Chit Chat Stocks - Investing Power Hour #32: FTX Collapse, $ADYEN CEO Letter, Graham & Dodd Annual Breakfast

Episode Date: November 13, 2022

The CCM Power Hour is a live-streamed show every Thursday at 3:00 pm EST. On the show, Ryan, Brett, and a rotating list of guests have an unscripted discussion on a variety of investing topics. You can watch the show on our YouTube channel here: https://www.youtube.com/c/ChitChatMoney Follow the show on Twitter: https://twitter.com/chitchatmoney Subscribe to our newsletter: https://chitchatmoney.substack.com/ ****************************** Interested in becoming a member of 7investing? Subscribe with code “MONEY” and get $100 off your annual subscription for life: https://7investing.com/checkout/ ****************************** Learn more about your ad choices. Visit megaphone.fm/adchoices

Welcome to Chit Chat Money. On this show, host Ryan Henderson and Brett Schaefer interview industry experts and riff on the world of investing. As a quick reminder, Chit Chat Money is a CCM Media Group podcast. Ryan and Brett are also general partners at Arch Capital, and Arch Capital may have positions in the securities discussed in this podcast. Anything discussed on Chit Chat Money by Ryan or Brett or any other podcast guests is not formal advice or a recommendation. Now, please enjoy this episode. All right, we are live. This is the CCM Investing Power Hour, number 32. I know that doesn't matter to anyone listening, but we track it. We're climbing the ladder each week, one by one.

And yeah, any housekeeping items this week? I guess just a few. One, we're changing the time that we do this this doesn't matter to anyone the vast majority of people listen on the podcast but for anyone that actually listens on the YouTube channel we're doing them at 4 p.m. Pacific time 7 p.m. Eastern just better for our schedules

and I think better for anyone that wants to watch at home as well second we are not also might help get some people on the show compared to like noon that's right maybe people are getting

off you know so we're gonna we're gonna try to get some more people on the show get them to come on don't have to be on for the whole time kind of pop in pop out more recurring guest style that is correct yeah second we are not doing the paid shows anymore i want to keep reminding people about that because i know not everyone listens to every episode we do we're not doing the paid podcast anymore for the not so deep dive so those are all free again uh go back and listen to them if you want and just make sure everything's going to be free now and third before we get to the show today we are doing newsletter recaps or not recaps show notes plus charts for all of our not so deep dive stock analysis shows and those are going to be free included with each episode

so sign up the link will be in the show notes that'll be free get that delivered to your inbox every morning it is a great way to pair up um the audio or video watching with uh you know the stock analysis you can see all the numbers that are harder to see in audio format ryan one thing to adding. Our newsletter signups have been shooting up. So this message is getting through to listeners. It's totally free. It's a great way, as Brett mentioned, to pair it with our Not So Deep Dives because I know a lot of our Not So Deep Dives, we go through the financials and it can just be a lot of numbers at once and it's kind of annoying. So seeing it visually through charts and explained via the newsletter is always helpful. So I believe we're passing some big

numbers now that's right we hit i think we we passed a thousand yes uh thank you to our friends uh stock market nerd um the transcript uh who am i forgetting the science of hitting for recommending the sub stack that they really help out with that check out theirs as well um but yeah definitely check that out we do a lot of stuff on there as well and it'll be all free going forward uh before we get to today's episode we are going to talk about our sponsor seven investing use code money to get $100 off your annual subscription for life. That is a 25% discount every year for the life of your subscription. And that is going through the end of 2022. So if you've ever thought about signing up for them, do so today or by the end of this year. And you may know 7investing because

we've talked about them before. They're a stock research service. They do seven picks every month. That's why they are 7investing. But on top of that, to narrow down their stuff and make their picks and research in a more timely manner. They do these things called the strong buy portfolio that they update every quarter. So most recently they did one in October of 2022 this year, where they have $100,000 of equally weighted 20 highest conviction stocks of that moment. So of all the seven investing universe, they give you their 20 best buys now. It is a great way to do it. So if you're looking at say, okay, well, we've had these research reports for the past two years or something like that. But the stock market has gone up and down quite a bit. There's

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rising interest rate environment. No. Remarkable. Okay, a couple we're going to keep doing the housekeeping things apparently, but we're going to try to do some topics now. I think sometimes we ramble and have not a whole lot to say, somebody that bores

listeners, so we've got a couple of topics. Yeah, we're going to do a few topics each week. we'll kind of have them either on the back burner or to have them as kind of a full thing to do we're going to make sure that the show is still kind of a free form at the bar having a beer conversation but also we'll have some more meat on the bones hopefully for some of the drier weeks now this week has not been dry i made the joke about now that no one actually cares about that we want to talk about ftx collapsing ryan you put some notes on this it is a maybe the biggest thing

in VC since Theranos. I don't know. Why don't you kick it off? Yeah. I was a little reluctant to talk about this because there's stuff about the collapse that I don't understand and just crypto generally,

there's a whole bunch of... All the ancillary stuff to crypto with all the staking and a bunch of that stuff, I really don't pay attention to it so i i have a lapse in understanding but the collapse of ftx is actually pretty entertaining um maybe that that might feel uh disrespectful to people who had money on it it's it's fun to watch from the view from the side because uh frankly it's just really exciting and apparently

uh what's his name he's going to be writing a book about it the uh what's you know michael michael lewis big money ball really awesome that he is apparently following this guy right now uh the guy has the magic michael lewis has the magic touch and hopefully that book gets out soon so yeah um so let's go through what all happened i've jotted down some notes because i i wouldn't be able to commit it from memory and there's a whole bunch i encourage everyone to go read articles on it too because there's a whole bunch of people that are impacted especially the VC community from this, that's slightly entertaining as well. So for those that don't know, FTX is one of the world's largest crypto exchanges.

And they collapsed, what was it, two days ago now, three days ago? And previously, to kind of lay some context, Binance, which is the world's largest exchange, had invested in FTX. This is kind of trying to get to the root of where the collapse came from. So they'd invested in FTX. However, the CEO of FTX, who's sort of this interesting character, I should say, people called him the next Warren Buffett. He was on the cover of a bunch of magazines, kind of like one of the faces of crypto.

The Madden curse, the fortune, and it's unfortunate. Never go on that. The likelihood we ever get asked for that is low, but if that ever happens, say no right away. However, yeah, I wish I could short anyone that's called the next Warren Buffett. I wish I could short them instantly because it never pans out well. But anyway, the CEO of FTX, which is Sam Bankman-Fried, I believe his name is, and the CEO of Binance apparently had a falling out. And the CEO of Binance, he goes by the acronym CZ the same way Sam goes by SPF.

But because this kind of falling out and they saw – they kind of saw the industry differently apparently. Apparently, SBF thought that they should try to get along better with regulators, and CZ was – thought that that kind of destroyed the decentralization idea of it. And so, because of the falling out, Binance wanted to sell their ownership or get rid of it, and they did so in exchange for FTT coins. Now, this is where it gets a little wonky because we're playing with Stanley Nichols here. It's confusing. It is very confusing. FTT coins are the FTX, which is that exchange that went bankrupt. That's their own coin or it's their own token. They created it. And apparently it was meant to be sort of, it was intended to help people trade in and

out of different things, kind of provide some liquidity is what I'm getting. And it was the only real thing that they said was anyone could redeem it for $22 if they wanted to. So FTX would give them the $22 in exchange for those F2T coins, which, I mean, that is just risk on its own. But apparently, a report came out from Coindesk, which is one of the big crypto kind of news sources, that showed Alameda's balance sheet. And so Alameda, to kind of backtrack here, is an offshore crypto hedge fund, so I believe it's headquartered in the Bahamas, run by Sam Bankman-Fried. So he's the CEO of FTX, and he has this offshore hedge fund. It was an arbitrage crypto thing, since it was such an inefficient market.

Which, I mean, that's cause for its own concern. When it's in the Bahamas or what? That's always a red flag? I typically think it's always a red flag when your businesses are located in the Bahamas to literally avoid the regulators in the US. And we've seen the story before where when the CEO of a business has his own hedge fund that he runs, there's immediately conflict of interest. And so anyway, Alameda apparently had billions of dollars worth of FTT, which is that FTX coin. And I know it's starting to sound complicated, but basically the CEO is using this Bahama-based hedge fund to borrow money, and he was posting that FTT as collateral. So theoretically, if FTT collapses in value, then it hurts the lenders and all the other owners of FTT. Well, Binance saw this and they basically decided it was unsafe. So they sold a big block of FTT, which they got that by exchanging their ownership in FTX for FTT coins. That sale started the collapse of FTT. And so once that collapse started to be begun, other traders on FTX saw it.

They were using it, like I said, as a cheap way to kind of trade in and out of things. They wanted to liquidate their FTT, and that kind of perpetuates that run on the bank that we began to see. And then there was a whole bunch of withdrawals or attempted withdrawals and FTX had to pause because they literally didn't have the money to give back to people. Ultimately, this comes down to leverage. And self-dealing to the hedge fund, right? Where they give it out. Yeah. Yeah.

And I mean, it's hard to know where all the money went because this hasn't been settled yet. But basically, they didn't have the money and they had to. And then it could be a $10 billion hole, like gap between the assets and liabilities, right? Yeah, that's what apparently most recently the SBF, the CEO said, we just need $9.6 billion and we'll be fine. Just a small bridge loan. Yeah. Yeah. But we'll see how it goes in bankruptcy.

We'll see who gets that money back. Here's a couple of the high profile collapses that have happened so far. Three Arrows Capital, Celsius, which is like that – not the drink company. It's some crypto – Right. I remember that. Yeah. I can't remember really what they did.

Terraluna, that guy, Doquan. BlockFi, which was apparently acquired by FTX because FTX had lent them money. And they had posted collateral for them. So they bought BlockFi when BlockFi was having troubles and made it seem like, all right, fine, we'll step in, we'll be the hero. But they would have had their own troubles if BlockFi went under. So they stepped in, they bought them, and now FTX themselves. So I think we're seeing – we're now seeing how much leverage was in the system. Yeah. Is Tether next? That's the big question, I think.

And I think we're also seeing how intertwined a lot of these are, because when you press the prices down on the crypto, it's hard to keep this cycle going. It's hard to keep your house of cards propped up. So the question is, what ramifications does this have for the rest of the industry? And how long until people just lose trust in the entire system? Yeah, it's the big question going forward, I think. I think the one big question is what happens to Tether? Because they've been quiet and there's always been the big speculation on how they are the ultimate kind of lender of the Ponzi scheme here, if you want to call it that. and two yeah do people stop trusting the stuff you saw i think i mean this isn't the only example but uh the barstool ceo or whatever you call him portnoy sat you know was super mad at ftx because they did a partnership with them and he's probably going to lose all his money because his crypto was

held at ftx uh you have the partnership with tom brady and his and uh i can never pronounce his name but the person that just divorced him or her name excuse me yeah yeah uh they they you know had the relationship with uh sbf all the vc funds it could turn now i mentioned theranos at the beginning when theranos went uh down for the next like five years basically till today there has been, and probably still to today, any sort of medical technology, not biotech, but if Theranos was kind of the blood testing thing, any sort of startup within that field just got blacklisted or there was no funding for that available. And that could definitely happen for crypto.

And the thing is, by definition, the industry, quote unquote, is all just a house of cards, magic beans, whatever, right? It's just trading. There was a good example I think I was reading to try to encapsulate the business models of these companies is where you essentially had a bank and someone deposits money at the bank, and all they want to do is change money between euros, dollars, and Japanese yen. and do nothing else. But then every time you take $1 off their $100 deposit

until they have zero left. And that would be the future. That would be the future. Exactly. My biggest pet peeve is when people say, well, I mean, it's obviously the future. We just don't know how it's going to end up. Give me one app.

I've never seen one application where it makes it substantially better than the current system. Oh, yeah, I agree. Yeah, we don't need to rant on this forever, but it also is another pet peeve is when someone says, well, this is just going to detract from someone building the real stuff in the crypto space. And I've never seen anything real in that space because by definition, it's all fake. So I think the big question is, does this keep going

on? And a lot of this stuff is going to zero, right? But two big questions, I think. Is Tether actually would find, like, is it the bigger thing that's going to collapse? Which, again, go back and listen to our episode with Bennett Tomlin, probably a year ago today, who has predicted all of this stuff.

He's one of the few people in the world that actually understands the in and out of all the crypto stuff because they make it complicated on purpose. And he's a thorn in the side of all these fraudulent people. Second, Bitcoin is different because it's kind of just on its own.

And do people, does that get affected there? Can Bitcoin go away? Because I know it can go down by a lot, but can it go away? We know it's supposed to never be able to go away. I think it'll be a big test. Yeah. But sitting here, we're kind of just like watching a movie. We have no idea.

It's like, no, not even, it's like watching a mystery. We have no idea what's going to happen. but it's fascinating and did not have that on my bingo card for this week because this guy was he had raised so much money

he's on every he's on Bloomberg he's at every everything everyone loves this guy and it turns out he was exactly like Elizabeth Holmes

which is how do the V how do the VCs let this happen how do they let it happen again there was a bunch so SoftBank just invested

in them at some ridiculous round of course That's implied. That was expected. Sequoia Capital invested in them. But here's the funny part. Sam Bankman Freed was a big investor in Sequoia Capital. Yeah, that just came out. So he's just giving himself money through Sequoia Capital. Yeah. How did they let that happen? It's because everyone around them was telling them it was working. I don't know.

No, why do these renowned venture capital funds with decades of history let the founder of one of the companies they're investing in invest in their own funds that they're investing in that company and make this whole circle? Because if they're offered money, they're going to take it. And they'll earn nice fees on that, on those mark to markets. We're 15 minutes in. Let's move to the second topic. uh what do you got more fun more more fun with burning money reality labs yeah you want me to kind of go first here yeah this one's this is shorter this is going to be more discussion right yeah i read a recent article from alex who's been on the podcast a lot alex morris also his pseudonym is the science of hitting um he wrote about meta and kind of detailed his thoughts

At the end, he talked through how he looks at valuing the business, and I thought it raised an interesting question, which is, if you're a potential investor today in meta, how much should you value Reality Labs at? I won't spoil his work because it's paid and it's a sub-stack that we totally recommend, but let me give some numbers. $2.3 billion in trailing 12-month revenue, $12.7 billion in trailing 12-month operating losses. In Q3, the operating losses were at $3.7 billion, so almost a $15 billion operating loss run rate. That's 40% more than they were losing a year ago. What is that worth? Let's say you went ultra pessimistic and you thought they were going to burn that $15 billion for the next 10 years. And nothing would come of it. So you think that's worth a little more, let's say $200 billion, negative $200 billion to the valuation. So the enterprise value today is, I mean, we're recording this after the day just ripped, so I don't know what that is at, but I think it's at like 230, somewhere around there.

So let's say it's at $430 billion after you add back that negative $200 billion. That would put family of apps, so Facebook, Instagram, WhatsApp, and Messenger, at roughly 10, you'd be paying 10 times the operating income of family of apps. Does that sound like it's worth taking a chance? It's interesting. It is interesting. It seems like, and he hasn't been that, it doesn't, you know, the big question, I guess, is what I'm trying to get at is Zuckerberg controls this thing like a dictator because of the founder shares and he is going to control this boat. And yeah, in the numbers say in the

studies that people run that founder-led companies outperform because they can't think for the long term. But the two big things I worry about and it may not matter, I still don't know the answer this is one, he might not care about cash flow anymore. He just wants to dominate the marketplace. And two, he's wrong. And just because Family Vaps is trading at 10 times normalized operating income, he's not going to give that back to shareholders. And second, their CFO has been shown to be, I don't want to say terrible, but the last track record over the last 18 months with buybacks and capital allocation

has been if you gave it a rating gave it a grade probably a D really really poor and they all they gave it all back in shares to the employees

too basically yeah so I think in a vacuum looking at the family of app numbers which have still been fairly good

in a you know with all the advertising snafus that these companies are talking about both the two monopolies, I guess Facebook's less of a monopoly, but Facebook, Instagram, WhatsApp are doing fine. And Google, the bigger monopoly, I guess the more monopoly of the monopolies is doing fine as well. So in light of what all the other advertising companies are

saying, it seems like Meta's in a great spot, especially because they're just ramping up the competition with TikTok. However, I think the one thing that just keeps me out is the poor capital allocation and the lack of the founder stuff. This is the one kind of way the founder led companies with the super majority shares can backfire is when their vision does not align with what they want to do doesn't align with what's good for shareholders, which we've all seen, that's why the stock's down so much, combined with the finance team being extremely poor capital allocators. Yeah. The other point that was raised in an interview that I listened to the podcast with Bill Brewster and Matt Cochran, which was a good listen. And they talk about this

is, is he committing all this capital and investing all these dollars because he thinks long-term it's right for the business or because he thinks it's his moment to stake his reputation on it, to build his platform. I may have stolen the, I listened to that one too. I may have stolen that, that last little my thoughts before this with what they said but I think it's right

yeah I worry that this is very much like a pride driven decision yeah Tim Cook

can just bully him around with new changes and he doesn't want to let it happen the other thing

is I think VR is really stupid I don't think consumers want it at all the numbers on oculus the third party numbers and surveys get worse and worse they get worse i was just listening to something with someone from the verge uh i can't remember what happened but they basically were talking about

meta and they were kind of one of the people that are connected to the poise so they can get inside view and he was like well when it comes down to it i got an oculus and i get all the tech because i'm the journalist that's going to write about all this stuff but i've had zero incentive to play anything but my ps5 so if they can't even get this gaming stuff right how are they going to where is the bridge and and there is the wall street journal basically expose on horizon worlds being a complete flop No one sticks around. Yeah.

It's a gimmicky thing. Yeah. So, I mean, but on the other hand, we also saw this week the 10% layoff, which again, we're not cheering layoffs, but they did overhire. We've been talking about how the companies have overhired. You know, we don't want people to lose their jobs. But from an investing perspective, they did overhire. Again, I think, you know, they're showing they're doing that now.

That could be a good thing. They're leaning up. maybe but when the that would be great if the fundamental idea wasn't so flawed right if the fundamental idea was great and they were going at something that made sense to try to dislodge the pc console gaming market and then have that longer term vision but when you have the have you seen or you may have seen these on uh if you've been watching sports lately the new commercials for the meta quest that are replacing that insane tiger commercial remember that one with uh the meta one where it's like the kids are going in and there's that really really cringy song

this new one is when they're like all wearing these really ugly headsets and then they're doing some sort of work all in their houses but separate houses and they're doing their work with the headsets on and i was like you can do that with airpods you guys i don't know what yeah why would you rather have it be this invasive experience that stops you from seeing your current peripherals like everything around you yeah so i think the fundamental that's the big problem is that even if they lean up the fundamental idea is so flawed that uh the stock could work the stock could work here i'm not the stock could definitely work here did you read the 8k that they released uh facebook yeah they recently released 8k that talked about the layoffs and they said that their

guidance increased operating expenses next year was encompassing those layoffs so it's not some new layoff they saw that coming they had the plant and they but they were like we're gonna moderate our expenses a little bit. I think maybe they heard all the strife from investors and let me make sure I get it right. I'm pretty sure they downgraded their operating expense guidance from like 96 to 101 billion, that range to 94 to 100. So like literally 1%. I don't think that's really going to please investors yeah

it's got to be bigger than that we'll see I don't know this kind of leads in do you want to go to our

mid-roll seven investing topic the article the the advertisement slash segment that I think

will be interesting to talk about yeah this actually tailors perfectly into it so let me read it

we are okay we're We have continued to refine our 2023 expense budget and now expect 2023 total expenses to be in the range of $94 to $100 billion, lowered from $96 to $101 billion previously. Ah, well. Wow, you're pleasing all of us. And then they said, in addition, we are updating our CapEx outlooks to be in the range of $34 to $37, narrowed from $34 to $39. Ah, frugal, frugal.

It's still basically the same range. Yeah. to be fair the capex is for the ai stuff for the uh the capex isn't much reality labs but still and that's supposed to be one time but still but yeah let's go into maybe the one the company that executes phenomenally and uh this is also going to lead it to the gram and dodd discussion that i'll have at the end um but yeah all right about talk about a near bonds article on apple yeah uh so just so everyone knows seven investing does basically free free research as well so you don't have to be a paid sub to see some of the articles and anirban who's been a long time apple

shareholder i believe it's probably his largest or if not one of his largest holdings um and he's been an outspoken bull for a long time uh basically wrote this article about why they're outperforming their peers. And it comes down to a couple of things, but at the end, he basically concludes to it's cost management. They work really well with a lean team. And this comes right after we saw that video of the CFO, Apple CFO talking about how lean his team runs. And it was maybe the best thing you could hear if you're an investor. And he was Italian. So it was like It was like an opera singer for investing, you know, for investors speak, where he was just like, oh, we have two people, whatever the accent was, where I don't even know if he's Italian, but he was, it was a European accent. So what, it's seven people run the treasury department?

Yeah, I can't forget. 200 billion? Let's just say they have 10 people or less running their treasury and IR team. And it's Apple, so it's hundreds of billions of dollars you have to manage. So yeah, I mean, that's great. Yeah, that's why they're so much more profitable.

And I don't know if that... We're going to move on to a real topic again. we'll highlight again, use code money, get $7, 25% off your 7investing subscription every year for life. That's a $100 discount. And check them out for these free articles too, if you're on the fence or you don't really know much about what it's about. They have these free articles that you can read and check out their style. One question I want to pose before we move on to the other topics. Do you think this frugality was something that Buffett identified compared to a lot of the other technology companies that he saw because it seems like this sort of mentality

attitude is really big for when he makes the the sizable bets and i know it's not every time because coca-cola has been known to be kind of a classic uh you know pay everyone so much money and you know might waste a little money but the business is just so good but a lot of the times that sort of frugality and simple mindset is what plays. I feel like that might've been part of why he kind of got locked in and how this was his next big bet. Yeah, maybe. I think Tim Cook kind of exudes that operational discipline.

Yeah. A lot of the, a lot of the big tech CEOs though. So I would say the same for Satya Nadella. Yeah, maybe. Yeah. I mean, maybe not Mark and Sundar, maybe. They're talking, well, yeah. So the Google, Alphabet, Amazon, and Meta

are talking about it right now, but we haven't, I think three years from now, we'll know if they can get that more operational discount. But both, all three of those companies let themselves go, I guess. Is that a good, right? Is that probably good? Way to describe it, yeah.

And I saw that thing. There was some leaked employee thing today from Reddit that was like, thank God Mark Zuckerberg pays his employees so much. It forced all other big tech companies to start paying that much. And we've heard kind of anecdotally from people around the tech scene lately about how much spending there is and just kind of how, I don't know, wasteful. well basically we go on uh we go on dates and there's a good chance one of them works at the big tech company so then you can hear yeah and then we have one or five yeah so that's how we do

it um yeah all right let's move to my topic i think it'll be interesting maybe discussion i don't know if we have anyone in the chat yeah we had someone that said they're listening from australia uh so thank you that's cool it's always great to see the international listenership because it makes the show seem way bigger than it is but it's also very cool uh to have going global we are a global business that's right hey half the listeners are outside the u.s uh all right so this one's short but i think it's kind of interesting because going from uh relating my your topics were on like stuff that makes people just maybe mad you know investors and stuff i think mine will maybe be the the opposite side where people can be pleased and everyone's working

a symbiotic environment. So the Adyen CEO, which if you haven't heard, go back. And if you're interested in this company after this, go search our feed. We had a great interview with Mostly Borrowed Ideas on the company, but they're a payments company. He wrote a letter to his employees about how they're accelerating hiring into 2023 and beyond. Here are a few quotes, keep them short, but then I'll talk about some discussion questions here. Here's the quote. By now, I'm sure all of you have read the news about the wider tech industry engaging in headcount reductions. I'm writing to you today to explain why we are consciously choosing not to engage in such exercises. He's referencing probably Stripe, their biggest competitor, Shopify, who's kind of a competitor, whatever, then the big tech companies.

Stripe just had some big, what was it, 14% of their staff? 14%, something like that. We'll probably have to do more. Here's another quote. Throughout all stages of Adyen, we've been efficient and disciplined regarding how many people are required to solve problems and grow our business. Two more quotes. In today's talent market, we are seizing the opportunity to build the team to the size required to capitalize on our opportunities. Last one, by 2024, our ongoing investment into the team will have brought us to

our next maturity level. At that time, we will cool our hiring pace and allow the high operating leverage inherent to our business model to further expand. Here are a few things I like here. One, he didn't get caught up in the bubble two he's calling out his competitors in a respectful way by basically positioning themselves as

saying you need to act like us or we're going to kill you and third it was short it was like less than a thousand words the letter and he just told everyone what's going to happen hey our margins might go down a bit because we're investing into headcount expansion right now but

by 2024 it's going to be higher and it's just like laying out that basically what they're going to do in a few bullet points and why they're doing it what their philosophy is and not just going and what's hot in the market right now it's just such a it's so nice to see from all the CFOs and CEOs out there that you see it every earnings quarter. There's a theme and they all just copy it. And they're like, oh, we're going to right-size our cost structure. And you're like, all right, every company is saying this. Or they're like, oh, advertising is slowing down. Or, oh, there's an e-commerce hangover, which should affect Adyen. But I really enjoyed seeing that. It keeps Adyen on my watch list, even though I think

the stock is very expensive any big takeaways from some of those quotes right well i think it's an advantage not being in silicon valley yeah i think that culture just rubs off on the companies that are around it even though we just talked about apple being sort of really capital disciplined um and i guess they are in right where where's their headquarters yeah they're basically silicon valley uh everyone but apple really and i guess netflix everyone but apple and netflix seems to not have the operational discipline yeah i think that's an advantage for them it's it's something i'm going to look for more in investments like pay more attention to what sort of production are they getting out of their employee base like what sort of revenue

growth per employee are they seeing what sort of operating income per employer they're seeing Comparing that to competitors, yeah. But at the same time, I think maybe some of this, wow, there's just way too many employees stuff might be a little overblown. Because, all right, 10 years from now, you mentioned this. You said in whatever it was, 2010, you could have had Visa 10 times earnings or whatever it was. Around there, yeah.

Yeah, I think it might have been 8% free cash flow yield. but similar so if 10 years from now someone's saying you could have had Google at 12 times cash flow what what prohibited you from buying a and you say

well they had a little too many employees there's bloat yeah I mean it's not gonna there was a little bloat their employees got a lot a lot they got free lattes when they came in I don't think that should keep anyone out of it but on the other hand I think For a company that has shown that it's as high as quality as Adyen, compared to saying you would buy something at, I would be much more willing to buy them all else equal at a higher multiple than a company where I think the operational efficiency is less.

just because I know that I have more confidence in them just getting a better return on whatever their invested capital is, whether it's actual invested capital or employees. Sure. And in this case, you kind of got the best of both worlds because at the end, it's growing like their peers and doing so in a leaner way. But I think a lot of the times,

you're making sacrifices to potentially we're not going to be able to get as much growth if we don't hire for certain roles. Yeah, I think they've actually said that compared to say Stripe where they want to be more methodical and that'll look bad in a bull market

but it'll over the long term because the most I think when you first invest and again, we're not veterans or anything here, but I think something you learn from being maybe a rookie to kind of going to more of the middle part of your investing knowledge is at first you think high revenue growth is the best thing you want. But once you read about the most successful

companies and you kind of evolve and everyone gets there to durable growth, whether it's 8% 15%, 20% is way more important than 70% revenue growth last year. Yeah. I mean, growth isn't free. And 70% growth is hard to manage. That's true.

Yeah, it's honestly better if you grow slower. And we're seeing that. I mean, what companies? All the companies at 95%. Carvana. Coinbase. Coinbase. Coinbase is like the example,

the pinnacle example of impossible to manage that level of growth they way over hired had to scale back completely when things turned around now granted that entire business model is predicated on a volatile price but magic beans let's say it magic beans um yeah but i i like that letter i mean addion be clear we don't own it and we just given that we are just more multiple focused a lot of the times not all the time it'll probably not be uh yeah we just won't i don't know look at it closer unless it gets to a cheaper multiple but it's such a good it's such a good uh it's such a good business did you say anything sorry you're has this you froze you froze for five seconds did you say anything i just said never say never the uh has and maybe use this as sort of your

contra indicator if you want to but has this year made you want to explore made you want to have a bigger percentage of your portfolio outside of tech entirely no but i think it's made me want no no i don't i don't think i think that's the wrong way to put it i think it's just made we've learned the lesson to focus more on two things management teams being aligned with shareholders and not just aligned with what the market wants them to say. And second, more aligned on valuation over a 18-month period maybe, where we don't invest on an 18-month time horizon, but not sizing up a position when there's a big chance or something like that where 18 months from when you invested, the operating environment

might be a little bit worse and the sentiment on the stock could be worse. The three to five-year time horizon could still be intact but i think that is definitely what's keeping i don't think tech is specific although there's been a lot of stuff like we said you know a lot of stuff you could maybe complain about within those industries i still think there's lots of opportunities and super internet software what you name it but just yeah those two things maybe broadening it out not Not hitting on tech, but I mean, they're probably the ones that had the worst, the most losses, I guess, through the cycle. All right, you've got one more topic. All right, one question before your last topic, but if you had to say which industry outside, so it can't be tech.

Well, that's such a broad lens. What is tech? No, no, you still have to just... consumer goods are not tech and it's software, consumer internet, all that stuff is tech. I'm talking about

everything that is not software based. It's just hard to define. What would you define as your best, the industry you know best outside of tech? Oh,

good question. Yeah, video games don't count, I guess, because that's software. It's tech. yeah but it's not I'm talking about the physical

very much a physical business there's a lot of space business or not a not a bit space space business and atom space business

there's a lot of I mean look again you know I know what you mean but there's a lot of technology in atom space stuff I mean

definitely it's a bad it's nicotine definitely nicotine in that or and I don't like this industry but apparel

I know a little bit yeah But I know enough that it's bad. So we studied a lot of those businesses and every time I get a little bit nervous. So yeah, those two. Yeah.

What about you? Which industry do you wish you knew more about? Yeah. I mean, it's gotta be biotech that. Yeah. Gotta be. I mean,

the opportunity there is just phenomenal biotech, pharmaceuticals, whatever medicine, advanced medicines. all that stuff yeah i feel like that if you know it well it's such an industry where so so many people know it poorly so many i mean so much again there's a lot of risk there but so many hunter beggar potential hunter beggars and so many companies that got bid up like their hundred beggars that i felt like if you knew them well you would know they weren't yeah well there

was yeah the prices you had to pay in 2020 and whatever but now now with the biotech index down so much i think there's there's a lot of opportunity most likely all right let's let's take your last topic yeah this was a great uh for some reason i don't know really what this is but apparently there's this thing called the graham and dodd annual breakfast and the todd combs the protege, one of the proteges of Buffett runs it. He had a conversation with Michael Mobison.

There's a lot of good stuff from there. I'd recommend I don't know if we'll link it in the show notes. If you can find it, just look up Investment Management Insights or Graham and Dodd Annual Breakfast 2022. There will be a sub stack on that and reach out to us if you can't find it because it's kind of an obscure thing.

There's a ton of quotes here. I don't think we'll get to them all, but I figured I'd just read some of them and see what you think And if we don't really have any thoughts, then we can just move on. All right. Ackman asked about morality in investing. I think we'll skip that one. Okay, here's the first quote.

And there's a ton of stuff here that, one, since we try to copy or learn a lot from the Berkshire team, it's going to just confirm our biases. But here's the quote. Combs recalled the first question Charlie Munger ever asked him was what percentage of S&P 500 businesses would be a quote, better business in five years. Combs believed that it was less than 5% of S&P 500 businesses, whereas Munger stated that it was less than 2%. You can have a great business, but it doesn't mean it will be better in five years. Do you agree or disagree with how minimal charlie muggers is making that out to be because i thought about this a bit of doing the research and i think it might be a little higher than two percent but it's not very much

and i think that is a good exercise to go through i think also kind of adding that going through the exercises will this business be better or worse in five years is a great question to ask yeah and maybe maybe how i guess how do they define better like will it be larger no no better is operating earnings better is always and let's look at to another quote better is always widening competitive advantage that's their definition of better so the the moat has gotten wider five years from now here's one that my gut tells me more than two Yeah, because some modes are pretty weak. Well, here's a good example that I came up with.

For one, we study video games in companies a lot. If you looked at kind of the post-GFC era, right around the PS4, Xbox One era, and the resurgence of the PCs, a lot of the publishers, because of internet speeds, were able to make the social aspects and add these network effects to their businesses. all the companies did this Call of Duty, Grand Theft Auto the sports games Fortnite I'm probably missing some and that added a huge competitive advantage for them

that has made the industry way more durable than it has in the past because of the social aspect those businesses all got better in five years and I think was fairly predictable so I think yeah it might be higher than 2% but it's a classic Munger quote so you can expect him

to try to be he's an exact he's an he likes to make his quotes um stick right all right i think he wants to sometimes just be overly pessimistic just to be charlie yeah um okay yeah here is two things here that apparently one uh this sounds just again we know that we're the we're team buffett fanboys and whatever, just laugh at us. But apparently Combs, Todd Combs, the protege goes over to Buffett's house every Saturday and they just talk about investing in the afternoon

or something like that. And here's the two quotes from it. The one question asked daily is to identify the value of businesses they own is whether the moat is a widening or narrowing. And here's the other quote, 98% of what Buffett and Combs discuss is qualitative. Thoughts on that kind of, I mean,

confirms kind of how we try to look at things, obviously, with a little less skill than them, to put it lightly, at the moment. But what are your thoughts? I can't believe they don't talk about anything else. They're not updating their Excel models? Well, sometimes it blows my mind how much time Warren commits to this stuff. He's a bit of a nut, yeah. And it seems like Combs was, again, he said he spent 16 hours a day in the week running Geico, and then his weekends are dedicated to his portfolio.

So, yeah. That's wild. No, I think most of the discussion should be on qualitative stuff. Evaluation discussion doesn't need to be long. Yeah, that's true. Here's the next quote. If you're right on the qualitative assumptions, then it doesn't matter. Here's the next quote that leads into that.

If something is 30 times earnings, you can calculate what it will have to do to get to run rate earnings. the worst business grows and needs infinite capital with declining returns. The best business grows exponentially with no capital. The great way to put it, I think that kind of, we've discussed this before, but we try to make this analogy ourselves. And again, it's just copying them, but their own way as we, at least I like to think about the one, like a company that has to run on a treadmill versus one that has to like float, like they have no work and they just float down the river. Again, it's just two like motion analogies. I think it's similar to how they're describing that there what are examples of again we talk about this a lot what are examples of

best businesses and what are examples of the worst i think the clear one that's first is commodities that's the worst because it just goes through the classic capital cycle and everything gets stuck and it's kind of just a zero-sum game there's no competition and same with energy unless you have some sort of competitive advantage for the land and the best energy is a commodity yeah it's part of it yeah it's part of it the best ones are with exponentially with no capital

are a lot of the great consumer staples brands within addictive products coffee I'm not talking about Starbucks stores but like just coffee in general caffeine stuff nicotine stuff sugary

stuff fatty stuff takes minimal capital and you can just grow it's not no capital though yeah but yeah I don't think there's really a whole lot of businesses

that could that qualify under that description with no capital yeah but I think again they're exaggerating

because you look at okay yeah by definition like Google search has no capital but the capital is in the intangibles which they need

yeah the one that comes to mind is Google yeah Yeah. The other ones are YouTube too. YouTube as well, where everyone does the work for you. Yeah. I mean, any of the businesses where it's user generated to attract new users or,

or where your customers and suppliers do all the work for you. I think that's a great way to think about it as well. Visa and MasterCard come to mind there. I mean, social media businesses, generally, your users are doing a lot of the work, but those returns have been horrible so um i can't think of a social media business that's generated really good returns in the last seven years well early facebook doesn't count yeah yeah no i'm gonna agree with you and i think it might have gone through a little bit of a capital cycle

where everyone loved the industry and so many people are attacking it competitively everyone wants to start a social media company what do you got now be real all that kind of died that was kind of like a clubhouse thing it has to be unique enough though it has to be a platform in order to have no capital and grow exponentially it has to be a platform where the platform sells itself so kind of that user generated or supplier generated product for you and defendable that someone can't come up with something similar. Yeah, which is why, again, which is why I think under that definition, YouTube is one of the highest quality consumer internet platforms out there. Maybe the highest quality. Again,

their margins might be low, but just from a competitive advantage position, I think it's quite high. All right. Before we end, I want to get some other quotes, but they have one about incentives. I'll skip that one because there's some better ones here. Here's a great one for looking at management teams, quote, a big signaling effect for combs is when management changes the key performance indicators for which it will get compensated by presumably because management won't get compensated if the KPIs are left as is. Definitely a great tidbit to look at when you're checking out proxy statements. Most of the stuff is just kind of boilerplate in there, but that's the one part of the proxy statement that you want to look at.

Or the most important thing on the proxy statement, maybe besides total compensation and all that basic stuff, that's sort of like, no, did they change that from last year? Just look at that. It's pretty easy, too, because it has to be there. Yeah. And it reminds me that sometimes it's easy just to look at the last proxy and say, what are their goals? But look at the previous proxies to see how their goals changed, how they lowered the hurdles for themselves. It's easy to look at just one proxy. or did they change the metric

look at both adjusted did they go from operating income to adjusted something because they're going to make a big acquisition that's going to be value diluted but they can adjust at all the expenses

let's see other last quote here here's a good one and it's a good one because you get the FOMO here while we're listening to the day where the Nasdaq's up 7%, which is insane. Here's the quote. With Google, for example, Berkshire missed it despite the auto insurance being the number one and number two groups for paid search. Warren was in a position where he had the right information and the unit in economics, and yet he still didn't act on that right information. That's why he

regards it as such a meaningful mistake of inaction. That's definitely where the biggest regrets come from is when you're like i saw it and then uh just for some reason was like just didn't do it i've seen that with a i see coupon of 20 today and i'm like like saw it didn't you know just was like i'll keep it on the watch list i think time will tell whether your coupon was his google but i think it's easier to for him knowing how much was being spent by his companies. I think that's one where being the businessman makes him the better investor and vice versa.

I think he could see where a lot of the capital was being allocated and with the auto insurance businesses paying so much for search. Seems like it should have been a no-brainer, but what's stopping him now? That's what I, yeah, that's what I was going to be, I mean, it's still there, yeah, yeah. um cheaper now probably than it's ever been yeah no no i think it was a little bit cheaper but

well after today probably not but i think it was at around 10 times earning coming out of the gfc um but yeah those are it there's some other ones definitely recommend checking out that again investment management insights sub stack look it up they just posted it for free i don't know how you get invited to this meeting but it seemed nice ackman was there talking about sugary drinks I looked it up. It says, inaugurated in 1990, the Graham and Dodd Breakfast exemplifies eight decades of Graham and Dodd tradition at Columbia Business School. Held in New York City every fall, the breakfast brings together alumni, students, scholars, and practitioners to perform on current insights and approaches to investing. Got to be in Columbia. Getting into that Columbia MBA school, huh? Yeah. Is that probably the most competitive finance? no

I mean Harvard Business School right would be number one or Stanford but Columbia's top for investing pretty darn good although they post all the lectures they post all the lectures online now so you can check those out if you really want but you don't get to go to the

breakfast with Bill Ackman alright that's five o'clock it's been an hour thank you all for listening remember the substack link the newsletter link will be in the show notes. If you want to watch on YouTube, these come out every Thursday and you can watch them a little bit before they come out on the podcast feed. It's the same exact stuff, but you're going to see us on our video on the Zoom talking to each other. We're continuing the engineering software theme this month, and we're going to be having those shows on

stock analysis shows on the not so deep dives under the same feed. Remember, we are not financial advisors. Anything we say on the show is not formal advice or recommendation. We are general partners at Arch Capital and clients may hold securities discussed in this podcast. Thank you all for listening. We'll see you next time.