Motley Fool Hidden Gems Investing - Inflation, Pizza Excellence, and an Overlooked IPO

Episode Date: January 12, 2022

Inflation's record rise (highest in 40 years!) gets a shrug from investors. Chinese ride-hailing company Didi Global gets ready to be listed in Hong Kong. Bill Mann analyzes those stories and discusses the technological excellence of Domino's Pizza's business and the potential for its stock. Later in the show Dylan Lewis and Brian Feroldi take a closer look at Semrush Holdings, a search company that went public in March 2021. Stocks: DIDI, JD, DPZ, CMG, SBUX, SEMR Host: Chris Hill Guests: Bill Mann, Dylan Lewis, Brian Feroldi Producer: Ricky Mulvey Engineer: Dan Boyd Learn more about your ad choices. Visit megaphone.fm/adchoices

Chris Hill. Today on Motley Fool Money, we've got an in-depth look at a company that's a pure play on search, and no, it's not Google. That and more, coming up right now. I'm Chris Hill, joined by Motley Fool Senior Analyst, Bill Mann. Thanks for being here. Bill Mann. Hey, Chris, how are you doing, man? You staying warm? Staying warm. We've also got some news from the ride-sharing industry and the restaurant industry. But we're going to start today with the big macro, the consumer price index rose 7% in December compared to 12 months prior, and all the headlines, Bill, fastest since June of 1982. However, I have to point out,

this was expected. A lot of people came up with this number. When you look at the month-over-month growth, October 0.9%, November 0.8%, December 0.5%, it seems to be slowing. I feel like if you're one of the transitory bulls, you've got a decent case to be made here. When you look at what's happening in the market today, the market is shrugging this off. As well they should, at least. My favorite headline so far comes from Bloomberg. It's by someone named Alexandra Tanzi. The headline is, Cars, Bacon, Men's Clothes, the Main Drivers of 2021 U.S. Inflation. Chris, the bacon trade is back. Thank God. It bears remembering. You would think that at any point over the last decade, if you were to say,

At some point, there's going to be an inflation print of 7% that people really, in some ways, they wouldn't have believed you. It really bears remembering that the fiscal policy that has been in place literally since the financial crisis, 2009, has been all about bringing about inflation and preventing deflation, which is the far scarier of the two for public policy and economic policy folks. So, 7% inflation, yeah, the market is not really reacting. If you were to annualize that over the last decade, we still are essentially inflationless. The real point I want to make in terms of what you were talking about with it being transitory, the highest price increases were gasoline at 49%, used cars at 37%, gas utilities at 24%. Then we get down to meat,

fish, and eggs, the bacon trade at 12%. Those are commodity-driven, supply and demand-driven components of the economy. I would say there's a fairly high chance that next year at this time, that those elements are somewhere close to zero inflation. One of the things we talk about a lot at The Motley Fool on the podcast, in the video live stream, certainly in the articles, the tension for us as individual investors, the head and the gut. Because when you explain it like that, when you pull back, when you take emotion out of the equation. It makes sense. At a gut level, this is one of those things that just doesn't feel it. Nobody likes to see higher prices as consumers. And at a gut level, that's kind of

a scary headline. Fastest inflation growth in 40 years. It just means that a lot of the fiscal policy, and it bears remembering that the fiscal policy tools available to us are kind of like the gorilla and the old Samsonite ad. They've got a thing that they can throw as hard as they can. And that's about it. That's their move. There's nothing precise about it. They have to either flood the economy with additional money or pull that money away. So when they have flooded the market, the economy with money, which is definitely what has happened since 2020, It really has happened for a lot longer than that. This is a logical outcome. And yes, it does hurt to think that your dollar last year buys half as much bacon as it does this year. But

this is what policy folks want to have happen. Because now that it allows them to bring rates more into an historically healthy place. We're going to see rates go up over the next year. Don't know how fast, but this is what allows them to do it. On behalf of the small percentage of the audience who, like me, understood the reference to the gorilla in the Samsonite ad, thank you for making it. And for those who didn't get it, I'll post that on the Motley Fool Money Twitter feed. We move on. Less than six months after it went public on the New York Stock Exchange. Didi Global was delisted the largest ride-sharing business in China. Appears, however, to have found a new home. There are reports today

that Didi is in talks to IPO on the Hong Kong exchange later this year. Before we get to the underlying business and the stock of Didi Global, start with the technical here. What should investors expect and how does this work? What's happening here specifically, really with all Chinese companies, but with Didi in particular, they had such a bad process coming out of the gate. When they went public in the United States, they thought they had permission from the Chinese government, which is the thing that you would like to have, but they didn't. The Chinese government has really grievously harmed Didi's business. At the same time, the U.S. and China are in an argument about disclosures for Chinese companies.

So, Chinese companies across the board need to find a different home, and the most likely home is Hong Kong. So, you've got a company that the Americans are angry at and the Chinese are angry at, their next step has to be to get onto the Hong Kong market, because you've got a number of shareholders who are in a country where, let's face it, Didi is not really wanted here on the markets, but they have to go somewhere. Hong Kong is hopefully that place where they will go that will give investors continued liquidity. If I can buy shares on the Hong Kong exchange, should I be looking at Didi Global? I will point out that, and you mentioned the challenges, for lack of a better word. I was being nice.

I'm also trying to be nice. It was a disaster. The challenges that they have with the central government in China. You look at the stock, it really took a beating in its short life on the New York Stock Exchange. But if I can buy shares, it is the largest of its kind in its industry in China. Yeah. It has lost something on the order of $7 billion. At current run rates, it's going to run out of cash. I don't think that really most any Chinese company is particularly viable given the current environment in China towards capital, but Didi is at the top of the list for me for unbuyable securities. They essentially have had their apps taken off of the app stores throughout China. They are not allowed

to make any public statements. This company has made the wrong people angry. It would be a pure punt to buy Didi when there are so many different ways that you can, even if you want to get exposure to the Chinese market, I don't think Didi is the best way to do it. What is the best way to do it. Well, not that. No, that much is clear. For me, I think that the most viable company in China is JD.com. Remains to be the one way that I would suggest that people get exposure to China. Let's close with some data from Domino's Pizza. This comes from the ICR conference, which is an investment conference

earlier this week. It features both public companies and private companies. One of the data points that Domino shared is that they now get more than 75% of their sales through digital channels. This caught the attention of David Henkes. If you're a long-time listener to the show, you've heard David Henkes as a guest a number of times. He's a senior principal at Technomic. Bill knows him because you two were college roommates. Somehow, he survived that experience to become one of the top industry analysts in the food and beverage space. I served as David's warning for what not to do, apparently. He's fabulously smart, very insightful. The 75% that come from digital sales is higher than the amount of revenues

that Domino's gets from delivery. Their delivery numbers are only 57%. So here's what Hank has had to say about this. And you and I were talking this morning, we both think this is worth expanding on. He wrote on Twitter, such an important part of their strategy and one that they've executed pretty flawlessly. Other pizza players working to catch up, but this is a huge competitive advantage for them. It absolutely, yeah. So, a couple of things here. First, the line that Ron Gross and you and others have said for years about Domino's, it's not a pizza company, it's a technology company, is borne out when you look

stats like this. We should take a moment and just applaud them because it really is one of those things that is breathtaking now as we look back on what they have built. In 2010, when Patrick Doyle was the CEO and pretty quickly on the job came out and said, our pizza is not very good. We've talked to a lot of people and our pizza isn't very good and we're working to fix it. They even did an ad campaign on that. They did a whole ad campaign on it. Brilliant. The way that he and his team helped transform the business, 10, 12 years ago, if you were a shareholder of this company, you never could have dreamed it would turn out this good.

You know who really changed my insights onto Domino's Pizza? It was Salim Basool, who was a longtime friend of The Fool. He was the CEO of Middleby Corporation. Middleby made, Amongst other things for kitchens, they made pizza ovens, both industrial and smaller-scale pizza ovens. And Salim said that the restaurant companies that you wanted to focus on, he's like, and this is not glamorous, are the ones who are the best at turning their kitchens into factories, into rapid production, many times making the same move over and over situations. And Domino's is at the very top of that list.

and it is 100% technology that has gotten them there. They absolutely, positively deserve. The companies, since 2014, its shares have outperformed Alphabet's. The Google has not performed as well as Domino's Pizza in the public markets, and it's justified. I'm still scratching my head over the fact that this is, let's just round up and call it, an $18 billion company, which puts it solidly less than half the size of Chipotle, and that's not a knock on Chipotle. But when you look at Domino's Pizza, the underlying business, as David points out, the huge competitive advantage that they have right now, that the others are trying to catch up, and good luck to them. Where do you put this stock

right now? I wasn't going to suggest that it looks cheap because unlike plenty of stocks over the last six months, this thing has actually performed well. It's up about 25% over the past 12 months. Is it an expensive stock? Or if you believe in the future of pizza, as I would argue all right-thinking people do, this is one with room to run. Big pizza is not to be trifled with. Is that what you're saying? I wasn't loving them in as big pizza, but they are big pizza. Because to take the other side of it for a second, there are plenty of people who live in areas where there is amazing local pizza and they think to themselves, I'm not like, and by the way, you and I live in one of those areas. I don't remember the last time I bought Domino's pizza. There was a

children's birthday attached to it for sure. Yes. Other than that though. Domino's at this point is one-sixth the size of Starbucks. That, to me, is staggering. About half the size by market cap. By market cap, it is about half the size of Chipotle. I would have, if you had had me, and I know these companies rather well, but I bet you a lot of people would say, if you were to ask them what the largest of the three was, they may actually pick Domino's. Domino's isn't going to be a fast grower, but I really do think that it is a very interesting proxy for Starbucks, because Starbucks has grown at a 20% clip, which is great growth, but they've done it for 20 years plus. And I see Domino's as having the potential to do

that same exact thing. That's a pretty delicious basket of stocks we just put together. Coffee, burritos, and pizza? I think we got to go. Yeah. Bill Mann, thanks for being here. Thanks, Chris. Dylan Lewis Last year, a record number of companies came public and when you consider how many of them are trading below the price they closed at on their opening day, it's a reminder that being a public company is more challenging than being a private one. But some defied expectations and are looking good heading into their second year of being public. For a closer look at one such company, here's

Dylan Lewis. Today, we're zooming in on a 2021 IPO that we probably should have been paying attention to earlier, SEMrush. Joining me is Brian Feroldi. Brian, if you work in digital marketing, you have heard the name SEMrush. If you don't, there's a hint as to what they do right there in the name. Yeah, the SEM in SEMrush is an acronym that I was unfamiliar with, but the SEM stands for Search Engine Marketing. Essentially, what SEMrush does is it's a software company that helps other companies to identify and reach their customers online. SEMrush has a suite of more than 50 tools that enables companies to improve their website, improve their social media pages, and that helps them efficiently reach and target their audience. Folks that are

listening might say, okay, digital marketing, software provider, feel like I've heard this story a lot. Looking at the business, it's a $2.5 billion software company. It seems kind of niche. Why should I care about this? And I think the reason I wanted to bring this one to our listeners is understanding this business and really the role that they're playing for anyone that has an online presence is kind of key to understanding what's happening right now when it comes to online content and how businesses are acquiring customers in the digital age. If you're a brand, it's never been more important to develop a direct relationship with your target audience. More and more people are going online to make decisions about who they're going to buy

from. So if you're a company that doesn't have a strong online presence, you are just going to get missed out. And that trend is just going to continue over time. Now, SEMrush points out there are basically three primary ways today that brands go online to find and interact with their customers. The first and the easiest way is just through paid advertising. Now, that is a plus because you can drive immediate traffic to your website, to your app, to whatever you want to. However, it's costly to do that in the short-term. A medium-term strategy is to focus on social media and use things like press releases to build up a base of fans over time. That's a great strategy, but it can take a little while to get that going.

And then the long-term is to really master content creation and search engine optimization. So that way you drive consistent organic traffic to your properties over long periods of time with very little effort. However, that's something that really pays off in the long-term. So SEMrush really helps companies to focus on all three of those to make sure they drive immediate traffic to their sites as well as build up a base for the long term. And doing so, they provide more than 50 tools that can help with things like SEO, press releases, content marketing, search engine marketing, and more. And while there are plenty of competitors in this space, SEMrush is one of the leading providers of really a full suite of services that can handle almost anything that a company can need.

And the company uses a freemium model to get customers on board. So they currently have more than 400,000 customers that use their free tools, and they've converted more than 79,000 of them into paying customers. To root all of what you just said right there, Brian, into the end user experience and what people see online. If you've ever looked for information on a topic, say you're exploring new flooring or something like that for your kitchen, and you hit a page that is run by a flooring company with a breakdown of all of the different flooring options and the pros and cons of it that looks a lot more informational than salesy, that's a company that's focusing very deliberately on their organic acquisition strategy. They're trying to create content

that ranks on Google that will be part of the funnel for them in acquiring customers. Like you said, it's more of a long-term strategy. You really have to lay those building blocks in there so that you can rank good content continues to win out over long-term periods, but it's a very effective strategy because the acquisition costs are so low once you build that content. That's correct. It really helps you to build trust and loyalty amongst your consumers. So, companies that are not focused on this strategy today are really going to miss out in the years to come. Looking over at the financials for SEMrush, this is a company that has all of the markings

of a software-as-a-service provider and a company that is aggressively investing in its own growth. Brian, perhaps not surprising, because we are kind of still in a land-grab period when it comes to digital real estate. Yeah, that's correct. This company's financial results are what you would expect to see from a software-as-a-service company. they are essentially really impressive. As of the most recent quarter, this company's top line was

growing at a 53% annualized rate. In the most recent quarter, they did about $50 million, $49 million in sales. Margins here are very strong. The gross margin is 77%, a very good number. Now, the company is purposely putting as much capital as they can into their sales and marketing to drive continued growth. More than half of the company's gross profit goes into sales and marketing. But even with that very high level of spending, the company is producing a net loss during the quarter of just $615,000. That's essentially a breakeven. If you look at an adjusted basis, the company is profitable. That's exactly what the company should be doing at this stage of its growth phase.

Yeah, we talk about it often. There's a time where it's okay for a company to not be banking a lot of money on the bottom line if they're in a customer acquisition phase where there are a lot of people playing in this space, the opportunity is big, and really becoming the default or the industry leader is so much more important than showing short-term profits. I'm sure some people are hearing us talk a little bit about this business and saying, I've seen so many SaaS companies come public over the last couple of years. Even as we're talking about this business, it probably sounds a little bit like HubSpot to some people. The core financials for these businesses always look incredible. The key test for me with

something like this, Brian, is how do they address the needs of their customers, and how does that show up in the numbers that we see from the business? What do you see there? Well, the most important number that me and you look for is the dollar-based net revenue retention rate. That's a metric that shows same customer spending from period to period. It adds in upselling and subtracts out churn and then downselling. Any number over 100% is what you want to see. For SEMrush, in the most recent quarter, this figure was 124%. That's a very strong number. That is a little bit elevated compared to this company's historic comps. One reason for that is because management

said they had an easy year-over-year comparison due to what they saw last year. But the fact that that number clearly indicates that Sunrush is doing a great job at attracting customers, retaining them, and upselling them over time. That's exactly what I want to see as investors. Yeah. We are customers of this product. I reached out to some of the SEOs at The Fool just to see, how does this product work within your day-to-day? Is it something that's really important? Where does it stack up in the industry? Basically, if you're an SEO and this is the software that your company has chosen to use, this is something you're interacting with almost every day to monitor the success of your organic traffic strategies. I think the best way

to sum up where they fit into this landscape, Brian, is they are not necessarily the top dog in every respect, but they offer something pretty compelling across the board for people that are focused in all of these zones. Yeah. If you want help with just search engine optimization or just with press releases, there are lots of different choices that you can go with. One thing that makes SEMrush stand apart from those is that they have more than 50 tools, and they are amongst the leader in dozens of different search engine marketing categories. This isn't the only solution that's out there, but it's one of the most biggest and well-known. Of course, it can't be all roses. We have to talk about risks when we're looking at

businesses as well. Some of the risks for a business like this are going to be familiar to folks. It's a high-growth business. The valuation is going to be a little bit beyond what we might see for more established companies. But if you've been paying attention to online properties over the last year and a half or so, especially ad-based businesses, there are some risks that are specific to this niche that you got to pay attention to. Yeah, for sure. Just one broad risk that goes really amongst all the players in the industry is the disappearance or the gradual disappearance of cookies. Marketing companies such as SEMrush do rely on cookies to help them track and follow their users and create insights from them.

I think it's just a matter of time before cookies become a complete thing of the past, and that might impact SEMrush's ability to service its customers. Now, on the flip side, that's not a company-specific risk, that's really for the industry-wide. There's actually an argument to be made that if cookies disappeared, it could perhaps enhance SEMrush's competitive advantage in the industry, but no doubt cookies are something to watch. In addition to all the strengths we talked about, I wanted to get this one in front of listeners because, yes, it's a company that is signposting where the world is going and really how businesses work right now, but also it's a relatively small business that is serving a specific market really well. We have

seen a lot of SaaS companies do that and put up incredible returns for shareholders. Yeah, this company is very much in my sweet spot as an investor. It's a leader in a category that is primed for growth. The financials are very strong. It is founder-led, and it clearly has compelling economics working for it. When you combine that with the fact that the company's market cap is currently about $2.5 billion, it doesn't take a lot of imagination for me to believe that this company could be much, much bigger in the years ahead if it can continue to execute. I think it's particularly compelling, Brian, because if you're interested in investing in megatrends like online search, like online ads, a lot of the business that you're going

to be looking at are the likes of Alphabet and Google or Facebook. Those are huge companies already. It's a little hard to find smaller companies that have tremendous upside in this Yeah, when your market cap is measured in the trillions of dollars, it takes a lot of imagination to believe that those companies will be five-baggers-plus in the years ahead. When you compare that to SEMrush's $2.5 billion market cap, it doesn't seem outrageous to me that this company has the ability to 5X or more. If you're interested in doing more homework yourself and checking out the company, the ticker is SEMR. Brian, thanks for joining me.

Thanks for having me, Dylan. That's all for today, but coming up tomorrow, we'll discuss the megatrends in real estate that investors should know about. As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill, thanks for listening. We'll see you tomorrow. Thank you.