In this episode of Industry Focus: Consumer Goods, Emily Flippen chats with Motley Fool contributor Dan Kline about home goods companies, averting bankruptcies, and third-party logistics. Dan shares his personal experience dealing with third-party logistics. They discuss a deal in which sees a popular retail brand coming out of Chapter 11 bankruptcy, compare in-house versus online shopping of home goods, and much more.

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This video was recorded on September 15, 2020.

Emily Flippen: Welcome to Industry Focus. Today is Tuesday, September 15th, and this is your Consumer Goods focused episode. I'm Emily Flippen, and today I'm joined by Motley Fool contractor Dan Kline to take a deeper look at a collection of retail companies. Dan, how are you?

Dan Kline: I'm good. This is a weird list of companies. Emily and I bat ideas back-and-forth all week, and this was just, sort of, like we just kept coming to these companies for different topics, different things, we're like, you know, we never talk about most of these, so maybe we should just tie a show together.

Flippen: Yeah, tying these companies together is definitely going to be challenging, but before we get into it, I want to remind all of our listeners that if you ever have any issues with your podcast streaming platform of choice, you can always head to Fool.com/Podcast as a backup. We post there daily, so if you're not seeing any of the Fool podcasts, like, Industry Focus or MarketFoolery, Fool.com/Podcast is definitely the place to go.

And, Dan, what are the companies that we want to talk about today, you have some personal experience with. And our listeners back home can't see your Zoom background right now, but your Zoom background, if they could see it, would be very indicative of the company we're about to talk about, which is of course, Lowe's (NYSE:LOW).

Kline: Yeah, let's talk a little bit on personal experience with Lowe's. And it's one of those areas where I'm sharing a personal experience not because it's a good story, which I guess it is a good story, but because it taught me something about the company that I didn't know before. So, I've always talked about how Lowe's does not have great customer service, not a particularly pleasant place to shop. And I will point out that I bought a refrigerator on sale on Labor Day. I got the phone call a couple days later saying it was going to be delivered. I waited on a 42-minute music free hold, not sure if I was still on hold to do the COVID questions, and I did those. And then they said, yep, your delivery is set for tomorrow, here's the window, and the next day they called up and said, my refrigerator is not being delivered until August.

Well, in September, right around Labor Day, they called and said, and they called two times, once to tell my wife, delivery is going to be this week, the second time to tell my wife, no, it's not going to happen, they're going to cancel the order. So, it turns out it was in and they called, and we set up the delivery. And they said, we're going to call you to tell you a 30-minute window when it's going to arrive. And I said, well, I do a lot of on-air work, so could you please call my wife, here's her phone number. Well, at 5:01 Emily and I were just finishing up a taping and my phone had rang, and I went, OK, I missed it by a minute, but if they're just a half-hour away that's not a problem. Nope, they said they were sitting in my driveway. And now, I'm not sure I believe this, because I have a doorman building and it would not be hard to get the doorman to even run up to knock on the door. But that being said, they said, don't worry, we'll wait 15 minutes. I called the number, it was dispatched, it was about 10, 12 minutes, I got through. They said, don't worry they'll call them. Yeah, they left; if they were ever there.

So, then began a saga of phone calls with Lowe's, with calling them and saying, well, the delivery is scheduled and then they'd give me the address for my other house. And I'd say, no, no, that can't go there. And then eventually it was scheduled and it didn't make the truck, and then they couldn't change the number, they had a phone number that wasn't either of our phone numbers. It was 23 phone calls in all, not counting the 24th phone call where I was not very nice to my doorman, who called and said, oh, I see there's a delivery here, who gave you permission for that? And I just said, call my wife, because she was talking to them. And I wasn't nice, and I apologize, and there's going to be some donuts this weekend.

But that being said, what's the investing lesson here? Lowe's uses a third-party logistics company, XPO Logistics, and when I mentioned that name, a lot of people complained about them. Some people said that Home Depot uses them as well. And the problem is, Lowe's does not control the delivery experience, XPO Logistics does. Why is that a problem? Because my experience was terrible. And here's what I'm going to guess. The XPO Logistics people have no major incentive to make sure things go well. They are incentivized by making as many deliveries as possible, so if they have to wait around a few extra minutes to make an extra phone call for me, that can absolutely be the problem. So, does it change my investing thesis on Lowe's, no, I wasn't going to invest in Lowe's anyway, but they are a good company. But this is an underlying weakness in their supply chain, in their infrastructure. Obviously, Walmart and Amazon (NASDAQ:AMZN) use the postal service in some cases to do delivery, but the postal service is a pretty finely honed engine compared to XPO Logistics, apparently.

It's a broken system that's complicated by the fact that I live in a building; I understand that, there's rules about when you can get deliveries. The fact that it was a four-hour window is preposterous to me in this day and age, where I can follow my pizza from order to delivery, maybe I should be able to do that for my $1,300, usually $2,100 refrigerator. And I don't want to make the story too personal. That being said, I do think this impacts anybody who's buying appliances and has to have them delivered, because unless you're getting them from Amazon, you are getting them from a third-party company. And in some cases, you might be from Amazon too, but those relationships are likely stronger.

So, this was a really, really bad experience; there was some crying involved. That being said, there is [laughs] now a new refrigerator and we can move on.

Flippen: I'll tell you one thing, I didn't know that this was the case for a lot of these companies, because I know that companies like Lowe's and like Home Depot are spending out millions of dollars to build their own distribution centers. This, to me, feels like something that should have been [laughs] figured out, not only pre-pandemic, but especially during the pandemic, simply because it's providing a necessary service, you don't have an alternative right now. So, you know, we talk about consumer goods focused companies, and you say you don't want to make it too personal, I say make it personal. The thing that differentiates consumer goods is the consumer.

Kline: So, there's also a lack of integration here. So, I'm dealing with a customer service issue with Amazon. I bought a computer and the Windows product key, I threw the box away, [laughs] not knowing it was on there. And they're handling it, and they've been very aggressive about handling it. Lowe's, I had to call dozens of times and I'd get transferred to delivery or appliances and the phone would ring 15 times and transfer me back to the front desk. That is not good customer service. Now, it's fine to do what, say, T-Mobile does and say, hey, we're backed up, give us your phone number and we will call you in two hours. That's OK, that's an answer, that works. But the system between XPO Logistics and Lowe's isn't integrated. So, I called Lowe's and I said, you need to put my wife's phone number on there, I'm not going to be available during parts of the day. And they said, oh, you have to call XPO for that. Why should I have to do that as a customer, this should be an integrated API where their systems talk to each other, where any person can solve any problem.

And I recognize your average person isn't on television or pretend television or podcasting or whatever it is during the day, but lots of people have meetings or classes or other situations where they need an alternate number on the account. You know, it was a very strange situation and it pokes obvious holes, and it scares me, because Marvin Ellison, who's the CEO of Lowe's, was also the guy who didn't do a great job as the CEO of J.C. Penney. And I don't know if he sees these things as weaknesses. And somebody is going to figure out how to do this well and it'll probably be Amazon, it may be eventually it will be Best Buy, it's going to be somebody else, and then, why would you ever buy an appliance at Lowe's?

Flippen: I'm really happy you mentioned Marvin Ellison, because I was struggling, while you're speaking, to find some sort of tie-in for the next story, but you nailed it, Marvin Ellison.

Kline: I was giving you a segue; that's what they're called it appears here.

Flippen: [laughs] And I ruined it by pointing it out. If you didn't already infer, the next company that has some pretty big news coming out is J.C. Penney. We've talked so much about it in the past, this is really more of a follow-up story, but it seems like J.C. Penney could be out of Chapter 11 bankruptcy as early as October thanks to an agreement reached with its debt providers and two major REIT players. Dan, what do you make of this deal?

Kline: It's an interesting deal. As an investor, no, and we don't even know if they'll be a publicly traded part of this company anymore, but if there is, they have to show me a lot. Because here's the problem, I like these two mall operators keeping their anchor tenant; it gives them time to figure out if this is salvageable. If it isn't salvageable, all the things they could have done previously with this space they can still do. Now they don't own the space, but they can broker a deal for Amazon to come in, they could broker it for other stores or distribution or condos or banks or whatever it is. I know, it won't be banks; hotels.

What has to happen here is, they only have about $1 billion, and that means they need to judiciously test things. They have a test store in Texas near their headquarters. They need to throw 2,000 ideas at the wall and see which 50 of them stick, and then start rolling those out in tests. They need to follow the Chipotle model, which is tested in one store, then tested in a handful of stores, then expand that and see what works. And if something works, run with it. Because this is a company that needs major transformation. We talked about store within a store concept. Right now, if I was Jill Soltau, I'd be on the phone with every digital-only brand that was expanding, that's halted their expansion and I'd be offering them free space to come into J.C. Penney during the holiday season.

Why free space? Because you got to get somebody to come into J.C. Penney. And look, if Casper mattress goes in and sets up a shop and it does well, well, then you can make a deal for them to come back next Christmas and pay you, or a deal for them to set up shop permanently. Call Untuckit, call ThirdLove, call Warby Parker, all these companies were adding stores and put pause on that because right now there's no reason to go into J.C. Penney. Emily, I was going to send you over the weekend and didn't have time to send you the context, it was two weekends ago. I took a picture of the suit section at JCPenney. And it was just all these, like, pastel-colored suits that you would, not that they didn't have regular suits, but they had a whole wall of pastel-colored suits that you'd only wear as like a novelty here in Florida. Like, maybe an old guy would wear it to the Country Club or a really hip young person might have this in their arsenal, but like, I'm sorry, that shouldn't have been the wall, but that's the merchandise that didn't sell, and that's what they had to show.

So, they need merchandise, they need a reason to get you in there, and they're going to struggle. Do I think there's a chance they can make it? I think there's a chance, because I do think there's a logical need for a really well-done department store, but they have to make this a store I want to go, and that's going to take more than $1 billion unless they're very, very clever.

Flippen: What's really interesting about this deal is that J.C. Penney is essentially being broken up into two entities; a property company and an operating company. J.C. Penney's current debt holders are getting the property. So, the real estate assets of the company are going to the debt holders who are then presumably going to lease it back to the operating company, but the operating company, it adds [laughs] an extra layer of confusion, is going to be run, or is going to be owned essentially by two REITs which were the retail partners of J.C. Penney, Simon Property Group and Brookfield Property Partners. But do you think this is a good move for these REITs, in particular?

Kline: I do, as long as they bring in the right expertise. They've partnered with Authentic Brands on some other purchases, J.C. Penney has a solid leadership team. If anyone can turn it around, I do believe Jill Soltau can. So, if they can keep her and her team in place and give her guidance, give her every piece of data they know about what customers are looking for, help her test concepts in the right markets, I do think -- you know, look, are they buying these stores because they want to? They say it's because they see good value and that they can make money on that. I do think that's possible, but this isn't the same as buying Brooks Brothers. Thinning out the offering to just the most popular SKUs [stock-keeping units] and making it a viable brand that can pay its rent and throw off a little bit of profit, these are massive stores that need to draw people to the mall. And that's a hard turnaround task.

So, do I give this two years if I'm Brookfield and Simon, with a lot of changes being tested this year and a lot of changes being implemented next year? I would do that. But with what they've been losing previously, they basically have about two and a half quarters of revenue, and that assumes they're not going to build up their inventory, and that they can't succeed if they don't build up their inventory. So, this is a company that's back against the wall, that no longer has the assets, i.e., its real estate, that it could leverage for more money.

Now, Simon has money, Brookfield has money, if it looks like it's working, they can put more money into this. This is a bet, but it's also a bet that they can get out of relatively easily. And if they lose, if they fully lose here, they lost a couple of billion dollars but maybe they got the rest of their tenants to a place where they're less likely to leave if the JCPenney closes and triggers that in their lease.

Flippen: Well, J.C. Penney, in order to make part of this, kind of, renovation of itself will maybe need to get rid of some of those pastel suits that they have overstocked, bringing us to our next company; did you like that segue? Overstock, which is horribly named, by the way, because they don't actually just sell overstocked goods. [laughs]

Kline: The weird thing is, they don't sell overstocked goods at all, they're a furniture company for the most part. It is a very strange name. And look, here's how you change it. You buy a new name and have a redirect, that's like a $15 thing on Register.com. I'm sure it's a little more expensive for a big company to do it. But when your whole commercial has to be, hey, we're not what you think we are, that would be like, Emily, if we opened Ice Cream and Pizza Plus, and it was a day care. [laughs] Like, it doesn't make any sense. Your name needs to say what you are, and theirs doesn't. That said, they've had a pandemic [...].

Flippen: [laughs] Yeah, Overstock is one of those companies that is the butt of all jokes here. But at the same time, this last quarter, because of the pandemic has been a record-setting quarter for them. They posted their first positive quarterly net income since the fourth quarter of 2016. [laughs] So, it's been a second since Overstock saw money. This pandemic has certainly helped their business.

Kline: It's helped their business and here's the big question: Are we turning to Overstock because we're stuck in the house? Yes. Are we turning to Overstock because they sell stuff we need? Well, there's that too; and other places are sold out of it. Are we going to be Overstock customers when this ends? And that's where I have a real hard time. Now, a certain percentage of this audience is going to like the experience, they're going to learn that Overstock exists, maybe because they were looking really hard for patio furniture and this was the 19th suggestion they ended up at. And some of them are going to stay customers. But I question, this isn't Chewy where it's recurring revenue. You don't buy a patio set, and the next Summer they send you a new patio set. They have to win your business over and over again in a category you don't think about that often. Because Emily, I live in a two-bedroom and a den condo, you live in a one-bedroom condo, I believe, how often are you buying furniture? So, I think this is a tough case to be made that this is a company that isn't just a pandemic darling.

Flippen: And there's so much competition, which we'll talk about a little bit later in the show, but there's so much competition right now in online furniture sales. And that's without even touching on the very real demand that there is for in-person furniture sales, right? So, it's not an industry that moves entirely online, although there's definitely demand for online purchases. What I think is really interesting about Overstock is, for years now [laughs] management has said, all we need to do is grow revenue faster than we grow expenses. And that sounds really basic, but for Overstock, it has been the company's single biggest challenge. You would think this would be a really scalable business model, but for some reason [laughs] Overstock really manages to burn cash. What I will say is, in the last quarter revenue grew greater than 100%; pretty good for Overstock. [laughs] And their operating expenses grew 62%. So, while they weren't the most scalable business, they did achieve that long-beholden milestone of actually not burning more money than they make.

Kline: Emily, I don't want to rain on the Overstock parade here, but here's their problem, it costs a lot of money to acquire a customer. And what your lifetime value of that customer is, is very debatable. Now the good thing about the pandemic is they can cut their marketing spend. If other places are selling out of stuff, you're going to look for any place that will sell you this. I liken it to the New York newsstand that normally sells an umbrella for $5, but when it's raining, they are $25, because everyone wants one. And that's what's happening right now.

And again, how do they convert that? So, they get me on the mailing list, what are they doing to get my next furniture purchase? And I think with some people, and we're going to talk about this with some other companies here, with some people the answer is going to be "nothing," because you know how I want to buy furniture in a normal world, I want to go to the store and I want to touch it, I want to sit on it. Now, that's not as important with office furniture, which has been in heavy demand; that's not as important with patio furniture, which again, people are sitting outside more than they usually do. I think it's really important, and we've talked about this a lot with Wayfair, with a couch or a bed or even a kitchen table, something you're going to be at for long periods of time, I think, if you have the option to touch it in person, you're probably going to give that the first chance. So, I think they're in a really tough space and they should really be looking at, how do we cut our costs, how do we have less inventory, how do we thin out what we're selling to focus on the best stuff? And use this data to really figure out that this isn't going to be a company that grows by 109% quarter over quarter, this might be a company that maxes out at a certain type of business, can we make money doing that.

It's a lot about -- I talk about Kroger a lot, that they need to use what they're making from the pandemic, the lessons they're learning, to plan for a non-pandemic world. Hey, that might be partnering with J.C. Penney and having some in-store presence on certain items. You know, your proprietary line of beds, which you don't have, but let's pretend you did, your white label line of beds, maybe you put a sample in J.C. Penney, so people can sit on it and buy it, you get there before Casper mattress does. I don't know the answer here, but I would not be excited about these numbers. This is a pizza place selling out because it's the only pizza place and everyone is really hungry from a long day working outside. This is not a game changer for this company.

Flippen: You mentioned that they compete against people who want to go in and touch the items that they buy. And one company that manages to do that, while still having a decent amount of online sales is At Home Group. This is a company that we spend less time thinking about At Home Group than I do thinking about a company like Overstock, but they have built out physical retail presences that sell home decor for the most part, some furniture mixed in there, but generally when you think of the company, you're probably thinking of little trinkets, kitchen supplies, decoration items, these things that you put in your, you guessed it, home. They also had an outstanding quarter last quarter.

Kline: They did. And I think this is more sustainable. So, Emily, I drive by an At Home regularly; it's on the way from my house to where my son goes to school. So, if that gives you an idea. And every time I think, oh, yeah, they're public, I should mention it to Emily and we should do a show. That being said, they're really well set up. They have a good omnichannel business, meaning, if you want a pure online shopping experience with them, you can get it. So, they'll get the bump that Overstock and other pure digital players, but their stores are very, very large. What's good about having a very, very large store. This isn't Costco where there's thousands of people looking to go in and make purchases and browse around, where they have to really manage and control, this is a relatively big-ticket piece of furniture. So, it's easier for them to maintain social distancing, to allow you to sit on a couch and then clean it after, it's probably not a time where At Home is filled with a lot of casual shoppers. I know that in a non-pandemic world, my wife and I might go browse an IKEA or an At Home and just look for things we might want, or City Furniture, things we might want in the future. We're not doing that right now. So, their ability to operate as normal is really strong, and the numbers have been very good.

Flippen: And talk about starting off the earnings call on a high note, management came out, out of the gate, and said, this was the best quarter in the company's history, both in terms of comps, profitability, and free cash flow, plus they have lowest leverage since the company went public. So, they're definitely making the most of this current pandemic. But it is interesting though, the idea of a retailer, physical retailer, potentially outperforming a digital counterpart. How much of that is pandemic-driven purchases versus how many people actually feel the need to go buy in-person trinkets for their home? Because in my mind this is something that I can get really easily on a site like Amazon.

Kline: So, a lot of this is pandemic-driven, but their ability to capitalize on it, because they have the brick-and-mortar store. Now that said, I think they're leaning into some things that I don't necessarily think are going to be true. Talking about how people are going to move out, out of the cities and into suburbs, I think that's really overplayed. And even if it happens, it's going to be a one-time bump, it's not going to be a sustainable thing. But they do both sides well. So, if people want to shop at home, they can do that; if people want to shop in-store, they can do that. I don't think most of their margin is made on the little trinket-y things you could buy on Amazon.

I think if you need new bookshelves, it's not that big a deal if you buy it on Amazon or you go buy it at At Home, it's really, I know Amazon has multiple owned and operated brands of couches. You can buy a couch from Amazon, says the guy who bought a bed from Amazon. But I bought a bed from Amazon in my second home that I wasn't going to be sleeping on more than four or five days a month, fully with the logic that I thought I was going to replace it in six months after I'm a little farther away from buying the home and could spend more money. And it turned out I liked it and it's a perfectly viable bed, so that's all good. That being said, I think At Home, it's absolutely a pandemic bump, but of the companies we've talked about, I think they have the best chance of turning it into an actual customer base.

Flippen: That's definitely true. And as we're recording here, I'm seeing comments flooding in about XPO Logistics, I know it's what we talked about earlier, I am just astounded by how many people who have had terrible experiences with this company. I almost want to do an expose about its business.

But back on the subject of some of these retailers and home goods, I can't help but think about Wayfair. And we don't really need to get into Wayfair the way we have with Overstock and home goods, since we talked about it so much. But I always just scratch my head whenever I think about home good retailers and ask myself, does Wayfair eat these businesses' lunch? Because in my mind they have to spend less money than, say, an Overstock to get a customer on their website, because it's a natural place for me to think to purchase home goods.

Kline: Yeah, Wayfair has done a good job buying front-of-mind consciousness; they're the leader in this space. That said, they do have to spend against the fact that you went to Wayfair, maybe not you literally, but theoretically you went to Wayfair, wanted to buy a patio furniture set under $500, and anything you wanted was backordered for months or you couldn't find it. This is theoretical, not a real example, but it's certainly happened to some people. And then you googled, where else can I buy a patio set? You go to 16 other places and then you end up at, you know, Overstock and you buy your patio set. Well, Overstock can market to you now. So, that is a bit of a risk for Wayfair.

Do I think it's a massive risk? No. I don't like this business, any of this business, I don't understand why furniture buying online would become a major thing. Because again, if I'm buying a desk, I can see it, I'm not that concerned. My office chair doesn't sound like a big thing, but like my home office, a chair my wife is sitting in right now, I was in a container store and I sat in the chair and I went, this chair is awesome, but I don't want to spend this much money. My wife remembered and bought me one for an anniversary or a birthday or something. And I love the chair, it's an important thing, like, I'm not so sure I'd want to buy an office chair that I've never sat on or never touched if it was for me.

So, I think there's a lot of risk for all of these companies. I am not a fan of investing in them, I know some Fools are, and it's really easy to change my mind, but in this case, you know, I'm generally going to say, these are all really interesting, but watch them, don't invest in them.

Flippen: It's funny you say that while I'm sitting here recording on my $20 IKEA office chair that I just never got around to upgrading. [laughs] Maybe I need to visit one of these retailers for myself and figure out what purchase I'm going to be making relatively soon to improve my work-from-home life. But I think I agree with your takeaway here, Dan, which is, interesting companies to talk about, especially At Home Group, I think that's one that we're going to be watching more closely moving forward, but out of this collection of companies, I can't say that I'm really interested in pulling the trigger on any of them.

Kline: At Home is my favorite of all of these, but it makes me wonder why there's an At Home literally like eight miles from my house and I've never been in it. It's because they don't advertise, they don't seem to have the marketing down. Honestly, I wasn't entirely sure what they sold until we started doing this show. And it's a very big and expensive retail footprint that gives them some advantages in terms of doing distribution and being able to use their own stores as warehouses. So, if there's one you're going to consider, that might be it, but I question whether they have the right management, given that they are not front of mind and I see them pretty often.

Flippen: Dan, thank you so much for joining today, it's been a really interesting episode. I'm thankful for our live viewers who are putting in comments for what we can possibly title this episode, because finding a way to connect these companies in a short description is going to be challenging, but either way, thank you for joining.

Kline: So, Emily, let me throw something out there before we close, because this is the shortest episode we've ever done. [laughs] So, we sometimes reference the live viewers, which actually I was told we're not supposed to do, because the people who are listening at home don't know about Fool Live, and it probably makes sense to tell them what we're talking about, because you brought this up. If you're a member of one of our paid services, and that's not an overly expensive membership, I'm not going to shill too much, but if you want to join Stock Advisor, which is our core level service, you get access to eight hours/day of live video programming. If you're not tired of me and Emily, you can see us Monday through Friday do a sports-style, like a Pardon the Interruption-style quick back-and-forth show with audience voting.

There are lots of fun shows, we're going to dig into the Unity S-1 tomorrow, there is every manner of investing expertise, so they don't ask us to do this, but I feel like it creates a weird, like, what is she talking about? And there are people watching this being taped as live video and they get to ask us questions as it's happening. And we're going to stick around for half-an-hour. So, as a podcast fan, you're not able to hear that. So, it's a great service, I'd pay for it myself, in fact, I do pay for it myself. In addition to having access to services, I am also a paying member myself.

Emily, did that clear things up?

Flippen: It definitely did. And I'm happy you pointed it out, I don't know if we were supposed to mention it, I do a terrible job of referencing the live viewers in our podcast, because it has become such an integral part of taping Industry Focus. I know MarketFoolery, if you listen to MarketFoolery, and even Motley Fool Money, our radio show, are all taped right now on Fool Live as a platform, and are taped live, so you get a little bit of the behind-the-scenes look about how we tape things. You can see, Dan's fridge from Lowe's sitting behind him [laughs] in Zoom right now. So, I'm happy that you clarified that.

And again, members, if you have any comments, if you like the live setting, if you hate it, we're always accessible, you can always email us at IndustryFocus@Fool.com. If you're a paying member, you can watch it live and you can send us all of your snide remarks live, it's really a fun position to be in.

But, Dan, thank you for clarifying, and as always, thank you for joining.

Kline: Oh, thank you for having me.

Flippen: Listeners, I kind of already said this, but that does it for this episode of Industry Focus. Do send us your email, send us your feedback at IndustryFocus@Fool.com.

And as always, people on the program may own companies discussed on the show, and The Motley Fool may have formal recommendations for or against any stocks mentioned, so don't buy or sell anything based solely on what you hear.

Thanks to Tim Sparks for his work behind the screen today. For Dan Kline, I'm Emily Flippen, thanks for listening and Fool on!