Shopify (Shopify Stock Quote, Chart TSX, NYSE:SHOP) had a great year in 2018 but will the stock have more success in 2019?
Stan Wong of Scotia Wealth says investors should be thinking twice, not just about the sky-high valuation but also about the company’s business model, which he thinks could have some serious flaws.
Despite the short-seller attacks and the dramatic price swings, last year turned out well for Shopify, with the stock finishing 2018 up 48.5 per cent, a remarkable feat considering that all but a handful of Canadian tech stocks made it through the year in positive territory.
Ahead of the company’s quarterly earnings due next month, Shopify surprised in its last report —its third quarter of fiscal 2018, delivered in late October— where it posted a 58 per cent year-over-year increase in revenue to $270.1 million, significantly ahead of the consensus estimate of $255 million, but also delivering a larger operating loss than expected, coming in at $31.4 million versus the consensus $24.4 million.
So far, SHOP has risen from an October 24 low of $159.25 to where it’s currently trading in the low $210 range, more than a 30 per cent upswing.
But Wong says that on fundamental as well as technical basis, Shopify has issues.
“We don’t own Shopify in our portfolio. I prefer some of the US names in the technology space over some of the Canadian names,” says Wong, portfolio manager and director of wealth management for Scotia Wealth Management, to BNN Bloomberg Wednesday. “When you look at a blended 12-month forward basis, to be generous, it’s trading at about 270x forward earnings with a 42 per cent long-term growth rate. That long-term growth rate looks great but that’s a pretty rich valuation on the stock.”
“When you look at the stock over the past year, you’ll notice that since June, from a technical perspective, the stock has been showing lower highs and lower lows, so that’s not really a strong signal for me,” he says.
Wong also takes issue with Shopify’s business, which he says may be too crowded with retail arbitrage sellers rather than merchants producing their own goods. Also known as drop-selling, retail arbitrage sees sellers listing products through platforms like Shopify, Amazon and Ebay that have been bought at a cheaper price elsewhere and profiting from the markup. (Recently, Ebay has banned the form of arbitrage where sellers direct ship products from stores like Amazon to their customers.)
“Shopify relies upon a lot of the bigger relationships from firms such as Amazon, Facebook and Ebay, and any changes in those relationships could really hurt Shopify’s growth,” says Wong.
“There are still some questions about the quality of its merchant clients, particularly those that are engaging in so-called retail arbitrage or what they call drop shipping, which is basically taking cheap products from developing markets like China and just dropping it into a US audience. There’s some questions about the quality of those merchants,” he says.