Edward Chang, how did you compound with 30%+ p.a. at Pledge Capital?

I had the pleasure to interview Edward Chang of Pledge Capital. Here you can find the full video of the interview and the transcript. This conversation is also available on the Good Investing Talks Podcast.

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Who is Edward Chang?

[00:00:00] Tilman Versch: It’s great to have you here, Edward, from Pledge Capital, very nice to have you. You’re currently in New York?

[00:00:07] Edward Chang: Yes, thanks for having me. I’m currently based in New York, born and bred here.

Edward’s parents as role models

[00:00:13] Tilman Versch: Great. We already had a pre-talk for our conversation, and then you told me something about your mother, and her role bringing you to investing. Maybe you want to share it with the others, it’s a great story I think.

[00:00:29] Edward Chang: Yes, for sure. Both my parents, but my mother in particular. My father as well. Both wanted me to pursue a career in investing. And they actually encouraged me to start my own business. It’s been a childhood dream of mine.

And when I started actually, she made me promise if I made a ton of money, that I would give back and try my best to invest in companies on the right side of change. My mom, she’s a very interesting woman. She founded a non-profit, a chapter of a non-profit from Taiwan, she founded a chapter here in long island.

And growing up, she ran a youth group as well, part of the organization. And every Friday, we would go and she would show us a video of some natural disaster, and she tried to convince us to give back and volunteer. So she was quite an interesting character.

The role of the mother in the first investments

[00:01:39] Tilman Versch: I think your mom brought you to investing and did let you buy the first stocks?

[00:01:45] Edward Chang: Oh yes. So she gave me some money back when I was 12, like three thousand dollars. And I bought gateway computers, it was my first stock. I was researching computers to buy, and I loved the website. I was able to because they did direct consumer, I was able to buy a cheaper computer. I was able to customize it and add a video card. So I loved it as a consumer, saving money and also just building a computer that I wanted. And ever since, I’ve been hooked, right? This was after the tech bubble, so valuations were really bombed out, it was just a very fortunate time for me to start investing.

I believe Gateway was at a single, mid-single-digit PE 2003, but pretty much anything you bought made money. I made I believe seventy percent on my first stock, in a very quick time, and I was just hooked. And I just fell in love with investing there and then. Ultimately decided to pursue this as a career. It was a hobby for a very long time.

Volunteering with the Tzu Chi Buddhist Foundation

[00:03:05] Tilman Versch: Before we go that, that’s a good point. You’re running on your page that you’re volunteering for the Tzu Chi Buddhist Foundation? I hope I spell it right.

[00:03:16] Edward Chang: Yes, Tzu Chi, you got it.

[00:03:18] Tilman Versch: Since when are you doing this?

[00:03:20] Edward Chang: Ever since I was little. So like I mentioned, my mom, she founded the long island chapter. So I’ve been part of the organization since I was one, my mom, very lucky to have my mom around as a kid. She would always bring us to the office, and we would play. And she would watch us and do her volunteering events. So it was quite a community to grow up in, right? I was surrounded by people who are Buddhist. My father is Catholics, went to a Montessori. So surrounded by good folks, that make a very positive impression on young kids. It was a great environment to grow up in.

Investing into Win-Wins for society

[00:04:10] Tilman Versch: What did you take away from it for investing?

[00:04:11] Edward Chang: That is an interesting question. I think it is a loaded topic. I think it plays into a lot of themes that we are seeing today. In college, we learn about triple bottom line, social, corporate social responsibility. It is this huge debate now, but in my opinion, there are a lot of win-wins. You can do things that are good for society and shareholders. And of course, I think there are a lot of issues with ESG investing. But just seeing this shift for example in vegetarianism and veganism at Tzu Chi, I’m not a vegan or vegetarian, but seeing how society views vegetarianism and veganism, and how that’s shifted during my life, it’s been pretty eye-opening and educational. And I think societies is always evolving, and companies are evolving. And a lot of the companies are on the right side of change, they’re evolving with the times, and they’re doing things that the consumer want. And I think there is a little bit of this angle with Avid, it’s definitely relevant. But companies that find these win-wins, can be some of the greatest home run investments if that makes sense.

Starting Pledge Capital

[00:05:51] Tilman Versch: Yes, it makes sense. We will later talk a bit about Avid in depth. But maybe let’s go back to you “lurking” around investing, and looking for an opportunity to start a business. How long did it take for you to finally decide to go for it?

[00:06:08] Edward Chang: You know I started my business when I was 26-27, so about five years now, I’m 32. And I had a career first. I started out at Deloitte in their advisory business, and then I switched over to UBS. And I covered restaurant stocks there for a while. But it was always my dream to start my own business. Five years ago, I had the benefit of friends who are doing similar things. You know my college roommate, he has his own business now, he started it before I did. And my other college roommate his wife, she also started her own business, a fashion-oriented consumer business, before me. So I think it rekindled, my friends they rekindled that itch, and my parents were very supportive of it. My father started his own business decades ago. So having that community around me made a very big difference. And ultimately, it really excited me and really inspired me to pursue this. And fast forward five years, it’s been gosh, it’s been a wonderful journey.

[00:07:37] Tilman Versch: How important was it to have this community around to survive the first years?

[00:07:42] Edward Chang: I think it’s very important. Having the right people to talk to, you know when you’re starting your own business from scratch, honestly, it can be scary. You go through a lot of challenges. And having the right people to lean on, to encourage and motivate you, who have been through something similar. Five years ago, my father gave me a great piece of advice. It’s going to take you three to four to five years to really see if this is working out, so you have to give it time. You can’t give up in year one or year two, you either decide you’re going to give it three, four, five years or don’t try. You can have a great career on Wall Street, but if you go for it, your life will be very different in 10-20 years. You’re can build something. You’re planting a tree and you’re hoping to harvest and benefit from the shade for the rest of your life. So I think it’s a very important aspect, your support group and your community.

The pledge behind “Pledge Capital”

[00:08:51] Tilman Versch: You named your firm Pledge Capital. What does it stand for, Pledge Capital?

[00:08:57] Edward Chang: You know honestly, I haven’t never really gotten into this, I don’t typically talk about it with clients. But it’s a pledge I made to my mother. She wanted me five years ago, and this is when ESG was still becoming a thing, not the powerhouse it is today. She wanted me to try and find companies or look for companies that were on the right side of change or doing good things for society. And then to try, and I don’t do this exclusively, but to try and look for win-wins and try to avoid bad companies. And also if I make a lot of money, she wanted me to promise to give back. So that’s kind of what played into the name. She’s the kind of the person who thinks if you make a positive commitment, it doesn’t hurt. It helps with your drive, if you have a mission, that makes you work harder.

Being on the right side of change

[00:10:09] Tilman Versch: It is also the way Buffett has structured his partnership. He gave away a lot of the wealth he has built in the giving pledge to the Gates foundation. So, if you’re looking for this win-win situations, does this keep you away from trouble in the companies you’re investing in?

[00:10:30] Edward Chang: Potentially. I definitely believe companies that ignore change face added risk, right? If you’re on the wrong side of change, it creates unnecessary risk. But it’s not so much that it’s a defensive move. In my opinion, it’s more of an offensive move. There’s a great adage that says the best defense is a great offense, and that’s how I kind of view the situation. Like Altria and Philip Morris are not necessarily bad investments. Or some people wonder if all the trends we’re seeing in EVs, could eventually lead to maybe in the long term trouble for the oil and gas companies. And certainly, I think there are questions around their terminal value. So yes maybe, it keeps me out of trouble. But I primarily look at it as a way to identify companies that are making very interesting changes in the world. I’m looking for companies who are growing and benefiting from the trends that we see.

Pledge Capital’s approach to investing

[00:11:46] Tilman Versch: With this, you’re already describing a kind of uniqueness of your approach. What are the factors that are unique to Pledge Capital and your approach of investing?

[00:11:59] Edward Chang: Well, it might not be unique to me, because I think a lot of really smart investors are doing similar things by focusing on the small mid-cap space. So that’s definitely a differentiating factor for Pledge Capital. Other investors like to focus on companies that are at some sort of S-curve or at a positive inflection point, or have some sort of catalyst. I love focusing on companies that are investing in their business, transforming the value proposition for its customer base. I’m always looking for young companies that are doing something really exciting such as the Joint, where I think the value proposition is fantastic. I’m also looking for more mature businesses that are undergoing some sort of change like Avid. Avid is more mature and they dominate a space. Other examples include SodaStream, which is a great story. I like these companies that are investing in some sort of new product or new strategy, or just enhancing the value proposition for their consumer. And I think when they do that, they increase their moat. Because their moat is strengthening, it increases their ability to go after their tam, and grow secularly. And so we love finding great businesses that are doing that, and so those are key parts of my strategy.

The Joint

[00:13:55] Tilman Versch: You already mentioned some of the companies you invested in. They have different business models like Avid. Avid is service for devices for the film production industry and software. The joint is Chiropractic’s I think, it is a therapy chain.

[00:14:14] Edward Chang: Right, chiropractic. So it’s similar to physical therapy. I look at it as a preventative health care company. There are a lot of studies about how if you have pain in your back, and you treat it early, you can avoid much more serious surgeries later on. You should take care of it now, when it’s a small problem and don’t let it fester. I think there’s a big benefit to preventative care. I think that it should become a much bigger thing over time.

Power Reit & cannabis farming

[00:14:52] Tilman Versch: You also have this REIT that is investing in the greenhouse farm for cannabis.

[00:15:00] Edward Chang: Investing in Power REIT was a little bit trickier, because some clients asked me, why are you getting into cannabis. Power REIT started out owning a railroad track. They bought it like 40 years ago, so it’s on the books for nothing. And it’s grown and appreciated in value as interest rates have come down. And they now invest in greenhouses, which is a more sustainable way to farm cannabis and various other products. Agriculture is a commodity, but they’re investing in these greenhouses where they use less water, and they depend on sunlight instead of electricity. So it’s a more environmental way to grow cannabis, and in my opinion for a lot of cannabis users, that’s actually really important. They like to hear that. They also like to support craft producers who have very unique strains, who have a cool story to tell. There’s a Justin Bieber song, where he talks about preferring cannabis grown from the sun, right? As opposed to when under the illegal era, a lot of this is grown indoors, and it’s very expensive to grow it indoors. You need to depend on artificial lighting. It’s more costly. So greenhouses actually have a cost advantage, versus indoor farming. There are also investors who believe that outdoor is a risk because its lower cost. But it’s very hard to grow outdoor. If you look in Canada, there’s a company called Delta 48, I forgot the exact name. But it’s really tough, you’re dealing with a lot of challenges growing outdoors. The wind, the water, it can all hurt the plant. It can reduce its quality. So a lot of the outdoor stuff is actually used for extraction. And ultimately, a company out there called Amyris will pose a risk for outdoor. There’s a couple of these bio, kind of biotech companies. They can synthesize THC for much cheaper than outdoor growing. So if I had to look out five years, assuming cannabis is legalized, you probably have greenhouses that are creating traditional cannabis product for people. And then a company like Amyris or other biotech companies who are synthesizing THC at much cheaper costs. And that’s what’s supplying the edible and concentrate market.

Commonalities in the portfolio: Sustainable growth

[00:18:50] Tilman Versch: Thank you for the insight across your portfolio. But I was wondering a bit when I read about your investments, what do they have in common? Is there a common pattern you can identify? What is it?

[00:19:02] Edward Chang: I like growth, right? I also like to find value stocks. I think the value growth debate, it’s kind of a moot argument. It’s like Ying and Yang. You can’t triangulate value without knowing the growth story. So I mean some commonalities, going back to the two buckets of stocks I like, Power REIT was undergoing a transformation, right? It was focusing on a new area. And when I found Power REIT and when we invested, it was trading at half of the NAV. The price that we paid was a mid to high single-digit, high single-digit multiple of FFO. Same with Avid, right? And Avid was, we originally pitched it a year and a half ago, and it was trading very cheap to what I thought the brand was worth, what I thought the earnings power was worth. Both Power REIT and Avid, traded at a single-digit price to income ratio. And Avid was also undergoing a transformation from perpetual software licenses to a SaaS model. And I think that’s a great transformation that by itself, because it creates a lot of value. It lowers the entry cost. It lowers the investment cost. So it’s great for new users, lowers the friction to try it. They had a free product. They have a $25 per month tier, and a $50 per month tier. So, this opens up this funnel, and it enhances there conversion. And not only that, they were investing in their product. I think AVID had a great management team that was really focused on the product and investing to simplify the product. Enhancing the user experience for the core user. And so I like transformations like the ones at both Power REIT and Avid. It fits into one of those two buckets of stocks I like to look for. A company that is going through some sort of transformation by investing in its business, and taking things into a new direction.

And the Joint is a little bit different. Although, I think with the Joint, you had a pivot. They began focusing on regional developers. These regional developers, it was a model kind of rolled out I think five years ago. Where they’re recruiting, and I’ve spoken to a lot of these regional developers. These are people with skin in the game. They’re usually successful businesses with a lot of connections. And oftentimes, most times they own one or multiple Joint franchised locations. And they go out there, and they lever their networks, to sell the franchise rights to their friends and to their connections. Lot of companies when they’re scaling, they encounter growing pains. Regional developers, not only help you grow, but it can actually reduce those growing pains. By having someone with this skin in the game to coach new franchisees, you reduce problems from growing in my opinion. So I really like that Peter Holt, the CEO of the Joint, focused on this strategy, using and leveraging regional developers. And in my opinion, it really enhanced their ability to grow quick and grow sustainably. So I guess that kind of, is a common thread. It’s some sort of underappreciated pivot that others just haven’t seen yet, and I love finding those.

[00:23:44] Tilman Versch: So you like digging value names that can become long-term compounding growth names?

[00:23:53] Edward Chang: Yes, obviously, growth investors have had a wonderful run, multi-decade run now. I think it’s important to buy what other really smart investors will come to appreciate. In my opinion, if you can find value stocks, and the Joint wasn’t necessarily a value stock, but if you can find these stocks that other really smart investors will want to buy and own long term, I think that’s a path to very strong returns. So definitely love mining within the value universe for stocks that I think are undergoing some sort of transformation. And can be viewed as compounders. And you know that’s the goal, right? To find a stock that can go up 2-3x. And then at that point maybe you have grown your confidence in management, and you believe in the story even more. And you think it can go up another two or three times in the next three years or five years. And that’s a dream to find these multi-year compounders with very attractive and strong investment stories.

Strategies on choosing companies to invest in

[00:25:17] Tilman Versch: What makes you say yes to an investment, or let me reframe the question also. But what are the hurdles for you to say yes?

[00:25:28] Edward Chang: A lot of investors have checklists, and I try to have a very simple one. I love finding companies that have a moat, and because they have a moat, they can execute and can actually achieve that TAM. So those are two very important characteristics. And then I love finding great businesses, right? Like Avid and the Joint. One area that I like to focus on is businesses with high margins.  And both of these have high margins. The franchise business, and the software business within Avid. These are very good business models. They’re both subscription type businesses. The joint is not exactly, it’s a membership, shorter lifetime. But both have a recurring revenue base. So I really like these recurring revenue models. Power REIT is similar. It collects rent. And so yes, if I had to lay on my simple checklist, it’d be a good business that can generate an attractive return on invested capital.

Management team is important too. But I think it’s not only important to identify good management teams, but I also like management teams that are kind of undervalued, where people don’t necessarily believe in them yet. Who are kind of becoming or who can become recognized as great management teams in the future. So I love what Peter Holt did with the focus on the regional developers. You also want to look for management teams with a lot of skin in the game. So with Power REIT, the CEO owns like 30% of the company, and he just invested I believe 15 million recently, he bought additional shares. So good business, good management team, a moat, and a good TAM.

Recognizing good management teams

[00:28:01] Tilman Versch: What are your measures or what is your framework to identify a management team that’s undervalued?

[00:28:08] Edward Chang: I typically want to see them investing in the business. Not necessarily buying back shares or doing things that investors want. But doing right by the customer. Like making solid long-term decisions. For example, like Angie is an area where investors have a lot of question. But when I look at that potential opportunity and that management team, I do believe they’re executing in the right direction. You can’t argue with that. They are moving the product in the right direction. And there is a lot of evidence of that. With good management teams, a lot of times we’re kind of looking backwards. I try to have somewhat of a more forward-looking approach. What are the management teams that are investing in their product and thinking long term. And really trying to build something, that’s just way better than what exists now.

Timeframe for investments

[00:29:24] Tilman Versch: What is your ideal time for investing in a stock? Like how long do you want to hold it? How long term are you in your commitment to be invested?

[00:29:35] Edward Chang: Well, so we are still invested in the Joint. And it’s one of our, still one of our biggest positions. We’ve held it gosh since early 2018, March 2018-ish. And ideally, we want to hold stocks for three to five or even longer. When I build out my models, I’m looking out six-seven if not eight. Yes, I think once you get to like the 10-year mark, it becomes harder. I think my sweet spot in terms of looking out is it’s really that five, four to six-year time horizon. Where I feel like I have a lot of confidence if they’re investing.

And for me, it is also a balance. I am trying to make as high of an IRR for my investors as possible. Those are my incentives. So it doesn’t necessarily make sense for me to hold super long term, like seven to ten years. But I think there’s a lot of alpha to be made investing with a three to five-year time horizon, which is already quite a deal longer than traders and other market participants. Once a stock becomes super recognized, and everyone knows the idea, you start to lose your alpha to some extent.

I do look for punch cards that I will always want to hold. But maybe not in the same size. We can run pretty concentrated. I have like a mental max size of say 25% of the portfolio. And I have held a position of that size for three years, four years. And Avid, we obviously still plan to hold for a very long time. But it depends, right? A lot of it depends on the situation. We’re always monitoring the risk. If the risks become a problem, that’s one reason we’ll move on. If the IRR drops significantly, and we see other really attractive options. So some positions in that scenario, could be a cost of capital for us. Maybe the IRR has dropped. That becomes the hurdle rate. Like you understand the story very well, you believe a lot in the management team and in the investment story. So, you weigh all your new opportunities against that. And if we find something where we really believe in the story, we’ll look to trim. We’ll look to trim into you know big moves, and so that we can finance other investments. So that’s kind of how I think.

I do want to try to hold positions for a long time. Because I think that’s one of the biggest mistakes you can make. Kind of thinking back to this Phillip Fisher quote. The gist is that billions have been lost by investors selling too soon when it would have been more prudent to hold on because you know those investments are still going to be multi-baggers.

Return from investments in 3-5 years

[00:33:33] Tilman Versch: Before that, maybe like you said you have this three to five years’ time frame where you build an investment. What is the return you expect from an investment in this time?

[00:33:45] Edward Chang: You know typically, we’re very interested if we can find an IRR of 30 percent. Maybe 20% on the low end. Sometimes you find things that are a little higher than that. And obviously, the IRR it’s just kind of our best guess, what we’re willing to underwrite. And that’s the kind of IRR that I feel like you can find in that three to five-year time horizon. And sometimes they get brought forward, you know it’s a particularly compelling story, it can occur a lot faster. And the long-term IRR will fall as the stock price goes up. And go from 30% to say 15%. If it’s a very strong story, I think that that occurs for exceptional companies.

Deep dive into Avid

[00:34:44] Tilman Versch: So, let’s go a bit into Avid, position you like very much. How did you come across the idea? What was the first time you heard about Avid?

[00:34:55] Edward Chang: Actually, it’s from a friend of mine. He was a roommate of my roommate, good guy, very smart investor. He told me, we talk a lot. And I’ve been an investor in Autodesk, in Adobe we’ve made money in those businesses, love subscription products. And so he thought Avid was right in my wheelhouse, and so he recommended it to us, to take a look. And so that’s why we did a pretty deep dive, and we saw a lot of characteristics that we liked. It helped that we had a client who is a movie editor, and we are able to do a lot of due diligence, talk to a lot of different users. I grew up with a friend who went to NYU with me, he went to Tisch. He’s also a movie editor.

We love finding these companies that have persisted for the better part of three decades. Well, about three decades. Avid is kind of like a weed, right? Just all these big giant gorillas and elephants trying to go after them. For years, investors were worried that they were going to go away. But their users, their core users are very loyal. And for a lot of reasons. It’s kind of like excel for us. There is Google sheets, but if you paid me a hundred dollars, I honestly don’t think I would switch. I just prefer excel. So for Avid users, they know all their shortcuts, they have their setup. They’ve been using it sometimes for a couple of decades. And it’s not only just excel, it’s kind of like a hybrid Microsoft and excel. Where they have plugins. So it’s almost like the operating system with apps, with all these plugins that are very important. So that’s what initially drew me to the business, and that’s how I found out about it.

[00:37:30] Tilman Versch: What else did you like about Avid?

[00:37:32] Edward Chang: With Avid, I really liked the management team and the risk/reward, and just the potential there. And let me elaborate. They’re very dominant in Hollywood, vast majority, of Hollywood movies and TV shows are edited on their software.

And kind of going back, I wanted to bring in the fact that hardware is very important component. The integration between software and hardware is very important. A lot of big studios, big clients, they just don’t want to switch to something where there’s a lot of different vendors, it isn’t as well integrated because they’re working on multi-million dollar projects. And it’s just not worth it for them, to save on their Avid subscription by you know going somewhere else. it’s just a cost of doing business, right?

So going back to your new question, what else I liked. So the management team, the opportunity, the potential. I think Prosumer has always been called out by investors as an opportunity. But I actually really liked that this current management team was investing in their core product. Before really going after this Prosumer market. The Prosumer market was always an opportunity, but you can’t take your eye off the ball. Which is your core business with your Hollywood studios. So they were investing into that business. Developing cloud products, developing SaaS products. Really focusing on security, and reliability of their cloud-based solutions. They were listening to the Disney’s and HBO’s of the world. There was a media consortium of studios, laying out the move into the cloud and Avid was listening, right? They were investing in this area, they were looking for partnerships. They rely a lot on third parties like plug-in developers and partners like Microsoft to help them. And so I really like that they had a product-focused CEO, he was the product guy who took over as CEO. And if you give the product guy the reins, he’s going to invest in their product. And I liked what he was doing, investing in their core. Solidifying their moat and listening to customers. Solidifying that competitive advantage around their core business, before attacking Prosumer.

And I believe that’s playing out. I think at this point, the moat for the core business has moved in the right direction and we’re seeing tangible results. It’s obviously been accelerated by the pandemic. The pandemic broke the mold. It made customers believe you can trust these very highly paid editors to get their job done working remote. They can deliver on time. So it broke the mold and broke the thinking that existed for decades, and there was kind of this cultural inertia. That changed and accelerated the shift to remote. And it also made disaster preparedness, resiliency of your infrastructure. Like very important issues for I.T. executives within the media industry.

So definitely the pandemic helped, but they were moving in this direction.

And just the last point on this, it’s very hard to get a professional to consider a Prosumer product, in my opinion, I think that it’s tough. So to solidify that and then shift to a Prosumer market, where I think the tables are completely different. It’s not as hard, in my opinion, it actually easier to convince a Prosumer to consider a tool that’s used by all the pros who are the best content creators in the world. Especially, if you make it simpler, right? If you make that product simpler. If you enable more cloud collaborations.

So Pro tools is a great area to dig in and to explain that. They lowered the price to 25 or $50 a month. So we heard a great story talking to a musician, for example, he’s also a music teacher. And he has students who are literally selling fruit roll-ups, or candy on the bus to afford a pro tools subscription. I mean I think that’s just incredible, and it speaks to their opportunity in the Prosumer space, where they have a very small market share, and the market is just multiples, an order of magnitude larger than the professional market. So I really like that potential and that risk-reward setup.

Product range of Avid

[00:43:00] Tilman Versch: I mean we can go one step back and you explain what kind of products Avid offers?

[00:43:07] Edward Chang: For sure.

[00:43:07] Tilman Versch: Or this new products they launched.

[00:43:10] Edward Chang: Yes. So, Avid historically kind of going back 30 years, they created a product called a non-linear editor (NLEs). And before this, right? I was learning, you had to do it by hand, right? There’s a machine where you’re looking at individual film, and you’re slicing and combining it together. And that manual process was still done for many years after, but NLEs digitized this. In the beginning, it was still more of an organizational tool. Like you were able to fit clips together, and there’s media management, so you can go back and actually find those clips, match it with the digital version and put it together into the final product. But then eventually, all of it was done digitally. Over time, more and more of this is just done digitally. Where you’re ingest videos into a computer and just edit it. So that’s what Avid does now, right? And they acquired pro tools I believe in the mid-90s and it was a similar product but for audio.

The media composer product basically was a first mover within Hollywood, and it was used by Disney and various other studios to cut everything from long movies to TV shows to commercials. And so pretty much everything on Netflix, there’s a great chance that if you’re watching on something on Netflix, it was cut on Avid’s media composer. And then pro tools is media composer, but for audio. And their market share within the professional music space is not quite as high. But a lot of music created by most famous musicians are cut on pro tools. And so that’s what they do.

They’ve branched out, they do a lot more other things now. They have control surfaces, mixing equipment. They sell a lot of storage, both physical storage as well as cloud storage. Storage is a recurring business as well. Hard drives tend to fail, or the I.T departments they start to worry about a hard drive failing after four or five years, so there is an impetus to replace it, and storage continues to grow, and it is going to the cloud just to some extent. So it’s a business with a lot of different segments.

Value decisions by the Avid management

[00:46:02] Tilman Versch: And what did management do right for you that you could identify it as a value driver? And how did they execute?

[00:46:12] Edward Chang: Well, so like I said with the cloud product, there was something called Avid on demand. This is a new product that they’ve been creating. And they’ve worked with Azure they work with Equinix and various digital infrastructure companies.

And basically, what it is I think the idea probably came from the GaaS industry, gaming as a service. So NVidia and a lot of other gaming companies, they created a product where there’s a virtual engine running all this data, and all the engines like gaming, video editing is a very computer intense product. And not only that, but you have a virtual editing machine, you can spin it up and spin it up down from anywhere. You can access it from anywhere in the world. So it’s really good for remote work, it’s really good for these teams that work in different cities. So they basically invested, they listen to their clients and they created Avid on demand. And when we first started taking a look, this is more of a proof of concept, right? They were working with studios to test it out.

And now they just recently formally launched it, and so the commercial version is now available. And it definitely seems like that’s the way of the future. Because if gaming as a service is possible, there’s no reason, virtual editing is not possible. We spoke to some engineers around this. I’ve had a lot of conversations with people involved in the data center industry like Equinix or digital realty, just to understand this. Whether this is possible or feasible. If gaas is going to enable the ready player ones of the industry, then Avid had an opportunity, and that it was possible for them to create a virtual editing machine to help with video editing.

Researching process before investing

[00:48:37] Tilman Versch: What did you do to get certainty? What was your research process to say “I want to invest in Avid” – besides doing all this interviews you already mentioned?

[00:48:50] Edward Chang: I think Philip Fisher is just a great teacher, and a lot of the things that he teaches or lessons and case studies that he shared, they’re so relevant today. And in fact, perhaps they become even more relevant over time. So everything that he talks about in his book I think is very important to do. So even just, you mentioned the Scuttlebutt research that we do, talking to a lot of industry insiders, talking to resellers and implementation providers, talking to people who are involved with the tech stack. Talking to competitors. I like to consider everything, I want to consider things from everyone’s point of view. The customer’s point of view. So getting into the mind of the customer and the end-user, and also different types of end-users.

So my wife’s a podcaster, considering whether or not it’s ever possible for her to use pro tools. And whether or not a vlogger. The tens of millions of people posting video content on YouTube, whether it’s possible they will ever consider Avid. So I think all those are important. Considering the thoughts and what’s going on behind the brain of the different stakeholders or the different parties in this ecosystem.

So, we also like to dig into the history, so looking at the former management team, and I think what an early pivot into Prosumer was. I think they weren’t quite ready for that back then. And this time, it’s different. I think there’s a lot of evidence to that. So we spend a lot of time digging into that.

Of course, I think you know everyone digs into the filings. We love looking at the past two or three years of transcripts at least. Coming from the Sellside, I used to be the model guy. I built all the models. I’ve built over 100 models the last five years. That’s a very important part of our process. I think there’s a lot of smart investors who can maybe do that in their head or do it on the back of envelopes. And we try to do that, but that’s a starting point. We like to build models of every company that we invest in, and it’s important for us to consider the long term. I think it makes it a lot easier to consider what do the financials look like? When they report the 10Q and 10K, what is the balance sheet income statement and cash flow look like, right? Thinking through all the different moving pieces. I think a model helps break it down. It may not always be necessary, but it is kind of a check box, it is better safe than sorry. So we spend time doing that as well.

The role of optionalities

[00:52:04] Tilman Versch: What did you buy into when you first bought Avid? Was it the existing business and the optionalities that you gave a certain value – or what else?

[00:52:14] Edward Chang: Exactly. So there’s a lot of uncertainty with optionality. In order to be I think a successful investor, you have to assign value to optionality and upside potential. Obviously, people are always hesitant to do that, especially at an all-time high. Going back to Ben Graham and his market, Mr. Market teaching. No one wants to be a greater fool. And you never want to be like the last person who gets in because of the high price and excitement. You underwrite this magnificent story. But you definitely have to consider that optionality and then that upside.

And it takes a lot of work. To get confidence behind it. And you obviously want to predict, you obviously want to try and predict that before the inflection point, before the S curve. It’s not always easy to do that. But that’s what excited me. Finding a company that I thought was investing in its business and approaching a tipping point. And potentially approaching that point in a year or two.

[00:53:59] Tilman Versch: How are you generally going about these optionalities, trying to give them a certain value in your model, for instance?

[00:54:09] Edward Chang: Yes, so we like to play in our model. Different scenarios, right? And so in the back of these sell-side research reports, you had, and I used to update those. You would have a bull case, a base case, and a bear case. And so to some extent, it’s basically a judgment call. What is the downside. And you have to think through, okay. So this is the worst-case scenario, this is the best-case scenario. And it is one thing to do that, what’s harder is actually figuring out how confident you are that the bull case is actually going to come around, and I think that’s really, it’s really important to play out and think through those scenarios, and really think through the risks.

For Avid, it was, I love the setup where for years and years for a decade if not more. 15 years, right? Since Final Cut Pro, investors were just worried about the risk, risks that this these two gorillas were going to come in. First Apple and then Adobe that they were going to come in, and there was this narrative. And it was supported by a lot of quantitative factors. Like Avid saw pricing declined for the better part of three decades. The pricing for their products drop in response to Apple and Adobe having much cheaper competitive products.

And that fed into the narrative the investor fear that this was not a sticky product and that it didn’t have staying power, and it was only a matter of time before Avid went away. But that didn’t happen, they persisted for like I said for three, for basically three decades like a weed. Even though there was cheaper alternatives, or maybe even free alternatives, the vast majority of their user base just never wanted to switch. They were always finding one excuse or another. And I also frankly think it’s a better product, tailor-made for professionals. Avid alone is investing into cloud. Into SaaS. Into a cloud product and virtual editing. It’s not a focus area for Apple. These businesses are giant conglomerates. They have this small professional Hollywood business. It’s not their core focus, and it’s also frankly just a drop in the bucket. So losing half a point of market share to Avid is nothing.

But whereas for Avid, gaining half a point or a point of market share per year, it’s very meaningful. So that they benefit from that focus, so looking at the bear case and figuring out, do I believe the bear case is going to happen. And looking at the all the scenarios, and figuring out what I believe in. And when I looked at Avid, I just didn’t believe the bear case was going to play out. They were addressing a lot of the problems that investors critiqued them about. For example, like education, I think they’re doing a really good job in education, reaching out to educators in the North American market. Maybe less so in emerging markets or even Europe. I mean, I think they’re moving in this direction, and they’re doing a pretty good job, very good job in North America with universities, and getting their products in the hands of up-and-coming content creators. You get them early.

So not believing in the bear case, and believing in the bull case, that’s what really got me on board, and that’s like kind of what pushed me over to take a position. And initially, we didn’t make it a very big position. It was more of a, we saw a lot of potential, and we saw a lot of potential upside. And it was a business, we wanted to see the proof of concept for cloud workout and a commercial version. We believe there’s a Prosumer opportunity, but we wanted to get more confidence around that. And for management to really talk about it, because when we got involved a year and a half ago, the marketing officer was complaining about never getting marketing, a marketing budget, enough marketing dollars to throw at this prosumer market. And she talked about the phenomenal LTV/CAT that she was seeing. She’s basically saying it was infinite, it was like thousands of X or whatever. And so we like that setup, we really liked the potential and we thought well if they execute we can add it’s going to grow organically.

And so for me, Avid is becoming a potential punch card, like it’s worth asking is this a punch card investment, right? Can it become a punch card investment. It has a strong product, strong competitive advantage. Sticky, with its core user base, it’s extremely sticky. It’s persisted, it’s existed for 30 years and huge companies have tried, and in my opinion, they’re not succeeding in destroying their share in the professional market. And then there’s strong growth potential. There’s growth potential with the cloud editing business, where maybe they can double their ARPU or tripled their ARPU over time from storage and this cloud editing business. If you can break it down, there’s an upcharge, it’s definitely an upcharge. There’s also an upcharge from switching from perpetual to subscription. They’ve called out an upcharge there. And so it’s worth wondering if this is a potential punch card, and it’s not valued at such. I think it’s a $36 dollar stock. Management thinks in 2025, they can make up to four dollars.

So you know I think people are obviously bidding up the stock, but for me, I think it’s justified. People are paying what I think is a fair price for a company of its quality. And for me, at this point, I’m trying to remember the words of Phil Fisher. You know you don’t want to sell too early, billions are lost by investors who get out when a stock could still be a very profitable investment long term. So yes, those are my thoughts.

[01:01:34] Tilman Versch: Is there anything you want to add on Avid?

[01:01:36] Edward Chang: No, I think we covered a great deal, yes.

Community exclusive: ANGI

[01:01:42] Tilman Versch: So, what is your thesis on ANGI?

[01:02:28] Edward Chang: Yes, happy to.

Hey, Tilman here. I am sure you are curious about the answer to this question, but this answer is exclusive to the members of my community, Good Investing Plus. Good Investing Plus is a place where we help each other to get better as investors day by day. If you are an ambitious long-term-oriented investor that likes to share, please apply for Good Investing Plus.

Social responsibility in investing

[01:02:30] Tilman Versch: For the end of our interview, I want to ask you about a quote you have on the front side of your material: “Social responsible investing can be highly profitable”. What is the theory behind it?

[01:02:45] Edward Chang: Oh, so I think there’s a lot of trends. I mean if you look at consumers these days, more and more I think they’re willing to vote with their feet and their dollars behind socially responsibility. So it’s not just things that are just no-brainer good for them, like with ANGI.

So for example, Avid, right? In Hollywood, I think you have a group of individuals perhaps more than any other industry who care about environmental causes. And so not only is remote work potentially good for them, from the point of view that you can avoid an L.A rush-hour commute, but it’s also environmental. You reduce smog, and congestion, and just all those carbon emissions. So more so than any other industry, I think that is a potential factor for adoption of a cloud-based editing software.

And so when you look just more broadly. And I have a case study on soda stream on my website, where we talk about the aspects that consumers care about. The health benefit of drinking Seltzer versus soda, right? So encouraging more Seltzer consumption will reducing our plastic consumption. If you’re buying soda at from the grocery store, it’s also heavy to carry back. They did some really interesting marketing around that. I think it’s really appealing. In addition to the convenience of not having to carry all this heavy soda, containers of soda, you can also save money. There’s also that angle where it’s healthier to drink Seltzer.

So I’m not necessarily saying that ESG is the only way to go, I think there’s a lot of great investments to make that are not ESG focused. That just strictly focused on consumer, and a better value prop. But I love it when I find a company that is not only increasing the value prop but doing something that consumers care about. Because it enhances in my opinion their growth potential and the investment story there.

Pledge Capital in the near future

[01:05:44] Tilman Versch: Coming back to the offspring of our conversation, your business: Where do you see Pledge Capital in five years?

[01:05:54] Edward Chang: You know I have been very fortunate, the last five years, we survived doing what I love doing. I try more now to just take time off on a Saturday. I just try not to look at stocks. But it was a hobby for me that became a profession, so I’m so happy that I can just continue to do what I’m doing. Hopefully, I’m managing more money. What I’m really focused on is just looking for new companies on the right side of change, finding those stocks, and really delivering really strong performance for my clients and my partners. That’s my first and foremost goal, to do right by them. And hopefully, just organically, we’re going to grow just because we put up good results. And as people understand our long-term investment strategy will grow organically. And so yes, hopefully, that happens. But I’m already very grateful with what Pledge Capital has become. It’s been a wonderful run already.

Networking

[01:07:19] Tilman Versch: Is there anything you want to add for the end of our interview?

[01:07:22] Edward Chang: No, except I always love networking with like-minded individuals such as yourself. So happy to chit-chat on ANGI, Avid, the joint, any other names you can find me online, just reach out. I’m at on Twitter @Edward.Chang. You can reach out to me on LinkedIn. Always happy to connect and share anything, answer any questions or talk any interesting stocks. This was a pleasure, thank you so much for having me on.

Goodbye

[01:08:00] Tilman Versch: Thank you very much for your time and your insights, they were really interesting. Thank you.

[01:08:05] Edward Chang: Awesome, hope it’s helpful.

[01:08:07] Tilman Versch: Bye to our audience.

[01:08:08] Edward Chang: Bye everyone.

[01:08:08] Tilman Versch: Bye-bye.

Disclaimer

[01:08:10] Tilman Versch: As in every video, also here is the disclaimer. You can find the link to the disclaimer below in the show notes.

The disclaimer says always do your own work, what we’re doing here is no recommendation and no advice. So please always do your own work, thank you very much.

Disclaimer