E-commerce business Shopify (STORE -6.26%) was a big winner during COVID-19, but the stock has fallen out of favor, down 80% from its peak. Wall Street may be irrational in the short term, but it’s fair to ask questions when faced with such a steep drop.
Investors may uncover more questions than answers when exploring Shopify. Here’s what’s going on and why investors shouldn’t assume Shopify is cheap just because the stock has fallen so far.
Evaluation is a matter of perspective
Shopify remains a winning investment; shares are up more than 1,200% since the company went public in 2015. However, the stock was once up 6,000% and has fallen significantly over the past 18 months. The stock appears to be a bargain on the surface; if you go by the price-to-sales (P/S) ratio of 8, that’s arguably its cheapest valuation ever. But it’s not always that simple; for example, let’s compare the valuation of Shopify to the undisputed king of American e-commerce, Amazon:
Even at its lowest valuation on record, Shopify is about three times more expensive than Amazon stock. Investors are therefore now faced with the question of whether Shopify deserves such a premium for Amazon. Otherwise, there’s a good chance that Mr. Market will sell more Shopify or increase Amazon’s valuation — or both. A company’s fundamentals tend to dictate price action over the long term.
Should Shopify Order Prime on Amazon?
Let’s compare some critical fundamentals between the two companies; Shopify is a much smaller company than Amazon and is growing faster. You can see that Shopify’s revenue growth was consistently above 30% a few years ago, and it increased even further during the pandemic. Meanwhile, Amazon has been a bit slower and more stable. One could easily make the case for Shopify’s premium valuation based on revenue growth alone.
But a closer look reveals some issues. For one, Shopify’s growth has slowed significantly over time. Its last quarter, where it recorded a growth of 15%, is a far cry from several years ago. Yes, Amazon’s growth has also slowed between 2021 and 2022, but the growth rate gap between the two companies is arguably smaller than ever.
Then you enter the finances of each company. Amazon is a more profitable company than Shopify at the moment. Both companies have seen their free cash flow dry up over the past year due to rising transportation costs, salaries and other operating expenses. However, Amazon turns 7% of its sales into operating profits compared to 2% for Shopify. Meanwhile, Amazon is still profitable with a net profit of $11.6 billion over the past year, while Shopify remains in the red.
Perhaps most important in the long term is Shopify’s continued investments to flesh out its logistics segment to better compete with Amazon. Meanwhile, Amazon’s cash cow, Amazon Web Services (AWS), continues to grow and should pump more money into the company’s coffers over time.
Amazon might be the best stock to buy today
That’s not to say Shopify is in the wrong place, but the argument that the stock deserves a much higher multiple than Amazon is flimsy, in my opinion. Shopify doesn’t have an AWS-like business that generates tons of cash flow, and its increased investments could dampen Shopify’s finances for a while, even if those investments are necessary for its long-term competitive positioning.
Sometimes a stock goes into the battery too hard, and that’s where I see Shopify right now. On its own, Shopify still offers a lot to like for long-term investors, but Amazon could be the stock that will give investors the most short-term benefits due to AWS and the much cheaper stock price today. today.
John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a board member of The Motley Fool. justin pope has no position in the stocks mentioned. The Motley Fool holds positions and recommends Amazon and Shopify. The Motley Fool recommends the following options: $1140 January 2023 Long Calls on Shopify and $1160 January 2023 Short Calls on Shopify. The Motley Fool has a disclosure policy.