SEMrush: What to Know About This Overlooked IPO Stock

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This video was recorded on Jan. 12, 2022.

Chinese ride-hailing company Didi Global (DIDI -5.15%) gets ready to IPO in Hong Kong. Motley Fool analyst Bill Mann analyzes that story, and others, and discusses the technological excellence of Domino's Pizza's (DPZ -1.68%) business and the potential for its stock.

The team also takes a closer look at SEMrush Holdings (SEMR -1.46%), a search company that went public in March 2021.

Chris Hill: Today on Motley Fool Money, we've got an in-depth look at a company that's a pure-play on search, and no, it's not Google. That and more coming up right now. I'm Chris Hill, joined by Motley Fool Senior Analyst, Bill Mann. Thanks for being here.

Bill Mann: Hey, Chris. How are you doing, man? You staying warm?

Chris Hill: Staying warm. We've also got some news from the ridesharing industry and the restaurant industry. But we're going to start today with the big macro. The consumer price index rose seven percent in December compared to 12 months prior and all the headlines Bill, fastest since June of 1982. However, I have to point out, this was expected. A lot of people came up with this number, and when you look at the month over month growth, October, 0.9 percent, November, 0.8 percent, December 0.5. It seems to be slowing. I feel like if you're one of the transitory bulls, you've got a decent case to be made here. When you look at what's happening in the market today, the market is of shrugging this off.

Bill Mann: As well they should, at least. My favorite headline so far comes from Bloomberg. It's by someone named Alexandra Tanzi, and the headline is Cars, Bacon, Men's Clothes: The Main Drivers of 2021 US Inflation. Chris, the bacon trade is back.

Chris Hill: Thank God.

Bill Mann: It bears remembering. You would think that at any point over the last decade, if you were to say at some point, there's going to be an inflation print of seven percent that people really, in some ways they wouldn't have believed you. It really bears remembering that the fiscal policy that has been in place literally since the financial crisis 2009 has been all about bringing about inflation and preventing deflation, which is the far scarier of the two for public policy and economic policy Fools. Seven percent inflation. The market is not really reacting. If you were to annualize that over the last decade, we still are essentially inflationless. The real point I want to make in terms of what you were talking about with it being transitory, the highest price increases were gasoline at 49 percent, used cars at 37 percent, gas, utilities, at 24 percent. Then we get down to meat, fish, and eggs, the bacon trade at 12 percent. Those are commodity-driven, supply and demand driven components of the economy. I would say there's a fairly high chance that next year at this time that those elements are somewhere close to zero inflation.

Chris Hill: One of the things we talk about a lot at The Motley Fool on the podcasts in the video livestream, certainly in the articles, the tension for us as individual investors, the head and the gut.

Bill Mann: Yeah.

Chris Hill: Because when you explain it like that, when you pull back, when you take emotion out of the equation, it makes sense. At a gut level, this is one of those things that just doesn't feel. Nobody likes to see higher prices.

Bill Mann: No.

Chris Hill: As consumers and at gut level that's a scary headline. Fastest inflation growth in 40 years.

Bill Mann: It just be instead of a lot of the fiscal policy, and it bears remembering that the fiscal policy tools available to us are like the gorilla in the old Samsonite ad. They've got a thing that they could throw as hard as they can, and that's about it. That's their move. It is, there's nothing precise about it. They have to either flood the economy with additional money or pull that money away, so when they have flooded the economy with money which is definitely what has happened since 2020. It really has happened for a lot longer than that. This is a logical outcome and yes, it does hurt to think that your dollar last year buys half as much bacon as this year. But this is what policy folks want to have happen. Because now that it allows them to bring rates more into an historically healthy place. We're going to see rates go up over the next year. Don't know how fast, but this is what allows them to do it.

Chris Hill: On behalf of the small percentage of the audience who like me understood the reference to gorilla in the Samsonite ad, thank you for making it, and for those who didn't get it, I'll post that on the Motley Fool Money Twitter feed. We move on. Less than six months after it went public on the New York Stock Exchange, DiDi Global was delisted. The largest ridesharing business in China appears however to have found a new home. There are reports today that DiDi is in talks to IPO on the Hong Kong Exchange later this year. Before we get to the underlying business and the stock of DiDi Global, let's start with the technical here. What should investors expect and how does this work?

Bill Mann: What's happening here specifically? Well, really with all Chinese companies, but with DiDi in particular, they had such a bad process coming out of the gate. When they went public in the United States, they thought they had permission from the Chinese government, which is the thing that you would like to have, but they didn't. The Chinese government has really grievously harmed DiDi's business. At the same time, the US and China are in an argument about disclosures for Chinese companies. Chinese companies across the board need to find a different home, and the most likely home is Hong Kong. You've got a company that the Americans are angry at and the Chinese are angry at, their next step has to be to get onto the Hong Kong market. Let's face it. DiDi is not really wanted here on the markets, but they have to go somewhere. Hong Kong is hopefully that place where they will go that will give investors continued liquidity.

Chris Hill: If I can buy shares on the Hong Kong Exchange, should I be looking at DiDi Global? I will point out that. You mentioned the challenges for lack of a better word.

Bill Mann: I was being nice.

Chris Hill: I'm also trying to be nice.

Bill Mann: It was a disaster.

Chris Hill: The challenges that they have with the central government in China. You look at the stock it really took a beating in its short life on the New York Stock Exchange. But if I can buy shares, it is the largest of its kind in its industry in China.

Bill Mann: Yes. It has lost something on the order of seven billion dollars. At current run rates, it's going to run out of cash. I don't think that really most any Chinese company is particularly buyable given the current environment in China toward Capitol but DD is at the top of the list for me for unbuyable securities. They essentially have had their apps taken off of the App Stores throughout China. They are not allowed to make any public statements. This company has made the wrong people angry. It would be a pure punt to buy DD. Even if you want to get exposure to the Chinese market, I don't think DD is the best way to do it.

Chris Hill: What is the best way to do it?

Bill Mann: Well, not that.

Chris Hill: No, that much is clear.

Bill Mann: For me, I think that the most buyable company in China is jd.com. Remains to be the one way that I would suggest that people get exposure to China.

Chris Hill: Let's close with some data from Domino's Pizza. This comes from the ICR Conference, which is an investment conference earlier this week. It features both public companies and private companies. One of the data points that Domino's shared is that they now get more than 75 percent of their sales through digital channels. This cut the attention of David Henkes. If you're a longtime listener to the show, you've heard David Henkes as a guest a number of times. He's a senior principal at Technomic. Bill knows him because you two were college roommates. [...]. Somehow, he survived that experience to become one of the top industry analysts in the food and beverage space.

Bill Mann: I served as David's warning for what not to do apparently. No, he's fabulously smart, very insightful. The 75 percent that come from digital sales is higher than the amount of revenues that Domino's gets from delivery. Their delivery numbers are only 57 percent.

Chris Hill: Here's what Henkes had to say about this. You and I were talking to him this morning, we think this is worth expanding on. He wrote on Twitter, such an important part of their strategy and one that they've executed pretty flawlessly, other pizza players working to catch up but this is a huge competitive advantage for them.

Bill Mann: It absolutely, yes.

Chris Hill: A couple of fixtures, first, the line that Ron Gross and you and others have said for years about Domino's, it's not a pizza company, it's a technology company, is borne out when you look at stats like this. We should take a moment and just applaud them because it really is one of those things that is breathtaking now as we look back on what they have built. In 2010, when Patrick Doyle was the CEO, and pretty quickly on the job came out and said, "Our pizza is not very good. We've talked to a lot of people and our pizza isn't very good and we're working to fix it.

Bill Mann: They did ad campaign on that.

Chris Hill: They did a whole ad campaign on that.

Bill Mann: It's brilliant.

Chris Hill: The way that he and his team help transform the business, 10-12 years ago, if you were a shareholder of this company, you never could have dreamed it would turn out this good.

Bill Mann: No. You know who really changed my insights onto Domino's Pizza was Selim Bassoul, who's a longtime friend of the Fool. The CEO of Middleby Corporation. The Middleby made among other things for kitchens pizza ovens both industrial and in smaller scale pizza ovens. Selim said the restaurant companies that you wanted to focus on is again, this is not glamorous, are the ones who are the best at turning their kitchens into factories, into rapid production, many times making the same move over and over situations, and Domino's is at the very top of that list and it is 100 percent technology that has gotten them there. They absolutely positively deserve. The company's since 2014, its shares have outperformed alphabets. The Google has not performed as well is Domino's Pizza in the public markets and it's justified.

Chris Hill: I'm still scratching my head over the fact that this is, let's just round up and call it, an $18 billion company, which puts us solidly less than half the size of Chipotle. That's not a knock on Chipotle but when you look at Domino's Pizza, the underlying business, as David points out, the huge competitive advantage that they have right now that the others are trying to catch up, and good luck to them, where do you put this stock right now or is this something that wasn't going to suggest that it looks cheap. Because unlike plenty of stocks over the last six months, this thing has actually performed well. It's up about 25 percent over the past 12 months. Is it an expensive stock or if you believe in the future of pizza, as I would argue, all right thinking people do, this is one with room to run.

Bill Mann: Big Pizza is not to be trifled with. Is that what you're saying?

Chris Hill: I was in love with Domino's as Big Pizza because to take the other side of it for a second, there are plenty of people who live in areas where there is amazing local pizza and they think to themselves, by the way, you and I live in one of those areas. I don't remember the last time I bought Domino's Pizza.

Bill Mann: There was a children's birthday attached to it for sure.

Chris Hill: Yes. Other than that though.

Bill Mann: Domino's at this point is 1/6 the size of Starbucks. That to me is staggering. About half the size by market cap. By market cap is about half the size of Chipotle. I know these companies rather well but I bet you a lot of people would say if you were to ask them what's the largest of the three was? They may actually pick Domino's. Domino's isn't going to be a fast grower but I really do think that it is a very interesting proxy for Starbucks. Because Starbucks has grown at a 20 percent clip, which is great growth but they've done it for 20 years plus. I see Domino's as having the potential to do that same exact thing.

Chris Hill: That's a pretty delicious basket of stocks, we just put together, coffee, burritos, and pizza?

Bill Mann: I think we got to go.

Chris Hill: Bill Mann, thanks for being here.

Bill Mann: Thanks, Chris.

Chris Hill: Last year, a record number of companies came public, and when you consider how many of them are trading below the price they closed at on their opening day it's a reminder that being a public company is more challenging than being a private one. But some defied expectations and are looking good heading into their second year of being public. For a closer look at one such company, they're still unnoticed.

Brian Stoffel: Today, we are zooming in on a 2021 IPO that we probably should have been paying attention to earlier. SEMrush joining me is Brian Feroldi. Brian, if you work in digital marketing, you have heard the name SEMrush. If you don't, there's a hint as to what they do right there in the name.

Brian Feroldi: Yeah, the SEM in SEMrush is an acronym that I was unfamiliar with, but the SEM stands for search engine marketing. Essentially, what SEMrush does is it's a software company that helps other companies to identify and reach their customers online. SEMrush has a suite of more than 50 tools that enables companies to improve their website, improve their social media pages, and that helps them efficiently reach and target their audience.

Brian Stoffel: Folks that are listening might say, "Okay, digital marketing, software provider feel like I've heard the story a lot. Looking at the business, it's a $2.5 billion software company. It seems niche. Why should I care about this?" I think the reason I wanted to bring this one to our listeners is understanding this business and really the role that they're playing for anyone that has an online presence is key to understanding what's happening right now when it comes to online content and how businesses are acquiring customers in the digital age.

Brian Feroldi: If you're a brand, it's never been more important to develop a direct relationship with your target audience. More and more people are going online to make decisions about who they're going to buy from, so if you're a company that doesn't have a strong online presence, you are just going to get missed out and that trend is just going to continue overtime. Now SEMrush points out that there are basically three primary ways today that brands go online to find and interact with their customers. The first and the easiest way is just through paid advertising. Now that is a plus because you can drive immediate traffic to your website, to your aft wherever you want to. However, it's costly to do that in the short-term. A medium-term strategy is to focus on social media and use things like press releases to build up a base of fans overtime. 

That's a great strategy, but it can take a little while to get that going. Then the long term is to really master content creation and search engine optimization, so that way you drive consistent, organic traffic to your properties over long periods of time with very little effort. However, that's something that really pays off in the long term. SEMrush really helps companies to focus on all three of those to make sure they drive immediate traffic to their sites as well as build up a base for the long term and doing so they a provide more than 50 tools that can help with things like SEO, press releases, content marketing, search engine marketing, and more. While there are plenty of competitors in this space, SEMrush is one of the leading providers of a full suite of services that can handle almost anything that a company can need in the company uses a freemium model to get customers on board. They currently have more than 400,000 customers that use their free tools, and they've converted more than 79,000 of them into paying customers.

Brian Stoffel: To route all of what you just said right there Brian into the end user experience and what people see online, if you've ever looked for information on a topic, say you're exploring new flooring or something like that for your kitchen, and you hit a page that is run by a flooring company with a breakdown of all of the different flooring options in the pros and cons of it. That looks a lot more informational than salesy. That's a company that's focusing very deliberately on their organic acquisition strategy. They're trying to create content that ranks on Google that will be part of the funnel for them in acquiring customers. Like you said, it's more of a long-term strategy. You really have to lay those building blocks in there so that you can rank good content continues to win out over the long term periods. But it's a very effective strategy because the acquisition costs are so low once you build that content.

Brian Feroldi: That's correct. It really helps you to build trust and loyalty among your consumers. Companies that are not focused on this strategy today are really going to miss out in the years to come.

Brian Stoffel: Looking over at the financials for SEMrush, this is a company that has all of the markings of a software as a service provider and accompany that is aggressively investing in its own growth. Brian, perhaps not surprising because we are still in a land-grab period when it comes to digital real estate.

Brian Feroldi: Yeah, that's correct. This company's financial results are what you would expect to see from a software as a service company, they are essentially really impressive. As of the most recent quarter, this company's top-line was growing at a 53 percent annualized rate. In the most recent quarter, they did about 50 million,49 million dollars in sales. Margins here are very strong. The gross margin is 77 percent, a very good number. Now the company is purposely putting as much capital as they can into their sales and marketing to drive continued growth, so more than half of the company's gross profit goes into sales and marketing. But even with that very high level of spending, the company is producing a net loss of, during the quarter, of just $615,000. That's essentially a break-even. If you look on an adjusted basis, the company is profitable. That's exactly what the company should be doing at this stage of its growth phase.

Brian Stoffel: Yeah, we talk about it often. There's a time where it's OK for a company to not be banking a lot of money on the bottom line, if they're in a customer acquisition phase where there are a lot of people playing in this space, the opportunity is big and really becoming the default or the industry leader is so much more important than showing short-term profits. I'm sure some people are hearing us talk a little bit about this business and saying, "I've seen so many SaaS companies come public over the last couple of years." Even as we're talking about this business this probably sounds a little bit like HubSpot to some people. The core financials for these businesses always looking credible. The key tests for me with something like this Brian, is how do they address the needs of their customers, and how does that show up in the numbers that we see from the business? What do you see there?

Brian Feroldi: Well, the most important number that me and you look for us a dollar-based net revenue retention rate. That's a metric that shows same-customer spending from period-to-period, so it adds in upselling and subtracts out churn and then down selling. Any number over 100 percent is what you want to see. For SEMrush in the most recent quarter, this figure was 124 percent. That's a very strong number. That is a little bit elevated compared to this company's historic comps. One reason for that is because management said they had an easier year-over-year comparison due to what they saw last year. That number clearly indicates that SEMrush is doing a great job at attracting customers, retaining them, and up-selling them over time. That's exactly what I want to see as investors.

Brian Stoffel: Yeah. We are customers of this product. I reached out to some of the SEOs at the Fool just to see how does this product work within your day-to-day? Is it something that's really important? Whereas it stack up in the industry? Basically, if you're an SEO and this is the software that your company has chosen to use, their selling and interacting with almost every day to monitor the success of your organic traffic strategies. I think the best way to sum up where they fit into this landscape Brian, is they are not necessarily the top dog in every respect, but they offer something pretty compelling across-the-board for people that are focused in all of these zones?

Brian Feroldi: Yeah. If you want to help with just search engine optimization or just with press releases, there are lots of different choices that you can go with. One thing that makes SEMrush standard apart from those is that they have more than 50 tools and they are among the leader in dozens of different search engine marketing category. This isn't the only solution that's out there, but it's one of the most biggest and well-known.

Brian Stoffel: Of course it can't be all roses, we have to talk about risks when we're looking at businesses as well. Some of the risks for business like this are going to be familiar to folks. To high-growth business, the valuation is going to be a little bit beyond what we might see for more established companies. But if you've been paying attention to online properties over the last year and a half or so, especially ad-based businesses, there are some risks that are specific to this niche that you got to pay attention to.

Brian Feroldi: Yeah, for sure. Just one broad risk that goes really among all the players in the industry is the gradual disappearance of cookies. Some marketing companies such as SEMrush do rely on cookies to help them track and follow their users and create insights from them. I think it's just a matter of time before cookies become a complete thing of the past and that might impact SEMrush's ability service its customers. On the flip side, that's not a company-specific risks, that's really for the industrywide. There's actually an argument to be made that if cookies disappear, it could perhaps enhanced SEMrush's competitive advantage in the industry, but no doubt cookies are something to watch.

Brian Stoffel: In addition to all the strengths we talked about, I wanted to get this one in front of listeners because yes, it's accompany that is signposting where the world is going and really how businesses work right now, but also, it's a relatively small business that is serving a specific market really well, and we've seen a lot of SaaS companies do that and put up incredible returns for shareholders.

Brian Feroldi: Yeah. This company is very much in my sweet spot as an investor. It's a leader in the category that is primed for growth. The financials are very strong. It is a founder-led and it clearly has compelling economics working for it. When you combine that with the fact that the company's market cap is currently about $2.5 billion. It doesn't take a lot of imagination for me to believe that this company could be much bigger in the years ahead if it can continue to execute.

Brian Stoffel: I think it's particularly compelling, Brian, because if you're interested in investing in mega trends, like online search, like online ads a lot of business that you are going to be looking at are the likes of Alphabet and Google or Facebook, and those are huge companies already. It's a little hard to find smaller companies that have tremendous upside in this space.

Brian Feroldi: Yeah, when your market cap is measured in the trillions of dollars, it takes a lot of imagination to believe that those companies will be five baggers plus in the years ahead, when you compare that to SEMrush's two-and-a-half billion dollar market cap. It doesn't seem outrageous to me that this company has the ability to 5X or more.

Brian Stoffel: If you're interested in doing more homework yourself and checking out the company that ticker is SEMR Brian. Thanks for joining.

Brian Feroldi: Thanks for having me though.

Chris Hill: That's all for today, but coming up tomorrow will discuss the mega trends in real estate that investors should know about. As always, people on the program may have interest in the stocks they talk about and The Motley Fool may have formal recommendations for or against, so don't buy yourself stocks based solely on what you hear. I'm Chris Hill, thanks for listening. We'll see you tomorrow.