Mistakes will be a part of everyone's experience with investing. To embrace this idea, the Industry Focus team is looking back at some of the instances when they really missed the mark.
In this Consumer Goods episode, Vincent Shen is joined by Fool.com contributor Dan Kline as they revisit three stories that ended up taking them by surprise -- Wal-Mart's (NYSE: WMT) $3.3 billion acquisition of Jet.com, Amazon's (NASDAQ: AMZN) brick-and-mortar expansion efforts, and McDonald's (NYSE: MCD) delivery initiative.
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This video was recorded on Aug. 22, 2017.
Vincent Shen: Welcome to Industry Focus, the podcast that dives into a different sector of the stock market everyday. I'm your host, Vincent Shen, and it's Tuesday, Aug. 22. If you heard the Financials show yesterday with Gaby, you'll know that we're in the middle of our newest theme week, this time lovingly called "We said what?" Our goal this week is to circle back on instances where we made a mistake or made the wrong call, so we can talk about it and see how things actually turned out for the companies involved. To do that, joining me via Skype today is Fool.com contributor Dan Kline. Dan, are you prepared to reflect on some of our missteps from the show?
Dan Kline: Well, when you think mistakes, you think me, so I'm more than happy to be here and ready to go!
Shen: [laughs] You were my easy target for today, but honestly, when I approached you about this show, you immediately had a few instances in mind for good ideas of things we can revisit, big stories for those companies when we talked about them at the time. We have two main examples that I'd like to touch on. Our first one is from one year ago, last August. That was when we dissected Wal-Mart's $3.3 billion acquisition of Jet.com. Austin, if you could roll the tape please?
(Kline): We joked about this before, but one, I think Wal-Mart is lighting money on fire here. I don't think there's anything they couldn't have duplicated in six months for half a billion dollars. So, they're spending a huge amount of money to get a guy. And I get it, Marc Lore has been successful. He's been one of the few that's been able to compete with Amazon. But I don't see what Wal-Mart is buying.
Shen: Dan, I thought we should run with this clip, because it summed up our ideas pretty nicely from that episode. To be clear, we were both pretty bearish at the time on whether Jet.com and Marc Lore would be able to move the needle for a company as big as Wal-Mart. But we're about a year in and the results so far seem pretty encouraging.
Kline: Here's the thing -- at the time, I thought they were spending $3.3 billion for a company that was losing money that only had $1 billion in sales. I touched upon it in some print articles that what they were really buying was Marc Lore. And that seemed crazy for $3.3 billion. But the reality is, he came in and brought a whole new way of thinking. He hasn't just changed how Walmart.com operates, but he's actually been given a free hand to integrate the stores and the digital operation, and they've made major changes. They're testing things like pickup towers in stores, they're putting tablets in hands of associates in the stores so they can track orders, they're actually having store associates do deliveries, they're really operating like a start-up, which is impressive for a company as big as Wal-Mart.
Shen: Yeah. In Wal-Mart's last reported quarter, this company saw growth of 2%. This is in an environment where a lot of other big box stores and department stores that we talked about on the show are getting hammered pretty hard, and that growth was based on progress in their comparable store sales and also in their store traffic. So it's the kind of progress that investors were hoping to see. Going back to that clip that we just played, a development that I think has been generating a lot of buzz for Wal-Mart as well as from the most recent results was 60% growth in online sales. And then, their gross merchandise volume, which is the value of all the goods sold across the company's online marketplace, was up 67% year-over-year. So I feel like, if we had an unbiased third-party sitting with us right now, they kind of turn to us and say, "How 'bout them apples for Wal-Mart?"
Kline: [laughs] Well, they've done two things. First, Marc and the Jet.com team came in, and they went, "We can't compete with Amazon Prime." So they got rid of their $50 Shipping Pass program and made all orders over $35 free two-day shipping. Now, the problem is they did that without having the infrastructure in place to really support it, so they threw open the floodgates and basically scotch-taped things together. And it hasn't been perfect. I bought a TV from Wal-Mart that arrived smashed, and it took me two and a half weeks to return it and about 17 phone calls. So they're not Amazon yet. But they absolutely have customers convinced that they're the viable alternative. And the reality is, just like Amazon has its 200-whatever million Prime members, Wal-Mart has a huge base of loyal customers, and maybe they're a little later to the game than digital, and Wal-Mart is coming along and giving them a place to go. And clearly it's working.
Shen: Yeah. And the thing to keep in mind, even with this Jet.com buyout, which was the company's biggest deal in terms of its e-commerce efforts, Wal-Mart has been buying up other online-focused businesses. Some of the smaller ones that I've seen include Moosejaw, Bonobos, and Shoebuy. So the more companies that they ultimately bring under their umbrella, there's of course some integration risk, but at the same time, they get a lot of people and products and mindset that they want for this online push that they're making. And I think that mindset is really what's so important for them to make the progress that investors want to see. Marc Lore, in the approximately one year since joining the company, has showed how aggressive he's willing to be and how necessary that is in what is essentially an arms racing right now in e-commerce.
Kline: I saw Marc speak last year at Shoptalk, and he talked a lot about how he'd been given a free hand by Doug McMillon, the CEO of Wal-Mart, to bring in digital-first people, to change how the thinking was. So when you buy some of these little start-ups, you get people that maybe don't have a traditional retail background, you're injecting this whole new kind of life. Now, at a lot of companies, that's going to clash really hard with the old liners, the people who have always done it one way. But at Wal-Mart, it does seem like they're taking it very seriously that they have to become an omni-channel company, and that really means putting customers first and getting people products however they want it, if they want to order online and pick-up in store, if they want it delivered at home, but return it in store, if they want to deal with a person or not, however it goes. And it's going to take time, but they're really quickly getting there.
Shen: Yeah. And I know your personal experience recently, in terms of shopping online with the company, wasn't as good. But I actually just made a purchase yesterday for a new fishing rod, and it was interesting to see all the different options that they have for fulfillment. You can make a smaller purchase and pay shipping, but as you mentioned, you can spend more than $35 and get free delivery, you can have items shipped to your local store for free pickup. So I remember Lore said something about how, if 9 out of 10 people in this country live within 10 miles of a Wal-Mart store, an option like free in-store pickup isn't a bad option, and the company has seen success in this area before with some of the other efforts that they've instituted, like curbside pickup for groceries, too.
Kline: Yeah. I think my problem was a growing pain issue. I bought a 55-inch television and I had it delivered because it didn't fit in any of my cars. So one of the options to return it was to return it to the store. But I couldn't return it to the store for the same reason I couldn't pick it up from the store. So it was at a location that I don't live full-time, in our vacation home, so there was a huge disconnect in their process. And I think the reality is, Amazon was engineered ground up as an online delivery company, so their systems are nearly flawless. It's going to take Wal-Mart time to get there. What I would like to see happen is to have more of a way for when there is a problem to expedite that claim, to bounce it up the chain and have some dedicated problem solvers. I think, if I had tweeted at them, I probably would have got a more personal response. Instead, I was just getting the call center script, and my problem didn't fit the script, so it was very difficult. But I don't use that to fault their entire delivery system. I think that's probably an example of an anomaly that they're going to have to figure out.
Shen: Last couple things I'll touch on is, in terms of product selection, the company said it now offers about 67 million SKUs, those are stock-keeping units, on its online marketplace. Meanwhile, on the other end of the spectrum, Amazon, in terms of competition, offers an estimated 400 million products, from what I could find. So, that's a huge gap still.
Kline: It's not, though.
Shen: There's still plenty of room for this e-commerce trend to run broadly. It's still less than 10% of spending. Wal-Mart right now, staking their claim early, is the right move.
Kline: But do you need 17 kinds of diapers? Or is just four OK?
Shen: Fair. So, all in all, going back to our original call when we talked about this story, it might be too soon, I think, to declare that the Jet.com acquisition was a huge slam dunk with a positive return on investment and everything. But the initial results are pretty encouraging, and it does appear that Wal-Mart has been able to pull someone from outside the company to drive these efforts, and who has the vision and experience in e-commerce in Marc Lore to really ramp up growth in this space.
Up next, we'll actually talk about a missed call that we had with Amazon itself. So looking back now at Nov. 2016, we talked about Amazon and its potentially massive brick-and-mortar expansion. There was buzz at the time about some of the pilot stores and the positive results that the company had seen, that it was ready to really hit the gas and aggressively expand, as Amazon is known to do. Austin, can you play back the clip for us?
(Shen): Just to give everyone a little bit of detail, you mentioned 2,000 locations. Based on the current planning, the company sees, if the tests are successful ...
(Kline): And this is wildly speculative in terms of where we are.
(Shen): Yeah. The company sees a potential rollout of 200 store openings per year.
So, we threw some caveats in this episode when we first discussed the idea of 2,000 Amazon stores being opened, with potentially 200 store openings per year. Obviously, in the year since, Bezos and his team have taken a pretty different approach. They would rather cut a $13 billion check for an established brand instead. The Whole Foods (NASDAQ: WFM) Market buyout --
Kline: I got this spectacularly wrong! Yes, we had caveats, but my exception was, I thought they were going to buy something else. I really thought Amazon was going to go out there and buy Radio Shack and have thousands of stores and that great retail footprint, and the whole reason they were testing all this stuff was for that. And that, of course, proved to be horribly wrong, and I did not see Whole Foods coming at all.
Shen: The Whole Foods Market buyout, for you and for me and for most of the market, was a huge surprise. But what do you think about that strategy? They're buying about 500-plus stores outright that are ready to go vs. what we had talked about during the show, this idea of building out your store network more gradually, at least you're building it out exactly the way you want it. What do you think?
Kline: I think they could use a hub-and-spoke model. They have these stores, and you've been in a Whole Foods, they're not small. They also already cater to an Amazon-like customer base. So it's reasonable to think, if they're going to add what they call the Amazon Go store, which are these little convenience stores, that having these distribution centers, these larger locations, can help not only serve Amazon customers but also these smaller stores. So I think this is a smart step to jump-start their pipeline and buy a company that is making money that jives really well with their customer base and gives them a foothold and lets them experiment. They can try out new technology much faster, they can really be in the space, instead of having to reinvent the space.
Shen: Yeah. The deal is expected to close in the second half of this year. Whole Foods actually reported its latest quarterly results, and it might be its last quarter of results as a public company. This was about a month ago when it released its earnings. Signs of improvement in that report, but overall, comparable sales were still negative, profitability is still getting squeezed. That's been the story for quite a few years now, and why the stock was down about 50% from previous highs. The net margin, for example, for the last 12 months, is down to 2.4%, which is much closer to what is seen by the company's peer group, whereas in the past that net margin was at 4% or higher, kind of the premium that Whole Foods was able to command and enjoy. But in terms of changes we might see -- let's say it's this time next year, and the Whole Foods acquisition is closed, they're well into the process of integrating the stores -- what are some things that you think you might see, as a customer in stores?
Kline: Well, you're not going to see it, but Whole Foods is going to lower its costs just by having the added buying power of Amazon. I think you'll see a slight shift in merchandise. Amazon has an enormous database, they use this to staff their regional warehouses to know what you want in each market. So if they realize that the customers at a Whole Foods in Seattle are buying a lot of, I don't know, iPhone chargers, well, they're going to stock iPhone chargers in that store, even if they didn't previously. So they're going to be able to use data to refine what they sell, and that's going to be noticeable. I think you're also going to see integration with Amazon ordering and delivery. It might not be like Wal-Mart, it might not be full returns and pickups, but you'll see Amazon lockers or some other ability, especially in city locations where there's a lot of Whole Foods, where if you don't live in a doorman building it's hard to get an Amazon delivery. And I think you're going to see Whole Foods fill some of that gap.
Shen: Yeah, I can definitely imagine, as this integration happens, making use, as well, of all the information on customers that Whole Foods will be able to offer, and at the store locations themselves. And then, the brand power too, I think, despite some of the decline the company has seen in terms of its share price and the business overall. Whole Foods still has that strong reputation and following among its loyal customers.
Kline: Yeah, and I think Amazon can cut into some of the "whole paycheck" argument. If they start bringing in some of the Amazon Basics products, some more house lines, and really work to not have some of the really dumb overpriced things that get people mad at Whole Foods, I think they could smooth some of that out and loan some of the Amazon sheen to Whole Foods while taking some of the Whole Foods upscale and giving it to Amazon. So it really is a nice marriage.
Shen: Yeah. Last point I'll make on this is, with those 500 or so Whole Foods locations to work with, probably enough for Bezos and his team to experiment going forward. But there's still the potential with some of these other pilot stores that they have, in terms of the bookstores and convenience stores that you mentioned, the automated stores where there's no checkout lines, those are still things that could come up further down the line. I just think --
Kline: I think you're seeing the bookstores already. There's a handful of them out there. There's another group of malls that have Amazon kiosks, interestingly enough, where Microsoft kiosks used to be before full-on Microsoft stores went in those malls. So I don't think they're going to roll out in a thousand malls, because I don't think you know which malls are going to exist in a few years from now, but you are going to see a lot more Amazon bookstores, and I think you're going to see convenience stores located in markets where Whole Foods is maybe a once a month drive instead of a once a week stop, and they're going to use the two to support each other.
Shen: OK. So we have a couple minutes to close out on one last example. I won't roll out a specific sound bite in this case, Dan, but any Fools who've heard us cover restaurants in the past, and some trends, one of those is delivery. They've probably heard that you're pretty pessimistic on delivery, at least as a major growth lever for companies beyond the established businesses like a Domino's. Specifically, you've mentioned how McDonald's, in a push for growth and innovation, was testing with delivery itself. And I agree with you, in general, that their fries and burgers are just not as good after sitting around for 20 or 30 minutes in a delivery car. But management, it appears, has been pretty happy with the results they're seeing so far.
Kline: This is one of those areas where I'm wrong, and I'd make the same argument again. It's like Domino's, I keep expecting that at some point people are going to realize this pizza isn't very good, and while it might be slightly harder to get, there's pizza down the street anywhere -- almost anywhere, maybe not Chicago, but almost anywhere -- that's better than Domino's. And with McDonald's, they're going on the Domino's model, they're saying, "Look, we don't care how well a Big Mac travels, we don't care if chicken McNuggets are inedible 60 seconds after they come out of the fryer. We're going to deliver them and make it super duper convenient." You'll probably just have to send an emoji of Grimace and they'll know what your order is and be able to bring it to you, and that's what Domino's has done. And in the locations where McDonald's has been testing delivery, it's worked stupendously well. Checks are bigger, people are ordering more often. And it's amazing to me, as someone who clearly likes to eat, that convenience would be more important to people than quality. And we're not even talking that much added convenience, it's only a little easier to get Domino's vs. your local pizza place.
Shen: Yeah, but I think that convenience, that consistent quality and experience, and also the familiarity, are the reason why these companies like this exist, if you're looking at it really big picture. The thing with the delivery that surprised me is the scale of the company's testing in the rollout for delivery so far is much bigger than I thought. It's now available at almost 8,000 restaurant locations in nearly 50 countries. What you mentioned about the bigger checks, I think management said that check sizes for restaurants that do offer delivery are seeing them higher by 1.5 to 2 times, a pretty substantial boost, the kind of thing that I'm sure investors are hoping to see. All day breakfast provided a huge boost a year or two ago, and now they need some of these more consistent innovations, with the premium burgers, for example, and some drink offerings that they're making, to keep growth coming to be a consistent thing. But with the digital efforts also, like mobile order and pay, overall, comparable sales for the U.S. for McDonald's were up about 4% last quarter. So there are plenty of other fast food and fast-casual chains right now that are posting negative comps, and McDonald's was seeing red itself just a couple years ago. But with all that in mind, are you still bearish on potential stuff like this?
Kline: Well, I'm not, because history has shown out with Domino's that being the first mover with the best technology, once you have the McDonald's app and your order preferences are stored -- I'm the same way with the Starbucks app. Even though I could go to Capital One, which has a Peet's Cafe where I pay half price because I'm a member, a lot of times I go to Starbucks, they're about three storefronts apart from each other, because I can order in my app, not have to talk to a human being, not have to get a card out. I actually pay more money to go to Starbucks. Both have comparable Wi-Fi, everything else is pretty much equal. The added convenience of Starbucks is worth paying more. Even if Pete's and Capital One were to launch another app that's similar, I'm not sure I want another app in my phone. For a while, I had the Dunkin' Donuts app in my phone, but it didn't have a credit card and it wasn't that easy. So once you get it, McDonald's gets that real estate from you, it's going to be very hard for even a better burger chain to fight their way in. And the one thing McDonald's is doing really well is they're doubling down on technology and convenience and making it super easy. So while I think it's ridiculous -- I think getting takeout from McDonald's is preposterous, you have to eat it there. But this is clearly going to work, because people don't care. They'll eat soggy fries and a lousy burger as long as it's easy to get.
Shen: Alright. I say we give it another six months, maybe a year, and I'm sure we'll have another chance to check in to see how some of these various efforts, including delivery, but also some of their technology with the kiosks and the mobile order and pay, which, the company has also seen strong results with, see how those are driving things in that next year. Dan, thanks again for joining us and taking some hits with me today.
Kline: Thanks for having me.
Shen: Thanks Fools for tuning in. The rest of the Industry Focus crew will share their "We said what?" moments this week, and we'll make sure that we have some good takeaways for you and instances where sometimes we make our missteps, but we're all learning together. 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 during the program. Fool on!
John Mackey, CEO of Whole Foods Market, is a member of The Motley Fool's board of directors. Teresa Kersten is an employee of LinkedIn and is a member of The Motley Fool's board of directors. LinkedIn is owned by Microsoft. Daniel B. Kline owns shares of Microsoft. Vincent Shen has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Amazon and Starbucks. The Motley Fool owns shares of Whole Foods Market. The Motley Fool has a disclosure policy.