Play the man, not the cards.
Issue 34: April 2022
I’ve spent a lot of time with this newsletter talking about psychology and thinking about the long-term. I want to use this issue to provide insight about my research process. Specifically, we are going to look at Peloton. The current narrative is all about COVID and whether that has helped or hurt the business. However, if we look at some decisions by the new CEO, especially around his compensation, we can see why things might look a lot different in 12-48 months than today.
There is a saying in poker you play the man, not the cards. If you understand your opponent's thought process and incentives, then you can make the optimal decision. This same process can be applied to investing. I'll explain how some recent news at Peloton increases the likelihood the stock price is a lot higher in the next 2-4 years.
Enter Barry McCarthy the new CEO of Peloton!
This interview is a good snapshot into the man and his thought process. Before retiring in 2019, Barry had been the CFO at Netflix and Spotify for the last 20+ years. To say this man understands subscription business models in the consumer space is an understatement. He is the perfect fit for what Peloton needs moving forward.
Now what can we learn about Barry's incentives? Barry has come out of retirement for this job and is no spring chicken at the age of 68. Looking at his compensation package we see he is getting a base salary of $1m. Considering his net worth is probably >$100 million, this doesn't strike me as an amount of money that would incentivize Barry to come out of retirement.
More importantly, he is getting 8m options that vest monthly over the next four years. Typically management teams receive incentive compensation on an annual cadence. For Barry to get four years upfront, implies he thinks the valuation for the business has bottomed. Why wait to get these options in years 2-3-4 at higher prices, if he could negotiate to get them all today.
If only we know what that strike price is? Luckily for us, we do. You just need to know where to look! The options have an exercise price of $38.77, a whopping ~60% higher than yesterday’s price. That means Barry's options are worthless unless the share price is above $38.77. He has 8m reasons to be motivated about getting that share price higher.
What would give him confidence to take so much compensation in options? As the right-hand person behind the business models pioneered by Netflix and Spotify, Barry probably has very high confidence he can turnaround the financial issues at Peloton. On the flipside, if I can't he probably has an inkling that if Peloton were to be acquired, as was rumored last month, it will be at a price well above where his options strike. If he can successfully turnaround PTON he stands to make a staggering amount of money. If he isn't successful, there are a number of suitors, Nike, Amazon, and Apple likely willing to acquire Peloton at a price above $38.77.
Heads he wins a lot. Tails he wins a little. That sounds like a pretty good bet to me!
If you are interested in learning more about Spring City Partners and why my investing strategy might be a good fit, please reach out.
Bill