A Market Foolery Picnic With Soda, Beer, and (Silicon) Chips

On this episode of Market Foolery, Chris Hill is joined by Motley Fool analyst Jason Moser as they discuss the reasons why video chip specialist Ambarella (AMBA 3.18%) took a hit post-earnings; why an analyst downgrade of both Coca-Cola (KO 1.50%) and PepsiCo (PEP 3.62%) came with two very different messages; and what the outlook is for craft beer leader Boston Beer (SAM 2.52%). And for something fun, the pair also talk about the all-time highs being set by Dave & Buster's (PLAY -4.99%) and its long-term prospects.

A full transcript follows the video.

This video was recorded on June 7, 2017.

Chris Hill: It's Wednesday, June 7th. Welcome to Market Foolery. I'm Chris Hill. Joining me in studio today, from Million Dollar Portfolio, Jason Moser. How are you?

Jason Moser: I'm doing great. How about you?

Hill: I'm good. I was saying just before we started, we're having a very social video kind of week here on Market Foolery. Yesterday we did a Facebook Live.

Moser: It's a social world.

Hill: It is. And today, this is being video streamed on the Twitter via Periscope.

Moser: Why not? We have people who follow us on Twitter.

Hill: We do. We love the listeners, we love all of our listeners. A question we get from time to time is, do you do much editing on the podcast? How long does it take? And generally, we like to think of these as one-take productions. We want to make this as easy for our producer, Dan Boyd, as possible, so we try to make sure there's no editing involved. But the way to see for yourself whether or not there's any editing involved is you can come by Fool HQ, as anyone is welcome to do, to catch a taping. Or you can be on Twitter while we're doing this.

Moser: And we get that question a lot. I think that's the good part about having worked together for so long. You kind of get into a groove and know how to respond to each other's questions and answers and jokes and whatnot, and you can make these things happen without having to do too much cutting up.

Hill: Exactly. So, we're going to go heavy on beverages today. We're going to talk about the beer industry, we're going to talk about the soda industry. We have to start with Ambarella, which is one of the biggest losers on the NASDAQ today. This is the chip maker, key supplier to GoPro. Ambarella's first quarter results looked OK, but their guidance for the current quarter is what sent Wall Street headed for the exits.

Moser: Yeah, I think you pretty much said it in a nutshell there, key supplier to GoPro. So that should probably have you running in the other direction on its own.

Hill: Not key supplier to Apple.

Moser: [laughs] And I think what we saw it with a company like InvenSense is that if you are a supplier to Apple, that doesn't necessarily mean it's going to be all sunshine and lollipops, either. But with Ambarella, we talk a lot about trying to learn from mistakes, learn from businesses past and see why history might not repeat itself. It certainly rhymes in some cases. I think we may be seeing that same sort of thing playing out here with Ambarella as we saw with InvenSense. We owned Ambarella for a time in Million Dollar Portfolio. it was an interesting company. We thought there was a lot of potential there because of this move toward video, because of the fact that they were such a key supplier to GoPro. And that story quickly changed once we saw GoPro falling off the cliff. Ambarella, really sort of the one-two punch there. Not only are they getting hit on that supply side as a provider of chips to GoPro, but the problem with this technology, they have these systems on a chip hardware that they're selling, they're constantly having to figure out ways to innovate and get better.

There's always someone out there in this space that comes up with some sort of new technology that's a little bit better, a little bit faster, it produces a better picture, whatever it may be. So we sold in MDP, because we saw this picture where sales growth was starting to slow down. And typically, with a company like this, when sales growth starts to slow down, they're going to have to start conceding a little bit on pricing in order to get that product out there. And when you're conceding on your pricing in any capacity, and the company that you're supplying a lot of your product to is really seeing a major slowdown as well, those margins start getting squeezed pretty hard, too. And that's what has the market really down today on the stock. I think the biggest problem is the forward-looking picture. While the quarter itself wasn't all that bad -- I think they actually beat expectations on both fronts -- it's the picture going forward, and the market is starting to look at this and say, woah, maybe this is something where the path to success isn't quite as clear or as bright as perhaps we once thought? I really can't help but think this is going to be another InvenSense story. I don't know that it's a stock that I'd put up there as one I'd want to buy, because it's such a tough space. Scale is really the biggest advantage in this business. Ambarella, InvenSense, those are not companies that have that scale when you compare them to companies like Intel or Qualcomm.

Hill: So we get this question a lot, about entry point, what you're going to pay for a stock. And a lot of times, the question comes in the form of, I really like company X, the stock keeps going up, should I buy now or wait for a pullback so I can get a better entry point? You don't look at Ambarella falling 10% today and say ... unless it's just a really small --

Moser: I think, if you want to look at it from that perspective, you need to be able to identify the catalyst that's going to take this thing in the other direction. The problem is, that's not so easy to recognize, especially when it comes to technology like this, because it's really difficult to see what new technology is coming down the pike. That's not really what we specialize in, and not a lot of people are so capable to see around the corner. So I tend to look at something like this and think, it's not even like it's that cheap of a stock still, when you look at the fact that sales are slowing down and margins are being squeezed a little bit. This is one of those where you think, maybe there's a value trap here where, yeah, it's nice to buy on dips, but make sure that when you buy on that dip that there's a catalyst that gets this thing going back in the other direction. I just don't know that we can identify the catalyst with Ambarella today.

Hill: Dave & Buster's is hitting a new high after first quarter profits came in higher than expected. Their same-store sales were a little over 2%. That was lower than analysts were looking for. I get that, but I look at this environment, I look at the restaurant space, and I think the stronger headline is, Dave & Buster's had positive comps.

Moser: Yes. You can't argue with that. It was 2.2% comps in the face of a restaurant industry right now that is having a difficult time figuring out what direction it needs to head. Again, we go back to what we were talking about with InvenSense and Ambarella, I think that on the surface, Dave and Buster's had a nice quarter here. Most of that growth on the top line came from opening new stores, though, even though they had positive comps. Really, most of that growth came from new stores. When we look at Dave and Buster's today, they have about 100 stores, and they see their opportunity in North America, the U.S. and Canada, as about 200 stores. So, they're basically halfway there. We're watching something play out here already with Buffalo Wild Wings. Sally Smith leaving notwithstanding, before that news came out, we knew that Buffalo Wild Wings was starting to hit a little bit of a ceiling there as far as growth goes. So, identifying what is it that's separated Buffalo Wild Wings for so long? And it wasn't the food, it was the experience. It was the fact that you could go into one of those restaurants and there were going to be 60 TVs and they were showing you virtually any game you wanted to see. I would make the argument, and I've never been to Dave & Buster's, but I don't think what separates them is the food. I think it's pretty replicable. What separates them is the experience. That's why we see 55% or so of their revenue coming from the Amusements side of that business. So it's an experience-based story. And I think what you have to look at here is, based on the market opportunity, how many stores they had to open, it's maybe 100 more. Perhaps that's a little bit of an overestimation, too. I think a lot of times these companies overestimate the actual market opportunity. They're going to open probably 10 stores a year, so it's going to take them 8 to 10 years to get there, if that prediction is actually correct.

Again, when you look at what separates them, just being the experience, and given all of the dollars that are out there competing for our attention today in the entertainment space, I don't know that I look at Dave & Buster's as necessarily the most attractive opportunity to go for. I appreciate that they've done well to this point. But again, with investing, we're looking forward. And you have to be thinking five years down the line, what does this company look like? Five years down the line, they probably have 150 stores, maybe a little bit less or a little bit more. But I don't know necessarily that at that point in time the market is going to be looking at this and saying, yeah, this is just a revolutionary company that is changing the face -- I mean, restaurants are a very difficult business, especially to really gain a tremendously loyal following. So need experience, I think they're doing a lot of good things to get the business where it is today. I look at what they're doing right now with repurchasing shares, and I have to push back on them a little. I hate to see a company this young in its public life buying back as much stock as they're buying back.

Hill: I was surprised by that, too. And it's not like they're buying a ton of stock, but just the fact that they're buying any, and as you said, as young a company as it is, I saw that in the release and I was like, wait, why are they spending $1 repurchasing stock?

Moser: I don't know. I think sometimes these young management teams think that it creates a shareholder-friendly headline. People generally look at that and their first take is like, "Oh, they're buying back shares, it must be a compelling value. Shareholder friendly management team there." We've seen, there's all sorts of proof out there that, for the most part, management teams tend to get share buybacks wrong. And it's very clear, these guys are buying back shares of the stock at an all-time high, they have net debt on the balance sheet, and they still have a lot of growth that they need to fund. I just don't think it's a good decision. I don't like seeing it. So for me, that's almost the nail in the coffin. I feel like, if I'm going to invest in a restaurant, this isn't going to be the first one I touch.

Hill: And as we often say, if you're buying back stock, sometimes that's an indication that you don't have a better idea of what to do with that money. And when you look at the debt and the opportunity in terms of opening stores -- and I'm not even suggesting that Dave & Buster's should be looking to ramp up in a significant way the speed with which they are opening new locations. But just sock that away. Even if you just put it toward paying off a little bit of that debt. Now, on the flip side, give them credit for their margins, because they grew their margins. And yeah, 55% is coming from the Amusements side. They also sell alcohol. And that's always high margin.

Moser: Yeah, I think you're right there. 

Hill: Unless you're doing it wrong. If you're selling alcohol and you're not doing it in a high margin way, you're doing it wrong.

Moser: They are doing a lot of things right. And they do have a good loyalty program that I think brings back customers. Again, though, it's a business that requires a lot of capital, because they have to stock those restaurants with all sorts of games and entertainment devices and whatnot. So they're not cheap to open. And like you said, I think at this point in the game, there's got to be something more you can do with that money than just buying back stock at all-time highs. And then you look at the balance sheet and you actually look at the share count outstanding, it's going up, not down. So all things considered, if we look at comparable there with Chipotle, when we're talking about buying back shares, we put Chipotle through the wringer here over the last 18 months, and they deserved it. They screwed up big time. And it took them a little while to actually come to grips with it and communicate it well. But all throughout that, they did a really good job of buying back that stock at seriously depressed levels. So in hindsight, when we look at what Chipotle did in buying back a lot of their shares, assuming this recovery continues and there are no more health scares, that would be considered a very shrewd use of capital. Also, when you consider, they have a stacked-with-cash balance sheet with no real debt to speak of. So those are the two ends of the spectrum there. Chipotle is certainly a much more mature company, whereas Dave & Buster's is not. Yeah, like you said, I think there's probably a better use for that capital.

Hill: BMO Capital put out a note this morning downgrading both Pepsi and Coca-Cola, and I wanted to get your thoughts on this, because what struck me was how very clear the analysts at BMO Capital were about differentiating between the two businesses, even though both were downgraded slightly. They went out of their way to say, essentially, "We think Pepsi can grow earnings, and we don't think Coca-Cola can. We look at Coca-Cola as essentially a safety stock. It's a stock where you can park your money and you're going to do better than bonds, and you might get a little appreciation, but mainly you're going to get a dividend. But we don't view it the same as Pepsi." And on the one hand, I agree with that. And somehow, I'm still a little surprised at that, only because for so long, we have looked at these two businesses together in tandem. That at various points in their history, one has outperformed the other. But this is the first time I can think of where there's this real divergence and the stock appreciation run is over for Coca-Cola.

Moser: There's an argument to be made there. 

Hill: They're making it.

Moser: I tend to agree with that. For a long time, perhaps it was my Georgia roots had me favoring Coca-Cola, just because for so long it's been such a no-brainer and such a big winner. But to your point there, I do think that Coca-Cola has become sort of like the IBM type stock where anybody can go buy it. You're not going to sit there and thumb your nose at it. You're going to be like, "Oh, you bought Coca-Cola. It's a great American brand, tremendous distribution, global presence, you'll probably do just fine." It's not going to be some terribly appreciative stock, but it's going to be one where you get a dividend. I think that Pepsi, on the other hand, certainly has more opportunity, particularly when considering the diversity of the business on the food side, the salty snacks, and I think Quaker is a part of it, is that right?

Hill: Yeah. Part of Frito-Lay.

Moser: Yeah. I think the Frito-Lay side of the business really offers them a lot of additional incremental revenue opportunity that maybe Coca-Cola doesn't see today. I will say, the one catalyst that could be there for Coca-Cola down the line is this Honest Tea brand they own. And Honest Tea just started out as just tea. They are building that business out. It's becoming a more and more important driver of the business as time goes on. They are going to be rolling out more and more in the way of food. That could certainly be a nice little catalyst. Now, Coca-Cola is a very big business, and it's not going to be something that impacts the bottom line overnight. But I think if you gave me the choice between these two stocks today, I would go with Pepsi, because I do think there's a bit more upside opportunity in the stock, while still reeling in a nice dividend. And, hey, I love the salty snacks, Chris. I'm just a salty snacks kind of guy.

Hill: And they didn't go out of their way to say this, but part of my takeaway from reading through this was, maybe Coca-Cola no longer has a place in your stock portfolio, but you can make a pretty good case that it can replace your bonds. That if you have any sort of bonds that you're holding on to, Coca-Cola isn't going away, and it's going to be safe, and you are going to get that dividend and you're going to get a better return than with a 10-year Treasury.

Moser: Yeah. And I don't want listeners or viewers to hear us talking about this and think, "Now I have to sell my Coca-Cola or my Pepsi." These were downgrades from one firm from market-outperform to market-perform. These were essentially valuation-based downgrades. So let's remember that, let's keep it all in perspective. I think they're based more on the shorter-term price targets as opposed to the longer-term fundamentals of the business. These are still very good businesses with tremendous brands, tremendous distribution networks, and by far and away, tremendous global footprint on both sides. They're good holdings. But yeah, they're not going to be the same type of growth story that perhaps they were a decade ago. But they can still be very good bedrock holdings if you have them.

Hill: Our email address is [email protected]. From Sal Miragliotta in the 908 -- I think that's Jersey. "The last two years have not been kind to Boston Beer shareholders as we have seen the stock drop below $150 a share. I've been waiting/hoping for a big move out of Boston Beer, and I've seen nothing. They've sat on the sidelines as big brewers gobble up small craft brewers. Their strategy of 'wait until the small guys die' won't pan out if there's a chance those guys are sent life preservers with motors so they can expand and distribute through the big guys. The successful ones are being purchased for amazing sums of money. What are your thoughts? I used to trust Management's direction, but I am becoming increasingly concerned for a company with virtually no debt. I would love to see them invest in small craft brewers, whether through buying out or ownership stakes." That's a great question, particularly in the wake of what we were talking about with, how do companies use money? Because we love to look at businesses, but as we say all the time, people are running these businesses, and one of the decisions these people make running the businesses is, how do they allocate capital? And in the case of Boston Beer, we've talked about this before, some have gone out and said, "Hey, Ballast Point, we'll spend a billion dollars on that." So, you can applaud Boston Beer for not taking out a huge checkbook and doing that. But to Sal's point, they have the money.

Moser: They do.

Hill: So I guess my first question is, he's starting to waver on management. Where are you on Boston Beer's management right now, in terms of what you've seen over the last couple of years?

Moser: Sal, as a shareholder of Boston Beer myself, I feel your pain. I would say to you -- this has been a very frustrating investment from the perspective of, it's becoming more and more apparent that founder Jim Koch is more inclined to just batten down the hatches and ride this storm out, versus trying to get it there and actively do something to make something happen. I think we've been hit with this tremendous craft beer revolution, so to speak. And what it's done is taken craft beer to the local level, which has been great if you're a beer fan, because there's all sorts of local flavors out there, and people really enjoy being able to support their own local breweries. And I think there's a future where Boston Beer exists. But it's hard for me to see the case for buying shares today, because I think it's going to take a while for anything to happen. Jim Koch's thrown some clues out there, at least, that he's going to wait this thing out. He talked about an example with Corona at a point in time where over the past eight years, Corona's depletions had been down, and they only got back to their 2006 to 2007 levels recently. So they more or less just kept on investing in the brand and waiting it out, and volumes came back eventually. But that took a lot of time. And obviously, Corona is not just one brand, it's part of Constellation, which owns a lot of brands including Ballast Point. Let's be clear, buying Ballast Point for $1 billion was absolutely unreasonable. Now, if you are a Ballast Point owner, you have to take that deal. You just have to take that deal. Craft roots be damned, that's $1 billion, you can't turn that down. 

So from Koch's perspective, he is very much a craft beer guy. I don't think he wants to become part of something bigger. And there's been a lot of good literature out there recently about craft beer, and how the big brewers, their strategy at this point -- we're talking about Anheuser-Busch InBev and Miller, companies like that -- their strategy is basically to marginalize the craft beer market. Buy these little craft beer labels, take them to market, cut the prices, and more or less just whittle down that perception between your Budweisers and your craft beers of the world. So, I think that has really put Boston Beer in a tough spot. And I don't know that there's an easy solution. What I would love to see them do is invest in some new craft brands, and become what I liken to the Buffett of craft beer. I think there's an interesting opportunity for Koch to do that. But by the same token, he's not going to do that in the face of these really robust valuations today. And they've said as much on the call. So they're not going to go out there and make acquisitions just for acquisitions' sake. He says between the two choices here, of making acquisitions of high-priced companies or just buying back their own stock at depressed levels, they're going to buy back their own stock. I admire that. At least they're doing the right thing in saying, "We feel like our stock represents a compelling value, we're going to buy more of that stock back, try to return more value to shareholders that way, and play the waiting game." As a shareholder, I'm going to keep my shares because I don't need to sell them, and I think there's value there in the brand and the distribution, the facilities that they have. But I think it's going to be a much longer story to play out than perhaps we anticipated even two or three years ago.

Hill: Sal mentioned the price of Boston Beer's stock, just to put it in percentage terms, over the last two years, the S&P 500 up about 16%. During that same time period, Boston Beer shares down 45%. So, 60% trailing the market there.

Moser: Yeah. And they're looking for a new CEO, too. Martin Roper is getting ready to step down. They brought in a new chief marketing officer and they're trying to do some rebranding. I think, if you've noticed, there's new labeling on the bottles. I think they're pursuing some more different types of flavors. They really dropped the ball this spring with their new seasonal offering, so hopefully we'll see a little bit of a better performance this summer with their summer ale, because that's always, traditionally, a strong performer. But there's a lot of challenges out there for these guys right now. It's not going to be an easy solution. But I think in order for them to grow in a meaningful way, they're going to have to add new craft brands to that portfolio at some point or another. It's just anyone's guess as to when that is. But I think we're going to really have to wait to see some of these valuations come back to earth. 

Hill: Jason Moser, thanks for being here!

Moser: Thank you!

Hill: As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's going to do it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening, we'll see you next time!