Interest rate cycles can immensely turn the tide for stocks. And if the cycle is abruptly steep as is the one we are in right now, that’s a sure-fire recipe for massive value erosion. Canadian e-commerce giant Shopify (TSX:SHOP) is an apt example and has lost 65% of its market value since late 2021.
What’s next for SHOP stock?
Not just Shopify, but many other richly valued names witnessed similar weakness in this period. But the year 2023 brought in some hopes of slowing the rate hike cycle and, thus, a potential recovery of growth stocks. So, since October, SHOP has nearly doubled on hopes of improving the macroeconomic environment. But will it continue to run with the same magnitude? Will it double from here? Let’s see.
Nobody ever imagined during the pandemic that a wealth creator like Shopify would be an even bigger wealth destroyer when things upturned. And it was not just a rate hike cycle; Shopify’s operational and financial performance did equivalent damage post-pandemic.
In 2022, it reported a net loss of $3.6 billion from a profit of $3.1 billion in 2021. The pandemic and the lockdowns were a golden period for Shopify. Its free cash flows jumped 35x during the two years of the pandemic as a hoard of small businesses moved online. As movement restrictions waned after the pandemic, customers returned to offline shopping, pushing Shopify’s growth to moderate. Its gross margin also declined last year to below 50% from its long-term average of 55%.
Its not like Shopify has completely lost its glory. It reported decent 26% revenue growth in Q4 2022 year over year. Its gross merchandise volume increased by 16% in the same quarter. Gross merchandise volume is an important metric and represents the total dollar value of transactions facilitated on its platform. Indeed, this is too short compared to what kind of show Shopify once performed. However, the rapid growth was expected to normalize amid the new normal and valuation about to revert to the mean.
Shopify growth drivers
Shopify Fulfilment Network is expected to be a key growth driver for the company. It aims to invest a billion dollars in the next couple of years to become a logistics behemoth. Under the Fulfilment Network, the company will offer two-day or less delivery to most of the US population through its owned warehouses.
So, its cash flows might remain strained for the next few quarters as the company aggressively expands its logistics network. Analysts expect Shopify to report positive free cash flows only in 2025. With the absence of any growth trigger, SHOP stock might continue to trade range-bound in the short term.
On the macroeconomic front, slowing or pausing of the rate hike cycle will likely be a respite for growth investors. However, we are not out of the woods yet on the inflation front, and a recession is a high-probability event, at least for now.
Another doubling?
So, doubling from here seems like an arduous task for SHOP stock. It is currently trading at 10x its sales and does not look cheap. Investors with a stomach for large price swings might consider SHOP stock for the long term. However, it might be available at a better valuation before its new growth triggers play out.
