Motley Fool Hidden Gems Investing - Waste Management Goes Dumpster Diving

Episode Date: June 3, 2024

The biggest name in waste is looking to build out its business, and it might have found a cheap way to get into medical waste and document shredding with Stericycle.   (0:25) Bill Barker and Dylan Lewis discuss: - Waste Management’s planned $7B acquisition of medical waste company Stericycle, and how it’s a cheap addition to help WM build out its offerings.  - Costco’s strong quarter, why membership prices are an untapped lever, and how the hot dog combo continues to be $1.50. - Why big is better for retailers this earnings season.  (15:34) How is AI changing search? Tim Beyers and Tim White breakdown why Google has welcomed what used to be its greatest fear onto its site. Companies discussed: WM, COST, SRCL, GOOG, GOOGL Host: Dylan Lewis Guests: Bill Barker, Tim Beyers, Tim White Producer: Mary Long Engineers: Dan Boyd, Dez Jones Learn more about your ad choices. Visit megaphone.fm/adchoices

Waste management trucks are making a big pickup this week. Motley Fool Money starts now. I'm Dylan Lewis, and I'm joined over the airwaves by Motley Fool analyst Bill Barker. Bill, thanks for joining me. Thanks for having me. You know, Bill, Merger Monday living up to the name today. I mean, it's an acquisition if you want to get pedantic. But we have Waste Management set to acquire another waste company, Stericycle, in a $7 billion deal. Some speculation about this late last week, press release out today confirming. What do you think Waste Management sees here with Stericycle? I think it sees a relatively low cost way to grow some revenues. And as it's announced, the acquisition on its site sees some synergies, some cost savings. I think that's very likely given that Stericycle is not well known for extremely smart execution, at least over the last decade. So, I think that waste management's superior size and scale is going to allow it to take

a close look with some fresh eyes at the way that Stericycle has been doing business and probably save a little money, talking about, I think, over $125 million of projected annual synergies. So, that is what it sees, the market doesn't see quite as much today, at least as reflected by waste management stock price, which is off a little bit. I think most of our listeners know the green waste management trucks, maybe not as familiar with Stericycle's business. They are in the biohazardous waste, often from medical applications. They also have a document shredding business. This isn't exactly what waste management's

known for. And so it looks to me like this is them kind of taking a step in the direction of being a little bit more of a comprehensive service provider for some of their customers. Yeah. They, in fact, announced that this will make for a, quote, comprehensive suite of environmental solutions. So, getting rid of medical waste, you can sort of link that to environmental ideas. But I think that it does give them some adjacent markets. They haven't been growing. Now, the announcement, again, from waste management talks about attractive near and long-term growth dynamics for the healthcare market. Stericycle is, you know, doing okay in its organic growth there, but has been shedding some of the non-core operations it acquired. It was a roll-up machine, as, of course, waste management has been over the years.

So, ultimately, Stericycle got a little bit outside of its core competencies in terms of some of its acquisitions, and it's divested some of those. So, I think that there's probably a little bit left to do still. But, you know, this looks like something that is a way for waste management to juice its top line a little bit. Yeah, there seems to be something there. I mean, this is a business with Stericycle, about $2.7 billion in revenue for the last fiscal year. As you noted, though, stock not necessarily lighting the world on fire. It has not been a great performer. And the business itself has been losing money, I think about $20 million in losses for fiscal year 2023. That said, similar gross margin profile. It's what we see over at Waste Management in the mid to high 30s.

I have to imagine at some point waste management says, you know, I think we guys, we can help you on the profitability side here and get you with our scale and integrating you into our offerings to something that looks a little bit more attractive than what you guys have been able to do on your own. Yeah. Let's take a look at Stericycle's revenues for the last five years. $3.3 billion in 2019, then $2.6, then $2.6, then $2.7, then $2.6 last year, $2.7 expected this year, $2.7 expected next year. This is a flat revenue story as experienced by Stericycle. And it has been losing money, at least on a gap basis, which I think is appropriate to look at virtually every year of those five years on an adjusted basis. Of course, it's making money. If

you just don't look at all the costs of acquisitions and divestments and all that, then somehow it's making money, but not on a gap basis. So I do think that this is an easy act to follow to me for waste management's execution on Stericycle's business. The plan here, Bill, is a cash deal. And we see offer price of $62 a share. Stericycle shares currently trading around 59 bucks. That's a 15% premium from where they closed on Friday, market closed. It seems like there's a pretty high degree of confidence that this one's going to go through. Do you see anything getting in the way here? I don't see competing bids now that it's always possible. And of course, we've got a current

administration that takes a closer look at mergers and acquisitions and whether they are going to be approved than some previous administrations. But I would say that this is likely to go through. Yeah, I think the market already incorporated a little bit of a bump to Stericycle's price last week or the week before when word got out from a Bloomberg article that sterile cycle might be on the selling block. So about 9%, 10% bump to the stock from that, and then another 15% or so today. All right. We're going to go over to earnings and catch up on some results from Costco. Got lost in the way of things a little bit last week. Didn't get a chance to check up on their results. I look out at the quarter that

they just posted, Bill, and I say, this looks pretty strong. The market reaction, not too impressed. It was kind of a flat reaction for what seemed like pretty strong retail results during a tough period. Absolutely. It was an outstanding quarter, 6.6% comparable sales growth that was 6% off traffic, 20% plus for the e-commerce, things going well both in North America and elsewhere, margins improving. And, you know, this is a stock that's had a great year and sometimes a very, very good report just basically is enough to keep a stock where it was. You know, it was off Friday, it's up a little bit today, it closed higher than it opened on Friday and it's made up a little bit of that difference today. So,

really about where it was at the end of Thursday's trading. But the initial reaction was we want to see more or maybe just some profit taking after all of the rewards the stock has bestowed on owners of it, both short term and long term. I wouldn't be surprised if some people were willing to take a little bit of a profit. One of the things that came up in the company's results just beyond the core strength of the business was the topic of increasing membership. This was something that management discussed on the call and they basically left it as, hey, we know you guys expect this every five years or so. We are in that window. It's a matter of when, not if here, but we feel like the business is performing so well and we have the runway.

We don't necessarily need to be doing that right now. And I'm not a shareholder, Bill, but as someone who roots for this business, it is kind of nice to hear management have the confidence to say, we have this lever, we don't need to pull it. And investors now know that that's there for them at some point in the future. Yeah, that's a part, surely, of what is being priced into the stock now, kicking along a 50 times earnings multiple. So the confidence that Costco can raise its membership price and will and doesn't need to is multiple areas of strength that it's got great retention. I think maybe record-setting retention right now, 93% at the U.S. and Canada level and 90% worldwide. So, of course, a bump up in price is going

to cut into some of that retention at Costco, just as anywhere else, a few people will decide not to renew because of it. So, at the moment, they're enjoying that spectacular retention rate and knowing that they are growing membership. And when they need to, and they will not need to, but they will raise membership prices. And that's one of the things that is keeping the stock at the kind of very lofty multiples that it's enjoying today. Yeah. Let's check in on that a little bit. We got a, we got a PE ratio of 50 at this point, uh, for Costco. It's about double the S and P's. Um, and in some ways, you know, it, it deserves a premium.

It has been an absolute market crusher over the one year, three year, five year, 10 year. I mean, pick, pick a timeframe and you could not have bet against Costco. Um, it is one of those businesses that has continued to succeed, but we are looking at fresh all time. Hi, here's highs here, Bill. Um, do you feel like it's worth that price? I feel it's a great question. I think that I don't know. I mean, that is really a big multiple. It's not where the company has historically traded. I mean, it's been more in sort of the mid-30s. And it's continued to justify everybody's confidence in it.

It, of course, enjoyed some exceptional growth coming out of COVID and during COVID and has retained all that excessive growth and built on it. Not at the sort of 17%, 15% growth rates that it enjoyed in 2021, 2022. It's sort of mid-single digits now. A mid-single-digit top line that's carrying a 50 multiple, yeah, you've got to ask how confident you are. And as we've said, that price bump is going to come, and the company is highly likely to retain the vast majority of its members when it does so. But anybody that just has, as part of their discipline, they're not going to pay 50 times earnings for a company that's growing the top line at maybe 7%, I can understand that kind of discipline.

For any Costco members out there that might be sweating potential price increases, management also weighed in on the iconic $1.50 hot dog meal and said, don't worry, the cost is not going up anytime soon. And Bill, we know that's not a lever, but it is, I think, kind of a way that we can look at the management and the culture of this business and the value that they are trying to provide for their customers. At least that deal is staying put for the time being. Yeah, they are not trying to make money on that deal. It may be a loss leader. I don't know what the margins are on that, but they continue to get good press out of it.

We're talking about it right now. It seems to always be discussed as some very critical part of the Costco story. And I don't know what percentage of its sales it is, but I would assume way, way, way, way, way less than a fraction of 1%. But it seems to be the kind of thing that people need to have answers about and need to know that there's some constant in life and appreciate that Costco provides one. It's a third rail, I think. you know, especially during the summertime, you know, people want to make sure that they are getting the deal they've been promised for a long time though. That is true. I wonder if they could go someday, you know, I guess they talk about this, right? Like when someday we'll, we'll have

to bump it up, right. To like, it's been the same price since the eighties. That is remarkable stability. Would a buck 75 offend people? You know, like what, what, if you don't want to go to $2, I get that. So I think that it's another element of a great story that they're able to provide that and that they're able to get good press for doing so. All right. As we wrap our news rundown for today's show, a surprisingly strong earning season for a lot of retail names. Taking this Costco report and kind of putting it into the same frame as reports from Kohl's, target walmart we saw results from dicks last week as well any themes emerging to you uh well i'd rather be on the bigger side uh than the smaller side uh you know costco and walmart

are doing exceptionally well and amazon uh always uh and you know some of the it's i think that the department stores have have been uh you know their their death has been reported for a long time And Kohl's contributes to those reports. I think it was off around 20% on its report. More specialized operators, even something like Foot Locker, which has struggled for a while, are doing, you know, at least having another chapter, a better chapter right now than they have had. but the do-it-all for us outside of Costco and Walmart, the department stores, the mall-based department stores, and not that Kohl's is as mall-based as a number of the other department store chains, but I don't know. I think the model has a lot of problems up against competition like

Costco's. Bill, you do it all for us here on Motley Fool Money. I appreciate you joining me on today's show. Thanks for having me. You just found out that your sales team is at risk of missing quota. Don't panic. Just ask Rippling AI. Since it's built on your real-time people and business data, Rippling AI can pull metrics from Rippling and Salesforce into a meeting-ready dashboard showing quota attainment, headcount plan, and monthly revenue to quota by region. In seconds, you'll see exactly what's behind your quota risk and fix it before it's missed. Question answered, action taken crisis averted when you have critical business questions that need answers don't just file a ticket and wait weeks for an outdated report describe what you need and have rippling

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All right, cool. Welcome to This Week in Tech. He's Tim White. I'm Tim Byers. This is our audio edition, and we are going to talk shocker AI. Tim, we need to talk about the emerging content market for training AIs because this is not a thing that existed really even, would we say, two months ago? But now OpenAI is paying for content. Others are paying for content. How do you think this plays out here? Are we going to see a vibrant market for selling content for AI training?

Well, certainly a number of companies have signed up with OpenAI to allow their content to be licensed and used inside of ChatGPT. Companies like the Financial Times, Vox, The Atlantic, News Corp, Axel Springer Homes, Politico, quite a few more. And the reason is, last year when ChatGPT came out, they were not paying anybody for all this content that they had scraped off of the web. And, of course, the New York Times sued them, and several other people have sued them. So they are kind of going back to the well and saying we should pay for this. In the meantime, a lot of companies have put in a block that says, hey, ChatGPT, you're not allowed to crawl our website to use our content. And supposedly, ChatGPT is respecting that. But I think the big exception here is there's one big company that everybody wants to crawl them.

Everybody wants to come knocking on their door. And that includes using their content in the AI, and that is Google. Yeah, I mean, it is fascinating. And you may have noticed, if you are using the Google machine lately, that you will put in a query, you will get a result, and that result will include an answer from the Google Gemini machine. And they've been getting, I mean, Tim, it is a little bit hilarious that there have been some results that pop up that are comically bad, and those have appeared on social media. But for the most part, I think we would say that Gemini has done a pretty good job of providing an answer that is sourced and then with a bunch of search material underneath it, which is perfectly acceptable for Google's model. I agree, but I also would say this has been Google's greatest fear, right? This is why pretty much every AI engineer that you've seen work at a company like OpenAI or Anthropic started at Google doing AI. So the question is, why hasn't Google released an AI product before now?

And the answer is, this is what they were afraid of. They were afraid of everybody making fun of how the AI occasionally makes mistakes or hallucinations, as we call them. And that's why they didn't want to do it. But, of course, ChatGPT really forced their hand. Well, and let's be clear. We will dig in to this a little bit. We've talked about this previously, but Google doesn't have to pay for any of this. Everybody wants Google to index and crawl and search their websites.

They want to appear in Google search results. So Google has a massive, massive advantage here. They can get all of the data. They can train Gemini all they want, and they have to pay a grand total of $0 presently. Is there any world in which Google joins the collective of saying, okay, we hold our hands up here. We are going to be part of the responsible AI community that pays for a bit of content because they don't have to. Right. So what you see at the top of Google search results now is this AI panel that has some linked sub footnotes, I guess, at the bottom where you can click on the sources it used for doing that. And historical, Google hasn't had to pay for content to show up in Google search results because you get paid when someone clicks on a link and goes to your website. Absolutely.

So it was sort of a symbiotic relationship, maybe a weird symbiotic relationship, but certainly symbiotic in that way. But now if someone entirely gets the answer that they need from reading that knowledge panel and never clicks the footnote, never goes down to the search results below, that doesn't seem quite so symbiotic anymore. And that may force some hands. I mean, it's hard to say. There is another element to this as well, something that we didn't talk about before the show, but I want to bring up now is that Google arguably is the company more than any other that has more logged in user experience data than any company in the world. because when you and I log into Chrome, and a lot of us use Chrome, we are telling Google, hey, I'm here. And this is all of my search experience. These are all the things I'm interested in, which is how they build a search advertising business here, Tim. So

does that give them an additional layer of advantage here? Well, I think it sure does because this week also we had a leak that Google engineers leaked all the documentation about how the actual search results algorithm works. And despite the fact that Google for years has said they're not using data from Chrome about what people do to influence search results, shocker, the code says differently. The code says that sure enough, the Chrome sessions and the Chrome browsing is absolutely a factor in how pages are ranked. And we know page speed is a rank factor. And specifically, page speed as measured from Chrome, from real user is using Chrome visiting a website rather than artificial test metrics. So I think that

there's a whole lot of secrets that Google has and data that they have that they are leveraging here that are now getting put into the spotlight. So what, if we had to maybe ballpark it here, we're talking a little bit, so we're talking about Google's advantage here. Not only do they not have to pay for the training data, but which is more important for the Gemini machine? Is it The logged in data or is it the data from the third party provider? So, for example, the Financial Times data or the Atlantic data, which is more important for that Gemini machine? Well, I think the most important part is that Google has had the number one search engine since the beginning of time, basically, right? Right.

And ChatGPT is stuck using good old Bing, right? And so if you were thinking about it, if you're answering a question and you're going to chat GPT and it says, hey, I'm doing research with Bing, you're immediately just like, oh, geez, right? Like, I'm not going to get what I'm looking for here. Whereas Google is using Google for all of this. And so it's immediately theoretically better. Many people have criticisms of the current way that Google search results are working, especially after recent changes where they're trying to pull in a bunch of stuff from Reddit and whatnot. That is, let's just say, not always accurate. But the bottom line is that Google's got Google and ChatGPT does not.

So when we look out a few years here and we have a bunch of models that are all trained, let's say OpenAI has spent, I'm making up a number here, they've spent $500 million getting all of the data. They're paying the content providers. They're training the models. Is there ever a world where open AI can catch up to a Google Gemini that is constantly being fed free data? Or in order to level the playing field, does Google have to start being part of the you got to pay for content collective? I don't know. I think it's going to be really interesting to see how this evolves over time, because no one right now can afford to not let Google crawl their website, whereas we all can afford to have ChatGPT not crawl our website. But will that last forever, or will we be forced to open the doors and let ChatGPT in even if we don't want to?

I mean, it's really fascinating here. Let's maybe, before we end this segment, let's talk about the darkness a little bit. What can go wrong? So if you are Google and you are indexing all the data for free and you are OpenAI and you are paying for all of the data you need, where does this go wrong for Google and where does this go wrong for OpenAI? And I'll tee you up with this, the idea here that you have maybe users who are logged in that are deliberately trying to manipulate the Google machine, because that's been a practice we've been seeing for years. We call it search engine optimization. And does that mess up the Gemini algorithm, as it were? I think it already has.

I think we've already had just an absolute mess over the last year of people realizing that SEO doesn't work the way it used to, and that it's very hard to keep up with it. And every person who's in the search engine optimization field that I've talked to says, I don't know what Google wants. I don't know how to change my website so that I show up in Google search results. And I don't think Google knows either. And I think that that is very frustrating for a lot of people who've spent a lot of time building content machines in that symbiotic relationship. So if Google is no longer symbiotic, right? If you're no longer getting traffic to your website from Google search results, that could really affect a lot of things. It affects how much people spend on

advertising in Google because Google becomes less valuable. People don't build content that Google can crawl, so Google search results aren't as useful. And that could definitely be a problem over time. So let's end on this. How does OpenAI, Anthropic, all of the other models, how do they take advantage of that maybe slight soft underbelly that Alphabet has that SEO is not what SEO was one thing. Now it's something very different and it's a bit unpredictable here and it maybe makes Google a little less reliable than it used to be. How does OpenAI and Anthropic and others take advantage? I think they take their absolutely massive pile of venture capital money that they have and they use that to buy content for pennies on the article, if you will, way less

than those companies would get from traffic from advertising, but they can pay for it all up front, which a lot of these beleaguered news organizations really like, right? They get this money up front. And you buy it for cheap and you use it. And as soon as you are in a world where you can just get the answer you're looking for from ChatGPT and, spoiler, I suspect Apple Siri very soon, then why would you go to an ad-filled website like Google Search Results

when you could get the answer directly as a user? So when OpenAI can give a content provider more for their dollar than they can get from that advertising revenue, that is when you start to worry about Alphabet. Right. Or maybe not even more, but a whole lot right now. Up front. Yeah. things tech on our members-only live stream, Motley Fool Live. That's on their show This Week in Tech. You can also catch any of the episodes from any time over on our member replay hub. As always, people on the program may own stocks mentioned, and The Motley Fool may have formal

recommendations for or against, so don't buy or sell anything based solely on what you hear. I'm Dylan Lewis. Thanks for listening. We'll be back tomorrow. Thank you.