A valid challenger to Tesla (NASDAQ:TSLA) does not exist yet.
As it stands, Tesla owns a virtual monopoly on the battery-powered car market.
Yet it’s also trying to put a stranglehold on the autonomous vehicles niche, too.
So who will rise up to challenge Musk?
Since the “insider chatter” is getting louder and louder…
I decided to let the cat out of the bag today.
Tesla’s future rival is (sort of) Alphabet (NASDAQ:GOOGL).
Let me explain…
A driverless car company called Waymo recently graduated out of the Google X program — Alphabet’s technology incubator.
By “graduated,” I mean that Waymo now operates as a stand-alone entity.
Waymo’s self-driving fleet has logged 3 million miles of real-road experience, and the results are increasingly amazing.
The company reports “disengages” at a rate of 0.20 per every 1,000 miles traveled.
A “disengage” occurs when a human driver is forced to take control of the driverless vehicle.
On such merits, Waymo is fetching valuations as high as $70 billion.
So is a publicly traded spinoff coming?
Spinoffs are notoriously strong performers.
Data suggest that spinoffs can possess superpowers that cause them to outperform their parent by wide margins.
So I asked my senior analyst Martin Hutchinson to drill down on spinoffs.
If your portfolio doesn’t include at least one spinoff, you’re potentially costing yourself thousands.
Hutch’s full report on spinoffs is below.
Question: Martin, you’ve agreed to help us compile a comprehensive library of only the most important investment catalysts out there in the market. These are all baseline concepts that every investor needs to know, and today, we’ll be discussing spinoffs.
Let’s jump right in. Martin, tell us, what’s a spinoff?
Martin Hutchinson: A spinoff happens when a large company sells one of its divisions to another company or to a private equity fund — or floats it on the stock market.
Typically, the division that’s spun off is in a business separate from the rest of the company.
Why would they do this?
Well, since the 1970s, diversified companies have traded at the conglomerate discount. People believe they would be better managed as separate businesses.
Question: Hutchinson, we know historical data show some favorable trends with spinoffs. In fact, when they spin off from their parent company, oftentimes the spinoff outperforms the parent. Are these the same data you’re seeing?
Martin Hutchinson: Yes, that’s right. And it’s pretty clear why it would happen.
The spinoffs create a focused business. They eliminate bureaucracy and the conglomerate discount. Plus, you’re creating a smaller company, which, frankly, is generally more efficient.
It also gives the possibility of cutting costs in the spinoff, since you get rid of bureaucracy. And of course, even the legacy business can cut some costs, as well.
That’s the good side.
The bad side is that spinoffs allow management to play games, rewarding themselves at each stage of the spinoff with payouts and new options.
Question: There always seems to be a downside, right? So what are some of these games management might play?
Martin Hutchinson: Well, you can look at the case of Kraft, which bought the British company Cadbury. Then it spun off Mondelēz as its chocolate division and merged with Heinz and then made a run at Unilever (LON:ULVR) — and now may repurchase Mondelēz.
So you’ve got it conglomerating then de-conglomerating. And frankly, the only people who make money from that sort of deal are management and the investment bankers.
Question: OK, so not all spinoffs are created equally. We have to really do some due diligence on the analysis side to make sure that the spinoff makes sense. I guess that’s a good way to put it, right?
Martin Hutchinson: Yes, absolutely. Basically, with spinoffs, workers in rich countries are generally the losers. Their jobs either get moved to poor countries or eliminated altogether.
But on the other hand, shareholders do quite well out of them. The cash often goes to shareholders with increased leverage. That’s beneficial when you’ve got interest rates as low as they are at the moment.
The spinoff unit is often loaded with debt, because it’s a business that has a steady cash flow that can service more debt.
And for the shareholder, the spinoff is often beneficial. You get cash and you get shares in the spinoff vehicle — both of which can be attractive.
Question: It sounds to me like this doesn’t happen too frequently in the market. But when we do get news of a spinoff, it’s at least worth a quick look under the hood to see if this is something that we should be invested in.
As the expert, I’ll give you the final word on spinoffs. Hutch, go for it.
Martin Hutchinson: I think that you can often make money from the process of a spinoff. You tend to end up with some kind of bump. And so it’s good news when they announce it.
You probably don’t want to own the spinners off long term, because management’s getting too rich off your money. And indeed, if they’re trimming, they tend to cut muscle as well as fat, which can be bad for the business long term.
The Kraft Heinz group, for example, is famous for cutting costs and increasing margins, and has done very well in the stock market over the last few years. But I would say that they should wait for the next downturn, because you may find that some of their businesses have had muscle cut as well as fat.
Bottom line is, yes, own spinoffs in the short term. But don’t hold on to them for too long.
Question: Spinoffs in the short term. Thanks for your time, Hutch.
Martin Hutchinson: Great pleasure.
Question: This is Wall Street Daily, signing off.