Motley Fool Money - Nasdaq Pain Continues

Episode Date: May 5, 2022

The Nasdaq fell 5%, continuing a rough year for investors. (0:20) Andy Cross discusses: - The short-term pain being felt by all investors, including us - Shopify's 1st-quarter results looking similar to Amazon's - Deliverr, the logistics company Shopify just bought for $2.1 billion - EPAM Systems, the IT services provider that surprised investors with a strong 1st quarter (17:00) Jim Gillies talks with Ricky Mulvey about MTY Food Group, a Canadian food franchisor small cap with potential. Stocks discussed: SHOP, AMZN, EPAM, MTY, MTYFF, WEN Host: Chris Hill Guests: Andy Cross, Jim Gillies Producer: Ricky Mulvey Engineers: Dan Boyd, Rick Engdahl Learn more about your ad choices. Visit megaphone.fm/adchoices

Hi everyone, I'm Charlie Cox. Join us on Disney Plus as we talk with the cast and crew of Marvel Television's Daredevil Born Again. What haven't you gotten to do as Daredevil? Being the Avengers. Charlie and Vincent came to play. I get emotional when I think about it. One of the great finale of any episode we've ever done. We are going to play Truth or Daredevil.

What? Oh, boy. Fantastic. You guys go hard, man. Daredevil Born Again, official podcast Tuesdays, and stream season two of Marvel Television's Daredevil Born Again on Disney Plus. Never have one of those days? where you can't hit the ground with your hat? That's what the stock market was like for investors.

Motley full money starts now. I'm Chris Hill, joining me today, the chief investment officer, Andy Cross. Thanks for being here. Hey, Chris. We're going to get to Shopify. We're going to get to EPAM systems, but can we just start with the pain? Just for a second. We are, it's a little after 12 noon on the East Coast. The NASDAQ is down basically five percent. in less than three hours. And maybe that bounces back some before the end of the day. But for anyone out there feeling the pain, a couple things. We're feeling it too. We're feeling this pain. I'm feeling this pain. And this is the cost of doing business. Yeah. With investing, as we've been experiencing really for much of the year, much for

the past, you know, of this calendar year, but really for the past, you know, a year or so of foolish kind of investing is the markets sometimes can be unforgiving. And in periods like this, when we're going through this reset, we had two years of a COVID period that was unlike any we ever saw before, Chris, and now we're kind of going through two years of this again. And we're going to have to come out of this. And we see the Fed acting in ways they've never acted before. We see just some of the data that came out today on the economic side with efficiency and productivity way down, unit labor costs way up. I mean, numbers we haven't seen in decades. So, we're starting to see the impacts of inflation and just the economic consideration. That's having an impact on valuations as

interest rates are moving into a much more normalized environment and probably higher than many of us have seen in a long time. So the markets are digesting this information, and we do go through these periods of cycles. And this one's very, very acute. Bill Gurley was saying the other day, I heard him say it's very much like a saw. Like you don't experience, you think markets maybe go more in like waves. When they go down, they go down in the saws, like a saw blade, you know, like a sawblade and just it drops. And when we're going through that right now and it can be very painful and we're empathetic to that to listeners and to our members. And the only reason we keep going is because we know the longer you're in the market, the more it's going to pay off.

100%. 100%. Yeah, there are periods. There are down periods in the markets, certainly, and bare markets tend to last much shorter than bull markets. And there aren't many down when you stretch out over any period, Chris, of going back decades and decades of five to 10-year periods of investing. If you're holding businesses, just in the wide case of the U.S. market, most of the times, almost 90% of the times, the stock prices, they lease.

they generate some return if you add in dividends there. Now, there's a lot of churn inside the index, as we're feeling right now, very acutely, when you have so many stocks, the average stock down so much more than the index right now. So we're feeling this very acutely. But over time, they do march higher, but they do go through this. The pain of pain for those returns, those 10% annualized returns in the S&P 500, Chris, that goes back 100 years that we've talked about and point to. and the fantastic returns we've had over the last decade, which we probably won't have over the

next coming decade, but we should see some kind of return. But in between, you do see these periods of drawdowns and to get those kinds of returns. You do have to wither these storms, weather these storms. And for even new investors, that's certainly painful, but even for experience investors, it's like you and I and others, it's even hard for us to, to, to go through and you just have to continue to maintain that focus on the long term and owning the businesses that you want to own for the next five, ten years. The unforgiving environment that we are in leads us to Shopify because Shopify's first quarter profits and revenue came in lower than expected.

They said that revenue growth in the near term is going to be lower. They also spent $2 billion on a logistics company called Deliver, and the market. market's not going to forgive that combination of events and shares of Shopify down about 15%. Where do you want to start? Whether we start there or somewhere else, I do want to get your thoughts on this acquisition. Well, we definitely want to talk about the deliver a little bit more than $2 billion acquisition that really pushes them further and further into the logistics network. This has been rumored for a little bit, Chris. So this is not a huge surprise. There's a news

reported out that they might make this acquisition, and now it's come true. But let's just start. Before we jump into that, we'll just start about the quarter. Because like you said, it was coming off the Amazon quarter, there's a lot of similarities when you look at some of the e-commerce business, some of the threads that were coming out of the Amazon, you start to see with Shopify. Their gross merchandise volume, so all the value of products going across their platform was 43.2 billion. That was up only 16% year every year. Now, Toby was very quickly a point. They got on a compounded annual basis over two years. That's up 57%. I don't think they made many comments like that in the past.

So it's a little bit of a, you know, don't look at it as just the past quarter, look at it over the past year. And last year was what the last quarter, the 2021 quarter, first quarter was pretty exceptional. But still, up only 16%. That's a number we haven't seen from Shopify in a while. Gross payment volume of 22 billion, which represented more than half of the gross merchandise volume. That's an all-time record.

was up from 46% in the first quarter of 2021. What that means is more people are using the Shopify payment network that are also using the Shopify platform overall. Merchant solution revenue, Chris, was up 29%. Best Shopify payments, capital, Shopify markets, but the subscription solutions result up only 8% on the revenue side. So you start to see the dynamics, and that's a big part of Shopify's business, the subscription part of their business. Monthly recurrenting, revenue up 17%. So these are numbers from Shopify that were not used seeing. And what they were, what they talked about is just this environment, Chris, you pointed to at the start that we're seeing as companies are normalizing, trying to figure out what their online, offline commerce looks like.

There was some commentary from some of the analysts that, you know, the point of sales was pretty good growth from Shopify. The social was pretty good, spent on social. But when you you start to kind of bake it all out, the general e-commerce business for Shopify was in the single digits. And that's kind of like what the numbers like Amazon was talking about, too. So you see these threads showing up, Chris, for these big platform companies. And it's starting to show and what it means from the revenue growth. And then that impacts the profit picture, too. And the profits were much lower than analysts were expecting on the earning side and the operating profit side because the merchant solution business is not as profitable.

as the subscription business. So you add up that environment, Chris, and that's why you're seeing a stock that just is reacting pretty severely in the markets today. And we're seeing this across e-commerce today. You look at what's happening with eBay, Etsy, Wayfair. Part of this for all of these businesses is inflation. Because if you look at the volume of spending that's happening, people are still spending money, but things are more expensive. So it's not like people are buying a lot more in terms of volume. They just happen to be paying more because of inflation. And companies that have the ability to increase prices are doing that.

In terms of the acquisition of deliver, again, logistics company based in Denver, $2.1 billion. It sounds like you think, okay, yes, this is happening on a day when all this is happening other news comes out about Shopify. Maybe that's by design, because it seems like it fits with the direction of where Shopify wants to go. Well, it's where it has to go, Chris. Certainly, we're seeing, obviously, Amazon and the logistics network, they have built out this competition there. They are focusing, and they've been talking about building out all the logistics. They talked about it on the call again, how they continue to invest. And by the way, the cost structure going forward

is going to continue to be high as they make these investments into their business. In people, marketing certainly, and also logistics, including the Deliverre acquisition. Deliver is going to add a few points to the sales line. Obviously, the costs, they're going to bring 400 people into the Shopify family, so there's going to be costs. All the costs are almost all people. But it's a technology. Toby was talking about, Toby Lukie, the founder and CEO of Shopify, talking about how it's a technology-first logistics company. And it helps match up the various warehousing and the operations and logistics for various warehousing. So it kind of sits right with Shopify's key warehouse management system and pairs together.

And so from that perspective, it seems like it would be a very good fit. The question is, do they have to make that as an acquisition? Can they do a partnership? So there's lots of questions of kind of like, what is the return on that massive investments, the biggest they've ever made? They're clearly excited about it because of what Amazon is doing and has been building out, but deliver focuses on really getting products into the business. to consumers' hands within two days. And that's their bread and butter. They do it from

the software logistics side. But it's an expensive acquisition for a company that right now is struggling to really grow in the way that we've kind of been used to Shopify. Now, I will say, it has been. I will say, Chris, one of the bright spots is Shopify Plus, the solution that serves larger clients, big. Fortune 500 clients, that is a part of the business that continues to do well. It's just more of the, I think the more of the mom and pops they've attracted over the last couple years, that part of the business is struggling a little bit. It's a wider. It's certainly a more number of clients, but the Shopify Plus, there's that flywheel effect because they can spend

so much more into the merchant solutions part of the business as they grow. So some bright spots of Shopify Plus, but, and I think the deliver acquisition is something they've had to do to be competitive, but the jury is still out on those investments. Let's move on to EPM systems, not a household name, although maybe it should be. It's an IT services provider. First quarter profits were higher than expected on a day when there is so much red out there in the market. Shares of EPM systems are up about 7 percent, when we started recording. This is one you own. What did you make of the business and what did you make of the quarter? And what do you like about this business?

So, Chris, between Shopify and EPM this morning, I was not expecting the green from EPM and this kind of red from Shopify. Quick refresher. EPM is an IT consultant business with most of their employee base based in Ukraine, and Belarus, with some in Russia. So they are very focused from a people perspective in Ukraine and Belarus. Their founder is Belarusian. Arkadadopkin founded the business in 1993. I've followed him for many, many years. They're based in my home state of Pennsylvania. He's been very successful in delivering tech solutions and growing the EPM business. The stock went from, you know, gosh, 600, down to a low of 200 right during the period of the Russian invasion of Ukraine because they didn't literally know what their

people could do. Could they get services? They came out. They pulled guidance. There was just a lot of just safety for their employee base in Ukraine. So there's a lot of uncertainty about what they would be reporting from an earnings perspective and just how their business would evolve, let alone the safety of their employee base, which this company has been very successful over the years, serving very large clients, providing lots of different consulting services across travel, leisure, consumer, tech, health care, retail. lots of different spaces they help out. So I was very eager. The stock has rebounded a little bit, not just today, because they came out maybe a couple months ago and said, listen, we've been

able to take care of our people, move them, redistribute them, we're donating to Ukraine, continuing to support Ukraine. So they've been as open as they could be, but it was very interesting about what they would report this quarter. And I've got to say, Chris, this quarter was actually pretty impressive when you think about year-over-year revenue growth of almost 50%, If you adjust for some of the strong dollar, it was more than 50%. Earnings per share on an adjusted basis up almost 38%. Both of those numbers, be estimates guidance. Their cost structures are increasing, of course, because they have to hire people.

They grew their staff. They still grew their staff during the quarter, Chris, their delivery staff, their technology delivery staff, by more than 41%. So even with all that's going on for this business, they made able to find people, allocate people, make the people, still productive and still be able to serve clients. And importantly, by the way, all of their divisions basically grew. Travel and consumer was up 91% as more travel companies looked for tech solutions to be able

to serve their population. But they really saw growth across all of the areas. Financial services was the next biggest growth. And impressively, they saw growth in Europe and the Middle East too, Chris. It was their second best performing, the first best performing market and their second largest market. But their guidance for the Gorda, Chris, was. was really attractive with growth up about 29%.

A little drop in earnings as to be expected, but that number was about what analysts were expecting. So overall, this company is considering what they've had to go through over the past few months has performed really admirably. It's very respectful. Real quick, before I let you go, who does EPAM compete with? Yeah, lots of different consulting companies. So they compete with all of the, all the, like, cognizant technologies and Accenture and different providers like that. What EPAM has done very well, they've outsourced their technology services to programmers who are based in Eastern Europe behind the Soviet bloc because Arkady created

the company when he came to the United States and he was looking for programming help. And in the Eastern European countries behind the Soviet block when you were a developing programmer, you basically were on the clock. You had to develop under time because you had to pay based by the hour of time that you were on the computer. So they became very, very efficient programmers. So he started tapping into his old network and realized, well, they could be working at an overnight, different hours, and I could be working with them to develop those skills. So he just carried that into growing e-pam from 1993. They went public, I think, in 2012. So he's been at this for a very, very, very long time. And what they've been able to do is serve their customers in a very

technology-first way, in a customer-service way by embedding with their teams and providing technology services at a far lower cost than having to hire full-time tech employees. So, but the risk you get with that is you have a large workforce that's based in parts of the world that sometimes are unstable, like we see, certainly like we've seen over the last few months. Thanks. Andy Cross, thanks so much for being here. Thanks, Chris. To ease the pain the NASDAQ is causing, can I interest you in a little pizza and ice cream?

Our man Jim Gillies is taking a closer look at M.T.Y Food Group, a Canadian food franchiser with brands like Coldstone Creamery, Papa Murphy's Pizza, and Blimpy Submarines. And if those franchises don't exactly excite your taste buds, Jim talks with Ricky Mulvey about why they should as an investor. Jim, before we started recording, you said this is the great unknown Canadian success story. What leads you to that conclusion? Well, Rick, they own about 80, just over 80 different banners across Canada and increasingly across North America and even internationally. And they've done that by a combination of starting a lot of their own concepts early on,

which tended to be, you know, here differed at ethnic cuisine. So here's your Chinese offering. Here's your Indian offering. Here's your Japanese offering. They would, quite often, you'd go to a food court in a mall, and you wouldn't realize that half the concepts in the mall were all owned by the same company. So they kind of started out with these different concepts. And once they started getting some success with those, they started buying additional concepts.

So they bought banners like cultures and country style, kind of tired third and fourth tier brands, to be honest in Canada. But the important thing was the management here, very savvy, and we'll get to them in a bit, the management here always paid very cheaply. So one of their concepts that they own is called Baja Fresh. And Baja Fresh used to be owned by Wendy's, which you may have heard of. Back when Wendy's owned Tim Hortons, they had that third brand Baja Fresh, and they paid about $300.00 million for it. Wasn't as successful as Wendy's, wasn't as successful as Tim Hortons. They ultimately threw it over the side at some point, And MTIY picked it up a few years later for $30 million.

So, you know, like a tenth of what Wendy's had paid. And what they've done is they progressively added concepts, added, like I said, third and fourth kind of tier brands. And then as they got larger, they started adding first and second tier brands. You mentioned that they have 80 different brands or 80 different banners under MTI. Is that a kid? That might sound good on the surface, but is it possible to have too much diversification? and essentially too many brands going at once?

I don't think so, because essentially you're dealing with individual customers. And so, Ricky, you might want a Cold Song Creamery. But our man behind the glass, Rick Engdahl, he might be really a believer in Papa Murphy's, the taken pizza concept. So, you know, it's the same business. It's the same business. I'm selling you a franchise. I'm selling you a concept.

They are franchise ores. They are not running. So they have these concepts, and they have staff dealing with each concept at MTI headquarters in Quebec. But they are not spread thinly because an individual client might only want one or two brands, might want only one or two banners. So they've gone from these concepts. They've now gone into, they made an acquisition called in Best Corps in 2017, I believe, which is a lot of sit-down table dining. They bought a concept called Turtle Jacks, which there is one here. in town, which are sit-down. And so they've kind of moved up from food court to kind of third and fourth-tier non-food court brands to brands that are kind of first and second tier,

to table dining. So now they're kind of across the restaurant spectrum. And out of the 6,700 stores they have, or roughly 6,700 stores, less than 100 are company-operated. Everything else is franchised. And franchising is a fantastic. fantastic business model in the restaurant space. Let's talk about that franchise model. You've described MTI as a check-cashing machine. What brought you to that? And then also, what's MTIW's relationship with franchisees look like?

How do they make money from franchisees? Sure. So a franchising business is, I have a system with, I have a menu, I have ingredient lists, I have products you buy, I've got everything branded, yada yada. And I sell you the system. You want to open up down the street. opening your very first coalstone creamery. So I give you an entire restaurant system, restaurant concept, and you pay me a franchising fee up front, let's say 50 grand or whatever.

But you also pledge as part of being in my system. And we start you out for say a 10-year deal. You are sending me 6% of your sales off the top. Off the top. I'm getting 6% of your sales as a royalty. Okay. So you are responsible for the operating of the business. You are responsible for paying the rent. You are responsible for buying the food. By the way, I'm going to specify what food, what ingredients you buy. You are responsible for buying your apartments, your cups, your napkins, etc., etc. Then you're also going to pay me for advertising.

So you're going to give me between typically 1.5 to 3%, depending on the concept. You're going to give me X dollars, X percent of your sales that I'm going to be using for my pooled advertising. So I'm getting your 6% of your sales every month. You've got to write me a check, regardless of how well you manage your business. Plus, you're also paying your own advertising through me. Many of MTI's restaurants were beaten up by the pandemic a little bit in the 2021 annual filing. MTI said it had about 834 million in total debt, 300 million in net debt. You said previously that you can expect that the company is going to continue to throw cash. into acquisitions. The question, are you happy with how the company is handling capital allocation

right now? 100%. I'm going to challenge you on the number of debt. I mean, we use Capital IQ, which makes what I consider to be the cardinal financial mistake of equating operating leases with debt. And that's one of my particular bugaboos. I understand the financial finance proff argument for why you should consider it, but I do not consider operating lease payments to be debt equivalent. So, the actual debt they have outstanding is just over $360 million in the most recent quarter against just over $52 million in cash. They have actually taken down their debt by a couple hundred million during the pandemic because they haven't been able to buy anyone. They've only recently completed an acquisition of a company. I'm going to

mangle the name called Quato Comptoir at Tatar. It's a chain of tartar restaurants, which next time in Quebec, I'm going there on day one, because I love Tartar. But their debt is fine. Their debt is low cost. This company makes a tremendous amount of cash flow. So for their lenders, their lenders have no concerns about getting repaid here. And what this does is it gives them significant dry powder for making acquisitions. And so one of the things that MTY does is they They can borrow or they can sign a lease with an implicit interest rate lower than you or I can as individuals. What MTI does a lot of is once I sell you a franchise and I set you up, we're going to locate

it here. They take the lease. They turn around and basically do a pass-through and lease to their franchisee. And so that's a win-win. It lowers the borrowing cost, lowers the residency cost for the franchisee and for the Franchisor being MTIW, it helps set them up to be more successful. And so that ends up, you know, as I said, it's a win-win. So I'm not worried about the debt at all here, to be honest with you.

They could repay it quite easily. They got through the pandemic, the worst of the pandemic were a lot of their stores, because they got a lot of restaurants in Ontario and Quebec. And those were closed for a significant amount of time. And they navigated through that quite nicely. And I don't think the stock, now that most of those stores are pretty much open for full business, full sit down, full takeaway, stock market hasn't returned the stock price to where I think it should be given the performance that this company is.

Let's talk a little bit about company leadership. I know you love the chairman Stanley Ma. What should investors know about this company's management? Here is Stanley Maugh. Started the precursor company that grew into MTV. Y, Believe started the first concept. I'm trying to remember the first restaurant concept and failing miserably. I think it was Tiki Ming, but it helped develop that.

It's just Chinese food for food courts. It had a large steak. Has a large steak to this day. But what was really interesting, I believe, in mid-2003 with the company much, much, much smaller than it was today than it is today. Stanley Amal went out and bought 25% of the company on the open market using his own money. And here's the thing. MTI today is about $52 Canadian.

I think it's probably worth north of 70, but that's another story. Today it's $52.00. When he went out and bought it, it was $0.5. So the man sat on, and it's been as high as I believe, close to 80, or if not over 80 before the pandemic. The man sat on a multi, multi-multi-mugger. for years, never sold a share, took a modest salary. It's kind of almost comical to read the proxy statement because, you know, it's like, oh, here's Stanley Ma, CEO, taking a fairly modest salary for what he's built. And then you look along the lines. It's like, oh, and also we,

you know, we pay for a car, you know, it pays for his car lease and you see the amount of money involved. So, like, you're driving a Ford Crown Victoria. You know, like, there's no fancy car here. But he's just interested in creating value for shareholders because he's the large largest shareholder. The only time that I've ever seen himself was about a year and a half ago, I believe. I believe he took about 20% of his money finally off the table. Today, he's now, he's no longer CEO. He has kicked himself upstairs to executive chairman. He's in his 70s now, so I suppose he's allowed to retire. But Eric Lafabe is CEO, he's a long-time CFO, CIO of MTI. So there's been some really great continuity there.

They are still very stingy with their equity. considerations for Americans who may be interested in this company. I know trades on the Toronto Stock Exchange, we would have to go to an over-the-counter market. It's always funny to me, because Canadians can trade on the NISD or the NASDAQ as easy as we trade on the TSX. Every broker has that ability. So, first, I would say, check your broker. Maybe you can trade on the TSX. I believe Interactive brokers allows you to do that. And so it's easy. You can just simply buy MTI, the ticker on the TSX. But if you have to go OTC, where the ticker is M-T-Y-FF, you want to look up two things before, three things, before

you go buy OTC because the volume and liquidity OTC is, of course, much, much, much smaller than on the TSX. So the first two things you want to look up. You want to look up the Canadian price. Next, you want to look up M-T-Y-FF, the OTC sticker. And the third thing you want to look up is what is the present spot exchange rate for the Canadian-D-U-S-dollar. You want to take the Canadian price and you want to multiply it by the present spot rate. You would put a limit order for roughly what the price of the Canadian stock price multiplied

by the current spot raises, and you try to get that filled. It's a little bit more work, but you'd want to do that because you don't, you know, because essentially you're buying basically the same thing from OTC than you would be buying on the TSX, but the liquidity thing has a bit of an influence. You might have to pay a quarter of a percent higher or lower, depending. But first, check out if you can actually transact in the TSX first before you need to go to this extra step. So ultimately, as we put a pin in this, why is MTI Food Group a interesting company to you?

And what's the best fish for a tartar? I make a pretty mean trout tartar, actually. So that's, you know, come on up. We'll feed you. I bluntly think this is an undervalued company today. I have, because it's a Czech caching machine, it's a capital light company. Capital light companies tend to justify higher valuation multiples. So, and I've always been traditionally, I've been willing to pay up to 12 times

of it for this business. Today you're paying under nine. I have said that the cash flow they generate there, they are probably, you're probably, going to generate this year, I'm going to ballpark it about $135 million in free cash flow. I strip out lease payments from that. So you're going to, they're going to do about $135 million. Again, it's a one point, it's a shy of $1.3 billion Canadian. And they are going to spend that money on dividends. They've raised their dividend about fourfold, I think, over the past decade. They're going to buy back some stock because they clear, and they're very selective,

about buybacks. I'm hoping they're going to find some additional acquisitions. Because 6,700 stores in North America sounds a lot, like a lot, until you realize it's less than 1% of the restaurants of North America. Like, there is a lot more, there's a lot more ground for them to conquer. What more do you want? Good cash flowing story, undervalued with great management. Like, what do you need? On it pays you a dividend to wait. Jim Gillies, you know, from the morning show, he runs Hidden Gems Canada. Jim, Jim Good to see you. Thanks for coming on. Thank 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. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.