Long-Term Investing Ideas in a Volatile Market
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7investing founder Simon Erickson interviews Silicon Valley tech analyst Beth Kindig about cloud computing, product-market-fit, the importance of developers, and Roku.
June 11, 2020 – By Simon Erickson
These days, every company is a technology company.
From clothing retailers to car dealers to pizza, every company in every industry has now embraced the internet and mobile as a way to expand their business and reach new customers.
But there’s a new wave of technology rolling in, with cloud computing and artificial intelligence offering ways to improve their digital presence and optimize their business operations. This will likely provide an opportunity for the companies who are fully-committed to their digital presence to gain share on their competitors who are not.
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As investors, how can we benefit from these new waves of innovation? Are there tech companies who are enabling these market changes or companies who adopt them — who could turn out to be incredible long-term investments?
I posed those questions to veteran Silicon Valley tech analyst Beth Kindig. Beth has her pulse on the tech world’s most innovative companies, and is well-aware of what investors should watch to benefit from the changes taking shape in multiple markets.
In an exclusive interview with 7investing, Beth describes her “micro trends” investment philosophy and why she’s especially interested in cloud computing. She also explains how investors should think about valuation for tech companies, and why the actions of developers are so important.
Beth also describes the importance of Product-Market Fit, what attracts her so much to Roku, and why Connectivity is something that investors should be paying attention to.
0:00 – Introduction: Beth’s “micro trend” investing philosophy
3:00 – Valuation for cloud computing companies
7:56 – Net Retention Rate metrics and Slack
9:28 – Product-Market Fit and Investing Internationally
11:07 – Venture Capital and the Current IPO Market
16:17 – The Importance of Developers: “Bottoms Up” Investing
18:50 – Roku and the Shift to Digital Advertising
24:36 – Trends Investors Should be Watching: Connectivity and Chipmakers
We hope you enjoy our 7investing podcast! Please send your ideas and questions to firstname.lastname@example.org or submit them here!
Publicly-traded companies mentioned in this interview include Zoom Video Communications, Slack, Okta, DocuSign, Pinterest, Facebook, Uber, Softbank, Alphabet, Roku, Amazon, Netflix, and The Trade Desk. 7investing’s advisors and/or guests may have positions in the companies that are mentioned.
This interview was originally recorded on June 2, 2020 and was first published on June 9, 2020.
[00:00:00] Simon Erickson: Hi everyone! 7investing founder Simon Erickson here. And I am extremely pleased and excited to welcome my guest this morning. Beth Kindig is a tech analyst. In my opinion, she’s actually one of the best tech analysts, who really has her pulse on some of the most innovative companies in the entire world.
She’s joining me from from her office out in San Francisco. Beth, thanks very much for the time with 7investing this morning!
Beth Kindig: Yeah, thank you for having me. It’s been good to get to know you guys on Twitter. You’ve got great coverage of tech stocks. So it’s good to chat.
Simon Erickson: Well, I’d love to dig into some of that coverage and talk about some of the individual companies. Because you’ve made some phenomenal calls over the years.
But let’s start at the 10,000 foot level. Beth, can you kick us off by just talking more broadly about the types of companies and the segments of the market that you’re most interested in covering?
Beth Kindig: Yeah. I guess my style would probably be micro trends. I try to find areas where I think there’s going to be massive growth. And then I look for the best companies. So I don’t really think about cloud software as “cloud software.” I think when I went into the year, you know, there was a cloud-selloff back in Q3, and I remember reading there’s a “value rotation”, I believe is what they called it.
And I was like, wait a minute. Cloud is, as you know, really safe. It’s very insulated. It’s insulated from trade wars. It actually saves companies money. So it’s going to be somewhat recession proof.
And then, when we looked at that, I broke it down even more. And I looked at productivity tools. Because within the category of cloud software, specifically productivity tools were going to be the the higher growth tools, according to broader macro analysis. And, you know, where companies would be spending their money.
These trends then, you look for what are some of the better productivity tools out there? And Zoom came up. Slack came up. Those kinds of companies.
Because what they’re doing, I think it’s really hard to wrap your head around it right now. We see it as just a videoconferencing tool or maybe just a messaging tool. But what they’re actually doing is they’re increasing productivity and driving down costs. And that’s huge value to enterprises. And now it’s leaking into the consumer markets, which is great too.
But I think it’s more of a micro trend philosophy, investment thesis that I have. Which is “where is the growth going to be.” And not just broadly, say, cloud software. But looking even deeper. And then go into what companies are going to meet that demand.
[00:03:00] Simon Erickson: And so, on that note, like you mentioned, the enterprise has embraced cloud computing. We’ve seen a lot of these companies growing at 50% or higher subscription revenue growth. The growth is definitely there.
The other side of it, though, is a lot of people are concerned or hesitant about investing in the cloud because it’s continually called “overvalued.” Right?
People say “oh, it’s price to sales at 20 times. Or a price to earnings, if they even have any earnings. Or whatever your valuation metric of choice might be. A lot of people are just saying, “no, the cloud’s not for me, it’s too expensive.”
How do you think about that, Beth? How do you balance the growth and the incredible adoption that you’re seeing of cloud computing in the enterprise and now the consumer market, like you mentioned? How do you balance that against the valuations that are out there right now?
Beth Kindig: Yeah, I think there’s going to be some companies that don’t come out of 2020 as strong as they went in. And I believe where we’re at right now is there’s some obvious companies benefiting from this work from home trend or whatever it is. Like Okta has pretty strong standing right now as well. I did not invest in DocuSign. I wish I was. That’s the one that got away from me. You know, they’ve got a great moat. They’re going to be connecting industries that have been hard to push into — you know, cloud software such as legal and real estate. Those two industries have been really hard to to convert. And I think that DocuSign is probably going to convert those very well now.
So you have these really obvious companies. And then the question is, there’s a whole bunch of companies that aren’t so obvious. I think that’s where the valuations are going to come into question. I’m willing to pay a lot more for a company that’s going to be driving much more revenue. And I mean this, in many ways, people are making bets and speculation on how long work from home or how long shelter in place is going to last. When will we have a vaccine? Or, you know, something that helps the treatment of the coronavirus. So all that speculation, and I think it’s obvious there’s some companies that are going to do very well. You’re probably going to have to overpay for those at this point. And then there’s a few other companies that – a large amount of companies – actually that are questionable right now.
I think that one thing I have tried to write about is, on a very simplistic term, you could look at net retention rate. Which is new subscribers, churn, and downgrades.
But it really goes deeper than that. Are companies going to want to renew annually? So then you can look at what cloud software companies are on annual contracts. Those are probably going to be negotiated down to monthly. And then you have “are usage based software companies going to do better than per employee pay models?” And you can look at a few different ways. I’m really looking forward to getting more information from the earnings we have coming up.
But if unemployment starts to hit the tech industry. Or one of my thesis from the articles that I’ve been writing is that startups are going out of business. There’s quite a few have folded there. I can’t remember how many there are. But we’re seeing it a lot now in San Francisco and Silicon Valley. Where startups are not able to weather not only April, but May and ongoing. So those two are closely intertwined.
So it’s just, do you look at usage? Do you look at per employee? Those kinds of things. I was beginning to say that I think it’s probably per employee that is going to be hit harder. Because a company with a couple hundred people, even if they do layoffs, their usage may still remain steady. I actually heard a podcast from a venture capitalist who believed the opposite. That it was going to be paid by employee that did better in this environment.
But these are good questions to ask. Right? I think the market hasn’t asked these questions. And that’s probably more important than any conclusion being right or wrong. Like, are you asking these questions? Because they’re very important questions.
I know that in the 2008 2009 recession, software grew about 10%. It declined 20%, but it still grew. Cloud software did; 10% revenue growth. So that’s a far cry from where we’re at right now on most of those companies. Like you said, quite a few are above 50% revenue growth. So hopefully things go back to normal very soon. If so, this conversation will be dated at that time. But if it continues, then these are the kinds of questions that it’s important to balance both outcomes right now.
[00:07:56] Simon Erickson: Sure. And your reports are very thorough, Beth. They’re very good. Multiple pages. It seems like one of the industry’s favorite metrics right now is “dollar based net expansion rate” or “dollar based net retention rate”, depending on the company. Which kind of looks at the year-over-year comparison of how much money, how much revenue, they’re bringing in from existing customers.
Do you think that’s a metric that is useful for sizing up SaaS companies? Or in your valuations, are there other things that you look at instead?
Beth Kindig: I do. Because it really kind of drills down into how effective a company is.
So, Slack is a great example. Their net retention rate was like 143%. So that’s pretty good.
Simon Erickson: Really high. Yep
Beth Kindig: But at the same time, Slack is more of a freemium model. There’s a lot of free users. So their financials may not look very good right now. Once you have a product market fit, which they do, they have great product market fit. Which you can tell because people are on the platform for 90 minutes a day. They’re engaged with it 90 minutes a day, which exceeds Facebook.
And then, you have this net retention rate, which is helpful. But their financials, if you go with more traditional financial analysis, it’s not profitable. It’s going to have growing pains. So it helps you to keep the conviction when you look at the key metrics like that, in my opinion.
[00:09:28] Simon Erickson: Ok, and Beth, you mentioned “product market fit.” Which is something I’ve seen you speak about quite a bit over the years.
Does that translate internationally? Does a product that launches and really fits the United States market really well, does that translate to other countries?
Beth Kindig: It’s a great question. It’s something that, I dig around on as well. Like Pinterest. Pinterest is an interesting company on many levels. I liked the company a lot. I think it has a lot of potential. As many people are aware, even when they filed their S-1 filing, I kind of came out and said “be careful, because international is not monetizing nearly as well as domestic.” And so it’s something to make sure that leap does happen. And that what they’re doing here can translate.
I think for every company, it’s really different. Sometimes the product is built and done. This is an ad company, so it’s a little bit different. Right? Like how you monetize, it’s always been geo-driven; geographically driven. Facebook is a great example of that. What they monetize in the United States is very different than what they monetize globally. But you also don’t want it so low that it doesn’t cover the cost of goods. Like, building this product and bringing it globally. Which I think at the time that Pinterest went public, it wasn’t actually able to cover its costs because it was monetizing so low globally. But I think they’re catching up a lot right now. And it’s a product that, I like Pinterest a lot.
[00:11:07] Simon Erickson: Something else, Beth, I know that your background at one point in your career, you were an analyst and a scout for a venture capital group. You were you were out looking at privately traded companies. You know, a lot of those have a lot in common with the publicly traded equities that we generally look at today.
But, just like you mentioned, a lot of startups are having problems out there. You know, we’ve gotten used to and accustomed to seeing the tech unicorns that are worth a billion dollars or more in their valuation. Private companies. We’ve seen the “uber unicorns.” Literally. Uber was $50 billion before it went public. But now it seems like with COVID and everything else going on in the world, a lot of those startups are having some issues.
I know that you’re looking more at publicly traded companies. But I would like to ask you, while I have you here, do you have thoughts about the IPO market or private company valuations right now? Considering everything going on in the world.
Beth Kindig: Let’s see here. You know, I look at it company by company. And obviously, venture firms are waiting a lot longer to bring a company public. So it’s almost like an experiment, really, what we’ve been through. Which is, can you grow these massive market caps and these massive companies and then put them on the public markets and have this very large exit? That experiment has not gone very well. And a lot of times, it’s really better, in my opinion, that a company go public before it’s too big.
Because what venture capitalists are trying to achieve is very different than what public market investors are trying to achieve. Or what I’m trying to achieve.
When I think about a buy and hold, you know, I’d love to hold my companies up to 10 years on the market. Maybe a minimum of five on the public markets.
It’s very much like a plane. Like getting a plane into the air. The VCs are the takeoff. And so they do these…you know…I think the first year that a startup is founded, they grow about 180% revenue growth.
So venture capitalists are growing top line, top line, top line. And they’ve done it with various methods.
So advertising, growth hacking became very popular over the last 10 years. And this is part of the experiment as well. Which is more of a mathematical equation around acquiring customers. Which can work if you’re like a HubSpot. If you’re a marketing company like that. But can it work for a company like Uber and Lyft?
And my prediction, back when they went public, was no. That’s not going to work. Because you needed product market fit. Which is that the cost of the ride covers the cost that the company’s incurring. And instead, they were subsidizing those rides in order to drive growth. Which is a kind of a growth hacking method; which is “let me reduce the cost of the rides so that we’ll acquire a lot more users.”
Basically, I think that ideally a company has product market fit before they even come to the public markets. If they don’t, they find it very quickly. And although I’m not somebody who obsesses over the bottom line. In fact, probably quite the opposite, I’m more obsessive about the product. I think that you’ve got to be careful of companies getting dumped on the market that haven’t achieved that product market fit.
Which would be seen. And if there’s accelerating losses, if quarter over quarter, year over year, the losses just never seem to find their equilibrium. Basically, this relationship between top line/bottom line that I’m usually looking for. And in some cases the bottom line, the losses just keep growing and growing and growing. And there’s no way to contain them.
Simon Erickson: And that’s kind of been the case for a lot of venture capital, right? Or even the Vision Fund. Masayoshi Son. Softbank’s Vision Fund has been “growth at any cost.” You know, forget the valuation, let’s push the revenue as quickly as possible.
Sounds like what you’re saying, though, Beth, is unit economics and profitability kind of come back into into the limelight. Right?
Beth Kindig: Yeah, it does. And I think that growth hacking and trying to buy your audience is less desirable to me as a buy and hold public investor than a company that has true IP and owns the technology stack. Or has IP. Or has a moat that is truly sustainable. And they don’t have to buy the customer. The customer comes to them and is retained. Upgrades. Whatever that might be.
That’s more attractive to me as a buy and hold public investor. Because, until that occurs, it’s just a short term exit, in my mind.
[00:16:17] Simon Erickson: And one last question for you, while we’re talking about the markets. I know you have a lot of background working with developers, software developers. Do you feel that there are – and back to your comment about how it needs to be the right product market fit – do you think that there are certain segments of the market that are really just in need of a solution?
Whether it’s security, Internet of Things… I mean, are there certain areas of the market right now that you think are the best opportunities for startups and developers?
Beth Kindig: Well, I think developers are probably moving from mobile over to AI at this point. They have to go through schooling, training. There are only so many platforms and operating systems that they can learn. So anyways, it’s a wave. It’s like, you had the Internet. And then you had mobile. And now, the next 10 years is going to be defined by A.I. And that’s really, you know, it’s kind of a big deal, actually, to get in front of what’s going to happen on A.I.
So A.I. is going to be four to five times larger than mobile. And mobile brought us Apple. It brought us a lot of Google. Brought us Facebook. Native App.
So A.I. should have all of the world’s most valuable companies by a long shot, by the time we’re done with the next decade. And so anyways, I see developer developers kind of moving, migrating that way.
But I think it’s really important to bring up developers. Because, I sometimes wonder if the public markets and people who have straight finance backgrounds, if they understand how much the developers really drive the decisions.
I track the developer market and developer choices and what they’re doing very, very closely to make my investment decisions. Because they are the decision makers.
There’s also this term called “bottoms up.” Some of these cloud software companies, some of the most successful cloud software companies, were bottoms up. They’re evangelized by the employees at the company, rather than the C Suite. The CTO, the what not.
And so, I think that it’s really interesting because if you can watch those two groups, whether it’s developers or the employees at companies, and see what they’re adopting. It’s a great way to build an investment in a company.
[00:18:50] Simon Erickson: Great phrase. “Bottoms up.” I’ll keep that in mind for looking at what developers are interested in. And also keep that in mind for Friday Happy Hours. Also seems like a good phrase for the end of the week as well. [Beth laughs]
Let’s talk about some individual companies. One that you’ve had a lot of success with is Roku, Beth.
And, this is, kind of, the bigger trend is the shift to digital advertising. Where we’re watching TV and shows in different ways. It’s not just on linear television now. It’s on tablets and Internet connected devices. And that’s kind of shifting how advertisers are spending their budgets. What’s your overall take on Roku?
Beth Kindig: Yeah. I have had a long relationship with Roku. I started covering it around a little bit after its IPO. It was priced around $30 and went to $60. And I think I went back down to $30. And then it went back up, and then it goes back down, and it goes back up.
So I get a lot of questions about Roku. And it’s my largest holding, actually, from the early days. And although maybe today Zoom could potentially beat that, depending on what happens today.
But basically, Roku, it’s many things in my mind. But ultimately, it owns the technology stack. So you have the hardware and the operating system. And then you have the ad platform. And then you have the Roku Channel. I really like when I can invest in the entire technology stack.
A good example of this, and I’m not saying they’re on par by any means, but that’s why Apple did so well. Is that they owned the device operating system, and then they allowed other apps to come on. That’s the robust app market. But they had their own apps as well.
And it’s just a really nice, clean model. And people ask me a lot about the moat for Roku.
I think that people overestimate tech giants. You know, YouTube and Instagram and whatnot. They were all acquisitions. And those are some of the better, new markets that those tech giants went into. But with that said, Google has Android TV. And Amazon has Fire. Of those, Google could potentially be the bigger competitor.
But with that said, Roku has been developing this operating system for 15+ years. They are the best in the industry when it comes to over-the-top operating system. Over-the-top set top box.
They were around when Netflix was DVDs. And basically, with Roku, you’re getting the best operating system in the market. You’re getting a real strong ad platform. The ad platform growth has been really strong. 75%, more or less, in this last earnings report. The average revenue per user on Roku is $24. And that is incredible for how long the ad platform…I think the ad platform launched two to three years ago. It took Facebook maybe 10 years to get to that ARPU [average revenue per user]. And now they’re at around 40. Which is kind of the record right now. But that just shows you the relationship between supply and demand.
And then, the other reason, you have this trend of the cord cutters. They’re cutting the cord. They’re going from cable over to whatever service they choose. Whether it’s Roku or whatnot. And you have those customers who, the users, the people viewing the content. But you also have these Pay TV ad dollars that have been trying to merge data with the video impressions on television.
The completion rates on television are much better than mobile or desktop. So there will always be advertisers that don’t actually want to buy mobile inventory or desktop inventory. Or if they do, they don’t see it as optimal. Coca-Cola, Budweiser, Pizza Hut. They really love television ads. Because you’re arrested there. You have to watch the whole ad. And so basically, when you can take the completion rates of television and you can add in the data of connected TV, you have a really important migration of ad dollars.
And that’s where, back to when we first started speaking today, I talked about micro trends. You know, I followed the productivity tool micro trend. I’m following a connected TV micro trend. But I’m really following the migration of pay television ad budget like that. That is a big migration to follow, in whatever way you choose to do that. Some people are choosing with The Trade Desk. You know, that’s a solid choice, too. I prefer Roku, if I were to choose between the two of them. But they’re another company that is capturing the pay TV dollars.
So for me, it’s a little bit of everything. It’s the operating system. It’s the experience of the management, how long they’ve been working on this. It’s the pay TV ad dollars. It’s the trend of cord cutting. It goes on from there.
[00:24:36] Simon Erickson: It definitely seems like connected TV is a natural beneficiary from pay TV and the migration, like you mentioned, of those ad dollars. We’re seeing connected TV ad dollars growing 40% a year right now. This could be an $11 billion market by next year.
So it’s definitely very real out there. And it seems like Roku’s in a great position to capitalize on it.
Beth, maybe one last question for you. Our audience at 7investing is individual investors. We’re very interested in all of these trends.
Is there anything that you think that we should really be paying attention to right now? There’s a lot of stuff going on the market. We talked about several of those trends already. But anything else that you really think should be on our radar, as we see the markets changing and innovating?
Beth Kindig: Yeah, that’s a good question. I’m working on a connectivity thesis right now. I actually began it before the coronavirus and the shelter in place began. And gotten kind of lucky there.
But I saw a bigger trend coming, which you might call “5G.” But you might look at what’s going on with Huawei and you might look at now, these ongoing work from home and the need for connecting and connectivity.
I had talked about Inseego on the premium side. Which is hotspots and last mile connectivity, basically. So we have kind of maxed out what we can do with infrastructure and connectivity and the speeds that we have today. We’ve kind of maxed that out. And so underneath that, we need to build or supply hotspots.
And the fixed wireless access market is going to grow 98% CAGR over the next couple of years. So that’s kind of a micro trend right there. That we need to onboard more and more people onto these networks. And how are we going to do that?
And then, you’re seeing some of the fallout with the United States and Huawei. Which is really important to track, because Huawei’s always had really strong infrastructure products. Who’s going to make up for that? And when you are having all these people work from home, how do you provide for that connectivity?
And, you know, you have Wi-Fi 6 coming out. But you also have 5G. And 5G can’t really penetrate walls. So that’s another issue.
And so then, you know, people love to talk about autonomous vehicles and A.I. and Internet of Things and machine to machine connections and industrial robotics. Which are all super important. But how are you going to run those technologies if you don’t have a strong layer? You know, the infrastructure layer and the connectivity and the last mile connectivity.
So that’s some things that I had already kind of been looking into the future on. And they got somewhat accelerated with coronavirus and shelter in place.
But now, we’re seeing a lot of talk from the United States government that they want more domestic players there.
So I think all that’s really interesting, because I am a big believer that A.I. is going to run not only the tech industry, but it’s going to run even the public markets. Meaning like the majority of the best returns and gains of the next 10 years will be somehow AI-related.
And anyway, to start that 10 year path, it’s like, how are you going to provide for all that connectivity?
So that’s something that I had been looking at. And I think that’s a really important area to look at this year.
Simon Erickson: Great point. AI is going to change a lot of things and a lot of the chipmakers and the infrastructure providers and everyone else is going to be keeping up with that ten year trend, just like you mentioned.
Beth Kindig: I kind of want to ask you, “What do you guys think about this next year? Or where are you turning your attention?”
Simon Erickson: I mean, for me, there’s a zillion trends to look at. But the one that I think that hits home to what you just mentioned is I think there’s going to be a need for hardware that can keep up.
Beth Kindig: Yeah. Right.
Simon Erickson: We’re going to have to see new architectures for the “picks and shovels” providers. We’ve gotten used to doing things on CPUs. And then, we kind of transitioned when we went to the cloud to GPUs.
But even that, I think you’re going to have to see some custom architectures to keep up with these demands of the software. Because what we have right now, at least from the research I’ve done, it isn’t going to cut it five years, 10 years out. Especially not 10 years out. We have to get more creative with that.
Beth Kindig: Yes. Agree.
Simon Erickson: So huge opportunity if you’re a large chipmaker that’s dominated this market with existing technologies. But Moore’s Law is kicking in. And even the newest parallelization in GPUs and the things we’ve got used with that.
I could talk about this for a long time, Beth. I’ll leave it at that. I think there’s a lot of opportunity for hardware.
I really appreciate the time. Beth Kindig, again, one of the best tech analysts out there in San Francisco. Really looking at some innovative things.
Her website is research.beth.technology. Beth, thank you very much for the time with 7investing this morning.
Beth Kindig: Thank you so much, Simon. Thank you!
Simon Erickson: And thank you for tuning in. We are here to empower you to invest in your future. We are 7investing!
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