Shopify: Dangerous Mix Of Slowing Growth And High Valuation

GMV performance exceeded expectations. Shopify’s revenue in the first quarter increased by 25.8% year-on-year to US$1.51 billion, which was better than the market’s expected US$1.43 billion, mainly due to the outstanding performance of GMV and the strong growth of merchant solutions. In the first quarter, the gross merchandise volume (GMV) increased by 15% year-on-year to US$49.6 billion, which was better than market expectations of US$47.68 billion. Judging from the financial report of competitor Amazon, the revenue performance of the e-commerce retail business also exceeded market expectations in the first quarter, both in North America and in international regions. To a certain extent, in the environment of weak consumer spending, the e-commerce business is relatively more resilient due to its more cost-effective.

The company's attach rate (defined as revenue/GMV) increased from 2.79% in the same period last year to 3.04%, reaching the highest level in history. This shows that merchants continue to purchase more and more solutions from Shopify, the company's new products are still very attractive, and the rich solution ecosystem constitutes one of the company's core competitiveness.

From the perspective of revenue sources, merchant solution services continue to drive the company's revenue growth. In 2018, subscription solutions accounted for 50% of the overall revenue, and this proportion dropped to 23% by 2022. Merchant solutions revenue was $1.1 billion in the first quarter, up 31% year-over-year, driven by growth in GMV, continued penetration of Shopify Payments, and contributions from logistics company Deliverr. In the first quarter, the GPV (GMV using it for payment) of Shopify Payments (Shopify Payments provides convenient payment channels for merchants and consumers on the platform) reached 27.5 billion US dollars, and the Shopify Payment penetration rate (GPV/GMV) was 56% , 51% higher than the same period last year.

Subscription Solutions revenue was $382 million, an increase of 11% from the first quarter of 2022, driven primarily by growth in Plus subscribers. (Shopify provides customers with a total of 5 SaaS subscription packages from low to high: Shopify Lite for self-employed individuals, three main subscription plans Basic Shopify, Shopify, Advanced Shopify, and Shopify Plus for large brand customers).

The risk of price increases on user loss is controllable. In January 2023, Shopify announced that it would increase the prices of Basic, Shopify, and Advanced by more than 30%. Because the sweeping pricing changes didn't take effect until April, the pricing changes had a minimal impact on the first-quarter financials. However, it is expected to have an impact on MRR growth in the second half of this year. Although raising plan prices may cause user loss, given the lack of options for e-commerce companies that provide comparable products and services, the risk of merchants actually leaving the Shopify platform is small.

From the data point of view, the monthly recurring revenue MRR in the first quarter was US$116 million, a year-on-year increase of 10%, of which the percentage of Plus merchants in the total MRR increased from 30% in the first quarter of 2022 to 34%.

Large business strategy is an inevitable choice for development. After experiencing the rapid prosperity during the epidemic, Shopify’s overall revenue growth has slowed down, but its operating expenses have continued to increase. The previous strategy of only targeting small merchants is no longer enough to cover the ever-expanding expenditure. Shopify is trying to expand its mainstream service targets from traditional small and medium-sized enterprises to large merchants through continuous improvement of product services, thereby entering a broader market.

Previously, Shopify had been targeting larger brands through Shopify Plus, but due to lack of pertinence, there were fewer large merchants who subscribed in the past. In the first quarter, Shopify chose to launch a more targeted enterprise retail solution, Commerce Components. Large enterprises with a GMV of more than 500 million US dollars allow enterprises to integrate Shopify components with existing systems through APIs to meet customized needs.

As the company continues to shift to a merchant solutions-based revenue model, the importance of key accounts is further highlighted. Small and medium-sized enterprises tend to have low GMV, are less able to resist risks, and have less demand for supporting services, while enterprise customers usually generate more value.

The downward trend of gross profit margin continued. Gross margin was 47.5% in the first quarter, down 5.5% from 53% in the first quarter of 2022, partly due to the Deliverr acquisition. In addition, driven by the growth of Shopify Payments, the decline in gross profit margin is also affected by the increase in the proportion of merchant solutions. Since the gross profit margin of the Shopify Payments business is low, the overall gross profit margin of the merchant service business has been lowered. .

Operating expenses are still high. In this quarter, the overall operating expenses accounted for 60% of the revenue, an increase of 24% year-on-year. R&D expenses still increased at a relatively fast rate, with a year-on-year increase of 51%. The growth rate of marketing expenses and management expenses has slowed down. The main drivers Factors related to higher compensation costs. Lower gross profit margins and higher operating expenses led to a wider operating loss for the company, which was $190 million for the quarter, compared to $97.98 million for the same period last year.

To salvage margins, the company decided to sell its logistics business, Deliverr, to Flexport, which it acquired last year for $2.1 billion to expand its last-mile reach. After the completion of the sale, shopify will acquire a 13% stake in Flexport in addition to its existing equity. The acquisition is expected to be completed in the second quarter of 2023, and the company will become shopify's official logistics provider and preferred partner. At the same time, the company announced that it will reduce its overall headcount by approximately 23%, including those transferred to Flexport, to 11,600 by the end of 2022.

Since the acquisition, Deliverr has been continuously affecting Shopify’s profit margin. This time, Shopify’s strategic turnaround and layoffs in building its logistics infrastructure are all aimed at restoring its profitability indicators as much as possible in a difficult environment. After the sale, Deliverr’s impact on Shopify The dilutive impact on gross margin and FCF profitability should be significantly mitigated. But at the same time, it will become an unfavorable factor for revenue growth after the second quarter. Deliverr has been one of the important factors driving Shopify's revenue growth in the previous quarters.

Judging from this financial report, Shopify's choice is more like a "survival with a broken arm" after the difficult macro environment and the end of the epidemic dividend after the slowdown in revenue growth, giving priority to keeping profit margins from falling.

Although the management is still cautious about the performance guidance for the second quarter, it is expected that "the revenue and gross profit margin in the second quarter will be similar to the level in the first quarter", but sales and layoffs are expected to bring about an improvement in profit margins. The main reason for the sharp rise in stock prices after the results this time is that the price increase effect of subscription services will be reflected from the second quarter.