Canada isn't known for its abundance of technology companies, at least not compared to our neighbours to the south. We rarely get to see an initial public offering in the tech market north of the border. That's part of what excites me about Ottawa-based Shopify Inc. filing for its upcoming IPO a couple of weeks ago.
Formally launched in 2006, Shopify is one of the biggest names when it comes to selling software to let non-technical small business owners create an online store. They are a software-as-a-service (SaaS) business, meaning they charge monthly recurring revenue to merchants who use the Shopify platform. They've grown fast too. Shopify posted $37-million in sales last quarter, up more than 98 per cent year-over-year. I think it's no exaggeration to say that they're still in the midst of mega growth.
Shopify is also a great example of the type of company I typically consider for a long-term investment. Is online shopping software disrupting an old way of doing things? Naturally, yes it is. Does Shopify hold a leadership position in this fast-growing market? They seem to be the clear leader based on my initial research. Shopify hosts over 162,000 stores compared to 80,000 for one of their most frequently cited competitors, Bigcommerce (a privately held firm).
As someone who deeply understands the world of e-commerce, the growth opportunity facing Shopify seems insanely large to me. Consider that Shopify targets small- and medium-sized store owners. There are more than 10 million such merchants in the company's key markets, according to research by AMI Partners. Globally, the number is much larger, at 43 million. It seems to me that Shopify and the rest of its peer group might be connected to only 1 per cent of the total global opportunity.
To capture this growth, Shopify has been heavily investing in both sales and R&D. It's not good enough to settle for "me too" product and simply outspend your competition to capture more growth. It's much better to develop an unbeatable feature set so that, over time, any shop owner who considers a new software solution will naturally find that Shopify is the ideal choice.
Because of this heavy investment, Shopify is not profitable. This will bother a lot of potential investors. How can the company be on a path to reach more than $150-million in sales this year while selling high-margin software and still lose money?
When the growth ahead is enormous, and the value of a customer is much higher than the cost of acquiring that customer, I believe money should be spent as fast as possible. What matters is not early profitability but substantial liquidity and capitalization to invest in product development and sales leading to the most merchants possible using Shopify to run their store. Maximizing growth will lead to red ink, and that's completely fine with me. Amazon, the largest online merchant in the world, clearly understands this. Shopify, like Amazon, could be profitable tomorrow if it reduced investment. But this would certainly stunt growth and be a huge mistake.
Shopify appears to be thinking very big, which I like. In 2013 they secured $100-million in a private round of financing led by the venture arm of the gigantic OMERS pension plan. At the time, they had ambitions to extend their offering to bricks and mortar stores so these merchants, too, could use Shopify's platform for point of sale payments, inventory management and even shipping products to customers. This move has been successful, and yet I think there are many more features and services they can still add, so I expect they won't focus on profit any time soon. As a potential investor, I'd much rather see them focus on signing up as many merchants as possible. That, to me, is by far the most important metric. I'm not counting on a profit in the next two years.
Shopify could also be a play on industry consolidation. The business selling software tools to small online businesses is very fragmented. The tools of the trade include website page builders, shopping cart software, e-mail marketing software and video hosting, just to name a few. Almost every leading tool in each of these categories is sold by a private company specializing in that one tool. I suspect Shopify may seek to acquire other useful tools that its customers already buy elsewhere, or Shopify could itself become an acquisition target. Either way, the consolidation opportunity makes this all the more interesting to me.
I'll be watching the Shopify IPO with keen interest. With continued growth and good execution this company should easily justify a several-billion-dollar valuation. It sure would be nice to put another Canadian technology stock in my portfolio in its early stages of growth.