Is Stitch Fix’s 30% Nosedive a Buying Opportunity, or a Preview of More Pain to Come?

In today's Market Foolery, host Chris Hill and Motley Fool contributor Bill Mann talk about the market's biggest news. Amazon (AMZN -2.53%) raises its minimum wage to $15 an hour -- fantastic for workers, less fantastic for the goliath's competitors. Pepsi's (PEP 0.48%) CEO Indra Nooyi won't leave the company with a bang this quarter. Let her long-term strategies say more about her time there. Stitch Fix (SFIX -2.06%) lost a whopping 30% after reporting earnings. What went so wrong, and is this more of a buying opportunity or a yellow flag? Game of Thrones fans have a long time to wait for a series finale, but White Walker whiskey could keep some of them warm this winter. Tune in and find out more.

A full transcript follows the video.

This video was recorded on Oct. 2, 2018.

Chris Hill: It's Tuesday, October 2. Welcome to Market Foolery! I'm Chris Hill. Joining me in studio, first time in a long time, Bill Mann in the house!

Bill Mann: Way too long!

Hill: Way too long! 

Mann: I've missed you so!

Hill: [laughs] That's why I had you back.

Mann: I love it! How are you?

Hill: I'm good. We're going to get to some earnings. We're going get to some wage news that is making headlines. We're also going to get to your most recent trip. I know you want to mention that. Let's start with Pepsi, though, and Pepsi's third quarter. I'm not a Pepsi shareholder. I was kind of hoping this was going to be a great quarter only because this was the last quarter for Indra Nooyi. 

Mann: Great CEO!

Hill: Great CEO! She is now riding off into the sunset. It was a fine quarter. It was nothing particularly distinguishing.

Mann: It was a Pepsi quarter. I'm sorry to say.

Hill: Certainly, if you look at the stock over the last 12 months or so, this has been a steady as she goes kind of business. It's not lighting the world on fire.

Mann: No. But if you think about what they've done -- we can talk about the quarter if you want. But we're really talking about Indra Nooyi and what she has done and meant for the company. She's really transformed it. I think we've mentioned this before. It would almost be better if you'd name the company Frito Lay and Pepsi. That's a much more important division for them. They've actually continued to branch out. They now own Sabra hummus and Bare snacks. They're pushing a strain to try and get people to continue to consume sparkling beverages, sugared beverages, and they're not having a very easy time of it. But the company is in a much better place, and much less levered to that segment than they were when she took over.

Hill: If that's not No. 1 in terms of Nooyi's legacy, it's pretty high up the list.

Mann: Has to be.

Hill: The way she fought to keep Frito Lay at a time when there were a lot of people loudly banging the drum, "You have to split this off!"

Mann: Yeah. It was very strong for her to do that at a time when private capital said, "The financial transaction, we need to spin that out, we're going to unlock value." She really did see that it was going to be a stronger entity together than it was apart. And not only that, she brought additional verticals into the Pepsi family and has transformed the company. I really think, if it was just Pepsi and Gatorade now, this company would be in some trouble.

Hill: Oh, yeah. This is a completely different line of business, but if you look at eBay spinning off PayPal... just look at how those two stocks have diverged since that time. Not that eBay is a business that is in any way troubled, but it certainly hasn't had the brighter future. 

Mann: No. I think that's exactly right. 

Hill: One last thing. As you said, it was a Pepsi quarter. One of the things that's getting headlines in the wake of this report is, Hugh Johnston, the Chief Financial Officer, I was watching him on CNBC this morning. At the end of the interview, he got a question, and rightfully so, when you look at what Coca-Cola has done recently. He got a question about cannabis. Essentially, "Hey, are you looking at this?" And he basically said, "We're looking at it. I'm not going to tell you anything else." 

Mann: That's smart of him to say.

Hill: Like, "There's no upside for me to tell you a damn thing."

Mann: One of the things Nooyi was talking about for opportunities for Pepsi was how to turn snacks into mini-meals. I love the branding. They're looking at lots of things. I think there's probably pretty good tie-in between cannabis and turning these snacks into mini-meals. 

I'm sure this wasn't the way that she wanted to go out. But she should look back on what she's done with Pepsi and be very, very proud. 

Hill: Tough act to follow.

Mann: For sure.

Hill: Stitch Fix's fourth quarter, you tell me how bad this was. In terms of the stock, the stock is, as of this moment, down 30%.

Mann: That's kind of a lot. 

Hill: [laughs] Was it really that bad? I know that part of this is guidance, part of this is saying, "Revenue in the future isn't necessarily going to be what we're all hoping for." You tell me. Is it all because of that? Is it because this is a stock that had done well, and this is some profit taking?

​Mann:​ I think that's mainly it. I almost feel like we're having 1999 discussions again. If you remember, in 1999, almost the worst thing that a company could do would be to turn profitable, because then you have something to measure. Stitch Fix was profitable this quarter. They came out with $0.18 in earnings per share, which is fine and great. I think it really had to do with, they were a little bit light on the number of members. They came in at 2.7 million, and the market was looking for 2.8.

This is an entirely new vertical. They're doing something that is rather extraordinary. I think that Katrina Lake is one of the most interesting, fascinating CEOs who's out there. The stock's done really, really well. 30% is quite painful, but it's not like GE, which has pulled back to 1985 levels. You're talking about levels that the stock traded at in May. 

It stinks. I didn't think that the quarter was that bad. But for the stock to have done that well, I think that they needed a blowout, and they didn't deliver one.

Hill: This is a $3 billion company. This looks like a really nice acquisition target for some big retailer out there. It could be Amazon, it could be Walmart. As you said, Katrina Lake has done an amazing job growing this company, bringing it public the way that she did. Nothing but kudos to her to this point. But I look at the business of Stitch Fix. I'll just say that part of this is because I'm not the target demographic. I'm a middle-aged man.

Mann: Wait! By the way, everything I'm wearing today comes from Stitch Fix. 

Hill: Does it really?!

Mann: Yes. This is a Stitch Fix outfit. 

Hill: OK! 

Mann: Not that I wear outfits. But, yes!

Hill: [laughs] We're not cutting that out. Producer Dan Boyd is not cutting that out.

Mann: But, you are the target! One of the reasons I'm a Stitch Fix client is that my wife not that long ago said, "Look, you dress like Ethan Hawke, and you can't pull it off. You need to do something." So, I decided to give it a shot. 

Hill: Here's my question about the business. I look at Stitch Fix, and I think, I could see using that business. I can't see using that in the same way that I would use other businesses. It's not groceries. I could see using it occasionally. So, I'm curious if, from a business standpoint, the pathway to sustained growth for Stitch Fix, it almost seems like it has to be, "We have to get a lot more customers." Because I can't imagine, the customers that they have, who love the service, are going to be spending significant amounts of money year after year.

Mann: I think that's possibly true. One of the things that they talked about is that they do expect their revenue per customer to go down, even as they're expecting revenues to go up 20-25%. The way that I've used the service is, you can have it come as frequently or as infrequently as you want. I have it come once a quarter. You're not being inundated with clothes. It's not like the old Columbia House CD a month club, where those things are just coming, they're coming, and you have to figure out what to do with them. 

Yeah, you actually are part of the target demographic. It's men more than women who are customers of Stitch Fix. Although, you are a much better dresser than I am, for sure.

Hill: That's debatable. In terms of the stock, Stitch Fix is down 30%. Buying opportunity? Or do you look at this and think, they have enough small question marks that I would want to wait three months and see what the next quarter brings?

Mann: No. There are no additional question marks that came out from their results today. I mean, they've probably hit the easiest part of their market. They're getting into Stitch Fix Kids, which I think will be a great segment, as someone whose kids grow out of their stuff seemingly every six weeks. There are no additional questions there. I think this is absolutely a wonderful buying opportunity for a business that is rather unique. 

Hill: Amazon making headlines with the announcement that Amazon is raising the minimum wage to $15 an hour. 

Mann: A quarter of a million employees will be getting a raise. 

Hill: When you look at the reaction, with the number of employees they have... there was a point in time where Company X comes out with hundreds of thousands of employees and says, "We're giving everyone a raise," and the stock maybe doesn't tank, but certainly drops. It's down 1%. It's basically flat today.

Mann: Yeah, it's flat. OK, can I be cynical about this?

Hill: Absolutely.

Mann: Alright. One of the things Jeff Bezos said -- let me make sure I get the quote right -- is that he wanted to make sure he invited his competitors to join them. Now, these are the competitors that already, Amazon has been putting out of business, right. So now, Amazon is increasing their cost structure, making it in some ways even harder for these competitors to keep up. I don't want to be a total cynic, but I do wonder, for companies that are already having difficulty keeping up with Amazon, whether an increase in their hourly rate doesn't accelerate the inevitable. 

Hill: This goes to something that we've been talking about here at The Motley Fool for about a month or so. As someone who consumes a lot of business media, I think we've been ahead of the curve on this one. It is the intersection of seasonal hiring and wages. This time of year, late August, early September, we start to --

Mann: [laughs] The Christmas rush starts?

Hill: Well, no. We start to see the announcements from major retailers -- Target, Macy's, Walmart, and others, saying, "Hey, this season, we're going to hire X number of seasonal workers." We always compare it to, well, what did they do last year? A month ago, when this started, we started to have the conversation here at The Motley Fool -- "Well, this will be interesting to watch. This is seasonal hiring in an environment where wages are going up and unemployment is under 4%. It's going to be really interesting to see how they can pull this off." Basically, seasonal hiring is going to be a lot harder for these companies than it was, say, in 2010.

Amazon coming out the way they did, I think it was smart. Certainly, good for their employees. I don't know if you saw on Twitter, the footage of the announcement in one big warehouse.

Mann: Absolutely. Yeah, I don't want to sound too cynical about this. I think it's wonderful that they made this choice.

Hill: No, it's great! But also, there was a story in the Washington Post over the weekend about the challenge that some of these businesses are starting to have. Some of them were taking the tack of, instead of saying, "Hey, let's just raise wages," they were taking the tack of, "Well, let's offer different incentives." "Hey, we're going to hire you for $10 an hour, but we'll also give you a $100 gift card at our store," or that sort of thing. And it's like, OK, that may work. But I think, largely, for people who are looking for seasonal work, the thing that they're the most interested in --

Mann: Cash!

Hill: Yeah.

Mann: Money! Yeah. I think that's true. To go all macroeconomic, I think pretty much Amazon has also solidified the next rate increase for interest rates, simply because one of the primary things that they look for in inflation is wage growth. For 250,000-300,000 people to get a very substantial raise, and I'm certain that there will be some knock-on effects to that, given the low rate employment. There will be impacts. A lot of them are awesome. Some of them bear some paying attention to. But congratulations to Amazon! I think it's wonderful!

Hill: Yeah, it's a smart move. If you're a fan of Game of Thrones, you are probably aware of the fact that you're going to have to wait until 2019 for the final season of the series to come out on HBO. But, good news!

Mann: Super good news!

Hill: Something else is coming.

Mann: And it's not just winter.

Hill: [laughs] It's a Game of Thrones-inspired whiskey that is coming from the good people at Johnnie Walker. Johnnie Walker, owned by Diageo, which is a publicly traded company. It is being called The White Walker.

Mann: Love it!

Hill: You haven't consumed this scotch yet.

Mann: Not yet.

Hill: I think it just went on sale yesterday. You've actually looked into it. They say you need to serve it cold.

Mann: Yeah. You know, as Tyrion Lannister said, I drink, and I know things. Here's what I know about this scotch. Apparently, it has notes of caramelized sugar and vanilla, fresh red berries, and a touch of orchard fruit. That doesn't sound quite winterly to me. I think The White Walker needs to have hints of human flesh, flavors like this. But, it does come from Cardhu and Clynelish. Clynelish is one of the most northern Scottish distilleries. Those are included in the slate of The White Walker. I prefer my whiskey to be weapons-grade, so I'm not so excited about the tie in, but it does sound like it is a legitimate, serious scotch. I'm looking forward to trying it. I do know this stuff's going to fly off the shelf. 

Hill: Oh, yeah!

Mann: [laughs] This is a great tie-in!

Hill: Unlike limited edition products that we see in the packaged goods space, we feel good about these prospects.

Mann: This one, I think they've probably hit the mark with their audience.

Hill: Real quick, before we get out of here. You just made your, I think it's an annual trip that you make?

Mann: Yes. I'm getting ready to go to England. This last week, the Premier League, which is the biggest soccer league in Europe, some would say the world. They their fan fest here in D.C. I and my son were invited down to do a documentary about the greatest English player of all time, I say. And if you say otherwise, you're wrong. A guy named Alan Shearer, who played primarily with Newcastle, which is the team that we support, which is how I was invited. 

So, we went down for this event. Lucas and I are speaking to the camera. And it was actually like a Candid Camera thing. Suddenly, Alan Shearer's there behind us, speaking with us. We got to spend 20 minutes with him, which was wonderful for me and unbelievable for my son. He was so kind and great!

The funny thing about it is, I've interviewed Warren Buffett, I've testified before Congress, I've interviewed Elon Musk. Completely froze up! Completely froze up talking to Alan Shearer! I mean, we spent five minutes talking about the weather! He could not have been nicer, but I absolutely walked out of there going, "I had 40 things I wanted to ask this guy and got none of them in! I talked about my weekend plans!" What was I doing?! 

Hill: [laughs] I just think it's fantastic! You, testifying before Congress, no problem.

Mann: [laughs] No problem!

Hill: Alan Shearer, and you're like, "Uh... I like... I like puppies. Do you like puppies?"

Mann: [laughs] That's right! It was all that.

Hill: "Do you like stuff?"

Mann: "Stuff's my favorite, Alan. How about you?" So, anyway, he couldn't have been nicer. It was great! For the Premier League to come here to town, it's unbelievable. If you have not paid attention, how popular soccer, English and the MLS, have become in this country.

Hill: Have you been to the new stadium? It's open, right? In D.C.?

Mann: It's fabulous! Yes, it's great!

Hill: Our email address is [email protected]. For fans in the U.K., or anywhere, really, who want to disagree with the statement about Alan Shearer --

Mann: You shouldn't! [laughs] 

Hill: -- [email protected]. Bill Mann, always good to talk with you!

Mann: So great to be here with you, Chris!

Hill: As always, people on the program may have interest 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 tomorrow!