Last week proved to be a week of reckoning for many consumer-facing brands, including Boston Beer (NYSE:SAM) and Pinterest (NYSE:PINS). Each saw their stocks cut by a quarter after weaker-than-expected earnings reports. In this episode of Industry Focus: Consumer Goods, Motley Fool analyst Asit Sharma and host Emily Flippen discuss the market’s reaction to these companies’ earnings reports and their decline in valuations.
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This video was recorded on August 3, 2021.
Emily Flippen: Welcome to Industry Focus. Today is Tuesday, August 3rd. I’m the host of this episode, Emily Flippen and today I’m joined by Motley Fool senior analyst, Asit Sharma, as we do just a Motley collection of earnings reports and dive into some of our favorite consumer goods companies that have reported over the past couple of weeks. Asit, thank you so much for joining.
Asit Sharma: Emily, thanks so much for having me. That time of year, we’re starting to get bombarded with more and more earnings reports. This is always a fun conversation to have.
Flippen: I selfishly want to talk about in particular, I guess some of the news around hard seltzer because seeing the earnings report from Boston Beer Company, Sam Adams as people maybe more familiar with it, as well as from consolation brands has me thinking so much about that industry. I don’t know what we’re going to title this episode though, because I know that we’re going to talk a bit about beer sales, hard seltzer sales. But I think we’re also going to talk about some Pinterest, some Upwork (NASDAQ:UPWK) even, so we have just a weird collection, I guess, of businesses, but it should be fun regardless.
Sharma: By the time we finish, there’s going to be a theme that emerges from our collective subconscious so that we can title this episode before it goes up on all those great outlets where you can find Industry Focus. Emily, I want to say really quickly. I have been on a seltzer run lately, but not hard seltzer. We’ve been drinking a lot of Topo Chico, Perrier, Gerolsteiner, and some flavored seltzer as well. I used to laugh at my friends who consume so much of these canned seltzer waters, and I’ve become one of those people. I don’t know if it was the pandemic that did it to me. Do you partake in soft and/or hard seltzers, just out of curiosity?
Flippen: I used to be a diet soda loyalist. I also had the same thoughts about people who spent their time drinking sparkling water. It was never quite good enough for me. They always felt kind of flavorless. I was a loyalist, I suppose, to diet soda. But then the pandemic hit, I was working remotely, and still I am all the time, and I would just sit there on my desk with these two liters of diet soda next to me. Before I realized it, I was drinking so much diet soda that I said, “Okay. That’s it. Something has to give.” So I replaced my diet soda consumption with sparkling water, which I presume to be a healthier alternative. I have now become one of those people who have sparkling water just constantly at my desk and my fridge. This is a trend that I’m really aware of and companies are aware of it, too. You mentioned Topo Chico as an example, and I believe while they’re known for their sparkling water, I think they’ve just recently, if they haven’t launched already, are in the process of launching a hard seltzer brand with their Topo Chico logo on it. They are aware. This is a trend that despite headlines after Boston Beer’s reports, I think it’s here to stay. I don’t see it going away. It might lose some momentum as all trends do, but it’s certainly not going to be, in my opinion, completely upset again by, say, the beer market or the wine market.
Sharma: I think Coca-Cola executives will be reassured and happy to hear your thoughts on that because Coca-Cola bought Topo Chico a few years ago, and wasn’t long after that that management started signaling, “We want to turn this into, not the whole brand, but we want to extend the brand into a hard seltzer brand.” If I’m remembering correctly, their launch, I guess it was in Latin America, was successful and now we’re going to have manufacturing here in the U.S. You’ll be able to get some hard Topo Chico soon.
Flippen: You know me, I get easily irritated by things and one of the things that easily irritated me, I believe it was last week, maybe a week before that, I believe it was on the 22nd of July, one of the things that easily irritated me was this headline that I saw published by CNN after Boston Beer reported earnings, and the headline was so assertive that it just bothered me. But it said the hard seltzer craze has come to an end, and they used Boston Beer’s earnings where, as many investors may be aware, if you haven’t already, they had much worse than expected sales of their hard seltzers and more importantly were guiding for much worse, I suppose, sales of hard seltzer in comparison to the guidance they had provided earlier. From that alone, CNN came out, it’s dead, that’s it. The hard seltzers are done. It frustrated me and I know this is a headline, so I won’t read too much into it. But I am curious about how you read the Boston Beer situation and how you think about the market. I call the hard seltzer market perfectly aware of the fact that Boston Beer and others obviously sell beverages that are not just hard seltzer. But the hard seltzer has been responsible for the majority of growth in the alcohol segment over the past few years. It’s interesting to see that slow down a bit, even noting that seltzer is still growing faster than most other lines, including beer.
Sharma: Well, for one, Emily, I want to say that we must be too grumpy people because I often have this experience of reading a headline that draws a larger implication from a prominent company’s earnings report. I usually exclaim out loud and shake my head.
Flippen: We fell for it.
Sharma: Yeah. But the seltzer market is here to stay. You are right. We had this intermediate period a few years ago, the transition between the kinds of beers our parents drink and the craft market, and this transition to a really more variegated market for beer, where it looked like you’re just going to have these two sets of the beer industry: these old-school lager type beers and then lots of hoppy craft beers, and few people saw this hard seltzer wave coming. But now, we are several years into it and as a category, it’s not going anywhere. I think as we go into the show, we’ve got another company that reports that demonstrates the principle that you’re talking about. When the market is there, maybe the growth is going to decelerate. Let’s hop right into Boston Beer’s earnings because this will give us some context around it, and then maybe in just giving a few quick initial points, I can also weigh in on the other side of your question, what about Boston Beer with down earnings because seltzer sales were down? Is this the end of Boston Beer? They reported on the 22nd of July not a super recent earnings report, but pertinent to our discussion today and also worth mentioning because Boston Beer shares took a 25% haircut after the earnings release. I checked yesterday, and they haven’t really recovered very much since then. Shares are now down about 44% from the all-time high that the SAM symbol set this spring. But at $8.8 billion, the company’s market cap is still double what it was just before we went into the pandemic last spring.
When we looked at that report on the surface of it, it’s a great report. Depletions, which is a measure of how beer bottles or wine bottles move off the shelves of retailers, convenient stores, wine shops, etc., it’s just a fancy way of, I should say it’s not a fancy, it’s a term of art in the industry for looking at how fast inventory is moving once it leaves a distributor. Depletions increased 24% year-over-year. In the last quarter, total shipments increased 27% year-over-year. The things that investors didn’t like, Emily, is that the company pulled back its full-year estimates for depletion and shipment’s growth to just 25-40% growth against what they previously talked about earlier this year of 40% to 50% growth. Here I’m going to read Jim Koch, he is the chairman now, but the founder and previously longtime CEO. He’s the face of Boston. I’m going to read his comments on why the company was pulling back and then get your opinions, and then I’ll also weigh in on Boston Beer and the category in general. He said, “As the hard seltzer category and the overall beer industry were softer than we had anticipated,” sorry, he said that the hard seltzer category and beer industry was softer than anticipated. Now, I quote, “Hard seltzer category growth was negatively impacted by several developments. One, slowing growth in household penetration as the market matures and there is less new trial. Two, a gradual transition of volume to the on-premise channel as hard seltzer becomes a more regular option in that channel. Three, new hard seltzer brands at retail that resulted in a proliferation of choices and consumer confusion. Four, a challenging comparative period of significant pantry loading related to on-premise restrictions in the second quarter of 2020.”
What he’s basically saying here is that the market is maturing, so there’s less response when companies put out new products. Consumers are a little bit less excited about these new hard seltzer brands. There’s a gradual transition to on-premise consumption. So you’re not just buying it anymore and drinking it at home, you’re more likely to order it when you’re at a restaurant. Also saying that, of course, there are now so many companies trying to compete in this space. Customers are confused, and then we had this difficult comparison to the pandemic quarter last year. I read out of this, it’s a blip in the road for Boston Beer. I’ve had some conversations about this company outside this podcast, and I always say I admire the way that management is really resilient and understands in advance which is the next trend they need to plow into to keep sales going, even as those older brands like Samuel Adams are losing market share to smaller craft beers. What are your thoughts on this quarter? That’s the overview.
Flippen: Yes. In regards to this quarter in particular, I think it shows the challenge of providing guidance when you probably shouldn’t be providing guidance, given that the landscape is so unpredictable. Boston Beer made the mistake of providing really strong guidance and having to pull it back as a result of something that I think they probably should have seen coming. Hindsight is always 20/20, of course, and that is the reemergence of people into the summer going out, going to bars, going to restaurants, consuming less alcohol at home, as well as just the maturation, the hard seltzer category maturing with time, which would of course cause a more competition but less excitement as well. I think there is some guidance that played into this big fall we’re seeing here. But I also think that Boston Beer, just thinking about hard seltzer in general, is really well-positioned. They’re one of the top three brands right now in terms of market share, and they have really strong distribution. I actually think this is where Boston Beer and truly hard seltzer, which is their hard seltzer brand, can differentiate themselves over the course of the next year or so from even those of, say, the Corona hard seltzer we just talked about and of course the White Claws of the world. That is, their really strong distribution I think truly has some of the best distribution right now in terms of hard seltzer brands out of things like restaurants and bars.
The problem is it’s a harder sell for somebody to go into a restaurant or bar and decide that they’re going to order a seven or eight dollar White Claw or Truly Hard Seltzer, which they’ve been consuming at home for a year at a much cheaper price point. I think that’s a harder sell. But the reason why on a bigger scale I still really like this business is because I think there’s optionality, whether it’d be hard seltzer or other categories and one of the things that they’re doing, which I think is maybe an underappreciated acquisition, was their Dogfish Head acquisition. I believe that was back in 2018, 2019, if memory serves, acquisition of a small craft brewer, large craft brewer relative to craft brewer sizes. While Dogfish, its beer brands have been growing in the high single digits for Boston Beer Company for a while now, they’re talking about doing things like making canned craft cocktails with the Dogfish Head logo and brand on it. That’s valuable, and I think they are thinking about what the next thing after hard seltzer is. So I like the fact that they seem to be a little bit more thoughtful about what the next aspect for growth is for this business beyond just hard seltzer. For that reason, I still really like this business. I’ll stop. At some point, I need to move on from this. But I will say, Asit, I think you’re downplaying your thoughts on this business because prior to this earnings report, we were chatting about Boston Beer and you noted that the business always seems to move really dramatically. The stock price at least moves really dramatically based on depletions and shipments, and that’s exactly what we saw happen in these earnings reports.
Sharma: Well, that has two sides of that particular coin. A lot of times when they find the next thing, the next big innovation, the stock responds in kind. That’s why while the stock is a little volatile, it’s hard to write it off. Now, I do always have the feeling like, “Okay. Is this the last time they’ve been able to innovate their way out of what is essentially a slowing traditional craft beer market?” Because like it or not, they’re still associated with the first Vanguard of craft beer at the older school labels. What they have in the Dog Head is I think a much more robust brand that they can use in that innovation space to pull through their wide distribution system, and there is something there, Emily, that they can really compound over the years and this was the thought behind that big acquisition. Last point on this Truly Hard Seltzer, even though it caused a lot of problems this quarter, that’s the biggest brand in their portfolio of hard seltzers, it’s still growing at 2.7 times the hard seltzer category. So it’s slowly gaining market share. I think that for Boston Beer, it’s really a matter of finding where that equilibrium point is and then moving onto new investment. This category, as we said before, it’s here to stay, but it may not provide super fast growth. Where they invest next will be really important in the next few quarters to see where the brand investment comes from.
Flippen: On the flip side of that, we had Constellation Brands, and I’m bringing up an old earnings report I think from the end of June. This has been marinating on the market for over a month to now, if you will. But whenever I get reports, especially from Boston Beer, where the stock moves 20%, 25% on the news, I love to compare it to some of their competitors and one of which is Constellation Brands. Now, Constellation Brands has been in a bit of divestiture mode regarding their, I guess, worst performing wine brand. Of course, they still have largely a beer-based business, owning the Corona brand, owning Modelo, for instance. These are beer brands that have consistently moved their demographic. So pretty strong depletions and shipments for these beer brands historically speaking, but they also have Corona Hard Seltzer, which is one of those, I believe it is a top three or top four seltzer in the U.S. right now, which is competing with the likes of Truly. I think investors were maybe a little bit more forgiving with Constellation Brands and the performance of the Corona Hard Seltzer because expectations there were much lower and management didn’t necessarily provide really strong guidance and it then had to pull back of course.
Sharma: I wonder what the story would have looked like if neither of these companies had given guidance before this quarter. It’s so interesting when you track the trajectory of Constellation Brands over the last seven to 10 years because they’ve had a multiyear lift since 2013 when they bought this portfolio of Mexican brands from Anheuser-Busch InBev for about $5 billion. That actually was the portfolio that was owned by a company called Grupo Modelo, and Constellation essentially bought the rights to market these and sell these beers in the US from Anheuser-Busch InBev. Since then, they’ve put billions into expanding their production and distribution facilities just for this small portfolio of beers. What’s so interesting, Emily, is that Corona has been the brand that’s propelled the growth since this purchase. Now, today, it’s really a slower growth vehicle. As you were pointing out, what’s really pushing the company forward are sales of Pacifico Clara, sales of Modelo.
Now, why is the company excited about Corona? Just as you mentioned, they think there’s a ton of opportunity to extend that brand, which is again just a little bit tied into hard seltzer. They see a huge opportunity here. Actually, they did launch in June last month Corona Hard Seltzer Limonada, which is a new variant of their Corona Hard Seltzer. Where Boston Beer seems to see maturity, Constellation Brands sees opportunity. I want to say here that part of the way these companies view their near-term opportunity versus maturity has to do with their investments in production capacity and in inventory. One of the things that tripped Boston Beer up was that they overinvested for the coming quarters based on what they saw late last year and early this year. Management was like let’s go all out. We got this. We’re going to have a bunch of inventory of the hard seltzers because they’re just flying off the shelves. Then to their surprise, this is the thread that went through the last earnings call. To their surprise, the category softened just a bit, at least their sales, especially with the Truly brand, started to decelerate very suddenly.
On this other side, you’ve got a company in Constellation Brands which has proved really savvy at expanding its production capacity. They’ve invested in plants in Mexico. If Boston Beer is a master company at investing in capacity and distribution, I would say that Constellation Brands is even better. Seeing them build more capacity to get their hard seltzer brand, which is, as you’ve mentioned, currently No. 4 into that top three category, which management stated on their earnings call is their goal. Guess who’s No. 2? It is Truly Hard Seltzer. White Claw is No. 1 and, Emily, I forget who is the No. 3. But you’ve got a market share fight that’s being built here and I think it’s going to be fun to watch these heavyweight slug it out, for Boston Beer to maintain its No. 2 position, and for Constellation Brands to try to bring Corona from a No. 4 to a No. 3 or potentially take that No. 2 spot.
Flippen: I have to mention something here, even though it’s probably further out on the radar of both investors and consumers and even Constellation Brands management team themselves. But they do have that pretty large stake in Canopy Growth, which is a Canadian cannabis business, who has spent the last year or so spending a lot of time and a lot of effort to build out their cannabis space, the beverage line. While that’s obviously not getting traction in the United States anytime soon, unless federal regulations change, what they can release to the United States via Constellation Brands distribution network is CBD-based beverages and they’ve been hesitant to do that in the past because of some confusing rules around the FDA and whether or not you can put CBD and food or beverages. But it seems like they’re moving forward with it, even without that guidance, which I think is a small step but a big move, if that makes sense. I believe they’re targeting a rollout in seven U.S. states right now for a CBD-based beverage made in conjunction with Canopy Growth across the United States. That will do a lot more for Canopy Growth than it will for Constellation Brands in terms of revenue growth. Obviously, this is a very, very small part of even Canopy Growth’s business right now, but I still like seeing those moves. Again, when we ask ourselves, what can we have done to invest before hard seltzer became hard seltzer? I always like to ask myself, what’s the next thing? Hard seltzer, I do agree with management here. I think for Constellation Brands, I think the category is here to stay, and will not be growing at 100%, 200% every year of course. But I think the consumption and the people who are going to be drinking, especially younger consumers, will continue to do so. But what’s going to be the thing that disrupts the hard seltzer, maybe it is CBD beverages, maybe it is cannabis beverages, or maybe it’s not.
Sharma: It could very well be. Constellation’s management has been excited for a long time about these opportunities, both in cannabis-infused beverages and CBD. Part of this is because they are really, really good at taking small premium ideas and turning a lot of gross profit off of those. Meiomi Wines is an example of this. The company has a lot of expertise in this area, and I can see them being able to contribute meaningfully to the bottom line if it doesn’t become, at least at first, a huge revenue driver. I think that you’re on to something and to be frank, like management is willing to let its earnings get kicked around by these unrealized gains and losses on their investment in Canopy Growth because they know that over the long-term, a little bit of volatility now, investors can see through and look at what the actual operating earnings were. But beyond that, I think they are still very bullish on these growth prospects in beverages, combining the talents of the two companies. So we should always keep an eye on that, and I would love to discuss that as they progress with you maybe in a quarter or two to see how that’s going along. It’d be such a fun episode.
Flippen: Yeah. We should definitely still do that, and I have no ability to make this transition anymore seamless, so I’m not going to try. Let’s talk about Pinterest. Go ahead.
Sharma: Well, I was thinking, Emily, it’s like that thing where you see somebody that you haven’t seen in a long time and can’t remember their name and you’re walking toward them in a crowd and you’re like, I went to school with that person. I know I’m going to remember their name when I get right close to them this whole time because we are sure that’s jumping around because it’s earnings season. Both of us have been thinking what’s our transition here. It’s like that point where you get and you realize I’m not going to remember this person’s same. Now, I have to just call it for what it is. Let’s talk about Pinterest. Well, this was an interesting report to me. Emily, what did you draw out of the big picture from this, just they’re big picture measurements and statistics out of their earnings report because there’s a lot to unpack.
Flippen: Here’s the connection. It just came to me. If you can imagine how mildly irritated I was by the CNN hard seltzer headline, multiply that by about 10 for how irritated I was when I saw the market’s reaction to Pinterest earnings reports. Yes, I am a Pinterest shareholder. I say this because I think the question for Pinterest has never been what the market reacted to, what the market was reacting to in this most recent earnings report was a fallback in the number of monthly average users, especially domestically in the United States which Pinterest has higher ad revenue on. Obviously, they are able to monetize those users at a higher rate than their international audience and that caused a huge pullback in the stock. I think it was similar to Boston Beer and the order of 20-25% on the data released earnings. I was irritated because everything else for Pinterest was amazing. I rewind myself back to February, I believe it was around February or March of this year when Pinterest had their first-quarter earnings reports and I was actually worried. I was thinking about Pinterest, I wasn’t a shareholder, then I was thinking about becoming a shareholder and I was concerned because I saw a pullback in ad revenue.
The question for Pinterest in my mind has always been, can they reach the level of monetization for their average users that we see from other great social media companies? They have amazing levels of engagement. They have a crazy number of users. They already have, what in my opinion, is probably a peaked number of monthly active users on that platform, over 450 million monthly active users across the world, can they monetize them? Then in that initial quarter, we saw some pullback, some hesitation for advertisers to spend money even coming out of the pandemic on the Pinterest platform and that scared me. That to me was the thing that was concerning enough to be like is this stock and a fall, 20%? Fast-forward to this most recent quarter. Monetization was through the roof. They saw not only small mom-and-pop shots coming back, but big advertisers like enterprise customers coming back to advertise on Pinterest platforms, their average revenue per user per both domestic and international more than doubled in the most recent quarter compared to the year ago period and people were caught up and a 5% decrease in the average users in United States when they have over 450 million average users. It was mind boggling to me. I have gone off and on a little bit of a tangent there, but I was a little surprised to see the market’s reaction to say the least.
Sharma: I was too. To me, the really nice revenue story here, topline jumped 125% to about $613 million is the big picture and a net income margin of 11% so the company earned $69 million in the second quarter of 2021. That’s the big story. Why? Because advertising came back and it drove, as you said, brilliant monetization, that money dropped to the bottom line. What more do you want? At some point you have to figure out where the balance is in the equation of this company? Is it going to be fast user growth? Is it going to be moderate user growth plus lots of opportunities for monetization? I think that’s what Pinterest is going to be all about. I think it will be hard for them to add users at this really fast rate from here on out but as you point out, with 415-odd million around the world, now it is time to start focusing on how the company can utilize that base and make money off of it.
When you see enterprise companies begin to put their product catalogs on Pinterest without any other type of selling platform, you get a sense of how powerful Pinterest can be as a platform. Now the name is escaping me of course, but at least one company, this is the last quarter when I think I was also worrying about the same principles as the advertising revenue dropped off. They highlighted a company, a very prominent brand name which decided to go only exclusively on Pinterest with their catalog. So the idea of seeing Pinterest as the most effective platform to sell your wares, if your brand is very well respected, gives you a glimpse into the opportunity long term. Now, we should break down a little bit. What’s going on with those monthly average users and why I think some investors were so scared. The company said that fewer monthly average users, which came in the second quarter to the U.S, was the result of, I think some fairweather users that come exclusively through the Pinterest website, they pointed to much higher engagement for mobile device users. That’s the company’s core component of users.
Basically, management is signaling that, yeah, we’ve got some users that are going to bounce. They come to us from other channels on the web. They’re not really people who are going to open a Pinterest account with a log-in and then be frequent users and buyers. The ones that we’ve got coming through mobile are particularly sticky. Management also pointed out that they’ve got strong international growth that continues on the user side. International monthly average users grew by 20%. They are a small component of the overall picture right now, this is still heavily tilted toward the U.S, which brings us to the statistics for monetization. I’m really curious Emily to get your thoughts on this. I’m going to read out a few lines from the table presented in its average revenue per user for this quarter. Average revenue per user in the United States grew 103% to $5.08. That’s a phenomenal gain. Average revenue per users for international users grew 163% from $0.14 to $0.36 for a total global picture of $1.32 per average user when you take the U.S. plus the international segment, together. I’ve been following this one line in their earnings report for a few quarters. The average revenue per user in the international segment. It’s so small, it was only 14% this time last year, $0.14 this time last year, it’s up to $0.36 versus a whole $5.08 in the U.S. What do you make of the growth opportunity here internationally? Is this something that can keep growing and maybe be as significant as U.S. ARPU in the long term? Is it something that’s going to taper off and then the company will have to really find ways in avenues to spark growth again?
Flippen: I definitely think there’s an opportunity for them to just continue to grow through monetization alone. I think the best example now, admittedly, I’m comparing them to a world-class company here. I recognize that this is not a one-to-one comparison, but let’s look at Facebook as an example of a business that has managed to monetize its engagement really well. Facebook has an average revenue per user of I believe around $10. Now that’s a blended one between U.S. and international, but right now when you look at those numbers, just over $5 per U.S. users on Pinterest and just over what, $0.35 for international users, there’s certainly an opportunity for them to expand that engagement. I believe for Facebook, their average revenue per user in the U.S. is closer to $50 per user. This is just a great opportunity for them and I like it in particular because they target that generation-Z segment so much more effectively than other social media platforms have and I do think there’s an opportunity for them to continue to expand that relationship.
I think if investors are getting caught up, and just a quick fall off and mobile monthly active users for Pinterest domestically in this quarter they’re missing the bigger picture. The other quote that I liked for management from this quarter was that virtually all of the difference between their monthly active user guidance and their actual monthly active users in the U.S. this quarter was attributable to a decline for people who use Pinterest on the web, not people who are engaging over the mobile app, which again, tend to be those younger users, which actually I believe saw a growth in the quarter domestically. The opportunities for monetization, I think increasingly, yes, there’s a big opportunity there, obviously, just using Facebook as a quick comparison, but also just focusing on younger audiences as they grow into their own and you can monetize them more deeply as well.
Sharma: With that, let’s move on to another company that took a shellacking with its report. On the face of it, another good report. Again, mea culpa, actually I don’t know Latin for “blame us.” Mea is my bad, I don’t know how to say our bad in Latin, but, if I could, I would say our bad here. No transition from Pinterest to Upwork, except to say that we’ve got a similar narrative. It’s a company that reported very strong growth and very strong earnings, but investors weren’t very pleased.
Our next victim, Upwork, also reported on July 29th as Pinterest did. Gross services volume, so this is the amount of money that’s transacted over their platform, grew 50% year-over-year to $876 million, revenue was up 42% year-over-year to $124 million, gross margin improved by 2% to 73%. Upwork even raised its full-year guidance to $490 million to $494 million against revenue guidance of $480 million to $490 million which they had presented in the previous quarter. This gig economy freelance platform, Emily, just couldn’t bring enough to the table. Investors sold shares of Upwork on its day of reporting. What are your takeaways from this?
Flippen: Yes. I think Upwork’s decline is really indicative of everything that we’re seeing happen in the market this earnings season. Upwork has been more challenged, I will say that. Good businesses reporting good results pulling back on I think valuation has always been a big concern. You could have made that argument for Pinterest as well, which is something I didn’t mention. But I think in the case of Upwork, that may be what we’re seeing here. Barely missing there on the bottom line, I think earnings were maybe four cents off of what was expected per-share, decent otherwise improving that guidance, improving their gross margin. In my opinion, you make a good argument about potentially people taking money off the table just with what an amazing business it’s been to own it the last year, but I also think that there’s probably some valuation concerns that have come into play.
Sharma: Yeah. Valuation will have a lot to do with this. I think this is one of the things for those who came to the dance last that they’re first out, in that it’s a pricey business and the stock has gained about 385% since January 1st of 2020. Just that type of rapid ascent. Even if you took valuation out of the equation, there is always something that investors who have been along for a short ride have in the back of their mind, “I’m not going to get this return again, so let me leave.” That’s not just retail investors, that’s some institutional investors as well. When you see a really quick gain in your shares, it’s not just an assessment that an individual investor would make, sometimes you will see hedge funds, pension plans, and all types of institutional investors do the same thing, sort of bail at the first sign of trouble because they’ve had accelerated gains.
The company is emphasizing some long-term investments. I liked that it has something called Project Catalog, which is a response to competitor Fiverr, makes it a little more Fiverr-like, I like that they are investing in more enterprise business as is competitor Fiverr. Even at 16 times forward earnings, I see an investment case, especially for those who are investing in a number of platform businesses as maybe a basket, so you’re buying a little bit of Upwork, you’re buying a little bit of Fiverr, you’re buying maybe a little bit of Etsy, think of other great marketplace businesses, maybe MercadoLibre. This trend itself is a very strong trend. It becomes quite easy to have recurring revenues, although you never see them as such because they’re not contractualized, but you see the same buyers and sellers year-after-year, after-year transact on platforms, and I think this will be relevant here with these gig economy specialists as more and more people come out of traditional work environments and hang-up a shingle, they’re going to remain on the platforms which provide them the majority of their annual revenue. Think about small consultants, small graphic artists, even I’m seeing more professional-oriented bids on these marketplaces from individual architects and other types of professionals. The platforms themselves have a great amount of stickiness in the solidity of their cash flows once they get established.
If you’re holding shares of Upwork, I don’t think the reported self is anything that should pull you to a sell decision. We should say that its net loss was a little disappointing because they had a bit more of a net loss at 13 cents per diluted share versus analysts and investors consensus view of a loss of nine cents a share. I tend not to get too hung up on this, but again, you have to pay attention. A little bit of disappointment there. The company could see a bit better operating leverage and they should as time goes on over the long-term anyway. But here what you’ve got is a case of some growing pains, you have to pay the piper sometimes.
Flippen: I’m curious between Upwork and say, Fiverr, because I know those are often once that investors compare most freely. Do you have a preference between the two or do you think a rising tide lifts all boats?
Sharma: I actually have a preference. I don’t own either, but I like Fiverr because the management team is a little bit more dynamic, they are a little bit more aggressive in their innovation; they recently introduced on the Fiverr platform a new category that focuses on tech skills and they’re going to be rolling out more in the future. They’re just quicker to isolate parts of the economy where they should have a category. The way they built their platform, which is more of an easy bid between buyers and sellers for services, turned out to be a model that could hold a faster growth component than Upwork’s model and as I mentioned before, Upwork is sort of countered by copying a little bit of this. But I think of the two management teams, Fiverr’s is just a bit more innovative and aggressive. At the end of the day, that translates into market share over the longer term. Both are absurdly overvalued right now. Do you pay attention to either of these very closely? Do you have a preference, Emily?
Flippen: I do have a preference. I think Fiverr is probably my preference as well. I will admit that Fiverr, if you’re just looking at relative valuation between the two, is obviously the more richly valued. But it’s grown faster, has what in my opinion seems to be a more scalable business model in the sense that their margins, I see more opportunity for them to expand margins more rapidly on Fiverr. I like the way their platform is set up a little bit more clearly for the freelancers themselves, letting the buyers come to them as opposed to the other way around. I think that may be a preference for the type of freelancers that Fiverr is looking to attract. But what really sold me about this business has been watching their average spend per buyer. When you say the name Fiverr, I think a lot of people remember the days of Fiverr being five dollars, and that colors their perception of the business. But the average spend I believe is over $215 per order now. As that spend goes up, so does the revenue sharing that Fiverr gets. They’ve expanded that really aggressively over the past couple of years. If they are able to continue to up that number, then in my opinion, that’s real long-term tailwinds. Between the two, I think I like Fiverr better, but maybe I’m not giving Upwork enough credit.
Sharma: I think you’re probably, at least in my estimation, you’re leading the right way. Just to be more specific, in relation to your comments, from what I was saying earlier, the tech vertical that I was talking about is focused on data analytics. It’s something that just seems so obvious after you hear it. Yeah, you should have a vertical that lets people who are data scientists sell their wares as freelance gig people to big companies, medium-size companies. But they just have a way of isolating categories that are going to bring them that pricing power, or at least pricing power to the sellers of those services. For them, it’s expressed in their really rich take rate. I think that they just always seem to be one step ahead. The next vertical I’m predicting is going to be an artificial intelligence/machine learning vertical. If they keep expanding these categories really logically, they’ll only promote what’s turning out to be a very exciting part of their business, which is not to make this sound so repetitive, but it’s Fiverr business, that’s the branding. What a weird branding. Let me get this right. Fiverr business is their business-centric service, the one that’s aimed at enterprises. That’s I think what’s driving a lot of that average spend that you’re talking about and its acceleration.
Flippen: Awesome. Well, Asit, thank you so much for coming on and sharing your thoughts on this motley collection of companies. I know we were a little bit afraid that today’s episode will be too short, but with us, we never have to worry about that, do we?
Sharma: I don’t know why we ever worry. It’s great to be here, Emily.
Flippen: Fools, that does it for this episode of Industry Focus. If you have any questions or just want to reach out to say “hey,” you can always shoot us an email at firstname.lastname@example.org or tweet at us @MFIndustryFocus. As always, people on the program may own companies discussed on the show and The Motley Fool may have formal recommendations for or against any stocks mentioned, so don’t buy or sell anything based solely on what you hear. Thanks to Tim Sparks for his work behind the screen today. For Asit Sharma, I’m Emily Flippen. Thanks for listening and Fool on.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
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