Yet Another Value Podcast - Random Ramblings June 2024: franchisees, blaming IR, competitors, interest vs. stats, thesis drift

Episode Date: June 18, 2024

Welcome to the June 2024 edition of Andrew's Random Ramblings on the Yet Another Value Podcast. Once a month, Andrew will share thoughts on a few topics - this episode includes: investing into franchisees, blaming IR for stock price, competitors, interest in a stock and thesis drift. For more information about Rangeley Capital, please visit: http://www.rangeleycapital.com/ Chapters: [0:00] Introduction to Andrew's Random Ramblings + Episode sponsor: Daloopa [1:33] Investing into franchisees [10:43] Blaming IR for stock price [13:37] Killing competitors [16:25] Interest in a stock [18:12] Thesis drift This episode is sponsored by our friends at Daloopa Hey there, fundamental analysts - Are you tired of the endless grind of updating financial models, scrubbing documents, and hard coding? Let’s talk about something that could transform your workflow—Daloopa. Daloopa delivers perfect historicals for thousands of public companies. That means every KPI, operating data, financial metric, adjustment, and guidance—all at your fingertips. And here’s the best part: Daloopa updates your models in near real-time, which is especially important during earnings season, tailored to your modeling format and style. Imagine never having to update your models again. With Daloopa, you can reclaim your time and focus on what really matters—analysis and research. Want to learn more? Create a FREE account at Daloopa.com/YAV

Are you tired of the endless grind of updating financial models, scrubbing documents, and hard coding? Let's talk about something that could transform your workflow, Delupa. Delupa delivers perfect historicals for thousands of public companies. That means every KPI, operating data, financial metric, adjustment, and guidance, all at your fingertips. And here's the best part. Delupa updates your models in near real time, which is especially important during earnings season, and it's tailored to your modeling format and style. Imagine never having to update your models again.

With DeLUPA, you can re-clean your time and focus on what really matters, analysis and research. Want to learn more? Create a free account at dilupa.com slash y-A-V. That's Delupa, D-A-L-O-O-O-P-A dot com slash Y-A-V. All right, hello, and welcome to the Yet Other Value Podcast. I'm your host, Andrew Walker. If you like this podcast, it would mean a lot if you could rate, subscribe, review wherever you're watching or listening to it. With me today, I'm happy to do my second monthly random ramblings where I,

just pop on and ramble about a few things that have been on my mind for the past month or so. Before I get to that, I guess I'll just start the way I do every podcast. A quick disclaimer to remind everyone that nothing on this podcast is investing advice. That is always true, but probably particularly true today because first I'm going to be talking about just anything on my mind. And look, it's right there in the title. It's random rambling. So I'm just rambling.

You know, you should remember ramblings are not financial advice or anything. Please consult a financial advisor. and do your own work. Okay, let's hop into the random ramblings. First, I just want everyone to note on the monthly state of markets with Chris at the end of May, I said if I got a lot of reviews, I would shave the homeless beard. I don't think I got quite enough reviews to shave, but, you know, people were starting to walk to the other side of the street when I walked down the street.

I was looking pretty homeless. So I shaved it into a glorious mustache. I meant to have it for the ramblings, but I shaved it last night. I just caved and shaved it. I feel terrible about it. But you know what? Most people listen on audio, so that probably doesn't matter. All right, let's hop into what I've been thinking about.

The thing I've probably been thinking about the most over the past month has been investing into franchisees. You know, your own name art came on the podcast a week or two ago. I thought that was a great podcast. Did a follow up talking about IWG. A big pitch for IWG is that they're transitioning their business into franchisees. People love investing into franchisees, right? Think of the classic McDonald's royalty.

You've got a local businessman who, owns the McDonald's, and he, you know, the average McDonald's does probably two million a year in sales. And all he does is he writes to McDonald's every year a check for 5%, you know, $100,000 for using the McDonald's brand. And it's a great business because it is incredibly capital-like, you know, someone else is funding all your growth. Someone else is doing all your headaches of, you know, hiring the workers, making the food, actually running the business. You just keep collecting these royalty checks. They should be, you know, inflation goes up. It should grow with inflation. Capital light is an incredible business. Look at,

Something like Wingstop, right? Wingstop trades at 100 times next year's free cash flow. I've done the math. I have no idea how Wingstop ever grows into that valuation. But, you know, I thought the same thing. I think Wingstock, as I'm talking today, is at like 400 per share. And I thought the same thing when Wingstop was at 100 per share or 200 per share. So I've just been wrong. Look at the hotel company, Joe Hilton, Marriott. They have spun out all of their own hotels. At this point, these are just brand management companies collecting royalties. And there's other. things to it, right? Like, you think about a McDonald's, it has the scale to invest in an app that your local mom and pop burger is not going to do. You think about a Hilton or a Marriott, they can go to their franchisees and say, hey, it's better for you to pay us or royalty and be on our network because we're going to have people booking direct so you're not going to have to pay the Expedia tax. We're going to have the loyalty members. So you're going to have this guaranteed base of business that's going to come in that wants to use something in the Marriott brand versus is something outside of it because they want the points.

They want the status, all this sort of stuff. So there's other benefits. But in general, these have been, you know, people like to invest in franchisees. Capitalite should trade at high multiples. I completely understand that. But I think one thing is people underestimate how dangerous a franchisor is to invest in because the economics that they report can be very misleading. You know, what you have to worry about is you're worried that the franchisees are blowing

up while the franchisor is reporting great economic. So let me just give an example. And I know it's tough to give numbers on a podcast, but I kind of wrote these down and I have a pretty easy one. Imagine that you're a one store franchisor, right? So you have one franchisee and you charge them 10%. So we're making the numbers nice and simple. That franchisee does $100 in revenue every year. So they're going to pay you $10 a $10 royalty. Excluding the royalty, their costs are running $70 per year. So they have a 30% margin before royalty. They make $30. per year after a royalty, they make $20, right? Great. Imagine that this is a very competitive business, right? So think about something like a McDonald's, and this will be relevant in a second.

But right now, you can go look at the Wall Street Journal. There's an article where McDonald's is running a lot of value meals and the franchisees are revolting because they're saying, hey, these value meals, you know, you cut, you discount everything. You take the price of a Big Mac from $5 to $4. Yes, maybe we go from selling 20 Big Macs, so doing 100 in revenue, 20 times 5, 100. Maybe we go from selling 20 Big Macs to 30 when we cut the price to four, so we do 120 in revenue. But, you know, the Big Mac cost $2, whether we sell five or four, so our margins are getting slashed, right? So you think about that in fast food right now. You think about costs are going up, all the labor problems, all this sort of stuff. There's

discounting. It's intense. So if I ran the same one sore thing I talked about, let's make the numbers really aggressive just so we can show the math. Imagine next year that revenue goes up from by 50%. So it goes from 100 to 150. As a franchisor, you get 10%. So 150, you get 10%. Your royalty has gone from $10 to $15. Your economics look unbelievable. That comes with no cost to you, right? This is capital light. Your profit has gone up by 50%. However, let's say that the franchisee, their costs have gone from 70% of sales to 80% of sales. So their costs have gone, you know, 150 times 80%. They're selling $120 worth of cost. The franchisee is making the same $30 that we said that they were making on 100,

except now they're paying you 15 in royalties instead of 10. So actually, after royalties, their profits have gone down from $20 to $15 despite their revenue going up by 50%. So, you know, in that case, you can imagine in today's environment with minimum wages going up, tons of turnover among, you know, a lot of these places can't staff people, beef inflation, food inflation, supply chain inflation, all this going up. And there's constant discounting. You could imagine a scenario where a franchisor looks really good for a few years and then all of a sudden they come out and their franchisees are revolting or their franchisees are

declaring bankruptcy and mass. So even though the franchisors economics look great, one year they say, oh, yeah, over 400 units, you know, 200 just went bankrupt and the franchise is in shambles. So why do I mention all this? There are a lot of interesting franchisee ideas floating around right now, you know, just to do a couple that have popped on my radar recently. Denny's, which I love Denny's, get me a Grand Slam every day of the week. Denny's has a $350 million market cap.

They bought back $52 million worth of stock in 2023. They've bought back $700 million worth of stock since late 2000s since they first started buy back stock. So, you know, you can do the math. This is a company, it trades for about eight times EBITA. This is a company, they take all their cash flow, they buy back stock. Jack in the box is trading for eight times EBITA under nine times price to earnings. both of these companies are probably interesting. They're cheap. They throw off tons of cash. But I think both, I suspect both of them are running into some of that franchise franchisee math that I talked about. You know, Jack in the Box has a heavy, heavy California concentration. California is taking minimum wages up a ton. And that's really going to impact Jack in the Box. Denny's, you know, I see, I look at them and I see same store sales for their franchisees have been kind of flattish over the past couple of years. Given the food inflation and everything we're talking.

talking about, I have to imagine that their franchisees are getting really pinched. I'm not saying, I have no view of these. This is my high level thing, but I see a lot of people talking about these as statistically cheap, and they are probably correct, but I do worry that they're statistically cheap kind of for a reason. You know, there are some other ones of other franchises that are mentioning XPOF. I've had Zach Buckley on the podcast to talk about that twice. That stock has been absolutely hammered. It's probably interesting because the CEO resigned a few weeks ago. And the interim CEO was at a conference last week. And she actually came out and said, our business is doing great. Like the CEO resigned that's not reflective of the business.

Our franchisees are doing great. We're getting this into shape. So that's very cheap, but there's other issues there. So look, anyway, on the franchisee things, I do wonder if you invest in franchisors. A, I think you need to put aside a lot of the quantitative thinking. And I think you're probably better served spending time developing relationships in the business and within the franchisees. You know, I've got a few friends. been doing great work on some names. I'm hoping to have them on the podcast to talk about them at some point. I think there's a lot of interesting franchisees, franchisors, if you're willing to dig. One that comes to mind. Louis Sanchez, I don't think he'll mind me mentioning this because

he's publicly written about it, but he's done absolutely fantastic work on the joint, the chiro practicing concept. And, you know, I know he talks to franchisors. And if I've told him, like, I think that's your edge going and actually looking beyond the numbers. So that's Just my thoughts on franchisees. Oh, one other thing. It's a running joke among some of my friends and I, and my wife is listening to this. She might or might notice, but talking about opening a franchisee or something like that. But I do wonder, you know, McDonald's or Burger King, those are probably too big.

But something like the joint, which only has a couple hundred units, I wonder if you're a fund, you know, and you're thinking about buying five or 10 percent of the company, one or two percent, whatever it is. The investment to start a franchisee is kind of small. I wonder if any funds have practiced like, hey, one of the best edges we could get would actually be to go to these startup small franchisee concepts and actually open our own franchise. And, you know, that would be an interesting way to get like you'd get invited to the franchise convention. You'd get invited to all the things. You'd get numbers.

Like, I wonder if that would be an interesting way to develop edge. Okay. Anyway, I think franchisees are interesting, but I'll kind of pause it there. If anybody has any comments or anything, they can shoot me some of it. Let's move on to the second thing. Blaming IR for a stock price. I cannot tell you how many companies I follow that have some hair on them or a funky story or anything.

And when I talk to other investors, inevitable. Like, blame number one is, oh, you know, this is on the IR. Our team doesn't communicate properly. The team doesn't. And I just think that's kind of crazy. You know, I'd refer you to something like a Berkshire. Like, Berkshire has absolutely no IR function. Like, I think you kind of get the shareholders you deserve and you get the stock price

you deserve in the long run. I don't, I'm not saying that having an IR team to answer questions and stuff isn't helpful, but I don't think there are stocks out there that are trading consistently like four turns cheaper than their competitors because their competitors have good IR and they have bad IRA. I mean, there is, there are promotional teams that probably generate a little bit more of a multiple just because they're high profile and, you know, the classic right now would be a game stop where I don't think anybody really thinks game stop is worth the fundamental price it's trading at right now, but obviously it's got a passionate fan base. It's very high profile. It's kind of a meme stock. But I just don't think there are a lot of companies that trade at

huge discounts because their IR is subpar. You know, I do think there is only one time I would give credit to the argument that IRS porous of the company trades at a discount. And that's when disclosures are really confusing. You know, imagine your classic corporate conglomerate with 15 different segments. You know, if they're bundling every segment together and just reporting one number. They might trade it a discount. You know, you could imagine they've got one division that's worth a 5x multiple and one division that's worth 20x, but because we have no insight into how much of the earnings go to the 20x and how much of the earnings go to the 5x, you know, everybody's all over the place and just guessing. You think about something with Google, right?

Their stock price would always go up when they would disclose a new segment because people would look and be like, oh, my gosh, their business is more profitable than we ever thought. You know, they disclose YouTube economics, say, oh, YouTube's doing better than we thought. you could imagine something like that. I do wonder, though, like, when you're blaming I are saying disclosures are confusing or we're not getting enough info, and there's a few companies that I'm looking at right now that come to mind that I won't disclose yet. But, you know, I have to wonder, are the disclosures confusing?

Is that because management I are incompetent? Or I always worry, are the disclosures confusing? Are they misleading? Are they not giving enough information? Is it actually because they're hiding something, right? Like, you could imagine that they're trying to hide something. And we've seen cases of this in the past where, you know, a company has a growth segment and a declining low, a declining cash cow segment. And actually so much of the revenue and earnings are coming from the cash cow segment, they just try to bundle it all together.

So people don't see how like kind of unvalurable the growth segment is. So anyway, that's my thoughts on blaming I are. Let me go to, I mentioned Buffett and getting the shareholders you deserve. Let me go to something I've thought about. You know, I've been talking to a bunch of companies recently, and there's a famous Buffett quote where whenever he interviewed a company, he'd say, hey, if I gave you a gun with one bullet and asked you to kill a competitor, who would you kill? And then Buffett would want to go look at that company.

And I've just been worrying about that a lot recently because, you know, think about a, I do a lot, I look a lot at antitrust, and you read a pre-tapestry, and they'll all. always be a mid middle management person in the documents who say, oh, we're buying Michael Coors, like the competition will have nothing on us. We will have a monopoly and middle priced handbags for the rest of time, right? And I, that's an extreme example, but I do wonder how much competitors, thoughts on competitors are actually useful. It's some examples, right?

Like HBO famously mocked Netflix as the Albanian army trying to take over, right? they said Netflix is too small, substandard, like, until Netflix was actually not even eating HBO's lunch, until Netflix had eaten HBO's lunch, dinner, dessert, putting, everything, HBO was kind of had their head in their sand about how big of a competitor Netflix was. Legacy automakers always used to mock Tesla. Microsoft, I remember in college, Microsoft, they mocked the iPhone as a flash in the pan, and they said the Zoom was going to destroy the iPod. like obviously these are examples of competitors underestimating their competitors, but I also think competitors might overestimate their competitors, you know, to go back to a franchise. McDonald's, Coke and Pepsi are always talking about hating each other. McDonald's, they're always talking about hating Burger King, but if you're McDonald's,

are you really competing against Burger King? Are you competing against, you know, Shake Shack, Shake, Five guys, a hundred other burger chains. I think McDonald's knows at this point. I think Coke probably realized it's not just Coke versus Pover's. Pepsi. It's Coke versus energy, juries and coffee and water. But, you know, I do wonder how much the Silver Bowl thing. Oh, one more. You know, in going back to your own with IWG, IWG, they would have said their biggest competitor was WeWork, and they're probably right. Like, if they could take WeWork out, I think the industry structure and pricing would have got a lot better. But

WeWork was a disaster of a competitor, right? The only reason they could do anything was they were underpricing their product like crazy. And, you know, now they've effectively, they've basically gone bankrupt or restructured three times and three years at this point. Right. So I just wonder how much credits to give competitors talking about these guys are our biggest competitor. We worry about these. We don't worry about these because the ones I've seen who they're not worried about are the ones who kill them. And a lot of times I see the ones where they're just day to day. They feel like they're hand fighting these guys. And actually, like, there's just a lot bigger worries on the run.

Let's see. Sometimes I'll look at the stats for moving on, interest in a stop. Sometimes I'll look at the stats for a podcast or when I post or tweet about something. And, you know, the interest in a stock will be off the charts. And sometimes I'll post and I'll be kind of surprised. The interest in the stock will be basically nothing. And I've kind of wondered, like, you know, how much is interest or non-interest in a stock and idea, how much is it a positive or negative sign?

You know, are the stocks that the most people are interested in is that actually a counter example and, you know, you kind of want to run against the herd? Is a stock that no one's interested in? Is that an example of something that's undervalue just because, no one's looking at it. Or am I just like flipping coins and thinking, oh, you know, two times in a row a stock was really interesting and then didn't work. So I'm kind of, I caught two heads and I'm thinking there's trend, but it's random. No, but I do think it's interesting. I had a friend once who I said, oh, I've had like four people ping me on this idea recently. And he said,

hey, when you get inbounds like that, is that a positive or a negative sign? And I've been thinking about that. You know, I think something like Burford, which I've done a lot of podcasts on, obviously Arden Pocon's been on it on the podcast like three times. That generated a lot of interest and that's done really well. But I do think earlier this year, like kind of, there were so many small, small cap focused funds who were long Burford. I know I wasn't the only one, actually a friend's the first one who came to me. He was like, hey, are we reaching like Pete Burford in the short term, maybe, but like peak interest in Burford, it just, I don't know how many other funds there are left to look at it. So that's something that always interests me.

And then last thing in my random ramblings, and then I'll wrap this up is I, a few months ago, I posted something on, hey, a lot of people bought Microsoft for, let's call it, 10 times earnings back in, you know, kind of the Steve bomber days, 2011 to 2014, When the thing was Windows is dead and people were thinking, you know, Microsoft was a dying company. And to their credit, a lot of people have held it from then to today when Microsoft is like a world beating AI company and they've got cloud computing everything. And they trade for 40 to 50 times price earnings. And I've always said, hey, obviously that's a great investment. But there's a lot of thesis drift there, right? 10 years ago, you were buying Microsoft as, hey, the market is pricing this category leading company with tons of cash flow as a company in terminal decline, and I kind of think the terminal decline

is going to be less, or Steve Bond will get less disastrous management or something, right? And today you're buying this, the market sees it, right? They see this great company, it's trading at 50 times earnings, it's trading the trillions market cap. It's a great investment, but I wonder at what point it was thesis drift. And I'll hear people, you know, the famous one is you'll hear someone say, oh, I bought Apple in 2001 when it was trading below net cash value, and I sold it in 2003 for a quick game. and that's the worst sale I've ever made.

And that's absolutely true. Or InVIDIA, in the mid-2010s, it was trading like six times price to earnings, barely above cash because people thought it was this super cyclical company. And you'll hear people who bought that and they sold it for, again, a 50% gain. And obviously the stock's probably up like 50x since then. And I hear you. It's a terrible sale with the benefit of hindsight. But I wonder how much is that's a benefit of hindsight because your thesis was I'm buying

Apple below cash. Your thesis wasn't Steve Jobs is coming back. Apple's going to be the largest and most successful company of all time. Like you didn't even know about the iPod coming. Obviously, you couldn't see the iPhone and everything. So I, yeah, I just, you know, I'll hear a lot of people talking about, oh, I missed it. I bought Apple below cash and I sold it up 50%. And I get it. It would be great. I've got several stocks that I bought at 10 and sold at 20 and now they're at 2000 or something, right? I wish I had held them. I wish I had thesis trip. But it's tough for me to really think, hey, you bought Apple below cash, you sold it above cash, you deserve to hold it for it becoming the most successful company of all time.

I don't know. Just I think people should temper themselves with that. You know, I know some people who pitch game is something like Roaring Kitty, right? Pitching GameStop at two, three, four, like, great. He's made an absolute fortune on it. Good for him. But, you know, it is kind of to attribute that to success as a fundamental investor where I think if you look at GameStop's results, you'd be like, oh, they're probably below the bad end of what even the bears were thinking when they were shorting this thing. So, you know, yes, you got lucky and a lot of other things happened and you bought some optionality there, but, you know, I don't know, it's just tough.

You kind of want people to get what they deserve in the long run. And I think you've bought Apple below cash and sold it above cash. you got about what you deserved, and if you held it, you know, I don't think you deserve to hold it for it to become this absolute world beater of a company. Anyway, I have rambled quite a bit. The kiddo's going to wake up soon. So I'm going to end it there. You know, I committed when I first did the first random rambling, I committed to doing three or four of them and then I was going to reassess and see if it makes sense. I will say I am having a lot of fun doing them. But, you know, obviously ratings, reviews, all that sort of stuff really encourage me. Let me know. like if no one's listening to it, if no one's rating, no one's reviewing, then I can stop. I've got other things that would probably be more valuable with my time.

If you're loving it and I'm getting lots of ratings and reviews, you know, I'll keep these going beyond kind of the trial period. So please be sure to leave a rating review. Let me know if you like me rambling. If you just want to hear guests on the podcast, like I get it. And that goes for all guests, you know, like every now and then I'll have a guest outside my wheelhouse come on. If you enjoy me having like, you know, I really enjoy doing the Terawolf and the Crypto

podcast. I thought it was interesting. I thought it was really insightful. Oh my gosh, has that stock done well since then? You know, not any type of advice. But, you know, I thought it was really interesting, but it was different for the podcast. If you enjoyed something different, let me know. If you didn't enjoy it, let me know and I can stop doing it. So anyway, ratings, reviews, everything. Really appreciate it. I appreciate you listening to me, Ramble, for 20 or 25 minutes. And looking forward, we've got some really interesting podcast coming up through the end of the month. And looking forward to next month's Ramble as well. so we will talk then. A quick disclaimer. Nothing on this podcast should be considered an investment

advice. Guests or the hosts may have positions in any of the stocks mentioned during this podcast. Please do your own work and consult a financial advisor. Thanks.