Tales of Unexpected Losses: AXON, TREX, WRBY

0:04We have tales of unexpected losses from last week's earnings. You're listening to Motley Fool Money.

0:20Welcome, Fools. I'm your host, Tim Byers. And with me are longtime Fools, Jason Aul and Emily Flippen, another podcast host. Friends, how are we today? Are you both fully caffeinated and enjoying the possibility of a reopening of the federal government? I mean, enjoying is one way to put it, but we're not going to really talk about it here because it's still so early in the story. It's a thing that's going on. It is a thing that is going on. We hope the market is up. There is hope, if you haven't followed it, there is hope for the ending of the government shutdown. Lots of things that political pundits will tell you about.

0:58We're going to tell you about some stocks. And let's start with Axon Enterprise, Emily. We're looking at three earnings reports that kind of surprised and disappointed. Axon was one of them. What we want to do is break down what the street didn't like, what we think, and whether we think now is the time to buy, sell, or hold. So give me your take here, Emily. So what did the street not like about the Axon report? What did you think of it? Well, the most obvious thing is their return to operating losses for the first time in nearly four years. I actually think that's largely what led to this mentality of like, shoot first, ask questions later, because the headline numbers came in.

1:37And you can call it Wall Street, but I would also add algorithmic traders, all of these different pundits that are coming in and trying to evaluate this quarter. They see that operating loss and they see guidance that came in weaker than expected. And it was, oh my gosh, the growth story for Axon is over. I don't know what to make of this. But the reality is that a lot of this was expected. Some of the losses were driven by tariffs, which obviously weighed on margins. But in my opinion, this was actually a really strong quarter. And I know that sounds contradictory or counterintuitive, but the reason they're driven to operating losses is because they're investing so heavily into their different segments that are growing exponentially.

2:14I mean, this was their, I think, seventh consecutive quarter of 30 % plus revenue growth. So yeah, expenses have gone up, but they're investing in future growth. And that's what I love to see. Yeah. I mean, it's an interesting one. The thing that I thought was super interesting here, Emily, is the effective tax rate was, I don't think I've seen this before, 113.9 % is what AlphaSense reported for us here. So, I mean, I guess the nice thing about that is this is a very profitable, very well-scaled business that just keeps scaling. But we need to talk about another one that this is one of my favorite businesses, but the market decided that they were not so happy with Trex.

3:01What happened? I've followed Trex for about 15 years now. And this is not the first time that we've seen this with Trex. Now, I'll say this. This is the first time we've seen the stock fall 75 % from the previous high in the past 15 years. But going back since 2010, Tim, I've seen the stock fall 30%, like 10 times and 40 % or more, about half of those. This is a very seasonal cyclical business. And the funny thing is, kind of like we just talked about with Axon, the numbers really weren't bad for the quarter. It's all about, what are you going to do for me? That's the story. We saw a pretty solid 20-plus percent revenue growth.

3:47Margin was actually better. Profit margin dollars were better. There were some positive things there. But when you start saying things like, you know what? Our customers, which are distributors, they're saying they're going to start pulling down, they're going to decline their inventory a little bit. Oh, by the way, our margins are actually going to start. Our gross margin percents was squeezed a little bit because of one of our fastest growing products. and that product is going to continue to probably grow faster than the rest of our business. That's going to hit our bottom line. Oh, also, you know, that big new factory that we're opening.

4:20Well, expenses related to that, because it's really not contributing revenue right now, but expenses related to that, they're going to hit us even more on the bottom line next year. And like in the anti Steve jobs, one more thing that one more thing is, Oh, by the way, we're maybe a little concerned that we've seen so much consolidation in our market. And now some of our competitors are now part of really big companies with really deep pockets. We're going to spend a lot more money on sales and marketing next year. And that's going to hit our margin too. And everybody knows the housing market is the macro is bad, right?

4:52So all of those things together. And this is the cheapest that I've seen this stock since, since I've covered it on a sale, on a price to sales basis. And since, I mean, you got to go back to like in the early two thousands to find a time on a price-to-earnings ratio basis, the stock was this cheap. Emily? I have to say, as much as I like Trex, and it's been an incredible rule breaker for so many years now, competition is stiff out there now. It used to be that Trex was the only composite on the market. If you weren't doing traditional wood, you would do Trex. But I can't help but think to myself, part of the lack of performance recently has to be because there are just so many alternatives.

5:33I mean, bamboo is cheap, accessible, and way more prevalent today than it was a decade ago. I think it's interesting. It's hard for me to know whether or not this is competitive issues, if it's channel issues, if it's macro issues. It feels like it could be any one of those three, Jason. Why not both? Can't it be both? I guess it could be both. I think it's all of these things. But I think what we often forget with a company like Trex, that it's a classic rule breaker that's no longer a rule breaker, it's become the rule maker, is the thing that is probably its biggest competitive strength is its cost advantages.

6:14If you look at its manufacturing, 95 % of its inputs are waste products, waste plastic and waste wood. If you look at TimberTech, which is its largest direct competitor, as they move up the product into their nicer product, only about 65 % to 70 % are those waste products, which means they're feeding a lot of virgin resin and other products in there, and it costs more. Cost advantages when you're a manufacturer in a cyclical industry really, really matter. And those are things that those costs they can pass along while still getting better margins to the competitors. Sometimes I think we forget that.

6:51Yeah, that's a great point. All right, Let's move on to Warby Parker, which was down significantly, primarily for two reasons. First, and I think this is the one that really left me feeling pretty cold, they missed their own revenue guidance. Management had guided for larger than 15 % revenue growth in Q3. They had to come out and say, well, we came in lower than planned. And they forecast Q4 revenue growth of only 11 % to 12 % revenue growth for that quarter. And that was apparently on macro weakness. They also saw average selling prices come under pressure as people went for the lower-priced glasses, lower-priced contacts, lower-priced glasses.

7:36This, by the way, is also a company that has been under serious pressure due to the tariffs. and tariffs, particularly in its primary supply. Their primary supply chain is out of Vietnam, and Vietnam has been absolutely crushed by tariffs. That has really hurt Warby Parker to a large degree. We really did see it in this quarter. Now, having said that, this is still the brand leader. I have my Warby Parker classes. I got them just about a year ago. I love them. I think they're great. And I'm not the only one here. Average customers grew 9.3%. There are now 2.7 million. These stores, and again, the four-wall EBITDA margins on a Warby Parker store are absolutely outrageous.

8:22They are over 30%. They are close to 35%. And even in this quarter where things didn't go quite right, overall adjusted EBITDA was up close to 50 % to about$25.7 million. That is significant. This is still a highly efficient business, even though the macro factors are really crushing it a bit. Both of you have much better vision than I do. I'm going to guess you do not have Warby Parker glasses. I know video imagery shows really well for podcasts, but I'm holding up on the screen right now, two different pairs of glasses that I have to wear depending on the situation. So I do not. And the funny thing about it is, uh, Jeff Santoro, who's a close friend of mine, a colleague of ours loves Warby Parker because he's used it because he has kids, teenage boys, one of whom needs glasses.

9:14And he knows that the glasses are just something that's going to get lost. Right. And he, that experience has been mind bogglingly good for, for his family and other people that I've talked to in a similar situation. So I think there's a there there, but I think at the end of the day, the more they move into physical locations, the harder this business is going to get right. Because it's expensive. This, this cyclicality and the reality, because this is the kind of thing that this isn't like traditional healthcare where it's fine through recessionary periods. People will wait another year to get glasses if the finances are tight.

9:47So I do think those things are pressure pressuring the business. But at the same time, I think because they are a bit of a low-cost leader already, that's part of their business model, the near-term headwind in the long run could drive more people to Warby Parker that when times are good, they're spending more money on the nicer stuff. Yeah. We'll see. I'm going to start us on our buy-sell-hold here because I just did Warby Parker. I'm a buy. I've been buying this stock for a while now. I would like to be buying more, even though I tend to agree. There are some short-term pressures here, but I like this management team.

10:25I think they're heavily invested. I think they have a significant brand advantage. And even though stores are expensive, they have proven to be very, very good at capital allocation with those stores. So I'm a buy here. Let's move on to Trex. Jason, buy, sell, or hold. Where are you? Yeah, I'm absolutely a buy on Trex right now. I think it's so misunderstood. And the opportunity is still incredible as we go through this big wealth transfer from boomers and their parents down to younger generations that are prioritizing things like outdoor living spaces, things that are easier to work on and think about the environmental impact.

11:02I think Trex is built. It's a block and tackling business at its core. We always forget that. That's really what makes it so good. It's a better manufacturer than anybody else. I'm absolutely a buy on tracks right now. All right, Emily, Axon, buy, sell, or hold. What do you got? Well, let's round it out. I'm also a buy on Axon. And similarly to Jason, I think this business can't be misunderstood. And it's easy to look at the pullback from earnings and say, oh, it's fallen. Of course, it's a buy. The reality is Axon is still very expensive. Let's be very clear about that. Even after the pullback in earnings, this is an expensive company.

11:34But I think that this is the tax that you pay when you own what is basically a quasi-monopoly that has been growing at a breakneck speed for decades with no signs that that growth is expected to slow down. So I think the runway here is just too long to ignore. Fair enough. All right. Up next, we've got another game of faker or breaker. You're listening to Motley Fool Money. In January of 1915, Ernest Shackleton's ship, Endurance, became encased in the ice in the Weddell Sea. Through determination, grit, and savvy, Shackleton would lead his men through a brutal winter, then over hundreds of miles of Antarctic ice, followed by 800 miles across some of the roughest waters in the world.

12:13It is one of the most extraordinary and inspirational journeys in the history of exploration. Find this story and many others at the Explorers Podcast, available wherever you get your podcasts or at explorerspodcast.com. All right, fools, it's another game of Faker or Breaker. As a reminder, this is the game where we ask our analysts here, we ask the panel whether or not these companies are either breakers that can deliver sustainable growth over really long periods of time. They have the attributes, the six traits of a rule breaker or most of them, or they are the kinds of companies that are showing incredible growth over a short period of time, but are destined to flame out because the traits just aren't there.

12:57And we're going to go three of them, and we're going to go around the horn. And I'm going to start us off on Archer Aviation, ticker ACHR. For those who do not know what this company is, it is an eVTOL. This is an electric vertical takeoff and landing. Think of really fancy, but kind of awesome looking helicopters that they call midnight, but they're not quite helicopters, they're planes. But they have a significant partnership with United Airlines. So, faker or breaker, I think this one is a breaker in the making. Emily, what do you say? Faker or breaker? Well, a partnership with United, oh my gosh, that has to make it a breaker.

13:40No, I actually, my least favorite airline out of all the airlines available. No, this is, in my mind, this is a faker for now. And I don't want to downplay the technical milestones that they have achieved. And there is certainly an opportunity here if you expand out far enough. But I think that their timeline for FAA certification in the next few years is hilariously too aggressive. I think the concept of scaling is even challenging without regulatory hurdles. It's pre-revenue, highly capex intensive. It's basically just a science project. For me right now, this is a faker. All right, Jason, what do you got?

14:15Yeah, I don't think any of the companies in this space are going to prove to be rule breakers. I think there's no real differentiation. I think you have to go through too much regulatory hurdles to be successful. United, Emily, I'll say this, It's actually been the best run airline in the U.S. for the past five years. It doesn't feel like it, but it's actually they've done a pretty good job. But, yeah, I don't I don't see that space at all as being one with with any rule breakers coming out of it. All right. Let's move on to probably my favorite name in this list. Hippo Holdings, ticker HIPO. This is an insure tech company.

14:47and they have, this looks like mostly, multi-line, casualty, homeowners-related insurance. Jason, what do you got for me here? Where are you at on InsureTech and Hippo? I think there's a there there. This is a profitable company. I think that's an important thing to remember. A lot of times when you take a word and then you add tech to the end of it, that's a good way to like put a, like a, like a marketing wrapper around a financial business that you just haven't figured out how to make profitable. So this is a profitable business and they have some things that they are doing that are working.

15:26Uh, but honestly, I think it's probably going to be more of a traditional business than like an actual rule breaker. I don't, I don't think they're going to change things in any fundamental way or disrupt markets. All right. So Faker, Emily, I saw the head shake. I saw the frown. I'm guessing you think Faker. I actually, I take issue with Jason calling this company a profitable company. I mean, on a non-adjusted basis, on a gap basis, yes, but that's just because they had a couple of non-cash benefits in the quarter. Now, they have produced operating income, to Jason's point, for the last two quarters, which is positive, but that's after so many quarters of operating losses here.

16:08It's actually, in my opinion, regardless of how they're doing in terms of the operating income, the question is, what space are they operating in? Can they be a breaker in InsurTech? In my opinion, what defines whether or not somebody is going to be a breaker in something like InsurTech is, can you save me money? I went and I was like, okay, let me quote my home here with hippo and just curious what they give back to me. Every single option, more expensive than what I'm already paying. So until they're able to reduce my costs, it's a faker in my mind. Okay. Fair enough. Let me say this just for, for clarification, I was looking at their combined ratio, which if I'm looking at a company that writes insurance combined ratio is really important.

16:46They just got to a hundred percent. So it's like, okay, there's something working there. And emphasis on just got though. Yeah. After years of pretty good. That's the key. Yes. Fair enough. All right. Last one, Champion Homes, ticker SKY. This is not quite tiny homes, but definitely manufactured homes. Think of mobile homes here. Emily, how bullish are you on tiny homes, manufactured homes? It's not a big part of the overall home market in the United States. It's a single digit percentage right now, at least for Champion Homes, but I do think this could be a breaker in the making. They're a leader in manufactured and module homes.

17:25We've underbuilt housing in the United States for decades. So obviously, despite the fact that there's a cyclicality here in the macro backdrop is so challenging, I still think that this is a type of opportunity that could be a leader in its space. And to me, that's indicative of a breaker. It's never going to be a rule breaker until the financing issue gets resolved. You can go and get a 30 year or 15 year fixed rate mortgage on a house, a regular house, But you cannot do that. You cannot do that on mobile homes. And until manufactured housing gets allowed to be included in the same kind of financing, then it's going to stay a tiny portion of the market.

18:02It's the math that doesn't work around paying for the property. That's fair. Yeah. That's a really interesting point. All right. So to round it up, our panel says, mostly Faker, although I'm the outlier on Archer Aviation, ticker ACHR. Faker on Hippo Holdings, HIPO. But some curiosity, some hope for Champion Homes, ticker SKY. Coming up next, we preview tomorrow's show with tomorrow's host, Emily Flippen. You're listening to Motley Fool money. All right. Welcome back to Motley Fool Money. Uh, Emily, you've got tomorrow's show. You've got, um, wow. How about that? Jason's back. Jason's back tomorrow.

18:47Also my supernova odyssey teammate, Keith Spites on the show tomorrow. What have you got for us on tomorrow's show? Yeah. Thanks Tim. Obviously Jason and I are going to be back. We're going to be joined by Keith Spites and we're going to be discussing what I'm calling quantum, but in space. So we're going to be looking at earnings from CoreWeave while also looking at earnings from some of these space companies, including Rocket Lab and AST Space Mobile. Should be a really interesting episode. I mean, I don't think you can say it that way. If you're going to say it like that, it's like quantum in space.

19:21Okay. Well, stay tuned for tomorrow's show. As always, people on the program may have interest in the stocks they talk about. At The Motley Fool, they have formal recommendations for or against. So don't buy or sell stocks based solely on what we hear. All personal finance content follows Motley Fool editorial standards and is not approved by advertisers. Advertisements are sponsored content and provided for information purposes only. To see our full advertising exposure, please check our show notes. Thank you to my guests today, Jason Hall and Emily Flippen, our engineer, Stan Boyd, and our producer, Anand Chukaloo.

20:00I'm your host, Tim Byers. See you again tomorrow, fools. Thank you for tuning in to Motley Fool Money. Go on.