Motley Fool Money - A Golf Clap for Google

Episode Date: October 30, 2024

The company’s cloud segment just got A LOT more efficient. (00:21) Tim Beyers and Mary Long discuss: - The transition from “search engines” to “answer engines.” - Google’s fast-improving position within the cloud computing market. - Lessons learned from SuperMicro’s steep rise and sharp fall. Then, (16:14) Ricky Mulvey and Bill Mann take a look at retail cycles and an investment idea that came about from coat shopping. Learn more about the Range Rover Sport at www.landroverusa.com Companies discussed: GOOG, GOOGL, MSFT, AMZN, SMCI, FRCOY, IDEXY, HNNMY, COST, NKE Host: Mary Long Guests: Tim Beyers, Bill Mann, Ricky Mulvey Engineers: Rick Engdahl, Desiree Jones Learn more about your ad choices. Visit megaphone.fm/adchoices

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Is it a dumpster fire or a buying opportunity? You're listening to Motleyful Money. I'm Mary Long, joined on this fine Wednesday morning by a Mr. Tim Byers. Tim, how you doing? Partially caffeinated, ready to go, Mary. You're partially caffeinated. I will admit that I am fully caffeinated. So together, hopefully we're going to bring the energy this morning. There we go. So let's get right to it. Alphabet. We got lots of big earnings coming this week. The first of the hyperscalers reported yesterday after the bell. Again, that's alphabet boasting beats across the board, revenue up with gains across all business segments. This is a $2 trillion company. Growing revenue by 15% all things considered is pretty significant. Operating margins also improved. Like so many of

its peers, Google has faced scrutiny for spending a boatload of money on AI. Are these results, Tim, an indicator that that AI spend is starting to pay off? It's way too early to say that, Mary. But it is clear that the push for AI buildout is well underway. You put in the notes before the show that CapEx was up 62% versus the same period last year. Last quarter, I believe, it was up 90%. So they're just spending a boatload of cash to build out their AI capabilities. And they need to. Google does stand to benefit most from the shift from search engines to answer engines. And we know that this is a thing. Open AI wants to move the industry to what we're calling answer engines. So I'll just define that briefly, Mary. An answer engine is what we think of as a generative AI instead of me searching for a keyword. So like let's say you are searching for like veterinary care. So you'll put into Google the keywords like local, veterinarians or veterinary care or high-rated veterinarians like keywords that's what you're looking

for an answer engine is find me a you know the highest rated veterinarian in my area and my zip code is and you'll put that in and an answer engine would say there are three you know veterinarians within the zip code that you cited that have a score of blank according to blankety blank and like the sorry there I tip my mic over a little bit for you know listeners couldn't see that I'm sure it was hilarious but the the idea here with an answer engine is that you're going to ask a very direct question and you will get a very direct answer instead of using keywords to get a number of results and then you decide what path you want to take to get the answer that you are looking for. It's very different.

And so generative AI has brought us to this point. Open AI absolutely wants to have answer engines. And in order to get there and be there first, Google needs to invest heavily. So this is, it kind of explains the CAPEX spending. I think the growth that we're seeing is just proof that the core. business isn't going away anytime soon here, Mary. Google has no choice but to invest, but the core business is still pretty solid. I do want to zoom in on the state of Google's advertising business, but before we do, I have perhaps a cynical question for you as Google and

other, as the industry transitions from this search engine to answer engine. Yep. Is it just the high, is it, is it that, whichever veterinary, to continue with your example, is it whichever vet spends the most money on advertising that rises up to the top of that, or are these machines actually putting it, like, taking into account the input that a searcher is asking them to? Well, it is, it's the, today it's the input. But tomorrow, when answer engines have an ad business attached to them, it might be the former. Certainly today, Google is going to show you the top advertised result.

It's going to show you the promoted result. I think we know for sure because all of them are getting into this. The answer engines are coming. Search GPT is OpenAI's answer engine. Gemini is Google's answer engine. and we know that ads are coming to those. They will be different. It's very likely that you'll have something that doesn't just say like the top answer is the one that pays the most money,

but you might be paying for precision. So let me give you an example. You know, you ask a question of the generative AI. Give me the top three veterinarians in zip code blank, whatever it is. So you get those top three and it tells you how it ranked them according to some, you know, metric that it found in generating its answer. And then you say, okay, do any of these specialize in, you know, cats? You know, yes. So, you know, two of them specialize in cats. Okay, do any have experience? And let's say there's, you know, let's say, have a senior, you know, cat that has a condition. Does any of them have specialties or experience with

X? And they'll say, in fact, let us introduce you. And now you have not just the three. Now you have an ad that pops up and says, can we introduce you to our partner who has a specialty in dealing with senior pets? Let's say, totally different one came out of the blue. But it's an It's an ad, and it's a sponsored ad because you triggered something in your questioning inside of the generative AI. So when you were getting closer to the true answer you were seeking, that triggers an ad. We've also got revenue from the Google Cloud segment up 35% compared to last year. Management attributed the strong results to its artificial intelligence offerings. Still, Google's cloud business takes bronze to Microsoft's.

Azure Cloud and to market leader Amazon Web Services. As of last quarter, Google had about 12% of Market Share, Microsoft 23, Amazon 32. All of these companies, as we've talked about so much on this show, are spending gobs of money on AI infrastructure. With all that in mind, I have two questions for you. One, how much do those rankings that I just listed of Market Share? How much do those actually matter? And two, is the way to the top of those rankings simply to outspend. I don't think they matter that much, not in particular, because I think a lot of the three major cloud infrastructure providers provide a lot of the same tooling. So customers are going to go shopping into those environments. Some of them will make big commitments to one of those platforms.

I think that's going to be the rarity, though, Mary. I think price, feature set, you know, familiar. familiarity with the environment are going to have a much bigger set of determining factors of which you use. So, yeah, I don't think it's a huge determinant. Having said that, boy, could we just take a second to give a golf clap to Google Cloud? My goodness, man, you are right. I mean, spending makes a huge difference. And in this particular case, Google Cloud was nowhere.

I mean, they really were nowhere just a few years ago. But today, GCP is up in the double digits in terms of market share. That's extraordinary. Not only that, I mean, you mentioned earlier, Mary, that operating margins were up. I give some credit to Google Cloud for helping push those operating margins, because the operating margin for Google Cloud in the quarter was 17%. That's up for 3% year over year. That's pretty good.

That's pretty good. And on that, I want to pivot to a totally separate story that you wanted to be sure to hit on today, a bit of a different tone than what we've discussed with Google's news. We've got super microcomputer, which makes storage solutions for data centers. This is a stock that has been on a wild ride over the past year. The company joined the S&P 500 in March, and shares have surged nearly 250% in 2020, alone. That said, in late August, Hindenberg Research revealed a short position in the company.

They alleged accounting manipulation. Today, the stock is down over 30% last I checked on the news that its auditor, Ernst & Young, resigned from the job. Why is EI out, Tim? because they have said, and I can't really quote this here, I'll see if I can pull it up, but the resignation letter essentially says, we can't trust what we are hearing. Specifically, they said we are no longer able to rely on managements and the audit committees, representations of these financial statements. And they are unwilling to be associated with these results. In other words, what they are saying, Mary, in so many words, is, yeah, Hindenberg is right.

I mean, they're not saying that explicitly, but they are saying it implicitly that these numbers are not trustworthy. And key to Hindenberg's thesis is that these numbers are not trustworthy. worthy and EY has just kind of confirmed that. That is horrible. That is absolutely horrible. Can we just please give a warning here? If you are one of those daredevil investors saying, who, you know, down 30%, this must be an amazing buying opportunity.

No, no, no. This is not the fire that you run into. This is the fire you run away and you warn every. neighbor in the neighborhood to stay away from this thing and you start a bucket brigade or you call a fire department and you'd get out of here like no this is stay as far away from this one as you possibly can i i just i hate this for people who who speculated on this stock on the belief that it had some real ai tail ones and we could talk about that but it was a company that did have some AI tailwinds. Yeah. So, I mean, let's talk, we've talked about how so many massive companies are

pouring so much money into AI. That is obviously a buzzword. That's a huge growing industry that so many, many folks are incredibly bullish about. Super Micro had an AI business. I'm going to intentionally use the past tense there to just underline the dumpster fire point that you already made. Had an AI business. It's one thing to now see. and hear this news of EY and to see the short report. But at the time, if you were an investor that was thinking of this as an AI company that maybe some people early on were paying less attention to than bigger names like NVIDIA, you could be forgiven for saying, oh, an AI company, great, shiny, awesome.

What does this kind of teach us about how you discern between companies that are riding popular tailwinds. It's a hard one. I want to give credit to Tom Gardner. I mean, huge credit to Tom Gardner because in April, he and the team at AI Playbook put out an alert, kind of not something that we typically do, but Tom decided to do it because it is a company that was so embedded with AI and said, here's why this company that you would think belongs in this portfolio on this scorecard is not going to be part of this scorecard. And one of the things he noted, and the team noted in their report, was governance issues. And so you asked, how do you sort of suss this out? Or when do you start looking for things like warning signs? I will tell you that

when Kirsten and I put this into interconnected opportunities, which is now trends, it was on the trend scorecard. And it was just a massive winner for six months. And then we sold it because the valuation had just gone, it had gone parabolic and it made no sense anymore. There was no reason to keep it. So we decided to sell out of it. We didn't have any hints, none whatsoever as to what's happening now. What Tom said, though, is like, hey, you know what? There's, there's like a board member that looks at it was a member of the audit committee who looks like is stepping down. That's a yellow flag. And then there were other things that would noted in this report. And when the yellow flags start to add up a little bit, they start, you know, turning from

yellow to orange and fairly quickly into red. And you want to be careful. And I think that's why I want to give Tom so much credit here is like you have to look at the kind of the, the spectrum of signals you can get because you can't know about this mary you know david mire and one of our internal chats made this point and he's right about this there's no way to know about this unless you're an insider at the company and none of us are insiders so all you can do is look at the signal so a board member steps down particularly a member of say like the audit committee which is overseeing governance of the company maybe there's a delay in financial filing or some numbers don't look quite right.

Or you see an unusual amount of growth that just came out of nowhere. Be thoughtful and willing to ask very tough questions about every position you hold. In this particular case, big credit to Tom for looking at a company, asking some questions and saying, I don't have answers here. I'm not willing to buy. I think that is a very good lesson for fools. Unfortunately, a pretty heartbreaking one here. Hard questions often lead to pretty good answers.

Tim Byers, thanks so much for the time and the insight on this one. Always appreciate having you on the show. Thanks, Mary. What does a clothing company have in common with Costco? Up next, Bill Mann joins Ricky Mulvey for a look at fast retailing, a Japanese company that owns the clothing brand, Unique Lo. These days, I'm all about quality over quantity, especially in my closet. If it's not well-made and versatile, it's just not worth it.

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Don't keep settling for clothes that don't last. Go to QINCE.com slash Motley for free shipping and 365-day returns. Quince.com slash motley. So, Bill, sometimes I get ideas about stocks from the news. This time, I started looking at a company because I bought a coat. So a couple weeks ago, I was in New York City, and I got a shirt and a winter coat from this store called Uniclo, which is a Japanese casual wear designer,

basically looking to sell good quality basic stuff at reasonable prices. You can get a decent graphic t-shirt for like 25 bucks, down winter coats for 160 bucks. And this was interesting to me because I go to the Nike store right across the street. That place is significantly less crowded, less busy. I know this is the beginning of the journey and a lot of people get stock ideas this way. But, you know, after an experience like this, what should I do before, you know, whether or not I decide to buy any stock in this fast retailing things. What are the next steps in my Lynchian journey? Well done, Ricky, discovering a business that's been, that's existed since 1972, first of all. Thank you. You did it. This is part of your lynching journey is to find a business that's 52 years old.

Have I told you about this song called Boogie on Reggae Woman? I heard it a few weeks ago. It was pretty sweet, man. So, Uniclo is run by a guy who was founded. by a guy named Tadashi Yanai who took over his father's basically tailoring shop and had a, you know, and decided that he was going to turn this into a thing, I guess. I mean, maybe that's the, that's the technical term. He just saw an opportunity to produce high quality, low cost goods. And so he did it throughout Japan. It is one of the largest businesses in Japan and came over to the U.S.

that's gone to Europe, you know, late 90s, early 2000s. And yeah, they have brought a type of business and a business model and a back end that's really differentiated from almost every other type of business. And it really has to do with the incredibly unique nature of Tadashi and I as a manager and as a founder. You got to my second step, which is that I realized I might be about 50. 15 years too late to this party. Or, you know, I go through and I'm amazed by, you know, you go into a Uniclo now.

The way they do a checkout is you just put all of your things in this basket and it automatically scans. No person, no scanner, no nothing. And I'm like, this place is absolutely the future. And then I look at the stock chart. And I think that a lot of investors have thought this before me. I know you've been following this company for a while. What originally got you interested in fast retailing?

So, you know, obviously I've taken a very long interest in Japan. And one of my favorite things is to find, play a game basically called one of these things is not like the other. So you had a 30 year period of time in which Japan really wasn't doing very much. The market wasn't growing. The economy wasn't growing. And you had this clothing store called fast retailing in Uniclo that was growing like wildfire, both, you know, out on the street and in the stock market. So, you know, instantly I said, huh, and Tadashi and I, a very, very unique CEO, he had a, he has a book, his autobiography from 2003 is titled, One Win and Nine Losses. He is someone who is absolutely geared towards taking risks and having failures and moving on. So that to me was an incredibly interesting thing to come out of, of a Japan at the time. that almost seemed terrified of failure. So really, I was betting the jockey. Yeah, I saw, I was watching some YouTube videos of him before we started recording.

One thing I appreciated about him. So this company is often lumped in with H&M and Zara, which is fast fashion. And I think he makes a really good distinction about what they do differently, which is they're not introducing a ton of new styles. And also, he basically said, we put sustainability before scale. and the way we actually do that is we make our clothing. And we're not only just offshoring our production facilities or production. We're making our own stuff and sustainability is important versus saying sustainability is important.

And we look at our manufacturers a little bit. Yeah. And it's a really interesting point. They have one of the ways in which they are differentiating themselves is not just sustainability, because that's a really important thing. And I feel like we're kind of talking down to H&M and to Zara and their process. The Zara parent company is called Inditex. It's a choice that they're making. But in the case of in the case of Uniclo, he saw those much more high input materials as being something that, you know, in some ways he was giving to society, doing it as cheaply as possible.

but things that aren't going to end up in a landfill after three or four uses. I know you've been following this company for a while. I want to look at Fast Retailings latest year because I just started looking at it, Bill. It's a new company. That's fine. It's a new company to me. You know, the warm discovery of Peter Lynch investing, sometimes people find out about this stuff before. I'm seeing a mature company that's growing a little bit and getting a lot of bit more efficient.

So what's growing a little bit? Revenue is up about 12% increasing store count by about. 3% same store sales getting a little better with that. But then you see something like the operating profit, which is up more than 30% in just one year. Revenue up a little, efficiency up a lot. What are you seeing in fast retailing in 2024? Well, I'm seeing exactly what you saw in New York. And basically I feel like this segment was all just about a flex for you being able to say that you've been hanging out in Manhattan. Let me just say that. For a day? Look, man, you get the flex. You don't.

take any weekend. I took a weekend trip. You get the flex is where you can. That's all I'm saying. Okay. I've taken weekend trips to Cincinnati. Yeah. Well, think about this, though. You've just talked about exactly what, what attracted you to Uniclo was that process for the checkout. I mean, just because they use high-end materials doesn't mean that they aren't rabbit about pulling unnecessary costs out of their system. This company, if you want me, to describe a company that I think is actually the best proxy for fast retailing.

It's Costco. This is Costco. Because Tadashi and I years ago said, you know what? One of the problems in Japan is that we have a more abundant economy and we are impacting our workers by not paying them very much. And so Uniclo raised salaries by 40% for all of its employees. What do you think happens when you pay your employees more than they can. make elsewhere elsewhere they stay they're loyal they do their best these things are these things are uh you know it's you would think it would be otherwise right that you know you you pay as little as

possible but companies like Costco and companies like fast retailing make more money because of the happy fingers of their employees i firmly believe that and they're also not losing people to attrition. You know, I need like a hand signal when you're doing a rhetorical question, Bill. That way I know not to jump in. You should just go ahead and jump in. They're all rhetorical, Ricky. I got some weirdness. So here's some weirdness. Fast retailing trades on the Niki. And earlier this year, there's something like the, it's almost like the stock has done too well. So earlier this year, the NICA said that it was going to apply what they called a capping ratio to the company. This sounds technical. Maybe there's something interesting.

here. What does this mean? What is what's going on between the Niki and fast retailing? What you have to keep in mind is sitting here in the United States, we happen to have the most diverse economy in the world, which, you know, so you've got the S&P 500, which does a reasonable job of measuring an incredibly diverse set of companies. Most countries, even huge economies like Japan, don't necessarily have this same level of diversity. So they want to, to make sure that one company doesn't make the index move too much. So they put a cap on how much it is valued in the market. So for the Niki 225, no company can be more than 10% of the market cap.

And so fast retailing has done very well, so they put a cap on it. Maybe the best example of this, Ricky, and I know you didn't ask me this question, is in the early 2000s when Nokia was about 75% of the market cap of the Finnish stock market because it was valued so much versus every other company in the country. So I like hearing that it's the Costco of fashion. That sounds great. But one thing that sort of off put me was almost the past price appreciation for a company like this because it is a fashion company, and even though it's selling basics, maybe it's a cyclical.

And I'm going to throw a quote to you from one up on Wall Street. You can lose more than 50% of your investment very quickly if you buy cyclicals in the wrong part of the cycle. And it may be years before you see another upswing. Cyclicals are the most misunderstood of all of the types of stocks. It is here that the unwary stock picker is most easily parted from his money and in stocks that he considers safe. end quote are we counting fast retailing is is a cyclical here does it matter we should but i guess this is where we talk about my huge mistake with fast retailing which is i owned it a long time ago and sold it after fat uniclo came into the u.s and they opened first in new jersey and they had

a couple of stores and they failed and i failed to think about what yenai had said which is we're going to take risks and and a lot of them are going to fail and then we're going to take additional risks. You don't have to, if you like a company and you think that they are unique, and I would say that this company is definitely that, you don't have to put all of your money in at once, right? If you're worried about a cycle, fast retailing is trading at a P.E. of more than 40 right now. And for a retailer, especially one, the size that they are, that's a lot. But if you want to talk about any company in this space that could surprise you on the upside, like doing something that you did not expect that makes that multiple seem cheap. I think it's this company and it's

this manager. A company that's not really a direct competitor, but plays in the same space. It was the store I went to right after I went to Uniclo was Nike. And this is a cyclical company. And right now, it's definitely in a down part of the cycle with a CEO change. You have a veteran coming in, Elliot Hill, who is telling investors the sweet stories that they want to hear. This company is going to repair relationships with retail partners. We're going to get a little more focused. And, you know, I like to think that a comeback story for me makes a lot of sense. And this is one bill where I actually am. I don't own shares right now, but I am considering playing a cyclical game here. And I think a lot of investors are who are following the story. What do you think about that? How about you on that?

I think the great thing about Nike right now is that they have, done minimal damage to their brand, right? Like, everything that's happened at Nike seems to be happening upstream. They've had problems with suppliers. They've had problems with, you know, not necessarily any products like tanking, just failing to take off. They have a lot of little screws that they could turn. I would be much more worried if they had damaged their brand than, you know, and then where they sit right now. So I think it's a reasonable, it's a reasonable bet that Elliott Hill will be able to turn it around.

I guess the flip side of that, though, is that all of these relationships, these things will take a lot of time. You're not talking about, hey, I'm going to turn red into blue and suddenly it's going to work awesome. So Nike's got a lot of work in front of it, but the good news is that the Nike brand

and that swoosh still retains a huge amount of value. Oh, man. Appreciate you being here. Thanks for your time and your insight. Thanks for you. 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 ourselves stocks based solely on what you hear.

All personal finance content follows Motley Fool editorial standards and are not approved by advertisers. We only pick products that we personally recommend two friends like you. I'm Mary Long. Thanks for listening. We'll see you tomorrow.