Motley Fool Hidden Gems Investing - Tesla Revs Up, Amazon Invests In Healthcare

Episode Date: July 21, 2022

Tesla's profits surprise Wall Street, and Amazon buys 1Life Healthcare for $3.9 billion. (0:22) Bill Mann discusses: - Tesla's margins being compressed and STILL being the envy of rival automakers - How Tesla is (and isn't) comparable to Netflix - Amazon using "pocket change" to make its 3rd-largest acquisition (11:40) Jason Hall and Matt Frankel engage in a "Bull vs. Bear" debate over Lemonade, and both wish the AI-drive insurance company would hurry up and close its acquisition of micro-cap auto insurance company Metromile. Stocks mentioned: TSLA, F, NFLX AMZN, ONEM, LMND, MILE Host: Chris Hill Guests: Bill Mann, Jason Hall, Matt Frankel Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

When WestJet first took flight in 1996, the vibes were a bit different. People thought denim on denim was peak fashion, inline skates were everywhere, and two out of three women rocked the Rachel. While those things stayed in the 90s, one thing that hasn't is that fuzzy feeling you get when WestJet welcomes you on board. Here's to WestJetting since 96. Travel back in time with us and actually travel with us at westjet.com slash 30 years. Tesla surprises Wall Street and Amazon makes another investment in healthcare.

Motley Fool Money starts now. I'm Chris Hill. Joining me today, Motley Fool Senior Analyst Bill Mann. Thanks for being here. Hey, Chris. What's happening? We got earnings season. That's what's happening. And we're going to start with Tesla. It feels like we just had earnings season no more than three months ago, but we're back. I know. Isn't it great? Tesla's second quarter profits were higher than expected, but margins are getting compressed, which really shouldn't surprise anyone given the cost of materials going higher and supply chain conditions continuing to be, let's call it, less than ideal. Yeah. Given the circumstances,

Tesla's quarter was great. But yes, you went right to the spot that the people who would suggest that Tesla is not as great of a company as I believe it to be, their margins came down for production, which is an important distinction for Tesla because they also have environmental credits from 30% to 26%, which is, in fact, it is a reduction. It is higher than nearly any other car company. Volkswagen, for example, which is a really fantastically run company, their margins range from 16% to 18%. So, yes, it was not perfect for Tesla, but it was absolutely fine. Chris Hill And a welcome distraction for Tesla shareholders to actually get results from the company, because really, the conversation around the

CEO of this company has had nothing to do with Tesla, it's had everything to do with Twitter. And among other things, it's a nice reminder that, oh, right, Elon Musk has built himself a pretty large and powerful company here. Yeah. Tesla still has a valuation that is nearly the same as all of the remaining car companies combined. They had some challenges this quarter. Maybe you've heard about supply chain issues impacting everyone. Tesla was by far not immune to that. The computer chip issues were still out there for them. But the company did rather well. Both their earnings and their revenues were down sequentially, and they're growing at about 43%. Elon Musk did come out

and say that they intend to continue to grow at 50% plus for the next few years. They have a little catching up to do on what is a rather audacious goal that he's laid out for the company. And anyone who has watched this company for a while knows, if nothing else, Musk is a fan of putting out audacious goals. And if the company falls short from time to time, so be it. It's not going to stop him from doing that. I'm wondering how you think about this company 10 years from now. And the example I'm going to use is Netflix, because Netflix changed home entertainment completely. For a while, it wasn't just the biggest game in town, it was the only game in town. Now, because it changed the home entertainment landscape,

Netflix spawned many other competitors and it's in a tougher spot as a standalone public company. Tesla changed the automotive industry by making electric cars, among other things, really, really cool, which is not something that shows up on the balance sheet. And yet, when it comes to production, all the other automakers are now on board with electric vehicles and the competitive landscape is tougher. Five, 10 years from now, what do you think is a reasonable expectation for Tesla shareholders to have about this company and where it is in and the competitive landscape. Chris, it's funny you say that, because you look at what Netflix did, and I love that as an allegory for Tesla, because on

every single measure, Netflix has been wildly successful. They absolutely positively changed entertainment as we know it. Tesla has done the same exact thing, but the environment is changing rather quickly for Tesla, just in terms of the competitive forces. You saw today that Ford is laying off 8,000 workers because it is putting more emphasis on electric vehicles. They are making a shift. These are very, very credible, well-heeled, deep-pocketed competitors. The difference between Tesla and Netflix is that Tesla at this point, given its balance sheet and given its market cap, actually has more resources to bear than any of its potential customers. They have the new factory that is open in Germany. They have a new factory that has opened

in just outside of Shanghai in China. They actually are in a much better place than Netflix was even at its most dominant. Let's move on to Amazon, which is scheduled to report earnings next week. But in the headlines today, because Amazon is buying One Life Healthcare, a primary care practice that operates under the name One Medical. Amazon's paying $3.9 billion. This is an all-cash deal, $18 a share. It's the third largest acquisition Amazon has made behind Whole Foods and MGM. Based on the reaction from the market, it seems like this deal is getting a thumbs up. It's crazy to me when you look at Amazon, how little of its growth has actually come from acquisitions. They have grown more or less organically, which again, I know maybe this

isn't some enormous observation, but Amazon really has done something that's different from any other company, I think, in history, maybe with the exception, with the possible exception of Walmart, just in terms of how broad they got from where they started. Yeah, it's an interesting transaction for them. One Medical is a subscription healthcare business. The medical system and the process by which medical care in this country is completely broken. So, a subscription system run by a very deep-pocketed Amazon, I think, is really an interesting bet for them as they try and get to a point where the lowest cost components of healthcare are done on more of a subscription basis than on a pay-as-you-go basis. The price of this deal, it gives

a premium to One Life Healthcare of nearly 80%. Congratulations to all the One Life Healthcare shareholders out there. I'm tempted to ask, did they pay too much? But based on the reaction from the market, no, they did. Shares of Amazon are basically flat today. That signals to me that, no, this was a good price to pay. Well, keep in mind, and I hate to say this about nearly $4 billion, but that's a pocket change for Amazon as a trillion-dollar-plus market cap company. From an Amazon perspective, this is the type of bet that they ought to be making. This is almost the same thing as they're like, let's put some chips on black and see what happens with the spin of the roulette wheel. Now, it is $4 billion, $3.9 billion, and Amazon

has not become the power that it is by being profligate with its money. But it does bear remembering that this for Amazon really truly is a tiny bet and what they're hoping to happen. One Medical has 125 offices around the U.S. What they're really hoping to do is to bundle that in with other services that Amazon already offers. Imagine having this somehow become a component of Prime. That becomes an almost unbeatable service offering to have within the framework of what Amazon is providing versus other forms of primary healthcare. Thank you for the reminder that most of Amazon's growth is organic and it hasn't been through acquisition, because this is not the first run at healthcare that Amazon has made as a

company. Somewhere along the lines, clearly, they figured out. Maybe this is the difference between Andy Jaffe and Jeff Bezos, where Bezos was more of the mindset of, let's build this ourselves. Under Jaffe's rule in the corner office, it's like, no, we can spend $4 billion and we can buy our way into this space. Yeah. It bears remembering that Whole Foods was bought under Bezos and not Jassy. Amazon did launch Amazon Pharmacy in 2020. I think this is probably a continuation, but it's still very much a bolt-on for Amazon at this point. For me, I mean, as a citizen of this country, I mean, to me, the most interesting thing about this is the capacity or the willingness of these large companies to be innovative in how we as citizens

pay for our healthcare in this country. And I think that Amazon is in an ideal position just to give it a shot, just to look at a different model than the one that we are so accustomed to here in the United States. It's safe to assume we'll get some more color on this next week on the conference call with Amazon. I think it'll come up. It should come up. Always good talking to you, Bill Mann. Thanks for being here. Hey, thanks, Chris. Lemonade is trying to disrupt the insurance industry by using AI. But first, it's got to get a few other things right. Jason Hall and Matt Frankel join Ricky Mulvey for a bull versus bear

debate on Lemonade, and you get to decide if this beaten down insurance company can make a comeback. Today, we have a very special bull versus bear on a company that has a little bit of controversy behind it. I would say the stock is Lemonade. We've got two analysts. We flipped a a coin to decide the sides. Jason Hall, you are the bull. Matt Frankel, you are the bear. Thanks for playing on this company. Yeah, absolutely. And disclosure, all three of us actually own this stock, right? Yes. That is an important circle of trust sort of thing we should establish. I would say we all own Lemonade. I don't know if I would say we're all happy we own Lemonade right now. Well, I mean, there's no such thing as a

can't find a good bear case for. It's really important to know the bear case as an investor and do a little bit of digging into that. The question is, does the bear case outweigh the 90% discount is what investors really need to establish. I'm here to sweeten up this sour situation, by the way. That's my role. Let's get it started. Jason Hall, you have the bull case on Lemonade. You have five minutes. Yeah, this is not a great run so far for Lemonade. This is a stock that's down since its IPO, it's down around 60%. If you look at it from the high, it's down almost 90% at this point. So what's happening? Because this is a business that is growing by leaps and bounds. I think

that's a really important part of the bull case for me is that this is a company that has continued to add new customers. You look at just last quarter, it's enforced premium. In other words, the dollars of premiums and enforced policies increased 66%. It has over 1.5 million customers. That's a 37% increase year over year. While the stock is down, Lemonade continues to attract new customers. The average premium per customer is up 22%. That's a product of Lemonade expanding as an insurer. This is a business that started out focused just on rental insurance and pet insurance. What's happened since then, it started to expand into homeowner's insurance, life insurance policies, and more recently, and this is a big thing that it's working on right

now, is auto insurance. It's operating in a couple of states. It has a pending acquisition of a company that's going to get it into another 48 states, 49 states, I believe, with the licenses that come along with that. And it's moving forward in ways that are very customer-friendly. I think that's the thing that's so compelling to me about the business. We hear a lot about its AI and the failures of its AI, because here's the bear case. I'm going to go ahead and lay out the bear case Matt's going to hammer on. And that's the fact that insurers have to be good at insuring. They have to be good at underwriting insurance. This is the big problem. The company has to be able to make money. It's looking to have a gross

loss ratio of around 75%, meaning that about 25% of the premiums money is left over on a gross basis. That's the money that is left over for Lemonade to keep. Its last two quarters, the first quarter's gross loss ratio was 121%, meaning it paid out 21% more on a gross basis than it brought in premiums. That's the first quarter of 2021. The first quarter of this year was 90%. I think it's been around that 75% mark, maybe two quarters out of the past six quarters. That's not a good look for an insurance company. But what isn't getting enough attention, and this is the bull case for me, for Lemonade, is the way that it's using artificial intelligence and the way that it's decoupling the incentives and the transactional friction from the traditional

insurance agencies in ways to improve its relationship with clients, be more sticky, and be a better insurer. A couple things that it does. Again, it looks to keep that certain percentage, and everything that's left over, it pays out in claims. Most insurance companies focus on float, so it's in their economic incentive to retain every dollar that they get in premiums, and to delay paying it out in claims. That's completely different from Lemonade's economic model. That change in incentives is very, very important. The way it's using AI to support its customers by using it to pay claims faster, using it to establish policies more quickly, is helping it drive out cost. The insurance industry,

by and large, is a very manual, people-driven industry. Lemonade's looking to drive a lot of those inefficiencies out and also leverage the changes in relationships and those frictions that are built into the way the industry is structured today. And again, it's very compelling if you look at how many customers it's attracting, you look at its growth rates. Again, the obvious issue here, guys, hasn't proved that it can actually be a good insurer. Its underwriting so far has not been very good. Management has made this the core focus. They've brought in a lot of experts, executives with long tenure track records in the insurance industry to focus on this thing and improve it. I think they're going to be able to do it. I am a shareholder. I'm not

buying right now. I think this is in prove-it mode, but I think they're going to be able to do it. And why am I really bullish right now? The market is so down on this business. It trades for about 1.4 times book value. So, obviously, if they can't figure out the underwriting thing, it doesn't necessarily matter. But if they figure out the underwriting, which I think is going to be the low lift, I honestly think that's the low lift, to figure out the underwriting, being able to buy this business at 1.3 times present book value at the rate that they're growing that book value could be the deal of the century if we look back in five or 10 years. Deal of the century. Strong close. Thank you for the bull case, Jason Hall. Matt Frankel,

you have the bear case. Since Jason spent a fair amount of his time actually arguing the bear case for me, I'm going to give you just a couple of bull statistics before I rush in. Jason, you just mentioned correctly that Lemonade trades for about 1.3 times book, But I need to put that into context. It's got a $1.3 billion market cap and a billion dollars of cash. So, that's where the book value is coming from, the cash and investments on its balance sheet. Lemonade's business is being valued at less than $300 million when you back out the cash, just the business itself. That's not a very optimistic market right there. As you mentioned, if they could figure it out, it could eventually be a home run. There's a lot going for it.

I wish the auto insurance rollout would happen a little faster. The Metro Mile acquisition is taking forever, it seems. They just got regulatory approval recently. But that's definitely a positive catalyst long-term. They've done a great job of hiring. They recently hired the ex-chief insurance regulator of New York State to be their government contact. Can't really do better than that. But now, let's get to the bear case. As Jason mentioned, they haven't gotten underwriting right. And I've said this when it comes to a bunch of companies, a great product does not always equal a great business. And it really remains to be seen if lemonade can be a great business. It is definitely a great product. Look at some of its reviews. It settles pet insurance

claims in three seconds, literally three seconds in most cases. It's a great product with a very happy customer base. It grew to a million members faster than State Farm did. It's really caught on with customers. That gross loss ratio scares me. It's because if you're not underwriting well as an insurer, and Lemonade's a small insurer, once you become a big insurer, that can kill your business in a quarter or two if you're not underwriting well. Right now, Lemonade has about $400 million in outstanding premium. If they misjudge the loss ratio on that, you're talking $10 million in one direction, $10 million in the other direction. If they become a larger insurer like they want to and have $50 billion of premium on their books, which would make them not even

one of the biggest insurance businesses in the country, if you get underwriting wrong, you're losing billions of dollars in a quarter if you got underwriting wrong on that, if you're paying too much on $50 billion of premium. Not only has underwriting not been good, as you mentioned, a 90% gross loss ratio in the first quarter, it hasn't been consistent at all. If it's consistently 90%, or even coming down by a percent each quarter, it's easier to identify what went wrong in what they need to do and what needs to be tweaked in the algorithm. But it's been very inconsistent. The company still expects its multi-year average loss ratio within that 75% target range. I don't see how they get there within the next year or two.

Look at some of these numbers. Even with their small size right now, they're a small insurer. I interviewed CEO Dan Schreiber on Industry Focus a while ago, and he correctly pointed out, they could 100X this business and that would make them a midsize insurer. They're a small insurer right now and they're losing more money than they're bringing in in revenue. In the first quarter, Lemonade generated about $44 million in revenue. It lost $75 million. That's a negative 168% profit margin. That's not good. That's not sustainable. Yes, they have a billion dollars of cash and investments in the bank, but they're projecting to lose on an adjusted basis about $300 million this year. If that's what they're losing on an adjusted basis, that means their

net loss is going to be roughly $400 million this year. They're not going to have a billion dollars on their balance sheet that long. The cash is somewhat misleading because they're hemorrhaging money right now. They're giving $60 million of stock-based compensation this year, which $60 million in stock-based compensation for a $1.2 billion company, that screams late-90s dot-com boom. That's how they were all paying their employees back then. They need to get expenses under control. It's not just underwriting, to be fair. They need to get their expenses in check. They need to get underwriting in check. Like I said, with the stock almost 90% off the highs and about 60% down from its IPO, like Jason said, the risk-reward can still make a whole lot of

sense here. This is a massive market opportunity that is in dire need of disruption. The auto insurance claims property, even with a tech-focused insurer, with modern technology, is clunky at best. There's a big opportunity here if they're successful. They've got to get underwriting right. That's what takes this from a great product to a great business. That's the biggest question mark right now. Matt Frankel, thank you for the bear case. Jason Hall, thank you for the bull case. Uh, as a reminder, you can vote on who you think made the better argument at Motley full money on Twitter. We will have a poll there and it's very important that you vote because one of these contestants is going to win this fabulous prize.

One lucky winner will be able to cool down with a year supply of pastoral farms. Lemonade! Now with more sugar and even more artificial flavor. Enjoy the sweet yet sour tang of Pastoral Farms Lemonade, the perfect treat for children of all. Parents love it too, since it contains vitamins, minerals, and several natural ingredients. It's the best way to cool down on a hot summer's day. The State of California requires us to warn you that Pastoral Farms Lemonade

contains ingredients known to cause birth defects or other reproductive harm. You should not drink Pastoral Farms Lemonade if you're pregnant, planning to become pregnant or under or over the age of 18. This fabulous prize could be yours if you win Bear vs. Bull. 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.