Motley Fool Hidden Gems Investing - Target's Improving Inventory

Episode Date: February 28, 2023

After a particularly rough 2022, Target is getting back to basics.  (0:20) Matt Argersinger discusses: - Zoom Video's slowing revenue growth - How Zoom's brand gives it an advantage against bigger competitors - Target beating expectations with household items, groceries, and a better management of its inventory (11:00) Alison Southwick and Robert Brokamp take a closer look at tech layoffs in 2023 and one company that's managed them well.  To watch the 30-minute deep dive on dividend investing go to MasterClass.Fool.com before midnight on Wednesday! Companies discussed: ZM, MSFT, GOOG, TGT, WMT, HD, AAPL Host: Chris Hill Guests: Matt Argersinger, Alison Southwick, Robert Brokamp Producer: Ricky Mulvey Engineer: Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Hey Ontario! Come on down to BetMGM Casino and check out our newest exclusive, The Price is Right Fortune Pick. Don't miss out! Play exciting casino games based on the iconic game show, only at BetMGM. Access to The Price is Right Fortune Pick is only available at BetMGM Casino. BetMGM and GameSense remind you to play responsibly. 19 plus to wager. Ontario only. Please play responsibly. If you have questions or concerns about your gambling or someone close to you, please contact ConnexOntario at 1-866-531-2600 to speak to an advisor free of charge. BetMGM operates pursuant to an operating agreement with iGamingOntario. We've got more retail, more layouts, and for anyone who's interested,

a deep dive on dividend investing. Motley Fool Money starts now. I'm Chris Hill. Joining me today, Motley Fool Senior Analyst Matt Argersinger. Thanks for being here. You bet, Chris. Let's start with Zoom video, shall we? Because fourth quarter profits and revenue were higher than expected. Revenue was up, but it was only up 4% compared to a year ago, and this continues the trend that we've seen for a while from Zoom Video, which is they're growing, but it's slower growth than we've seen in the past. I know. It's hard to imagine a company like Zoom Video growing revenue at just 4%, because I think everyone, including me, because I haven't looked at Zoom very carefully until

recently. You assume that it's still in that high-tech, high-growth category. It is. It's still a very essential technology communications company. But to see revenue just up 4%, it's amazing to see the slowdown they've had. But I think the story with Zoom is, it's one of those ones where so much of its future came within 18 months of when the pandemic hit in early 2020. It just pulled so much of it forward. The question is, is it a sustainable business going forward? I have to say the one thing that impressed me about its earnings, if you look at the enterprise customers, I think they had 213,000 enterprise customers served in the fourth quarter. That was up 12% from a year ago. Those customers had a

net dollar expansion rate of 115%, which means that average big spending customer is spending about 15% more now than they were a year ago. If those trends continue, if Zoom can continue to prove itself out on the enterprise level, then I think it has a pretty good future. Do you think that Zoom has essentially established itself as the table stakes for this industry? Because it seems to me that if you were in the business of competing against Zoom. Not to say that Zoom can't and won't be disrupted, but it seems like so many people, enterprise customers, regular everyday consumers like you and me, everyone is so much more familiar with Zoom than they are with the alternatives that I think if you're in the

business of competing with Zoom, you have no choice but to put yourself in a position where you can answer questions, because anyone who is thinking about spending money on this product, they're going to be like, well, are you guys easier than Zoom? I feel like, essentially, whatever happens from here, they've established themselves as the go-to and forcing others to explain why they're better. Yeah. I think what you're getting at they're the verb. You Zoom. You're meeting Bob this afternoon, are you guys going to Zoom? That's a brand advantage and an identity advantage that I think a major competitor like Microsoft Teams, which of course has made big market share gains, doesn't quite have that same

affinity to it. I think that's a huge advantage for them. You're right, it's like if you are are any systems manager at a company and you're setting your company up for what communication platform is going to be used, well, that's going to be the default go-to. It's going to take more spending, more time looking at other technologies before you go with a different company like Microsoft. I think the advantage that Microsoft and maybe Alphabet, Google have in this space though is, of course, they can add on a bunch of different capabilities and apps that Zoom might not necessarily be able to have. Atlassian is another company that comes to mind, which has communication and workflow apps that are

very popular. The more Zoom can continue to innovate, and they are innovating around the app, I think that's the key. They got to be stickier, they got to take the advantage they have in name recognition and brand recognition, continue to add features and capabilities and continue to make it easy. I think that's why we all fell in love with Zoom a few years ago. It's because it's so easy and it works so well. That's the table stakes. Now, can you make it as sticky as possible? For the first time in a year, Target's quarterly profits came in higher than expected. Sales in the holiday quarter up just 1%. Their guidance is conservative, but I don't know why anyone would expect their guidance

to be anything but conservative given the year that they've just had. By the way, given what we saw last week out of Walmart as well. Right. Home Depot comes to mind as well as I was looking at this. I think Target has some advantages. The sales growth looks anemic and I think the guidance looks really conservative. You're talking about comparable store sales growth or declines. It's within low single digits. They're not sure which, but what they are confident is that they're going to continue to grow earnings. Earnings growth looks like it's going to be pretty good this year. So, they're managing things on the cost front. I think what I was impressed with most with their quarter was the inventory story

for Target. The inventory at the end of their fiscal year was 3% lower than it was last year. If you look at Home Depot, for example, their products are not exactly as discretionary or as consumable as what Target sells, but their inventory was up 50% year-over-year. That's a major problem for them. Target, they lowered their revenue 3%, and the discretionary category, particularly, was down 13%. They're managing the inventory well, but there's two sides to that story. The softness they're seeing in the discretionary side means they're going to see lower margins. It's going to be tough to turn that around, especially if we have a recession, because those are the places where consumers aren't spending. Food and beverage, household

staples, those are going to continue to do well, they're just lower margin. The question is, can Target be okay as long as those discretionary categories are not coming back, but they need to come back at some point or earnings and margins are going to come down? I'm glad you mentioned the staples because that really was a big part of Target's story in the fourth quarter, even though it's the holiday quarter. Household items, health and beauty, groceries, those everyday things. I think if you want to be glass half-full about the next six to nine months for Target, it's that if they can sustain what they're doing on those household staple fronts, it does provide them the opportunity to maybe

pick up and surprise a little bit to the upside on the discretionary side. You think back to last summer, Matt, and the inventory story was a nightmare. Brian Cornell owned that, the CEO stepping up and just saying like, I blew the mix. We had the wrong mix of stuff, that's on me. Again, probably not a surprise that they're being pretty conservative with their guidance, but who knows, maybe three, six months down the road, they're surprising to the upside. Yes, and I think that's exactly what they've done. They've set themselves up for that. They've really set themselves up to under-promise and over-deliver with getting the mix right, as you said, which

I think was essential. If you're looking at it as an investor, the earnings story looks pretty good for this coming year. If they can do $8.50 in earnings per share, that's well above what they did last year. The stock trades for about 20, 21 times forward earnings. I've seen a lot of investors call Target a value stock cheap. Well, that's not exactly a low multiple based on the growth they're seeing and the risks to that whatever remaining consumer discretionary business they're going to depend on for growth in the year ahead. But I think what investors can hang their hat on is the dividend. They've got a nice dividend. It's yielding about 2.6% right now. It's well-covered by earnings. There's upside

there given the balance sheet and the spread between the dividend and what they're expecting for earnings per share in the year ahead. You might see some growth there. You can hold on and if you can get the stock a little cheaper, maybe get roughly a 3% dividend yield, can stick with that as the business turns around and maybe we avoid a recession and then you've got a pretty good investment on your hands. On that last point, real quick, last week, you and I recorded a video that I want to encourage people to check out. It's really a deep dive on dividend investing. People can go to masterclass.fool.com. I'll put the link in the show notes. But this was a really fun

conversation for me, because this is increasingly how I am investing in my personal life. but it was just great to go deep on dividend investing with you. Likewise, Chris. I really enjoy the conversation. Dividend investing, as you know, and we've talked about it over the past year, maybe on the show a few times, is dividend investing has really become the way I prefer to invest going forward. It's just getting that income, focusing on the dividend and the growth of dividend especially, the benefits to that as an investor are massive. And then you can build yourself a nice income stream. And if you think about the bear market we had in 2022, dividend strategies really outperformed. If you had a core set of dividend

stocks in your portfolio, I'm sure your portfolio did a lot better than the overall market. And that's part of the story. That's why dividend strategies tend to really outperform over time with a lot less volatility, which I think is a key part of it too. I love the conversation. I'm glad we had a chance to talk about that and talk about a new service that's launched this week as well. Yeah, it's a ton of great information. As Matt said, it's the launch of a new dividend investing service that he's going to be heading up. Again, go to masterclass.fool.com. The video is going to be up until midnight Wednesday, although I'm told that's midnight on the West Coast, so technically 3 a.m. Thursday

for people on the East Coast. And it's about 35 minutes. And there's just a lot of great information there. And if you become a member of the service, great. Even if you don't, I think this is one of the best videos like this that we have produced in a long, long time. And also, Matt shares one of the stocks that he's recommending in the service. So, so definitely worth your time, masterclass.fool.com. Matt Argersinger, great talking to you. Thanks for being here. Thank you, Chris. So far in 2023, tech companies have shed more than 100,000 jobs, but do layoffs automatically make a company leaner? Alison Southwick and Robert Prokamp look at the long-term effects

of layoffs and one company that's managed them well. I remember early on in my investing journey hearing about how a company was about to lay off a ton of employees. I don't remember which company, but I do remember being surprised that the shares shot up as a result of the news. I mean, clearly laying off a ton of employees is a sign that the company is in distress. So I was baffled. why would investors be like, yes, I want to get me some of that? This was the first time I encountered the notion of, won't somebody think of the shareholders that was born of the 80s and still exist today? I mean, firing people cuts costs. And after all, a CEO's first and foremost job is to maximize shareholder value, right? I mean, that sounds

like something someone would say while sipping a martini at 11 a.m. Yes, while reciting Gordon Gecko quotes. And it's true that the 80s were a turning point, but the intellectual underpinnings of this whole maximizing shareholder value thing really started in the 1970s with things like a Milton Friedman article written in the New York Times with the headline, quote, the social responsibility of business is to increase its profits. And in 1976, an academic paper with the thrilling title of Theory of the Firm, Managerial Behavior, Agency Costs, and Ownership Structure was published. And it argued that company executives weren't focused enough on benefiting shareholders. And that publication became one of the most cited

business academic papers of all time. And then in the 80s, some new laws fueled the emphasis on share price. Companies could buy back their own stock. Stock options became a bigger part of executive compensation. And IRAs and 401ks began to become more widely used by workers. And companies increasingly saw layoffs as a way to prop up share price, at least theoretically, which was not the way they were always viewed. In his book, The Disposable American, Lou Uchitel wrote that from the 1890s through the 1970s, mass layoffs were seen as, quote, a sign of corporate failure and a violation of acceptable business behavior. But then that changed. According to Professor Art Boudreaux, in 1979, fewer than 5% of the Fortune 100 companies

announced mass layoffs, but that figure had grown to 45% by 1994. Which brings us to today, and the breathtaking amount of layoffs we're seeing in tech. Zoom laid off 15%, Alphabet 6%, Amazon 5%, Meta 13%, Salesforce 10%. I mean, adding up just those companies, and you're looking at more than 50,000 employees being laid off. All told, we're talking 100,000 laid off in the tech sector so far this year, and closer to 300,000 going back six months. Yeah. And if you've been invested in these companies, you felt at least some of this pain, right? The NASDAQ dropped 33% in 2022, its third worst year ever, and many stocks and the funds that invest them dropped far more. So, for example, Cathie Wood's ARK Innovation ETF, which has sort of become the

poster child for the boom and bust of tech-related stocks, plummeted 67% in 2022. Now, so far this year, we've seen a rebound with the NASDAQ up 9% and that ARK ETF up a whopping 23%, which could be seen as the market giving its blessing to the tech belt tightening. But as we'll discuss later, layoffs can actually have mixed results longer term. All right. So why are we seeing historic layoffs in tech? Axios says that while executives are incentivized to blame the economy, the real reason for the mass layoffs is, quote, driven more by market scrutiny of some of the bad ideas tech geniuses have dumped money on in recent years, rather than economic fundamentals. Those costs are now devouring sales dollars that would

otherwise turn into profits. In many cases, tech companies overhired to feed these initiatives. I mean, you're all listening to the sound of my voice with your VR goggles on while chilling in the metaverse, right? No? Huh. Well, at least one CEO is blaming himself and his exuberance. Zoom CEO wrote in his statement to employees when announcing a 15% reduction in employees, quote, as the CEO and founder of Zoom, I am accountable for these mistakes and the actions we take today. And I want to show accountability, not just in words, but in my actions. He then cut his salary pay by 98% and forfeited his bonus for 2023. Now, fun fact, Apple also grew in the last couple of years, but at a much slower clip than its tech giant counterparts by only about 20%

compared to Zoom's 300%. Now, Apple is the only tech company so far that has not announced layoffs. Yeah, and Apple definitely showed some restraint relative to the other companies. According to CNN Business, Microsoft grew its workforce by 50% since the third quarter of 2019, Alphabet by 64%, and Amazon and Meta doubled their numbers of employees. Those are sizable increases in headcounts for companies that were already pretty big. In some cases, a good bit of it may have been justified or maybe rationalized by increased earnings due to people being stuck at home during the pandemic. We're all sitting around in front of our computers all day browsing and buying stuff. But there are other theories about why this happened. One of them being

labor hoarding. And that's the idea that you can't wait to hire the people you'll need in the future because they may not be available. And instead, they'll be working for your competitors. So you have to act now. Some have blamed Silicon Valley's arms race, trying to be the biggest in the best place to work, probably some empire building going on, and really some plain old peer pressure, right? When you see other companies acting in one way, you can't help but question whether you should join in. And that works the other way as well, as Annie Lowry of The Atlantic recently wrote, layoffs are contagious. And other companies doing something like laying people off gives you cover to do it at your company as well. So, do layoffs work? Well, I guess the question

is, what were you hoping the layoffs would accomplish? For this, let's look to Jeffrey Pfeffer, a professor at the Stanford Graduate School of Business. He says that layoffs do not solve what is often the underlying problem, which is often an ineffective strategy, a loss of market share, or too little revenue. Instead, layoffs make your employees nervous and unproductive, and you end up hiring people back at a premium later anyway. Well, I've got a metaphor. These tech layoffs are like taking aspirin to cure your splitting headache after a night of partying. I I mean, sure, your head will feel better, but ultimately, you partied too hard and it's going to take a lot of water and staying in if you want to feel better in the long run and be a fully

functioning human being. I mean, tech juggernaut. Yeah. And it's also like leaving a mess in the bathroom that someone else has to clean up because a slew of studies starting in the 1990s have come to similar conclusions as Dr. Pfeffer. Layoffs can make your remaining employees paranoid, deployed, uncreative, risk-averse, overworked, distrustful of management, all of which can lead to higher turnover. Some of your best people might leave, taking institutional knowledge with them, and then you have to spend thousands of dollars to find and onboard their replacements. Also, layoffs are not so great for PR. In the end, the ultimate goal may not be achieved. Some studies have found that layoffs actually had just a small impact on profitability.

While the stock price might rise after the announcement, it often eventually drifts downward afterwards. All right. So a leading business professor says that layoffs don't work. And while this Jeffrey Pfeffer sounds like a really nice guy who cares about the devastating personal toll layoffs can have on employees' physical and mental well-being, I mean, that's great. But me, someone with zero credentials and no expertise in corporate management, I sort of wonder, won't somebody think of the shareholders? I mean, isn't there a time and a place for layoffs? If you overhired, then isn't it a good thing to recognize your mistake and walk it back? I would say yes, especially if you're unprofitable. No business can go on

losing money forever. Now, many of these tech companies are profitable, but that's a whole other point. But the bottom line is, for most companies, labor is their number one cost. They're the salaries, of course, but also the benefits, which are worth about 20% to 40% of what employees receive in their paychecks. So if you have to cut costs, laying people off is certainly one way to do it. But I would say put a great deal of thought in what the right size of your company should be in a year or a few, because if you expect to staff up again in the future, it might be better to keep people on your payroll rather than endure the negative effects of layoffs and the cost of rehiring. And also try not to overhire in the future, because getting

laid off can be really hard on workers and their families. So if you're one of the many people who have been laid off from a tech company, the good news is that you are still highly employable and you can find comfort in knowing that many, many economists think you'll have no problem getting a new job. Now, of course, they haven't met you personally, but they have a lot of nice things to say about your prospects. And Ro and I are rooting for you. So go ahead and put us down as references. 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.