On today's episode of Market Foolery, Chris Hill talks with senior analyst Jason Moser about some market news. McDonald's (NYSE:MCD) franchisees have made themselves clear: They want a premium chicken option on the menu. And really, there's no reason McDonald's shouldn't give it to them, so look out for some McBird updates on McD's next earnings call. Pepsi (NASDAQ:PEP) reports pretty rosy earnings, suggesting a smooth transition after powerhouse CEO Indra Nooyi's retirement. CVS (NYSE:CVS) partners with Teladoc (NYSE:TDOC) to offer services in eight states with high rural populations, and Teladoc is set up to shine there. Amazon (NASDAQ:AMZN) moves into the makeup market in increasingly aggressive ways, but Ulta (NASDAQ:ULTA) shareholders shouldn't get too worried just yet. Tune in to find out more.
To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. A full transcript follows the video.
This video was recorded on July 10, 2019.
Chris Hill: It's Wednesday, July 10. Welcome to Market Foolery. I'm Chris Hill, back in studio. Fortunately, here with me is Jason Moser. Thanks for being here!
Jason Moser: Hey, listen, it's a pleasure to be here. I know you probably want a couple more days of vacation, but we're glad to have you back.
Hill: It's nice to be back. I'm rested. I'm ready. And we've got a full plate. We've got earnings news, we've got healthcare, cosmetics news, we're going to dip into the Fool mailbag.
Let's start with the restaurant industry. McDonald's franchisees here in the United States want a premium chicken sandwich, and they want it right now.
Moser: Don't we all?
Hill: [laughs] Kind of. This comes from a board of an independent group of McDonald's franchisees, who published a letter saying, "A chicken sandwich at McDonald's should be our top priority." I don't run a McDonald's, but looking at the business, I think they're spot on. Yeah, this should be their No. 1 priority.
Moser: Yeah, I think so too. There's a medical term for this. It's called Chick-fil-A-phobia. That's where this stems from, is all of the success that Chick-fil-A has had through the years. We look at the raw numbers here, and now Chick-fil-A is set to become the third-biggest U.S. restaurant chain by sales, behind McDonald's and Starbucks. I guess that makes sense, but we never recognize Starbucks for the food, but whatever.
Hill: They go in the category.
Moser: They do. I think it makes a lot of sense. Now, when you think about this idea that Chick-fil-A is a much smaller concept, closing in on 2,500 stores, and that's basically just a domestic play, although they are trying to spread their wings a little bit internationally. For McDonald's, that I think they see as a tremendous opportunity, particularly if you consider the fact Chick-fil-A is closed on Sundays. And we like to make some jokes here and there about that, because imagine if they were open on Sunday, how much money they would bring in. I don't think they will open on Sundays. I don't think that matters. It's not a publicly traded company. But I think McDonald's looks at that as a big opportunity to say, hey, there are probably people out there that want a Chick-fil-A sandwich on Sunday and can't get it, so if we have a similar offering, not only does that help us on Sunday, but probably the other six days of the week, too.
Hill: Well, you think back a few years, when they were debating internally the idea of breakfast all day. We were sitting here in this studio, and we were not alone, there were plenty of people who looked at this and said, "That's a no-brainer. Of course you should do that, make that happen." This idea seems exactly the same to me. When I saw this letter from this independent board, which I believe just started up last year, an independent board of franchisees here in the United States, I looked at it and thought, "Yeah, that absolutely makes sense." I'm assuming Easterbrook is going to get asked this on the next conference call. And he'd better have a good answer. I say that like he hasn't done a good job running the company. He's done a very good job ever since he became CEO.
Moser: No question.
Hill: So, I expect this to be put in motion and executed.
Moser: I would imagine so. Again, I think when you look at the success that McDonald's has had to this point here with Steve Easterbrook, a lot of that is around menu innovation, catching the company up with today's technology. I think when you look at where people are eating, you're getting that boots-on-the-ground research from the franchisees. This isn't one executive at McDonald's saying, "Oh, we should try this." This is a collective of a lot of people that are running these stores on a daily, weekly basis. They're able, I think, to give a little bit more relevant feedback and insight as to what customers want. Listen, you drive by any Chick-fil-A, and it seems like at any time of the day, the drive-thru is backed up and the stores are packed. That's for a reason. Certainly, it makes perfect sense to see McDonald's -- and honestly, all of these restaurants should be looking at this as an opportunity, figuring out ways to change their menu up, bring something new to the table. In this case, again, I go back to the big opportunity there in that, hey, if you bring some type of the Chick-fil-A offering to your store, and you can offer it on a Sunday, where you can't go get it elsewhere, that probably is going to bring in a few incremental sales there. That is never a bad thing when it comes to restaurants.
Hill: Pepsi's second-quarter profits and revenue came in higher than expected. Shares up a little bit. This is from yesterday, but I know you were looking into this. I was struck by the fact that Ramon Laguarta, the CEO who took over for Indra Nooyi -- we talked on this show about, she left some big shoes to fill. It seems like they're off to a pretty good start. He came out and said that Bubbly, which is their sparkling water brand that Pepsi owns, he said, "That's going to be our next billion-dollar brand." I have to assume he's right about that. And I think if you're a Pepsi shareholder, you're hoping he's right about that, because, once again, traditional soda sales continue to incrementally decline in the United States.
Moser: Yeah, big shoes to fill, and a SodaStream strategy to try to figure out. Remember, they made that big acquisition right as Nooyi was walking out the door. I think it's worth remembering that diversity really is Pepsi's biggest strength. It's not just diversity in the beverage market. Clearly, the salty snacks and the Quaker foods division are paying off as well. I think the Frito-Lay part of the business, it was the North American snacks division really performed well. And it's worth noting, too, the Quaker division turned in its strongest quarter of organic growth in three years. Sales up organically 3%. So, you saw some contribution there from a lot of different players. Management did note in the call that the back half of the year is shaping up to be a tougher one based on some tough comparables from the year ago.
When it comes to SodaStream, still not a whole lot of clarity as to how that's going to play out in the company's strategy. Really, the only talk of SodaStream was from the perspective of eliminating waste and conserving resources, eliminating plastic. Not that that's a bad thing. That's a good thing, obviously. But that was about a $3.5 billion acquisition, so you're going to have to justify that at some point or another.
All in all, the stock I don't think looks cheap today. When you look at their full year expectations, it's around 24 times those full year expectations. However, nothing in this market looks cheap. It's worth noting that PepsiCo is a Dividend Aristocrat. They are yielding close to 3%. I think that they take a lot of pride in that dividend. It will continue to go up. They will maintain that Dividend Aristocrat status. So, for income-seeking investors, I think these types of companies are always worth a look.
Hill: If you've been to a CVS, you've probably seen MinuteClinic, which is the retail medical clinic that CVS operates. This morning, CVS announced MinuteClinic is rolling out its virtual visit in eight new states -- Arkansas, Connecticut, Hawaii, Indiana, Minnesota, Missouri, Oklahoma, Texas. Maybe not a surprise, they're partnering with your friends at Teladoc to do it.
Moser: Well, that is not a surprise, because that's been their partner from the very get go. It's really been impressive to see how quickly this landscape has changed. I think one of, if not the biggest challenge for telemedicine early on was simply from a regulatory point of view. The regulations just didn't accommodate for it. We've seen very quickly those barriers have all been eliminated, as states now all are able to cope with telemedicine, insurance carriers are allowed to deal with it now as well. We're opening up to these brand-new market opportunities with Medicare Advantage patients and whatnot. I think it's really encouraging to see a company like CVS doing this, because one of the big points of their strategy going forward is to utilize that physical store base that they have, and changing them, becoming less like that retail store where you might buy Easter candy and a Coke and some knockoff brand of an MP3 player, and instead saying, "Hey, we've got these physical presences that can now serve as little makeshift hospitals." And part of that strategy includes the telemedicine.
And I think that when you look at how telemedicine is being received by people, that's also really encouraging. There was a health study that CVS had earlier where they found that 95% of patients who opted to receive a telehealth visit during the pilot phase of this program, 95% were highly satisfied with the quality of care. In that same study, 95% of patients were also satisfied with the convenience of using telehealth. So now, this expands it to 26 states and D.C. I think it's just a matter of time until we see it in every state where a CVS is, which I think is probably all 50. So between CVS and Teladoc and any other telemedicine provider, I think it's a very encouraging sign.
Hill: Particularly if you think about the rural population, you look at these eight states, there's a huge rural population. There are just fewer places to get to, it's harder to get to, it takes more time, so telemedicine becomes much more crucial.
Moser: Absolutely, we're seeing that. These earthquakes in California were another good example. You have a lot of people who are stranded, and they can't get from one place to the other. There are needs that need to be filled, particularly on the healthcare side. So you see telemedicine providers reaching out, partnering with companies like CVS, in order to be able to provide those services. So really, it addresses two problems in healthcare, of not only getting into areas where healthcare isn't as prevalent, but also scaling healthcare on a global basis, taking what essentially is a shrinking pool of physicians and healthcare providers and offering those services to a bigger audience. That's one of the most encouraging things that investors should keep their eyes on.
Hill: Lady Gaga announced a line of beauty products that will be exclusively for sale on Amazon. There are plenty of times when a huge tech company -- I'm thinking primarily of Alphabet, Amazon, and Apple -- when they dabble in a space, and sometimes there's a real concern for other companies, smaller companies in that space. And sometimes it's literally just dabbling. This is squarely aimed at Ulta Beauty and LVMH, parent company of Sephora. There's no question that Amazon has done their dabbling in beauty products and cosmetics, and they've decided this is a business they want to be in. And this is a big move in that direction.
Moser: It does make sense. This is a huge market, when you look at the global color cosmetics market, it's going to be somewhere in the neighborhood of $63 billion to $65 billion by 2024, so it is significant, it matters. To see this type of offense in the face of -- recently, we saw Coty, which is another provider in this space, caught falling back on its heels there, having a lot of problems. Amazon, I think, looking to strike and gain a little bit of share in the face of that.
It's certainly a response, I think, to Ulta and its affiliation with another popular brand in the space, Kylie Cosmetics. I don't profess to know the most about makeup, but I do live with three women, Chris, so I see this stuff on a daily basis and I understand it. The cosmetics market is as reliable as the sun coming up. It is one of those things that's going to exist. So, from the perspective of Amazon, I think it's a smart move. I would not make the leap to say, "Oh, man, this is going to be a real problem for Ulta going forward," because this isn't the first time Amazon's tried to dabble in the space, and Ulta has done a very good job, not only competing in this space but growing market share in this space as well. They have 1,200 stores now, 500 brands in those stores, and Ulta provides a little bit something different that you're not able to get on Amazon, and that's the salon dynamic. Folks are actually going to Ulta stores for a reason. The numbers bear it out, they keep on going back. They've got a pretty nice loyalty program that creates a fairly sticky customer base. Some investments there in technology, bringing in an augmented-reality platform so that users can now try that stuff on virtually to get a better idea of whether it's something they may like or not like, without having to necessarily go to the store. Certainly understandable why Amazon would want to dabble a little bit more in this market. I suspect they will witness some success tying up with a popular brand like Lady Gaga. Of course, the risk that always comes with that is that person that you're trying to brand to bows out at some point, or does something that people don't like, and then you deal with that. But all in all, I think it's a pretty smart move.
Hill: I'm glad you mentioned Ulta Beauty's loyalty program, because they've had such great success with that. I'm sure that's one more reason Amazon is pushing into this market, because they look and they think, "Oh, you know what? We also have a loyalty program. It's called Prime, and we feel like we can leverage it."
Hill: Our email address is MarketFoolery@fool.com. Question from Ryan Galloway, who writes, "Longtime listener, first time writer. I'm concerned about my Netflix investment. I keep an investing notebook and I reviewed my thesis. When conversation started about Disney's streaming service, I had a few points about provider of multiple sources of media for other companies, acting like a platform to bring companies and people together, seemed like a strong suit. But over the last month or so, we've seen news about the loss of The Office and Friends and the Marvel and Disney properties. At what point does Netflix start to fall behind here and become dethroned as a content leader?"
And yes, this ties nicely with the announcement from Warner Media, owned by AT&T, about the launch of HBO Max, which is yet another new streaming service. And they're going to have Friends in their arsenal.
Moser: Yeah. They're going to have a lot in that arsenal. They're even getting The Fresh Prince of Bel Air. Obviously with the HBO affiliation, plenty of HBO content, a lot of stuff from the CW. That attracts a very wide audience demographic, which is attractive, not only from a consumer's perspective but from an investor's, as well.
I come at this from the perspective of, I don't own Netflix shares, I never have. For me, it's always been a more fascinating story and follow and learn from. The question I've always had with Netflix, really centers more around, how much can they raise prices before people start to say, "You know what, this is a little bit more than...I don't feel like I'm getting the same value." You can't raise prices forever. I think we may be getting closer to that than perhaps even they thought some while ago. When you put some numbers around it, you start to get a better idea of just how much a price increase does or doesn't help them. If you just look at from the perspective of, at some point in the coming years, they're likely going to hit a subscriber base of around 200 million. It's possible they don't, given the number of competitors that are out there in the space now, but let's assume that they hit that base of 200 million. And say they run through a $2 price increase on that $200 million base. You're ultimately talking about close to $5 billion a year in extra revenue that they would get from that. That sounds like a lot, but it actually doesn't even represent ultimately a third of what they're going to spend this year on content alone. That's no secret. We know that what keeps this engine going is money spent on content. The thing is, because all of this other content is going to these other services, that means that Netflix is going to probably have to focus on either spending more money to get higher-quality content, or they're going to have to keep with that strategy of having a lot of OK content, and seeing their property as a main staple of people's entertainment platform. And that's fine, but you can only raise prices so much on that premise as well, too.
I'm not sitting here saying sell Netflix, don't get me wrong. Netflix is clearly a very good business and a very powerful brand that a lot of people are very passionate about. I do think the question as to how much they're going to be able to raise prices, that to me is the one that's going to be the one to pay attention to in the coming years. I don't know, I feel like they're closer to the end than the beginning there.
Hill: The battle for the living room has always been one of the more interesting fights to watch in the years that we've been doing this show. I think it only becomes more interesting as we have more of these players coming in. I'm referring specifically to content producers saying, "Okay, we've seen how powerful streaming can be." Every question you raised about Netflix in terms of money spent and pricing power, let's face it, that applies to everybody else, too. That's why I think we all thought it was a smart move when Disney came out earlier in the year to unveil Disney+ in a much more thorough way. I think it was at their investor day. And that price was really low, that introductory price. I think we all looked at that and thought, "That's really smart right out of the gate, to keep that well below $10 a month."
Moser: I think so, too. And Netflix did the same thing, too. It's just, they were the ones who founded this market early. They're the ones that started this whole thing. They did a very good job of starting out as a tremendous value, a no-brainer. You would just subscribe to Netflix because it was such a small amount, you'd never even notice it anyway. I think we're getting beyond that "such a small amount you don't notice it." They are going to be losing two of the properties that garner the most viewership on their platform. And that's not their content. They've been making their own content for a while. I know that people love to refer to the data and algorithms that help them dictate what they're going to make. But it's not that simple. If it was that simple, then everybody would be making something that is received as well as Friends and Seinfeld and The Office and whatnot. Art is not algorithms and data. And that's what this stuff is, it's art. You have to understand, it's not that easy just to produce content that people love. In Netflix's case, what they're doing is, they're producing a lot of different content that caters to a very large cross-section of people. That is difficult in its own right. Again, it goes back to, how much room do you think they have to be able to raise those prices until they hit that ceiling? It's no secret that this is a business that requires a lot of capital. It's going to continue to be that way for some time to come. It's just a matter of how much they're going to be able to wring out of the consumer before the consumer starts pushing back and saying, "You know what, there are a lot of other substitutes out there. I don't necessarily need this subscription like I used to."
Hill: I don't know if we answered Ryan's question, but I will say this, I love the fact that he keeps an investing notebook.
Moser: I was going to say...
Hill: Kudos, Ryan.
Moser: That is tremendous.
Hill: That's fantastic. Real quick before we wrap up, because I was on Cape Cod. You were talking earlier, you were like, "Hey, man, you asked me what'd you see on your vacation. I'm going to ask you."
Moser: Sure! Tell me!
Hill: Two investing takeaways from my time on Cape Cod. One, the seed was planted early when we were driving to Cape Cod. My kids are a little bit older now, we're talking about food, and where are we going to go and eat, that sort of thing. And one of my kids looked up on her phone, she just got it in her head, "I wonder how many Chipotles there are on Cape Cod." She's a fan of Chipotle.
Moser: That's a good question.
Hill: There's one. There's one, and it's in Hyannis.
Moser: I guess it's not terribly surprising, though.
Hill: It's not the most surprising thing. When you look at Cape Cod, obviously, it's a much bigger population in the summer. It's a much smaller population in the winter. But that was striking, and it got me thinking about, when you're looking at restaurants -- obviously, any business you want to look at, what are their profit margins? For start-ups, that tends not to matter, because a lot of start-ups don't have profits right out of the gate. But with restaurants, to me it was a reminder that you can't count on expansion to be the sole driver of your returns. You want to make sure that restaurants are actually operating profitably, have some measure of pricing power.
Related to that, I've got my new mug here from the Beachcomber, which is a fantastic beachside bar and restaurant in Wellfleet, Cape Cod. Went there the last night we were there. Fantastic. I was looking at the Beachcomber's menu, and it made me think of Texas Roadhouse, because there's no dessert on the menu. We were there with our kids, there are other people there with their kids. It's definitely a family vibe, but they clearly are taking a page out of Texas Roadhouse -- like, "No, we don't want you sitting around lingering, eating dessert. We want you to leave. Stay and have another drink, or leave."
Moser: "Can I get a dessert menu?" "Yeah, here's the menu. There's an ice cream joint right down the street, get out of here, you jerk."
Hill: "It's Cape Cod, there's 50 ice cream stores within a stone's throw of this place!"
And then the other thing was not much a numbers focus, but largely about risk. I talked about this on an episode last summer when I talked about the shark flag. The shark flag, for those unfamiliar, when you're on a beach, they've got the lifeguard stands, they'll have different flags for different things. There'll be a flag that indicates, it's rough surf out there, that sort of thing. There's also a flag with a shark on it, and it means exactly what you think.
Moser: It means you'll find me at the Beachcomber belly up with a craft beer in one hand.
Hill: Right, I won't be body surfing today because the shark flag is flying. So, a couple of days, we went to the Atlantic side of the Cape. And both days, the shark flag was flying. So I didn't go in. I mean, I put my toes in the water. I'm not going to go body surfing. And the second day, there was a guy out there on a paddleboard. And I thought, What are you doing? Do you not see that the shark flag is flying?" We saw some seals going by, maybe 100 feet offshore. And where there are seals, there are sharks. But just, that idea. It's nice to have a plainly obvious warning sign. And as I said last summer, you don't really get that with the market in investing. You get that with individual companies. You get that in specific instances. Sometimes it's a CEO who's the warning flag for erratic behavior, or something like that. Sometimes it's a Groupon situation, where Groupon, when they were getting ready to go public, in their S-1 filing, they had the adjusted consolidated segment operating income. And I remember around the office, we were all like, "Have you seen this? What is this?!" And we realized it was essentially Groupon's way of saying, "If you just don't count our marketing expenses, this is how good our balance sheet looks."
Moser: Listen, we live in a non-GAAP world now, Chris.
Hill: But they're a marketing company. Why in the world would we back out the marketing expenses? Anyway, those were two takeaways.
Moser: Love it.
Hill: Last but not least, pour one out for Rip Torn. Acclaimed actor. For anyone who saw the classic movie Dodgeball, he was Patches O'Houlihan.
Moser: Throwing the wrench.
Hill: If you can dodge a wrench, you can dodge a ball. Arty, the producer on the Larry Sanders Show.
Moser: He forever to me is Arty. Could not have cast that part better.
Hill: You know what? Do any of these streaming services have the Larry Sanders Show?
Hill: Do they?
Moser: They do.
Hill: For a while, it wasn't on there.
Moser: I know at one point, many moons ago, it was on Netflix for a period of time. But yeah, it's back on HBO's service.
Hill: All right. I know what I'm watching this weekend. Jason Moser, thanks for being here!
Moser: Thank you!
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 Austin Morgan. I'm Chris Hill. Thanks for listening! We'll see you tomorrow.