Plan to build warehouses to take on Amazon makes sense but dents company's asset-light model

"Shopify's investment mode is going to be ugly. It was also inevitable.

The Canadian e-commerce upstart has found fortune by pulling off the seemingly impossible task of competing with Amazon.com, but on its own terms. Shopify's business of helping merchants and brands run their own online stores was growing well before the pandemic and has positively blown up during the outbreak. The company closed 2021 with revenue of $4.6 billion, up 57% from the previous year and nearly triple its 2019 level. And its asset-light model has regularly kept gross margins above 50%, which is more than double what Amazon managed in the years before its cloud business grew large enough to help offset the low margins on its retail side.

But Amazon has hardly been sitting still. The company has continued to pour billions into its already massive fulfillment network, to the point that it now offers same-day delivery in more than 90 metropolitan areas. That sort of muscle puts the merchants who elect to use Shopify at a serious disadvantage -- even those with compelling and well-known brand identities. Amazon's Prime service now has 172 million members in the U.S. alone, according to estimates from Consumer Intelligence Research Partners, most of whom are paying specifically for the privilege of free and fast shipping.

That surely is behind Shopify's plan to expand its own delivery network, which the company spelled out in detail in its fourth-quarter call on Wednesday. President Harley Finkelstein said the Shopify Fulfillment Network -- consisting of mostly company-owned warehouses -- will be designed to deliver packages in two days or less to more than 90% of the U.S. population. The plan will involve about $1 billion in capital expenditures over a two-year period beginning in 2023. That might sound like a pittance considering the game -- Amazon spends about that much every five days. But it is a 10-fold surge compared with what Shopify has invested on average over the past three years.

Such a shift in the business model is concerning to Shopify's investors. The stock is down nearly 26% since the results as of Thursday's close, adding to a loss that already clipped more than one-third of its value since the start of the year as investors have bailed out of previous pandemic darlings. Analyst Mark Mahaney of Evercore ISI kept his "outperform" rating on the shares but noted that investors "will have to trust that management is an efficient allocator of capital" with the new stepped-up investment levels.

Bhavin Shah of Deutsche Bank is less sanguine. In a report Thursday maintaining his "neutral" rating, he noted that while there is risk that Shopify's new plan "does not improve the prior trajectory of merchant adoption, we see greater risk of merely $1 billion in capex being insufficient to compete with industry leaders such as Amazon."

Shopify is stepping into a very expensive game." [1]

Shopify is just afraid that somebody will out- Shopify it, i.e. somebody smart enough will step into this game on cheap, like Shopify did. So Shopify is literally building a brick wall for such smaller competitors. Shopify will never be able to take on Amazon.  Shopify simply learned to live with it.

1.  Shopify's Clicks Need More Bricks --- Plan to build warehouses to take on Amazon makes sense but dents company's asset-light model
Gallagher, Dan. Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 18 Feb 2022: B.12.