Shopify (SHOP 1.11%) stock is not cheap. Shares have rallied in the past year and are sitting near a post-pandemic high. There are certainly less expensive options in the e-commerce space as a result, including investments like eBay (EBAY 1.32%) and Amazon.
Don't let its elevated valuation scare you away from this stellar business, though. There's plenty of room for Shopify to be a positive force in most investors' portfolios. Here are the top reasons why.
1. Transactions are king
It hasn't been easy for many e-commerce specialists to boost sales in the post-pandemic period as consumers shifted demand away from previously popular merchandise categories. Etsy (ETSY 0.34%) and eBay reported flat or declining sale volumes for 2023, for example. Costco only recently announced rebounding growth in its digital segment as well.
Shopify is in a league of its own when it comes to sales volumes. Transactions jumped 30% in the latest quarter, representing accelerating growth in the holiday shopping period. That's great news for a business that profits from merchant engagement and from helping sellers scale up their enterprises. "Our strong Q4 and annual results are a powerful testament to the progress we've made building fast, reliable, and unified software for merchants of all sizes," Shopify President Harley Finkelstein said, in a mid-February press release.
2. Performing a service
Growth isn't particularly valuable if it doesn't translate into higher earnings, but Shopify shines in this department. Start with free cash flow, which improved to 21% of sales last quarter from 5% a year ago. That's a sure sign of success for a software-as-a-service business and implies excellent earnings ahead.
Investors don't have to simply imagine what those profits might look like, either. Shopify's operating earnings are up to 13% of sales today and have jumped thanks to a combination of fast growth and the sale of its logistics arm. Watch for profitability to climb toward 20% of sales, assuming it can maintain the strong momentum that investors saw through late 2023. Success there would likely mean further market-thumping returns for this growth stock.
3. Price check
Investors have to balance those benefits against Shopify's high stock premium. You'll pay up to own this business, for sure, as shares are priced at 14 times annual sales right now, up from 10 times sales in early 2023. eBay and Etsy are both trading at closer to 3 times revenue, for context.
There's so much elevating Shopify above its cheaper industry peers, though. Its focus on e-commerce infrastructure allows it to grow even as demand shifts between different merchandise categories. Soaring engagement means merchants are getting plenty of value from the platform, and they're responding by signing up for more services. These gains might snowball in the coming years as artificial intelligence continues lifting returns for this platform.
The biggest risk in buying Shopify, then, is paying too high of a price. That's not a risk to ignore because the rallying growth stock will decline if the current enthusiasm for tech companies cools off.
Investors should try to look past that type of volatility, though, and focus on its attractive long-term prospects. Shopify should add to its market share over the next several years while building a more profitable business. That's a likely path toward excellent long-term shareholder returns.
