[00:02:38] Clay Finck: So at the time of recording here, it’s October 29th. The S &P 500 is trading near record highs. And then the NASDAQ is also near record highs, which I think helps illustrate that the market overall isn’t too pessimistic on what lies in the future ahead here. So in our previous quarterly episode, we highlighted old dominion freight line.

[00:02:57] Clay Finck: So that stock at the time had a draw down. And then the episode before that we did Lulu Lemon for Q2 2024. And that stock was also down at the time. And both have had a nice recovery since the summer, as the market just seems to be less concerned about the strength of the US consumer. So now MasterCard at the time of recording isn’t in a drawdown like those stocks were, it’s actually trading around all time highs, which doesn’t necessarily mean the stock’s a buy or the stock’s not a buy.

[00:03:25] Clay Finck: We’ll be touching on the valuation later in this discussion here and sharing our thoughts there. So MasterCard is definitely a fun company to cover because it’s likely one that all of our listeners are likely familiar with. It’s a brand that’s likely in many of our wallets today. And it’s a stock that happens to be held by many big name top investors, some of which have been interviewed here on the show.

[00:03:48] Clay Finck: So when I pulled up Dataroma, I noticed Chuck Awkery, Dev Contessaria, Guy Spear, Tom Russo, Tom Gayner, Warren Buffett and Franchois Rochon, they all have a position in MasterCard. And then some of those names have had it as a core holding for many years. And then others have had it as a small percentage of their portfolio.

[00:04:08] Clay Finck: Like Buffett, for example, it’s just a small slice of his equity portfolio. And then I should mention that I do have an interview scheduled with Dev Contessaria that’s going to be released on December 5th. So be sure to catch that episode as well. Now, Chuck Awkrey, he’s on record for talking a little bit about MasterCard and I wanted to share a bit about what he has stated publicly to get this conversation kicked off.

[00:04:32] Clay Finck: So Awkrey’s firm, Awkrey Capital Management, they manage north of 14 billion out of Middleburg, Virginia, just a small little town outside of DC. And Chuck Akre’s fund, they first purchased Visa and MasterCard around 2010 when they were trading around 10 or 11 times earnings. And I did go back and look at the multiples of these stocks around that time period.

[00:04:54] Clay Finck: And it seems like it just, it was a very short period of time they got really this cheap. I was seeing it around 2011, 2012 there around 25 times or 20 times. I mean, when Akre started talking about this business. I just found it really interesting. So he started to dive into some of the numbers of the business, the margins, the returns on capital and so on.

[00:05:13] Clay Finck: The way he put it was there wasn’t a word in the English language that was superlative enough to describe how good these businesses were. He said that you could cut their margins in half two times and their margins would still be above the average American business. So clearly something extraordinary was happening underneath the surface.

[00:05:32] Clay Finck: And when Chuck Akre says something like that, it certainly catches my attention to say the least. So he did his due diligence on the business and he jokingly said that he thinks he knows what’s going on with the business and what’s happening with its moat. And he just quit talking about it. So in their focus fund, MasterCard is their second largest position.

[00:05:52] Clay Finck: Constellation Software’s number one, MasterCard’s at a 11. 9 percent weighting, and then Visa’s 6.8%. And then just before we hit record here, I was thinking about MasterCard’s margins and how they compare to some other big tech companies that people say are high quality companies. So MasterCard’s net profit margin is around 46%.

[00:06:13] Clay Finck: And when I pulled together some of the other big tech players here, so Apple is at 26%, nowhere near MasterCard. Alphabet’s also at 26%. Meta’s at 34%. And to my surprise, Nvidia’s margins are 55%. So a few of these big names that I pulled, Nvidia’s the only one that. Anywhere near the margins that MasterCard would have.

[00:06:36] Clay Finck: So who would have thought that this payment company would have margins that are just so high. And given how big this company is, it’s just one of the most profitable companies in the world. So I’ve, of course, known about MasterCard for quite some time, but I actually just started to learn more about the payment industry when Wyatt, who’s an equity analyst and a member of our TIP Mastermind Community, he gave this wonderful presentation on the company for the group.

[00:07:02] Clay Finck: Just to give a brief overview of the company here before I throw it over to you, Kyle. So MasterCard, they operate in a duopolistic industry right alongside Visa, and they both really just act as the payment rails of the payments ecosystem. So for the vast majority of people. When they make a digital payment, Visa and MasterCard are helping facilitate that payment as they manage the network that connects all of the cardholders with all of the banks globally.

[00:07:29] Clay Finck: So, both Visa and MasterCard have a really strong competitive position in the payments industry, and we’re going to be getting into that. And then most credit and debit card payments are flowing through them. I should also mention that we’re going to be mentioning Visa quite a bit during this discussion, and these two just really dominate.

[00:07:47] Clay Finck: What they do in the payment space. And for the most part, they really aren’t stealing share from each other. And they’re almost interchangeable in a lot of ways because they’re very similar companies. And for the most part, they aren’t competing with each other too much in terms of stealing share from each other.

[00:08:04] Clay Finck: They’re just both benefiting from this growth. In digital payments, so I personally like to shy away from companies that are financials since they’re largely outside of my circle of competence, but I personally see MasterCard more as a technology company that’s really enabling the digital transactions that we’re all doing every day.

[00:08:25] Clay Finck: And it’s important to mention that they don’t loan money or they don’t take on any credit risk. So the core of their business is helping facilitate payments to help make that process really seamless, which will of course be getting into more detail here. And then just some numbers here related to the company.

[00:08:41] Clay Finck: The market capitalization is 470 billion. That makes them the 17th largest public company in the US based on market cap. They’ve distributed over 3 billion cards to card holders in over 200 countries. In 2023, they had revenues of 25 billion and operating income of 14 billion. And those have all compounded at nice rates over the past 10 years, double digits.

[00:09:05] Clay Finck: Return on invested capital is over 40%. PE ratio is around 39. So definitely trading at a premium to the market, their enterprise value to earnings before interest and taxes or EB to EBIT, that’s 31. And then finally, the stocks compounded at around 21 percent over the past decade, excluding dividends. So it’s been quite a big winner for long term investors.

[00:09:27] Clay Finck: And when you look at over the past 10 years, a lot of that has just come from the growth and the fundamentals, but there is a small portion of multiple expansion there, when you zoom out. So with that, I think we should get into how they sort of fit into the payments industry. So at first glance, I think one would sort of think that a company like MasterCard, which really just dominates their niche, it would be really hard for them to have a solid mode.

[00:09:51] Clay Finck: I think most people would assume that given they know about all these Fintech names, you got PayPal, Stripe, Square, Pfizer, and there’s a long list of companies within the Fintech ecosystem and startups that are VC funded. So Kyle, how about you give us a sense of how MasterCard really fits into the bigger picture here.

[00:10:10] Kyle Grieve: Even though I’ve been using credit cards here for a very long time, same as you, I realized just how little I knew about the business until I got a chance to see why it’s a presentation, which really opened my eyes. So I don’t think MasterCard is necessarily a super, super complex business, but it’s just not something that I’ve found historically is in my circle of competence, kind of similar to you.

[00:10:31] Kyle Grieve: So I really had to focus learning. A lot more on how businesses like MasterCard fit into the payment ecosystem and what the payment ecosystem actually is. So, you know, if you look at your credit card right now, you’ll probably realize that it has a Visa or MasterCard symbol plastered on it, unless you’re an Amex user.

[00:10:50] Kyle Grieve: I use Amex, but my debit card, for instance, actually has the MasterCard symbol on it. And, you know, numerous other credit cards might be branded under a different name and still have the Visa or MasterCard symbol on that credit card, or like I said, debit card. So these cards have the symbol because they are using the Visa MasterCard credit card network in order to accept payments.

[00:11:11] Kyle Grieve: In the case of my bank card, for instance, if that bank card did not use the Visa or MasterCard network, then the merchant would not actually be able to accept my payment. So the interesting point is that when I use my bank card to transact via the MasterCard network, MasterCard isn’t extending me credit, kind of like you mentioned there earlier.

[00:11:28] Kyle Grieve: So at its core, you know, MasterCard is not in the credit card business. MasterCard is essentially the infrastructure that’s needed to facilitate electronic payments. So, without a payments processor, you just, you can’t make payments. Or if you have a card that’s on a payments network that isn’t accepted, you can’t use that card.

[00:11:48] Kyle Grieve: You’ll have to use different forms of payments, like a debit card or cash. So I personally run into this issue all the time because Amex is my primary card where unfortunately I can’t use it when I go shopping usually for smaller ticket items. There’s just some merchants that don’t want to pay the fees specifically to Amex.

[00:12:06] Kyle Grieve: I know Amex has higher fees compared to Visa MasterCard. So sometimes when I go into a place to buy food, for instance, I’ll go with my Amex card, tap it, machine says, sorry, we don’t accept it. And then I have to use my debit card or cash. So now let’s go through what a typical transaction would look like on the MasterCard Payment Network to give you a better idea of what that looks like.

[00:12:27] Kyle Grieve: So there’s basically five parties that are involved in every single transaction using the MasterCard payment network. But same thing, Visa card payment network would be the exact same thing. So the first person, let’s say we’re going to use myself as an example. So that’s me, I’m the cardholder. So that’s going to be the first party.

[00:12:43] Kyle Grieve: The second party is going to be the merchant. So let’s pretend like I’m going to Lululemon and I want to buy a pair of pants. Lululemon in this case is the merchant. The third party is going to be the issuer, which is my bank. So I personally use bank of Montreal, but this was could just as easily be Wells Fargo chase.

[00:12:58] Kyle Grieve: If you’re in the United States, the fourth party is going to be the acquirer. So this would be the bank that the merchant uses. So let’s say Lululemon, their bank is Chase, so they’re the acquirer in this case. And the fifth party here is going to be the payment network, which is going to be MasterCard. So MasterCard is going to approve and transfer money from my bank, the issuer, to Lululemon’s bank, the acquirer.

[00:13:21] Kyle Grieve: So let’s just say now that I go to Lululemon, I buy my pass from them using my card. It has the MasterCard logo on it. I tap or swipe my card. Now, the acquirer bank of Lululemon, Chase, is going to see this transaction and is going to see that it’s a MasterCard credit card. That information is then sent to MasterCard, where they then see that the issuer is a Bank of Montreal credit card.

[00:13:43] Kyle Grieve: MasterCard is then going to send the transaction information to the Bank of Montreal. The Bank of Montreal approves the transaction and then sends the money back to Lululemon’s bank, which is Chase. So now let’s say the transactions for a hundred bucks. I’m not paying a hundred bucks back to MasterCard.

[00:14:00] Kyle Grieve: I have to pay that money back to Bank of Montreal. So the network transfers the necessary information to facilitate the transaction and make it basically as seamless as possible for all the parties involved. Obviously there’s a lot of different parties and moving parts going on here. So I think it’s worth quickly mentioning just the difference between MasterCard and American Express.

[00:14:20] Kyle Grieve: So they are the same in the fact that they have a network and they approve transactions and transfer money. But the difference here is Amex is also an issue and an acquirer. So this means when I use my Amex card, I have to pay back Amex. So Amex has credit risk, whereas MasterCard doesn’t. It’s the issuer with MasterCard.

[00:14:44] Clay Finck: That whole process you just quickly explained. It really just happens in a matter of, say, one second. And with regards to Amex. They’re really a closed network, whereas Visa and MasterCard are open networks, so this makes it really difficult for Amex to really get to near the scale that Visa and MasterCard are at, because Amex is the card issuer and the payment rail in this closed system, and then they also charge higher fees, so that hampers their ability to scale at least to the same degree.

[00:15:14] Clay Finck: And then they also, as you mentioned, take on the credit risk and issuing the credit cards. So, say if you’re a small mom and pop shop, you’re not going to be too excited about accepting Amex when you can just accept Visa and MasterCard since you know that essentially everyone has those cards. And then Amex also tends to target really just the higher end consumer.

[00:15:33] Clay Finck: So to give a reference point, there’s around 130 million Amex cards that have been issued. So that’s a pretty substantial number, but there’s also been around 1. 2 billion mastercard, either debit or credit cards that have been issued. So you and I both actually have an Amex card because Amex just really gives great benefits and great rewards, but it’s the merchant who’s actually footing the bill for those rewards.

[00:15:57] Clay Finck: Since Amex is charging a higher fee to them. So really the way MasterCard is making their money is on the individual transactions. So typically they’re getting a fixed and a variable amount. And if we just put some numbers on it, usually it’s anywhere between 0. 1 percent and 0. 2 percent of the transaction amount.

[00:16:18] Clay Finck: So say if the transaction is a hundred dollars, that’s anywhere between 10 to 20 cents. And then your typical transaction, though, it has a fee of anywhere between two and three percent. So I’ll go into here kind of where that fee is really going and why MasterCard and Visa really aren’t getting the majority of it.

[00:16:35] Clay Finck: So one of us walks into Lululemon, we use a MasterCard debit card and it costs 100. Just over 2.19 or so is going to be paid in fees along the way. A 1. 75 of that is going to go to the issuing bank, which is our bank. Around 0. 14 is going to go to MasterCard, and then the remaining 0. 30 is going to go to the payment processor.

[00:17:00] Clay Finck: So many people, I think, might, from an outsider’s view, look at the payment industry, see a 2 percent or a 3 percent fee that’s being paid along the way, and just say that Visa and MasterCard are ripe for disruption because of this large fee they’re getting. But the reality is they’re getting 20th of the overall fee that’s paid on a transaction.

[00:17:19] Clay Finck: So most of it’s actually going to the issuing bank or our bank and the example of Lululemon. So I think this ties a bit into the moat, which we’ll be getting into. They really aren’t taking that much out of the transaction, despite what I mentioned at the top, these businesses being so, so profitable. And for this small fee, they’re providing a significant amount of value.

[00:17:43] Clay Finck: So they’re really making this whole process seamless for all parties involved. And it allows us to essentially shop anywhere globally and provide plenty of these services on the back end too, that we’ll be getting into. I wanted to transition here to talk about the network effect. So, again, like I mentioned, if you’re a small mom and pop shop, you want to have systems in place that’s going to allow people to just walk into your store and easily make a payment.

[00:18:11] Clay Finck: Since almost everybody uses the Visa or MasterCard rails, that is what that shop is going to want to accept. So this is why you see some places, as you mentioned, not accept American Express, or maybe they even charge an extra fee if you have an Amex card, because Amex has their own network. They’re charging higher fees to businesses that use them.

[00:18:32] Clay Finck: And many of these small businesses probably aren’t a fan of paying a bigger fee when they’re already paying two or 3 percent to use Visa and MasterCard and don’t want to pay more if they don’t have to. So if a competitor tries to start up their own payment network, it’s a bit of a chicken and an egg problem.

[00:18:49] Clay Finck: So the merchants won’t care about any new network unless they’re able to get a ton of customers coming through the door. The customers aren’t going to want that card if it isn’t accepted everywhere. So there’ve actually been multiple attempts in the past to get a new network off the ground, which have essentially all failed with the exception, arguably of American express, which is sort of carved out its own niche in the ecosystem.

[00:19:13] Clay Finck: And I just did a quick search on what are the top credit cards for 2024. So according to NerdWallet, the top choices for credit cards are Capital One, Chase, Wells Fargo, Citi, and American Express. And all of these cards use either Visa or MasterCard as the payment trail, except for American Express. Of course, I’ve personally been impressed by the network effect aspect of this business, because when we hear about network effects, so often we hear about Facebook and Google search and Airbnb.

[00:19:45] Clay Finck: And usually those are these tech businesses that people are all interacting with and are familiar with. But MasterCard and Visa, I think might have one of the strongest network effects of them all.

[00:19:55] Kyle Grieve: That’s right, Clay. And you know, MasterCard, I think quite clearly has a wide moat. Otherwise it wouldn’t be making more and more profits each year, but given the fact that it’s net profit margins have only been as low as 31 percent over the last decade and continue to expand.

[00:20:11] Kyle Grieve: Other businesses just aren’t seeing much success at taking any market share. But I think as you mentioned, it’s next to impossible for other processors to get their foot in the door. So in addition to the network effects that you discussed, there’s a few other reasons that make it difficult for others to compete with them.

[00:20:27] Kyle Grieve: So the payments networks, like you already mentioned, duopoly and they’re deeply, deeply entrenched and it’s very, very hard to make any inroads into taking market share from them. So If we look at this from the perspective of the consumer merchant and issuer, they can kind of give you a, another really good view of just how powerful the network effects are.

[00:20:48] Kyle Grieve: So as a consumer, I personally know this, you know this as well. We want a card that can hopefully be used everywhere that we go shopping and switching cards. Yeah, you can do it, but it’s kind of annoying. You have to call up your credit card company. You have to cancel it. They ask you why you’re canceling it, blah, blah, blah.

[00:21:05] Kyle Grieve: You have to fill out forms. Wait, it’s just not exactly the most enjoyable experience. And then let’s add to the fact that. A lot of us have credit cards specifically for the use that we’re collecting points. So for that reason, I don’t want to switch away to another credit card because I know that the one I have right now is giving me the most amount of points.

[00:21:23] Kyle Grieve: When we look at the merchant, they want to minimize any friction that they have with any of their potential customers. Let’s say you have one corner store on one side of the street, another corner store on the other corner. If one corner store accepts Visa and MasterCard and the other one doesn’t, well, chances are people just aren’t going to go to the other corner store.

[00:21:41] Kyle Grieve: And they are going to go to the one that does accept the Visa and MasterCard payment. So, when you think of it that way, using the Visa and MasterCard network essentially is just removing any friction that a potential customer would use to justify them not shopping with you. So, even though you have to pay these fees that are annoying, unfortunately it’s just worth it to eat the fees and unfortunately pass it on to the customer.

[00:22:05] Kyle Grieve: Then when we look at the issuer, the issuer is also making a fee, like Clay just pointed out there, you know, in a 100 transaction, the issuer, let’s say, is making about 1. 75. So they want people to use their cards. And so, from the issuer’s standpoint, they want as many of the merchants to accept their cards as possible.

[00:22:25] Kyle Grieve: And this way, customers use the issuer’s cards, and then the issuer can collect those nice fees. And then as a network is growing and more and more merchants are using their cards, more issuers will partner with those networks. So, you know, the more widespread the cards can be used, the more the consumer uses the card.

[00:22:43] Kyle Grieve: So, the next kind of competitive advantage here is in regards to scale. So, issuers actually end up paying less for using MasterCard Network the more that the customers use their cards. So, they have a couple of different ways of doing this. So, they have rebates. So, for instance masterCard will offer discounts based on payment volume.

[00:23:02] Kyle Grieve: So the more processed payments, the lower the fee per transaction. When you look at this from a margin perspective, the incremental cost for MasterCard of processing more and more transactions is cheap. That’s why their margins just continue to go up. So as the business grows, margins will continue to expand.

[00:23:18] Kyle Grieve: And so just to give you an example here, at the end of 2009, MasterCard’s net profit margins were 29%, and today they’re 46%. So, it’s just insane how much they’ve been able to increase their profits. So, the next competitive advantage I want to talk about here is switching costs. So, just a very important question that we should ask in regards to MasterCard and just payments networks in general is, why would an issuer switch their payments processor as both Clay and I have now talked about here. The network effects of MasterCard are just so good that in order for a potential competitor to actually make a difference, they’d have to incentivize issuers to switch. And given the scale that MasterCard does, this just seems next to impossible. So I looked up the trailing 12 month transaction volume for MasterCard and it’s 9. 3 trillion. That’s trillion with a T.

[00:24:09] Kyle Grieve: So the numbers here are just so large that it’s barely comprehensible, but I think it just really shows you how much sales volume a competitor would need to take market share for MasterCard. And, you know, let’s say there was another Payments processor that’s bragging that, you know, oh, we processed 10 billion of transactions.

[00:24:25] Kyle Grieve: Is Visa and MasterCard even going to care? I mean, I don’t think they would actually care just because in order for another competitor to transact volumes in the trillions of dollars, like that’s going to be really, really hard. And in my opinion, pretty close to next to impossible. So the other parts on here on switching costs are that has to do with the cards themselves.

[00:24:45] Kyle Grieve: So the cards expire over a four to six year period. And basically once the card is issued, to someone like Claire, me, that card stays on the payments network until they expire. So because these cars have these longer expiration dates, the issuer is essentially locked into that payment network for the entire duration of their issue cards.

[00:25:03] Kyle Grieve: So the next point here on switching costs is that the money that’s collected by the fees, by the issuing banks is used to reward their customers. If my bank or Clay’s bank was to move to another network that was providing the issuer with lower fees, then that would mean that the rewards program would probably diminish in value.

[00:25:23] Kyle Grieve: And I know personally that if my credit card, let’s say I earn, I don’t know, let’s say I earn 4 points per dollar spent. And if for some reason they went down to two points and then I could find someone else that would pay me four points, I would just probably jump ship. So it makes a lot of sense given the scale of MasterCard that people want to stay with them because as long as they collect these large fees, they can pass those rewards onto their customers.

[00:25:48] Kyle Grieve: So the final competitive advantage, I think here, I want to discuss more is brand. So I think that MasterCard. That definitely has quite a strong brand moat. And it made me think of Hamilton Helmer’s points on how part of a brand strength is in what he labeled uncertainty reduction. So MasterCard is a trusted brand.

[00:26:09] Kyle Grieve: It’s been around now for decades and it’s built this long history of trust between customers, merchants, issuers, and acquirers. So throughout its history on the payments network and in the payment network, it’s It’s built this uncertainty reduction into the brand and an incumbent who wants to try and take market share They’re not gonna have that brand strength They’re not gonna have that history of excellence that MasterCard has had over the decades and it’s gonna be really hard as well for them to just establish trust with all the parties that are involved.

[00:26:41] Clay Finck: Yeah, the point on brand is sort of interesting I actually just got a new debit card from my bank I would say the brand power more lies from the perspective of the issuing bank and not from the perspective of the consumer. So when I got my debit card, my bank didn’t say anything about whether it was a Visa card or a MasterCard.

[00:27:00] Clay Finck: So to me it works the exact same. So the brand strength is good if your Visa or MasterCard relative to say a new entrant, but MasterCard’s brand relative to Visa really I think is irrelevant to me as the consumer. And then from the issuing bank perspective, I know that they’ve built these relationships with some of these big banks.

[00:27:21] Clay Finck: So one bank might prefer Visa or they might have a special partnership with Visa and another bank might have a special partnership with MasterCard. That’s not to take away from the moat at all. I think all of the other points we’ve mentioned are really important, but I would probably emphasize brand.

[00:27:36] Clay Finck: That might be the weakest competitive advantage out of all of the things we sort of mentioned in terms of how entrenched they are in the industry. So I think that’s kind of interesting in it. The 9. 3 trillion figure brings up the thought experiment of how much capital would it really take to disrupt this because there’s obviously some big players with a lot of capital.

[00:27:55] Clay Finck: And I’m going to get to a point here on Apple, but more broadly, Fintech is really one of those spaces that’s just seen so many of these startups enter. But what all these companies have done is just simply built on top of MasterCard and Visa. So despite all this capital being invested into the space, MasterCard and Visa just become more entrenched with all these companies providing even better payment solutions.

[00:28:22] Clay Finck: To customers, so there’s still this duopoly side of the payment industry with Visa and MasterCard sort of running the show and being the rails and only getting stronger as things like Apple pay and stripe. These companies continue to innovate in the space and help contribute to that growth overall. So a few years ago, Preston and Stig interviewed Sean Stannard Stockton.

[00:28:45] Clay Finck: He’s the president of Ensemble Capital. And I love the point he made on the show with regards to Apple. So you think that if any company could compete with MasterCard and Visa, it would be a big tech player with practically an unlimited amount of capital. And when you think about Apple, they have a ton of data on these credit cards.

[00:29:07] Clay Finck: They have all of our names. They know what bank we use. We’re all almost using an Apple device, and it just seems like a prime player to just potentially try and enter and shake things up. So when Apple launched Apple Pay, it was still built alongside Visa and MasterCard. They chose intentionally not to compete with these behemoths and it’s just a essentially just a way to use their network. And I think really it helps highlight the strength of their moat. So when we just went to New York City with our mastermind community, I used Apple pay to pay to go on the subway and whatnot. And that’s just Visa and MasterCard seeing their moat continue to strengthen as these new technologies.

[00:29:47] Clay Finck: And this payment space are emerging. When we look at the market share between Visa and MasterCard, I took a look at data that showed a bank card purchase volume for 2023. So Visa actually has 63 percent share globally. And then MasterCard is 37 percent between those two. And this varies a bit when you look at different countries or different continents.

[00:30:10] Clay Finck: So Visa typically has a stronger foothold in the U S. And then MasterCard captures around half of the market in Europe, for example. So they have a stronger foothold in Europe than they do in the US. But Visa and MasterCard actually don’t dominate in every single country around the world. So there are places like China, for example, where there’s these other networks that are exclusive essentially to China because the CCP essentially just doesn’t want them operating in that country.

[00:30:37] Clay Finck: But I believe when people who live in China need to travel outside the country. They need to use a Visa or a MasterCard to be able to make payments. So that shows just how China is sort of its own market in itself. We can look at Germany, for example, Visa and MasterCard have a fairly small market share, but then you look at bigger markets like the US, India, Mexico, the UK.

[00:31:01] Clay Finck: And many of these other countries, you see that it’s just really a duopolistic industry. So it really depends on the country with what you’re looking at here. In some countries, the network effect is really strong. And then others like China, they’re just not going to be a big player there. And then another piece that’s important to understand is that both of these businesses are benefiting massively from the trend from cash payments to digital payments. And if you’re in the U. S. listening here in the U. S., you probably wouldn’t see this as a big driver of their growth, but this is a huge secular trend when you look at the global picture. So a lot of merchants complain about the transaction fee on these cards, but they continue to use these networks because they provide value.

[00:31:46] Clay Finck: And there’s just not an alternative that makes any sense. So if you don’t accept visa and mastercard, the alternative is maybe just accept Amex, which a lot of people don’t have an Amex or just accept cash. And that might be even more costly than paying that two or 3 percent fee because cash is easier for employees to steal.

[00:32:06] Clay Finck: You need to take that cash to a bank. Say if you’re selling big ticket items, that’s a lot of cash that’s piling up in your store. It doesn’t scale well. Employees get sick from touching cash and customers just love the convenience of using a card. So that’s why everywhere we go, we can essentially use cards.

[00:32:22] Clay Finck: And it reminds me, I just recently got towed when I got back from New York and I went to pick up my car and the towing business only accepted cash. And I was so upset at them because I didn’t bring my debit card. I couldn’t go to the ATM because I only had my credit card on me. Yeah, I’m just so used to racking up those credit card points.

[00:32:41] Clay Finck: And of course, this is the one time I didn’t have cash on me, but I think it just helps illustrate how ingrained digital payments are here in the U S and Canada. I know some of my friends, like, whenever I’m with them and we go to a bar or something, we need to pay with cash. Like, they essentially never have cash on them.

[00:32:58] Clay Finck: It’s just something we’re so used to. And then many of these emerging markets are actually in the early days of this transition to digital payments. So, one of the points that our community member made in the presentation is that you and I, we really like our rewards points. We literally get paid to use these credit cards.

[00:33:17] Clay Finck: So even though the merchants don’t really like it since their fees provide the rewards at the end of the day. The existing payment system just seems to get more and more entrenched as more and more people are onboarded onto this network and the network effects strengthen. And then when we look at the total addressable market for Visa and MasterCard, we can simply just look at global PCE, and this is just a fancy way of saying global spending.

[00:33:42] Clay Finck: World Bank estimates global PCE to be $51 trillion. This number is growing by two to 3% per year before inflation. And then we can add in another 2 to 3 percent in inflation. So that brings the total addressable market alone is growing by 4 to 6 percent per year. And I should also mention that this probably makes Visa and MasterCard arguably pretty good inflation protections just because their revenues and earnings are going to take up alongside inflation, assuming the economy isn’t contracting at that time.

[00:34:15] Clay Finck: And then there’s also data from the World Bank that shows that card penetration is growing at a good clip, which is also a good tailwind for these businesses. So in 2007, card penetration was estimated to be 26%. In 2021, it was 56%. And then it’s estimated that in 2026, it’s going to be over 62%. So this is a global trend from cash payments to digital payments.

[00:34:40] Clay Finck: And when you add all these together, MasterCard’s total addressable market is growing at around nine to 10 percent per year. So there’s this highly predictable structural growth that they’re really benefiting from. Then if you wanted, we could also get a bit more granular and look at some of these individual markets.

[00:34:58] Clay Finck: For example, India, 6 percent of the population using credit cards. It seems like in some of these big, big markets, there’s a significant runway for growth in digital payments and places like India and other emerging markets, and we’ll also likely see some moderate growth in developed markets like the U. S. that’s largely removed cash from our society to a large extent, at least.

[00:35:22] Kyle Grieve: In addition to the core business with the payment network, I also think it’s important to outline their value added service businesses. This segment makes up about 38 percent of their net revenue. So it’s clearly a major value added for the business.

[00:35:35] Kyle Grieve: But on top of that, it’s actually the fastest growing segment of the business. So it’s growing at about 18 percent versus just 7 percent for the payment network. The value added services segment is composed of three primary services. So the first one is cyber and intelligence solutions. The second one is data and services solutions.

[00:35:52] Kyle Grieve: And the third one is processing and gateway. The first section here, cyber and intelligence are clearly going to be very integral to MasterCard’s value added services. It feels like monthly, weekly, there’s some sort of cyber attack on a specific company or on a bank. So clearly the payments, whether that’s an issue or, or just the payments network are very ripe for hackers to try to attempt and steal money from, but you know, outside of stealing money, there’s other risks.

[00:36:17] Kyle Grieve: There’s people that get their identities stolen, or, you know, you get hackers going into systems and taking millions of people’s identities or personal information. So let’s go over a little bit of what MasterCard does with their value added services to help and prevent these types of issues. So they have what they call a multi layered approach.

[00:36:34] Kyle Grieve: So let’s go over some of those layers. So the first one here is the prevent layer. So this is the kind of first layer that they’ve designed that helps protect against infrastructure devices and data attacks. So they’ve also created a technology called MasterCard safety net, which helps protect financial institutions from real time attacks that are present on the network, but that these financial institutions might not actually be aware of until after or until it’s too late.

[00:36:58] Kyle Grieve: So the next section is their identity layer. So this layer basically helps verify the identity of the people that are using the payments network. So this includes biometric technologies, things like fingerprint, face. And eye scanning. So this also includes behavioral user data assessment technology to help verify online purchases from cars and mobile devices.

[00:37:20] Kyle Grieve: So a few years ago, there was actually a gas station close to my house and my car was compromised twice there. So needless to say, I just stopped going to that gas station. But it was really interesting because I actually had no idea that my car was compromised. My bank ended up calling me multiple times and usually I just wouldn’t even bother fielding the call because usually it’s just some scam artists, but they called me, they emailed me.

[00:37:40] Kyle Grieve: So I ended up calling them. They basically asked me on the phone, hey, did you do these transactions and all these like middle of the nowhere place in the US and I told them, no, I hadn’t been in the US in ages. And so they knew that basically They told me what they do is they start with these really, really small transactions.

[00:37:56] Kyle Grieve: I don’t even know what they were buying. It must have been like five cent candies at a grocery store or something like that. And then they would eventually go up higher and higher. And I guess the thought process behind that was that I guess the processors would have a harder time seeing that this was fraudulent, but they picked it up right away and I didn’t have to pay any of the money that the people stole from me.

[00:38:14] Kyle Grieve: So the next layer is the detect layer, which is just used to stop and spot fraudulent transactions once detected, which is kind of what I just went over. Yeah. And then there’s an experience layer. So this helps speed up transactions and differentiate between real and fraudulent customers. This obviously is very impactful for the e commerce industry where they get tons of fraud and dispute management issues.

[00:38:35] Kyle Grieve: So additionally, MasterCard uses artificial intelligence and data analytics to help provide really interesting information like risk assessment, which helps pay the payment ecosystem, ensure security across all five of their layers. So another really interesting thing about MasterCard is that they’re so confident in their ability to keep the payments ecosystem safe that it offers what it calls zero liability benefit, where basically the consumer bears no responsibility for counterfeit or fraud or lost card losses in the event of fraud, which is kind of what I just went over.

[00:39:07] Kyle Grieve: So the next section I want to go over is the data and services solution. So MasterCard can provide a variety of services in the data and services solution segment, such as insights and analytics, which cover things like key performance indicators, specifically for financial institutions. They offer consulting and innovation.

[00:39:25] Kyle Grieve: This segment allows MasterCard’s customers to improve their business performance by taking advantage of say MasterCard’s knowledge from their treasure trove, I would say, of data that they’ve collected. MasterCard. They do some marketing services. They also work with the issuer and the merchant to provide kind of loyalty services.

[00:39:41] Kyle Grieve: So, with regards to the issuer, obviously MasterCard has this really scalable rewards platform. And so, most people who use credit cards are familiar with these platforms. So, MasterCard actually puts the infrastructure in place to help scale these up from, maybe it’s a smaller bank, to a larger bank or as you add or more and more users of your card.

[00:40:00] Kyle Grieve: So the last value added services are processing and gateway. I think this area focuses more on the payments value chain. So the payment gateway can be used to help e commerce merchants process secure online and in app payments. And then their mobile gateway helps facilitate transactions from mobile devices.

[00:40:19] Kyle Grieve: And obviously people all over the place, you know, you don’t even need to use a credit card. You can just go around with your phone. So this section is very, very important. You know, seeing as cybersecurity is only growing as a problem. I think that probably that segment of their value added services is probably the most significant growth driver for the business going forward.

[00:40:38] Kyle Grieve: I’ve looked at some of their previous conference calls and documentation. It’s kind of hard to see how much value each of the segment individually contributes. So I think the best way is probably just to look it up as a whole, which is what MasterCard kind of displays in its documentation. So since 2020, this segment has grown revenues by about 19%.

[00:40:57] Kyle Grieve: So very, very nice tailwind for the company. And then just to compare that, the payments network revenue has grown by 15 percent over that same period. So in addition to cybersecurity, I think you kind of need to consider all the data that a MasterCard is collecting. It’s obviously really, really important data.

[00:41:14] Kyle Grieve: And I think MasterCard knows that that data would be very, very powerful in the hands of the right issuer or the right merchant. So they’ve done a really, really good job. It looks like basically monetizing the data to help the customer sell more, which then creates transactions for MasterCard to process and then creates more profits for them.

[00:41:32] Clay Finck: Yeah, I mean, I think there’s a lot to like about this business, but one thing I think is certainly worth highlighting is they don’t necessarily need to invest that much capital to continue growing because they have all this digital infrastructure in place. That’s really ready to continue to enable the growth of digital payments.

[00:41:51] Clay Finck: So we talk a lot on the show about what’s referred to as return on incremental invested capital, which is essentially not the return on invested capital, but how much of a return is a company getting when they reinvest new capital that they’re getting from say net income. So when we look at say a physical business like Costco, for example, Costco is going to need to invest a certain amount of capital to build a new store.

[00:42:16] Clay Finck: And perhaps they’re going to get 20 percent return on incremental capital or whatever the number is on that investment. But for a company like MasterCard, there’s presumably so much growth that lies ahead for them because of their moat and because they don’t need to invest a ton of capital for that growth to actually take place.

[00:42:36] Clay Finck: So one might think of a lot of their growth just coming organically, which comes with a very high incremental return on capital. And I think another way to frame it is that there really isn’t much of an additional cost for them to process that additional payment. That’s why we’ve seen the margins expand over the years.

[00:42:56] Clay Finck: And it’s hard for me to imagine that not continuing going forward, maybe not to the same extent, but at least growth in revenues and continued margin expansion. So I recently revisited Mark Leonard’s letters to shareholders. He’s the president of Constellation Software, and that’s a similar reason why he liked vertical market software businesses.

[00:43:14] Clay Finck: So these types of software businesses could essentially grow with no capital investment. So it just directly adds to the intrinsic value of the business in this exponential type manner over time when you factor in organic revenue growth, even if it’s just two, three, 4 percent a year, and you compound that over, you know, a decade, that substantially adds to the value of the business.

[00:43:36] Clay Finck: And then with relation to the value added services you just highlighted there, it shows that this massive company is willing to continue to innovate, continue to widen their reach in the payments ecosystem. You just see so many times these big, big corporate American companies just resting on their laurels.

[00:43:56] Clay Finck: Once they get a big advantage, they just sort of have that cash cow and sort of take it for granted. But I think MasterCard and Visa have shown this tenacious ability to just keep investing, keep growing, and keep just adding value to their customers in the realm of value added services, cybersecurity, fraudulent protection, and whatnot.

[00:44:15] Clay Finck: And because this business is just so cash generative, they’re able to continue growing EPS at around 15 percent per year. In addition to returning so much capital back to shareholders. So in 2023, they generated around 12 billion in cash flow from operations. So 9 billion of that went towards share repurchases around 2 billion was paid out in dividends.

[00:44:40] Clay Finck: And I’ve just found it incredibly rare where you have a business that generates so much cash, but they’re able to essentially keep growing. And then alongside that essentially return a vast majority of that cash, just straight back to shareholders. So yeah, it’s one thing to grow low to mid single digits just with minimal reinvestment, but to do that 15%.

[00:45:03] Clay Finck: Over long periods of time is quite a special business and just points to just how strong their moat has been at least to date.

[00:45:10] Kyle Grieve: I completely agree with you, Clay. I mean, the problem is, since this business is so good, you have to also understand what are the possible risks involved with owning a business like this and you know, I think there’s quite a few risks.

[00:45:22] Kyle Grieve: And if you feel like you understand them really, really well, then maybe it doesn’t matter to you, but let’s go over the risks because there certainly are some we’ll begin with regulatory risks, because I think both you and I probably agree, that’s probably the biggest risk to the entire business. So there’s many different regulatory risks that this business has.

[00:45:38] Kyle Grieve: So the first one here is the kind of regulation within payments. So central banks regulators worldwide have rules, very specific rules that oversee the payments industry. So regulations, they cover a variety of areas, consumer protection, cybersecurity, business conduct. And on top of that, MasterCard is in all these different countries, and different countries also have different rules and regulations, so it can get kind of muddled.

[00:46:04] Kyle Grieve: Just to kind of give you an example of some of the regulation in this area, in June of 2023, there was a bill that passed that directly targeted MasterCard and Visa, and this bill was in the United States. So, the bill proposed that both of these networks could not be enabled on the same card. So this would mean that an issuer couldn’t use Visa and MasterCard as their processor.

[00:46:23] Kyle Grieve: They could only use one of them. And so this was specifically to allow other smaller regional payment networks to serve as a valid second option. So the next regulatory framework here is within the interchange fees. So interchange fees basically exist to ensure that the payment network doesn’t become too expensive.

[00:46:42] Kyle Grieve: And obviously they have to be regulated. Otherwise the parties in here would probably just keep on increasing those fees. So this area is highly scrutinized by regulators. So in the US they have laws that cap debit interchange fees, but there’s actually a proposal going on right now to extend these caps, to credit interchange fees as well.

[00:47:00] Kyle Grieve: In the EU, they have caps for both credit and debit interchange fees. So MasterCard has faced several, several investigations and litigation and settlements with authorities like all over the world. So another particular problem is just preferential treatment by governments. So in some emerging countries like India and Brazil, the government has put in place certain protections for domestic payment processors.

[00:47:25] Kyle Grieve: So this basically means that in certain countries, not all countries, a lot of countries are perfectly fine with them, but there’s certain countries that essentially are completely off limits to a company like MasterCard. So if you look at India, China, Saudi Arabia. They basically implemented these data localization laws that require that data be collected and processed within their borders.

[00:47:45] Kyle Grieve: So unless MasterCard is putting their data centers in these countries, which I don’t know, maybe they are. I didn’t look too far into it, but I think they’re doing this specifically to keep companies like MasterCard and Visa outside of their borders. And you know, there’s similar measures to these countries that are being considered in different countries in the EU as well.

[00:48:04] Kyle Grieve: Then you have to look at regulations around the issuer and the acquirer issuers and acquirers have their own laws and regulations that they must abide by. And these can definitely impact MasterCard. So for example, there’s something called the payment services directive that’s in the European economic arena.

[00:48:21] Kyle Grieve: And it requires that financial institutions that use third party processors like MasterCard Have access to data and require even additional verification. So it’s this additional verification part that would potentially cause a headache for MasterCard, obviously ease of using a MasterCard is that things are easy, verification is easy.

[00:48:40] Kyle Grieve: And if you add more layers and complexity to that equation, people might choose to use a different payment processors. The last one I want to talk about here within regulatory framework is kind of privacy and data protection. So, this also includes artificial intelligence and information security. In the US, there’s laws that mandate the security programs and the disclosure of specific cyber security incidents.

[00:49:05] Kyle Grieve: In the EU, they have something, the GDPR, which is the General Data Protection Regulations. Which has laws that are continuously changing due to increased data collection, increased data breaches, and emerging technologies which require ongoing monitoring, like Clay earlier described, this industry is getting disrupted in certain ways and the industry is just constantly changing.

[00:49:25] Kyle Grieve: All this is just to say that the regulatory areas and data and protection. And information security are very dynamic and so changes can happen at a moment’s notice and these could theoretically have a pretty significant impact on MasterCard. So Wyatt, who we’ve already talked about in our Mastermind community, pointed out that there’s also the problem of the consolidation of issuer and acquiring banks as a possible risk.

[00:49:47] Kyle Grieve: So MasterCard profits from the ability to facilitate communication between these two differentiated parties. So if an acquirer and an issuer were to merge, MasterCard services theoretically might not actually be needed. Additionally, on top of that, some merchants are actually switching to use transactions directly with issuers, which then bypass the processing system between the issuer and the acquirer.

[00:50:11] Kyle Grieve: And then just looking at a couple other possible risks, you know, a global recession. So Clay just had some really good numbers about the future. And I think those are very accurate, but look at what happened during COVID. So during COVID MasterCard revenues declined by 9. 4%. So bad things can happen. It’s probably going to be short term in nature, but it’s just something to keep your eye on.

[00:50:29] Kyle Grieve: So I want to share one really interesting story that I read about MasterCard and Visa that I learned while researching for this episode. It’s from a book called The Payoff and it’s just a really good example of some of the risks involved with payment networks industries over the years and talks to the kind of the history of how MasterCard got to where they are today.

[00:50:45] Kyle Grieve: So Visa and MasterCard were privately owned by a consortium of about 20, 000 banks, including big names that you’ll be familiar with, you know, JP Morgan, Bank of America. So in 1996, there were a group of retailers that were led by Walmart, Sears, and Safeway, and they joined a lawsuit brought on by nearly every retailer in the U. S. that accepted Visa, MasterCard, credit cards, and debit cards. So 4 million retailers in total were seeking about 100 billion in damages. Now, what was the reason for this? Basically, the merchants were just they were sick and tired of this honor are all cards rule. So this rule stated that merchants must accept both MasterCard credit cards and MasterCard signature debit cards.

[00:51:29] Kyle Grieve: So the payment processors charge the same interchange fees on credit and debit transactions. So the problem here was that many retailers would accept credit cards specifically for big ticket items. Let’s say you went into a Sears. And you wanted to get something like a barbecue or a fridge, they would accept credit cards perfectly fine with that.

[00:51:47] Kyle Grieve: But maybe they wouldn’t accept credit cards on small ticket items because these smaller ticket items had very, various tiny margins and the fees would essentially eat away all of their margin and, or maybe even make them unprofitable. So basically what happened was that the retailers felt like they were being squeezed just too tightly by Visa and MasterCard, and they were trying to fight their way out of this bind that they were put in.

[00:52:08] Kyle Grieve: So theoretically, they won. Visa and MasterCard settled. They paid these retailers about 3 billion in settlement fees. They scrapped their honor all our cards rule, and they actually ended up lowering the interchange fee on signature debit cards. But in the end, the retailers didn’t save pretty much any money.

[00:52:25] Kyle Grieve: So the card networks, they’re smart. What they did here is they basically made acquisitions that reversed all of these perceived changes that they made after the lawsuit. So what Visa and MasterCard did was they bought the US ATM networks that process these pin debit transactions. Then what they did was they raised the interchange fees on these transactions to equal those of signature debit cards.

[00:52:49] Kyle Grieve: So in the end, the merchants who refused to pay the signature debit interchange fees to Visa MasterCard would end up paying the exact same fees for the pinned debit cards. It’s too bad, I guess, if you’re looking at it from certain parties, you know, MasterCard has a lot of power and you kind of just have to deal with it.

[00:53:07] Kyle Grieve: All this to say is that MasterCard has risks. I think the fact that they’re constantly in litigation and that they’re highlighted in the media sends a very strong signal. And that signal is that the business has a strong moat. So it’s up to you to decide if you think the business has a strong moat, such as, you know, an alphabet or an Amazon, which are consistently pretending like they don’t actually have these very, very big moats in their business.

[00:53:30] Clay Finck: Yeah, I mean, when the biggest risk based on consensus is regulatory, that’s typically a good sign from an investor perspective, because it typically means that the business is so strong that competitors can’t get in and steal market share, steal profits, and the government has to step in and be kind of the savior in some of these cases, and the company still ends up winning at the end of the day.

[00:53:51] Clay Finck: One other interesting angle I wanted to mention regarding risks is that governments could also get increasingly involved. In the payments arena themselves and maybe eventually even compete with Visa and MasterCard So if we think about CBDCs, for example, or central bank digital currencies, these are something a lot of people have talked a lot about in recent years.

[00:54:12] Clay Finck: And managers at MasterCard have said that getting widespread adoption of CBDCs in countries where payment systems are already robust would be difficult. Maybe he just wants to say that so they won’t do it, but it’s hard to say what impact that would actually have. And one problem with any new entrant coming in is that the current payment system in place is just so good for the vast majority of parties and it’s just so seamless that the new entrant would somehow have to figure out a way to make it better for all parties.

[00:54:45] Clay Finck: Why would I want to give up my rewards? Why would merchants want to change their processes and all these different companies that are involved in this whole network? It’s pretty unlikely, unless some new system is somehow forced upon people. And I also wanted to be sure to comment on valuation here. So as everybody likely knows, MasterCard is not a bargain or a super cheap company.

[00:55:09] Clay Finck: It trades at a steep premium to the broader market for good reasons. But I think that the premium for this type of business is Certainly justified to some extent, given how durable the business is and their long term growth potential. So, to buy the stock, I think you have to be open to the risk of a multiple contraction, whether that be short term or longer term, and potential for that to contract closer to the market’s average.

[00:55:34] Clay Finck: So, with a lot of companies we discuss on the show, they typically need to reinvest to grow and companies like MasterCard can easily grow without any additional capital as I outlined. So I think there’s a lot of value that investors need to consider with regards to that. And it’s hard to think of too many companies that can just keep their existing operations and revenue is going to continue to tick up by at least 10 percent a year unless a global pandemic hits.

[00:56:00] Clay Finck: It’s one of those great companies that has almost always traded at a premium to the market. Despite that, it’s still been underpriced by the market overall the entire time, because it’s just continued to improve its fundamentals through revenue and earnings growth and whatnot. And with that said, since COVID is actually slightly underperformed the market, the stock has, but it’s actually picked up here in the last year or two after a difficult year in 2021.

[00:56:25] Clay Finck: And valuation for the vast majority of companies is more of an art than a science. What some investors deem to be totally reasonable assumptions, others might say is totally ludicrous. So I’ll share some numbers here and you can tweak the assumptions however you’d like, however you see them to be reasonable.

[00:56:42] Clay Finck: And even just slightly tweaking some of these numbers can drastically change someone’s estimate of the intrinsic value, which is why Buffett and Graham emphasize having a margin of safety to allow for some room for error. So the way I typically like to think about on the show is from today’s price, what sort of expected return would I get?

[00:57:01] Clay Finck: Because I could say MasterCard’s worth 600 a share or whatever. But when you calculate an intrinsic value, there’s an expected return that’s embedded in that. So someone might say the intrinsic value is a thousand, but you might only get an expected return of say 5 percent based at that price. So the expected return is really what we’re looking to get as investors.

[00:57:24] Clay Finck: So revisiting the growth that I mentioned earlier. So the total addressable market’s growing around 10%. So with all the drivers we’ve outlined, plus the value added services. I would expect low to mid teens revenue growth over, say, the next five years. And this is driven by the growth in the global economy, inflation, digitization of payments, and then the growth in the value added services and other segments.

[00:57:50] Clay Finck: And then we also need to factor in margin expansion because this business just scales so well. And then also dividends and buybacks. So with all of those factors, we potentially arrive at somewhere in the mid to high teens growth and earnings, which seems just amazing given how big this business is. But when you looked at all these factors and all these trends, it’s hard to argue at least low teens growth and earnings, maybe in the bear case.

[00:58:17] Clay Finck: And this is just as a reference point here. And one thing you could also do is create like a bull base and bear analysis with different growth rates and just wait them accordingly, however you see fit. So over the past five years, EPS is compounded at 16 percent and that’s even with the big drop they had in 2020.

[00:58:34] Clay Finck: So, yeah, I think all of this considered, I think somewhere in the low double digit returns for the stock over the longer term is probably where I would expect this to land. You know, there might be a bear case where regulatory really becomes an issue and you see lower returns, or maybe there’s even a bull case where they’re really able to execute in these emerging markets and really able to keep accelerating revenue growth.

[00:58:57] Clay Finck: A lot of that just flows down to the bottom line.

[00:59:00] Kyle Grieve: Yeah, Clay, I think those are really realistic scenarios that you just outlined. And so if we zoom out a little bit and look back maybe 10 years, I see growth metrics of revenue around 11 percent earnings per share of around 16%. So with MasterCard doing these buybacks, you can expect EPS to continue growing faster than the growth in net income.

[00:59:18] Kyle Grieve: Another thing to think about here is just the price to earnings ratio. And it’s fluctuated quite a bit for MasterCard. I mean, over the last decade, when I looked at it on FinChat here, I get a high of 61 times and a low of 24 times. With a business that like this, that’s not growing crazy fast. You definitely need to be careful.

[00:59:38] Kyle Grieve: I think with the multiple that you pay for the business, if you like the business and you follow it closely. There’s going to be times when the business goes slightly out of favor let’s say. It’s during those times where the price that you’re going to get offered is probably going to offer both the most upside, but also the lowest amount of risk, but you have to definitely be very patient.

[00:59:56] Kyle Grieve: So just to talk about some of the patients that you might need during the depth of COVID MasterCard went down to about 27 times earnings multiple, which doesn’t necessarily sound cheap, but for MasterCard, that’s a very, very cheap multiple. And you know, if you saw that and maybe didn’t partake because you were scared off from whatever, let’s say you didn’t think that everywhere or the U. S. would recover as quickly as possible, you would have had to wait about two and a half years for MasterCard to come back even close, and it didn’t actually reach it, it got down to about 28 times, but it almost got there, but it’s just to say that if you want MasterCard, don’t rush out and buy it at peak euphoria, because chances are that you probably will, like Clay said, see some multiple contraction.

[01:00:36] Clay Finck: Once you find a great business, you really like you can take it slow to and just add to it over time. A lot of times when I look at a number of great companies where even in like 2021, a lot of these names traded at pretty high multiples, but now we’re in later in 2024. It might trade at the exact same multiple or maybe just a similar multiple, but the stock’s still up 50 or a hundred percent ever since then.

[01:00:58] Clay Finck: So the good thing with, I mean, the right decision for a lot of these businesses, of course, there’s some recency bias with the way markets have turned, how things have gone for a lot of these names and which names you’re looking at and whatnot. But yeah, I think if a company’s firing on all cylinders and executing really well, I think the solution for me is just to be patient and getting into it and maybe just get into it over time.

[01:01:19] Clay Finck: But there’s a different answer for everybody. So that’s primarily all we had for MasterCard. I wanted to turn our attention to a different topic here, which is somewhat disappointing to turn back to. So for this segment, we’re going to be talking about Evolution AB. This is a company we talked about in our Q1 2024 series here.

[01:01:44] Clay Finck: This is a stock I put a lot of thought into this year. I first took a position around a year ago, around October of 2023, and it’s had pretty volatile, but the business performance has been somewhat lackluster just as we’ve seen the market broader market just go up. This has been a pretty choppy stock and really their growth rates have slowed down quite a bit.

[01:02:06] Clay Finck: A lot of investors who own it have said the stock’s gotten pretty dang cheap. I believe last time I looked, the EV to EBIT multiple was around 14. Sometimes I pause and just give Mr. Market credit because there’s always times where cheap companies often trade cheap for a good reason. So I was just looking for ways to try and poke holes in my original thesis.

[01:02:28] Clay Finck: And upon doing so, I ended up selling my entire position in EvolutionAB. And the primary reason for that is that I would say the initial assessment of the quality of the business, I think was just off the mark from my perspective, at least. So I sold all my shares at 9 67 SEK that Swedish Kroner, by the way, and I had a realized loss of around 11 percent for my cost basis before factoring in dividends.

[01:02:54] Clay Finck: So, I had spoke with an analyst who was connected with some of the operators that worked with evolution. I felt a little bit uneasy with how much evolution relies on growth in Asia specifically. So, Asia is their most profitable geographical segment and much of the growth in their profits is coming from Asia.

[01:03:17] Clay Finck: So, initially, when I was entering this stock, I sort of assumed that buying Evo was a bet on the global growth of iGaming. And I sort of realized just how much their growth and earnings at least was dependent on the continued growth in Asia. Perhaps over time, other geographies are going to see more contributions to profits.

[01:03:39] Clay Finck: Such as the US, for example, as they open up in more states, but it’s certainly not going to get nearly as profitable as Asia, but yeah, as of now, I just sort of realized how dependent the next few years are, are going to be on what sort of happens with the Asia business. So I kind of felt uneasy with that sort of concentration.

[01:03:56] Clay Finck: Rather than being sort of a global play, it was sort of difficult because they don’t break out their margins by geography. So when I was speaking with this analyst, he informed me that he estimated 80 percent plus EBITDA margins in Asia. And then when you look at the U. S., they’re making either little or no money in the U. S. So, I mean, that’s just like two totally different types of business models, and there’s various reasons for that. And then we couple that with the fact that some countries in Asia are really cracking down on iGaming, and we know that there’s some illicit activities happening on these games, but we don’t necessarily know how much.

[01:04:35] Clay Finck: And then once I just started digging into it further, especially the Asia segments specifically, that’s when I just decided it wasn’t for me. I probably just should have put it in the too hard pile from the beginning. And since we covered Evo and our best quality idea series here, and we both disclosed that we had the positions we had, I really wanted to just share with the audience, just some of our updated thoughts in the company.

[01:04:57] Clay Finck: And that isn’t to say that I’m bearish or bullish on Evo. I just essentially decided that it wasn’t the company for my portfolio. I would take the small loss and just move on and move on with companies. I’m much more comfortable sitting on for long periods of time. And again, I have no intention of trying to sway people one way or the other.

[01:05:13] Clay Finck: Maybe it’ll allow some of our listeners who happen to own the shares or been tracking into the stock to monitor some of these things we mentioned.

[01:05:22] Kyle Grieve: Yeah, and like Clay, I’ve actually also completely sold out of my Evo position. So Evo, it’s an interesting business because actually over the past few months, I’ve been thinking of if I want it in my portfolio or not.

[01:05:33] Kyle Grieve: And when Clay told me all these interesting things that he found out, he allowed me to reach out to this analyst as well. And we had a short back and forth and I just want to learn more about it because similar to Clay’s reasoning is that I knew that Asia would be kind of a significant growth driver.

[01:05:50] Kyle Grieve: But the problem with that was that I didn’t actually weigh the strength of the specific geographical part of the business high enough in terms of its profitability. So, you know, my initial thesis was that the U. S. was a profitable area for Evo, and that’s why they had been moving into the U. S. But it seems like I was just off the mark on this.

[01:06:09] Kyle Grieve: And that was probably a mistake on my part. So as a shareholder, you could technically argue that it doesn’t matter that Evo is making these, I guess, unprofitable or zero profitable investments in the US because they’re just using it as a springboard to help pick up new customers and then maybe just take a market share away from other competitors.

[01:06:27] Kyle Grieve: And, you know, I see that argument and it makes some sense, but my concern is that I thought the US was going to be a significant contributor specifically to the bottom line of Evo. If you just look at the US market, it’s different than Europe and Asia. And I think that’s part of the reason why Asia specifically and Europe to some extent, just have these higher margins.

[01:06:45] Kyle Grieve: In the US, each studio can only serve the state that it’s in. So that offers all sorts of disadvantages to scaling it up in the US. Whereas in the EU and Asia, one studio might serve a whole bunch of different countries. So you can see how that scale actually makes a lot of sense and would be a value add for the company.

[01:07:05] Kyle Grieve: And so if I thought the US, which I did was going to be a huge growth driver in the future, if the scale advantages can’t be applied to that geography, then It’s just unfortunately not as interesting of a business to me because that’s kind of the geography. I feel like I had the best understanding of and it’s regulated.

[01:07:21] Kyle Grieve: So finding out that a lot of its profits were coming from unregulated revenue. I wasn’t at ease with that. It wasn’t something that I was really prepared to live with. So kind of like Clay just just just said, you know, Evo discloses its revenues from both regulated and non regulated areas. But I erroneously believe that profit also kind of tracked those numbers to some degree.

[01:07:42] Kyle Grieve: But since Asia is unregulated and is adding the lion’s share of profits to Evo, I think that the risk rises pretty substantially for the business from my point of view. And then on top of that, from a capital allocation perspective, it’s not super interesting if you’re investing your profits into a segment that has no zero or negative returns.

[01:08:01] Kyle Grieve: It’s important to remember returns on invested capital utilizes NOPAT, Net Operating Profits After Taxes. Not revenue. So if margins are low, no pat is probably low. And if you’re looking at that segment from a capital allocation standpoint, the returns on incremental invested capital, aren’t going to be very, very good.

[01:08:18] Kyle Grieve: So, you know, it’s too bad that Evo doesn’t disclose more about the business to shareholders. On the episode that we had, I said that this was part of their advantage. I think that they did this on purpose so that they could leave their competitors asking more questions and not understanding where they should maybe move towards to maximize their own profits.

[01:08:38] Kyle Grieve: But I guess now I figured it’s actually a major weakness. If Evo disclosed more information, I think that investors like myself could have a better understanding of the business. So, you know, unfortunately you just got to take the L here, take it as a lesson that I should probably only invest in companies that disclose information that’s very vital.

[01:08:56] Kyle Grieve: And if they don’t disclose it, then it’s a business to just take a pass on. So just a few other key lessons I wanted to share with you from this experience are make sure if you’re investing in a business that’s global, try to break down the profits as best as you can in different segments of the business.

[01:09:11] Kyle Grieve: Because if you think a business has one business model and can apply that business model globally, that’s great. If they actually can, but if they can’t, well, it changes the narrative and the fundamentals of the business kind of piggybacking on that. You know, you can’t necessarily attribute scale economies to all business segments of a business if the business model changes based on geography.

[01:09:31] Kyle Grieve: And then just the last point, just similar to what I was saying is just, you know, find out why a business doesn’t disclose important information. And if the reason isn’t good enough for you, or it doesn’t make sense to you, then just put it the business into the too hard pile.

[01:09:44] Clay Finck: Yeah, the management piece is just so tough because I think it’s easy when you get excited about a name to just sort of give the management team the benefit of the doubt of not disclosing certain parts of the business, especially when they’re executing so well like they have in the past.

[01:09:57] Clay Finck: And it’s hard to know if it’s necessarily a good or a bad thing without speaking with people that are sort of in the industry and kind of see firsthand what’s actually happening. With regards to Asia, I think a number of people assumed that China was a good piece of it, but it actually sounds like Japan and South Korea are key markets within Asia, so people can go in and buy stuff.

[01:10:19] Clay Finck: See what they find with regards to crackdowns by governments. And then there was a report put out with regards to the use of crypto currencies within the I gaming space. And I’m personally not concerned whether tether or Bitcoin or whatever cryptocurrency is going to fall in value and it impacts Evo.

[01:10:37] Clay Finck: But what does concern me is the illicit activities aspect of how much of their business is going through these sort of payment mechanisms. And to what extent our government’s going to be able to shut that down. So yeah, again, just kind of ties into the two hard pile. It’s like, I don’t know, so I’m just not going to bet on it.

[01:10:56] Clay Finck: And part of the beauty with stock investing is that we don’t need to be right a hundred percent of the time to do well as investors. And I believe that I was potentially wrong on evolution when I first bought it and that’s okay. And no investor is going to bat a hundred percent and there’s plenty more we could probably say about Evo and why we exited, but I think we can leave it at that for now.

[01:11:15] Clay Finck: I wanted to transition here to our final segment here regarding our mastermind community. So to be completely honest, I have to give a lot of credit to Wyatt and helping me learn more about MasterCard. It’s an amazing business. Wyatt joined our TIP Mastermind Community over a year ago, and we just met with him in New York City at the in person event we hosted there.

[01:11:40] Clay Finck: And for those in the audience who aren’t familiar, our TIP Mastermind Community is the community we put together for private investors, portfolio managers, and high net worth individuals. And it’s really to have a place to network with like minded value investors, share stock ideas, and Meet great people and continue on this journey of lifelong learning.

[01:11:58] Clay Finck: So we vet each member who joins and we have a short application process to ensure that everyone who comes into the group is a high quality member. And then we just really continue to attract some really interesting people who are able to contribute their own expertise contribute their unique experiences to the group, and we just recently hosted our live events in New York City.

[01:12:19] Clay Finck: That was in October of 2024. We had 2 dinners and socials, and we also hosted a boat tour to see a bit of the city and kind of have a cool experience with our members and create an environment where people can just continue to network and get to know each other. So. Kyle, I was curious if you could share some of your highlights from the trip and any interesting conversations you had, if you had any.

[01:12:41] Kyle Grieve: Absolutely. I had tons. The New York trip was a lot of fun and I had many, many wonderful conversations. And when I was thinking about this, it was interesting because while I did have many conversations about specific stocks and business in general, there were also many attendees that were present who I now consider to be my friends.

[01:12:57] Kyle Grieve: So it was just great catching up with them, finding out what’s happening in their lives and learning more about their future plans. So the first night I had a really good conversation about a pharmaceutical business in which one of our members has invested. It’s called Grail Inc. So he explained that the company’s attributes that he liked so much and just a few of the products of the business that he thought had some very high upside.

[01:13:16] Kyle Grieve: Now, for me, this wasn’t really an actual move as I personally don’t invest in biotechnology companies, but I really enjoyed the kind of intellectual conversion that we had on it. And I think I got a much better understanding of why both he liked it so much and a better understanding of my own personal aversion to that industry.

[01:13:34] Kyle Grieve: So I think this kind of showed me the importance of being honest with yourself about what you know and what you don’t know and just remembering that there’s just a wide variance in what people know or are interested in learning about and just because, you know, you or me don’t think about something being in our own wheelhouse doesn’t mean a friend might not also find it interesting.

[01:13:52] Kyle Grieve: So this is part of the reason I think the community is just so powerful. We have just so many people with a wide variety of backgrounds, but the we’re all joined together by our love of value investing. So, you know, no matter what people’s interested in, there’s a good chance that there’s someone who might be interested.

[01:14:07] Kyle Grieve: It might be 1 percent or 0. 1%, but just that one small percentage can make a really big difference because you have someone else who’s also interested in value investing, who you can speak about a specific company with in those terms. So another really interesting conversation that I had was with another member and his wife about Stoicism and Buddhism.

[01:14:26] Kyle Grieve: Now, while this obviously isn’t really investing related, I found it incredibly valuable as Stoicism is kind of this philosophical area that I’ve been highly focused on learning more and more about specifically in 2024. So it was really nice to hear from another member who has also researched Stoicism and Buddhism more than I have and find out his own takes on how they share certain similarities and differences.

[01:14:48] Kyle Grieve: So my main takeaway from him was that you can pick and choose areas of Stoicism that you think you can benefit from the most. You don’t have to necessarily adopt everything from it if they don’t necessarily align with your values and life philosophy. But maybe pure Stoics would disagree with this stance, but I think this is the optimal way that I can personally make Stoicism work for me.

[01:15:06] Kyle Grieve: And I really appreciated getting the insights from the member who I spoke to. I had many more meaningful conversations, but these are just a few that I think I’ve have kept me thinking and will hopefully lead to continued growth along the way.

[01:15:18] Clay Finck: Yeah, you just can’t be establishing these relationships with these like minded people in person.

[01:15:24] Clay Finck: I just really enjoy learning from the members in our community and many of them are just so giving their time, their expertise and their experiences. I was speaking with a fund manager that’s in our group on the boat tour and to my surprise, he let me know that the community is Hugely valuable to him and challenging his current investment ideas and even getting new ideas.

[01:15:45] Clay Finck: And this is someone who’s been in the investment industry for over 25 years and manages his own fund today. And I just recently booked another call with Wyatt since he’ll be doing another presentation. He’ll be presenting Brookfield and we’re hosting a number of calls with the community. As always, we do at least one a week.

[01:16:03] Clay Finck: We recently did a Q and a with podcast guest, Derek Pilecki. And you also did a stock presentation on a recent addition to your portfolio as well. So the focus of the group is definitely on value investing. We certainly filter pretty hard on that aspect and bringing in new members. And we talk a lot about individual stocks, but I found that there’s just so many ways to get value from the community.

[01:16:25] Clay Finck: So I brought on David Fagan as a guest back on episode 639. He runs his own accounting firm. And I found him to be just one of the most disciplined people I’ve ever met. He’s just really inspired me to try and implement some of these ideas he uses in his life and implement them into my own life. And so we set up a quarterly accountability group where members have the opportunity to grow in other areas, maybe outside investing and build these relationships with people where really we can talk about anything, which is pretty interesting given the level of success of so many people in this group.

[01:17:00] Clay Finck: And I’ve found that just having this open platform to really get to know people in a format that works best for you, whether it be in person, one on one calls or group calls or whatnot, or just even just chatting in DMs, I found it to be so powerful, as you mentioned. And I’ve also noticed that we’ve attracted a good number of members who operate their own family office or family wealth, perhaps, you know, investing’s just always been a passion of theirs.

[01:17:25] Clay Finck: And they finally exited their business that they spent years building and now they’ve committed full time to investing. So, yeah, there’s a number of recent members in that camp for those in the audience who might be interested. And connecting with those sorts of people. And we also have started planning already our meetups in Omaha.

[01:17:43] Clay Finck: We’re going to post a couple of dinners and socials. We’re going to try and invite a number of podcast guests that we’d chat with here on the show. So it’s looking like we’re going to have another great weekend in Omaha. And I’m planning on booking sort of a city tour to go around and see Nebraska furniture, drive by Buffett’s house and do some interesting things and show people what Omaha is all about.

[01:18:02] Clay Finck: So that’s going to be the first week in May, 2025.

[01:18:05] Kyle Grieve: You can tell here that we’re planning very, very early and there’s a good reason for that it’s if you’re planning on going, it’s highly recommended that you book here pretty soon because things like accommodations get booked up very, very quickly. So, last year was actually my first time at the Berkshire Hathaway meeting and I had so much fun.

[01:18:20] Kyle Grieve: It was great seeing Warren Buffett in person, but I think my highlights were actually all based around the events that surrounded the annual general meeting. It was interesting because numerous members of the TIP Mastermind Community actually told me that they had a much better experience going to the event as part of kind of the TIP Mastermind Community, precisely because of some of the events that TIP hosted.

[01:18:41] Kyle Grieve: Outside of that, we have just like a WhatsApp group where people can talk to each other. So, you know, outside of those events, there were members who were just contacting each other and being like, hey, let’s go grab a meal or let’s go grab a drink. And it just kind of makes the whole weekend just more fun to be around other people that think like you.

[01:18:55] Kyle Grieve: Especially if you’re shy and you know, you’re not adept at making a conversation or connections with other random people. So last year we hosted three meetups that were exclusive for our TIP Mastermind Community. We had an excellent turnout and the community I think had a really, really good time chatting with other members in person and exploring some of the ideas that we discuss on in our community or stock ideas or ideas that people pitched.

[01:19:19] Kyle Grieve: And one event that was kind of fun was just meeting as a group to get seats for the annual general meeting. It was really fun, specifically because the day that we went, it was kind of cold and rainy. And if you want to get a half decent seat, especially with a large group of people, you actually have to go pretty early in the morning.

[01:19:35] Kyle Grieve: So, you know, just going there and being with a group of people where we could chat the whole time and have some good laughs and learn more about each other was really fun rather than just thinking if I had to wait by myself in that line, that wouldn’t have been very fun. So Clay and I are going to be in Omaha again in 2025, and we’re really excited to see our community members there.

[01:19:53] Clay Finck: So if the community sounds interesting to you, you can join our wait list. That’s at the investors podcast. com slash mastermind. And you’ll hear back from us shortly with more details on what’s included with the group. That’s the investors podcast. com slash mastermind, or feel free to shoot me an email.

[01:20:12] Clay Finck: Happy to answer any questions. That’s at clay at the investors podcast. com. I think that closes it out. So Kyle, thanks a lot for joining me again here and looking forward to next quarter.

[01:20:22] Kyle Grieve: Had a blast.

[01:20:23] Outro: Thank you for listening to TIP. Make sure to follow We Study Billionaires on your favorite podcast app and never miss out on episodes. To access our show notes, transcripts, or courses, go to theinvestorspodcast.com. This show is for entertainment purposes only. Before making any decision, consult a professional. This show is copyrighted by The Investor’s Podcast Network. Written permission must be granted before syndication or rebroadcasting.