Motley Fool Hidden Gems Investing - FedEx Paints a Macro Picture

Episode Date: June 26, 2024

2024 was a year of uncertainty for FedEx and the business of getting goods from A to B. Looking out to 2025, they expect shipping to pick up again. (00:21) Asit Sharma and Dylan Lewis discuss: - Rivian and Volkswagen’s partnership and why capital and scale are the name of the game in electric vehicles. - FedEx’s year focusing on costs paying off, and what their outlook says about the general macro picture. (15:24) Adam Ante, CFO of Paycor, walks Ricky Mulvey through how the company fits into the landscape of payroll and HR software and the investment thesis behind naming an NFL Stadium. Companies discussed: RIVN, VWAPY, FDX, PYCR, PAYC Host: Dylan Lewis Guests: Asit Sharma, Adam Ante, Ricky Mulvey Producer: Ricky Mulvey Engineers: Tim Sparks, Dan Boyd Learn more about your ad choices. Visit megaphone.fm/adchoices

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Asit Sharma. Dylan, I'm excited to be with you today. We've got a look at two businesses up big this week, and I'm excited to dig into them. We've got FedEx and Rivian, both on the move, both in the green. We also have a check-in with a CFO on software spend and naming rights for NFL stadiums. Asit, let's kick off with the biggest of the big movers today. Electric vehicle maker Rivian up over 25% this week after news out that Volkswagen is going to be putting $5 billion into the business. I'm going to run through the terms of this quick, and then I want to get your take. That $5 billion

is broken up into a few different pieces. Rivian's getting a $1 billion initial injection, plan to grow to a $3 billion stake from Volkswagen over time, and then a $2 billion investment in a joint venture company that will supply future vehicles for both Volkswagen and Rivian. Market clearly loved the news for Rivian here. What do you see? I think this is good for both companies. It's clearly good for Rivian, which has been burning cash on its way to gaining scale in the EV industry. That's really what you need, Dylan, to play in this game. You've got to sell enough vehicles that you have a positive gross margin and have positive cash flow. Right now, Rivian burns through a billion plus bucks. I

didn't look at the numbers too closely this morning, but guesstimating this past quarter about $1.4 billion in negative free cash flow. But it's doing that as it gets to a build number, volume number, which will make it profitable. So, it does need more capital to be injected into the business. And we saw with Elon Musk and Tesla early on a great ability for that company to raise money, raise the funds it needed to reach scale, which it finally did. So, this is helpful for Rivian. I've got some thoughts on why Volkswagen would want to team up with them, but I'll pause here for some thoughts from you. Yeah, it was funny. I was listening to our shows last week and hearing your discussion on Fisker with our colleague Mary, and it was ringing in

my ear as I was looking at this news. Scale and capital. Rivian seems to be getting a bit of both here. They did have about $8 billion in cash and short-term investments on the books. But to your point, the cash burn for this business is serious. Rivian co-founder and CEO RJ Scarange did note, this partnership is expected to help secure our capital needs for substantial growth. We have wondered with the EV upstarts, can they continue to move through all of the waves of this market, the interest moving in and out with consumer demand? This seems to shore them up, at least for the next few years. Yeah, I think so, too, Dylan. With the cash and investments that are on the balance sheet,

plus an injection of somewhere between $4 billion and $5 billion, they're probably good to go. They're going to make it. I think that's one reason why the stock is up so much this morning. Now, what's in it for Volkswagen? That's such an interesting partner for Volkswagen because it's not a company that has reached scale, but there's been so many great choices that Rivian's management has made in building the company from the ground up. One is, and Volkswagen calls this out, one is this software-defined vehicle architecture. And this is really everything on the software side that Rivian does, like connectivity, being able to have over-the-air updates, so software updates that affect the vehicle,

being able to customize vehicles, integrating with future autonomous technologies. So, all of this is something that Volkswagen, as a major manufacturer, is very interested in. It saves Volkswagen from having to solve some of the problems of keeping up their legacy approach and then transitioning to the new. There's one other thing that was called out in the press release, and this is zonal hardware design. Every manufacturer has a different approach. Tesla has its own approach to manufacturing. We talked about Fisker last week, something that I think Rivian has excelled in is the idea of building cars within zones. When you do this and assign a different zone for each piece of hardware, you reduce the wiring that

is needed in the vehicle, you reduce complexity, the maintenance becomes easier, future support becomes easier. This is something that Volkswagen over in Europe is looking at and studying for its future design vehicles. The ability to have multiple types of vehicles across different platform design choices is maybe one of the, not the holiest of grails, but the holy grails of this business. Rivian has a take on this in this zonal approach. I think when you look at those two, the amount of cars that Volkswagen will already be able to produce profitably, it's a great proposition for them. It won't happen overnight, though. It's going to take that five years, the five to 10-year range for Volkswagen to realize

the advantages of this investment. I like that you zoomed in on the software piece of that. Largely, the market reaction of this on the Volkswagen side was a yawn. I actually think there should be a little bit more excitement for this. Software issues have plagued Volkswagen for the past few years. Their carry-out divisions issues have led to delays in launching vehicles in some cases. This seems like something that they need to get right. Market didn't really care much about the news, but this seems like something that Volkswagen's management is rightly focusing on to set themselves up for that next stage of growth. Of course. Memory is so short. Five years from today, analysts will be talking

up Volkswagen's superior software choices and how they seamlessly update their vehicles over the air, forgetting that they yawn today. But, that's investing. One thing I did want to dig into a little bit on this, Rivian, currently a $15 billion company. It may grow a bit in the time that Volkswagen ultimately builds out that full $3 billion position, but they will become a sizable shareholder here. We are starting to see some cozying up in general in this market. What should investors have in mind, Asit, as they see some of these partnerships, both in the joint venture space, but also with Volkswagen now owning a substantial amount of equity in Rivian? Right. It's a very good point, Dylan,

because some of the future investments will come in the form of further stock purchases. I think in this case, you want companies that already have a cooperative nature. This wasn't a deal that happened overnight. We learned that they've been studying technology back and forth for several months. If you're a Rivian shareholder, you want a deep-pocketed partner, someone who's going to have $4 billion or $5 billion in the game. If they need to spend another billion, they're going to salvage their investments. You want that as a Rivian investor. If you're a Volkswagen investor, you want to buy the technology. Note, some Some of this intellectual property that Rivian has is going to be licensed back to the joint

venture. You want to get that while it's cheap. When the EV industry is slowing down, when companies like Rivian are in better shape than some, but they're depressed, the multiples are depressed, this is a great time for Volkswagen to pick this up. From the side of being that Volkswagen shareholder, this is what you want as well. I think it's good for both companies. in these situations, watch the amount of control that could be gained. Now, because, as you

mentioned, Rivian doesn't have a super small market cap, this investment isn't going to be one where Volkswagen can call the shots in the future. They can have influence, but we may see some scenarios where EV makers get bailed out, and they won't be able to call their own shots anymore. So, that's something to look forward to if we see more of these deals come down the pike. All right. Also up this week, FedEx shares up almost 15% following earnings. They looked, in a lot of ways, like the earnings we were expecting from this business. The theme for this company for a while this year, Asit, has been not a lot on the top line,

but we are focusing heavily on the cost structure of this business. That seemed to be a lot of the main talking points from management when they were running through the results. Yes. I think this reflects, again, scale, but of a different sort. Let's now flip the page and talk about companies that are already at scale and are growing more slowly. Let's talk about yawns again, Dylan. The market yawned last year when FedEx said in fiscal 2023, we're going to cut $4 billion to $5 billion out of our cost structure by fiscal year 2025. That's not as exciting as saying, oh, we've just found this great way to accelerate our revenue. In fact, the initiatives that FedEx has rolled out, and there are several of them, are sort of boring.

There's Network 2.0, which is consolidating FedEx Express, FedEx Ground, FedEx Services, all those systems into a unified system, and finding some cost savings there, really speeding up throughput, getting improved delivery speeds, etc. There's OneFedEx, which is another, it's such an exciting name. I can see you. We're watching each other resume as we record. I can see you so excited to hear that. And that's like unifying the customer experience, making the branding more consistent. Then they have this overarching cost initiative called DRIVE. And there's an acronym for DRIVE. I won't bore listeners just now, but the upshot of it is until those results start to come through, it's a yawn because so many companies do this.

Here's the difference that I see. FedEx is a company that's approaching $100 billion in annual revenue. I think they'll reach that in just a few years. We've seen companies at scale like Walmart and Amazon, which also sell in the hundreds of billions of dollars, really juice up profits and cash flow with just a little bit of improvement in operating margin because when you've got $100 billion in sales, you cut 1% from that total expense category, that's a substantial amount of profit that you can take and cash flow that you can generate and perhaps invest in the business, return to shareholders. Some of this, I think, is investors are warming up to what FedEx can do with this cost savings in the future,

and just imagining, even if it grows a little more slowly, the results could be substantial for shareholders. I think maybe some of the excitement here and some of the reaction that we're seeing from the market is the fact that, in addition to this most recently reported quarter, we got a look at what they are expecting, and they are indicating that we are going to see a return to growth for 2025. Very welcome news, because that has not really been the story in 2024. I love talking about FedEx because it is one of those bellwether companies. We can look at the individual elements of the business, but we can also take that step

back and see what it says about the overall macro picture, seeing them signal that they're expecting a better year ahead. Asit, what else do you read into the results? I read into these results, and Raj Subramaniam, the CEO of this company, mentioned some of these themes that you're bringing forward, Dylan. I'm reading into this that there is possibly like a tailwind that arises. They see the results of the cost savings, they see the return to growth. But because FedEx stock got slammed so much, they're being conservative. I think maybe other investors are reading this into the tea leaves that really they see an improving macro picture. They're going to outperform their estimates

like next year. I think there's something to be read between the lines here. They don't want to come out and say, our economists have told us, next year is going to be so good. But that's what they're saying. They think the macro is going to get better. When it does, it's not going to light a fire under this stock, but it's going to put some heat under this stock. To your point, I think that management from FedEx has been careful and very conservative in what they've tried to signal, in part because the environment has been so hard for them to anticipate. I think we see a lot of signs of that. You go back just to their report that came out in December of 2023, shares were down 10% after they indicated they would

wind up down year over year instead of flat. We now have the benefit of looking at their full year numbers. They were able to eke out 1% growth, but I think they wanted to provide that signal to the market that there may be some pain ahead and be able to surprise to the upside, Asit wouldn't be surprised to see more of that as we look out to the future and maybe the macro environment sures up a little bit for him. Yeah, I agree. I think my last thought on this is, they're really expressing confidence in their ability to find cost savings. It's one thing to let go of some employees, to dispose of some underperforming business lines. It's quite another to really do the boring

stuff we were talking about, to streamline processes, to unify disparate systems and start to spend less on stuff. I think there's a little bit of swagger today, like, hey, we got this. We can streamline our operations, and we can deliver some more cash flow and earnings to shareholders. There's some well-deserved confidence in the tone of today's call. You know what? I love seeing the market cheer on some of the boring stuff. Asit, it's important. We need to recognize the boring stuff and give that some love sometimes, too. Totally. Dylan, we're used to seeing the companies that are on everyone's like the front of topic, front of mind companies take off on a given day. And you and I were just chatting last night on

Slack, like FedEx up 15% pre-market. What? Like good for them. Yeah. Awesome. Thank you so much for joining me today. Thanks a lot, Dylan. This was a lot of fun. You just found out that your sales team is at risk of missing quota. Don't panic, just ask Rippling AI. Since it's built on your real-time people and business data, Rippling AI can pull metrics from Rippling and Salesforce into a meeting-ready dashboard showing quota attainment, headcount plan, and monthly revenue to quota by region. In seconds, you'll see exactly what's behind your quota risk and fix it before it's missed. Question answered, action taken, crisis averted. When you have critical business questions that need answers, don't just file a ticket and wait weeks for an outdated report.

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Coming up, my colleague Ricky Mulvey caught up with Adam Ante, the CFO of Paycor. You may know the name as the sponsor of Paycor Stadium, home of Ricky's Cincinnati Bengals. The company builds payroll and HR software, and in the convo, they take a look at where Paycor fits into the competitive landscape, how Antti is thinking about artificial intelligence spending, and the investment thesis behind naming an NFL stadium.

Quick note, Ricky and Antti refer to NRR. For newer listeners, that's Net Revenue Retention, and it measures a company's ability to retain and grow revenue from existing customers. for someone listening they probably don't know the differences between hr software and and there's there's a lot there's there's pay paycom paycore oracle has an hr offering workday ukg adp and so i think i think for a table setting approach it's it's where paycore sort of fits into this this landscape would be useful for them and me. Yeah, yeah, sure. Well, maybe I'll just start with PayCore a little bit, and then we can talk about the market more broadly. PayCore is a modern

HCM solution focused in the S&P market. And we do software solutions from talent attraction, onboarding, performance management, OKRs. And of course, payroll is at the heart of our core offering. We focus in what we call the 10 employees up to about 2,500, maybe up to 5,000 employees. That's a target company size. And this is really a little bit different for software versus payroll and HCM. We like to segment the market by employee size. And that's not really how companies think of themselves. I mean, companies think of themselves as a manufacturer or, you know, a global supply chain management company. But we do that because of the complexity usually of the business follows employee size for payroll and HCM. So when you go across the

whole competitive stack, there are dozens of companies and it's generally based on the complexity of the market. So you have companies that face or that focus on under 10 employees, under 20, under 50 employees. So that micro and small end of the market, you have players like into it. Some of the larger ones now are growing, like Gusto. But clearly, Paychex has been there for a long time. But they're really focused on the small end of the market, under 50, under 20 employees. Then you have the large enterprise organizations like ADP. ADP plays across the whole stack, but they have a huge enterprise focus, Workday, Ceridian, UKG. They tend to play more upmarket. And then in the mid-market segment, there's just a handful of us.

And so it's, you know, from a native cloud platform, you have us and of course, Paycom, Paylocity, ADP plays across that stack as well. But that's why it looks like it's a more crowded space than it is because no one has a platform that goes from the micro segment all the way up. ADP has multiple platforms to serve each of those segments just because the complexity of payroll and labor management become increasingly harder as you grow your organization. And talking about the product, one of the claims I've seen is that PayCore increases retention by 10% at an organization. Can you walk through the claim and how the product does that?

Yeah, so the note is that clients who use our talent solutions see an increased retention of 10% versus those who don't. It's hard to say that it's always the talent increases their retention, but clearly companies who are using the talent solutions have more of a focus on talent management, and it's around talent attraction. Finding the right candidate upfront is clearly the most important dynamic. Finding great candidates, we have a passive candidate sourcing tool, and we found that passive candidates, if you can find those and attract them, then they're more likely to be successful and stay longer versus somebody who's actively looking in the market or who's already

lost their job and looking for another role. Then we've gone really deep into both employee engagement, as well as organizational management. So the performance management, the one-on-ones, all of that is tied together. You're probably not like this, but when I first started 25 years ago, we would do all of our performance management in a Word document. It would get saved somewhere online and you would never see it again, but it would be done once a year. And now you can manage your one-on-ones in the application. You could schedule from the application. That will roll into your organizational targets that you want to set, your goals, how are you achieving against your goals. And then your performance management is really just stemming from all of your one-on-ones

and all of the comments that you've made against your OKRs. So it's just much more integrated. And the feedback is really critical that you're giving feedback in real time and as close to actionable as possible. So to have a more regular cadence is clearly more important to help drive employee engagement and enable frontline managers to be more helpful for their employees and then be able to drive more engagement with employees. So we actually have built a lot of our solutions with the frontline manager in mind. So all the way through from onboarding to, of course, there's efficiencies in payroll, but it's really around the talent management, performance management, coaching, the micro-learning capabilities.

Let's talk about AI for a sec, because it's in an interesting spot for your company where I think there's a difference in pressure between your investors who want to see AI use cases and also your customers who aren't necessarily asking for it. AI is also incredibly expensive. And while there's a lot more spending on it than revenue generation, especially for a company like PayCore, how are you thinking about AI spend right now? Yeah, I've been really excited about AI since, well, I mean, we've been using AI for a long time, but when ChatGPT first launched, it was really exciting to see some of the potential and some of the use cases even early on. And we spent a lot of time evaluating, reviewing, how can we use this? What are the opportunities?

And we launched some small things into the product. We've used other more machine learning based AI capabilities inside of the product, like the candidate sourcing tool, which we've been able to charge for. But I think you're right. There's a lot of AI functionality that's interesting. It's cool. It's fun. But most folks are not ready to pay for it. And the value just really isn't there yet. And we see the same side from the internal side when we're evaluating products. There's a lot of co-pilot capabilities. There's a lot of interesting things that look fun that just don't have the value quite yet that folks are, especially from a business enterprise value, really ready to go spend significant dollars on. So, what's an unlock you'd be waiting for where you would say,

once AI can do this, I'm ready to spend a bunch of money on it here at PitCorp? Yeah, that's interesting. I mean, I think if I start internally, things like the agent assist capability, which has been a long time in the market, but it's getting to the next level where you can really start to see that the AI understands your product, understands the challenges of your specific customer as well, and that they could present that back either to an agent internally so that we can help the customer or to the customer directly, which I think will take a little bit more time. But I think that would really be game-changing. That's going to be next level. And we see some companies are starting to see some value there. I think some of the

commentary that I've heard is probably overblown in terms of folks getting that much value out of it today, but I definitely see the potential there. I think some of the co-pilots continue to be interesting. But helping developers, I think, is one way to get them up to speed faster. We see that younger, meaning earlier in their career, developers tend to engage in the co-pilot capabilities faster, and then they can just get up to speed a little bit faster. But understanding the internal infrastructure and making sure that you understand where all the databases are, how the architecture of the software works, how all the products work together, AI is not quite there yet in its ability to sort of scan the system and understand how to navigate.

So I think that will be one of the next level unlocks. One of the things that we're really excited about, because we're working on it internally for our product, and I'd love to see more of it on the back office side and the efficiency side, is leveraging an AI capability on top of other models that are more specific. I mean, we're starting to see some of this come together, where you might have three, four, five, 10 different models that have a functional, specific capability. And then you have an ability to sort of chat with that capability on top of it and it can navigate and then drive workflows. I think that's maybe where it's going to go. I want to talk about the numbers a little bit and then we can do some, there's more fun topics. I

want to talk about when you report earnings, you split out the growth rate in revenue and the growth rate in recurring revenue. I think both of those are about 18 to 16% on the year, but not Net revenue retention. What's the net revenue retention looking like for PayCore this year? Last year, net revenue retention was just at 100%. We don't share it quarterly because it's honestly not helpful on a quarterly basis. Some of the dynamics are just the way that it moves around. We look at it on a full year. We'll report that at the end of June. Some of the pressures on net retention this year are going to be the same for sales growth. That labor market growth is a part of our number. And you'll sort of build from gross retention, plus cross-sell

opportunities, plus any pricing changes in the portfolio, and then that labor market growth. And so, the labor market growth has been a little pressured, of course, like we've been talking about. But is attrition a problem? Because you're also raising prices on sort of the per-employee month for folks using the software. Attrition's not a problem. No. I mean, the reason why we have given price increases, which is fairly standard and typical across software, but broader industry as well, is really as we continue to invest in the product, we release new functionality, features, a lot of those AI-type capabilities, we've released that, but along with a litany of other

features and functionalities. And then we continue to invest in the service model. That's been a big part of what we've done, especially following 2020, where we had some service pinches in our organization. We've continued to invest quite a bit back into the service model. So those are the things that we look for when we do regular price increases. Now, what I really want to talk about, which is that you have a stadium named after you. You have an NFL stadium where the Bengals play, Paycore Stadium. You're one of the few CFOs who's probably been a part of the decision-making process of, how much money are we going to spend to name this stadium for 16 years? What's the calculation that goes into that? What's the

investment thesis for a B2B SaaS company naming an NFL stadium? I was skeptical as I went into the deal, thinking about how we were going to generate returns. We started to break it apart into a couple of different dynamics. We thought about, first, the brand side of it. There's only so many NFL stadiums. They're the largest cities and markets in the country where we don't really have a brand presence on the West Coast and very little in the Northeast. And so, it was an opportunity to get into some of these markets where we might be able to extend our brand. And that is hard to quantify, of course. And brand awareness takes a long time to roll through to new business. But that's one of the dynamics. Then you had this investment back into the city

of Cincinnati and being a part of the story that the Bengals were going through right after we became public was a little bit more of an associate experience side. It's not a huge value, but it's been an important part of our broader brand and our employment brand. The primary driver is really about the ticket activation and the sponsorship activation. And the activation side of that is really, how are you going to use the suite that you get? How are you going to use the season tickets that you have and the engagement that you can create across other markets? So we have a really strong partnership, or we're able to get a really strong partnership through the Bengals on the activation side. And that's clearly around creating experiences, bringing prospects and customers through the

stadium, other stadiums as well, and being a part of the NFL brand. And that actually has been significantly better than what we had anticipated. Again, the brand in the NFL is really strong. It has a huge draw. And the experience that we're able to create both in Pecos Stadium, but then also going to Dallas or going to San Francisco and going to Florida and bringing our prospects and customers there to be a part of it has been incredibly successful. Again, like better than what we had anticipated. How's that work? So once you name a stadium, you get like a tradesies with

Jerry World or? Well, yeah, exactly. It's really around, it's not once you sign it, but you have to bring it as part of your deal. So you got to negotiate that through the deal. And it depends on each of the stadium and each of the vendors and each of the teams, what you're going to be able to get into. Clearly, SoFi Stadium comes at a different price tag than PayCore Stadium here in the Midwest. But we were able to get a great deal with the Bengals. We really have appreciated them. They were a customer before. We had sponsorship with them before. And we found like it was a good value. So, I probably know the answer to this. I got to take one shot at it for a headline grab. How much of a different price tag is SoFi Stadium than PayCore Stadium?

Well, it's quite a bit of a difference. Yeah. I believe the SoFi Stadium cash was over $20 million a year. And we're in the $6 million plus for the first year. And of course, it escalates over time, but it was quite a bit more affordable for us. In negotiating and being a part of that decision-making, what have the results been two years later? What did you learn? Yeah. I mean, I learned that it's really important upfront to spend the time and make sure that you bring in the right partners, you have a right understanding around the dynamics. We brought in a third-party consultant who has priced a lot of these deals and negotiated deals before. I think that was

really important for us to be able to take the time and make sure that we get all the dynamics right, that we have the right players at the table, that we have the right insights. And then the other side that I think typically CFOs and maybe finance folks are a little bit more leaning into is sometimes you have to take these chances and you're making bets that are hard to quantify, not unlike AI and where AI is right now. You're taking a bet, you're making a bet on something in the case of brand and brand extension into new markets. And one of the really cool things that we've seen is that our brand awareness in these markets, like San Francisco, as an example, have gone from under 30% to over 70%. And this is part of it.

It's just part of it. So those are things that it's hard to quantify. You want to put it in a model and say, this is the value. But sometimes you have to take a little bit of the back. As always, people on the program may own stocks mentioned, and The Motley Fool may have formal recommendations for or against, so don't buy or sell anything based solely on what you hear. I'm Dylan Lewis. Thanks for listening. We'll be back tomorrow.