A (2:56)

Okay. And I want to get in, want to dive deeper into hopefully debunking this AI myth. I don't know if it's too far to say AI myth, but this AI narrative. But before we do that, let's just. For anyone less familiar with Constellation Software, can you give us the basics of the business and sort of how it's evolved to in sort of greater scale today?

D (3:21)

Yeah. So very simply, Mark Leonard, who was the founder of this company, basically realized early on that there's all of these very small niche vertical market software companies that sell software to stuff like cemetery operators, chicken coop software, software at a dentist office, all sorts of very specific things. Bus scheduling software for the Ontario municipality. And this software doesn't have a great natural home to be sold to because the markets are very small. Sometimes you're talking about a $5 million TAM. And so a private equity company doesn't want to buy that, and the owner of the software company eventually is going to want to sell it, and he's not going to have a lot of options of who to sell that to. And so this was back in the 90s. He started noticing that he could buy a lot of these very small businesses and just own them, similar to Berkshire Hathaway. I'll just own the business. It'll produce cash flow. There's no reinvestment opportunities really in these businesses because the TAM is already fully exploited. But I'll take that money and buy other ones. And so that was what Constellation Software was. It was an acquisition machine of all of these vertical market software businesses that he'd try to buy at 20% plus hurdle rates. And so even though there wasn't a lot of investment opportunity in each individual business, he took the extra cash flows to continue to acquire more businesses. Now, what's been happening, and if you're we're to have this call, you know, an a year ago, the real kind of risk in the business model was how long can you continue to do this? You know, you have over $11 billion in revenue now over $2 billion in, in free cash flow available to shareholders. And how long can you continue to deploy this in all these small little niche opportunities? And the. That's a fair question. And so they've been transitioning their business model a little bit from focusing just on these really small software companies to also doing, you know, one ish acquisition of a larger software company a year. And that's what's been taking up kind of more of the cash flow deployment. Deployment as of late. And so if we go back, you know, again, a little bit ago, that was kind of the risk is how much can they continue to deploy free cash flow at these high rates of return. And so they've de. Risked that a little bit by showing they can do these larger acquisitions. I, I think we'll talk a little bit later on more on capital allocation, maybe moving outside a little bit of traditional vertical market software. But that is, is the business in a nutshell. And I'll say one other thing is that this is a business because again, all these vertical market software companies, they kind of dominate the TAM it's already in. These aren't growth businesses. These aren't businesses that were ever assumed to be growing a lot. And so they pay a very low price for them, the return is high. But they're not businesses that are assumed to, you know, have a very high terminal value. In some sense they'll own the business, they'll run it as best they can, you know, give customers whatever features they want and all that. But it is ultimately more about, you know, pulling the cash flow out of the business and putting it elsewhere, rather than reinvesting in, you know, a massive TAM opportunity or something like that. And so that's kind of a distinction between a lot of the other software companies you'll hear about and Constellation. These are mature companies that are already cash flow, cash flow profitable. And the cash flows they're getting, they're not putting back in the business, they're pulling them out.

A (6:31)

So I'm picturing like, with these smaller acquisitions, I'm picturing sort of a 3 to 4 million revenue business. Obviously it can totally vary. Maybe founder led, four or five developers on the team. Obviously this is kind of a random scenario, but how often when Constellation makes that acquisition, do the founders or whoever was running it stick around? Or is it like curious how they're run once they're under Constellation's umbrella?

D (7:03)

Yeah, so it's very decentralized. So keep it as an individual business. Very often the founder will stay around for some period of time during a transition, maybe there's an earn out or something like that. But they try to keep as much of the, you know, original employees there as possible. Not dismantling the business, which is part of, kind of the selling point of why someone sells to Constellation Software, is the fact that they're going to take care of the business. You know, he says when you sell your business, it's like your bab. You don't want someone coming in and ripping it apart. And so it stays kind of its own autonomous unit as people, you know, kind of leave. They probably won't continue to hire more people under there. But there's all these, there's, you know, the overall, the conglomerate as a whole. Constellation Software has these six different business units. And then each of the business units have subcategories. The subcategories have business units under them that. And then each of those will have their own kind of array of different companies that they acquired.

A (7:56)

Okay, let's not waste any time. Let's get right to the question I think everyone wants us to ask. Why, why does the market think, I guess let's talk the bear case here first. Why does the market think Constellation is at risk of disruption? And do you believe that?

D (8:18)

Yeah. So let me try to give the strongest bear case I can. So right now you basically have the ability to spin up code very cheaply, very quickly. Something used to take many months. A lot of iteration can now be done on the fly. You could get a product that is as good or better than the existing software product. The UI can be better. It could be custom made to a person. And then you also don't have to pay monthly or annual fees to anyone because you could just build the software yourself. And now it has, you know, and it could look better, it could be customized for you. And then maybe over time too, you have AI agents that can use the software for you. And so you don't even need to use the software yourself. It's now an AI agent that's doing everything for you. And so that's kind of the scariest scenario to paint because you're kind of disrupting or disintermediating Constellation software in two layers there. You're disintermediating the software, the tool, and then also the end user too, with an AI agent. So we're getting rid of the software and we're getting rid of the user of the software because it's going to be AI all around. That's kind of, I think, the fear that people have. And so it's a fair fear to have. And maybe if we're looking on a long enough time frame, I don't know what time frame that would be, that could eventually happen. But if we're talking practically about the actual moats that exist for these companies and how hard it would be and also the risk involved in doing all this today, it seems pretty, pretty far out. And I'll start kind of refuting kind of this bear thesis that we just laid out where once again, it's kind of two layers to it. One, AI creates the software. The software is cheaper, so people use the cheaper software. This could be a business owner that does it themselves and so they're replacing Constellation Softwares. Or it can be someone else who's a new AI company that builds the software and then tries to go out and undercut them on price and sells it much cheaper. And then the third sort of thing kind of off in the distance is this AI agent idea where maybe you don't even have a user of software altogether because it's AI all around. And so kind of taking those in order, the first one, the thing to keep in mind is that whenever a business builds a product, having a better product than a competitor is not sufficient enough to build a business. It really isn't. And you know, one example we could just think of Coca Cola and blind taste test. A lot of people prefer other sort of drinks. They'll prefer Pepsi, they preferred New Coke to old Coke, but still Coca Cola. Their advantage isn't in the fact their product tastes better. It's in the fact they have the brand. It's in the fact they have the distribution. You could get it, you know, all over the world, basically. And so there's all, all these different business factors that lie outside of the actual product itself. And so what's happened when I can now create software and create it really cheaply is it means there's more competition on the product layer. But it doesn't change distribution. It doesn't change the fact that you don't have a salesforce going that's going to a farmer out in Oklahoma who's using your chicken coop software and how are you going to get him to switch? And so it doesn't change all these other dynamics. And by the way, a lot of the software Constellations customers use is already really old. The UI is already really antiquated. And so this was never software that was hard to create. There was already an opportunity for a single engineer to recreate their entire software stack of, you know this VMS company, but, but it wouldn't be a successful endeavor for them because you won't be able to get them to switch. Because then this kind of gets into. The second aspect of this is that it's not just about finding the customer, which by the way is not easy in the distribution of that. It's not just about the service element of it too, which if you have an AI product, where's the service involved in that? People still need a human and to be able to convince, to trade and all that change software and in case something goes wrong. But then on top of all of that, you have the fact that, sorry, we're talking about the AI software product. And then we're saying on top of all that you have the fact that whenever there is an issue with that, you're going to need a service element for that, you're going to need someone to be able to fix the AI software. And so there's all of these kind of elements at play here. And then the most important piece of which is going to be the mission critical aspect. And so we could think of kind of the asymmetries involved whenever you're switching something like that that is mission critical. Okay, I save, you know, one point of margin, less than one point of margin, maybe it's even negligible. And I'm risking potentially losing all of my revenues, I'm risking losing customers. Because if there's any issue whatsoever in this, in this new software I'm introducing, I have no idea how to fix it. I just went to a chat bot to create it, or I just was sold it by some AI company that has no support team. And so that is kind of an issue with that. When you're thinking of the software running the entire business, it is critical to all of the revenues you generate. And if you pull this out and it doesn't work, you do not have a business. You are not functioning an hour later as a business. And that is a scary thing. And so even if you got to the point that, you know, people are really convinced it works, it's a little like AV right now, right? A lot of stats show autonomous vehicles are more efficient than a human driver. But guess what? We still don't roll out AV because we're still kind of scared of it. And we want it to get to the point that it is much, much, much better than a human driver before we go ahead and push this out all over the world. And so it's a similar thing. This, it's not enough that it gets close. Which by the way, AI is not at the point that is as, as good as existing software because AI is still probabilistic. And very often when you're creating software, it's deterministic. And so any sort of mistake in that whatsoever, it can wreck everything. And there's other mistakes too, involving integration. And then there's an entire aspect of retraining your employee base. And so just to kind of stay on this idea of it being mission critical and why you don't want to switch, it's just not a good risk reward. If we come back to idea that every sort of product you have has to have a sort of benefit to the consumer, we could think about what is the consumer benefit of this software being created by AI. The only real benefit is a lower cost. There's a lot of times where businesses are not thinking about saving money if the cost is potentially a loss of efficiency, which is if I'm retraining employee base or potentially losing customers, losing revenue. It's just not a, it's not a good trade off that I don't think most people will realistically make. Will there be some business owner that loves playing with tech and say, hey, I could vibe code this whole thing and he rips it out and replaces it. There's going to be stories like that. I think it will happen. But is that going to happen in mass across all of their different businesses, all the different verticals? No, because the average person who's buying the software is not that tech savvy. A lot of the software, by the way, is still on, on prem. They don't disclose how much, but that means it's on an old server, it's not on the cloud, it's not even Internet software. And so this is very old stuff that you download with a disk. These are not tech forward sort of businesses. And so here's all these different aspects to kind of just summarize real quickly. You have the fact that it's mission critical. You have the fact that the employees are kind of trained on it, they're used to it. You have the fact that there's an asymmetry involved in a small amount of cost saving, potentially losing loss of revenue and customers and all that. And so that's kind of addressing this first aspect of the software, you know, them being able to create their own software to replace it. And then it's also touching on a bit too the idea that these AI native software companies are going to be eating the whole world because they're still going to need the distribution, the support and all that. And then by the way, Constellation Software has a professional service line item of revenue in their revenues, which if you look at that, what that is is that's them actually very often sending a person to the company to build the software that the customer wants. And so in that case, they're already customizing it to the way the customer wants it. And so that's kind of addressing that too when you're talking about the AI software company. And then the last one is AI agents. We could touch on that in a second, but I feel like that was a lot right there.

C (15:45)

No, yeah, we can do a separate maybe AI, AI agent talk, but maybe we can hit on some of the other bear cases that have popped up. I know when a drawdown occurs, there's always a lot of things that come out of the woodwork. Price can drive narrative. People can go, why is the stock down? Some guy comes up with an idea is probably because of this and it was there the whole time. What fair case, if you were a shareholder or any listener was a shareholder, what fair case against Constellation would keep you up at night? Which one would scare you the most today? Which one do you think has the most validity as a potential concern for the business over the next say decade? Will the US consumer confidence index be above 101 in March 2026 at IBKR forecast trader? The yes recently priced at 40% and the no at 58%. But markets move fast. Forecast contracts let you turn your views into trades on future events like the economy, climate change and politics with simple yes or no prediction style contracts. Explore trending data and spot the trends. And if you get your prediction right, you earn $1 per contract at settlement plus you'll earn 3.14% APY on your investment with an interest like incentive coupon. And you'll get USD$3 for signing up, which you can use for any purpose or to start trading. Forecast contracts are not suitable for all investors. Go to ibkr.com forecast and turn your views into IBKR Forecast Trader contracts today. Last trading day for this contract is March 22nd.

D (17:22)

I think we have to have humility whenever you're dealing with the future in something as open ended as AI and what that could really mean for technology. And there's a reason why Warren Buffett doesn't invest in technology companies. And that's just because you have to acknowledge there's tail risk of uncertainty all the time. And maybe you don't know what you don't know and I. I think that for me, lies a little bit more in this AI agent risk. That one is a little harder for me to really understand how that could all play out. Whether or not that can happen at the OS layer, whether or not that's getting to the point that it's actually sitting on your computer, this sort of agent, and it's using the software, or it doesn't need to use the software because it's an interface layer that's an abstraction for it, and it could go deep into the database itself. I don't. I know it's kind of hard to really understand all of that. I know that certainly we're not at the point that businesses would feel comfortable with having an AI agent kind of run loose in their business processes, doing all sorts of things that they can't understand what it's doing. But, you know, at some point in the future, once it's really proven itself, is that possible? Yes. Then there's also a bunch of slew of companies that are trying to integrate it into their products to give it guardrails. And so maybe that's also the way we go. So the software. It's the software plus the AI agent. And maybe the software interface doesn't actually really matter so much. It's the AI agent aspect of it that becomes more important. And I'll have a video dropping on ServiceNow, probably by the time this releases, which you can find at. If you go to YouTube, just searching Drew Cohen money. And that talks a lot about this AI agent risk. And ServiceNow is trying to kind of be a wrapper that keeps the AI on their platform. But there's some risk that the AI is not within any individual's platform. It's kind of of outside of all of this, just operating on its own and circumventing everything. And it's a little weird because when you think of disruption, you're usually looking at like one vector of attack. But this is kind of something. It's hard to conceptualize. The AI agent can attack the UI on the front end because it's a new interface. It can. It can go right through all the middleware, all the software, the platform as a service stuff, go directly into unstructured data. Just read that. It doesn't mean that's how everything's going to, you know, unfold and all that, but it's just like a lot of open possibilities as to what is possible. And so all of that is scary. But then again, you know, the future doesn't tend to change that quickly. Even you know, in this AI era, you have AI that makes a lot of mistakes. And we're not at the point I don't think that you really want to trust your business to it. And I don't see that happening in the next several years. And when you think about, you know, their businesses and the point I was making earlier on them not having a lot of terminal value is these are not, these are already end markets that it's kind of unclear if they're going to be around in 15 years from now, 20 years from now. I mean, it depends the end market. But some of them, you know, they serve as software for linear TV stations. Is a linear TV station going to go and redo all of their tech stack for something AI forward right now? I don't think so. But you know, who knows if all of a sudden it's like basically free and included in like a Windows OS update or something, then maybe. But it when it gets too far out there, because I can always at least think of very far out risks that could kill a business or almost always. And it does. Just because the risk exists, that doesn't mean you believe it's going to happen. At the end of the day, these are humans making all these decisions and humans 10 to be pretty habitual and they don't tend to want to risk everything on the farm. They don't tend to want to, you know, swing for the fences with this whole new AI process that could potentially blow up their business for a small gain. And maybe the, because the gains in efficiency that AI brings, you could get them traditionally while still keeping it kind of within a software wrapper, which by the way, Constellation is already doing. Constellation can introduce AI to all their processes, to all their software. So now the question is whether or not they want to go outside of their existing software vendor to do it on their own to save a little bit of cost. That's where I'm skeptical.

A (21:10)

It yeah, two points there. Like the, for the linear TV software, I can't imagine the. There's like a huge startup competition there, everyone trying to go after that market, like the new CS grads from Stanford or whatever, like let's go get linear TV software. But the other one, and this is is the idea that customers are going to build it themselves. I have, I disagree with it to begin with from a lot of software companies, but for Constellation Software specifically, it makes no sense to me. Like I was watching your video and one of them, one of the ones you called out is like software for the dentist's office. Who at the dentist's office is going to build this alternative? Like the dentist seems busy, the assistants seem busy or might not have the technical expertise. It just. Yeah, it really doesn't make a whole lot of sense to me. One thing I did want to touch on, and you mentioned it earlier, is the moving towards larger companies for targeting acquisitions. Do you, I guess maybe talk through that evolution a bit? How has that played out for them and is there risk that they are having more competitive deals on the larger size having to pay more or kind of compromising on price because there isn't enough as much deal flow as with smaller companies?

D (22:46)

Yeah, they still benefit from being in kind of a weird area where there's not a ton of competition. When you're talking about like middle market software companies. And they'll find these special situations. I mean there are private equity companies that work there and all that, but they'll find these special situations where for whatever reason they're the best home. You know, Optimal Blue was part of, it was part of Black Knight and it was part of a divestiture to get an acquisition closed. It needed to happen quickly. They got paid, I believe it was a high, you know, single digit EBITDA multiple and they were able to buy that asset very quickly and it's a permanent home for it. There's another one, allscripts that's more healthcare kind of IT software. And so that was another instance that business was kind of suffering though, but it was part of a carve out of a larger corporation and they were able to just take out that one little piece of it. So they find these opportunities to do it. Is there competition for these deals? Of course. Everyone, if they see free money, they're going to go for free money. But there's usually enough opportunity out there that for one reason or another, people are freaked out. They don't analyze the deal right. They don't want to put in the work whatever it is, or the size is just wrong. For the private equity firms out there, they've been able to find something at least for the past several years. More lately they just did for the, for the first time they just did a equity investment in something called a seco, that's a Polish IT company. And so they're not even buying the whole company, they're doing an equity investment in IT too, which has been something new for them. But you know, as long as it's a good investment, that could kind of make sense for shareholders and gives a new way for them to deploy capital outside of absolute acquisitions that, you know, puts them a little bit more like Berkshire Hathaway, who will buy, you know, public equity. So they have been scaling that up, I think I wrote the report three and a half years ago or something, and at the time they were only doing. They were doing 150% less in free cash flow. And so right now they're doing 2 billion. And so they scaled up cash flow that much. And I thought it was very doubtful whether or not they'd be able to scale the acquisitions up alongside that, but they have. But if you're looking at it, since then, they've been able to deploy more than 100% of free cash flow and acquisitions, and they've been able to do more than 100 because they've taken on a little bit of debt on the individual company level, ring fence debt just on the company, not on the holding co level. But that's how they've been able to deploy even more capital. And so not, not that I'm a huge fan of debt, but if you are able to take on a little bit of debt, it does help, you know, improve the returns and helps them, you know, take up even more invested capital. And so that transition's been going pretty well. There's a question, what happens if they run out of the, you know, the VMS opportunity is going to still be there, but you're talking about, you know, knocking out $500 billion of free cash flow a year. What do you do with the rest of it? That's where they're going to need to keep doing these larger acquisitions. So they're going to have to continue to do that. And they've stayed mostly in software. They've gone a little bit outside with like horizontal software or stuff that takes up a whole category, healthcare and all that. But that is something that is still kind of pretty related to software. Everyone knows in 2021, Mark Leonard's talking about looking at oil assets for the tax advantages. So they have looked at other stuff. They're right now toying with the idea of getting more into payments. It sounds like a lot that too relates to just the payments their companies process. But there could be an opportunity there for them. So a lot of different areas they could go.

C (26:16)

Sure.

D (26:17)

That brings more risk, though, if you're going outside their core competency there. But they've always been pretty conservative.

C (26:23)

Yeah, that does answer one of our listener questions, which is what industries do you think they're going to go after? I think you answered that. Let's talk about the Other large change to the business, which is Mark Leonard's, I think it was an abrupt retirement. He had a health issue. And we have new leadership in place. Maybe talk about that transition and what you think the impact will be or not. Because no matter how great a business is, if it's founder led, there's always that big risk, the second leader. Are they going to keep the culture going as Leonard built it up?

D (27:01)

What do you think about that?

C (27:02)

And do you think it's a risk to the business today?

D (27:06)

Yeah, so a few things. One, it was weird because they had this like, AI special call. And then like a couple days later it's announced Mark Leonard is stepping down for health reasons. And just those two things kind of going together. I think it made it look like he was stepping down because he wasn't a fit leader for this transition to AI. That I don't believe. For a few reasons. One, Mark has always been a very private person. Never really done. There's only one podcast I think he's ever done. Never really talked publicly and all that. Even stopped doing communication on writing the letters in 2017, save one, he wrote in 2021 because of COVID And so he's always been a pretty private person protecting information about himself. So it's not crazy to me that he wouldn't, you know, want to talk about his health stuff on a call in front of all these other people, the AI call its, I guess it was a little weird. I'm sure they're fielding a lot of investor questions and in kind of line with the way they communicate, they didn't really answer any of them. They just kind of said like, there's a risk and, you know, it could be an opportunity. And I think that because of how frank and honest they are with their communications, probably also unsettled some people. And in terms of Mark Millard, though, you know, he's been around basically since their first acquisitions, I believe since trapeze, late 90s and all that. So I, I could be wrong in the name there, but he's been there a long time. And so this is not, you know, someone coming in new that's going to change the culture. He's been there since the beginning, and on top of that, it's a very decentralized culture. And so where I can see him having the most impact is them going into new verticals because at least last they disclose any capital allocations below $20 million were being done at the business unit level. It was only when you did these larger acquisitions that it was being kicked up to the overhead office to kind of have a say in that. So these large acqu. Yeah, and that's going to be a good chunk of capital he's going to be allocating. But you know, again, he's not a newcomer. He's been there, pretty decentralized operations and all that.

A (29:04)

Okay, going back to the AI discussion, does it. Do you think that it increases or decreases the potential acquisition universe for Constellation? Like is. Is this going to create a lot more potential businesses for them to acquire?

C (29:23)

Or.

A (29:24)

Or it sounds like it's not going to hurt some of these legacy software companies. But I guess curious on your thoughts there.

D (29:31)

I don't know is my answer because I could see it both ways. I could see that more software companies, it's easier to start one. And so if there's a problem, you could spin up a software company as a single engineer, get some salespeople and try to go after a small little market to sell it. I could also see though that it makes it much easier for existing software companies to extend out into different verticals. So if we were know an ERP management system for this legal software in Finland, well, hey, you know, it was very easy. Now we're going to also, we can also offer you HR support. Oh, you're using someone else for that? Why don't you use us? We'll, you know, discount it so. Because at least that's what I'm seeing. When you're looking at ServiceNow, Salesforce, Microsoft, some of these other big SaaS, companies, you know, horizontal software, they're all going into each other's lanes. They're all starting to compete into other areas because they all realize that point solutions probably are going to be a very strong competitive position to be in in the future. If all you do is you just do someone's, you know, HR employee onboarding workflow and that's, you know, all you did, then you're probably not going to make it because someone else's app is going to someone else's AI rather is going to be able to take that function. And so we're going to be. So we're going to want to create as much functionality across as many departments in each individual business in order to entrench us as much as possible. That's what ServiceNow is trying to do. That's what Salesforce is trying to do. That's what Microsoft is trying to do when it's talking this AI agentic layer that could go the way of disappearing the platform as a service layer. That usually sits on top of the infrastructure. And so all of that is kind of a big transition happening right now. And so what it means for if there's more or fewer software companies in the future I very hard for me to say I would imagine, you know, if you're a legacy BMS company, you're not going away. It probably means you have opportunities to expand out into other areas within that. But I also maybe I could see some of these companies, if there, there's like you know, two different sort of versions of software existing, then maybe there's a little bit more kind of consolidation in that respect. Or maybe you do have software going across into different departments within that individual business that maybe before they were using QuickBooks or something and now it's hey, you know, we'll do your chicken coop software plus your chicken coop accounting.

C (31:48)

Yeah. And yeah, the chain coop software makes me laugh. What was I going to ask about this as a follow up? I think maybe why don't we just talk about the valuation and we can come back to any other follow ups. The stock's down 50% as we alluded to in the intro. Do you believe it's cheap today? And when you're looking at a company like this, what sort of metrics are you looking at? I guess if you could also include any metrics you're looking at as, okay, well this one's increasing or decreasing or it's getting worse and that's maybe an indicator that the AI Bear case is playing out.

D (32:31)

Yeah. So whether or not something is cheap is ultimately going to be a byproduct of an investor's own kind of required returns and what they're hoping to get. But right now you're looking at about $2 billion, 40 million of free cash flow available to shareholders. That's a metric they make it adjust out, you know, the non controlling interest. There's one adjust adjustment I make to that number which is I add back the IRGA liability. This is a really nerdy adjustment for, for those Constellation nerds out there, which is basically if they have a right to buy a larger portion of Topicus, one of their subsidiaries. And as that valuation changes every year because Topicus becomes more valuable, they mark that basically as a cash outflow that they'll eventually have to pay out to them in order to acquire that stake, I back it out because it's going to be a one time stake and you're then going to be getting, you know, that earnings stream. So it doesn't make sense to put a multiple on it. Because if you put a multiple on it and capitalize it, you're kind of implying it's going on forever and it's not. It'll be a one time thing. So you make that adjustment, you're looking at about 20, 21 times in times free cash flow multiple depending on what day. And given how much the market hates the stock, that's, that's that multiple. And so okay, you know, you look at a lot of companies, you know, 20 times is it that cheap? And all that. Keep in mind they've been growing free cash flow at a mid teens rate for a very long time with returns on invested capital over 20. And so this is, you know, a company has a long history of compounding capital at a very high rate of return and growing free cash flow. They don't have any stock based comp. The share count is actually the same for the past 30 years, 21.2 million. And a lot of the other things you see going on, adjustments you have to make in other businesses is really not the case with them. And so if you, if they were, if you were able to basically own this whole business today and, and then be able to just take all that cash flow back and hold it for a long time, you know, the sort reverse DCF would show you, you know, low double digit, mid teens, high teens return depending on how much you want to assume they're able to reinvest that capital. So that, that's kind of the range there. But then of course there's always risk, you know, just you shouldn't, there's always the risk that, you know, the AI is a lot more formidable than people think and it is able to permeate a lot more widely and quicker than people think. I think the thing other investors miss all the time time is that just because you don't believe a risk doesn't mean it goes away. And so there's always a risk something can happen. You just take an opinion or a judgment on whether or not the reward is worth that risk. And I think this is, you know, very salient with coupang. For instance, you know, right now they have a data leak. People are very worried about this data leak being the end of coupang. I'm not going to say it's impossible. The Korean government says that because of this data leak we're going to stop service altogether. There's some talk of that. That's certainly a risk I think, I just don't think that that's going to happen. But the risk exists, right? Just Because I don't think that happens. Doesn't mean the risk doesn't go away. I just think that, you know, if you're doing sort of the math of the probability that happening versus maybe the probability that of the reward, if you will, the risk rewards kind of trade off, you think that that's an outsized sort of return. You make enough bets like that, you create a portfolio of that. It tends to give good returns over time. And so that's kind of just a few thoughts on that.

A (35:51)

Do you think there's any chance that Constellation Software changes its approach around buying back stock?

D (36:00)

Yes.

A (36:03)

Would now, would now be the time for them to change that approach?

D (36:07)

Go through there.

C (36:08)

Go through what the approach is for. For listeners that don't.

D (36:11)

Yeah. So yeah, Mark Leonard hasn't liked buying back stock and they never had because he always felt like the company had more information on the business than the investor. So he kind of felt like it was like insider trading and stuff. And they've talked about this. He's kind of, at least in the last AGM's been like, yeah, I guess maybe if we, you know, vocally say it out loud, what we could do well in advance or give a price or something, I'd be open to it. But also now he, he's stepped down. And so I don't know that he doesn't seem like he would quite have the temperament to like insert his opinion on something like that after he left. And so it's possible that changes. It's also possible that they still find better reinvestment opportunities though that return more than their stock stock. And so you know that that's kind of something to keep in mind because they do have a hurdle rate of 20% and that assumptions of getting the 20 on a stock repurchase here, usually it'd be a hard. It wouldn't be in all scenarios you would get a return like that. And so that's kind of my way of saying that they probably would want to be even more conservative when repurchasing stock. Having said that, if they don't see other opportunities or something or they want to deploy some capital, it's. It's possible. The other thing that's kind of interesting to think about the stock sell off is the thing. Another thing people are worried about a year ago or so is that with the stock being really expensive and employees being forced to put like 70% of their cash bonus into the stock, there wasn't like a great probability of high returns at that point. And now that the Stock's a lot cheaper. Maybe employees actually want to stick around more. They're more motivated and all that. And so just kind of something else that I think that's worth mentioning there. But yeah, they could change their approach to buying back stock, but I wouldn't be surprised if they don't.

A (37:54)

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C (38:43)

All right, listeners, I want to take this time to remind you about the Emerging Moat Stock Research Service, a newsletter that will produce a stock research report every four weeks and regular updates on existing stocks in the emerging Moats universe. We have an upcoming schedule including a research report on Wix.com we have interactive brokers, American Express, Nintendo, Airbnb, Nelnet, and much more. Please, if you want, reach out and get a complimentary free trial. You can do so that by contacting me through the link in the show notes and giving me a DM on substack. I hope you'll try out the service.

A (39:18)

If Constellation did not perform well as an investment, let's say by not. By not perform well, let's say it's flat over the next five years.

D (39:30)

The stock or the earnings?

A (39:31)

The stock. Okay, why do you think that would happen? Or actually like maybe let's say earnings didn't grow over the next five years. Why do you think that would happen?

D (39:41)

That would be much more concerning. Anything can happen with the stock for any sort of reason, but cash flow is not growing. I think there would have to be some version of this thesis turning to be true where AI and software is kind of cannibalizing some of this business or for some reason churn is just much higher than people anticipated. It really would have to be something like that because this is not something we've seen in the past 30 years. So it has to be a new risk that's weighing on the business.

A (40:10)

Okay. I think we're kind of, we've touched most of the basics with Constellation Software. I guess it's kind of interesting because it's like, I don't know if I've ever seen a narrative change so quickly on a company where. Well, I shouldn't say that, but it felt for like five to ten years like this was a company that could do no wrong.

C (40:31)

Price trends every. Every time.

A (40:34)

Yeah.

D (40:34)

Yep.

A (40:36)

And now everyone. Well, not everyone, but a lot of people seem to think it's really at risk. What do you think most investors misunderstand about Constellation Software?

D (40:48)

I think it's maybe also a misunderstanding of business in general, which is just that just because you have a product doesn't mean you have a business. And there's all sorts of stories of startups historically that created similar products that that then their competitors or something went on to be very successful. And that's because the product is seldom sufficient to create a successfully lasting enterprise. You know, you could think about why Friendster failed and Facebook was successful. And a lot of people might think it has something to do with the product, their go to market and all that. Nope, it has nothing to do with that. It's actually very simple. They did not properly spend on servers when the business required them to spend more on servers. And instead they spent it on marketing and other sort of tools that they're busy creating instead of just putting more compute behind that, which slowed web page times. And when web page, when web page times slowed to, you know, 20 seconds, 30 seconds, some people reporting, people just turned. That was it. It was really simple. It was not, you know, anything crazier than that. And then why was Facebook so successful? Well, one of the things they did really early on was they gated growth. If you remember, they started in colleges and they went college by college. Now we may see, we may look at that and say, oh, they're testing the product and reiterating it. No, he knew that whenever he opened up to a new college, everyone would join on it if it was successful. And they did not want to offer a poor experience. And offering a customer a poor experience is the best way to make sure they never come back. And so he gated growth for a very long time as college by college, just the IVs, then just education, then just focusing on a long time before he opened it up to anyone that could create a Facebook account. And so the lesson there is that if you are looking at some of These companies that create, you know, very impressive looking software, they don't have a business business yet. You still need someone to sell that. You need someone support that. You need someone to support the software. Every iteration of it, every potential mistake that can happen with it, every customization that a client can want, you need sales, you need all sorts of different things to support the actual business. And so I think that that's something worth kind of keeping in mind because there's a lot of instances where someone can have a better product, but that doesn't mean it's going to be a winning business.

A (42:58)

Yeah, that's a good point. I could ask Claude to build me a CRM tomorrow, but it's a lot harder to go out and get the Fortune 500 as customers.

C (43:08)

Let me ask one more question around culture. What makes the Constellation culture special? People say, oh, they have a great culture. Well, what exactly do you think they built and why is that durable?

D (43:23)

I think it's just a strong meritocracy with a lot of buy in because they have employees force basically to buy stock in the enterprise. And it's not, they don't, they're not given RSUs and they're not given stock options. They're forced to use their own cash to buy the stock. And that creates a sense of ownership. And that means you care about the business, you care about the results, and you actually have skin in the game. And it's not just, oh, well, you know, if this goes really well, I have a few million dollars of stock options. If it don't, whatever, I'll go to the next company and can play this game again. It's no, this was your actual money that is now on the line. And the downside is you lose the money you invested in it. And so I, that's, that's been a big part of it, you know, real meritocracy. There's also the fact that you have all these different business units that are competing for these deals. So there's a healthy level of competition to get deals done. But then you also have Mark Leonard, who, you know, for 30 years was very strict on the return on invested capital. He has his own investor letters, very similar, you know, to Buffet who would write. And that really instilled a lot of culture, a lot of focus on return on invested capital. The important things, not focusing on growth, focusing on investment returns. And a lot of times people confuse that. Even big CEOs confuse that. They go for market share and revenue growth, even if it's not actually a good Return on invested capital. The same thing that can happen with acquisitions. And it happens very often. Actually. This tricks investors a lot. Is though, in a business will call an acquisition accretive because the EPS went up. That does not mean it is accretive. If you are deploying capital, your earnings better go up. The question is whether or not your return on invested capital of that incremental deployment employment was net beneficial to the business or destructive because you can go out and borrow, you know, a million dollars and go buy a business that has a 5% return on invested capital and increase your earnings. You didn't do a great job. And so this is something else that I think he's really helped instill into the culture is the return on invested capital framework. And then also a lot with experimentation. There's a lot of times they've looked at their organic growth and they said it's not really high. Why is that? And so they've run different experiments where they say, let's spend more money on organization, R and D, let's track what the returns of that is versus if we just spend it on acquisitions. And they ultimately figured out the return on R and D wasn't as high as just buying more of these companies, so they stopped investing that much organically. But this was something that they, they ran the test for. And you talked about it for like four or five years in the investor letters. And so there's this other idea that, you know, of experimentation being kind of modest with your knowledge. You, I think the AI calls a great example of that. You see some of these CEOs go out right now and they're just, you know, very adamant on why they know exactly how the world of AI is unfold and why their business is going to benefit from it and be the best. And instead they go out and go like, yeah, there's some risk out there. They don't give anyone any comfort with that, but they're just being intellectually honest that the risk exists. And ultimately, as an investor, that's your judgment to decide whether or not you think the world will unfold one way or another.

A (46:23)

It shocks me that more companies have not adopted the approach of. Of is forcing the wrong word, forcing employees to buy shares.

D (46:37)

I mean, compelling, convincing. And it's.

A (46:41)

Remind me, it's like as a percentage of their bonus, they are asked cash bonus. Okay, yeah.

D (46:47)

And I think they get a small discount. It might be 10%, 15% to whatever the stock is at the time.

A (46:53)

But yeah, yeah, you'd think more people especially, well, maybe Prior to this drawdown, people would point to Constellation and say, we should, we should copy that model because it's a good reminder of the ripple effects it has across the business. Like if you're a CEO and you have hurdles, revenue hurdles, or like pure any hurdles without a denominator, you're, you're going to sell it to, to investors. Whereas if you just own the shares outright and you made that investment, you probably want to be as honest with yourself as possible because there's no point in lying. It's not like you're getting stock options based on it. So.

D (47:35)

Yeah, and you know, Nassim Taleb has kind of talked about Skin in the game. He has his book on that. And he makes the point that having skin in the game isn't just participating in the upside, it's participating in the downside too. And that changes the decision framework when you have skin in the game on downside as well. And so this is a way to actually create that because you're not just looking at options that, oh, if it goes above, you know, 250Amazon strike price, then I'm going to be a millionaire. Instead, it's, I'm looking at a million bucks right now in my bank account and this goes away unless, unless they, unless I, you know, act properly and the business does well. And so I'm going to work towards something greater. And I forget the exact stat. I wish I remembered it. But he at one point said Constellation Software, like created more. It was like over a thousand millionaires or something like that. It was a lot of millionaires because of this force, you know, stock buying and then also the stock and business doing really well, which then, you know, makes people want to buy into that.

C (48:31)

It's one of the few businesses out there that is truly aligned with, at least in my opinion, executives, employees and shareholders, customers. I'd say so as well. But I think that about covers it it. Ryan, unless you have anything else you want to add there, Drew, tell us where listeners can find you. YouTube, channel, research, website, whatever you want people to go click on to find more.

D (48:58)

All right, here are all of the plugs. There are many plugs to do right now, so research can be found@speedwallresearch.com that that's where I'll have an in depth Constellation Software report. It actually was sent in to Mark Leonard. He commented on how thorough it is and all that. So you could read that actual report there and do quarterly updates on Constellation Software. We also cover some other 20 businesses. You get access to all that other research there. We have a podcast that is free. The synopsis is the name of the podcast. We have a podcast episode that's two hours long just on Constellation software breaking it down. We've also more recently talked about them too. More updates and all of that. If you go to speedwell memos.com that's where you get the free stuff. And then my YouTube is you could search up Drew Co and Money. There's a Constellation software video, a lot of other software videos coming out there. And then one last plug. If you go to Drew Cohen money.com There's another free newsletter called 5 Minute Money that is shorter write ups I'm trying to do because my research reports are like 100 pages and no one has time for that. So five minute money, which you could get@drew cohen money.com that's going to be really quick newsletters, easy to read. Usually not five minutes, usually more like eight. But I think that's all the plugs.

C (50:11)

It's perfect. I mean you guys are putting out so much stuff.

D (50:14)

Yeah.

C (50:15)

All right.

A (50:16)

I think that's going to do it. We'll have links in the show notes. Thank you, Drew for joining the show. Thank you to the audience for tuning in. Hope you enjoyed this episode. We want to remind listeners that Brett and I are not financial advisors. Anything we say or discuss here on this any anything Brett or Drew or myself say is not formal advice or recommendation. We may be shareholders in the securities discussed in this podcast. Thank you all for tuning in and we will see you all next time.

D (50:44)

Thank you for having me.

B (51:00)

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