00:30:21 · Mikk, Dean Pernas
[00:30:21] S0: Could you elaborate, please? [00:30:23] S2: Yeah. Essentially, it's trajectory... We care more about the trajectory of a company. So a company that's a company that's there's three three different buckets. A company going from bad to okay, okay to good, good to great, or great to just generational. That's what we care about more than more than the initial state of the company. So a company going from great to okay, it's a reflection of bad strategic mistakes they've made. And that's... That that inertia is kind of hard to... It's hard to overcome. And it's it's much more difficult to invest in a company where the trajectory is going down because you don't really know when that's gonna inflect up. So, essentially, that could be a company that's losing share, a company that... One example was Burberry. So Burberry from 2010 to 2020 just crushed it on all financial metrics. But the reason was because they're diluting the brand. They were essentially, going through outlets as opposed to going direct to consumer and taking advantage of Chinese tourists that that love the brand. And so then you had pictures of of women dressed head to toe in Burberry, and so it just killed the exclusivity of the brand. And so they spent the last five years trying to overcome that. And so it's... Even though financials are great, revenue is growing, margins were growing, the trajectory was going down. The motor was was, was deteriorating.
00:31:44 · Deiya Pernas, Mikk
[00:31:44] S1: Yep. It's about... So so our only guarantee is, is public market investors. It's different for private market investors. But at the end of the day, we're going to make returns. We're gonna get paid if and when, if we're correct about the future company is gonna look like. We're only gonna get paid when the general participants start to see the company the same way we do. And the forcing function for that is improving fundamentals, is kind of value creating revenue growth. The company's scaling well and is dropping in the bottom line. They may be a two going to a three and then maybe someday going to a four. But eventually, maybe the market doesn't see it now when there... It's a two going to 2.5 or, you know, 2.5 going to, you know, three. But if the company continues along that path, you are guaranteed to make excess returns if the market sees things the way that you do. And the fundamentals, the improving fundamentals are a forcing function of that. [00:32:46] S0: Would you rather own a 10 out of 10 business becoming becoming a nine or five out of 10 business becoming a seven?
00:32:46 · Mikk, Deiya Pernas
[00:32:46] S0: Would you rather own a 10 out of 10 business becoming becoming a nine or five out of 10 business becoming a seven? [00:32:56] S1: So we would never own a business where new trajectory is going down, mainly because the mechanism I described to you is going in the other direction. And for us, you're only going to get paid when things get better and the market see things the same way you do. And you got absolutely big money, maybe it goes from 10 or nine and they get inspired. I don't know. But for us, it's a much more reliable way to make extra strides if you're betting on the improving trajectory of businesses. And clearly, the caveat is, yeah, this has to be a variant perception at the time that you're making the investment. [00:33:32] S0: Maybe it will have a too loaded answer, but, what causes investors to miss inflection points? Maybe this is the secret sauce, but maybe maybe there is something you can share.
00:33:43 · Dean Pernas
[00:33:43] S2: Sure. It's it's same thing as what causes CEOs to miss inflections. It's it's very difficult. Some inflections can be very obvious, like the Internet or AI, but some inflections could just be due to just a a confluence of factors that's very hard to kinda get get a get a grasp on. Kind of what Andy Grove alluded to in Only the Paranoid Survive. One example was Endor, for instance. We can we can also jump into that one, right now with with Endor. So Endor was a company that essentially created the sim racing industry. It was led by founder and CEO, Thomas Jackermeier, created in 1997. And they spearheaded this industry, and and, they absolutely crushed it for twenty years. And then COVID came, and demand just went up six, seven x. So sim racing equipment's essentially high fidelity racing equipment that people have indoors. And because of COVID, demand demand inflected. However, they were much the victim of their own success, kinda like kinda like Peloton. Essentially, it went from being just a niche, Cimaras equipment to now having to service way more customers, and their operations couldn't... Couldn't handle that. And the CEO just had a a different lens on. He wasn't he wasn't an operator that could handle that much to me. He was more of a marketer and engineer for very high fidelity equipment. And just... It was... You could see it on the customer service boards. You could see it on red... Reddit forms. People were just extremely upset that there were delays of several months for for their equipment. And when they finally got it, it was it was mixed. And there's just a lot of negative goodwill being being being... Or negative goodwill increasing. And anytime there were investors asking these questions on earnings calls, he essentially just... It was like an ostrich in the sand type of approach. He kinda kept pushing back. Like, no. It's not really that big of a deal. Customers are still gonna want Fanatec. We created this we created this brand. And he... Yeah. It was just very, very almost dictatorial with it. And the second thing that occurred was Chinese competitors came into the mix. So before, it was like, hey. This is a real high fidelity engineering equipment. Chinese competitors can't enter. Like, this takes years to to master and to create.
00:35:52 · Dean Pernas, Mikk
All of a sudden, Moza, a Chinese competitor called Moza, started making very high fidelity equipment. And, essentially, they just started... Customers started going to them. They were getting locked in their ecosystems. And, yeah, it was... It went from... Like, for instance, Fanatec, it went from them not having enough chips to them having, warehouse issues to ERP implementation. Like, everything was just everything was just screwed up. And he hired a CEO, got rid of him, hired another CEO. So it seems like he was just a very... He just wasn't adaptable to the times. You need someone... You need a CEO that's that's extremely adaptable, knows when to have a different lens with the company due to the problems it's facing than than before and, yeah, willing to just... To to to change. And so having that having that kind of... Having that mindset ultimately led to the company going bankrupt when it essentially created the industry and had the most beneficial environment that it could ever have. [00:36:48] S0: Talking about the management team, CEOs, what comes to mind when I say the word incentives?
00:36:48 · Mikk, Deiya Pernas
[00:36:48] S0: Talking about the management team, CEOs, what comes to mind when I say the word incentives? [00:36:56] S1: Yeah. I think that what comes to mind immediately is how are they incentivized both on short term incentives and long term incentives. Usually, what's standard for mature companies is some sort of EBITDA or you know, maybe mix of EBITDA, revenue growth or something like that in the short term, you know, just like to pay little cash bugs at the end of the year, then you have long term incentives, which are usually tied to maybe stock price, appreciate... Total shareholder return or something something in that nature. What we like what we like to see is something we rarely see when you have a combination of different metrics on the short term side of things. And we do like to see total shareholder return as a long term kind of metrics for their long term, you know, equity plans, you know, for their for their grants, you know, for for... From when it gets granted to when it gets, you know, our investment and so on. So, yeah, for us, when we think incentives, we think how the management team is... What their incentive structure is like for short term for the short term and long term. [00:38:05] S0: And which structure structure scares you when you see that?