Volume 9 | NOVEMBER 2015

The
Private
Investment
Brief
Adam Wyden of
ADW Capital Management, LLC

CASE STUDY: FERRARI N.V.

www.privateinvestmentbrief.com
The Private Investment Brief is an independent, subscription-based research service, and receives no
compensation from the managers and companies featured. Please see additional disclosures on page 14.
CONTENTS

3 INTRODUCTION

5 ADAM WYDEN AND ADW CAPITAL

CASE STUDY: FERRARI N.V.:

3 ANATOMY OF A BRAND

7 ANATOMY OF AN INSIGHT

10 ANATOMY OF A THESIS

13 CONCLUSION
THE PRIVATE INVESTMENT BRIEF | 3

INTRODUCTION oriented investment partnership Adam is right, it is an opportunity

based in New York. ADW Capital to own something approaching the
On October 21, following an initial
has owned Fiat Chrysler shares since fundamental investor’s holy grail: a
public offering that was 20 times
the fourth quarter of 2014, largely as dream business, worth buying and
oversubscribed, the common shares
a bet on Ferrari’s hidden value. The holding forever.
of Ferrari N.V. debuted on the New
position, the firm’s largest, now has
York Stock Exchange under the
an unrealized annualized return of ANATOMY OF A BRAND
ticker symbol RACE. The stock now
25 percent. The first gasoline-powered automobile
trades at $53.20, giving the company
an equity market cap in euros of was produced in 1886, and while
In this issue we will explore Adam’s
¤9.3 billion. Including net debt of this invention would prove to be
claim that despite all of this, the
¤1 billion, Ferrari now trades at 25 the most useful of the 20th century,
Ferrari story is just beginning and
times its 2014 operating earnings. to a small group of people the true
its stock remains undervalued. It is
purpose of a car was to race it.
an ambitious thesis, but a perfect
The Ferrari IPO was a victory for its
showcase for the investments ADW In Europe, most of these early
parent, Fiat Chrysler Automobiles,
seeks to make and the due diligence racing enthusiasts were rich, either
which will spin off its remaining 80
Adam performs.1 It is also a case aristocrats or scions of the new
percent stake in the company in early
study in the importance of thinking industrial fortunes, since the sport
2016. And it was a victory for Adam
on the margin when analyzing the was both extremely expensive
Wyden of ADW Capital Partners, L.P.,
future of a business. And finally, if and extremely dangerous.2 Racing
a $40 million concentrated, value-

1
Adam has also appeared on CNBC in connection with the Ferrari IPO. See http://video.cnbc.com/gallery/?video=3000437594
2
And it remained that way for a surprisingly long time: See Wikipedia article “List of Formula One fatalities,” which does not even include those deaths that
occurred prior to 1950, the first official year of the Formula One series.

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THE PRIVATE INVESTMENT BRIEF | 4

served not only as an outlet for winning its first of an eventual 15 models from the early days are now
their wealth, but also as a modern Drivers’ Championship in 1952.3 collector’s items—depending on the
way to live out the ancient ethos Success on the track fed into success source, up to nine of the ten most
of chivalry: that a gentleman, freed on the road, both technologically— expensive cars ever sold at public
from the obligation to work for his many racing innovations were auction are Ferraris. But at the same
living, must regularly risk his life in incorporated into commercial time, the company continues to
battle with other gentlemen. models—and psychologically, as innovate and produce new models
each victory, each championship, (there are nine currently), while
Into this rarified world came an
even each death4 added to the glamor maintaining an intimacy between
Italian metalworker’s son named
of owning a Ferrari. The symbiosis customer and brand that no other
Enzo Ferrari: first a test driver, then
worked in the other direction, too: As car manufacturer can approach. In
a racing driver for Alfa Romeo,
Ferrari road cars became the world’s 2014, Ferrari sold 7,255 cars in over
and eventually the founder of
most famous sports car status symbol, 60 markets around the world, at
his own racing team. He named
renowned for their combination of prices ranging from $200,000 to over
it Scuderia Ferrari—literally the
performance and beauty, they added $1.5 million. 60 percent of them
“Ferrari stable”—and for its logo he
prestige and money to Scuderia, were sold to existing Ferrari owners.
borrowed the insignia of an Italian
cementing its status as the first team
cavalry regiment: a black horse
of Formula One.
rampant, or prancing, on a yellow
shield. Beginning in the 1970s, Formula As the oldest
One matured into the safer, more
corporate, and globalized sport it is
and most
Into this rarified today, with an estimated 425 million successful team,
television viewers around the world.
world came As the oldest and most successful Ferrari has
an Italian team, Ferrari has retained its link
retained its link
with the heritage of Formula One’s
metalworker’s golden era—now forever encased in with the heritage
amber and impossible to replicate—
son named Enzo while also continuing to win, of Formula
Ferrari. including Michael Schumacher’s One’s golden era.
record-setting five straight
championships driving for Scuderia
Scuderia Ferrari was Enzo’s true between 2000 and 2004. Today, while
love, but to finance his efforts Ferrari is no longer the dominant Back in 1969, the Italian carmaker
on the track Ferrari needed to team—that honor belongs to Fiat acquired 50 percent of Ferrari.
produce a road car. So in 1948, one Mercedes—it remains competitive, In 1988, following Enzo’s death, Fiat
year after the debut of the first and many observers expect it to raised its stake to 90 percent, with the
Ferrari-manufactured racing car, mount a serious challenge as soon balance held by Enzo’s son Piero. In
the company introduced its first as next year. 2014, Fiat merged with Chrysler to
road model, the 166 Inter. Scuderia become Fiat Chrysler Automobiles,
Ferrari’s road-car business has and that same year announced it
quickly enjoyed racing success,
matured as well. The surviving would partially sell and then spin off
Continued on pg 7
3
Beginning in 1958, Formula One has also awarded a separate championship to team owners: Ferrari has won 16 of these.
4
From 1955 to 1967, seven drivers were killed driving Ferrari racecars.

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Adam Wyden and ADW Capital

Adam Wyden was born in 1984 and grew up in Washington, DC. On his paternal side he comes from a family of
prominent German-Jewish intellectuals—most famously his father, Senator Ron Wyden of Oregon, but also grandfather
Peter Wyden, a journalist and author of nine books, and a great-great-uncle Franz Weidenreich, a noted anthropologist.
Less well-known, but no less influential on his character, was Adam’s mother’s family: street-smart, Russian-Jewish
entrepreneurs and businessmen who saw in the American stock market an accessible way to build wealth:

“My grandmother was a big saver and started an investment club in Portland, Oregon called Magnolia, and she was an early
investor in Precision Castparts. Her brother Stanley Foster, who really piqued my interest, invested in Price Club before its IPO
and was on the board of Hot Topic, the retail chain, and a number of regional banks. Talking about the stock market was
commonplace at the dinner table, and it got me thinking about buying and owning businesses.”

As a teenager Adam earned money working various jobs, buying and selling collectibles on eBay, and starting his
own car detailing business, and invested his savings in stocks, guided by the books of Peter Lynch. “I bought Research
in Motion when I got my first Blackberry, and some Apple when I got an iPod,” he remembered. “It was Lynch’s ‘invest in
what you know’ philosophy.” After graduating from high school, he attended the Wharton School of the University of
Pennsylvania to gain a formal education in business. Unlike many future money managers, however, his initial focus
was not on finance, but on management:

“What really interested me was understanding organizational structure and how to manage people. I was also fascinated
by the power of Porter’s Five Forces to explain a business’s competitive landscape. That got me thinking about how good a
business is, how easy it is to imitate, and its ability to raise prices.”

While at Wharton Adam got his first real Wall Street experience, a summer internship at a long-short hedge fund
managed by D.E. Shaw. While he found it valuable to see how an investment firm operates from the inside, and
learned a lot about how public market participants react to news and information, he found that he was not fully
aligned with a typical institutional hedge fund. “I wanted to invest like my family did, owning things for a very long
time where I could make multiples of my money over a multiyear period,” he explained. “I didn’t want to try to arbitrage a
consensus earnings estimate.”

After graduating in 2006, Adam took a job at SMH Capital, a boutique merchant bank serving small and medium-sized
companies. There he honed his technical finance skills helping to structure complex transactions, in both an advisory
and co-investing capacity. He also got his first exposure to working closely with management teams, which struck a
powerful chord:

“These were small companies, so you couldn’t just take a sell-side research estimate off of Bloomberg. You had to work with
the CFO to understand the company’s forecast and understand the unit economics of the business on a granular level. I’m
extroverted, I like people and talking to them and learning from them—so I really enjoyed the experience of interfacing with
senior management at an early age.”

After two years at SMH, Adam enrolled at Columbia Business School in January 2009, where his coursework focused
on accounting and corporate finance. By now he knew he wanted to be a professional investor, and as graduation

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Adam Wyden and ADW Capital (CONTINUED)

approached he interviewed at several New York hedge funds—but again, he didn’t feel comfortable with this world:

“I didn’t see eye-to-eye with them on strategy, but even more pragmatically, I didn’t like the fact that I couldn’t invest my own
money. I didn’t want the person employing me to determine my gain in net worth. My mantra since I was young was that the
stock market was a way to build wealth and a vehicle to invest in businesses. I didn’t like the idea of having a transactional
job and getting a W-2 for a job that was related to the stock market. I wanted to be ‘in the stock market,’ which is what I tell
people today when they ask me what I do.”

And so following his graduation from business school in May 2010, Adam started ADW Capital Management, LLC with
$2 million of mostly “friends and family” capital, operating initially out of his mother’s house in Washington, DC to
keep overhead low. In terms of strategy it would be a throwback to the early investment partnerships of Buffett and
Munger, with a concentrated portfolio of roughly six or seven positions and a multi-year time horizon. “The goal is to
invest in companies and let them build wealth for you while you sleep, in a tax-efficient way,” he said. In terms of outlook
it would recall the old merchant-banking ideal of the equity investor as close partner with entrepreneurial managers
in a mutual effort. “Richard Rainwater is a role model, in the sense that I want to back charismatic managers, people who
are going to inflect their own personality and desire to win on their companies, as opposed to a simple quantitative value
or mean-reversion strategy.” he added. “To do this you need some creativity to see how things will unfold in the future
differently than in the past, but it really comes down to people. People make a tremendous amount of difference—people
are everything.” And finally, in terms of day-to-day culture, it would embody Adam’s own personality:

“I believe that I have the technical finance skills and the value investing background, but others have that too. What really
differentiates me, I think, is my interpersonal skills: how to observe people, how to get information from people and build
alliances, how to leverage personal resources and cold-call and get people to talk to me. I like to think of myself as a private
detective or beat reporter—I even have a frosted door to my office. So I’m very focused on being persistent and relentless and
very focused on putting together the pieces of the story—I’m never afraid to pick up the phone and make a call, or to make a
call to get to a person who can get me to the next call.

When you’re not making a lot of investments, you’re not getting distracted by noise. So you can cast a wide net and learn
about different people and industries, and hear different stories from people who have successfully done things. And
sometimes you get a breakthrough.”

Now nearly five years later, ADW manages $40 million out of a small office in a 120-year-old office building near the
old Tin Pan Alley, far from most New York hedge funds, and has roughly 60 limited partners. “It’s almost all high-net-
worth investors, unlike most funds, and I like to use them as a resource and a sounding board,” Adam said. The fund has
earned a 30.2 net annualized return through October 2015, with positive returns in all years, including a near-doubling
in 2011. “2011 borrowed from 2012’s returns,” Adam explained. “We encourage investors to take a multiyear view because
we can’t predict when people will care about our investments and because when you take big positions, there is inherently
going to be lumpiness.” He has made only two new investments in the last two years—one of which is Fiat Chrysler and
its soon-to-be-spun-off Ferrari subsidiary.

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its ownership of Ferrari. For the first high returns on shareholders’ capital, But investing is not about the past,
time, public shareholders would which ensure that any growth in the it’s about the future. And it’s not
have a chance to invest in Ferrari. business, even if it is only the result of actually about the metrics cited
The question was not whether they inflation, will be efficiently converted above in and of themselves, but
would want to—it was obvious they into distributable cash flows. rather how they will evolve on the
would—but at what valuation. margin. Here is where our story gets
On the first test, Ferrari has interesting, here is where Adam has
Some argued that despite Ferrari’s performed well recently: Even done most of his work, and here is
unique attributes, it was still a car during the financial crisis, the where he draws his optimism about
company, and deserved to trade at company suffered only one year Ferrari. Simply put, he believes its
the lower valuation typical of car of modest declines in shipment future will be dramatically different
companies. Others, including the volumes. On the second test, it has from its past—starting with the fact
company itself, argued that Ferrari performed less well but not terribly: that this future is now in a new set
was a luxury brand, like Hermès, Shipment volumes have grown at of hands.
and therefore deserved a premium 3 percent annualized over the past
valuation. These advocates tended decade, and revenues have grown
to focus on the appeal of the cars
themselves: their beauty, exclusivity,
at 7 percent. But on the final test,
Ferrari has been something of a
“Those are
and luxurious features. disappointment: On ¤1.7 billion the businesses
of beginning-year equity (adjusted
But a luxury multiple ultimately
for excess cash), Ferrari earned everyone tells you
reflects not the appeal of a company’s
products in the eyes of its customers,
¤404 million of adjusted operating
income in 2014—which works out
not to invest in,
but rather the appeal of its financials
in the eyes of its owners. Specifically,
to an unleveraged pre-tax return because they don’t
on equity of 24 percent, and 16
the luxury multiples awarded by the
percent after tax. It is not bad for a earn their cost of
stock market today are a function
of three things: a high degree of
car company, but it’s far from the capital.”
luxury realm (Hermès earned over
certainty surrounding a brand’s
40 percent after tax on beginning
prospects,5 above-average growth,
equity in 2014). ANATOMY OF AN INSIGHT
and—perhaps most importantly—
Soon after the 2011 launch of ADW
Capital, a friend encouraged Adam
Wyden to take a look at Fiat Group.
ABOUT The Italian carmaker had once
The Private Investment Brief dominated Italy’s business landscape
under the legendary Gianni Agnelli.
But by this point, eight years after
Founded in 2010, the Private Investment Brief newsletter publishes Gianni’s death, it had receded in
profiles of small, value-oriented investment managers around the prominence. However, Adam’s friend
world, with a specific focus on case studies of their best current ideas. knew and spoke highly of Fiat’s new
chairman, Gianni’s grandson John
For more information, please email Elkann, and of his impressive moves
info@privateinvestmentbrief.com or call + 1 917 748 2436 to restructure both Fiat and Exor,
the Agnelli family holding company.

5
Which translates into a lower cost of capital and lower discount rates on future cash flows.

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THE PRIVATE INVESTMENT BRIEF | 8

Adam began to study Fiat, though skills that is very rare in the offspring was rekindled, however, in May
with a sense of skepticism about the of family wealth.” 2014, when the company—now
car industry. “Airlines and autos,” he Fiat Chrysler Automobiles—held
later said. “Those are the businesses Just as intriguing to Adam was the its annual investor day for analysts.
everyone tells you not to invest in, man Elkann had helped to recruit to The company gave an exhaustive
because they don’t earn their cost of be Fiat’s CEO, Sergio Marchionne. overview of what was now the
capital.” While he could not get Another not-quite-Italian outsider, world’s seventh largest automaker,
comfortable enough to invest, he Marchionne was born in Italy but with 21 separate presentations in
more than confirmed his friend’s emigrated in his teens to Canada, all, but the one that caught Adam’s
positive opinion of John Elkann: where he later earned a degree eye was Marchionne’s discussion of
in philosophy, an MBA, and a its Ferrari subsidiary. Marchionne
“During Gianni Agnelli’s tenure at Fiat, law degree before qualifying as a stated that Ferrari, which had sold
the company did a lot of things right, professional accountant. After a 7,000 cars in 2013, could potentially
one of which was buying Ferrari. But series of executive jobs in Canada, increase production to 10,000
it also expanded into a lot of different he moved to Switzerland, where units per year, and that if it did its
businesses, some of which were not he established a reputation as a EBITDA would be “well in excess of
good, and got spread a bit thin. When corporate turnaround artist at three ¤1.0 billion.” This was a key trigger
Gianni became sick, he decided that industrial companies: Alusuisse, for Adam. “Ferrari was already
John would be his successor—and I Lonza Group, and SGS S.A. After generating €¤566 million of EBITDA on
think he did so with the knowledge that becoming CEO of Fiat in 2004, 7,000 units, and here Sergio was saying
things needed to be fixed. he proceeded to turn around that they could earn ‘well in excess’ of ¤1
company as well. By the time Fiat billion on 10,000 units,” Adam said.
bought a stake in Chrysler following “That’s a doubling or more in EBITDA
“At that point, heavy negotiations with the US on a production increase of only 43
government during the depths of
people were talking the financial crisis, Marchionne had
percent. I looked at it and asked myself:
How do you get there?”
about Sergio like he become a global celebrity:
Adam dug into Ferrari, using the
was a god.” “At that point, people were talking
about Sergio like he was a god. To me
financial information available at
the time. “Fiat had published some
he is a renaissance man, a modern- standalone financials for Ferrari,” he
day Leonardo da Vinci or Benjamin said. “It was imperfect information, but
It was interesting because John is Franklin. He has a massive variety of I got comfortable enough to say that Fiat
actually an Agnelli family outsider. skills: accounting, law, business. But shareholders were not really attributing
He isn’t originally from Italy—he he’s also a consummate poker player any value at all to Fiat’s stake in Ferrari,
was born in New York and grew up and an incredibly cagey negotiator. and took a small position.” At the same
in Brazil and France and the UK. So Sometimes it seems like he goes too time, it also seemed that there was
he speaks four languages and has a hard in publically playing out his hand, an internal power struggle going
much more global view, beyond the but there is always a method to his on within Fiat regarding Ferrari’s
insular Italian business culture. And madness—with Sergio, nothing is an future. Ferrari’s longtime president,
he has a combination of hard technical accident.” Luca Cordero di Montezemolo,
skills—he studied engineering, and I’ve
Adam continued to keep one eye opposed Marchionne’s idea to
heard him on conference calls reciting
on Fiat and its leadership over the increase Ferrari’s production,
metrics about Exor’s businesses from
next few years, although he never for fear it would dilute its brand.
memory—and political and personal
made an investment. His interest Within a space of two months in

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the fall of 2014, matters came to Adam’s due diligence would its stock. The documents filed in
a head: On September 10, 2014, eventually take him to Italy, where connection with the offering gave
Montezemolo announced his he met with John Elkann at Exor’s Adam a fuller picture of Ferrari’s
resignation as chairman of Ferrari, annual meeting. “John makes the financials. Equally importantly,
to be succeeded by Marchionne; five annual pilgrimage to Berkshire Elkann’s motives also became clear
days later, Ferrari announced a five Hathaway’s annual meeting, and I to him. “People looked at that convert
percent percent production increase wanted to do the same for him,” Adam as a debt offering,” he said. “But it was
for 2015; and on October 29, Fiat said. He also spoke with many auto mandatorily convertible into equity, and
announced that it would IPO and industry experts, from executives to Exor was going to be a big investor, so it
then spin off Ferrari shares to Fiat reporters to government officials was really a big insider buy.” Suddenly,
shareholders. who had been involved with the he saw Ferrari in a new light:
Chrysler bailout. “That really
“I invest in so few companies that there “When Ferrari filed its IPO, the press
excited me, because you had to look at
really have to be a lot of green signals said it was to raise money to fund Fiat’s
who was talking, what their political
flashing, so to speak, to get me in the investment plan. That never made sense
agenda was, and whether they were
due diligence racecar. Learning about to me because the numbers were not
looking backwards or forwards,” he
John and Sergio was one green signal. large enough. Ferrari was not a true
added. The effort would extend
The fall in the euro, which would make IPO—it is a spin-off, with a small IPO
well into 2015, during which period
Ferrari’s exports to other countries less beforehand to get bankers engaged and
he added to his position. But the
expensive, was another green signal. covering the stock.
“light-bulb moment” came in
But when they filed for the IPO, that
December 2014, when Fiat Chrysler The purpose of the spin-off is to liberate
was the biggest green signal. That’s
launched a mandatory convertible Ferrari as an independent asset.
when I kicked it into high gear.”
bond offering that put pressure on Because Exor and Sergio are both large

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shareholders in Fiat, they will become as part of a deliberate, decades-old the brand. You don’t want to become
large shareholders in the spun-off strategy to keep the supply of new ubiquitous, but it became an issue
Ferrari, with optionality to increase cars low in order to protect the brand. of how to stay relevant to and share
their positions or buy back shares. I am As a result, the waiting lists to buy a the brand with the next generation of
convinced that Sergio and John Elkann new Ferrari are measured in years. buyers. With Ferrari it’s the same thing:
reached the conclusion that Ferrari While Ferrari has grown volumes There are a lot more wealthy people
has been selling too few cars. No one is by only 2.5 percent per year over the today who want to own a supercar,
faulting the old regime, but you have to past 30 years, the number of high- and Ferrari should let them buy them
drive revenues to be in accordance with net-worth individuals worldwide without these crazy waiting lists.”
the capital you’re spending. has grown by 8.6 percent per year
according to a Capgemini study that
Adam cites. Given the arithmetic of “You’d be
“Again, with compound interest, this represents a astounded how low
nearly sixfold increase in the ratio of
Sergio nothing is potential Ferrari buyers to annual the incremental
Ferrari production. As such, Adam
an accident.” believes that a recalibration of
capital
supply to 9,000 per year and beyond requirements are
is not only likely and feasible, but
I’m also convinced that John and Sergio perhaps necessary: to create a new
are outstanding operators and capital
allocators, and are long-term owners of
“In the IPO prospectus Ferrari targeted Ferrari model.”
9,000 vehicles by 2019, but at the
Ferrari, not traders. They don’t really May 2014 analyst day Sergio showed
care about Ferrari’s valuation today, a bridge to 10,000 vehicles. During
and have deliberately set expectations the IPO roadshow, Sergio also made To accommodate this increase in
low about its future. Their goal is various hints that 10,000 is the real production, Ferrari will require
to increase production significantly, target. And right after the IPO, when only limited additions to its existing
without compromising the brand and Ferrari announced its third-quarter fixed asset base, having completed
while at the same time increasing earnings, he said for the first time a five-year renovation of its main
Ferrari’s ancillary businesses. And that there was ‘nothing magical about factory in Maranello, Italy in 2008.
when they do that and Ferrari is the 9,000 and nothing magical about By 2017, it will also introduce
properly scaled, the market will see 10,000,’ even considering the impact of modular platforms, which will make
how profitable this company really is. tougher emissions standards when the the introduction of new models
company crosses 10,000 units. I think more efficient and make it easier to
I know it sounds crazy, and when I personalize each car for its owner—a
this is a case of setting low expectations,
share my thesis with people they think significant profit center. Therefore
maintaining optionality, and then
it’s crazy. But if anything, I think it is the often-repeated charge that
surpassing those expectations over a
conservative.” Ferrari (which turns over its product
long time horizon. Again, with Sergio
nothing is an accident. line roughly once every five years)
ANATOMY OF A THESIS is a capital-intensive enterprise is, to
Ferrari sold only 7,255 vehicles last The analogy I like to draw is to Patek Adam, misguided:
year. It did so not because that was Philippe, the Swiss watchmaker. A
few years ago Patek decided it was “Everyone assumes that Hermès, as
the ceiling in the demand for its a luxury goods company, requires no
cars, nor because of limitations in becoming so exclusive and unattainable
to buyers that it was actually damaging capex and Ferrari requires a lot. But if
its production capacity, but rather

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you take Ferrari’s capex-to-sales ratio any additional capital investment statement, I asked myself: How many
and compare it to that of Hermès, required from its shareholders. companies manufacture a product for
Ferrari is less capital-intensive. You’d Turning from the stock of capital $300,000 that only earns 16 percent
be astounded how low the incremental to the flows of future cash, we can EBIT margins?” he later said. “That
capital requirements are to create a observe from the chart on this page started a treasure hunt.”
new Ferrari model.” that Ferrari allocates its expenses Ferrari spends a lot on R&D: nearly
In terms of working capital—often to cost of sales, SG&A, R&D, and a 20 percent of sales, and much more
neglected relative to fixed capital, small line item for other expenses. as a percentage of vehicle-related
but no less a claim on retained Included within these line items are sales alone. But most of this spending
earnings as a business grows—the various non-cash depreciation and is related to the company’s Formula
news is also good. Like many auto amortization expenses, including One activities, Adam believes, and is
companies, because Ferrari tends the amortization of certain internal not likely to increase with increases in
to get paid for its vehicles before it development costs that must be road car production. Furthermore,
makes payments to its suppliers, it capitalized under IFRS. While the Formula One-related expense
usually carries negative operating technically these non-cash expenses serves as the company’s only source
working capital. The company also amortize investments made in the of sales and marketing expense.
owns a large portfolio of financial past, we can also think of them for Finally, Marchionne has just stated
receivables as part of its financing analytical purposes as “placeholders” his expectation that R&D will
program to customers and dealers, for capital expenditures in the current decrease by ¤100 million, as the
but this portfolio should be period. The question that motivated company completes the updating
financed by debt as it grows. Taking Adam’s search for Ferrari’s “true” of its product range and completes
fixed and working capital together, economics was how its cash outlays an investment program to improve
there is good reason to believe that would evolve incrementally as the the competitiveness of Formula
Ferrari can grow its production by company scaled up production. One.
nearly 50 percent or more without “When I looked at Ferrari’s income

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outrageously high,” Adam said. “I later “When I looked at Ferrari’s 45 percent

met with a number of executives high gross margins, it didn’t make a lot of
“An early investor up in the company, and kind of got the sense relative to other specialty niche

of mine once told feeling they were being paid a lot of

money. Knowing Sergio, I think this will
manufacturers, so I tried to decompose
it and get to the gross margins of the
me that you can’t normalize over time.” vehicle segment,” Adam said. “I
was able to peel back the onion and
make money Finally we come to cost of sales
and gross profits. Here is where estimate that gross margins on the cars
without gross luxury goods companies perform today are about 60 percent.”
the alchemy of transforming raw The 60 percent is for the segment
margins.” materials that anyone can buy into today, on a production base of 7,255
something unique and expensive. vehicles. The question is how gross
“An early investor of mine once told margins will evolve incrementally
Moving up to SG&A expense, which
me that you can’t make money without as the company scales production,
since Ferrari has no independent
gross margins,” Adam said. “So that is and here Adam is optimistic for two
sales and marketing expense, is
the place to look.” reasons. The first is that a significant
comprised largely of executive
Ferrari’s consolidated gross margins component of Ferrari’s cost of sales
salaries. Adam believes that like
in 2014 were 45 percent, but this is fixed costs, including depreciation
R&D, this line item will be a
figure includes other business lines, of plant and equipment, insurance,
source of operating leverage as
most notably Ferrari’s production and labor—where Adam believes
the company scales production. “I
of engines for other automakers, there is significant slack.6 “From my
looked at Ferrari’s SG&A as a percent
which carry lower gross margins. channel-check work, I learned that
of sales relative to its peers, and it was

From the Publisher

Thank you for your positive feedback on the dry bulk shipping bonus issue, published over the summer. I
hope to publish more bonus issues in the coming months.

Going forward, as part of a years-long effort to become a more productive publisher, the plan is to merge
some elements of the existing PIB format with those of the bonus issues. Starting with this issue, each
new issue will focus on one particular investment thesis, taken from the portfolio of an “undiscovered”
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Nadav Manham
The Private Investment Brief

6
 e public markets investors don’t often see a subscale manufacturing enterprise in the wild, so it’s not automatic to think of the cost of sales line
W
as a source of operating leverage.

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THE PRIVATE INVESTMENT BRIEF | 13

there are a lot of expenses that won’t basically 100 percent. To a lesser a luxury multiple of 18 times 2018
increase if the factory runs one shift degree that’s Ferrari: If you think of EBIT. This could give Ferrari an
or two,” he said. The second reason the cost, and think about the price it enterprise value of over ¤45 billion,
is that Adam believes that as Ferrari can charge—it’s a superluxury good, as compared with ¤10 billion today.7
grows production, it will do so in bordering on art.”
CONCLUSION
the direction of its more expensive Considering all of the above factors,
models—which are so profitable It may take several years or longer
Adam estimates that in a bullish
that the company is reluctant to talk for Adam’s Ferrari thesis to play out
scenario, Ferrari can generate ¤4.8
about them, and which reveal the fully. “There is some chance that it
billion in revenue on 10,000 units
true nature of Ferrari’s business: takes longer than I think, because of the
in 2018, and ¤2.1 billion in EBIT,
lumpiness of product roll-outs or mix
which would produce an operating
changes,” he said. “And there is also
margin of 44 percent. This is from
“On an $800,000 vehicles alone, and does not include
a chance that my assumptions are too
bullish. But even if they are, there is still
any incremental income from
Ferrari model, Ferrari’s ancillary businesses—
a lot of upside.” He is happy to wait,
to monitor Ferrari’s progress by
I estimate that Formula One, engines, and licensing
opportunities such as theme parks
watching how its cash flows develop,

incremental gross and partnerships with other luxury

and to see if Marchionne and
Elkann either add to their stakes or
goods companies, the last of which
margins could be Marchionne is especially eager to
buy back shares. He is also happy to
continue owning Fiat Chrysler after
anywhere between grow. “These opportunities may be
the Ferrari spin-off in early 2016, as
immaterial individually, but together
75 and 90 percent.” it is real money, up to €¤300-to-500
he believes that ex-Ferrari it trades
for only one times EBITDA—but
million of EBIT by 2018,” Adam said.
that’s a story we’ll have to save for
“If you think about where Ferrari’s If Adam’s bullish case is right, then another day.
addressable market is going, it’s going by 2018 Ferrari will still be growing
toward the billionaire whose wealth volumes, will still benefit from
is growing at 20 percent and wants some operating leverage, and will
something special, not so much toward be earning returns on capital in the
the doctor, dentist, or lawyer whose neighborhood of 100 percent, with
wealth is growing at five percent. It’s high incremental returns as well.
impossible to know for sure, but on an Like See’s Candy—which Warren
$800,000 Ferrari model, I estimate Buffett has termed “the prototype
that incremental gross margins could of a dream business”—it will be a
be anywhere between 75 and 90 manufacturer that is so profitable
percent. and capital-efficient that from the
perspective of its equity financiers,
What does it cost to make a piece of it becomes indistinguishable
art? The canvas is $50, the paint is from a pure—and growing—
$10, and you have to amortize the royalty stream. Such a business, in
cost of the painter’s time. But if you Adam’s opinion, would more than
can sell that painting for $250,000, deserve to be called a luxury goods
the incremental gross margins are company, and would easily deserve

7
Note that whatever free cash the company generates from now until then will also form a component of shareholder return.

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THE PRIVATE INVESTMENT BRIEF | 14

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