Special Free Report From The Motley Fool

5 TSX Stocks to Soar in 2020 – Here’s Your Free Pick!

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So, without further ado…

2020 Stock Pick #1: Shopify – TSX:SHOP/NYSE:SHOP

Company snapshot

Market Cap: CAD$26.7B
Cash/Debt $2.6B/$0.0
Yield: 0.0%
Recent Price: $241.99
Data as of: 2/25/2019

The Business Basics

If you dream of opening your own store, Shopify , NYSE: SHOP can probably help. The Ottawa-based company runs an easy-to-use e-commerce platform that lets merchants big and small set up shop on the internet in a matter of minutes without any initial setup fees. Budding entrepreneurs and established retailers pay between US$29 and $299 a month to access the cloud-hosted platform with plug-and-play flexibility. The solution helps merchants populate an online store with money-making merchandise. A Shopify Lite option is available at just $9 a month for cash-strapped beginners who want to sell primarily through Facebook.

Besides the monthly fee, Shopify doesn’t make money on each store unless the merchant does. Store owners pay transaction fees of 0.5% to 2% on each sale, unless the merchants are on Shopify’s proprietary credit card payment platform (which charges $0.30 per transaction as well as 2.4% to 2.9% of the order total).

Pricing Power: Irresistible Demand

CEO Tobi Lütke built what became Shopify 12 years ago when he couldn’t find a simple system for selling snowboards online. His application proved to be a hit — so much so that other entrepreneurs asked if they could adopt it for themselves. Lütke christened the platform Shopify, and his company has been helping innovators cash in on their ideas ever since.

Today the company serves the e-commerce needs of more than 820,000 digital storefronts, with revenue that topped US$1 billion in 2018. Shopify is getting a lot of things right to keep e-tailers coming back. And small dreamers aren’t the only merchants hitching their hopes to Shopify’s platform.

Several Canadian provinces decided to rely on Shopify to power their official cannabis-selling outlets once marijuana became legal for recreational use in the country this month. Thousands of government-run websites and private retailers processed hundreds of thousands of orders through Shopify’s platform in the first few hours of legalization, generating an average of 100 orders a minute.

Shopify is far more than a play on cannabis legalization, but this serves as a timely example of how the e-commerce facilitator’s appeal has become irresistible to merchants.

Pricing Power: Expandable Relationships

Many compelling opportunities open up when your subscriber list runs 820,000 merchants deep. Shopify is cashing in on new ways to make life easier for its growing (and largely satisfied) client base. It’s no longer just collecting digital rent. Shopify is also collecting small fees on every dollar of sales it processes on its own payments platform. Overall revenue increased 49.5% in the first quarter of 2019, with the payments-driven merchant solutions business up 58%. The legacy subscription business was up a more than respectable 40%.

Merchant solutions are helping Shopify to drive pricing power a few pennies and dimes at a time. But even that’s changing. In addition to getting a cut of gross merchandise volume, merchant solutions are where Shopify tests and sells newer services that extend beyond the initial sale.

For example, Shopify Shipping — the company’s order fulfillment arm that is now being used by more than a third of eligible merchants in the U.S. and Canada — has more than doubled its revenue over the past year. Japan became the eighth country to roll out Shopify Shipping earlier this year. Shopify Capital, the company’s financing arm has bankrolled thousands of its merchants with more than $500 million in funding since launching in 2016.

Pricing Power: Low-Price Leverage

The first — and sometimes the only — name that many people tend to think of when it comes to online retailing is Amazon.com (NASDAQ: AMZN), but it’s neither cheap nor easy to sell stuff on that platform. The tangle of fees and category restrictions make it hard to suss out leads through the world’s largest e-commerce site. Sellers pay referral fees on every item sold, and that’s a percentage rate that’s typically in the teens for most categories — but much higher in some. That smarts.

While it can be tempting for e-tailers to work with Amazon — the traffic benefits alone can feel worth it — the long-term costs are prohibitive. When fees hew up to 15%, 20%, even 45% of your profit, that’s hard on an entrepreneur. Worse: You never see your buyers. Amazon controls the relationship — from checkout to the warehouse and beyond — and gains all the data advantages from it.

Shopify, by contrast, offers merchants the ability to drive traffic to their own website address; it just happens to be hosted on Shopify’s cloud. Merchants also enjoy a gentle learning curve to get up to speed with paid search and display ad platforms to drive qualified leads. Ultimately the savings and freedom of selling through Shopify become invaluable.

On its own account, Shopify’s scalable business should help drive costs lower. The company is investing plenty at the moment on promoting its platform and growing complementary services. As long as its merchant base continues to grow — and it’s doing exactly that at 800,000 accounts — there will be cost advantages for Shopify and its shareholders in the future.

Our 5-Year Outlook

Will Shopify Make You Money and Beat the Market?

Like many software-as-a-service companies, Shopify is spending a lot to fuel customer acquisition growth in the short term. But things won’t always be this way. Shopify will turn these investments into profits as the rising number of customers enjoys the innovation of new solutions. We expect Shopify to be wildly profitable in the years ahead. Until then, it has more than US$2 billion in cash savings to fund its efforts.

Shopify is in the right place at the right time. There are plenty of ways out there to sell stuff online, and there is no shortage of successful cottage industries that have emerged on the online marketplaces available at Amazon, Etsy ,NASDAQ: ETSY, and eBay(NASDAQ: EBAY). But Shopify takes that ambition to the next logical level, giving retailers more control over their virtual shelves.

We do want to recognize that revenue growth has decelerated for 13 consecutive quarters as the company matures, but the stock has been a 12-bagger since the top-line growth rate peaked at the end of 2015. In 2018, Shopify still showed annual top-line growth of nearly 60% while having more than $1 billion in sales, a remarkable achievement. As the merchant count continues to grow, volume per merchant increases, and Shopify finds new revenue streams, investors can have confidence that Shopify can outpace the market for the next five years and beyond.

Will Shopify Double?

Shopify isn’t cheap by conventional measuring sticks. It’s not profitable, and it’s fetching more than 31 times trailing revenue. When the market corrects, it wouldn’t be a surprise to see Shopify get hit even harder. However, the long-term potential here is enormous.

Beyond the head-turning growth, Shopify routinely trounces Wall Street’s profit targets. It also tends to jack up its guidance pretty often. Whether Shopify is deliberately underselling its prospects or not, good things tend to happen when a company routinely exceeds expectations. Shopify’s next five years may not be as scintillating as its first three in the public market, but the foundation is there for the company to continue excelling as an investment. Tobi Lütke — who still owns a ton of Shopify’s stock — had a dream to empower entrepreneurs. That dream is coming true: Merchants and investors alike are realizing a better life, thanks to Shopify.

Shopify also adds an element of well-diversified growth opportunity, making it a worthy core asset in nearly any Canadian portfolio.

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Disclosure: David Gardner owns shares of MercadoLibre. Tom Gardner owns shares of Shopify and Tucows. Iain Butler owns shares of Shopify. The Motley Fool owns shares of Cognex, MercadoLibre, Shopify, Veeva Systems, and Tucows. Returns as of July 19, 2019.