Motley Fool Money - Oracle and the AI Boom

Episode Date: June 13, 2024

Is the software giant still a growth company? (00:21) Tim Beyers and Ricky Mulvey break down results from Oracle and why Microsoft is focusing on start-ups for the next leg of its AI strategy. Plus, (18:10) Mary Long and Motley Fool analyst Anthony Schiavone look at Hershey’s near-term headwinds and long-term opportunity for investors. Companies discussed: ORCL, MSFT, DOCN, HSY Article discussed: https://www.wsj.com/tech/ai/microsoft-nadella-openai-inflection-9727e77a?mod=hp_lead_pos7 Host: Ricky Mulvey Guests: Tim Beyers, Mary Long, Anthony Schiavone Engineers: Tim Sparks, Austin Morgan Public.com disclosure: A High-Yield Cash Account is a secondary brokerage account with Public Investing, member FINRA/SIPC. Funds from this account are automatically deposited into partner banks where they earn a variable interest and are eligible for FDIC insurance. Neither Public Investing nor any of its affiliates is a bank. US only. Learn more at public.com/disclosures/high-yield-account Learn more about your ad choices. Visit megaphone.fm/adchoices

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It's the cloud behind the cloud. Kind of. You're listening to Motley Full Money. I'm Ricky Mulvey, joined today by Tim Byers. Tim, we were talking earlier, and I have to say, you sound a lot less caffeinated when I'm talking to you on Zoom versus when I'm listening to you at 1.5 speed on Motley Full Live. But I appreciate you being here.

Thanks for being here. Thanks, Ricky. Good to be here. I still have caffeine. I'm ready to go. Okay. Let's go. Let's go.

Let's start with Oracle. because the software giant reported earlier this week, investors liked the results, stocks up about 13% on it. That's pretty good for something like a $300 billion company. I'm going to give some of the highlights and then see what stood out to you. So there seems to be a lot of new business coming Oracle's way

with the remaining performance obligation, which is how much money is left in those contracts, up 44% to almost $100 billion. They got 30 new AI contracts for over, 12 billion signed just this quarter. We also have Larry Ellison touting deals with Nvidia, Microsoft, Google, X-A-I, who are all using Oracle Cloud Services and Data Centers.

Anything from this quarter from Oracle really stand out to you? Well, I mean, it's a good quarter overall. Let's give credit where credit is due here. The cloud services and license business was up 12% on a pure basis, 11% in terms of constant currency. the overall revenue up 6%. This is a big company, so 6% for a big company that generates essentially $53 billion in a given year. 6% is quite a lot. But it is notable that Oracle really depends on that cloud business, that AI business, doing what it's doing presently.

There is something great about the way that Oracle has structured this. The idea here, Ricky, You said the cloud behind the cloud, kind of, and I think that's a fairly good description here, because what's happening is that Oracle is selling some hardware, and it sells its cloud services. It interconnects them into the other clouds. When you are, say, working inside of, for example, Microsoft Azure, you may be touching some Oracle equipment. You might be touching some Oracle services. You might be touching the Oracle databases because there is Oracle stuff. I mean, I'm not to get to, I'm not trying to make anybody hungry here, Ricky, but if you

could think of it as the Oreo cookie, you know, Microsoft has got, you know, they've got the chocolate wafer and then you've got some stuffing inside that is made of some mystery stuff. inside the mystery stuff is some Oracle stuff. How's that? I'm still a little lost on the Oreos to cloud data services provider. But one way I've heard this explained and it makes sense is Oracle has something called remote direct memory access. And what this allows computers to do is essentially get the data from one computer of another without essentially involving the operating systems of either. So if you're using a huge database that you need.

for a like an AI system, it would make a lot of sense to use a to use an Oracle cloud solution. Yeah. But all of that is dependent, of course, on it being set up inside the environment such that you could access it through that remote data scheme. Now, to be fair, I'm not entirely familiar with exactly how Oracle sets this up. What I do know is that by virtue of these interconnect agreements and by virtue of essentially Microsoft, Google, and others reselling Oracle by virtue of putting Oracle inside their environments, that's a great position for Oracle to be in because it means that as these clouds expand capacity for doing things like serving AI workloads, that's just more good business for Oracle. It's another great

channel for them. So they do have something to crow about here. It's different than them just selling their cloud independently and trying to compete with the others. It's a bit of, it's a bit of judo. Frankly, it's a bit of smart judo. So I give them credit for that. At the same time, this is a company that's not growing very quickly, but is issuing a whole boatload of equity. I mean, they are issuing, they are issuing Equity, Ricky, as if they are a growth company and they are verifiably not. And I find that fascinating that nobody talks about that. Just for the listener to be aware, this is a take that Tim has been itching to give, which is the stock-based compensation coming out of Oracle. So, Oracle spent

about $4 billion on stock-based comp for the year. The company made $53 billion in revenue and a little under $19 billion in cash from operations. So we'll focus on that $4 billion in stock-based comp and about $19 billion in cash from operations. Let's set up the landscape first. How does this stack up to the competitors? And why is this drawing your attention now, Tim? Well, it's very similar to Salesforce. And I suppose I shouldn't really be bothered by that, Ricky.

But I think it's interesting that the Oracle, the way that Oracle, issues equity and at the rate that they issue it is like a growth company, is a little bit like Salesforce, except that it's going higher. They're issuing more of it, and Salesforce is issuing less. Now, on the basis of a ratio, so let's say as a percentage of revenue, like 7.5%. 7.5% of Oracle's revenue issued as equity, stock-based compensation. Salesforce, it's about 8%. So, Salesforce is still higher. But this is not like, I think we tend to think of Oracle as like a mature, established, settled company that's in the Microsoft realm.

Not by virtue of its stock-based compensation. It isn't. It's still issuing a huge amount of equity. So what that tells me, Ricky, is that the cost of Oracle, the cost to essentially grow, its opportunity is really high. They have to pay some serious premiums to people in order to get them in the door and do the work that creates this position. And to be fair, it's a fairly enviable position, but I just find it's startling that the costs are that high. They do also have, one of the things that makes them different is they have about $7 billion in just really hardcore capital

expenditures. They are building equipment. They are building data centers. They are, they're investing in a lot of hard goods. And that makes them different from a company like Salesforce. But it's, a company that's far older than appear like Salesforce, because they're born in like the 1970s. I would put it this way. It's like the older gentleman having a midlife crisis. And, is spending like that midlife crisis is in full swing. And that is fascinating to me because we're not behaving like Oracle is that company, but they kind of are, Ricky. They are. If you look at the stock chart for Oracle and the chart for stock base compensation, they seem to be moving in tandem, which is almost on a logarithmic curve up into the right. As long as the performances are matching

each other, doesn't that make it more forgivable? I mean, Oracle certainly. Oracle, didn't just start issuing stock-based compensation. No, they've been doing this for a while. For the company. Yeah, yeah, they've been doing this for a while. And yes, there is an end justifies the means argument here. Which sounds terrible that I just tried to diminish your argument there. And I'm not trying to do that.

Diminish? No, I'm not trying. I'm not trying to do that because the, I think you are correct. Like, if you are earning above the, you know, if the boat anchor, of that equity is overcome by stock returns for common shareholders. By all means, do what you got to do. That is the argument for Salesforce for all those years that they were doing it in an elevated level as well. Yes, there is that argument. But I just find it interesting. We should know what Oracle is. And it is a company that's going to keep having to pay out a lot of equity to

employees to make this dream of being the cloud behind the cloud real for the foreseeable future. I think they're in a pretty good position because their hardware is quite good. Their X-a-Data hardware is quite good. I think they do a lot of work in terms of hardware accelerated databases and their database technology is good. They also have a lot of database product that you're not going to find a database engineer that is going to tell you that. Oracle is terrible. They're going to say it is the standard, and they are correct. Having said

that, though, the growth rates are not massive. They have to pay a lot of money to get those growth rates, and they are in the business of trying to turn over dollars wherever they can find them. For example, they are going to go back to going after Ricky. They're going to go after companies that use Java because Oracle owns the Java license. And so you can think of that as the enterprise tech equivalent of, hey, you are sharing your parents' Netflix password. You need to pay us. It's a little bit like that. Oracle is really good at extracting money.

And when your business is built in part on generating some value, but an arguably bigger part or just as big part, on extracts, extracting money from customers, it makes it, it makes it dicey. So I am fairly biased here. And I will admit that because I have witnessed the Oracle extraction machine firsthand for years. And I have the scars. So I'm probably a little biased there, Ricky. Well, I appreciate the vulnerability sharing the scars of Oracle with the show. I want to stay on the cloud, but move to this Microsoft story. There's an article in the Wall Street Journal. It's titled Microsoft's Nadella is building an AI empire.

Open AI was just the first step. It's by Tom Doughton and Berbergen. I would recommend reading it. It's a good story. But there's a line in here that stands out to me because it's part of Microsoft's AI ambitions that we haven't talked a lot about. And it is this, quote, one of Nadella's top priorities today is rebranding the Azure Cloud is the go-to place for startups, end quote.

Why is this such a priority you think at Microsoft? What are they responding to? I think they are responding to VCs who are writing really big checks saying, look, we want you to go for it. We want you to adopt AI into your business. We want you to be building AI-enabled applications. For the love of God, don't you dare go buy Nvidia GPUs? Go rent from Microsoft.

Go rent from AWS. Go rent from GCP. This is eerily reminiscent, Ricky, I would say of 2010, when VCs were saying, the cloud is amazing. We want you to build SaaS applications. Go do it. For the love of God, you better not use a dime of our money to buy servers and storage equipment. Go take a credit card, swipe it and get AWS and start.

building now. We don't want you spending a dime on infrastructure. It feels like that. And for that opportunity, that's great for Microsoft because they have all of the Nvidia GPUs. And they could say, yeah, startup X, come to us, pay us a little bit of money. We will give you access via your Azure environment to Nvidia GPUs, your virtualized NVIDIA GPUs to run your AI-backed applications. And so they are the supplier of the AI horsepower through that Azure environment. And so the startups don't have to carry the burden of trying to source NVIDIA GPUs, which, as we all know right now, just we've seen the numbers, you know,

IrmaGerd profits for Nvidia. They are amazing. It's just hard to get Nvidia GPUs. So I think they want to, there's a real race to be the supplier of access to GPU compute power. And Microsoft wants to be the winner here. Do you think that could dampen the demand for those Nvidia GPUs if there becomes more of a, hey, you can rent it from Microsoft. You don't have to go out and buy these things.

Not in the short term. There's still so much demand. There's still so much backlog. Plus, I still think Nvidia has the software advantage. You still need that low-level software called CUDA in order to make GPUs, do their GPU tricks. So as long as that's true, and Nvidia is the preferred provider here, there is an alternative ecosystem where you've got like AMD and Rockham or some open source version of CUDA that does most things that CUDA does. there's still going to be a huge amount of demand for NVIDIA. But over time, give it 18 months, 36 months. Yeah, I think there will be a buildout of alternatives such that, you know,

you're going to find companies that say, wait, I don't have to pay an NVIDIA tax. Yes, give me that. I will try it. Yeah. And then there's another company that I think could be impacted by this. And that's DigitalOcean in that a lot of the promise of DigitalOceans cloud services is, hey, we're going to find small customers, and then you're not going to pay that much, but you can grow and scale with digital ocean, and then we'll make more money when you're a larger company and you need more cloud services. Because we're so much better at treating smaller customers than these large companies like Microsoft.

And now it seems that Microsoft is saying, oh, no, we're going to spend a lot of attention on those small customers. What does this initiative mean for DigitalOcean? I think it means that it's going to be a lot harder to win. smaller AI workloads, which I think DigitalOcean was really hoping they were going to get their hands on. They may still. DigitalOcean still is the gold standard for documentation to help developers do their work better. And AWS has everything, but helping you get the right tool for the right job is not their strength. And I'm being polite there deliberately. And I'm I'm not sure that it's Microsoft strength either, and I'm not sure it's Google's strength.

What they want is volume of workloads. Are they going to be as high touch as say like DigitalOcean? Probably not, but is this going to take some business that DigitalOcean was maybe banking on? I wouldn't be surprised if it happened, Ricky. The next quarter that we see for DigitalOcean is going to be interesting. I pay particular attention to the outlook when they report next. The old adage goes, it isn't what you say, it's how you say it, because to truly make an impact, you need to set an example and take the lead. You have to adapt to whatever comes your way. When you're that driven, you drive an equally determined vehicle, the Range Rover Sport. The Range Rover Sport blends power, poise, and performance. Its design is distinctly British and free from unnecessary details, allowing its raw agility to shine through. It combines a dynamic sporting personality with elegance to deliver a truly instinctive drive. Inside, you'll find true modern luxury with the latest innovations in comfort.

Use the cabin air purification system alongside active noise cancellation for all new levels of quality and quiet. Whether you prefer a choice of powerful engines or the plug-in hybrid with an estimated range of 53 miles, there's an option for you. With seven terrain modes to choose from, terrain response two fine-tuned your vehicle for the roads ahead. The Range Rover event is on now. Explore enhance offers atrangeover.com. So I remember the invention of chocolate, sweet, sweet chocolate. I always hated it, but others seem to enjoy it. And that's what this company is selling. Mary Long and Motley Full analyst Anthony Chavone take a look at Hershey's business and its current headwinds.

And when I say the name Hershey, most listeners are probably going to be familiar with the company's candy business. But there are ambitions beyond candy that this company has. CEO Michelle Buck has ambitions to turn the company into a snacking powerhouse. house. They already own brands that I was at least familiar with. Dots pretzels, Pirates Booty, Skinny Pop. I know that you're a fan of Hershey as a company, especially as a dividend investor. What is it that you love about this company? Yeah. Well, I think there's a lot to love about the Hershey company. I think the first thing is resiliency. If you go back to the company's founding in 1894, so 130 years ago by Milton

Hershey. I mean, this company survived wars, depressions. competition, pandemics, and it's still that market leader today. A big reason for that is, like you mentioned, some of the strong brands that it has, those are everlasting brands. Today, they own more than 100 brands, including Hershey, obviously. Rees, Kisses, Ice Breakers, the upcoming snacking portfolio. So many well-known brands. And so that brand equity, which has been built up really of the past century,

is kind of a key advantage for Hershey. And I think one of the reasons why the company generates is high returns on capital. And lastly, and probably most importantly, the management team treats shareholder capital like it's their own. And I'm sure we'll get into capital allocation later. But it's a shareholder of Hershey myself. That's one thing I really love about this company. Yeah, all those brands that you mentioned are really big names in the U.S. But something that the company is looking increasingly towards is international expansion.

When the CEO, again, Michelle Buck, when she started, stepped into the helm Hershey in 2017, this international segment was losing money. And since then, it started to generate some money. So what's the story behind this turnaround? What was the strategy there? And how did that pan out? Yeah. So this might be surprising, but Hershey actually generates less than 10% of its total revenue outside of North America. And as someone who grew up less than two hours from Hershey, I was shocked when I learned that because, I mean, Hershey's everywhere in Pennsylvania. So international is still really a huge, untapped market for the company. And like you said, Michelle Buck took over 2017.

The international business was losing money. And it was one of our goals to improve that profitability in that segment. And so over the last few years, Hershey's really just invested in its supply chain to improve capacity, efficiency, and kind of changes go-to-market strategy in several countries that were underperforming. And then lastly, they've really just kind of doubled down on marketing their strongest brands, Rees and Hershey in its international markets. And so the end result is they went from a money. losing business to one that now generates more than, well, more than 100 million in

operating income in 2023. So it's definitely been an impressive turnaround and I think you're still written to grow for them. You mentioned that this comes like a highlight of a benefit of this company is its resiliency that it's been around for a while. The flip side of that might be that, okay, it's been around for a while. How much more growth is there that's possible for Hershey? So we mentioned this this growing international segment, their new step into snacks. Anything, any growth opportunities here that you see as particularly interesting that might otherwise slide under the radar? Yeah, well, I think the snacking portfolio and the international expansion are definitely the two big ones. That's going to move the needle the most for Hershey.

Another kind of interesting thing that management recently announced is that they're starting a new gummy brand that's coming out in late this summer. And Shaquille O'Neal, the Hall of Fame basketball player, he's going to be a brain ambassador for it. So I think that's kind of interesting. Not sure it's going to be a huge needle mover for the company. But it's good to see them continually innovate into new products. Yeah, you mentioned the brand equity, like celebrity endorsements and getting influencers attached to brands is certainly one way to build that out. You mentioned earlier that management treats capital as though it's their own. And capital allocation has been called out by management as being a big priority for the company.

I think you mentioned return-on invested capital earlier compared to competitors in the same, like, confectionary and snacking space. Hershey kind of blows them out of the water. Hershey's return on invested capital is about just shy of 24%, whereas take Pepsi, that's just shy of 15%. So there's a big difference there between competitors. What does Hershey get right about capital allocation? Yeah, I think largely it comes down to managements mindset around capital allocation. The CFO, Steve Viscule, he's on record saying that they want to be the best capital allocators in their space. And when I read that for the first time, I absolutely love that. And as you mentioned, like the results over the last few years have definitely shown that.

They consistently have industry-leading profitability metrics, turns on capital. And the thing that I love about them is when I don't have a high-return investment opportunity, they love returning that capital shareholders through dividends and more recently share repurchases, which is interesting. And so another thing that management said is that their job is not to warehouse a shareholder's cash. The cash belongs to the shareholders. So if they don't have a good use for the cash, they're going to return to shareholders. So I just love their overall mindset around that and how I think about that.

So we've talked about a lot about the things that you love about Hershey. But there are some outside trends that seem like they might be positioned to kind of hurt this business potentially. One which comes to mind is weight loss drugs. Do you see this growing use of weight loss drugs as impacting the long-term thesis for Hershey at all? Yeah, it's a tough question because there's so much we don't know. yet about GOP1 drugs? What are the side effects? Will ever become affordable for the broader population? And then even if they are these miracle drugs, what kind of second order effects will there be on Hershey's business? Like, well, Hershey have reduced competition since one of the

biggest chocolate snacking companies in their space, will they somehow have more pricing power, oddly? I think there's a question that all need to ask, and we just don't have many answers right now. but if I have to give an answer, I think on the margins, it'll affect Hershey. But at this point, I don't think it's going to have a material impact on the company. And you think, too, like a quarter of their revenue comes from holidays, like Halloween, Easter, Christmas. So, like, are people going to stop buying candy at those times? I'm not so sure. Yeah, that's a great point.

That so much of candy is less for the food, like, sustenance aspect and more just for the fun, the gift giving, et cetera. And does that go away even in a world where the use of weight loss drugs just continues to grow. Probably not. Another kind of outside impact that is already potentially having effects on this company is commodities pricing. Coco prices are way up. For the most part of the decade, Coco has cost about $2,500 per metric ton, and it's been pretty consistent around that price. But last December, it hit $4,200. That number hadn't been seen since the 70s in this market. Now, it's nearly double that. Just today, it was over 9,000. $1,000 per metric ton. It got closer to 12 in mid-April. These are massive, massive spikes.

What's the story here that's pushing cocoa prices so far up? Yeah, so there's a couple factors that we can talk about. But the main one is really just poor growing conditions in West Africa, which accounts for about 70% of the world's supply of cocoa beans. So since demand is outpacing supply, that's what's mostly leading to higher cocoa prices. There's some other factors like financial speculation, regulation, just the illiquity that's in cocoa markets that has kind of made things worse. But really the supply demand deficit is kind of the main factor there. So what's the fix for this?

If these are prices that are unseen for decades and cocoa is obviously a key ingredient for a chocolatier to be buying, do you expect these prices to go down anytime sooner? Is this something that Hershey and other chocolate makers and candy makers are just going to have to factor into their pricing moving forward. Well, I'm going to go back to Hershey's resiliency that we talked about earlier. High Cocoa prices might be new for investors today, but it's not new for Hershey and some of its competitors. After World War II, Coco prices spiked.

And then in 1970s, like you mentioned, they surged again. So I think Hershey's going to be able to handle this cost inflation, just like it did back then. It's going to handle it today. And there's a few ways they can do that. They can raise prices, even more. They've already raised prices quite a bit, but they can raise prices further. They have hedging programs in place. They have a lot more scale than a lot of their smaller competitors.

So that should help. They have more diverse sourcing options available too. So there's a lot of options that Hershey can use. So I think profitability is probably going to be impacted this year. If you're a long-term investor, I don't think this is something we're going to be talking about in a few years. Yeah, the higher cost of Koko, you mentioned that we might see this impact Hershey's profitability by the end of the year.

but it hasn't seemed to have had an effect on the company's margins quite yet. Is that in large part because they are raising prices, or are there other reasons behind that? Yeah, I think that's probably the main thing. They are raising prices in step. I think towards the back half the year, we might see margins come down. But at the end of the day, the cure for high commodity prices is high commodity prices. So eventually they're going to revert to the mean. And when they do, I don't think her, she's going to be so quick to reduce their prices.

So that's when we might see margins kind of move higher. And they have a lot of cost-saving initiatives that they're putting in place right now that's going to have an impact in a couple of years for the company. So you kind of have expanding margins because of lower commodity prices in a few years. And then you also benefit from these cost-saving initiatives. They're putting in place now. So I think the future looks bright for Hershey. So you think the future looks bright for Hershey.

The market might think otherwise. They seem to be down on Big Chocolate. Hershey's trading at a discount to the market's PE ratio. Hershey's is about 19, whereas the S&P 500s is about 21. Again, I know that you think that good times are ahead for Hershey, but just to put on the opposing cap for a second, what ultimately could go wrong with the Hershey thesis long term? Yeah, I think when I look at the snacking portfolio,

if Hershey really wants to become that snacking powerhouse, I think they're going to likely need to make an acquisition or maybe even two to get there. Skinny Pop, That's Pretzels, Pirates Booty, They're all strong brands, but to be a true powerhouse, I think they're going to need a little bit more. So although management has been top-notch capital allocators so far, I do worry about a major snacking acquisition that might be diluted to the company's overall brand. So that's one thing I'm watching. But as you've mentioned, resiliency is a big part of the Hershey story. And so hopefully for investors like yourself, that continues to be the case.

Thanks so much for talking about this with me, and really appreciate having you on the show. Thank you. Appreciate it. 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. I'm Ricky Mulvey. Thanks for listening. We'll be back tomorrow.