We Study Billionaires - The Investor’s Podcast Network - TIP154: Mastermind Discussion (Part 1) - Intrinsic Value of 2 Stock Picks w/ John Huber (Business Podcast)

Starting point is 00:00:00 You're listening to TIP. Hey, how's everyone doing out there? So one of our favorite types of episodes is the mastermind discussions. We hold these discussions about once a quarter and bring together some of the smartest people that we can find so we can talk about potential stock picks. So this week we have Hari Ramachandra, who's an executive from LinkedIn in Silicon Valley. And we also have John Huber, who's a very smart value investor that runs Sabre Capital Management and a popular investing blog called Base Hit Investing.

Starting point is 00:00:31 So we really had a lot of fun during this week's recording. And this episode was actually split into two weeks because we ran so long on each person's individual stock pick. So the purpose of these deep dives during our mastermind discussions is to give the audience an idea of what investors should be looking for when trying to make an investment decision. That's what it's really about. It's more about the process and how we're thinking about things. And as you'll see, we're trying to determine the intrinsic value of each pick while also identifying the potential risks of owning it and whether that intrinsic value can actually materialize.

Starting point is 00:01:07 In this mastermind episode, we'll be discussing two very untraditional stock picks, where we usually look at stocks that have dropped in price and thereby look to be attractive in value. We are kind of doing the opposite today. The first one has more than doubled in the last few years in price, and the other one more than quadrued. in price. Let's hear if the group thinks that this might still be a good buying opportunity. You are listening to The Investors Podcast, where we study the financial markets and read the books that influence self-made billionaires the most. We keep you informed and prepared for the unexpected. All right. Awesome to be back with you guys. We have assembled the mastermind group, and we got a couple changes this week because Toby Carlisle's out. He wasn't able to make it. He had something

Starting point is 00:02:04 that popped up. Collins out this week. So we had brought on a newcomer here that we found out about just recently, well, at least Stig and I did. His name is John Huber, and he is the portfolio manager for Sabre Capital Management. And he also has a really popular blog. It is called Base Hit Investing. I'm sure most of our audience knows about your blog, John.

Starting point is 00:02:28 It was funny because Hari got on the net, and he just started talking to John here whenever we all got connected. And of course, those two already know each other because Hari, you know, he works at LinkedIn, so he knows everybody. He's connected to everybody. So, Hari Ramachandra from Bits Business is with us. And of course, Stig and myself, we're ready to do this. So thanks, guys, for making time to come on for the mastermind discussion. And we're looking forward to hearing your thoughts. Likewise. All right. So what we're going to do is, like we said in the introduction, we're going to be covering our number one pick that we're kind of seeing in our filters and what we're coming up with that we think might be a viable. investment opportunity, even though the market is very high, sky high pricing right now. Shiller PE's at about a 30. So the S&P might be priced around a three or four percent return, very high. But we're going to talk about an individual pick, and everyone's going to kind of shoot holes

Starting point is 00:03:20 through the other person's pick and their idea. So we're going to kick this off with John. He's the newbie. So he has to go first. Your first in the shoot, John, fire away. All right, guys. Yeah, thanks for having me on. And Stig and Preston. I really enjoy the show. You guys do great work and your podcast are always really informative and always a lot of fun to listen to. So I appreciate you letting me tag along on this one. So I'm going to talk about Tencent Holdings, which is one of the stocks I own for my investors in Sabre Capital. And very quickly before that, I thought what might be interesting is I'll preface this with a few general comments that I think relate in some ways specifically to this investment.

Starting point is 00:04:02 and then more generally to my investment philosophy. So first off, I've always noticed that there is somewhat of an aversion, I guess, that you could say or maybe in a difference among the value investing community toward investing in large-cap stocks and obviously 10 cents a large-cap stock. And I've written about this numerous times on my site and in some of my investor letters, but I think it's interesting to note how much large-cap stocks actually do fluctuate. And even in the last year, which is one of the lowest volatility years in the past quarter century or so, the average gap between the 52-week high and a 52-week low among the 10 mega-cap stocks,

Starting point is 00:04:38 the average gap was 40%. So even among those massive companies, these are companies like Apple and Microsoft and Google and Facebook and Exxon and those types of companies. And even consumer-staple companies like Johnson and Johnson, the average 52-week high is 40% greater than the average 52-week low. So those fluctuations obviously provide an opportunity. And then in terms of my approach to investing. I focus on good businesses. I'm trying to make investments in quality companies when their stock prices are undervalued. I look for things like predictable earning power and high returns on capital, good management, and then I try to just patiently wait until there's an inevitable opportunity that the market offers from time to time. So sometimes these opportunities

Starting point is 00:05:23 are in smaller companies and sometimes they're in some of the more mature, larger companies that have predictable cash flow and then just occasionally get mispriced by the market. So I look for investments of all sizes. Some are large, some are small, but I probably prefer the smaller ones because there are more, I think, inefficiencies there. But I'm just explaining these thoughts to try to demonstrate that, you know, just because the company's large doesn't necessarily mean it can't be undervalued. So with that background, I'll discuss a large cap stock. It's a well-filed company and as I mentioned, that's Tencent Holdings. Ticker is T-C-E-H-Y. So Tencent's a internet holding company in China. It's got a variety of different businesses, all of which are benefiting

Starting point is 00:06:07 immensely from the rapid rise of the Chinese consumer and the expanding middle class there. It's a really incredible company. Tencent's got a lot of investments in many different areas. I categorize the largest businesses, or at least the businesses that are large right now and I think have a lot of potential going forward as video game publishing, mobile advertising, e-commerce, mobile payments, and music and video subscriptions. So collectively, these are great businesses. Most of them take very little capital to grow. Some take more than others, of course.

Starting point is 00:06:40 But on balance, these are really high return on capital businesses and produce solid free cash flow, and they're growing rapidly. The company did about $28 billion in revenue last year and did about $10 billion in free cash flow in the last 12 months. And so it's highly profitable, of course, and the top and bottom line are growing at about 40 to 50 percent annually at the current time. So it's an interesting company with a lot of great businesses in attractive markets, lots of growth potential. The company has aspects of numerous companies that we're familiar with in the West, all under one route. So it's got aspects of Facebook. It's got aspects of WhatsApp, YouTube, PayPal, Apple, Apple music, all rolled

Starting point is 00:07:26 into one. And on top of that, it's the world's largest video game publisher as well. So a lot of great businesses. The crown jewel of the company, in my opinion, is, and this is also the reason for wanting to own the stock. And it's also one of the widest modes in the world, I think, and that's WeChat. And so many refer to WeChat as the Super app. It's one of the one of the most powerful networks, as I said, and there are just under a billion users now. WeChat is primarily in China, almost exclusively in China. It started to expand a little bit, but mostly in China. And what's amazing about that statistic is basically everybody in China is on WeChat.

Starting point is 00:08:08 And it's really unlike anything that we've seen in the West. And it's used for just about everything in everyday life in China. So on the surface, what is WeChat? WeChat is an app for your phone. But unlike most apps, it's really a collection of different apps. It's called mini programs that all exist inside of WeChat. So there are all these apps within WeChat that allow you to perform all different kinds of everyday functions like calls, text messages. You know, people don't send text via SMS.

Starting point is 00:08:37 They send messages via WeChat. They don't make phone calls in some cases. They just call through WeChat. There's a social network really similar to Facebook. WeChat's used for work communication. You know, people don't send email as much. anymore, especially in the larger Tier 1 cities. They just communicate via WeChat.

Starting point is 00:08:54 So it started as a communication tool, but then it also blossomed into this monster app that today, what's interesting is WeChat added the ability to make mobile payments, and that really created a whole new, it took the app to a different level. Now people can use WeChat for everyday payments. You can help cabs on WeChat. You can pay for movies on WeChat. You can buy goods online. You can make payments in physical stores.

Starting point is 00:09:20 And basically anything that involves a commercial transaction can be used through WeChat. And WeChat pay is actually now one of the larger mobile payments platforms in China. It's the second largest behind AliPay. And it's rapidly taking market share. I think it's up to close to 40% market share in China now. So it's a really incredible platform that has a strong network. A billion users attract a lot of businesses. There are now, I think, 300,000 businesses that accept payments.

Starting point is 00:09:47 via WeChat. So it's a very powerful network that continues to grow. And people spend a lot of time on the app. What's interesting is people spend more time on WeChat than people spend on Facebook and Instagram combined. And also along those lines, one of the most incredible statistic, I think, is that over one third of WeChat users spend four hours or more on this single app. So it's a really powerful app that has an incredible grab among users. And that, of course, attracts a lot of businesses that want to sell things to those users. One more statistic that I'll point to try to demonstrate the growth potential. Facebook did about $2 billion in advertising, and we all know how good the economics are at Facebook.

Starting point is 00:10:29 This past year, they did $27 billion in revenue and $10 billion in cash flow. In 2010, two years before they went public, they did about $2 billion in revenue. And so the company went from $2 billion to $27 billion in the last six or seven years. and that's almost all online advertising and a large portion of that is mobile advertising. So I think there's an enormous potential for a platform like WeChat, which I think you could make an argument actually has more pricing power than Facebook has. So all in all, I think it's one of the best companies in the world. I think sizable cash flow, really strong network effect, plenty of room for growth in industries like mobile advertising, mobile payments, e-commerce. And Tencent has, as I said, a small fraction of those markets.

Starting point is 00:11:13 So the stocks up a lot this year. It looks expensive on the surface at around 40 times earnings. And so 40 times the amount of cash flow that I think the company will produce this year. But I think it could actually still be undervalued. And the reason is that if you forget about the size of the market cap, which usually becomes an anchor at this size, it's $400 billion. And you just look at the company's earning power. And you look at the returns on incremental capital that produces. And again, the growth potential that it has, I think you can make a case that the company, will continue to grow its earnings and its intrinsic value. And I think the stock price will likely correspond more or less to those gains in earning power and gains in intrinsic value over time.

Starting point is 00:11:54 So, you know, sometimes 40 PE is expensive. Usually it is. And, you know, I think in rare cases, it can be cheap. So, John, could you tell us more about the valuation? You mentioned that it looks somewhat expensive right now. We're also talking about growth rates, top line, bottom line, call it 40%. It's aggressive to project that. It has done so in the past.

Starting point is 00:12:16 It looks like there's a lot of earning power to be gained, especially in the digital marketing in China. How do you make your model? How do you make your projections of the future cash flows whenever you justify the current valuation? Yeah, that's a great question. I mean, the way I do valuation is usually back of the envelope. I don't have any, you know, detailed spreadsheets or models or anything. But I just think about the company's earning power now and the amount of cash flow it's producing now. and then I try to think about what the returns on capital look like.

Starting point is 00:12:43 And the company is a complicated beast. I mean, it's investing in lots of different passive investments. You know, it took a 5% stake in Tesla, for example. It owns a piece of Activision, which is a video game publisher here in the U.S. And it has all different kinds of equity investments, which are passive. And so some of the capital gets diverted towards those investments. And so you sort of have to make a view about how good you think the company is as a capital allocator. And so that's maybe a question mark. I'm not sure how good of an investor. Pony Ma is

Starting point is 00:13:15 the manager, but I think over time, the core businesses at Tencent are so good. And the runways are so great that I think there's a long potential ahead for the company to grow. Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the height of the summer. You got long days of daylight, incredible. food, floating saunas on the Oslo Fjord, and every conversation you have is with people who are actually shaping the future. That's what the Oslo Freedom Forum is. From June 1st through the 3rd, 2026, the Oslo Freedom Forum is entering its 18th year bringing together activists, technologists, journalists, investors, and builders from all over the world, many of them

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Starting point is 00:17:48 I sent out a tweet, hey, does anyone know much about 10 cents, which is the company we're talking about? And I think I had maybe 10 people reply to me in the matter of like a half hour, you need talk to John Huber. You got to talk to John Huber. Everyone was like throwing your name out there as the guy to talk to about Tencent. And you know, whenever I'm digging into this, I initially like all of this because of all the reasons that you're saying. I totally understand the WeChat argument. I think that it's a much bigger moat than most people in America might give it credit for because everyone's so Facebook centric here in America. But when you go over to China and you see what everyone's using,

Starting point is 00:18:26 it is WeChat a thousand times over. I would argue that maybe it's even stronger than Facebook is here in the U.S. So I'm with you. I completely agree with that. When I look at the financials and I see the free cash flow on this thing, I mean, it's a freaking beast. And when you look at the top line to the free cash flow, I mean, it's a huge margin. I mean, it's massive.

Starting point is 00:18:46 So like this is the type of business that, you know, all of us really like to own. The issue that I have really goes to the heart at what Stig was getting at, which is what are we using as the growth rate moving forward because that is what it all comes down to here as far as the valuation on it. And when you look at the last 10 years, let's just talk about the last 10 years. Last 10 years, the free cash flow, not the top line, but the free cash flow grew at 58% annually for the last 10 years. Just in the last year alone, it was 44% free cash flow growth. So these are like massive numbers. And so whenever I've got my model. my intrinsic value model here, and I'm putting in some of these numbers, if I put in a 30%

Starting point is 00:19:30 growth rate for the free cash flow into the next 10 years annually, 30%, 30% for the next 10 years, I'm getting a 11.9% return, so we'll call it a 12% return if you buy it at today's price of $41 a share. But you have to get 30% every year on the free cash flow growth. If I adjust that down, and let me just adjust it down to 20%, which I think is a much more conservative number. I think that is this in the realm of possible? Yeah, but I would probably put the probability, I don't know. I definitely wouldn't say it's 100% that they're going to get 20% annually for the next 10 years. But let's just see what we get for an intrinsic value here.

Starting point is 00:20:10 So if I put 20% growth for the next 10 years, I'm now getting an intrinsic value of around 6%. So drastic difference in the intrinsic value, the return at the current price of $41. If you buy it $41 and you have 20% annual growth on the free cash flow for the next 10 years, I'm estimating that you're going to get an IRA of about 6.3%. So that's where I guess I get a little concerned, especially as I feel like when we look at the global economy and we see that we're going to have a credit event here in the next 10 years. That's going to happen within 10 years. I have close to 100% confidence that that's going to happen in the next 10 years.

Starting point is 00:20:49 If that happens, I just don't see how they're going to be able to hit. a free cash flow growth rate as high as 30% plus. I guess I have such a hard time buying that. And I really liked your comment, John, because you said, this is one the watch. If you're not comfortable with the price today, it's something to watch because, you know, in a year or two or three years,

Starting point is 00:21:12 you might be presented with an incredible opportunity to buy this company at a fantastic price because their economic moat is so huge. And I totally agree with that. I just don't know if I'm a buyer. today, but I love the fact that we're talking about this company because this is a very high quality company. Yeah, I think obviously the current growth rates, although they have remained high, in fact, in some cases actually accelerated slightly in recent quarters, but, you know,

Starting point is 00:21:38 obviously you can't grow at 40% for very long because the Chinese economy is only so large. But the Chinese economy is very large and the industries that they operate in are so large. one of the things that Bezos talked about in his recent letter to Amazon shareholders was how important it is to focus on these big trends he called them, I think, like these big external fundamental trends that are sweeping major economies. And I think he talked about like artificial intelligence. But, you know, the way I took that was, you know, look for these broad sweeping fundamental trends because as he said, they give you a tailwind and you don't want to fight those trends. one of the trends that I think the company benefits from is the rapid rise of the middle class. And if you look at the numbers and the sheer volume of people joining the middle class in China each year, the numbers are really astounding.

Starting point is 00:22:34 I mean, they're going to add like an entire U.S. population to the middle class in the next four or five or six years or so. So there's a lot of buying power. And as those customers come into the middle class and get more connected to the internet, spend more time on their mobile phones, buy more things, you know, Tencent is really well positioned to capitalize on that. The other thing I'd say is I think you have to think about

Starting point is 00:22:57 Tencent, and this is always a little bit, maybe it's a red flag that I'm saying this, but I think you have to think about the company differently than we would analyze most, you know, most companies. I'd say most traditional companies, but Tencent is such a unique animal because not only is WeChat unique

Starting point is 00:23:14 and unlike anything that we've seen, but the company itself, has its tentacles in all these different businesses. It has 118 million subscribers, paying subscribers, to various news subscriptions and online video and music. And when you compare it to Netflix with 94 million subs, that's a pretty big business that's tucked inside this massive conglomerate

Starting point is 00:23:37 and not many people know about it. The video game business is obviously producing a good share of the profit right now and a good share of the revenue. But I guess my point is, I think there's a lot of white, space that people might underestimate. And so I think the growth is not going to continue at these rates, I don't think for certainly not for 10 years, because the numbers would be astronomical at that point. But I think the growth can be, you know, 15 to 20 percent for a long period of time.

Starting point is 00:24:03 And the valuation that the market places on that might not be 40 times earnings, but, you know, this is a capitalized business that I think will be valued at, depending on where interest rates go and general valuations go, I think it's going to achieve a premium valuation because of the quality of the business. And I do think that earnings can grow for quite a long time at not 40%, but maybe even half that would give you a pretty nice return over time. John, thank you for sharing your views on 10 cents. And just to add to what Kristen said, I was one of the folks who tweeted him within the half an hour. Well, I appreciate you to get me on here.

Starting point is 00:24:41 Yeah, so I've been a big fan and a long-time reader of your blog. And I also want to highlight the fact that one of your bets, probably is one of your significant bet is Apple, your strike price might be in the 90s and today it's 165 for folks. John was very modest when he was talking about his performance. A couple of questions regarding

Starting point is 00:25:00 Tencent's, a VChat, as you said, is phenomenal. I have seen that making inroads even into US and Europe. However, from a risk perspective, a couple of things that I wanted to clarify is even though Tencent is making 4A into mobile payments and

Starting point is 00:25:16 advertising business to business and customer to business B2C. One observation is that more than half of the revenue still comes from gaming. And gaming is a kind of a low-morty business because, you know, the trends change. So that's number one risk. Number two risks I would like you to address is the regulatory risk in China because of 10 cents foray into payment system like the VPay or 10 pay. and recently, I think in March 2014 or some time around that, the Central Bank of China suspended virtual credit card and barcode scanning for mobile payments and stuff like that. So they're kind of hostage to the regulations changing in terms of their payment.

Starting point is 00:26:02 So I wanted to get your thoughts on these two risks. How significant are they for 10 cents? And what are some of the steps that 10 cents is taking to address them? one of the ways I think they're addressing it is, you know, just recently, the Chinese government is an interesting, when you think about the competitor to Tencent, in some ways I think the Chinese government could be the biggest competitor it has, because it really has no equal when it comes to, you know, the platform that's WeChat. And I think in a market economy, if it were a, you know, a complete market economy as opposed to a planned economy, I think the growth would be much more certain. One of my questions, is how big will the party allow this company to be? How much money will they allow it to make? And one of the risks is that the government basically goes to guys like Tencent and Alibaba and J.D. And say, look, you guys have benefited from all of these investments that we've made in IT

Starting point is 00:27:00 and building out the infrastructure that allows you guys to provide your services to the users that you have. And so we're going to force you to invest in China Unicom, for example, which is one of the state-owned telecom companies that recently there was a deal announced and there's some complications going on right now, but it looks like Tencent and Alibaba and J.D. and a couple other tech companies and a couple other companies are going to basically make an equity investment in that company to help finance the 4G expansion and the potential 5G expansion and so forth. So, you know, one of the risks is that they just go to these cash-rich companies and use them as piggy banks to sort of finance the growth that the country will certainly need.

Starting point is 00:27:45 And, you know, there's a lot of debt in China right now. There's a lot of government debt and there's potential issues there. And I think there'll be a lot of bumps in the road. But my overarching view is that China is trending from a planned economy toward more of a market economy. And there's going to be bumps in the road and there might be, you know, kind of cycles that sort of work against that. Xi Jinping, this is an election year in China, and G is accumulating power, and a lot of people are concerned about that, and rightly so. And I think, so in some ways, they might be temporarily moving away from that. But I think in general, the country's getting more capitalistic.

Starting point is 00:28:24 You know, if you look out 20 or 30 years, that's going to continue. And I think these big companies are in some ways on the other side of the coin view as like national champions in China that, you know, China wants these companies to do well. They want Alibaba to do well and expand overseas and they'd like to see Chinese company, I think. I mean, I think they'd like to see Chinese companies make inroads into Europe and make inroads into the U.S. market and potentially compete with companies like Amazon and others that dominate, you know, the rest of the world. So I do think it's becoming more globalized and I think these companies will continue to do well, but you certainly outlined a risk and that's certainly, you know, a risk that you have to think about and

Starting point is 00:29:05 address. So I know that soccer is probably not like a big sports there for my American friends, but soccer is a huge deal here in Europe. And one of the interesting things that had happened since Xi Jinping, the Chinese president, came into power, is that a lot of money is flowing into Chinese soccer at the moment. So many of the best players, they're just simply going to China because they can make more money. And if you track where the money is coming from, it's not coming from the government. It's coming from its massive corporate investments. And whenever I saw that, I was thinking, this doesn't make any sense. Why would corporations pay so much to see good soccer players? I mean, what's that all about? It's simply such a huge prestige project

Starting point is 00:29:51 from the president to have a really good football league because they want to do good at the World Cup. So what the corporations are doing is that they are buying these players, not so much just so they can enjoy them play, but simply to gain favor with the government. And it just tells me something about the culture and the, I guess, the unpredictability. Not so much in the sense the way that the Chinese system works, because typically when you're a president or your secretary of the Communist Party, you'll be sitting there for a long time. And the underlying basis of unity is the same in China. But each president has his own prestige projects that they're just throwing so much money after. So my question to you for the political consideration would be, what's the relationship and what can you see go wrong specifically about this company?

Starting point is 00:30:40 Is that something we should be actually worried about or is there some kind of history? This is very important in the Chinese culture that can give you more stability than otherwise would. Yeah, that's a good question. I mean, I think the relationship between Tencent and the government from what I can tell has been good. and I think Tencent has, for the most part, I think, done things to try to certainly abide by the rules, but abide by the spirit and the preferences that the party has. There have been some bumps in the road and there probably will be in the future. I mean, just recently there have been some censorship questions. Weibo, which is kind of the Chinese version of Twitter, had some real issues and there are some potential censorship issues there.

Starting point is 00:31:25 and WeChat has been named as one of the entities along with Weibo and others that the Chinese government is now investigating to crack down on, I guess, slander against the party and other issues that just occur on social media that the Chinese government doesn't like. Certainly criticism of the Chinese government isn't tolerated there. So all of those things I think are, there are things I've thought about myself. They're difficult to handicap and I don't think you can really place precise, you know, odds. on how those things will work. But I have gained a comfort level that I think 10 cents position in that economy and its importance via the assets that it owns, specifically WeChat, are so crucial at this point to the economy and consumer culture that I think in general, I think the Chinese government

Starting point is 00:32:15 understands that. And I think a lot of the incentives are aligned there. You don't want to upset the Applecart too much when it comes to WeChat because you're going to have a billion people that are really upset. Now, there's some things that, you know, the Chinese government can do outside of shutting down WeChat or, you know, limiting WeChat or censoring we chat somehow. And they're doing censorship right now on certain platforms. But, you know, there are economic things like I talked about with the China Unicom investment. You know, they can go to these guys and basically extort them for money, you know, if they want to in certain ways or force them to

Starting point is 00:32:48 make investments that they wouldn't make, you know, if they had their own complete free will. So all of those things are things that you have to consider. And those are things you just kind of have to kind of handicap on your own. But they are risks. You know, Stig, whenever I think through your question, which I think is a really good question, because we've seen so many Western companies try to go to China and it just always turns out to be a disaster. Whenever I look at this, the fact that the origin of the company is Chinese and that it's grown from that foundation, I think, says that brings a lot more comfort to me personally, if that was a risk that I was concerned about, I have a lot more confidence knowing that it originated as a Chinese company and it's grown

Starting point is 00:33:29 into this large holding company than if it was Yahoo that went over there with a new product had competed really vigorously and done well, I'd be much more concerned about that because the roots were tied back to some Western or some other country outside of China. So I guess for me, personally, that's how I'd be looking at it. I don't know if John would agree with that. Yeah, I mean, the other thing, Preston, is the Chinese firewall. I mean, basically, internet companies in large part haven't been allowed to come into China. Some have tried and gotten kicked out or some have tried and failed. And even retail companies like Amazon has, I think, you know, one and a half percent market share in China. So it's very difficult for outside

Starting point is 00:34:08 companies to do business there. And there are laws that basically restrict foreign ownership of certain companies, which has resulted in the corporate structures that some of these companies have. But But basically, yeah, I would agree that I think the government would prefer, certainly when it comes to IT and banking, mobile payments, probably e-commerce. You know, these are industries that the government wants Chinese homegrown companies to dominate the market there. All right, guys. So we got through one company, and so we're doing well here. Stig, did you want to go next? Sure.

Starting point is 00:34:43 So my stock pick is Fiat Chrysler, and the stock ticker is FDICS, is F. And this stock first came on my radar because it was one of Moni's Pop Rai's picks. And Pop Rai, he bought the stock at around $3 and now was trading around 15. As you can all see, I'm a very, very slow learner. Whenever I saw the company, you know, it was kind of doing a turnaround. It has its structure that it has now since 2014. the brands that most people are probably familiar with, Al-Rameo, Chrysler, Jeep, Dutch, Fiat, obviously, Maserachi,

Starting point is 00:35:25 more expensive car, and then also rammed trucks. Since that they have the new structure, they also have been spinning off Ferrari back in 2015. They were settled in early 2016. If you look at how the company is making money where they make the revenue, 80% of the revenue is in NAFTA and then also in Europe.

Starting point is 00:35:45 In-after, there are the fourth biggest with the 12.6% market share after GM, Ford and Toyota. Europe's somewhat smaller, only 6.5% market share where they're trailing Volkswagen. It's a very competitive industry. It's characterized in general by somewhat smaller margins. It's typically an industry you wouldn't like. It's capital-intensive, unilized labor. A lot of bad stuff for many value investors. at this. If you dig even deeper into where the money is made, not just the revenue, almost all the money or the income, they're made in NAFTA. They're expanding, so they're big in Europe, but they're also expanding into other continents, but they're really not making any money there.

Starting point is 00:36:34 And so we're recording this at the end of August, and as people probably already know, there's been a lot of rumors about Fiat Chrysler, about perhaps selling off the Jeep division to Great Wall Motors. There's also rumors about Maserachi and of the Romaya brand spun off. So a lot of things are happening right now, and there's a lot of noise right now. The stock has been soaring lately. I'm really sorry that we have to do the discussion now, and probably not just a quarter ago, when the stock was a lot more attractive.

Starting point is 00:37:08 If we look at the valuation, we're looking at a market cap around $29 billion. I always like to compare this to Tesla. Every time we talk cars on the show, Presta and I always talk about Tesla, which is sort of weird because Preston and I are a huge fan of Elon Musk and of Tesla cars. We just always pass the valuation. So $29 billion for Fiat Chrysla, $58 billion for Tesla. If you look at how much money they're making, for instance, if you had Chrysla, they're making 3.3 billion USD trailing 12 month, and Tesla, they're making a negative 76 million. So they're

Starting point is 00:37:45 definitely valued differently. A lot of good reason why they're valued differently. I think a lot of people would say Tesla is the future. The red flag with Fiat Chrysler is that they really haven't seen a good plan for electrical car division. What they're going to do about that? It's another concern that we can address later. And in general, the industry has just have a really rough time. I mean, you can also look at something like GM as a good example, bankrupt in 2009. I mean, so all the competitors, the traditional competitors, they're trading at low margins. I don't necessarily see a lot of top line growth, even though I expect some, because it really also depends on how much is the business selling off, how much is it perhaps spinning off,

Starting point is 00:38:29 and see a lot of the value also coming from improved margins. So I still see the company as significantly undervalued, perhaps if you aggregate all the different factors and intrinsic value in the range between, called $25 and $40 in its current structure. So before I give the rest of my pits, I'm very curious to hear what the group has to say. I guess I'm just looking at the valuations on this one a little bit different than Stig. So my big concern with the whole car industry is the inventory levels are just through the roof. I mean, they're sitting on so much inventory. It's absolutely insane.

Starting point is 00:39:07 When I'm looking at this company in particular, and you were talking earlier when we were talking about John's pick, you were talking about these tailwinds are like, hey, what's the next 10 years going to look like? In 10 years from now, if we could warp ourselves, what's it going to look like? Well, I think the driverless car thing's going to be huge. I think it's going to be absolutely massive. If you go on and you do a Google search for Fiat Chrysler, you know, driverless car technology, anything. you practically get nothing. They're just sitting back and watching this thing go completely by. I guess they did some teaming with BMW for whatever that means,

Starting point is 00:39:42 but for the most part, from what I can understand, they're so far behind this learning curve. It's not even funny. When I think about the margins that are going to happen in the auto industry in the future, I think that all the money is going to be in the software side, not on the hardware side. And I think that there's going to be a very massive delineation of that. moving forward into the next 10 years where you're going to have these car companies that have

Starting point is 00:40:06 tons of software that is adding huge amounts of value. We could get into the whole argument of time sharing cars. Ten years from now, I don't find it to be that too far fetched to think that you might be able to get out of your car and then the car can go and perform a service for the rest of the day. I did a little research on this one for the stats here. The average person uses their car for 46 minutes in a day. That means that you're using, you're paying for a vehicle, you're paying for maintenance, the liability, the storage, the fuel costs, the insurance, all that stuff, the depreciation that happens at 60% over a five-year period. You're paying for all of that to use something for 3% of the day. And I think that that's all going to change. I think in 10, 15 years,

Starting point is 00:40:51 that's all going to change. And I think you're going to have time shares with cars and all that kind of stuff. Where is that going to happen? Which companies are going to be on the tip of that? When I look at that, I think Apple, they're sitting on just ridiculous amounts of money to invest. Google, ridiculous amounts of money to invest. And when you think about the technology that a company like Fiat Chrysler brings to the table, what technology are they bringing? Like technology from like 50 years ago? Is that what they're bringing to the table? Because that's how I see it, which is completely a commodity. Whenever I'm looking at that, this, I think the best case scenario for me, when I'm talking valuation, is a 0% growth in their

Starting point is 00:41:31 free cash flow into the next 10 years. I would say 0% growth. So with the 0% growth, the numbers I'm getting is a 6.4% return. I think that's being nice to say it's a 0% growth. If I was going to really kind of hit it with a much more conservative number, I would say negative 10% annual growth on the free cash flow. And if we're using that as the number here, it's for the projection, we're now below a 1% return on the company. So between, so let's just, you know, ballpark it. We'll say it's between the first number and the second number. We're looking at a 3% return, which is similar to the S&P 500. So for me, I'm not willing to go into individual stock pick that seems like they're going against the headwind. You know, my risk isn't distributed across

Starting point is 00:42:19 500 picks, if I would just invest in the S&P 500, I'm not for this one at all, Stig. I'm seeing it completely different than you. No, but that's great. I need to know why I'm wrong. That's why we have these mastermind discussions. Hari, I'm curious to hear what you have to say about Fiat Chrysler. Do you think is a good pick? So I just wanted to clarify, and I also had a follow-up question's take on this one.

Starting point is 00:42:44 So you mentioned that Monish Bobari bought this talk back like in terms. 2012 or 13, I believe. And his strike price was $3. Yeah, he said that he bought into the stock when it was less than a market cap of $5 billion. And right now it's trading around 30. And that was before Ferrari was spun off. What was the intention or what was his thesis to buy? I don't think Monish is betting on the long-term prospect of this company when he's buying the stock.

Starting point is 00:43:15 It's a value pick. the stock has grown in the last four years at an annual growth rate of around 50%. If you look at the growth rate, whereas the revenue has- Hari, just to interrupt you, you're talking the price has grown at 50%. Yes, I'm sorry. The price, the price of the stock has grown at annual, like from $3 to $15, four years, it's 50% annually, whereas the revenue has grown around 7% per year, from 83, 84 to 111 billion, I guess.

Starting point is 00:43:45 So my question to you was, so based on your analysis, what's the catalyst that has driven the price increase? Is it just the earning expansion? Is it just a multiple expansion, like the P multiple expansion? Or was there something fundamentally that changed in the past three, four years due to what the management did or due to certain conditions that industry in this short term? And I agree with Kristen on the long term. prospects. It's really hard to say how Fiat Chrysler will do. But in the short term, I want to know what change in these three to four years. And Hari, I'm jumping in here because you asked this to stick, but I'm right there with you because Monish saw something back then. Because when I'm looking at the free cash flow of this business back whenever he would have bought this, it doesn't make any sense to me. Like, I would have never jumped into the pick because when you're looking at the free cash flow, it was a disaster. It was all over the place. So what was he seeing back then that made him jump into this. I got the same question as you. Let's take a quick

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Starting point is 00:48:35 Now, the interesting thing is that the management has really followed the plan and really met all the goals. Now, they have updated the plan as they went along because it makes a lot of sense. For instance, they realized that Jeeps was a lot more attractive than original thought. For instance, the Jeep brand sold 1.4 million vehicles last year. It's not necessarily a bad idea. I also see this as the management being dynamic and adapt to the environment. They have done really, really well in that regard. And they had some very specific plans about the debt that when you look at it back in time,

Starting point is 00:49:10 it looks horrible with the debt burden that they have, but they're actually being able to pay that debt up according to a plan. So originally, they raised a lot of debt so they could expand, and so far it's turned out really, really well. It's definitely not bad at all. For instance, from 2018, operating margin, the goal is 7%. I think there's a good chance that they can reach that. it's now at 5.1%.

Starting point is 00:49:33 And clearly this looks good coming from a climate of almost no margins at all. And I think the best way to explain the effect of a cyclical stock would be to say, and I'm just making up these numbers, but say that you have an EPS of $1, and it's something that the market really doesn't like, so you will value that at a P of 3. And now you increase your earnings to 4. So going from EPS of $1 to $4.

Starting point is 00:50:04 Now, when the market sees that and the scene of initiatives put in place to do that, they might value that EPS of 4 with a P of 8. This might sound like an extreme example, but that's how you would go from a stock price of $3 to $32, even though that your EPS only increased four times. And that is the power of a cycle stock if you can time it right, which is obviously the hard thing. It is really hard to do any kind of timing.

Starting point is 00:50:33 And I also agree with both of you. It might seem a bit too late that I'm mentioning it now, but I don't necessarily see if you're Chrysler as something that I would hold for the next, call it 10 years. I think it's a short-term plane, almost like a special situation, perhaps, which is kind of like a curse word, I guess, when you're really been following this Warren Buffett approach that we talk a lot about, you know, only buying into companies you want to hold forever.

Starting point is 00:50:58 I definitely don't plan to do that with this type of company. So is now a good time to invest or did someone like Mniz received the gain that really was in this stock? You know, I don't think so. I think that he is rewarded for his foresight of this stock. But as you progress and you can have more and more faith in the management, you can more faith in the business. Clearly the premium you will be able to achieve will be smaller.

Starting point is 00:51:27 but I will also, it's called the certainty or at least the validity of the plan actually materializing is also so much higher. So for slow learners like me, we shouldn't be rewarded as much, but I still think there is more to gain. So you brought up the point about it being a cyclical, and I think that that was one of the reasons why I punished it so badly on my expectation for future cash flow is because when you go back and you look at the last credit contraction in 0809 and you look at the free cash flow of the company, I mean, it just got punched in the face. So if we realistically think that that's going to happen over the next 10 years, which I do, I think that you're going to have that same type of fallout with their free cash flow.

Starting point is 00:52:07 So if you're not accounting for that in your model, I think that you're just, you know, you're not looking at it appropriately. And so that's probably one of the reasons why I'm so hard on where I think that they're going to be with their free cash flow moving forward is because I'm expecting another credit type event to occur. And I think it's going to be ugly for them. Yeah, it's definitely a good part. I mean, there's a variety of different factors that really influence the global demand.

Starting point is 00:52:31 Global GDP growth, for instance, that's one, consumer confident, that's another. And then credit. Credit is such a huge driver because primarily people buy cars with credit. And another point I'll just briefly like to talk about is how we talk about how AI or driverless cars, how that's really going to disrupt so many industries. And I think it will happen. but also think that in the near future there is a lot of value in a company like Fiat Chrysler because they have these valuable brands they can spin off.

Starting point is 00:53:03 They're catering to a segment that might not welcome driving these cars too fast and they have moved into more SUV Jeep focus with higher margins. Yeah, I agree with a lot of the points that you guys have kind of, I'll just kind of echo some of the concerns I have about the business itself. I've looked at, sort of casually looked at the automakers. Every time I look at them, I just look at how difficult the business is. When you look at the economics of the business and Stig, you pointed this out, it's just an extremely capital-intensive business.

Starting point is 00:53:38 They tie up a lot of working capital. They tie up a lot of capital and fixed assets and their factories and equipment. And it's not only capital-intensive, but it's very labor-intensive. So it seems like every time the business begins to make money, you know, the unions come in and want a piece of that pie. And so it's very difficult to make lasting profits in this business through the cycle. The other thing that I've noticed, and I think you pointed this out how good Marcioni is at Chrysler, but in general, it seems like the auto businesses are always so focused on defending their market share,

Starting point is 00:54:17 and they're so focused on the top line. and I think a lot of it has to do with the culture. A lot of it has to do with just the nature of the business. I think when you plan to, when you plan for Star being at 17 million and you have a certain amount of labor and a certain amount of production capacity at the moment and a certain, you know, your factors are running at a certain tilt and you want to keep that going. And so you get this cycle where manufacturers are so focused on just running cars

Starting point is 00:54:45 through the assembly line and sending them to the dealers and focus. focused on top line. And then you get this discounting environment and prices coming down. And so it's, it's a very difficult business, ultra competitive. But having said all that, it is interesting. And you pointed this out about what Pabri said. But, you know, I was actually, I heard an interview maybe a month or two ago with him. And he talked about how he made fivefold return on his fiat investment. And I had to go back and check because I was really shocked by that, that his returns were so high investing in such a mediocre or, you know, some might say a kind of a lousy business, Ferrari spinoff was a big part of that. But it is interesting to look at cyclicals and I don't

Starting point is 00:55:30 really look at a lot of cyclical stocks, but I think there is a case to be made for investing in these types of stocks when, you know, times are really bad, when conditions are terrible. And, you know, Peter Lynch used to say this, that, you know, when times are bad, you want to buy, or you know, you want to buy cyclicals when times are bad and earnings are low and thus the PE ratios are actually high. One of the things that makes me a little nervous about the car companies right now is we're at or maybe not quite there, but you know, just past the peak of the cycle potentially and but we're near the peak and car companies are still running on, you know, near record profits and PE ratios are mid single digits. And so my concern is, you know, where we are in

Starting point is 00:56:15 that cycle and what the earning power looks like, you know, three or four years from now. John, I think you hit the nail on the head. You know, going back to Hari's original question, what was Monish seeing that made him pounce on this at the exact right time? He was looking at this Peter Lynch idea of if you're going to invest in a cyclical, find the absolute best company in that field run by fantastic management that has the best financials that's being punished because it's going through this cyclical change. and everyone hates it and buy it at that at that moment.

Starting point is 00:56:48 And, you know, when you look at when he would have done this, that's exactly what he was doing. You know, I read a, I think he, I think Markioni wrote a report called, I think it was called Confessions of a Capital Junkie. I may be getting the name of that wrong, but he basically wrote a paper. It was interesting because it showed me that he was cognizant of the natural problems or the, you know, the nature of his business, which is a very capital. intensive business and our companies produce low returns on capital and his basic argument was hey we need scale so we can get together and and share you know share designs and maybe cut some of the workforce and you know share some of the r and d expense and so forth and so his argument was balking up what's interesting is they're kind of going the opposite route and so i've been wondering you know as i

Starting point is 00:57:41 read the some of the parts i saw article in paper i think last week about talking about the jeep valuation and the argument was the same with Ferrari when they spun it off and that's worked out tremendously well for Ferrari shareholders and Chrysler shareholders but it seems like they're shrinking as opposed to bulking up and consolidating which is what marcioni's original you know desire was yeah it's a really good point john and as most shareholders i really like to see the company grow and prosper. But as an invest, I also think, what is the best financial result here? It might be to string, because it really depends on the price, not to bring in another sports metaphor, but it's sort of the same thing if you sell your star player. Is that a good deal? Well, it depends on a variety of factors,

Starting point is 00:58:30 and one of the most important ones, that's the price. So can he be sold for more than his value? It might be so that even though it was not the intention, the best return you can get as an investor. That might be from seeing for a crisis shrink and thereby getting your return in the forms of special dividend or in shares in the new spun of companies. All right, guys, that wraps up the first part of the mastermind discussion. Stay tuned for next week's episode on the Ammasters podcast where we will discuss the stock picks that Preston Nahari brought to the group. Thanks for listening to TIP. the show notes, courses or forums, go to theinvestorspodcast.com. To get your questions played on the show, go to Asktheinvestors.com and win a free subscription

Starting point is 00:59:17 to any of our courses on TIP Academy. This show is for entertainment purposes only. Before making investment decisions, consult a professional. This show is copyrighted by the TIP network. Written permission must be granted before syndication or rebroadcasting. Happy!

We Study Billionaires - The Investor’s Podcast Network - TIP154: Mastermind Discussion (Part 1) - Intrinsic Value of 2 Stock Picks w/ John Huber (Business Podcast)

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