In this podcast, Motley Fool analyst Tim Beyers and host Mary Long discuss:
- The transition from "search engines" to "answer engines."
- Alphabet's fast-improving position within the cloud computing market.
- Lessons learned from Supermicro's steep rise and sharp fall.
Then, Motley Fool host Ricky Mulvey and analyst Bill Mann take a look at retail cycles and an investment idea that came about from coat shopping.
To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our beginner's guide to investing in stocks. A full transcript follows the video.
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This video was recorded on Oct. 30, 2024.
Mary Long: Is it a dumpster fire or a buying opportunity? You're listening to Motley Fool Money. I'm Mary Long joined on this fine Wednesday morning by Mr. Tim Beyers. Tim, how you doing?
Tim Beyers: Partially caffeinated. Ready to go, Mary.
Mary Long: You're partially caffeinated. I will admit that I am fully caffeinated, so together, hopefully, we're going to bring the energy this morning.
Tim Beyers: Here we go.
Mary Long: 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 two trillion dollars company. Growing revenue by 15%. All things considered is pretty significant. Operating margins also improved. 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?
Tim Beyers: It is 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 CapX was up 62% versus the same period last year. Last quarter, I believe, it was up 90%. So they are just spending a boat load of cash to build out their AI capabilities, and they need to. Google does stand to benefit most from the ship 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. Answer engine is what we think of as a generative AI, instead of me searching for a keyword.
So let's say you are searching for 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. Answer engine is, find me the highest rated veterinarian in my area and my zip code is and you'll put that in. An answer engine would say, there are three veterinarians within the zip code that you cited that have a score of blank according to Blankey blank. I tip my mic over a little bit. For listeners couldn't see that. I'm sure it was hilarious. But 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. So generative AI has brought us to this point. Open AI absolutely wants to have answer engines. In order to get there and be there first, Google needs to invest heavily. So it explains the CapX 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.
Mary Long: 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 as the industry transitions from this search engine to answer engine. Whichever veterinarian 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, taking into account the input that a searcher is asking them to?
Tim Beyers: Well, it today it's the input. 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. Answer engines are coming. Search GPT is Open AI'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 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 metric that it found in generating its answer.
Then you say, do any of these specialize in cats? Yes. So two of them specialize in cats. Do any have experience, let's say there's, let's say you have a senior cat that has a condition, does any of them have specialties or experience with X? Let's say, in fact, let us introduce you. 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 and 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.
Mary Long: 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 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, and Amazon 32. All of these companies, as we've talked about, so much on the 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? Two, is the way to the top of those rankings simply to outspend.
Tim Beyers: 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 the price feature set familiarity with the environment are going to have a much bigger set of determining factors of which you use. 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? Man, you are right. I mean, spending makes a huge difference. 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.
Mary Long: That's pretty good. 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 Micro Computer, 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&P500 in March and shares have surged nearly 250% in 2023 alone. That said, in late August, Hindenburg 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?
Tim Beyers: 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. They are unwilling to be associated with these results. In other words, what they are saying, Mary, in so many words is, Hindenburg is right. I mean, they're not saying that explicitly, but they are saying it implicitly that these numbers are not trustworthy. Key to Hindenburg's thesis is that these numbers are not trustworthy. EY has just confirmed that. That is absolutely horrible. Can we just please give a warning here? If you are one of those dare devil investors think who? You Know down 30%. This must be an amazing buying opportunity. 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 the fire department. You get out of here. No, this is stay as far away from this one as you possibly can. I hate this for people who speculated on this stock, on the belief that it had some real AI tailwinds, so we could talk about that, but it was a company that did have some AI tailwinds.
Mary Long: 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 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. I 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, an AI company, great, shiny, awesome. What does this teach us about how you discern between companies that are writing popular tailless?
Tim Beyers: It's a hard one. I want to give a huge credit to Tom Gardner, because in April, he and the team at AI Playbook put out an alert, 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''. One of the things he noted and then the team noted in their report was governance issues. So you asked, how do you 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 Trends scorecard. It was just a massive winner for six months. And then we sold it because the valuation 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, ''hey, you know what? There's a board member that looks at and was a member of the audit committee, who looks like is stepping down''.
That's a yellow flag. Then there were other things that were noted in this report. When the yellow flags start to add up a little bit, they start, turning from yellow to orange and fairly quickly into red and you want to be careful. I think that's why I want to give Tom so much credit here is like, you have to look at the the spectrum of signals you can get because you can't know about this, Mary. David Meier 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 signals. So a board member steps down, particularly a member of say, the audit committee, which is overseeing governance of the company. Maybe there's a delay in financial filings, 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.
Mary Long: Hard questions often lead to pretty good answers. Tim Beyers, thanks so much for the time, and the insight on this one. I always appreciate having you on the show.
Tim Beyers: Thanks, Mary.
Mary Long: 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, UNIQLO.
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Ricky Mulvey: 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 of weeks ago, I was in New York City, and I got a shirt and a winter coat from the store called UNIQLO, 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 25 bucks, down winter coats for 160 bucks. 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 after an experience like this, what should I do before whether or not I decide to buy any stock in this Fast Retailing things? What are the next steps in my Lynchan journey?
Bill Mann: Well done, Ricky, discovering a business that's existed since 1972, first of all.
Ricky Mulvey: Thank you.
Bill Mann: You did it. Part of your Lynchan journey is to find a business that's 52-years-old.
Ricky Mulvey: Have I told you about this song called Bogue on Reggae Woman? I heard it a few weeks ago. It was pretty sweet man. [laughs]
Bill Mann: UNIQLO was founded by a guy named Tadashi Yanai, who took over his father's basically tailoring shop and decided that he was going to turn this into a thing, maybe 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 US and has gone to Europe late 90s, early 2000s. 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 Yanai as a manager and as a founder.
Ricky Mulvey: You got to my second step, which is that I realized I might be about 15 years too late to this party. You go into a UNIQLO 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. 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?
Bill Mann: Obviously, I've taken a very long interest in Japan, and one of my favorite things is to play a game basically called one of these things as 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 UNIQLO that was growing like wildfire, both out on the street and in the stock market. Instantly, I said, huh, and Tadashi Yanai, a very unique CEO. He has a book, his autobiography from 2003 is titled One Win and Nine Losses. He is someone who is absolutely geared toward taking risks and having failures and moving on. So that to me was an incredibly interesting thing to come out of a Japan at the time that almost seemed terrified of failure so really, I was betting the jockey.
Ricky Mulvey: 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 scaling, 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.
Bill Mann: Yeah, and it's a really interesting point. One of the ways in which they are differentiating themselves is not just sustainability, because that's a really important thing. I feel like we're talking down to H&M and to Zara and their process, the Zara parent companies called Inditex. It's a choice that they're making. But in the case of UNIQLO he saw those much more high input materials as being something that 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.
Ricky Mulvey: I know you've been falling this company for a while. I want to look at Fast Retailer's latest year because I just started looking at it, Bill.
Bill Mann: It's a new company. That's fine.
Ricky Mulvey: It's a new company to me. 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 a 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?
Bill Mann: 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.
Ricky Mulvey: For a day? I took a weekend trip.
Bill Mann: You get the flexes where you can. That's all I'm saying.
Ricky Mulvey: I've taken weekend trips to Cincinnati.
Bill Mann: Well, think about this, though. You've just talked about exactly what attracted you to UNIQLO was that process for the checkout. 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 Yanai years ago said, You know what? One of the problems in Japan is that we have a more abund economy, and we are impacting our workers by not paying them very much, and so UNIQLO 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? They stay, they're loyal, they do their best. You would think it would be otherwise, 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.
Ricky Mulvey: They're also not losing people to attrition. I need, like a hand signal when you're doing a rhetorical question, Bill. That way, I know not to jump in.
Bill Mann: You should just go ahead and jump in. They're all rhetorical, Ricky.
Ricky Mulvey: I got some weirdness so here's some weirdness. Fast Retailing trades on the Nikkei. It's almost like the stock has done too well. So earlier this year, the Nikkei 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's going on between the Nikkei and Fast Retailing?
Bill Mann: 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, 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 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. For the Nikkei 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.
Ricky Mulvey: I like hearing that it's the Costco of fashion. That sounds great. But one thing that 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." Are we counting Fast Retailing is a cyclical here? Does it matter?
Bill Mann: 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 UNIQLO came into the US and they opened first in New Jersey and they had a couple of stores, and they failed. I failed to think about what Yanai had said, which is, we're going to take risks, and a lot of them are going to fail, and then we're going to take additional risks. 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. If you're worried about a cycle, Fast Retailing is trading at a PE of more than 40 right now. 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.
Ricky Mulvey: 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 UNIQLO was Nike. 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 I like to think that a comeback story makes a lot of sense. 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?
Bill Mann: I think the great thing about Nike right now is that they have done minimal damage to their brand. Everything that's happened at Nike seems to be happening upstream. They've had problems with suppliers. They've had problems with 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 where they sit right now. So I think it's a reasonable bet that Elliot 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.
Ricky Mulvey: Bill Mann, I appreciate you being here. Thanks for your time.
Bill Mann: Thanks.
Mary Long: As always, people in 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 yourself 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 to friends like you. I'm Mary Long. Thanks for listening. We'll see you tomorrow.
John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Bill Mann has positions in Costco Wholesale. Mary Long has no position in any of the stocks mentioned. Ricky Mulvey has no position in any of the stocks mentioned. Tim Beyers has positions in Alphabet and Amazon. The Motley Fool has positions in and recommends Alphabet, Amazon, Costco Wholesale, Microsoft, Nike, and Nvidia. The Motley Fool recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.
