What Companies Will Come out of This Crisis Stronger?
It’s a foregone conclusion that we are in a recession. Jobless claims hit an all-time record this week, the stock market has had its fastest bear market on record, everything feels like it is going to shit.
Things look terrible right now. But, hopefully, as with most economic crises, there will eventually be a light at the end of the tunnel. If not, well, we got bigger fish to fry.
The financial news has been talking non-stop about stocks doing well during this crisis. Turn on CNBC and you’ll likely see someone spouting off about Zoom Video (the go-to video conferencing app), Teladoc (the most popular telemedicine company), or the many other tickers who have benefitted from this quarantine.
But I’m not worried about what stocks are doing well now. I want to know, to the best of my abilities, what stocks will be doing well in the future. All the business gains are priced into Zoom Video and other tickers who got a boost from this pandemic.
But what about companies that, because they either have a cash buffer or certain business characteristics, will come out even stronger once the dust settles? Those are the companies I want to be looking at as potential additions to my portfolio.
Okay, first up…
Mastercard and Visa
The two payment giants are going to come out of this crisis with even stronger moats. One because of the strength of their balance sheets, and two, because of the increased adoption of digital payments
Nobody is supposed to be using physical cash because it is a prime virus spreader. That means everyone, even the most resistant holdouts, will be using digital payment methods for the next few months. Gross Payment Volume will be down, sure, but once the economy fully recovers Visa and Mastercard should see an even higher use case of their already popular networks.
Here is an overview of Visa’s balance sheet and cash flow (market cap of $322 billion):
$4.75 billion in working capital
$12.2 billion in cash and equivalents
$3.8 billion in quarterly cash flow
Only $180 million in quarterly D&A, less than $3 billion in property and equipment
$13.7 billion in long-term debt
Here is an overview of Mastercard’s balance sheet and cash flow (market cap of $267 billion):
$5 billion in working capital
$9 billion in cash and equivalents
$8 billion in annual cash flow
Only $500 million in annual D&A and $1.8 billion in property and equipment
$8.5 billion in long-term debt
Both of these companies are extremely asset-light and have high margins. That means in a downturn they can throttle costs while still having a huge cash and profitability cushion. Oh, and if you’re worried about inflation, these are probably two of the biggest hedges out there. Higher nominal GPV’s with the same take rate equals more profits for Visa and Mastercard.
Big Tech, but Especially Amazon
We all know why Amazon is getting a boost right now. People are staying inside and want to order as many essentials as they can online. I wouldn’t be surprised if they come out of this recession having gained 2-3% or more of market share. It will be that beneficial to their business.
Now, would I invest in them because of this? Probably not. I just don’t understand someone my age (under 25) owning trillion-dollar enterprises.
However, I do think big tech, regardless of their business model, will come out of this crisis even stronger. Why? Their cash hoards:
Amazon: $54.9 billion
Microsoft: $134 billion
Apple: $207 billion
Google: $119.7 billion
Facebook: 54.8 billion
Every single one of these companies’ cash/equivalents balance is larger than most of the market caps in the S&P 500. No matter how bad things get, they are well prepared to weather any downturn and come out stronger on the other side.
Imagine thinking Netflix will be hurt by this quarantine. Couldn’t be me.
In actuality, there is a real fear that, if the credit markets dry up, Netflix will be unable to raise more debt to pay for their content liabilities. I don’t see that being the case though. With usage/subscribers likely hitting record numbers this quarter (they are so popular right now they are being forced to throttle video quality) the recurring nature of their revenue is as prominent as ever.
Sure, they are burning a ton of cash, and already have $15 billion in debt, but so will Disney this year, and they just raised $6 billion in bonds. Why shouldn’t Netflix be able to do the same? Interest rates are also back to zero, which is a good thing for anyone needing to raise money. There’s no reason they can’t raise $2 billion in 4% notes due in 2030 like Disney did.
On a negative note, you could argue that Netflix will lose any pricing elasticity they have during a recession. However, and correct me if I’m wrong, I believe usage (total hours watched) is an indicator of growth in long-term pricing power. If that has made a big leap the last month, Netflix is showing its subscribers how valuable it is to them, which will make it easier to eventually raise prices.
I would never invest in Netflix at these levels and think it is a very efficiently priced stock, but see no reason to short it either.
A dating app stock doing well when nobody is allowed to see each other? How could that be?
So, for starters, worldwide downloads for dating apps have slowed. However, Tinder downloads in the United States (Match Group’s number one app and market) are up this week, according to third-party data. This is because even though people can’t physically meet at a bar or coffee shop, they still want to find dates/matches however they can. And the only way they can do that is virtually on these dating apps like Tinder.
I actually think the longer this shelter-in-place goes, the better it is for Match Group. Sure users won’t be able to get to their end goal (hook-up/dating/marriage) during a lockdown, but downloads should skyrocket as people get lonelier and lonelier and are sick of talking to coworkers on Zoom.
This one is simple. Everyone has been hounding the old guys out in Omaha for trailing the market and having their $100 billion+ cash hoard go to waste. Turns out, like usual, the Buffett and Munger doubters were wrong (well, maybe partly, I don’t know). Berkshire is in a prime situation here to buyout businesses, load up on stocks, and buyback their own shares during a time when quality businesses are trading at a 30% discount.
Cash is king in a downturn, and they have the largest deployable stockpile out there (if you don’t count the federal reserve).
This is the smallest business on the list, with a market cap of only $1.3 billion. Stitch Fix is a styling subscription service that curates clothing options for men, women, and children and sends “Fixes” to their residences at whatever frequency they choose. Members have the option of trying on clothes and then either keeping it or sending it back to Stitch Fix by mail.
As of February 1st, 2020, they had 3.5 million members growing 17% YoY. Sure, during a recession we might see some people pause their memberships to save money, but I think that will be counteracted by a surge in demand because of the nationwide closure of malls. Stitch Fix is one of the only ways you can shop at the moment, and I don’t see any reason why people won’t take advantage of it.
There’s also the fact that Stitch Fix users stray towards the upper-middle-class and wealthy women demographic, most of whom will not be penny-pinching even in an economic slowdown.
And their valuation is absolutely dirt cheap. Here are some of the numbers:
EV/sales of 0.66
gross margins of 45%
Sales growth of 22%
User growth of 17%
Positive free cash flow
I think Stitch Fix will come out of this crisis stronger than ever, but it is trading like it is going to lose 25% of its business. That is why I started a position in the company and plan to add shares if it keeps trading at these levels.
Square and Shopify
These are the two largest small-business platforms born out of the ashes of the great financial crisis. Square mainly focuses on physical retail transactions (although they have online and consumer products as well), while Shopify is for individuals and SMB’s who want to sell things on their own website.
A retail shutdown will undoubtedly hurt Square’s bottom line, with Shopify likely not getting hurt as much unless one of their customers goes completely bankrupt. Both will not be helped by a recession, but with the way they are acting, I believe they will come out the other side of this as valuable as ever to their partners.
Let’s take Square as an example. The company has announced an awesome feature where you can buy gift cards from local Square sellers in need. All you have to do is put in what city you live in and a list of businesses pop up that you can give to. They also have made it super easy for restaurants to transition to curbside/delivery.
This helpfulness will hurt the bottom-line in the short-run. But in the long-term, this will help retain businesses on the Square platform because of how generous they are being in a time of need. Shopify is doing similar things that you can check out here.
So, even though Square’s stock has taken a hit, I still am holding my shares and plan to add over time because they have proven they treat their customers right.
I do love Shopify’s business, but don’t own shares because of the valuation. A 30x trailing sales multiple on less than 50% revenue growth is just too rich for my tastes.
Overall, I think sharp market sell-offs like this give investors in individual stocks an opportunity to find quality businesses at a discount. All that research can finally pay off if you act rationally and with a plan.
Disclosure: The author is not a financial advisor, and may have an interest in the companies talked about.