Motley Fool Money - “This Looks Bad. Look Over Here.”

Episode Date: May 8, 2024

Uber’s earnings may seem a little hand-wavy, but there's more to the story. At (00:12) Tim Beyers and Mary Long take a look at earnings from Uber and Toast. Then, (16:34) Alicia Alfiere and Ricky Mulvey ask if AI will kill Chegg, the homework helper. Tickers discussed: UBER, SICP, JOBY, TOST Host: Mary Long Guests: Tim Beyers, Alicia Alfiere, Ricky Mulvey Engineer: Tim Sparks Learn more about your ad choices. Visit megaphone.fm/adchoices

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Uber hits a speed bump. You're listening to Motley Full Money. I'm Mary Long, joined live from Colorado in our podcast studio today with the one, the only, the fully caffeinated, ready-to-go coffee mug-in-hand, Tim Byers. Hi, Mary. Good to have you here, Tim. We're talking Uber today. They reported earnings this morning.

Yep. Going in, analysts kind of seemed to think that Uber was on a smooth ride. They anticipated quarterly net income of over $470 million. Instead, Uber goes out and posts a loss for the quarter. CEO, Dara Khashrashahi, has been cutting costs, cutting jobs, cutting driver bonuses. So what went wrong? What happened? Well, they had an equity loss.

And what this means, it was an unrealized net equity loss. So they have a bunch of investments. Uber has put a lot of money into a lot of different companies. And some of those companies have not done so well, Mary. And because of that, they recorded a $721 million, $1, unrealized net equity loss. And so that shows up, that's an accounting treatment. So they're revaluing investments.

That shows up on the income statement. It takes what was a profit to a loss. And so because of that, they surprised everybody. And as we know, the market doesn't like it when you act like a bad boyfriend and decide to be unprofitable when everybody thought you were going to be profitable. So the market has a little bit of a meltdown. Well, wait a minute, you promise us X. Now you're showing us Y. And we don't like that very much.

But in reality, what Dara has said is he did something that sounds like, and very often is a classic trick from a CEO to say like, hey, you know what? I know this looks bad, but look over here. But in this case, he's not wrong. Essentially, what he's saying is, if you look at our income statement, you're going to see this $721 million unrealized loss, and it's going to look really bad. But what you need to realize is that, yes, we have investments that got revalued, but no cash went out the door. We didn't sell anything. And because we didn't sell anything, if you look at the cash flow statement, what you're going to see is that our operation is still generating, plenty of cash. And he's right. If you were to look at it, you know, little over $1.4 billion

in cash from operations, you take out the CAPEX, you're really at about 1.3. And if you really want to be conservative, and I don't disagree if you want to be this conservative, take out another $450 million for stock-based compensation, you're still over $800 million in free cash flow in just a single quarter. Uber-strand. doing just fine. Okay, so that's all fair. I think that all suggests that the market's overreacting. Should we be asking what these investments are in?

Sure. I mean, and it does look like, I took a look at this, and it's hard to say. Nobody's really saying here, but there are a couple of potential culprits here, Mary. One of them could be Silvergate Capital. When I looked at Capital IQ this morning, which is a database that we use here at the Motley Fool that a lot of institutional investors use, they have a lot of institutional investors use. They have a list of Uber's direct investments, and one of those is listed as Silvergate Capital. For those who don't remember, Silvergate Capital was caught up around the time that Silicon

Valley Bank had its big meltdown. What Silvergate is best known for is getting caught up in the FTX meltdown because they were the crypto bank. They got really overextended, really overexposed, and things just completely imploded. So what got revalued, Silvergate is a real possibility here. Another is the former Uber Elevate, which is now a public company called Joby Aviation. And Joby has since becoming public is doing okay, but they are not raking in the cash here, Mary. And their stock has taken, if you look at the stock chart for J-O-B-Y, you are going to see a big

slope down and to the right. That is not the kind of chart that investors like to see. So I want to pivot a bit and focus on the different segments that Uber breaks its revenue into. They've got mobility, delivery, and freight. I am incredibly curious about this freight business, although admittedly, I don't know that much about it. Here's what I do know. Mobility and delivery for revenue and gross bookings rose in each segment this quarter. In freight, it was down 8%. Both of those metrics were down 8% apiece. What's going on there? Is that something that we should be paying attention to, care about? I mean, it's the minority piece of the Uber business, and it's the one that's struggled the most.

I do think there is a market for last mile logistics here. But in the case of Uber freight, what we're talking about is a substitute for your classic career business, delivering packages, delivering urgent messages, delivering maybe legal documents, things like that. I mean, I don't know exactly what's being carried in Uber freight, but as much as I believe in Last Mile logistics, this is not something that Uber has proven out very well over the last few quarters. Really, the biggest drivers of the business continue to be mobility, and to a lesser extent, and surprisingly so, the Eats business, the delivery business, has been improving, and I think will continue to improve.

This one has been the boat anchor. So it is something to watch. I think you're right to point it out because it is the anchor on the business that we haven't seen deliver great unit economics yet. Can it at some point? Yes, but let's remember that delivery is a really, really hard business. And some companies that have to do a lot of deliveries have chosen to build out their own logistics networks because it is so hard. and dealing with a partner can be difficult. And your classic case here, Mary, is Amazon.

Amazon has built its own logistics business just to handle this. So I want to believe in it, but at this point, it's more of a rounding error than it is a significant contributor. But I don't like seeing the boat anchor in the financials, and we'll see how long this lasts. You mentioned Uber Eats. Yesterday, Uber and Instacart announced a partnership to offer restaurant delivery. So, seemingly, they're coming for DoorDash. Is this a big deal? You mentioned them.

I think it is. Yeah. I like it a lot because Uber Eats needs to, what we want from Uber Eats is as much, as many options as possible for drivers to deliver something that is profitable. So here's another way. You can think of it as another go-to-market option for the Uber Eats business, which is essentially a market maker to say, hey, you need food, we have a way to get that food to you. So what are the choices here? You can order direct delivery from restaurants.

You can order your groceries through us. Everything that Uber does to make its market more vibrant and the opportunities richer for drivers is ultimately a really good thing. So I love this partnership. I don't know that it means that they're going to kill DoorDash. But what I do like is that you have yet another option. for a driver that is using Uber, you want to make Uber as attractive as possible for the driver who has choices. So if a driver has the choice to deliver a person or deliver food, but their time on the road is optimized and the amount of time that is dead, in other words, they're just driving someplace or they're sitting someplace waiting for a fare, if you can reduce that as much as humanly possible and optimize the driving hours for the driver, you're going to make Uber way more attractive.

So partnerships like this that broaden the ecosystem are ultimately good for drivers, and drivers drive Uber. So we were talking food. Let's leave the delivery space and kind of head to another stock that dabbles in that. Tim, I've got you today, and I know that one of your favorite stocks to talk about is toast. So I wanted to hit on that. Thank you for taking my opportunity to buy off the table here. My pleasure.

Okay, so Toast reported yesterday. My headline here is, toast is good. They beat on revenue, they expanded gross margins, narrowed operating losses. What's your top line takeaway? Similar. The unit economics look to be improving 6,000 net new locations. This would have been a better quarter. I think it would even have been a profitable quarter if they didn't have $41 million worth

of restructuring charges because they did have some layoffs. They cut some people during the prior quarter. order. That did take things down a little bit, but overall, this is a business that's getting more efficient. They do talk about something interesting that we are going to have to watch, and we don't have real numbers on it yet, Mary. So I would like to be able to tell you exactly what they're looking at, but they're not reporting it yet. They've talked about average revenue per user. They are starting to look really carefully at the cohorts of sites. of restaurant groups that they are serving, and they're trying to get down to unit-level

data on average revenue per user, they're not telling us what those numbers are, but the fact that they are focusing on that, can we help a restaurant generate higher average revenue per user? If those restaurant-level economics go up, then our revenue per those restaurants also goes up, so we both win. I think it's interesting that they're focusing on that. I'd really like them to report some numbers on it because what they've done, that is the replacement for what was before where they were reporting at the restaurant level. What's the percentage of restaurants that use, say, like, six or more toast products in the toast suite? That's gone away.

They're not even talking about that anymore. They're saying, we are focused on average revenue per user. I want to see more data from this, but the fact that the expansion in locations keeps going up, that revenue growth is still over 30%. And in their core businesses, the subscription business, and in the fintech business, they continue to grow meaningfully. That's very useful. I think the restructuring charges hide the profitability this quarter. It also hurt the cash flow number.

So there was negative. There was cash burn this quarter, and they had been generating free cash flow. So it's a mixed quarter, but I think once they get on the other side of this, you're going to see up into the right in terms of profitability, cash generation. So I do think Toast is scaling exactly the way we want it to. Last quarter, when these layoffs that caused the restructuring charges came about, one of the things that management was kind of hitting home on was they were emphasizing efforts to, quote, manage our stock. based compensation expense with the same discipline that we approach all our expense lines. That's the end of the quote. Music to my ears.

So that's kind of the flip side of this restructuring charge, right? It is that you can clean up and tighten other areas. Well, it just means that this is one of the things I've loved about Toast, is that they pay really close attention, Mary, to what we call unit economics. They pay attention to getting more profitable with each new. restaurant and customer that they serve. They're trying to make it where when the restaurant wins, they win, and they would like the restaurant to win even more, the more business that the restaurant does so that they can win more, the more business that that restaurant does. That's

unit economics. That's how you roll up profitability and consistent cash generation and improve your margins over time. And this is another area. Stock-based compensation is a real expense. So if they're trying to optimize how they use every dollar effectively, I say, phenomenal, great. Keep doing it because that is, that's how you grow a business effectively, whether times are good or times are bad. So another thing that Toast highlighted was that their adjusted ebita is up to $57 million. Okay, so it was $29 million in quarter four, negative $17 million a year ago. Toast says that this is a key metric. I hear a justidiva and my head goes, aren't we supposed to take that with like a huge bucket of salt?

So, like, should we be taking that with a huge bucket of salt? Or is there a reason why Toast is highlighting this and we should actually care about that? Yes and no. You should take it with a huge bucket of salt. However, it does matter the way that Toast defines it. It also matters how management gets paid. You want to understand how management is measuring itself. in order to get paid for incentive pay.

And adjusted EBITDA is how they do it. So you should really pay attention to this. But in this case, let's talk about how they define it. They do strip away some things that are going to make a classic value investor really squint and grimace, like stock-based compensation. And I think that's fair enough. However, adjusted EBITDA for them is a really big part of what they call their core profitability metric because of the way the toast business works.

So, rewinding really quickly, when Toast goes in and serves a new restaurant group, what they do is they bring in a bunch of hardware. You've probably seen them. You've seen the tablet that has the Toast brand on it. It's a whole bunch of hardware. And then they bring in a whole bunch of service providers to set everything up. All of that stuff, Mary, is at a loss. Toast makes no profits on all of that hardware and all of those professional services.

That is at their cost. And so they do that because they believe once you have started with Toast, you end up paying more and staying with the Toast platform longer. So you pay more subscription fees. And because of the way the Toast platform prices, which is the fintech part of the business, where when there are transactions on the toast platform, they take a little bit. 55 basis points, so a little more than half of a percent. And so they pay to get into those restaurant groups so they can grow relationships over time and profit as that restaurant group uses toast over time.

Okay, so back to adjusted EBITA. Adjusted EBITA focuses on they take out the revenue and the expenses from the hardware business, lost leader and the professional services business also lost leader and focus on the subscription business, core to the business, and the fintech business, core to the business. So adjusted EBITA in this case, even though there is some stuff that's a little bit funny, it is actually much closer to the core profitability metric and how they measure themselves. So you really should pay attention to it. Tim, thanks so much for talking toast and Uber with me today. Thanks, Mary.

Appreciate it. Next up, Alicia Alfieri and Ricky Moby, Chegg out, a homework help tool getting beaten up by artificial intelligence. Chegg is an online tech company known for subscription homework help that is right now, Alicia, being treated in absolutes. It's an easy headline. Students don't need Chegg because they can find their answers on chat, GPT. Stock's been having a rough go of it.

And first, we'll talk about the business. Then we're going to talk about the stock. But for those who are less familiar with this company, they hear homework help. They're like, why can't you just ask Chad GPT for the answer? As many in the media might be asking right now. So what does Chegg do that Chad GPT for free does not? Sure. And I think actually Wall Street in general would agree with you, this idea that AI is coming

to eat Chegg's lunch. But not everything is AI coming to eat the world, right? This isn't a story about Chegg versus AI. This is actually a story about Chegg leveraging AI. So Chegg believes it has the largest learning data set in the world due to the millions of users who have asked millions of questions on the platform over the course of several years. And that data gets bigger every day that students ask Chegg questions. That's a big competitive advantage in the world of learning. So the idea here is that Chegg can pair AI or leverage AI with this massive data set and create something that really,

really benefits students. And they made a move earlier where they're going to partner with Open AI. And then now they've kind of walks that back. And they said, you know what? We're going to make our own models. And maybe that makes the company a little bit more unique. Yeah. Actually, I think it's really smart to not just shoehorn whoever's model into your platform.

Instead, to build the model, it allows you to have a lot more control over the experience, over the model, and then a lot of flexibility in the future as well. well, so you don't have to worry about having to change partners later. I mean, I'm basically dealing with two things as I think about the company. I don't own stock in it, Alicia. But on the one side, we've seen the story where investors treat a trend in terms of absolutes. Sometimes it's correct. We'll use blockbuster as the example.

But over the pandemic, we've heard nobody's going to the office again. Zoom is absolutely the future. Nobody's going to go to the gym again. Peloton. Peloton's here. And so I'm wary of, or I'm more interested in the story because it's being treated in absolutes. And then there's a part of my brain where I'm going, this thing is a falling knife. This thing is going to get kicked by ChatchipT because that is also getting smarter and this costs money.

One differentiator, though, that Chegg has talked about more is a more like premium subscription. So what would that look like? Yeah. So the AI subscription, if it is a premium subscription, would allow students and other learners to have a more personalized and conversational learning experience. So imagine being in a statistics class in college, and you're struggling with certain parts of the class. So an AI-infused cheg could potentially have a personalized learning experience for you, where it knows that, let's say you're killing it on Z tests or Z scores, but struggling

with probability. So it could walk you through how to better understand probability, and based on its interactions with you, it could create a practice test for you that focuses on probability to see if you've really got it down before your actual exam. And that's the idea that Chegg is trying to accomplish. Okay, so instead of, you know, enter this question, give me an answer, it's a little bit more of a personalized training with the artificial intelligence. Right. And they'll definitely have that part too of just ask it a question and have it help you understand the answer. But yeah, more of a personalized approach is what they're what they're trending toward.

All right. There's some transition going on in the C-suite of Chegg right now. Current CEO, Daniel Rosenzwig, is going to be succeeded by Nathan Schultz on June 1st. This is an interesting time for a CEO transition and a little bit sudden, a month. So what's going on here? I imagine some investors might be frustrated by this. Yeah. And I think, you know what, I'm just, I'm slightly annoyed.

And it was a bit of a surprise that this change was coming. But this is a good example of why it's important. to step away from your emotional brain and look at the information. So, as you said, the former CEO is becoming the chair of the board, and his base salary is around $850,000. So that's quite a lot more than some of what the other directors get for their base or for their retainers, which is around $70 to $80,000. But there are a few things to point out here.

So, again, he's the former CEO. He's been with Chegg for 14 years, and the company clearly wants to incentivize him to stay around and hopefully be active in Chegg's AI transformation, because this is a transformation that's going to take some time. Also, this is a pay cut from his prior base of around $1.1 million. Also, the new CEO is the former C.O. And he's been with the company in various roles for about 15 years. So they hired from within.

So that's good. Do I love this change? Not yet. But I'm willing to give the new leadership team a chance, since the company has practiced smart capital allocation in the past, which to me is a sign of smart management team. They've bought back debt in the past, and that was kind of one of the positive stories about this company, was, you know what? This is, maybe we're not in growth mode anymore, but this can be a good capital allocation story. Now they're not buying back stock.

What's, you know, is that a bad sign considering, you know, your stock is to put it kindly in the bargain bin right now? First, let's say that Chegg is a cash generating business. And one of the things that we've liked about Chegg over the past year is what you've talked about. They've done a good job with what they do with that cash. So they've bought back shares. They've bought back debt at a discount, which we like to see. As of the end of this quarter, share count, was down 15% year every year. This quarter, the company still generated cash, but, as you said, they didn't really do anything with it.

That's not necessarily a bad thing. But I'll tell you what, I hope they're buying back shares this quarter, right? Their stock prices down. But did no buybacks or no debt pay downs mean anything in the quarter? Maybe it means nothing. But it looks like management is being more conservative with its cash and that it could potentially mean that things could get worse before it gets better. Maybe. So, I mean, I feel like we're in a little bit of a negative place right now.

I know you're bullish on Chegg. Are there any green shoots here? Any green shoots in this story? Yeah, yeah, definitely. So as I said, the company is still generating cash. And by the way, that's not something that all companies do. And remember that Chegg is doing that despite lower year-over-year revenues and subscribers. There are also early positive signs for the company's AI.

So Chegg's automated answers, which was released in late December, addresses new student questions immediately. So we were kind of talking about this earlier. So for the full quarter, Chegg had 9 million questions asked and answered versus last year's quarter. It was 3.9 million. And the company believes that more questions means more content, which means more traffic, and could lead to new customers in future quarters. So I think that is a positive sign. So for those of us watching, like me, from the sidelines, because to me, it's an interest, It's the AI story. We want winners and losers.

I'll tell you the winner. Invita, big winner. We want a loser. Chegg, loser. And we need these buckets. So for those of us watching on the sidelines, what are some metrics that we should be paying attention to? Yeah. Well, so I'd love to see the company continue to generate cash.

I think that's really important. The company pointed to encouraging retention trends, right? So they were up 100 basis points year over year. They talked about engagement being better. They didn't give any concrete numbers there, though. so that was kind of frustrating. And I think as well, the questions asked and answered, that's important to look at.

Because, again, they can be a funnel for new customers. They can also give students a chance to see the user experience and how it's changed. 100 basis points. One of these days, we're going to get them to just say 1%. We can just round. Oly Shalfieri, thank you for your time and your insight. Appreciate you chatting with us. Thanks. Glad to be here.

As always, people on the program may have interest in the stocks mentioned, 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 Mary Long. Thanks for listening. We'll see you tomorrow.