Acquired - The Shopify IPO

0:00Dan, you ready? She's always ready. Always ready. She's got her own chair here now. She hopped out of my laps. She's just sitting in the chair. All right, let's get started. Welcome to season five, episode two of Acquired, the podcast about great technology companies and the stories behind them. I'm Ben Gilbert and I am the co-founder of Pioneer Square Labs, a startup studio and early stage venture fund in Seattle.

0:37And I'm David Rosenthal, and I am a general partner at Wave Capital, an early stage venture capital firm that focuses on marketplaces based in San Francisco. And we are your hosts. Today, we are doing an episode that we have gotten a ton of requests for the Shopify IPO. Now, here's a few fun things to know about Shopify before we dive in today. The company IPO'd in May of 2015 with a market cap of $1.3 billion.

1:06In the ensuing four years, it has 27X'd that, and today has a market cap of $35 billion. Not bad for a pivot. No, no, no. 218 million people have bought from a store powered by Shopify, the vast vast majority of which do not have any awareness that they did that, and that is equivalent to almost all adults in the United States. Also not bad.

1:32The founder and CEO Toby Lutka is an absolutely fascinating character that I can't wait to dive in on the unhistory and facts here to give you a quick sense before we dive in. He tweeted last year, I firmly believe that I learned more about building businesses from playing Starcraft than I've learned from business books. He might be right. He might be right. Having read a lot of business books and played a lot of Starcraft in my life is going to say all right listeners.

2:01Now is a great time to talk about a new partner of ours here on Acquired. Lagora, the agentic operating system that is redefining how the world's best legal teams work. Yup, it's sort of obvious that AI is going to completely change the legal industry. I bet most of you listening have dropped a contract into some sort of AI chatbot out there. Lagora took that insight and asked the question, what if you really built something with that power from the ground up for the legal industry?

2:29So the founders did exactly what great founders do, operate with obsessive customer focus. They embedded inside a massive law firm for months. They sat with the lawyers just watching how the work really gets done. And that's how you get features that customers love like tabular review where you.

2:48drop in a folder of hundreds of contracts, and it pulls every key term into a grid a lawyer can actually work with. Lugora's bet here is interesting. Since it lets each lawyer handle more complexity, any given person can increase the quality of their work and do higher value work, and this means that the pie can grow even as each individual task takes less time.

3:08And they recently launched LaGora agent offering greater intelligence and performance. The agent lets lawyers set an objective. Then it can handle the planning and the execution and delivery of the final product. Legal teams get to maintain full control and transparency since they're still involved where judgment is required. And LaGora works where you already work. You can use it within Microsoft Word while redlining or drafting. The early LaGora numbers essentially speak for themselves. When they have a head-to-head pilot with their top competitor, they win 70% of the time. Legora now has over 100,000 lawyers on the platform from 1200 legal teams in 50 countries, and crazily they went from 1 million to 100 million in ARR in about 18 months. Truly insane numbers. And that is the real test.

4:00Plenty of things demo well, but the question is whether a busy associate actually reaches for it during crunch time, or whether a partner trusts it before going into a conversation with a major client. If your legal team wants to check it out, whether you're a law firm, or you're in-house at a company, you can learn more at logora.com slash acquired, and just tell them that Ben and David sent you. If you liked the show, You should come join the 2500 person and growing acquired fans that are hanging out in our slack at acquired.fm. And if you want more acquired than just this, you should consider becoming an acquired limited partner. Dave and I release about one LP show for every main show in addition. And we use those episodes to go deeper on company building topics. Now, I was really excited about how our last episode turned out where we dove into series a and how it is a way different thing that it used to be how

4:52valuations are very different today than what they were, sort of what's market, what's not market, what determines market, how did we end up here and all of this sort of tying into what we think the next major technology wave will be and when it will get here. So if you're a founder of a startup or a startup employee, this is one definitely not to miss. You can get started with a seven day free trial and listen right here in the podcast player of your choice by clicking the link in the show notes or going to glow.fm.

5:22slash acquired. All right, David. I think we're ready to hit it. Are we ready to do this? Let's do it. All right. Let's blast off. So Ben, as you alluded to, you cannot talk about Shopify without talking about its co-founder and CEO, not its CEO at founding, but co-founder and now CEO Tobias Lutke. So who is Toby? Toby.

5:50lives in Ottawa, Canada now with his wife and his children, because that is where Shopify is headquartered, where their world headquarters are, and where he founded, co-founded the company. However, he was not born there. I believe he's a naturalized Canadian now. I think he's a Canadian citizen, but he was born in Germany. He was born in Koblenz, Germany.

6:12which is a town about halfway between Cologne and Frankfurt. Toby, when he was growing up, he was quite the precocious young man. His parents gave him a Schneider CPC when he was six years old and Schneider CPC. What is that?

6:32It was a computer. It was, to the best of my understanding, roughly like kind of the German equivalent of the Commodore 64, that helps place things. So this would have been 1986 until we received this and he was enamored. And he was enamored with two things about it. One was that he could program it and hack it and build things for it and he could take it apart and put it back together and add hardware to it. But the other thing he was really enamored by You already foreshadowed Ben was he could play video games on it. And so he started playing a lot of video games on his Schneider CPC and presumably future upgraded computers as well. So much so that by the time he was kind of 11 or 12, he was taking the games that he was playing on there and he was hacking into the code and he was rewriting the games. I don't know if he was writing to cheat or make it easier, build his own levels or just like, he was like minecraft before minecraft.

7:29In another world he could have been he could have been not and he has a lot in common with notch to totally totally well we were gonna have to do my craft episode at some point here he was so into it that his parents you know we're not techies they were like this is weird they actually took him to a psychologist to like have his behavior analyze like is this normal and it turns out no he just like he's totally normal he just really Loves computers and video games. This is like a Dilbert comic like he's exhibiting signs of engineer. Should we be discerned? Exactly. And nobody is more engineer than Toby as we shall see, or at least at this stage of his life. And Ben as you alluded to, he still talks today about how gaming is great training for entrepreneurship. You have to do resource management. You know, you're playing against opponents here in this dynamic world that's evolving, especially multiplayer online games, making real-time decisions.

8:19Yeah, and you know he has this great line in there and one thing that becomes immediately evident about Toby when you start studying him is he's highly intelligent. He has this great line in I think it's on the knowledge project podcast where he says, you know, people get upset, they got upset about that tweet about Starcraft. People get upset, parents get upset if their kids are playing too many video games.

8:37Think about it this way. Would you be upset if your kid were playing chess all the time? Like would you be if I tweeted about that? Would you be like vilifying me? And really what's the difference here? It should be known the the tweet. I went to look it up in prep for this episode has been deleted. Oh, interesting. Interesting. Now maybe he's changed his team. Maybe his kids were playing too many video games. That could be Anyway, we digress. So what does Toby do? He's growing up. You know, he's really into computers at 17. He does something very different from what a highly intelligent 17-year-old would do in the US or in Canada or in many other countries. Germany at the time has this pretty cool program to I think the goal of which is to increase the number of programmers in the country computer programmers. They allow kids to drop out of high school, not go to college and become apprentices to become.

9:29programmers and the ideas it's like just like literally back to the middle ages like you're gonna start as a trainee and then an apprentice and then you're gonna become a journeyman and then you're gonna become a you know programmer and then you can become a master programmer and so Toby drops out of high school joins this this formal program through you I believe through the German government, and becomes a programmer trainee, and he apprentices with Siemens, the huge technology company, manufacturing and technology company in Germany. He becomes a great programmer, but he's programming in Java, which is, for all of our engineer listeners, we'll smile and laugh here. I learned to program in Java. You probably did. Did you do the AP computer science test was in Java? Totally, totally.

10:18All right. Also, no, I learned a program in PHP. Really? Oh, that's awesome. Of course. Got to make websites. Got it. See, I actually learned a program like in college, like in actual computer science courses, and I should have started just making websites earlier. Anyway, so he felt like it was pretty restrictive, but he still loved programming. And as he gets a little older, you know, he's making money. He didn't go to college. He's working. He develops another passion. He has some disposable income. He gets really into snowboarding.

10:47And this is a trustless listeners. All of this is going to be super relevant. Very relevant. Literally everything we're talking about here is going to become very relevant in just a minute. He's in his early 20s at this point, you know, because he's working as a programmer. He's in another company. He's like making good income. He loves snowboarding. He goes to the best place in the world to go snowboarding. And that's place I've been to many times. I'm sure you're probably of Tupin. I don't think we've been together, which is Whistler Canada in British Columbia.

11:15I did tear an ACL there, so I have mixed feelings as much as I love Whistler. Fun fact on a tech nerd trivia, Whistler was the code name for Windows XP. Oh, no way. Yeah. That's pretty cool. Yeah, so if you haven't been to Whistler and you are a skier snowboarder, you gotta go. It's like the best place in the world. So Toby's there on a snowboarding trip in his early 20s and he meets a girl there, a woman named Fiona McKean. It's, you know, kind of Love it for sight, butting romance. And, uh, unclear if this happens on the trip or later, he persuades her to move to Germany and come.

11:54Live with him, she's Canadian. And she moves over, lives with him in Germany for a year. And persuasive. It's like when we talk about on the LP show, like, you know, founders have to learn to sell because your job is always selling and can you be compelling, not only to pitch, but for hiring people. I can't imagine a more test of how compelling can you be than you should move to Germany. You should move to Germany for me. Well, it turns out that Toby's not quite ready to be CEO yet though because He might have won the short game but lost the long game here because she says, okay, I'm gonna move over. She moves over for a year. And then she persuades him to move back to her hometown of Ottawa, Canada.

12:33Ottawa, of course, in the province of Ontario is the capital of Canada, beautiful capital of Canada. So Toby moves with Fiona to Ottawa and he's still working for a smaller German company at this point, which does something really exciting. They make back-end accounting software for companies, but Toby can, he's a great programmer, they let him work remotely. Shortly after he moves, though, in 2004, this company goes bankrupt. And so Toby is now moved across the world to be with his soon to be wife and finds himself out of a job in Ottawa, Canada. So what does he do? He says, well, you know, that's all right. I didn't really like

13:15programming financial accounting software in Java. Maybe I can like find some other way to support myself and Fiona and make make some money here and you know maybe I can use programming do it on the side but like really I just want to kind of like make enough money that I can go snowboarding a lot. So he's kicking around ideas and he teams up with he meets through Fiona a family friend of theirs named Scott Lake. Now Scott is very different from Toby. He is not a programmer. He was a jack in high school. He's super outgoing. unclear if he played Starcraft or not. Didn't find that in the research. But he also loves snowboarding and he had worked on a few

13:55quote-unquote startups in town and not about not like tech startups but more lifestyle businesses and he also kind of had the itch to do this on his own. You know what Toby sort of doing in his free time at this point in sort of the programming world. Not yet. Not yet. Okay. This is a vow to come up. So they decide like, okay, yeah, this is great. We love snowboarding. We're going to keep going together. Like let's let's throw a small, you know.

14:17business together that we can do to fund our habit. Maybe what we should do, it's now 2004, Web2.0 is starting to become a thing. People are becoming more comfortable buying things online. Amazon's been a public company for a while now. What if we just started a website to sell snowboarding gear? Of course, you know, because we're really like elitist about this, like we would never we would never ride on mass market stuff that you could go buy at Sports Authority or something. Let's use the power of the internet. Let's find really boutique, artisanal gear and only sell that online. Perfect. Let's do it. They get together and Toby codes up a website. They call it snowdevil.ca. You can go there. We'll link to it in the show notes. It is still up. And if you read the about us section, it says snowdevil is not your typical snowboard store.

15:08Instead, Snow Devil is a partnership among two writers who are only interested in selling boards and findings that they love to write on. Nothing else. If you want big brands like Burton or K2, you should try Walmart. If you want high-end top-quality brands like Never Summer, Nidecker, Tech9 and others, you should try us. Yours truly, Scott and Toby. And then they list their personal gear setups for their snowboards.

15:32Now the funny thing if you go to this website is they talk a big talk about how refined their taste is, but the website looks like absolute crap by today's standards. It's like there's some mismatch there when you're looking at it, but you know, 2004 is a very different time on the web. Yeah, totally. Well, anyway, so why do we tell this whole story? You know, two reasons. One, because it's super fun and just part of the lore of what become Shopify here in a sec but also it's just like kind of amazing this whole like ether this hipster ethos of like we're gonna curate like the best artisanal like you know brands and sell that like what is Shopify powering today you know all of these D to C brands and Instagram commerce and like it all comes back to this same kind of ethos they were way ahead of the curve here so

16:19In the process of setting this up, Toby, of course, is CTO of the company. Scott is CEO of newly formed snow devil. Toby is in charge of putting the website up and he gets it up. He's a great programmer, but it's super hard. He has to go find all of these various tools to actually get a shopping cart, check out an inventory and manage everything. He's using tools like OS commerce and Yahoo stores and Meeva.

16:47Not he says, he says, all those systems made my skin crawl. This is a quote from him because of how bad they were. And just at that very moment, as he's putting this side up, he gets an instant message one day. And real quick, before we dive into this chapter, do you know the history of Yahoo stores, David? No, I don't. So Yahoo made an acquisition of a company in 1998 for $49 million that became Yahoo Stores. Do you know what that company was or was that PG's company? It was Vio Web. Vio Web. Oh my God. Wow. Of course, Paul Graham of who would go on to found white commentator. Man, I didn't realize Vio Web became Yahoo Stores. Yep. Like many acquired episodes, the internet was a very small place when all this was getting going.

17:34Oh my goodness. It's just crazy. It's just crazy. Well, so get this. Toby gets an IM from a friend who's also a programmer right around this time in 2004 and says like, Hey, man, I found out about this new web development framework. You should really check it out. It's called Ruby on Rails. Like it's just getting started. There's this guy David Heinemeier Hansen. He works at this place called 37 signals. They make this thing called base camp. It's like pretty cool software and they make it in this.

18:04really obscure programming language called Ruby, but they've built this framework for using it for the web. It's called Ruby on Rails. You just check it out. These guys are like, what? Too good for PHP. Yeah, too. Then if only you had started coding in Rails, then maybe there would be no acquired. You too could be CEO of a $35 billion public company right now. So Toby says, okay, cool. I'm gonna check it out. So he starts a side project just hacking on Rails, and he does what many hackers were doing in these days, he decides he's going to build a blogging system. So he builds an open source blogging content management system for the web, he calls it typo, and it kind of blows up, it gets over 10,000...

18:51Installs a people running their blogs hosting their blogs using typo and Toby becomes pretty well known He gets in touch. He meets the 37 signals guys Yeah, he meets David he meets Jason and he ends up joining them not joining 37 signals, but he becomes a core contributor to the Rails open source framework. The funny thing is, if you go to Toby's LinkedIn, this is still like his about is like three lines. And one of the lines is about the creator of the typo weblog engine. It's just great that like, you know, this guy's running a $35 billion company and that's still a big pride. Yep. I mean, that's Toby. So of course, what does he do next? As you can imagine, he's fully enamored of the Rails framework and he's just been through this.

19:34terrible experience setting up Snow Devil, the backend for Snow Devil. He says, well, I'm just going to rewrite all of that from scratch and do it in Rails. And I bet I can get rebuild our store and not use this crappy software that Paul Graham wrote for and have it work pretty fast. So he does. And within two months, he's completely written the backend for Snow Devil. And they have their own custom commerce engine that he's built in Rails that is powering the store. And it's like, way better than what he had before. Somehow, he and Scott start talking about this and they're like, wait a minute. We've got this snowboard site. You just built this thing in rails that you can easily plug in and do the back end like this was hard for us. Maybe, maybe we can make it even better lifestyle business if instead of selling snowboards, we sold software and better margins. Yeah, you know, we don't have to deal with shipping. Well, different kind of shipping.

20:30So yeah, they do that. And they're like, okay, let's shelve the snowboarding project. We can use it as a demo site, which it still is today for Shopify and start working on this software. So they spend A year and a half working on the software. Toby is a perfectionist who wants to make sure it's right. And of course, a big part of that is actually commercializing this. You know, it's one thing to build your own software for your own side. It's another thing to make it plug and play for a commercial availability. And they have some money saved up from their sales at Snowdevil. Toby and Fiona move in with their parents. They raise about

21:02$200,000 mostly from from Fiona's dad and from Toby's uncle who himself was an entrepreneur who had immigrated to Canada. They used that money and they bring on a programmer that Toby knew named Daniel Wynand and he joins the team and he's considered a third co-founder of the company now and he ends up taking over design. He's a programmer but he's really interested in design and he helps design this product and make it like really easy to use and install and has a Huge huge contribution to this first version of the product and and I believe still to this day I believe in interviews Toby has said he has veto power on any shipping any feature of That is that is not to Shopify that's power By the way, they're they're doing all of this so in 2004 they had created a Canadian entity to sell their snowboards They're doing all of this new software business still in the same Canadian entity as the the snowboard business so talk about a while like

22:01actual pivot. Not like shut that down. Do this other thing like it's in the same entity. Yeah, it's in the same entity. So when they're finally ready to release the software in 2006, they need a name for it. So they do the natural thing at the time. Toby heads on over to go daddy's domain name generator. That plugs in. I need a name and comes up with jaded pixel.com. Really really rolls off the tongue. Really catchy.

22:28And if you go to jdpixel.com today, we'll link to it in the show notes. It redirects to Toby's LinkedIn profile. Yes. So then in 2006, they would formally rename the company from its sort of nameless Canada LTD. It was entity 4261607 to formally in 2006 call it jaded pixel link. Yeah. Taded pixel link. Now, fortunately, Scott, at this point, makes a major contribution to this budding software company right before they launch. And he's like, I don't know about this jaded pixel thing as the product name. Maybe we should reconsider that. And mercifully, he comes up with Shopify, we're shopping and we're simplified. So simplify, shopping, Shopify. I'm so jealous when you could just like do that and that domain is available.

23:22I know, man, the mid-2000s were really, really good time to build web companies. It's amazing this didn't become shopper, or like something with no vowel somewhere. Yeah, and amazingly, the domain was available. Toby talks about this. They just registered on GoDaddy. They didn't have to buy it for anybody, but it was just there. Man, times have changed. So the initial feature set that they ship with is pretty basic, and they're inspired by, you know, kind of the whole Braille's design philosophy of minimalist, functional, but have everything happen on the web in the browser. And so with the first version of Shopify, you can have a fully customizable store template.

24:05you have a shopping cart, you can track orders, you can get orders delivered to you as a merchant, via an RSS feed, you have automated inventory organization, and you also have the ability to plug in payment processing. So they're not doing payment processing, natively at this point, but of course taking payments is super important. And they make it really easy to just plug in PayPal or any other third-party credit card processor that you'd like right there on your website. Pretty cool. Yeah, pretty cool.

24:34far, far cry in terms of ease of use and ability to install and get set up, then working with all of the huge big software packages that Toby had to do when he was first setting up snow devil. So they needed a business model for this new software that they were going to sell or offer online. I think Chris Anderson from where it hadn't yet written.

24:58the book on freemium. I think that came out a couple years later. But, you know, purgling around in these rails, kind of internet communities, is this idea of like free software and freemium and building business models around that. And they think like, okay, yeah, like, great, let's make this.

25:15freemium and we should have it you know no barrier to entry anybody can set up a store and just start selling and then we'll monetize with we'll just take a cut of the merchants transactions as they sell and it'll be really cool incentives will be aligned it'll be great well it turns out incentives weren't Quite so aligned with that. Unfortunately, they figure this out pretty quickly. People started trying it and thinking like, oh, this is super cool. I can get set up. But then pretty quickly, they realize either they start selling a lot and then they're like, wait a minute. I'm paying a lot of money to Shopify here because their fees are just scaling linearly with my sales. Or probably what's even more likely is...

25:52people are making a decision about what platform they're going to use. And of course, everybody's very optimistic when I sell my million things. Yeah, when I have $100 million in sales, I'm not going to want to pay Shopify, you know, $10 million a year or whatever they were charging. And so the business model is really holding them back here. They figured that out and they decided, okay, we got to, we got to switch things up. How are we going to do this instead? What if we, you know, SAS is sort of barely becoming a thing at this point. Salesforce, of course, exists. What if we look at this kind of SAS idea? And instead of charging on a usage basis, what if we just make it really, really simple? We'll charge 29 bucks a month, and you get a full featured commerce package in a box from us. It turns out that was pretty magical. Obviously, the reason that this worked well is because there are

26:47things that you can charge more for as people develop bigger and bigger businesses. It's not like every single, you know, I don't know the biggest business on Shopify, but there's enormous businesses on Shopify. They're not just paying $29 a month. I mean, at this point, you don't leverage on Shopify. Google is on Shopify, like enormous, enormous companies are on Shopify. But if...

27:10Shopify were taking 10% of their revenue, of course, that wouldn't be possible. And this is a fun aside to it. It's also like speaks to the what the company was like in these early days and they're like, how Toby and Scott were thinking about things. They realized they knew they needed to make this change. And so they're just like, okay, yeah, like, let's change it. Let's like ship it and flip the switch. They did that. They didn't really talk to any other customers before they did that. And they did it the day before Toby and Fiona got married. That was probably not a good idea. Toby talks about how he spent like the whole night the night before their wedding, just like taking calls from super angry customers who did not understand what was happening to their business. Talk about never deploy to production on Fridays.

27:55Yeah, seriously. So another really fortuitous thing happens in, this was in 2007 when they made that switch in 2007 and that is a Toronto-based angel investor named John Phillips discovers the company and he invests $250,000 at a $3 million post money valuation which was...

28:15Pretty rich for, you know, I have to imagine a small company based in Ottawa, Canada, back in those days. I would imagine everybody's pretty happy with that these days, given the current market cap. But John was a lawyer based in Toronto and he had worked with a ton of companies.

28:31And he becomes a really important mentor to Toby, especially through what's about to happen in the next year in 2008. Scott kind of gets the early stage start-up bug again and decides that, hey, you know, this company's scaling. It's a SaaS company. I'm not sure this is really what I want to do. And he leaves. And Toby ends up having to take over.

28:52the CEO role so from you know a kid who is an apprentice programmer who love playing video games and his parents thought you know is there something wrong with him he doesn't talk to people or other kids he just sits on his computer all day all of a sudden now he's shoved into the role of being CEO of this company that is growing pretty incredibly quickly with all these customers as he becomes CEO of this company he doesn't just do the job the same way that any other CEO would do it, he applies his engineering mindset to this. And so when you listen to Toby in interviews, You can tell that he thinks about things in this extremely logical, extremely structured way. He's so low ego, he's all about measuring results and going back and revising past decisions, changing his mind when they're in the face of new data, being wildly structured about decision-making. So he basically becomes like the engineer as engineer. He's an amazing, amazing engineering leader and it really leads to them being able to attract incredible talent and that first set of employees.

29:57because the set of really talented technical people, many of them who had been open source contributors to the Ruby at Rail Project, were dying to go and work with them. Yeah, totally. And people are moving from Germany, from...

30:12other places around the world to Ottawa to come and work at this company. But the other interesting thing is like, okay, so we take a step back and we now have like a fairly young CEO who was an engineer has no management experience in charge of a high tech software company in Ottawa, Canada. Like, this doesn't seem like a recipe for success. But Ottawa actually has some interesting features. So they were...

30:35Plenty of old-school technology companies that were in Ottawa and Ottawa is not far from Toronto. Toronto, of course, has great engineering universities and technology companies. Nortel was in Ottawa. There were a few chip companies in Ottawa, but there was...

30:50nothing interesting happening on the technology front there until Shopify came along. And so all of a sudden, now here's this like, in software, yes, on the software technology front, and I think Nortella had fallen on hard times by this point. And so now all of a sudden, here's this super interesting hot web 2.0 software company based in Ottawa, and they're able to recruit just incredible, incredible technical talent. He joked about Toby being like the engineers engineer as a CEO. So all this is happening. And you know, he was really wrestling with like, what do we do about this? Where we're growing? Should I raise venture capital? I think the market opportunity for this is big and getting bigger. Should we?

31:31tick into being kind of a growth company and put fuel on the fire. And he wasn't sure. And so he decided, you know what? I'm going to run a test. And the company had become cash flow positive in 2008 with about 10-ish employees. They made over a million dollars in revenue in 2008. They also part of that was driven by they landed their first major customer that year.

31:54which was Tesla Motors, which started selling the Roadster on Shopify. And to this day, all of Tesla's online sales still run on Shopify. That is incredible. That's a great fine, David. Yeah. That's really cool. I didn't go in the way back machine, but I found in some articles about Shopify, you know, images of the website in 2008 and they're listing Tesla Motors as one of their marquee merchants. It's pretty awesome. I've got some way back machine, thanks to bring up later from from the site.

32:24So Toby's like, okay, I'm gonna run this test. He saves up $50,000 in cash flow from the company. And he decides, I'm gonna use this $50,000 and I'm gonna run five growth tests. And if maybe like two or more work, then like that's my answer that I should go raise venture capital and pour more fuel on the fire. And of course.

32:46all five out of five work. And one of these tests that he's that he's running, they're super cool. So the first one is what one of them is they decide that they're all these like web design consulting firms out there. And they're making websites and commerce sites for a lot of their clients. What if we started marketing not just to people who want to build businesses and merchant accounts, but to actually to them. And we take these designers, if we can get some of them, and we offer them, we say, hey, if you bring on a customer onto Shopify, we'll give you 20% of the lifetime revenue of that account. And that becomes a very compelling deal as you would imagine to these web developers of like, oh, you mean you're giving me a tool that I can use for my clients to make my life easier. And I'm going to make revenue from that.

33:35Great. That brings in a ton of customers. If you think about the way that this is sort of born of the developer community, it makes so much sense. I asked David Zager, who's our head of design at PSL, and he used to run a design and dev agency and did for years. It was part of this program. And he sort of smiled when I was like, yeah, back in, you know, O60708, they were doing really well. They were getting distributed through a lot of these web development agencies. And he just smiled. And he was like, yeah, they had this sweet referral program. And it's so funny because like today we would describe that in sort of the like enterprise SaaS world as like channel sales. Like, of course, you know, these people who are going to be building 30 to 100 websites a year for people who want to sell on the internet, you want to be their vendor of choice and you want to figure out some relationship with them. But it was so pioneering at the time. Yeah. So the next test is even more fun. They launch a win.

34:31goes on becomes like kind of a sort of internet sensation. They launch the build a business competition on Shopify. Do you remember this pen? No. Do you remember the partner that they run this competition with? I do not. None other than Tim Ferris. No way. Yeah. Tim becomes an advisor to the company and Tim is like, Hey, people love competitions. What if you gave away $100,000 to the team that builds the biggest business within a like, you know, X month period on Shopify. And Toby's like, 100,000, I don't have $100,000. I can't give away. And Tim's like, trust me, you'll make it back. And I hear Tim Ferris is pretty good at growth marketing. Yeah. They launched this contest together. And they get over 1000 new.

35:19Merchants signing up to the platform just through this contest and it generated over three million in revenue across those new stores Wow, it's pretty pretty good ROI for that $100,000 investment I'd write those checks all day totally and then you know would probably becomes the most important thing that they do during this time. In June 2009, they ship the Shopify platform. They build an API to allow third party developers to plug in their existing tools or write tools right into Shopify merchant pages and accounts. And this really takes everything to the next level because again, if you think back to like building in Rails,

36:01It's very minimalist, functional, design oriented frameworks. And that's what Shopify had always been. They Toby talks about how the ethos at the company is think about features that most of our customers use most of the time and build those and features that some of our customers use some of the time or most of our customers use some of the time. We don't build those. But now the third party ecosystem builds those and plugs in this just massively.

36:28increases the reach of types of merchants that could use Shopify for anything or ad functionality or do subscription sales or do whatever without cluttering and and and muddying the messaging of the core product. I guess the referrals were really the first piece of this but this is really the second thing they do that starts to make this a really great scale business because while the intention of doing this launching this platform is really around great. This is a way that we don't have to write code but people can extend the functionality to attract more customers. What it really starts to do is build the mode.

37:02where Shopify becomes the absolutely dominant platform because they've got all the apps. It's very much like WordPress and blogging. It's really hard to shake that inertia because they have all the plugins. Shopify has exactly that in the e-commerce world. Totally. In a minute, we're going to talk about Stripe in a sec, but things like that. Something like Stripe can get built, which is incredible in game-changing for the ability for people to take payments online, and it just plugs right into Shopify.

37:32In 2009, the first year, they started really aiming for growth and running these tests. They pass $100 million of sales that grow sales that merchants do on Shopify. Remember, this is like two and a half years into Shopify as a product in market.

37:50Sorry, in 2009, they passed a hundred million dollars of sales over the life of the company in the two and a half years that shop of family has, has cumulatively. In 2010, they do a hundred and twenty four million dollars in merchant sales just that year. And at the end of 2010, Toby finally gives in and I assume.

38:07and probably really knowing him an exhaustive process in meeting everybody and optimizing for his venture capitalists, he finally raises a series A, a seven million dollar series A led by Bessimer with first mark and Filesis participating. And it's kind of off to the races to the company and full on growth mode after that. What episode did we just do? Where first mark was also, it was like one of their first checks. That's right. Yeah. Yeah. Right around the same time.

38:33And I'm Frank Smarkhead, a couple of really great investments right at the beginning of their life as a firm, really. super impressive. You know, when you listen to Toby in interviews and he talks about the decision to take capital, you know, he had sort of long maintained this mindset that that's not the type of business this is. I think I don't have the exact quote, but he said something like, I want to be the best run most successful 20 person lifestyle business that there ever was. After these experiments, he sort of realizes, oh my god, we have enormous growth potential and we may actually be one of those rare.

39:05types of businesses that are indeed a good fit to go and raise venture capital and try and grow like that. It's very telling about him as a person how long he resisted that and the discipline that he had around trying to build the business the way that he wanted before realizing sort of what a massive opportunity it was in front of him and sort of then let the opportunity guide the decision making. And I think what's even more telling about him really just makes him such a admirable leader and CEO of a company is now when he talks about he says I was absolutely wrong like I hurt the business I said the business back by years by not by for those first you know couple years and then during the time when I was running when he was running those experiments not raising venture capital earlier and not seizing the opportunity and then obviously you know they've been lucky that they've

39:56You know, still been able to kind of achieve dominance in the space and become a $35 billion public. Yeah, there's some survivorship bias here. Yeah, totally. But yeah, like they could be two years further ahead of where they are now. If he hadn't done that and he'll he freely admits that, which is very rare that you get that level of humility from a public tech company CEO these days. So the question at this point becomes like, okay, clearly this is a market and a wave that is huge and growing and Shopify is writing it better than anyone else. How big can it be? So right after they raised that series A in December of 2010, they only had about 20 employees at the company at that point. By the end of the next year in 2011, they had over 100 employees. They had passed 10,000 merchants on the platform. That year they did 275 million in merchant sales. The following year they go from 10,000

40:53merchants on the platform to 40,000 and three-quarters of a billion dollars of GMV. They make 24 million in net revenue from that, which obviously is a lot less. This is the first year from their S1 that we have their net revenue.

41:08But that continues to just grow and grow the next year. They have $80,000 stores, $1.6 billion in GMV, $50 million in net revenue. David, do you have a sense of what was powering growth for them at this point? Is it still this sort of referral engine through dev shops, or is it word of mouth? What is leading to just the flocks and flocks of merchants running to Shopify?

41:32around this year in 2013 when I think Toby and Shopify really kind of take the ambitions up to the next level. And that's like, okay, we've been this easy way for small, mostly small merchants to set up and run commerce businesses online. And we have some small merchants that have grown into large merchants, like Tesla. We have some large merchants that have switched over from Magento or big commerce or whatever and come to use us or commerce OS. But maybe there's more we can do. So in 2013, they launched, maybe there's more we can do because if you become a big merchant, you don't just want to sell on a website online. You want to sell

42:13In a lot of places, and so in 2013, they launched Shopify Point of Sale for offline sales. They have devices that you can put in a physical start front. use that to actually be your point of sale. But even more importantly, they're now syncing your online inventory with your offline inventory. And back in 2013, that was probably kind of G-Wiz. You think today about all of these D to C brands out there that now all of these, you can't even call them D to C brands anymore because they are internet brands because they have physical stores in major metro areas around the world.

42:49critical enabler for this. And of course, all of those brands were built on Shopify and grow and starting to grow in these early days in 2013. The other thing that they do the next year in 2014 is they officially launch Shopify Plus. So what's Shopify Plus? It's basically enterprise version of the core Shopify product. And I think it was really interesting that they segmented this out as a completely, it's a completely different business segment.

43:16in a different office. It's based in Toronto, not in Ottawa. The concept behind this kind of I think all coming from Toby is that the core ethos of Shopify is these small merchants, these entrepreneurs, these startups selling on the platform. But when they try and go out and they sell to Unilever, they sell to Google, they sell to Aniser Bush, you know, I think all of which are big customers using the platform. They want something different. They want They want account managers, they want handholding, they want SLAs, they want uptime, all of these things. They start this whole other division that's going to go out and purely attack those. And so now, Shopify Plus and these big customers is over a quarter of the total revenue of the company.

43:55When I was asking that question about growth and you're talking about engaging with these really big customers, it is expensive to go and actually do the sales and marketing to get those accounts. To give you a sense for today where they're doing, they did about a billion dollars in revenue last year. They did spend 350 million on sales and marketing. This business has never quite been, let's throw up a website and people will just come to it and will just service themselves. It does actually require spending to go and get that business.

44:24So the net of all of these new initiatives is Shopify's growth just continues in the venture capital era in 2014 they cross a hundred million in net revenue They do a hundred and five million in net revenue and then in April of 2015 the company files to go public on Interestingly, on both the New York Stock Exchange and the Toronto Stock Exchange in Canada, the two different tickers. So you can take your pick. Should you choose to invest in Shopify? On May 20, 2015, they priced the IPO at $17 per share, which equates to a equated at pricing to a $1.3 billion market cap. Think about this as a $35 billion market cap company today just about four years later.

45:17They start trading the next day at $28 a share, which is 60% higher. Actually, the stock stays relatively flat for the rest of the year. It would pick up later the next year. But 2015, for the whole year, they do an amazing $7.7 billion in GMV of merchandise that merchants are selling on Shopify. What's that up from the previous year? I didn't find what GMV was in 2014. In 2013, it was 1.6 billion.

45:45So in two years, they ate extra. Yeah. Or seven, probably five x 1.6 to 7.7. But still incredibly impressive. Net revenue is 205 million for the year ended 2015. So we thought a fun code and you did the topic of the show is the Shopify IPO, which we will grade in a minute. But a fun code to sort of catch us up today, we thought would be in October of 2017.

46:14So not quite two years ago, Shopify became the target of a activist hedge fund investor, a short seller named Andrew left at Citron capital. He released a report on Shopify, decrying the company as a get rich quick scheme that was The title of his report is the hottest, this is all, and in all caps, the hottest stock on, he eventually has now changed it to the New York Stock Exchange. Originally, it said the hottest stock on the NASDAQ, they're not on the NASDAQ, they're on the New York Stock Exchange, is a completely illegal get rich quick scheme in parentheses with a good software platform. And he basically is accusing the company. What's illegal about it? So he accused the company, Shopify, he just didn't believe it.

47:09that at this point, this was in 2017, the company said they had 500,000 merchants on the platform. How could it even be possible that there are 500,000 different merchants in the world that would be selling online? That's ludicrous. Who are these people? It must be a multi-level marketing, Ponzi's team. How could it be possible if there's two billion media outlets on the internet? Because of the internet. How could it be possible that there are now?

47:35I don't know how many homes are on Airbnb, something like two, three million, four million maybe. It's a lot of hotels. That's impossible. Anyway, this is great. He releases this report, says the FTC is definitely gonna come after Shopify. He puts a $60 price target on the stock. The stock had been trading at around $115 a share at this point in time. Six months later, The stock is, so we're now in spring of 2018, the stock is trading in the mid $120 share. So like, okay, he didn't do so. So out on his shorts here. It was at $1.15. So it was roughly flat at this point. So like, okay, it's not down. He's not doing good on his shorts position. Fast forward a little bit further to April of this year of 2019, just a few months ago. The stock is now trading at $205 a share.

48:30Remember back in October 2017, it's trying to put a $60 price target on the stock. What do they do? What does Andrew and Citroen do? They come out again with another research report talking about how terrible Shopify is. And then he puts a price target of $100 up from 60 this time on the stock. Says it will be down at $100 within 12 months. And if it is not, he is going to donate $200,000 to charity. Well, We're not 12 months yet from there, but today all he can come up with is a $200,000 bounty with that kind of a claim. And this is so amazing. Today, on July 31st, 2019, the stock closed at $317 a share for a $36 billion. You just wait till it hits 60, David. I know. I know. Well, we're going to do our narratives and bulls and bears here in a minute. And certainly.

49:24No doubt it is an expensive stock right now, but an illegal get rich click scheme that is probably a not an accurate characterization of this company. Yeah. Yeah. Yeah. All right, listeners. Now is a great time to tell you about a longtime friend of the show, Vanta. AI has scrambled the whole security picture. It used to be that you proved that you were secure once a year on audit or a static PDF, then everyone would not and you're done.

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51:26Well, let's do it. Let's dive into narratives and let's do this a little bit differently than we normally do listeners David and I were talking before the show For companies like Facebook we felt that it made a lot of sense to do the bulls and bears sort of in the press leading up to the IPO I think Uber was really exciting to do this Shopify was less of an interesting media darling at that point, but now is really starting to heat up and get a lot of coverage. And so I think the interesting thing is what are the bull and bear cases to make about the stock now? So it's interesting. We just went through this whole acquired history and facts of the company. And there was one other company that some listeners out there might be wondering.

52:09Man, why didn't Ben and David talk about a company that I usually think of when I think of Shopify and I hear people talking about it? And that is Amazon. One would think if we had just spent an hour talking about the rise of e-commerce from 2004 to today, like the company would be Amazon that we were talking about. Yeah. Well, let's start with the bear case here. It's relevant for both the bear and the bull. You know, all of this is like great.

52:34Certainly, you can't take anything away from the incredible business that Toby and Shopify have built over the last 13 years, but isn't Amazon gonna just take over all of e-commerce? Why are people gonna be selling on their own channels anymore when eventually everything's gonna end up on Amazon? And they're gonna have the best fulfillment, the best delivery, and the best pricing and everything.

52:57What are these 800,000 merchants do not selling on Amazon third party sellers and doing selling over on their own.com's powered by Shopify. It makes no sense to me based on what everybody is is saying about how dominant Amazon is. Yeah. And then you look at the price of Shopify. They did about a billion dollars in net revenue last year, which puts it at 35x trailing 12 months revenue. Yeah. Which also, by the way, I mean, to take a step back and talk about they ended 2015 with about 200 million in net revenue. Three years later, they end 2018 with a billion in net revenue. That's incredible growth. But yeah, like that's a very expensive stock. You know, Amazon is cheaper than that.

53:38Why shouldn't I buy Amazon instead of Shopify? And really do hear Amazon is cheaper than that when people are talking about valuation multiples based on any company metric. This is a good point I think for less financing folks to talk about why 35x trailing 12 months revenue is big. First thing to point out is it's not 35x trailing 12 months.

54:02Income. In fact, the company is still a loss-making company. So it's not a big loss-making company. In 2018, they lost $64 million in 2017. They lost $40 million. But, you know, this company is not at the end of the day turning a profit on all this billion dollars of revenue that it's getting. Now, of course, there's lots of great reasons for that. The company's a high-growth company. But imagine for a moment that it was a 35X trailing 12 months income.

54:30the profit that they were making. Like, you still would have to leave when I started in finance, 35X earnings per share multiple. Like, that was expensive. Now we're talking about 35 times revenue. Right. Like you would still have to believe to believe that this valuation is correct. That, you know, if you were to do a discounted cash flow. So all the future years left of income that that stock was going to generate discounted to today, that it would be worth 35 times as much as it's making now. And so, you know, that's still a big leap to make. Who knows what the world's gonna be? Let's assume which is a stupid thing to assume, but just for a moment that they're not going to grow anymore, which is what the entire thing's predicated on. There's 35 years worth of cash flows that we're gonna account for. Oh, and it's not even actually the profits at the revenues. So, like, it starts to give you a sense of why, like, wow, this is really being valued not only that it has a ton of growth in front of it.

55:26but that they're really gonna find a way to turn this corner and they're effectively breakeven right now. That loss is so small relative to revenue, but that they're gonna find a way to flip that faucet and start becoming a very profitable company as well.

55:40If we were to... This is going to be very apt. We were to channel one of our recent CEOs of one of our recent subjects here required Eric Yuan at Zoom. He would say the price is two damn high. Which is ironic because of course, Zoom itself is also trading in an extremely high revenue multiple right now. So it's extremely expensive at the stock.

56:02But then there's also like there's this Amazon question out there like how could you justify paying such a high price for a company that is you know competing in the same category as Amazon and is more expensive than Amazon. So I think unless you have anything else on the bears. Now I'd I'd please pay me the picture. Let's flip to the bullseye and actually I think for me the topic here is still Amazon. So Toby has this.

56:31really great quote one of his interviews where he says, you know, look, if you assume Amazon is going to eat retail of everything that has a barcode on it. And basically you kind of like need to have a barcode to sell on Amazon. The question then is what happens to everything that doesn't have a barcode on it? Like is Tesla going to sell on Amazon?

56:52upstart D to C brand's going to sell on Amazon like maybe they will and actually you can now on Shopify sell they'll plug into Amazon you can easily sell on Amazon from Shopify. But I think there's a lot of stuff out there that isn't going to sell on Amazon. Yeah. And I think the way that I think about this is sort of timing that this company the market for people selling things directly on the internet.

57:20or let's expand and say selling things directly, both on and off the internet, actually expanded dramatically in the years after their IPO. Like we're in this era where people want to sell things in a bunch of different ways and subscription methods, using a strong storytelling component, using a strong brand component. All these things that Amazon is not good at. Not good at.

57:43It makes sense, and I don't mean not good at in a tactical way. It's not like, oh darn, they just couldn't hire the people to figure the dang thing out. It's a structural problem. Yeah, no, Amazon.com subordinates the brands of the products. Exactly. When you're buying from a third-party seller, David, can you name one third-party seller that you've bought from on Amazon in the last year?

58:06I think they all have a lot of LLCs in there. But yeah, okay, so right, this is like, so we're saying like, okay, what doesn't have a barcode? What's not gonna sell on Amazon? It's this, it's Instagram brands. It's, you know, quote unquote, D to C internet brands. And you can think what you will, and you know, personally, I feel like there's so many out there and it's probably overhyped and like, you know, just like hashtag millennials, everything.

58:36But that's a direct David Rosen thought quotes, ladies and gentlemen, hashtag millennials everything. There we go. There we go. But, you know, Toby also talks about this in the same talk. He's like, look, Kylie Jenner launched a cosmetics line a couple years ago. And she launches on Shopify. And she has her audience. She sells to her audience. Her audience is primarily on Instagram, other social media properties as well. But most of what she's doing is selling on Instagram. It's estimated that Kylie's Cosmetics brand did over $300 million in revenue last year. They have seven employees at the company. They don't sell on Amazon. At least as far as I know, I didn't check. But I'm pretty sure they don't sell on Amazon. So the question is like, okay, yeah, there's going to be a lot of stupid millennial brand startups that raise a lot of money out there and go bankrupt. But there's also going to be some companies that

59:27become really big huge companies that are just fundamentally architected in a different way and have direct relationships with customers and Shopify is the platform that they use to manage all that.

59:40Yep, and if you look at the way this ends up manifesting from a metrics perspective, there's two things that increased after their IPO. Their sales efficiency increased as revenue continued to increase, which is kind of crazy. Like their return on sales and marketing spend actually got better even though the company's revenue was growing.

59:59sort of saturating your market, that would go down because you're reaching worse and worse customers, they're still accelerating into product market fit, or at least as of some data that I was looking at from 2016, still accelerating into a expanding market. And the ACV continues to grow. So that's the average customer value, basically the amount that any given Shopify customer is spending or giving to the company is growing at about 14% a year. So it's not even like you know, oh man, we onboard someone and then, or if you take the average across all of our merchants, any given merchant is increasing their business with us. And that's things like going from regular Shopify up to Shopify Plus, which I think goes up to.

1:00:47$2,000 a month. Probably even more than that for the big accounts that they're directly managing. And then that's also the other part of Shopify's business that we haven't talked as much about. We alluded to Stripe earlier is through the both the platform and third party services available on Stripe, as well as things like Shopify point of sale and other products that they offer, they do make money per transaction. It's not like the original business model where they're just taking a flat percentage of every transaction that you make as a merchant, but they're revenue sharing with Stripe, for instance, when Stripe is powering internet payments for their customers. Yeah, it is worth taking a quick aside here and saying, so Shopify did

1:01:31$14 billion last year in GMV. So the amount of goods sold on Shopify is 14 billion. Stripe processed almost all of those payments. So a lot of money flown to Stripe from Shopify and Shopify benefits from that in some way. So to kind of look at how to Shopify make money, well, we've talked a lot about this subscription solution so that that's the, you know, SaaS fee that you're paying per month to Shopify. They have what used to be equal or actually what used to be smaller and is now a little bit that larger is their merchant solutions revenue. So that's payment processing fees, transaction fees, referral fees, sales of the point of sale hardware. David, exactly what you're talking about. So half the business is actually other things that they can make money on from their merchants in addition to, of course, the SAS fee. So the part of the thesis that you could form, if you are really excited about the future of this company, is there's going to be a lot more stuff that they could sell to them too.

1:02:27a lot more stuff. I think the bookcase to sum it up is there's going to be a lot more merchants that will use Shopify in the future that are going to sell a lot more stuff to their own customers and Shopify is going to be able to sell a lot more stuff to those merchants. Yep. And I'm pulling forward from tech themes here for a minute, but I think it's totally, totally valid. If you think about that 14 billion in GMV, the goods that were purchased powered by Shopify and the billion dollars in revenue, That starts to paint this picture that for every $14 spent, Shopify is able to capture a dollar of it, which is pretty interesting, because then you can start to really think about, well, what if that were a take rate? That's what, about 7% of, they basically have a 7% take rate on the marketplace model, and the thing that you would kind of have to believe is they're going to be able to continue to expand that over time. The question that you then have to ask yourself is, okay, cool.

1:03:21Let's assume that it keeps growing and they keep getting more and more and more customers. More merchants onboarded this thing and that tam is indeed expanding. What else could they do to make it easier to be a merchant in the world? And by providing more value there, can they then claim more value of those?

1:03:40transactions that are sold, and that's exactly what they're doing right now. And so the very interesting thing that was recently announced is the Shopify fulfillment network, which is partnerships with third party logistics providers, so people that have warehouses and manage shipping stuff to people with a common interface for merchants that is powered by Shopify. It's a Shopify interface, much like you interface with anything else on their platform using to just the really nice Shopify tools or sort of the nice plugins in their ecosystem and their app store. So what that actually allows these merchants to do is be competitive with Amazon and do things like two-day shipping. But importantly, and this is where this sort of sits on the fence between Baron Bull. This is very different than Amazon's approach. So with fulfillment by Amazon,

1:04:29Amazon actually owns the warehouses. If you're a third-party merchant, you're saying, cool, I'm going to use FBA. Amazon controls the whole stack on the warehouses. From a business model perspective, Shopify's way is great because it's asset light. It's software margins, baby. I love it. It's more like a software business, but they don't have control over that whole experience. They're outsourcing it to a bunch of other third-party logistics providers.

1:04:53and they don't have ownership over that margin the way that Amazon does. They have to share in the economics with those three PL providers. So the question that I think you have to ask yourself is can Shopify really make it as seamless for merchants to use their Shopify fulfillment network and those merchants' customers as Amazon has made FBA? Yeah, it's interesting though. Shopify must have thought through all this as they were.

1:05:21once you're thinking about their strategy, they need to be the entire Amazon here because like they need to let the brands and the merchants be the stars because the more you start controlling the experience and the customer, the more those brands are going to get pushed down below Spotify and then you're in an Amazon. Shopify.

1:05:42Yeah, shop is on No, no, no, you said Spotify. I have a feeling I've already done that on this episode and I think I was wondering how long it was gonna take us to get into this. Oh, yeah Spotify, also a great company. But you raised that really great point. It's exactly the one that we absolutely, oh, mentioning it, that Ben Thompson has covered so well on Stratechery, and that is Amazon is much more like an aggregator, where they're the brand, they control the whole experience, and they aggregate all of the customers and the customers shop through them, independent of who the merchant is, whereas

1:06:22Exactly, as you said, Shopify has the anti-Amazon. They're a platform, and the bet there is, look, we're not going to control the whole experience. We're going to make picks and shovels. You're going to have the relationship with that customer, and their bet is that they're able to make enough money off of its one out of every $14 that gets purchased. They're able to make enough money that that business model works too, and it supports a different customer segment.

1:06:50This is the first kind of example I think we've seen of a if you believe Ben's aggregation theory and that that has led to the fangs are really Amazon and Facebook and Google Apple's probably in a different category. This is the first check in that armor right like where the actual business model of a aggregator being Amazon could be Maybe not the seeds of its own undoing, but like Shopify is able to successfully compete precisely because it has a different...

1:07:27you know, product and business model. Yeah, but I think where I would really go with this is the big opportunity is the aggregator one like Amazon is a billion dollar market cap company and Shopify is richly valued at a, you know, supposedly, at a 30, so really what we're saying is there is an unaddressable opportunity by the aggregator in this market that also happens to be very, very large. Well, it depends, I think, how large brand first merchants continue to become. All right, listeners. Now is a great time to thank our longtime friend of the show, ServiceNow. If you are running a large enterprise, AI agents are likely spread across every team and deploying them is no longer the hard part. Yeah. The hard part is knowing what permissions they have, what employees are using them for, or what decisions AI is making. AI security for an enterprise at scale is not a small concern, like the risks

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1:08:53And ServiceNow can do this because they've spent more than 20 years building the operational backbone of the enterprise. The workflows, governance, approval, security controls, and institutional knowledge that power how work actually gets done across IT, HR, customer service, finance, and security. ServiceNow already runs more than 100.

1:09:12billion workflows annually and trillions of transactions for more than 85% of the Fortune 500. So when companies need a place to govern AI at enterprise scale, they're building on a platform at the center of how their business already operates. And in a future that isn't going to be one AI, it's going to be thousands of AI agents working across every function of the company. But the question is, who's managing them all?

1:09:35So if you're trying to turn AI ambition into real business outcomes and make it work safely, securely at scale, go check out servicenow.com slash acquired and tell them that Ben and David sent you. All right. So real quick, you know, one, what would have happened otherwise before we moved to playbook? I think the interesting thing here is like, we sued this so often in the last, you know, well, always on acquired, but especially in the past year, this company almost didn't happen. You know, they were like going to sell.

1:10:02snowboards on the internet was Toby and Scott's initial ambition. And so I think the interesting question is like, okay, if this company hadn't happened to like, what would have, I think it's, this people selling on the internet and fixing shovels to do that, that certainly would have happened. Would stripe be more than a payment processor? Would it also be a merchant?

1:10:22You know, a storefront, Wood Square, which Square is now starting to try to compete with Shopify online, Wood Square have done that earlier, and so then online and offline, or would it have been a totally different startup called Shopify, started by someone else entirely.

1:10:43Yeah, I think that's interesting. It was a strangely empty space. I mean, Toby talks about one of the hard things was that they didn't have a big competitor. Their competitors were these incumbents and really crappy experiences. So Yahoo stores and everyone else that he's ripped to pieces and you know, he kind of says like, we had to have a higher bar because we didn't have real competition. And so it is interesting. There was the strange low in the market where like, Vio Web was started sold to Yahoo. There were magento was around, but like, there wasn't another Sort of like low-end disruption e-commerce provider for like the better part of a decade and now you have people trying to compete with Shopify because it looks like a very real market But yeah, there there wasn't really anyone who would have come in and done exactly what they did when they did it otherwise Yeah, it's interesting. You know you mentioned magento. We haven't talked about them on this episode. I had initially assumed magento was an old school

1:11:40incumbent that Shopify was competing with. Are they? Are they not? No. My agenda was started by the folks from OS commerce in I think 2008. I want to say, but what they are, magenta, the strategy was not the right one. I can't wait. They started four years after Shopify. No. I know. Well, what they did, I think, haven't fully researched this yet, but it's an open source platform. I think they basically took the OS commerce tech.

1:12:07Open Source did and it started an open source company around that but the problem with open source software like that with how they were doing it was people had to take the software and host it and install it and either on-prem or whatever. But where Shopify was just like, yeah, we host, we're sad. So you don't have to deal with that. And so the people that were using Magento were like, they were trying to go sell to big existing users online. And so they're like, oh, use open source instead of closed source. But they missed this whole other bottoms up market that was started. It's not a low-end disruption play in the way that sort of the classic Clayton Christensen idea

1:12:45of serving this new up and coming market as a crappier toy type thing, it wasn't that at all. Yeah, it wasn't that at all. I think it comes back to Toby saying, we had this two-year essentially delay where I wasn't ready to take venture capital and needed to prove it to myself in the company that we were truly a growth company. And yet, still, nobody, no viable competitor popped up during that time. I really wonder why. Yeah.

1:13:15All right, playbook. Playbook, yeah, let's do it. I mentioned the way back machine, so I went and looked at their website from 2008 and I just had to share this quote, selling online with Shopify is easy. We take care of hosting bandwidth and security so you can focus on your business.

1:13:32It is amazing to me how value propositions change over time. If you were to start this company today, I surveyed some people who have started Shopify sites, and I said, why do you Shopify? Why is it so great? Why aren't you figuring out a different way to sell your stuff online? And people said, oh my gosh, the templates, the really clean UI, the modern plug-in ecosystem, the fact that payment processing is a total breeze. They have inventory management. I heard they're coming out with fulfillment.

1:14:00and like in 2008 the way that they were billing it was security hosting and bandwidth and I think it's just amazing that that you serve the needs of your customer as they grow you know and as your market grows totally well well back to you I mean what we're just talking about with magento back in 2008 like hosting was a man if you if you and I wanted to start a store selling acquired t-shirts you know and we had to spin up a server and install a magento package like oh my Well, if we wouldn't do that. I mean, we haven't even made it to install or set up a Shopify store. So yeah, right. Maybe this episode will inspire us. Okay. So my playbook on this one, it's struck going through this history here. You know, so many twists and turns as always, but Toby joining the core Rails team and creating typo.

1:14:53and then typo becoming a thing in the rails community actually was a huge huge competitive advantage that they had because when they then launched Shopify All of these people who have blogs that were on typo that maybe they might want to sell stuff on their blog or create a business around it, and all of these other developers that developers might want to start businesses and sell things online, they all knew of Toby, and they all knew what he was working on, and then all of a sudden it was like, oh cool, Toby's just shipped this new thing that lets us sell online. Maybe we should use that. Such a huge competitive advantage. Yeah.

1:15:36Yeah, that's a great point. Like distribution, we talked about this a lot on the show, and we think about it a lot as, you know, as venture capitalists. Like distribution and distribution advantages are not often talked about or thought through in the early stages of a startup, but they make the difference between becoming a big successful company that starts to get traction and a flywheel spinning versus, you know, just spinning your wheels. Yeah. Yeah, if you build it, they will come as just so, so rare.

1:16:04All right, I had one more and that's looking at the financials of this company as customer sell more Shopify makes more per dollar sold and I just want to pause and we can think about that for a moment The classic thing I'm always afraid of when we're starting a new company at PSL is Oh man, are we building something that will be really great for someone to get started and then when they have sufficient resources, they're going to build their own thing and they're going to move off of us. And it's a great business to get other people started, but then you don't get to keep their business over time. Well, as these businesses grow, Shopify actually makes more money off of them. This is amazing. Merchants pay for advanced services as they become larger and more sophisticated, so the effective take rate

1:16:49for Shopify actually goes up as their customers grow the business. And so it's amazing that they can keep pricing power and keep layering on through the platform that they've woven with the App Store and with the incredible ease that they provide in taking on a lot of things that these companies don't ever want to do themselves. It's incredible that they can grow that take rate as those businesses scale.

1:17:15Yeah. Well, it's so funny. I mean, go back to the original Marketplace take-rate business model didn't work for exactly the reason, Ben, that early stage startups who do that run a risk of that, and you're always afraid of that, of like, oh man, will our best customers be incentivized to leave us as we grow? They figured out a way to... And I think just as you said, it's...

1:17:37adding and layering in all these products and services and the platform and the point of sale and payments and all of that around the core offering where, as you start going, you need those and then it's just, well, it's easy to plug in Shopify solutions. It's got to have a ceiling, right? Because I hadn't really thought about this till now, but there's not a network effect between customers, like between merchants.

1:18:06the lock-in and the advantage all comes from customers, you know, merchants saying, we don't want to do this in-house. I think the thing that's allowed them to generate so much revenue and sort of expand as their customers expand is that that is deceptively large and complex. The set of things that all these different plugins do, you know, hosting and security and payments, like all this stuff is stuff people don't want to do, but like Apple would never host store.apple.com on Shopify. Like they actually, there is some ceiling for which above that, you actually do have the resources to do 100% of it yourself.

1:18:47even including fulfillment. So it's interesting thinking about it's not a lock-in network effect the way Facebook has a lock-in network effect. It's a platform network effect is actually a little bit weaker but it can support you up to a point. In my notes, I had a quote from Toby that I didn't talk about because it wasn't relevant as we were going through the story but I think it's relevant here.

1:19:11I don't think Toby actually thinks about Shopify as a network effect company. I think he thinks about it as a platform company, and that's subtle but different. He talks about this. He says, I read a book about Bill Gates pretty early in life when I was like 16 or so.

1:19:26And one thing that Bill said is that everyone in the world wants to be a platform. You should back in the platform to even Microsoft before network effects were popular. But Bill, obviously, and I've heard Bill say this too, you're only really a platform if the value of the ecosystem on top of the platform is larger than the company that owns the platform. And I think that's what's going on here with the Shopify quote unquote platform with payments powered by Stripe with now logistics that they're adding on. They're adding all of this value. So why do Shopify's merchant customers allow Shopify to take more percentage of incremental dollars over time? It's because the value that those merchants are getting from those services is greater than the margin they are giving to Shopify. Like if they would have to go do that.

1:20:13a stitch all that together themselves, the amount of margin they would have to give up is significantly higher than the margin that they give to Shopify by doing it all as an integrated platform. I think that's how it happens. So it ends up actually making the case for sort of the bundle economics of Shopify being the point of integration and the bundle of all these things. Exactly. Exactly. That's a different. That's a good way to slice it. All right. Should we do a quick value creation versus value capture here? Yeah.

1:20:41And this is a section that has one name and means two things. The first of which is are they able to capture a good amount of the value they create? Certainly. I mean, we keep talking about this one one 14th number. The second thing that I think is interesting is value creation in the world.

1:20:56on an absolute basis. So a value creation versus value destruction. And the reason we added this section was because with a lot of businesses, particularly recently sharing economy businesses, a lot of our listeners had argued, hey, you keep talking about how these companies have created all this market cap for themselves, but there's a chance it's value destructive in the world. And the thing that they're destroying is actually greater than what they've created for themselves.

1:21:20This is not at all the case in this company. Shopify has enabled so much innovation and so many creative entrepreneurs to become merchants and lower the barrier for entrepreneurship. I think it's undeniable that they have created net new value in the world. You'd really have to reach deep like...

1:21:42likes to try to argue that this is not net value creativ to the world. Yep. Yeah, I'm 100% with you. Okay, let's grade the IPO. For me, I mean, this is, if we think about the value of doing the IPO and doing it when they did.

1:22:05to me is just immense. This is an A bordering on A+. Because you could argue against it that they IPO'd too early before this massive expansion and perceived expansion in the market, and thus they could have taken less delusion had they gone public later. However, I think by going public when they did and getting on the map, most people didn't really know about Shopify out there. Certainly in the investor community, in the finance community, but I think also just...

1:22:35probably your average person didn't know. And then by doing it right at the cusp of the world going into this like D to C brand Instagram commerce influencer marketing and Shopify being at the center of all of that by being a public company. That helped also then on the other side of that by Shopify going up into the Unilever's and the Googles and the big companies out there being a public company certainly helped them on that and launching Shopify Plus and that's now a quarter of the business.

1:23:04This is no brainer at least a solid A in terms of what they were able to get out of going public when they did for me. Yep. That's a great, great point. Then the only question is, did they make good use of the capital that they raised in the IPO and sort of what did that allow them to do? I don't think there's anything magical about it. I think they spent it on sales and marketing and accelerated the growth of the company and subsequently have done very, very, very well in the investor community, obviously, and then very well with customers too. So I don't disagree with anything you said. It's interesting. They've made some a few small acquisitions over the years. They haven't made any meaningful acquisitions. I would think you would think they're going to make an all stock acquisition a big way here soon. Like if you were a capital allocator who was running this business right now, and it was valued where it was, I think you'd want to spend your stock on buying some interesting stuff.

1:24:02Yeah, well, maybe that could be a future acquired episode. Yep. All right. Carvouts? Let's do it. So I have two carvouts. The first, we've never done this on a car before, but our most recent investment here at Wave Quotapro, I spoke about them on our latest LP show. They are hiring for a bunch of roles, both engineers and for a head of product.

1:24:29they are a tech-enabled brokerage for scrap metal recycling. So if you talk about value creation versus value capture in the world, they are literally keeping metals of all types.

1:24:42out of landfills. The company is less than a year old, is already doing billions of dollars a month in GMV. They are hiring the technical team here in San Francisco to build up the back end. So the company is like, if you think about Flexport, if you think about Convoy or Uber Freight, like very similar type businesses, we're super excited to help them grow. So if you are either an engineer and want to work on a really early stage company, you know.

1:25:06exciting market that's growing quickly, hit me up in Slack and I'll send you on to the company. Or if you're an experienced product lead, ideally at a company like we were talking about Uber, Flexport, Convoy, Lyft, we would love to love to talk to you about Quattro Pro. Who would ever want to be a product lead at a fast growing company started by, you know, invested in by David Rosenthal? Well, there could certainly be worse things out there.

1:25:35And then my official carve out this time is Bill Gurley on Invest Like The Best. No way. I just literally mine. No. That's great. All right. Well, I'll let you take it then. No, no. Because I came up with the second one because I was like, I was thinking about it. And I've recommended so many episodes of Invest Like The Best that I was like, uh, so it's literally the one I have a strike through through that one that I have a second one. So take it away. But it's so damn good. It's so good. I mean, anytime Bill speaks, it's worth listening. But, um, In this one, he talks about a whole bunch of things, you know, across venture, the way he thinks about companies, he talks about a great kind of xy-axis chart that he thinks about evaluating the scalability of companies in marketplaces, very worth listening to, a masterclass as always. Yep, absolutely. And actually, especially relevant to this episode. Indeed.

1:26:30My carve-out is David last time we did carve-outs. You talked about a recent trip that you went on. Mine is a product that I use on a recent trip that I went on. I really liked to ride my bike, and I went on a trip to the San Juan Skyway, so it's a four-day bike route starting and ending until you ride Colorado. You're riding between...

1:26:49eight and 11,000 feet, and you're riding through the amazing Southwestern Colorado Mountains and Durango and Silverton and all these really incredible places. Of course, I had a lot of fun, but one of the things that I really like to do when doing these bike trips is take pictures. Of course, I lug my big Sony NEX6 around on my back, and it's fun to bust that thing out. I know those miles. Dude, yeah, I mean the telephoto, you gotta get that shot, but Another thing that I brought this time for the first time was moment lenses to put on my phone and take advantage of all the cool phone apps that there are, that number one, you can do the maybe dangerous thing of taking out your phone and taking some pictures while you're riding instead of me taking off my pack and busing out the big camera and doing the whole song and dance there. But also it enables me to do things like hyperlapse or all the different

1:27:48like Spector is an app that does these cool time lapses. And Moment has a time lapse feature in their app. But to give folks an idea, Moment makes these really, really beautiful and really high quality glass lenses that do telephoto, that do wide angle. That's the two that I brought. But they have a series of other lenses too that really turn your phone into a camera that you thought it could never be and do some really cool. I would say effects, but it's actually it uses physics and optics to change the light that's hitting the sensor on your phone. And super cool. Yeah, they're super small. You can I keep my backpack and I just use them in daily life. And I can't recommend getting some moment lenses enough. I think they're they're super fun. So that was my also a Seattle company, right? It is. It is. Led by great CEO Mark Barros. And I know a super super talented team over there. So I can't recommend it enough. And that's been my my toy of the month.

1:28:42I just can't believe that you lug your big DLSR around on your pictures. So it's funny. It's a mirrorless, but it kind of doesn't matter that it's a mirrorless because I also have the telephoto lens on it. So it's big and heavy anyway. Oh, man. Love it. All right. All right, listeners.

1:29:00Now is a great time to talk about one of our favorite companies, Statsig. Yes, there is a reason why the best product teams rely on Statsig, whether they are iterating on their core product features or shipping AI-powered experiences at scale. Yep. In the crazy speed of today's AI world, shipping fast is just table stakes now. It's basically trivial to build and deploy your app constantly. The real advantage is how quickly you learn what changes actually created value for customers. And how fast you can use that signal to guide what you shipped next. This is where Statsig comes in. It brings experimentation, feature flags, and product analytics into one unified system so teams can ship safely, test rigorously, and directly link what they changed to how users actually behaved. So if you want to make learning your competitive advantage, whether you're building new AI experiences or just evolving your existing core product, go to Statsig.com slash acquired to get started.

1:29:59All right, well listeners, thanks so much. We hope you enjoyed this episode. If you want to become a limited partner, subscribing gets you access to our bonus show where we dive deeper into the nitty gritty of building companies. To listen, you can click the link in the show notes or go to glow.fm slash acquired and all new listeners will get a seven day free trial. And you can listen right here in the podcast player of your choice. So with that, we'll see you next time. I'll see you next time.