Curated Insights 2020.02.07

“25-year-olds should not pay a 31.3x Shiller PE to buy their grandparent’s equities”

“Let’s start with what I’d tell a 25-year-old to not do with investment capital,” answered the CIO. He’d been asked how our youth should invest for 10-15yrs. “I’d tell them to not blindly follow their parents and grandparents as they pay ever higher multiples for a shrinking pool of equity assets,” he continued. In 1982 when Baby Boomers were coming of age, they paid a 6.6x Shiller price-to-earnings ratio for the S&P 500. By 1990 when the median Baby Boomer was 35-years-old, they had bid the Shiller PE to 16.5x. That same year, Baby Boomers owned 33% of all US real estate assets by value. Fast forward to 2020, the median Millennial is 31-years-old and they own just 4% of US real estate assets. If they scrape together a few bucks after paying down student loans, they must pay a 31.3x Shiller PE multiple to buy the S&P 500. “To win a game, play to your strengths, exploit your opponent’s weakness,” said the CIO. “As people age their creativity slips away. Their imagination withers. Their risk appetite fades. Their ambition dwindles. Their drive slides. And this leaves them incapable of reimagining the world, let alone building that future,” he said. “But as people age, they do accumulate capital. And recognizing that this is their only remaining competitive advantage, they unsurprisingly lobby for policies that enhance its value.” Baby Boomers are the wealthiest cohort in all human history. They’ve shifted the game’s rules to entrench their interests. Which has both limited competition for their companies and artificially shrunk the pool of investable equity assets. “There’s too much capital in the world today relative to too few equity assets. 25-year-olds should not pay a 31.3x Shiller PE to buy their grandparent’s equities. They should play to their strengths and fight to build new companies that unseat established ones. Creating new equity assets to ease the acute shortage.”


Underutilized fixed assets

Underutilized fixed assets are the topic of this essay. But all the other variants, such as underutilized variable assets, are important to understand as well. Food delivery is a great example of this. Many people often express disbelief that food delivery startups, have been able to get as many restaurants to sign up for them while charging large take rates (sometimes north of 30% now) from the merchants. “How do these restaurants afford it?” these skeptics ask. What these skeptics fail to understand, is that restaurants do not view deliveries the same way they view customers dining in. There are many factors that restaurants are constrained on including, ingredients, labor, kitchen capacity, and dining space.

For walk-in diners, the primary constraint is dining space. There is an immovable cap on how many tables a restaurant has, and thus how many turns they can do a night. This real estate space is a fully utilized fixed asset. So a startup bringing new diners to a restaurant is entering a zero sum game, especially during peak hours when a restaurant knows they can likely fill all their tables. If a restaurant accepts a diner from a startup and pays them a take rate, this replaces a diner that would have walked in for free. This is the reason why restaurants often don’t list their prime hours on sites like OpenTable. They know they can fill their limited number of tables, so why pay OpenTable a fee for it?

But delivery is different. Real estate space is not relevant to delivery orders. Instead the two main constraints for restaurant delivery are labor and kitchen capacity. Kitchen capacity is an underutilized fixed asset. Most kitchens can handle more orders than they handle each day, but never need to because there’s not enough space in the restaurant for more diners. Like all underutilized fixed assets, restaurant owners are very happy to have their kitchens handle more orders if makes sense.

The other constraint is labor. Restaurants may have some underutilized labor, depending on how busy they are. However, if they have any significant number of delivery orders, they likely would need to have their workers do more shifts, or hire new workers. So labor is an underutilized fixed asset up to some point, but then primarily a variable asset for restaurants.

So when a startup brings new delivery orders to a restaurant, their main question is whether the delivery will be profitable net of the variable costs like ingredients and labor of the restaurant. Other factors like real estate costs are already fixed and so not factored in by restaurants. If these delivery orders are profitable, restaurants are happy to do any and all incremental orders–and will happily pay a higher take rate in return for bringing them the customer. And if the startup brings more customers than they have workers to handle–they’re overjoyed to hire new workers, as long as the economics make sense.

Variable assets are great because they can scale well. However, they are far less preferable to underutilized fixed assets for a number of reasons. Their primary weakness is that they can be copied by competitors. Underutilized fixed assets when discovered are have a huge amount of stored value. The first company to properly use them can increase their value significantly. However, after they’ve burned through this arbitrage, future competitors must find a new way to get advantaged distribution fast. This isn’t true for variable assets as we can see in food delivery. The field is increasingly competitive with Grubhub, Uber Eats, and Doordash all competing in increasingly costly battles.

Why market timing can be so appealing

Why is this so unimpressive? Because I would expect a strategy that literally knows the future to outperform by more than 40 basis points (0.4%) a year! The fact that it doesn’t just goes to show how silly the pursuit of market timing can be.

What does this mean for you? It means that you shouldn’t worry about getting the absolute lowest price when making equity purchases. In fact, you are very likely (95% of the time) not going to get the best price when you buy into the market.

But the good news is that this won’t matter all that much in the long run. Why? Because, for markets with a long-term positive trend, the timing decisions you make with your excess cash won’t be that important.

As you can see, DCA purchases at higher average prices compared to the Absolute-Bottom strategy. More importantly though, the divergences between the average prices are largest during bear markets (i.e. 1974, 2008), but start to converge during bull markets.

This tells us that timing decisions only have a significant impact once in a while (i.e. during big bear markets), so we shouldn’t spend any time worrying about them. Because you will likely lose more by waiting in cash than what you would gain if you did successfully time the market. Choose wisely.

YouTube is a $15 billion-a-year business, Google reveals for the first time

On an annual basis, Google says YouTube generated $15 billion last year and contributed roughly 10 percent to all Google revenue. Those figures make YouTube’s ad business nearly one fifth the size of Facebook’s, and more than six times larger than all of Amazon-owned Twitch.

Separately, Google says YouTube has more than 20 million subscribers across its Premium (ad-free YouTube) and Music Premium offerings, as well as more than 2 million subscribers to its paid TV service. Alphabet says revenues from those products are bundled into the “other” category, which made $5.3 billion last quarter and also includes hardware like Pixel phone and Google Home speakers. That makes it hard to gauge the specific performance of any one product bundled under that category.

U.S. consumers spend more time in TikTok than Amazon Prime Video: App Annie

TikTok saw explosive growth in the U.S. in 2019, growing 375 percent year-over-year in terms of time spent on the platform. U.S. consumers spent some 85 million hours on TikTok in 2019, up from 15 million during the same time last year


CTV’s “walled garden risk” and implications for Trade Desk

The negative take is that Amazon sees potential fragmentation coming to the CTV industry (not just Amazon Fire, Roku, Apple TV, Android TV but also players like Xbox, Samsung, Playstation, Comcast…etc). In case viewership fail to aggregate at the CTV platform level, Amazon wants to be able to aggregate them at the SSP level.

As Amazon Publisher Services (APS) signs up more CTV platforms, this aggregation of eyeballs gives it negotiating leverage over ad buying platforms like TTD.

The article also indicates that Amazon’s SSP is best used with Amazon’s DSP. Whether Amazon extend that optimization to its partnership with TTD remains to be seen. Again, Amazon has the leverage here.

The positive take (for TTD) is if Amazon’s SSP could be used on say Xbox or Playstation, that further shifts CTV industry away from walled garden approach. Also, APS actually allows ad buying from Trade Desk, so the more platforms APS hooks up with, the more TTD benefits.


Worldline to buy Ingenico for $8.6B in major payments consolidation play

The deal underscores two big themes in fintech, and specifically payments. The first is that the shift in payments and spending habits to more digital platforms has meant an increasing amount of fragmentation in the payments space, with each player getting a cut of the transaction: this means that a company doing business in this area needs economy of scale in order to make decent returns. The deal will give both companies a lot more economy of scale.

The second is a bigger theme of consolidation among larger players in part to better compete with the long tail of smaller and more fleet-of-foot fintech companies that have found a lot of traction in this new wave of commerce. While Stripe, Adyen, Google, Apple, Amazon and many of the others may not individually do enough competitive damage against Worldline or Ingenico, their collective presence could.

“Together we create the European World-Class leader in digital payments,” said Grapinet in a statement. “I am convinced that the combination of our respective remarkable talents [SIC] pools, joint capabilities and state-of-the art offers will procure our combined Company an outstanding value proposition to pursue an exceptional growth benefitting to all our clients, banks and merchants alike and to all our business partners. This is a landmark transaction for the industrial consolidation of European payments, highly value creative for all our stakeholders and for the shareholders of both companies, and which ambitions to reinforce the role of Europe within the global digital payment ecosystem.”

Why it only costs $10k to ‘own’ a Chick-fil-A franchise

At $4.2m per store, Chick-fil-A’s average revenue is the highest of any fast-food chain in America, dwarfing both direct competitors (KFC; $1.2m) and bigger brands (McDonald’s; $2.8m). That’s especially impressive considering that all Chick-fil-A restaurants are closed on Sunday.

Based on these figures, Chick-fil-A’s 15% royalty alone (not including its 50% cut of profits) might work out to around $600k per store, per year. (And remember: It still owns the property and equipment.)


Creating a competitive shaving market

According to the research firm Euromonitor, Gillette held 47 percent of the US men’s razor market in 2018, with Edgewell’s brands, which include Schick and Wilkinson Sword, combining for 13.6 percent of the industry. The Harry’s brand, which started selling online but now has a large presence in both Target and Walmart stores, had just a 2.6 percent share at the time, according to Euromonitor. Dollar Shave Club owned 8.5 percent of the US market in 2018, according to Euromonitor, and is owned by Unilever, following a $1 billion acquisition in 2016.

So the FTC thinks that stopping a merger of the number two and four brands in a market is good for competition? I think it is bad for competition and keeping Harry’s and Schick separated will just allow Unilever and P&G to dominate this market going forward. I don’t understand what the FTC is thinking or doing with this case in the least.

Ditch your car: Ridesharing is more cost effective

Can ride-sharing really replace cars? The numbers say if you drive less than 10,000 miles, maybe. However, ride-sharing is a better option for low-mileage users as compared to driving according to this analysis. There are different ways to value your time, which could impact how you value ride-sharing versus driving. But you have more freedom with a car, and don’t have to worry about other passengers, the driver, or not being in control of the vehicle.

Overall, the driving experience is pretty subjective. From a quantitative viewpoint, it’s sometimes cheaper to get a ride share. Qualitatively, it all depends on what you value.

Curated Insights 2019.04.26

Spotify’s stock is risky because the music industry is not changing fast enough

The international market is a different story. Tencent Music Entertainment Group (TME) dominates China. (Spotify has taken a minority stake in the company.) Outside of China, Spotify is the clear global market leader, with an estimated 31% market share, ahead of Apple (AAPL), at 17%; Amazon.com (AMZN), at 12%; and Sirius XM Holdings (SIRI), which now owns Pandora, at 11%, according to Credit Suisse . YouTube’s paid music services are still relatively small, but one survey found that free YouTube videos accounted for nearly half of the time that people in 18 countries spent listening to music.

Most of the world doesn’t pay for streaming music, choosing to listen on the radio or to pirate content, which still accounts for 38% of the market, Credit Suisse says. The bullish case for Spotify implies that many of those people can be persuaded to pay up. Even bearish analysts expect the company to more than double its global paid subscriptions over the next five years.