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Shopify (TSX:SHOP): Competitors Approaching

There’s no doubt that Shopify (TSX:SHOP)(NYSE:SHOP) is Canada’s most well-known and exciting technology stock at the moment. Since going public in 2015, the stock has sixtupled, and the company is on track to deliver over $1 billion in revenue this year.

Annual revenue, subscriptions, and sales from merchant solutions are all growing nearly 70% year on year. Investors are so excited about this growth that the stock trades at a price-to-earnings (P/E) ratio of 232 and a price-to-sales (P/S) ratio of over 18.8. By any measure, Shopify is priced to perfection on growth expectations.

However, the company isn’t profitable yet and doesn’t expect to be profitable for a few more years. Shopify seems to be trying to replicate Amazon’s model of reinvesting cash flow for growth at the expense of short-term profits. However, Amazon had two decades to build its dominance in e-commerce. Shopify may not have that luxury.

Shopify’s business model may be like Amazon, but the platform is completely different. It’s not an online store where merchants can sell goods but a digital toolkit for merchants to create their own online store. This makes Shopify more like Magento and BigCommerce than Amazon or eBay.

Shopify’s business-to-business (B2B) model means it doesn’t own the online shopping traffic but relies on its network of merchants and subscribers for recurring income. The barrier to entry with this model is considerably lower.

Shopify doesn’t seem to have a competitive advantage or so-called moat to protect its business. Small- and medium-sized merchants could easily switch to another back-end software platform with lower costs or greater features. That’s exactly what competitors like Amazon, Wix.Com, and Etsy are trying to create.

Amazon’s small-business-focused Storefronts platform was only launched in September 2018, but it already has over 20,000 U.S. merchants sign up. By comparison, Shopify has 500,000 merchants on its global network. There’s no reason why the biggest tech company in the world can’t capture some of Shopify’s potential market in the near future.

Shopify is aware of its lack of moat and the incoming competition. Its solution is to create a network of backend developers that can create unique e-commerce apps on the Shopify platform. Shopify has 20,000 app developers and agency partners to help its merchants with tools for customer service and inventory management and strategic insight. The company takes a cut of every app and plugin sold on the platform, similar to the App Store on iOS or the Play Store on Android.

There are over 2,200 apps on the Shopify app store, 84% of which are premium, and the company takes a 20% cut of every sale. It’s a growing part of the company’s business and has the potential to turn into a lucrative cash-generating machine relatively quickly.

However, there’s competition in this space too. Software giant Adobe acquired Magento and Marketo last year, marking its entry into the small business e-commerce industry. Magento’s marketplace has been around a lot longer than Shopify’s and has 3,000 apps listed on it.

Bottom line

Shopify potential for future growth could be seriously limited by competitive forces. American tech giants like Adobe and Amazon have the sort of scale, resources, developer networks, and capital that Shopify simply cannot match. That should worry investors.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. David Gardner owns shares of Amazon. Tom Gardner owns shares of Shopify. The Motley Fool owns shares of Adobe Systems, Amazon, Shopify, and Shopify. Fool contributor Vishesh Raisinghani has no position in the companies mentioned. Shopify is a recommendation of Stock Advisor Canada.

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