In this podcast, Motley Fool analyst Yasser El-Shimy and host Deidre Woollard discuss:
- If Warner Bros. Discovery and Paramount would be a win-win deal.
- Other potential media mash-ups.
- Challenges facing the used car business.
Motley Fool analyst Sanmeet Deo talks with Ken Cornick, the co-founder, president, and CFO of ClearSecure, an identity management company.
This conversation was recorded on Dec. 8, 2023.
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This video was recorded on Dec. 21, 2023.
Deidre Woollard: An entertainment rumor is moving the market. Motley Fool Money starts now. Welcome to Motley Fool Money. I'm Deidre Woollard here with Motley Fool analyst Yasser El-Shimy. Yasser, how are you doing today?
Yasser El-Shimy: I am doing well, Deidre. Thank you for having me.
Deidre Woollard: I wanted to talk to you today because we're headed toward the holiday. It's supposed to be quiet. But instead, it has been like an M&A bonanza lately. This one that we're going to talk about, maybe it's been expected, but the rumor has it is that the CEOs of Warner Brothers Discovery and Paramount Global were in New York City talking about a potential merger. It kind of makes sense. You've got two of the smaller players in television and teaming up, is this a win-win or a lose-lose?
Yasser El-Shimy: I'm afraid it might be more of the latter, lose-lose. When you think about the streaming world, for example, you have Netflix that boasts over 200 million subscribers. Warner Brothers Discovery has about 95 million. Paramount Plus may have around 60 something million subscribers. Not exactly sure how many of those subscribers of Max and Paramount Plus overlap, so you don't know how many new Max subscribers Warner Brothers will be gaining out of this transaction. But even if you put them together, they are still not at the Netflix scale. That is not even getting into the issue of profitability and how direct to consumer for pretty much everyone not named Netflix has been a money hemorrhaging business. Now Warner Brothers has shown some glimpses of positivity here of hope with their DTC offering. They announced actually this year that their US streaming business is now profitable and that they are targeting profitability for the overall direct to consumer business soon. They're moving in the positive direction for sure. But as I said earlier, this might be more of a lose-lose situation because in this situation, two wrongs don't make a right. We have two companies that are heavily indebted.
They carry a lot of debt on their balance sheets. Warner Brothers has been moving toward paying down that heavy debt it carried since its demerger from AT&T. It had about $55 billion of debt or so. Now it has close to 42 billion. It will give that again and then a little more if it were to merge with Paramount. That might create a new entity with another heavily leveraged balance sheet. Additionally, both companies have a lot of exposure to linear television, and as you and I know, we live in a world of cord cutting. Most people have been moving away from just watching TV the old way by subscribing to some cable company and just watching TV that way and moving toward streaming. In this environment, adding more linear TV exposure may not be exactly what's needed to deal with all the challenges ahead. I'm a little concerned here.
Deidre Woollard: [laughs] Well, on the plus side there would be efficiencies of scale because there would definitely be some ways to cut costs. But as you mentioned, the debt on both sides is certainly significant. I'm pushing back a little bit on the streaming and the cord cutting thing. It may start to go the other way because there's definitely streaming fatigue and there's definitely a case, people looking at their bills, especially right now, the pressured consumer is saying, oh my gosh, I have like four streaming services and that's costing me more than cable would have. Maybe we see that turn. But as part of this rumor, one of the other things I heard was that Comcast might be a better dance partner for Warner Brothers Discovery. What do you think of that one?
Yasser El-Shimy: I think you're absolutely correct. If there is a deal to be done here, I strongly doubt it's going to be Warner Brothers and Paramount. I think it's most likely going to be Comcast acquiring Warner Brothers. Notice I didn't say acquiring Paramount. I think the regulatory pressure against that deal, because both Comcast and Paramount own two broadcast channels, in this case NBC and CBS. There might be too much of a, let's call scrutiny against such a deal. Whereas I think it might make more sense and perhaps we'll encounter less pressure, less resistance from regulators if Comcast Universal was to go after Warner Brothers Discovery with all of the storied brands that Warner Brothers brings into the fold here. Also some sports rights. We talk about the NBA, the NHL are both carried by Warner Brothers channels. You have HBO. You have a lot of very strong brands. HGTV, Animal Planet, and so on. I could go on. There's definitely a lot of value in Warner Brothers Discovery, and I think only Comcast out of all legacy, let's call it entertainment or communications businesses, that's the only company with the balance sheet that might allow it to make such a transaction happen.
Deidre Woollard: Yeah, good point about the potential regulatory scrutiny. Of course, in that scenario, you leave Paramount out in the cold. There's some stuff going on behind the scenes there too because these rumors came out after the rumors that Shari Redstone, of course, Sumner Redstone's daughter, she was considering selling the shares of Paramount she owns through National Amusements. She's got major voting shares and she's been entertaining a couple of interesting suitors including Robert Kotick from the departing Activision CEO and David Ellison, of course, Larry Ellison's son and the CEO of Skydance Media. If Warner Brothers and Paramount don't get together, does Paramount necessarily need to find itself another dance partner?
Yasser El-Shimy: I think the writing has been on the wall for a while for Paramount.
Deidre Woollard: Yeah.
Yasser El-Shimy: Paramount doesn't have the scale, doesn't have the offering that air quotes here must have. I'm actually a subscriber to Paramount Plus, and that's mostly because I watched the Italian soccer league, which is carried exclusively by Paramount Plus. But then again, how many people in America want to watch Italian soccer league? Not a lot. They do have some NFL games that they carry. They do have some exclusive original shows that they have like Yellowstone, which have done very well. But again, as you said earlier, we live in a world inundated with entertainment and TV options. If I have 4, 5, 6 different options out there, now I'll just give you an example, I'm getting a discount on Netflix from my T-Mobile bill. I'm getting Apple TV Plus for free. Again, being a T-Mobile customer. I'm getting Peacock from being an Instacart member. I get prime video from being an Amazon Prime member. We live in a world where streaming channels are being almost thrown away for free by these Mega-Cap Tech companies and others. So in that very competitive world you got to have either the scale or the content that will absolutely make you stand out and stand apart. I think a problem that both Warner Brothers Discovery and to a much greater extent Paramount have, is that they have not been able to create that scale from a direct consumer point of view, and they definitely need that scale in order to compete effectively, and they have already poured a lot of money into building out these offerings. So we'll see what happens, but ultimately, I think we are headed for consolidation in the sector. I just don't think this is it.
Deidre Woollard: Well, let's move on from the land of the rumor to the land of the actual. We've still got earnings and I know you've covered up Carvana and also CarMax. They reported today, earnings were mixed. It beat estimates, but so much of that is due to cost cutting, comparable same store sales still down year over year. What do you think is next for the used car business in general? With the changing interest rate, what might that mean for that industry?
Yasser El-Shimy: Well, I would say this has been the dominant story over the past two years for the used car industry, so to speak. Laser focus on cost cutting. Just trying to brace for the impact of this almost unprecedented environment that we've entered into post COVID. So on the one hand you effectively had a huge crisis of affordability that has taken the entire used car market by storm. So on the one hand you have interest rates that are rising at a pace never seen before. You're moving from 0% interest rates almost to over 5% in no time, and that's just what the treasury is doing. I imagine for a lot of borrowers, especially those who may not have pristine credit scores, their effective interest rates when wanting to buy a car are much higher. On the one hand, you have those higher rising rates really negatively impacting affordability of cars. On the other hand, you also have higher car prices and that was caused by all kinds of supply chain disruptions that took place during COVID that affected the availability of new cars for sale. So that created even greater demand for used cars, and pushed the prices of all available inventory up. And while at the time that may have created a helpful impact on the top line for both CarMax and Carvana, the way down was also problematic, because again, this has created a crisis of affordability. Now as Americans have declining savings against the backdrop of just rising prices of everything, they also have to deal with higher car loan rates and higher average prices per car.
Basically, that has pushed a lot of people to sit on the sidelines. Now average prices per unit and interest rates both need to go down in order for CarMax to enjoy a full rebound if you can call it that. Used car dealers like CarMax are effectively targeting volume at the end of the day. So the faster they can turn around the sale, the better for the top and bottom lines in general. Meaning that CarMax sources a car either from buying directly from a consumer or from buying from an auction. The faster they can turn that around and sell that car, the better for the company. It needs volumes to come higher, so we're talking about average prices going down, even though a price decline may on its head seem negative, it could actually be a catalyst for higher sales. Again, that would be better for volume. Kudos to the management team for pushing gross profits per unit sold, and higher in this difficult environment. But again, these can only go so far and you'll need that rebound in transactions in order to make a stock like CarMax's take off again and resume its upward batch.
Deidre Woollard: One positive sign though, is that they're buying cars again. For a long time they stopped buying cars because it simply simply didn't make sense. They've started to do that again. But you're absolutely right, on the earnings call they talked about that it's not really going to be possible for them to get back to the 2019 numbers, just because cars aren't going to be that cheap again, which not great news for those of us who would like to have a new or newer car. It's an interesting industry because it's cyclical, but the cycles definitely seem to be changing where there's only so low you can go on used cars these days and there aren't as many of those really cheap cars out there anymore, it seems.
Yasser El-Shimy: No, there aren't. You have to look very hard, you have to definitely make compromises when you're buying a car. In fact, car prices of all sorts, both used and new, have been hitting all time highs for a while. They are starting to come down, and they have effectively started coming down over the past two or three quarters. But again, so they might be down 3, 4, 5% year over year. Again, compared to 2019, they are up like 30/40% still. And that is a problem if you are going to have a resumption of a normal cycle, let's call it that, you need car prices to go down and you need interest rates to go down. Luckily, the market seems to believe that interest rates are on their way down, and that the Fed is done raising interest rates. So that should be helpful for companies like CarMax and Carvana. And you have been getting those declines in used car prices. So again, it's a grind, but if you are a CarMax or a Carvana investor, you know that the macro seems at least for now to be moving in the right direction, but it is still early days.
Deidre Woollard: Well, with both CarMax and Carvana, you're necessarily omnichannel, because they have the stores, and with Carvana you've got the fancy vending machine, but they also are seeing demand online. It boggles my mind that people buy used cars online, but the younger generations especially are really comfortable with that. What do you see overall as the future of these hybrid omnichannel used car dealers?
Yasser El-Shimy: I'll tell you a personal story. I bought a used car from a dealership one time in my life, and I swore never again. [laughs] That has been true since then bought and sold used cars three times via an online platform. From my phone I could do it in five, 10 minutes and voilà, you're done. It's a bit crazy in a way, it's a bit scary in a way, especially if you're, not part of that younger generation who is much more comfortable with making purchases online, especially, very expensive purchases as a car would be. It's a second biggest expense probably for most people after buying a home. Doing it online definitely is a big psychological hurdle for a lot of people. However, what we have seen and what Carvana, in fact I think credit should go to Ernie Garcia, third, and the Carvana team for championing that rule breaking model of saying, we can do this online and we can create an e-commerce company for cars. They have proven that the model works. Consumers have gotten increasingly more comfortable with transacting that way. Then COVID came and everybody had to stay at home. But also they wanted to buy cars because they didn't want to take public transportation. They wanted their own means of transportation, that's going to be, let's say, more hygienic than a public transportation method might be. They started buying cars online, left and right, and we have seen the incredible increase in sales for both Carvana and for CarMax's online offering through that period. This is the future.
This is an inevitable model. I remember reading this study that said most Americans would rather have their taxes audited by the IRS than go a dealership [laughs]. I personally think it's absolutely true. It's a dreadful experience just having to haggle over prices, staying for hours and hours on end, which in some cases, they deliberately make you stay for hours so that they wear you down and get the deal they want. You have to make compromises. You can only buy from the available inventory that's on the lot, doesn't give you a lot of options. I personally think this is a paradigm of the future. It's also one that needs to prove itself from a profitability perspective and from a unit economics perspective. I think both companies have made a lot of strides in that respect. But it is definitely not going to be as profitable as the old model. That's why volume matters, that's why scale matters in this case, and I think both CarMax and Carvana are national leaders in this respect. It's still a very fragmented market the used car industry. CarMax is the biggest used car retailer in the whole country and they still have, I believe, less than 5% of the overall market. It's still a lot of those, your neighborhood or your nearby local dealership, that's where most people still get their used cars from. They have a lot of work to do, but that's the future and I believe we're getting there.
Deidre Woollard: Excellent. Well, thanks for your time today, Yasser.
Yasser El-Shimy: You're very welcome. Happy to be here.
Deidre Woollard: If you're a regular motley fool money listener, then you might be a fan of dividends too. Those payments have accounted for about 40% of the total S&P 500 return since the year 1930. They've been an important tool for investing grades like Benjamin Graham and Warren Buffett. Our analysts at Motley Fool Stock Advisor put together a list of five quality dividend pairs that are also recommendations in our stock advisor service. The report is free to you with no purchase necessary. Just go to fool.com slash dividends and we'll email it directly to your inbox. That's fool.com slash dividends with S. You may think, you know, clear the digital pass that speeds up your trip through the airport. But this company has ambitions far beyond faster travel. In a conversation recorded on December 8, Sanmeet Deo caught up with Ken Cornick, Clear's co-founder and chief Financial Officer, to talk about the business of identity.
Sanmeet Deo: Ken, you're the co founder of Clear Secure, but in a prior role you were a hedge fund manager and now you're running and managing an innovative and disruptive business. Can you share with us a little bit about your journey toward co founding, clear and what inspired you to get into this field and actually run a company.
Ken Cornick: We definitely have a unique background when it comes to running a company. When I say we, I'm talking about Karen, who is the CEO of Clear and my partner since around 2001, 2002. We've been partners for a long time, and we were in asset management and we like to say equity long short. We don't use the hedge fund word always, but we were exposed to a number of different businesses. In terms of our style, we were value oriented, we looked for secular themes, and we had concentrated positions and got to know management teams really well. We observed you really good and we observed really bad. Coming out of the financial crisis, we really wanted to do something different, and we thought, you know what, let's control cash flows, let's allocate capital ourselves. We found ourselves to be, we thought we were good capital allocators and we thought, this can't be that hard. Let's find a business to run and control the cash flows and it'd be a lot of fun. That was how it happened. We didn't want to pick stocks and wanted to actually, build a company. That was the genesis of finding company to run.
We were really lucky. We were looking for businesses and we stumbled upon Clear. We were invested in a biometric roll up. It was one of the few private companies we were invested in, and that company was a service provider to the old Clear. When I say the old Clear, the old Clear went away. It went bankrupt. We bought Clear out of bankruptcy in 2010. We discovered it just by having lunch with the management team of the company we were invested in and we learned about Clear. We had seen it in Grand Central. I remember a bunch of years back, it was probably in 2007. There was someone enrolling people into the old Clear at Grand Central Station and wondered what it was and didn't think much about it. Then a couple of years later, we learned about it and we fell in love with the business because it was this interesting intersection between a subscription based business where customers loved it. But it also played into this secular theme that we were big believers in identity and we thought that, identity was the future and biometrics was the best way to prove one's identity. It was this intersection of strong secular tailwind with a great business model.
Sanmeet Deo: Next in identity, I wanted to get to that. It sounds like it's going to be groundbreaking, so I love to hear more about that. I know you talked a little about on your last earnings call, but, tell us about that.
Ken Cornick: Next gen identity is going to be the strongest fidelity of identity at scale out there, digital identity and the main difference there is. We're going back to the source. Whether it's, the government with the E-chip on a passport or a state DMV, we're actually validating that the documents real from that source. It's a very, very strong identity and we're in the process, we just started this past week of upgrading members, we started on Saturday, and we're making really great progress. That's going to be the unlock for our partnership to further integrate with TSA's Next Gen Hardware. It's a big unlock for us. It's also going to unlock our ability to go 100% face versus fingerprint and IRS in the airports, which is going to be faster. It's going to be more seamless for our members and really unlock, an even better experience than we delivered today. We're excited about next identity. It's also applicable to our B2B business, the clear verifying business. Very, very exciting.
Sanmeet Deo: I have actually, even since I started, researching the company, but I came across Clear during COVID with the health pass and putting in vaccine information, the health pass and I started looking at the app and it's a great interface, it's a great experience. But what are some of the challenges and opportunities you face with consumer adoption of your platform? Is my information safe or hesitancy to use technology?
Ken Cornick: You started this question talking about health pass and what that really speaks to is that CLEAR is a platform. When we think about identity, yes, we can replace the driver's license and you know your passport and we can prove who you are. But we also think about what is identity mean. There's so much more to it. There's your health data. There's your frequent flyer status, there's your boarding passes. There's a lot more information about you that we can essentially bind to your identity and unlock further experiences. Health pass is a great example during COVID, which thankfully is not a thing anymore. To your question about barriers to adoption, I think with any technology, the biggest barrier to adoption is really inertia. Even if you're giving something away for free and in our app is free. You can download the CLEAR app and you can enroll as a member into the CLEAR ecosystem for free. But if there's any friction involved, it's a challenge getting consumers to adopt it. That's why you need compelling use cases and that's why the airport, your CLEAR Plus was such a great way for us to start because it's just obvious. Right now no one wants to wait in line. Everyone wants a great experience at the airport, it's a great use case, and so that gets a consumer over that inertia hump, if you will. I think that's been the biggest challenge to the competitive landscape out there. That it maybe are trying to do similar things, which is getting someone to do something and act is really, really hard, even if it's free. And so you have to provide compelling reasons for them to do it. We are at around 20 million members on the platform and I think we're really the only ones at scale that have been able to drive it because of our use cases. Building out those use cases, not just in the airport and within travel, but expanding into financial services, expanding within healthcare, the more use cases we call it the flywheel. The more use cases we provide, the more people will join. The more members we have on the platform, the more compelling it is to bring on new partners for other additional use cases, and that flywheel continues to get going, and then we have an acceleration in the business over time.
Yasser El-Shimy: So what have been some of your biggest challenges in scaling and deploying your technology in sectors outside of aviation? You've made quite a bit of a runway unintended, I guess, in aviation, but how about outside of aviation? I know there's some other sectors that you're really digging into.
Ken Cornick: There's three focus areas really in terms of verticals, and digital marketplace would be one of them. LinkedIn is our marquee customer there where we've rolled out verified identity on the LinkedIn platform. If you're a CLEAR member, you can verify your identity using essentially your selfie. As I mentioned earlier, about a third of the people going through that process are already CLEAR members and so are able to with no friction verify their identity on LinkedIn. Then if you're not yet a member of CLEAR and you want to verify your identity on LinkedIn, you actually within the LinkedIn app can say verify with CLEAR and you go through our enrollment process and you become a free CLEAR platform member and part of our ecosystem and then you're able to use various services that we offer. That's digital marketplace. On the healthcare side, we have a number of customers that we've been building up our business there. We have University of Miami Health Systems in Miami would be an example there of a health system that is using CLEAR for account creation, password resets, and things of that nature. We're really removing a lot of friction and costs from the system and we have a number of customers there as well on the healthcare side. Then on financial services, that's a very established identity vertical. And so when you think about you know KYC or know your customer, that's a regulatory driven use case where financial services, when they're on boarding new customers from a regulatory standpoint, they have to verify the identity of those consumers. Their biggest challenge is that there's like a 40% drop off because it's a fairly heavy process. There's a 40% drop off of people onboarding. If you're trying to get someone to sign up for a credit card, if you're JP Morgan Chase for example. That's real money that you're losing, if people are dropping off, on the other hand, they have to make sure they're reducing fraud, and so there's that balancing act. We call it the digital fast lane. We want to create the digital fast lane just like we have the physical fast lane in the airport where you can onboard someone onto financial services, reduce friction and reduce fraud. It's back to that and we think we can do both and we can think we can do it well.
Yasser El-Shimy: What would be a use case that you're aiming for that people might just think is crazy but you believe could actually happen? it's like a boon shot use case?
Ken Cornick: I think probably no one would have thought of us for healthcare a year or two ago. I think in and of itself, just the whole idea that we've taken CLEAR outside of the airport I think is surprising to many. My view is, we want to get rid of the wallet and I don't want to have to carry your wallet around. But in some cases it'd be great to not even carry a phone. Be able to go through life just just with your face, proving who you are. Your credit card is associated with your identity. I can pay for stuff. I don't even need my key. It just recognizes me to get into my apartment. Our vision right is to go from let's just say you travel and use it once a month. We want using CLEAR 12 times a day. We want ubiquity, we want ubiquitous use cases all around you where you can use your identity and just unlock friction free experiences.
Yasser El-Shimy: It's rare to see a growth company pay a dividend and repurchase shares and have a declining share account on top of that, which you guys do. How do you balance these returns of capital with investing for like the huge growth that you have ahead with all these use cases and all the growth ahead?
Ken Cornick: If you read our Prospectus, our S1, Karen and I took great care to write a shareholder letter there. Actually every quarter we write a shareholder letter to try to give insights into how we think about running the business, how we think about capital allocation, which is what you just asked. We're in a fortunate position where we can do the end. We can grow our top line. We can grow free cash flow. We can return cash to shareholders. We have a strong balance sheet and we're generating free cash flow. Our view is as former capital allocators on the public market side. Again, going back to what we saw good, we saw bad, we saw great capital allocators, we saw poor capital allocators. Our view is we can do it all because we have a great business. The CLEAR Plus aviation business is growing it's top line and it is generating free cash flow. We're reinvesting some of that into CLEAR Verified, but there's still a lot of cash left over. As shareholders ourselves, we're owner operators, we love the fact that we have optionally. We can pay a regular dividend, we've paid special dividends, we can buy back stock opportunistically. We are big believers in being opportunistic capital allocators and that's what...
Deidre Woollard: As always, people on the program may have interest in the stocks they talk about and the Motley Fool may have formal recommendations for or against, so don't buy, sell stocks based solely on what you hear. I'm Deidre Woollard. Thanks for listening. We'll see you tomorrow.
JPMorgan Chase is an advertising partner of The Ascent, a Motley Fool company. Deidre Woollard has positions in JPMorgan Chase. Sanmeet Deo has positions in Netflix. Yasser El-Shimy has positions in Carvana and Warner Bros. Discovery. The Motley Fool has positions in and recommends CarMax, Clear Secure, JPMorgan Chase, Netflix, and Warner Bros. Discovery. The Motley Fool recommends Comcast and T-Mobile US. The Motley Fool has a disclosure policy.
