October 1, 2019
Dear Partner,
The third quarter of 2019 has continued the rebound we saw in the second quarter, with our holdings gaining on aggregate. As the market has chopped up and down, our portfolio has gained ground, albeit slowly, and hasn’t participated in the larger downswings.
In the last letter, I referenced capital flows going into passive index funds. Our portfolio largely avoids companies that are traded in the larger index funds, and it worked to our benefit in the third quarter. Dr. Michael Burry, head of Scion Capital and one of the subjects of Michael Lewis’s The Big Short (and was played by Christian Bale in the movie from Adam McKay), recently gave an interview describing the risks of investing in index funds and explained the rationale beautifully. Whether the market is going through a major correction or a smaller one remains to be seen, but we will continue to seek overlooked companies that have potential to maintain their competitive advantages over time. It will pay off. Other investors have begun to rediscover some of the businesses we’re invested in.
We are still looking to add excellent businesses to our investments. This past quarter has not lent itself to the kind of investing we like to do.
Figuring out why can be tricky, of course. We mentioned the fund flows issue above and in the last letter, and that is part of it. Among the larger forces to reckon with has been the increase in global demand for US Dollars. There are many reasons why that’s happening (the Dollar is the world’s reserve currency and governments across the world have been borrowing heavily, international banking regulations are creating a need for more Dollars in reserve at banks, interest rate trends at home and in other parts of the world, and others), but the impact is to raise short-term market interest rates, even while the Fed is lowering rates. The Dollars in circulation are getting pulled in a lot of directions. We can’t know what other investors are thinking, but it stands to reason that concern about access to capital would lead investors to move out of growth companies that need a steady flow of investment to fuel their growth and into companies that are already generating cash flow themselves.
One place where that might be playing out is with initial public offerings. Some of the great “unicorns” of the past decade have gone public in the past year, most of them to a poor reception. All the companies listed below received fanfare for good reason. I should add that this is not necessarily representative of all IPOs, but these companies are widely known, and their IPOs are among the biggest in the past year. (Note: Sam Simaan and Simaan Investment Management do not have any interest, long or short, in any of the companies listed below. H/T Zacks for use of the charts.)
Lyft Inc. (Ticker: LYFT) – Ridesharing company opened at $72.00 per share on March 1, 2019. Its initial market cap was $2.34B.
Lyft is currently trading around $39.15, having reported losses over $4B since 2016. The stock price has declined 45.6% since its IPO.
Uber Technologies, Inc. (Ticker: UBER) – The larger, older and more prominent ridesharing company opened at $45.00 per share on May 9, 2019. Its initial market cap was $8.1B.
UBER is currently trading around $28.97, having reported losses of over $9.6B since 2016. The stock price has declined 35.6% since its IPO.
Chewy Inc. (Ticker: CHWY) – The online pet products merchant opened at $22.00 on June 13, 2019. Its initial market cap was $1.02B.
After an initial pop to over $35, the stock price has declined and is currently trading at roughly $23.28 per share. This is a gain of 5.8% from the IPO price but a decline of 33.9% from its opening trade. Chewy is reporting losses of $825M since 2016.
Slack Technologies (Ticker: WORK) – The workplace communications company opened at $26.00 through a Direct Public Offering on June 19, 2019. Slack’s initial market cap was $3.08B.
Similar to Chewy, Slack actually debuted above its initial price, near $37. Slack has reported $484M in losses since 2016, declining 12.4% from the IPO pricing.
Beyond Meat Inc. (Ticker: BYND) – The plant-based meat substitute developer opened at $25 per share on May 1, 2019. Its initial market cap was $240.6M.
Beyond is currently trading around $145.73. I wanted to include it in this discussion because it has been the great exception to the rule. It has been a remarkable success since its debut, rising 482.9%, despite of losses of $101.5M since 2016. It is telling that its initial valuation was only $241M instead of over $1B, though. It’s currently a much smaller operation with smaller losses and smaller capital needs than many of its peers.
The We Company (Ticker: WE) (“TWC”) is the most interesting IPO case. This is the parent company of WeWork, Inc., which is the owner and manager of a portfolio of coworking office spaces. TWC, which had lost $3.8B since 2016, was initially valued at $47B in its August IPO paperwork, but investors started to question the valuation, corporate structure, and CEO, Adam Neumann. With the market reaction, TWC considered lowering its initial pricing to equate to $15B - $20B, and when that didn’t work, lowered it again to $10B - $12B. Finally, Neumann was forced out of his position and the company decided to shelve its public offering. TWC became the model case of unrealistic growth expectations meeting heavy losses. Investors from previous rounds of capital raising lost billions and will still have to deal with the fallout of this mismanagement.
A shift away from capital-needy companies would make a lot more sense in a world where cash isn’t always readily available. Maybe that is what is happening.
Sam Simaan, CFA®