We Study Billionaires - The Investor’s Podcast Network - TIP264: Mastermind Discussion 3Q 2019 (Business Podcast)

Starting point is 00:00:00 You're listening to TIP. On today's show, we've assembled our mastermind for the third quarter of 2019. The members of our group are Toby Carlisle, who's a deep value investor, author of multiple bestselling investment books, and the founder of the Acquires Multiple. We have Hari Ramachandra, who's an executive in Silicon Valley and comes with a wealth of experience in programming and all things digital, and of course, Stigbroterson and myself. Like all previous mastermind discussions, we propose a stock pick, and the group provides concerns, accolades, and recommendations to the group. So without further delay, here's our discussion.

Starting point is 00:00:36 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. Hey, everyone, welcome to The Investors podcast. I'm your host, Preston Pish, and as always, I'm accompanied by my co-host, Stig Broderson. And like we said in the intro, we are here with Toby and Hari. Guys, welcome back to the show. It's great to be here. Great to be here, Preston State. I'm kind of curious, Hari, there's a lot of interesting things happening out there in Silicon Valley with all these IPOs blowing up.

Starting point is 00:01:21 What's the word on the street? Yeah, as we were talking just before we started the recording, the mood is changing among investors here and also among professionals. But they're considering companies who are promising high growth, but no profits. I mean, that's been the model since the beginning, right? Just get it to the public markets and let them bid it into oblivion. But, yeah. I mean, it's kind of interesting. And then you had Jason's Wig wrote the big article recently about just like, okay, so what are the limits of the difference between the private sector and the public markets when they enter?

Starting point is 00:01:59 And I think it was a really good piece that he wrote that was kind of describing how you have these venture capitalists that just keep bidding these things. and then everything kind of just dumped into the public sector. So some interesting thoughts going on. I'm curious, Toby, have you heard anything on your side down there in California? Well, since Stigin, I did the recording about four weeks ago, and I was at a conference just the one day that I wasn't watching my screens, which is the best day for value in 10 years, and the worst day for momentum, glamour-type stocks in 10 years.

Starting point is 00:02:30 They say it was a 5-Sigma move, which value quantitative, value nerds like me will tell you that the market doesn't follow a normal distribution. So it wasn't quite as rare as that. But the point is that it was a very unusual move. And so what happens when you have changes in regime is you have these very high volatility events like that. And so it's very interesting. As a value guy, I'm always looking for.

Starting point is 00:02:52 Valies had a really rough run. It's been very weak. But when it turns, it can turn very violently. And we saw maybe an interesting kind of microcosm what can happen in one day. In 1999, 2000, after underperforming for about. five years, it caught up, value caught up to the market and caught up to the glamour stocks in seven months. So if you're looking for a time to get some exposure to value and you've been thinking about it, now is probably a good time. You should maybe listen to the last episode of

Starting point is 00:03:19 this podcast that Stig and I did where Stig was pitching a value ETF. You know, so I found that bounce absolutely falls outside of the statistical norm of how value had been moving over the last, call it eight years. But the other thing that I'm kind of curious, and I have literally no evidence, it's much more intuition on this than anything, is I wonder how much correlation there might be between just quantitative easing and the performance of momentum investing. So the Fed has been tightening. We see this slowdown as far as the underperformance of value, and now we see value just kind of spike. I wonder if, and this is a huge if, the U.S. Central Bank, back on the big spigot of quantitative easing if you'd see momentum start to come back into the

Starting point is 00:04:05 performance realm. Well, in 2007, 2009, the market wasn't quite as divergent as it is now. Value and glamour were quite a lot tighter. But as that market fell over, the Fed was easing the whole way through and they started quantitative easing. It made no difference whatsoever. But the argument is that value and glamour or value and growth are two ends of this duration trade. So when someone says the duration trade. What they're talking about is interest rates. So what a growth stock is, it's not earning very much now, but you think that in 10 years time, it's going to be earning a lot of money. So it's earning money at the back end of your analysis. Value stocks are earning a lot of money now, but the thought is that they're going to make less because they're in declining

Starting point is 00:04:47 businesses as you go through. So value stock earnings are front end loaded, glamour stock earnings are back end loaded. And you think about if you drop interest rates, if any of you have done like an intro finance type course. You notice that the impact of lowering interest rates makes those back-end cash flows much more valuable, which is why growth stocks do well when interest rates go down. When interest rates go up, value stocks do a little bit better relative to growth. So it's probably very low interest rates and very long period of falling interest rates hasn't helped value. Sometimes it gets out of the control of the Fed. Being the 10 year had been sort of gradually rising, gradually spiking. They've been a little inversion of the twos and tens,

Starting point is 00:05:24 which is typically precedes a recession or a depression, and often that precedes a big crash in the stock market too. It's never not predicted. It's gone back out of that inversion. I don't know what that means necessarily, but I would say that the smarter bit from here is probably for value over the longer term, even though in the short term, who really knows what can happen. What is interesting is that we recently had the sixth worst period for value ever, and I've done a little digging into the empirical evidence. So value doesn't follow the overall stock market, which a lot of our listeners would know. For instance, in the bear market from 2000 to 2003, value did exception in well, but fell together with the overall stock market in 2008.

Starting point is 00:06:07 What we see looking back in history is that when interest rates are low for a long period of time, and whenever there's a strong appetite for risk, value does very well. Today we have low interest rates, and I guess you can also make the argument that the appetite for risk is not there yet for value to perform well, but I do think that we're starting to see less risk aversion across the board. So I side with Toby on this one that now is likely at the time to look into value investing. I'll make sure to link in the show notes to the episode where Toby and I recently discussed the current market edition, and we talked more about value investing. But guys, let's jump right into the first stock pick.

Starting point is 00:06:50 Who wants to go first? I'm always happy to put my head on the chopping book first. My pitch in the fund, in the acquires fund, long and short. And so I've been pitching a lot of shorts on the show. And I'm doing that again, just for the reason that I think that there's a lot of stuff that's very overvalued. I think longs are a little bit harder to come by than shorts, but there are lots and lots of shorts out there. And I'm just astonished at the valuations at some of the value. these businesses attract. So the pitch that I have today is for Vonage. The ticker is VG and it's a short.

Starting point is 00:07:22 So you might remember Vantage. It used to be when you were maybe watching TV 10 years ago, there was a way that you could lower your phone bills. And that was by signing up to get Vantage, which is basically a voiceover internet. They gave you a much cheaper rate. I think for like 30 bucks a month you could sign up and you got unlimited calls. So that consumer business is basically what drives Vantage these days. And that consumer business is in terminal decline. It's falling over at the rate of 10 or 15% a year. And what they're trying to do is to transition to a more business offering where they try and do all of text and voice and all these other things for business. They want to be able to embed into websites and stuff like that. That little part of the business is growing

Starting point is 00:08:02 pretty quickly. But here's the problem for Vantage. And I'm probably the only value investor left who looks at the balance sheet that I do. And I know it sounds quaint, but I think that at some some stage, the value of the business, the performance of the business should be reflected in the balance sheet. And if you see a balance sheet getting hollowed out, that tells you that all is not right on the business side. So the main problem is that their big business, the consumer side, is in terminal decline. And the way that that turns up, so Vonage has a market cap of about $2.8 billion. Enterprise value is $3.3 billion. So right off the bat, you can tell that there's about $500 million in debt in there. What does that price? So what do you get for your three?

Starting point is 00:08:42 $3.3 billion, you get $100 million in EBITDA. So that's about 35 times. And then when I look at all of my statistical measures, like I look at Pietroski's F score, I look at the Altman Z score, I look at the Benish M score. And these tell you about whether the company's a manipulator or not, whether the company's in some financial distress, how strong it is. All of those things are towards the worst end of the scale. So altogether, it's one of the uglier companies out there on that basis. So what they're trying to do, they have to transition this expensive company carrying a lot of debt from its declining business into what it perceives to be a better business. And the way that they're doing is they're acquiring. And so for all of these acquisitions, that part of the business is

Starting point is 00:09:22 growing a little bit faster, but they're having to pay out money to do it. And the sum of all of that is that their return on equity is anemic. It's 1.2%. Return on assets, 0.58%. So this is not a super high growth, super valuable, high quality, high return on investment company. It's just a very, very expensive old line company. If you look at the share price and you see that it's been going up pretty consistently over the last, say, 10 years, eight years, then you go in and have a look at the way that they've achieved that. It's all multiple expansion. So the PE right now is 383 times. That's still expensive. Even in the current day, that's considered expensive. Book value, price to books like five times and price to cash for about 35 times. Maybe these are prices you pay for

Starting point is 00:10:09 a super high quality, high growth, high return and invested capital business with a big mode. That's not what this business is. This is a not a great business in a highly competitive industry. So I'm shorted in the acquirers fund. The ticker in the fund is ZIG. The ticker of this thing is VG. So Toby, you were saying that the business was declining by 10%. I'm looking at the top line revenue. I don't have the, I'm just looking at 2018 is my last number here, but it seems like the top line was pretty flat. Is this a billion? Yeah, a billion dollars in 2017. It was a billion again in 2018.

Starting point is 00:10:42 And then over the last 24 months, it's $1.1.1. So I'm not seeing the 10% decline, at least not in their top line. They've got several business lines in there, right? They've got the consumer, which is in decline. So consumers, 2017 declined about 13% last year, about 12%, likely about, 8% this year, probably about another 9% next year. And that's their bigger business. That business is like 450 million. So the way that they're keeping that top line growth is they're acquiring, they're trying to go into a business. They're trying to enhance their business offering.

Starting point is 00:11:14 And the way they're doing that is by buying up these little next mode talk box, new voice. They're trying to buy these little bolts on businesses. That's what's keeping the top line looking better than it otherwise is. It's kind of disguising what's happening. I think this is important for people to understand as well is you're talking about a company that if you'd buy one share, it's going to cost around $11.50 today. And if you wanted to know how much profit that one share is going to give you on an annual basis, it's around 15 cents. So I'm with you, man. I'm not trying to sharpshoot it at all. I just didn't really understand that one metric, but the way that you're describing it, it's being masked by the debt that they're accumulating.

Starting point is 00:11:51 And I mean, the earnings are just a pittance for something that's not growing for it to be capitalized that high. Yeah. So I guess like you, Preston, I'm not. When I'm not, whenever I look at this, dog, I'm not super bold. I'm bull on very, very few things. I guess as listeners would be able to tell. But I'm looking here and I'm trying to think, hmm, I do see a little insider buying, actually. Not a lot, but it's not like they've been running for the hills. And it's value that multiple of three-time sales. You have gross margins around 60%. What is it that we're missing? I know all of that is being eaten up right now, but all the operating expenses. What could we potentially have missed here? argument here is that the business lines are reasonably high growth and better business. And so they have been growing and they have been doing a little bit better. And at some stage, that will overtake the consumer side of the business. And then this is going to be a high growth software as a service type business. The problem is that they have to transition to that point.

Starting point is 00:12:50 You know, the business market is a lot tougher the consumer. I think that the business makes it a lot more cyclical. Looking at it right now at the best possible time in the cycle for it, it's going to get worse as this cycle goes down. So if you look at the share price of this thing, it looks like it's been doing really well. But then if you dig into the multiples, the only reason it looks like it's been going up every year is that it's just been purely multiple expansion to the point now where it's nosebleed expensive for not a great business. My question is for Hari on this one. So, Hari, where you can get in trouble, you obviously know with a short is if somebody comes along and they find your assets to be a strategic advantage to them, and then they start buying a.

Starting point is 00:13:30 the company, that's going to really give you a hard time. So from a strategic standpoint, would you see a larger company that would find the assets on Vonage's books to be advantageous for them from a strategic standpoint? That's a good question, Kristen. I have been a one-age customer for a long, long time, almost a decade now. And I can give you from a customer perspective, especially on the consumer section of their business, they are going through a massive disruption. And that's coming from WhatsApp. That's coming from Skype. Right now we are talking. What used to happen earlier is a lot of countries in the world didn't have cheap data plans. And one age was this bridge where we could call landlines back in India or any other

Starting point is 00:14:15 country. So that was their unique selling point, our value addition. WhatsApp and data becoming cheap, both companies and customers or consumers are shifting to this new technology. technologies that have transformed this voice calling, voice over data as they call it. And Von Edge, I don't think they were able to adapt in time. And their value prop has become very weak. It does look like it's the technology of the past, not of the future. I'm on board with you. Looking at it from the outside, I definitely don't have the technical background that you have in a lot of these areas. But I mean, it just doesn't seem like this is something that's going to perform too well moving forward. So I'm not one that really like the short

Starting point is 00:14:54 individual companies because of the risk of somebody that you just don't understand what their strategic interests are coming in and swooping it up and buying it at a premium and then you just get wrecked. But I'm with you, Toby. I think it's a pretty ugly, highly capitalized company that doesn't show any prospects for future. On the acquisition front, they have this old technology that is the consumer side. The value of that, I think, is declining and debatable. The business side they've been acquiring, they've been buying things to get it to the point. And what they've been paying, so they bought TalkBox, they paid $35 million for top box. So that's 1% of the enterprise value of this thing. So I don't see the talk box being

Starting point is 00:15:34 the thing that people come hunting for. Next Mo they paid $230 million for. And this is in the context of a $3.5 billion company. New Voice Media is their biggest acquisition ever. They paid $350 million for that. Someone's got to come along and pay like a 10 times for their biggest acquisition ever to even get to the value of this company. And I just, I don't it happening. 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've 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

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Starting point is 00:19:54 Go to Shopify.com slash WSB. That's Shopify.com slash WSB. All right. Back to the show. Let's go under the next one. Stig, I hate to put you on the spot, but I kind of want to talk about yours. I like your pick. Yeah, so talking about old technology and perhaps not being fit for the future,

Starting point is 00:20:16 Let's talk about my pick, which is AT&T. I guess that most of our listeners are already familiar with AT&T, but it is an American international conglomerate, and it's the world's largest telecommunication company. Since June 2018, it's also the pairing company of the mass media conglomerate Warner Media, and that's also made it the world's largest media entertainment company in terms of revenue.

Starting point is 00:20:42 Actually, if you're looking at 2018 numbers, AT&T is number nine, terms of the biggest American corporation by total revenue. So there are a few reasons why I have AT&T on my radar. One is that it's very difficult to find stable yield these days, stable high yield that is, at 5.4%. With an excellent dividend history and very stable numbers in general, it's an interesting stock just for that reason. Dividendant has grown every year for 36 years. So if you are a dividend investor, it might be a stock you want to take a closer look at. Another reason is that Elliott Management Corporation announced earlier this month that it's taking a 1% stake in AT&T as an activist investor, and they said that the stock price could go up as high as $65.

Starting point is 00:21:30 Right now, it's trading at 37. I'm not as optimistic as they are, and I'll elaborate more than that later, but I do think that they have quite a few good points on where AT&T could go here and perhaps be soon trading at a more attractive valuation, especially giving the current market conditions. So if you look at the performance, all the past 10 years AT&T stocks has underperformed the S&P 500 with more than 150%. So they only returned 42% compared to the broader market that's delivered 193% return. And it was actually so severe that Dow Jones cut them off. They actually used to be, and including predecessors since 1939. So that was something that sort of surprised the market despite the current underperformance. So if we look at the industry, in recent years,

Starting point is 00:22:23 have been very aggressive in the merchant's accusation strategy, and they had a series of deals totaling almost $200 billion. And the intention for AT&T was to become a diversified conglomerate by pushing into new markets. You can kind of like see it as this. They started the decade by being a pure play telecom company with leading wireless and wireless franchises, and now they are more a collection of businesses, new markets with the different regulations, and include some more special franchises than before. So let me give you a few examples. They bought T-Mobile, $39 billion, direct TV, $67 billion, and thereby they also became the largest pay TV operator in the country. Like mentioned before, they also bought Time Warner, a Warner Media,

Starting point is 00:23:14 valued $109 billion back in 2016. That was completed here in 2018. So very, very interesting company right now. If we look at the valuation, we can talk more about later about some of the catalysts and why it can happen. If we look at the valuation, I'm looking at the TIP multiple of 15, so that's the EV, the enterprise value compared to the operating margin. And at the face of it, it doesn't look super cheap, but it's not also very expensive, I'd say, given the quality of the company and the future prospects. I have a positive momentum, and in my valuation, I used a 3% as my most likely growth rate and allocated 50% that as my most likely scenario. It probably seems very low whenever you look at the historical growth in revenue,

Starting point is 00:24:03 but keep in mind that this has happened by leveraged acquisitions. So whenever you have a top line that's fueled by debt, you typically don't want that to continue for too long. Also, I allocated 25% probability of 10% growth happening, and that could happen if they would become the leader in 5G, which is probably something we can talk about more, and thereby reclaim the market leader position in the industry where they already make half of their profit. And then, as a conservative estimate, I put 25% probability of a 0% growth. So whenever I do that, and I use a normalized free cash flow of $22 billion,

Starting point is 00:24:44 which is probably a lot less than will be this year. I think they are on target to get closer to $29 billion. But if you use $22 billion, giving those assumptions, I'm going to be close to 11% return. So, guys, this was sort of an ugly stock. So I'm curious to hear what you had to say, talking about old technology. So, Stigg, you had mentioned there was a figure thrown out

Starting point is 00:25:09 by some analysts that put the price at $65. Is that what you said? Yes. So whenever I did this like you, I mean, we're using kind of the same tool here as far as calculating the intrinsic value on it. I had a little bit more pessimistic numbers for the future free cash flow as those just probably me being conservative with it because I hadn't done as much research as you had. And whenever I did that, I came up with in excess of an 8% return based on the current price. But what was interesting is when I plugged, let's say the price went to $65. What was interesting is the IRA became around 3.5%, which is,

Starting point is 00:25:43 where the rest of the market, the S&P 500 is priced. I found that interesting that they're saying that that's their price target. Looking at the top line, it looks super healthy. The fact that you said that you're expecting the free cash flows to be that much higher than they were last year, I think is just really exciting. From a momentum standpoint on our TIP finance page, the momentum is green. It turned green fairly recently, actually. September 2nd timeframe, this turned green.

Starting point is 00:26:13 on our momentum tool. So for me, I'm pretty excited about this. I think this is a nice, stable, large company that's kicking off, a lot of cash flow for the price, and it's got good momentum indicators. I like it. Whenever it turned green, that coincided with Aalianneum going in and said, hey, by the way, management, you should change a few things here. And we think that the price tag is a lot higher than it is right now. The market definitely appreciated that. And I actually like to talk about some of the things that they highlighted, kind of like as a basis of saying where it could go. So first of all, they talked about selling off assets. And it's very difficult to find, I guess, any activist who are looking at a conglomerate without saying, hey, let's focus on what

Starting point is 00:26:58 we're good at and then use that excess cash to buy back stock and focus more on, you know, the most profitable business units. There are no difference. For instance, they would really like to sell direct TV. It has not panned out as well as, I guess, as AT&T would hope. It's been in decline ever since they bought the company. And it's one of those things where you would say it would probably be a good thing. This is not really what they do. Again, they are conglomerate, but this is probably not what they do. This is not where they make the most of the money. They already have a lot of debt. perhaps it's already trading at an attractive valuation. At least you would say that by definition as an activist.

Starting point is 00:27:40 So perhaps we could apply that cash better. I don't know if they can get their $67 billion back and they also need to find a buyer who can swing something like that. But as Sotta do agree that it might be a better option for them. The interesting thing is also that the CEO has been out saying, no, that's not what we're going to do. That's not the strategy. and wonder why.

Starting point is 00:28:03 Like most CEOs, especially for conglomerates, they do not buy into the activist argument that we should be more focused. That's not what they're saying at all. Another example, and one of the reasons why I'm, I might be slightly more optimistic than Preston, but not as optimistic as Elliott management, is that they're calling out for cost-cutting

Starting point is 00:28:23 and more efficiency in operations. And it's just one of those, whenever I read that and I was like, Yeah, I mean, it's not like a disagree, but show me this top 10, you know, conglomerate in the world that can't be more efficient and where you can't play around with your Excel sheet and say, we should increase our margins by 3% because right now there are, you know, too much red wine and private jets and P.A. is running around. Is that really going to happen? And the other thing is also that, you know, so much cash is already spent on dividend payments. And yes, you know, you might say, oh, let's be better capital allocators. Keep in mind, you know, I mentioned before, this is a company who had high dividends, so 36 years straight, and they have healthy cash flows. You are not the CEO who's going to be like, no, no, I don't want to do that. I like that activist who is saying, I should stop paying the out dividends. I should sell my assets that gives me

Starting point is 00:29:24 all this influence, all these employees, and then start, you know, making a special dividend or, you know, allocated differently than we've done before. We don't want to be this conglomerate having everything. So I think that's one of these concerns where I'm like, in theory, it would be fantastic. In practice, that's probably not what's going to happen. So I don't think you can be as optimistic about the future. Yeah, I didn't realize the payout ratio was 70%. That's pretty high. I mean, it's trading at $37 and it pays a $2 dividend. That's really high. I think Stig, my main, the way I think about AT&T is that they have a very stable revenue source. I don't see a disruption coming in terms of their main cash cow.

Starting point is 00:30:08 However, what I'm worried about is their investment discipline. The assets they bought, whether it's time warner or it's not really kind of, you know, there's no network effect for them. So it's not helping them grow. If we are thinking it more like a bond, yeah, maybe fine. But I'm also worried about the payout ratio, as Preston just mentioned. From my perspective, I think it is a little bit undervalued, but I don't think it's, it's undervalued for a slow, stable, growing business growing at the rate that it is.

Starting point is 00:30:40 Pretty anemic returns on equity and returns on equity is about 9.5%. Return on assets about 3%. And the reason that there's a big differential there is it's carrying a couple of hundred billion dollars in debt. So market cap 275 billion, EV, 470 billion. That means a couple of hundred and a few hundred. in debt, which is pretty chunky. They haven't been great at buying back shares,

Starting point is 00:31:03 and they've been paying out most of their money. I think that the most interesting thing about this is that Elliott is in there, and maybe Elliott can do something with their capital structure and with the way that they allocate capital. As it stands, I don't think it's particularly interesting, but Elliot is a very smart activist firm, and they're very aggressive too, very tenacious.

Starting point is 00:31:23 So if Elliot has seen something in there, then I think it would be worth taking it. taking a little position just to see what Elliot can do. Yeah, and it's interesting because it also really depends on how much do they want to do. For instance, Elliot, or the activist. You know, it's a massive company. You know, it takes billions and billions of dollars to have any say. And, you know, keep my mind they only just bought a bit more than 1%.

Starting point is 00:31:48 So far, the way I read the year management statements is that they don't really care. If you read what they say, it's say that, yeah, we're all. doing what they're saying that we should do. And we already paid off $9 billion in debt this year. It's not a lot of debt. And they're also saying, yeah, we should probably start looking into share buyback because there's close to no cost to debt right now, which in itself is a sort of disturbing statement, I guess. I do think that where there is a really interesting game changer for the future of the company and for the future free cash flows, that's already on showing a positive directory is that if they indeed become the leading provider in 5G. So right now it's Verizon

Starting point is 00:32:33 and it's sort of like too early to say who will become the best in 5G. They all have a fantastic distribution system. And just to give you sort of like an idea of what we're talking about, it's like, oh, 5G, what is that? So if we go, you know, back in the day, back to 1G, that was sort of like a voice-only service or an analog network. 2G, think text messaging. That was sort of like, that was what we could do with that technology,

Starting point is 00:33:01 but still it was pretty huge. 3G, web browsing video call, 4G. That's sort of like where we are now. It allows us to stream all our Netflix, ride sharing with Lufton Uber. And now 5G is just so much faster. It's approximately 10 times as fast.

Starting point is 00:33:20 And it's, I'm sure we're hiring, would laugh at my explanation of the difference between these technologies here, but it's something called latency. So it's kind of like a packets of data that is traveling to receiver over a network. And it just allows for almost a real-time experience that you can't do now with 4G, but you have that with 5G. So that would be like multiplayer gaming and very video intensive services. It can potentially be a game changer. That's already where they're making 49% of all their profits. I love these rebranding exercises for the technology. We're just going to stick another number in front and charge you twice as much.

Starting point is 00:33:58 Here you go, now it's 5G. Enjoy, it's twice as much. I'm going to go ahead and pitch mine if you guys don't mind. Okay, so I just want to put a quick plug out there for one of the services that Sting and I have on our website. We have these intrinsic value assessments that we do. The one I'm getting ready to talk about is one that we published on the 7th of July for a company called Stamps.com.

Starting point is 00:34:19 These are completely free on our website. We publish about two of these per month, and we have a kind of a systematic way of analyzing a particular pick where we go through. We talk a little bit about what the company is. We then show our math of how we're coming up with our intrinsic value of the business. And then we talk about opportunity costs. We talk about the competitive advantage of the business. And then we talk about risk factors of potentially owning it. And then just an overall summary.

Starting point is 00:34:47 And again, these are completely free on our website. We publish about two of these per month. So if you guys want to get access to this or you want these sent out to you, you can go to tipemail.com. That's tipemail.com and you can get a bunch more information on it there. Anyway, so when we first published this article and I got to give a huge shout out to Christoph Wolf because he's the one who kind of gave us the handoff on this. When Christoph handed this off to us, it was at $46 and $33. And today we're already at $74 and $26. So we've already had a significant move. on this one since the time we published this. But with that said, even though we've had a huge jump in the price, I still think that there's quite a bit of value here. A little bit of context for people. So stamps.com, I think everyone's pretty familiar with it where you can basically print your postage, stick it on an envelope and mail it out straight from your house without having to go to the UPS. Super convenient. This stock was trading at a huge price just in July of 2018, so a little bit over a year ago,

Starting point is 00:35:51 This was at $283 when it peaked. It had gone down to $37, no, $34 back in May. One of the reasons that this went through this significant decline is due to this negotiated service agreement that Stamps.com had with the U.S. Postal Service. And that contract that was pre-negotiated that got them the rates that they had was severed. And then they went into different agreements afterwards, which ended up giving. improving Stamps.com more flexibility. And I think this is another misnomer that a lot of people don't understand is that Stamps.com was the one that initiated the termination of that negotiated

Starting point is 00:36:30 service agreement. I think a lot of people on the surface might have viewed that as USPS severing that relationship, but it was actually Stamps.com that severed it. Now, it went through two significant price declines down to the really low price that I was telling you guys earlier. But where I think this one gets really interesting is in the numbers when you start calculating the intrinsic value on this. So when I go into our intrinsic value tool here and I'm punching in the numbers, the free cash flow right now is around $273 million a year is the free cash flow on the business. When you interpolate that out and the free cash flow has aggressively been going up in the past, I would say, three to four years. So I have a little bit of a concern as to how

Starting point is 00:37:17 well, they're going to be able to sustain that. And so whenever I was interpolating those free cash flows out into the future, I was pretty pessimistic by basically saying that there's not going to be any future growth in the free cash flows. In fact, I think I even incorporated maybe like a negative 1% decline overall across the whole array of potential outcomes. And so whenever I did that and I looked at the number of shares outstanding, the current price at $74 a share, I'm getting an IRA in excess of 15% even with the free cash flows kind of descending into the future. By descending, I'd say, like, negative 1%. So that's for me really, really exciting,

Starting point is 00:37:55 especially when you look at your other opportunities in the market, the S&P 500, you know, you buy that today. You're going to get a 2 or 3% return, assuming everything can remain stable with everything that's going on from a macro standpoint. So something like this, I think, is going to do quite well, mostly because it's had so much just punishment in the open market on the market cap.

Starting point is 00:38:17 And I'm pretty excited about it. There is no dividend that's paid, so all the money that you're going to make is going to be recouped through the price appreciation or the market cap growth. But I see it pretty solid. I'm kind of curious to hear what the group thinks. Preston, you know, it's interesting what you would say there

Starting point is 00:38:34 with the U.S. Postal and that agreement being severed. And whenever I was looking at it, and you know, you're reading the statements there for Stamps.com. They were talking about, you know, they're bidding big on Amazon. Amazon, I have a really hard time seeing the future. I'm not just talking about the next few years, but it seems like Amazon is the reason why they're successful or their potential is so big, but it's also the threat that it can go over and just basically cut out Stambs.com.

Starting point is 00:39:02 I guess my question to you is, why would Amazoncom, with everything they've been doing in terms of deliveries, why would they ever need StamD's com? I'm not talking about tomorrow. I'm talking five years, 10 years. Why would they need them? Well, I guess I looked at it from, you know, with our own business, if I need to mail something out, I go to stamps.com and I print the labeling and I send it out. So I think maybe you're dealing with small businesses that are heavily using this service. I think one of the biggest assets that they possess is just their domain and their brand. I just think that their brand is so easy to understand. And it's something that people just immediately think, at least here in the United States, are just like, oh, well,

Starting point is 00:39:44 if I need to send something and I want to send it from my house and I want to print the labeling off of my own home printer, like go to stamps.com. I mean, it's just pretty straightforward. I think that's a huge asset for them. I think if anything, if they are going to be taken out of the market or somebody else is going to eat away at their market share, they're probably going to go after them just to buy them is what I would suspect because of that brand power. I really like this one. I think it's rare that you get a chance to buy something that's growing as rapidly as this that's generating the returns on investment that it is at a price like this. The market caps 1.27 on my numbers, enterprise values 1.24, so no net debt to speak off.

Starting point is 00:40:24 If I look at all of the risk metrics, it's safe on Altman Z. It's not a manipulator on Benish M. Ebbett acquires multiple as 8.7, so that's pretty cheap, and it's growing really, really rapidly. They've been paying down their debt, operating cash flow, free cash flow are exploiting. Hari, any comments from, like from a tech standpoint on this? I feel what you said, Preston, is correct. But once you have a brand name, it's not easy for somebody to just replace them. Like how Amazon boughtover diapers.com, for example, they might force them to sell it to them. But I think Amazon is much more under scrutiny now.

Starting point is 00:41:00 So it's not going to be easy for them to do something like that. I mean, I think you could make the case that it's a great, I don't know if buyouts the right word, but for an Amazon type company to start coming. in and taking a large chunk of the equity in the open markets and then using that for their own influence or whatever. I don't know. But I just think that the price right now, even after, I wish we could have recorded this when we published this on our site. Because, I mean, it's a big from when we wrote this and put this on our site. And I still think there's a lot more to go. So I'm pretty excited about it. And, you know, it's a recognizable brand that I think a lot

Starting point is 00:41:38 people can just understand inherently as well. So all right, well, let's go ahead over to Hari. Harri, what do you got? This time I have a company from India. It's called Reliance Industries. It is the largest company in Indian stock exchange by market cap. That's $120 billion. So think India market cap. So the interesting thing about this company is that they started out as a textile company, but expanded it to petrochemicals. Now they do everything like oil exploration, refinery and petrochemicals as well. That used to be their main source of revenue. However, in the last couple of years, probably four years, they started expanding into mobile with their new brand that they launched called GEO. And within three years, they became

Starting point is 00:42:28 India's number one mobile carrier and world's number two largest in terms of subscriber. To give you a comparison, AT&T, which just pitched, has 100. 158, correct me if I'm wrong to take, subscribers. Today, Gio, which is Erlance mobile carrier, has 340 million subscribers. The next four competitors put together are still smaller than the Gio brand. So that's a huge growth potential for them. They have been flowing a lot of money into it. In fact, I believe they invested almost $50 billion in the last three to four years in laying out all the fiber, the wireless towers. that was needed to roll out this plan. And so they'll recently, this month, they launched geo-fiber, which is like home broadband.

Starting point is 00:43:17 Now, their base rate will be 100 mbps. And to give a comparison, average internet speed in US is 90 MbPS, base rate of 100 MbPS and go all the way to one gig. What they're doing is pretty interesting, and that's the bet they're placing and we're have to see how it will play out. They're starting with mobile wireless and internet for homes. They provide it for cheap, but then they offer other services like they have their own Netflix for India. That's called Geo Cinema, which basically is Netflix competitor.

Starting point is 00:43:53 They have their own PayPal kind of a thing, wherein you can transfer money online through mobile. And in India, mobile payments are very popular. So they're going to be capitalizing on that, charging for transactions, Apart from that, they also have the largest TV network, including it's called T-Network 18 that owns both CNBC India, Nickelodeon and CNN and India. And they also have print media, like the Forbes India is owned by them. They started out as a textile, then oil and gas and refinery business. They're still being seen as one. For example, Gio was not even there four years or five years back.

Starting point is 00:44:33 Now it is 22% or 23% of their revenue. One other thing that is interesting is they're one of the fastest growing retail brands. So they have Reliance Retail, which contributes around 10% of their revenue, and they have more than 10,000 stores, and they are opening almost 10 stores every day. In retail, they're into grocery. It's called Reliance Fresh. They have Reliance Smart, which is basically electronics. also have their own mobile phone, geo-branded phone, which they sell through their outlets. And then they have reliance trend which is selling clothes. They have their own popular textile

Starting point is 00:45:13 brand called Vimal, but they also sell other brands. So the retail is growing very fast. And on top of that, now what they're doing is they're growing out a e-commerce platform for all small businesses, very similar to Alibaba, where they can sell online. So I see a business that is in transformation to becoming a digital services company. However, if you look at their P-Ratio, it's around 19-20, they are still being valued as a all-time traditional business. So their total assets is $142 billion, but they have a debt of around $40 billion,

Starting point is 00:45:52 and the total liability is around $86 billion. One of the company is taking some steps to reduce this debt burden, and they needed to take on this debt in order to lay out the infrastructure for geo, that cycle is now complete. So Saudi Arabia is investing 15 billion or basically paying them $15 billion for a stake of 20% in their oil and gas business. So my case here is that it's a business in transformation. The market doesn't see it that way yet. With India set to grow in the next decade, my pitch for alliance,

Starting point is 00:46:29 is that it's a business and transformation, getting into digital services. One of the best companies to take advantage of the growth in India. However, because of the perception of the market about the company in terms of there being the oil and gas company, and also some concerns about the debt they have on their balance sheet, they're not being valued as such. I think this is a really interesting idea because they're transitioning from the refining business to this telecommunications business.

Starting point is 00:47:01 I've spent $50 billion, and it's all in debt, which is why the balance sheet looks so bananas. But Ambani now says that they're going to start paying down the debt, they're going to look to free up some of the real estate and various other things that they have to pay that down. It's an interesting position to watch. It's hard to kind of see at the moment. I think you're paying a slight premium for the retail. business for a telecommunications business that really has yet to prove itself. For me, it's not a long just yet, but I think it's definitely worth watching.

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Starting point is 00:50:57 All right. Back to the show. So I really like this pay carri. And I know you briefly said, this is not Alibaba. And still, it is, you are thinking a tech giant that's just, you know, eight years behind the Alibaba. You're thinking something like that. Catch it right now before it explodes. If you can even say that for a company, that's valued more than $8 trillion, $1, around $70. So it's already a massive company. But where I do see some resemblance with, for instance, Al-Avara, you can even say 10 cents,

Starting point is 00:51:34 is that they are betting big on GDP. And I know that's kind of like a very simplistic way of saying it, but they are betting big on the economy going well, which I guess most people have a consensus about this is what we will see in India. And they have a lot of advantages, not just because it's so difficult to enter India. And it's super, super difficult. So they are building the infrastructure for them to, for the consumers to consume. And not even just that. They looked around and said, let's have access to the wallet. Let me do, you know, let me do we pay, and just have access, not just to the infrastructure,

Starting point is 00:52:13 but to the very wallet of people before they start spending our money on our goods, by the way, and have everything in a close loop. And I think that's, it probably doesn't seem advanced or it probably doesn't seem like, oh, that's so unique, but it's just so difficult to do. And they seem so well positioned to do that. It makes a lot of sense what they're doing here with the Samaramico deal that you talked about

Starting point is 00:52:38 with a 20% stake for as much as $15 billion. I do think there are a few red flags. As far as I can tell, reading through some of the things the management have said and the way it's been managed, They haven't really been that open about dead load before. We already have a coverage ratio less than four. And I know that might come off as a bit cynical whenever I would point that out,

Starting point is 00:53:02 just having pitched AT&T with all that's debt. But I do think that the stability of the cash flows are very different. Also, one thing that concerned me is that you have a lot of people who are saying that what's reporting on the balance sheet is actually not the type of debt that they have. like the real debt that they have is actually a lot more. And the reason for that, the management is saying, well, it's interest-bearing debt. And that's the only thing we need to report, which can be sort of argued that's the case. They have given so much credit that it's almost like they're doing it like internal financing

Starting point is 00:53:34 in those years of years of credit, where I'm like, hmm, yeah, it might be true that you're not supposed to include that in your calculation of your coverage ratio or whatever you want to put. But in terms of how you're managing a company, it's sort of like an interesting number to, let's call adjust. That's the positive phrasing of that word. So I guess that would be some of the concerns I have with the company. Perhaps they've been a bit too focused on the growth in the short term and it might not be good here in the next phase that they're entering.

Starting point is 00:54:06 I agree with you, Jake. I think the way I'm seeing is also, it's an optionality. As I said, catching some company like Alibaba at the beginning. And as you know, Alibaba went through its own bumps on the way. And I'm sure Reliance will also have its own bumps. It's going to be a bumpy ride. But thank you. I think those are really good points.

Starting point is 00:54:24 And we have to be cautious while we are looking at its balance sheet. So for me, I'm looking at it. It's a huge company. I'm looking at the top line. And it's definitely moving in the right direction. But it's not this perfect, just steady growth stream that you see with Alibaba and you see with Amazon. I think if somebody's trying to make that comparison saying that, oh, we've got the Indian version of one of those companies, I don't necessarily see it off the top line like you did with some of

Starting point is 00:54:53 those companies. I think it's also important to look just at the free cash flow of the business and you can see in the numbers that they're capital intensive in a major way. Out of the last 10 years, I'm looking across the free cash flow and it was positive and only two of the last 10 years. So, you know, I think it's an interesting pick. I'd have to do a whole lot more research on it to understand the valuation. And I guess I just have a little bit of reserve with it based on a few of the things that I'm seeing in the numbers. But it definitely seems like something that one other thing that I found interesting was on the current ratio for the business. It's less than one, which typically, you know, if somebody can sustain that, which they have or a business can

Starting point is 00:55:37 sustain that. They've sustained that for the past five years where their current ratio has been less than one. That tells you that they have, they're a force to be reckoned with with their subcontractors and their counterparts, the vendors that they're dealing with are having to put up with their price demands or their payment demands because that's very rare that you see that. We've covered companies like Walmart and some others that can do that kind of pricing, or I shouldn't say pricing, but that repayment or that trade. off with their vendors, that they basically give them money a whole lot slower than the vendor has to give it to them. So I think that that's kind of a unique characteristic of the business

Starting point is 00:56:15 that shows that they do have a lot of power and a lot of force in the business sector. And it's probably a good indicator to show that they have some room for growth moving forward. But I'm just kind of a little skeptical on some of the top line growth and some of the other factors that I mentioned earlier. We talk about the top line. We talk about a lot of numbers. And the way it's being displayed, you can't buy this as an so-called ADR in the States. It's R-L-N-I-Y, but just keep in mind whenever you're looking at this, you know, this isn't rupees. And definitely we've seen a lot of stabilization with the inflation rate is just below 4% now. You don't have to go back to more than early 2016, just was a slightly higher than 6%. And then it was

Starting point is 00:57:02 12% back in 2013. So this is just something to keep in mind whenever we're just, you look at something that trebles or doubles or whatever it's about it's about to do, you have to discount it if you come from a country where you don't have as much inflation because that would be reflected in the exchange rate. Not going into a long discussion about demonetization and monetary policy in India, but it is something that you should, where you should allow yourself for a margin of safety of something like that happening. Well, I think that concludes our discussion here, guys. As always, this is just such a blast to hear some of these different is and to kind of pick through each other's thoughts.

Starting point is 00:57:40 But Hari, Toby, tell the audience a little bit more about yourself, where they can learn more about you. Go ahead, Toby. You take it away first. If anybody wants to see a list of free stock picks on Acquirers, Acquirers Multiple.com, you can find me on Twitter at Greenback. It's a funny spelling, G-I-E-N-B-A-C-K-D. Or you can see my portfolio, which includes the longs and the shorts, the stocks that I actually

Starting point is 00:58:05 hold. Go to Acquirersfund.com. You can find me on Twitter at my handle is Hari Rama on my blog, bitsbusiness.com and I look forward to engaging with you all. Stig and I both just want to thank you because you guys always make time for both of us. You come on once a quarter to have these discussions and it just really means a lot to us. So I just want to personally thank you guys because we don't do that enough. We absolutely love it. Thanks very much for having me on. I love chatting. you guys once a quarter. Same here. All right. So real fast, guys, now that we gave you that praise and the thank you, I got a question for you. Can we get you guys to commit to the 2020 Berkshire Hathaway shareholders meeting? Yeah, I'll be there. I'll be running around in my

Starting point is 00:58:51 Zieg hat, pushing my ETF and anybody who talks to me. Horry? I'll be there with probably 90% right now. Fantastic. We'll make sure to post a link to how to get your credentials so you can get in and where to meet up with the entire mastermind group or at least 90% hurry. But Preston and I and Toby are coming for sure. And we are going to invite a lot of the guests starting from now on until the Berkshire Hathaway event. So a lot of the guests that we have here in the show, we're going to ask them if they want to come out and hang out with us. So we'll make sure to put all that information on the site that we're going to link to there in the show notes. And if anybody listening to this wants to have us invite a guest to Berkshire, send us the

Starting point is 00:59:34 name on Twitter and we'll reach out to whoever that is and hopefully try to convince them to come out to the meeting because it's going to be really fun this year. All right, guys. So this button's time on the show. We'll play a question from the audience. And this question comes from Rachel. Hi, Preston and Stig. My question for you is in regards to Berkshire Hathaway earnings, it's difficult to tell,

Starting point is 00:59:58 at least for me who I'm not very fluent in accounting, whereas I think you guys are, especially when it comes to Berkshire Hathaway. Does a Berkshire Hathaway income statement include income from their subsidiaries that they own 100% of, or let's say for GEICO or I think Dairy Queen is another 100% subsidiary, do they report income from those two companies, or do they keep maybe GEICO, Dairy Queen, all the other subsidiaries that they own 100% of? Do they keep those separate. And if they do, what exactly goes into Berkshire Hathaway earnings? Is it realized gains, unrealized gains from their investing activities? Do they ever report income for a gain that's not necessarily realized but just appreciated over the past quarter? Thank you. That is a great question,

Starting point is 01:00:55 Rachel. And it's surely a question that I asked myself most of times before giving that Berkshire Halloway currently is the biggest equity position I hold. So to answer the first part of your question about the earnings for the subsidiaries, yes, they are all included in the earnings for Berks at Hathaway. They're not disclosed separately, and Warren Buffett has several times explained why. Since he's not required to do so, he really finds that there's no reason to give that confidential information to his competitors. So yes, all the earnings from the subsidiaries is simply added together. It is what accountants typically refer to as consolidation. And also included in the earnings of Berksa Heatherway is the second item you mentioned in your

Starting point is 01:01:37 question. Both realized and unrealized gains are included in the earnings. So, for example, if Berksa Heatherway has $100 in equities and the value of that portfolio appreciate 10% over the past quarter, the $10 appreciation would still be recorded as earnings, regardless of Berksa Helloway selling that position or not whenever the next quarterly income statement is being disclosed. And this is a very recent change. And if you think that it makes no sense, because it makes the earnings very volatile and you can't use it for valuations, you're definitely right. Keep in mind that Berksa Helloway's portfolio is currently valued at more than $200 billion. So a 10% change in that would result in a $20 billion reported earnings or loss, which completely

Starting point is 01:02:26 distorts the picture of the fundamental value of Berksa Hellerway. You know, that's a company that has a solid stock portfolio where the price might change 10% quarter or quarter, but that doesn't change the fundamental value at all at the same speed. And also in the earnings, you have the close to 100 subsidiaries that Berksa Hellowey owns, who are steadily appreciating in value, but they're not listed separately. Now, there's also a third component that you didn't include in your Christian than I would briefly like to touch upon. Consider Berksie Heatherway's 5.4% stake in Apple. So in 2018, Berksie Heatherway only recorded 745 million dividends in their earnings, but the share of the return earnings were $2.5 billion. And of course, you can argue that

Starting point is 01:03:15 continued performance will eventually turn into a higher share price and then indirectly be recorded in the earnings statement. But it doesn't happen in lockstep with, the share price. That's another argument that while I do suggest that you read the earning statement, please do not use it as a valid input for your valuation. Hey, Rachel, this was a great question and probably one of the best questions you could ask to understand accounting and financial statements. As a token of our appreciation, we're going to give you a free subscription to our intrinsic value course where we teach this kind of stuff in much more detail. Additionally, we have a filtering and momentum tool, which we call TIP finance. We're going to give you.

Starting point is 01:03:54 a year-long subscription to TIP finance completely for free. Leave us a question at AsktheInvesters.com. That's Asktheinvesters.com. If you're interested in these tools, simply go to our website, The Investorspodcast.com, and you can see right there in our top-level navigation, there's links to TIP Finance

Starting point is 01:04:11 and also the TIP Academy where you'd find the intrinsic value course. All right, guys. That was all that pressed on our hat for this week's episode of The Ambassadors podcast. We see each other again next week. Thank you for listening to TIP. To access our show notes, courses or forums, go to theinvestorspodcast.com.

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