322: Find the Worst Businesses, Roper & Thoma Bravo, David Senra, Passion Projects, Exporting Solid Electricity, Vista, EVs Minus Cobalt, and Flying Wings

"Sorry, got carried away for a moment there…"

Via Negativa:

We have a better understanding of what is not than of what is, e.g. we don't know if studying will make us an expert, but we do know not studying won't.

Therefore, when in doubt, base decisions on avoiding what you should not do instead of doing what you should.

—Bhogal Gurwinder

☎️ 🌏 How is the concept of a “long-distance call” even still legal in today’s world?

You can download a 50 gigabytes game from a server on the other side of the world at no extra marginal cost on your ISP bill, but some people still get charged for calling their grandkids? (because it’s mostly old people, let’s be honest… but companies also get charged extra for long-distance plans, what a scam)

I’m surprised no politician has made it part of their platform. Telecoms are a very regulated thing. Regulation should follow the times…

🚨 🎧 🥳 I’m super-psyched that friend-of-the-show David Senra (📚🎙) made it to the big time with his ILTB debut and joining the Colossus family:

• 🎧 David Senra - Passion & Pain

I stayed up late last night to listen to the full episode, and it was *great*. David was on fire, giving Patrick a kind of ‘greatest hits’ all in one place, with a superb window into what he’s all about.

I’m really happy that lots of new people will discover his work through this, I’m sure it’ll enrich their lives.

And of course, I can’t not plug the podcast we did together (I thought it was a great convo):

• 🎧 David Senra of Founders Podcast (Podcast #11)

👯‍♀️ 🍻 Peter Attia has a good piece about friendship, and prioritizing “real” friends over “deal” friends (transactional relationships).

According to a May 2021 survey, Americans report having fewer close friendships than they did 30 years ago. When we consider how much of our time is accounted for by our career, family, health (e.g., exercise), and romantic partner, it’s not shocking that friendship might find itself on the back burner. But according to a recent conversation I had with author and social scientist Arthur Brooks, friendship is one of the key factors in finding and maintaining happiness as we age. [...]

The lowest level of Aristotle’s proposed friendship hierarchy is utilitarian friendships: the relationships that have the least emotional connection and primarily serve the purpose of helping us achieve our goals. This type of friendship may bring some temporary enjoyment from spending time together, but it doesn’t tend to bring lasting joy to your life.

In contrast, at the highest rung of the Aristotelian hierarchy is “perfect friendship,” defined only by mutually valuing the other’s existence.

I feel like the pandemic has been bad for friendships, putting people out of their rhythms and changing things for long enough that inertia is now working against us. The ‘activation energy’ required to just randomly go do something with friends has been collectively increased, and that’s not good.

Who are your real friends, and when was the last time you assessed if your relationships were strengthening or weakening (living things are very rarely in statis).

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Business & Investing

🧐 Screening for the very worst businesses 🤮📉🚽

Invert, always invert, and all that…

If you had to take a systematic approach — like by using Koyfin’s new equity screener tool — and find the worst businesses out there, how would you do it?

I don’t short, so I don’t have much experience looking for bad businesses on purpose (sometimes I find them by accident, but that’s another tale…).

What about screening by things like:

• Negative margins (gross if possible! but operating, EBITDA, net, FCF)

• Negative ROIC

• Higher debt load ratio

• Lots and lots of share issuance

• Shrinking revenue

• In a bad industry (screen for commodity industries, or industries with competitive dynamics that are known to be difficult for all players, or where boom/bust cycles make highly leveraged players blow up periodically..?)

What else? 🤔

Roper buys education software biz from Thoma Bravo for $3.375bn 👩‍🏫🎓

Thoma Bravo just sold a biz to Roper, allowing them to deploy a nice chunk of change (they had a lot available from their recent divestitures):

Frontline’s cloud-based software provides a connected platform of administrative solutions that are purpose-built for K-12 education, including human capital management, business operations management, student management, and analytics. More than 10,000 educational organizations, representing millions of educators, administrators, and support personnel, utilize Frontline’s tools to automate their operations and gain insights that enable improved efficiency and productivity. [...]

the net [all-cash] purchase price is approximately $3.375 billion [with tax benefits], representing approximately 19 times Frontline’s estimated 2023 EBITDA.

Frontline is expected to contribute approximately $370 million of revenue and $175 million of EBITDA in 2023.

Roper expects Frontline’s annual unlevered free cash flow to be approximately 100% of EBITDA

At first you may think, “10x sales, that seems expensive”, but unlike a lot of other businesses that are valued at a multiples of sales, this one has almost 50% EBITDA margins and converts about 100% of that to free cash flow, thanks in part to long-term tax assets. So that’s more like 19x FCF, which may be a pretty decent price if the business is as high-quality as it appears.

The presentation says it’s 90%+ recurring and growing at high-single digits (which is pretty good for Roper, they tend to have a lot of mid-single digit growers). It also has impressive negative net working capital of -40%, gross retention in the mid 90s and net retention of 107-108%.

Importantly, Frontline has built a very capable Bolt-On Acquisition capability, a capability we expect to invest behind going forward.

On the call, they mentioned that Frontline has done 6 acquisitions during the Thoma Bravo ownership.

(I think my numbers were wrong here, gotta double-check) One way to look at it is that they divested 51% of their industrial businesses (which tend to be more cyclical and have lower margins) for approximately a 20x EBITDA multiple , and bought this with the money. So as a swap, it seems like a pretty good trade, though of course things aren’t that clean (there’s tax drag…). ROP 0.00%↑

The world is a museum of passion projects 🧠 🌏

John Collison (co-founder of Stripe) has a good tweet:

As you become an adult, you realize that things around you weren't just always there; people made them happen. 

But only recently have I started to internalize how much tenacity *everything* requires. That hotel, that park, that railway. 

The world is a museum of passion projects.

Children of the Mind: How hard it is to bring things into the world…

Friend-of-the-show and supporter (💚 🥃) Jim O’Shaughnessy also puts it very well:

Anything we don't find in nature came directly out of the minds of men and women. 

One of the reasons I am a pragmatic optimist is because of the endless human ingenuity that created almost everything we use on a daily basis.

Have you ever just looked at a smartphone and and marveled at the ingenuity and collective human intelligence that created it? We humans are an adaptable lot, but occasionally look and wonder how you could ever explain a smartphone to someone from 1900. Yes, there are problems and always will be--but given how far we have come so relatively quickly, I believe that the directional arrow of human progress points upward. 

Here's a quote from Robert Pirsig's "Zen and the Art of Motorcycle Maintenance" that nicely makes a similar point:

"Steel has no more shape than this old pile of dirt on the engine here. These shapes are all out of someone’s mind. That’s important to see. The steel? Hell, even the steel is out of someone’s mind. There’s no steel in nature. Anyone from the Bronze Age could have told you that. All nature has is a potential for steel. There’s nothing else there. But what’s “potential”? That’s also in someone’s mind!"

This is a pretty good encapsulation of one of the big themes that runs through this newsletter:

STOP AND LOOK! THINK ABOUT THINGS! WHO MADE IT, HOW, WHY? WHAT NEW THINGS CAN WE MAKE TO SOLVE OUR PROBLEMS? IF NOT US, WHO?

Sorry, got carried away for a moment there… 🫢

⚡️ Exporting ‘Solid Electricity’ 🏭

Because of soaring energy prices in Europe, all kinds of businesses have been shutting down. Fertilizer and chemical plants, which depend on natural gas, but also smelters:

Known by industry insiders as “solid electricity”, one tonne of aluminium takes about 14,000 kilowatt hours to produce, enough to supply electricity to the average UK home for almost five years.

But these things aren’t like a peaker power plant that you can turn off and then turn back on when prices make more sense:

Rebooting a smelter is an expensive and timely process, particularly in the case of aluminium, meaning some production halts are almost certain to be permanent.

“The situation is dire,” said Adina Georgescu, energy and climate change director at Eurometaux. “The rule of thumb is once you close down a smelter, you have little chance of bringing it back online.”

😬

There are also all kinds of other second-order effects to this:

industry figures say the closures would also knock global efforts to slash CO₂ emissions because European smelters generate three times less than those in China, where coal is often used to generate electricity, and investment plans in “green” production have been paused.

Back to the concept of “solid electricity”, friend-of-the-show and Extra-Deluxe supporter (💚💚💚💚 🥃) Byrne Hobart brings the analogy to data-centers too:

So aluminum smelting is one way to take a mostly-local product and put it on a global market. Data centers do this, too; it’s useful to locate them close to where the customers are, but within that limitation it’s even more useful to locate them where the cheap and stable electricity is; a data center is basically a way to export a hydroelectric dam’s output throughout us-1-east.

It’s a good lens to keep in the toolkit. If you look more broadly, almost all industries work on a similar dynamic with their various feedstocks (energy, chemicals, raw materials, labor pools).

Podcast: Robert F. Smith, Vista 💾 (Podcast)

After interviewing someone from Thoma Bravo, the next logical step for Patrick (☘️) was to talk to someone from Vista:

• 🎧 Robert F. Smith - Investing in Enterprise Software

I liked the part about technical debt.

It’s a very important thing that I don’t hear that much about from investors, but that technical people know can turn into the Evil Dead scenario if you don’t deal with it in time… 👹

🔋🔋 EV Battery Bottlenecks, Cobalt Edition 🔌🚗

For years, everybody was talking about how cobalt was going to be a huge problem for EV production, with years of shortages… but the price of the commodity fell 40% from around $80k/metric ton last Spring. What happened?

Much of this has been supply-driven. Glencore ramped up output at its Mutanda mine in the Democratic Republic of Congo in the first half, leading to a 40% increase in its cobalt production compared to same period last year. Glencore accounted for about 19% of annual cobalt production in 2021. With Mutanda fully back online, Glencore’s market share could rise to around 26% this year [...]

Increased supply, that’s simple… But less understood are changes made on the demand side.

When a material becomes very expensive and/or hard to get, that creates huge incentives to discover new alternatives, or put into production old alternatives that didn’t make as much sense before.

That’s what happened with lithium-iron phosphate (LFP) batteries, which are cobalt-free.

Back in 2018, lithium-ion battery chemistries with cobalt in the cathode had a very dominant position in the market, accounting for 86% of all batteries that went into vehicles that year. By 2020, that had fallen to 83%. This year, BloombergNEF is expecting it to fall much further to 60%. [...]

This has mostly been a China phenomenon, as domestic champions BYD and CATL have long been pioneers in the technology. Tesla also uses LFP batteries for the standard range Model 3 and Model Y vehicles it produces in China, which are exported globally. Almost half of all of the vehicles Tesla produced in the first quarter used LFP. [...]

Volkswagen announced in March that its entry-level models would include LFP batteries starting next year, while Ford revealed last month it will add an LFP option for the Mustang Mach-E and F-150 Lightning in 2023 and 2024, respectively. Both these automakers likely see LFP batteries as a way to keep costs under control and diversify supply. Hyundai is also reportedly working on integrating LFP batteries. (Source)

Human ingenuity tends to find a way! What we must do is foster it. 👩‍🔬🧠💭

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Science & Technology

What Happened To Flying Wings?

Jack Northrop’s 1940s trans-continental flying-wing bomber is just… 🤯

And that last part of the video, when an 80-year-old Northrop gets security clearance in 1980 to see the still secret B2 stealth bomber just before passing away — what a powerful moment that must’ve been almost 40 years later!

🤬 😤Get more sleep, be a more decent human being 🛏 💤 🧘🏻‍♀️

At this point, it probably sounds redundant to talk about the importance of sleep (if you haven’t heard it, my fave primer on the topic is a 3-part interview that Peter Attia did with Matt Walker, I found it better than Walker’s book), but because the most important things in life are simple — just hard to keep in mind and execute over the long term — I think it’s worth the nudge.

Here’s a couple of studies about how lack of sleep can turn you into a jerk:

Sleep loss leads to the withdrawal of human helping across individuals, groups, and large-scale societies

Across 3 replicating studies, here, we demonstrate that sleep loss represents one previously unrecognized factor dictating whether humans choose to help each other, observed at 3 different scales (within individuals, across individuals, and across societies).

First, at an individual level, 1 night of sleep loss triggers the withdrawal of help from one individual to another. Moreover, fMRI findings revealed that the withdrawal of human helping is associated with deactivation of key nodes within the social cognition brain network that facilitates prosociality.

Second, at a group level, ecological night-to-night reductions in sleep across several nights predict corresponding next-day reductions in the choice to help others during day-to-day interactions.

Third, at a large-scale national level, we demonstrate that 1 h of lost sleep opportunity, inflicted by the transition to Daylight Saving Time, reduces real-world altruistic helping through the act of donation giving, established through the analysis of over 3 million charitable donations.

Therefore, inadequate sleep represents a significant influential force determining whether humans choose to help one another, observable across micro- and macroscopic levels of civilized interaction. The implications of this effect may be non-trivial when considering the essentiality of human helping in the maintenance of cooperative, civil society, combined with the reported decline in sufficient sleep in many first-world nations.

Here’s the study.

Here’s out about the workplace:

“You wouldn’t like me when I’m sleepy”: Leaders’ sleep, daily abusive supervision, and work unit engagement.

We argue that poor nightly sleep influences leaders to enact daily abusive behaviors via ego depletion, and these abusive behaviors ultimately result in decreased daily subordinate unit work engagement. We test this model through an experience sampling study spread over 10 workdays with data from both supervisors and their subordinates. Our study supports the role of the indirect effects of sleep quality (but not of sleep quantity) via leader ego depletion and daily abusive supervisor behavior on daily subordinate unit work engagement.

Study.

h/t Ethan Mollick

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The Arts & History

📺 A kind of Moore’s Law for TV & Films Content (Production/Distribution) 🎥 🎬 🎞

Moore’s Law has accustomed us to technology getting better and cheaper over time.

Computers and phones rapidly become obsolete after only a few years. New models have *way* more computing power, storage, way better cameras, screens, more memory and storage, etc.

But what about a similar kind of curve for TV and films? After all, there’s plenty of technology involved in making, distributing, and viewing these things, so how are we benefiting?

The way I’m seeing it, there’s a good chunk that *isn’t* riding the tech curve, even if things can improve over time. Acting and writing and such.

In the same way that guitarists are becoming more technically proficient over the decades because they can learn from what came before, actors and writers also benefit from what came before them, and post-Pulp Fiction dialogue or post-Matrix special effects take advantage of these innovations…

But that’s not what I want to talk about here.

There’s another big chunk that directly benefits from technology, and I think we tend to undervalue it when we discuss what we’re getting for our money.

Maybe content costs aren’t going down for consumers over time despite the streaming revolution because we’re just ending up subscribing to more and more services until we reach about what we used to pay for our cable bill, but are we really getting the same thing for that price vs what we used to get?

I’m not so sure…

• Instant ‘on-demand video’ for thousands of titles is amazing and would be worth a lot to someone a few decades ago.

• Commercial-free is also a huge improvement over paying for your cable bill and still having ads almost everywhere (I know there are still ads today and AVOD is rising, but the ad load on streaming as a whole is much lower than before).

• Crystal-clear image in 1080p or 4K, with high dynamic range (HDR) and other niceties. This stuff used to blow our minds, we’d go to stores just to see the demos of home theaters and HD images… now we’re so used to it we don’t even appreciate it anymore, but it’s definitely worth something.

• Sound quality is also another big change. It used to be notable to have anything more than stereo, but now pretty much everything is multi-channel and increasingly in the ATMOS standard, which does fancy computational audio stuff.

• Even the ability to have multiple languages and subtitles with almost everything is hugely valuable. You used to have that with content on discs (DVD, Blueray), but not most of the stuff on TV.

• And the content itself also benefits. Special effects are getting better and costing less than before, color-matching, tools for audio, for making original music and mixing it, all that is getting better and more affordable, allowing even lower budget films and TV shows to do top quality jobs (if they have talented people, of course). The film ‘Everything, Everywhere, All at Once’ has great special effects, and the handful of people who worked on them mostly taught themselves on Youtube…

We may be paying about the same or a bit more (adjusted for inflation) on a monthly basis, but I think we’re also getting a lot more.

It’s just that we get used to improvements so quickly that we rapidly take them for granted and don’t appreciate them anymore. ¯\_(ツ)_/¯

But imagine having to go back to a TV setup from 1995 and you’ll see how far we’ve come. 😬