Jay Van Sciver shares his thoughts on Industrials and Materials for 2023 (Podcast #164)

Jay Van Sciver, Head of Industrials and Materials at Hedgeye, shares his thoughts on industrials and materials in 2023. Automobiles, Elon Musk, rails, Norfolk Southern, geopolitical commodities landscape - this podcast runs the gamut; tune in to hear Jay's takes on it all.

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Transcript begins below

Andrew Walker: Hello and welcome to Yet Another Value Podcast. I'm your host, Andrew Walker, and if you'd like, this podcast would mean a lot. If you could follow, rate, subscribe, review wherever you're watching or listening to it. With me today I'm happy to have Jay Van Sciver. Jay is the head of Industrials and Materials. If I remember correctly, you can't forget Materials at Hedgeye. Jay, how's it going?

Jay: Great. Thank you so much for having me on, Andrew. I really appreciate it.

Andrew: Hey, I really appreciate you coming on. Let me start with this podcast the way I do with every podcast. Quick disclaimer to remind everyone that nothing on this podcast is investing advice. That's always true, but Jay, I listened to a prior interview of yours and I loved how you framed industrials. Industrials is the catchall for things that don't fit in any other sector, but because you're the head of industrials and it's the catchall for things that don't fit elsewhere, we could go into a lot of different places in today's podcast.

People should just remember, we're just talking nothing here is investing advice. Please do your own work and consult a financial advisor. Jay, I think you thought we were recording before we started. We weren't recording, but we were having a really interesting conversation about Tesla, which we're recording this on Wednesday afternoon, April 19th. They report earnings after the close, so who knows, maybe the stock's up 50%, maybe it's a 0 tomorrow.

No one knows that. We don't know what the earnings are, but we're having a really interesting conversation about Tesla and then Volkswagen, Porsche, kind of a little bit of how they Volkswagen compares to Tesla and a little bit of the Stub Trade Volkswagen versus Porsche, so I've rambled a lot. I just want to let listeners kind of tune into what we were talking about before we press record.

Jay: Yes, and I think from a value perspective, the industrial sector is 1 of the best places to look because the earnings tend to be so volatile, something like truckload carriers over the next quarter or 2 are going to see earnings drop so much. You'll see people panic. The stocks will go down, the multiple will expand, they'll look expensive, but if you actually do valuation, if you actually are in the weeds, you can get wonderful value opportunities in the sector.

On the short side, you get some of the dumbest stuff that goes on, like truckload carriers with collapsing earnings currently being pretty near all time highs, that I switched to the world, so we were talking about VW and Tesla, and I think it's an interesting, I would hesitate to call it a pair, although we certainly on our best ideas list, have it structured that way, where we have long VW, which trades as you are alluding to for less than its public large cap liquid subsidiary trades for its stake in that subsidiary.

VW floated 25% of Porsche. It's not even like a voting controlling stake that trades, and that values Porsche at more than all of VW trades for which owns 75%, so at stake is worth more than what VW itself trades for, and this is Trivial Brands is Audi and Bentley and Lamborghini and VW itself, Scota. It also has a finance subsidiary with I think it's a thirty or forty billion euro book value, and Porsche is only like 11% of revenue, so it's a tiny part of total BW that's worth more than the rest of it combined, and I think that's interesting. I like things like that.

Andrew: I do too. There are a few out there in the stock market. I mean, I've had a couple people come to me with the VW Porsche trade. I have not put it on, but it's better than all those because a lot of them, like you have real hair at the HoldCo like the former Valiant now trades under I think it's Bosch Health and they spun out BLCO and their BLCO stake is worth like 2 times as much as their market cap is, but like the HoldCo has so many issues and there might be negative value there.

Whereas with VW it's like, there's clearly so much value. I've had people pitch it to me before though, and my first thought is always like, "Haven't people blown up on a Volkswagen Porsche Stubco trade pretty big, hasn't that happened before?" I think that might be 1 of the reasons to kind of set up exist like that, but...

Jay: No, I mean there's hair on everything that's going to end up reasonably valued at least a year ago in this market, and one thing I think that's interesting about it as an event or an anomaly in the market, is that these, the management team is actually distributing real cash to investors. nineteen euro share dividend, and they actually could sell another 25% of Porsche and maintain control of it and distribute another nineteen, and then there's just within the VW universe itself, the discount that VW preferred non-voting, has to the common is ridiculous. Your vote doesn't matter. You can vote all you want as a common shareholder. Porsche SE controls VW which is totally unrelated, well, it's not unrelated, but it's a different entity from Porsche AG.

I think there's like a complexity to the preferred common Porsche AG Porsche, SE, VW, but just even that preferred common as a former, , person who sat on a prop desk, I love that kind of a trade. When that spread blows out,you put it on and when it narrows back in, you take it off. You should be able to do that with lots of AB shares. HEICO being 1 of my most favorite so...

Andrew: Volkswagen and I've seen the deck, I know this way, so you've got the Volkswagen Preferred, which trades at discounts the common, and then both trade at a discount to just the value of their Porsche. Do you like those as the Stub trade or like kind of the hedge trade? Or do you think the discount is just so wide? If somebody's going out and obviously, look, again, we gave the disclaimer up front, shorting doing stub codes, they have risk. We were laughing because people blew up on this in 2008, but do you think the value is there where you could just kind of go long Volkswagen and just generate alpha that way as well?

Jay: I think so. I could be wrong. We're not allowed to trade personally the, the stocks that we cover for research, but I mean, I would, that's totally the type of thing I would buy, but I probably have a value bias as an investor to my detriment in say 2021, but whatever, I think that kind of thing makes economic sense, and if you're driving market efficiency, you should be really doing that kind of thing, and there are other pairs you can put against it, so we've had Lucid, which is an electric vehicle maker that's trying to compete in a market that basically doesn't exist, the ultra luxury.

It's a tiny tam, highly competitive market. You compare that against it, you compare Tesla, which was the other name we're talking about that's going to report today, which is basically a single product company. It is a company that's a three y that makes a 90% of revenue. They have an inventory build problem, they're cutting price repeatedly, and inventories as of the first quarter are still building. The CEO, if you want to talk about corporate governance problems, the CEO, I mean, this is Googleable, which is amazing to me, is that everybody in Tesla should realize that Elon Musk got paid twenty three point four billion in 2021.

That's doesn't show up on the income statement because his options got marked at 2018, and for the most part, options marking grant date valuation doesn't matter very much, but it's the difference between I think nine hundred million expense of Tesla and a twenty three point four billion expense of Tesla, so when you think about how much of the theoretical profit that Musk has extracted from Tesla, it's much more than anything they've earned, or will earned for several years, and then he left to run Twitter anyway, so what do you [inaudible]

Andrew: I was going to say, on the corporate governance and stock options obviously matter, and you need to adjust for that, but like, it doesn't bother me that Elon gets the largest pay package in human history and it's all options based and like the stock goes up 10X and maybe you and I both probably think the valuation's crazy and all this sort of stuff, but like, that doesn't bother me, but what bothers me is they paid, as they said, like the options are worth twenty three billion. The dude owns so much and you're paying that because you think allegedly you think he's the most talented entrepreneur in the world, and you need to pay him this so that he only focuses on Tesla.

Then as you said, he goes on this quixotic quest to buy Twitter. I think that's really hurt the Tesla brand as we can talk about in a second, but then even more than that, like just in the past week, he's launching this new open AI competitor and he's doing the startup and funding it himself outside of Tesla. Like Tesla's paying him to be the highest paid best entrepreneur in the world. Tesla is allegedly an AI company. What do they always pitch? "Hey, we're going to going to crack full self-driving because we've got all this great data. We build our own chips, we've got this AI."

He goes and builds an AI competitor, which AI could be worth trillions of dollars. He builds it outside of Tesla, like ignoring all the other... the family members on the board, the so... say all that. Like, it's just bonkers to me. It's absolutely bonkers.

Jay: Well, I mean, people who own this must have never really watched any other companies with corporate governance issues. Corporate governance is an important topic that everyone should look at the composition of the board of companies that they are invested in, because it turns out its super important over time and things get very out of control, and you really don't know that much about what happens day to day inside an office, inside the culture, inside the CFO's office with reporting and accounting, and to be honest, you should also care about the twenty three point four billion.

Because in theory you are sharing in these profits and we're all pretending that there are profits there, and there are no profits if you adjust correctly for what he got paid, and it's not even close, so you have a CEO with a corporate governance issue that's extracting all of the economic value from an entity and pretending as though it's cool and we're so happy to have him. That's completely wrong. Nobody else does that. It's insane, and the other thing I would say about the brand, yeah, Musk has clearly pivoted to the right politically, he's politicized himself.

My opinion, and we've written this so I will say something controversial here. It's an opinion. Is that Musk is politicizing himself because he's at risk of being prosecuted for securities fraud, for faking for example, the painted black video where he presented a product, faked the video, presented as or a real product, and then sold a lot of stock, billions of dollars in stock. Usually, I don't know about what stock market you've covered in recent years, but my understanding of the stock market is that if you fake a product or a lie, and then sell stock, it's kind of a big
deal.

Andrew: I followed the SPACs really closely in 2020 and 2021, so that was kind of par for the course for a while, but it [inaudible]

Jay: It became normal in part because like Silicon Valley, it's not normal, it's wrong and you shouldn't do it, and it's bad for capitalism and wealth creation in the United States, and it's somehow has become normal in a way that is not normal, and Musk is in many ways at the center of that, like, "Oh I'm rich, I can open my facilities against public health orders and what are you going to do about it? I can flout deal laws and just open stores. What are you going to do? Sue me? And if you sue me, I'm super rich, and I'll tell you open court."

There were reports that the DOJ was investigating him and suddenly he becomes a right wing guy who's tweeting that Taiwan should go back to China, when you're just like, "Where did that come from? I thought we were all fighting global warming and saving the planet." And now he had a whole investor day where climate change didn't even come up, but I think that's 1 thing that's hit the brand, but we do pretty detailed surveys regularly since 2018 on the EV market and landscape, and the Tesla brand has taken a hit.

I think that the bigger issue is that people can see competing vehicles for the first time that are attractive. Like if you go back to 2019, there were basically no EVs that you or I would be like, "Oh, I'm so excited to buy that car." I mean, the best one was the Jaguar I-PACE shouldn't have a lot of range was the Jaguar, so you know it's going to be broken a lot or whatever, so you could buy the bolt, which was ridiculous. You could buy the leaf, which was I mean these are like second cars for going to the grocery store. These aren't like primary vehicles, but now you can buy a Taycan, Etran, a Rivian, a Lucid, you can buy really attractive all and but forgetting to get into the Kias and the Hyundai, and you finally have Toyota introducing a battery electric vehicle, so the amount of options that you have in the electric vehicles with the F-150, you have all of these new electric vehicles, Mach-E.

We make a list of it and we gave up on the list because there's now so many alternative. The best 1 I've driven, I actually thought the Volvo, little electric SUV is a really nice car to drive, yeah, there's just so many of them that it's just less differentiated than it was.

Andrew: Let me pause you there. I want to ask 3 questions, so first, unfortunately most people listen to this audio not video, so I try not to share slides, but I have seen your slides. People can go find them somewhere, they want. Your slide on the, it is percent of people surveyed that would buy Tesla over another EV brand, and if I'm just looking at it, you guys start in 2018 and up until May, 2022, Tesla kind of always pulls in the 70 to 80% range, so that's huge. Basically everyone is saying, "I'd rather Tesla over everyone else."

February to May drops from 70% to 56% by far the largest drop you've got. The first time that they kind of don't round out to 70%, and then December, they're still in that 56% range December to February, so that's the most recent 1 that I've seen you guys publish. They drop from 56 to 40%, so I was just wondering, obviously the competition's coming online, but is there anything else like the May, 2022? It does strike me. That's right when we start buying Twitter.

Is there anything else that you can think of that's driving these 2, I mean, these are massive drops inside of a month, and obviously the February one is 1 data point, but from the February to May one, they consistently go from 70 to 56% and they're there for the rest of the year. Like, is there anything else in particular you're thinking is driving this?

Jay: I think there's 3 things. First, people on the political left buy electric vehicles. People on the political right may buy them, but just statistically they don't buy them, so if you liked the Twitter files or whatever odds are you are on the right and believe in like the free speech and government shouldn't email a social media platform to take down Hunter Biden non-consensual nudity videos. Like that's probably you're bias, and if you're on the, on the left, like you see Musk being... I mean, he's tweeted it's nothing new about him.

He's tweeted a variety of things that would get me sent to the HR department, and he is the CEO of a company, but you find some of his things about like fauci pronoun. My pronouns are prosecute and fauci, which isn't actually how pronouns work, and you can make some very funny sentences out of it, but I think he turned off a lot of the traditional buyer base for his electric vehicles, and basically moved his personal brand to a cohort of people that don't buy electric vehicles in the way, and haven't traditionally worried about climate change in the same way.

Or their environmental impact in the same way, and then they're like, "Oh, he is just preparing them for the truck." And I'm like, "I don't think they're going to buy that truck. Like that isn't the truck that a guy who wants to throw MAGA flags on his truck is going to run around with him." I think they'd make fun of him, but that's my take on it, but I think the bigger issues is that supply chain difficulties were a massive headwind to the launch of the EVs in 2021, so 2021 was initially going to be a very big year for new EV introductions.

If you think about Tesla and their success, the model 3 pre-sold very successfully in 2016, so the major OEMs were like, "Oh, batteries are here, let's start developing these battery vehicles." It takes 5, 6 years to develop a new vehicle, so you had a whole slew of the first barrage of new launch was really scheduled for late and it all got demolished by the pandemic, and when supply chain difficulties eased a lot of those Super Bowl ads and new introductions came out in really you can look at supplier delivery times or any of the indices for supply chain stress, or just even the shipping rates for parts from China and stuff like that.

They all came down in the second half of 2022, so you start to see the supply constraints on competing vehicles come off at that time, coincident with the issues around Musk's personal brand within the community, and another really important thing is just that these are aging platforms like the model 3Y is now... I mean they got like taxi cabs, the blue weird taxi cabs driving around with their... you want to drive the same car as the taxi guy, and when you have something like 2019, a whole bunch of cars get sold, they all look new and great, now they're going to get dirty and scratched up.

People are going to be driving around with dents in the mirrors hanging off, just because that happens. Like the Camry comes out and it's like, "Oh, it's a new Camry. It's so interesting." And then they look beat up and you guys, I see it the most like Corvette, it's like a new Corvette comes out. I'm always like, "Wow, like the current Corvette looks really good." But I know in 3 years is going to look less good to me, so I think that's the other thing is you said at the single product company, it's like Peloton, they make 1 thing and that's like... I mean, I have a Peloton treadmill.

They don't make 1 thing and the treadmill was excellent, and if they recall, if you still have the recalled 1, you should try and sell it in the second market, because people really want them, but...

Andrew: I remember when the Recall came out and you could go onto like a Peloton message board and there'd literally be mother of 2, 45 year old woman, she'd be like, they can come take my Peloton treadmill for over my cold dead body, and I was like, "Wow, that is some intensity around a treadmill."

Jay: It's a really good treadmill, and the terms on which they sold it to you were... I have one and it's amazing. It's a really good treadmill, but if, if something does get stuck under it, it is remarkable how quickly we had like a thing get stuck under it and the whole trip bill was up on its corner and like it weighs like four hundred pounds, so it could be really bad, but I think you have the same vulnerability where you have a single product or a single product category, sort of the 3Y, that is entirely dependent for on the success of the company, and that is under assault.

Like you can buy this new like Kia EV6 and it's a good looking car. You can buy the Volvo, you can buy Mach-E, you can buy a whole ton of cars, and you don't have to feel like you're driving around in MAGA[?] automobile that all your friends are going to judge you for if you lived in the [inaudible] Carlifornia.

Andrew: Let me ask you another question. Just Tesla, I mean, , especially shorts, underweights, that type of stuff. Like the question is always why now? Because the conversation we're having, I do think the brand is worse today. I do think there is more competition, but , you and I, a lot of this conversation we probably could have had back in March, 2018, like I specifically remember being short Tesla at the time, and the stock... I think it was March, 2018, went on a crazy run, and then a year later, Elon's giving interviews that said we were a week or 2 away from bankruptcy at Tesla, and I was like, "Oh my God, I knew it."

Somehow he pulled a rabbit out there out, and I think like no stock has burnt short sellers like Tesla has excluding maybe like some of the really Mimi stocks, but over the past 10 years, no stock has burnt Tesla, and every time you think it's done, like, I remember coming into this year, I was like, I feel like the Tesla brand's getting hurt competition is coming the stock's up with like 40% this year. Not to results base or say a very short time frame, but just every time you think this company is done, Elon pulls a rabbit outta their hats.

Or I remember 1 person said once. I think it was Denis McMerchury, "Hey, the bare case for Tesla is competition is coming and they're an overvalued caller company and the bull case is Elon's going to take us to Mars? Like how do you fight that bull case?" I don't know, just like why is now the right time?

Jay: Well right now they have an inventory problem and they're cutting price desperately, and if you saw that at any other consumer product company, you would get, I can't get a locate fast enough.

Andrew: 2 price cuts in 4 months in an inflationary environment, and just the whole market doesn't care.

Jay: The inventories are still building. Like in the first quarter you had another increase in inventory, when that is not the auto market. The auto market is still in deficit. There's still some supply chain issues. The whole dealer channels hollowed out, and I know there are conspiracy theories that say that that isn't true. It's all off lot. I'm like, just look at Manheim. Manheim is still up. There's not enough cars, or go try to buy a car. Like I love to go buy cars. Took my son to the Bentley Lamborghini dealer, got this cute picture 7 and driving a Lambo. Not really driving it just in the car, but....

Andrew: It's like breaking the law and running into stuff.

Jay: If my kid could drive a Lambo, like I'll pay the fines and do the time, I'd be so proud of them. All my kids can drive. Well, my 2 oldest kids who can reach the pedal can drive a manual, but we do it in a driveway just to be clear. The point is though that... I don't even remember the point of that.

Andrew: I think I was asking why now on Tesla, that's kind of what we were talking about.

Jay: What was that?

Andrew: We were talking about why now on Tesla?

Jay: Oh, why now?

Andrew: You were saying, look, the, we talked about the price cuts inventory building and I think that's going to...

Jay: Yeah, so like if this were any shoe company retailer, any other durable consumer product company that had... I mean they're literally adding 2 factories and they're having a problem. They're adding a Texas and Germany and they're already having a problem selling their current production and cutting price with inventories even in the first quarter inventories went up, by the time no one else is having that problem. We're entering a recessionary, we think from a macro environment, clearly a borrowing rate for something like a car higher and you just trained everyone to sit around and wait for price cuts.

I think it's like a total mess, and there were not competing vehicles. There were supposed to be, they didn't show up because of supply chain difficulties. It was in a way a very weird bailout, and the most important thing is, as somebody on Twitter responded to me, when we post this chart of like Tesla relative to the market versus Fed funds when the Fed is accommodated and liquidity is abundant, and a bunch of people who aren't sophisticated investors come in with their ape into AMC or SPACs or any of these bubbles that came up, and I think that I mean hopefully since this is a value investing podcast, every single person on the other end of this understands exactly what I mean.

The tide is going out, the Fed is tightening. SPACs have already blown up. Lucid is blowing up, all of the autonomous stuff blew up. Some of the stuff is blown up is actually going to be, I think interesting the long run, and Tesla's actually down 50% in addition over the last year in addition to up 50% year to date, which tells you everything you need to know about. We call it the last garbage standing, and we can look at Musk's AI thing and I called them a jack of all bubbles. Like if streaming companies are coming public, he's going to Tesla's streaming.

If autonomy is what's hot, he's going to do full self-driving. If it's electric vehicles, new energy, whatever it is, like he tends to be on it. That's just how he is. We're going to mine lithium with table salt. How did he get out of the 2019 situation? I think it's very obvious that he held autonomy day, where he told of everyone he was going to do a variety of things that 4 years later didn't happen, and he probably knew at the time aren't going to happen and he sold stock because Tesla's primary product, the thing they are the best at selling is stock, and you can be like, "Ooh, they haven't sold stock to the public."

It's like, "No, they disrupted that by giving it to the CEO, who then in total it turns sold it." The main product there are is shares of stock in addition to the model 3, which is a very nice car. I don't think the model why is nearly as good, and they did a good job with the model 3, so I don't mean to take away from that, but the Peloton is also a really nice treadmill. I'm a huge advocate for that treadmill, even though I'm sure it will kill me 1 day, so being a nice product doesn't get you that far in stock market valuation and durability of products.

Andrew: Let me go back. We were talking Porsche VW and , I think a basic question to ask, so you've got this trade bird VW is trading for less than just the value of their Porsche share of their Porsche shares. That's a pretty obvious arb. If I haven't looked at the bar or anything, and again, short selling's, risky, everybody, I'm assuming Porsche would be a little bit difficult to borrow since VW and 75%, but even there, like buying the rest of VW you mentioned the financing arm, all their other brands. Like that's obviously a good trade if you can get it for more than free.

I guess just the, the first question I should have asked is why does that trade exist? Like what are you and I seeing here that the market's missing? Is it just Porsche's low float so nobody can short it and hedge to this out and Porsche's actually just massively overvalued because a few retail guys who love Porsche are buying the stock? Or is there something else going on there that's kind of presenting this opportunity?

Jay: Yes to all that. Porsche is not without hair. I mean, it's a European industrial, and usually my thought on European industrials, specifically French industrials is nobody ever made money there. No. Just don't, whatever it is, leave it, it looks good, but Germany and Sweden you can occasionally do okay, so we'll take that more seriously, but you do have, for example, labor on the board. You have more of a stakeholder culture in Europe. You have the Porsche family is in a controlling state.

You get into a lot of the politics between... oh, the government of lower Saxony as a board seat and some influence, so you have this weird governance. It's not necessarily evil or fraudulent, but it's not great because you just had all this dieselgate stuff that went on that was definitely operated at the... so you have some history of bad governance of that sort of toxic brew at the board level, not being great for value creation and shareholders.

Although I think Dieselgate was an effort to maximize shareholder value by a fraud, but whatever..

Andrew: You don't hear that too much, right? Maximize shareholder value by a frauds. That's a weird sense.

Jay: I'm kind of where we're going, right? They want to sell more cars, they want to win it, and a little bit they get away with that because it's the sort of national champion, who's really regulating you? Oh, you're friends is the German government, and you're probably 1 of their largest taxpayers, everyone, employers and all that stuff, right? There's all kinds of conflicts. I mean, we talk about the investment industry conflicts of interest, but I mean, every industry has deep conflicts of interest, so I think there are like issues with governance in the board.


I think that that board currently recognizes the low VW valuation is bad for VWs brand, and the marks that are under its umbrella and they want to correct that. I think they also initially over-corrected. Not over-corrected, but they were also forced into being early in electric vehicles, so they're investing in Electrify America. They were selling EVs earlier than most other companies, and like I pointed out with Tesla, like the way they were early is they were willing to accept a 7 billion loss in their first whatever number of years of operating.

Everyone knew electric cars were coming, they just were willing to eat the loss early and build a, a franchise in it, and to some extent VW has done that as well, and I think there's a huge complexity issue. You start explaining that there's Porsche SE, which is owned by the Porsche family, and they are actually the controlling shareholder in VW via the voting VW shares, but there's also the VW preferred, which is non-voting and trades at a discount to the common, which is controlled by the Porsche SE family, and then 1 of the ways that VW created value was by IPOing Porsche AG.

Which at that moment everyone's like, "Wait, there's 2 Porsches?" And that also has a common and a preferred and trades for more than all of VW, and you just when you start explaining all that to even a sophisticated institutional investor, the term is brain damage. Like they don't want to do the work and you can make money. I mean, like Liberty, and there's been a variety of things where understanding something complex,

Anderson: You make money in Liberty recently.

Jay: Oh, I know. I'm just saying like his historically, like you can make money in things that are com complex or whatever, but sometimes if you have a hundred companies under coverage or a PM who's trying to go across all the sectors. It's a lot easier to hear like, "Oh, they're going to Mars long." Like that is definitely a dynamic that I think we've probably all seen play out of institutional investors, but inefficiency management team is actually... I mean they're talking about IPO in Lamborghini. Sell 50, 49% of Lamborghini pay out whatever $8 billion or whatever that raises and give it to shareholders.

That is just like a very natural way to get rid of the stock won't go up, but your total return sure will, and that's a very natural way to correct the valuation disparity, so I think that is a trade I like a lot. It's worked out in the last year, and I think if you're worth your soul as a value investor, and VW has some like really beef and beyond la diesel gates, I mean, they behaved badly during World War II. We're going to title... oh, you just can't. There's baggage in history in any old industrial company. Like, it's just how it is.

Andrew: Let me switch gears completely and ask you about...I think unless you've changed your recommendation in the past couple days, Barish Uber is 1 of the positions you guys had, and it's just 1 that's interesting to me because I've got a lot of friends who are long it, I've got a lot of friends who wouldn't touch it with a ten foot pole. I think the long thesis is you've got the leader of mobility. It seems that Lyft is imploding as we speak. I'm not sure how long that's going to be like a 2 player market.

It seems like it's going to 1 player market. You're getting glowing profiles in the Wall Street Journal of Uber CEO spending 2 full days being an Uber driver and being able to fix all their driver problems because of that, I guess, but I just want to ask you, Barish Uber, obviously a little bit of controversial stock. What's making you Barish there?

Jay: We did the IPO as a short, and we still have that on from that period. If Lyft goes away, that would be interesting as a structural change to the industry, but the reason we are Barish Uber, and this is great actually. I speak to too many non-value investors, but I assume everyone on this call is familiar with like Michael Porter and industry structure, and that there are good businesses and bad businesses and I mean, Uber is obviously like structurally in a difficult position. When you do it out, the cost of having a chauffeur is just really high. Like if the cheapest way to get around New York, you and I are both New York's tipped, is to run or take a bike, you will take the least time and it'll cost you the lease.

That's why Citi Bike is very successful. Owning your own car outside of New York, a place where parking is a pain. Anywhere outside of high parking costs, it makes more sense to drive yourself. Just, it takes less time. The bus is a disaster because of the amount of time it takes. We put like a $100 an hour on people's time, people overvalue their time. You can tell that by who takes the Acela versus the regional Amtrak and things like that. It's like your time isn't worth that much probably, but people put a high premium on it, and the problem with Uber is just that it's really expensive to hire a chauffeur.

The real problem with Uber, the thing that we came away with, like very confident on saying like, this is an IPO you can short, is that there is the theoretical industry structure advantage is supposed to be a network effect. That when more people show up, more drivers show up and more drivers show up, and you get this wonderful people all in the network. Well, the problem with that is that 1, people can just get on two networks at the same time.

They can get on Lyft and Uber at the same time, and second, there are tests for network effects, which is that monthly daily average users over monthly, average users over time, are people using the product more like, "Oh, I log into Facebook once a week, but then I find I love it." The more time goes by, the more users are there, the more interaction you have with it. Well, Uber failed all of the network effect tests. It doesn't have 1, which is why it's so big and still loses money no matter how they try to define EBITDA and all these numbers. We're going to be adjusted remote recalculated excluding everything EBITDA positive.

Anyway, so I think the problem with the business is that they have historically lacked a network effect because there are some significant structural problems. We do it out. Actually we use it still as an industry structure example of a failed industry structure, but 1 of the problems is just that the switching costs for drivers and riders is very low. There are lots of alternative transportation mechanisms, so it's very hard to get that network effect to work.

Andrew: No, I think that's the big thing, because I do wonder, as you said, the switching costs for drivers and riders are pretty low, but everyone else is imploded, so it does seem you're going to a place where Uber's kind of the only place for riders, and drivers to go at that point, but it's just the everything else. Like every time I go out to dinner on a Friday night, it's 9 o'clock, I'm fifty blocks from my apartment. I pull up Uber and I say, "Oh, if it's $10, I'll probably bite the bull and pay a little extra take Uber, but it's fifteen or twenty. Great. I'll spend an extra ten minutes and take two hundred and fifty to take the subway and the bus."

I'm a huge Citi Bike fun, I'll probably Citi Bike by your apartment later today, but yeah, and obviously subway and bus and city bikes versus Uber is a New York City thing. I don't want to be like, "But if you're in the suburbs, you've almost certainly got a car, so you weigh, Hey, do I want to go out, have a couple drinks, I'll take an Uber then, or I can just drive." Like it's just, there's so many alternatives. It's just really hard when it's not just that people can go to your competitors, it's that you're always weighing every other alternative against it.That is just a tough luck.

Jay: It really makes the most economic sense outside of areas where it's impossible to park, when you're going to the airport because the airport parking is expensive. Outside of basically every other use case besides dense urban areas where you can't park and airports, it doesn't make a lot of economic sense, and there was already a competitor in the form of taxis and black cars, and limos that met the needs of people there. They elbowed them out to get into that incredibly desirable, lucrative market of running a taxi service. You're just like, "Okay, great."

Andrew: Before Uber it was pretty lucrative. I mean, you remember all the stories about Taxi medallions. In college, remember I went to a conference and a private equity guy was in Dallas and he talked about owning the monopoly in the Dallas market, and how much money it made, and I thought he was kind of arrogant, so when Uber came around, I was like, "I bet that guy's regretting how much he talked about that in the past."

Jay: They had a regulatory barrier to entry, and that was amazing, and now basically Uber blew up that, so yeah, I look at it and and if it were a monopoly then yeah, I guess you probably see the network effect of that and they'd be able to take price, but I'm a huge user of Uber. I don't look at how much it costs, and as long as it's not stupid, like you got to get to the kids somewhere so you're just going to get in the car. Although I greatly prefer taking a New York City cab if I can get it because the drivers are better.

Like you actually know what's going on. You get some guy who's just drove in for the day or whatever driving around New York and it's like, yeah, "Oh my God, why are you going there? We're going to die. We're like in the tunnel or something. You're going to die." You never get there.

Andrew: The other day my Uber driver missed my exit, which it was a very obvious accident. He missed it, and then right in front of us, there was a car accident, so that mixed exit, which should have cost us 5 minutes, ended us costing us an hour and a half because we were stuck on the... like it was a big accident, like 7 police cars, 2 Ambulances and Firetruck respond. I was like, "Oh my God, I cannot believe 1 exit has cause this." Anyway, another thing.

Jay: If it was a good business, it would've made money by now.
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Andre: The other thing with Uber, like if you think about the, the alternatives business trips, you go somewhere and I instantly just price out, "Hey, I need to make four trips. Is the cost and convenience of an Uber going to be worth it? Versus running a car, being able to instantly leave, go wherever I want. Maybe take a couple extra"... Like, there's just so many alternatives to it. It's very tough. What we've been going for about forty five minutes. I think we've got another ten or fifteen minutes. I've got list of everything that you're long, but anything else you want to talk about with kind of a Value Inverstor Focus Podcast?

Jay: Well, I mean so 1 of the things we've been working on the most recently is the truckload carriers.

Andrew: I had your I think your short truckload carriers, and your long rails. I thought that was a pretty interesting.

Andrew: Yeah.Yeah, so I mean, rails are speaking of regulated quasi monopolies. Regulated quasi monopolies the cycle, so one thing we do... I should probably explain our process, but our process is usually to define the cycle in an industry, like what actually drives the cycle, and for a lot of industries I cover that are physical fleets like trucks or construction equipment, what drives the cycle is actually replacement demand that you'll have a cohort of, it's like demographics, we call it fleet demographics.

Where you'll have a cohort off equipment that gets old and has to be replaced, so the best example of that is rail cars because there's a regulatory restriction on interchanging rail cars that are older than 50 years old, so if there's a huge number of rail cars that are going to turn 50, you know that they're going to sell replacements for those, and if they're not, and then people are like, "Well, they never last that long." It's like, "No, actually there are like 80-year-old rail cars still running around that don't interchange, so they just like ship lumber inland or whatever." We did WaTech as a short because the fleet demographics were turning very Barish and you weren't going to have any replacement demand for a while.

Because in 1974, they changed the life of a rail car from 40 to 50 years, so you ended up with a 10-year gap in replacement demand. Which was a really good trade that will reverse. We usually use ship building which is after World War II, you had a whole cohort of ships come into the commercial fleet. Ships last for 30 years. You had a peak in 2011 was the last peak, and people don't talk about Baltic dry all the time and dry bulk shipping the way they did back then, but they aren't all fleet demographics. A lot of the drivers are regulatory, so for class A, it was always emissions regulations.

It's now no longer emissions regulations, so they've given up on that, but now it's just fuel economy, which is like what they were doing anyway, but 1 that's really interesting is rails where railroads were a lousy industry for a long time because you had the Interstate Commerce commission regulating pricing, so a shipper would go and take a rate case, they complain, and the structurally the rails just couldn't fight that pricing, and they had all these other burdens that were forced on them.

They'd take passengers all this crap, so for a long time the 50s, 60, 70s rails were a lousy industry to be an investor in deeply cyclical subject to marginal freight demand, and then you get deregulation Jimmy Carter, the great deregulator is how he should be remembered in MySpace trucking airlines rails. You get eventually to the Surface Transportation Board and the composition we have now, and you have a very light touch on rail pricing, and when you think about the lobbying power of the rails, it's super consolidated.

They're basically 5 class ones, and there are employees in basically every congressional jurisdiction for the rails. It's like the defense contractors, they wield an enormous lobby, and that's the road they've taken. I don't know why they're being like so stupid on the PR front recently with respect to the accident in Ohio. I mean, nobody dies in rail accidents. It's a very safe industry. People die in rail accidents when their car gets hit, on a rail crossing. Rails are a very, very safe way to move a huge amount of freight.

Nobody even died in Palestine, Ohio. Nobody was even hospitalized, but we somehow made a national emergency out of it, but the reality is that they have this enormous pricing advantage. If you want to get your coal to the power plant, you're going to pay your railroad. They take price every year. Margins go up every year, because they are a lightly regulated monopoly. Now, eventually it will be too much and the shippers will get together and oppose it and bribe politicians to reregulate the rails, and that could be in like 2060.

Like,I have no idea when that's going to happen. It certainly isn't going to happen right now, so if in the meantime these are like basically light regulated utilities in terms of their sort of factor characteristics in the market, and the other thing that really matters for Rails is how fast freight moves, so if you can move the same amount of freight in half the time you get to book that revenue earlier, so the congestion we saw from COVID,. You heard probably about the ships backed up at ports and trucks backed up at railyards and ports.

It just snarled the whole transportation network in the us. People were out sick, the freight lanes changed, like everything went wrong, and it's a very sensitive network. You'll think of a... not a sensitive soul, but like if you get a disruption to a trade network, suddenly you have a train in the way and you have a train in the way just like your traffic accident. You get stuck, you get backed up, it all kind of compounds, so the decongestion, the speeding backup of transportation networks in the US frees up capacity.

Freeing up capacity is bad for truckload carriers. Freeing up capacity is fantastic for rails because the thing I think people also don't know about the railroads, railroads haven't grown revenue ton miles capacity, how much they move in 2 decades. They are not growing capacity. It is exact like a flat line from 2004. It's not a volume story, but margins go up because it's a pricing and cost story.

Andrew: I guess just looking at the rail, so I've just pulled up Norfolk's Southern on Bloomberg. I haven't done a deep dive into these in a while, but I guess the pushback on it would be I'm looking at 2023, 2024 estimates, and it trades for about fifteen times price earnings. It's about roughly. I think you lay out a coherent story for voles going up marginse, but like if I'm buying a rail this leafy growth company that's just kind of relying on margins and pricing going up a little bit at fifteen times. Like are you really going to generate debt at that multiple?

Jay: Yeah. I mean, I think you are like the rail, the margins for classmen rails were like 12% in 2007 and they're like 30% now, so these aren't that sleepy. They take a lot of price, and their costs are coming down quite a bit over time as they kinda optimized a fixed network and increased, yeah, they use more technology. There are some big cost reductions they could make that will probably be harder to do in the wake of more regulatory scrutiny, but I mean, this is a straight line up from deregulation, so you get the STB in 2006 and just you're talking about more than doubling margins in a decade and a half or a decade, really just a decade. Doubling margins in a decade. That's pretty good.

I think there's no reason to expect that won't continue, and then you get people they're like, "Well, they only earned X in 2019." Which you can be like, "Oh, well that's an industrial recession." And 4 years ago, 4 years of price increases. There's another like inflation aspect, like inflation was bad for them because they typically price out, it's a mix of contracts, but the average like big ship or price out a year, so they know what their... and there's some longer term ones too, but they'll know what their prices are going to increase, and if suddenly their costs increase more than that, that's excel surcharges.

That's kind of a negative, so to the extent that you get disinflation and ongoing pricing, and the network speeds up, which lowers uni-cost, I think it could be a really good group to belong. Is it going to like light your portfolio on fire? No.

Andrew: You got to be careful talking about railroads, lighting stuff on fire on the heels of an accident Jay. Come on.

Jay: Yes. No, lighting it on fire was the right thing to do. Like, so I'm a chemist. I have a degree in chemistry. I worked in a lab, and I left chemistry to join the buy side at Brown brother chairman, which was quite a career change, but I know a lot about chemistry, and I've covered the rails for 2 decades and this accident happens and I'm like, "This is my moment. I've been training for this my whole life." Like, it was actually I think a huge regulatory victory. There was an accident, it was immediately disclosed. People objected to the process of remediating it. They objected to lighting the vinyl chloride on fire, and I'm not saying that like lighting vinyl chloride on fire is something you want.

They are evacuating the area, they are removing contaminated store writing on fire is probably the best thing you can do to get rid of it. What do you think happens at a hazardous materials waste facility? They light the stuff on fire. Like that's what happens. Like you burn it. Like it's no other way to get rid of this stuff. It just looks ugly, and it does create an acidic ash, which is not great. I don't mean to minimize it's not great, but nobody killed, nobody hurt. Everyone's like, "The press isn't covering it." As I see it on every television screen at the gym. It was crazy.

Andrew: Yeah. Every late-night show was covering it. Just quick question, Norfolk Southern down about, let's call it 20% to make the math even this year. Whereas I think a lot of the other rail PI are up. Do you think, I'm guessing this accident has a lot to do with that. Is there opportunity in Norfolk Southern right now?

Jay: We have it as a long, but I think they'll all work. They're all correlated. I would prefer Norfolk to other, because I think the rail accident is way overblown as a...

Andrew: That was more what I was asking. Yeah. Just as...

Jay: Yeah, but I think you can own a basket of them. Like I don't think you have to take the individual risk because the reality is it's a good business to be in, and it will make money even if we have a bad recession.

Andrew: Last question, and this is me being a bad podcast host. I prepared more on the industrial side, and I think you've got a longer industrial coverage. The interviews I saw with you had been more industrials, but on the material side, are you following Teck Glenco[?]?

Jay: Tech camco or...

Andrew: The Tech Glenco, buy a crazy buyout offer spin that's happening?

Jay: No. I'll just be like, I've looked at it. I mean, so we have a couple of interventions of substance on 1 thing that we cover. We cover, and we don't cover what we don't cover. Like I can talk about like almost anything, but I've covered industrials a long time. You listen to the Glencore earnings call and they'll start talking about their fatalities, but we have 2 things that we're really doing. 1 is short base commodities, so CF and then urea fertilizer names. Where there's a huge slug of capacity coming. Everyone wants to talk about high marginal gas prices in Europe, but what they should be looking at is India going self-sufficient.

Nigeria moving to the export market, and the fact that global consumption of urea in developed markets in US goes down, it actually is in decline, not over like some short period of time, over like decades and globally. It's probably going to go into decline with China being more responsible with use application, and then short steel is I think 1 of the coolest places to be short, very straightforward. What you had was very high shipping costs through 2021, 2022, which narrowed the competitive geography, so suddenly if you wanted to build a toaster out of steel, you literally could not import steel. It just wasn't economically reasonable, so you get this...

Andrew: I heard you describe it on a prior podcast. Steel is normally an international market, but because shipping costs went so high, it turned into like cement. It was a local market. Where hey, if the steel was more than fifty miles away, basically 50 miles might be, but you basically couldn't get it. It turned into a...

Jay: It's exactly late. Yeah, so that dynamic is since reversed, and then on the long side we have... I'm a believer that electric vehicles take share because everyone's already building the factories to make them, and they've already designed them, and we survey consumers, they say they're interested in buying them, so I think when you do it out, there's absolutely no way that you're going to have 20% of auto sales that are electric in 2030, because you simply don't have the metal. Like you don't have enough lithium. It's like math.

I don't know why. Like whoever wrote the IRA didn't do out all the math for hydrogen subsidies and all that stuff, because when you do it out, you're going to end up with like no lithium and a negative hydrogen price. I mean, I know the market will adapt, but like you wouldn't have chosen those subsidy levels if you had really thought it through carefully through non lobbyists. I do think that Almar, is like a normal company in many ways, relative to a lot of materials companies like a US listed board man, a CEO in decent regions in which to produce good assets and is an interesting way to play what is likely to be another super cycle.

Like we saw that with iron ore where you had in 2001, I was in materials house in 2001, so like people would come in and be like, "Can you imagine if everyone in China bought appliances, how much steel and iron or that would consume?" And it turned out that was right. That was like a really easy thesis, and I think you do the same thing here. Like can you imagine if a third of people bought electric cars what that would do to lithium consumption? And you look around and you like, "Wait. That's right." So I think that's 1 that we have is a long where you are going to be in a until you get to lithium recycling in a amount that matters, or a cessation of ED demand growth in a long upcycle in lithium consumption.

Andrew: Perfect. Well, hey Jay, this has been absolutely great. We'll have to have you on again, but we're approaching over an hour if you include our pre podcasts chat, so I think we have to wrap it up here, but where, where can people find you if they kind of want to learn more?

Jay: If you're on the institutional side, you can email sales@hedgeye.com, and we can get you set up. We have for non-institutional individuals who are interested industrials pro, which if you Google Hedgeye Industrials Pro, believe it or not, it will take you to the page where you can sign up for that, and yeah, those are our 2 main categories.

Andrew: Cool, and I'll include a link to your Twitter account as well so people can go follow you there. Very active Twitter profile over there, but Jay really enjoyed having you on and looking forward to the next time.

Jay: Great. Thank you so much for having, it was a pleasure.


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