysts are similarly bullish. The average price target among 28 analysts giving a stock rating have a $1,029 price target (per Tipranks).
Shopify has a strong moat. It has a powerful platform that merchants have no difficulty using. The online presence gives them an advantage in running a business instead of at physical stores. Shopify’s tools will only get better and more deeply integrated. This will widen its moat.
Markets cannot ignore the big macroeconomic headwinds ahead. Inflation is in the 9% range. Big-box retail may weather the higher costs, while small businesses struggle. Many merchants on Shopify are the latter.
The Federal Reserve constantly indicated it would raise rates. This lowers the discount rate investors should use in modeling a growth stock’s fair value. For example, use a discount rate of 7% in a 5-year discounted cash flow EBITDA exit model.
Based on the following metrics, Shopify would have a fair value that is almost 30% below its closing price:
|Discount Rate||5.0% – 6.5%||7.00%|
|Terminal EBITDA Multiple||16.8x – 18.8x||17.8x|
|Fair Value||$545.55 – $560.28||$528.54|
|Upside||-27.0% – 25.0%||-29.20%|
Model from finbox
Readers may set a higher annual revenue growth rate. That would increase Shopify’s fair value.
Shopify’s selling momentum shows no sign of slowing. Nasdaq’s continued daily declines might intensify the stock selling. A broad-based rally could lift the stock. Investors should decide what they are willing to pay. From there, buy the stock at that price. Then wait for Shopify to post stronger growth later this year.
On the date of publication, Chris Lau did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Chris Lau is a contributing author for InvestorPlace.com and numerous other financial sites. Chris has over 20 years of investing experience in the stock market and runs the Do-It-Yourself Value Investing Marketplace on Seeking Alpha. He shares his stock picks so readers get original insight that helps improve investment returns.