January 2021 Portfolio Review

Total Return: +5.0% YTD (+6.1% vs S&P)

Well, that was…interesting.

Entering the year, history said the S&P 500 had a 62% chance of a positive month due to the January Effect. And as luck would have it, history was right on track heading into this past week. But history had obviously never heard of GameStop, Reddit or wallstreetbets. So, I guess history can’t really be blamed for the wacky week that put the S&P in the red to start 2021.

Ironically, as the broader market literally descended into chaos, I tried my best to take advantage of a very quiet stretch for my portfolio. I normally find January the perfect time to step back and take stock of my portfolio (pun intended!). The lull between earnings lets me review the year, spot check where needed, and reconfirm my current holdings still make the most sense. Being honest, we should always be paying at least some attention when managing our own investments. However, the natural reset of the calendar always seems to make it a bit easier to find the right mindset this time of year.

From a company news standpoint, I had a fairly light month (mostly because I don’t own GameStop 😉). With no earnings reports and only a smattering of press releases, most of my firms seemed to take the chance to consolidate and reassess as well. A few even made use of the pause to raise capital in preparation for (hopefully) their next leg up. Things will pick up fairly quickly in February as half of my holdings report. Here’s hoping next month headlines are more about my companies’ strong earnings and less about Robinhood and naked shorts.

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2021 Results:

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January Portfolio and Results:

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2021 Monthly Allocations:

Key:

• darker green: started during month

• lighter green: added during month

• yellow: trimmed during month

• blue: bought and sold during month

• red: position exits

• positions >10% in bold

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Past recaps:

December 2018

December 2019 (contains links to all 2019 monthly reports)

December 2020 (contains links to all 2020 monthly reports)

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Stock Comments:

I didn’t make many January tweaks. My nine December names all return along with a small starter spot in ZScaler, a company I’ve owned before. The one big change was adding close to 6% in new cash, which naturally lowered the allocations for all my other holdings. I bought a few shares here and there but not enough to significantly move the needle anywhere. With so many February earnings reports on tap, I’d rather wait for the updates before putting the bulk of the money into play. I always prefer being fully invested, so I’d expect my cash to be much lower next time around.

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CRWD – CrowdStrike took advantage of its recent surge to sell $750M in unsecured notes in January. The interesting thing here is the note is straight interest-only debt and not convertible into shares, which suggests (to me anyway) management feels the shares are currently more valuable than paying interest on the cash. The rate is 3% with a maturity date of February 15, 2029. If I’m reading the fine print correctly, management has the option to repurchase the notes on or after February 15, 2024. Adding $750M to the $1B CRWD already had on hand gives management quite a cushion for any opportunities which may develop. Given how quickly the cybersecurity space is evolving, this puts CrowdStrike in a very strong position. It appears all systems remain go for my top holding.

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DDOG – The big news here was Datadog branching further into security with the beta release of its new Runtime Security feature. Runtime Security detects infrastructure and workload threats in real time as part of Datadog’s broader observability platform. This new offering expands DDOG’s existing Security and Compliance tools to help developers catch security issues earlier in the production process. Datadog has been quite busy strengthening and enhancing its platform these last few months. February 11 earnings will be our first glimpse into just how many customers are putting all these new tools to use.

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DOCU – DocuSign bolstered its financial flexibility in a big way this month. First, it issued $500M in convertible notes payable in 2024. According to the release, part of the proceeds would go toward repurchasing a “significant majority” of existing notes due in 2023. The offering ended up raising $690M total after underwriters exercised options to purchase additional notes. The notes closed at 0% interest and a conversion price of $420.24 per share, representing a ~60% premium from DOCU’s price at the time of closing. In essence, lenders are giving DocuSign free money for the chance to grab shares 3 years from now at a significantly higher price. That tradeoff suggests lenders see significant upside in the business.

The very same day DocuSign initiated a $500M revolving credit facility. While this credit line will be “undrawn at closing,” it obviously gives DOCU considerable reserves if any capital needs or opportunities present themselves. In my opinion cheap credit is never bad, and these moves put well over $1B in cash and credit on the books after these moves. Let’s see what management plans to do with the money.

In secondary news, DocuSign presented at a couple investor conferences this month. One was done by CEO Dan Springer and the other by CFO Cynthia Gaylor. In general, things sound very upbeat. E-signature growth should remain strong while the company expands the pipeline for its new offerings. Gaylor announced the new eNotary product should switch from beta to general release soon. While she feels eNotary is “probably a product extension versus a standalone product,” it would clearly be a useful addition to an already sticky platform. She also stated:

“I think the great news for DocuSign is, we believe that the acceleration to digital is -- it’s just -- the pandemic really accelerated where people were otherwise going to do. And so, it’s not kind of a one and done sort of mentality, it’s really a kind of progression of things that were going to happen over a period of time.”

Springer has echoed the same sentiment. It sure does seem DocuSign is well positioned to continue growing it business.

That being said, the longer I own DocuSign the more I notice management’s messaging is quite conservative even when delivering seemingly awesome news. Thinking about it, I’m starting to realize most management teams seem to have either a “hook” or a “hedge” in their messaging DNA. The more transcripts I read, the more I find management comments are structured one of two ways:

Hook – “While fully acknowledging the challenges ahead, we are very happy with our performance and remain 100% confident in our plans for the future.”

Hedge – “We are pleased with our performance and plans for the future but would be remiss if we didn’t also acknowledge the challenges ahead.”

While the content in these two statements is almost identical, the tone could not be more different. When I think of the hook, I think of Zoom’s Eric Yuan, Todd McKinnon at OKTA, George Kurtz of CRWD, or the best messenger of all the companies I’ve owned, TTD’s Jeff Green. Unfortunately, both Springer and Gaylor seem to have the hedge in their DNA. Don’t get me wrong. They ooze competence. Not to mention the fact that underpromising and overdelivering is very much a winning trait. I just wish they projected more of the confidence routinely exhibited by those other execs.  

I personally believe in DOCU’s hook thesis, which is why I continue to hold such a strong allocation. While the landscape will certainly change post-COVID, the enormous customer base built during 2020 and the new products coming out have me excited DocuSign can greatly expand its market (did I hook anyone right there? 😏). So, I can’t complain about DocuSign’s opportunity. I just wish management showed more flair in driving that message home. A first world investing problem, I guess.

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NET – As usual, Cloudflare kicked out a couple interesting tidbits. First was being named the Innovation Leader in a Frost & Sullivan market report on web protection. No surprise there. In fact, I’d say it is the least Frost & Sullivan could do given the gazillion Cloudflare product releases I’ve had to write up the last few months. Frankly, I’m glad to see someone else has been paying attention.

The other development was Cloudflare releasing its new Waiting Room service free of charge to any website distributing Covid-19 vaccines. Waiting Room is a tool for equitably registering, queuing and managing website visitors. Most importantly, the service is specifically designed to scale with usage in order to keep sites from crashing during heavy traffic. This is obviously crucial when millions are trying to access vaccine information and register for shots online.

Oddly enough, Cloudflare was working on this feature for an entirely different use case. The original idea was helping retail sites like ticket outlets avoid crashes during high volume by efficiently queueing visitors while still letting a manageable number through to the site itself. As it did with its Teams product at the beginning of the pandemic, Cloudflare now gets to live-test a new product in real time with clients very eager to participate and give feedback. I view this as a smart move that should result in a more stable, versatile product when Waiting Room makes its larger-scale commercial release. Well done, NET.

Cloudflare’s second half of 2020 was an amazing operational run. February 11 earnings is our first update on all the hustle and bustle planned for 2021.

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OKTA – While I didn’t see any company-specific news this month, Okta did release its annual Business at Work report. Business at Work is an in-depth review of the applications and services businesses are using to stay productive. This year’s results include many of the usual suspects, including Microsoft 365, Zoom and DocuSign. At the same time, the report highlights some of the fastest growing newcomers like Miro, Figma and Snowflake. The overarching takeaway is the world’s digital transformation continues unabated. With all those apps inevitably needing to identify all those users, Okta is in a great position to be the identity management tool of choice.

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PTON – This month’s update was the release of a new "stacked classes" enhancement. A popular member suggestion, this feature lets users pre-program multiple classes into one seamless workout rather than having to stop, search and load between sessions. While the stack can only be built from a Bike, Tread or the web, playback can be accessed from just about any app that integrates with Peloton. This is likely more of a stickiness enhancement than one that drives sales, but it is yet another example of Peloton’s continued commitment to customizing the exercise experience for its millions of members.

In the bigger picture, pretty much any news this month was going to be small potatoes compared to Peloton’s upcoming February 4 earnings. It is hard to knock a company for having unmeetable demand, but that is exactly the issue hanging over PTON’s head. We already know every Bike and Tread produced last quarter was eagerly spoken for. Now we finally get to see just how many Bikes and Treads that was. Here’s hoping the numbers are big enough to meet Mr. Market’s expectations.

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ROKU – Roku’s return engagement to my portfolio is off to a good start. The big January news was Roku pre-releasing some Q4 metrics that included reaching a milestone 50 million accounts. The exact figures were 51.2 million accounts and 17 billion Q4 viewing hours for a total of 58.7B in 2020. The raw add of 5.2M accounts is a new record and represents 39% year over year growth. The streaming hours mean 55% growth for both Q4 and the full year. Exposure to Roku’s flagship channel doubled year over year as well to an estimated 61.8M viewers. So, Roku continues to gather eyeballs at an impressive rate while gaining considerable leverage in negotiations with distributors desiring a spot on Roku’s platform.

Next Roku acquired the distribution rights to Quibi. Quibi was a streaming platform designed for mobile devices based on short-form content. The venture was initiated and backed by some big Hollywood names but was ultimately unsuccessful. With this deal The Roku Channel becomes the exclusive location for all the content Quibi did churn out before closing its doors. To be honest, I’m not exactly sure what to think of this purchase yet. If Roku simply bought content for its own channel on the cheap, I’m all for it. If this is somehow Roku taking an exploratory peek at content production, I would be more wary since it would move Roku away from its core competency. The initial language suggests a straight up content distribution deal, but I’ll be watching going forward.

Roku also inked a distribution deal with Amazon’s IMDb TV streaming service. According to the linked article, IMDb TV “is part of a group of free, ad-supported streaming outlets seeing a surge in viewing and spending.” This deal is yet another example of Roku’s current position as prime real estate in the battle for streaming viewers. Keep ‘em coming, guys and gals.

Finally, Roku reaffirmed its status as the #1 smart TV operating system (OS) in the US and Canada. Data from January 5 to December 26, 2020 gave Roku’s OS a 38% US market share and 31% in Canada. While this isn’t really news for long-time shareholders, it is always nice to see third-party validation of Roku’s market leading position. Owning the most popular OS clearly helps the cause when every eyeball matters.

Earnings should be sometime in February, though I haven’t yet seen a date. Last year was February 13. In the meantime, the market enjoyed the sneak peek enough to make ROKU my top 2021 performer so far at +17.2% YTD.

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TWLO – Not much to report on Twilio this month. The next big event is February 17 earnings. This will be TWLO’s first report including contributions from the Segment acquisition, which closed in early November. As I wrote at the time, Segment added 20,000+ customers including Atlassian, Google, Peloton, Instacart, Reuters and IBM. It also brought impressive 50%+ growth, ~75% gross margins and a subscription revenue model of mainly 1 year+ contracts. At the time of the acquisition, management estimated Twilio’s TAM increased from $62B to $79B. I’m very curious to hear what Jeff Lawson & Co have to say about the combined entity’s prospects.

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ZM – Zoom had competing press releases January 12. The first was a $1.5B secondary stock offering. After the underwriter exercised its option to purchase additional shares, the offering ended up raising $2B at a price of $340 per share. With $1.9B in cash already on the books and nine-digit free cash flow, I’m not exactly sure what the end game is here. I only know that’s a lot of dry powder. I guess we’ll have to wait and see.

The second announcement was Zoom Phone reaching one million seats. Many – me included – consider Zoom Phone a key piece of the company’s post-COVID potential. Management reinforced this view by labelling it “a major growth driver for 2021” during last quarter’s call. One million units is certainly a healthy start.

Zoom’s 2020 was the epitome of the COVID stock explosion. In recent months, however, the market’s attention has turned almost entirely post-virus. The Zoom Phone is certainly positive news, but Zoom will eventually have to do more to support its historically fast growth. The question is how much time Zoom has to develop other revenue streams while waiting for COVID to run its course. Personally, I’m beginning to wonder if post-virus might be a little further off than originally thought. Even though we wish none of it was true, cases are still soaring, new strains are forming, and vaccine distribution has been painfully slow across the globe. We’ll get our next chance to guess at these timelines when Zoom reports Q4 earnings and its initial FY21 guides, likely in early March. Zoom is the one position I did something significant with this month by trimming from 13% down to a more comfortable 10%. My current plan is to hold tight through earnings and go from there.**

** DISCLAIMER: All plans subject to being blown to smithereens at any moment.

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ZS – ZScaler rejoins my portfolio after holding a regular spot through December 2019. For those unfamiliar with the name, ZS is a cloud-based cybersecurity company. In layman’s terms – which I always need when dabbling in tech – its core products let customers create fast, secure connections regardless of device, location or network. For old schoolers like myself, ZScaler basically uses the cloud to replace legacy firewalls out and pain-in-the-ass VPN’s in.

I previously exited ZS when management lost visibility into its sales cycle entering FY20 and saw sharp revenue and billings slowdowns. CEO Jay Chaudry responded by hiring Dali Rajic as Chief Revenue Officer and enthusiastically presenting him as the cure for all sales ills. While I found Chaudry’s initial hyperbole a bit over the top, it turns out Rajic knows a thing or two about what he is doing. Taking a look, you can clearly see the early 2020 rough patches along with the strong recovery since Rajic came on board (Q2/YR numbers are current guide):

Rajic’s team has not only closed deals but impressively refilled the pipeline, creating accelerating revenues heading directly into those self-induced softer comps. Even more impressive, the turnaround has not seen a sharp increase in sales and marketing expense in order to chase revenue growth. Just take a look at ZS’s recent record-setting bottom line (Q2/YR numbers are current guides):

ZScaler recently highlighted just how much business momentum it has with an updated $72B TAM, four times as large as the $18B market quoted at its 2018 IPO. The new number reflects not only ZS’s expanding product line but also exponential growth in spending estimates for cloud based and Zero Trust security. Security is now critical for nearly every enterprise, and ZS is in excellent position to capitalize. Management reaffirmed medium term targets of 78-82% gross margin, 20-22% operating margin, and 22-25% free cash flow margin. While it didn’t provide a long-term revenue target, management did note it would be “disappointed” if it did not exceed street expectations of 30%+ revenue CAGR for FY20-FY24. So, it appears ZS’s recent strong growth won’t be fading any time soon. That’s what I like to hear.

With its sales stumble seemingly behind it, ZScaler finds itself in an enviable position. Management guides for top end Q2 revenue of $148M. Given its traditional beat history, I would anticipate something closer to $157.5M. That would mean further acceleration to ~56% growth. I’d also expect strong outperformance of Q2’s top end operating income guide. Pulling that off would give ZS one of the better revenue/profit combinations in my portfolio. So I basically have a company with what appears to be accelerating growth that should also benefit from a huge security sector tailwind. Even at its current elevated price, that’s an attractive proposition. So, ZScaler rejoins CRWD, NET and OKTA in my basket of names likely to see some positive effects from the current cybersecurity wave.

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My current watch list…

…in rough order is SHOP, SNOW, FVRR, LSPD and TTD. There are a few other names bouncing around the Twittersphere, but none jumps out at me enough yet to earn a firm spot.

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And there you have it.

Man, things were really going smoothly until I jinxed myself right there at the end. There is an old Wall Street saying that stocks take the escalator up but the elevator down. That was pretty much my January. When starting this section Tuesday morning, I typed a note about how it was nice to have a month with more +/- 2% days than the crazy 5%+ swings that dominated 2020. I made that observation because to that point I’d seen a bunch of slow, steady gains that had me bouncing around a 10% gain for the month. No sooner had I hit the last keystroke than my entire portfolio dropped 5.3% on the day. For those superstitious types who experienced a similar dip, my bad. I sincerely apologize. Hopefully, you saw the same upward drift I did the remainder of the week.

Overall, I can’t complain a bit about my start to 2021. My companies continue executing, and my stocks continue to follow along. That’s all I can ask. I think it’s important to recalibrate after the insane yet almost certainly unrepeatable returns of 2020. My only goal is to own quality, market-beating companies. That’s it. So, in that respect one month down and 11 to go. See you again in about 28 days…

As usual, thanks for reading and I hope everyone has a great February.

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