Letter #93: Marc Stad (2023)
Founder of Dragoneer | Disrupt or Be Disrupted: Venturing into Tech
Today’s letter is the transcript of a panel Dragoneer Founder Marc Stad spoke on in 2023. In it, he introduces himself and shares a little background on Dragoneer, lays out what he looks for in companies, and comments on the gap between valuations and seller willingness, coaching management teams, the IPO business, his view of the cloud, and some quick takes on the 10yr US Treasury, S&P500, Bitcoin, Metaverse/AR, and Work From Home.
Marc Stad is the founder and portfolio manager of Dragoneer Investment Group, which he founded in 2012 and has grown to ~$25bn AUM. Prior to starting Dragoneer, Marc was a portfolio manager at the Investment Group of Santa Barbara, where he started with $1mn in 2007 and became the partner in charge of the firm’s Hong Kong office. He started his investment career as an investment professional at TPG Capital in the North America Buyouts Group. Before that, he was a consultant with McKinsey.
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Transcript
Introduction
Good morning. I'm Marc Stad. I'm the founder of Dragoneer. It's great to see everyone here. These are some very close professional and personal friends. It's nice to be on stage with you. I started doing what I'm doing in 2007 with $1mn of assets, and I thought it was all the money in the world. And our model was, there's just a tiny number of exceptional companies in the world, companies that have great moats and will make lots of free cash flow—both in the public and the private markets. So when I built Dragoneer, the idea was, let's have a flexible pool of capital that can go play public or private, but with the idea, really of, preserving capital first and having high rates of return second, and things that we will know well and can own them over the long term. And today we have over $20bn dollars of assets under management and a wonderful LP base and team, and keep doing what we're doing.
On what he looks for in companies:
And Marc, last but certainly not least, I'm going through my list here, but you rejected so many questions, I'm actually having trouble finding something to… on one note here, for my colleagues and others, Marc started as an analyst at Citi. So for those people in despair in that role, there is life. Look at where Marc ended up. Congratulations. I mean, Dragoneer is just this unique business from that—public, private business, crossover fund. And, you have done, I think, some very very unusual transactions, including having actually one of the best performing IPOs in recent time, which is very very unusual given that the average IPO is down 50%. As you look forward here right now, where's your focus? Is it growth? Is it profitability? What are the competitive dynamics that you're looking for in these companies? Because you will do, along with everyone else here, real, in-depth work on the companies. What's your view here as you go forward with this great reset? Is that an allowable question?
That one we’ll go with. By the way, I was an intern at Citi 23 years ago. It's amazing that you still remember that, given I was a summer. But at that time, I was convinced I was… I had no vision whatsoever that I was gonna go into the world to finance. I want to go to Washington and and save the world. And I happen to help write Bob Rubins’, who was the co-CEO at the time, endorsement speech for then-candidate Al Gore. And afterwards, he asked me what am I going to do? I said go to Washington. And his advice to me was first go learn something about finance and business. And he didn't get me the job, but he got me the interview. And I went down to New York, and they gave me a job, and that was my foray into into finance. So thank you to Citi. To answer your question—
I've got to HR reviews here. There was probably a…
The question is: did they give me an offer?
So, to answer your question: That's not how we see the world. It's not profitable versus unprofitable. The question really is, Is this a great business or is this not a great business, are we buying it at a great price, and do we know it darn well? And if it doesn't check those three boxes, we just have no interest.
There are unprofitable companies—when we invested in Facebook back in the day, it had 777mn of revenue—it didn't have profits. Today, I don't know, tens of billions of dollars of profits. And you can go down the list of lots of companies.
The question on the profit is really: Do the economics work? There are companies that, like in software and Monti's World, etc, that you spend a buck on sales and marketing, you get a buck twenty in the first year back, and that compounds for a while and grows from that number. And that company may be growing very quickly. Guess what? That's a great investment.
Similarly, you could have a low margin business that you got to keep reselling to customers every year, and they wake up every once in a while, and there's a recession, and they decide they don't want to buy widget X. And that, to us, is a is a much worse business.
So our whole landscape and view is: there are public companies and there are times, they're very, very infrequent, but sometimes the really good ones are cheap. Because maybe they're misunderstood, or even easier, we call it un-understood. Maybe it's a young public company that just went public, and just the world hasn't figured it out yet. Like a Square right after it came public, like an AppFolio right after it came public. And many others. Maybe it's a private company, and you find a way to invest in it. Like a Snowflake, or a—go down the list. Or, sometimes you're less certain.
And there's an asset class that a lot of people know about, but we've spent time, and we've done 18 structured deals, where we say—like a Spotify back in 2016. It was a very tricky investment. So many people in this room use Spotify now, but back then, there was Rhapsody and Rdio and Grooveshark and iHeart. And forget about Amazon and Apple and Google and everything.
But Daniel Ek was so darn good, and the idea that we were gonna pay ten bucks for an album, a digital album, or three bucks for a song on iTunes indefinitely, was not going to happen, in our minds. Streaming, and you never have to wait and download it, and did you download it, but I want to… and you could stream it anywhere you want, whenever you want, 10 bucks a month, all you can eat. We were confident that's where the world was gonna go, and then Daniel and Spotify had the best chance. So we did a structured deal there, which protected our downside but gave us exposure to the upside, which turned out to be a great investment.
So our ideas, you really got to try to figure out—it's like a jigsaw puzzle. And in our world, we play the idiosyncratic game. And by doing publics and privates, by doing structured or common equity—but you got to know what a great company looks like. And if you know what a great company looks like, and you know what too expensive looks like, and you avoid the things you should avoid, and you make concentrated investments, then you can make a lot of money—in most markets.
On Anton Levy’s views on if there’s a gap between right valuations and what sellers are willing do.
Leon, can I just say one thing on Anton's point? And everything you said, I agree with—in broad strokes. The only thing I would say is, there were companies, let's be clear, there were companies valued in the billions, venture world, at scale, they're going to go to zero. That aren't worth anything. Or maybe they'll get bought by someone. But the amount, and we're probably a third to halfway down, on average, of where these things will be marked, but the number of companies in peoples’ portfolios that they did, in these periods, people doing dozens and dozens and dozens of crypto deals, or this deal or that deal, speculation, FOMO investments, whatever it is, in this period, like we saw 99-2000, like we saw in 07, and now like we saw in 2020 and 21. And the number of companies that will end up getting marked from what was maybe a $5bn valuation or $2bn, or whatever the number is, down to close to zero, is a heck of a lot higher than anyone's talking about.
On coaching management teams
So with that, I'd love to turn to the panel and on a general question right now. In management teams, how do you end up coaching these teams? How do you work with these teams in a way that both respects what they've done but also gives them the guidance to help them going forward here. Marc, do you want to kick things off?
Yeah. I think, we got to think about—so first of all, what Monti said, the Vista model’s an awesome model. And it blows my mind, when I read about a take private that Vista does in the company that had X margins as a public company, three years later under Vista's ownership, the EBITDA margins have gone from 15 to 40. I mean, that is a skill set, and that is value add, and that's how you create a lot of alpha, and why Vista’s done great. That's their model, and no one does it better.
The second thing I would say, is there's just over, I think, just over a hundred companies in the world that have a valuation of $100bn or more. So it's not that many. It's amazing. You walk around Silicon Valley, everyone says they're gonna be worth a hundred billion dollars. There's been a hundred in the history of mankind, on the planet Earth. So it's not that easy. Those hundred were not owned by private equity.
So there are, you call it the 1%, there are amazing founders that figure this stuff out over time. Look at Intuit, look at—I mean, there's lots of companies who figure it out over time without necessarily needing that level of coaching or ownership.
So I'll just give one example: we've been very intrigued by consumer internet. I remember it was in 2010, when we first did Facebook, I think the cumulative market cap of consumer internet, globally, was under $1tn. I believe, when I looked this up a year ago, it was over $7-8tn. So there's been $7tn created, just in consumer internet, give or take, over the last 10 or 12 years. And when you see that kind—and by the way, these companies, so many of them, are wildly profitable. Due to the beautiful business model and economic model.
The example I want to use is Airbnb. When you look at these consumer internet companies, they're run by, I call them superheroes. They're just rare. They're rare individuals who figure out how to build really, really big companies with really, really good businesses.
Airbnb—Covid hits, Brian Chesky wakes up and says, Oh my, my revenues have just gone down by 100%. No one's booking lodging two weeks from now. What do I do? I have all these employees, I have all these costs, and I only have so much money. He quickly raised some money, to make sure he could withstand whatever the storm was that nobody knew was coming.
And the second thing he did, is he consolidated—I think it was 25% or whatever, the employee base. He rationalized it. And he's done that since. You take a company that was unprofitable just four years ago, and I think today it has over 30% EBITDA margins. One person, good leadership, good decision making. You see that at Etsy, when Josh came in, and so on and so forth.
So I think the answer is: We're in the year of rationalization and optimization. It's why software is hard right now. If you're selling to companies who are trying to be rational and optimized, hard for them to spend a bunch of money. But, what an amazing time for consumer internet who have good business models. This is the year of AI, everyone says—this is also the year of the RIF. This is the year of, Let's get productive, and we ain't uncool if we don't give you lunches five days a week. We're kind of uncool if we have a bunch of people around here who are creating dilution for everyone else, and we don't need them. And that's the year we came in, and that's the beauty, and why we’ll come out of this, when we come out of this, with higher margin businesses.
On the IPO business
So look, with that, before I get to a few last last thoughts and questions here, we have some questions from the audience here which anyone can pick up here right now. Starting out with something that's near and dear to many of our hearts. When do you all expect the tech sector IPO business to pick up here right now? How do you see that evolving? Would anyone care to take that?
We spend a lot of time looking at the IPO Market. I actually, if you have to pick, from our perspective, the best time to invest in a public company is actually the first year after it's gone public. Sometimes it’s around the IPO because people were too busy doing something else, sometimes it’s six months after the IPO because there's a lockup expiration and a bunch of stock is dumped in the market and it creates a supply demand that’s great for the buyer.
And in terms of when it—well first of all, I think there's going to be a big IPO this week. Isn’t J&J spinning a business off? That's $4bn IPO. So we're having one this week.
But when when does it come back in mass? When does it come back in tech? My guess is it will be sooner than that. It'll be kind of within the next 12 months. But everyone in this room should pay attention. When the IPO market comes back, that's the best time. Why?
First, the best—the banks aren't gonna take the worst companies first. They're gonna take the best companies first. You want to avoid the IPO market late in a cycle, you want to be all over it early in the cycle. Remember when Facebook had it's flop of an IPO, what was the first IPO after it? ServiceNow. Guess what? Amazing company. And what happens other than they're great? They come out cheap. And that's up what, 20x, Dave, you’d know better than me, since then.
So it’ll come. When it comes, people will be too busy worrying about their portfolio and other things. But those who are laser focused, they'll find some great companies. And the banks will ensure that the buy side does well, and every—and there's nothing better for everyone than when an IPO happens and it goes up and to the right. I mean, maybe with Square undervalued at $9, now that it’s $60, maybe, no one's complaining.
On Druckenmiller’s View of the Cloud
We’ll continue on one last question from the audience before we get to our app up here: Stan Druckenmiller, apparently, who's a fabulous investor, in 2021 said we're in the second of nine innings in cloud and cloud-based services. How do people feel about that? Any commentary from anyone on the panel on that?
Leon, on this question of Cloud, just two things.
One is, markets are volatile. They get too hot, they get too cold. It’s just—they were too darn hot. But software is getting quite cold. And it's going to keep coming up in the numbers until we come out of the economic cycle. And that's why you got to pick when you enter some of these public software companies.
However, it makes me think. We have a company called PointClickCare. They do software for skilled nursing facilities. There's 18,000 skilled nursing facilities in North America. They have 70% of it. No one's ever heard of this company. And it's going to do over $400-500mn of revenue, with very high margins, etc.
If you run a skilled nursing facility, to have software to do your revenue cycle management, to do your electric medical records, what AI can do to a company like this, when you're trying to ensure patients take their meds at the same time, and then you don't put in a piece of paper, and then you tell the child, here's the p—you could send it to them with softw—the number of industries or verticals that will benefit from being, from just technology showing up, is—Stan is 100% right—we're early. And the good news is, everyone on this panel is going to benefit from this, so long as we buy them at the right price. And the good news is, they're showing up.
Lightning round: Long/short over a 12 month time frame.
10yr US Treasury: I'm a rule breaker. I don't predict. I don't predict that kind of stuff. Sure, long. But I have no clue.
S&P 500: No clue.
Bitcoin: Short only because Charlie Munger said so. No clue.
Metaverse and Augmented Reality: I'm very long. I have a 10 year old. He doesn't want to live in the world. No, I—it's the things that the metaverse can do for people as we live, not purely in a real world, is gonna be quite powerful. Very long.
Work from home: Hybrid.
Wrap-up
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