Episodes

Dan Ferris:                 [Music playing]

Hello and welcome to the Stansberry Investor Hour. I'm Dan Ferris, I'm the editor of Extreme Value and The Ferris Report, both published by Stansberry Research.

Corey McLaughlin:    And I'm Corey McLaughlin, editor of the Stansberry Daily Digest. Today we talk with Matt Franz, founder of Eagle Point Capital.

Dan Ferris:                 I met Matt earlier this year at the VALUEx Vail conference in Vail, Colorado. He's a very thoughtful, highly intelligent [inaudible] value investor. I couldn't wait to get him on the show and here he is, so let's talk with him right now. Let's talk with Matt Franz, let's do it right now.

[Music playing]

Corey McLaughlin:          For the last 25 years, Dan Ferris has predicted nearly every financial and political crisis in America, including the collapse of Lehman Brothers in 2008 and the peak of the Nasdaq in 2021. Now, he has a new major announcement about a crisis that could soon threaten the U.S. economy and can soon bankrupt millions of citizens. As he puts it, "There is something happening in this country, something much bigger than you may yet realize, and millions are about to be blindsided, unless they take the right steps now." Find out what's coming and how to protect your portfolio, by going to www.americandarkday.com and sign up for his free report.

The last time the U.S. economy looked like this, stocks didn't move for 16 years and many investors lost 80% of their wealth. Learn the steps you can take right away to protect and potentially grow your holdings many times over, at www.americandarkday.com.

Dan Ferris:                 Matt, welcome to the show. Glad you could be here.

Matt Franz:                 Thanks for having me, Dan. Good to see you again.

Dan Ferris:                 Yeah. So, Matt, I wish you weren't so darn smart. You guys figured out that your Substack is worth money and you put it behind a paywall. [Laughter] I was enjoying that. [Laughter]

Matt Franz:                 Yeah, well, you know, we still try to put a good amount out for free, at least a couple posts a month.

Dan Ferris:                 Yeah, I'm just funnin' ya, because it is great stuff, it really is.

Matt Franz:                 Appreciate it.

Dan Ferris:                 I would normally, with an investor like you, I would normally say, "Hey, you're new to the show. You know, let me just ask you, what kind of investor are you?" But anybody who wants to know the answer to that question just needs to go to your website, eaglepointcap.com, and it says, in big bold type, "We are long-term business owners." So, you buy stocks for clients and hold them for – ever? [Laughs]

Matt Franz:                 Not necessarily forever, but we do try to hold them for a long period of time. And we think that's an advantage, you know, as we – our mindset is to be business owners, so I think, in the stock market, people can get wrapped up thinking about stocks as squiggly lines on a screen or pieces of paper for trading. When in reality, you're a minority partner in a real operating business, and we think it's helpful to take a real ownership mentality of those businesses, just like you would if you owned a partial stake in, you know, I don't know, a local business like a local carwash or something that was private.

You wouldn't really be reacting to every [Federal Reserve] meeting or jobs report, thinking you need to get in or out of that business. And so, we think that ownership mentality is useful, and that means, you know, you're going to own these things for very long periods of time.

Dan Ferris:                 So, I'm going to press you, though, on the long term, because for some reason, that's what captured me when I looked at this. Because that's − when you think about it, it's really hard, isn't it? It's hard for people to hang on to businesses while the quote is staring them in the face every day. And, you know, it could be up, down 50%, I mean, you know – on its way to becoming a, what is it, 2,000-bagger or something, Amazon was down 35% or 50%, multiple times. That's just plain hard. So, I guess, I don't even know if there's a question in there.

I just know that folks get scared when stocks are down, and even if they know it's a great business, maybe they just don't know it enough. Because you know how they behave at the bottom of a bear market, right? They just sell everything because they're tired of the pain. There has to be some kind of secret. Is the secret to long-term just knowing the business cold? Because, you know, we assume Buffett wants to hold forever, right? Warren Buffett wants to hold forever, and we know he knows more about that business than any other investor, right?

So, is that the secret, Matt just knows so much that he can hold, is that it?

Matt Franz:                 I think that's one angle of it. So, one thing we really focus on is simplicity. So, we are not the smartest people in the world, we're not Warren Buffett, so we try to own really simple businesses that are easy to understand. As minority stockholders, we will never know as much as an insider, but to the extent that we can keep the big idea in front of us with these businesses. So I'll give you an example. We like businesses that have very simple unit economics, and those are typically going to be royalty type businesses or businesses that can grow, let's say, a store account.

So let's say you're a McDonald's or a Wendy's, so you're going to grow your same-store sales at each restaurant, you're going to build some new restaurants, and that's going to contribute to your royalty. And then, those royalties can typically be paid out as dividends and buybacks. And so, you can pretty easily, you know, back-of-the-envelope figure out what your forward returns might be in terms of your growth rate plus your yield. And then, of course, your stock investors, there's going to be a change up or down in that multiple, but be really focused on the business component, if you were a, you know, if you own the whole business, you'd really be focused on that growth rate plus the yield.

And so, we think putting that front and center in these really simple businesses that we're able to understand, you know, gives us an advantage, gives us some holding power. And then, of course, we diversify, so that, hopefully, not all of our businesses are going down at the same time. Part of that element of simplicity is tending to prefer businesses that are noncyclical, so, businesses that don't have a ton of operating leverage or things like that, they're just easier to value through a cycle. You know, I love auto dealers, but you have to do a lot of normalization to understand where they're trading now versus normalized things. Versus a company like [DaVita] has pretty stable revenues and earnings through the cycle.

Dan Ferris:                 And yet, DaVita has certainly seen its share price fluctuate quite wildly over the years. That's a perfect example of what I'm talking about, like, we know where the money's coming from and we know that the people literally can't live without this thing. And yet it fluctuates as much as anything. I mean, it seems a little crazy, doesn't it?

Matt Franz:                 Oh, absolutely, yeah, I mean, DaVita has had a wild ride with, you know, two, I don't know, 35%-plus drawdowns, in the last couple of years. And, yeah, it's extremely stable and that's also the advantage, right? So if we were actually going out and buying entire private businesses, nobody would sell us [DaVita] at 6 or 7 times free cash flow, which is where it traded for a couple months last year. Because in a negotiated transaction, the other party would be well-informed and know that it's worth substantially more than that. In the stock market, we can take advantage of that volatility.

So, when we understand a simple business and see a bargain, then we can go get a deal, and that's sort of that piece of the stocks return − is there's the business component, but plus or minus the multiple. So, we try to find a margin of safety in a low multiple.

Corey McLaughlin:    Yeah, Matt, you bring up the multiple, and one of the things I saw on your website, Eagle Point Capital, I love it, you said, "We aim to buy all investments for less than half of our conservative estimate of intrinsic value in five years." I mean, I love that it's very specific, it almost reads like a mission statement, it's very easy to use that as a framework, I suppose, for a starting point for everything, right?

Matt Franz:                 Yeah, absolutely. So we think of intrinsic value and forward returns sort of as like a still image versus a movie. So intrinsic value is kind of a good snapshot, and then, forward returns are kind of the movie, so as it's moving along. So a lot of what we do is trying to figure out unit economics, kind of like I walked through with Wendy's, so, we'll try to find that growth rate. And that growth rate plus the yield plus or minus the change in multiple, and that kind of gets us to a five-year forward return. And then, if we can buy that forward return when it's sort of a mid-teens to 20%, we start to think that's pretty attractive.

And so, we think of growth rate as: What is the company? How much capital are they going to retain? And what's their incremental return on that retained capital? That gets us to kind of a normalized growth rate, we'll check that with kind of what management's saying and what we think they can do. And then, a big component, typically, for us is going to be that yield, so, how much, then, of the capital that they're not retaining, are they going to give that back to shareholders, through dividends, through buybacks.

And yield's kind of nice because it has that built-in component of a multiple, a valuation multiple. So, the stock has to be trading at a reasonable value, in order to get a reasonably high yield. And then, we look for that to be, typically, in sort of an at least low- to mid-teens rate that is kind of our business return. And then, we want a margin of safety with the multiples, so, we do look for multiple expansion, to kind of kick those returns up over a five-year period.

Dan Ferris:                 Do you view multiples as a proxy for the discounted cash-flow analysis?

Matt Franz:                 Yeah, so, I think we try to be not overly specific about multiples, but generally, you want a low multiple, right? That is always going to increase forward returns, or at least decrease risk, right? Kind of the price you pay, if it's lower, always increases the margin of safety. So, we don't try to do a big Excel spreadsheet with a DCF and decide that it's, you know, 8.1 times present value. But we sort of know, if you can buy something for 10 times or less free cash flow, good things tend to happen. We really focus on cash, right?

If the cash is really coming into the business and management is doing intelligent things with that cash, either reinvesting it intelligently or getting it back to shareholders, then that, at least in sort of like the medium term, tends to give a lot of support to a stock. You know, there's just not too many good businesses that are going to yield more than 10% dividend yields for long periods of time.

Dan Ferris:                 Yeah, that idea you just said, this idea of how much capital they're going to reinvest at what rate. If I could point to one thing I learned from Warren Buffett that just sailed over everything else, it would be that. Because that's when it hits you, that's why these things are compounding machines, so you need to look for the highest rate. And, you know, after starting out in the traditional way of looking for cigar butts and whatever, and finding them, actually, in 2002, you know, that was a good time for that. But then making the typical sort of evolution on to finding great businesses, that one thing, you know, the idea of free cash flow or owner earnings, as Buffett calls it (his version of it) − whatever it is, that's really important.

But that idea of finding a business that reinvests a certain amount at a certain rate, there's not a million of them out there, are there? I mean, this is not something, like, a great business makes so much money, tends to, that it can't reinvest it all, right? They literally make more money than they know what to do with.

Matt Franz:                 Absolutely, yeah, that's the issue is that, you know, good investment opportunities, high-return investment opportunities, are typically in short supply, even for the best businesses. And a company like AutoZone is pretty interesting, where they have a long runway, right? They've been building stores for a long time, and then those stores have growing same-store sales. But they are still only reinvesting sort of a small fraction of their total operating cash flow into expansion, because, you know, they are running out of places to put new stores that can be productive.

And so what they've done, then, is taken a lot of that cash flow and basically dollar-cost averaged into their shares, repurchasing them. And so, I think their 10-year sales growth is on the order of 6%, but their earnings-per-share growth is on the order of 17%, because they've been able to take their share count down so much. So we think that yield is a good way to supplement, or when growth opportunities start to run dry.

Dan Ferris:                 Yeah, hence, Buffett's other obsession, companies that buy back shares in bulk. I'm just getting a lot of this from your website. You guys emphasize moats, and I feel like that's one of the other things we learned from Buffett, over the years, and it was a real, like, when you find these moats, I was, like, "Oh, that's great. That's great. You just find this moat and you leave it and you hold it forever and that's great."

And then, of course, you know, Walmart was the biggest retailer and the lowest prices and all this stuff, and then Amazon comes along and things change. You know, moats can change, "Oh, dammit." So, you really are looking for, instead of a moat, like, a sustainable competitive advantage. Again, they're not growing on trees, are they?

Matt Franz:                 No, absolutely not. So, yeah, we look for what we call demonstrated and enduring competitive advantages. So, an idea we really liked, we call it replication mode. So when we're looking for a business, we want to find a really good business in the past, so they've sort of proven these unit economics, they've proven they have the moat. There's something we can go say, "Oh, they had really good results and it's because of this moat." And then, we can look into the future and say, "Well, it seems pretty likely that this is going to be persistent, and that the future is going to look like the past.

And if the past was pretty good, then it means the future looks good. Typically, we're able to buy only because there's some short-term headwind or bobble or something in there, so we're willing to give them the benefit of the doubt of some return to the average. But we're not trying to pick major inflection points where a bad business will suddenly become a good one. I think there's a lot of money to be made in that, but that's just, you know, that's a different skillset and a different constitution required for that.

And so then, once we own a business or when we're analyzing it, we try to ask, is the moat widening or narrowing? Because I think that there's lots of wide-moat businesses out there that are narrowing and they're becoming less good. So you kind of want to look at that second derivative and say, "Is this a moat that is growing over time?" So, a network effect or something like that, as you plug more people in, that will start to − or continue to − grow, and become harder and harder to surmount.

You know, Costco could be a good example where they have so much purchasing power and then they pass that purchasing power onto the customers with limited markups, which drives a better value proposition, they get more sales, which gives them more purchasing power to bargain with suppliers, and so it's sort of a self-reinforcing moat. So we kind of look for elements like that. At the minimum, we want it to be stable, but the best businesses are going to have growing value propositions for their clients.

Dan Ferris:                 What do you think about brands as moats?

Matt Franz:                 Yeah, I think they can be good moats. I think that it sort of depends. One example I always like is, if you think of consumer electronics like Toshiba, so everybody has heard of Toshiba, but it doesn't necessarily mean that brand awareness gives them a moat. Because consumer electronics is an incredibly competitive area, so I think it's important not to confuse brand awareness and acceptance with giving them pricing power [crosstalk].

Dan Ferris:                 Right, the Kleenex phenomenon, right?

Matt Franz:                 Yeah, yeah, exactly. So, you know, I think some of the luxury brands in particular, like Ferrari, almost everyone has heard of it, they can raise their prices many times over every year and demand only seems to go up. Or a company like Rolex or something. These are things that everyone has heard of even if they don't own them, they're aspirational, and those brands, you know, they just have to be very well-cared-for, like, Buffett owns [See's Candies]. I think that's a good example where they've been able to raise prices almost 10% a year for probably 40 years in a row, and people keep buying it.

Dan Ferris:                 Yeah, we don't go to the mall nearly as frequently as we did 10 years ago, but there's a [See's Candies] that's still in the mall. All these stores are closed and we have one mall here in southern Oregon, and all these stores are closed, but that thing is still going strong. [Laughter] And every time you walk in there or near it, you're, like, "Oh, I like those and those and those and those and –" you know, it's just, it's a great brand, actually.

Matt Franz:                 Absolutely.

Dan Ferris:                 And it's a big success story of his, too, right? They spent $32 million on it, I think, and they've gotten – I know it's well over a billion... Has it reached $2 billion out of it at this point? You know, he keeps citing that number –

Matt Franz:                 It's probably getting close, yeah.

Dan Ferris:                 Yeah, it's just amazing. So, yeah, I feel like brands are another one where, even great ones – I guess the best example, recently, might be Budweiser, you know? They had that little episode, and they were already under attack by the craft beers, right? And then they had this Dylan guy, I forget his last name, in that whole sort of Bud Light fiasco that dethroned the beer as – you know, the sales plummeted and– I don't know if it's recovered, yet, but I'm, like, "Wow –"

Matt Franz:                 Yeah, now Modelo took over as No. 1. I would've never imagined that that would've happened, you know, as recently as it did, but, yeah, it did, so.

Dan Ferris:                 We've been recommending Constellation Brands, for a while, in our newsletter, so, you know, not disappointed, but hopefully – Modelo, as a Mexican brand, they're pretty conservative, so I don't think we've got anything to worry about there. But it just struck me that, you know, a brand is a story, to a certain extent, especially in the case of a beer that doesn't taste that great. And when you stop telling the story or when the story gets heavily disrupted, I think, you know, Jaguar has come out with this new commercial that may be disrupting the image of man owning a Jag.

It just, brands are − put it this way – I don't even know if there's a question here, Matt – I just think brands are an interesting topic for long-term investors. Just maybe, I don't know if we leave it at that.

Matt Franz:                 Yeah, absolutely, no, I agree, I mean, I think they can certainly be a little more fickle than other things. You know, one sort of moat that we like is often, you know, anything sort of rooted in the physical world, where you have maybe a scale advantage. So we tend to like distributors, and I would even classify something like an AutoZone, basically, model it more as a distributor than a retailer, or, like, a McKesson or something like that. Where there's a lot of infrastructure that is out there in the world that exists, that in theory, sure, I mean, someone else could come build warehouses and all that.

But in practice, it's impossible to replicate it overnight, and to replicate it even over many decades would be difficult, not to mention you'd then have to steal the customer relationships and stuff. So I think when you have scale advantages and you're a low-cost distributor with this physical infrastructure that, for all practical purposes, is not going to be replicated, you sleep a little better at night than if you are at the whims of, like, a marketing agency or something that has some crazy for your brand. That then, you know, even if you hit nine times out of 10, if you miss once, it can be devasting, like some of these brands you mentioned are finding out.

Dan Ferris:                 Yeah, physical infrastructure. When you say that, that's hard to replicate, especially nowadays, the way people are about land near big cities. Copart comes readily to mind, you know, basically, junkyards, I guess I'd just call it that. Yeah, you can't buy that land, basically, and they own it. The other companies in their field don't own it all, but they own it, which is awesome.

Matt Franz:                 Yeah, their competitor tried to grow faster by leasing the land, which was an interesting trade-off, but doesn't seem to be paying dividends. You know, Copart's sort of stuck with the long-term steady strategy, which I like.

Dan Ferris:                 Now, Copart was interesting, because the first time I ever heard it was at the Grant's Conference – Grant's Interest Rate Observer Conference, for our listeners – I don't know, years and years ago. It could be 10 years already, it could be a long time, because I haven't been to that conference in several years. And Grant was pressing him on it, he's, like, "This thing's 25 times earnings." And it's one of those things that, you know, you mentioned earlier, you don't normally get a chance to buy these things cheap, but it certainly has proven itself quite well.

I guess, maybe, is the lesson here, like, you can't buy everything? You know, Warren Buffett says, "You can't kiss all the girls." But you tell me, have you ever bought anything like that, that you knew was a fantastic business, and it was 25 times earnings and you just thought, "This is great. It's fantastic. We'll be OK"?

Matt Franz:                 I don't think so. I'd have to kind of think for a minute. But, you know, I think that, yeah, we try to be pretty valuation-disciplined, and I won't say we buy everything for 10 times or less, but increasingly, we do, because you're absolutely right, we don't need to buy everything. We run a pretty concentrated portfolio, so we're typically looking at 10 positions, plus or minus one, and that's because there are that many good opportunities. You know, I think if it was a free lunch and we could buy 20 or 50 things that we understood well that were going to return 15% to 20% per year, we'd be happy to do it, but we just don't live in that kind of world.

I would say one investor that we have learned a lot from is Bill Ackman, and he also likes simple, predictable, profitable businesses, you know, emphasizing royalties. He is willing to pay, typically, 20 to 25 times, and he's got a pretty good track record, so he's proven that he can do it and there is money to be made. Looking for those super, super high-quality businesses that are worth more than 25 times, he is finding a margin of safety in those. I think that's hard to do, I mean, it's hard to do for me. I think it's easier to buy really good businesses for 10 times, and they do seem to become available, if you're looking for them, you know, once or twice a year.

I would say that something like Copart trades at that multiple because it's able to grow faster. And so, our businesses, typically, are going to be little bit slower growers, more of an AutoZone, sort of a mid-single-digit growth. But it's going to be steady and persistent, and then there's going to be a bigger component of yield, there, to make up the difference. So, Copart's going to have a lower component of yield and a higher component of growth. I think if you look at the base rates over time, there's relatively few businesses that can sustain a double-digit growth rate in sales, for more than five or 10 years, right?

They certainly do exist, but they're very hard to find ahead of that fact. And typically, once they're sort of well into their five- or 10-year run of really good sales, well, that might be a sign, are they really going to do it for another five or 10 years? Maybe they will, maybe they won't, but I think we tend to be pretty conservative about forecasting well-above-average growth rates. So that, you know, kind of roots us in lower multiples.

Corey McLaughlin:    I was just going to say, Matt, you seem disciplined in your approach, which is great for all investors to understand, and you're talking to two guys who appreciate long-term value investing. I'm just curious how you got interested in it, attracted to it in the first place, and then – because there's a lot of different ways you can go about putting money to work. How did you get attracted to long-term investing to start with, and how important is it to have clients that are understanding all of what you're talking about to us right now? Because I imagine it's not easy to convince, you know, certain people of this strategy and the ability to stay so disciplined.

Matt Franz:                 Yeah, absolutely. Well, I'll answer your second question first. I mean, I always say an investment manager can only be as patient as his clients allow him to be. So I think that having really good clients that think very long-term and are patient and look through the quarter-to-quarter noise is a huge competitive advantage that's almost the only competitive advantage an investment management shop can have. Because it's the base that everything else rests upon. And that's one reason we write our Substack and that kind of thing is just − I'm not sure I would say we ever convince people, but we try to attract like-minded people.

You know, I think Buffett and other value investors have kind of said it, value investing is like an inoculation. You know, you kind of hear about it and it almost either resonates instantly and sticks or it doesn't. And so, we're looking for those types of people. You know, a lot of our clients have been businessowners that have exited their business, and so we find that they have the right mentality, as former owners and operators, to kind of proceed with that strategy. But, yeah, my evolution toward value investing, it reminds me of the Jerry Seinfeld joke where he says, "Why, when you lose something and you find it, it's always in the last place you looked? Well, because you don't keep looking after you found it."

I kind of did the same thing, I looked everywhere, until I found value investing, and then I was inoculated. So, yeah, I got really interested in markets early on, you know, high school and college, and I was studying engineering and was kind of using some of the math I was learning, to play around with, you know, first, it was foreign exchange markets, and then futures. And then I really got into options, because they're very quantitative. And I ended up working at some quantitative options trading shops in Chicago, where I live, and that was really my introduction to markets and all of that.

And it was great to learn and see it all, but it's a really tough market. You know, Citadel is hiring new Ph.D.s every day, and we were very small shops competing with them, and I thought, you know, even if you have a quantitative strategy that works, it's going to decay over time. Like, you need to keep tweaking it and finding the next best thing. And so I thought, "Well, it would be great to find something more sustainable, you know, more sort of like tried-and-true that's not going to ever go away."

And that sort of, you know, just tried to keep reading everything, and eventually, read Buffett and Munger and Peter Lynch and all the others, and it became clear that value investing has worked for a very long time. And it makes perfect sense to me that it should keep working for a very long time, because, yeah, if you own something that has a lot of cash flow and returns that cash flow to you, then it can only go down so far, right? If it hypothetically had a 10% dividend yield, well, that's well covered and going to continue, it's probably not going to go to a 50% dividend yield.

So you can start to think of these businesses as having some sort of floor that would be attractive to buy them. You can't necessarily say the same thing about, like, bitcoin or something.

Dan Ferris:                 Right, [crosstalk].

Corey McLaughlin:    No, certainly not.

Dan Ferris:                 That's right.

Corey McLaughlin:    That's fascinating, from quantitative options trading to long-term value investing. But I can see that, I mean, obviously, I can see that, because even when you're talking about how you're describing having to keep up with all of the innovations in quant trading and, you know, a lot of – that's basically technology, you're trying to stay ahead of technology, which is a whole other challenge on its own. And so, yeah.

Matt Franz:                 Absolutely. Yeah, and I kind of, I realized there was a way to sort of go old school and just go back to the good old-fashioned reading 10-Ks and 10-Qs. You know, I was sort of in this technology environment and I remember someone was telling me how they were writing AI, like, 10 years ago, to read the 10-Ks for them. And I thought, "Well, it seems like it's taking you so long to write this code, maybe it would be faster just to read them yourself." [Laughter] And, you know, the reading of them, in the short term, yes, it's tedious, it could take a long time, but that knowledge really compounds.

And you look at someone like Buffett who's let his knowledge compound for how many decades − so that's kind of my goal, right, is just to keep reading and build up my mental map of the world.

Dan Ferris:                 Right, slow and steady wins that race, whereas, the other thing in quant is like an arms race and the fight, the war is always on, you know, and you're in this arms race. I want to go back to something you said. You said that you're conservative about forecasting growth, and it struck me that that's probably – that being conservative and just, frankly, admitting that you can't predict the future in the first place, but also, admitting that you have to be conservative about projecting growth. I thought, well, isn't that one of the keys to – I'm trying to get at this long-term thing, you know?

Because value, we talk about value a lot on this show, we've had a lot of value investors on, you're the second one in a week that we've interviewed. So, but the long-term-ness is different, because, let's face it, Matt, if you just look backwards 20 years and threw darts 20 years ago, you're rich today. So that long-term-ness, that is really important. And I very much, you know, one of the reasons why I really wanted to have you on is because that's, you know, you have that quote by Buffett about 5, 10, 20 years on your website, I mean, I know that's what you're about, and the holding the business mentality, you know, it's so important.

Because, let's face it, nobody really knows, even Buffett doesn't really know how to sell, nobody knows how to sell, nobody knows how to trade. You know, the people who trade are right, like, 40% of the time, the great ones, right, and they're constantly cutting losses. But you're not doing that. What you're doing plays into what I blithely have told people, you get rich in the stock market by holding great businesses and just not selling them. And you've honed right in on that, you're, like, "This is right up my alley," and I think it's really important for our listeners to get how and why and by what mechanism, really, you're long-term oriented.

Not forecasting the growth too aggressively is important. Is there anything else that comes readily to mind when I say, "What's important about looking out five, 10, 20 years, besides not over-forecasting growth?"

Matt Franz:                 Yeah, well, I think there's a couple ideas in there you triggered in me. So one is, you know, about the growth, its base rate, so we try to be knowledgeable of what are the realistic distributions of − what's the average company going to grow or something? And the fact of the matter is very few companies will grow rapidly. And so, you need to be aware of that any time you're paying a high growthy multiple, sort of the odds are against you. Yes, maybe if you're a great analyst, you're going to pick the one that's going to defy the numbers, but you need to be very careful about that.

So we try to have humility and understand that if we're making a bunch of bets, we're unlikely to be picking a lot of stocks that are going to be able to sustain high growth rates. Second is, you know, why is it important to think long term? I think it's sort of like the law of large numbers. It's the same way casinos make money, which is, in any given roll of the die, it's pretty random. But over time, a casino knows that they're going to make money off of you if you keep rolling those dice or betting on red or whatever it is.

And so, it's the same for us, where we know that, if a business has good returns, they're going to show through over the long term. But on any given day, it's a coin flip as to whether that stock's going to go up or down. So, if you look at any great business, like, look at Berkshire Hathaway, and you can chart its stock price versus its book value per share, which is a good back-of-the-envelope proxy for its intrinsic value. Yes, in any given year, they can diverge, and certainly, any different day or month or quarter, but if you look over five, 10, and certainly 20 years, they move basically in lockstep.

And so that's really the key is knowing that, if you can predict intrinsic value and you give yourself, let's say, 10 or 20 years, you know that a stock price is also going to go up alongside that intrinsic value. And intrinsic value, I think, is easier to predict than any given day's stock price, because a stock price is influenced by people, and people are emotional and fickle and impossible to predict in the short term. But we do know that, over very long periods of time, that price basically has to follow the intrinsic value, even if any given day it doesn't necessarily have to.

So I think that's mainly our approach, you know, it's basically follow the cash flow. If the cash flow is there, over long periods of time, the stock price will follow.

Dan Ferris:                 This reminds me of, you know, when I first learned about returns on equity and I thought, "Well, this is really a return on book value, but, you know, this wonderful business I want to buy trades at 4 or 5 times book value, so I'm not getting that return." And then, Charlie Munger taught me, "Well, no, not right off the bat, not this year you're not, but over time, they converge, they become one." You know, so that is very similar to – that's one of the things that happens, over time, in the way that you're describing, right?

It's just keep cranking that return by 20%, 30%, 50% on equity, whatever it is, and over time, you know, given that you're not reinvesting, like, 100%, you will get that return, that weighted return. So, long term, it's tough. Is there anything else? How else can we address long term, Matt? We've addressed not –

Corey McLaughlin:    When do you sell? When do we sell?

Dan Ferris:                 Yeah, when do you sell? Ever? I mean [laughs], that's good.

Matt Franz:                 Well, I think that, yeah, selling is super hard and not something I can claim to be a master at, yet. But one thing we try to do is not tinker too much with the portfolio. So we try to be either fully in or fully out of a position, and most of the time sitting on our hands. So we try to resist that urge to add or double down or trim here because they had a good quarter and it's, you know, a 16 multiple instead of a 15, and all that kind of stuff. Because that goes back to our business-owner mindset, right?

We want to just sort of sit on our hands and do nothing and let these businesses work for us, just like if we owned a portion of a private business. And that's, of course, much easier said than done, because you're sort of faced everyday with these flashing lights on the screen and all this drama in the newspapers and the earnings calls. And, you know, you want to do something, there is a do-something bias there, but I think that, if you do the job of getting into a really good business, you know, if you own cigar butts, then maybe you do have to be more opportunistic and trade around a position.

But when you buy really good businesses − yeah, best just to sit on your hands. And so, that's what we try to do, and we try to say, you know, we look for no-brainer decisions, right, that's what Buffett and Munger talk about. And so, if something's trading at, let's say, 5 to 10 times free cash flow, well, that seems pretty cheap, and we'll do our forward return analysis and look at intrinsic value in five years and we'll compare that to our opportunity cost. And if it's sort of in our top 10 or better, or if it's looking kind of a mid-teens or higher forward return, we'll probably buy it.

And at the same time, then, if that stock appreciates a lot, and so, used to be for me, like, 20 times earnings, but now I've learned to let them run a little bit more, so let's call it 30 times earnings or something thereabouts, then you want to start, you know, you'll naturally be updating your forward returns. And your yield component will naturally come down a lot, even if they're paying out a lot, you know, a 100% payout of earnings at a 30 times multiple is going to be about a 3% yield. So you really would be counting on a substantial amount of growth, to get competitive forward returns at that point.

And so, at that point, such a stock would probably fall down on our opportunity cost list, where we'd probably have better ways to deploy the capital. So when we look at our opportunity cost, we're not trying to split hairs and say, "Well, this is a 13% forward return and that's a 14%," or, "This is a 15% and that was a 12%." We're looking for you know, like, "This is an 8% and that's a 20%," things that are really no-brainers, they should jump out at you. We are not living in Excel; these are more sort of back-of-the-envelope sort of things. Math, when you're reading a 10-K, you're rounding the numbers and doing the math in your head, and it's still screaming out that, "Oh, this is either very cheap," or, "This is quite expensive."

Dan Ferris:                 Right, ballparks, those numbers are ballparks, yeah.

Matt Franz:                 Absolutely.

Dan Ferris:                 Yeah, that was yet another, I keep talking about the things that I learned from Buffett, that was another one, you know, you can't pinpoint it. Because I started out, when I first started with all of this, many years ago, almost 30 years ago, I guess, I tried to do the same thing everybody tries to do in the beginning. You look at price charts, right? Availability bias, you know, that's the data point that's in your face, so that must be the most important thing, right? So you look at that and you're, like, "How do you know to absolutely buy it here, you know with 100% certainty it's going to go up?" That sort of thing.

And then, Buffett's, like, "Well, you know, not only can't you do that, but you can't really know what your return's going to be, even if you do all this fundamental work. So, just chill out," you know? It's an important point, because it's about how you spend your time, right? Are you wasting a lot of time on that type of unachievable precision or not? So, yeah, the long-term orientation, I guess I think that it's more important than ever, because the way that most people get at this, if they do it at all in their real lives, is through their 401(k)s.

But they're buying S&P 500 funds, so right now, they're putting close to 40% of their money into a group of stocks that everybody on earth is convinced are the new "Nifty 50," you can't go wrong, they're absolute no-brainers. And we know, over time, that this sort of what research affiliates call "Top Dog Phenomenon," the regime changes and they perform poorly compared to the S&P 490, since, I saw one set of data, since the 1950s they've learned that. But, so, the long-term orientation is necessary, and it's necessary to get you away from this effect that has really, to me − I think people's S&P 500 portfolios are going to go sideways for 10 years is what I'm afraid.

So, is there a pond? Are you all cap? Are you, you know, anything from [$10 million] market cap to [$100 billion]? Do you care about market cap? You say you care about industries, you don't go for the cyclicals, but how would you describe your pond, your universe?

Matt Franz:                 Yeah, so we will go anywhere we think we can understand, which we try to be humble and know is probably not as large as we think it is, even. So, yeah, we'll go international, but we'll tend to stick to, you know, the UK or Canada.

Dan Ferris:                 That's very humble, Matt, wait a minute, I can't let that go by, "It's probably not as big as we think it is." That's a very humble statement. [Laughs] But, I'm sorry, so, continue, please, sorry. [Laughs]

Matt Franz:                 Yeah, so, you know, and we've been humbled in the past, so that's how we know, right? But, yeah, so we'll go international and we'll go small cap to large cap. We tend to be like those businesses in replication mode that have proven economics, so, we don't usually go too small, because those tend to be sort of at the beginning of proving themselves out. So I would say, yeah, mid and large cap is typically where we're going to hunt, but we don't really pay attention to market cap when we're looking at businesses. You know, we have businesses that are a billion-dollar market cap and we have ones that are $100 billion.

So, industry wise, we tend to prefer noncyclicals. It doesn't mean that's exclusively what we invest in, but we think those are the easiest. You know, it's kind of like turning it into an equity bond, right? If you can sort of just understand and know that there's not a big normalization you have to do for major cycles. We like businesses that aren't subject to a lot of external factors that aren't under their control. So, again, none of these are hard-and-fast rules, they're more guidelines, but we tend to, you know, we like companies that could control their pricing, for instance.

Like, ExxonMobil, great company, but they don't know where they're going to be able to sell oil in five years from now, or next year, for sure. And so, that's just, it makes it a little bit more difficult for them versus a [See's Candies], they know they can raise the price in five years, or 10% next year, and people are going to keep buying it. So it's just an easier business to understand, and keeping it simple is really one of our kind of core tenets. We like to diversify our portfolio by risk factor. So, typically, that would be an industry, but not necessarily.

So you could have, you know, we owned Alimentation Couche-Tard. We no longer own it, but they own Circle K, the gas station, and that, in a sense, could be exposed to EVs. And similarly, AutoZone could also be exposed to EVs. So, even though they're not really in the same industry, they have a same risk factor, so we want to sort of make sure that we don't end up having 10 stocks that are all exposed to one of the same risk factors. So, we'll typically try to limit it to, like, 20% of the portfolio in any one risk factor, and that kind of spreads it around.

We like to diversify by income or consumer type and consumer income, so we like to have some international consumers, some domestic. We like to have low-income consumers as our end market; we also like to have, at the same time, high-income consumers as our end market. Because they will often experience the business cycle differently. So that's all sort of a way to try to balance out some of the volatility. And ultimately, we think that if we can manage to have a relatively low volatility of our portfolios' underlying cash flows, that there's a chance that the overall volatility of the stock prices sort of matches that, to a degree.

And one of the benefits or what we hope to be one of the benefits is, if you own enough noncyclical businesses, when there is a deep drawdown, maybe one or two of those, the stock price actually holds up. And then, it's an attractive business to sell, to buy something cyclical at a very deep discount. So, we sort of got a chance to do that during March 2020, during COVID. There's no guarantee those stock prices will hold up, but you think if you own a couple noncyclicals, maybe one of them does.

Dan Ferris:                 Every time you say noncyclical, I always want to say, "How noncyclical are we really talking about?" [Laughs] Because, you know, those share prices go up and down, too, don't they, and, you know, the results aren't a perfect straight line up to the right forever, either, right? In other words, there are cyclical influences, right, even when the –

Matt Franz:                 Absolutely.

Corey McLaughlin:    There's one that, as you were explaining that, just came to my mind. In 2022, Hershey's was up and a big returner, and then since then, since about 2023, it's been down I don't know how much now. But a lot with, like, talking about cyclical, talking about cocoa prices and competition and those sorts of things, that was just one example that came to mind, as you were describing it.

Matt Franz:                 Yeah, so, I think there is going to always be cyclicality of a stock price, at least to a degree, but we try to look at underlying cash-flow cyclicality. So I think Hershey, I don't know off the top of my head, but their cash flows have not been that impaired by cocoa prices going up dramatically, right? They were able to hedge some of it, I think those hedges are now wearing off − but more, that stock has come down because it was trading at a pretty growthy multiple. And now they're projecting some margin compression and maybe less growth, it's probably an overreaction, to a degree, as the market tends to do on both sides.

So, the stock is probably going to be much more volatile than the underlying cash flows. Even the most stable business will experience some volatility in its cash flows, which is why you do have to diversify. But, yeah, if you look at something like [DaVita], I mean, there were so many fears about GLP-1s, there was the Supreme Court ruling that people worried about. None of that ended up making a difference in their cash flows, but the stock, you know, still went up and down 50% a couple times in a few years. So, when we talk about noncyclicals, we're really talking about those underlying cash flows.

If you think about a royalty type business, those are great, because you're taking sort of a fixed percentage of a certain amount of throughput, whether that's Visa or it's an – like, Brookfield is an alternative-asset manager that earns management fees and that sort of has royalty characteristics. So, royalties tend to not have a lot of – not a big cost structure, and so, you know, there's kind of a stable throughput and a stable margin on that. And so, yeah, there's some volatility, but it's relatively noncyclical, relatively predictable, compared to a lot of industries, we think.

Dan Ferris:                 Right, you're just describing a real focus on exactly what you've said you are, on the business, right? You're focused on the cyclicality of the fundamentals, the financial results, the financial condition, you know, the demand for the product, et cetera, et cetera. And I think we're getting to an answer from my earlier question, this is how you do long term, you know, maybe, for great periods of time, you could be mindless about it in your 401(k), but maybe not always. And learning some of what you've taught us is really important.

When you mentioned GLP-1s, I'm sorry, I chuckled, but I'm still waiting for United Airlines to say, "Yeah, we're saving money on jet fuel, because the passengers weigh 30,000 pounds less," you know what I'm saying?

Corey McLaughlin:    Yeah, that one [crosstalk].

Dan Ferris:                 Yeah, these effects have been strongly touted, but we're all kind of, you know, we're waiting for them to happen. We'll see. Did you buy any of the pharmas, like, five years ago or however long ago people first started talking about [inaudible]. They're not simple, are they?

Matt Franz:                 I wish. No, no, I mean, I think those, you know, maybe there's a case to buy a basket of them or something. I think that I wouldn't be able to predict any given breakthrough or anything like that. One business we owned for a long time and we like is McKesson, which, you know, we bought it well before GLP-1s were on our radar, but they've ended up benefiting as a distributor of those. But we think that's a better place to be in the pharma supply chain, or at least it's a little bit simpler place to be, just moving the medicine from A to B.

Dan Ferris:                 Let's see, I think we have reached time for our final question. And I have to say, I could do this with you, Matt, for a long time. I don't say that to every guest. [Laughs] Because it's a lot of fun. And I enjoyed meeting you in Vail, Colorado, this summer, and I really enjoyed this conversation. I'm enjoying your Substack and your website and everything else.

So the final question is the same thing for every guest no matter what the topic. If you've already said the answer, by all means, feel free to repeat it. But the final question is just simply, if you could leave our listener with a single thought today, what would you like that to be?

Matt Franz:                 Yeah, I'll leave you with one of my favorite quotes from Ben Graham, you know, the father of value investing. And he wrote, in The Intelligent Investor, he said, "Investing is most intelligent when it is most businesslike." And I think that that is a really good idea to dwell on and really take that business-owner mentality to your investments. And I think that means, you know, removing a lot of the nonsense, the emotions, the day-to-day drama of the markets. And, you know, we often tell investors, like, if you were going to go invest in a duplex or a rental property, you'd sort of look at the competitive advantage of the location.

"Is it going to be in a place where people want to live or visit? Are the schools good? Is crime going down?" And then you would say, "What does it cost to maintain this? What's the insurance? Do I need a new roof?" And you'd sort of back into, "What can I charge on rent?" And you'd back into a yield and maybe you'd bake in a little bit of capital appreciation and that would be your return. And it's something I think almost everyone intuitively knows how to do, but they sort of forget that and throw it out the window when they're looking at stocks, which are also just businesses and the same sort of analysis and reasoning should apply.

So, I think being businesslike when you evaluate a stock is the key to being successful.

Dan Ferris:                 Well put. I'm going to pile on and tell people that comes from chapter 20 of The Intelligent Investor. And read and reread chapter 20. Read it once a week. Read it once a month. I used to have a little reminder on my phone to read it once a month, I just think it's that important, that's one of the quotes there. And he's got business principles in there, a little list of the businesslike principles. It's a wonderful, wonderful short little thing that I think has the power to change your life as an investor, and make you more long term like Matt and Eagle Point Capital.

So, listen, thanks for that.

Corey McLaughlin:    I'm going to do that.

Dan Ferris:                 Yeah, do it. [Laughter] Thanks for being here, Matt – enjoyed it immensely and hope to have you back real soon. Maybe we'll get your partner on here with you, too.

Matt Franz:                 Absolutely. That would be fantastic. Thanks so much for having me, Dan and Corey. It was great to do this, a lot of fun.

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A long-term investor. I'm glad that we focused on long term, because we focus on value a lot, when we have value investors on, and where they see value and how they define it. And we did some of that, but it's really hard, like, when you're looking back at Amazon and you realize you didn't get a 2000-bagger out of it [laughs], like, what's the secret. And I think Matt's got some of the secrets, he's got some of the essential qualities of an investor who holds for the long term. "We like to do nothing," he said. I love that. We should all do more of nothing, you know. [Laughs]

Corey McLaughlin:    Seems like it, I mean, the businesslike approach, the disciplined approach. You couldn't even get him to say anything that he kind of overbought for, you know [laughs], at a higher multiple. He couldn't even think of one, I mean, which is a good thing. And, yes, it's always reassuring when I hear somebody like that, and you, talk about long-term and value investing. Just for that, like what you're saying, a lot of people, in their 401(k)s − everybody who's in them is essentially in the same things. And that's the money you're counting on for whatever it may be, for the long term.

You just have to be careful about it. If you're listening to us and following our stuff at Stansberry and are taking the time to do it, I mean, this is the – it's always reassuring to me to hear this perspective of, like, "This is what you can do," and the lessons that you should understand, to really take care of that money outside of what everybody else is doing.

Dan Ferris:                 Yeah, outside of what everybody else is doing, Because everybody else is not holding Amazon and getting a 2,000-bagger out of it, you know? [Laughs] And I was reminded of this, recently, because Porter Stansberry texted me and he said, "Hey, didn't you recommend TJX Companies, back in the day?" like, T.J. Maxx, and I said, "Yeah – " And I think it was December 2009 and I think I got 50% out of it and sold it [laughter], you know? And I don't even want to look at where it's been since then; it's probably a major 10-bagger or something, still a good business.

And we agreed, in our little short conversation, you know, he said that the best time to sell a great business is never. And it's a lesson that, I mean, by my example anyway, you have to keep learning it, you just have to keep learning it. So we probably need to have more long-termers like Matt on the show, I think.

Corey McLaughlin:    Yeah, it makes me want to forget about whatever bitcoin's doing right now, or, you know, whatever.

Dan Ferris:                 Yes, yes.

Corey McLaughlin:    Like, "All right, let me go buy a good company and not worry."

Dan Ferris:                 And just forget about it for 10 years, yeah.

Corey McLaughlin:    Yeah, yeah.

Dan Ferris:                 All right, that's another interview and that's another episode of the Stansberry Investor Hour. I hope you enjoyed it as much as we really truly did.

We do provide a transcript for every episode. Just go to www.investorhour.com, click on the episode you want, scroll all the way down, click on the word "Transcript" and enjoy. If you liked this episode and know anybody else who might like it, tell them to check it out on their podcast app or at investorhour.com, please. And also, do me a favor, subscribe to the show on iTunes, Google Play, or wherever you listen to podcasts. And while you're there, help us grow with a rate and a review.

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For my co-host, Corey McLaughlin, till next week. I'm Dan Ferris. Thanks for listening.

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