An Upbeat Boring Business

In this episode of MarketFoolery, Chris Hill chats with Motley Fool analyst Jason Moser about the latest news and earning reports from Wall Street. They first take a look at a popular restaurant brand doing much better than other restaurant companies and what's behind its success. They also discuss two steadily growing brands in the home-improvement and homebuilding space that are hitting all-time highs. Finally, a social media giant takes another shot at short-form videos and much more.

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This video was recorded on July 28, 2020.

Chris Hill: It's Tuesday, July 28. Welcome to MarketFoolery. I'm Chris Hill. With me today, Mr. Jason Moser. Good to see you, my friend.

Jason Moser: Good to see you, sir. How's everything going?

Hill: Going all right. We had a lot going on. We've got Facebook (META -4.13%) squaring off with TikTok. We've got a couple of stocks hitting all-time highs. We're going to start with McDowell's; I'm sorry their competitor there, that's a private company. We're going to start with McDonald's (MCD 0.37%). Shares of McDonald's are down a little bit today, despite the fact same-store sales in the second quarter only down 2.3%. That's better than what we have been [laughs] seeing from a lot of big restaurant companies out there.

And, Jason, similar to the comments that we got from Coca-Cola's CEO, Chris Kempczinski, saying he thinks this quarter represents the bottom for McDonald's. Do you think he's right?

Moser: Yeah. You know, that's an interesting perspective to hear from him; and I actually think, in McDonald's case, it could be right. When you look at this quarter, when you look at this report, I mean, honestly, these numbers look pretty darn good, all things considered. I think that what we're going to see, as this earnings season rolls out, it's going to be the expenses that really separate the kids from the grownups here eventually. They're going to be companies that can deal with the ramp-up in costs due to the pandemic way better than others. And McDonald's is one that is going to be able to deal with that in a pretty good fashion. It's obviously a huge concept, I mean, being franchised means you've got a lot of partners out there with a lot of expertise in their particular geographies. I don't think you can dismiss that; I don't think you can discount that.

And if you just remember, not all that long ago, Starbucks actually pivoted in their strategy going away from company-owned stores in foreign markets to back to license stores, because they wanted to rely on that expertise, that boots-on-the-ground expertise that locals have. And McDonald's has that, too.

So, I mean, that this is a company that's going to always benefit from this move toward contactless; I mean, we've got drive-thrus, they've always been part of the concept for the most part. And they've certainly noted that. I think it's very interesting to note how dependent they are in some markets, though, on their dining room segment.

And if you look at their international operated market segment, which is a large piece of the business, pre-COVID, nearly 70% of customer orders were in restaurants across those larger markets. So, when they close those dining rooms, even for a limited time, it makes a big deal, it makes a big impact on their financials, even though they have the drive-thru to fall back on. So, it's not all sunshine and lollipops. But given the situation, this is a restaurant company that's going to be able to deal a lot better than most.

Hill: Well, and you talked about the expenses and that was one of the things Kempczinski was talking about on the call, in particular, their marketing, how they have pulled back on the marketing spend, rightly so. But he was talking about it almost in the same way [laughs] that Warren Buffett talks about his elephant gun, like, hey, we've cut back on marketing over the past four months or so, we think as our operations rebound in the second half of this year, we're going to be able to ramp up our marketing to a degree that we haven't been at for a while. I'm assuming, at least part of that would be aimed at breakfast, because that was one of the things I was reminded of with this report is, McDonald's needs breakfast to be successful.

Moser: They do, you're right. And I'm glad you mentioned breakfast, because that's where I was going to go with this as well. You know, McDonald's, they don't need to market as much as others maybe. I mean, it's obviously a very well-known brand already with a large presence out there. And despite the fact that they have recovered a lot of lost sales, like, in other words, the falloff in June, for example, they've recovered essentially 90% of their 2019 sales from June. So, things are looking a lot better than they were just a few months ago. But that is the one sore point, I think, for them, is breakfast. And it's not just that people aren't eating breakfast for dinner or lunch as much anymore, it's this idea that a lot of us just aren't commuting anymore. And so, they're not selling breakfast for breakfast. [laughs] And that is a bit of a problem, because McDonald's, you know, I'm not the biggest McDonald's guy in the world, but if I had to go, you know, for one meal, I think it would probably be [laughs] breakfast; they do it pretty well. And that's fallen off of a cliff, and that's not going to come back as quickly, even though they have that lever to pull in serving breakfast really essentially as long as they want.

But with that said, it'll be a slow recovery; I don't want to say, it's going to be a lost year, but there's going to be a lot of growth that is lost this year. But, again, I think McDonald's is a company in a very admirable position, they will be able to play offense while a lot of other companies are playing defense, and that ultimately, I think, will work out well in their favor.

Hill: If your recent home-improvement projects have included painting, you are not alone, [laughs] second quarter profits for Sherwin-Williams came in much higher than expected, and they raised guidance. I mean this is gorgeous to me, because this is about as boring a business as you could find on this planet, it's paint. And if you've owned this stock over the past decade, good for you, because it has returned more than 900% in the last 10 years.

Moser: Yeah. In 5 year, 140%; 10 years, I mean you said it. It's just always been a good business to own. And it makes a lot of sense when you just think about it from a practical standpoint. Remember that Warren Buffett, Berkshire Hathaway, they own Benjamin Moore; I mean, that is just the quintessential, give me a boring business kind of guy. And so, hey, listen, man, the world [laughs] needs to be painted, always. And certainly, Sherwin-Williams is a company with a lot of the familiar brands. If you're a homeowner, if you've been doing any of that kind of work, then you do know there is a difference between paints and quality is a matter, and Sherwin-Williams makes a lot of quality stuff.

When you look at the numbers themselves, the company has grown sales, grown revenue at a compounded annual rate of close to 10% over the last five years. So, like you said, it's not exciting, it's just steady business. And when you look at the overall market that they pursue, I mean, they are the clear, in a way, market leader. I mean, they essentially hold better than half of the market in painting and ceilings substances and whatnot. So, they do have a massive presence, they are 41 consecutive years of dividend increases; which you know what that makes it, Chris, dividend aristocrat.

I think, to me, yeah, the cherry on top of this report, [laughs] that -- I mean, I don't even know, I don't want to say that's like, unnecessary just optimism or being cocky about everything, I think they just know their business really well that they can go in there and raise guidance to the degree that they did. I mean they raised it in a fairly substantial way. Net income per share, they raised guidance for the year to be in a range of $19.21 to $20.71; that was versus previous guidance of $16.46 to $18.46. So, that just goes to show how quickly they think things have really turned around. And again, that makes a lot of sense, if you're stuck inside, if you're looking for stuff to do, a lot of people are undertaking some home-improvement projects; and you can include me in that audience there too, Chris. I've to go run out to Home Depot (HD 0.74%) after we get done with the show today. So, yeah, I certainly see why Sherwin-Williams is continuing to do so well.

Hill: And I don't want to gloss over the raising guidance, because we've talked about this before, every company has a pass right now. Every company can come out and say, we're suspending guidance, and they're not going to get any blowback for that. I was watching an interview this morning, it was the CEO of Reckitt Benckiser, which is the parent company of Lysol, which, because it's Lysol, it's flying off the shelves; [laughs] they can't make the stuff fast enough. And one of the questions he got was, why haven't you raised guidance? You know, come on! What are we talking about here? And he, in a very straightforward manner, basically said, look, there's so much uncertainty in the world, we're just not comfortable doing that. And I think he's right in saying that. So, again, all the more impressive.

And to your point, I don't think it's hubris, I don't think it's, you know, rose-colored glasses, I think Sherwin-Williams is, in their way -- and you look at the way they've grown their business, I think in their, for lack of a better word, conservative way, they're saying, no, we really do think [laughs] what we are seeing warrants the raising the guns.

Moser: Yeah. And, you know, I'm with you, I kind of feel like I'd take advantage of the opportunity to take a pass and just be like, you know what, we don't really know what's going on this year, and, you know, maybe we'll revisit next year. And possibly you could get away with just, sort of, removing guidance from your standard quarterly announcement anyway, because, I mean, if I'm running a business, I don't want to deal with that aspect of it. To me, it's always just seeming arbitrary, who really cares, kind of, part of the process there. Just tell me what your goals are, let's check back in a year and we'll go from there.

But, yeah, to your point, it's not hubris. These guys, they're not overconfident, they're not cocky. This business has been run in a very consistent way through the years, and this is just the result of the market that they pursue. And some companies, right now, are in a far better position to be able to see what their business is going to look like. And it's not just paint, right, we talked, I think, just a couple of weeks ago about companies like Teradyne and Cadence, companies that are in tech and chip design and software design and whatnot. Because of those long design cycles, they see that clearly, they're able to offer some guidance and even raise it in some cases. So, it does depend on the nature of the business model. But I think regardless, I still probably would try to take a pass, if I was given the opportunity. [laughs]

Hill: Well, and tied into Sherwin-Williams, we also got the latest results out of D.R. Horton, a stock hitting a new all-time high after its third quarter report. This is America's largest homebuilder, and I get that mortgage rates are low. But typically, when a homebuilder of this size comes out with this kind of report and the stock hit an all-time high, historically, that bodes well for the broader economy. Do you think that's still the case or because of all of the uncertainty around the pandemic, now is not the time to try and read into the broader economy what we're seeing out of D.R. Horton?

Moser: Man! That's a good question. I don't know that I would actually look at it and try to read too much into it at this point, but I do think it's telling us something, it's giving us an idea at least of where the puck is headed. And this is a pretty fascinating story, really, over the last decade. Like, D.R. Horton; I've always thrown homebuilders, kind of, in there with energy companies for the most part. I mean, I don't really feel like I have the expertise, and the industry, it seems cyclical, and a lot of capital expenses and kind of a good old boys' network. And this just never struck me as kind of a market I was really interested in.

Now, with that said, if you invested in D.R. Horton, just 10 years ago, after the financial crisis, you're sitting pretty right now. The stock has performed tremendously well. And I'm trying to think if it was 5 years or 10 years where the stock has returned 520%. I think over the 10 years it's returned 520%. But regardless, when you look at the financials, you'd understand why. It's really grown its topline. And I think it's just because it focuses on this particular market in first-time homebuyers, and first-time moving up homebuyers.

So, they are not focused on that market where people have been in the housing market for a long time, where they're looking to buy some big sort of mansion, these are people looking to enter the home buying market for the first time and people who are moving up from that first-time purchase. You have 520% over the last 10 years; just a phenomenal stock to own.

They're focused on the Southeast and Midwest, and I think the real catalyst here, the question you have to ask is, given what we know today about the pandemic, about how it's changing the attitude toward the work environment and where people are working from these days, is this theory, this notion, of an exodus outside out of these cities into more suburban areas, is that notion one that will play out? It at least seems like, there's the potential here. I mean, when you look at D.R. Horton's numbers. Net sales increased 38% to 21,500 homes, increasing 35% in value to $6.3 billion. But they noted some interesting things here just in regard to, like, May and June. They talked about these sales numbers in May and June that really started ballooning.

And unfortunately for them, they didn't really [laughs] have enough houses, they didn't have enough supply to take care of what was an accelerated pace of sales there. So, they are working hard to try to close that gap there. But again, you talk about a company that was able to offer some guidance, this was a company that was able to offer some guidance. And they see the rest of the year wrapping up nicely, it's partly because of the market they're focused on and it's partly this insane interest rate environment. If you are a first-time homebuyer or looking to move up, man, I tell you, D.R. Horton seems like they have something for you, and a lot of people are buying them.

Hill: Facebook has been trying to take on TikTok with a short video service called Lasso. And after less than two years, Facebook is shutting Lasso down as it prepares to launch something called Instagram Reels. This is going to come next month. And it apparently comes with a sweetener. Wall Street Journal reporting that Instagram is offering financial incentives to TikTok users with millions of followers in an attempt to persuade them to come on over to Reels.

Moser: Yeah. Well, I mean, that's what you got to do, right? I mean, if you're in the position of something like a Facebook, and you can either try to build it, you can try to buy it, or you can try to build it and then entice people to come over, even if it's not necessarily something that's as good as what they're using at the current time.

And, you know, I don't mean to sound this way, it's probably going to sound wrong, but it's the way I feel, Chris. I feel at least like that the more time that goes on, I don't know that Mark Zuckerberg is necessarily as smart as we all thought he might be. I mean, I'm not saying he's dumb, don't get me wrong, I'm not saying that at all, I'm really not. It's just, you hear the word "genius" thrown around sometimes. I don't know that I really fully feel like he goes in that genius category by a longshot. And the main reason is, because if you look at Facebook today, I mean, there have been a few acquisitions that have changed the business itself, given the business a little bit more of a competitive advantage in that it has this massive audience, but essentially it's still the same Facebook. And they go in there and they try to do things to steal audiences by building a Snapchat competitor or building a TikTok competitor. Recently they tried to build the Pinterest competitor, right?

I mean, very rarely do those things work, right. Users typically don't defect. Facebook can try to pay more money at these content creators to get people over there to create some interest, but it feels like there is a long track record of them trying this and not really pulling it off. And it just starts making me wonder, is Facebook, is this just going to be an ad play? I mean, is this basically just kind of like Twitter (TWTR)? I mean, Twitter is the same thing it's always been. Facebook, to me, it's just the same thing it's always been; they've made a few acquisitions along the way. And that doesn't mean investors can't win, maybe they can, but I started looking at Facebook and the Facebook of the future and I started wondering, is this a company really worth owning? Is it worth the trouble? And I am starting to feel like maybe it's not, but you know, I could be wrong.

Hill: So, a couple of thoughts. One is, certainly -- and you know this, because you recently exited your position on Twitter -- certainly Facebook is an exponentially [laughs] more profitable company than Twitter.

Moser: Oh, yeah, no question there.

Hill: And the other is, you know, I don't know that I've ever looked at Mark Zuckerberg and thought of him as a genius, sort of, in the way that we categorize people in the business world as geniuses or those who typically get that tag. Elon Musk gets that tag, Steve Jobs got that tag. There are some people who give that tag to someone like Bezos. I've always looked at Zuckerberg as an incredibly powerful operator. You know, he makes -- and with his leadership team -- he makes the engine, the business engine of the Facebook business work. For whatever you think of Instagram, that was among the more laudable acquisitions, I would say, of the last 20 years. I mean, it's probably on-par or approaching par with Google [Alphabet] buying YouTube back in the day. Which is one of those things, with every passing year, [laughs] more and more people or fewer and fewer people remember that Google Video was a thing that Google built to compete with YouTube, and at some point they said, [laughs] you know what, let's just go to YouTube with a big check and see [laughs] if they say yes. And they did.

But to go back to this story, it will be interesting to see if this works, because clearly they have tried to make it work with this thing Lasso, which I've never heard of until today; I know I'm not the target demo, you're not the target demo for this. So, it's entirely possible our kids have heard of Lasso. But if nothing else, this to me is a sign for anyone who's wondering, what's all the big deal about TikTok, like, this is a demonstration on Facebook's part. And by the way, YouTube too is mentioned late in this Wall Street Journal article, like, YouTube is working on their own version to, sort of, go after this short video market.

Whatever happened to Vine, why did that get shut down? That just seems [laughs] like it got shut down too early.

Moser: Incompetence. Yeah, I think that was just incompetence. I think that was just poor management on Twitter's part, and a lot of that was just due to no vision and just, sort of, musical chairs of management there. Because, yeah, I mean, it certainly seems like Vine, kind of, had a really -- it had something early on, and for whatever reason, they just didn't nurture it. And, yeah, to your point, Facebook, obviously, is immensely larger and more profitable than Twitter. I guess my parallel there was just that, you know, is this a company that, for all intents and purposes going for, this is a Facebook and Instagram company. And from here on out, they're going to continue to try to make acquisitions and copy other apps that are out there, stealing the interest of other younger audiences. You know, is that the most compelling business to invest in? I don't know. I mean, maybe -- with a user base that big, it's hard to argue against it. I mean, I'm certainly not sitting here saying, sell Facebook and I'm a bear on Facebook, but I started thinking about how big this company is today and what maybe it looks like in the future? It feels like we're kind of just on this wash, rinse, repeat; this is just kind of [laughs] what they do.

And I'm not seeing any innovation out of a business where I just feel like, you should see a ton of it. And maybe that's yet to come; I hope that is the case for now though, I got to say. And I am not a Facebook shareholder, but if I was, I mean, I'd be disappointed, I'd be asking those questions.

Hill: Last thing and then I'll let you go. Home Depot, is there anything near the Home Depot you go to that is like an additional reason to go? And the reason I ask that is because the Home Depot that I go to is in this strip mall area, sort of the western part of Alexandria. And one of the shops on the other side from Home Depot is a Middle Eastern market called the Mediterranean Bakery and they make the most amazing hummus and pita, like, freshly baked pita bread right there. So, that, to me, is always an excuse. Like, if I go to Home Depot, it's like, well, I am going to stop at the bakery. And if I feel like, I haven't been to the bakery in a while, then I'll just sort of do the reverse, I mean, like, do we need anything at Home Depot?

Moser: [laughs] You're killing me here, man! The only thing that's there is a frigging Costco, and I'm not a member -- yeah, we're not members at Costco. And I want to go to Costco, like, you know, I want another hole in the head. I mean, it's not what I'm looking to do, man. But, yeah, man! Now that you think about it, I could go the other way -- go to Lowe's and then on the way home, you're swinging by Wendy's, and you know, Wendy's has Frostys, Chris, and Frostys are pretty good on a hot day like this.

Hill: It is a hot day out there. All right. 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 MarketFoolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.