Why This Company Will Succeed Amid Lockdowns

In this episode of MarketFoolery, Chris Hill and Motley Fool analyst Bill Barker go through some of the latest earning reports and market headlines and talk about a company that is well-positioned to succeed in a work-from-home culture. They discuss a nonessential medical procedures company, sports betting, baseball, and much more.

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This video was recorded on May 14, 2020.

Chris Hill: It's Thursday, May 14^th. Welcome to MarketFoolery. I'm Chris Hill, joining me from far, far away, it's Bill Barker. Good to see you.

Bill Barker: Good to see you; it's not that far. I can be over your place in half-an-hour.

Hill: Come on over, man; [laughs] we'll do one of these in my basement. This will be great. We've got some earnings, we've got some, let's just charitably call it, not exactly earnings, and we have a special anniversary tied to the business world.

We're going to start with Cisco Systems (CSCO 0.06%). Third quarter profits came in higher than expected. Shares of Cisco up 4% this morning. And for a company that did $12 billion in revenue in 90 days, it's hard to get excited about Cisco Systems.

Barker: It is. You know, in a lot of ways, it's been hard for a long time. They peaked early. Most valuable company in the world at one time, for those of us that remember the dot-com era, and Cisco remembers that, they reference that in either their conference call or some of their comments on that having been a much harder time for them to get through than this, or very much different, that they were at the epicenter of the dot-com bubble; as they have put it.

And now they're one among many to find their business changed, not entirely for the better, but they're surviving well enough. And, yeah, it's hard to panic, it's hard to get excited here.

Hill: Although, it would seem as though, when you look at everything Cisco Systems does in terms of networking, with more and more large companies talking about enabling people to work from home, I don't know, this seems like the next five to 10 years should be set up pretty well for Cisco Systems to succeed.

Barker: Yeah, the network services are more and more important; security software as well; the video conferencing tools, if only they had been as successful with that as they might have been, it's certainly been something that's grown during this time. But as you and I know from having used their product once upon a time and having moved to Zoom, as have so many others, they have a good chunk of that business, but not as good as it could have been if their product had been more successful, really.

Hill: Yeah, Cisco Systems had The Motley Fool's business with WebEx video conferencing. They had us and then they lost us.

Barker: Yes. You know, I've seen a few things on WebEx during this time, but really not what they would have liked in terms of market share. And so, it's a decent growing part of the business, but as you said, they did a little bit better than expectations, but expectations had been brought down. So, when you hear that this earning season, somebody beat expectations, understand that probably those are not the expectations that were in place at the beginning of the year, and Cisco would be one of those companies.

And its stock really would reflect that as well. It's been a nice little recovery from the bottom, but it's still off, I think, about 15% to 20% or more from its 52-week high, the stock is right in about the middle of its 52-week range high to low.

So, good enough quarter, stock's up 5%, market was pleased with the actual bottom-line earnings here. And Cisco is positioned to, I think, continue to be a player, you know, in all of these security and video conferencing and networking services, but they have to be pretty nimble as, you know, may be more of a work-from-home future than what they were prepared for.

Hill: Yeah, and I think that to the extent that anyone wants to put Cisco Systems on a watchlist, it's the list of companies that you look at their results and you say, OK, get back to me in two quarters. They need to follow-up the results of this quarter with, I would say, at least two more quarters of somewhere in the range of solid to surprising growth. And if they can do that then I think it may be somewhere in early 2021 it starts to get interesting for investors, but at this point, it's hard to get excited.

Barker: Yeah, that's a lot of what ifs. I mean, we've downplayed the excitement of Cisco, and our level of excitement. It's still close to a $200 billion market cap company, you know, it's done way more things right than wrong over its history. And as a say, it sort of peaked in some ways a long time ago, 20 years ago, and so it becomes harder to check back in on it 20 years later and find an avenue to get really excited.

Hill: Shares of SmileDirectClub (SDC 23.08%) down 8% this morning. The first quarter loss was bigger than expected. And we probably shouldn't be surprised by this, right? I mean, nonessential medical and dental procedures are on hold, and SmileDirectClub is essentially in the business of nonessential procedures.

Barker: Yes. And it, like others, is finding its business plan shifting right now, that is, they have a service where you can get a kit sent to your house and do your own evaluation with their kit as to whether you would benefit from SmileDirect, and how?

They've also got the SmileShops which are in malls and temporary locations. They have the advantage, as they point out in their report, of being able, because they're on month-to-month leases for almost all of these, to just sort of shut down these SmileShops, where people would come in and have a dental technician do the procedure for them to evaluate whether they could use SmileDirect. So, they've saved money on that, they've saved money cutting back on spending, but they are not getting the same sort of sales as they were plotting their growth path for.

They're moving that to more at-home. And so, in the long-term, maybe that turns out to be an opportunity. They weren't expecting to be as good as they are hopefully finding it is right now.

Hill: There are a lot of industries that we talk about where at some point we will say something along the lines of, this is not a zero-sum game. You look at video streaming, and there can be more than one winner, people are going to, and do have a subscription to Netflix along with a subscription to Disney+. This industry very much seems like a zero-sum game. If you're spending money with SmileDirectClub then you are not spending it with Align, you know. And by the way, Align Technology is a company that's about 6X the size of SmileDirectClub. So, this really does seem like there's only going to be one winner.

Barker: Yeah, I think to use both at the same time would involve, I don't know, some sort of bizarre Halloween costume that I can't quite picture. [laughs] But I'd like to throw it back to you, what would that look like?

Hill: I don't know, it would involve maybe a bizarre Halloween costume, also money, [laughs] more money than you need to spend ...

Barker: ... on most Halloween costumes sure.

Hill: And presumably some pain. So, I don't know, we might need a consultation from someone at Party City or something like that.

Barker: Yeah. So, you know, the sort of Invisalign, which has got the brand, I think, Align Technology, and is higher-end and is more sold through dentists' offices. And SmileDirect is a little bit more, you know, the lower-end targeted experience. And so, it's true, you are either using one or the other if you're going to use nonmetal braces and use one of these companies. I don't know, I suppose you might fail with one and then try the other.

But it's not bad growth. 10%, I think, revenue. 12% shipments year-over-year. So, there is some growth there. You know, places are opening up. The SmileShops are likely to open up. As you pointed out, initially, this is highly discretionary. So, people will likely not go that route until they're fully comfortable with more close transactions with people. And that's, I mean, hopefully in the ballpark of a year away before that's likely to be something that is widespread and comfortable. So, in the meantime, they've got the at-home kits; those are doing well.

They cut back their marketing some-90%, I think. So, that is a major cost for them; sort of, an asset-light model. So, they have also succeeded in raising some money, so they're going to be able to stay afloat, but, you know, nobody is really excited by the numbers they are putting up just yet.

Hill: Yeah, you touched on something which I think is going to be interesting to watch for the rest of the year and into 2021, and it is, where do advertising dollars go if they go anywhere at all? Because I think that earlier in the earnings season, when we got the results from Alphabet and Facebook and both companies basically said, boy! March was really bad and we were girthing ourselves for an as bad or even worse April, and things got better. I think there were some people out there who thought, "Oh, OK, advertising is not going to be as bad as we thought." But not that SmileDirectClub is the biggest company in the world, but [laughs] you cut your marketing spend by 90%. That's not, oh, we're shifting it from one medium to the other. It's like, no, we're just cutting it.

Barker: Yeah. And now, their marketing may have been set up going into. So, they've cut 90% over the last 60 days. And their marketing may have been around the SmileShops, and now there may be an opportunity to shift to the at home kits which they maybe hadn't prepared as much advertising for.

But, hey, until they're able to have the money in place that allows them to survive projections of a, sort of, one-year-long hibernation for a lot of their customers, you know, they're going to be cautious certainly. They and everybody else are going to be much more cautious about advertising spend.

Hill: It was two years ago today that the Supreme Court struck down the Professional and Amateur Sports Protection Act which had prevented states from creating their own sports betting regulations. And coincidently, or maybe not coincidentally, DraftKings is getting some attention on Wall Street today. Susquehanna Financial initiated coverage on DraftKings, coming out with a positive rating. Saying, "Look, DraftKings is the leader in a market that could be somewhere in the neighborhood of a $40 billion market in the next 10 years." That may be, but right now, it's crickets out there for sports and for sports betting.

Barker: It's crickets in terms of what's actually happening on the field or on the court, but there is, I think, increased talk, increased headlines about leagues reopening as other things are reopening. And baseball has got some plans put together, ownership and players are not on the same page about that. But I think that you can take a long-term view on this company. Sports will come back; which sports do come back first? Whether there are fans there or not? It may be the case, if you want to get bullish about this company, that all the people that spent money going to games will have that money in their pockets and will spend it, you know, betting on a game that they aren't attending, maybe.

Also, DraftKings has an online casino. They have Blackjack and Slots, which I've never really understood; not to downplay Slots for those that like to do that, but I think online slots, that strikes me as a, I don't know, [laughs] I can't get excited about how I would experience that. And if DraftKings finds that there are people who disagree and are doing so at home and all that, can't go to the casino and need that fix, they may be benefiting from that right now.

What sports do you think are going to be coming back and when?

Hill: Well, first I just want to talk about that --

Barker: ... you're a bit of a sports fan.

Hill: I am a bit of a sports fan, although, I do want to comment first. I think you're absolutely right about slots, because to the extent that there is an appeal in playing slots, it's in the physical action of either hitting the button or pulling the lever or whatever it is, and so.

Barker: Do you suppose they have all those noises going on, on the DraftKings app while you're playing Slots? And I mean, not just when you hit, but the whole background, bling, bling, bling, bling, bling, you know.

Hill: I think you would have to. I mean, that's a missed opportunity if they don't have that.

Barker: This is one of those times when I feel like I could go down and really savage this experience, but I feel bad, because there are people who love to play slots and I would just be revealing that I, you know, I would come across as looking down on that. But I do think, at home, you know it loses a lot. It may be -- of all the casino games, perhaps it is, you know, to me, hockey is that thing which loses the most by watching on TV versus being there, slots maybe the thing that loses the most by at-home versus in the casino.

Hill: So, in terms of sports, yeah, I am paying close attention to the dribs-and-drabs of news that comes out about the NBA and the attempts to get back to either finishing out the regular season or starting a playoff series or something like that. As you said, Major League Baseball, boy! The politics at play for Major League Baseball [laughs] is interesting to watch, between the owners and the players union. And I think we all, who are sports fans, are looking at the NFL and trying not to think too hard about it, or at least that's how I'm approaching it. I'm trying not to think too hard about the NFL, because I would like the NFL to start on time. And if I think really hard about it, I'm probably going to talk myself into, "Yeah, no, that's not going to work either." So, I don't know, I think baseball has a better chance of maybe coming up with a shortened season.

With every passing week, it becomes less and less likely that the NHL and the NBA do anything other than say, we are canceling the season, in the same way that Major League Baseball in 1994, you know, they had the strike and they just canceled the rest of the season. Obviously, for different reasons than what's happening now. But I think we're getting pretty close to that happening with the NHL and the NBA.

Barker: So, three or four different sports to address there. One, I would agree, based on my limited knowledge of the NHL that they're likely to just give up, because I think if you get into June or July, and say, OK, we'll have a shortened playoff series here in July. It just strikes, one, as a little absurd for hockey. Whereas, I think basketball, they could string this out for a long time, they could just take the top two, four teams, based on their standings at the suspension of play. And even in July there would be excitement for that sort of a shortened playoff series, and it would still be good money for the NBA.

Football, I'm going to bet that football comes back. I'm going to bet that it comes back, and this may not sound like the greatest argument for it, and I'm not arguing for it. But the dangers of playing football are already so high, transmission of COVID is like a drop in the bucket compared to the dangers that players actually assume going on the field. The over/under for an NFL season where there's good testing of players, there's, obviously, tremendous contact, but, you know, these players are all young enough, they're not in the camp where COVID itself is a high probability lethal event. Playing the game of football is a high probability lethal event.

So, I would say that there are pressures, both, business and just the mentality of the game that make it more likely for football to come back than medically would be recommended.

Hill: Let me close on this, and obviously, you have a legal background, you were a lawyer once upon a time and you can answer this question as a lawyer or you can just answer it as a regular person. If the NFL comes back, let's just stipulate that there will not be fans in the stadium when the games are being played, which means that we, watching at home, are going to be able so much more of the talking on the sideline and on the field then we did previously.

Let's say you're in the boardroom, the conference room at CBS or ESPN or Fox, whoever is broadcasting these games, NBC, and it's like, OK, we got to talk about the profanity, we got to talk about the language, because, look, there's going to be a lot of profanity during the game, what do we do with that? Do we just let that go or do we have to bleep that out, because the roar of the crowd is not going to overwhelm the sound, the talking on the field, what do you do with that, where do you come down? Then go around the conference room, it's like, "Bill, what do you think we should do about the profanity, do we let that slide?"

Barker: I think you get on the phone with the FCC and you say, this is how it's going to be, don't you think we should be having these games on, I think, under the current administration you would get a combination from the FCC to -- you know, that there's only so much you can control and you would talk to the coaches and owners and players. And say, "Hey, let's try to behave here, all of your contracts and money depend on not going overboard," but I think you clear it with the FCC ahead of time.

Hill: Throw a little disclaimer at the beginning of the game?

Barker: The question for you, like a laugh track for comedy, would you be piping in crowd sounds during your broadcast?

Hill: I would not pipe in sounds as part of the broadcast, but if the home team decided we're going to pipe in sounds for the stadium, then, you know, that's that. But, no, if I'm the executive at one of the networks, no, I'm not piping in sounds.

Barker: No?

Hill: No.

Barker: You might test it?

Hill: Yeah. Clearly, I'm not a fan of laugh tracks and I'm not -- and so, no, I would -- but now if I were the home team, I would absolutely pipe in sound.

Barker: Now, you don't think you're a fan of laugh tracks, but have you tried watching the show Saturday Night Live lately?

Hill: Not lately, no.

Barker: Yeah. They've been doing it at-home, as you may have read, and without laughter, you know, it's a different experience in many ways. But I think that they've always piped in some laughter there and --

Hill: It's a live audience.

Barker: Yeah.

Hill: How dare you? How dare you say that about Lorne Michaels? Comedy legend Lorne Michaels piping in laugh tracks.

Barker: I think you'll find a lot of experimentation going on when there's no crowd.

Hill: Well, hopefully, we get a chance to see it, because hopefully, sports are going to return.

Alright. Bill Barker, thanks for being here.

Barker: 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 MarketFoolery. The show is mixed by Dan Boyd, I'm Chris Hill, thanks for listening, we'll see you on Monday.