Motley Fool Hidden Gems Investing - Shopify: Bull vs. Bear

Episode Date: August 8, 2022

What's the optimal degree of concentration in your portfolio? (0:25) Jason Moser discusses: - Nvidia warning that 2nd-quarter revenue will be lower than they'd previously guided - Why Nvidia's long-term thesis appears to be intact - A listener's question about whether to sell some winners in his portfolio (12:31) Shopify's down 70% this year. Does the former high-flier have enough of a moat to fend off the likes of Amazon? Ryan Henderson and Jose Najarro join Ricky Mulvey in a bull vs. bear debate over Shopify. Who made the better argument? Vote in our Twitter poll @MotleyFoolMoney Stocks mentioned: NVDA, SHOP, AMZN Host: Chris Hill Guest: Jason Moser, Ryan Henderson, Jose Najarro Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Chris Hill. NVIDIA provides new guidance and we've got a bull versus bear on Shopify. Motley Fool Money starts now. I'm Chris Hill. Joining me in studio, Motley Fool Senior Analyst Jason Moser. Good to be here. Jason Moser. Good to be here. Happy Monday. Happy Monday. Not a happy Monday so much for NVIDIA, because NVIDIA is scheduled to issue its next earnings report on August 24th. But this morning, the graphics chipmaker released preliminary earnings that show second quarter revenue is going to be, let's just call it 15% to 20% lower than they had previously guided for. And shares of NVIDIA are down

about 8%. Yep, that's an attention-getter. And it is a risk that comes with a business like this when demand for a given sector slows down. We talk a lot about companies that have pulled forward a lot of growth over the past couple of years for obvious reasons. Nobody is immune, I think, that Nvidia certainly realized this to an extent as well. Because this revenue shortfall, this adjustment downward, is really primarily due to gaming headwinds. And they've been witnessing gaming tailwinds over the past couple of years as folks spent a little bit more time inside and doing other things. Well, now people are getting back out at it. That means that the gaming sector is normalizing

a little bit. I look at this, and I understand the reaction. Anytime you have a company that pre-announces like this with this type of adjustment downward, it is understandable that investors flee. I think as we speak right now, the stock is down around 8% for the day. I would encourage folks, though, to look at this from a little bit of a longer-term perspective. Shocker, I know, we take the long view here. But bear with me. It is one of those things where you have to look at the market that it serves. I don't think this is a long-term red flag, unless you subscribe to the notion that gaming itself is in secular decline. I don't subscribe to that notion. Maybe others do. I personally don't. So, when I look at

something like this, this is just, again, growth was pulled forward. It's normalizing a little bit, but this isn't really an indicator of more weakness within the business. Now, yeah, it'd been nice if they could have seen around this corner a little bit, but I don't think it's something that really is indicative of a greater problem within the business itself. I agree with that, including and especially, it would have been great if they could have seen around the corner about this. In part because this is not a missed-by-a-penny, on the revenue line kind of number. So, I think that's a big part of why we're seeing the reaction that we're seeing in the stock. To the long-term picture, I think part of

what supports what you said is the comments from Colette Kress, who's the CFO at Nvidia. She said the long-term picture that they have for gross margins is still intact. Look, she's a pro. She's been there nine years before that with Microsoft and Cisco Systems. It's hard to imagine the gaming industry is dramatically smaller five years from now as opposed to larger. No, I suspect it'll be larger. I think all signs point to that. The good thing with a business like Nvidia is that it pursues multiple big market opportunities. So, when you look at gaming revenue, for example, that's the second biggest driver for the business

behind the data center as it pertains to this guidance and the revenue for the quarter. That gaming revenue is going to be down 44% sequentially and down 33% for the prior year. Now, the good thing, as I mentioned, these other markets, you look at provisualization, now that's going to be a little bit of a point of weakness as well, 20% decline sequentially and 4% year-over-year. But when you look at data center revenue, which is the largest portion of the business, that's up 1% sequentially, and it's going to be up 61% for the prior year. Automotive, another space that's really heating up for a lot of companies, and NVIDIA notwithstanding here, is up 59% sequentially and 45% year-over-year.

And so, if you remember, it wasn't all that long ago, when we were talking about NVIDIA, the big topic of conversation was around crypto. It was all of this functionality that their hardware and software enables for the crypto space. And then you saw some weakness, you saw some questions, and we saw kind of the same thing more or less happen here. So, it all just kind of speaks back to this idea that I think when you look at a business like Nvidia and something like this that happens, it's one part of the business, but it's not the whole business. Again, I think it's something that, yeah, it hurts for now. But given the expertise in the business, given the number of market opportunities it's pursuing, and

also just given the fact that this technology, chips, that's the lifeblood of everything that we do now. It's just non-negotiable. I think that this is a business that's just going to play a very important role in our lives and the development of our digital economy for many, many years to come. Our e-mail address is podcastsatfool.com. Got an e-mail from Adrian in Germany who writes, long-time listener here. I'm in the process of adding to my winners and investing in some new companies that I've had on my watchlist for some time now, but I just couldn't get myself to buy at the lofty valuations before the recent market pullback. With my portfolio growing in size, should I also consider selling

some of my positions. Including my latest additions, I hold over 20 individual stocks. From here on, it will get increasingly difficult to stay up to date on all companies' developments and my thesis for each of them. I'm curious to hear your perspective on the optimal degree of concentration in a private portfolio. Thanks, and keep up the great work you do every day." Thank you for that, Adrian. Thank you for the kind comments and the question. I said to you when we were walking into the studio, this is a very self-aware person. This is such a great question, because Adrian is so self-aware in terms of, I want to stay on top of my stocks, and I know there's a limit to my ability to do that.

So, in a sense, I feel like Adrian is already answering the question there. Yeah, I think to a degree. It's a very good question with an answer that ultimately is going to depend on the individual. And I think that probably, Adrian, it's probably a little bit early to this issue. And that's a good thing, I think, better early than late. And what I mean by that is, I feel like at 20, a little bit more than 20 stocks in the portfolio, that's pretty concentrated. For most folks, we're recommending $25, $30, somewhere even beyond that, to really feel like you can sleep well at night and not worry about too much concentration. So, I do feel like there's still some room to go in adding

a few more names and a few more businesses to that portfolio. But I do agree that as you creep up past 20, it becomes a lot more difficult to keep track of what's going on. And I will say, certainly, I've got, I think, somewhere in the neighborhood of 32-34 individual companies now in my portfolio, which I consider, for me, a lot. Part of my problem is, I just every once in a while spot a new business that I really just want to own, so I add a little bit. And so, I think, part of it is trying to remember, in the context of how many businesses you own, what are the allocations you have? Because some of those positions may be very small and it could be OK to just say, you know what, I can just kind of let those go

and just check in on them every once in a while. And I don't have to necessarily give it the same due attention. It's something that maintains a larger portion of that portfolio. So, I do think taking into consideration the actual size of the position makes a difference there. I think with selling, I don't know that I would sell just to be able to add a different company to the portfolio, particularly if it's a winner. I don't think that's really a good strategy. So, from there, we like to say, water the flowers and pull the weeds. And so, from time to time, look through the portfolio and find those underperformers where the thesis may be not working out or maybe the thesis is even broken. You can consider

unloading those businesses. But I wouldn't sell just to make room to add a different of the portfolio. One thing I'll add is, I think you'll find over time that, because you said something I was absolutely thinking, which is the whole, hey, look, sometimes it doesn't work out for a stock and it gets to be so small, it doesn't matter. It's less than one-half of 1% of my portfolio, and so I'm not going to spend a lot of time worrying it. At the other end of the spectrum, I think there's also the possibility for businesses that are so stable, even though they represent a larger part of your portfolio, 3%, 5%, but they are so well-run that you don't need to spend a lot of time on them, either.

I think that's a terrific point. I'm glad you brought that up. I can think of a couple of examples just right off the top of my head in my own portfolio. I look at something like an Under Armour. Under Armour, clearly, years ago, a much different story than it is today. I look at that, and I think, yeah, it's a broken thesis versus where we were looking at it years ago. But I don't think it's a broken business, per se. I think there's value there. But the position that I have in Under Armour is so small that it just doesn't matter. And so, I keep it for a number of reasons. No. 1, I just think at some point, there's some value there that's going to be realized. No. 2, it's a good reminder to look at those

little holdings. You remember, things can change very quickly in investing. And so, it's nice to have those examples in your portfolio to remind you of that, because it's also very easy to forget that stuff. And then, on the other side, yeah, you have businesses that are just so staid, so stable, so reliable. I've got to call out McCormick here, because it's just one that I've owned for years, and I put it in that bucket. I don't need to get too in the weeds with it, because they just deliver quarter after quarter a pretty consistent experience, a pretty consistent earnings report. Every once in a while, they look to make an acquisition here and there, so you keep an eye on that.

But I do appreciate you bringing that point up, because it's an important one. Yeah. The businesses that are so stable, not that you want to ignore them, But they're so stable and so well-run that if there were some sort of thesis-changing event, there would be no way to avoid the news. Correct. It wouldn't be in the business section. It'd be on the front page. Absolutely. When McCormick made that Arby Foods acquisition, that didn't sneak under the radar. I gave that one some due scrutiny. But for the most part, that's not standard operating procedure for a business like that. Again, it speaks to why we feel

like having that diversified portfolio was so important, because it affords you the opportunity to expand your horizons and own a few more companies than maybe you would normally consider, because some of them out there, they just don't need to be followed so closely because they're so reliable. They have good track records. Jason Moser, thanks for being here. Thank you. Shares of Shopify are down more than 70% this year. Is this former high-flyer now a buy? And is Shopify's moat wide enough to keep Amazon at bay? Ryan Henderson and Jose Naharro join Ricky Mulvey for Bull vs. Bear.

Welcome to Bear vs. Bull. We find a company, we pick some analysts, we flip a coin to see what side they'll take. Today, the company is Shopify. On the bull side, we have Jose Naharro. Good to see you. Thanks for having me, Ricky. And on the bear case, we have Ryan Henderson. Welcome back, both of you. Thanks, Ricky. Happy to be here. Let's get it started with the bull case for Shopify. Jose, you have five minutes. Thank you for that, Ricky. And yeah, I mean, Shopify, I think, has numerous, numerous bullish points. So first, I want to start off by saying that this is a company that provides numerous solutions and to me that makes it a sticky

business and it's something i like to call a toolbox investment for example it helps sellers with online offline inventory logistics finance payments advertisement analytics and the list goes on so by having solutions in numerous markets and it allows customers to stay a little bit more within the company unfortunately there are some competition and some of those competitions might hit Shopify in the logistics market, but because they have this huge selection, it allows those customers to stay. The second kind of bullish point that I have for Shopify is the overall e-commerce market. Based on the chart from Statista, less than 20% of the United States total retail sales comes from e-commerce at the moment. So there's plenty of market share for

Shopify and just the overall e-commerce market to grow. When we take a closer look at that e-commerce market exposure, Shopify is actually number two with roughly 10.3% of total market share. So numerous things can happen. One, either the overall e-commerce market share can grow as a whole in the United States, which will be bullish for Shopify, or Shopify itself can just increase its overall market share within the e-commerce market. Again, either scenario would be a win-win for Shopify. If we take a closer look, many people believe Shopify is just for an e-commerce market, but they also provide numerous offline markets. For example, they have adopted a point of sale hardware, and this is one of the reasons they're seeing strong gross payment volume growth across

the market. They also have other kinds of payment solutions like Shopify Payment, Shopify Pay, and Shopify Markets. So even though they're mainly known for their e-commerce market, they also have numerous solutions for the offline market outside of the offline market they do have numerous international expansions happening at the same time for example most recently they launched shopify payment and shopify shipment in france this is actually gonna be uh i believe one of the 18th country to kind of be with shopify payments they also launched their shopify point system which is their integrated payment in italy in june and in singapore in july now shopify point on sale system hardware is available in 13 countries they're also kind of localizing

subscription pricing to over 200 countries and that's super important to do because what pricing might work in certain country might not work in another so they're trying to make sure that they have everything set in line outside of just the international market exposure they also have a very strong balance sheet right now they roughly have roughly seven billion dollars in cash in short-term investments and about $900 million in long-term debt. Outside of that strong balance sheet, they do have good partnerships and they are increasing their overall integrations. For example, most recently they did YouTube Shopify, which allows content creators to link their stores to their videos and this opens up a huge opportunity for gross market volume. As a

YouTuber creator myself, I only had one option available to me before, but with Shopify solutions, it's so much better and this is something i personally am going to start using pretty soon they are also expanding into other markets like twitter other integrations like with twitter and spotify and more importantly they're also kind of entering into the crypto market for example they allow stores to connect to a crypto wallet and can have the store for only certain kind of communities that hold that certain nft obviously nfts are a very tricky subject to kind of talk about, but it is something that is seeing some form of exposure at the moment. So we can see Shopify is trying to stay on top of the trend and kind of grow the overall gross market volume and

the overall transaction on their solutions. So these are the numerous reasons that I believe Shopify can be a strong bullish point in the long term of things. That's the bull case from Jose Naharro. Jose, thank you so much for that on the bear side. Crossing over from the Chit Chat Money podcast. It's Ryan Henderson. Ryan, you have the bear case whenever you're ready. My bear case kind of sits around the idea that a lot of investors seem to think, Shopify is well-loved by a lot of investors. I think a lot of people tend to think it's a very good business model. There is some validity to that, where you spend tons of time and money up front to build this software. It met a very critical need for a lot of people.

and it doesn't require a giant sales force to sell it. And so, once you get a certain level of adoption, there's a lot of profitability that can come with that. However, I think Shopify lacks sustainable competitive advantages and we're beginning to see the repercussions of that. So, first off, and I kind of have two primary reasons, but the first one is that other content management systems, and for anyone that doesn't know, a content management system

is what Shopify is, but it's software that helps people create and manage content on a website. Think Wix, Squarespace, Weebly, companies like that, Shopify as well. Other content management systems are gaining market share, while Shopify is losing share currently. Year to date, from the start of this year to now, Shopify's market share among CMS providers has declined from 6.6% to 6.2%, while Wix and Squarespace, which are the two closest in terms of market share, have both gained. They've gone from 2.9% to 3.4% in Wix's case, and 2.7% to 3% for Squarespace. Now, part of that is that the other two platforms lend themselves to other verticals, whereas Shopify is hyper-focused on e-commerce.

The recent reversion or retraction in e-commerce spend has hurt Shopify disproportionately. However, those companies still offer a lot of e-commerce capabilities. You can run a shop on Wix as well. Now you can easily plug into Amazon's fulfillment network, which leads into my second bearish point. Amazon did something that's really, I think, problematic for Shopify down the road. They recently launched a feature called Buy With Prime. For anyone that doesn't know, Buy With Prime allows Amazon Prime members, which about half of Americans are Amazon Prime members,

to access Prime's best-in-class shipping and fulfillment capabilities via stores outside of Amazon. If you're a store owner or you're operating a store on Shopify, along with your other payment features that you can provide, you can also give Buy With Prime. And if you're a customer and you see Buy With Prime, you think, all right, I can get next-day delivery, free shipping, and free returns on select items. I've had that experience before. I'm familiar with that. I trust that service.

I'm going to go ahead and do that. And so, that is a giant chunk of Shopify's revenue that's being cut out. If the payments and fulfillment side, which is, for reference, there's two ways that Shopify generates revenue, subscriptions and merchant solutions. Merchant solutions is mostly accepting payments, shipping and fulfillment, and then securing working capital. That's 72% of their revenue. If Amazon is now interfering there and taking the payments and fulfillments, even on Shopify's website, that's a giant chunk of revenue, and that's going to be a headwind for Shopify. Shopify today trades at about, I believe,

just under 10X their trailing revenue. There's a real chance that that revenue starts to run into some problems here if they're coming up against competition from Amazon, even on their own sites. It seems like a lot to pay. I know Shopify is trying to combat it with some of their own spend. I think Shopify is trying to become Amazon quickly. They're spending $500 million in capital expenditures to build out their fulfillment. Amazon spends $60 billion a year in capex. I don't think Shopify can compete on fulfillment with Amazon. There's other ways that Shopify can generate revenue, but that's a giant chunk of their top line being cut out for a company that's trading at a bit of a premium. I just think

there's other places where investors should be looking right now. Ryan Henderson, thank you for the bear case. Jose Naharro, thank you for the bull case. You can decide who made the better argument. We'll have a poll up at Motley Fool Money on Twitter. Very important that you go there and cast your ballot, because the winner of today's Bear vs. Bull, is getting two tickets to Bitcoin the Musical. That's right, music by Seth Green starring Pitbull. It's three and a half hours long, and it is in Miami. We will not pay for your travel there. Thank you so much. 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.