Prof G Markets
00:10:26 · Paul Kedrosky
[00:10:26] S4: I think that's exactly right. And this is a deep structural problem that I think Moody's pointed to a few weeks ago in terms of the way that all of these commute... Compute commitments trickle back to and are consolidated in the financial statements because they're... Well, they're non cash obviously now because they're future commitments, but they don't even show up necessarily in the form of orthodox debt because you're... These are future commitments that are aren't actually debt instruments. They're more like a lease that's being discounted back to the... Their present value today. And I... They're all obviously highly consequential, and investors would need to think about it as you consider what the actual cash flow nature of the business looks like going forward. Because in particular, it's not just the size of the commitments, they're all noncancelable. Right? This is really important. This is not something where I say, you know what? It's not working out the way we wanted. We don't... We're not gonna have that commitment. No. These are all non cancelable capital commitments, with the only exception being that there's a growing capital commitment in terms of doing compute at SpaceX, which I think works out to about $3,000,000,000 a year. So much smaller in the great scheme of things than these other non cancelable commute commitments. And that I think is cancelable on a ninety day basis, ninety day notice, which speaks more to what SpaceX is trying to do I think than anything else. That they're desperate to have this cash flow coming back in because they in turn consolidate it as growing AI revenues when it's really not, obviously. This is just compute you're to someone else on a rental basis. So it's it's important, I think, to remember that the preponderance of the commitments are in future, they're massive, and they're all non cancelable.
00:11:56 · Ed Elson, Paul Kedrosky
[00:11:56] S3: Even if you were to get rid of SpaceX, you're close to $700,000,000,000 compute spending. [00:12:03] S4: That's exactly right. It's immaterial in terms of the great scheme of things, and I think that's by far the most important factor here that they're looking at. And in turn, those compute commitments are even more important because in a sense, you're working through distributors. And they say this in the in the s one itself. And so they're distributing their large language models through competitors. Right? Microsoft is one of the prime examples, Google and so Amazon. And this is a really unusual relationship because you're distributing through companies who also sell on your behalf but also take a rake off the top as they do it. So my analogy is this is a little like as if Spotify, which take... Has a rake from the music companies are about 30% of their revenues. But instead of it being 30% of revenues, it was a fixed percentage. It doesn't matter how much you sell. Not only that, all of your competitors also have music streaming services, and they're perfectly happy to kick you out. So this is the this is the deep fragility and the nature of the distribution business, and I used the Spotify example because it shows you how a company that's been penalized for this kind of relationship is actually in a much more favorable position than Anthropic is.
00:13:05 · Ed Elson
[00:13:05] S3: So this brings us to what I think is the most illuminating part of the of the filing, which is that we learned, and a lot of people said, oh my gosh. This is so great, that Anthropic is not spending on CapEx, the the... Which has obviously been a huge expenditure for the hyperscalers, I e, building their own compute, building their own data centers. And everyone said, look. This works because they they don't have this CapEx issue. But they admit to the problem that you're describing, which is that they are leasing compute from their competitors primarily, which is probably gonna be an issue later down the line. And so I'd like to just quote... Read you this quote from the s one. Our increasing efforts to build out our compute and infrastructure require substantial capital expenditures and are changing the cash flow profile of our business. Whereas the compute purchase through our CSP agreements is generally paid as the compute becomes available to us, we expect an increasing portion of our compute and infrastructure investment to take the form of capital expenditures and other commitments, including lease obligations that require significant upfront payments well in advance of the related compute becoming operational. That tells me they're about to build data centers, and they're about to spend a shit ton on them. Is that right?
00:14:26 · Paul Kedrosky, Ed Elson
[00:14:26] S4: Right. That's exactly... A shit ton being the technical term here. So this is also a fancy way of saying, or maybe a relatively opaque way of saying, that what you see in the past in terms of the structure of the business won't be representative of what it looks like in the future. That we can't maintain these leasehold, these lease relationships with our competitors in terms of passing product through, So we're gonna be forced to make duplicate capital investments so that we're not beholden to them, both in terms of strategically, but also in terms of this rake off the top in terms of what we have to give up from what's called marketplace sales, we're actually selling products through the marketplaces on these other services. And so that's what you're saying. You're saying the nature of what we spend in future not only is going to continue, but it's going to accelerate in terms of the CapEx because we're in this strategic quandary of being reliant on our largest competitors. [00:15:11] S3: Which tells me that the income statement is actually irrelevant. Right? I mean, if if that's not even close to a reflection of what this business is about to look like, why does it matter?
00:15:11 · Ed Elson, Paul Kedrosky
[00:15:11] S3: Which tells me that the income statement is actually irrelevant. Right? I mean, if if that's not even close to a reflection of what this business is about to look like, why does it matter? [00:15:25] S4: Yeah. And I think that's the thing that people are missing is that, in a sense, we all know that income statements and financial statements in general are backwards looking documents, but this is backwards looking at a particularly sharp inflection. And the sharp inflection is from a business that was largely relying on distributors to a business that's increasingly going to be trying to go direct. This is the transition that's underway. And in going direct, it has two consequences. One is massive current CapEx for doing that. And second, and this is the thing people miss all the time, and kudos to Michael Burry and others for pointing this out, is that it creates maintenance capex. You don't have to spend it just once. You have to maintain these things. And so you have a future capital obligation that's not just the amount you spend to build, but also the amount you have to spend to maintain these very expensive facilities, but they're in this Hobbesian choice. They have no choice but to do that because otherwise is to be reliant on their largest competitors who could, you know, like Microsoft did back in its heyday, you know, cut off their air supply at any moment.
00:16:20 · Ed Elson, Paul Kedrosky
[00:16:20] S3: So here's a little conspiracy theory that I'd like to see if you think is perhaps correct. Is it possible that this is why they wanted to go public now? Is it possible that they wanted to take this one moment in time where the operational... The the operating profitability looks pretty good right before it's about to look quite bad? Because that seems like that is what is about to happen. They're at this inflection No. [00:16:51] S4: No. No. No. Listen. I've... I I was arguing that earlier today multiple times with people. So I think that's exactly what's going on. This is as good as it looks from the standpoint of the business as currently structured, and now you go through this inflection that makes it much more CapEx intensive. So you're essentially changing jockeys and changing the underlying structure of what's happening. And so I think this was probably their... And they they know this. This is the best time to do it because the future business is going to be very different. They're essentially reduplicating AWS, Amazon Web Services in both directions, building up and building down in terms of both the client customer facing as well as the the cloud facing stuff. It doesn't mean it's impossible. It could work, but it does mean that the bill... The way the business is characterized in this current statement is not representative of the future. [00:17:34] S3: So what would what would it working look like in your view?