RICHTWERT Co-Investor Letter 2023/2024

It's hard to grasp how the best-performing stock of the last 20 years could spend the majority of that time with returns that would make you want to vomit.” - Morgan Housel

PERFORMANCE

Dear Partners & Co-Investors,

In this partner letter I will cover the following:

• Business Performance vs. Portfolio (Stock) Performance

• My Thoughts On Achieving Above Average Returns

• How We Are Invested

• Why I Believe Our Investments Are Strongly Undervalued

• What We May Expect

Business Performance vs. Portfolio (Stock) Performance

The stock prices of our portfolio companies recovered by 32%, 27% and 21% in USD, EUR, CHF respectively in 2023. This happened predominantly between Jan - April while stock price gains and losses offset each other during the rest of the year.

Our portfolio companies increased their business value by roughly 14% in USD last year. This is a conservative estimate because portfolio companies such as Blackstone, Brookfield and Tesla (nearly 30% of our portfolio) made significant advances in expanding their addressable markets and widening their lead, yet these advances did not show up in 2023 reported business metrics. I stuck to reported business metrics because it is too early to measure the additional value their progress created. This does not change the fact that choosing to be cautious understates their actual growth in value. 

The main positive contributors to that growth were Alphabet, Grenke, Meta, Microsoft, Naspers, Prosus and Tencent while the main negative contributors were HelloFresh and Tesla.

The following chart highlights three important points: 

• First, in real life business usually fluctuates between “really good” and “not so good” (green line) but in capital markets moods swing from “euphoric” to “hopeless” (blue line). 

• Second, while the performance of our stocks has failed to meet my expectations in recent years (blue line), our businesses have done well (green line). 

• Third, despite the recovery in 2023 our investments are still significantly undervalued. In fact, I am convinced they are worth at least 50% more than their market value - more on that in Why I Believe Our Investments Are Strongly Undervalued.

• Fourth, if investors wake up to the attractiveness of our investments as they did in 2019, the coming years would be highly rewarding for us.

  

  
  

Judging by investors’ irrational actions, you may think the formula for above average success is like a walk in the park, and for a short period after our stellar performance in 2019 I felt the overreactions by investors would indeed make it easy:

1. Develop the right mindset and attract investors who fit your investment approach.

2. Focus on things you know.

3. Control your emotions and remain rational.

4. Buy when businesses are perceived hopeless, sell when they are regarded euphorically.

5. Repeat.

Charlie Munger famously used to say: “It's not supposed to be easy. Anyone who finds it easy is stupid.” 

Let’s just say, the last three years have given me a chance to work on humility and persistence. Having said that, as highlighted above, I would not be surprised if the next three years would be much more promising.

For those interested in the art and science of investing, the next section shows how my thinking has evolved over the years. Others are welcome to skip and jump right into How We Are Invested and Why I Believe Our Investments Are Strongly Undervalued where I describe the investment thesis behind more than 85% of our investments in detail.

On Achieving Above Average Returns

Develop the Right Mindset & Attract Investors Who Fit the Approach

I believe I have done a good job developing the right framework and an exceptional job attracting investors and not traders/speculators who believe in me and my framework. I cannot thank you enough for your trust!

Focus on What You Know

Focusing on things you know is hard because being able to know and knowing are not the same. Not only do we have to know and admit the boundaries of our knowledge, but we have to remember that the future is always uncertain. 

All we can do is to identify scenarios, estimate their probabilities, determine what is priced in and what not, and act rationally. The best we can hope for is to get the odds in our favor but we never fully know and reality makes sure we do not forget that. 

Control Your Emotions and Remain Rational

I also give myself good grades on thinking and acting rationally and independently. The very unpopular decisions at the time to invest in Alphabet, Apple, Blackstone, and Meta (the latter three were all described in my 2018/2019 letter and on Meta again in this interview Meta Platforms: Zukunft oder Untergang?) turned out very well. Others such as Alibaba, Grenke, HelloFresh, Prosus, Warner Bros. Discovery less so, so far.

I have told you many times (probably more than some of you cared to hear) that I prefer our stocks to go nowhere or to fall - as long as the businesses remain valuable or increase in value. You can find my reasons in Why You Should Hope Your Stocks Fall. I still stand firmly on that. However enduring that over multiple years and remaining patient is easier said than done! 

Many years ago, a smart interviewer asked Warren Buffett the obvious question: 

"You have been talking this philosophy for years. It's no secret. Why doesn't everybody do it?" 

Warren Buffett: "Well it requires patience which a lot of people don't have. People would much rather be promised that they're going to win a lottery ticket next week than that they're going to get rich slowly."

In addition to being patient, there is hardly anything more difficult than watching your peers get richer while you are seemingly not going anywhere. I am very lucky in this regard because my dad, who has always been a role model to me, has always been a generous man and never envied anyone. 

But it does not end there. Investing requires a strange and fascinating balance between self confidence, which can seem arrogant, and humility. Most investment decisions rest on the belief that we know better than those who are selling to us or buying from us, especially when things are strongly in or out of favor. 

The key is to know when to stay humble and when to be strongly confident and that is not easy. More on this topic when I present our largest investments later in this letter.

Buy When Businesses Are Perceived as Hopeless - Sell When They Are Regarded Euphorically

The maxim above appears way simpler than it really is. Here is why:

1. Waiting until a business is regarded with one of these extreme views comes with significant opportunity cost. Quality businesses are very seldomly perceived as hopeless. It makes sense to pay up for quality because not owning quality assets has the highest opportunity cost.

2. The world is not constantly irrational. Often, there are valid reasons for businesses to be in or out of favor. 

3. Even when a business is not valued at one of these extremes, it may make sense to consider other businesses that may represent better risk/reward characteristics. Reality is not only absolute but also relative.

4. Finally, even when the majority of investors act irrationally and thereby create these extreme situations, markets can remain irrational longer than one can endure. Of course, markets can and do also get even more irrational for some time.

Difficult as it may be, this is the job of an investor. This is how I would score myself so far:

Selling right is very difficult: I have sold many of our great businesses at valuations that were full but not yet euphoric. In  each instance, I sold those businesses because I had found alternatives that I believed presented better risk-reward characteristics. 

I have learned to demand a higher delta in expected returns before selling a business whose stock has performed very well to buy a business whose stock has performed poorly. 

Buying right has been easier: I did much better in buying right. I bought quality businesses when they were attractively valued (cheap) and I held on to them for many years for us to participate in their success. Alphabet, Blackstone and Meta are among these exceptional quality businesses that have performed very well in the stock market and that we are still invested in. 

A few of the quality businesses I bought cheaply became much cheaper because investors started becoming pessimistic about them. 

I view them as very valuable and couldn’t disagree more. In the fullness of time, I expect that we will be rewarded richly for our patience and therefore do not regard these investments as mistakes. Brookfield, Grenke, Naspers, Prosus, Tencent and Tesla fall into this category and I explain why I believe they are significantly undervalued in the next section.

In The Agony of High Returns, Morgan Housel, one of the best investment writers in the world, illustrates how most people wouldn't want to own the best-performing stocks even if they had a time machine. Now that should tell us something! These paragraphs sums it up pretty well: 

“It's hard to grasp how the best-performing stock of the last 20 years could spend the majority of that time with returns that would make you want to vomit. It's easy to think that the single-best investment to own is one that would make us smile every morning we woke up owning it.”

But it wasn't. It never is. And it never will be. That's the nature of the stock market. On the way to making serious money, you spend a lot of time losing serious money. It's a reality anyone investing in stocks, no matter what you own, has to face.”

Some of the businesses I regarded as quality businesses have had a more difficult time than I expected. Alibaba, HelloFresh and Warner Bros. Discovery fall into this category. The lessons I take from that are:

1. When comparing business internationally make sure to pay closer attention to local competition: I had sold Amazon to buy Alibaba because I regarded Alibaba at least as strong as Amazon but Alibaba was selling for half the valuation of Amazon. In doing that I underestimated how strong Alibaba’s competitor in China could become relative to Amazon’s competitors. 

2. Demand a higher margin of safety for difficult businesses: Meal kits and food delivery are difficult businesses. I knew that but I saw and still see in HelloFresh a business that has overcome competitors and has reached a scale that was and is hard to compete with. I also believed and still believe that time and important competitive factors are on HelloFresh’s side. But I have learned to demand a high margin of safety for difficult businesses because even the best difficult businesses can and do face more challenges than is the case with easier businesses.

There are also parallels at Warner Bros. Discovery. The company has important competitive advantages and is executing and navigating well. However their markets are changing rapidly and forcefully and their key competitors are very formidable. 

Although these businesses have missed my high expectations, they have not performed poorly. Their stocks however have done very poorly. I believe their stocks are significantly undervalued and therefore we continue to remain invested in them.

How We Are Invested

At RICHTWERT I always follow a bottom-up investment approach. This means that I analyze businesses and invest in them if they meet my investment criteria regardless of their size, industry or geography as long as they operate in countries where the rule of law is applied. 

However, because of my focus on businesses I can understand and because I allocate capital to undervalued businesses that, at any given time may come from similar sectors or countries, our concentrated portfolio may falsely create the impression that I am following a thematic or geographic approach. I do not believe in top-down approaches because they require being right on too many variables. Bottom-up is difficult enough.

You might think it is risky to be invested with this level of concentration. Allow me to provide some context:

Businesses Representing Ecosystems

Imagine you are presented with the opportunity to invest in a business with the following characteristics. How much of your capital would you invest in that business?

• It has a leading position in nearly all countries.

• It connects, entertains and informs more than 4 billion people and empowers more than 300 million businesses every day globally.

• The business is highly diversified by customers and by the services it provides.

• It also happens to be a leader in and a main beneficiary of artificial intelligence (AI).

• It is financed prudently and profits have been rising more than 10% per year over multiple cycles.

• The business has proven time and again to be able to adapt to adverse situations.

• Its markets are growing faster than the overall economy and there is no apparent reason why this should stop anytime soon.

• It benefits from strong competitive advantages that provide it with a good degree of protection from competitors. 

• Let’s also get a little crazy and add that the business is led by its founder for more than 20 years with tremendous achievements. 

• And because we are being imaginative, let’s say the business is available in the stock market for roughly only 12 times its annual earnings. 

  
  

Given these strengths and a very attractive price which reduces the risk of losing money, I decided to invest at least one-third of our capital in this business. However, in our case this investment consists of two businesses (Tencent and Meta) that I grouped into one because they share the characteristics described. 

How is it possible for such strong businesses to be available so cheaply you ask? It’s because Tencent operates mainly in China and investors currently regard China as “uninvestable”. Meta’s valuation has increased very much but so have its business fundamentals. Due to its global presence and scale as well as the nature of social media it is naturally prone to controversy and therefore valued reasonably. 

Beyond these two we also own much smaller investments in other ecosystem businesses.

Specialized Financial Services

Within Specialized Financial Services, we are invested in two alternative asset management companies and a company focused on leasing business equipment to small & medium size enterprises. All three are leaders in their areas of business.

I have allocated slightly more than 40% of our capital here because financial services is an industry I believe I can understand, I appreciate the moats they have built around their business and we are getting a lot of value for our money. More on this in the next section.

Other Investments

Apart from Ecosystems and Specialized Financial Services, I have invested roughly 7% of our capital into Tesla, nearly 5% into Food Delivery businesses and almost 4% into Warner Bros. Discovery and two other smaller investments. 

Why I Believe Our Investments Are Strongly Undervalued

To give you a better understanding of the businesses we own and why I believe they are significantly undervalued I will describe the businesses to which I have allocated more than 85% of our capital. 

That is not to say that the rest of our portfolio will not perform well or even better. Under normal circumstances I would happily make the remaining 15% much larger but the bar is currently very high due to the quality and the undervaluation of the other 85%.

Brookfield

Do I Understand the Business?

Brookfield is an investment management company that helps institutional investors (Sovereign Wealth Funds, Pension Funds, Insurance companies, Endowments, etc.) and wealthy individuals succeed financially by investing predominantly in alternative assets such as infrastructure, real estate, renewable energy, the transition from fossil to renewable energy and other private companies. They attract long-term capital globally that they also deploy globally for the long-term in what they call the backbone of the global economy (e.g. power plants, toll-roads, ports, shopping malls, office centers, data centers, communication towers, etc.). 

Brookfield earns roughly 1% management fees per annum on assets it manages for clients and is entitled to 15% to 20% of the entire profit (“carried interest”) after meeting hurdle rates. To be clear, RICHTWERT earns 25% of the profit that exceeds the annual hurdle rate of 6% but Brookfield gets to keep 15% to 20% of the entire profit without deducting the hurdle rate! 

I prefer the arrangement we have at RICHTWERT because it is fairer but there should be no question that Brookfield’s arrangement is much more lucrative.

As of the end of 2023, the firm earned management fees on $457 billion of client capital. It also has $236 billion of client capital on which it can earn profits.

What Could Go Wrong?

Trust: Trust is the most important asset in investment management. Anything that would affect investors’ trust in Brookfield would adversely affect the company.

More Dependent on Management: As with all financial services businesses, we are more dependent on management to be trustworthy, and capable when it comes to representing their assets and their liabilities fairly and accurately. 

Illiquid Assets & Leverage: Alternative asset managers invest in assets that are illiquid for many years and they usually use a significant amount of debt to finance these assets. Investing is risky to begin with and using leverage exacerbates potential outcomes. Successful investments become very successful and failed investments can create very dire situations. In addition, it is more difficult to judge what illiquid assets are worth. Buying illiquid assets may also entail the risk of having to pay a premium and selling them at the wrong time may involve giving a discount.

Insurance Liabilities: Moreover, Brookfield has started taking on insurance liabilities and investing insurance premiums for a profit. If the company is unable to earn investment profits that cover the cost of its insurance liabilities, both its reputation as well as its finances would be hurt.

Too Much Money Chasing Too Few Opportunities: Alternative asset managers sit on a lot of dry powder - committed capital by clients that must be invested or returned to clients. The company could become complacent in investing prudently if they see too few compelling opportunities.

Close- & Related-Party Transactions: Alternative asset managers also transact with each other and large alternative asset managers sometimes transact with themselves by selling an asset from one investment strategy to another investment strategy. Of course, they use external auditors when they engage in these types of transactions but there is still a level of opaqueness that must be considered as a risk.

Structural Changes in Real Estate: Brookfield in particular has more than $25 billion of its own capital invested in large office complexes and shopping malls. The majority of this capital is invested in very high quality assets where occupancies and rents are high but investors still regard this as highly risky investments due to structural changes in real estate.

Artificial Way of Presenting Investment Returns: Alternative asset managers present investment returns in a way that is advantageous to them. They decide when to call the capital clients committed to their strategies, hence they are able to invest with debt for some time and wait until they replace that debt with client capital. This does not change the absolute profit of the investments but it does increase investment returns (internal rate of return (IRR)) artificially and significantly by reducing the time the client capital was supposedly invested. Since clients cannot invest committed capital elsewhere and must provide the capital as soon as managers call on it, these artificial IRRs are meaningless.

I am not certain whether Brookfield engages in this kind of artificial optimization but I would be surprised if it was completely immune to this industry practice. 

As you will see in the next section many clients do not mind if their investment returns artificially look better than they really are.

Taxation of Carried Interest: Last but not least, there have been and there still are many attempts to tax carried interest at a higher rate and sooner or later these attempts may be successful. This would result in lower net profits to us as shareholders.

With all these risks, you may rightly ask why invest in Brookfield at all? The answer is, because it also has very significant strengths and advantages and because the business is significantly undervalued.

Does Brookfield Have a Favorable Mid- & Long-term Future?

The short answer is a clear yes. The market for alternative investments is very large (more than $100 trillion) and growing. Brookfield is a dominant manager for alternative investments with strong competitive advantages and I expect it will continue to gain market share as the market for alternative investments continues to consolidate.

Market for Alternative Investments Is Very Large and Will Continue to Grow: The first reason for this is that most institutional investors have a strong preference for alternative investments. Having worked in asset management and with institutional investors myself before starting RICHTWERT, I would like to let you in on a secret hidden in plain sight: 

Publicly listed liquid assets such as stocks and bonds trade very frequently every business day. They are strongly affected by investors’ expectations and moods in the short-term and their prices fluctuate a lot as a result. 

The fact that their prices fluctuate a lot causes investors and speculators to trade them even more because they believe they can gain an advantage this way. This causes them to fluctuate even more. In the long-term however, short-term noise becomes irrelevant and fundamentals (cash flows) determine what these assets are worth.

Alternative assets however are illiquid. They change ownership only after many years. Without daily transactions they are valued much more based on their fundamentals (cash flows) and fluctuate much less.

Investors who know what they are doing and who can control their emotions understand that fluctuations of publicly listed liquid assets (volatility) represent opportunities and not risk. Warren Buffett for example said: “I would much rather earn a lumpy 15% over time than a smooth 12%.” Others view volatility as risk and therefore prefer alternatives as an investment. 

The vast majority of institutional investors are not managed by those who accumulated or contributed the wealth (principals) but by hired employees who are often advised by consultants (I refer to them as agents). 

With no skin in the game agents have very different incentives than those who own the capital. They view volatility as risk because telling their board that an investment is down 40% in the course of a few months is risky to their job security. Naturally, they have a strong preference for alternative assets that fluctuate far less. Being able to show artificially attractive IRRs may also appeal.

The second reason is that valuing assets is difficult and time consuming. Not being influenced by market volatility is even more difficult. So wealthy investors also increasingly shun the volatility of publicly listed liquid investments and are increasing their allocations to alternative assets.

The third reason is that governments are heavily indebted after more than 45 years of increasing debt faster than the growth of their economies. Selling government real estate and infrastructure assets is one way to get their finances in better order. Brookfield is one of the best suited purchasers of these assets because of its reputation and history, its access to large pools of cheap long-term capital and its investment skills to buy these assets right and its operational skills to improve them.

Brookfield Is a Dominant Manager for Alternative Investments with Strong Competitive Advantages and Will Continue to Gain Market Share as the Market for Alternative Investments Continues to Consolidate: Brookfield’s clients trust it because it has a long and successful track record of generating attractive returns with controlled risk, because Brookfield co-invests in the same assets and because the company also operates many of these assets. In fact, Brookfield was an asset operator long before becoming an investment manager.

The firm is best known for infrastructure, renewable energy, real estate and credit investments. It is therefore ideally positioned to benefit from the strong trends of digitization, decarbonization and deglobalization for years and likely decades to come.

Ecosystem and technology companies for instance increasingly need clean energy to power data centers and rapid advances in AI further increase energy needs. The following videos with Sam Altman (Open AI CEO), Elon Musk (Tesla Co-Founder and CEO), and Mark Zuckerberg (Meta Founder and CEO) speak for themselves:

Sam Altman: Compute will become the most precious commodity in the world

Mark Zuckerberg: Energy, not compute, will be the #1 bottleneck to AI progress

Elon Musk: The next shortage will be electricity

Brookfield benefits from client capital that is mostly locked-up for at least 7 years. They can buy assets when they are out of favor and sell them when they become more sought after without having to worry about clients withdrawing their capital at an unfortunate time. 

The firm also becomes more valuable during times of distress because it possesses both the investment skills as well as more than $70 billion in dry powder to deploy during times of dislocation.

Its leading scale, brand, and stability attract and retain superior talent as well as other investment management companies which recognize that they can create more value under the Brookfield platform. As a matter of fact, we became investors in Brookfield in 2019 because Oaktree Capital, the most trusted credit investment manager in the world, decided to merge with Brookfield. 

Brookfield´s scale, reputation, and operating capabilities provide it with greater insights and often enable it to be not only a provider of capital but also a solution provider for the companies it invests in or invests for. As a solution provider it doesn't have to pay the highest price for investments. Examples include 

• developing and operating real estate such as multi-use work, live, shop and entertainment centers; 

• building and operating renewable energy plants; 

• buying land, building data centers and delivering the renewable energy required to run them; and 

• helping legacy businesses reduce their carbon footprint to become more sustainable businesses.

  
  

Dominant investment managers serve as a one-stop shop for large investors because they are able to offer more asset types and investment strategies and because they can more easily afford to invest in building the organization and compliance needed to manage them.

Institutional investors and investment consultants are motivated to invest with or recommend fewer investment managers because this reduces the amount of monitoring and administration work required and because they can obtain better terms when they consolidate their investments with fewer managers. As a result, strong investment managers such as Brookfield are likely to become even stronger. 

Finally, as the investment world becomes increasingly focused on passive investing on the one hand and very active investing on the other hand, Brookfield is well positioned to benefit as a highly patient, capable and opportunistic investor and a one-stop shop for alternative assets.

Does Brookfield Have Trustworthy, Capable and Motivated Management?

Excluding Mark Carney who joined Brookfield in 2020 after being the Governor of the Bank of Canada and the Bank of England between 2008 and 2020, the twelve most important people at Brookfield, who have made Brookfield what it is today, have been with the firm for 24 years on average. Bruce Flat, Brookfield’s CEO, has been with the company for 34 years and plans on staying around. Four of them as well as one director individually own shares in the Brookfield universe worth more than $1 billion. A few others own shares worth many hundred million US Dollars. In short, very likely, yes and yes!

Can We Own Part of Brookfield at an Attractive Price?

The company regularly discloses detailed public information about its operations, investments and finances. It also publishes what management believes Brookfield is worth including its reasoning. As of the end of 2023, management believed Brookfield’s value was about $82 per share.

In my own analysis I made notably more conservative assumptions about future profits from investments, about the fair value of its publicly listed investments and about its private investments in Brookfield’s own funds and its real estate portfolio. Nevertheless, I estimate Brookfield’s intrinsic value to be between $48 - $67 per share.

I do not claim to know better than Brookfield’s very capable management who certainly have better insights and understanding of the business than I do. Knowing less than they do, I just like to be cautious.

Due to the strengths and competitive advantages mentioned previously I expect Brookfield to increase its intrinsic value between 9% - 13% annually over the next 5 years. 

The market currently values Brookfield at $40 a share, 17% below my most conservative estimate of value, 40% below my optimistic estimate of value and 51% lower than management’s calculated value. Given the quality of the business, I believe this to be an attractive margin of safety.

The combination of undervaluation on the one hand and future growth on the other hand should result in average annual gains of 14% - 22% for us over the next 5-7 years. Management expects much more and I promise, you will never see a person happier to be proven too conservative.

Grenke

I have detailed my investment thesis for Grenke after it became an unfair victim of a short-seller attack in my 2020/2021 letter and I gave the following update in my 2021/2022 letter:

“Grenke is a specialized leasing provider in more than 30 countries for small and medium-sized firms looking to finance office and practice equipment. In the last two years, Grenke was the target of a short-seller attack, which I addressed in the last co-investor letter, and had to undergo large efforts for external audits, while at the same time the pandemic put a heavy strain on the business. 

Now the burdening factors are behind us and Grenke is focusing on its proven competitive advantages (customer proximity, risk assessment and cost leadership through digitalization) to grow the business again. 

The current valuation is pricing in single-digit growth from a low level, but I expect more from Grenke because of the large opportunity set and because of Grenke's unique strengths.” 

Last year Grenke managed to grow the volume of its new leasing business by 12% and its contribution margin by 15%. All the while Grenke was probably too conservative in taking on risk, since it recorded a lower loss ratio than planned.

If Grenke stopped writing new leasing business today and only collected interest and principal on its existing lease contracts, the company would be worth roughly 35 Euro per share. Due to its ability to generate earnings from new leasing business in the future, it is obviously worth more than that.

How can we know that Grenke will not lose money on its current easing receivables, you ask? It has more than 40 years of experience managing risks and it prices small-ticket leases with a target contribution margin of 17% after allowing for 6% in credit losses. Its actual loss ratio has been around 4%, so if anything Grenke was too cautious in the past years. Grenke has 1 million current leasing contracts diversified by country and sector. For it to lose money on its receivables, nearly one quarter of the small & medium enterprises in Europe and a few other developed countries would have to default without any recoveries. I can hardly imagine such a drastic scenario and even if it were to happen Grenke would probably fare better than many financial businesses. 

Moreover, at the current stock price of 22 Euro we have a very significant margin of safety. In fact, with Grenke we own a business that has been profitable for roughly 40 years, earning more than 13% on equity on average since 2002 despite being prudently financed and managing risks very well for less than its book value and more or less half of what it is worth.

Whenever I find an apparent bargain like this, I look for reasons to see if I am missing anything. In the case of Grenke I see the following potential reasons:

• Three and a half years ago, a famous short-seller claimed that Grenke was basically a fraud and investors still lack confidence today. 

• Grenke’s business shrank because the it was distracted with proving the short-seller wrong, management became too cautious and because the pandemic dealt a blow to its physical dealer network channel. 

• Grenke has been able to grow its new leasing business but this has not yet resulted in profit growth. This is due to the fact that it had to replace a large volume of contracts from before the pandemic that naturally came to conclusions, it records profits in the four years after it writes leasing contracts, and Grenke invested a lot in personnel and is investing significantly in IT.

• The firm used to grow internationally via franchise companies that it would buy after they proved successful. In order to decrease the potential risks of dealing with related parties (i.e. potential conflicts of interest), Grenke decided to acquire all franchise companies. This may result in some distractions and loss of entrepreneurial spirit in its international expansion.

• As a result of all this, profits fell in 2020 and have stagnated since. 

Looking forward, the only reason that may partially be a valid concern is the potential loss of entrepreneurial spirit from not growing via the franchise model. Yet, it is hard to know if the acquired companies would have grown faster as franchisees. All the other reasons are either invalid or backward-looking and offer no ground not to be enthusiastic about Grenke: 

• Grenke has provided disclosures to disprove false accusations and two independent auditors (one commissioned by Germany’s BaFin) have concluded that Grenke is definitely not a fraud.

• It has made good progress expanding its physical dealer network, is becoming a stronger digital player, and has recognized that it was too careful in risk taking and being paid for it accordingly.

• In the last 3 years Grenke has invested significantly in personnel and compliance and is currently investing heavily in IT to make leasing even quicker and more convenient for its customers and dealers. Going forward the company and I expect personnel costs to grow more slowly. IT costs should also decrease meaningfully with its full migration to the cloud as the business currently has redundant costs from still maintaining its own infrastructure along with investing in the cloud. Cost control combined with expected annual growth of 12% or more in leasing volumes, which is well backed by historic growth rates, should result in even faster profit growth.

I wouldn't be surprised if our Grenke investment would more than triple in value in the coming 5 years.

Meta Platforms

We have been invested in Meta since 2016 and I have covered Meta extensively in the past. First, in my 2018/2019 investment letter (currently only in German) to you and then again in this podcast interview Meta Platforms: Zukunft oder Untergang? in February 2022, about a week after its stock fell by more than 25% in a single day. Bloomberg had titled it Meta Erases $251 Billion in Value, Biggest Wipeout in History. 

As a side note: To this day I find it fascinating that people generally cannot distinguish between value and stock prices. Of course, Meta did not wipe out $251 billion in value in a single day. The value was either not there to begin with or the stock decline represented a grave exaggeration of reality. Determining that is the job of the investor.

Anyway, by then the stock had lost almost 50% from its peak and was attractively valued in my opinion. However, the business was also challenged because the competitive landscape had changed materially: 

• TikTok had experienced a meteoric rise and was gaining market share from Meta and Alphabet. 

• Apple had introduced very impactful privacy enhancing features that prevented Meta from tracking user preferences making it much more difficult to target content and advertising to users and making it vastly more difficult for Meta to measure the outcomes of its clients’ advertising. 

• Apple itself and Amazon were gaining share in the advertising market and streaming platforms were no longer just competing for people’s time but also starting to compete for advertising dollars by offering ad-supported subscriptions. 

• Due to its enormous scale and worldwide spread, Meta was facing very strong scrutiny, discontent and distrust by many. 

• Given the negative perception and its size, Meta was a welcome target for politicians and media and it was clear that it would no longer be able to fight competition or grow inorganically by purchasing important competitors.

I had concluded that Meta’s competitive advantages were sufficient to remain an attractive business. These included:

• Enormous user base of 3 billion and more than 200 million businesses using its products monthly

• WhatsApp, the leading messaging platform worldwide

• Long runway for growth through more and better monetization of its platforms

• Ability to invest heavily due to its economies of scale

• Near zero marginal costs because of user provided content

• Strong, young and highly motivated founder-led management team focusing on the long-term 

If you thought a decline of 50% was bad, the stock more than halved again during the next 8 months. By October 2022 the stock had lost more than 75% from its peak. In addition to the valid concerns mentioned before, investors feared that Meta’s business model of relying on advertising was flawed and unsustainable and that its founder and controlling shareholder Mark Zuckerberg, who had built the business from nothing to a valuation of close to one trillion US Dollars, had suddenly lost his business mind and would invest tens of billions in the Metaverse without having visibility on returns on investment.

To me, these latter concerns were absurd to say the least and hence I invested more as the stock declined further. With hindsight I wish I had done so much more aggressively but as I pointed out in On Achieving Superior Returns, it is not easy to have strong conviction and be humble at the same time: 

• On the one hand, I was aware of the moats around Meta’s business and was enthusiastic about the steep decline in the stock because it meant we were getting more of the business cheaper. 

• On the other hand it was not a certainty that Meta would be able to overcome the real challenges it faced as well as it did. 

• To make matters more difficult, I had to balance buying more of Meta with investing in other stocks that had also declined significantly. 

  
  

While I expected the company and its stock to recover strongly in the next 3-5 years, I was surprised to see how much and how fast the business recovered. 

What has changed in the last two years? In short, a lot!

• Meta reduced its cost base by reducing the number of employees and having them work more effectively

• Meta invested very heavily in AI and became a leader in AI. With these advancements, it managed to improve targeting (content and ad recommendations) and measuring the success of its clients ads in more privacy-protected ways. It has also released attractive large-language models and AI assistants that are being integrated into its platforms for content creators, consumers and advertisers. 

• Despite TikTok's dominance Meta grew its short-video offering very successfully and started to commercialize it with ads.

• It developed and delivered best-in-class virtual, augmented and mixed reality devices and operating systems. The Ray-Ban Meta Smart Glasses with Meta AI Built In show the progress the company has made in augmented reality.

• With the passage of time the level of distrust in Meta as a company has also subsided, at least partially. 

• The fact that in the mind of investors Mark Zuckerberg went from a fanatic lunatic who held the company hostage to a Wall Street darling in less than eighteen months proves once more that, in the short-term, stock prices are often nothing more than reflections of emotional opinions.

  
  

These advances have led to very strong business results and Meta´s stock rose roughly fivefold in the span of only one and a half years. Optimistic as I was, I still underestimated the extent and the speed with which Meta grew stronger. Suffice it to say, we have been with Meta through thin and thick.

I had and still have enormous respect for Apple and Elon Musk as competitors. Moreover, Meta will continue to face mostly unjustified legal issues that may become very expensive especially in the U.S.. And lastly, we had other portfolio companies that looked more attractively valued than Meta. Consequently, I sold some of our investment in Meta at prices that turned out to be too conservative with the benefit of hindsight. The fact that the top management at Meta also sold a significant amount of shares shows that even those with intimate inside knowledge were somewhat surprised by their own success and the stock´s momentum.

I am very happy that we still own a significant investment in the company and look forward to future opportunities to increase our stake if and when Meta becomes more attractively valued again. In fact, as luck would have it, just when I was writing this letter to you, Meta’s stock declined 16% on April 24th. 

This time around, the concern is that Meta will invest more in AI than investors had expected and that this will hurt short-term profitability. The fact that the U.S. Senate and the U.S. President have decided to force TikTok, Meta’s strongest competitor next to Apple, to sell its U.S. business or face significant limitations has strangely not been perceived as impactful. 

Oh well, here we go again. At RICHTWERT, we are long-term investors and I am excited to see Meta invest more in AI based on the success it has clearly earned. I am also happy for the stock to fall in the short-term because this way we can own more of a very strong business that I truly like and appreciate. 

Under the leadership of Mark Zuckerberg, the company went from connecting college students in one dorm to connecting more than 3 billion people and creating AI versions of people so they can digitally clone themselves and scale better! Completely artificial but realistic personas have emerged and this is just the beginning of things to come.

In a recent interview, Zuckerberg was asked about why he decided against selling the company to Yahoo! for $1 billion in 2006 when Facebook was at an embryonic stage. His response is exactly what gets my investment juices going about most of the businesses we co-own at RICHTWERT.

“I had all these people around me who were making all these arguments for a billion dollars, like “here's the revenue that we need to make and here's how big we need to be. It's clearly so many years in the future.” It was very far ahead of where we were at the time. I didn't really have the financial sophistication to really engage with that kind of debate.

I just, I think sort of deep down believed in what we were doing. I did some analysis like “what would I do if I weren’t doing this? … Well, I really like building things and I like helping people communicate. I like understanding what's going on with people and the dynamics between people. So I think if I sold this company, I'd just go build another company like this and I kind of like the one I have.” So, so, I mean: “Why??” 

I think a lot of the biggest bets that people make are often just based on conviction and values. It's actually usually very hard to do the analysis trying to connect the dots forward.”, 

Mark Zuckerberg Interview, April 18, 2024

Naspers, Prosus, Tencent

We are predominately invested in Tencent indirectly via Prosus which is the largest shareholder of Tencent and Naspers which is the largest shareholder of Prosus. The reason is that owning Tencent indirectly is much cheaper than owning it directly. 

I will focus on highlighting why I like Tencent very much because it is by far the largest component of value at Prosus und Naspers. But rest assured that both Prosus and Naspers own significant other businesses that are valuable as well.

Do I Understand the Business?

Tencent is one of the largest ecosystem companies in the world, providing a wide range of internet-based services and products. The firm has leading positions in not just one but six business verticals. Its primary businesses include:

1. Social Networking: Tencent's social networking platforms, including WeChat and QQ, have a combined user base of over 1.3 billion monthly active users. WeChat, in particular, is an almost all purpose app encompassing communication (messaging, audio and video calling), social networking, search, entertainment (short-form video and online games), e-commerce, ride-hailing, food delivery, mobile payments, health services, and more.

2. Online Gaming: Tencent is the largest video game publisher in the world. Its portfolio consists of global hits such as Honor of Kings, League of Legends, PUBG Mobile, Clash of Clans and many more. Among many other investments in gaming studios. Tencent also owns 40% of Epic Games, the company behind the worldwide hit Fortnite and developer of Unreal Engine, which powers many of the world’s leading games.

3. Entertainment: The company is the leading provider of long-form video content and online music and literature online as well as the second largest platform for short-form videos.

4. Advertising: In addition to subscription fees and online purchases of digital content, Tencent is a leading platform for businesses to reach their target customers via advertising and Tencent Mini Programs (light-weight apps tightly integrated with WeChat).

5. Cloud IT Services: Tencent is among the leading cloud service providers in China and primarily focused on higher margin Software as a Service offerings including conferencing, office productivity and AI.

6. Financial Services: Tencent provides various financial services through its WeChat Pay and Tencent Pay platforms, including mobile payments, wealth management, insurance and microloans.

What Could Go Wrong?

Dependence on China: Tencent’s business is predominantly in China. It will do very well when China prospers and less well if China struggles.

Geopolitics: The United States and China are the two leading economies and military powers in the world and they have strongly opposing views of how society should function. A direct or indirect conflict between these superpowers, for example over Taiwan could have catastrophic consequences for the world economy at large because together they account for roughly 40% of global GDP and more than half of the world’s GDP growth. 

In addition, the world is highly dependent on technology and goods produced by Taiwan and China. Tencent’s business is predominantly domestic in China but a conflict may affect China’s economy adversely and lead to us not being able to sell our investment for many years. In an extreme situation we might even lose complete entitlement to our investment.

Entitlement Risks: Investments in Chinese companies are enabled via "variable interest entity" structures which rely on contractual arrangements to enable foreign investors to control (but not directly own) and obtain economic benefits from an operating company. In case of international conflicts it may prove difficult or impossible to insist on such contractual arrangements.

Regulatory Risks: Due to its enormous reach and influence over the Chinese population, Tencent faces considerable regulatory risk from the Chinese government; this has affected its business profitability and growth in the past and is likely to do so in the future.

The Chinese government is keen to scrutinize online content, especially digital media deemed unpatriotic, addictive or harmful to minors. This could restrict Tencent's ability to offer certain content, games or features, impacting user engagement and monetization of its services. This risk also applies heavily to its AI service offerings.

Competition: Fierce rivalries with firms like Alibaba, Baidu, Bytedance (TikTok), NetEase and new upstarts pose risks. Also, Western giants such as Alphabet, Amazon and Meta have practically been shut off from China for the time being, but it cannot be ruled out that China may open its markets to international competition in the future.  

Cybersecurity Threats: Tencent collects and analyzes user data on almost the entire population of China. Failing to do so responsibly or safeguard and protect this data against cyberattacks would cause major damage to its reputation and business.

Global Expansion Challenges: Expanding beyond China requires overcoming cultural, legal, political and market-specific hurdles.

Technological Disruption: The tech industry is constantly evolving, and new technologies could emerge that threaten Tencent's existing business model.

Does It Have a Favorable Mid- & Long-term Future?

Tencent operates primarily in the Chinese market, which is one of the largest and fastest-growing internet markets in the world. China has over 900 million internet users, and the number continues to grow, driven by rising disposable incomes.

Apart from China the firm has a thriving international gaming business and a very large investment portfolio consisting of promising businesses including the likes of Tesla, Snap, Spotify, Tencent Music, PDD Holdings (owner of Pinduoduo and Temu) as well as many other less well-known Chinese businesses.

Large and growing markets are prone to fierce competition and capitalism is a brutal force especially in China. Luckily Tencent benefits from strong and durable competitive advantages.

Scale and Market Leadership: Tencent is the market leader in several key verticals, including social networking, online gaming, and payments – giving it significant competitive advantages in terms of user base, brand recognition, cost leadership, customer acquisition for itself or for partners and market influence.

Ecosystem Synergies: Tencent's integrated ecosystem of services, including social networking, messaging, entertainment, advertising, e-commerce incl. Mini Programs, cloud IT and financial services covers most of the e-commerce value chain, creates formidable network effects and enhances both user engagement and monetization opportunities.

Intellectual Capital and Franchise Longevity: The company owns a large amount of intellectual capital in the form of stories and characters that it uses to create franchises across entertainment and gaming. Its leading games demonstrate longevity and have become evergreens, demonstrated by the fact that some of them continue to reach all-time-high engagement and revenues many years after they were published.

AI to Boost Content Creation, Engagement and Advertising: Tencent has invested heavily in AI and is among the leaders in China in this regard. Equally important is the fact that,  similar to Meta Platforms, the company is a natural beneficiary.  

1. AI will allow users and advertisers to create more compelling and engaging content while reducing the time & effort needed. 

2. Tencent will be able to target the improved content and ads more effectively, thereby increasing click-through-rates for advertisers and generating more high margin revenues. 

3. AI will enable the company to create more engaging entertainment content and games faster and cheaper.

   
   

Pathway to Metaverse: Tencent’s integrated ecosystem of services and intellectual property as well as its strategic investment in Epic Games (owner of Fortnite and Unreal Engine) position it very well for creating and enabling the metaverse – the next version of the Internet where users don’t just consume internet experiences but actively participate and co-create them. 

Careful and Patient Monetization: The company has a track record of focusing relentlessly on user experience and only slowly and gradually commercializing its offerings. As a result, it still has a long runway of monetization ahead in its leading platforms including advertising, gaming and financial services.

Advantaged Investor: China is a world leader in digitization and Tencent is at its forefront. As such, it benefits from valuable early insights into businesses that have promising potential to become successful domestically or abroad and is able to combine its superior insights, enormous user base and capital to engage in strategic investments. Examples include Snap, Spotify, Tesla, JD.com, Meituan and PDD Holdings (owner of Pinduoduo and Temu). 

Does It Have Trustworthy, Capable and Motivated Management?

You bet! Tencent’s top management not only is motivated because it has skin-in-the-game through significant share ownership but is also very capable as proven by the management’s outstanding track record of value creation for shareholders.

In its earnings calls Tencent’s management has consistently demonstrated transparency when it comes to challenges the firm faces (for example in regards to its Gaming, Entertainment and Financial Services businesses) and opportunities that they see.

Pony Ma, Tencent's co-founder and CEO, has led the company since its inception in 1998. He owns 8.5% of Tencent (currently worth more than $35 billion) has a deep understanding of the technology industry and has successfully led Tencent through multiple phases of growth and transformation. 

Martin Lau, President of the company joined the company as its Chief Strategy and Investment Officer in 2005 and has been instrumental to Tencent’s meteoric rise. He owns 0.6% of the company currently worth more than $2 billion. I have no doubts whatsoever in Tencent’s management team.

Can We Own Part of Tencent at an Attractive Price?

Source: Tencent Corporate Overview, March 20, 2024

Despite massive regulatory headwinds and a significant slowdown in China’s economy Tencent managed to grow 15% annually resulting in a doubling of revenue and profit from 2018. With regulatory headwinds most likely behind us and given its business moats, rapid advances in technology and AI, andsome chance that China‘s real estate market – and economy along with it – may recover slightly in the next 5 years, Tencent may be able to deliver similar or more profitable growth in the next 5 years.

The stock price however has experienced a sharp drop since 2021 because investors have concluded that China has become “uninvestable”. As of March 20, 2024 when the graph above was presented, Tencent was valued at roughly 10 times Free Cash Flow excluding cash and its large investment portfolio. 

Since March 20th, the stock has risen about 20% and Tencent is currently valued at around 12 times Free Cash Flow excluding cash and its investment portfolio. This is still a very attractive valuation for such a high quality business, especially considering that its online advertising and financial services are currently deliberately undermonetized.

My estimate of Tencent’s fair value is between $550 - $750 billion with the low end being conservative and the high end not being too optimistic. Even after the stock has risen 20% during the last month, investors are still valuing Tencent at only $420 billion.

But it gets better: we own Tencent primarily indirectly via Prosus and Naspers, which also own other valuable businesses worth between $25 - $30 billion. Prosus and Naspers however are valued at a discount of 33% - 40% versus the investments they own. In other words through Prosus and Naspers we only pay between 7-8 times Free Cash Flow for Tencent.

And if you thought it cannot get much better, there is one more thing. The constellation is as follows: Prosus owns around 25% of Tencent and Naspers owns around 43% of Prosus. All three are strongly undervalued. To take advantage of the undervaluation Naspers is selling a portion of the Prosus shares it owns and is using the proceeds to repurchase its own shares. Prosus in turn is selling part of its Tencent shares and is using these proceeds to repurchase its own shares (including those that Naspers is selling) at a discount of currently 33%. Finally, Tencent is using its Free Cash Flow to repurchase its own shares (including those Prosus is selling) at a significant discount. So in effect we are benefitting from all three companies repurchasing significant amounts of their shares at a discount because this increases our ownership in them at attractive prices.

Assuming the United States and China find a way to proceed without creating chaos for the world economy, I expect our investments in Naspers, Prosus und Tencent to increase in value between 18% and 26% annually which would mean a doubling or tripling of our capital in the next five years.

Tesla

Do I Understand the Business?

Tesla may be our riskiest investment. Risk has almost only negative connotations but there is a more neutral and useful way to think about risk. Risk just means more things can happen than will happen. Hence, risk may not only result in negative scenarios but also surprise us on the upside and this is how I think about Tesla. 

I usually do not invest in businesses that have the character of being new ventures because I prefer asymmetric investments where the risk of losing money is low but the potential for attractive returns is high. As you will see, I have happily made an exception for Tesla.

Tesla is a founder-led, strongly mission-driven, vertically integrated business focused on accelerating the world's transition to sustainable energy and improving life for humanity. They plan to do that by capturing and storing energy from renewable sources and consuming it as effectively as possible. 

Having been responsible, among other things, for sustainable and responsible investing in the investment management industry before starting RICHTWERT, I experienced how much counterproductive nonsense goes into “sustainable investing”. 

Having said that, when it comes to sustainability, Tesla is the real thing. They are not only going full-cycle about generating, storing and using renewable energy, but they are also working on actually putting the word “auto” into automobiles by building autonomous (driverless) cars and humanoid robots that will not only save many thousands of lives but also massively increase the quality of our lives. Just think about all the deaths caused by accidents because people drink and drive, or get distracted or become tired. Think about the elderly or disabled who are not able to drive. Think about the number of people that get ill or die due to air pollution.

Since all of this requires very sophisticated software, Tesla also had to become a leader in artificial intelligence.

What Could Go Wrong?

Extinction of Humanity: We are all witnessing how powerful and potentially dangerous AI already is just with text. It is rapidly incorporating other formats such as images, audio and video and will also be able to take automated actions soon.

If Tesla, industry peers and regulators do not ensure AI has a strong interest in protecting humanity, it may very well one day decide that earth is better off without us and act upon it.

Of course, in the hands of ill-intended actors, AI can also become a weapon of mass destruction.

Judging by the rate of progress AI is making, this might not be as far fetched as it may sound. 

The Auto and the Energy Industry Are Challenging: Both the auto as well as the energy sector are essential industries that are highly regulated; businesses in these sectors need to invest strongly to ensure their products and services meet high safety and reliability standards. At the same time, the ability to set prices in the energy industry may be limited by governments.

They are also very capital intensive and can be highly competitive due to the degree of fixed costs inherent in the industry. 

Tesla Has Extremely Ambitious Targets that It May Not Achieve: Building cars that can drive themselves without human intervention and robots that alleviate us from strenuous work are gigantic undertakings. Both require years and maybe decades of investment in research & development, infrastructure, equipment and very highly skilled labor. 

Tesla’s valuation sometimes surpasses that of all car companies combined. If it fails to achieve its ambitious targets, we might lose a significant amount of our investment.

Elon Musk Is Essential to Tesla’s Success: Elon Musk, founder and CEO of Tesla is a charismatic, visionary, and very hard working genius who has repeatedly proven the best subject matter experts wrong by finding and implementing innovative solutions experts believed were impossible. He is also very talented at attracting exceptional talent and establishing a culture and an organization of excellence.

He is a superior, alternative and independent thinker who is unapologetically honest, direct and often impulsive. As such, he has many adversaries. In addition, he works extremely hard both at Tesla as well as at his many other businesses often with disregard to his physical and mental health.

If Tesla was to lose Elon Musk, I am certain that the business would become a potent shadow but a shadow nonetheless of what it can be with him at the top.

Many Stumbling Stones Along the Way: Tesla’s pursuit of its mission requires massive investments in infrastructure, mining and refining materials, manufacturing, charging and distribution networks, data centers, computer chips, electronic components and electricity itself. 

It has succeeded in doing many of these activities on its own but it also relies heavily on suppliers and the energy industry. Any one of these activities may run into supply constraints, slowing down Tesla´s progress.

Another stumbling stone is the perception of consumers. While Tesla has a large base of enthusiasts and early adopters, it will have to invest time and resources to convince the next groups of buyers who are less well informed or who have been misinformed about electrical vehicles and autonomy.

Strong Competitors: Tesla faces strong competitors in all of the areas it competes. Chinese auto manufacturers have become very formidable and there are more than a handful of very large car manufacturers with significant market share and vested interests that try to compete with Tesla vigorously.

In addition to very sophisticated businesses that focus solely on battery technology, there are other technologies such hydrogen and fusion energy that may be able to replace batteries. 

Last but not least, there are also many businesses with enormous scale and exceptional human capital focused on chips, artificial intelligence and robotics that compete with Tesla for its future markets.

Does Tesla Have a Favorable Mid- & Long-term Future?

The industries Tesla is addressing (transportation, energy, robotics, artificial intelligence) are vast in size and will not reach saturation anytime soon. Naturally their size and growth attract lots of competition, but Tesla is strongly positioned to be a leader due to its strong and widening moats:

People and Culture: Elon Musk is a visionary, relentless leader whose grand mission acts as a magnet for exceptional talent. His drive has created a culture of excellence with as little bureaucracy and complacency as possible where the best and most driven talent attracts similar minds. As a matter of fact, Tesla has been among the most attractive employers for engineers for the last few years. Under his leadership, Tesla operates with purpose and urgency, daring to make the impossible merely late.

Focus on Superior Solutions: Musk is also known for his ability to think through challenges from first principles and thereby identify superior solutions. Electric vehicles (EVs) are not only more sustainable because they do not require burning fossil fuels but also because electricity can be more effectively transformed into motion. EVs are also becoming increasingly affordable due to technological advances. Moreover, they are cheaper to maintain because they consist of far fewer components. They do not pollute the air like traditional combustion engine vehicles and they are much quieter. 

Unlike traditional car manufacturers that have a legacy fleet of cars and car dealers that they need to serve for decades to come, Tesla is free to invest and innovate without any distraction.

Of course, traditional cars benefit from more than a century of gas station infrastructure. But we are still at the beginning of the EV revolution and the charging infrastructure is constantly improving.

Vertical Integration: One of Tesla's most significant competitive advantages is that it is vertically integrated. The company controls nearly every aspect of its operations, from designing and building factories and processing materials to designing and manufacturing batteries and cars. This integration extends to chip design  and computing infrastructure as well as to in-house software development, enabling Tesla to equip its vehicles with cutting-edge AI technology and over-the-air updates for autonomous driving. By selling and servicing vehicles directly, owning the most advanced charging network globally and also providing insurance for Tesla owners, Tesla ensures tighter integration, faster innovation, better quality and safety, a superior customer experience and the lowest total-cost-of ownership for Tesla purchasers. Here are three real-life examples:

First, Tesla currently offers arguably the safest cars ever produced because of innovations in passive and active safety measures:

• Being in a Tesla and a lot of luck helped save the 4 people who plunged 250 feet off a cliff

• Man Who Drove Family Off Cliff in Tesla Is Charged With Attempted Murder

• Tesla Model Y’s Autopilot gets highest grade in European safety tests

• Tesla Model Y sets new crash safety benchmark 

  
  

Second, Tesla’s navigation software combines real-time information about the car’s location and destination as well as its remaining battery range with information about Tesla’s best suited charging stations along the route of the car to provide a seamless and efficient driving experience.

Third, Tesla was able to reduce costs, weight and complexity by switching to a 48V architecture within only a few years. This is something that the auto industry has struggled with for many decades. Here is Ford’s CEO explaining the challenges legacy auto makers face when they want to innovate.

Economies of Scale and Scope: Tesla is a preferred purchaser of materials, components, batteries and chips because it produces cars at scale and it can deploy these purchases not only for cars but also in its energy business and the manufacturing of autonomous bots. This ensures that it can obtain more competitive prices and is the first purchaser to receive these components if they are in short supply. 

By operating at scale across car manufacturing, energy storage and autonomous bots, Tesla can better spread and afford the massive investments to stay ahead of the competition. 

Autonomy: For years Tesla has been working on making cars that have the potential to drive without the need for a driver. Tesla’s approach has been to create a solution that relies purely on vision and artificial intelligence because this is exactly how we humans drive and how roads, signs and signals have been designed. Moreover, this approach is both cheaper and far more scalable than competing ones that rely on more sensors and more mapping.

With more than 5 million Tesla cars on the roads worldwide continuously providing Tesla with high-quality training data for the most advanced AI infrastructure in the car industry, Tesla's Full Self-Driving (FSD) technology is improving rapidly and positioning the company in pole position for the future of transportation. Any car manufacturer wanting to copy Tesla’s success would have to spend many years and billions of dollars to collect the required data and build the AI infrastructure to catch up with where Tesla is today.

As FSD capabilities expand and become available in more countries, Tesla's vehicles will become even more desirable. After all, once consumers recognize the power of FSD, who will want to buy a car without it? 

Additionally, the widespread adoption of FSD is likely to lower insurance costs for Tesla owners, further enhancing the value proposition of Tesla's vehicles. Musk believes all cars will be autonomous and rightly says: "Gasoline cars that are not autonomous will be like riding a horse and using a flip phone."

If, or dare I say when, FSD improves to a level that is far safer than the average human driver, Tesla will be able to operate a ride-hailing service that could experience mass adoption and potentially become very profitable because this will increase the convenience and decrease the cost of transportation meaningfully. Hence, this will create a remarkable win-win-win situation for people in need of transportation, Tesla owners and Tesla itself.

Finally, Tesla is able to leverage the infrastructure, learnings, and best practices it has built and gained from producing autonomous cars at scale to produce autonomous bots at scale cost-effectively. These will enrich our lives by doing the work that we cannot or do not want to do ourselves.

Does Tesla Have Trustworthy, Capable and Motivated Management?

Elon Musk is truly motivated to create a future that is worth living for and being excited about. I clearly sense that money and material things are not his motivation but just a means to creating a better future for humanity. I encourage anyone who has a different opinion to listen to the man himself instead of reading what others say about him.

With the exception of Warren Buffett, I have never observed a person in business who is as capable and motivated as Elon Musk. He has spent many nights on factory floors to maximize his attention to Tesla and to be a role model for his team. Listening to his team, one can sense the close bond and joint sense of mission that they are on.

Can We Own Part of Tesla at an Attractive Price?

The current lines of business – selling cars, energy generation and storage – alone have the potential to justify the company’s current valuation: 

• Although the car business is very difficult, capital intensive, cyclical and price sensitive, Tesla’s vast competitive advantages have and should continue to enable it to sell cars profitably. There are currently only two companies able to produce and sell fully electric vehicles at scale profitably because most car companies are saddled with legacy infrastructure and investments that they have to keep up for many years.

• Demand for energy is enormous, growing rapidly and is likely to expand as long as civilization exists. Advances in electric vehicles and artificial intelligence have exacerbated the need for energy, especially from renewable sources (see also the investment thesis behind Brookfield). Generating more energy requires approvals, massive investments and time. I believe demand for renewable energy will outpace supply in the near future and probably also in the mid-term. I would not be surprised if Tesla’s energy business turns out to be both larger and more profitable than selling Tesla cars. In fact, today the energy business produces better margins than the car business.

However, there’s more to Tesla than this.  

With its Full Self-Driving (FSD) technology Tesla has the potential to create an entirely new business in the form of a fully automated ride-hailing service that has yet to be factored into the firm’s valuation. 

I realize this requires cars to be fully autonomous, something most believe is either impossible or decades away. All I can say is that attractive electric cars were supposed to be impossible, them being affordable was considered even more impossible, being able to drive them across a continent was unimaginable. Building reusable rockets that would return to earth and land on ships on the ocean was supposed to be impossible. Using satellites for two way fast internet communication? Impossible. Controlling computers with your thoughts? You can’t be serious?! Musk and his teams are doing all this and more.

Plus we are already witnessing nearly intervention free drives in the U.S., with Tesla expanding FSD to Europe and maybe China soon. Once cars are autonomous, they become monetizable assets for providing transportation for others: 

• Tesla FSD 12.3.4 Tackles Los Angeles at Rush Hour

• Musk: "We believe version 12 is ready for supervised FSD in LHD countries. RHD will take a bit longer." (LHD stand for left-hand driving)

  
  

While some may say “I don’t want to share my car with others!”, they may easily buy a second and a third car that can participate in the Tesla ride-hailing network to generate income for them.

Based on my back of the envelope calculation (please feel free to use your own assumptions), I believe a Tesla ride-hailing service could unlock hundreds of billions of value for Tesla: 

• There were 5 trillion kilometers driven in 2023 in the USA alone. 

• With the advance of Full Self-Driving (FSD) this amount could increase by up to 40% in 2030.

• Let’s say 80% of these kilometers driven are ride-hailing kilometers and only 40% of them are monetized and calculate with profits of USD 0.20 per monetized kilometer.

• I assume Tesla solves FSD first and gains 20% of this market by 2030 (Tesla currently has 20% market share in EVs worldwide and 50% market share in the U.S.).

• I further estimate that Tesla itself owns and makes available 40% of the cars in the ride-hailing fleet and that Tesla car owners provide the remaining 60% of the cars while sharing profits with Tesla (75% for Tesla owners, 25% for Tesla)

• Tesla may receive half the ride-hailing revenues of other car producers who license its FSD technology. Let us assume that they control another 30% of the market.

Based on these estimates and assumptions, Tesla would be generating $116 billion of high margin ride-hailing net revenues in the U.S. alone by 2030 without charging any licensing fees. Given the fact that this is purely a software subscription service where all the development costs have already been paid for, I will let you estimate how much of that would fall to Tesla’s bottom line. 

For reference UBER, currently valued around $140 billion, delivers around 10 billion drives equivalent to roughly 90 billion kilometers annually. Based on my assumptions above, Tesla would deliver 12 times as many ride-hailing kilometers annually in 2030 and I would expect Tesla to be more profitable than UBER since the cost of ownership of Tesla cars would be lower and no drivers would be needed.

In short and in Elon Musk’s own words from his 2016 Master Plan, Part Deux:

• “Create stunning solar roofs with seamlessly integrated battery storage


• Expand the electric vehicle product line to address all major segments


• Develop a self-driving capability that is 10X safer than manual via massive fleet learning


• Enable your car to make money for you when you aren't using it”

  
  

Furthermore, Tesla cars are equipped with highly advanced and networked computers which enable the cars to be autonomous. When these computers are not driving, Tesla may be able to combine the unused computing power to provide very scalable distributed compute services similar to leading Cloud-IT providers. Profits generated this way would be shared between car owners and Tesla.

Last but certainly not least, if Tesla manages to extend its competitive advantages to producing highly desirable and cost effective autonomous bots, this may make our investment in Tesla a home run.

What We May Expect

We experienced very low interest rates for the last 15 years which made life very easy for borrowers, most noteworthy among them governments but also for asset owners and business managers. Additionally, governments stimulated the economy by spending greatly more than they earned. The economy and the vast majority of businesses did well, as did investors, especially those who were aggressive.

The next few years investment returns will sit between the tension of major macroeconomic headwinds and tremendous technological tailwinds. 

Headwinds:

• Governments are heavily in debt, inflation is still elevated and interest rates are no longer very low.

• Higher interest rates slow the economy and short-term interest rates may come down but the enormous amount of government debt that requires refinancing and the interest burden at currently higher rates may push long-term interest rates even higher. Escaping the dangers of a  downward-spiral where governments may have to take on debt just to finance the interest on their debts will likely require them to increase tax rates, decrease spending and sell assets.

• The economy in the U.S. is doing well but many countries are facing slower economic growth.

• While some businesses are still thriving, many are facing challenges and some are failing to repay or refinance their debts as their optimistic business plans have failed to deliver and the cost of debt has increased. I believe more will follow in the years to come. 

• Plummeting birth rates in all major economies will negatively affect economic growth and pressure social safety systems. By the way, I strongly disagree with the prevailing view that we suffer from overpopulation. What we really suffer from is lack of imagination, cooperation, effectiveness and efficiency.

• As always, tensions between global superpowers pose just another layer of uncertainty. 

Tailwinds:

• Drug discovery in areas that help us combat obesity, diabetes, dementia and cancer (just to name a few) are helping us live more fulfilled and longer lives.

• We have become much better at capturing, storing and using renewable sources of energy and will be able to power our energy needs without destroying the planet.

• The world is becoming increasingly digitally rich, so that we can get more with less physical stress on ourselves and the environment. 

• The first industrial revolution enabled us to transform and put energy to use. The second allowed us to communicate, distribute information and automate like never before. The upcoming third revolution of unexpectedly rapid advances in AI will expand intelligence and make it abundant. It is almost impossible to imagine what we will achieve with constant and instant access to abundant intelligence at negligible cost. 

  
  

As we stand on the cusp of this technological leap, it's essential to acknowledge that such significant changes across industries will inevitably lead to winners and losers. 

I have tried to position us in strong and undervalued businesses that have the potential to benefit from what is coming. This is how 90% of our capital is allocated:

Our ecosystem businesses such as Tencent, Meta, Alphabet and Apple possess economic castles protected by strong moats and dedicated talent. They have billions of loyal users, and are pushing the boundaries of technology and enabling innovation for themselves and the entire ecosystem.

Our investment managers Blackstone and Brookfield are already dominant players for private investments – an enormous market that will continue to grow for decades. Moreover, they have invaluable resources in the form of human capital (talent, experience, reputation and relationships) and physical capital (access to capital, land, backbone infrastructure, renewable energy generation and distribution, warehouses and data centers) to benefit from the long lasting trends of digitalization, diversification of supply chains and decarbonization, regardless of who will be the winners in rapidly changing industries. Finally and crucially, they are businesses that I would call antifragile, because well-positioned and smart investors benefit from times of stress and distress.

I am optimistic that Grenke will benefit from a long lasting trend of businesses renting (leasing) versus owning office equipment by making leasing as seamless and convenient as possible. While I think that having the backing of the Grenke family as a controlling shareholder, more than 40 years of profitable experience and growth in small-ticket leasing and stellar risk management are good reasons to be hopeful, I am happy that, given its cheap current valuation, we should also do well without my hopes being fully fulfilled.

Of course Tesla – as a leader in distributed sustainable energy generation, storage and consumption with the potential to revolutionize transportation and save millions of lives – is leading the transformation itself and massively improving our quality of life. Moreover, its competitive advantages in leadership, culture, AI and manufacturing could lead to completely new lines of business such as intelligent robots that would extend our productivity beyond belief and dwarf its other valuable businesses.

Having now described 90% of how our capital is allocated, I hope you can see why I am looking to our future with optimism despite the challenges that we will inevitably face.

Those who know me, know that not a single day goes by that I am not thinking about how the world is evolving and how we are positioned to make a contribution to the world while earning our fair share for that. I am lucky that this passion of mine never feels like work.

As always I am in the same boat with you and continue to have nearly my entire net worth invested with you simply because these are the best investments I can find. I promise you will be first to know if this ever changes.

With great respect and appreciation for your trust, I wish us all the best for years and decades to come and look forward to answering any questions you may have. 

Sincerely yours,

Bahram Assadollahzadeh, CFA

April 25th, 2024