Chris Heller - Ten Years of Weird Alternatives (EP.420)

27:00So that whole set of assessments is pretty qualitative oriented. I'm curious if there are analytical tools that you also use when you're looking at a potential operator of one of these opportunities. It's not as easy as my old days, without a doubt. It's not sort of, hey, here's a track record. What do the numbers look like? What does the output look like? it does have to be a little bit more qualitative. That being said, our deals don't exist in a vacuum, meaning very rarely are we creating something that hasn't been done in the past. So while we are trying to be one of the earliest institutional investors in a space, that doesn't mean that the space hasn't existed.

27:39And so if you think about where we've invested, so boat marinas, boat marinas have existed since the dawn of time. Music and music publishing, back when we were early to that, there was NPS data, which is publisher share data or cashflow data going back to the early seventies there. Litigation finance, even though we don't do that anymore, there's data around outcomes that have happened in international arbitration since the advent of Ixit in the 1950s. And so a lot of things that we look at, there is history around them. But I will say part of what we do is that there is a greater percentage of the evaluation that is more on the qualitative than it is on the quantitative if you are just going to old world as an allocator, which is like, what is your track record and does that work?

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29:17Learn more at srsaquium.com. That's S-R-S-A-C-Q-U-I-O-M.com. And now, back to the show. So once you've found the space and the operator, what have you learned about how to put these vehicles together? The way that we structure our deals has certainly changed probably the most over the 10 years. I hearken back to what we think is our advantage, which is time and lack of competition. So we try to take advantage of that in our structuring. So first, there's two pieces of structuring. There's minimizing downside, and then there's maximizing your upside. And you can potentially enhance each of those through structuring.

30:02Unprotecting the downside. Because we're looking at deals where there's not other capital around, we can do a lot of things to our cash flows and make them more senior in the stack. We can think about things like waterfall. When do we get paid and how do we get paid in our seniority in the waterfall? We're not in competition with other private equity firms and trying to offer the best deal. We're the ones offering the only deal. And I think that has become helpful over time. On the maximizing the upside, we've learned a lot of lessons over time. And typically, we tend to be more asset-based investors than we are operating company investors to begin with.

30:47And when we find assets that are really interesting, and let's just use as an example here are boat marinas. Those are really just assets. We think through, are these assets more valuable on their own? And whiskey, if it's fine, if you don't really need an operating team to do what you need for the value of the whiskey to accrete, we'll just put it into an LLC and we'll get the value of those barrels. But if the assets are much more valuable to someone else and someone that we might sell it to with an operating team layered on top of that, that's when we create an operating business that says, look, if I'm going to go out to the market, I could try to sell somebody a boat marina who doesn't know how to run a marina.

31:28They're not going to pay the price. But if we can deliver to them a portfolio of boat marinas with a world-class operating team on top of it, there's a much bigger market around that. We didn't used to take warrants or equity or a revenue share in their business, we do today. Because oftentimes when we put an operating team in business, they could generate a track record and then they could go out and raise more capital. And we want our entrepreneurs to be successful and we will allow them to do that. So hopefully they'll get great returns from just whatever they're pursuing for us. But then if they can go create a great business out of that, our investors will get the benefit of that.

32:10There's a lot of ways that we think about enhancing that upside. I'm curious how you risk manage these situations if something goes wrong. It's easy to see how it's self-liquidating or it's a platform and it's growing, but you're investing in something that other people aren't for whatever reason. What do you do if it's not working? We have enhanced our asset management capabilities at the firm significantly over time. Sometimes they can be very familiar situations that anybody can jump into and run. But as you point out, we often find ourselves in different situations because nobody else is involved in these companies.

32:48And this is where us building up our own internal asset management capabilities and a little bit of pattern recognition and secret sauce around what are the typical problems that people in our space run into, which can often be around people. How do we jump in and augment the people part of it? And that's where 10 years of pattern recognition of being in, we've seen this, being humble around, man, we really screwed that one up last time and we didn't do that right. And we didn't motivate them in the right way. How do we learn from that? And I think the humility around the things that we've screwed up.

33:30Even in our investments that go really well, nothing goes perfectly. So like, hey, that one looks like that old deal. When we did that, this went well, but this didn't go well. Let's do something different here. And the same thing works when we have something that's not going well. Be like, hey, it's got echoes of the other thing that wasn't going well. How do we manage that? What are the most common specific examples that come up of something that hasn't gone well in the past that when you're underwriting a new deal you're referring to? Most of the time, I would say, we look back and we say, did we get the thesis wrong?

34:04Did we get the execution wrong? Or did something exogenous happen that we couldn't control? The vast majority falls into the middle bucket. We got the execution wrong. Either we weren't aligned perfectly with the operating team or the management team that we had somehow in the structure of the deal. Secondly, we just picked the wrong people. They had a really good idea, but they couldn't execute on it. Or sometimes we didn't bring the right resources to bear for that team. And I think we've worked really hard over the 10 years to develop internally the resources to bring to bear to those situations, but also externally.

34:42There's a lot of interesting things and people that we now are kind of specific to our weird spaces that we can reach out to, to bring those to bear as well. So I would say the vast majority of things that we think through that didn't go well. We were smaller at the time and didn't have the resources to bring to bear to go get the A-team in the space. Our firm has evolved quite significantly since then. And as we are writing larger checks into these opportunities, you can bring the A-team to bear, which is helpful. I'd love to dive into some of the things that are common themes that might make sense that you've either looked at or invested in?

35:23Yeah. So data centers, obviously, if you think about it, the highlights have been well found and there's tons of capital in data centers. So data centers and building and leasing out data centers is not a Cordillera deal. But we have a theme for now five or six years around specialty inventory finance. This is the idea that we use our balance sheet to warehouse an asset that an end user does not want to warehouse on its balance sheet. And they want to just buy this asset and immediately do something with it to produce a profit or revenue. And so that has been whiskey for us. We buy and age barrels of whiskey and we sell them back to craft brands immediately when they want to put it into a bottle and sell it.

36:12they don't want to use their balance sheet to warehouse whiskey. Wireless spectrum licenses, we buy out of FCC auctions and own wireless spectrum licenses and sell it back to carriers when they need it for their networks. And data centers is an interesting one for us. We have a theme around land related to data centers as this is a confluence of two themes, specialty inventory finance and second and third order effects from AI. We are not also going to go invest in a venture AI firm or company, but we like to think about big secular trends and what are the second and third order effects from AI.

36:54And one of those is much larger footprints for data centers. If you're going to go from a place where you used to be able to house a data center in a single building in Manhattan to now needing 300 acres to build a data center for AI, what does that mean? It means land. You're going to need much more land than you needed in the past. That land is going to need water. That land is going to need power. So how do we think about owning powered land. And the hyperscalers, the Googles, the AWSs of the world need to build many more data centers and they need pad ready land to build data centers very quickly.

37:40And that land is a very small piece of the overall cost of building that data center. We will warehouse that land and get it pad ready and then sell it to either the hyperscalers or the wholesalers who need to build a data center on top of that and then either lease it out or use that data center for themselves. We've also think energy is a piece of that as well, which is how are we going to, as a country, come to grips with the fact that we can't put the genie back in the bottle that everybody wants to watch movies on their phone and AI and all of this data consumption. We need to power those data centers that are generating all of that data.

38:23And we also want green energy, it's a conundrum that we are going to have to grapple with as a country and globally. So we tend to think about those. What are potential solutions to that? We got to think through nuclear and how we think about nuclear here in the US. Other places in Europe, particularly France, use a lot more nuclear than we do. All the hyperscalers have made commitments around green energy. And so if they're going to build these large data centers, there's probably some solar and wind that they need, and you need land for that as well. So when you have that thesis of land energy and how you're going to power these data centers.

38:57What's the investment that you made? It is in a company that is structured as a REIT. It's got an absolute world-class management team that has been in the telecom infrastructure space for 30 years, which we love to find and see. It's a fantastic company. How about something like sports, which has become a very topical investment area? How do you attack something like that where there's capital coming in different parts, but you want to find a Cordillera-like investment? I think it's very similar to what I just described. So let's start with why do we like sports? What is the downside for us about sports is there's lots of big funds doing things and buying big leagues.

39:39So we got to find our place within that ecosystem. A couple of themes around sports is emerging leagues and emerging sports. So one of the deals that we are looking at right now and close to doing something in pro triathlons, sports, so much hinges on media and distribution rights in sports. And so you either find opportunities where those distribution and meteorites are in place and provide predictable cash flows over time. Or you find interesting places where those don't matter as much and there's other ways to get predictable cash flows. And that's what we really like about triathlon. Triathlon is very specific to the league itself, but oftentimes you're assessing, do you want to own teams?

40:31Do you want to own leagues? where does the value accrue? But this idea of emerging sports is interesting to us. We're also looking at some things in badminton. We're looking at some things in cricket. The other theme that we like within sports right now is new formats for today's consumer. I've got twins that are nine and an 11-year-old. The way that they consume sports today is totally different than the way that I consumed sports in the early 80s. My kids cannot watch the nine inning baseball game. They watch the highlights. They can't even watch a full football game. And so there's some really interesting things happening in the sports world today, creating formats for today's consumer.

41:16So one is in football or soccer, the Kings League, and this is just an example. These are not things we're actually pursuing. The Kings League, which is the Spanish League, it's a 40 minute soccer game instead of a 90 minute soccer game. It's seven on seven. It has a gamification aspect to it. Before the game starts, you pull a card and that's your secret weapon and you can play it at any time in the second half. The secret weapons are anything from a goal counts as two goals, or you can designate one player on your team. And if that player scores, it counts as two goals. At some point they roll this gigantic dice out of the top of the arena and whatever it lands on, if it's two, you play two on two for four minutes.

42:00And the fans vote on changes to the rules in this league. There's lots of influencers that are involved, which is really interesting. I think this is a league where they embrace the gamification of it. And so the president of La Liga called it before it started a circus. And so in the first game, they completely embraced it. They had someone dress up as a clown and play the entire game dressed as a clown. the finals what they call their world cup 215 million views of the content and 80 of the viewership is under 34 years old there's another the golf league called tgl which is rory and tiger this is a taking golf and putting it in a purpose mill stadium and hitting balls into a gigantic simulator and then once you're 50 yards and in there actually start playing there's a shot clock There are timeouts.

42:53It's a two-hour limit. It's three-on-three. And so it's this idea of new formats for sports that caters to the way that a new generation consumes the product. How about any other weird alternatives that you're looking at? We're looking at a deal right now in cheese. We like to look at things that need aging. This fits into that inventory finance theme. We've learned a lot of lessons about things that age and people that need things to age. And cheese and pork bellies is an interesting one today that we're looking at. It has the same dynamics. It has an end user that wants the product, but it needs to go through a process before that product is ready to be sold.

43:39As you reflect over these last 10 years, what do you think is true today that you didn't back then? that this was going to be easy. So when we first started this business, we had a list of, I think it was 300 LPs and we're like, yep, they're all going to love this idea. And we're going to go out to talk to them and they're all going to invest. And we stepped off the cliff and we started this business and we still have that list. Of that list, I think it was close to 301. One of those people actually invested in our business. Actually, we've always used a corporate coach since the beginning. She talks about this a lot and entrepreneurs go through this phase.

44:25We were in this uninformed optimism phase and everybody has it because you don't start a business. You don't do anything new if you don't have the uninformed optimism. And very quickly, you get hit in the face with the informed pessimism. And then the question is just, can you get through it on the other end to the informed optimism? And obviously we were able to get through that. But still, we love what we do, but it's not easy. We have a very specific piece of what we do, which is like in this niche weird space, there's a lot of things that are harder, like finding deals. There's no brokers in this space.

44:56So that's hard. Structuring deals, we're not a buyout firm that just uses the same structure or similar structure. Every single structure has to be bespoke and unique. How you exit our deal, everything is difficult and hard and it's great. Our business is not super scalable. By definition, if we've got$20 billion in a fund, we're not doing niche things anymore. And so there are lots of things and struggles that keep people away. But in that struggle and in the fact that it's hard and every day we come in is the moat. But I think we first started this business thinking like, yeah, this will be great.

45:30It'll be easy. The three of us will get a bunch of LPs. They'll love what we're doing. It's hard every day. Any other major changes in beliefs? As I look back at starting this firm, I think there's three major takeaways, which is the people matter the most. The people you start this business with, I would say start a business with other people because your emotions and their emotions, when you're up, they might be down. When they're down, you might be up and you need that. You need someone to pick you up and you need to sometimes pick your partners up. But more importantly, start a business with people you like and you enjoy spending time with.

46:06So often we see people coming together that maybe worked on a deal together or worked on two deals together and they found that they were aligned and so they're going to start a firm together. I think you need a lot of shared experiences and a lot of shared scars and battle tissue before you start something. I'm very fortunate that one of my partners that I started with, I've known since middle school. We've literally known each other since eighth grade. And then Gus, the third partner, we've all worked together now for 18 years. We stumbled into that good fortune. I don't know that was a core belief back when we started the business, but it is absolutely a core belief today.

46:45How about the other two? Humility. I think having the humility, Ashley, Gus, and I all have totally different strengths and weaknesses. We have to be okay being like, I'm not the best one to do that, whatever particular task it is. You do that. You're better at that. When we first started, I'm not sure we'd all been introspective enough about what our strengths and weaknesses were. And we've worked a lot on that over the 10 years. I think we all now have a very good sense for what we're good at, what we're not good at, and being able to be open with your partners about that. There's a personal humility that comes from this.

47:26Also, you've got to be able to learn from your mistakes and you have to be able to surface those mistakes and talk about them a lot because you won't learn from them if you don't. If you bury them under the rug, and it's painful. We do it all the time. Whenever we're underwriting, looking for deals, sourcing deals, or deciding, are we going to do a deal? We're always saying, well, well, we screwed something. We probably made a mistake in the past. Let's learn from it and do it now. And you have to constantly be doing that. And it's not easy. And then it's struggle. If you start something that's easy, other people will come quickly and arb it away.

48:02The struggle is the moat. It is what keeps the value in whatever you've started. What is easy and what is hard can ebb and flow over time. Meaning what was hard at the beginning might not be hard anymore, but other things become really hard. You have to enjoy the struggle. What we do every day coming into work and trying to find these niche off the beaten path things, it's not easy, but it's enjoyable and it's rewarding when you do. And seeing things that we found eight, nine years ago being successful and actually other people finding them and coming into those spaces, it's great. We're happy to do that and move on to the next thing.

48:38But I just think you got to go into it knowing that it's going to be hard and you hope it's hard and you hope it stays hard, but you got to enjoy that struggle as well. So as you look out over the next 10 years, structurally, how do you think about why what you do works so that there will continue to be new things to look at? This is about learning over the past 10 years and pattern recognition over the next 10 years over how do we find things? How do we hire the right team? And we've learned a lot of lessons about our own people and the culture that we hire at Cordillera to go find these things.

49:21So we have to find the right people. We have a little bit of a heuristic that we use to hire folks about capabilities, collaboration, and creativity. So obviously, capabilities and competence speaks for itself. We need people who have some basic fundamental finance abilities. But the collaboration piece of it is really important for us because we invest in lots of weird stuff. And so you have to have a team that can sit around a table and talk about, hey, if we're making this whiskey investment or this sports investment or this spectrum investment, how do we compare and contrast these things? It's not like we can send people off in their own little silos to go find deals and come back and put them in the portfolio because they're so disparate and so different.

50:07So collaboration for what we do, and not everybody wants to do that in the finance space. And then creativity, we look for people in different spaces. The person who we just promoted as a partner came from medical device field. And so we're looking for creative people who are willing to go out and look for deals in interesting new spaces. The last thing I'll say is we do feel like we have a 10-year head start on people trying to do this. And we've learned a lot of lessons and have a lot of scar tissue around how to find them, where to find them, how to find an operating team, how to structure these things, and how to not run down dead-end alleys around things that sound interesting that aren't.

50:45We just keep building on that over the next 10 years. We become more efficient and we hire the right people to continue to execute on it. I feel pretty excited about it. Chris, I get a chance to ask you the closing questions that for whatever reason, Greg Dowling didn't the first time around. What's your favorite high-year activity outside of work and family? I'm a big music fan. I have absolutely zero talent for it, but I love it. I love listening to music. I love going to live music venues and concerts, and I can't consume enough music. What's one fact that most people don't know about you? Probably related to that, my memory is like a C plus, B minus, maybe pretty average, but there's a piece of my brain that just remembers lyrics.

51:34I wish that part of my brain could be used for a lot of other things, but I tend to just have a lot of lyrics in my brain. What's your biggest pet peeve? Rental car pickup, without a doubt. I don't understand why we can't figure that out. I can fly from here to any place in the country or in the world with just my phone and I just get through. And somehow you show up to rent a car. There's a line that's a half hour long. They don't have your car. You can wait for two hours. I don't understand why we can't figure out the rental. And it's probably an area we should start looking at, but going to pick up a rental car is a huge pet peeve of mine.

52:13How about on the investment side? poor work product. When I'm like, hey, I need to understand what's happening in one of our companies or internally. And you get this haphazard, here's 70 pages, disorganized work product drives me crazy. Which two people have had the biggest impact on your professional life? Without a doubt, my two partners, Ashley and Gus. So for different reasons, and as I mentioned and already Ashley and I have known each other for a very long time, but she is responsible for most of my career. She's had a very similar path to me. We both started our careers in investment banking, but she got me a job at Stanford Management Company at the Stanford University Endowment.

52:58I had left finance to go to Capitol Hill for a while. And she called me. She's like, you need to come to, I was like, what's an endowment? I don't even understand what they do. She's like, no, come here. She had been a soccer coach. She played soccer at Michigan and had been a soccer coach at Stanford. She'd also been in investment banking. And so she just helped get me on the track, but she's also just been an incredible friend for my whole life. And so Ashley and I've worked together since 2001. So for 23 years and known each other since eighth grade and Gus, I mean, just an absolutely incredible business partner.

53:29I've worked with him for 18 years and his skillset around process and process improvement and essentially has been for a long time, our de facto CFO and COO. He's an incredible investor as well, but he's also just really good at making sure that the trains show up on time and run efficiently. And he's amazing at it. He does it with a smile every day. He's just been an incredible partner. What's the best advice you've ever received? This is a theme that we've had through these questions. I tend to get my advice through music and through lyrics. And so the most distinctive thing I can remember is when And we had to make a decision to, are we going to start Cordillera as a firm or not?

54:12And I was driving in the car and Tom Petty's, it's time to move on, came on the airwaves. You know, it's time to move on. It's time to get going. What lies ahead? I have no way of knowing. And I was just like, it's exactly right. You need these moments in your life to try the next thing. There's kind of a lightning bolt moment when I was listening to that Tom Petty song. It was like, it's time to move on. I was like, all right, let's do it. All right, Chris, last one. What life lesson have you learned that you wish you knew a lot earlier in life? That things will generally work out. I say this a little bit of follow-on to that answer in that I've got an 11-year-old middle schooler.

54:47I think about this when I was that age. You think whatever's going on with your friends, you can't ever get through it. And it's the worst thing ever. And you wish you could give my son that perspective. And even this happens a lot in our professional lives as well. It's like, oh my goodness, this is dire. And you're like, you know what? If you've got a good work ethic and you just keep plugging away at it, things change. Things move on. Things will generally work out. And I wish I had known that earlier in my life. I wish I could impart that on my children now who believe the littlest things are the biggest things in their lives.

55:23And when me and my partners are going through things, we're like, you know what? It seems big right now, but it'll generally work out. Chris, thanks so much for doing this again. Always interesting to hear what's going on in the weird worlds of alternatives. Thanks, Ted. I really appreciate it. Thanks for having me on again. Thanks for listening to the show. To learn more, hop on our website at capitalallocators.com where you can join our mailing list, access past shows, learn about our gatherings, and sign up for premium content, including podcast transcripts, my investment portfolio, and a lot more.

55:57Have a good one and see you next time.