A conversation with Chris Mayer, author of 100 baggers
Talking quality investing and Copart
Welcome to the first publication of Best Anchor Stocks, a place to discuss Quality Investing. If you want to understand what Best Anchor Stocks is all about and what you can expect from this blog, you can read the following article:
It’s an honor for me that the first publication of this blog is the transcript of a conversation I had with Chris Mayer a couple of weeks ago.
Many of you will know Chris for his book “100 Baggers,” but few will know where Chris comes from and how he ended up managing the Woodlock House Family Capital Fund. We go over his background, as well as his investment philosophy and his thoughts on CPRT 0.00%↑, an investment we have in common.
We hope you enjoy it and kindly ask you to subscribe if you want to follow us in this journey.
Without further ado, let’s jump right into the conversation!
(Leandro): Today I will be talking with Chris Mayer, co-founder and portfolio manager of Woodlock House Family Capital Fund. Most of you might know him for his book, 100 Baggers, which outlines the characteristics of stocks of companies that have managed to compound 100x over long periods.
It's a great book and definitely one I would put on my list of required books to read by an investor. Chris's background is undoubtedly impressive, but what I like the most about him is that I think that his in investment style is fairly similar to that of Best Anchor Stocks and the fact that he's always open to discussions.
Welcome Chris, and thanks for taking the time.
(Chris Mayer): Yeah, thank you. Thank you for having me on. Leandro, it's good to talk to you.
(Leandro): Okay, so I think the best thing were we can start off. Why don't you give like a background of yourself? Because I think most people here know you for the book 100 baggers and also your recent writings at the Woodlock House blog, but I think you started your career writing a different blog and that led eventually to becoming a professional investor. So, can you tell us a bit more about this?
(Chris Mayer): Yeah, I mean, my background is kind of an unconventional path to money management.
So yeah, I was in corporate banking for 10 years, from 94 to 2004. And during that time I was always writing on the side. And, finally in 2004, I started my own newsletter where I had a model portfolio and I had stocks that I tracked, kind of very similar to what you're doing, and, uh, that did very well.
And so eventually, I started working with the Bonner Family Office in 2016. So the Bonners were newsletter publishers, and when I was writing my newsletter, I had made a deal for them to publish it shortly after I started. It was only about six months or so as they, so that, that worked out really well.
I left the banking job and just was able to write my letter and traveled all over the world and wrote four of my books, including 100 baggers. And so that was very good. And then 2016 started work with the family office. And then that led to me eventually proposing to them to start a fund, which they seeded.
And we started in 2019. So that's, that's the answer.
(Leandro): Well, that's very interesting. I think you can be considered like a player of the gig economy, but like before it was mainstream. Now everyone is jumping on it.
(Chris Mayer): That's right. I mean, I remember when I first started my newsletter, I mean, I had physical copies I actually mailed to people.
So sort of funny to think about it. That was kind of the, the way newsletters were at that time. There was not the Substacks and all the blogs and everything that we have now. So it's probably easier now to get started in that business and a lot easier to get eyeballs, you know, through Twitter and the rest of it.
(Leandro): Yeah, definitely. It's just impressive that by sending physical copies you were able to make a living out of it. That's quite interesting.
Okay, so now, jumping to investment related topics directly. I think I have to start by asking you a question that might open up the rest of the conversation.
How would you define your investment style?
(Chris Mayer): Yeah, I mean, I think it's very close to what I wrote about in 100 baggers. That's basically the approach I take, which is to focus on the underlying compounding of the company's return on capital, their ability to reinvest, and continue to do that over a long period of time.
So I definitely focus on insider ownership, which is something else I talk about in the book. A lot of the companies I own are, are founder led, or at least they have significant skin in the game. And, good balance sheets and really taking that long view. Looking to hold onto businesses for a decade and allowing that kind of compounding to work.
So there's a lot of pieces and parts that go into that, but that's how I would basically characterize it.
(Leandro): And has this style been static or have you modified it throughout the years? For example, when you started your newsletter, was the style the same or have you made like some modification?
I feel that as investors, we are constantly evolving. So for example, Warren Buffet shifted from cigarbuts to some sort of quality investing. So I'm curious to know if your investment style has changed much or it has remained fairly stable?
(Chris Mayer): No, I'd say it's changed a lot. I've made that same migration.
So when I started I was much more the kind of traditional value investor with a heavy focus on multiples and buying things below book value and that kind of stuff and gradually over time, I started to migrate more toward the quality side. And so I think that's a pretty traditional path. I think a lot of people kind of go through that same path over time, and it really just driven by my experience and learning more about businesses, and studying more about businesses.
I mean, you start to really appreciate the power of just owning a really good business and sitting on the shares for a long time and what that can do versus, if you are so valuation focused, then you are forced to do a lot of trading. You're forced to come up with a lot of ideas and you're gonna make mistakes, and this just seems a harder path to go.
Now there's people, of course, who've been very successful with it, so I'm not denigrating that path in particular, but my migration has been much more toward that quality side, and so it's become a lot cleaner and simpler. I remember early on I used to do just about everything. I remember doing special situations and being involved with turnarounds and all kinds of things.
And now overall, this time my filter is really tightened up. It's a really much simpler, focused approach.
(Leandro): And, while you were doing those special situations or focusing more on valuation, did you have any painful experience that made you shift to more quality investing?
(Chris Mayer): Yeah, I know that one particular defining moment I would say was during the 2008 crisis, when there were lots and lots and lots of cheap stocks around everywhere. I mean, you could buy, I remember buying a stock that was profitable and it was market cap was below the net cash, but these were not very good businesses.
And what ended up happening is, you know, I would buy these cheap stocks and they may do very well, but then two years or so later, you end up selling them.
Then when you look back, you see that really, if you had bought some of the best businesses at that time, you would've done so much better and you you would still own those names. You could have bought, you know, Microsoft, I mean, and even MasterCard, Visa, the two that stand out to me in 2008. I don't know what they're up since, but it's a crazy number.
And so, I started looking back and thinking. Wow, you know, next time there's a crisis, I'm not gonna just go to the cheapest things. I'm just gonna buy the best businesses that I know. The ones that I've always admired and wanted to own, but perhaps never quite got cheap enough.
And, and then that migration started to happen then and it has just kept going. Just more and more and more, I would focus on quality. And then my understanding of quality has also evolved over time. I mean, It's become more refined and it's changed itself. So that was kind of the, that was what did it.
And so, you know, I got to put that in practice again in March of 2020, things were going nuts. And, what I did then was, I didn't just go and automatically buy the statistically cheapest stocks. I went and picked up two businesses that I've long admired. One being Copart ($CPRT), which I think we'll talk about later, and the other being Heico ($HEI).
And the nice thing about that is I still own both. And so, and I hope, I will own them both for a very long time. So that, that's kind of how that shift happened.
Just to throw one more thing in there, sorry. Writing the book 100 baggers also had a great impact on me. I did all that research in 2014 and the book came out in 2015. In 2014, I remember I met with Chuck Akre in Virginia, and after talking to him, this was when the pieces really started to come together. So it took a while for it to really sink in so that I would really focus on this, and the exclusion of other things and resist the siren call of the statistically cheap stocks.
But that was really those, those were the two episodes I think that really pushed me.
(Leandro): Yeah, I think what what's complex here is that people who look at statistically cheap stocks can find data to support their view and people who focus on quality can find data to support their view.
So, I think that at the end, What's important is to do your own research and find your own data, because if not, I think you could be misled into thinking that one thing works better than the other. And actually what you must do is find something that works for you.
(Chris Mayer): Just to add to that, I think what you pointed out there's really, really important, which is that you have to have an investment style that matches your temperament. Because if you try to do something that you really don't believe in, or that doesn't fit your temperament, it's not gonna work for you. The market's gonna test you, and as soon as what you're doing stops working, you'll abandon it at the exact wrong time. So that, that's a really important point, and I just enforce that.
(Leandro): Yeah. And you talked about, that you have refined your filter for high quality companies. I feel that it's something that is quite subjective. Well, like everything in investing, but quality...some people look at a company and would say it's a very high quality company, and other people would think that it's not a high quality company.
So if, if you had to choose three characteristics of a high quality company, what would they be and why?
(Chris Mayer): Well, I think that a high quality businesses starts with high returns on capital in some way. And you know, you have to use whatever metrics are appropriate for that particular business.
But the general numbers are, you know, return on capital employed and return on invested capital, something like that. And, that's number one. High quality businesses will have high returns and it makes intuitive sense when you think about it.
And second trait is the ability to continue to earn those returns over a long period of time. So it's not just that a business can have two or three really good years and then it suffers and then it goes and has a couple more good year. But a business that can consistently earn those returns over a long period of time. Those two things alone are really the key to the whole 100 bagger algorithm if you want to call it that.
And when I look at all those companies that return 100x or more over long period of time, they all had this ability. So those are two most important things I would say.
(Leandro): So I think what you're saying basically is a company that has a moat or a competitive advantage that allows it to compound capital at higher rates than its competition.
(Chris Mayer): Yeah. Because that's the kind of the components, right? Once I say those two things well, those are just kind of like outcomes. And then the more important thing is how do you identify them really? Because anybody can just look at the numbers, but that's not gonna necessarily do it because like you mentioned, to be able to do that, you have to have a very strong competitive moat.
You have to be able to fend off competition because obviously those high returns are gonna attract competitors. People are gonna try to replicate what you're doing, and if you can't defend that business against that, then that's not particularly good investment. So that's one.
When I talk about my investment process has been refined is because I put much, much more weight on qualitative factors than I did before. And that is really understanding management and the alignment, how well they're aligned with stockholders. Because you're gonna own a business over a decade and they're going to allocate a lot of capital and businesses generate cash.
They're gonna have to invest it, figure out what to do with it, and those decisions are crucial to long term returns. And you can have a business, a management team really fritter away returns by making poor decisions. So that is very key. More and more I've come to understand that investing is really about people.
(Leandro): Based on the competitive advantages, I had one question for you that I'm quite interested in seeing your reply. Now we live in an era that's dominated by technology, and there are a lot of companies that people think have strong competitive advantages, but these competitive advantages are based on technology.
So my feeling is that it takes something more than just technology to really build a durable competitive advantage, because I think that there are many companies that, thanks to technology, are able to scale really fast and basically it into your moat. So I'd like to know what's your feeling around technological moats, so to say. And if you look for something else on technology or you are actually comfortable holding a company whose moat is mostly technological?
(Chris Mayer): Yeah, I mean, I'm inclined to agree with you and it may reflect a bias of my own, but I prefer some other moat other than just purely a technology or I also don't particularly like moats that are just purely built around a brand.
I mean, I want to have some more tangible evidence or support for high returns. So, I love like network effects are very difficult to break or something that's built around a physical moat and you know, like Copart, which we're gonna talk about. And Old Dominion Freight Lines ($ODFL) is another one where, where they have an advantage over competition. Is partly in an actual physical network that they have built over a long period of time, and that is very, very difficult, if not impossible for a competitor to replicate at this point.
So those kind of competitive advantages are really the ones that I, that I love to look for, and those are ones that are, you know, very difficult to break versus if you're just relying on a technology, seems to me there's always a risk.
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(Leandro): Yep. And based on what you just commented on network effects. Yesterday I had a conversation on Twitter that I think that, according to Morningstar, network effects are the strongest competitive advantage, but I differ a bit in that.
I think a network effect is really, really strong when one of the sides has the bargaining power with respect to the other side. We'll talk about it later, but Copart is another example of that, or Visa or MasterCard where obviously they have like, they can do what they want because it's not the merchant who has the bargaining power.
I think I came to this conclusion based on, well you can see what's happened with TikTok or what's happening with other, for example, dating apps that are eating into Match's ($MTCH) territory. And I feel that when the both parts have like a similar bargaining power, then it's not as strong because someone could, could come, another platform could come and as long as they are able to convince one of the parts, then the other has very little switching costs.
(Chris Mayer): Yeah, I mean, I think what you're saying there basically is that not all network effects are are the same, and I would agree that that's true almost with all these moats, even with the moats based in some kind of physical advantage that, you know, even those moats, some moats are better than others.
So it's really hard to generalize about moats. And sometimes, you know, I'm, I'm always intrigued by situations whether it doesn't appear to be any moat and yet the company consistently earns returned on capital that way exceed the industry. And so, you know, that that could be evidence of some sort of hidden moat or some sort of moat that's not necessarily obvious.
And sometimes that can be a cultural advantage that's very difficult to replicate. I mentioned Old Dominion freight lines. That's the one that comes to mind because you look at it, it's LTL trucking. It's not necessarily seems like it's anything special, but they also have, there's some interesting cultural things there that make them different.
You know, they have the lowest turnover of any trucking firm in the industry, by quite a lot. And there's other aspects there that add to that. Or like Brown and Brown (BRO) is another one I own as an insurance broker. There's not any particular obvious moat when you look at the insurance brokers and compare them against each other, but, you know, Brown and Brown has the industry leading free cash flow conversion rate, and they've done very, very well over a long period of time.
So there's, you know, it's kind of like a signal that there may be something there that they're doing different to their competitors, that there is some kind of moat there that isn't necessarily obvious. So there's lots of different moats and lots of different ways to talk about them. And sometimes it's hard to generalize and really have to dig into the specific company and ecosystem and figure out, you know, why this business is able to do what it's done for so long.
(Leandro): Yeah, I think we can, we can agree that identifying a moat requires quite a bit of judgment on the investor side and it's somewhat, well, it's like all the quality factors of a company, it's somewhat subjective.
Maybe identifying the moat today is not as subjective, but understanding how it will evolve in the future, which is what's really important, is quite subjective because every investor would look at the industry dynamics differently or what moves the company is making today.
I think that's one of the reasons why most investors build diversified portfolios. I mean, we always have to acknowledge that we could be wrong in identifying moats.
So how do you go about, diversification versus concentration? Do you tend to diversify or are you a fairly concentrated investor?
(Chris Mayer): I am fairly concentrated. So right now I have 10 stocks. Running a concentrated portfolio like that impacts what kinds of businesses you invest in to begin with. So there's a whole bunch of things that are just off limits. So, you know, companies that have a lot of leverage or any company where there's a decent risk of a permanent impairment or capital loss of some kind has gotta be off the table and different portfolios can run, be run differently.
If you had 30 stocks, you might be able to take, you know, more of a flyer and have a package of say, I don't know, uranium stocks or something, but something that you would never make a 10 stock portfolio. It's kind of your portfolio structure has to match your psychology, but also has to mirror your match up with your approach.
So, yeah, I'm pretty concentrated. 10 stocks and I try to keep them in different businesses so that if I own, you know, I won't typically double up on anything. If I own Brown and Brown, I'm not gonna own another broker. Or if I own, you know, I own Copart, I'm not gonna own the competitor as well.
I usually make one choice and try to keep them, so that there are not, you know, I'm not intentionally doubling up on things. Somehow manage the exposure that way. Also, geo, you know, there's wide geography. I have things on stocks all over the world, and, um, so that's how I handle, that's, I think that's, that's evolved over time.
In the beginning I would've been terrified having a position of say 10%. I've been in this now for almost 30 years. You get more comfortable with what you own and how to get that comfort, and you gain more confidence in what you can do. And so, yeah, I think naturally you kind of gravitate towards picking fewer names, but raising that bar on what you own.
(Leandro): Yeah, and I think something that you just said is often overlooked by investors. If you have a fairly concentrated portfolio just based on the weights of the companies, that doesn't mean that the portfolio is not diversified. You can have 20 5% positions and be much more concentrated that someone that has 10 positions with 10% each because the businesses are different and are uncorrelated with each other.
And I think it goes down also to the company level. So if you own a company that only has one revenue stream, well obviously that's not a diversified company. I can have a significant stake in a company that has many business lines. I think we have talked a bit about, we have talked a bit about Atlas Copco, the Swedish industrial tool maker.
Like, if you look at their business, well, obviously you would say it's just industrial, but they cater like to a lot of industries and a lot of different use cases. So you're actually buying a diversified company. Even if you put a significant stake of your portfolio in it, it would be, I would consider it to be quite diversified.
(Chris Mayer): Yeah, I would agree with that. I mean, if you own Berkshire Hathaway, it's quite a bit different than owning a company that only has one business and does one thing or like, you know, we own Constellation Software is another name we have in common and that's, you know, where they have 500 plus businesses or something.
So, yeah, you can definitely kind of get the benefits of diversification even within one business, if they have multiple, multiple lines of business.
(Leandro): Now I want to jump to another topic that it's very relevant to our days, which is macro. I want to to know if you focus on the broader economy when making investment decisions or you just focus on the resilience of a company during a tough period.
(Chris Mayer): Yeah, I mean, I definitely focus on the resilience of the businesses. So, you know, an important part of my filter is having very strong balance sheets. Of the 10 companies I own, I think seven, seven of them have no net debt, and maybe a few others have very low levels of debt.
And the fact that I've done all this work on their, their business, their competitive position, and so they should prove to be durable companies and have proven to be durable companies in the past. I'm not one to sit around and try to predict what the economy's gonna do or what interest rates are gonna do or whatever.
I mean, part of the challenge here is if you're gonna be a long term investor and you really want those big multibaggers that we dream about, the 100 baggers, it requires you to sit still. It requires you to own a good business for a long period of time. And that means you're going to have to own it through recessions, through periods where the economy is weak and you're gonna have to own it through the periods where the stocks drawdown, you know, a third or more. So, that is the path I've chosen to take.
(Leandro): You talked about filtering companies based, for example, on financial strength. How do you source your investment ideas? Because I feel that there are like thousands, tens of thousands of publicly traded securities and a good portion might seem high quality at at first sight.
So is there something that you look at first and then from then on you do more research or you actually do in-depth research from the starting point. I typically used screeners but I feel that a screener gives you an image of like a point in time. I see it as a balance sheet, so to say.
Like you can include growth metrics, but maybe you're missing a lot of companies that are high quality and are maybe are going through a tough period and they won't appear on the screen.So how do you go about filtering.
(Chris Mayer): Yep. Well, I mean, I would say not necessarily systematic. I have been in the business for a long time, so I know there's a bunch of companies I like and then I kind of keep an eye on.
I would say one of the big filters for me that's easy is I always start with the proxy. Any kind of company that I'm gonna look at. And I have used screens in the past too, to get some new names, new ideas.
But the first stop for me is always the proxy that will tell you who the largest shareholders are. It will tell you the insider ownership. So that's a thing that's important for me in, in my fund that I talk about all the time, having skin in the game. And so that's something I'm definitely looking for.
So if a company doesn't, you know, when the management team owns 1% of the shares, I'm not gonna spend any time on it. So that's the first filter that knocks out a lot of stuff. And the second one that knocks out a lot of things is, is being very, very strict on the balance sheet.
So if they, you know, anything with leverage on it, I'm not going to spend much time on it either. And I understand, you know, people will say: "but what about X, Y, and Z companies that have been very successful and even though management has never owned a lot of shares, or even though they run with a leverage balance sheet", and, you know, that's fine.
I know that I'm going to miss a lot of things. But like you say, the investment universe is thousands and thousands of securities and you have to figure out a way to kind of filter it and manage it down to it, to something you can handle. And I have, you know, reasons for picking the kinds of things I've picked.
There's lots of research that shows how insider ownership leads to outperformance and, and then intuitively you understand that strong balance sheets will get you through the tough cycles. And if I'm not gonna be trading around recessions and hard periods, I wanna make sure that my businesses can get through that without having to raise money by issuing more shares at inopportune time or, or something like that.
So those are two, two of my biggest filters. And that, that knocks out a lot of stuff right away.
(Leandro): Yeah, I guess that if you hold 10 companies, you have to be very, very strict on your filters because if not you will end up diluting the quality of of the portfolio.
Yeah. Okay. So I think we have now covered most of the topics related to the company. Now it's time to jump to valuation. So how do you approach valuation? Do you use discounted cash flow models? Maybe an inverse discounted cash flow model? Do you use multiples?
(Chris Mayer): My valuations, I try to keep it very simple.
So what I typically will do, I look at what the return on capital is, what the reinvestment rate is, and then cast out free cash flow or earnings over the next 5 to 10 years, and then put some multiple on that and then discount back to whatever the IRR is. And I want to have at least 15% IRR out to five years.
I wanna basically double my money out to five. That's kind of how I think about it. And when I think about the returns and reinvestment. I'm trying to get something I think is probable, you know, it looks like I have high degree of confidence that they will be able to hit those numbers over the next five years.
And then you try to build in some cushion there so that if things slip a little, maybe you don't make your 15, but you know, you know you'll come out okay. So that's really how I think about it.
You know, there's challenges if you just focus on multiples, because multiples can be very kind of short term focus, so you can, pay, in retrospect, you can look back and see that for a really high quality business you can end up paying what seems a pretty high multiple in the beginning. And this isn't necessarily just hindsight, it's just looking at the math of it. I mean, I think it was Copart. I had done this, done this analysis before, and Copart was an idea that, I think it was 2012, numbers might be a little off, but the, the point was I went back and saw, well, what could you have paid for a Copart and still gotten a 15% compound annual return over the following decade and basically made four times your money and you could have paid as high as 67 times earnings.
And it was just, you know, embedded in the high return and being able to reinvest at that at a high rate for a decade got you that number. So it was trading at something like 22 or 25 times earnings at the time I did this. Um, so that's the, that's what I'm trying to get past. You wanna be able to not just dismiss something "Oh, it trades it 35 times earnings too expensive." Um, it really matters what kind of returns, what kind of capital is required and what the growth rate is.
(Leandro): Yeah. I feel also a downside of focusing on historical multiples, which I see some investors fall in this trap, is that when you are comparing a company with, even though it's the same company 10 years ago, probably the business model has changed quite a bit and the growth drivers have changed too.
I think a very good example of this is Adobe (Adobe), because if you compared Adobe to when it wasn't a subscription based model, well you're actually not taking into account that right now it's much more resilient than it was, when the multiple was at the same level.
I think another example is maybe ASML (ASML), because now they have a much stronger competitive advantage than in 2012, so it doesn't make much sense to compare it with then because obviously there's a premium in the multiple that is going to be caused by this stronger competitive position.
(Chris Mayer): Yeah, I mean that's exactly right. I mean, even you're looking at the same business, it may not make sense to look at historical multiples because the business has changed. And sometimes as businesses get, you know, a lot better. So people say, well, it's trading above where it's traded over the last 10 years. But then you look at profit margins and our return on equity and all those other things. And they've all improved too.
So, you know, the business gotten better either because of scale or some other advantages have accrued to it. So yeah, you definitely have to be mindful of those changes.
(Leandro): Based on what you just said, well, you probably focus on the reinvestment rate, so you prefer the company to invest that money into the business, but do dividends play any role in your investment decisions, or do you just focus on a company that can compound with their business and you don't want them to give you the money?
(Chris Mayer): Yeah, I mean, I would prefer to invest in companies that are able to reinvest, but I guess the dividends really are just kind of the residual. I mean, some businesses don't have, they don't have the reinvestment need, need for the capital, so you don't want them to, you know, reinvest just to dilute the quality of what they have or do some acquisition just to reinvest for the sake of it. So there are some businesses where the returns are high enough that even if you factor in the the payout from a dividend, they're still compounding their underlying capital at very high rate.
You know, just to take an extreme example, if you had a business that was generating a hundred percent returns on capital every year and paid out everything in a dividend, still, that's still gonna be an excellent investment.
So, I would say, you know, dividends are not something I go out and seek. It's just another factor into on the analysis to consider.
(Leandro): Yeah, investors also have to consider that the tax implications of receiving dividends, maybe in a single year that that's not important, but over a 10 to 15 year period, it actually makes quite a bit of difference if the company is actually reinvesting at a tax free rate, so to say. It's not tax free, but it's not double taxed.
(Chris Mayer): Right. Yeah, I mean, dividends can be quite a drag. I mean, Thomas Phelps, who wrote the first book, a hundred to one in the stock market, and he would say dividends are an expensive luxury , I mean, feels good to get the dividend. It's nice to, you know, hold the stock that you know you're getting 3% of your money or whatever it is, but if you're really looking to compound your capital at higher rates over a long period of time, the dividend is kind of a leak in your boat and it definitely will slow. It will slow the compounding.
Now, again, it depends on the other factors we just talked about. You might be able to get dividends and still compound your capital at a very high rate because the underlying returns of that capital are so high. It can suffer some dilution. But, as a general statement, you know, you're going to compound faster if they reinvest all the money at good returns.
(Leandro): Yep. Okay, so now I'm, I'm gonna switch now to more of a company specific discussion. In many of your blogs and well also in this podcast, you have been transparent about owning Copart. I own it too.
What would you say is the trait that you like the most about the company? I mean, there's a lot to like, to be honest, right? But if you could focus on, on just one thing that says this company is better than other options you have to invest in.
(Chris Mayer): Yeah. I mean, I like to talk about Copart too because it checks so many of the boxes that we've been talking about and have so many different things that I like.
So if you were to, you know, force me down to say one thing I would probably go toward what seems like an impregnable moat. They're in an industry where they really have only one competitor, one other really significant competitor, IAA, Insurance Auto Auctions, and the two of them are basically a duopoly in this industry.
So, you know, when you're talking about owning a stock for a very long period of time, and it's nice that you really only have to focus on what's basically a two man race. You know, it's not like there's dozens of competitors to worry about. So that's probably the thing I like the most.
Although, as you mentioned, there are definitely other things I like quite a bit.
(Leandro): Yeah, I think there's a duopoly because the competitive advantage is quite difficult to replicate. I think this is the case that we talked before. It's obviously, it has technology mode in the network effect. Copart has the online auction since, I don't know, since 2004, maybe, something like that. I can't remember exactly the date, but, and that's obviously the technological moat, but then you cannot have that technological moat or that network effect if you don't own like a whole bunch of land. So even if someone wants to come and replicate it, if they don't have the inventory, they basically can't do it.
So I think that's the, the best thing about Copart is that you have the two sides of the coin. A physical and a digital.
(Chris Mayer): Yeah. Yeah, I like that too. Definitely hard to replicate. I mean, remember early on in my research, I asked someone, an industry veteran for a long time, who actually worked for IAA, and this was the first industry person I had talked to was early in my research on Copart, and I asked him, Well, you know, How hard is it to compete with Copart?
He said you'd be crazy to want to compete with Copart. Um, and really, you know, both of them, it's just difficult because you just need, you need to assemble the physical yards that they have over, you know, the entire country in places where it's really difficult to acquire land. So that's, that's really where that moat comes from physically.
But also, as you mentioned, the online part is like gravy on top because they basically run an online marketplace and they have more buyers and sellers on that marketplace than anyone else. And so it's a self-reinforcing, beautiful thing.
(Leandro): Yeah, and I think you can definitely add also a regulatory moat, things like zoning. Copart maybe has a land since the 1990s and there has been like zoning, and then that's the only land where a salvage jar can go in. So basically if you want to compete with Copart, you have to buy the land from them, which I think that's not gonna be easy.
(Chris Mayer): That's right. Yep. I definitely agree with that.
(Leandro): Okay, so jumping now into the risks for Copart. I think the most significant risk and the more well known risk is the arrival of autonomous driving. I understand the rationale behind this. It's quite simple. Like, if there are autonomous cars, then there'll be less accidents and then less cars will be totaled so Copart will have less inventory.
But my feeling is that autonomous driving is very far away because it's not only getting the technology right, which is still not there, like you have to replace the whole fleet. And that's just, maybe it arrives in the US in a decade or a couple of decades, but then you've got Copart sourcing from other countries where it may take three or four decades to get there.
So what are your thoughts on this risk and, and how long do you think it will take to materialize?
(Chris Mayer): Uh, yeah, I mean, I'm a similar mind on that. I think, I don't know what the number will be, you know, what percentage of the cars out there the people are using, have to be autonomous before, you know, accident rates start to really decline.
But, and one of the interesting things about Copart that's worth mentioning is that there are so many moving pieces, so it's not just accident rates, but it's also the percent of those accidents, how many cars are actually totaled and so that has been on the rise because of technology. Cars, as you know, you can have a car nowadays get totaled just in a relatively minor accident because all the airbags go off and there's 40 sensors in the bumper that make it too expensive to repair.
And those things wind up in Copart lots and then they wind up, you know, a third of those cars wind up overseas and some of them are repaired by individuals or, you know, some cars are just dismantled for parts and others are just completely shredded. So, there's a lot of different factors involved.
So I think, uh, the autonomous driving is probably, it is a risk for a very, very, for a very long term, you know, looking way out. Um, but at least over the next decade, I don't see how that becomes a threat, even if there's, again, I don't know what the number is, Say we'll say 10% of the cars somehow are autonomous. There's still a lot of human drivers out there. There's still a lot of accident potential, and the technology in the cars isn't going away. It's increasing. The complexity of those cars is increasing. So there's, I still think there'll be a large percentage will wind up being totaled.
(Leandro): Yeah, I think it's a rather interesting one, a rather interesting risk because depends on how you look at it.
It actually can be considered at tailwind. So the risk and the tailwind are both technology, but yeah, for the risk to materialize, technology has to get to a point where it's so advanced and must substitute all the existing cars, but in the meantime, technology is going to be a clear tailwind because it's not just the sensors that you have on the bumper.
I read the other day in an expert call that if you have to recalibrate all the sensors and the cameras, then not only the parts are more expensive, but also their repair is more expensive because you have to have a person maybe three hours instead of 30 minutes replacing them.
(Chris Mayer): Right, Right. And you know, it's not just that too, but another factor is the volume. So, you know, there's just, there's gonna be a lot more cars on the road 10 years in the future than there are now. You know, that's another factor, not just, so we're not, we're talking about percentages, we're talking about volume, and there's a lot of factors.
And then the other thing to throw in, of course, is that Copart increasingly has a significant international business. And so, you know, maybe you see autonomous cars start to make inroads in the US and maybe parts of Western Europe, but it, you know, Copart is expanding all over the place. So that creates a lot of additional business over time.
(Leandro): Yeah, and I think it's impressive that Copart was able to arrive to Germany and actually change their regulatory landscape because the business model is so good that they say, "Yeah, we have to go for this route and we cannot stay like we were. We cannot remain in our status quo." And to be able to do that with insurers, which are actually companies that are reluctant to change in most cases, I think it's quite impressive.
(Chris Mayer): Yeah, it is. And then, you know, the models have been a little different, like in, like you were mentioning, they had to change it in Germany and Spain I think is the same way where for a while they still operate as both an agent and on principal basis, meaning in some cases they are buying and selling the cars for their own account.
And that's why the margins are a little bit lower overseas, partly because of that, partly because it quite doesn't, doesn't quite have the scale and volume as in the US business. But over time and the Copart model is so powerful and beneficial that I think it will start to look more and more like the US.
(Leandro): Yeah, I, I think this is another example of what we talked about before, that looking at multiples can be misleading. I uploaded an article on Seeking Alpha and some people were telling me, "Oh, but you are paying like 20 plus times earnings for this." And I'm like, well, obviously you have to understand all the inflation pressures that Copart seeing now because they are towing. They have like a fixed price, so to say, for insurers, but they are towing the cars for them. So that's obviously a drag to margins.
And also if you take into account the international business, if that in the future looks similar to what you see in the US. They're going to act more as an intermediary that as the owner of the car. Then you also have to take that into account on the multiple you're paying because it's not just growth that you have to take into account there, but also significant margin expansion.
(Chris Mayer): Right? Yeah. And then you're doing it with a company that has no debt.
(Leandro): Well, a company that even retired the debt before the interest rates started to increase.
(Chris Mayer): Yeah. Yeah. And you know, you're getting a team that's proven to be pretty good capital allocators.
I mean, they've done these select buybacks at good times. So you got that. There's a lot of things here to like that would, you know, deserve that premium over the market.
(Leandro): Yep. So now looking at competition, we said that IAA is Copart's main competitor. So, why do you think IAA will not be able replicate Copart in the future? I recently read IAA's most recent earnings call and I was actually very surprised to see how management quoted volume growth net of a customer loss.
That was for me very strange because actually if you're losing that customer, which many people say is Geico that gave more volume to Copart, and I was like, I thought of that as a red flag because I don't want a management team telling me "look, we lost 5% in volume, but if you don't take into account the business that we lost, then we actually grew." Well, that's not a fair representation.
(Chris Mayer): Yeah. That seems like a red flag. I would agree. That's very strange . But, um, you know, it's interesting the Copart IAA comparison because it's a really interesting example of two companies that took different paths. So, for example, one of the ways they were different was, as you know, IAA, did not buy the land or purchase land as a normal course of their business.
Mostly they leased the land and Copart was out actually buying land and they, they spent quite a bit buying land, owning their facilities. And, you know, over time this has become a tremendous structural advantage for Copart. Because when leases expire, IAA either has to find a new location or they're paying higher rents. Copart is more in control of their own destiny on that.
So that's one thing that, that makes it very tough for IAA to replicate what Copart has built. And then, I mean, all the things I have read and seen, Copart has been taking market share. And part of that is performance during catastrophes. So, you know, we have a hurricane as we speak, bearing down on Florida, and you're gonna have a lot of cars that are gonna be totaled because of flooding.
And, Copart has historically responded very well during catastrophes. They have a fleet of 200 plus of their own trucks, tow trucks, which is important. Getting these things to the Copart's lots. And when you have storms like this suddenly becomes very, very expensive. Your towing costs go way up, obviously, because there's great demand against the towing industry. And so they've, you know, they've thought that through, they have this fleet of trucks that they move into the areas where there's a catastrophe.
So, that, that is a another thing where it's gonna be difficult for IAA to match.
So, I think they have these long term structural advantages that are difficult to overcome. I think also a lot of stuff I've read, at least for the everyday people, customers who are using IAA and Copart, there may not be that much difference from the service looking at it. You know, one does this and they both kind of offer the same similar thing, but it's more higher level.
And the insurance companies seem to enjoy better returns on Copart's network. There's just a lot more buyers, a lot more sellers, and so those are the things I think, which push some of the insurers to go to Copart, like Geico was the latest, which moved their business. And I think from what I gather, a good part of that is performance and catastrophes.
But I always think, I do think there'll always be IAA. I don't think the insurance industry wants to just put all their eggs in one basket. So I think there'll always be some volume that will go to IAA just to kind of, you know, keep Copart honest, so to speak.
(Leandro): Yeah. Yeah. And, there's a YouTube video. I think it, it is quite short, but you see how, Copart reacts to an emergency, like you said, to a catastrophe. And it's actually impressive that they set an office where the catastrophe has happened and they actually go there.
And obviously it's like with prefabs or whatever, but they go there with three or four buses and they actually don't make, the margins are much lower, but it's just pure customer service so that they insurer knows that you're there for them and then you can rely more on them in the future.
I also think the international, like Copart went online a lot earlier than IAA. So IAA was much more local. Right. And Copart has had an international buyer base, so the international buyer base, obviously if you have more eyes in a car then the returns are going to be better, so I think that's also a good advantage, but I think I agree with you that probably the best advantage is the land. I feel that maybe in 30 years if the cities continue to grow, and Copart's land is more in the city, it'll be sort of like a McDonald's where Copart would would say, "No, we are a real estate company, not an auction company."
(Chris Mayer): Yeah, yeah. I think that could definitely happen. But you mentioned another interesting point too. You know, I, I talked about the difference between the buying the land and leasing it. And you mentioned Copart was first to do the online bidding. So this was another difference.
IAA stuck to live auction where they actually have a person doing it for a much longer time. Now, of course they've converted most, I think all pretty much going online. But that was another thing where Copart was more forward thinking, I guess, on that and, or at least they picked the model that ultimately won.
And, you know, they've been doing that longer. And that's another interesting difference between them.
(Leandro): Yeah, and IAA like converted the model to full digital just because the pandemic happened. Like they actually had a percentage, but they, it was like two years ago.
(Chris Mayer): Yeah, I remember. It wasn't that long ago. They were still running, you know, a lot of live auction, so, Yeah.
(Leandro): Okay. Chris, so I don't have any more questions. I don't know if you want to talk about anything else.
(Chris Mayer): No, I think we've got it. We've covered a good bit. Some good discussion. Lot of good question.
(Leandro): It was a great conversation and thank you very much for being here. And hope we can do another conversation in the future.
(Chris Mayer): Yep. And I hope your subscribers, your listeners get, get something outta this conversation and, yeah, again, good, good questions and good conversation and thanks for faring me on.
(Leandro): Thank you, Chris.
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