This article was written by I Know First Research Team.

Summary:

Berkshire Hawthaway just bought Amazon. Shopify’s market cap is approximately 3% of Amazon’s.

Amazon shut down its attempted Shopify competitor Webstore and instead integrated Shopify because Shopify is leading multi-channel commerce platform.

As the leader in its field, Shopify is in prime position to benefit greatly from the once in-a -lifetime and accelerating transfer of value away from bricks and mortar shopping to the conveniences of online commerce.

Shopify is the fastest-growing software-as-a-service company in history to achieve $1B in revenue, growing revenue 59% over 2017.



Shopify’s global expansion has a long runway of growth ahead.

Geopolitical macro trade developments are providing an attractive pull back buying opportunity.

I Know First Algorithm is currently bullish on Shopify.

Led by CEO Co-founder Tobias Lutke, Canadian Shopify went public almost four years ago exactly on the TSX and NYSE and started trading at $28, more than 60% above its USD$17 offer price. Those early faithful buyers of stock on day one of Shopify being public have been rewarded with a return of 875% so far. But there is more to come.

One cannot overestimate the change that has occurred in retail thanks to the rise of e-commerce. Previously a major barrier to entry to even being visible to consumers was the need to enter into a costly and often inflexible lease, or if one didn’t have their own store, secure valuable shelf-space in supermarkets or department stores. This is no longer the case. Start-up brands including those with a niche focus can now compete on online and sit side by side along established giant global brands with equal visibility to the consumer. Not to say that all online presence is without costs – online market places for example, high commissions, like mall rents, are charged. The continuing quest to avoid these costs and have more direct interactions with the consumer is assisting Shopify’s growth as well.

Shopify COO Harley Finkelstein on the success of Shopify’s direct-to-consumer clients including large Shopify Plus clients Kylie Jenner, Hasbro, Levi Strauss & Co, Procter & Gamble, and Johnson & Johnson,: ” Our feeling is that you know for an entrepreneur they don’t always want to rent the audience. They want to own the audience. They want to have a direct relationship with their customers. They want to own the entire to profit margin. They want to be able to sell and have long-term relations with the people that are buying their products.”

Shopify bundles together tools to create a one-stop shop for merchants to design, set up and manage their stores across multiple sales channels, including mobile, web, social media, marketplaces, brick-and-mortar locations and pop-up shops. Providing e-commerce domain hosting and website sign, customer analytics and relationship management, processing and delivering orders, management and purchasing of marketing ads, and other merchant services including shipping, working capital loans, and payments- which makes it a simple “one-stop shop” for bringing small businesses online.

An added tailwind for Shopify is that there is a secular trend underway whereby there is a preference to shop at are perceived to be bespoke, independent brands as opposed to franchised or chain brands with many outlets. Since Shopify caters to these sorts of smaller businesses, it is set to benefit greatly.

But Shopify does have the large merchants covered too, and its fast and powerful hosting and back office platform is built to facilitate growth and scale. Although Shopify was originally intended to cater to small emerging online businesses, many of its original small clients grew into enterprise-size operations, and so Shopify developed Shopify Plus to service them.

Now clients of Shopify Plus include giants like Colgate, Budweiser, Red Bull and Colgate-Palmolive. Shopify’s percentage of recurring revenue as a proportion of total revenue is increasing. Shopify Plus merchants account for 26% of Shopify’s Monthly Recurring Revenue, up from 22% in the same quarter a year ago.

Shopify divides its revenue into Subscription Solutions and Merchant Solutions Revenue

Revenue from Subscription Solutions includes subscriptions to the platform, as well as sales of its themes, apps, and registration of domain names. Shopify’s subscription solutions revenue in Q1 2019, which accounts for 44% of total revenue, rose 40% year over year to $140.5 million, driven primarily by a boost in the number of merchants joining the Shopify platform.

Most of Shopify’s revenue, and revenue growth, is now from Merchant Solutions: payment processing, transactions, and referral fees, as well as sales of its point-of-sale hardware, Paypal Capital (loans) and Paypal Shipping. This segment generates the bulk of its revenue from Shopify Payments.

Shopify partners with Google; Facebook and its subsidiaries including Instagram; Pinterest and more recently Snapchat to make buying advertising easy for Shopify’s clients. Shopify Shipping allows the merchant to offer calculated rates (as opposed to flat shipping rates). Discounted rates are available with couriers such as USPS, UPS, DHL Express, and Canada Post so individual merchants benefit from Shopify’s scale.

Shopify Payments eliminates the need for merchants to fumble with payment gateways, and is seamlessly integrated with many payment gateways. Shopify Capital provides loans to merchants with a subscription to Shopify’s platform and loss-rates and pricing of this working capital provision benefits from the fulsome data that Shopify collects from its merchant clients’ operations.



Source: Shopify Website: 2018 Year in Review

In Q1 2019, merchant solutions revenue climbed 58% year over year to $180 million. Growth was broad-based, helped by a 50% year-over-year increase in gross merchandise volume and “robust growth in Shopify Capital and Shopify Shipping,” management said in its first-quarter earnings release. The amount Shopify loaned via Shopify Capital in Q1 2019 was up 45% year over year. Shopify Capital was launched just three years ago and has a huge growth runway ahead.

Source: Shopify Website: 2018 Year in Review

Shopify Is Solidifying Its Moat

Since Shopify is a B2B business rather than a B2C business, we need to be even more mindful of the competitive landscape as a consumer-facing branding moat cannot be established.

Shopify is taking customers from competitors at a rate of 7:1 compared to those that it is losing to them [source: Robert W. Baird & Co. Research, Colin Sebastian, 5 April 2019] – despite the inconvenience of moving platforms. This inconvenience ensures that once merchants have found Shopify to be the leading platform, they are sticky, which is great for recurring revenue.

Source: Shopify Website: 2018 Year in Review

I would venture to say that Shopify has no competitors executing at a comparable scale with a comparable level of specialization. Amazon agreed when it chose to integrate Shopify after it shut down its own attempt at a Shopify competitor, Webstore, in 2015.

Shopify has secured its leading position due to its execution, which is in part thanks to its singular focus, which has been consistent since Shopify was founded. The prowess in execution finds expression in many areas, which include user-friendliness and ergonomics for the merchant, ease of set-up, range of functionality and integrations, as well as additional services offered.

Shopify ‘competitors’ can be divided into three broad categories: divisions or ‘after-thought’ extensions of existing large tech names. The second are those whose primary product has always been website hosting and templates, but they were not originally focused on ecommerce sites in particular, and therefore belatedly and less effectively entered the space. The third category are those that have indeed been focused on ecommerce platforms since inception but have failed to execute, and therefore scale as well as Shopify.

Shopify fended off Amazon’s competitor Webstore which was established in 2010 and subsequently shut down in 2015, with Amazon integrating Shopify’s features into its market place instead. Amazon, by far the largest ecommerce conglomerate by market capitalisation and with a lot of cash on hand, realised that a singular focus on ecommerce platforms was required in order to complete successfully with Shopify.

Amazon’s Webstore experience does not bode well for Microsoft, which is apparently considering Shopify-like ecommerce tools for its cloud customers. Perhaps it will follow Adobe’s lead.

Adobe’s Commerce Cloud (an updated version of loss-making Magneto which was sold off by Ebay), and WordPress’ WooCommerce are both quite complex ecommerce add-ons that require the merchant to have in-house development skills, and understanding of internet domain names and servers. Shopify’s mantra is let the client focus on the product or service that their site will showcase, not ecommerce software and development. The level of tech expertise required by WooCommerce is demonstrated by the fact that no telephone support is offered, as Shopify offers 24/7 – one needs to rely on forums.

Prestashop is similar to WooCommerce – separate acquisition of hosting services and developers are required to get things up and running and PCI compliance and security needs to be set up.

A year ago Square purchased Weebly, presumably Weebly decided that survival in the face of Shopify was not possible as a standalone company. Weebly’s cheap-and-simple platform is certainly user friendly for start-up small merchants but comparing its functionality to Shopify is like comparing apples and oranges. It does not, for example, allow unique customisation of default design templates if the merchant team wants to add some coding, nor allow integration with the merchant’s Amazon account, and accounting products like Xero, Quickbook, split payments, and many other features that Shopify boasts.

Merchants with many product types, and wide age-demographics, would find it difficult to rely on Facebook-owned Instagram for their primary shopping platform to the consumer and Instagram-based customers currently provide a very small percentage of revenue for Shopify. Instagram’s recently released check-out feature, which allows purchases within the app, is not a threat to Shopify. Again, with ecommerce not being the sole focus for Facebook, Instagram had to rely on a partnership with Paypal in order to launch check-out, which will constrain check-out’s functionality payment options greatly. Only Paypal, its subsidiary products, and the major credit card providers that Paypal already offers on its platform are available to consumers as payment methods when they use Instagram checkout.

In contrast Shopify has incurred over $1bn in marketing and R&D over the past four years to ensure amongst other things that that over one hundred and counting payment gateways and methods are supported, among them competitors of Paypal subsidiary Affirm, which Instagram will not be able to offer. These payment methods are a big hit with the younger demographic that enjoy the Instagram platform.

Wix and Squarespace fall into the category of competitors that belatedly incorporated ecommerce merchant features into their original simpler gallery website template offering, and this is reflected in the less user-friendly experience for clients wanting to set up on an online store (read: multiple apps, plug-in installations required just for a basic store) and more tech knowledge is required.

Volusion is another smaller competitor that was established seven years earlier than Shopify. It offers a thorough range of solutions for product management but it has been losing many customers to Shopify. Volusion’s lack of a solution for larger customers has led it to play catch-up with its recent purchase of Mozu. Volusion lacks a marketplace with a wide-range of apps-plug-ins. Volusion has been around a lot longer and it is clear that it has not executed nearly as well as Shopify and now has well and truly fallen behind.

Shopify strengthened its moat and advantage over all other smaller competitors including Big Commerce when Amazon shut down its Webstore business and chose Shopify for integration with its marketplace. This effectively validated Shopify as providing the leading execution in the space, and no competitor, whether in the SME or enterprise sized-client market, has emerged to change this state of affairs. CoreDNA, focused on the larger-size client market, has a mixed focus on storefront and content type sites. In contrast Big Cartel is designed for small businesses that only need basic features and only have a few products to sell.

Shopify’s underlying platform subscription revenue growth has been impressive, but growth from Shopify’s Shipping, Shopify Capital, and Shopify Payments has been even more so. Any serious competitor would need to integrate similar merchant solution verticals in order to generate enough revenue to compete against Shopify. The cost at which Shopify can provide these services to its merchant customers decreases with scale and Shopify is pulling out further ahead all the time, and so over time it becomes more difficult for any potential competitor to contemplate introducing verticals on a competitive basis.

These merchant services have been important in Shopify pulling ahead of the competition as they provide a one-stop-solution for any store, large or a small start-up, going online. Moreover, the data that Shopify is able to collect from its clients is very broad and thorough and can better inform lending decisions for Paypal Capital and reduce loss-rates, for example. This should allow Shopify to provide sharper pricing. Overall the one-stop integrated solution that Shopify provides its merchants is highly advantageous in terms of the fulsomeness of the data that Shopify collects, which ultimately means an ability to undercut the competition.

Global Expansion

Source: Shopify Website: 2018 Year in Review

Over 800,000 businesses are hosted on Shopify’s platform , spread across 175 counties. Still, the global expansion has an exciting runway of growth ahead. Countries outside North America, Canada and UK only represent 12% of revenue and 24% of merchants. The combined population of the 171 other counties is over fifteen times the size, but online shopping penetration is lower and there is an exciting longer growth runway ahead.

Also, Shopify is still expanding its language offerings for its merchant platform, and most recently adding Dutch and Simplified Chinese in limited beta, bringing the total number of languages offered to nine. So revenue in non-English-speaking countries will continue to increase as language offerings are expanded.

Some business lines are not yet available yet outside of North America, UK and Australia. Shopping Payments is not yet available for all remaining 171 countries. At the moment if the store is based outside of US or Canada, Shopify Shipping cannot be used and an add-on additional shipping plug-in needs to be used.

Final Thoughts

Shopify is a B2B business rather than a consumer-facing B2C like Amazon, and originates from Canada rather than the US. So despite its dual listing, Shopify may still less be well-known amongst the investment community than it might otherwise have been, given its execution so far – which has resulted in it being the leading player in its space.

In many cities around the world, no new shopping centres have been built for years, mall rents are decreasing or at best flat, and vacancies increasing. The situation is generally even worse for high street landlords. But the shoppers and their dollars have not just disappeared. We are witnessing a once-in-a-lifetime shift to commerce shifting online that still has a long time to play out, particularly globally where online commerce is less mature than North America. The shift globally is only accelerating thanks to the convenience of mobile-device-based-shopping and innovations in consumer banking and finance which do not stop unbanked customers in developing countries from shopping online.

Shopify is the leading seller of shovels in this gold rush, and so it is exceptionally well-placed to capture value – not only from hosting domains, website design and platform subscription, but also clip the ticket on payments, merchant working capital loans, shipping, marketing and many other potential future merchant services that can be packaged up by Shopify thanks to the wonders of technology.

My bullish endorsement for Shopify is backed by the positive algorithmic forecasts from I Know First. The 1 month, 3-month and 12-month algorithmic forecasts for SHOP are all positive. The underlying future trend is that this stock is likely to go up in price.

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