On a long enough timeframe, everything's an ecommerce business, stablecoins and AI

13 August 2023 | Issue #5 - Mentions $ZM, $PYPL, $AMZN, Bytedance, $META, $COST, $WMT, $BABA, $NVDA, $9984

Aug 13, 2023

Welcome to the fifth edition of Tech takes from the cheap seats. This will be my public journal, where I aim to write weekly on tech and consumer news and trends that I thought were interesting.

Through an investing lens, I break down and analyze these topics, providing valuable insights in a concise format.

Let’s dig in.

Covid relics and the new normal

Zoom, the company who seemingly stood to benefit the most from the covid pandemic and work from home revolution, announced this week that employees who live within 50 miles of an office are required to work in-person at least two days a week.

“We believe that a structured hybrid approach—meaning employees who live near an office need to be on-site two days a week to interact with their teams—is most effective for Zoom,” a spokesperson for the company said in a statement.
Just last year, Zoom suggested that the majority of its employees would work a hybrid schedule, with just 2% working in person full-time. “Workers genuinely want choice, and they are choosing to continue to work at home,” Zoom chief financial officer Kelly Steckelberg told MarketWatch **at the time.
Zoom is the latest tech company to cite the need for in-person collaboration and therefore asking for some amount of office time. Executives at Meta, Salesforce, and Google, in discussing the benefits of remote work versus in-person work, have argued that working in an office builds trust, encourages the creation of new ideas, and helps train new hires.

I can see why this would make headlines. The video conferencing company, that had almost its entire market of demand pulled forward to 2020-2021 due to the shift to WFH, is calling its employees back to the office - implying some sort of irony. It’s not. Zoom is just like any other company, and judging from the way other big companies have responded in the last couple years, a structured hybrid environment of on-site and WFH has been determined as the most effective for employee productivity. I thought this thread from Ross Mayfield, Zoom Apps’ Head of Product provided some good context on the company’s thinking. TLDR: Zoom is still an important tool within enterprises and having a policy that’s in-line with its customers puts it in a better position to solve their problems.

PayPal issues a stablecoin

Fully-backed, regulated stablecoins have the potential to transform payments in web3 and digitally native environments. To address that emerging potential, PayPal (NASDAQ: PYPL) today announced the launch of a U.S. dollar-denominated stablecoin, PayPal USD (PYUSD).
PayPal USD is designed to contribute to the opportunity stablecoins offer for payments and is 100% backed by U.S. dollar deposits, short-term U.S Treasuries and similar cash equivalents. PayPal USD is redeemable 1:1 for U.S. dollars and is issued by Paxos Trust Company.
Starting today and rolling out in the coming weeks, eligible U.S. PayPal customers who purchase PayPal USD will be able to:
Transfer PayPal USD between PayPal and compatible external wallets
Send person-to-person payments using PYUSD
Fund purchases with PayPal USD by selecting it at checkout
Convert any of PayPal's supported cryptocurrencies to and from PayPal USD

My first impression upon seeing this news was that this management team is losing the plot. Crypto seems to have passed its peak and the main use case for stablecoins currently revolves around cryptocurrency trading and Decentralized Finance (DeFi). PayPal has clearly lagged in executing this by over two years.

Upon deeper reflection I think I get why they still chose to launch it, albeit delayed: it’s a low cost way to hedge its bets. The company’s business model involves charging a transaction fee to merchants/consumers who use its platform to send/receive/accept payments. If web 3.0/DeFi does end up taking off there’s a risk that PayPal gets disintermediated. Instead of consumers using PayPal to pay for goods on the internet, they could be sending merchants or other consumers (in the case of P2P) Ether/other crypto for a lower fee. Although people aren’t using stablecoins currently for payments, PayPal’s existing wallet and brand may help it drive adoption of PYUSD. It’s allowing consumers to check-out with it at millions of online stores (among other crypto, though merchants still receive USD, so there’s no change on their end) and send/receive to friends without fees. As consumers convert fiat currency to PYUSD to use it, the company will earn interest fees on the US dollar deposits and treasuries backing it. Of course consumers will need an incentive to use it, and at the moment there isn’t really a compelling reason to do so unless you’re trading crypto or involved with DeFi. Tether (USDT), the world’s most popular and largest stablecoin is only used for liquidity to get in and out of crypto trades, so PayPal will need to come up with other ways to drive and incentivise adoption. It’s also interesting that within the same week, news came out that the chief strategy officer and head of the company’s crypto unit, Jonathan Auerbach is leaving PayPal next year. There wasn’t a reason given, but it might imply a change in the company’s strategic direction. Its core digital wallet business has lost share to Apple, Shop Pay and other buttons over the past few years so perhaps its focus is best placed elsewhere.

Ecommerce shake-up

There were a few interesting pieces on e-commerce that came out this week. This one from the Economist came out after Amazon’s results last week with a provocative headline: Has e-commerce peaked?

On August 3rd Amazon, the world’s largest online retailer, reported 11% year-on-year growth for the second quarter of the year, excluding its cloud-computing division. That was better than expected—and provoked a roughly 10% jump in the company’s share price. Yet it was a fraction of the 42% sales growth that Amazon reported for the same quarter in 2020, and slower than the giant’s pre-pandemic trend. The same day Wayfair, an online purveyor of furniture that surged amid covid-19, reported its ninth consecutive quarter of declining sales.
A slowing economy is only partly to blame for the reversal. After spiking in early 2020, the online share of retail spending in America has remained stagnant at around 15%, roughly what it would have been had the pre-pandemic trend continued uninterrupted (see chart). The story is much the same in Britain, France and Germany, according to figures from Euromonitor, a market-research firm.

As I noted in last week’s post, the two-year stack for the group of ecommerce companies accelerated, which gives the secular growth recovery further credence. IMO, it’s probably too early to be calling for the peak.

This article lifted the hood on the financials under ByteDance’s (the parent company of TikTok) business and priorities.

Last year, ByteDance’s revenue in China grew 25% year on year to $69 billion, according to three people with knowledge of the company’s detailed financial results. That compared with growth of 68% in 2021, 105% in 2020 and 150% in 2019, according to the people. ByteDance still managed to increase its total revenue 38% last year to $85 billion, because its overseas revenue—mainly from TikTok—more than doubled.
ByteDance’s overseas revenue, which comes mostly from TikTok but also includes other much smaller international businesses such as videogames and enterprise software, rose to $16 billion last year, from $6.5 billion in 2021 and just $1.2 billion in 2020, the people said.
ByteDance’s financial results highlight the underlying strength of its business. Last year, its operating profit jumped 80% to $18 billion, according to the people, likely reflecting the company’s efforts to keep costs under control as revenue soars. Net profit rose 67% to about $15 billion. The company’s profits have grown steadily since 2019, when it swung to a net profit of $3 billion from a net loss of $2 billion in 2018, the people said. ByteDance’s 2022 operating margin of 21% was not far behind Meta Platform’s 25% and Alphabet’s 26%.

It’s quite an impressive achievement from the company, and using the rule of 40 framework puts it at an admirable 59 - top tier at its scale. The article notes the company’s deceleration in its business in China is being offset by its overseas business, namely TikTok, but that that also seems to be plateauing in terms of US user growth. User growth for Douyin - the Chinese version of TikTok (with 730 million DAUs at the end of 2022), also slowed over the years, so the company added an ecommerce platform (set-up in 2020) in search for more revenue.

Consumers in China last year spent 1.41 trillion yuan ($195 billion) buying items from merchants on Douyin, up 76% from the previous year, The Information reported in January. ByteDance generates revenue from the e-commerce business by taking a cut of those transactions—usually around 3% to 5% of sales, according to employees and merchants.

For context, the country’s leading ecommerce platform Alibaba, had Gross Merchandise Value (GMV) of 8 trillion yuan in its March FY23 end. You can start to see why ByteDance are willing to push so aggressively in ecommerce in its overseas markets.

This quote from the Economist piece was also interesting.

TikTok harbours similar ambitions in the West. Last October it was reported to be readying its own fulfilment network in America. Rumours are swirling that it will soon begin purchasing products from China and selling them to consumers itself; an experiment is already under way in Britain. TikTok’s aspirations would be thwarted if the American government bans it outright on national-security grounds, which many politicians are calling for. In that event, Reels, a TikTok lookalike offered by Meta, a homespun tech giant, could perhaps take the place of the disruptor.

Though I don’t think Meta would launch IG Shops again (it’s recently closed it to focus more on ads) if a TikTok ban were to happen - courtesy of @BankBraavos on Twitter.

This piece by the WSJ on Amazon cutting some of its private label brands was also good.

Amazon.com is jettisoning dozens of its in-house brands as part of a significant reduction of its private-label operation as it works to fend off antitrust scrutiny and shore up profit.
The Seattle-based company in the past year has decided to eliminate 27 of its 30 clothing brands, such as Lark & Ro, Daily Ritual and Goodthreads, according to people familiar with the matter. Some of the brands remain on Amazon’s site for now as the company sells off remaining inventory, but when completed its house-label clothing division will have just three brands: Amazon Essentials, Amazon Collection and Amazon Aware.
Amazon also is dropping private-label furniture brands, phasing out Rivet and Stone & Beam once its stock of those items is gone, some of the people said.
Exact numbers for brands being cut in other parts of the business couldn’t be learned, but Amazon Basics, which sells a range of home goods and tech accessories, will remain a focus for the company.

Private label goods have been a reliable tool in the profitability arsenal utilized by retailers, with some estimates putting fully-loaded costs of a private label product (with feature and quality parity) at 40-50% less than big brand goods. In Amazon’s case though, the reward is seemingly limited for the extra scrutiny it’s gotten from regulators over its tactics (explained in the article). Private brands account for 1% of the company’s total retail sales. This compares to other leading retailers such as Costco at 33.5% or Walmart at 23.3%. It’s not clear whether the company is also counting its GMV from its third-party marketplace or not so it may not be an apples-to-apples comparison. The key takeaway is that the company isn’t giving up on private label, just narrowing its focus away from items that might raise extra scrutiny - like products that are a complete rip off of designer goods. Profitable goods make a difference to the bottom line when you’re operating on low single digit operating margins - even when they only make up 1% of sales.

More open source LLMs and GPU stockpiling

From CNBC

Alibaba said Thursday it is opening up its own artificial intelligence model to third-party developers, as the Chinese e-commerce giant aims to increase the use of its product and take a leading role in technology.
The move could pit Alibaba against U.S. tech giant Meta, which has made a similar move, and pose a potential challenge to OpenAI, the firm behind viral AI chatbot ChatGPT.
In April, Alibaba launched its large language model (LLM) called Tongyi Qianwen. A LLM is an artificial intelligence model trained on huge amounts of data. It is also the basis for generative AI applications, such as ChatGPT — which generate human-like responses to user prompts.

This will be an interesting case study down the line, because if it succeeds in being a leading LLM (globally), then it will be achieved whilst handicapped by technology. US lawmakers have imposed export restrictions on advanced AI chips to China, forcing Nvidia to modify its GPUs shipped there to have slower transfer rates to meet the export control rules. This has also led to stockpiling GPUs in China.

China’s internet giants are rushing to acquire high-performance Nvidia chips vital for building generative artificial intelligence systems, making orders worth $5bn in a buying frenzy fuelled by fears the US will impose new export controls.
Baidu, ByteDance, Tencent and Alibaba have made orders worth $1bn to acquire about 100,000 A800 processors from the US chipmaker to be delivered this year, according to multiple people familiar with the matter. The Chinese groups had also purchased a further $4bn worth of the graphics processing units to be delivered in 2024, two people close to Nvidia said.
The A800 is a weakened version of Nvidia’s cutting-edge A100 GPU for data centres. Due to export restrictions imposed by Washington last year in a bid to choke Beijing’s technological ambitions, Chinese tech companies are only able to buy A800s, which have slower data transfer rates than A100s.

Everyone wants a piece of Softbank’s Arm

SoftBank Group Corp's (9984.T) Arm is in talks with some of its biggest customers and end users about bringing on one or more anchor investors in the chip designer's initial public offering (IPO), two sources familiar with the matter said.
Arm is talking to at least ten companies, including Intel Corp (INTC.O), Alphabet Inc (GOOGL.O), Apple Inc.(AAPL.O), Microsoft Corp.(MSFT.O), TSMC (2330.TW), and Samsung Electronics Co Ltd.(005930.KS), about their potential participation in the IPO, one of the sources said.
Amazon.com (AMZN.O) is in talks about joining other technology companies as a cornerstone investor in SoftBank Group Corp's (9984.T) Arm Ltd ahead of its initial public offering (IPO), people familiar with the matter said on Tuesday.

Arm, a British semiconductor and software design company, is arguably one of the most important companies in the world right now. A couple of articles from Reuters are suggesting that all the heavy hitters in tech are interested in owning a piece of it, potentially as a hedge to have greater influence in its product direction, or at least to ensure it stays out of the hands of a single competitor. It’s crazy to remember that only a few years ago Nvidia was about to own the whole company. For all that’s said about regulators and their controversial approaches to governing big tech, that decision by the FTC (and other authorities) made years ago looks to be the right call.

That’s all for this week. If you’ve made it this far, thanks for reading. If you’ve enjoyed this newsletter, consider subscribing or sharing with a friend

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I welcome any thoughts or feedback, feel free to shoot me an email at portseacapital@gmail.com. None of this is investment advice, do your own due diligence.

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Tech takes from the cheap seats