Category: Uncategorized

Categories
Uncategorized

Mile Wide

Seth Klarman talked with HBS professors recently, and the video was just released.

He described his approach to finding investments as looking a “mile wide” as the first step:

Most investors I come across don’t have the army, technology, and specialties that a shop like Klarman’s have, a fixed cost that almost no investors can afford. Going a mile wide requires that fixed cost as table stakes.

However, the interesting thing about financial markets, is the price of admission is zero for many instruments, but principally publicly traded equities. Ignoring investors who can’t read a financial statement and play markets based on price / sales or price /earnings ratios, too often I see investors play across many disparate industries. How can a one person band know enough auto parts, consumer internet, financial services, payments, etc. – and realistically believe they can construct a portfolio in which they have enough of an edge to pick outperforms in so many different industries?

Most often I see investors consume all the company’s filings and presentations – and go on to write a long investment memo with an associated model that is based on everything the company publicly files. The output is essentially a restatement of management guidance, a nod saying “I believe you, company A.” There is no original research, no competitive analysis, no value change diligence, no scuttlebutt of former employees, no industry contacts, etc.

Going a mile wide without doing the hard work is dangerous, and virtually impossible if playing in the pools of investments that the big guns play in. Skill is often mistaken for luck.

To be sure, I am guilty of the above at times. But for the most part, I’ve sworn off of single company investing (with effectively monoline products), and mostly allocate to investments that are either explicitly or implicitly the equivalent of investing in an investment fund, a fund of funds approach.

There’s no perfect way to invest, but one person playing a mile wide seems like playing a physical game with hands tied.

Categories
Uncategorized

KKR Mid Year Update

KKR puts out nice perspectives pieces every so often, and they just released their 2022 mid year update. Instead of summarizing what I think is interesting, I’m posting their front page conclusion in its entirety with the bolding my own:

As we have highlighted for some time, our macro viewpoint remains that this cycle is different. Specifically, we see uneven supply constraints, higher levels of interest rates, and heightened geopolitical risks against a backdrop of slower real economic growth and sticky inflation. Overall, we believe that we have entered a regime change, where structural forces now warrant a different approach to portfolio construction. What is so challenging today for macro investors and allocators of capital alike is that the traditional relationship between stocks and bonds — where bond prices rise when stock prices fall — has broken down. Looking ahead, we are now firmly of the view that the macroeconomic narrative will soon shift from a singular focus on the impact of inflation on the global capital markets to one where investors are surprised by how unwelcome inflation adversely affects corporate profits. Importantly, we see inflation from food, oil, and services remaining robust, despite our forecast for deflation in the goods sector by 2023. Against this backdrop, our models suggest that Credit feels cheaper than Equities, and Public Equities appear more attractive than peer-to-peer Private Equity. Meanwhile, in Infrastructure and Real Estate, we do not expect prices to correct too much. Across all our portfolios, we think that a thematic bent continues to be required. Security, pricing power, de-carbonization, collateral-based cash flows, and innovation are all areas where we see significant opportunity to invest behind the ‘signal’ while many today are being swayed by the ‘noise’ of unsettled markets. Finally, from a deployment standpoint, we think that we remain in a walk, not run stance, until the Fed has inflation more under control and/or corporate profit estimates look more achievable.

KKR 2022 Mid Year Update
Categories
Uncategorized

A Tale of Two

As an alumnus of the ride hailing / sharing or perhaps simply taxi company, Lyft (you can tell the direction I’m heading here), I decided to take a look at the ridesharing industry and compare the returns of what was over the 2010s, a *very* sexy industry versus an extremely unsexy industry.

Both of these companies were started in 2009, right from the depths of the Great Financial Crisis. While markets are bleeding out today, the S&P hit 666 in March of 2009 versus its level of 3666 as of yesterday’s close.

The first company is Uber, a company that turned out to be an absolute gorilla in the domain of rapid growth amid major regulatory hurdles. It dominated business news headlines for years for myriad reasons. It raised capital at quantums that were unthinkable and unprecedented. It had ambitions of global reach and rapid product expansion. Amid much drama the company finally went public in 2019.

The second company is Athene, the unknown annuities provider that serves retirees via effectively what are products similar to CDs and slightly higher octane products. It was seeded by Apollo, went public in 2016 and was taken private by Apollo in 2022.

Over the course of 2009 to 2022, here is (1) how much money, roughly speaking, each company raised:

CompanyCommon Equity Raised
Uber$39B
Athene$4B
Common Equity Raised Represents Paid In Capital (Minus ATH Preferred Stock)

Here is how much money, again roughly speaking, that each company has generated. I’m talking GAAP *net income* – not an adjusted EBITDA figure.

CompanyRetained EarningsDividends and Stock Repurchases
Uber($30B)$0
Athene$11B$2B

If you wholly owned both companies, you would be looking at a cumulative net income amount on invested capital of:

Uber: 0.23X

Athene: 3.25X

Furthermore, on 2021 numbers, Athene generated north of $2B in earnings. Uber? It lost ~$500M (with the understanding that its earnings are very lumpy, it lost $7B the year prior on write downs and the pandemic).

To conclude, Athene traded at ~5-6x GAAP earnings and has been growing at ~teens growth rates since 2009. It didn’t miss a beat during Covid, in fact it signed a major M&A deal in May of 2020 in the thick of it.

Sexy companies draw a large supply of buyers that start to wash over the context of the company’s absolute success. While some of these companies that lose a huge amount of money ultimately end up being the proverbial “Amazon” – many do not. As an investor, one has to examine what they believe they know that the the entire market doesn’t.

But perhaps to make life easier and increase the odds of success, one just has to find pockets where few even care to play…

Disclosure: We own shares of Apollo (which owns Athene), this is not investment advice. Do your own work.

For those curious, here are Lyft’s numbers:

Paid in capital: $9.7B

Retained earnings: ($8.5B)

Categories
Uncategorized

De-Levering

I previously wrote about our country music bet via Ryman Hospitality. Today they closed the transaction to recapitalize the entertainment (country) side of the business, kicking ~$575M up to the hospitality company to de-lever the business. Remember, Covid stopped the convention center hospitality business entirely. While Ryman did a great job navigating it, they had no choice but to take out loans to fund the business while demand recovered painfully slowly.

Today the company is, roughly speaking, back to its fighting weight with room rates well above 2019 levels, a marquee set of convention center real estate primarily focused on the growing parts of the US, and a new partner in the growing entertainment business (and a setup for the eventual spinoff of the business).

While the stock market screens colors and numbers give the impression that the world is ending, remember that there is great work happening behind the scenes and strong companies with good balance sheets separate from the pack.

Disclosure: We own shares of Ryman Hospitality, this is not investment advice. Do your own work.

Categories
Uncategorized

Levered Lending

Yesterday I was thinking about why the bump in earnings to the floating rate debt / structure debt vehicles we own is modest given percentage rise in rates. In general, the people that will most benefit from rising rates in the lending world should simply be those that either own un-levered floating rate debt or lever their floaters with fixed rate debt.

One publicly traded vehicle we own estimated that distributable earnings will move up by 5% with a 200bp parallel shift in LIBOR. This is despite 3-mo LIBOR increasing dramatically:

BankRate

After digging in a bit, it became clear that the majority of the leverage used to fund the assets are also floating rate facilities. To that end, the rate benefit comes from the small portion of the liability structure that is funded via fixed rate bonds.

As such, I expect more from these lenders in the form of being a capital provider when others are pulling back, capturing greater “spread” versus their liabilities.

While all of this is relatively elementary and most FI people will say “duhhh this is simple” – I always find it important for me to de-construct things that make me go “hmm, why?” either because I’ve forgotten or didn’t think about it before.

Categories
Uncategorized

Sun Through Clouds

Two pieces of sunshine in the Deer-folio through the dark clouds of current market sentiment.

First, Apollo held its second investor day within a 12 month period, this one focused on its insurance business. Naturally I am interested. Though I haven’t listened or read a transcript of the presentation yet, the big nugget was the company increased guidance for its largest earnings stream by ~20%, driving ~10% overall post-tax accretion to 2022 guidance all else equal (it’s not…). This is the perfect environment for Apollo to thrive in, thus I am hopeful that the company is able to transact on needle moving deals, particularly reinsuring legacy blocks of insurance. The five year plan has the company doing ~$150B in inorganic block transactions, so I would presume from the outside in, now is a good at time as any with rates up, reducing the losses on the liability side of the legacy insurers books.

Second, we’re entirely long floating rate debt and our equity portfolio companies have fixed rate debt (for the most part). As such, our debt positions have pushed past LIBOR / SOFR floors (mostly in the 75-100bps range) and increased earnings from higher rates is dropping straight to distributable income. While the bump isn’t massive, it’s a nice drop the bottom line as equities are declining broadly speaking. On the equity side, the hope is that inflationary forces push up the income of the businesses (or properties) so that when an eventual refinance happens, the new debt rates are palatable.

So while daily news and marks may tell one story, there may be another under the surface.

Disclosure: We own shares of Apollo, this is not investment advice. Do your own work.

Categories
Uncategorized

Liquidation Day

Not writing today, too many things to see and watch this morning on the back of the large inflation print on Friday!

Here are some snapshots so I can reference in the future…

US 10YR almost hit 3.30% this morning:

US High Yield Option Adjusted Spread pushing back about 4.5%:

Crypto taking an absolute bath in the past day (-20%), and this year:

Categories
Uncategorized

Speculative Money

I like to keep tabs on where speculative money is trending. In some sense, I have the personality of an old curmudgeon who is allergic to what the new generation is talking about and the promises of high risk long duration bets that may change the world.

The crypto market is one where, only by virtue of how people talk about it, I am an especially grumpy old man. Hearing things like “it’s easy to make money” or “it always crashes but ends up going higher” makes my confirmation bias go through the roof in the sense that I feel like it’s asset inflation flying at 60,000 feet and a long way down.

Here’s the total market cap of most cryptocurrencies / tokens:

Tradingview.com

Over the this weekend, bless the crypto markets’ next generation 24/7 trading hours, certain bigger name crypto such as Ethereum, Solana, Avalanche are down another 20%. It’s easy to anchor and think that with the crypto market down about 2/3 (66%) from the peak, it has to be near a bottom. But it’s still up ~5x from the start of Covid, and as a whole, the real cash generation by any protocol is still negligible relative to other assets, especially as interest rates have jumped. Furthermore I suppose cash generation to date has been largely dominated by the trading of assets versus any real consumer surplus.

Things typically bottom when people give up and move on with their lives versus keeping the faith. A whole generation of new investors in the internet bubble took years to move on. The Nasdaq bottomed out in very late 2002 after the tech bubble popped in Q1/Q2 of 2000.

Accordingly, I continue to think that “winning by not losing” is a good mantra not only now but in all market conditions, despite it feeling terrible in moments of speculative mania. Easier said than done.

Categories
Uncategorized

More Kohl’s

Seeking Alpha rarely, in my opinion, has insightful analysis. However this morning someone linked to an article that took a stab at putting together all of the potential pieces to estimate the financials of the merged entity. This person summarized their output as:

The deal would be funded with no equity, only debt and real estate sale-leasebacks. If it closes, both FCF/share, and the $2.50 dividend, should more than double.

Seeking Alpha

Keep in mind Franchise currently sells at 8x earnings.

The layperson math of buying something (Kohl’s) at an eye-popping un-levered yield (~$1.8B of EBITDA for ~$3B) is going to look incredibly accretive to any company. Is there a stable business behind it or is it the next Sears?

The article outlined the biggest risk as:

…the biggest risk facing FRG would be a massive recession causing retailers to suffer. If this were to happen in the near term, then FRG would also be dealing with an increased debt load at the same time. 

Seeking Alpha

Make no mistake, a major consumer recession would hit this business hard. And while leverage makes fortunes. Leverage also kills.

If this couldn’t get more complicated for our own portfolio, it was also reported by the NYPost (which apparently doesn’t double / triple source), that Apollo is in talks to provide financing for the deal. Markets always keep it interesting.

Disclosure: We own shares of Franchise Group and Apollo, this is not investment advice. Do your own work.

Categories
Uncategorized

Brookfield PE for Retail

Brookfield has been a late bloomer in traditional opportunistic private equity. That said, it has been scaling fast with its current flagship in market targeting (off the top of my head) up to $15B.

It started around the fringes of its core investing businesses, which include real estate and infrastructure. Broadly speaking, the portfolio is heavily industrials focused and only recently established a technology team (with a focus on lower growth, high cash flow tech or tech services with infrastructure-like characteristics).

Brookfield floats a publicly traded sleeve of its private equity fund (as it has done for most other funds) on the NYSE. Here’s a view of NAV per Brookfield (note – the stock effectively did a 3:2 split after this presentation):

2021 BBU Investor Day Presentation

In the above, Brookfield believes the $75+ / unit is real based on the operational line of sight to margin improvements and organic growth. The CFO commented at investor day:

Similar to prior years, this represents our view on spot value or spot NAV and more of a liquidation value as opposed to a long-term franchise value.

Cyrus discussed the potential of doubling the size of BBU over the next 5 years. And this is very readily achievable given that we’re more than halfway there with our current portfolio. Just to be clear, the $75 upside per unit does not include any expansion multiples. The primary drivers are continued execution of our operational improvement and enhancement of EBITDA at Westinghouse and Clarios. It also doesn’t include any of the exciting technology investments or other new acquisitions we may make over the next few years or monetizations and recycling activity.

2021 BBU Investor Day Transcript

To that end, what new acquisitions have been in the pipeline since Sept-21? Actually, a lot.

What about monetizations? BBU is moving its biggest and most successful holding, Westinghouse to the auction block. Westinghouse has been an absolute home run before the Ukraine crisis, but the trajectory of the business has fundamentally changed after Eastern European nuclear facilities have been forced to absolve themselves from Russian uranium supply and nuclear services. BBU is also moving towards a major monetization event of Clarios (likely an IPO), its other massive equity position, within the next 12 months.

Brookfield’s publicly traded PE sleeve (BBU) trades around $23 / unit today (~$27 for the C-corp share, which has no K-1. Quite the premium for no tax complexity), which is equivalent to ~$35 on the Investor Day share count. So roughly a 35% discount to liquidation value today excluding the progress on the acquisitions side since investor day.

Holders of the stock (*units) may see some harvest of value as promises of monetizations mentioned above come to fruition and the bridge financing provided by its benevolent parent ($1.5B of 6% prefs) can be repaid. But make no mistake, a publicly traded partnership with a hedge fund-like fee burden won’t ever trade well in US markets – investors hate the complexity. Perhaps the more obvious long term catalyst to close the gap to NAV is Brookfield Asset Management buying out public holders at a discount to NAV, harvesting the arbitrage for itself, and closing the door on this option for retail as it did for its real estate version of this, Brookfield Property Partners.

Disclosure: We own units of BBU, this is not investment advice. Do your own work.