Clay Finck (05:41):

Do companies have to be a certain size for you? It sounds like no. So I’m curious-

Adam Seessel (05:46):

No, no. Obviously, when you write a book, George Orwell said, “All books are failures,” and I know what he means now that I’ve completed one and published one because there’s always things you’d go back and change. If there was one thing I’d go back and change, it’s to say to people, “Look, this is not just about mega caps.” I happen to talk about mega caps a lot like Alphabet and Amazon, but there’s this whole another generation of companies below them that have every bit of economic power that Alphabet and Amazon do but aren’t mega cap. Companies like Adobe in document productivity and Ansys, which I mentioned in computer simulation, and Intuit for small business software. There’s a whole another raft, dozens of companies below the Microsofts and Apples and Amazons that are really interesting because they have the market dominance of these mega caps but aren’t mega cap yet. So that’s a good opportunity.

So no, I do not discriminate on market cap, and you give me a small cap company that dominates its niche and I’m in. I own Nathan’s hotdogs, which has a 300 million market cap, and then I own Alphabet and Amazon. So what’s the commonality? They both are very well-managed, and they both dominate their market.

Clay Finck (07:03):

It’s funny you mentioned Adobe because I actually just released a mini episode talking about them, and I came to the conclusion that in comparing it to something like Alphabet, the moat is very strong, but it might not be quite as strong as what Alphabet has. Since Adobe’s a much smaller company relative to Alphabet, that gives it a lot more potential upside over the long run. It gives me as an individual investor potentially an advantage because I’m ready to weather through whatever market swings come through. Adobe has those temporary headwinds, but eventually over the long run, the superior business, as you say, is going to win out.

Adam Seessel (07:39):

Yeah, I generally like Adobe very much, and its management is also topnotch. I think its moat is as strong as Alphabet’s, personally. I mean, in terms of PDF, I mean, PDF is a noun and a verb, so that’s pretty good, but that’s actually the smaller side of the business. The larger side of the business is this creative cloud where everybody who wants to do graphics and visuals uses Adobe, and it has tremendous network effects because if you and I are collaborating on a project and you’re on Adobe, then I have to use Adobe, and it’s not just me and you usually, it’s 20 people collaborating on a project. So we all have to standardize on one. So it’s a winner take all kind of thing. So I like Adobe very much. I’ve owned it off and on, but I just have to say it is more expensive than Alphabet and Amazon.

Clay Finck (08:33):

Now, chapter 11 of your book is titled Buy What You Know But With A Twist. So I’m curious given what and what your circle of competencies are, what company or what industry are you most bullish on outside of Amazon and Alphabet?

Adam Seessel (08:52):

Right. Well, let me just explain what I meant with buy what you know with a twist. Peter Lynch was famous in the ’80s and ’90s for saying buy what, and that’s still very good advice. As I said earlier, you’ll know Salesforce or you’ll know Adobe if you’re in marketing or if you’re an engineer, you’ll know Ansys or if you’re in construction, you’ll know Autodesk, and you’ll know the competitors and who’s going to dominate and who’s going to be vulnerable.

Now in the tech age, in the digital age, the buy what you know comes with a twist because a lot of people in my generation, I’m in my 50s, the stocks we know the best are old economy stocks whose future is probably behind them. I’m thinking about banks. We know banks really well. Wells Fargo used to be a really reliable compounding machine, but I just can’t see how that’s going to work. If you’re a bank in the early 21st century, when you have all these digital competitors coming at you offering to do things faster, cheaper, and better for their customers, just strikes me that they’re roadkill waiting to happen. So you have to buy what you know, but be careful. There’s a twist.

So I do think that tech, generally, whether it’s mega cap or large cap or midcap or small cap, I do think tech is where the money is. That’s why I called the book that. We’re still fairly early on in this digital revolution where the economy’s going to be run increasingly on software. The economy’s going to be increasingly dominated by zeros and ones. The product that we’re producing is nonphysical. It’s not manufactured. It’s engineered. So tech is my number one sector waiting.

My number two sector waiting, since you asked, is aerospace. I write about this some in the book through this wonderful company called Heico, H-E-I-C-O, which is capitalism at its best, where 30 or 40 years ago, a guy who came out the Graham and Dodd’s School of Investing found this little company that happen to make generic aerospace parts. He and his two young sons bought it. 30 years later, it’s now a 20 billion dollar market cap precisely because they made generic aerospace parts safer.

I love aerospace as an industry structurally because, first of all, there’s a lot of growth in aerospace. I think 75% of the world’s population has yet to set foot on an airplane. So it’s really a call on rising standards of living because there’s people in Latin America and Africa and especially Asia get more disposable income. They want to fly. They want to see America. They want to see Europe. They want to see Australia, wherever.

Now, the airlines are a terrible way to play that because it’s a commodity business, boom and bust. They’ve gotten bankrupt. Many times Buffett says, “If you add up all the profits since Orville Wright started the airplane, there’d probably be a negative sign next to it.” So they’re bad businesses, but the companies that make the parts are very good businesses because it takes a lot of engineering. In some ways, it’s very technical, tech-oriented, but on the other hand, once you’re specking an airplane with a certain part, whether it’s on the fuselage or the engine or the cabin, the airlines, it’s very hard for the airlines to swap that part out. So you’re specked in. There’s two million parts on an airplane. So it’s really hard to mix and match. So if you’re specked in on a component part on that airplane, you’ve got a generation of growth, and that’s why I like aerospace.

Of course, capitalism being capitalism what happened was companies that were specked in like GE and Honeywell and General Dynamics, they would take advantage of this position and they would raise prices because they knew when these parts were out, the airlines had no choice but to come back to GE who had manufactured the original part. They couldn’t go, Southwest Airlines, the American Airlines, couldn’t go and say to company XYZ and say, “Hey, make this part for me.”

It’s like, “Well, no way. It’s really hard, and I don’t know.”

Then even if they could get that, the FAA would say, “Well, hold on a second. Is this part safe?”

So what Heico did over 30 years is made generic parts safe. So they sell at a 30, 40 percent discount to GE and Honeywell and the other folks who have been abusing their monopoly positions. Yet they still are in good returns on capital high cut. So look up that stock chart and you’ll see how capitalism works.

Then there are other aerospace companies I own, actually, Woodward, which makes parts for the engine as a generation of growth in the next generation of jets. Airbus, actually, a European company, has really been kicking Boeing’s butt. So there’s a lot to like in aerospace, and that’s my second biggest holding in terms of sector.

Clay Finck (13:27):

I also wanted to ask you about one of the top headlines for 2022, which I’m sure you’ve been asked about quite a bit is inflation. Many stock investors will tell you that the best inflation hedge is to own productive businesses with pricing power and hold those businesses over very long periods of time. However, even Warren Buffett has started heavily allocating to oil companies as he seems to be very bullish on oil and probably wants some inflation protection by buying those productive businesses, but in the commodity sector. What are your thoughts on hedging inflation for the years to come?

Adam Seessel (14:08):

It’s an excellent question. I’ve given it quite a bit of thought. You’re right. Even if I weren’t asked about it, as a money manager, professional money manager, I have to think about it. I don’t think Buffett, first of all, is buying oil stocks as a hedge against inflation. I don’t think he’s doing it for that reason. He likes buying businesses that have had long cycles of underinvestment, and then suddenly, because in a commodity business like oil there’s supply and then there’s demand, and what he’s noticed is over the last five or 10 years, the supply is going down in large part, not in large part, but driven in part by these ESG folks who say, “You can’t,” if you’re BlackRock, “invest in fossil fuels,” and the BlackRocks of the world are telling ExxonMobil, “Divest from your fossil fuel.”

So there’s a lot less capital going into finding oil and gas. Yet every year, we demand more of it. Alternatives are probably in our best interest, but it’s going to take a long time for alternatives to displace oil and gas. So I think Buffett sees the supply going like this and the demand going like this and the stocks are cheap. So he sees an arbitrage, so to speak, of a few years where oil prices will remain high because supply is going to be constrained and demand will remain high. I mean, he did this with silver, for example. He studied silver for 25 years and he watched as the inventories declined every year, and until they hit the demand point of for silver, then he bought. His bet on railroads was … There used to be 80 railroads, now there are eight. So he loves industries where the supply is contracting and the demand is steady. So I think that’s why you bought oil. I don’t think it’s an inflation hedge.

Now, in terms of inflation itself, Clay, I mean, I tend to be pretty constructive on inflation in the sense that I was a young kid in the ’70s when we had this stagflation that people were talking about and OPEC and sustainable high oil prices and so forth. Paul Volcker had to raise rates up to 20% and so forth. I just don’t think we’re in that period. People are freaking out because the 10-year yield is 3%, and it’s back where it was in what? ’18? Something like that.

Then you just think common sensically through like, “Why do we have inflation? Is it a structural kind of thing where all of a sudden there’s not enough cotton, and not enough steel, and not enough food, and not enough everything that feeds inflation or is it a short-term thing caused by the fact that during COVID we all got a ton of stimulus, but we had more supply of money, more demand, and then we had these supply chain disruptions? So demand up, supply down. Oh, inflation.”

The cure for high prices is high prices. So you can already see signs of inflation rolling off because people are buying less. The fed is intent on crushing inflation. So they’re going to choke off credit so people buy less. So I’m fairly constructive about inflation, but even if it is structural, which I doubt, I went back and looked and read Buffett’s writings in the early ’80s when inflation was peaking, and he said pretty much just what you said. He said, “The best assets to buy are productive assets with pricing power,” except you left out one important thing, asset light. So they don’t have to reinvest because you have to reinvest in a steel plant, and this year, it’s 100 million to bill and next year’s 120 and next year’s 150. That’s a problem because it eats up your capital, inflation.

So productive assets that can grow through pricing power and don’t have to reinvest in a lot. Well, guess what industry that is? Tech, this tech. So I feel very comfortable even if inflation is structural because half my portfolio is tech.

Clay Finck (17:55):

Well, let’s transition to talk about some individual tech companies. The first one being Airbnb. I believe there’s a lot to like about this company. They’re founder-led. They started from nothing in 2008, and in 2022 have a 71 billion market cap producing seven billion in annual revenue over the previous 12 months. I was looking at their recent quarterly report, and I was just seeing some astounding results, 103 million nights and experiences booked during the quarter. That’s up 25% year over year. The gross booking value was 17 billion, up 27% year over year. During the quarter, they had 2.1 billion in revenues, which was up 58% year over year.

I thought it was funny in the letter to shareholders they also put, “We’re so confident in our long-term growth and profitability that today we’re announcing a two billion dollar share repurchase program,” which I found to be interesting from a hyper growth type company. I’m curious if you could just touch on Airbnb and maybe talk about maybe some parts where Airbnb doesn’t make the cut in your BMP checklist.

Adam Seessel (19:05):

Yeah. Airbnb is interesting. Clay. I’ve been studying it some this summer. I mean, it’s a noun and a verb, right? So that’s a good place to start in terms of the B, right? It’s branded. It is the category in some ways. As you remember from the book, I say in the book you want a business with a small share of a large market and a sustainable edge. So you need three things. So they definitely have a small share of the overnight stay market. I can’t remember what it is, but it’s 5% or something like that, and it’s a huge market. The founder, Brian Chesky, who you referenced, he likes to say, “We’re dealing in a market the size of oil, as big as the oil market, overnight lodging.” So they do have a small share of a large market. So check, check on those two subcategories of the business analysis.

I’m not so sure they have the really most important, which is the edge. Do they have a sustainable edge like Intuit has in small business software? Do they have an edge like Adobe has in document productivity? Not so sure, and I’ll tell you why. They have four million hosts and six million listings, so one and a half listing per host. So it’s really mom and pops, but the great thing about capitalism, as I say in the book, is if you identify a market, which Airbnb did, it invented the category, you’re going to get competitors flies to you know what. So it has happened.

Vrbo is not really a competitor because they’re a niche competitor. They do single family homes in vacation spots, but Booking.com, which is a European company, which really made their marbles by stitching together a network of hotels in Europe. European hotels are much more bespoke than in US. US, we have chains. European hotels are little hotels in different cities. Booking.com, it became the front-facing portal for all those little mini hotels like Airbnb but for hotels. Booking.com has taken a real run at this business, and they have a potential edge in the sense that if they do it right, they can put their hotel inventory next to what they call their alternative accommodations inventory, their homestay inventory.

So they now have two million hosts, but six and a half million listings. So Airbnb has more hosts, but Booking.com has more listings, which will tell you that Booking.com is going after more of the corporate side of the business, and by corporate, I don’t mean traveling for work. I mean, see, it was so fascinating about capitalism. Airbnb creates a category. Mom and pop want to make a little extra money renting out their place. They do it. It’s a huge hit. Governments get upset. They get involved. I think we’re largely through that, but what’s more important, more serious is competitors come, and the industry changes.

So people who own apartment buildings are all of a sudden going, “Hey, why do I have to rent my apartments out for 30 days or a year lease? Why don’t I just put them on Booking.com or Airbnb and rent them out per night? I’ll sell it retail instead of wholesale.” So that’s how the business is becoming more corporate. It’s not just mom and pops now that are getting into this business. It’s professional apartment guys that want to put their inventory online, and they’re mainly choosing Booking.com, which you can see because six and a half million listings, two million hosts, that’s three plus per host.

I talked to Airbnb about this and they’re determined to stick with the mom and pop model, I which I find interesting. They say in their prospectus, “75% of our bookings were through individuals,” and that was three years ago, their IPO prospectus. I asked them now and they’re like, “Yeah, that hasn’t significantly changed.”

I’m like, “Well, don’t you want to take advantage of the corporate growth?”

They’re like, “Yeah, well, yeah, sure, we’ll take it, but we really believe this business is a mom and pop business.”

So I mean, I admire their honesty and I admire their determination, but I’m not so sure this is just a mom and pop business. I mean, how many big businesses do you know that were built on a cottage industry like renting out your apartment and your second home? It just feels like the business is going to evolve beyond just mom and pops. So I’m a little nervous about that. Booking.com I’m doing research on because they could make a run at Airbnb’s market.

Clay Finck (23:27):

You talk in the book about looking at your own experience. So when I look at my own experience, me and my friends when we go to travel, we stay call it five, seven days at a place. We’re going to Airbnb. So is Booking.com more focused in the European markets for now and expanding for there?

Adam Seessel (23:47):

Yeah. They’re stronger in the European market and they have not done as good a job as they could by their own admission in the American market. So it could be where businesses evolve over all weird unanticipated ways. It could be that Booking.com dominates Europe and Airbnb dominates the US, capitalism has a funny way of finding you. So I wouldn’t be surprised if you and your friends start getting pinged by Booking.com like, “Hey, check out our inventory and see if you want to stay at it. You’re going to Provo, Utah. See if you can want do a hotel because we can offer you that or do you want to do an alternative? We can do that.” We’ll see what happens, but when it’s not clear, I just pass. I’m happy to watch and observe and keep an open mind.

I admire Chesky because he’s not a techy, the CEO. Do you know what his background is? Went to the Rhode Island School of Design. He’s a product designer. So in that sense, he’s much more like Steve Jobs. You can feel that when you go to the app because it’s super easy to use, and the branding he’s done with it, and so forth, it’s really impressive, but remember, this is also the guy, who pre-pandemic, he was going to get into magazines and airlines and cruise ships. I mean, he was pretty wacky.

Now, he said he’s learned through the pandemic to just to focus on one thing, which is good, but not too long ago, he was talking about using all that free cash not for stock repurchase, but crazy deworsifying moves into patently bad businesses like airlines and magazines, but I’m not convinced the B is right, the business. I’m not convinced the M is right. The price is actually fairly cheap. I mean, it’s actually, if you believe it has legs. I’m just not convinced it does.

Clay Finck (25:31):

Yeah. The high level I was seeing, about a multiple price of free cash flow, a multiple of about 25 and 71 billion dollar market cap and 2.9 billion in free cash flow. A couple other interesting statistics I found was 24% of Airbnb users rented a place for 28 days or more, which falls in line with that trend to work from home. Maybe some millennials, people my age are going out and staying in a new state every single month. Another interesting stat I saw was the insider ownership is about 33% of the stock is owned by insiders, and that’s over 20 billion dollars worth of stock, which is incredibly impressive. So if someone does decide that they do have the moat and it checks off for someone else personally on the management, talk more about the price for Airbnb.

Adam Seessel (26:26):

Look, in some ways, it’s a good decision, in my opinion, what investors are faced with Airbnb because it’s a binary decision. Either you believe that, as you say, millennials are going to continue to be digital nomads, be loyal to the Airbnb brand, and not have any competition from Booking.com or anybody else, then Airbnb is a big winner, big time winner. I think the revenues this year are going to be eight billion dollars. So it’s not so hard to see them in the near future having a 10 billion dollar revenue company and then software companies, as I describe at length in the book, I mean, one of the reasons that tech is where the money is is because the margins are so enormous because Airbnb, they don’t have to keep up with the real estate. They don’t have to pay taxes on the real estate. They don’t have to cut the grass. They just have a freaking software app that connects one group to another group. No cost of goods, no cost of goods.

They don’t have to spend some money making sure that the customers are happy, that the hosts are happy, that the guests are happy. That customer service element does cut into margins, but I think you can probably make a reasonable case that their net margin on an earnings power basis is 20%, but if you do 10 billion dollar revenue company at a 20% net margin, that’s two billion dollars of net income, and on a 70 billion dollar market cap, that’s 35 times.

That’s a little high, but if you really believe that this thing has legs, then it’s not going to stop at 10 billion dollars. 15 billion dollars at a 30% net margin is four and a half billion dollars of net income. So play with the numbers like that is what I would recommend. I think if the bold thesis is correct, the stock is cheap. That’s what I think. I’m just not convinced it’s correct.

Clay Finck (28:21):

Another company that I wanted to discuss today was in the sports betting industry, DraftKings, not a name I was originally too familiar with, but from a high level, I see an extremely volatile stock rapidly growing revenues in a company that is deeply free cash flow negative. Seeing that they’re unprofitable in a growth company, I wasn’t surprised to see Cathie Wood on the list of people who own this company. Does the fact that it’s free cash flow negative automatically push it out of your checklist and off of a stock that’s worth looking into or is there something underneath the surface that needs to be uncovered?

Adam Seessel (29:02):

Well, free cash flow being negative does not automatically cross it off. Amazon has been free cash flow or at least net income negative for two-thirds of its corporate history, but they did that on purpose. They could make money. They just decided not to make money so they could reinvest and make more money down the road. I don’t think DraftKings is in that position, and I’m not a fan of DraftKings, nor am I a particular fan of Cathie Wood because I’m all about, Clay, the middle way like on this hand, you have stodgy, old value investors who say, “Tech is too expensive and I don’t understand it,” well, and that’s a very dangerous attitude because tech is the future.

Tech is just going to become more and more a bigger part of our lives and a bigger part of our economy. So to ignore it and stick your head in the sand willfully and not understand it instead of taking the time to understand it is almost cutting off your nose to spite your face. So I don’t have a lot of time for those stodgy people. I’m a former value investor who educated myself about tech, and I’m continuing to educate myself about tech because there’s always something to learn.

On the other hand, you have these crazy pie in the sky people who say, “Every tech company is awesome,” and it’s fairly undiscriminating about tech. So Coinbase, Carvana, all these crappy companies that were sold into the mania, they deserve to be taken out and beaten. So I’m trying to synthesize old school financial principles return on capital, dominating your market, moats, free cash flow with these new economy principles like the world has changed. The world is asset light.

So there are times when foregoing free cash flow now to build out your moat is good, but DraftKings is not one of them, and I know this because I’ve studied the business quite closely, and I own one of the sports betting companies, but it’s UK-based and it’s really not very well-known, and your listeners might want to look into it. It’s called Flutter. You ever heard of it?

Clay Finck (31:08):

Have not.

Adam Seessel (31:09):

It’s a terrible name. It doesn’t translate well in the US. A flutter, apparently in the UK, is a little bet. You make a little bet. It’s called a Flutter, horrible name, but anyway, these guys have been doing online sports betting for a generation in the UK and Ireland and Australia where it’s been legal for a generation. So they know their way around how to bet on this. They started with betting parlors like walking in into retail betting parlors, and then they transitioned into this a generation ago. So they understand this.

So shortly after the Supreme Court allowed states to legalize sports betting, which was in 2018, Flutter, within six weeks, bought FanDuel. So FanDuel, you obviously have heard of, It’s owned by Flutter. So what’s interesting is, and you know this, I nerd out about this stuff, every business is a battlefield with the competitive dynamic, right? So we’ve talked about Airbnb and home stay. We’ve talked about document productivity with Adobe. Now, let’s talk about sports betting.

So the reason FanDuel and DraftKings have dominant shares of the sports betting market is because they were the dominant fantasy sports playing companies. So before sports betting was legal, these guys both had great DFS, daily fantasy sports betting companies, where people would come and play rotisserie baseball and football and basketball. So both had millions of customers who they could convert like that with zero acquisition costs into sports betting customers.

So that immediately gave them a huge head start over companies like Caesars, MGM, Bally’s, all the legacy casino companies. They have to acquire customer two or 300 dollars per pop. If you want to get a million customers, that’s a lot of money. That’s a lot of sunk cost, but DraftKings and FanDuel could acquire these customers at next to nothing because they were already daily fantasy sports customers.

So it’s no surprise that FanDuel is number one market share and DraftKings is number two, but here’s the question. Why is FanDuel number one in market share? The answer is quite interesting and took me some time to figure it out. It’s because Flutter, who’s been doing online sports betting for a generation, knows how to do it better than DraftKings. So Flutter bought FanDuel several months after the Supreme Court legalized sports betting, and they immediately started putting in their algorithms into … It was different sports right over there. It’s soccer and cricket and rugby and horse racing and stuff. Here, it’s American football and baseball and hockey, basketball, but the concepts are the same. You want to engage the customer. You want to give them interesting bets.

I’m not a big sports betting. So I was surprised to find that it’s not really a commodity. It’s not like I’m going to go and bet $5 on the Yankees to beat the Mets. Most of the betting is this exotic parlays, these same game where you have 10 bets and they’re all contingent on one another, and Aaron Judge has to hit a home run and score less than three runs. Betters, for reasons I don’t understand except for the fact that betting is addictive, which is the dark side of it, but these are bad bets. The probability you win over 10 bets is very low. So they have the highest margins, these bets, the highest win rate for the house, but it’s what customers love.

So FanDuel has much better betting same game parlays than DraftKings because DraftKings was started as an American company. They didn’t know what they were doing. They were just daily fantasy sports site. They’ve had to stand up their business from nothing. They’ve had to learn what FanDuel’s parent has learned over 25 years. Huge competitive edge, FanDuel. So it’s no surprise that FanDuel this quarter has a 51% market share and their engagement, their user time spent on their site during the last NFL season was twice that of DraftKings precisely because FanDuel has better products, more enticing products.

So whether it’s basketball, football, baseball, people like FanDuel better because they offer more engaging products than DraftKings, which is really learning on the fly how to invent sports betting. So I really like FanDuel. It has multiple competitive advantages, multiple moats, and the stock is cheap. So I don’t like DraftKings, but I do like the FanDuel parent Flutter.

Clay Finck (35:28):

That’s interesting. Flutter MCN, just on the revenue line, two billion in 2019, 4.4 billion in 2020, and six billion in 2021. It’s larger. It seems to be growing much faster than DraftKings. When was it that they purchased FanDuel?

Adam Seessel (35:45):

Literally, I think it was six weeks after the Supreme Court decision. I mean, these guys know what they’re doing. They’re old school betting pros from the UK. So they have grown share at the expense of DraftKings and smaller people. Unlike a lot of these guys, problem with the sports betting market right now is everyone’s chasing customers. It’s like the land grab. It’s like Amazon was in the dot com bust. Everybody’s fallen over themselves to get into eCommerce. That’s the way it is now with the sports betting, but FanDuel and their parent Flutter has been much more patient than say Caesars, which I think is spending a billion and a half dollars, billion and a half with a B just to acquire customers, but FanDuel is being much more disciplined, letting other people lose money.

They’re going to turn a profit in their US business in 2023. Don’t confuse a growth industry with a profitable industry. That’s one of Buffett’s many important maxims, and it’s really true in tech. In the book, I talk about GoPro, selfie sticks, where growth industry, but everyone could copy GoPro. So the stock chart went like this. FanDuel, because they have better product and they have better market share, they can take that cash flow from their leading market share and invest it in better product and their flywheel gets going. Then now they have an edge. So they not only have great top line growth, but they have a way to protect that growth through better product, better customer retention, better customer engagement.

Clay Finck (37:14):

I almost wonder if DraftKings has solved the equation of sports betting given their revenue growth. I’ve heard the CEO claim that once they enter a new state that there’s a two to three-year payback period until it becomes profitable and then they just reinvest it back into growth, growth, growth. So given that it’s just simply an app, is there a moat essentially is my question?

Adam Seessel (37:39):

The moat for FanDuel … DraftKings does not have a moat. DraftKings is losing market share. Their product isn’t as good. They’re having to acquire customers at an expensive rate. I’ve heard that rhetoric that you mentioned. I think a lot of it is fugazi. I think a lot of it is questionable, whereas FanDuel has proven that they can make money in the UK and Ireland and Australia on sports betting. They have leading market positions in every new region that they really concentrate on, and their moat is twofold. One, they have better product. There’s a reason that fans spend twice as much time on FanDuel during the NFL season than they do on DraftKings, twice as much, not 20%, 30%, 100% more time. That’s not a coincidence. So their content is better, number one.

Number two, because they’re the biggest and the most experienced, they have the deepest betting pools. They have more people betting. It’s like a market, right? They’re like a market maker and they can see who’s betting betting what. So they have the best odds. They actually can lay better odds than their competitors because they see who’s betting what. So their odds in general are five or six percent better than the markets. So if the market is offering two to one for a bet, these guys can offer 2.05 to one. They can offer better odds to me and still make as much money because they have the deepest pool of knowledge. So they’re the lowest cost operator, as well as the best content. So they have at least two competitive advantages. So I really think that FanDuel has a moat.

Clay Finck (39:09):

Let’s transition to talk about one more trend that it’s an area or an industry that definitely seems ripe for disruption, and that’s the real estate sector. The three tech players I see in this sector is Redfin, Zillow, and Opendoor. They seem to be the big players, at least, in the public markets that I’m aware of at least to potentially transform this industry. Just feels like a dinosaur industry, which is why I wanted to get your opinion on this industry as well, but I guess my first question would be with all the red tape around real estate, is it even possible to disrupt this industry?

Adam Seessel (39:49):

I think it is possible, Clay. I don’t think it’s a question of red tape. I don’t think that’s what’s the problem is why there hasn’t been disruption. I think if you look at financial services, you would say red tape and regulation. It’s very hard to get a banking license and comply with all the rules, state and federal guidelines for banking, but real estate, the barriers to entry are quite low. It’s your mom and all our friends or your dad and all his friends can become real estate brokers like that. The barriers to entry are quite low.

So I have studied this industry because I had the same instinct as you did. It’s a huge industry. It’s bigger than oil. It’s bigger than oil. It’s the biggest industry in America. I can’t remember the numbers, but if you add up the mortgage and the title and all this, it’s huge. So the opportunity is enormous, but I’m not surprised there have been many tech players trying to crash the gates.

The other company that I’m aware of that’s trying to disrupt it is called Compass, which is very popular in New York and Florida. You wouldn’t necessarily hear about it in Nebraska, but it plays in these high end markets, and they have this shtick with, “We’re using the traditional brokerage model, but we have the best tech.” You can look up that stock. It’s flat on its butt like all the other Redfin and Zillow and so forth.

So I’ve thought quite a bit about why these companies haven’t been able to disrupt the traditional model because to savvy financial folks like you and me, why in the world would we pay 6% or, if they’re feeling generous, 5% to a broker to do something that’s not that fricking hard? Stock commissions are zero. What about real estate commissions, dude?

I think the answer, and it does pay to think this in general, in investing it’s not very complicated, it’s because in insurance they talk about low frequency events and high severity and high frequency events and low severity. So stock trading, you do a lot, preferably not that much, but most people do it at least once a week. It’s high frequency, but it’s low severity. Not one stock trade is going to make or break you, right? So you’re constantly doing it.

So that’s ripe for disruption because it’s on my mind what price I’m paying every week, right? It’s not a big deal whether I screw up a trade or not. I’m much more price sensitive. A house is most people’s single biggest investment and they don’t buy them that often, right? They buy them, what? I think the average American moves every seven years, and often you’re not moving to buy a new house. You’re renting or whatever.

So it’s low frequency, but high severity. You don’t do it very much, but if you get it wrong, you’ve screwed up your biggest investment. Most people aren’t sophisticated like you and me and your listeners. They really don’t know what the heck’s going on out there. They don’t know how to get a mortgage and how to deal with the title company and how to negotiate with the seller. So they need someone to hold their hand through this biggest transaction of their lives.

I think it really is that simple. I really think it’s … because otherwise, everybody would be flocking to Redfin, which charges what? One, one and a half percent? Why hasn’t that caught fire? I think it’s because in places like where you live in Nebraska and Indiana and Colorado and Washington State and Alabama and Kentucky, people are nervous about this transaction and they know so and so who’s been a broker for so and so and so many years and they talk a good game and they brag about how much real estate they’ve sold and they trust them.

So it’s one of the few examples where these frictional costs, where according to classic economics theory 6% should go to four, three, two, just like it has in stock trading, but I think because it’s this low frequency, high severity deal, I think that’s why it’s resisted disruption.

Clay Finck (43:42):

Yeah. That is an interesting take. Given all the research you’ve done in real estate, are there any companies you own maybe outside the ones I’ve listed?

Adam Seessel (43:51):

I don’t own any of those. No. I mean, I can’t find a way to crack it. Zillow showed their hand by trying to buy real estate. They basically said, “This is too hard a business. We got to do something else. We need an act two. So we’re going to go from being an asset light app to buying homes and flipping them.” How stupid was that? It was also a sign of desperation like Facebook. Social media might not have legs. Let’s bet on the metaverse. Zillow was like that. So it shows you that these businesses are just, I mean, sometimes you just got to throw up your hands and go, “I don’t know what’s going on, but it’s not working.” I think I know the answer. I just explained it, but who knows?

Clay Finck (44:34):

That reminds me, actually, Berkshire Hathaway is in the real estate business. What role do they play in what they’re doing?

Adam Seessel (44:43):

Oh, I’ve studied their business. They’re total classic old school real estate. So now, you drive around and you’ll see Berkshire Hathaway is the realtor and it’s a franchise, so you can rent that name and pay Berkshire royalty, but then they also own some real estate agencies. There’s one in Philadelphia area that I’m familiar with. They’re super smart about it as you can imagine because the commission is just one piece of the real estate transaction. There’s a lot more money to be made in doing the mortgage, doing the title, doing the servicing. There are all these other little pieces where you can get a nibble, a bite.

Clay Finck (45:18):

Yup. There’s $100 here, $200 there. It all adds up.

Adam Seessel (45:22):

Yeah. So some of the wholly owned brokerages that Berkshire owns are deep into that. I can’t remember the numbers because it’s been a while since I looked at it, and they call it attachment rates. The broker does the house and they get half of the commission. If there’s another broker on the other side, they get 3% commission, which is great, but then to place the mortgage with a bank, to be the agent that placed the mortgage, the average attachment rate used to be, I think, 15%. One out of seven times the broker would be able to get extra money for placing the mortgage. It’s some of these Berkshire things. It’s two or three times that. Title, getting the title insurance, their attachment rates are super high because they’re working their way up the chain. So no, he has been very smart about that.

Buffett, his genius is he looks for industries that don’t change. That’s his genius, and that’s why he hasn’t been so wild about tech because tech changes so fast. So real estate, you bet correctly, and by the way, it was a tiny bet. I mean, it’s a tiny little part of his empire so it wasn’t a huge bet, but he’s bet correctly that people want their handheld on real estate, and then we can go and get these attachments, these other services as part of the real estate transaction.

So I mean, Apple, in many ways, is just a consumer products company, right? It’s just something that runs your life. I think I read recently that the studies show that you touch your iPhone 150 times a day. That’s not going anywhere. So that’s, in some ways, not tech anymore. I would argue that Alphabet is the same way, and I would argue that Amazon is the same way. They’re non-tech tech. Even Adobe is not that. Intuit is not that. These are consumer products that are sold on features and benefits. Like Gillette and Coca-Cola of the late 20th century, people are locked in on them. That’s why tech is so interesting.

Clay Finck (47:14):

Well, Adam, I know you’re very busy, relaxing on the beach. So I don’t want to take too much of your time here. Before we close it out, I just want to give you the chance to give a hand off to your company, your book. Anything else you’d like to share before we close it out?

Adam Seessel (47:30):

Sure. Well, thanks, Clay. It’s been great visiting with you. Your questions are always thought-provoking, and every good money manager should have people questioning them constantly because it sharpens our thinking. Yeah. Look, if people are interested in the intersection of value investing and tech, they should definitely get the book, Where The Money Is, Amazon.com or if you don’t want to give money to Darth Vader, you can go to your independent bookstore and get it, and feel free to hit me up on LinkedIn. I’m there on LinkedIn if people want to talk. I’ve had some nice exchanges with folks and good questions. In terms of my money management business, I run separate accounts. I have very high, a minimum of five million bucks, but you got that much to invest and you want a good long term money manager to compound your capital, you can find me on the internet.

Clay Finck (48:18):

Awesome. Well, I have my copy here and I can nudge that it’s a fantastic book. I had the digital version, but I had to get a physical copy so I could take it with me wherever or read it the next time I’m on the beach. So thank you so much again, Adam.

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Outro (49:09):

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