Shopify Inc (SHOP) 2018 Q3 法說會逐字稿

Good morning.

My name is Michelle, and I will be your conference operator today.

At this time, I would like to welcome everyone to the Shopify Q3 2018 Earnings Call.

(Operator Instructions) I would now like to turn the call over to Katie Keita, Head of Investor Relations.

Please go ahead.

Thank you, operator, and good morning, everyone.

We are glad you can join us for Shopify's Third Quarter 2018 Conference Call.

We are joined this morning by Tobi Lutke, Shopify CEO; Harley Finkelstein, our Chief Operating Officer; and Amy Shapero, our CFO.

After prepared remarks, we will open it up for your questions.

We will make forward-looking statements on our call today that are based on assumptions and, therefore, are subject to risks and uncertainties that could cause actual results to differ materially from those projected.

We undertake no obligation to update these statements except as required by law.

You can read about these risks and uncertainties in our press release this morning as well as in our filings with U.S. and Canadian regulators.

Also, our commentary today will include adjusted financial measures, which are non-GAAP measures.

These should be considered as a supplement to and not a substitute for GAAP financial measures.

Reconciliations between the 2 can be found in our earnings press release, which is available on our website.

Finally, note that because we report in U.S. dollars, all amounts discussed today are in U.S. dollars unless otherwise indicated.

With that, I turn the call over to Harley.

Thanks, Katie, and good morning, everyone.

We had another great quarter at Shopify, delivering strong results and advancing key initiatives.

In particular, we shipped several exciting features ahead of the busiest selling period for our merchants, Black Friday and Cyber Monday.

Our progress over the last few months spanned our priority areas of investments that is across platform, Shopify Plus and International.

I'll walk through key accomplishment in each of these areas starting with our platform.

As we previewed at the Unite conference, our product teams are focused on shipping features that help merchants sell more and let them work more efficiently, while making the most of our partner ecosystem.

We shipped several of these features in the past few months, including multi-location inventory, our new app store as well as our marketing dashboard.

All of these are now contributing to the incredible value already delivered to our merchants on the Shopify platform.

While a few weeks in is not enough to realize the full benefits we're expecting from these enhancements, we are already seeing signs of success.

For instance, since launch of our new app store in early September, we've already seen a meaningful increase in conversion rates for app installations following a search.

We're also developing features that add value at the point of transaction, which means our revenue from these merchants grows alongside GMV.

One feature that launched earlier this month is Fraud Protect.

For a small fee, fraud protect shields merchants from fraudulent chargebacks on protected orders, allowing merchants to accept and fulfill more orders with confidence.

We extended our far-reaching support for merchants even further 2 weeks ago when we opened our first physical retail space in Los Angeles.

Within 24 hours of opening for bookings, hundreds of sessions and appointments with Shopify gurus were scheduled, and several of the opening workshops filled up completely.

It's exciting for us to offer merchants and aspiring entrepreneurs a space where they can find support, inspiration and education.

Our new space and all our new features we rolled out are geared towards making commerce better for everyone.

To help achieve this goal, we will continue to make platform investments on the following key themes: reducing complexity; signifying workflows; and helping merchants with the right capabilities to run their businesses.

Moving on to Shopify Plus, which completed another fantastic quarter.

Hundreds of high-growth merchants continue to join Shopify Plus, leading up to the busy holiday season.

We attracted these merchants with the flexibility and reliability of our platform, which can manage the stress of high sales volumes and capture all the upside that comes with it.

Shopify Plus continues to welcome more well-recognized brands, representing diverse industries, including home furnishing, fashion and beauty and food and beverage companies.

These include some of the largest Canadian furniture stores like The Brick and Leon's Furniture as well as DJ Khaled's luxury furniture line; new stores from fashion designers such as Victoria Beckham and Rachel Roy; my personal underwear brand of choice, Tommy John; Belgian chocolatier Godiva; the Bulletproof coffee brand; and meal replacement company Soylent.

Shopify Plus continues to add even more brands from the consumer packaged good companies like Unilever.

In October, Shopify Plus entered new retail territory in Canada when cannabis was legalized here on October 17.

While we don't normally call out specific verticals, we have been fielding several questions about this one, given how new it is and the fact that it is a highly regulated industry.

We've actually already been the platform of choice for license producers of medical cannabis in Canada for years.

So with the legalization of cannabis for recreational use, Shopify was a natural fit.

We are now powering recreational cannabis sales for the largest Canadian provincial governments as well as the leading license producers and private retailers.

These retailers recognize that Shopify's technology is uniquely positioned to help them adapt to the demands of regulators and fulfill key requirements.

We are proud of what we've been able to accomplish in a tight period of time, given the complexities and introducing a new and regulated industry.

Turning to international.

We are taking a deliberate approach in our expansion efforts building trust with merchants in our new markets and honing our product market fit.

Seven of the 10 largest e-commerce markets globally are in non-English-speaking countries, which makes it incredibly important to localize our platform in each region we decide to enter.

While it's still early, momentum is building in our priority international regions.

Our mix of international merchants relative to total new merchant adds reached its highest level this year.

Additionally, our international merchants continue to expand their contribution to total GMV on our platform.

A great example of localization is the launch of Shopify Payments in Germany last month.

This is special not just because Germany is the largest economy in the Euro zone but also because it marks our first local payment method for Shopify Payments, allowing for bank transfers in addition to credit card payments.

This is notable since it's estimated that by 2021, most online transactions won't even use a credit card.

Moving onto partners.

Throughout our journey, our partners have played a critical role in the success of our merchants and the success of Shopify.

Our partner ecosystem remains strong with more than 16,500 partners having referred merchants to Shopify in the past 12 months alone.

Currently, they're in more than 2,200 apps available to merchants on our platform, which is a smaller number relative to last quarter as not all existing apps were approved to transition over to the new app store.

We continue to work with our partners to deliver the right capabilities to our merchants, so they have the tools they need to succeed.

As we head towards the home stretch into the busiest selling season of the year, we are ready to help our merchants every step of the way.

And with that, I'll turn the call over to Amy.

Thanks, Harley, and good morning, everyone.

This was another strong quarter for Shopify.

We grew revenue 58% year-over-year to $270.1 million with healthy performance from both Subscription Solutions and Merchant Solutions.

The Subscription Solutions revenue grew 46% compared with Q3 2017 to $120.5 million driven by growth in monthly recurring revenue of 41% to $37.9 million, primarily driven by merchant adds.

Shopify Plus continued to increase its contribution to monthly recurring revenue accounting for $9.2 million or 24% compared with 20% of MRR in Q3 of 2017.

Another item of note is the expansion of revenue within Subscription Solutions that is not MRR.

Faster growth of revenue from apps relative to MRR is one driver, another is the incremental revenue from platform fees for Shopify Plus.

As the pricing structure change for Shopify Plus, that we introduced early last year gradually rolls in with contract renewals.

Platform fee revenue is directly correlated with the GMV growth that Shopify Plus merchants are driving and that growth has been quite healthy.

As a result and with more merchants rolling into the revised pricing structure, this component of revenue more than tripled over last year.

It is important to note that this greater value we are now retaining from Shopify Plus is not counted in MRR as this portion of the Shopify Plus subscription revenue is not necessarily recurring.

Merchant Solutions revenue grew 68% to $149.5 million, on pace with last quarter growth.

This growth was driven by GMV expansion, which increased 55% year-over-year to $10 billion as well as by the continued penetration of Shopify Payments shipping and capital.

GMV reached a new high this quarter, exceeding that of Q4 2017, our strongest quarter last year.

$4.1 billion of GMV was processed on Shopify Payments, an increase of 71% verses a comparable quarter last year.

The amount of GMV processed on Shopify Payments ticked up to a record high 41% penetration, with Shopify Plus continuing to increase its share of GPV.

Capital and Shipping both higher margin solutions grew revenue over 100% from last year.

Gross profit dollars grew 50% from Q3 of 2017 to $149.7 million.

As we mentioned in July, our transition to a third-party cloud platform was completed in the third quarter.

With the Subscription Solutions gross margin headwinds of cost duplication and server depreciation now behind us, we can begin to look for ways to optimize cost on our cloud platform, which, as we have said, are expected be higher-than-running our own cloud.

While Merchant Solutions gross margin improved year-over-year, it was down slightly sequentially due to greater mix of Shopify Payments versus Q2.

This larger mix was driven, in part, by the growing adoption of Shopify Payments by Shopify Plus merchants.

Of course, the upside has been continued expansion of GMV take-rates driving gross margin dollar growth and enhancing our value-add to Shopify Plus merchants, which is a trade-off we're happy with.

Our adjusted operating loss in Q3 was approximately $3.6 million or 1.3% of revenue, compared with income of $1.7 million or 1% of revenue in the third quarter of 2017.

Adjusted net income for the quarter was $4.5 million or $0.04 per share.

This compares with $5 million or $0.05 per share for last year's thirst quarter.

Our cash, cash equivalent and marketable securities balance was $1.6 billion consistent with our June 30 balance.

Cash flow from operations was only slightly positive in the quarter as we continue to see strong demand from our merchants for Shopify Capital, which as you know, is funded from our own balance sheet with a mechanism in place to ensure the majority of advance is outstanding.

Merchants can thrive on Shopify in ways that aren't possible through single channels or single-point solutions providers.

That we make it possible for virtually anyone in the world to easily start selling, is the only the first of many layers of value.

The much harder work of marketing, customer order and inventory management, transaction processing and multiple currency and payments methods, shipping and financing is where we focus most of our efforts and investments.

These efforts pay off.

Within 2 weeks of our launch of Shopify Payments in Germany, last month, that Harley mentioned, percentage adoption by our merchants there was already solidly in the double digits.

Moreover, most of the merchants who adopted Shopify Payments in Germany already had a transaction process on the local payments method.

While the full benefit of our investments will materialize over the years ahead, this is a great early indicator that being targeted and sequenced with localization is the right approach to take.

Given our better-than-expected performance in the quarter, we are raising our expectation for the full year and now expect to grow revenue at over 55% to between $1,045,000,000 and $1,055,000,000, and to achieve adjusted operating income of $8 million to $10 million.

For the fourth quarter, we expect revenue of $315 million to $325 million and adjusted operating income between $16 million and $18 million.

Stock-based compensation in 2018 is now expected to be approximately $105 million for the full year with about $30 million of this in the fourth quarter.

The continued growth of our merchant base from entrepreneurs to larger brands and our ongoing expansion of wallet share prove the strength of our platform and the value we add to businesses, as we continue to simplify commerce, expand our capabilities and broaden our reach, we are confident in our growth trajectory and our position as a leading commerce platform.

With that, I will hand the call back to Katie.

Thank you, Amy.

All right, we would like to turn the call over to you for your questions.

Before we do, I would like to remind everyone to please limit themselves to just one question so everyone can have a chance to ask a question on the call today.

Michelle, can we have our first question, please?

(Operator Instructions) Your first question comes from Brad Zelnick from Crédit Suisse.

I wanted to ask a question about Shopify Plus.

You have a number of fantastic large merchants, many of which you named in your prepared remarks, and Plus continues to grow its contributions to the business, but the higher end of the market is also very competitive.

Can you talk a bit about pricing at the high-end as you negotiate and renegotiate with these merchants?

And as well as the stickiness at the higher end as well?

Brad, it's Harley.

I'll take that, that first question.

So first of all, I think if you look at the ratio of price to value of Shopify Plus, certainly it still falls in the side of value.

Part of that is intentional because we want to -- we believe that there's a lot of opportunity for us in the mid-market specially but also at the higher end of the market as well.

One of the nice parts about Shopify Plus is that it's easy to start on Shopify Plus but once you start -- once you become a merchant, the product is actually quite sticky particularly with things like Shopify Flow, which allows you to automate workflows more and more.

You spend your time in the Shopify Plus dashboard, and so product itself is quite sticky.

From a competitive perspective, again, I think for the foreseeable future, we're quite happy with our pricing.

We changed the pricing last year.

This way we can share on the upside if merchants sell a ton, we're able to also share on that upside and take a larger piece of wallet.

But that being said, we are constantly reevaluating whether our pricing makes sense and it may change over time, but we're quite happy with the success and the progress of Plus today.

Your next question comes from Colin Sebastian from Baird.

If you look at MRR, excluding perhaps the nice mix of Plus and the platform fees, just hoping for a little more color on the pace of growth of the net new subscriber adds?

And then, where you'd expect that growth to trend over the next few quarters or years?

Yes, we did see a slight uptick, slightly higher merchants added in the third quarter versus the second quarter.

One thing that I want to point out if you're looking at net new MRR in the quarter, we did have a slight headwind there and a pricing change that we made -- that we had announced it at Unite around our point-of-sale product.

We had been charging for that $49 a month, and we've now eliminated that and that's included in the $79 and above pricing plans.

So as you're doing your math, consider that.

With respect to merchant adds in the future and MRR growth generally, we're happy with our performance in the quarter.

We exceeded our expectations as our guidance implied for merchant growth, MRR growth and overall growth.

We want to steer you towards the robustness of our business model overall.

We have 2 primary growth levers that we can pull from: subscriptions, which is mostly captured by MRR and GMV.

Our focus is on long-term growth for our overall business model using these levers.

And our investments pay off in different ways over different time horizons.

Last year, 2 of our key investment areas were growth by widening the funnel of merchants and Plus.

And we're saying the payoff of those investments now in continued strong GMV growth.

In the quarter, GMV per merchant continued to increase year-over-year and quarter-over-quarter.

And overall, GMV growth was sequentially strong.

This year, our primary investment area is international, which we expect has a payoff over the next several years.

So we're quite confident about the size of our TAM and the runway for growth that these investments and others provide well into the future for both merchants and MRR and also, GMV.

The next question will come from Ken Wong from Guggenheim Securities.

Harley, you touched on the cannabis market a little earlier, and I know you guys have had some experience with this in the past but kind of the retail side of things is a new opportunity.

Can you give us a sense for kind of how much you guys have baked into Q4?

And maybe just some if there's any kind of seasonal trends that we should be thinking about in terms of how that market might scale out?

Thanks for that question.

Look, it's a brand new industry, it's a brand new market.

Certainly, we've been working with the medical providers of cannabis in Canada for a while now, and I think what we have is a really good product, which allows for regulated industries, which they require things like nimbleness because compliance with laws are always changing.

And I think we've actually created a product that is kind of ideal for these sort of industries, which is why we are we are so happy to get selected by these very large provinces.

We won't comment on specific merchants, as we never do.

But we will say that in terms of the revenue from them, we have built the contracts to capture the upside of GMV from these provinces and from these private providers of cannabis.

That being said, I think the bigger opportunity is that now that we have proven in Canada but also globally that we are an ideal candidate for these type of regulated industries.

It means that as more countries think about their own regulated industries, whether it's cannabis or otherwise, we become sort of that first phone call, which is really important to us.

So I think we've done a really good job in Canada, and we've proven that we can handle all these different compliance issues but also the particular needs of these regulated industries.

And we hope that as other countries think about these industries we're the people they look to.

So we're quite happy.

And in terms of Q4, we have sort of baked in the expectations but again, these are very early days so there's nothing -- we'll see how things roll out.

Your next question will come from Monika Garg from KeyBanc.

This year, the key focus growth items, as Amy talked about, was Plus and going forward big international markets like Germany, France, Japan, Hong Kong.

Are there any key focus strategy for 2019?

Just a related comment on 2019 we're in the middle of our planning cycle.

So more to come on next quarter's call on that.

Your next question comes from Ross MacMillan from RBC.

Harley, just on international, as you roll out these new areas of functionality like local payments and local currency real time presentment, I think a lot of those functions are Plus initially but I just wondered philosophically, how we should we think about how those then get rolled out to kind of core lower Tier Plus SKUs -- Sorry, lower Tier Shopify SKUs?

And what's the timing on that sort of move down of that functionality might look like?

Yes, sure.

So actually, I would say in some geographies, certainly, our entrance to the market seems to be larger merchants but that is not the case everywhere.

Remember, in some of these places we've had merchants, we've had merchants in more than 150 country for many, many years now.

In some cases, there is pent-up demand for us to better optimize our product so they can use our product in those countries.

So whether it's local payment methods or it's apps that we have in our App Store that are particularly focused on that region and -- or it's for example, language support in the Shopify admin or even, it's partners on the ground there.

In some cases, we know we have to do there is just a matter of getting done that's why we prioritized it for 2018.

I would say that across the board, every country is very, very different, so we may start in one country with more of a Plus push to try to get some of the larger merchants on.

And this way, they can act as a bit of role model for some of the smaller merchants who eventually want to become them.

But every country is sort of different, and we're sort of looking at each country in a variety of different ways.

I would say local payment methods having the right partners on the ground.

Integrations with things like apps also language are sort of the main things that we're focused on right now, at least for those main priority countries.

But we have a lot of opportunity there.

Your next question comes from Justin Furby from William Blair & Company.

I wanted to ask just quickly on dollar retention, just to how that's trending this year?

It seems like one of the benefits of the model is the ability to grow with your customers, but it seems like there is still opportunity here.

I think based on your last disclosure, you're annual dollar retention is somewhere under 100%.

So I'm wondering if you can give us an update here?

And sort of how you think about the medium term view on dollar retention?

And how that relates to scaling the model?

Dollar retention is a annual disclosures, so again, we'll be updating that next quarter.

Your next question comes from Richard Tse from National Bank.

Obviously, a lot of growth drivers in front of you.

I was wondering, if you maybe just talk a little bit about the org structure and any sort of management changes through -- a lot of you effectively capture all those opportunities in front of you here going forward?

This is Tobi.

I mean, the team is obviously evolving.

Amy's joined us.

Jeff joined us in marketing recently.

More importantly, I think for picking that advantage of opportunities we have is -- within the last 12 months, we reorganized the company around.

We were very functionally organized company, with engineering, design and product reporting through different sort of cycle of business up to me.

And we have now organized around product lines that exist within the company.

So Plus isn't very easy to understand one which is sort of captures the totality of this particular space, and there's a General Manager.

And then, the disciplines report to them.

So nothing earth shattering.

It's -- was a move that we had to take to become more of a motif credit company.

Because these models tend to work really well.

I think it's actually kind of academically interesting that functional organization work so well for the company we had.

Even to the point that we had a couple of thousand people, and I think at the right time, we turned it over.

This kind of model also allows just -- has allowed for a lot of new leadership positions within the company.

Most of the petitions got filled internally.

And that's been very, very good for the bench and the company for succession and all those kind of things.

Your next question comes from Darren Aftahi from Roth Capital Partners.

Could I ask on non-English-speaking GMV?

Can you just indulge us like what portion of your overall GMV is coming from that channel?

And then, as it relates to that, where -- the relative Plus penetration compared to kind of where the U.S. and Canadian markets launched back when they were in their early days?

Yes, well...

So on the non-English-speaking GMV, I can kind of try to comment at that.

We don't disclose the exact number, but I can tell you that an early indicator of the progress that we're making internationally is the GMV is a mix, was the highest it's ever been for Shopify in the third quarter.

So it's early days and this is going to play out over several years but the merchant growth internationally was strong in the quarter as well as the GMV mix.

So we're happy with our progress.

On the -- It's Harley here, I'll take this sort of Plus GMV side of things.

One thing to remember is that although a majority of the new merchants on Shopify Plus this quarter were net new to Shopify, we still have a very, very healthy pipeline of upgrades.

People that do really well, start their business on Shopify, are sort of core merchants then upgrade.

So remember that as merchants become more successful they gravitate to Shopify Plus and so that GMV of course moves with them as well.

That's a really important point because when you're sort of thinking about GMV from Plus, obviously, it's going to be bigger.

But there also is an inherent and organic graduation from core into Plus over time as merchants get successful, which is great.

Next question comes from Samad Samana from Jefferies.

So it looks like you've added more Shopify Plus customers so far in 2018 then you did in all of 2017.

I'm just wondering, what's driving that acceleration in units and then, maybe just Amy, what percentage of Plus customers are still on legacy pricing that need to get onto the new pricing?

It's Harley, I'll take the first part of that question just in terms of where they are coming from.

A couple of things are happening.

One, there are a couple of macro trends that are -- have been really quite helpful to us.

The direct-to-consumer movement is, as I said on stage a couple of days ago, [at May 2020] it is not a fad, it is something that is happening and will be steady state for a very long time.

So we're seeing brands particularly like from some of the CPGs that never before went direct-to-consumer that view Shopify as an incredible place to take those brands.

I mean, I mentioned Lays potato chips last quarter on the call.

So we're seeing more of that.

We're also seeing a lot of these larger brand established brands looking to reevaluate their providers: one, is obviously a cost issue; but two, they want to be able to be a little more nimble and Shopify Plus because it was fjords in the fires of entrepreneurs, is a very nimble way.

And so with the new channel comes out, the next day you're able to activate that channel with Shopify.

And you can't necessarily do with a lot of the larger enterprise platforms.

So we're seeing people replatforming.

We're seeing new direct-to-consumer brands that never sold direct to consumer before, use Shopify to do that.

We're also seeing increasing partners that used to work with other enterprise e-commerce platforms come over to us and migrations are still happening as well.

In addition to all of that, we still -- there's great upgrades.

So as merchants are successful on Shopify, they upgrade to Shopify Plus as well.

And so I wouldn't say there's any one particular challenge that's driving it, I think it's all those different channels.

And frankly, we're just the best product if you're a large-scale merchant and you need to have flexibility and you need to have robustness in your platform.

On the contracts, the large majority have shifted over to the new pricing.

There is still is a percentage that are on multiyear contracts that have not shifted over, and those -- well it's a small percentage do represent some of our largest Plus customers.

So there is still headroom to go on that platform fee over time.

Your next question comes from Nikhil Thadani from Mackie Research.

I was curious if you could maybe talk a little bit about your sort of process as it pertains to cybersecurity, especially given that you have a lot more new products coming out.

You're going into the busy Q4 and you're also sort of moving to a new cloud back-end so how is your thinking with regards to cyber evolved especially, given that there seems to be some sort of bad news almost out every single day?

Yes, I think one of the advantages of it may be Shopify being an engineer-run company.

This was the current coming of age to security and all these things were utterly predictable even a decade ago that the Internet would have its moment.

And so security is something that's very, very hard to retrofit on any given product.

It's a lot better if you bake it in from this even the earliest assumptions of when the software is starting to be crafted.

And luckily, Shopify is on that side of the divide, so it's something that like people who run security are very high up in this company some of the most trusted people.

It's part of every process, it's part of our general sort of internal operating system of how software is created.

Shopify is running if not the largest one, definitely one of the largest black bounty programs that exists out there.

And so it's just -- I think, Shopify's MO that existed for many years is now sort of emerging as the consensus best practice in this world.

I think we have been in very good shape for a long time.

I think it's -- I mean it goes without saying that we ask a lot of our customers of our merchants, the -- we ask them to trust us with frankly their livelihoods, that is a big ask.

And it comes with a great responsibility of keeping data safe, keeping -- especially observing the privacy of all data involved and all these kind of things.

This is some -- these are things we take incredibly seriously, and it would probably be surprising to a lot of people on the outside just how much time we spend internally discussing these things and trying to get everything just right.

Your next question comes from Ygal Arounian from Wedbush Securities.

I wanted to dig in on the marketing solutions a little bit.

You rolled out the centralized dashboard after third quarter.

And I see marketing as a real natural extension of the Merchant Solutions product offerings that you've already put in place.

Can you talk a little bit more about how you see this contributing to Merchant Solutions over time?

What the pricing structure is like?

It seems like a really important service for merchants to me maybe as important as shipping would be.

Can you dig in a little bit on that?

Yes, I don't think we are sharing the economics there.

But I think, suffice to say that us helping our customers -- like this even getting them thinking about in the right direction about how to create traffic, how to create a win.

All those things which are incredibly valuable, just even from a obvious retention perspective.

Like every time someone signs up for Shopify, this is essentially, an exercise in searching for product market fit.

And it's just when we look at a lot of the data at Shopify, we find that it's usually the product that's there.

It's a market that could fit but they don't find it.

And so I mean, that's the obvious role of marketing.

And we have taken a "Do It Yourself" position for a long time in the history of this business, just party because we'd had marketing world was just evolving at such a clip that -- like what you did one week was different from the next week and so on.

Things are calming down a little bit.

I mean, obviously, there is Facebook and ad words are consensus marketing platforms that products like Kit have already successfully shown can be packaged in a way that makes it simpler than the tools that most platforms tend to give people.

The simplicity is really important, again, for people in the -- into the entrepreneur segment because they have so many new things to learn that if we can just say, hey, here's how you can allocate the dollars you sort of earmarked for marketing efficiently and beginning and get them a couple of sales assists, this is fantastic.

So sometimes, in these situations there is possibilities for economics that really depends on the channel.

We did this in a platform-first approach so this marketing section is going to be filled with apps that you can add to your store.

Some of them might be made by us, many of them, not.

It's I think too early to project.

I think I would think about it more in terms of revenue contribution in terms of like additional subscriptions income that we have by retaining the accounts and making more people successful, which of course our entire business model is built around by taking in the success of our merchants.

Your next question comes from Gus Papageorgiou from Macquarie.

So in the quarter 41% of your GMV went through payments.

But if you look at some of your more advance markets, payment penetration is 90% plus.

So I'm assuming the gating factor is getting to that kind of penetration rates for payments is just rolling out more international markets and then, just adoption by Plus customers.

Can you talk about what are you doing to eliminate these gating factors?

And over the long term, what do you think is a reasonable expectation for the portion of your GMV going through payments?

I mean is 90% even possible?

Are there structural impediments that would prevent that?

Yes, sir, in terms of the international stuff, obviously, as we roll out more localized payment methods, that obviously helps with the penetration in those countries.

A couple of other things that is important to understand is there are some things that you need to have -- you need to on Shopify Payments in order to take advantage of.

So things like fraud protect, for example, or Shopify Capital for example.

These are features that more and more of our merchants are asking for and they're finding a lot of success with.

But of course, they're -- you're required to be on Shopify Payments to use them.

So there are a couple of ways that we can incentivize the adoption of Shopify -- Shopify Payments.

In terms of Shopify Plus, in general, Shopify Plus merchants have more options because they have larger economy of scale and they have larger negotiation power with the actual credit card processors.

And some of them even come to Shopify with an existing integration.

So what we're trying to do is, we want Shopify Payments just to be too good not to use.

And so by increasing the amount of products around Shopify Payments that require you to have Shopify Payments, we think we can raise adoption there.

But with that being said, you will always see a greater penetration of Shopify Payments with our core merchants than you will at Shopify Plus merchants.

Just one clarification.

Is fraud adopt -- if you adopt Payment, is fraud protection included in that or do you still have to pay a fee?

No, it's separate.

Your next question comes from Brian Essex from Morgan Stanley.

Maybe if I can follow on that line of question around payments.

Amy, if you could help us understand the penetration rate of Shop Plus on payments?

And as we look at some of the margin compression that we are seeing in the Merchant Solutions business, how much of that is mix-shift towards payments and how much might we think like to fine-tune our models going forward, how much is greater adoption of lower margin business?

I'm not sure if Shopify Plus given the add-ons would be lower margin or not at this point?

Maybe you can give us a little bit of color there, that would be helpful.

Yes, sure.

We don't talk specifically, about payments penetration rate.

But I can tell you with respect to Merchandise Solutions margin in the quarter, we did see a sequential decline.

It was not due to payments margins themselves, that was similar quarter-over-quarter.

This quarter, the margin decline was purely driven by a mix.

Payments was just a larger mix of Merchant Solutions in this quarter.

Your next question comes from Thomas Forte from D.A. Davidson.

Wanted to talk about the entrepreneur space, I think it's an excellent idea.

Why was L.A. chosen as first location over another city, such as San Francisco and Toronto?

And then how should we think about your plans to potentially expand the initiative to other cities in the future?

In terms of expansion, we're still evaluating where we're going to go if we're going to go anywhere after this.

It really is just trying to understand what that looks like.

Can we get more people into the stores that never heard about Shopify and get them to build stores?

Can we make existing merchants even more successful?

So the reason L.A. was selected is just because of concentration of merchants in a very small area there.

Some of our most successful merchants have also come out of Los Angeles.

So it's just -- it just seemed like it was a hotbed for us to -- and a natural place for us to open up shop.

But in terms of where we're going to go next, we're just going to learn about what works, what doesn't, and kind of test a bunch of things out.

We like the idea though of having space.

Entrepreneurship, as many you know is -- can be quite lonely.

And the fact that entrepreneurs -- and frankly, and more important, aspiring entrepreneurs can have a place where they can have peers and they can have other people going through same thing they're going through, we think is really great.

And when you add to that then we can do all that type of education whether it's product photography or help them writing product descriptions or understanding how to drive more traffic to their online store.

All these things are things we can do in physical space really easily.

But it's -- L.A. will be the first one.

We'll see where it goes from there.

Your next question comes from Brian Peterson from Raymond James.

So just wanted to hit on the sales and marketing line.

That was a little better than expected for me this quarter.

And Harley, I believe you used the word "deliberate" when you talked about international investments.

I'm curious, as you look at the international opportunity, does that potentially scale back some of the investments that you would've made domestically?

Or is that simply a comment on international and looking to balance LTV to CAC as you enter new geographies?

I can take that one.

Let me just talk generally about sales and marketing and kind of where we're investing.

I mean, we're continuing to invest in our core geographies, but we are increasing our investment -- investments in Plus both sales and marketing and then international marketing as well.

We're also beginning to invest in some brand marketing and so our sales and marketing was an little bit lower I believe as a percentage of revenue this quarter but still, growing pretty comparable just a hair below revenue growth.

As we see those opportunities to invest for current and future growth, and if some of that spend international and brand spend has a longer-term return on investment and some of it is learning and it may take some time before we find those efficient channels in some geographies and newer geographies.

So it's an area of investment for us right now.

We're starting to see it pay off and we expect it to continue to pay off into the future.

Your next question comes from David Hynes from Canaccord.

So you addressed a couple of issues impacting MRR growth.

But as we see a bit of a deceleration there, we're starting to field some questions around the quality of merchant adds as you have kind of solved for the long tail and what the implications are on churns?

I guess my question is, is there a GMV threshold at which you see a material inflection in merchant retention?

What is that number and is there any way to kind of frame what percent of the merchant base is kind of above that threshold today?

The stickier segment of your customer base?

Yes, yes, that exists.

We don't share new numbers, often on these calls, but I think this is one that I can give away that threshold is $1 GMV.

The moment someone sells something account is really sticky.

So therefore, we have a lot of effort on trying to just help people get to that first sale.

It's something that happens every minute on Shopify that someone has that first sale.

And I think this is one of those facts that maybe it doesn't look great in spreadsheets, but certainly it's the kind of thing that everyone at Shopify here is very proud of because this is sort of what we gather around.

This is sort of part of -- I mean, this is the reason why the company exist, right?

Helping people in their own sort of reach for independence and be successful and bound on their journey.

So yes, our analysis is always the same.

If you get someone to do a sale, if that sale isn't from the same ZIP Code that they live in, which usually means that mom bought something, than it's usually the beginning of a successful journey and we build around that.

Your next question comes from Kevin Krishnaratne from Paradigm Capital.

You've noted a couple of times on the call that merchant adds in Q3 were better than Q2.

And I know -- understand that international was driving that, but can you talk about what the underlying trends have been in North America the past couple of quarters?

I think, generally, because most of the merchants still are core geographies, the general trends speak for the North American trends.

Your next question comes from Deepak Mathivanan from Barclays.

Facebook has become more aggressive recently in tightening their advertising solutions.

We've heard that from some of our checks in this space.

Has that affected any marketing capabilities that you provide from your platform directly?

And indirectly, are you hearing anything from your merchants about their demand generation success through Facebook?

We do hear -- I mean, this is something we talk a lot with people about.

Again, advertising products that people want to an audience that sort of generally interested in this area is the most aboveboard advertising that exists, right.

Like it's -- this is -- it's -- if the users of Facebook could determine that, that's the only advertising -- kind of advertising they will ever see, they'd gladly share their interests, right.

Like I mean, I like technology and I like skateboarding, so I like electric skateboards.

This is the kind of thing that the platform is fantastic at.

So like retailers are not hit by the changes in tightening of the advertising platform.

It's people who are trying to change your opinion on core matters.

Specifically, politically, most hopefully, in my personal opinion, should be negatively impacted by the changes.

And retail is not really much of -- it's not -- like Facebook wants more retail marketing because that's easy and okay with everyone.

So in terms of success rates, customer acquisition costs, outside of some areas just getting more and more competitive with more and more players, it's -- we don't hear anything about structural changes and even that is -- tends to be offset by more advertising opportunities coming online like we have some customers who are quite successful advertising on stories and these kind of new ad formats that exist.

So there's -- this is just -- everything is very nominal in that space.

Your next question comes from Todd Coupland from CIBC.

Given the upside in local payments in Germany, what should be -- what rhythm should we expect in the other markets in terms of your local payments plans?

Give us an idea on what to expect there?

Yes, I mean, as we see different markets grow and we see that there is an opportunity for us to work with -- to get a local payment method set up there, we're going to of course do that.

We started with Germany because we have a lot of merchants there.

And as you know, it's one of our priority expansion countries for this year, and so it's just an obvious fit.

But we have teams that are looking at what are the next ones to go after.

I think over time you'll see more and more local payment methods roll out particularly into priority geographies and we're going to hit the ones fastest that the one -- that are easiest to get into where we have the most pent-up demand.

Your next question comes from Koji Ikeda from Oppenheimer.

I just wanted to touch on the B2B e-commerce opportunity.

Any sort of color on what sort of trends or maybe unexpected positives or even challenges that you saw during the quarter with your B2B e-commerce offering would be helpful?

Yes, I mean, B2B and the wholesale offering continues to roll out.

We are now offering advanced pricing capabilities, customer specific pricing as well, and new integration for things like Shopify Flow to automate some of that work.

I said this on the last call but it's worth -- it bears repeating, which is that B2B is going to be really, really important to the merchants that require it but most merchants are not going to required B2B capabilities.

What it does do for us though is it does expand our total addressable market, which outplayed Plus because there were just some merchants that didn't think about it us previously because we really were more of a direct to the end consumer type of model and business and now, obviously, we're able to have a sales team and particular Shopify Plus partners who are focused more in that B2B wholesale space.

I don't think the B2B product is going to be used by all of our Shopify Plus merchants but for those that do need it is really, really helpful.

And again, that product continues to evolve and get better over time.

And I think it's worth saying that a lot of manufacturers B2B is all they do right now, that is sort of their more of that industry and has been.

And then, Harley talks a lot about direct-to-consumer.

Again, this in every boardroom and every one of our companies, people are thinking about how we're going to start like a direct relationship with our customers because all sorts of structural reasons.

It's tough going and to people sit between you and your customer.

And so adopting Shopify Plus just for a B2B product is usually an improvement on what we have been doing and this allows the capability this allows for option knowledge of a single click, now I'm going to have a website afterwards.

And it just kind of speaks to this land and expand thing that's going on.

Because again, after they then have a wholesale channel, they might think maybe, we test the waters on Instagram marketing.

That seems like a little bit of a leap from B2B but some people might go this far out and all of that is possible once you have the Shopify Plus implemented and both were things that are just completely out of the reach of most retailers, if you don't.

Your next question will come from Mark Zgutowicz from Rosenblatt Securities.

Just getting back to the comment on sticky merchants.

I'm curious, if that's more of a function of the on boarding of the right merchant meaning that your customer acquisition strategy versus support of that merchant wants on boarded?

And if you could also speak to any learnings that you've gained on that front?

And the roughly, the last 12 to 18 months and sort of what the attrition rate trend line has looked like more recently?

So maybe clarify, if I'm not heading off in the right direction for your question.

But I think what you're wondering is how we determine that we get the like on what the right customers.

Does that -- is that sort of what you're asking for?

Yes, I was just thinking about your customer acquisition strategy and sort of how it's matured over the last 12 to 18 months.

And how much of -- maybe modifications you've made within that acquisition strategy have led to a maybe a better prospect or more sticky merchant and sort of comparing that to once you've onboarded a prospect in sort of your support in terms of retaining that customer.

So I guess, 2 separate variables there.

Yes, and this gets -- it gets -- it becomes a tricky conversation, right, because there's 2 separate things happening here.

One is if you wanted -- if you set a company goal to get more sticky customers or more converting customers, the problem is that it's an average.

The only thing Shopify really wants to do when it thinks about its funnel is it wants to get all the people into the product because the -- provisioning a new Shopify account costs nothing.

It's the same like -- if someone adds a new product to a database or we add a new shop to the database, it's exactly the same cost to us, right, so marginal cost is nothing.

So we want people signing up for Shopify accounts to everyone who has that kind of ambition to reach for independence, as I said earlier, to get as a goal and we want this to be as wide as possible.

People come in from all sorts of -- sometimes it's like a high school class, which sets themselves a project to sell cookies and stuff like this.

It's like -- so thinking about getting some kind of average up doesn't really make sense because we really want to get as many people who have a chance at getting their first sale to someone they don't know.

Because then, what happens after we get people to that point, is even if that wasn't a business that they're willing to go all-in on, and build into something, they have caught the bug.

They're going to be back they are going to because it demystifies the process of starting a business, which is a really, really cool skill to acquire.

And so this is why we are thinking about -- this is why I tend to discourage averages in general because this is such a fast growing company.

And there are so many components of this business that when you try to take an average you just get -- you get the wrong picture because they -- very often things that look back for averages are actually really good for gross profit dollars, which is the thing that we care about.

And I think that's like that sort of a brain dump on that topic from me.

Hope that's helpful.

All right.

Thanks everybody for dialing in this morning and have a great rest of your week.

Thank you everyone.

This will conclude today's conference call, you may now disconnect.