Motley Fool Hidden Gems Investing - The $1 Trillion Ad Opportunity

Episode Date: December 9, 2024

Global advertising spend is growing faster than expected and beginning to eat into other ways businesses have historically put budget to use – who are the unexpected winners?   (00:14) David Meier and Dylan Lewis discuss: - The global ad market eclipsing $1T in 2024, what’s driving the spend, and the lesser known stocks to watch in the industry.  - Reddit’s new “Reddit Answers” tool, the company’s latest foray into AI, and how the online community continues to lead publishers in AI efforts.  - How the market continues to give investors a discount on small caps, and why one ETF might be better than another for exposure. (17:41) Analyst Asit Sharma joins Mary Long for a look at LVMH’s Bernard Arnault and what he shares with Warren Buffett Companies discussed: GOOG, GOOGL, META, AMZN, CART, TTD, IAS, RDDT, IJR Host: Dylan Lewis Guests: David Meier, Asit Sharma, Mary Long Producer: Ricky Mulvey Engineers: Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Don't you wish you could just hit skip on the worst parts of your life? You know, the same way you can skip an ad? I get it. I'm Siaya and I live in Ice Cove. I've made some questionable decisions that didn't end up the way I planned. And today I'm still figuring it out. Somehow things usually get worse before they get better. Apparently, that's how I roll.

So bundle up and come along for the bumpy ride. Stream a new episode of North of North Tuesdays on CBC Gem. Dylan Lewis. The advertising market hits 12 zeros. Motley Fool Money starts now. I'm Dylan Lewis, and I'm joined over the airwaves by Motley Fool analyst David Meyer. David, thanks for joining me. David Meyer. Thanks for having me. Today, we're going to be checking in on the ad market. We're going to be looking at a corner of the stock market that you've been paying attention to, and also looking at Reddit's AI ambitions. Let's start with the ad market. The year is not quite over yet, but it is looking

like a milestone year for advertising. Ad spend worldwide expected to pass $1 trillion in 2024, according to media investment organization GroupM. David, I feel like this time of year, a number like that isn't all that surprising, given all of the holiday ads we're seeing, but it is still a massive, massive number. Oh, it's enormous. I can literally remember years ago, when I was first starting to follow this trend, it was huge when it crossed $500 billion. And here we are with three more zeros. One of the amazing things is, GroupM, they are an organization that follows these things. They're looking at media investment. They'd originally predicted this would happen in 2026, revised it to 2025, and then revised it to

2024. So, they have seen an acceleration on that spend. I have to imagine that that means that advertisers are seeing a return on their spend? Always, because that is literally the only reason that you do advertise. You wouldn't keep doing something if you were just going to keep losing money at it. So, yes, digital, especially as you continue to move from analog, which are still out there, analog ads, to digital ads, it's much easier to measure the ROIs. You can see, you can make adjustments easily. So, absolutely, the ROI is still there. One of the curious elements of this, we're kind of basing some of the conversation here on a Wall Street Journal piece that was out this morning. They noted that some of the gains

that we are seeing in advertising is coming from a reduction in consumer goods companies with their spend for more traditional in-store retail. And apparently, I didn't know this, That is not characterized as advertising. It's a totally different form of spend and budgeting. What do you make of that? So, it's not surprising. And the reason it's not surprising is, again, because there are new ways that those same advertisers, the consumer products, consumer packaged goods firms, can see how effective their ads are. For example, Amazon, you can go on to their space, get your digital ad in front of consumers and see how well it works. Another example, Instacart. Now, this is relatively new for them, but think of their platform

as a digital grocery store with digital shelf space. It's the same thing. It's just a matter of getting your product, your promotion, your pricing in front of a large growing and people who are willing to spend money on using the Instacart service to buy groceries, getting your ads in front of them in order to spur more spending. And I can see directly how it's working, I can see which areas of the country it's working best, I can see which stores people are going to, I can see so much and that's the big piece of it. It's the data and analytics that's driving all these decisions of where to go, where

to spend, what to do more of, what to do less of. You mentioned this is a trend you've been following for a little while. Amazon came up, Instacart, probably a little bit more of a surprise for some people that don't follow the business as closely. Beyond some of the usual suspects, I'll throw Meta and Alphabet in there, too. What are some companies that you think maybe people should be having on their radar when it comes to increased ad spend? Well, I would say, if you're a longtime Fool listener, you probably have this company on your radar, but keep it on your radar, and that's the trade desk.

Because what the trade desk does as an aggregator of what are called demand side, like people coming to them and say, hey, help me place ads in various places, it's almost a one-to-one correlation between the amount of spending that's being done and the amount of business that's available to the trade desk. So, you know, the trend of upward and to the right in terms of global ad dollars being spent is, the Trade Desk is almost the first beneficiary of that. And it feels like, of the digital channels, they are all kind of nascent in some way. But I think, like, connected TV in particular, and ad-supported video streaming in particular,

are probably even earlier innings than some of the more traditional display, sponsored result type stuff that we would see from a Google or from an Amazon. That's exactly right. And there's actually a little company that I've been following for a couple of years that's playing directly into this called Integral Ad Science. So, what they do is they actually help digital advertisers on these various channels, you know, streaming, connected TV, etc. They say, hey, we can verify that a person, not a bot, not, you know, actually saw this. So, again, the data becomes more valuable. The other thing that Integral Ad Science does is they say, hey, your brand gives off this vibe. You don't want to place it against this content.

It could be congruent to it or just downright inappropriate. So, integral ad science is another one that is seeing the benefits of this as, again, more and more advertising moves digital. One of the companies that is hoping to earn more of that digital ad spend pie is Reddit. This is the online community and social media platform. Ads are a very large part of the business right now. And one of the ways that they are trying to, I think, kind of boost that ad revenue is by boosting the amount of time that people are spending on the platform and making the platform even more useful, even more user-friendly.

We have seen an announcement today that kind of gets at that. They are bringing forward a new user-facing AI application. They are calling Reddit Answers. David, what are we looking at here? We are looking at a very good business idea for a number of reasons. One, right now, lots of other generative AI media get their – you can search Reddit in many different places, right? But what Reddit doesn't have control of is what is being returned back. so you know it's you might you might you know you might search for something tie it to reddit in the

search that you're doing but who knows if that's you know if you're getting back if you're truly getting back uh what you're looking for and then to the earlier point that you made you're not you're not on reddit's platform when you do that right so we don't we don't know what's going on but it's still good right because those third-party searches do bring engagement to the site but what What this does is it says, hey, you can stay on the site, search within the site and do it in a conversational way as opposed to a keyword way. The brilliant thing is, Reddit can take all the data that it has and that data is expanding each time somebody uses it, and carefully train its model to make sure that it gives

a good answer and the experience is good. the experience is good, you'll stay on, which means more engagement for Reddit, which means potentially attracting more advertisers, because that's what you're trying to do. So, they're not going to put any of their third-party relationships at jeopardy by doing this, but they're going to try to say, hey, we can do this, right? We have the technology, we have the data, let's make it a very useful thing for the Redditors that come to the site all the time. From the press release, it seems Reddit Answers will be rolling out to a small number of U.S. users, and it's also only available in English at the moment. And so, if you are a

user, you may not see it right away. But I think one of the ways that may be helpful to think about it is fairly similar to what we are seeing with Google and their AI overviews when people are submitting queries, except Reddit is wholly owning that relationship. And you brought it up. I mean, When I talked with Steve Huffman, the CEO of Reddit, a couple of months ago, we talked about the amount of inbound traffic that Google and other search engines create for Reddit. This feels like they are trying to better possess some of that relationship that they have with their end user. Absolutely.

The way to think about it, and this is something that I learned a long time ago when I was getting my MBA from my strategy class, but basically, the customer experience is essentially what defines your brand. If you create good customer experiences, you tend to have a good brand, a higher net promoter score, you can think of it in many different ways. But the more that they can keep control of the early innings of AI in terms of generative search, the better that they can control the experience. They can also learn faster from it as well, like, oh, this didn't work, let's make a pivot, or hey, this seems to be working, let's lean more into this. Again, there's no doubt that AI, generative AI, AI search, all that is going to continue to progress

forward. Now, Reddit has essentially put their stake in the ground saying, hey, from this point forward, we're going to be in control of the experience through the awesome data that we have and the data stack is growing. And we'll just continue to make the experience better and better and better and improve the Reddit brand. They've been doing quite a bit to invest in the platform and AI has been front and center for a lot of that. I think one of the main things that they view as a way to expand their total addressable market is to translate the content on Reddit to more and more countries and localize that content. AI has been a very large part of that. I can't help but look at a company like Reddit and say, I feel like if you want to study

digital media and publishing and how some of this next-gen technology should be used, follow Reddit. Because so many of the things that they seem to be doing here, David, I almost put them in the bucket of table stakes three to five years from now for a lot of these types of businesses. I completely agree. Early on in their life and then through the early stages of their IPO when they were getting ready to do it, there was a whole lot of worry. Isn't Reddit going to be disrupted by AI? This is going to hurt them. They have absolutely used Judo to take a weakness and turn it into a strength here. And yes, I would imagine there will also be plenty of Harvard business studies, case studies down the road of just on that topic alone. You saw a threat

and you neutralized it and you turned it into a strength. That is the mark of a great management team, in my opinion. All right. As we wrap up here, as we're heading towards the end of 2024, I like getting a kind of finger on the pulse from our analysts on the corners of the market they're paying attention to, and where they think some of the investing ideas for 2025 might be. You've been digging a little bit into small caps, David. What are you seeing right now? So, yeah. So, I've been on the small cap bandwagon since 2023. You can go back to all my content. I have done nothing but pound on the small cap drum since then. And despite the fact, or even with the fact that they have had a very good 2024 as a group, I think the trend is going to continue.

I think the small-cap universe continues to be, on a relative valuation basis, more attractive than the large-cap universe. And very simply, just look at the forward price-to- earnings ratios of the S&P 600, which is their small and mid-cap index relative to the S&P 500, it's 40% less. It doesn't necessarily guarantee that small caps are going to outperform or anything like that, but what it says to me, continues to say to me, is that this is the pond you want to fish in. This is where you want to look for opportunities. Because if you can find that high-quality business that The Motley Fool is known for unearthing, a good business, a good management team, a competitive advantage, growth opportunities ahead of it,

you're probably going to pay a lower price, which should over the long-term turn into higher incremental returns. I still love the small-cap space and I can't wait to continue to find find new ideas in 2025. I like that you zoomed in on the valuation element of that, because I think we can lose sight of it sometimes. You can have great returns because you find a business that is a quality business and continues to put up great results. You can also have great returns because the market revalues something at a higher multiple than they were willing to in the past. And you can find great returns if you can do both, because you kind of have a compounding effect there. So, actually, let me interrupt you there.

There's actually three stages of returns. The three stages of returns are, one, a business is not doing well, right, and you get it when the market recognizes, hey, this business isn't going to fail or anything like that. And then, yes, then the business starts doing well and the market recognizes its performance. And then that's stage two. And then stage three is multiple expansion. So, if you can find all three of those, and you can tend to do that with smaller companies, that's where amazing returns can happen. I didn't mean to interrupt. No, that's perfect. I think with that preamble, I need to ask you about some specific companies that you're interested in. What are some small caps that you think some of our listeners should

have on their watches? I'm sorry, we're out of time. No, I'm just teasing. So, yeah, I have a couple. One of them is named Fluence Energy. Fluence Energy is in the energy storage business. Essentially, they create utility-scale battery systems that they install alongside a renewable power producer, so let's say solar power. Obviously, the sun doesn't shine every day, so when the sun shines, you convert the sunlight to energy, you store the energy in the battery, then from the battery you release it to distribution when it's necessary. They are doing extremely well. It's one of the fastest-growing areas in the energy market.

They just had their most recent earnings call and they said, we're expecting 40% revenue growth next year. They did about 25%, 26% this year, so they're seeing an acceleration. The new CEO who came in earlier this year, he's transformed the company from basically cash burn to cash generation. There's all sorts of great things that are happening from a fundamental business standpoint, as well as what's happening in its marketplace, and you're trading at a reasonable valuation today.

You know, Fluence is, like, the perfect example of what you should be looking for with small-caps. A good business trading at a reasonable to attractive valuation and make your investment. For folks that maybe aren't interested in buying a specific company, but are rather interested in getting exposure to small-caps through an index, you mentioned the S&P 600, is that your preferred small-cap index? Yes. So, and the ticker symbol for one of the bigger ETFs by iShares is IJR. If you contrast that with the Russell 2000, which is essentially the 2,000 small-cap companies, what the S&P 600 does is it says, hey, if you're not profitable, you're not in the index,

whereas the Russell 2000 says it's just based on size, so we don't care about anything associated with business fundamentals. So in the S&P 600 ETF, you just get more high-quality companies. And so, yes, it is, in my opinion, it is a slightly better vehicle to use. And the reason is because, quite frankly, it fits more with what we try to do here at The Motley Fool, investing in those fast-growing, high-quality companies. David, love it. You brought the stock ideas. You brought the breakdown. Thanks for joining me today.

Thank you so much for having me. This was awesome. Listeners, coming up on the show, Motley Fool senior analyst Asit Sharma joins my colleague Mary Long for a look at the leader of a luxury goods giant, Bernard Arnault, and some of the parallels that he shares with Warren Buffett. Asit, a couple of weeks ago, you and I were doing a segment on luxury stocks, and we ran out of time, but we had hoped to get to a question where we were going to kind of compare LVMH CEO Bernard Arnault to another famous wealthy tycoon, a Mr. Warren Buffett. We did not get the chance to get to that question then, but you told me that it was such a fun

exercise to think about. So we figured you went to Europe, now you're back. Okay, let's kind of sit down and compare these two folks. Before we get to comparing the two as investors, maybe let's set the table a little bit with their stories. Listeners are maybe vaguely familiar with Buffett's background, once upon a time, buys shares in a New England textile mill, eventually gains a controlling stake in that textile mill, uses the cash that the company's generating to make investments in other businesses and in the stock market. Ultimately, that becomes the conglomerate that is Berkshire Hathaway. And the rest, as they say, is history. How about Arnaud? How did he build the LVMH empire? Mary, I think there's some similarities here

to Warren Buffett in that Bernard Arnault was someone who started with, had a head start in society, let's say that. He had an engineering degree. His father owned a successful business, which he then went into and focused on sort of real estate for a while. And then like Warren Buffett, after sort of getting his feet wet in how the business world worked, he set his sights on a company that was having some trouble. This was a conglomerate by the name of Boussac-Saint-Foyer, and Wikipedia tells me that in 1984, he took control of this to get really access to a crown jewel by the name of Christian Dior. And this is reminiscent of what Warren Buffett did in his career.

Now, you mentioned something very interesting, that Warren Buffett, through his limited partnership, or alluded to, taking control of a struggling textile mill in New England by the name of Berkshire Hathaway in 1965. Yes, he actually was able to extract some cash out of that business, but it was a money-losing business, a doomed business in some ways. And really, I think for Warren Buffett, the better analogy, not that yours isn't great, but maybe the one that history has shown as more apt, is taking over a company that we now know today as Geico. But this was just a pure insurance concern. And Buffett saw an opportunity to extract capital from that business, to use the float, that is the money that they take in as an insurance company before they pay

out claims, and invest that float in the same way that Bernard Arnault saw a chance to use a prestige brand within a struggling conglomerate and extract capital out of that. So they both had this sense at a very young age. I think Bernard Allnau was in his 20s and Warren Buffett was in his mid-30s when they had a similar idea. Here's something that isn't working. I want to take control of that and really exploit it and use the capital for other things. And while both of these men have grown these companies, one struggling into more massive conglomerates that are certainly no longer struggling, they have very different reputations. So Buffett's got this friendly, folksy kind of grandpa vibe to him. And Arnaud is nicknamed

the wolf in Kashmir. Also, the Terminator is another nickname that he's gotten. A part of Buffett's whole image is that he's known for his aphorisms, his nuggets of investing wisdom. Does Arnaud have the same kind of wise reputation, even though maybe his is a bit sharper than Buffett's? Yeah. I don't know if the description of either out in the real world is that app because Bernard Arnault has certainly had his very public fights with people who want to keep control of their own luxury brands, finally would take control along with his investment partners. And so that's why he has this reputation of being a wolf. And then Warren Buffett has this, as you mentioned, aura of a very folksy, grandfatherly-like guy. But Buffett is such a sharp

negotiator on one hand. And Arnaud has proved to be a value creator for people who fought him tooth and nail. I mean, they did pretty well if they retained some interest after they sold most of their shares to him in various luxury brands. Having said that, I think Buffett is more known for his aphorism simply because every year we get these wonderful annual reports and he's such a great communicator. Whereas Arnaud, we have to more scrape the barrel of things he said publicly, stuff that he's written intermittently. But I will share two quotes. I mean, here's one that he's most known for. I think it's great. Money is just a consequence. I always say to my team, don't worry too much about profitability. If you do your job well,

the profitability will come. And we've seen this wisdom, I think, distilled by other people and many different guys. It's not just about money, but the idea of doing something well and letting the results follow, I think is in theory, really easy to understand, but in your life, it's so hard to execute. We get distracted. We let our emotions get in the way. We want to focus on the result. I want the candy. When I unwrap that candy, it's going to be so great. But focus on the chore that your mom laid out. Do it well. Make your bed and make it neatly. Just one more quote, Mariette. I know you're itching to jump in here. Let me just throw this other one out that I think is fun too. So this is one that he

relates about things he tells his team. I often say to my team, we should behave as if we're still a startup. Don't go to the offices too much. Stay on the ground with the customer or with the designers as they work. I visit stores every week. I always look for the store managers. I want to see them on the ground, not in their offices doing paperwork, which I think is sort of just a wonderful management tool. It's like, you know, focus on what's most important. You shouldn't be at your desk all the time crunching numbers or making plans. Get your feet on the ground, put your ear to the ground. But you had, you had, you wanted to interject with that first quote. That's, that's great insight. And while their personalities often like obviously seem

to affect their management styles. How do these two men differ when it comes to capital allocation? Are they running the businesses and using the money from Berkshire Hathaway, from LVMH in notably different ways? Are there any similarities there? What's that Venn diagram kind of look like? Yeah, it's fascinating. Let's start with the similarities. I think both of these guys are decentralized. Neither one likes to micromanage things. Buffett is famous for, after cutting those deals so shrewdly, having the agreements be very simple on paper, very short agreements, once or twice on a handshake. You have to understand that Berkshire Hathaway does two things. If you don't know this already, they acquire operating companies, many of them

publicly traded and run those companies. Then they also have an investment in publicly traded companies where they own the stock and they're looking to buy great companies for a great price and then reap the investment gains from that. In the case where Berkshire Hathaway owns operating companies that then folds under its own umbrella as one single publicly traded company, Buffett doesn't like to really dictate to the people who run the businesses within that umbrella how they should do their job. He likes to find great managers and let them do their things. And I think Bernard Arnault is very similar in this regard in that he loves to acquire different brands, whether it's Tiffany, for example, or let's just pick any number of the gazillion

brands they have. Christian Dior, I mentioned, or Dom Perignon. He loves to have these as standalone houses within his luxury empire. And he trusts that the people who are running these businesses can simultaneously keep the aura, the distinct aura of those brands, keep the business acumen that they have on the ground, and adjust a little bit to the principles that LVMH has as a whole. So I think that's how these two are both very similar in this sense. How they're different is, I think Arnaud is just much more of a wheeler and dealer at heart. He actually revels in the fight and the glory. He loves to get into that mudslinging phase where he's dialing up his control, he's buying more shares of a company,

now he's got a control percentage, and he's going to dictate how the deal will end. And Buffett really hasn't shown that kind of appetite. So while they both have this amazing acumen for finding businesses at the right price that they can then exploit, I think they're a little bit different in that regard. And if I can just add one more into this, I think Arnaud might be more by choice of a strategic acquirer than Buffett is. So Buffett is what I would say is he's a classic financial acquirer. He acquires a company and really is focused on the cash flows, future cash flows. So price can play a great part of that. And as I said before, he'll let the managers manage a business and he chooses great people. Arnaud has to be more of

a strategic buyer. He has to say, how does this piece fit into our fashion empire? Can we lift and shift some of this brand to a different geography? And so he's developed more of a sense over the years of how to grow an asset based on its relationship to other parts and pieces. You look at Buffett's holdings within Berkshire Hathaway, they're vastly different. They're companies that don't have anything to do with the other. I mean, what does Dairy Queen have to do with Geico. Not a lot. We were talking before we started recording about the track records of these two different companies and kind of how best to compare them. Because if you zoom out and you look at, let's say, total returns over the past 10 years, over the past 20

years, Berkshire more closely tracks the market, whereas LVMH over those time horizons trounces the market. But if you zoom way out to the beginning, that kind of changes. And it's Berkshire Hathaway that has a longer time horizon if you're lucky enough to have bought in early. you've just seen unfathomable returns on that initial investment. What is the best way to kind of compare these two companies? What kind of time horizon should we be looking at? Should we be looking at something totally different than total returns? What's the best way to kind of say, okay, all said and done,

one is beating the other in one way or another? Well, Mary, I sort of like the really simple insights you and I arrived at right before we take, which is to say that LVMH is a much smaller company than Berkshire Hathaway today. I think it's maybe less than one-third the size. Berkshire Hathaway has crossed a trillion dollars in market capitalization. As our friend Ricky Mulvey was reminding us, it has hundreds of billions of dollars on its balance sheet. Berkshire Hathaway is huge. And for it to keep returning the way it has returned in the past, it actually would need a bigger contribution from its operating companies than the stock it holds from the investments it's made in other companies.

And that just becomes so difficult as you become a bigger entity. Whereas LVMH is relatively small, they have much of a ways to go still. There's still many boutique bespoke brands it can acquire in the real world and increase its operating cash flow and operating profile. So I think maybe if we look out over the future, the next 10 to 20 years, perhaps LVMH is the better bet. But let's go back to your point about duration. If you had the opportunity to invest in Berkshire Hathaway before it went public or when it went public, you'd be sitting on a return that's in the hundreds of thousands of percent today.

And I don't think if you gave LVMH another 20, 30, 40 years, they could ever catch those kinds of returns. So it really is hard and unfair to compare these in some ways. But I would say, if I had a way to calculate this, I would take Warren Buffett from the time he started delivering newspapers and track the money he made there, his part of that contribution to the capital he raised from friends and neighbors to start his limited partnerships. I would put that against the few thousand francs that Bernard Arnault probably tapped his dad for over a glass of Bordeaux wine one night. And just compare those numbers. I think that'd be very fascinating if you track those two today. If you track those two today. Asit Sharma, always a pleasure. Thanks

so much for joining me so closely after your return from Europe. We're thrilled to have you back and for kind of following up on this comparison between two very famous, very successful investors. I appreciate it, Mary. This was a ton of fun. As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell anything based solely on what you hear. All personal finance content follows The Motley Fool's editorial standards and is not approved by advertisers. The Motley Fool only picks products it personally recommends to friends like you. That's all for today's show. I'm Dylan Lewis.

Thanks for listening. We'll be back tomorrow. Thanks for watching!