A full transcript follows the video.
This podcast was recorded on Feb.15, 2017.
Mac Greer: It's Wednesday, February 15th. Welcome to Market Foolery. I'm Mac Greer, and joining me in studio, we have Jason Moser from Million Dollar Portfolio and David Kretzmann from Supernova. Gentlemen, welcome.
Jason Moser: Hey, man!
David Kretzmann: Hey, Mac!
Greer: How are you doing? Are you ready?
Kretzmann: We're ready to go here.
Moser: Always ready.
Greer: OK, let's begin with Warren Buffett. On Tuesday, Berkshire Hathaway reporting its latest portfolio news. Jason, some really interesting moves here. Berkshire really loading up on shares of Apple and unloading most of its Wal-Mart positions. They're also adding new stakes in Monsanto, Sirius XM, and Southwest Airlines.
Moser: Yeah, a lot of fascinating moves there. We talk a lot about watching the investors that we respect and the moves that they make. We never advocated just going and blindly following, but I think it's always interesting to see different perspectives on things. Personally, what really stood out to me was the dumping of the Wal-Mart shares. We've talked a lot about this before, how general retail is being disrupted. Amazon is really the company out there doing it. It's interesting, what the market is telling us is basically all you need to know. You look at Wal-Mart today, the market values it, it's somewhere in the neighborhood of $200 billion, and it's bringing in over $400 billion in sales every year. Well, Amazon brings in maybe a quarter of the total sales that Wal-Mart brings in, yet Amazon's market cap is double that of Wal-Mart. So, it's clear to see that the market, being that it's forward-looking, is looking into the future and thinking, this is the direction that things are going. Amazon is really the one leading the way. Wal-Mart got caught asleep at the wheel. And I think that now Wal-Mart is paying the price.
Kretzmann: I wonder if Berkshire, in the next three years, adds Amazon to its portfolio. They're warming up to tech with Apple. Maybe Amazon is next. To me, what really stuck out is, a couple weeks ago, Buffett, in an interview, he mentioned that since the election, Berkshire has invested about $12 billion, which is roughly 8% of that $150 billion or so portfolio that they have investing in public stocks. That's a lot to be investing as the market is hitting new highs. Obviously, we tend to think of Buffett and Berkshire as value investors. On the surface, you wouldn't expect those kind of investors to be investing quite a bit as the market is hitting new highs. So, I think that says a lot.
They also unloaded their stake in Deere and Verizon, and Kinder Morgan was another that we follow at the Fool. So, interesting to see Berkshire dumping Kinder Morgan after less than a year of holding it -- Kinder Morgan is an infrastructure company, a natural gas and oil pipeline -- then, to be loading up on airlines, which tend to benefit from lower energy prices. So, maybe they're seeing something or expecting something with energy prices to remain low, which would benefit airlines and could hurt some energy infrastructure companies like Kinder Morgan.
Greer: So, if I am an investor and I'm considering some of these stocks, to what extent should I try to mimic what Buffett and Berkshire are doing? Because obviously, he's had an incredible track record. Should I mimic some of these moves? Or is he playing a different game?
Kretzmann: I don't think you ever want to blindly follow any investor. I think what you want to mimic is the process and the strategy. Obviously, we do that at the Fool with David and Tom Gardner, they're great investors here. Peter Lynch, Warren Buffett. If you're just blindly following any investor, you're not really going to learn a whole lot as an investor. You really want to understand the thought process that goes behind those decisions. I think that's what's key to be a successful investor.
Moser: Yeah, I think a very good example of that -- because I think David is spot on there -- if we look at a business like Markel, which we talk about often here, and we refer to it as a baby Berkshire in many ways, because the business is set up very much in the same way. It's an insurance business that owns a portfolio of stocks, and now holding businesses as well. Tom Gayner, the co-CEO, generally, he's known for the investing success there at the company. If you look at the holdings in Markel's portfolio, they own Apple. They also own Amazon. They don't own Wal-Mart. They own Facebook.
So, there's a business where they do a lot of things that Berkshire does as well, but even they aren't mimicking those moves, despite the fact that Gayner and company are professed Berkshire fans, they have a wonderful brunch they're out there the day after the Berkshire Hathaway meeting. There's a lot of similarities in the business there. It's very small comparatively speaking, but you can see there as an example in Markel's portfolio. Sure, they follow some of Buffett's leads there, but they also do their own thinking and come to their own conclusions. We encourage investors out there to do the same.
Greer: Guys, let's talk Shopify. Shares of the e-commerce platform up big on Wednesday after the company reported better than expected earnings. David, I think for a lot of investors, Shopify is not exactly a household name. The stock has really been on a tear, though.
Kretzmann: Yeah, Shopify is a company that's in the background, but you've probably interacted with its platform in some shape or form. The company serves almost 400,000 merchants, mainly small and mid-size businesses. So, if you're a small business looking to get online and have an online shopping cart, Shopify is one of the platforms to go to if you're looking to set up a shopping cart, set up that online platform to offer goods and services online. A lot of smaller businesses are among Shopify's customer base. This was a great quarter. The company is having no problem growing quickly right now. Sales were up 86%, they added 50,000 merchants, bringing that total to 375,000 merchants under their umbrella. That's up more than 50% from where they were at the end of 2015.
So, a lot of growth here. And the market opportunity here is still pretty big, and I think that's why, even though the stock is trading at a premium valuation, this level of growth theoretically could continue for a while. If you look at the key geographies where Shopify operates today, there are about 10 million merchants with less than 500 employees in those markets. That's really the key demographic that Shopify is going after. And every time, the average revenue per merchant on Shopify's platform is above $1,200 now. That would suggest a market size of about $10 billion. So, still a lot of room to run here, but the stock is still pricey.
Moser: Yeah. We've looked at Shopify for MDP, it's obviously a recommendation in a number of our services here. A very fascinating business from a number of different perspectives. There are a couple of things, questions I still need answers to here. No. 1 is just from the profitability perspective. They are growing, still not profitable, not cash flow positive. I wonder when is all of that going to change? Because I think if it does change, when it does change, it could be a tremendous catalyst, but I also wonder how much the market is pricing into there today.
But the other question I have is just in regard to third-party relationships. With everything that Shopify does well, there is a provider that's helping them along the way. And I'll use payments as an example. They contract with Stripe, I believe, as a provider on the payment side. At some point, Stripe is going to look to become profitable, and they're going to try to exercise a little pricing power, which, in turn, is going to flow through Shopify's financials, unless they figure out a way to diversify from that provider as well. So, I just wonder, from the perspective of those third-party providers, how that plays out on this business down the road, and its profitability.
Greer: And along those lines, they've also got one of those frenemy dynamics with Amazon. They compete with Amazon, but they're obviously a partner of Amazon's. So, David, when you think about that frenemy dynamic, as a potential investor in Shopify, how much should that concern you?
Kretzmann: I think it's something to be aware of. I think some people gave Shopify a little bit more credit than it deserves for the transition Amazon made from its web store business. In 2010, Amazon launched a similar business to what Shopify has done. It was a few years after Shopify had started, and Amazon essentially said, "We have a lot of third-party sellers on Amazon and we want to build a web store for those sellers to have their own independent website," which is essentially what Shopify did. Amazon shut that down in 2016 and basically made it easy for those Amazon webstore sellers to transition or migrate to Shopify's platform. So, Shopify called itself the preferred migration partner. But what a lot of people don't say is that there were only about 1,000 merchants on Amazon's platform last year. So, it's a win for Shopify, but it's not a huge catalyst, I don't think.
You want to be aware of all those dynamics. To a similar point, it's not just with Amazon, it's also with those third-party merchants, the payments providers, the shipping solutions, because you have a lot of different companies providing those services. You have other online marketplaces like Etsy, which are branching more and more into Shopify's territory. So, I can see why people are excited about the business, because on the surface, this is a potentially very attractive business, because it's recurring revenue, it's a subscription fee, Shopify is bringing in monthly subscription revenue. If they can retain those enterprises over time, that could be very profitable. But up to this point, the company's losses are expanding, still burning cash. It's a riskier stock, still.
Greer: OK, guys, shares of Fossil down big on Wednesday. When I think Fossil ... OK, I don't really think Fossil. But if I were to think Fossil, I think watches.
Moser: You didn't get your wife something from Fossil for Valentine's Day, Mac?
Greer: What's the story here with Fossil, Jason?
Moser: Listen, leather accessories and watches and tchotchke, if that doesn't scream huge market opportunity, Mac, I don't know what does. This is a business that has been in a lot of trouble here for a while. This is nothing new. I was looking at this back in May of 2016 because of some revised guidance to the downside that really took its toll on the stock. I think we're seeing more of the same here. The bottom line is, retail is tough, but when you're in fashion retail and tchotchke fashion retail, I think it's even more difficult. There's certainly no real pricing power in that market.
And Fossil is not known for that aspirational brand that people will pay up for. So, I respect the fact that management is attempting to diversify the revenue streams somewhat. They made an acquisition a little while back to get some exposure to the connected fitness realm. I don't know that I necessarily look at that as the biggest opportunity, either. I mean, it was Misfit, I believe, is the name of the company they acquired. If you look in the release they just put out this morning, they say, "We'll double our efforts and wearables by launching over 300 SKUs, introducing new brands to the platform and enhancing engineering to enable additional functionality and more stylish and slimmer cases."
Greer: You sound skeptical.
Moser: Well, I think there's reason to be skeptical. We've seen what happened with Fitbit. We've seen a less than stellar response to other smartwatch products. I think it's fair to question this strategy. And I don't know that it's necessarily the solution for this company. If you look at the top line, it's going in the wrong direction. Margins, going in the wrong direction. This is not something that just happened overnight. It's been happening over the past seven years. I think investors would be very wise to avoid this one.
Greer: And you're not wearing a watch. David ...
Moser: I am wearing a watch. Not a smartwatch, though.
Greer: Oh, you are wearing a watch, sorry.
Moser: This is a gift from my lovely wife when I turned 40.
Greer: You're old school, though. People aren't wearing watches as much, right?
Moser: Maybe not, yeah. I think that's the challenge. You either have your watch aficionados, people who like watches, who probably aren't really going to want to wear something like that, and you have people who don't wear watches at all and you have to convince them to put something on their wrist and they're probably not going to, a la Mac Greer. Or, you have people who are looking for, maybe, a dedicated fitness device, and I think there are more compelling options out there. So, these guys are fighting an uphill battle.
Kretzmann: Apple Watch can get a bad rap, but since it came onto the scene a couple years ago, it still captures over 50% market share in the smartwatch category. And I think the Apple Watch Series 2 is really the crown jewel as far as smartwatches go. Anecdotally, it's interesting seeing Fitbit, Under Armour, and Fossil all getting crushed this quarter. Obviously, they're all in connected fitness in a different way. But, yeah, I was out at CES early January and Fossil was one of the many connected fitness wearable device companies out there. And that's just a category that's getting very crowded, and it's hard to distinguish what's different between what Fitbit, Under Armour, or Fossil are doing.
Moser: And I'll tell you, just from my experience in the golf business years ago, because part of what I did as a golf professional was run the golf shops, that's a retail business and you have to basically stock it with the stuff that people want. And there was a dynamic to it for this type of stuff. It was Brighton, most of the demand there on the club side was for Brighton keychains, watches, purses, things like that. There just is no pricing in this. I mean, inevitably, it all stayed on the shelves until Christmas time when we put everything on sale. So, it's just a really difficult market, and it's not terribly shocking to see Fossil having a tough time.
Kretzmann: I wouldn't rush to see it as a buying opportunity, either. The company is still producing a good amount of free cash flow. So, on the surface, you might be inclined to see this. Maybe it'll bounce back at some point. But revenue has dropped each year since 2014, and expenses have continued to go up, so you've seen margins get crushed. What really highlights it is, the earnings per share was $7.10 in 2014, and for 2017, management is guiding for earnings per share of ($0.50) to $0.20.
Greer: [whistles] That's quite a range.
Kretzmann: Things are going to get a lot worse before they get better, if ever.
Greer: Guys, let's conclude here with SodaStream. This is a stock that has been incredibly volatile over the last couple years. And we have some good news, and the stock up big on Wednesday after reporting better-than-expected earnings. Jason, forget soda, it seems like the story here is sparkling water.
Moser: Well, I liked our conversation earlier this morning: maybe this company, really, it all just boils down to the wrong name, right?
Greer: Terrible name.
Moser: We're sitting here ragging on soda, it seems like, quarter in and quarter out. Maybe it needs to be something like SeltzerStream or whatever. But, I think the real beauty to this business, in the beginning, it's one that we've covered here in the Foolish universe for a while ...
Greer: And what do they do, for people who don't know the company?
Moser: SodaStream basically sells you these machines so that you can make seltzer or soda at home. You can carbonate your own water and make your own sodas at home. And on the surface, it sounds like a pretty neat idea, you don't have to go lugging around 12 packs of Diet Coke anymore, you can just do it all right there at home.
Greer: I hate that idea. I'm sorry, I don't find that appealing at all on the surface.
Moser: [laughs] What, having the machine there?
Greer: Yeah! I don't drink soda, but I wouldn't want to make my own soda if I drank soda. That's like making your own toothpaste. Why? Why?
Moser: I don't disagree.
Greer: So, no, not on the surface, take it back. [laughs]
Moser: Being a Diet Coke guy, SodaStream, as a product, never attracted me from the beginning. Now, I will also say I made a big shift in trying to drink more seltzer. But even as that has occurred, I still have zero interest in having one of these SodaStreams on my counter at home because of the fact that you have to keep on replacing that CO2 cartridge. It's just constant maintenance. And that's the crux of the question here. The beauty of the model has always been the razorblade nature -- the razor being the machine and the blades being the consumables that you use for the machine, the CO2 cartridges, the flavors that you use for whatever you're wanting to drink. And for a long time, it seemed like maybe this had promise. Certainly has gained a lot of traction overseas. U.S., I think, the U.S. market was viewed as a potential opportunity and that never really played out so much, and the stock got pummeled over the past few years because of that.
Interesting to see, they're making a little bit of a comeback here. If you look at the numbers, there was about 22.4% unit growth for the quarter, which translated into 37% growth in revenue for those machines. So, they're actually selling machines, and they're getting some decent pricing on them. The growth in the consumables, which is the higher-margin, was less impressive, up 5%. This kind of gets back to the initial question that we always had with these things -- it's one thing to give this thing as a gift to someone, where it's like, "Oh, that's a neat machine," or whatever. But ultimately, at some point, does it not just end up collecting dust on your kitchen counter? And I think that's the hurdle that they still have to clear. This was a decent quarter, I'm not sure it necessarily indicates that they have cleared this hurdle and everything is better again.
Greer: David, looking at the stock chart for the last few years, it's gone from $40 up to around $70 all the way down to $13, and now it's back around $50.
Kretzmann: Yeah, across $50s. I think SodaStream, it's a great time to take a step back and see a lesson there, that you don't want to cut the future winner too early. SodaStream, I think the verdict is still out whether or not it is a winner, but I would much rather hold a loser too long than sell a winner too early. In Rule Breakers, we sold SodaStream right around $13 a year or two ago. Since then, the stock has come roaring back almost four times over the past year. So, I think there is something to be said for the strategy of just buying and forgetting. Even if you have a loser, if it's a small percentage of your portfolio, there is something to be said for just letting that ride.
With SodaStream, it's interesting to see what has enabled this company to come back. I think part of that is the repositioning of the product, focusing less on a soda alternative and more a soda replacement, or that sparkling water aspect of the product. But the company always had a pretty stable business in Europe. Europe, right now, the Western Europe business is still double the business that SodaStream generates in the Americas. Right now, in America, the household penetration -- so, the number of households with a SodaStream in it -- is about 1.5%. In Europe, that number is over 10%. So, there is still a runway, if SodaStream can somehow crack that code here in the U.S. There is still a runway for growth there. But in the meantime, that European business is still growing. I think there's still a lot to like here. The margins are really increasing. But I agree with J-Mo that you really want to see those consumables, those repeat purchases, increase because I think that's really what matters most for long-term shareholders.
Greer: OK, you mentioned the reposition. I want to come up with a better name. Let's go around the horn. Right now, SodaStream, I think soda, for too many people, has a negative connotation now. So, what are you changing the name to?
Moser: FizzBot, I like that.
Kretzmann: 21st century.
Greer: I like it. Jason?
Moser: I'll go with SeltzerStream, honestly. I feel like soda conveys this unhealthy vibe that we're seeing in the soda market. Soda is either a bad drink, or it's what George Costanza wants to name his baby on Seinfeld. So, skate where the puck is going, as they say. SeltzerStream.
Greer: I've got two, ready? WellStream, like, I'm feeling well.
Moser: It sounds like you just got bought by Wells Fargo. That's not in a good way.
Kretzmann: You have a backup.
Greer: Here's the winner: FunStream.
Kretzmann: It's like a party or something.
Moser: That's like a super squirter that your kids shoot each other with in the backyard.
Greer: Who doesn't like fun?
Kretzmann: I feel like you would see that at Chuck E. Cheese or something.
Greer: Hey, it's brainstorming. There are no wrong ideas at this point. OK, David, Jason, thanks for joining us today.
Kretzmann: Thanks, Mac!
Greer: 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 it for this edition of Market Foolery. The show is mixed by Dan Boyd. I'm Mac Greer, thanks for listening and we will see you tomorrow!