Our analysts compare Shopify Inc (TSE:SHOP), Sierra Wireless (TSE:SW), and AcuityAds Inc (CVE:AT).
SmallCapPower | March 31, 2017: The Technology industry is one of Canada’s fastest growing economic sectors and has attracted increasing venture capital investments in the last 18 months, as start-ups scale into sustainable companies. After careful analysis, we have identified three tech industry subsectors, e-Commerce, the Internet-of-Things (IoT), and advertising technology, which are expected to continue double-digit growth as we witness the increasing trend of online shopping, smart ‘connected’ technology, and increased digital advertising spends. As a result, we have narrowed our selection to the top three most promising tech stocks: Shopify Inc (TSX: SHOP), Sierra Wireless (TSE: SW), and AcuityAds Inc (CVE:AT).
For the purposes of having a diversified portfolio, we will only be picking one of these names. In order to make our winning selection, we have considered the following three criteria: total addressable market, competitive advantage, and valuation. Investing in technology companies requires forward-thinking growth. To ensure there is an adequate revenue opportunity available for a company to grow, we must evaluate the underlying potential market—the total addressable market (TAM)—for its products and services. Having said that, we don’t want to get sloppy and invest in high-valuation stocks either.
Related: Shopify – 3 Catalysts That Could Put Investors in a Buying Mood
We want to find the best stocks to invest in, that are attractively priced yet have a compelling competitive advantage in their industry to be the best positioned in a growing market. Having employed a 10-point scoring structure for each of the three criteria, the stock with the highest rating was Shopify!
With the increasing trend of online shopping, Shopify Inc (TSX: SHOP) provides small and medium-sized merchants with turn-key end-to-end e-Commerce solutions. From payment processing and Web development to inventory management and marketing, Shopify (TSX: SHOP) provides an all-in-one platform for back-office and Web development in a subscription-based model with value add-on services.
Currently, there are 10 million merchants with less than 500 employees operating in Shopify’s key geographies. Using the Company’s current annualized revenue per merchant of roughly $1,200, we can set forth a total addressable market of $12B. As of today, Shopify has 375k registered merchants, which represents a market share of only 3.75%, leaving lots of room to grow. In addition, Shopify (TSX: SHOP) has the potential to expand and penetrate the global small to medium-sized e-Commerce market of 46 million merchants, resulting in a global TAM of a whopping $55B! Furthermore, it is estimated that online shopping accounts for only 7-8% of all retail transactions, meaning that e-Commerce is still in its early stages of growth and its full upside potential is yet to be witnessed.
Arguably, Shopify’s greatest competitive advantage is its superior partner ecosystem of app developers, agencies, theme designers, and ad developers. Then there is the Shopify (TSX: SHOP) platform, a complete one-stop shop that not only provides an integrated online ‘back-office’ to manage inventory, orders, and shipping but also connects to multiple sales channels (Facebook, Amazon, online, etc). Shopify (TSX: SHOP) provides its clients with an ever-expanding set of solutions with over 1400+ applications ranging from promotions and invoicing to marketing and analytics. This ecosystem is virtually impossible to replicate, and creates a significant barrier for new entrants in this industry. Although Shopify (TSX: SHOP) faces competition from Amazon Webstore and private companies such as Bigcommerce, Magento, and Volusion, none offers the ease of entry, support, and extent of features that Shopify does.
Over the last five years, Shopify has shown strong consistent growth in revenue of 90%+ Y/Y, and benefits from enviable 81% CAGR in monthly recurring revenues (MRR). Besides revenues, Shopify’s profitability has also been on a rampant, with FY/2016 operating margin stopping 43% of sales, a steep increase to the meagre 16% in FY/2012.
Shopify’s $6.3B market cap appears enormous but not when you consider its market opportunity. With only a 3.75% market penetration of its TAM, upside potential comes from fundamental growth catalysts including more merchants, solutions, sales channels, partners, and international penetration.
Looking ahead, Shopify (TSX: SHOP) is trading at 7.0x 2018e EV/Sales, a significant premium to high-growth software companies average of 5.1x. However, it is worth noting that analysts have implied a very conservative forward two-year revenue CAGR of 49%, which pales in comparison to Shopify’s precedent 90% rate and the average 26% rate of industry peers. With this in mind, the valuation appears relatively reasonable if growth is executed.
From smart phones to Internet-connected cars, McKinsey estimates the Internet of Things (IoT) has the potential to connect a trillion objects by 2020, with an economic impact of $3.9-$11.1T in 2025. Sierra Wireless (TSE: SW) leads the IoT industry, developing wireless embedded modules that enable wireless machine-to-machine (M2M) connectivity. Sierra (TSE: SW) operates in three business segments including original equipment manufacturer (OEM) solutions, enterprise solutions, and cloud & connectivity services.
Presently, Sierra Wireless (TSE: SW) is the market leader in IoT cellular modules, with a 35% market share and customers in 130+ countries. Applications of Sierra’s products and services seem endless, with its global base of customers and partners ranging from the energy and technology sector to healthcare and wearable devices. Industry research experts estimate the IoT market to reach as high as $14.4T by 2022, with a CAGR ranging from 15-35%. Bain & Company predicts that by 2020, annual revenues could exceed $180B for the IoT vendors selling hardware. With Sierra’s current market share, that implies mind-boggling annual revenues of $155B! IoT, although comprising of various separate sub-sectors, is arguably the biggest and fastest growing tech industry as of right now with the largest applicable TAM.
Recently, Sierra (TSE: SW) was awarded a contract by Volkswagen to use its ‘AirPrime’ modules and ‘Legato’ platform to connect their 2018 fleet of cars. Its proprietary technology leads the IoT industry with the smallest, most scalable modules for 2G, 3G, and 4G LTE. As a result, Sierra (TSE: SW) has a strong global base of blue-chip customers and partners across all business sectors from automotive (VW) and energy (Phillips) to enterprise (Dell) and healthcare (Cardiocom). Its relationships and partnership network allow Sierra (TSE: SW) to work closely with OEMs to allow seamless integration of its products. This competitive advantage allows Sierra (TSE: SW) to dominate the connected car market and is expected to lead to other growth opportunities in the near term. Having said that, Sierra’s future growth is tied to winning product designs and is expected to face stiff competition from Huawei and ZTE, which may not only affect market share, but also margins.
From a valuation standpoint, IoT hardware manufacturer have seen bottom-line profits, which lets us use EV/EBITDA multiples as opposed to EV/Sales (as used in Shopify’s case). Sierra Wireless (TSE: SW) is currently trading at 14.7x2017e EV/EBITDA, a substantial premium to its M2M peers trading at 9.5x. Interestingly, the current average broker target price of $22.35 implies a downside of 15%, in comparison to an average upside of Sierra’s peers at 10%. Although Sierra (TSE: SW) has strong earnings, cash flows, and a balance sheet with FY/2016 cash of US$103mm, its operating efficiency is poor. It is also worth noting that Sierra’s estimated one-year revenue growth rate of 10% also trails its M2M peer average of 17%. Although Volkswagen sales are going to increase revenues, OEM auto contracts are typically low margin, which may already be priced into the stock.
Looking ahead, there is long-term pricing/margin uncertainty and a challenging competitive environment. At this point, Sierra (TSE: SW) appears to be on the upper scale of the valuation spectrum, and unless profitability improves, its share price may see some pressure.
With a rise in e-Commerce, there will be a domino effect towards increased global digital ad spending. Digital advertising is a rapidly-growing industry as the world is transitioning away from traditional advertising media—TV and print ads—to online and mobile mediums. At the mid-front of this growth is a little Canadian company called AcuityAds (CVE:AT), which provides targeted digital media solutions, enabling advertisers to connect with their audiences across online display, video, social, and mobile campaigns. Using machine learning technology, Acuity (CVE:AT) offers a programmatic marketing platform to connect digital advertisers to consumers across advertising channels.
The global advertising market is estimated to be worth US$543B, of which $83B is spent on digital advertising, and $39B on programmatic advertising. With FY/2016 revenues of US$30mm, AcuityAds (CVE:AT) commands a speckle of the overall digital advertising market. Additionally, the advertising landscape is rapidly changing, with both digital advertising and programmatic spending growing 22% and 47% Y/Y, respectively. A survey by RBC Capital shows an increasing shift to programmatic ad spending from other platforms as marketers see better return on investments. Using a conservative estimate, AcuityAds’ total addressable market may increase to over $100B by 2020, using a CAGR of 18%.
AcuityAds (CVE:AT) offers industry-leading refresh rates of under 50 milliseconds for its proprietary programmatic ad platform, which connects advertisers with their audience through real-time data-driven optimization. This not only provides better targeting, but more accurate pricing. Marketers continue to believe mobile presents the greatest programmatic opportunity, followed by video and native ads. AcuityAds (CVE:AT) has complete channels across varying marketing solutions including video, mobile, social, native, and banner ads. In 2016, Acuity (CVE:AT) has transitioned from a full-serve solution to a self-serve solution that benefits from a sticky SaaS subscription model and higher margins. However, AcuityAds (CVE:AT) is focused only on the demand side (working with advertisers), whereas companies such as TradingDesk and PowerLinks have the market covered from both the supply and demand side.
AcuityAds (CVE:AT) posted solid revenues of US$30mm for 2016 and has sustained a 109% revenue since 2011. Additionally, not only has Acuity (CVE:AT) benefited from reoccurring sales, but it also managed to up-sell its existing clientele by 220% on average since 2011. Acuity’s future growth will fuel from strategic acquisitions, sales expansion, and its new self-serve model.
Looking at valuation multiples, a key challenge with compared ad tech companies is that everyone records revenues differently (gross vs. net), and we therefore needed to adjust revenue figures for an apples-to-apples comparison (this is why there is such a large variation in EV/Revenue multiples). After some sifting through interim reports and 10-Ks, we arrived at an industry average 2.2x 2018e EV/Sales multiple, which is noticeably lower than Acuity’s 3.3x.
However, looking at the valuation range, there seems to be an incredible premium (4.0x – 6.2x) given to the largest players (Trade Desk and Criteo), whereas companies with a market cap in the sub-$1 billion range, show extremely low multiples (0.5x – 2.0x).
According to our score sheet, Shopify (TSX: SHOP) is the best high-growth Canadian tech stock in which to invest. Although its total addressable market is significantly smaller than both of the IoT and ad technology space, Shopify (TSX: SHOP) has an inimitable competitive advantage over its peers to gain a sizeable footprint. Currently trading at 7.0x 2018e EV/Sales, Shopify has a significant premium in comparison to the high-growth software companies’ average of 5.1x. However, it is worth noting that analysts have implied a very conservative forward two-year revenue CAGR of 49%, which pales in comparison to Shopify’s precedent 90% rate and the average 26% rate of industry peers. With this in mind, the valuation appears relatively reasonable if growth is executed.
For a more in-depth analysis of Shopify Inc., stay tuned for our next article.