Bear's Shopify SepQ Review

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I’m going to go through each category with real $ numbers…I think we lose something just talking percentages sometimes.

Revenue:
Sep 2016: 99.6M
Sep 2017: 171.5M

Up 72%

(non-GAAP) EPS:
Sep 2016: -0.02
Sep 2017: +0.05

Gross Profit:

Sep 2016: 52.5M
Sep 2017: 100.0M

Up 91%

Expenses:

Sep 2016: 61.9M
Sep 2017: 112.7M

Up 82%

I love that they were non-gaap profitable, but this is 0% of my thesis for SHOP…that’s simply optics. They are still investing a TON of money in growing this company. I mean, OpEx was up 10M sequentially. But, you know what? That’s exactly what I want them to do. They’d be idiots not to. The company is growing at over 70% YoY!

As far as the cries of “will they ever be profitable!?” – I really think these people just aren’t looking very carefully. Growing profit at 91% and expenses at 82% is a really good trend. As I said, OpEx grew 10M sequentially, but gross profit grew 13M. You can easily see how soon, the 100M in profit will catch the 113M in expenses, and Shopify will be profitable no matter how you slice it.

There was a question on the CC from an analyst who expected margin pressure this quarter. The CFO confirmed that margins are increasing due to operating leverage and higher margin revenue, as well as some operating efficiency improvements.

The stock is down. It never ceases to amaze me how irrational the market can be:

Some unhappy with the report? What were they expecting?
Some people are trading. “taking profits” 10% lower than they could have taken them yesterday (???)
Some people are sheep - selling because others are selling

Not only was there nothing negative in this report…there really wasn’t even anything surprising. Just the beat and raise quarter we’ve come to expect. At the current price of 99.50, the PS is down to 16.9 (even as Square’s is up to 17.1 today), and Shopify is looking a lot less expensive…especially considering how little growth slowed.

Bought more shares today. I now have 70% (not a typo) more than I did on Sep 30, even though it was already a 17% position for me then. I know…kind of crazy, but I always say when there’s a buying opportunity, buy.

Bear

PS - If you want to accuse me of being in love with this stock, show me where I go wrong in the numbers.

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I agree Bear. I think a negative which may have caused the drop is the increase in share count, directly causing NON-GAAP EPS to be positive, despite operating loss increasing. Maybe people don’t like that?

But they’re still growing like crazy and this growth needs cash. So I’m happy. The main worry was if growth was slowing. Not yet!

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Bought more shares today

Me too

Frank

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I agree Bear. I think a negative which may have caused the drop is the increase in share count, directly causing NON-GAAP EPS to be positive, despite operating loss increasing. Maybe people don’t like that?

But they’re still growing like crazy and this growth needs cash. So I’m happy. The main worry was if growth was slowing. Not yet!

Billy,

Agree 100%. Also, they gave away 16M in SBC. Well the Mkt Cap is 10B. So 0.16% dilution. Cry me a river, people!

Bear

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Bear,
The problem w shop at this point is that the stock price could stagger for awhile.

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Paul

I understand you are from UK, SO AM I. Doesn’t trading in US stocks costs a lot of money. How do you get around the 3% fc charges levied by brokers ?

Cheers

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Doesn’t trading in US stocks costs a lot of money.

I live in Germany and use Interactive Brokers. Transactions of up to 500 shares (for most equities) cost $1. Not only is it inexpensive, but it’s downright cheap!

How do you get around the 3% fc charges levied by brokers?

You can buy and sell dollars in your account at the market rates. The spread is so thin that you don’t even notice it. There is no 3% charge. Also, the $1 transaction charge applies here too. Once you have the dollars, you can buy equities on all of the US exchanges. Naturally, you could buy on virtually any exchange and hold whatever currencies you want in your account.

You’ll need some market data plans that cost about $12 per month, which is reduced by the transaction fees.

Also, margin rates are extremely low. Generally, I’ll use this for situations in which I really want to buy something at a good price and need a few days to get cash into my account.

DJ

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PS - If you want to accuse me of being in love with this stock, show me where I go wrong in the numbers.

Operating loss grew 33.7% to negative $12.7 million, QoQ.

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Operating loss grew 33.7% to negative $12.7 million, QoQ.

But 12.7M is a smaller percentage of 171.5M revenue than 9.5M is of 99.6M revenue, so even that can be seen as an improvement.

Bear

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https://www.fool.com/investing/2017/10/31/why-shopify-inc-st…

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There is an interesting article that appeared on Seeking Alpha this morning that discusses Shopify’s Q3 results. The link is a follows;

https://seekingalpha.com/article/4118966-shopify-q3-2017-res…

I post this partly to alert you to the article but also partly to draw attention to the author who goes by the name of “Save Money Retire Early”. He has written some excellent in depth articles about the company that are well worth reading. I especially like his article titled “Shopify: A 10-Year Revenue Forecast” the link to which appears below;

https://seekingalpha.com/article/4073324-shopify-10-year-rev…

Cheers!

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I’ve started rebuilding my SHOP position. Some yesterday (too early), some today ($95.60). And a good-for-60-days order at $84.75 limit, which is about the 200-day moving average right now. Bedtime.

KC

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But the market, what counts short term, does not seem to be seeing it that way. Assuming that this is at least partly behind the SHOP post earnings price swoon.
If so Shopify needs to address more attention to earnings vs sales. Getting past the "losing money with every sale but making it up in volume " bit. Showing, like Amazon, that they could make a profit if they wanted to.

The price weakness is clear, determining the exact cause/causes is harder. Maybe it just went up too fast too long.

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Bear, you’re in love with the stock.

But 12.7M is a smaller percentage of 171.5M revenue than 9.5M is of 99.6M revenue, so even that can be seen as an improvement.

So operating loss can grow infinitely, as long as the % loss falls?

Your ideas are intriguing to me, and I would like to subscribe to your newsletter.

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So operating loss can grow infinitely, as long as the % loss falls?

I’m not sure Bear is saying that…

Pete

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We have discussed this quite a bit on the New Paradigm board, although not this precise topic. I believe we all understand the strategy of spending to grow as fast as they reasonably can because the more merchants that they can bring in, in the end, the more money they can make when they eventually turn on the profit spigot.

Most people agree with this strategy.

However, the counter to this is that if there are truly economies of scale here, that the larger the merchant base becomes, the lower cost it is to service each additional and new merchant (which is the concept of leverage) that you will see this leverage in the P&L sheet. Otherwise, the thought is, that each new merchant they are retaining is costing as much to retain as they give back to the SHOP. This is the opposite of leverage.

As a business myself, I once celebrated when my revenues skyrocketed, only to find out that I spent as much money in marketing as I took in. It takes talent and doing things different and better than the competition to do otherwise. I now minimize marketing spend and have maximized revenues, and makes for great business, but took a while to figure out how. I have created leverage in my business model through multiple means.

SHOP, can they really just turn off the marketing spend and start raking in billions or are they having to pend more money each quarter in order to maintain their growth? given the higher churn rate that SHOP incurs from most businesses, necessitating SHOP having to retain many more customers each quarter to maintain growth than most businesses, will this require constant hordes of marketing dollars? Or can it leverage?

The affiliate partners are one source of potential great leverage. What I would like to see, and I am sure the market, is see evidence of this leverage in the business model.

I have not even finished reading through the earnings call, so I am to going to comment on the substance of this question, but this is to me the largest question for me. Just how valuable are all these new merchants coming in vs. cost of retaining them, and what is the reason that leverage does not appear to be showing up? Is it just hidden in the numbers, or is it just not there?

I will be looking for this, but I think this is the primary issue.

Tinker

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the lower cost it is to service each additional and new merchant (which is the concept of leverage
this seems inherent to software
can they really just turn off the marketing
I suppose that depends on how much of the success is word of mouth. Porter and others stress that most of the spread read of innovation happens that way. Would a 20% decease in dollars spent in marketing lead to more or less than a 20% decrease in earnings? I have no idea. But Shopify is seeking to be THE standard, and for that it needs to dominate market share.

As usual I have more questions than answers. But good questions are more useful than bad answers.

speaking of bad answers see this

https://www.marketwatch.com/story/one-old-fashioned-reason-w…
TSLA may indeed collapse but his reasons are absurd.
I have learned that when people devote a lot of effort to running down a stock they are probably short. Admitted or not.Because there are thousands of failing companies at any moment, once having decided you don’t want to own them, why devote any effort to it? Time is money.

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Bear:

Irrational? What do you make of Left’s thesis? Has Lutke responded to Citron’s points?

How do you gauge the magnitude of that pulldown and how to do you determine that is abating? The short squeeze that some were expecting (anticipating that good report) didn’t seem to have happened.
I think that SHOP is going higher in the long term but I am asking in the shorter term how you assess the situation and how you play it?

tj

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How do you gauge the magnitude of that pulldown and how to do you determine that is abating? The short squeeze that some were expecting (anticipating that good report) didn’t seem to have happened.
I think that SHOP is going higher in the long term but I am asking in the shorter term how you assess the situation and how you play it?

I understand your question, tj, but I’m not good enough to know why the market does what it does. You’re right, I do think about the short run (as well as the long run), but by that I mean:

  1. The company’s short term results matter as well as the long term results
  2. Buy companies when they’re cheap relative to similar companies

I do NOT mean:

  1. Try to time WHEN the stock will go up
  2. Foresee when the market will be irrational

All I can really do is try to accumulate a position when I feel the price is favorable and the outlook is good. That’s what I’ve done with Shopify. …a large position.

From my monthly review:

you just never know how a stock will react in the short term. The good news? It’s very obvious that the companies I own are doing well over the course of months, quarters, and years. That’s the only edge I have, and my continual focus.

Hope that helps.

Bear

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When I invest I invest for the long term. At SHOP’s valuation that is what SHOP requires as well.

I only have an iPad mini with me, so I am making this fromless than optimal access to information, but sometimes that is beat.

As I look at the finances of SHOP what I find as the only area of leverage in the business model is that G & A is growing substantially slower than revenuesand that is where the increase in gross profit that exceeds revenue growth is coming from.

G & A is not along term source of business leverage.

The one metric that Left taunts SHOP about is churn rate and churn rate is one of a few important metrics that SHOP will not supply us. Thus it becomes difficult to ascertain any leverage in merchant ads from marketing dollars that are growing faster than revenues are growing. Finding leverage in the business model is not found in the current financial disclosures.

That leaves the strategy of becoming the de facto platform and at that time we will find revenues growing faster than marketing spend. It is a theory.

And it is a theory with merit. AOL is perhaps the best example of this. Nutanix is certainly trying a similar strategy. Who am I to say it will not work. It possibly may work. Skeptics bring up issues but do not make great returns when investing. Great returns require seeing whT others do not see.

My issue With SHOP is I think in the end that there is a limit to how many viable drop shipping type businesses they can sustain. Once too many people figure out a way to sell product the market tends to become over saturated. We have seen this happen over and over again.

My concern increases with no indication of business leverage.

There is no telling how large the market can get however until it becomes saturated.

Until SHOP shows me otherwise with pe4fectly reasonable figures th t helps us understand how much of their marketing spend has to do with chasing and replAcing churn we ar just not going to know. SHOP simply does not give us enough information to make any reasonable assessment.

As such, it does not change SHOP investment thesis. It continues to grow nicely. Butleverage in the business model still eludes the numbers. This means just hold it and see if it pulls an AOL at some point or if it becomes what David Gardner calls a “Tweener” and collapses when the merchant growth saturates the market, similar to issues that eBay had.

I made a ton of money from SHOP investment when it’s risk was less. And frankly it’s forward looking price to sales is around 9,not the 20 that skeptics continue to use as a number. Let me know next time when backward looking numbers were of real value.

The best I can say is that forward looking valuation is not all that bad, but I fear market saturation of the drop shipping business model at some point and thus an issue for longer term growth if this is a material part of that growth, and I cannot find the leverage we want to find in the business model. What I see is G & A creating business model leverage but marketing nd R&D growing faster than revenues. I do not mind R&D but given my own personal experience it’s mrketing expenses relative to growth, unless it is a race to be the one true standard with powerful networking effects that flow from this, Shop is demonstrating no leverage in relation to their marketing spend.

As affiliate partners expand, particularly those who provide value add as their business model so should leverage of revenues relative to mrketing spend as the affiliates spend their own money to market SHOP. Just like Microsoft consultants or the like.

Let me know if others see the leverage. For me this is crucial to long term success. The larger they become the more efficient marketing spend should become. Tha t creates increasing returns and a superior business vs regular businesses that return a profit that is average or less as competition worksto reduce profits to zero, as is a perf3xtly competitive market.

We want companies that act oddly in that they produce increasing returns that defy perfectly competitive markets.

Tinker

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