PJ Kurzweil sees smooth sailing ahead for $BC (podcast #111)

PJ Kurzweil, founder of PJ's SMID Cap Ideas, comes on the podcast to discuss his write up on Brunswick (BC). BC is a boat manufacturer, and PJ thinks they are too cheap and the market is missing how much more economically resilient the business is today than it was ~10 years ago. You can find my notes on BC here, and PJ’s BC write up here.

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Transcript begins below

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All right. Hello and welcome to Yet Another Value Podcast. I'm your host, Andrew Walker. If you like the podcast, it would mean a lot if you could rate, subscribe, and review it wherever you listen to it. With me today, I'm happy to have my friend, PJ Kurzweil. PJ is the founder of what is it? It's PJ's mid-cap companies, is that it?

PJ Kurzweil: Yeah, it's a mid-cap investment idea. That's right.

Andrew: PJ's mid-cap investment ideas. Let me start the podcast the way I do every podcast. First, a reminder to everyone that nothing on this podcast is investing advice. Please do your own due diligence. Do your own work. Consult a financial advisor. Second, with a pitch for you, my guest. I've known PJ for, it's got to be 5 or 6 years at this point.

I remember you and I meeting at, is it Le Pain? Le Pan? I never know what's it called in New York and you pitch me on the Nexstar and I looked it up because I always kick myself when I look at Nexstar because you were pounding the table on it for 6 months with me. I think the stock was 45 at the time and I just looked it up. The stock is like 170 right now. So, that's just a casual five-year four-bagger plus a couple of percent of dividends thrown in along the way.

So, but PJ's a smart guy. He follows all sorts of mid-caps. I'd say the general thing which you'll see in his write-ups, is the general thing PJ likes. Tell me if I'm wrong, PJ. It's companies trading at reasonable to cheap valuations, long-term secular growth story, that's the type of stuff I generally like it, too, but tell me if I'm wrong on that.

PJ: No. That sounds about right. I would say, first, I think we actually met originally with Diamond Resorts.

Andrew: Oh, yeah. In the back of my head, it was like I think we did timeshares for a while. Yeah, I do remember that.

PJ: Yeah, we shared some time with timeshares. In terms of my focus, look, I tried to find businesses that I think are just not properly understood. I think over time, there's been a move towards quality bias in terms of businesses that can actually perform and have earnings and subsequent performance on the top line and bottom line, be a catalyst of itself. So, I would agree. I think valuation is a big starting point as is recent stock performance. And then, I look for things, different boxes to check, whether it's insider buying, buybacks, corporate action, or things of that nature that I think can help really move the company forward.

Andrew: Perfect. Perfect. And you know what? Timeshares are probably pretty interesting right now, too, because I just saw Hilton which bought Diamond and just did announce a big share of buyback. That's a creative acquisition. The stock hasn't moved that much because of all the cofactors. But we can go there at a different time for a different podcast.

Let's turn to the company we're going to talk about today. The company is Brunswick, the ticker is BC and I'll just turn it over to you. What is so interesting about BC today?

PJ: All right. Well, maybe we'll take a step back. Brunswick Corporation, it's been around for, I don't know, 180 years listed in 1925. It's gone through a few different iterations as far as products, but currently, it's the leading manufacturer of marine equipment, so, primarily engines and through their Mercury brand. They also manufacture boats, Boston Whaler, Sea Ray, Bayliner, Lunds, really popular boats. I don't know. They sell somewhere close to 40,000 of those a year. And then they have a growing parts and accessories business that both serve the OEM Market about 25% and then it's at 75% aftermarket. It's a 6 billion dollar revenue company. Gross margins are in the high 20s. You could see margins are in the mid-10s to upper-10s. Just really a business that's evolved substantially. They got rid of their large boat segment. We could talk about that. They got rid of their bowling business. They got rid of their fitness business. So they really trimmed down and become this business that really has its mended market position in the marine industry that we think has a lot of good tailwinds.

Andrew: Perfect. And the first question I always ask, that's great. The first question I was asking is, people can look I did a lot of work on this one. You gave me a brainer because they had in the past 12 months, a major acquisition, not one but two investor days. Plenty of conferences and everything, but that's okay. It was labor love. But the first question I always ask is the market's competitive place. Brunswick is not a small company. It's not Google, but this is a multi-billion dollar company. You know, everybody knows boats and everything. It's not crazy complex or everything. So, in the grand scheme of things. When you look at Brunswick, what are you seeing that the market is missing that's going to lead to a risk-adjusted offer opportunity here?

PJ: It's a great question. We'll look, I think Brunswick has been around for a while but I do think people associate Brunswick with being a boat manufacturer that loses a ton of money in a downturn and doesn't always make money in a normal cycle. I think that's really changed. Look, I think this falls under the category of a better business than people really understand. I think the parts and accessories business has grown substantially since the crisis maybe 4 to 5x. The marine engine business, you know, boats used to be 25% outboard engine. That's when you have the engine at the back of the stern. Today, It's 9 out of 10 boats or outboard. And so really, the engine market is a duopoly. So that's the really interesting thing where Yamaha and Brunswick control over 80% of that market. And so the engine opportunities are really a shared-gain opportunity and an OEM grab opportunity just given the elevation terms of the horsepower of the engine.

And then, the boat business, I think people are kind of coming around to the fact that there is a tremendous supply deficit in the market. COVID did see a bump in overall sales to around 220,000 boats in the categories that Brunswick participates in. But they were already kind of hovering at 200,000. So it wasn't like a huge, huge bump, but relative to the shock in terms of the limited supply that year, it did create sort of a very big air pocket in terms of supply and demand. And so when we look forward relative to inventories, retail sales, and production, there's definitely sort of an embedded cushion in case retail sales come down.

I would also say, look, Brunswick is a boating company. I mean, there are only 3 to 4 boating companies out there. It's just consumer discretionary and at this part of the economic cycle, there are lots of people who just think it's trash. And so, I think you can find some buried opportunity there. And finally, look, the business hasn't always been the best converter of free cash. If you look at the previous investor day, they thought they were going to do 450 million of free cash, and this year, they're doing 350. And I think really the basis there is that they see so much opportunity to grow particularly in the marine engine business that they're really putting the pedal to the metal and really trying to set this business up for future growth.

Andrew: That's a great overview. And I hate to be up there or not up there, I hate to push the bear case and not be optimistic. But, I think we can dive into all the good things you talked about, the recurring revenue, and everything. But today's price, as we're talking on May 25, the stock price is 72 dollars per share. That's 7x this year's earnings guide. That's less than 5x their 2025 earnings if you believe them. So the market, I think you've got to talk more about the bear than the bull case because the market is clearly skeptical here, right? Things don't trade at 5x. That's approaching not in today's cold market but last year. I would say that's almost a coal miner type multiple, right?

So the market is clearly skeptical here. And we can go into a bunch of things about why they are skeptical, but the thing that jumps to me and will probably attack this from different ways is COVID pull forward, right? And we saw this with a bunch of people. They had great sales in the back half of 2020 and 2021 because people didn't have anything to do. They could drop all these great sales. And I think the market saying with BC is much like with Peloton. Peloton's the ultimate example, right? They literally built a factory because they had so much demand. They couldn't keep up with it. And when the factory gets built, they might just mothball it, right? They don't have any demand anymore. They pulled forward all demand or I think RVs are something similar, right?

In 2021 at the start, they could not keep up with the man. They built everything they could, they brought a capacity. And now, like demand starting to normalize and I think they might be going into oversupply areas. So I've done some work on RVs and all of their trade at Brunswick or lower than Brunswick multiples. And I think with Brunswick, what you might be seeing is, hey, even right now, Brunswick is saying every boat that's coming off the lot for the next 9 months, we got a spot for it. But the market might be saying after that, you're going to have all this capacity. Brunswick's bringing a million square feet across during that. After that, you're going to have all this capacity and demand might not be there. It might have all been pulled forward. So you get that bullwhip effect. So, I said a lot there, I'll pause there.

What gives you confidence that kind of this bullwhip effect that we saw with Peloton, that we saw with the RVs isn't going to happen to Brunswick?

PJ: It's a great question. I think if you look historically, it's never really been a market that's become oversupplied. It has been more on the demand side. That will kind of whip things a little bit. Look, I think in COVID, I think you pointed out one of your questions there, about 10 million boats out there and they're about 220,000 new boat sales every year. There is a huge used boat market that obviously that doesn't replenish sort of the overall number of boats. A 50-year average useful life is probably too long. So if you kind of think about it about it, a boat lasting 30 or 35 years, that would imply a demand simply to replenish the 10 million overall boats would be in the high 200,000. And so we've historically undershot that a little bit and some of that is because some of the stern drive and inboard drive kind of boats have not really recovered wherewith the outboard boat have recovered.

So, there is this overall sort of replacement demand that's not quite being met. Also, if you kind of look at the demographics of the 2020 kind of COVID spike, you did see the average age of consumers come down a little bit which implies that really, they're tapping into a new market of younger consumers, which I think is pretty exciting. And so, you know, those are kind of the factors I do think specularly. People are moving from Blue to the Red States. They're getting close to the water. They're getting closer to warmer weather. Work from home does enable some people to have a little more boat time. And fishing has continued to become a more and more popular sport. I think 55 million people touch a fishing rod last year. And so, I don't think boats are a one-time thing. And I do believe, look, it's a discretionary purchase. People don't have to buy it. I will say that Brunswick's, both 78% of them sell for under 50,000. So a lot of aluminum freshwater fishing boats. We're talking 200 to 220 thousand with a 10% increase. It's not like it doubled or tripled.

So, I feel okay. I feel solid that boating demand will be there. And in terms of Brunswick's forecast, I don't necessarily think they really depend on the retail market continuing to grow at any sort of incredible pace.

Andrew: No, I hear you. You know, just having looked at especially the RV companies recently. I just can't get it out of my head. When I was reading the Invest Today or reading the Cue On Column and they said every spot that we've got, there's a buyer for at the end of it right now. And we've never had that. Our inventory days are super low. Like I'm just having flashbacks of what the RV manufacturers and the RV guys were saying 6 months ago, 9 months ago, and all their stocks are down like 40% and they're actually still reporting great results, but the markets just saying, hey, like in 2 months demands going to fall off a cliff or something. You did say something interesting that I just want to dig into right there. The market went from 200,000 boat sales to 220,000 boat sales at the height of COVID. And I put it in my show notes and you mentioned it, 10 million boats out there and only 200,000 or so get replaced every year. Even at 220,000, that seems low. I think 30 years is probably the right for a boat and for some of the higher-end boats it's probably more like 15 or 20 years. It just seems low. Why are we under-replacing? I don't know if under-replacing is the word, but why are we so far below what I would think like there were placement rates for boat shipping.

PJ: It's a great question. I don't have a phenomenal answer. I will say that from around 92 to the pre-global financial crisis, the average number of new boats sold a year was over 300,000. In terms of why the recovery has been a little slower, I don't have a great answer for you. It's something that I want to dig into a little more and if I come up with something good, I will certainly revert.

Andrew: And you mentioned sector trends and I am with you like a little bit of a shift to the Red States, maybe a shift outdoors. One thing I think people have underestimated with COVID is, you know, let's say golf. There were a million golfers and then a million extra picked it up during COVID. Yeah. I'm sure all million aren't going to stick with it. But like to golf, it's a big investment. A lot of people might end up doing it. So is it 100,000 of the million stick around 500,000? I don't know. But they're not going to give up all those millions. And for boats, if the people who move from Blue to Red, some might move back, but if you picked up boating like some people are going to stick around and they're going to stick with boating. It just makes sense like you do get this nice little tailwind of your sustainable base and we'll talk about recurring revenue in a second. But your sustainable base is just like a little higher because more people got introduced to it.

PJ: Yeah. I mean, in terms of the RV versus boat dynamic, I think one company I looked at, is Patrick Industries. They make component systems for both RV and Marine and manufactured housing. And if you just hear about how they talk about the Marine business versus the RV business, they definitely see a certain level of tightness and structural demand that is going to evolve over the next few years. That is really embedded given the limited supply. So, you know, you pick a dispassionate producer that honestly focuses more on the RV space and they're a lot more excited about the multi-year tailwinds in Marine. And yeah, as you said, Brunswick, if they were only a boat manufacturer, I don't think I'd be as interested in them. Frankly, I think it's the engine business, and I think it's really the parts and accessories business that really kind of gets me excited in terms of business being able to generate cash throughout the cycle and be a lot more durable than just simply a boat that we have.

Andrew: And we're going to get to the recurring revenue a second. It will probably start touching on now, but I just want to keep with the recession risk. So they said, "Hey, this year, we're going to do about 10 dollars in earnings per share." 2025, their goal is about 17, I think it is. And they also in their deck, people can go look. It's a March 2022 Investor Day. They said, "Hey, we know all of you are concerned with the recession. We know all of your concerns with pull back." And they give it, I'm looking at the slide right now. People with my notes. They give it like, hey if you think the boat mark comes down, 30% parts and autos come down, parts of replacements, come down, 15% our earnings per share, instead of being 10 dollars this year or be 80. If you run an even more severe recession, they say our earnings per share will be 6 instead of 10, right? And none of those like a $72 stock with 6 dollar recession multiples. Like, even that doesn't sound expensive, right?

I'd probably buy a sum of stock with $6 EPS if that was mid-cycle not trou. So the question is, do you believe that? Because clearly, I think the market doesn't base on the current price and I don't know, it does strike me as a little bit too bullish to say. Hey, we're going to hit a recession as a boat manufacturer in our earnings are only going to go down from 10 to 6 and you know, one backup I posted this as well as you only have to go back to 2018.

And this is just the boat segment, but in 2018, the boat segment was burning money on an EBIT basis on 1.5 billion of sales. In 2021, 1.7 billion of sales. They make 150 million in operating profit but no it does make me wonder. Hey, are these guys being a little too bullish on their margins on the recession forecasts? Are we going to get hit harder because yeah, I don't know?

PJ: You know what? Okay, I hear you on the skepticism management can put out a lot of numbers. I will say that I do think they provided some transparency into their model and I think some of that made sense. I think, for me, the easiest thing to do was to look at 2001 and look at sort of the performance of the boat. Look at the performance of marine engines. They didn't split out PNA and engine at the time, but you can kind of get a sense for the downdraft and revenue. And I assumed in a recession scenario that there is no replenishment dealer inventories of dealers are like screw it. We don't want to replenish. We'll just wait for consumer demand to strengthen. Assuming incremental margins in sort of the mid-20 range to upper 20s.

From my analysis, got an EPS number around 750 or 770, I believe and I got them doing roughly 7 bucks of free cash. And that's because currently, they're spending a bit more than five and a half percent in CapEx. Whereas really, they would normally spend closer to 4, and because there's been such a ramp in inventory, spend just given the supply chain challenges and just the need for boats out there. And I think that would normalize a bit too. So look, I think the market is saying, prove it to me, which is a little bit of an annoying situation. I think if Brunswick can kind of prove that they're continuing to grow and continuing to see some of the tailwinds in the coming quarters. I think that will assuage some investors. But yeah, there is that sense that maybe there needs to be a little bit of a downturn and seeing some resilience before they get that credit. So, as you said, it may turn into being coming a little bit of a longer-term investment, but as you think there is some credibility that the lows are higher and the highs are higher.

Andrew: I think a big piece of that and we've alluded to it, but I don't think you explained is their PNA business and they say, hey, right now, about 37% of our revenue, and 42% of our earnings because the revenue piece of this is a little higher margin is recurring revenues. And they say by 2025, it's going to be over 50% of our revenues are recurring revenues. And when I think boat manufacturer, I don't typically think 50% of earnings from recurring revenue. So can you go into the PNA piece and there are a couple of other different segments but can you go into why so much of their revenues are recurring revenues and why these are sticky?

PJ: Sure. As you said, the PNA kind of parts accessories really anchors that recurring revenue. They describe that businesses being 25% OEM which means they sell systems into new boats, including their own. And then there's 75% is aftermarket and I think one of the quotes you shared and certainly, the quotes I shared in the substack right up, is that they indicated a vast majority of those aftermarket components are consumables. So really, their largest aftermarket piece is engine components and replacements. It could be lubricants. It can be other components that need to be replaced within a short time span on their engines. And as I understand it, 60% of their engine components or proprietary to Brunswick or Mercury. So really you have to buy their own components for that.

But that segment has grown a lot over the years. It used to be just thought of as being a propulsion sort of replacement part. It's distributor and manufacturer and over the years, they've done a number of deals where they've now gotten into electrical systems. So now, they're even inventing batteries that can replace sort of engines to help power the electronics onboard. They do things like wiring and circuit boards. They do controls so they give you this little joystick now that can help you control a boat in very tight areas or if you're trying to dock the boat.

More recently as you noted, they did the Navico deal where they got into electronic systems, which is some really interesting technology really in the sonar, radar, and mapping areas. So I think that the parts and accessories business is now run rate of two and a half billion, those 20% margins, embedded in that is a 600 million dollar distribution business, which touches 27,000 outlets. But frankly, if that distribution business weren't part of parts and accessories, the EBITDA margins would be even higher.

Andrew: So basically, 75% of the parts and accessory business is recurring. And, you know, I do work for this podcast but nowhere close as much as work because you, but it does strike. They just bought Navico, which is a billion-dollar-plus business which is a lot, if I remember correctly. A lot of navigation, systems, and stuff.

PJ: Yeah.

Andrew: And that doesn't strike me as like a recurring business, right? Because you're only going to get navigation. It's very discretionary. It's either an upgrade or you buy a boat that has an abacus. Like how are they getting to 75% of the parts and accessory business is recurring? I just listed the biggest acquisition I think the company's ever done billion dollars. This is a 7 billion dollar EV company. A billion dollars and I don't think any of that is really recurring in there.

PJ: I think the Navico business, as you think, it's put 60% aftermarket, 40% OEM so it does have more of an OEM system spilt. I think really the engine components that are really a very consumable business. I think the electrical systems, again, some of those components are sort of must-have or must-need to run boats and those breakdowns. No, I think it's a fair point. I don't have a great answer for Navico. I think there are probably some sales and software components to it that need to be had on a recurring basis. But I think a lot of people, they look at some of these systems and their DieHard fishing or angling people and they really want these things in their boats, but I think I don't necessarily have that transparency as to why the 75% aftermarket business is highly recurring.

Andrew: So Navico, they do a lot of navigation systems and stuff. Navigation systems can be subscriptions, right? They can be the old TomTom GPS, or whatever it is. Are they giving subscription revenue on the road, the Navico business, or is it all upfront you by the nap because you've got to provide for the boat?

PJ: They hadn't really disclosed that level of detail and they did describe the acquisition as being very software-oriented.

Andrew: Yeah.

PJ: I do think there is some tail to it, but they haven't broken out any sort of software recurring revenue.

Andrew: I read the acquisition call and I think they mentioned hundreds of software engineers coming over this part of the acquisition and I was like, I don't even think of 4 software engineers as part of a boat business so that was tense-present. Let's stick with the knob of acquisition, right? So, this happens in the back half of 2021. It's a little over 1 billion dollars for the Navico acquisition, and it looks like a great business, right? As you said, there are software components there. They're partnering with OEMs, which I'm sure boats aren't quite cars in this aspect. But when you partner with an OEM like these guys are planning their business, their boats out years and years in advance, and it's like it's actually very sticky being inside of that, especially with something so critical as navigation. So I'm sure it's like a very sticky business with pretty good visibility as long as folks are involved, but in 2021, they paid 12x adjusted EBITDA and that quote net of tax attributes.

So, ignore the tax attributes, probably, they'll go higher. And even at the time, you could see [inaudible] is coming on saying, like, hey, this is a really good business, but 12x is a pretty big multiple. Like how do you guys think about paying that when in your write-up, I think you had the PNA business at 8 to 9 times EBITDA if I'm remembering correctly. So if that multiple hosts, that's where now the coolest. They burnt 3x EBITDA on Navico, right? That's pretty much. So, what do you think about the Navico acquisition?

PJ: That's a great question. I think it's interesting if you look at some of the Brunswick presentations prior to Navico, you know, electronic systems were not an area that Brunswick was previously in and they listed Navico as one of the premier producers of electronic systems. And if you kind of look at the market size and what Navico does, they're unequivocally the market leader in that space, and certainly a lot of Brunswick boats prior to the acquisition were using some of their components already.

I think it is a huge brand name. I do think a lot of people when they invest in a boat whether it be fishing or a higher-end boat. They're going to want this kind of component. They're going to want the best and these guys just have a dominant market position. In terms of what they paid for it, yeah it is a healthy multiple. I think that business when they acquired it, they said it was growing mid-teens and then if you look at the queue for call they say the Navico kind of nicely beat there, you know, an issue with they underwrote the business for doing. So you got to think about it, mid to high-teens growing PNA business with an opportunity to improve margins, throwing it into a much larger organization being able to cut GNA, being able to cross-sell it more effectively. I think there is some merit there to paying a decent multiple. It was a private-equity owned asset. So there are probably a lot of things they can do with it.

Some businesses, some companies, a lot of Danaher companies, for instance. Don't always look at acquisition multiples. They look at sort of the return on invested capital and compare that to their weighted average cost of capital. And if they can see sort of a break-even within a short period of time, they feel good about it. So I think it's a strategic asset. I think it does enable them to really have a lot more of the boat in terms of the accessories and the parts per boat. And I think that really makes it increasingly easier for them to go to market and get on OEMs to really provide a whole suite of mechanics and electronics systems etc.

Andrew: No, look, I'm looking at the quote right now, which you reference where they say, Hey Navico beats the model that we had. They did a 35% revenue growth in 2021. The bottom line earnings more than double. We expect that trend to continue beating other things. But at the same time, Brunswick stock is about 100 when they do that acquisition in 2021. Their stocks are 75 today. It's not because this was a bad acquisition, but I do look and I say, "oh, you pay 12 times EBITDA." People were wondering about the multiple at the time and now your stocks are down 25%. And it's like, "oh, the multiple looks even a little more aggressive at this time." So I'm just two minds about it, you know?

PJ: No, I think it's fair. I think generally in the PNA space when you have a foothold in an area, you could easier to consolidate smaller players that much more reasonable multiples. So I do think they wanted to sort of a, called a Bay Head or whatever. They wanted some anchor piece in that segment to really help them continue to be able to expand by rolling up the smaller players that they acquire much more attractive multiples.

Andrew: Let me switch a little bit and this does relate to acquisitions. One of the things that they say and I think one of the core pieces that you mentioned and the model that you like, is they say, hey, we are vertically integrated, right? So we don't just make the boat and make the engine. We make all the after parts for the engine. So when we sell about, we're getting the boat, we're getting the margin on the engine. We're getting all the lifetime value of the engine parts and replacements. We're installing the Navico system so we'll get all the value for the upgrade, and I'm a little bit of two minds about that, right? Like, 100% kit. You could raise the rate? Razor-razor blade it, right? Like all the aircraft engine manufacturers, they sell the engines at a loss. So they get that lifetime maintenance contract, right? So, I definitely can understand that. At the same time when I think boat, I kind of go and I think, oh, well car manufacturers don't do this, right? They basically break it up and they make the car but they buy a lot of the engine technology from one company. They'll buy the seats from someone else. They don't own the retail side. They have the auto dealership and it'd be weird if you heard a car company going be like, "Hey, we're capturing triple margins because we're making our car seats. Were putting them into the car. We're selling the cars thrones dealer." So like I'm of two minds about it and I just want to talk to sit with you. Why is vertical integration here? Why is that the right answer? And you know, their peers could copy this if they wanted to and it doesn't appear that they copied it. So like why is this an edge for them? Why is this the right strategy?

PJ: It's a great question. I think some of that just happened over time in terms of they've acquired both brands and they acquired mercury, and then over time, they've acquired PNA businesses. In terms of boats versus cars, it's a very interesting thought in terms of comparing why one would be vertically integrated versus the other. Look, if 9 out of 10 boats today are outboard and sold and there's basically a duopoly in terms of engines, I think you'd rather be on the side of owning a business that does produce the engines. If they're going to own 50% of the US market, I think from dealing with the inflation perspective, dealing with the supply restrictions. Yamaha had some issues last year in terms of getting some supplies here. Certainly, the shutdown in China doesn't help a lot of the engine manufacturers. Brunswick manufactures a lot of their higher horsepower engines in Wisconsin.

So I think in a challenging supply chain market compounded with higher inflation, I think being vertically integrated has enabled them to really expand margins. And look, why can't other manufacturers do that? Well, I mean the engine business has been around for such a long time. They say, 10 million boats out there, 50% of the engines happened to be Mercury. It would take billions of dollars and a lot of brand-name recognition to really get into the outboard engine market and even make a relative bent. I mean, frankly, it's been going the opposite way. We're BRP and Seven Marine actually exited the marine engine market. The boat market is not, you know, it's a 9 billion dollar market in the US. In terms of being vertically integrated, I think it really helps them manage the supply chain a lot more effectively. And I think there appears simply, you know, look, Malibu is vertically integrated. They actually have higher margins than Brunswick and that's really a function of the fact that they make a premium boat and they charge a premium price which allows them to carrot capture more margins, but a lot of boatbuilders are pretty fragmented and so they don't have the scale to even consider being vertically integrated.

Andrew: Let me shift to something a little more fun to think about. They've got a boat club. Freedom Boat Club, I think.

PJ: That's right.

Andrew: Basically, it makes sense to me. I know several people who have boats and they go out and spend $50,000 on boats, let's say, right? It's like, "okay cool." I think the average boat gets used like 20 times per year 30 times per year. I don't know. You think about the depreciation on that boat and then you've got the maintenance cost of the headaches. I get people who love boats, right? But that's a pretty big investment. Whereas with the Freedom Boat Club, I could imagine like a net jet, right? Like yes, you could go buy a private jet but it's probably just better to have net jets and let them worry about the maintenance and like just pay per use. So I have said a lot, we have even said what Freedom Boat Club is. I want to turn it over to you. What is Freedom Boat Club? And is it just a silly little thing, or do you think there's real potential to form like a net jets-type membership that's worth a ton of money?

PJ: Great questions. I think when I talk about it in the write-up and we think about in general, maybe three to four percent of boat revenues. It's too small really to be a business to really talk about is having a material financial impact today, but the Freedom Boat Club, I think is a very, very interesting business. I think there's an upfront fee that's somewhere between three and ten thousand dollars and then people pay three to four hundred dollars a month to basically have access to boats that are between the ages of zero and four years. So they get access to fresh boats. They get access to people to help train them in how to use the boat.

From a financial perspective, 75% of the revenues associated with it or recurring or subscription-based, and basically their company-owned boat as a service operation and then their franchise operation. So franchise, they own a 6% royalty fee, and then if they owned and operated it they get all the money from that. And the margin there is typically in the mid-20s. So as you said, I mean, it's almost I kind of thought of it as sort of like a timeshare situation versus a vacation home. I think it's tapping into a different demographic that just either doesn't have the means of buying a boat or doesn't want the hassle of buying and maintaining a boat. I think they bought their initial foothold for about 8 times EBITDA. And now they have 350 locations. They have over 550,000 members and it's interesting, not all the boats right now are Brunswick boats. that in time, every boat that will be in these boat share clubs or shared access clubs rather will be Brunswick, boats. And structurally as you know, currently, that number is 4000 then it will go to five or six thousand. Suddenly, you think about that is having a three-year life and then you start getting a meaningful replacement number that goes strictly to Brunswick boats.

So, it is a very interesting area and in addition, when boats come off, sort of their useful life for the bow Club, they will get sold through their boat teca[?] If I'm pronouncing that correctly. They're young boat sort of dealer and mind you, it's 200,000 boat gets old brand-new, 800,000 gets old used. So it's a really big market out there and being able to offer some sort of warranty and being a huge boat manufacturer yourself, I think that gives you a competitive edge in terms of being a used boat, you know, a credible used boat dealer.

Andrew: Yeah. It just seemed to me, I get it small but that seems to be the type of thing you get a network of facts. One of the old carvana arguments was people buy a used car every 7 years, but part of that is because the process sucks. And what if the used car market can expand to people buying a used car every 5 years just because you make the process a little better. You take some of the friction out of it. As they say in their slides, there are 140 million people who go boating. There are only 10 million boats out there. I bet there is room for a lot more people if you could get a good membership that said, "hey choose your weekend when you're free." You can go once per month or something out $10,000 upfront probably is going to be a gating factor, but you could imagine different models where this could really take off and you could have a really big network of that, right?

That's a great thing about that jets. You're not going to start up a private jet membership competitor because you really need to have coverage everywhere and this would be a little more local, but I could just see a lot of potential for that subscription business. It lets them push their bows. It gives them inventory for the used car, for the use boats. It gives them due relationships with people who like boating because they joined the membership. I can just see a lot of potential there, but probably just a call option. Let me turn to the question I love to ask everyone if this company is so cheap, why aren't they buying back shares? And I don't have to ask that here, right?

They came out and there are some great quotes that encourage people to go read Q1's earning call release. They say, hey, we bought back. I think it's 80 million in Q1. We're gonna buy that 80 million and Q2. We think we're undervalued. We're going to do 300 million this year. And if our stock stays here, we're probably going to do more than 300 million and probably going to keep leaning into it. Great. Love it. We don't have to talk about repurchases. So I have to ask you a different question. Insider ownership here sucks. I don't think there's ever been inside or buying. CEO owns an okay amount of stock. But you know, he's been here for 3 years. It's not huge. There are several directors who I looked up to. They get paid more every quarter in board fees and their total stock ownership. So, I'll switch it to nest. The insiders can see value here, right? They want to buy back shares. They're talking about it all the time. Why don't we see insider buying? Why don't we have some insider ownership here?

PJ: Phenomenal question. I won't lie. I spoke with managing quite recently. And that was one of the main questions I asked. I will note that there has been some turnover on the board. So, in terms of heading their requirements for board owners, I think that will take some time.

Andrew: I got to get the headline number that gets people excited. I do get those complexities to it. But even if you adjust for that, I would say insider ownership is pretty well.

PJ: Yeah, I think the CEO owns close to 80,000 shares, you know, six and a half million dollars relative to what he gets paid. I'm sure. It's not a tremendous number. The CFO is relatively new. He was formerly the head of IR. I think of the stock hangs to where it is. Actually do think, will potentially see some insider buying as you think that they remain very convicted that this business is firing on all cylinders, and demand is really there and sort of they're pretty baffled by where the stock is moving. I mean, I just want to touch on the buyback because even though you highlighted it. I think management's not in the business of valuing their business per se. I mean that's really our job. They know what acquisitions are out there.

This is not a highly levered company. I'm sure they're probably been people talking to them about what their business could be worth in general. And I think they have a better insight into their future prospects, certainly in the near term. And so they have a good pulse there. And so when I look at buyback, I never like to secure that "oh it's secretive". That's why we're doing it. I like to hear management teams that really articulate why they think buyback makes sense in the context of where the stock is trading. Sometimes you'll find promotional management teams but sometimes you also find management teams that are thoughtful and understand what they need to show about the business to help create shareholder value. So, I found the quotes to be helpful to your point. Look, this business should do 350 million of free cash this year. I think that's a reasonable cap so what they can do in the buyback, but they can certainly frontload those buybacks if they think the stock is really depressed here and so we could see them beyond a run rate number that will seize that 350 because they want a frontload and be involved today. So I think inside our ownership like you said, it's like 80 basis points. It's not great. We definitely like to see them be more active there. In another write-up I did on VNT, there was that combination of insider buying and the move for share buybacks. And so I think when you see that double signal and it's a little more appealing but I would just say stay tuned.

Andrew: We're going to talk about VNT for a quick hot second at the end, but I'll save that for the end of the podcast. I've got two small questions outstanding. But before I get to those, why don't I just ask, we have covered a lot here, right? I think we've done a nice job covering everything. I do have two more small questions, but I'll pause here and ask. Anything you think we should have covered that we didn't cover or anything you think we kind of glossed over that you wish we had covered a little harder?

PJ: I do think the free cash component of this business has been inconsistent over the years. They had to get rid of a pension plan that was really dragging on free cashback in 2019. I think there's been a real transformation here. I think it's been slow-moving in some respects, but I do think the business is highly focused today. A lot of fixed costs have been removed. I kind of mentioned in the write-up that today's profitability is on a much lower base of revenue which suggests the fixed cost structure particularly for boats is much better.

I think the engine store is a phenomenally interesting story. If you look at one of the charts, they're one of the only manufacturers that really makes these 300 and above horsepower engines. You can do some YouTube searching. You'll see the 600-horsepower engine is an absolute beast. And really they have 70-foot boats that are frankly taking these outboard engines. They will take 3 or 4, or 5 or 6 of them, and those boats, historically, have never even been able to use outboard engines. And the beauty of an outboard engine, it's easier to maintain and it's quieter. They can be more fuel-efficient. They can be a little more eco-friendly if you're not using diesel like in inboard engines. So I think the engine component is a really interesting part where it's a real land grab right now.

And yeah, I think those were really maybe the two other points that I would focus on. So again, free cash improved the cost structure and then really the opportunity with an engine to potentially outdo their growth targets. Now, you mentioned the $17 in EPS, that's not something that anyone can really bridge to. I think it's because they envision themselves doing some larger PNA deals in the out years. I think that they can get the $14 a share in EPS in 2024 which if things slow down, that number probably slips a little bit, but I do have a conviction that today's sort of 350 free cash number can easily be double that number even in a scenario in which there's a little bit of a slowdown.

Andrew: I said I had 2 questions, but I'm going to change it to 3. By the way, I agree with you on the fixed cost. I just encourage anyone to read the March Investor Day and they do a really nice job talking about how they've changed the fixed costs over the business, the variable cost, and believe it or not, I thought they did a nice job highlighting that. So I just wanted to point that out. Three questions. First, hate to go back to the bullwhip of that and everything, but one of the things that I worry about here, which I don't think we fully dressed was we did address the demand side of it, but I do worry they've got a million square feet of capacity coming online at the end of this year. And obviously, they think they can fill that. Again, I come back to the RVs and I just get worried. Hey, in this case, it's not just that maybe your demand is like. You're bringing all that capacity online. So how do you get comfortable that they're not kind of over-investing in capacity here?

PJ: Right. I like to think of capacity expansion really for boats as going from 40,000 to 50,000. It's not going to happen overnight. It's going to be staged and frankly, what they're doing is they're expanding their low-cost facilities. They're not green fielding it like that. As you mentioned that Peloton is and maybe will complete it.

Andrew: Peloton didn't just greenfield. Peloton went and spent several hundred million dollars to buy a supplier so they greenfield and they bought suppliers.

PJ: Yeah, really pretty crazy. Look, I think there's definitely, you know, you highlighted a quote about Boston Whaler. That's the saltwater fishing brand, a pretty iconic brand. I think they're being very surgical in terms of where they want to expand capacity. And if demand is in there, they're not going to go from 40 to 50. This is really thinking about it in bite-sized increments. I do agree that if you look at where the inventories are today. It's a good story if they produce closer to 40 to 42,000 if you immediately start thinking they're going to produce 50,000 then, there are definitely some questions as to where the demand will be there. So I think it's a very fair question. I just think that they're not going to just do a step function in terms of growing capacity. I think they're going to do it kind of very surgically. And even the capacity number, I mean this past year, I think they produced or sold somewhere close to the 38,000 boats. So there's the nameplate and then there's what they actually are able to do and so there's going to be a delta there too.

Andrew: Perfect. Alright, second question. This is a smaller one, but I was a little surprised. They said, hey, I think the average, it's 78% of boats, sell for less than $50,000 headline price and somebody asks, "Hey, inflation's rising." Maybe consumers are weakening. Interest rates are rising. How does that impact your buyers? And it actually only about 50% of boats that we see are bought on credit and that number kind of surprised me. You know, like I don't know the number for cars, but cars are a lower tick in them boats in general. And I would be shocked if only 50% of cars are bought on credit. So how do you think about the credit cycle, credit that 50% number they threw out there?

PJ: Yeah, it's a good number. If I had to pull something out of a hat. I don't know if I necessarily would have pulled that 50% number. From what I understand, typically a consumer will put down 10 to 20 percent of the down payment and then enter into a 10 to 15-year loan. If you just assume that it's a loan that amortizes over time sort of flat payment and you kind of stress interest rates up or down 100 basis points or in our case up 100 basis points. It really only adds up to around 15 to 25 dollars a month, you know.

The complexities of consumer behavior in terms of people at that income level, it's not easy to really ascertain. As you said, these are aluminum boats, you know, they sell a ton of aluminum boats that are fishing boats, where the highest value component on them is an engine and that's far and away. So it's a reasonable question in terms of thinking about why is 50% the right number and what higher rates mean? I think it's really TBD in terms of seeing the performance there.

Andrew: Yeah, it's just tough to know, but the 50% number it gave me. I was pleasantly surprised by it. And as you said, people are really concerned about it, but it doesn't seem like interest tax on that much to it. And the consumer goes look at the JP Morgan conference for the JP Morgan Investor Day from a couple of days ago like consumers still seem strong. There are still lots of jobs out there. So who knows, right? This is a part of looking business and I do get kind of caught up. And hey, we're talking about what the consumer is going to do today in a month or now. And what really matters is 2025 or like a few years old. What do you want to say something there? Go ahead.

PJ: Yeah, I will say and I think mansions made these comments. I'm not going to say totally original. But you know, when you're buying a sub $50,000. It really depends on your employment. It depends maybe on the equity in your house. Those things are still very strong. It doesn't depend on how much Tesla stock you own and whether it's up or down 40% so. These guys aren't selling Mega Yachts. I mean, they kind of got out of the business really because they weren't even manufacturing the engines for those businesses. They were low margin, low synergy businesses. So I think some of the factors that your typical stock investor would think about like, "Hey, what I want to make this massive discretionary purchase." I think that calculus is a little lower for the cohort of people that buy a lot of these aluminum fishing boats.

Andrew: If fishing is your hobby and you love fishing, right? Like everybody's got their hobbies if that's your hobby, what might look like a silly purchase to you or me. You know, I've got friends who all their track is their baby, right? And if fishing is your hobby, your boat might be your baby and you and I might look and be like you spent $40,000 on a boat. That's the stupidest thing I've ever heard. And they're like, that was my dream. I own my boat now. Like I go fishing when I want. So teach their own, right? That's the beautiful thing about capitalism. Everybody can spend their money on what they want. It's got its faults, but that's one of the beautiful things about it.

Last question. I think this relates to interest rates, but we might as well address it. Gas prices, right? A year ago, you could go fill up your boat for $2 a gallon. Now, you go fill up your boat in you're going to get sticker shock, it's 450 a gallon. I think management has really addressed this in the calls and stuff but there are going to be some listeners to think about the gas up. That's bad for boats. That's bad for boat use. I'll just toss it over to you.

PJ: Yeah. I think they quoted the average number of hours people use a boat is around 30 hours a week, and I'm sure that depends on whether you lived in the northern regions, where it is a shorter boating season and then in the South. Look, both have never been fuel-efficient vehicles. I've seen boats really a good boat might do one mile per gallon.

Andrew: Is that really all it gets?

PJ: Yeah. I mean propelling a boat in water, the amount of friction, and all that in terms of getting through water, it's so much different than driving through a road. And frankly, that's part of the reason why we haven't seen the electrification of boat engines. I mean, the sheer battery would weigh down the boat. You'd have to replace it. You know, 5 people couldn't hang out at your boat party. Andrew, you would have to have a massive lithium-ion battery sitting there. So, I think boats are notoriously very fuel-efficient. I think if you've made the investment in a boat and you value the time out on the bay or in the sea or in the lake, you're kind of going to use it, either way. You know, the management tries to quantify it and say "hey look if gas is here, you're really only seeing an increase that's not too much relative to maybe what your guess consumption is for a car."

I just think you're not using it every day and you really value the time out in the sea or out in the water. It's going to be a pinch, but it's probably not going to be a deal-breaker as far as how much you use the boat.

Andrew: Perfect. Great. Hey, I had 2 unrelated BC questions, but I always want to give you the last thing again. Anything you think we should have hit? Anything we didn't hit hard enough that you want to talk about BC and the answer can be we did a pretty nice job.

PJ: No, Andrew. I think, yes a lot of good questions and I always love these conversations because it forces you to really understand the story. And frankly, it gives me things to really want to dig through and go back and look at. So, you know, learning about a company's iterative process and being able to talk to someone smart about a company and you do your homework. It's really helpful and nice to do.

Andrew: People ask, why do the podcast and that's the reason, right? PJ's done a month's worth of work on PC. And I got to do a morning's work of work and then ask him all my questions. And now I've got a super interesting company trading at 7 times EPS that I can, you know, I've got a lot more work to do on but now I'm a lot smarter on it.

Two unrelated questions. Number one, VNT. That was your first write-up. BC was your second write-up. You wrote a bunch last month. I pulled up the chart. It's up 5% since you wrote it up and then Russell is down almost 9%. So there we go. There's some good Alpha, but they also announced a... they reloaded their share repurchase this morning. The file gets reloaded this morning. Thank you to them for doing it in front of the podcast. But just wanted to get your quick thoughts. VNT, you still like it here. I'm guessing everything is progressing with the repurchase and everything.

PJ: Yeah, look I think VNT is another one of those underrated businesses. I think the sell-off in the stock. I think as a highlight in the write-up was really quarterly earnings projecting into 2023, this EMV, this EuroPay, MasterCard, Visa, the tail of that in terms there was a regulatory requirement to have your outdoor POS systems, be able to accept the chips to prevent skimming fraud. And there was always sort of a peak to trough or 400 to 500 million dollar revenue decline, but they didn't quite articulate the timeframe. I think 2 things have been really interesting in terms of... 3 things frankly, that they have played out that I saw from the last earnings call and that's the continued growth of their car wash technology business. And actually a number of companies out there are driven brands. I don't know if there's like a Mister Car Wash or something to Leonard, Greenback Car Wash business. I mean, it's just really car washes are going gangbusters and there are nice and ciliary business for sea stores. So that's nice to see that area is growing and their technology, you know, the acquisition they made while expensive is really helping push the top one of their mobility technology.

Secondly, I hinted in the write-up that they could divest from non-core whether it be their telematics business or their Smart City business, which is a kind of interesting business. They can control traffic lights to help EMS Vehicles move through the city quickly and then they really have an auto aftermarket whether it be a diagnostics or wheel servicing business and I think all those businesses can frankly beyond the block and they indicated clearly that they are marketing some businesses to be sold to raise capital, you know, historically, Danaher businesses grow through acquisition. So seeing that initial share repo, they announced it last May 21, but they didn't act on it until very recently and there were some very bullish quotes around that and they spent 257 million out of the 500 million and they seem inclined to buy more. And so when I see that, they kind of reloaded that authorization. I think that confirms that they still see a lot of value here. And so, yeah, it's a defensive business and I've been happy so far from how it performed but I definitely see some of the actions they're taking as really putting the business in a better position to succeed going forward, and the multiple discounts, the free cash flow, yield discount. I think those have to still bridge over time.

Andrew: Perfect for and then the second question I was going to ask, so you've got VNT. You've got BC. I think you put a PC next week. It looks like you're trying to do maybe once a month is that the target? But when's the next one going to come out?

PJ: Great question. That's funny. I was looking at, was it franchise group? I was looking at that independently and then I remember you kind of posted some interesting from the earnings call. You posted an interesting quote. Look, I think finding a business, where you think you have some edge, or you can add some value to the discussion isn't easy. So I do spend quite a bit of time trying to isolate businesses I find interesting. A month is kind of been the cadence and I think a month is kind of reasonable. I think I haven't been in the stock pitching game for a little while. So kind of getting my sea legs and getting back into it. So hopefully, maybe that cadence can speed up a little bit. But, the goal is to put something that's thoughtful and hopefully well-written and at least get people to get it on their radar. You may not like what I have to say. You may have questions about where you think buying a consumer discretionary stock is stupid now, but at least they'll be on your radar and you'll be a little sharper on it.

Andrew: It's funny. You say, buying a consumer discussion or psyche is stupid. I've been massively bullish retail, and somebody talks to me the other day and they're like, it's one of the most concerning trades I've ever seen because everybody just hates retail. And last week, when retail would go down, 10% every day, I was like, "oh gosh, I see why." And then this week when it goes up, 10% every day, you like, "oh, I'm a freaking genius."

But now, here you look. You said you try to do a thought of write-up for everyone and I've talked to you for a long time. I've read your first write-ups. I know that's going to be the case. So everyone can go follow. I'll include a link. It's PJ's mid-cap investment idea. It's under his full name, but they'll be a link in the show notes. Just click on it. Go subscribe. The first write-ups are up there and they're free. So go check it out. And PJ looking forward to seeing the third write-up, looking forward to having you on again in the podcast in the future.

PJ: Well, thank you so much, Andrew. Some great questions and I've heard some of the other podcasts, You know, a really thoughtful people come. It's a privilege to be on.

Andrew: Hey. Thanks again for coming on.

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