Please enjoy this transcript of my conversation with Robert Cantwell, Portfolio Manager of Compound Kings. We discuss the biggest lessons that Robert has learned as an investor and portfolio manager, the top positions in the fund today, and the future of active management. Transcripts for other episodes can be found here.
“The investment management business actually looks a lot more like every other business, where there's products, there's marketing, and there's distribution, and you have to be outstanding at all three of those things in order to succeed in this business.” – Robert Cantwell
Robert Cantwell is the Founder of Upholdings and Portfolio Manager of Compound Kings, which is an exchange-traded fund focused on investing in companies often called compounders. Compounders are typically profitable, growing, and generate very high returns on invest capital (ROIC).
This is an incredible interview with a true pioneer in the actively managed ETF space. In it, we look back at the top three positions in Compound Kings when Robert and I sat down in early 2021, which feels like a world away, to review the performance of Alibaba, Meta, then Facebook and Berkshire Hathaway.
Robert shares his perspective on how the actively managed ETF market is shaping up and he talks about how his views on concentrations have changed over the last year and a half.
We also talk about the rise of thematic funds and where they can go wrong.
Robert shares the three biggest learnings from the last 18 months including: why you always have to be learning new industries; why you should add a quant to your investment team; and why knowing the people running public companies matters a lot.
Robert also walks through his team's thesis on the three largest positions in the fund today, which include Meta, ServiceNow and Adyen. This section of the interview is fantastic so skip ahead and don't miss it if you're short on time.
And finally, Robert shares what it's like to build an ETF business scale assets under management and why running an investment business is very similar to an enterprise software business.
Transcript – #129 Compound Kings: Lessons Learned as an Investor and Emerging Manager | Robert Cantwell, Portfolio Manager
Daniel Scrivner (00:00:06):
Hello, and welcome to another episode of our Outlier Investor Series where we dig into the ideas, frameworks, and strategies used by world renowned investors across public and private markets. I'm Dennis Scrivner. And on the show today, I'm joined again by Robert Cantwell, founder of Upholdings and portfolio manager of Compound Kings, which is an exchange-traded fund focused on investing in companies called compounders because they're reinvesting all the returns they're getting in their business into the highest ROIC areas of their business. I had Robert Cantwell on last year in episode number 23 where he joined me shortly after launching Compound Kings in late 2020.
Daniel Scrivner (00:00:43):
This is an incredible interview with a true pioneer in the actively managed ETF space. In it, we look back at the top three positions in Compound Kings when Robert and I sat down in early 2021, which feels like a world away, to review the performance of Alibaba, Meta, then Facebook and Berkshire Hathaway.
Daniel Scrivner (00:01:02):
Robert shares his perspective on how the actively managed ETF market is shaping up and he talks about how his views on concentrations have changed over the last year and a half. We talk about the rise of thematic funds and where they can go wrong. Robert shares the three biggest learnings from the last 18 months including why you always have to be learning new industries, why you should add a quant to your investment team and why knowing the people running public companies matters a lot.
Daniel Scrivner (00:01:27):
Robert walks through his team's thesis on the three largest positions in the fund today, which include Meta, ServiceNow and Adyen. This section of the interview is fantastic so skip ahead and don't miss it if you're short on time.
Daniel Scrivner (00:01:39):
And finally, Robert shares what it's like to build an ETF business scale assets under management and why running an investment business is very similar to an enterprise software business. You can find the show notes and text transcript for this episode at outlieracademy.com/129. That's outlieracademy.com/129. And you can learn more about Compound Kings at kingsetf.com or by following Robert Cantwell, @UPHOLDINGS on Twitter. Please enjoy my conversation with Robert Cantwell of Compound Kings
Daniel Scrivner (00:02:13):
Robert Cantwell, I am so excited to have you back on Outlier Academy as part of our Outlier Investors Series. Thank you so much for coming back on.
Robert Cantwell (00:02:20):
Daniel, great to be back on outliers again.
Daniel Scrivner (00:02:23):
So to start, I'm sure a lot of people listening might remember, but we talked 18 months ago in episode 23, shortly after you launched Compound Kings. And it was one of my favorite conversations at the time. I'm thrilled to have you back. Where I wanted to start was for people that are listening and hearing about Compound Kings for the first time, can you just tee up what Compound Kings is, how you invest and how you invest differently?
Robert Cantwell (00:02:47):
Absolutely. We've found that it's easiest to start by describing what it's not because in the retail investment management industry, most strategies get thrown into a growth bucket or a value bucket and compounds are really not quite either of those. And so in a growth strategy, you're trying to buy the maximum amount of growth for the cheapest price. In a value strategy, you're trying to buy the most amount of the balance sheet or the most amount of cash flow for the smallest multiple. And in compounder investing, what you're trying to do is pursue opportunities where the businesses are allocating capital in a very high return on investment manner. And then the question is how can I acquire that high return on investment spending for the best possible price? So that could be a company that's a duopoly that's pursuing M&A, and all of a sudden it's going to look like a monopoly after. It could be a more growth driven business that has launched a new distribution channel that's going to unlock a lot of incremental revenue to relatively low cost of business.
Robert Cantwell (00:03:53):
So there's a lot of different ways that return on investment can manifest itself. One other wrinkle that is worth mentioning here is the importance of active share, which is emerging as a more and more commonly accepted variable for investors that are selecting amongst investment managers. And what active share is, it's not just your performance against your benchmark, it's also how different are you against your benchmark?
Robert Cantwell (00:04:23):
Because the majority of investors already have S&P 500 exposure or Russell 2000 exposure. So if your benchmark is the S&P 500, they want to know that the holdings or the waitings that you're carrying as well as the additional stocks that you're holding that might not be in the S&P how different is that than the S&P. So our fund, for example, we run an 86% active share, and that's been one of the important differentiators for us in running our strategy.
Daniel Scrivner (00:04:53):
Just really quickly, it's a little bit of a tangent, but I'm curious when you're talking with people and this could be financial advisors, this could be wholesalers, this could be individual investors like on public.com about compounding and compounders. Do you feel like you have to explain and take people from zero to one on what that is or is there short a shorthand way with which you get people to understand what a compounder is? Or is that knowledge there?
Robert Cantwell (00:05:21):
I'd say it's half and half. So half the time we don't. They understand they've read Buffett or they've read some other investment materials. And the other half of circumstances where we do have to talk about it can get confused with compound interest and they think we're selling a dividend fund or something of that nature.
Robert Cantwell (00:05:40):
In those cases, what we've found as the simplest way of describing the types of companies that we seek is pursuing the longest duration businesses possible. So what is it about the characteristics of the business that are going to allow it to survive market cycles even if it has somewhat volatile cash flow characteristics throughout those periods? We found that duration component is something that's really interesting to a lot of folks because companies come in and out of the S&P 500 all the time.
Robert Cantwell (00:06:11):
Companies come in and out of other funds. And the idea of holding this set of securities that has a better chance of surviving a decade or two decades is something that they've found to be an interesting angle.
Daniel Scrivner (00:06:22):
Yeah. That makes sense and it seems very differentiated. I want to talk in a second to touch on a couple of the points that we hit on in the last interview and talk about deltas, how your thinking has changed over the last 18 months. But I want to start, as I was preparing for this interview kind of reflecting back, my take is that the last 18 months have been incredibly volatile. We've had a global pandemic. Recently we've had a war and a lot of international tensions with China and with Russia. We've had meme stocks. We've had specs. What is your sense of the last two years and how has Compound Kings survived? How have you survived?
Robert Cantwell (00:06:56):
The last two years has been more challenging for investment managers than many other two year periods in the last 20 years. There's a reason why there's a lot of comparisons to 2008 drawdowns. Interestingly, there has not been the same deterioration in fundamentals in this market selloff that we've experienced. And so it's been harder because valuation multiples have changed faster in large part because that 10-year interest rate has finally started to move up something that the fed has struggled to push up in previous raising cycles.
Robert Cantwell (00:07:39):
So that's been a confusing environment for investors because they're sitting here and saying, "Well, gosh, our companies are still performing, but their stock prices aren't. How do I reconcile that?" This then gets back to a lot about how you're building your investment company. And if you're investment model itself is not built to survive cycles of market prices that can be divorced from fundamentals, that's when you get into a lot of trouble.
Robert Cantwell (00:08:08):
Either you're taking on too much leverage or you have investors that have the ability to withdraw really quickly or investors that think you're starting to do something different than what you promised them in the first place.
Robert Cantwell (00:08:19):
So I think that's been some of the biggest learnings and observations that we've seen from this environment is which investors actually built their companies to deal with circumstances like this as opposed to those that are always trying to pursue the shortest maximum rate of return?
Daniel Scrivner (00:08:36):
Yeah. It's very well said. I want to talk about concentration for a moment. One of the things that you spoke about in our first interview, which is episode 23 again, and we'll link to it in the show notes, so people can listen to that as well was concentration and this idea of having a fund that could be more concentrated. You gave, I think a number at the time of... And I don't think there was any positions at the time that were this large, but that you would be comfortable with a position maybe going to 15 to 20%.
Daniel Scrivner (00:09:01):
So I just wanted to talk about concentration at a high level. And one, I guess the two questions would be, "Has your thinking changed at all?" How do you guys approach concentration today if any differently?
Robert Cantwell (00:09:13):
Our thinking has evolved quite a bit on this topic. Thanks for bringing this one up again. And this is part of being an emerging fund manager. How much do you know at the outset versus what you learn along the way? I'll actually step back and talk for a moment here about the transition from being an equity analyst into a portfolio manager. It's not an immediate process. When you're an analyst that's making recommendations, you're typically only really into three or four at the most given opportunities at a time.
Robert Cantwell (00:09:49):
And the way in which my own personal investments had been managed, I personally never held more than three or four securities at a time. And that type of history is what drove that sort of level of over concentration. It was one of the things we experimented with early on in our fund. We're going to talk more about this as we get into it later, but one of the biggest things we added was a quantitative analyst to our team.
Robert Cantwell (00:10:11):
And this is someone that is much less stubborn about any single security, but does a tremendous amount of work comparing securities in the market and understanding volatility and risk profiles of different investments.
Robert Cantwell (00:10:25):
One of the studies that we did was looking at our universe of companies that we've loved and going back over the last 20 years and testing different waiting strategies. Equal waiting, market cap waiting, valuation multiple rating, conviction waiting. One of the interesting things that we found was that all of the different waiting methodologies got you to the same ending point with different volatility characteristics along the way.
Robert Cantwell (00:10:54):
So this was a huge eye opener for us because it meant that we didn't have to plow 15 or 20% of the fund into a single security. And it meant that over time, we could sort of push ourselves not to be purely equal weighted, but to put bands on the conviction levels. So we're for the most part, keeping our largest positions a bit under 10%, but we're also pushing up the floor and not owning less than one to one and a half percent of anything.
Daniel Scrivner (00:11:19):
Yeah. Just on that note, previously, did you hold positions in very small amounts? I guess the reason I'm curious about that is the idea of having a floor seems really interesting because in investing, oftentimes you'll hear investors talk about a toehold. And there's no real... I don't know, I've never heard a quantitative answer around how big a toehold position is, but you'll go and look at a lot of funds and you'll see positions that are 0.1, 0.0, 0.05. A very, very, very small number. Talk a little bit about how you got to that floor and maybe what the floor was before, if that was different.
Robert Cantwell (00:11:50):
Yeah. I mean, the floor is even smaller before. Value act had a good answer on this, which is we use our smallest positions as a research trigger. So if someone cares enough about something that they keep bringing it up, we throw it in the fund pretty darn quickly as one of our smallest positions. And that puts a lot of pressure on the research team to justify the existence of that position and resultingly try to argue that it ought to be a bigger position in the portfolio. Because unless something is in the portfolio, really no one around the table takes it very seriously.
Robert Cantwell (00:12:27):
So that floor has walked up. I mean we used have a handful of 50 basis point positions was our smallest example. And the truth is that those positions don't drive a fund. Well, I would say that we manage ourselves more towards the 25 security max, anytime we start drifting more than 25 securities, we find that the research and conviction gets stretched to thinly, but these have all been factors in driving the top and bottom sizing in the portfolio.
Daniel Scrivner (00:12:57):
I'm going to ask one more question on that and then I'll move on. I want to talk about the state of active management in ETFs. I guess, flipping to the other side of the portfolio, you talked about 25 max positions. Another stat that a lot of investors will talk about is generally their top 10 positions in how much weight in the fund those have. What are your thoughts? What is your approach to managing your highest conviction positions? And are those 10, are those 15? Does the number move around? And then what's that total weight look like?
Robert Cantwell (00:13:27):
Sure. Well, there's one requirement in running a '40s Act Fund, which is your larger than 5% positions can't make up more than 50% of the fund. So what that means for us is concentrating into our highest conviction ideas means that we have about six securities that make up the top 50% of the fund. That number may vary from six to eight, depending on how much we're moving it. But I think it's critical. I mentioned the active share component earlier. It is incredibly difficult to get your active share above 60, 70%. Anything below 70%, you're closet indexing.
Robert Cantwell (00:14:11):
So as a result, it is very challenging to get to that level of active share without having that level of concentration in your top six to eight positions. So we view that as table stakes for getting to be a competitive active fund.
Daniel Scrivner (00:14:26):
Thanks for sharing that. I want to talk for a second about active management. One of the things you talked about in our last interview was that you felt like there was going to be a wave of active managers entering the space. Has that happened? Give us the state of the active managed kind of ETF market.
Robert Cantwell (00:14:44):
It is wild west. The money is coming and it's coming in fast. So as of the end of last year, you had about $300 billion in actively managed ETFs. That was up from 200 billion a year before that. So $100 billion of capital flowing into a... 50% growth in a single vehicle of investment is awfully, awfully fast. And it does not appear to be slowing. So if you were to look today at ETF launches, it has now in fact become easier to launch in active ETF than it is to launch a traditional index based ETF.
Robert Cantwell (00:15:21):
Now, the challenge with that is because the barrier to entry has fallen so low. That means that you've gotten a much wider variety of what is being called and actively managed ETF than what might traditionally be considered an actively managed fund. So in our view, traditionally active managed fund is this is a benchmark. It is our job to beat that benchmark with as little volatility as possible and investors can measure us against that.
Robert Cantwell (00:15:49):
Most of the actively managed ETF, air quotes, that have come out, aren't doing that. They're coming out and saying, "Hey, we're active because we're also overlaying some option strategy." And so you've had a lot of equity-linked income products that have been kind of the most popular thing this year. It's hard to see that because investors don't realize the costs that they're assuming in participating in a strategy like that. They don't realize what they're giving up relative to S&P 500 performance in general.
Robert Cantwell (00:16:19):
But sometimes those products can sell because you're telling someone, "Hey, we're going to give you equity returns." Plus you're going to get some cash out of it. And that can sound good to an investor, but if they're not doing the hard work of figuring out how that's truly benchmark, but what they could get if they own broad indices, they're losing some of the spread in that entire process.
Robert Cantwell (00:16:38):
So there's a lot of stuff going on out there. There's conversions. Some of the large mutual fund houses have begun to convert a couple of funds, Vanguard, BlackRock, Capital Group. They're all now officially in the actively managed ETF space. For the most part so far though, these really large managers, they've entered the space, but they're not penetrating it.
Robert Cantwell (00:16:59):
So with whatever funds they brought to it, that's sort of where they are right now and it's probably going to take them a handful of years as it's taken us to figure out how to make the product relevant to the market that they're trying to sell it to. But look, it's still really early. I mean, actively managed ETFs are just a little more than 2% of the 12 trillion and actively managed AUM out there. We see that penetration getting to at least 10% over the next five to seven years.
Daniel Scrivner (00:17:28):
Yeah. 2% is still a very small number. We asked both of our followers leading into this interview if there's anything they'd like to hear you talk about, and Ben Patton asked the question, which I really like, I'm excited to hear you answer, "How is it that mutual funds are still surviving given the low cost of ETFs?" What are your thoughts on that?
Robert Cantwell (00:17:48):
Honestly, the survivability of mutual funds is a huge reason why we got into this business in the first place, which is one of the secrets of the retail investment management industry is that the majority of money that is invested and grown doesn't actually get spent. Most of it ultimately gets handed down or transferred at some point. And so what that means is that money that has been allocated to mutual funds, mutual funds have a hundred year head start here and actively manage ETFs.
Robert Cantwell (00:18:20):
So there is an incredibly long tail of mutual funds that even though they're not winning a ton of new assets into their vehicle, they are still growing with the market faster than their investors are withdrawing from the funds. When you've seen the charts with the hundreds of billions of dollars that have been coming out of mutual funds, you're talking about less than 5% of the AUM of these aggregate vehicles.
Robert Cantwell (00:18:44):
And that's coming from the life cycle of an investment where there are retirees that are living off of some of their investments. But as a group, they're not withdrawing quickly enough from the category to that truly shrink the market share of mutual funds in a more rapid way. And so what you're doing in this business is you're fighting for where the incremental capital is being allocated. And when we talked about just 2% of the entire active retail equity management industry, 35% of new dollars are going into actively managed ETFs. So you have a very large dispersion between where the money is already sitting versus where the new money is coming in.
Daniel Scrivner (00:19:33):
One of the other things I had to ask you about in this interview is thematic ETFs. Thematic ETFs can be conflated, or I don't know. They're somewhat related. They can be passively managed, actively managed, but they're a little bit different. I've heard many takes that thematic ETFs people think those are going to become a bigger and bigger part of people's portfolios. What are your thoughts on thematic ETFs and how that space may play out?
Robert Cantwell (00:19:59):
Earlier, you mentioned that... You were asking is 2021 was that peak year-
Robert Cantwell (00:20:03):
... that you were asking, is 2021, was that peak year of actively managed ETFs? You actually could categorize 2021 as perhaps the peak year for thematic ETFs. Thematic ETFs were this sort of strange bridge product from traditional index based ETFs until now what you're starting to see is actual stock picking investment managers behind these funds. ARC is probably the shining example of riding that thematic ETF trend.
Robert Cantwell (00:20:32):
They tried to have a foot in both camps saying, "We're active investors," but really what they were doing was building these thematic portfolios and saying, "You want exposure to genomics? We're going to put this basket of genome oriented companies together whether or not they happen to be good investments or not," because that's what the actual investor is doing and saying, "Hey, I'm going to target some IRR and try to at least meet or exceed that."
Robert Cantwell (00:20:56):
That's a very different prerogative than saying, "Let me give you access to this set of type companies." To really get into peak thematic you had... oh, gosh, who did it? Round Hill when they launched that Metaverse ETF, because there were almost two bubbles last year, there was a bubble in February, right around the time we were doing our interview, and then there was another bubble in November.
Daniel Scrivner (00:21:20):
What a year.
Robert Cantwell (00:21:23):
Yeah. Around that time, that's when the Metaverse ETF launched, and it got a couple hundred million dollars in assets so quickly, but then Facebook wanted to work through its rebranding to Meta, and then offered the Meta ETF folks $10 million just for the ticker. So, that's a pretty difficult moment in time to imagine happening again anytime soon, and had a lot of the components of things that you might say that was a peak. We'll see if that was peak for thematic ETS or not, but it was certainly an incredibly hot year for them.
Daniel Scrivner (00:21:58):
It makes me think of two things. One is, man, KNGS, KNGS must be worth a lot of money, so good job getting that ticker, and then two, on the ARC thematic note, you and I were joking about this a little bit, but generally I really like that at least in ARC, you have an investor that's very tech forward, because I think there's a lot that they don't do right, but it's nice to have at least some voices making that argument in public markets, even if it's messing all over the place.
Daniel Scrivner (00:22:25):
But one of the things I found darkly comical was looking through things like the space ETF and looking at the positions in that portfolio, because you would see things that were very clearly space focused companies, but then it'd be paired up with something like a John Deere tractor that, sure, maybe that technology or pieces of it maybe be important on space or in colonizing Mars or on the moon, but it's a little bit of a stretch to think that that is a true proxy for investing in space, so that was funny.
Robert Cantwell (00:22:55):
Well, I'm going to go a little different direction here. We were talking a little bit about this together before we jumped on this call, and you asked, "Over the last two years throughout all the volatility, what's your one bullet point takeaway on the investment business?" My answer was that the investment management business actually looks a lot more like every other business, where there's products, there's marketing, and there's distribution, and you have to be outstanding at all three of those things in order to succeed in this business.
Robert Cantwell (00:23:27):
ARC, without question, has been an unbelievable executor in marketing and distribution, and they've released more products than your average investment firm, with easily getting into the double digits, and so bringing up something like that space ETF, I view that as a firm that gets to be really confident in their marketing and distribution because they've done such a great job of building all of these channels directly to individual investors, and they're willing to roll the dice a little bit on products to see what might resonate with people or not.
Robert Cantwell (00:24:02):
Also, what might actually have some decent short term market returns, because sometimes that can drive the long term success of a fund or not if it just happens to launch at the right time, because it's very difficult to time markets, certainly from that perspective. I throw that more into the experiment bucket for them with their transparency ETF and other things like that. But again, with names like space and names like transparency, these are themes. This isn't saying, " Compounders is the thing that we're going after. We're going to measure return on invested capital and we're going to buy it for as affordably as we can." We're trying to do something different.
Daniel Scrivner (00:24:39):
Yeah. Very different lenses. You know, I want to come back later in the interview, we're going to talk about three of the top positions in Compound Kings today in a little bit of depth, but I want to flash back to our last interview. In the last interview, those three positions that you shared that we talked through were Alibaba, Meta, which was Facebook at the time, and Berkshire Hathaway. You and I have obviously talked about this off camera before recording about how those played out. Share a little bit of your thoughts on, one, just each of those names and how they played out, and how you're thinking has changed since then. We're just reflecting on those.
Robert Cantwell (00:25:16):
Well, the first thing I'll say is I'm very happy that I gave such a wide range of stocks when we spoke, because gosh, they have had awfully differing paths. Yeah. Baba's down 50%, probably a little more than that. Meta is down about 30%, and Berkshires, probably about 15%. Warren's had a great year. So, where were we then? Where are we now? I'm 38, I've worked in institutional investment management for eight years, helped build a starter for eight years, and working on this business for a few years. For the duration of that career, for the most part, China was opening up more and getting along with the US, and there were some incredible companies getting built there.
Robert Cantwell (00:26:06):
I had at least preliminarily come to the conclusion that the average American investor had this home bias, which is a well studied thing in the history of investing, which is you invest a lot around your home country, but if your home country has its own issues, for whatever reason, there's risk to your investment returns. Imagine being our age in Russia during a moment like this. You would've wished that you had been diversified outside of that. I had incorrectly thought that China would be one of the greatest ways to diversify against long term risks to the US economy. The challenge with all of that with whether they were cracking down on some of the large technology companies there or rethinking their foreign relationships with US governments, what really broke the camel's back for us was when the US started expanding its black list of companies that they said, " US investors are no longer allowed to invest in these companies in China."
Robert Cantwell (00:27:05):
One of those companies was DGI, the drum company that was primarily funded by a bunch of Silicon Valley investors. So, you had a company with a primarily Western cap table that the US came in and said, "Nope, not allowed to anymore," and clearly those investors had to sell out of that business on no particularly great terms. That really got to a point where we were no longer just being contrarian in the prices, but we were really being forced to pick a side. As a US based fund with US based investors with a country that has really taken the stance of our relationship with them is growing apart, no longer closer together, it became a business decision for us.
Robert Cantwell (00:27:49):
Having to research two markets, one of which that's open overnight, and the other one, which is open daytime here, was simply stretching our team too thinly. We concluded that there were enough other securities and great companies in the world for us to deliver the type of returns that we're seeking for our investors without having to do all the effort of continuing to sustain our investment presence there. That's a lot on just Baba, but there was a lot of work that went into that process. You know, one of the fascinating things about Meta, the multiple on the business has just continued to contract. A lot of that has to do with management's stubbornness about investing in the Metaverse and the amount they're willing to put into that. The company couldn't be, or it certainly could, never say never, is trading at as attractive of an evaluation as it ever has in its history as a public or a private company. Meta, you could even contrast it to say and Amazon right now, Amazon is negative free cash flow. Meta, for all of its issues, is still printing more than $30 billion of free cash flow. But investors today have decided to say, "Well, we're going to punish Meta for that and put this sub $500 billion market cap on it." Amazon, we believe your margins are going to come back. We believe that free cash flow is going to show up again in the future, and we're going to bake that into your market cap today.
Robert Cantwell (00:29:11):
We actually don't think the competitive environment for Meta has changed. We don't think the regulatory environment has gotten so bad that it's unfit for investment. You have a management team that has managed transitions into video transitions into stories multiple times in their past. As a long term investor, it's one of the few opportunities out there where we certainly think that there's the potential for generational wealth expansion. So, I'd say that in spite of the price in market volatility that you've seen there, there's nothing that has changed in the underlying fundamentals or competitive position about that company that scare us. Then lastly-
Daniel Scrivner (00:29:51):
Robert Cantwell (00:29:52):
Gosh, it's just a reminder that there's just always some amount of Berkshire that you have to have in your portfolio. Every investment decision I've ever made at any point in my life, I always benchmarked against what if I had just bought Berkshire Hathaway instead on that date? That has been one of the greatest learning tools for me, because it's really sharpened my lens on understanding when is Berkshire really attractively valued? When is it fairly valued? And it's just such a lower volatile stock. To, again, give a quick example, you could have owned the S&P 500, or you could have owned Berkshire Hathaway for the same... let's say over the last 10 years, same period, same returns, but half the volatility. That's just an incredible investment product, the number of investors that would try so hard to manufacture something like that. So, it's still incredible what they've built and the fact that they have a management team that is built around capital reallocation. There's just no other company like it in the world. It's a smaller percent of our portfolio today, but it's a company we will never stop tracking.
Daniel Scrivner (00:30:59):
I like it. I mean, it's an extremely unique company as you alluded to there. I also love the quote, I'm probably going to borrow it, that there's always some percentage of Berkshire that you should have in your portfolio, because it's true. I mean, it's true. I feel like anyone I know who invests thinks a lot about that and similarly kind of benchmarks their decisions. I'd love to turn to biggest learnings over the last couple of years. Preparing for this interview, you and I went back and forth talking about three of these, and I'm going to do something to, I guess, read aloud the three that we came up with and then just have you expand and share your perspective on each. The first one is around growth and just this idea that you always have to be learning new industries. Talk a little bit about that and expand on that idea.
Robert Cantwell (00:31:45):
We've covered a bit. Most of my background is in consumer internet, help build a direct consumer brand. At Elevation, we were big investors in Facebook and Yelp and a lot of these media and e-commerce assets. What's one of the things that's misleading about trying to become the best analyst that you can in the markets or companies that you're exposed to is as you get to know these companies so well, you become very confident in your ability to select amongst them. However, you lose the ability to see whether or not that category as a whole is still as attractive as it once was for investment when you might have been thrown on it as an analyst however many years ago. One of obviously the learnings and transitions is going from analyst into portfolio manager where your role really does change, because you have to consider, is the quality of the industry still there it once was? That was, on a consumer internet side, to give an example of this, Netflix and Spotify are two examples of businesses that were able to generate a pretty incredible amount of growth on reasonable investment levels. They were medium in capital intensity. But one of the things that has been masked in or hasn't gotten talked about as much, sure their subscribers are slowing down, sure their addressable markets maybe aren't as big as they were attempting to advertise to their investors, but what's worse is that their marketing costs are exploding.
Robert Cantwell (00:33:22):
What it costs them to sustain viewership and listenership across their platforms, as well as acquire the smaller remaining number of subscribers that they have pursuing their product, that is a structural issue that exists at the industry level. This falls into that bucket now of you can love the management team and you can love the product, but if it is not in a particularly great industry with little competition, they're going to have a really tough sledding generating the type of free cash flow that investors envision, even at the prices that we see today. Getting back to your original question here on one of the learnings, and at the industry level, it's a very intimidating thing to know how much you can learn about a single category, realize that there are limitations to the potential future of that category, and then realize it took me 12 years to become this good at that category. But cloud computing is now arguably where digital advertising was five years ago. How do I become 12 years good at cloud computing in six months? Which you can't. Yeah.
Daniel Scrivner (00:34:36):
Yeah. It's very difficult. I mean, I love that perspective. I love that perspective. It also is just a reminder, one of many I'm sure we'll cover in this episode, about just why investing is so difficult, because there are so many pieces of the puzzle that you need to consider that you need to keep tabs on, that you need to square up I think in order to always be making the right decision, which obviously no one can ever do. Moving on to number two, quant, you talked about this at the beginning, of adding a quantitative person to your team.
Daniel Scrivner (00:35:08):
It's something I want to return to a couple more times in this interview because I think it's really interesting, but the takeaway there was that it's a great muscle to add to the investment team for better risk management. I think it would be interesting if you could talk, one, about just maybe expand a little bit more on what adding a quant added. I would be curious too, was hiring a quant difficult for you? Was that an easy decision? Was it something you grappled with? And then two, talk a little bit about how it has helped the risk management side.
Robert Cantwell (00:35:37):
Lars, he joined us last summer, sometimes when you're building a startup, sometimes you get lucky, some things come to you more quickly than it takes you to find them. Lars reached out to us, much like you first did a long time ago, and said, "What you're doing sounds different. I think I might be able to help," and we weren't explicitly looking for someone in his role at the time, but we said, "Well, here are some things we're thinking through right now. How would you approach these?" He came back with very elaborate analyses and came back with ways of thinking about things that we were not looking at them, and it sort of forced us to rethink some of our approaches to the problem. It was an incredibly natural process and we thought, "Well, gosh, we should probably really have him inside the doors here working through these problems with us."
Robert Cantwell (00:36:24):
Yeah, I shared some of the things earlier. Joe, who's worked with me nearly since the beginning, really like me, the background is in fundamental individual stock selection. "I want the best product in the best market with the best management team," hopefully at a somewhat decent price, and goes really deep into competitor transcripts and customer calls and how management's tone is changing here or there from anytime they're speaking to the public. So, what we've learned along the way of bolting onto this individual stock selection process, I mentioned the transition from being a research analyst into being a portfolio manager, and the addition of the quantitative analytics has accelerated our portfolio of management decisions, which is different than stock selection, because it has to do with what's your exposure like to end markets, whether at an industry level or a customer size. SMBs are different than enterprise, are different than consumers.
Robert Cantwell (00:37:29):
It helps you understand the relative valuation multiples. For example, one of the things we track is Amazon always trades at some premium, but the premium that it trades at relative to all these other smaller players in the e-commerce industry, Chewy and Etsy and whoever else, that gap changes over time, so there are moments in time in which it's more attractive to own the leader in the industry, there are moments in time where it's more attractive, and those are very difficult things to follow as an individual stock selector. But when you have someone that's able to boil the ocean on data, it gives you a much cleaner perspective on where things might be overheated from a valuation standpoint, as well as where there might be opportunities to go start fishing for that next security.
Robert Cantwell (00:38:12):
So, I would say that the number one benefit has been on the risk management side. To point out, I mean, we haven't been inside the doors at Tiger Global or at Coatue for the last handful of years here, but based off of what's been reported in the press, and if you were to go on LinkedIn and see the people that they've hired on their teams, Coatue has made an explicit effort over the past five years to bring quantitative analysts onto their team. Tiger didn't. If you look at what their year to date returns are, Coatue's taking victory laps for having taken a lot of risk off the table at the end of 2021, whereas Tiger has held firm as a long term investor in their companies. Without knowing for sure, but my experience leads me to believe that it is the quants at Coatue that helped drove many of those risk management decisions that protected the returns this year.
Daniel Scrivner (00:39:05):
Yeah. It's a fascinating takeaway, because I think, one, it makes the point, in a wonderful way, that yes, you can be great at selecting the right securities, but ultimately it's a portfolio that has to work together. So, being able to analyze, as you pointed out, exposure to end markets, waitings, multiples, relative attractiveness is really interesting. I do love that point. I, like many investors, I think respect a lot of what Coatue does. Last point is operator advantage. This one I really like and I'm excited to hear your take on. The learning there was just, and it's very simple, but I'm sure there's a lot to it, knowing the people behind public companies matters. Clearly, that would intuitively make sense. Talk about why that's been so important, and the role that's played.
Robert Cantwell (00:39:48):
One of the challenges as a public investor is that you are an extremely minority investor in the companies that you're participating in. As Joe likes to say, that means you are getting the company as it is.
Robert Cantwell (00:40:03):
... to say that means you are getting the company as it is. And if you think that you need to sit around for a new CEO or for a change in board, buckle up, I hope you've got a lot of patience because that investment is likely to underperform your benchmark or underperform other securities that you're looking at. And so, what we've found is that you want, ideally, there to already be the people at the company that would be either running the company as if you owned it in full, in its entirety, or if you were running it yourself. And this is some of the advantage of having a career spending some time in New York and spending some time out in the Bay Area.
Robert Cantwell (00:40:45):
A great example is Bill Ready. He was someone that I hadn't known about, hadn't asked about, but multiple people that I'd worked with in my career, some that had worked at Venmo with him, some that had worked at PayPal with him, brought him up to me and talked about their experiences working with him as being so outstanding and so transformational in their own careers. And I wasn't even fishing for the information. And you don't forget those things. And when you see someone like that get promoted into a position like that, there's a lot of reasons to believe that that's likely a potential good step for the company to be so well regarded and to have worked with companies in their early stage, their growth stage and even their maturity stage and be such a valuable player. Also, it even helps a little bit to know that when someone like that leaves a company, it's because he's leaving it not because he is getting kicked out.
Robert Cantwell (00:41:35):
We can contrast this with, to be frank, someone like Evan Spiegel, and Evan has had really high turnover in his executive ranks in the years that he has been running the company. And that turnover in executives ranks, those executives haven't, all of a sudden, then gotten incredible jobs at Amazon or some other great large franchise. And that's an issue. And that's one of the things that even Meta scores really well on is their management team has been there a really long time, there's lots of internal promotion, that means there's a lot of great worker development that happens within the organization itself.
Robert Cantwell (00:42:15):
And when there's a lot more churning going on internally or folks on the outside, that's expensive. And that works against this sort of compounder philosophy on building learnings on tops of learnings and growing with the people as much as you can with the people that you have, as opposed to thinking that, all of a sudden, new people can sort change the shape or the outcome of your business. And so, I do think, this is where sort of the people component, whether it's from specific individuals and the way that they manage or the way that a company operates within itself is in fact an important determinant of success with an investment.
Daniel Scrivner (00:42:52):
Yeah. I love the comparing and contrasting Bill Ready with Evan Spiegel. And you kind of beat me to the punch because I was going to bring up Snap, as we were talking about Meta, in a second, but I think I kind of know your thoughts, generally, now.
Daniel Scrivner (00:43:03):
One of the questions I want to ask with someone like Bill Ready is anytime you have a company that, we don't need to say that it needs to be turned around, but you know that it needs to start a new chapter and they're bringing in someone like Bill Ready. In your mind, obviously, a lot of that, you're weighting the person and what you've heard about them and how you think they can perform in the role. What percentage, if you were to try to guess, do they factor into the success of the turnaround and the success of the new chapter? And what I mean by that is that as you're thinking around these things, just from my experience, people matter a lot, but ultimately, people that are coming in can also be faced with structural challenges or big challenges. How do you try to sort that out or do you have any thoughts there on the ability for one person to make a difference?
Robert Cantwell (00:43:49):
It's a great followup because Pinterest is a great specific example because Pinterest actually built a lot of great things, they already have a self- serve ad platform. One of the slowest, I think, Twitter today... I mean, I'm sure they say they do, but for all intents and purposes, they don't. And they're still selling media through sales people in a very traditional way like they're a television station on cable. And Pinterest was actually ahead of the game in a handful of their product features. And where Pinterest was really lacking is that really international was this piece where they're a much bigger asset outside the US than they are inside the US.
Robert Cantwell (00:44:32):
But the way that they'd organized a team and the way they had built their company, it was so US focused that their monetization in the US was so far in excess of what they were able to do anywhere else around the world. And the US, of course, is a higher ARPU market than elsewhere, but Pinterest was disproportionately monetizing the US relative to the amount of business they were generating elsewhere. And that is an example, to me, of an organization with strong product leadership, with a great fundamental business, but a lack of operational discipline in expanding its tentacles as a global organization.
Robert Cantwell (00:45:09):
And for someone like Bill that is such an exceptional operator, it's pretty good fit from my vantage point as an investor to say, great, let's get the business that's structured, that has struggled a little bit on the operational chops, they got into a lawsuit fight with their former COO, they promoted their CFO into a different temporary position, and to now say, "We have enough of the core building blocks in place, we don't need a product visionary, we need an operator to really help run what we're already doing better and more efficiently." And I think the style and experience of the person matches the challenge of the company. And that may change as the competitive set changes for Pinterest in the future, but for what their core issues are right now, I actually think it's a really, really good match.
Daniel Scrivner (00:45:58):
Yeah, it's very well said. I just love hearing you talk and expand on these things because it's very clear how thoughtful and how deep of a thinker you are so I love kind of walking through that. Thanks for that.
Daniel Scrivner (00:46:09):
I want to take a little bit of time now to talk about kind of the top three positions or three of the larger positions in compound kings. And two of them we'll cover are very different from obviously what we talked about last year. One of them is the same, and that's Meta.
Daniel Scrivner (00:46:26):
I guess, one of the questions I wanted to ask, you kind of alluded to it a little bit for more from the human angle of comparing and contrasting Meta to Snap. But I guess, I'd be curious to get your take on, one, do you think they're making the right decision in investing in the Metaverse? I know that's a hot topic at the moment and there's a very wide range of opinions on, is this going to work out? They're investing a norms amount. But one, why is that still a position? And then, how do you think of Meta's business looking forward from here and kind of the Metaverse element of it?
Robert Cantwell (00:46:59):
Sure. I'm going to explain for a second why I'm so excited about the business and then I'll get into some of the thoughts on the Metaverse side of it. We talked a little bit about source documents earlier and in 2018, during one of the congressional testimonies on Meta, there was this great exhibit that was included and it forced Meta to show the relative size of each of their four platforms, WhatsApp and Instagram and Messenger and Facebook in the top 30 developed countries or something like that. And what was fascinating is that, in any given country, a different one of the four products might have been the number one leader. And there were a lot of really cool insights in the report that you got to see about how Instagram was just growing so fast everywhere. It wasn't necessarily cannibalizing Facebook's lead. In some markets, WhatsApp was the dominant leader. It had to do with, if it was a market where the iPhone wasn't the defacto leader, that meant WhatsApp is the defacto messaging product.
Robert Cantwell (00:47:59):
And when you see a business laid out on a piece of paper like that, you realize how much more complex it is than any individual to attempt to understand all by themselves. And that likely speaks to the scale of Meta being larger than, I believe, a lot of investors give it credit for.
Robert Cantwell (00:48:25):
To make a blunt comparison, AT&T was a very big piece of the S&P 500 for very many years and they ran into regulation, they got broken up and they got put back together. And they've actually been a decent investment through a lot of that.
Robert Cantwell (00:48:39):
And you can almost think through Meta as the modern communications platform, but it's global, it's less regulated, but that's growing over time, and it's got an incredibly stronger business model because they're not charging fixed price subscriptions. They're able to price discriminate because they sell advertising to all these small business advertisers. Now that business model runs into more problems because it can be politically influenced or you can have bad actors that... Imagine if back in the day at AT&T and someone could call you and drop a bunch of misinformation in your ear through your phone. You understand why that communications company got regulated so quickly. So there's trade-offs to that structure.
Robert Cantwell (00:49:26):
But I think Meta is a much more complex business than any investor that says, "Gosh, they're growing slower." And in fact, for all the fears about TikTok, one of the things that we really closely track is we look at the top a hundred accounts on Instagram, we look at their followers and their engagement, and the follower growth on Instagram is continuing to exceed the follower growth on TikTok if you were to look at the same hundred accounts over on TikTok. So for all of TikTok successes, which have absolutely been worthy of kind of notice and study, Meta is still, in fact, growing from the position that they're in, as big as they are.
Robert Cantwell (00:50:05):
Now to address this Metaverse issue, which is an issue, part of the history of it has been that Facebook has worked through so many transitions, desktop to mobile, photos to video, and they're trying to get ahead of whatever the next transition is. And this is where I think a lot of healthy debate deserves to be had around the company because Mark has made the decision that it's worth allocating at least 12 or $13 billion of capital into annually to get ahead of because they view themselves as competing against Apple long-term on this or Microsoft long-term on this and they think that's the volume of capital required to be competitive.
Robert Cantwell (00:50:44):
Now, the challenge is, you look at, say, a Roblox, which is the most realized version of a Metaverse company today, and it's a $30 billion market cap company. So what's Meta going to do? Spend the entire market cap on the Metaverse in the next four years chasing the Metaverse? So I do think there's a lot of reasonable debate that can be made about whether or not the company is investing in a high return on capital way with it. It's something we're staying really close to. You're looking at less than, say, 5% of their market cap over the next few years. They are diligent enough in the remainder of their capital allocation, as it comes to their share count, as it comes to their hiring growth. Their core business is still driving great engagement and ARPUs. So taking the whole picture together, we're excited about the long-term opportunity without having to be excited about the Metaverse turning into anything.
Daniel Scrivner (00:51:38):
Yeah. I love that analysis. And I love the comparison of Facebook building a modern communications platform. I feel like I've heard takes on that, but I think that's the most compelling way I've heard it framed. I really like that.
Daniel Scrivner (00:51:51):
The second one, you kind of alluded to a little bit earlier when you were talking about where public cloud is now and that company is ServiceNow. And I would want to hear a little bit of, maybe, your thesis on public cloud, what you like in particular about ServiceNow. But one of the questions I also want to ask is, ServiceNow is a really interesting example of a company that has been compounding for a very long time already and so, people could maybe look at it cynically and just say, "Well, is the compounding already behind us? How much compounding is left in the future?" Maybe if you could start there and then work into more about ServiceNow and why it's interesting.
Robert Cantwell (00:52:27):
So ServiceNow, they are not the cutting edge cloud computing company, clearly that's AWS plus Datadog plus snowflake plus you've got your data warehouse plus your analytics platform plus your storage and web.
Robert Cantwell (00:52:45):
ServiceNow is different because they were, call it, the first truly cloud based ERP. And if you went back into the history of enterprise resource planning, most of the companies got built around which executive they were serving. So Workday was serving your CHRO. Salesforce was serving your chief revenue officer, your head of sales. And ServiceNow, because they didn't grow up in the legacy, they kind of got to start in the cloud ERP world, serve the CIO. And the rise of the chief information officer or information systems, however you like to think about it, is potentially the most impactful position to serve because they are the biggest budget spender on software infrastructure decisions for the company.
Robert Cantwell (00:53:44):
So the CFO was always a tricky one because the CFO always needed all the financial ERP software in order to get their monthly financial support and financials done on time. But that was actually a little bit more of a competitive market than what ServiceNow has been able to carve out with the CIOs. So one of the things that we really like about ServiceNow is that it has owned this, call it, pivotal executive position within so many different types of companies. And what they build is actually pretty customized into any given company that they're working for. And because you get that added layer of customization, it's a little bit more expensive upfront, but it usually turns into a longer customer lifecycle time. And so, we view ServiceNow, I mean, the US government happens to be one of their very large customers, but they have nearly government-like contracts with the biggest companies in the world.
Robert Cantwell (00:54:42):
And you ask the question about, "Well, how can you be excited about the future compounding of this business given the amount of growth they've had so far?" Growth from existing customers. That is when a business that size generates so much growth from its existing customers like it has done for so long, that is typically an indicator that that company will continue to surprise investors on the amount of incremental business that it's going to do going forward because they aren't having to find new customers to do it, they're simply having to penetrate their existing customers more deeply with more product and services. And they haven't even done much M&A to chase that.
Robert Cantwell (00:55:24):
That's what investors give them the hard time for, they say, "You're not going to get to Salesforce because you haven't done the acquisitions and management team keeps pushing back and saying, "Well, let's see how far we can take this because we have so far defied all of your expectations without having to do all of this bolt-on M&A. So bolt-on M&A, as we see it, is simply an opportunity for a company like that should they see the need for it in the future, but you've got to be impressed with the amount of organic growth that a company like that has done.
Daniel Scrivner (00:55:55):
Yeah. I mean, I love that answer, I love that framing. It makes a lot of sense. I'm going to ask a question and this is a free pass to say, "Not interested in talking about it. Haven't done enough homework." But obviously, ServiceNow and Snowflake both have Frank Slootman to thank for at least part of their trajectory, part of the history of being the CEO of the business. Any thoughts on Frank Slootman as an operator or Snowflake as obviously, a very different bet in the space, but any thoughts there?
Robert Cantwell (00:56:23):
I don't have. We talked about the operator, the people side of things before, I do not have any unique insights on Frank Slootman that the market doesn't already have or know about him. What I'll share is that there's a great employee interview from someone that I believe had worked with him at both ServiceNow and Snowflake and sort of had some intelligent observations about the evolution of leadership at ServiceNow because they had John Donahoe, they had Frank Slootman and now they've got Bill McDermott and Frank Slootman now, obviously, at Snowflake.
Robert Cantwell (00:56:57):
And they had a... Gosh, I want to remember the way they articulated this right, which was, the early years of ServiceNow, when it was in startup mode and figuring out its core products and kicking down its first big doors with customers, Frank was just such an outstanding leader for that. And then, once they got all those doors open, but you potentially don't necessarily have the best internal culture because Frank doesn't care about anybody's feelings, you had John Donahoe come in and help get the existing company playing more nicely within itself. And you want that culture long-term. Obviously, what Tim Cook has done with Apple has been quite commendable in that regard. And after John Donahoe continued to sort of entrench further with existing customers, then you get Bill McDermott coming in and Bill McDermott, really big company CEO from SAP. And what's interesting about Bill McDermott coming in, we talk about what are the problems with the company and what are the key things they have to work on? Channel partners have become one of the biggest growth engines for ServiceNow. So many, many Microsoft enterprise products are not sold by anybody on Microsoft's payroll, they're sold by this long list of reseller businesses that either call themselves consultants or sometimes accounting firms or something else, but really they're actually just selling Microsoft products. And that has been one of the biggest engines of ServiceNow's growth over the last handful of years.
Robert Cantwell (00:58:32):
And that is an area where Bill is uniquely able to help grow that business better because he is there to help foster that reseller ecosystem for ServiceNow. And if you pull up a handful of calls on some of these resellers, a handful of public companies, they are citing ServiceNow as their primary growth driver amongst all of the other software platforms that are out there. And as investors on the outside, these are the little hints that we look for and it's the best we get in some cases as to which companies are chasing the biggest opportunities.
Robert Cantwell (00:59:05):
So a little bit of a different answer to who is Frank Slootman and a little bit more of an answer of you can have different people over the lifecycle of companies and still see a really successful business form. And how far Frank will take a Snowflake has so much more to do with his own personal life and decisions that I could never forecast as an analyst.
Daniel Scrivner (00:59:27):
And lastly, Robert, I would love to have you just talk a little bit about Adyen. And I think what I'm curious about there is just general thesis and thoughts on Adyen, thoughts on some of the competitors because it happens to at least look like, feel like a very competitive space. And then, just thoughts on picking Adyen and what you particularly like about that business or business model.
Robert Cantwell (00:59:46):
So the evolution of payment technology, I think, is one of the more exciting areas right now because the gap between the legacy infrastructure, whether it's from First Data or Fiserv versus what is newly available to merchants through these API based payments acceptance platform-
Robert Cantwell (01:00:03):
... global to merchants through these API based payments acceptance platforms. That gap is really wide. We were previously talking about ServiceNow. The difference between ServiceNow and some of its competitors at Microsoft or some of the independents is narrower than the gap between Adyen and the legacy businesses that they're competing against. And you hear this time and again from the customers that make the switch from an Atos to an Adyen. Now, there is a lot of curiosity about the competitive dynamics between Stripe and Adyen and dLocal, who are arguably the three global leaders in this space. And Stripe made the decision early on to sort of start with smaller businesses. They were in the Bay area, they got installed very early with Lyft and all of the delivery companies and all the vacation platforms, you name it and got to grow with those companies and increased the complexity of product over time. Adyen, because of the history of some of the founders, they started at the other end of the market. They said, we're going to start at the top.
Robert Cantwell (01:01:03):
We want to build a Fortune 500 quality product out of the gates. And that's something that takes longer to build at the front, but then gets you particularly valuable customers. And clearly Stripe stream is to penetrate that same tier customer set, and they've already are well along in that journey. But fingers crossed we'll see Stripe as a public company in the next couple of years. Adyen's capital efficiency and free cash flow generation, I don't have to see Stripe's numbers to know that Adyen is a higher margin, bigger cash generating business than what Stripe is because Stripe has spread itself so much more thinly across so many more projects. Now that said, you're starting with a great industry. So, the threshold of selection across the businesses is less challenging because the future is likely bright for all three of them. Because you've got those three and then you got to go pretty far down the list to find close competitors. And there's trillions of dollars that they're all going to be processing in the years to come, which what makes it a pretty interesting place to invest.
Daniel Scrivner (01:02:10):
Is there anything about Adyen's culture that I think a theme that I've really enjoyed in this interview is talking about the human element and how that maybe shows up and building a business. And even just in the answer that you shared there of obviously because of their background, they're choosing to honestly take on the more difficult challenge by building for the top of the market first and then slowly moving down market. And so, I'm curious you obviously alluded to there. I think Stripe has an interesting culture. They've made some interesting decisions around spreading them, basically having a proliferation of products and a Cambrian explosion is probably the right word. When you go to their website, you look at the products and it's like 60 different things to choose from now, and it's hard to see that growing. Anyways, I guess the question I would ask is there anything that similarly stands out cultural in the way they make decisions, in the way they approach building the business about Adyen?
Robert Cantwell (01:03:07):
Couple things that I'll point out that are different about who both the management and the board structure. One is the management team is all in that sweet spot where these guys are not in their fifties and sixties. They're on their second or third startup. They've already been successful. They're in their careers success, but not so successful as to give up yet. And most of the team has been internally promoted, which is great. They have not had to rely a ton on external hires. They've got to where they are with a lot of their core team in place. One of the other things that stands out is their team is so focused on what they're doing at Adyen. Now you could say this is potentially because Europe does not have as many unicorn distractions for their management teams to go join five other boards, but that's one of the issues with some of the US based companies.
Robert Cantwell (01:03:55):
There's so many grabs for attention on the executives, that they get pulled into a few more places than just the company that they're working on. So, combining the elements of having a strong core team that has mostly been internally developed, that is still there today, and does not have a lot of outside separate interests going on, that's pretty rare to find at a company of their size and evolution. And then going a step further and if you were to look at their board, what I really like about how they've architected it is it's really a board of advisors and those advisors have key competencies in the areas that are uniquely important to a payments business. So, regulatory compliance, infrastructure technology, big enterprise customer sales, you really want, I do think meta has done a good job about architecting their boards similarly around the things that matter most to meta. But that's actually quite rare to find in US companies.
Robert Cantwell (01:04:56):
Our US boards, they're so political. They focus around the head of the comp committee has to sit on seven other comp committees of other boards. And how much independent thought are you really getting when you're just having this person that is just averaging together what they're seeing across all these comp committees? They're not doing something that is uniquely an issue for that particular company. So, I respect the way that they've organized that board around advisorship, as opposed to governorship. Now that could be a risk longer term to the investment if there are governance issues that we end up bumping into. But certainly from a growth company, from a growth mindset, it's a uniquely architected team.
Daniel Scrivner (01:05:35):
Yeah, that's a fascinating answer. I'd love to close out with and we can make this somewhat of a speed round of just talking a little bit about the business of running an ETF, growing an ETF. Because this obviously it feels to me like yes, as an investor, you're always iterating, refining your investment philosophy. It seems like you guys have found a groove there. The business of building an ETF business is a little bit different. And as I were catching up talking about what we might cover here, I think some of the most interesting topics are in what it actually takes to build an ETF business. And so, I'm going to ask in a second, we'll talk about wholesalers, we'll talk about financial advisors, but what I wanted to start with is just super broad. What does it look like to build an ETF business? And what have you learned about that over the last 18 to 24 months?
Robert Cantwell (01:06:26):
No small questions here. Low barriers to entry of launching the product, high barriers to entry of mattering to investors. I start by summing it up that way. And our own experience so far is that we've attracted a healthy amount of attention from self-directed investors like yourself, that know the rigor that they would put any company through in deciding to make an investment into it. And appreciate call it the luxury of getting to ride along with an investment team that is doing the work on a few more companies that they would like to do if they had the time to do it. So, that's been a cool little corner of the universe that we've resonated with, and that's certainly a lot of the community that we've been able to grow with on Twitter. Now the reverse side of this is in chasing the aspiration of managing a fund that any investor can access, the majority, the vast majority of Americans still rely on their financial advisors for investment placement.
Robert Cantwell (01:07:42):
So, if you want to grow a retail investment management company, you have to figure out how to make your fund useful to financial advisors. And their approach is actually often to be skeptical of funds that have performed because they may be fearful of a version of meme or fearful of luck. And clearly today we speak about our strategy differently than we did a year ago. And some of that has come through the laborious process of meeting with hundreds of financial advisors and hearing about the things that they care about what we're doing, the things that they don't care about what we're doing. Something I'll share as an example, is this phrase Active Share. Active Share is increasingly becoming one of the most important differentiating elements of an actively managed ETF, which is what percent of the stocks that you own differ from some broad market index?
Robert Cantwell (01:08:32):
So, in the S&P 500 case, we're at about 86% and rising. And that means that relative to the companies that we own, even though you may see some of the same companies in the S&P in our portfolio, it usually means that we are holding them in an overweight position relative to how the S&P might be holding it. And that means that we are giving those investors access to either companies that are outside of many of the indices that they already own, or we are overweighting specific positions where we see potential for higher compounding to happen for them. So, there's been changes in some of the go to market approach of the reasons to participate in a fund like this that matters.
Robert Cantwell (01:09:12):
And as we get further down the chain, as you continue to build for the financial advisor community, I mean, there are tens of thousands of advisors, call it more than a hundred thousand financial advisors that are there to potentially connect with in the US, but many of them are on different platforms and there's really sort of a graduation of stages, and we're small. So, as a $10 million fund, there's a specific set of 20,000 advisors. And when we're a $50 million fund, there's another 20,000 or 30,000 advisors that we can talk to. And as you climb, the AUM ranks you sort of open up these tiers of groups to speak with. But ultimately you're doing all of this work because this is the way to get those end real life investors to participate in what you're doing. I've enjoyed the challenge, but you can't have a short time horizon in doing it.
Daniel Scrivner (01:10:05):
No. No, and it goes back to your point of if your end goal is to have a large durable, enduring, very successful fund, and this is just one of those things you have to figure out. You have to brute force it. You have to figure it out your way. You have to figure out how to make it work. I'd love to go in two different directions next. I'm going to come back to in a second and talk a little bit about communicating with your investors mostly through Twitter or public.com. You've done a bunch of interesting stuff there, but I want to start expanding on what you've just been saying about reaching these end investors by talking about wholesaling because honestly, when you and I were talking about what it's taken to grow Compound Kings, wholesaling was something that I didn't even really know much about. And so, I think people listening would find it very interesting to one, just if you could give a quick brief overview of what wholesaling is, talk a little bit about what great wholesaling looks like, and what you guys have been pursuing in doing there.
Robert Cantwell (01:11:00):
Mostly for good. I've been very surprised to learn how much the retail investment management business looks like the enterprise software business. And what's unique about the enterprise software business again, pull any enterprise software business up on LinkedIn and they have two types of employees. They have engineers and they have sales people. And if you were to look at again, very large retail investment management companies, there's two types of people. There's the investment analysts and then there's the sales team. And what's fascinating about that is that the businesses long term also demonstrates similar durability and similar margins. So, really the role of wholesalers in the investment business is no different than the enterprise software sales team, which is they have to hunt for I've got this product or I've got this piece of software, it's this tool. It does these things. And so, in our case, we're not paying dividends.
Robert Cantwell (01:11:57):
So, we're not giving you any cash, but they compound. And so, these guys are going after the businesses at the highest internal rate of return to give or at least help diversify the ways that you can grow client assets over time relative to just owning the S&P 500. Now, but the way that you do that is through a pretty long lead time. And in the same way as enterprise software sales, it starts with the cold hunting. First, you have to figure out the types of firms that even have the potential to be interested in this product, and then there's the relationship development that happens. And many of the best wholesalers out there are incredible people connectors that are able to connect with people on a very one-to-one level, and are not shy about having long conversations about the things that is bugging the advisor at that moment in time.
Robert Cantwell (01:12:45):
And hopefully they'll have somewhat to call it being a doctor and having 10 different prescriptions. We only have one prescription today, which is our compounder vehicle. But as you can imagine, expanding that assortment for those sales folks over time, so that they can alleviate whatever the issue is that that advisor may be feeling or going through at that moment in time. And then over time again, those individual relationships that they build compound because it's not a one time sale, it's a recurring relationship through which more and more business is done in the future. And it's certainly something that we knew we'd have to build at some point, but it's something that we're starting to crack ground on a little earlier.
Daniel Scrivner (01:13:28):
I love that comparison and analogy as well as the investment business being actually very similar to the enterprise sales business because it does make a lot of sense. It also is I think an observation I haven't heard made before. Maybe the last thing I'd love to talk about is how you communicate with investors. We've talked before about open-sourcing and sharing your investment ideas on Twitter and the types of feedback and unique perspectives and takes that you get from that. You guys also use Twitter, I think amazingly I've really enjoyed following you and seeing the different iterations of how you've shared updates on Twitter, real time thoughts around some of the stocks that you own, and what's happening with them.
Daniel Scrivner (01:14:07):
And I think it's very modern, I haven't seen any other fund managers I think taking the approach that you have. So, I think it'd be interesting to talk a little bit about just how you think about communicating with investors. And I know Twitter's one element of that. I know public.com is another element of that. I think it'd be interesting if you could just touch on all those and how you think about that?
Robert Cantwell (01:14:26):
Yeah, we've learned a lot growing within the Fintwit community, and a lot of it has been observing how other folks that are successful in their investment careers use it. And one of the phrases that a lot of people will mention is that this is an open workbook where we are actively sharing recent thoughts or conclusions, and it's as much for ourselves as it is for anyone else that elects to engage with it. I think that's a great starting point because from there at a minimum, it is providing a utility to you, whether or not people happen to be engaging back. And you definitely find over time that people will engage with things or sort surprise you with things where you didn't necessarily expect them to. So, what I'll say is that the core parts of the routine is during earning season, we are on top of our holdings and we are sharing as quickly as anybody the biggest takeaways from what's happening during earnings calls or from earnings releases.
Robert Cantwell (01:15:29):
We're on a monthly basis posting here's the latest on our portfolio and sometimes if a security has fallen up or down the ranks, that's an opportunity for folks to engage and say, "Well, why is this no longer a priority?" Or "why did this one come up the list" or whatever the case is? And then the third thing is what I would describe is much more moments of inspiration or moments in time where we feel like our research on a particular matter has come to a conclusion, and we would like to stamp it and put it in the files, and that's really when the threads come together. So, we have absolutely no kind of set time of we're going to do this thread about this thing on this date. The inspiration has to hit that the research is good enough or differentiated enough to justify putting a thread together. And it's pretty fascinating to see how much engagement threads really do. It's arguably the highest value thing from what we've seen, from what the community asks for, but it's not something that can be really manufactured on an incredibly frequent basis.
Daniel Scrivner (01:16:36):
Yeah, mot at all. I think the last question I would ask there is just hearing you say that, as an investor, especially someone who loves Twitter, I'm always on Twitter. I think it's an amazing platform. I love following you and getting those updates there. I think a question I'd ask is, did you have to convince your team at all or convince yourself that it was worth the effort of putting these threads together and doing this? And what have you learned or what would you share with other emerging managers about the value of doing that?
Robert Cantwell (01:17:04):
Oh, I'd say the team convinced me. Yeah, Joe gets a lot of credit for helping educate me on the value of that outlet. I'm going to give Kathy credit on this. She says something similar, which is being so open with the decisions that we make and the research that we do forces a level of refinement and we're on our work that doesn't exist if we weren't publishing it so widely. And I believe that a lot of investment managers that are pursuing the pure independent thought path might actually find that their learnings around individual securities or management in general can in fact be accelerated if they were willing to just open the window just a tad. They don't have to blow the whole doors open and share the whole thing or sharing of their secret sauce. But I do believe that even by testing a few of your own personal conclusions for things like that, it forces a faster learning cycle than if you didn't.
Daniel Scrivner (01:18:10):
Yeah, very well said. Well, Robert, I think this is as good a place as any to hit pause. I thank you so much for the time for coming back on. This has been everything I hoped it was going to be, which is just a fascinating conversation and a fascinating I think, update on what you're building with Compound Kings. I hope to do this again in another year, so thank you, thank you, thank you for coming back on.
Robert Cantwell (01:18:31):
Hell yeah. Can't wait to see where these stocks are 12 months from now.
Daniel Scrivner (01:18:35):
And yeah, hopefully the ride is maybe slightly less bumpy from here on out. Although, I don't know if that's going to be the case.
Speaker 1 (01:18:43):
Thank you so much for listening. You can find the show notes and text transcript for this episode at outlieracademy.com/129. That's outlieracademy.com/129. And you can learn more about Compound Kings at kingsetf.com or by following Robert Cantwell at upholds on Twitter. At outlieracademy.com you can find all of our other investor interviews, profiling investment firms, including Driehaus Capital, In Effects, Greycroft, Pantera Capital, Lightspeed Foundation, Capital, Moran Capital Management, and more. In every interview we deconstruct the ideas, frameworks, and strategies they used to generate incredible returns and track records. You can find the videos of all of our interviews on YouTube at youtube.com/outlieracademy. On our channel, you'll find all of our full length interviews as well as our favorite short clips from every episode, including this one. So, make sure to subscribe. We post new videos and clips every single week. And if you haven't already, make sure to follow us on Twitter and LinkedIn at Outlier Academy. Thank you so much for listening. We'll see you right here with a brand new episode next Wednesday.
On Outlier Academy, Daniel Scrivner explores the tactics, routines, and habits of world-class performers working at the edge—in business, investing, entertainment, and more. In each episode, he decodes what they've mastered and what they've learned along the way. Start learning from the world’s best today.
Daniel Scrivner and Mighty Publishing LLC own the copyright in and to all content in and transcripts of the Outlier Academy podcast, with all rights reserved, including Daniel’s right of publicity.