In this podcast, Motley Fool host Ricky Mulvey and analyst Jim Gillies discuss:
Economic takeaways from a trip to Las Vegas.
Share buybacks gone wrong.
An airplane leasing company that may be taking itself private.
Plus, Motley Fool host Alison Southwick and personal finance expert Robert Brokamp celebrate Halloween and discuss some financial horror stories.
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This video was recorded on Oct. 31, 2023.
Ricky Mulvey: Happy Halloween. Watch out for cannibals. You’re listening to Motley Fool money. I’m Ricky Mulvey joined today by Jim Gillies. Jim, good to see you.
Jim Gillies: It’s good to be seen, Ricky.
Ricky Mulvey: We’re going to keep it a little later on Halloween. You just got back from Las Vegas, so you see anything weird out there?
Jim Gillies: What wasn’t weird out there? Vegas. This was my first time going to Vegas where I wasn’t working. In the past, when I’ve gone to Vegas, it’s been maximum 48 hours. Usually occasionally less than 24 fly in, go give a talk talk in a hotel conference room. Maybe they buy you dinner. Hopefully they buy you a cab back to the airport, you fly out. This is the first time I’ve actually gone and experienced Vegas. Yes, the whole the one thing that struck me was the sheer amount of raw naked capitalism flowing through that city. I was with my significant other who last time she was there was 23 years ago. She was commenting constantly how it has grown from then. She says, I thought it was pretty crazy then. My inner hard charging capitalist was very impressed by the price of everything and how everyone was willingly paying it out. If you are gauging the American economy for signs of recession, do not go to Vegas, as much as I like paying for $23 cocktails and $95 to $100 filet mignons. I am happy to have at least spent a few days out of the Grand Canyon and Hoover Dam, and I am now safely back home.
Ricky Mulvey: Wait, you said you were impressed by the price of things. It’s not like not cheap, very expensive? Yes.
Jim Gillies: Extremely expensive. From what I understand, that’s not usually the way it used to be. No, you went to Vegas and everything was super cheap. No, they have decided that making money from gaming, although of course, they’ve also changed the odds on some of their gaming stuff to favor them. There’s no $10 blackjack on the strip anymore. It’s $25 blackjack. Blackjack no longer, you know, getting a blackjack no longer pays a 50% premium. Now it pays a 20% premium. Pays six to five instead of three to two. But that’s my that’s what little gambling I do. I like to play blackjack a little bit but.
Ricky Mulvey: You got to go to the downtown Vegas, They still got it a little bit, but let’s talk about stocks. Let’s talk about stocks because, it’s the spookiest day of the year. It’s Halloween. Let’s find some cannibals. Companies like to reward their investors. They can pay out dividends, add some discipline, maybe some tax consequences. Or they can buy back shares a little bit less discipline, but significantly better tax consequences. If you’ve owned Apple for any period of time, you’ve probably benefited from share buybacks. If you’ve owned a legacy auto maker, you’ve experienced share buybacks, but you haven’t necessarily benefited. To set the table, what are the signs of a share buyback plan going right? Because we’re going to focus on, we got Jim Gillies here, so we’re going to talk about a weird little company that you haven’t heard of, [laughs] But what are the signs of some share buybacks going right?
Jim Gillies: Well, I mean, you’ve already mentioned one. That would be Apple, although I’m going to give Apple a B for their share buyback program. Even though Apple, over the past nine years, I believe, has taken out about 30% of their starting share count. Another company you may have heard of, eBay, has taken out, I believe, about 55% of their shares from about a decade ago. But the reason I give those guys B’s is because, they buy back in any environment. But they can afford to, because they’ve got massive cash generation. They’ve got super strong balance sheets and they can pay for these buybacks through their cash generation with really out touching their balance sheet. But they don’t pay any attention really, to valuation. Apple buys their shares back at ten times operating profit. They buy it back at 25 times operating profit. I’m going to suggest to you humbly, one of those is a better deal. A company like a Medpace Holdings, which I know Ricky, you and I have talked about on this show. Before. Medpace was doing fantastic in 2022, their stock got beaten down. They basically said, hey, guess what? We’re going to buy back stock. They bought back 14% that’s one seventh. They bought 14% of their company back in two quarters. Exhausted all of the cash they generated for about four or five years, took it out and the CEO bought a whole whack of shares himself, over $150 million worth. That’s a buyback program that’s done really well because the most recent quarter of the Medpace just had they bought back zero because the valuation is no longer as compelling. I like that type of buyback much better. But, you know, so we’ll give Medpace an A, We’ll give eBay and Apple the B, maybe a B plus, you know, But you really want to see a company that can afford the buybacks by generating their own cash and have at least some semblance of a look at valuation. Those are the best.
Ricky Mulvey: But the Medpace example, that’s a little bit trickier in practice because generally management teams, if they get to pick their spots, they buy back shares when valuations are high, they have extra cash flow coming in. Not necessarily when valuation is low,.
Jim Gillies: It’s like you’re setting me up for the next part.
Ricky Mulvey: Well, then let’s talk about let’s talk about air cap. I was watching.
Jim Gillies: No, I thought you wanted to talk about a bad buyback.
Ricky Mulvey: Okay. Then let’s talk about a bad buyback.
Jim Gillies: This is a company so nice, they’ve done it twice. The company is called the Sleep Number company. The makers of the Sleep Number bid the company, formerly known as Select Comfort, and they have done this maneuver twice. The first time in the mid 2000 from about 2004 through to just looking up my numbers here, from about 2004 up to about 2006 into 2007, company is very cash flow positive, they have no debt. The stock is up and up and up. Peaked at about 27, $28, then as the economy starts going up, they make beds, right? You might have, you might have heard of something happening in 2007. In 2008, some sort of a credit crisis tied to housing. Surely sales of beds is not tied to housing. Well, surprise, surprise, they were. Economy rolls over. This company starts making less cash than they had been making. They decide, well, our shares are now cheap, so we’re going to buy back our stock. They blew their entire cash hoard they’d built up over the four or five years prior. They blew entirely on buybacks.
Jim Gillies: They then said, boy, our stock is still cheap. They took on a credit line, spent another 100 plus million on buying back their stock, and then the company went cash flow negative, and the credit crisis hit. Essentially, they would have been bankrupt aside from the fact that their lenders don’t want the business, frankly. But the stock that had been close to $28 a couple of years earlier, bottomed in 2008, 2009 at $0.19. The stock started coming back. They had to sell equity to vulture financers basically to pay off their debt and have the company survive and they did. But they basically had bought shares back at $25-$30 and they sold it at 3 or $4 That is not good. That is a buyback plan done incredibly poorly. Naturally, of course, management here learned. Of course, they didn’t. The stock meanders along, they started becoming one of the greatest buyback stories around the Sleep Number Company. Heading into COVID, they were just buying back and they really accelerated during COVID because of course everyone’s trapped in their homes. Hey, we’re not going out. Let’s buy a new bed. The company again starts racking up the buybacks paying any price for a buyback. The stock at this point in time, I think it topped out around 160,150 ballpark. Now a lot of that is leveraged because the share count has shrunk so significantly from the previous go-round as they buy back, but they’re buying back at any price.
COVID ends, rolls over. They’re not making as much cash flow anymore. We might be going into recession, Vegas observations aside. Their cash generation has really fallen off a cliff, but oh, and by the way they also decided to supercharge these buybacks that got the stock. They shrunk the share account significantly. They supercharge those by borrowing almost $0.5 billion which now they have to find the money and by the way, they’re not generating cash anymore. Shame about that $0.5 billion dollar debt you have at short term debt at ever higher interest rates. The stock is gone from 150 ish, I believe it’s now down to about $16,17 so almost a 90% drop. The company is overlaid again with $0.5 billion in debt. It’s now $380 million market cap I think, and the cash generation has again disappeared. I don’t know that this stock is done falling and it’s just like OK, if we do this again remember, buybacks should be done when you are cash generative, significantly have a strong balance sheet, maybe avoid leverage fueled buybacks in most cases. If you are in a cyclical industry, perhaps don’t buy back stock on the way at industry cyclical peaks.
Ricky Mulvey: Now you want to talk about a company that has a lot of debt and is executing a ton of buybacks.
Jim Gillies: Yes, I do because I am nothing, if not persistent.
Ricky Mulvey: Contradictory.
Jim Gillies: Exactly.
Ricky Mulvey: AerCap, you were talking about this with Nick Sciple on the morning show yesterday for Motley Fool members. It’s the largest aircraft leasing company. This is a company that takes out a lot of debt so they can buy planes, lease them out to different airlines, that kind of thing. CEO Aengus Kelly, which you pointed out was weird, basically told analysts that they’re looking to take the company private at some point. It’s about what is it, a $14 billion company ish and then they’re going to take out, I think, two billion dollar worth of share pre-purchases just this year. How is this not the Sleep Number story?
Jim Gillies: Square that circle, sure. First off, you’ve said that they are not only the largest commercial airline lessor in the world. They’re also the largest commercial airline owner in the world. That’s not really well known because airlines, especially post COVID. They don’t really want to own their planes anymore. Those are expensive. AerCap, the reason this is different is because this is a lessor. Debt is raw material to a lessor. It’s like flour to Panera Bread. Now, intelligent use of that debt, of course, is required, but Aengus Kelly and the folks at AerCap have a pretty good history. A lot of that debt can be tied to various planes and what have you plus they’ve also got really long term leases with practically everyone in the world in terms of the airline companies. That doesn’t bother me, although I will point out, and a lot of their debt, or their debt got amplified a little bit in the last couple of years because they took out a distressed portfolio of leases from GE Capital. They first were using their very significant cash flows to bring down some debt to get their leverage ratio at a predetermined level, which they’ve done in the past before with previous acquisitions which they already told you they were going to do.
They got to that level, then they start buying back their stock because again, there is a significant cash flow coming from leases because they lease to everybody. They make a lot of cash and they’re able to buy back stock. A lot of the stock they bought back this year alone has actually been from GE. Because when they bought GE’s Capital or GE Capital’s portfolio of leases. They paid about half in cash, which was basically they took out debt to backstop the planes from the debt, handed that cash to GE who then paid off the debt that GE was carrying to backstop the planes. That’s a bit of a shell maneuver, but OK, fine. They paid about a half in cash/debt backstopping the planes and the other half in AerCap shares. GE wanting to monetize those shares has been doing a series of secondary offerings, and every single time they do secondary offerings to sell those shares into the market, AerCap steps up and says, hey, we’ll buy $500 million worth of shares. We’ll buy it back from you at a slightly discount price, and so they’re buying themselves back on the ship. This is another intelligently done. Once you realize that the structure of a leasing company is that debt is raw material, run your leverage ratio, the cash flows are long term and contractual.
They also sell assets. They’ll buy a new plane, they’ll run it for 8-12 years, maybe that plane has got a 25-30 year lifespan. They’re depreciating the asset all the way along, and they’re selling the plane after 8-12 years to a secondary carrier or a secondary lessor. When they do that, well, look, they’re actually booking gains on sale which means their prior earnings were understated because they have been aggressively depreciating the asset. They sell that, they book extra gains, the proceeds from those asset sales get washed into, again, new purchases of planes, but also into buybacks. It tend to be a virtuous circle and I would encourage anyone interested in the AerCap story to go back from about 2010, ’11 to just before COVID see how the cash flows they generated during good times and how they paid off the prior example of the back about 2011. They bought the aircraft portfolio from AIG, and what they did there and it’s the same playbook and you’re right, Ricky. In that conversation on the conference call with CEO Aengus Kelly, the question was, hey, your valuation is really low, would you consider taking the company private? He basically said, if the valuation stays where it is, at some point we’re being so aggressively buying back our shares. Some point is going to make sense. There’s your marching order Fools, get that valuation multiple up, otherwise the company’s going to go away.
Ricky Mulvey: Generally, when I think about aircraft companies or airline companies, I think of low margin businesses with just changing migraine level headaches. I know leasing is different than operating a airline, but looking at some of the recent earnings for JetBlue and Delta Airlines. JetBlue’s got engine problems, there’s flying limits at major airports, you got waning domestic demand, higher oil prices is a problem. There’s always something new where there’s some macro problem going on. This is a lot of the customers, so what’s so much better about leasing out planes and owning planes in the background than running an airline?
Jim Gillies: Sure. Well, it’s the lessors don’t have any of those problems you’ve just described there. That’s the problem for the airlines. The lessor buys the plane, leases it out, long term contractual cash flows, and just says have at it, and everything’s insured and what have you. They don’t have the operating costs for running these things. They don’t have the oil and gas and the fuel volatility, we’ll call it. They don’t have those as an issue. What the lessors are, they’re just asset providers. There’s the concept of discretionary spending like maybe we can squeeze an extra row into the airline if we move the seats a half inch each, they’ll on the way. Maybe we can up capacity and we can change the routes or change the elevate. There’s various ways that you can lower your costs as an airline. Another way is actually having the most up to date aircraft, what AerCap strives to provide. But the one thing that airlines can’t do without, it’s built in. They need planes.
Ricky Mulvey: Yes they do.
Jim Gillies: Your choice is either lease or own. To own is expensive, and then what do you do with the asset and especially coming out of COVID when a lot of the financial structures of the airlines are strapped. It’s just easier to lease. Again, here is AerCap.
Ricky Mulvey: Jim Gillies as always. Thank you for your time and your insight.
Jim Gillies: Thank you.
Ricky Mulvey: If you want to chat about the show, I’ve been getting more active on our Motley Fool members boards. It’s a community.fool.com. I’m still posting the show on X, but I don’t know, I’ve been batting more ideas around chatting with listeners. I’ve found that it’s generally a more positive and thoughtful place than major social media outlets. If you want to check this our, it’s community.fool.com. Up next, Halloween theme continues. Allison and Bro have some financial horror stories they will share.
Robert Brokamp: Our first story, the Naughty, Rob the Nice. We lock our doors at night to prevent the monsters from sneaking in. But that doesn’t always save us from the creepy and the crawly, because sometimes the monster is already inside the house. Our first tale begins with Mary Ellen Nice, whose husband of 61 years died and left behind a substantial estate that she could rely on for the rest of her life. Her son Chip Nice became the executor of his father’s estate and eventually moved in with Mary Ellen to take care of her as she gradually showed more and more signs of dementia. Now, in such cases a good son would take care of both his mother and her money for her benefit, but also for the benefit of his siblings since they’ll be the folks who eventually inherit the money that the mother doesn’t need. But apparently, Chip wasn’t such a good son or really a good brother. He got Mrs. Nice to execute a fraudulent power of attorney, gained access to her retirement accounts, and withdrew money for his own benefit. Now, after several years of this, one of Mrs. Nice’s daughters, Julianne, caught on to what was happening and sued to have Chip removed from their mother’s house and finances. A year later, Chip passed away and Julianne was put in charge of her mother’s care and money. She looked through all her mom’s past tax returns and saw all the retirement account distributions and all the taxes on those distributions which totaled more than $500,000. Now Julianne decided to refile the returns and seek refunds from the IRS based on the argument that these past returns overstated her mother’s income.
After all, Mrs. Nice didn’t actually get the money, so why should she have to pay taxes on it? The IRS disagreed the case went to Court and the Court sided with the IRS. Not only did Chip deplete his mother’s portfolio by making fraudulent withdrawals, but also by creating a tax bill of more than a half million dollars. The lessons here are, well, unfortunately, people become less cognitively sharp and more vulnerable as they get older, and when someone is no longer able to manage their affairs, the person who steps in is often a son or a daughter. But that doesn’t mean that person is qualified to handle the finances, either in terms of knowledge or frankly morals. Make sure you have a plan for who will manage your parents money when they’re no longer able to, and you should have a plan for your own money as you age. There should be a way for all interested parties to keep an eye on what’s happening. If one sibling is in charge of managing mom and dad’s money, the other siblings should at least get account statements or be able to log into their accounts and see what’s going on. I should point out that I learned this case from Ed Slott’s IRA Advisor Newsletter. Ed Slott being a national IRA expert and author of many books, as well as the main man behind the IRAhelp.com website, which is an excellent resource. In the newsletter, Ed wrote that a diligent financial advisor can potentially prevent elder abuse and scams. I think he’s right. Getting an objective, experienced financial expert involved might be another line of defense.
Alison Southwick: Gather around children because I’m going to tell you a story of When Dreams Become Nightmares. Join me as we enter a haunted house of financial terror because this is the curse of the HGTV Dream House. Thunder. Thanks to Stephen Guedel of Money Magazine for the article I’m about to crib, liberally. Here we go. It was probably a hot, sweltering day, because this story begins and ends in Texas. The Cruz family pulls up to their new dream home. Don, his wife Shelley, and their 10 year old Donald, marvel at the 6,000 square foot mansion that towers above them, more than seven times the size of their old house in Chicago. They can hardly believe it. After many years of trying out of 39 million people, they won HGTV’s Dream Home Sweepstakes. The Lake Front Home came fully furnished, along with $250,000 cash prize and an SUV. “I feel like I’m looking at someone else’s house, this can’t possibly be ours.” Shelley said as she beheld the massive great room with its 30 foot ceilings and six foot wide fireplace, the master bedroom suite, the hot tub, the indoor elevator, and the outdoor pool. But little did they know of the financial terror that was lurking in the shadows. In the 10 years that HGTV had been running the sweepstakes, the Cruze’s were the first to make the fatal, not fatal, but still unfortunate decision to actually live in the house.
It wasn’t long before their dream house turned into a financial nightmare. They were used to living off of $40,000 a year, so Don thought they could survive for quite some time on the $250,000 cash prize. But then the financial gremlins emerged. Upkeep on the house was $2,900 a month. Homeowners insurance ran $7,000 annually. That’s on top of a $1,000 a month mortgage payment for the house back in Chicago, which they kept just in case. Smart thinking, by the way. Fixing up the family boat, that cost $11,000. A dog run for their three dogs worth $6,000 between family and friends eager to visit the dream home. The Cruzers had company nearly every weekend for about $1,000 apiece in entertaining. They donated $40,000 to charity, and they splurged spending $5,000 on Christmas presents, $2,000 for scuba lessons, and an $1,800 go cart. Within a year, the Cruze’s had just $36,000 left from their winnings. But perhaps most terrifying of all, to pay off the tax bill of $672,000 that came with the house car and money as well as cover some other expenses. They had some unfortunate medical bills. They had decided to take out a $1,000,000 loan, which had monthly payments of around $8,000. Within three years, their fate was sealed. The family was out of money and four months behind on loan payments.
The Cruzes huddled in the living room, Don sobbed. There was nothing left to do but auction the house for sale and hope that the proceeds covered their bills. While all this happened 15 years ago, strangely, the allure of the HGTV Dream house continues to call to Don. When asked in 2020 if he regretted winning, he said he’d do it all over again. He’d return to the HGTV Dream house if he won today. I guess I need to take away here and the best one I’m seeing is classic, just take the money and run. According to the Country Living Magazine at the time of publication back in 2018, of the 21 people who’ve won the Dream Home over the year, only six or about 28% actually lived in the home for more than a year. The vast majority either took the cash alternative or sold the house back to the developer within a year of winning. The big reason for selling out is the tax bill, because that is no joke. Federal taxes alone are in the ballpark of 6 to 700,000 and if you had that lying around in the first place, you could just buy your own damn dream house. What do we know of the next HGTV House of Horrors? Not a whole lot. It’s located in Anastasia Island, Florida, near St. Augustine and this December, you too can enter to win it if you dare.
Robert Brokamp: Our third story, A Tale of Tractor Terror. No collection of tales of money mayhem is complete without a good story about bad estate planning. After all, and I’m sorry to break the news to you, but we’re all going to die and we’re all going to leave behind a bunch of stuff yet according to Caring.com’s 2023, Wills Survey, two out of three Americans do not have any type of estate planning documents that would tell our survivors who should get all that stuff. Our final story is about Cecil George Harris, a farmer in Saskatchewan who rode out into his fields on June 8, 1948. At one point, he climbed down from his tractor to do some maintenance. Unfortunately, he accidentally knocked the tractor into gear and got pinned underneath it. He wasn’t found until 10 hours later. He was still alive, but he died the next day at the hospital. Now Cecil didn’t have a will or so people thought. After Cecil’s death, neighbors noticed that there were some words scrawled under the bumper of the tractor. They read, “In case I die in this mess, I leave all to the wife, Cecil George Harris.” Now this is known as a holographic will. In other words, a handwritten will accompanied by the writer’s signature. Some courts do not consider such wills valid, but others do. For example, Aretha Franklin’s estate was recently settled based on a will she wrote in a notebook found under a couch cushion a year after her death.
In Cecil’s case, his will scrawled out on his tractor with a pocket knife, was indeed accepted by the court. However, because wills are required to be filed with the court, the fender had to be removed and kept at the courthouse. In 1996, it was donated to the University of Saskatchewan College of Law for public display, and you can find pictures of it on the interwebs. The lesson here, of course, is to get an estate plan. It’s quite shocking how many people die without estate planning documents. People you’d think would know better, people like Abraham Lincoln, Jimmy Hendrix, Martin Luther King, Sonny Bono, Picasso, Buddy Holly, Ulysses S Grant, and Prince, just to name a few. Without those documents, the courts decide who gets what, which could take a lot of time and a lot of money.
In Prince’s case, the first bank appointed to be the administrator of his estate had to drill into the vault that held the master tapes of his music, because apparently Prince was the only person who knew the combination. It took more than a year after Prince’s death for a court to name his six siblings as the legitimate heirs to his estate. It was finally settled in 2022, so six years after he died, valuing the total estate at $156 million. At that point two of the six heirs had already passed away. In Cecil Harris’ case, his quick thinking while he’s pinned under the tractor, spared his family some of the difficulties that come from dying without a will. But you can’t rely on being able to write out your intentions during your final moments. Make sure you get at least a will. But a will is just one aspect of a solid estate plan. It should also include healthcare directives that allow someone to make healthcare decisions for you, including whether you want to be kept alive by artificial means. It should also include name and guardians of your minor children if you have them and who will manage their money until they become adults. In many cases, it couldn’t include the equation of one or more trusts. All this is best arranged with the help of a qualified experienced estate planning attorney. With that, happy Halloween, everybody.
Ricky Mulvey: If you want more Spooky Stories, Bro went on our sister show, the Rule Breaker Investing podcast. To share them, the title of the episode is Financial Horror Stories, Volume 2, Scary Scams. I will include a link in today’s show notes. As always, people on the program may own stocks mentioned, and the Motley Fool may have formal recommendations for or against, so don’t buy yourself anything based solely on what you hear. I’m Ricky Mulvey. Thanks for listening. We’ll be back tomorrow
Alison Southwick has positions in Apple. Jim Gillies has positions in AerCap, Apple, Medpace, and eBay and has the following options: long January 2025 $45 calls on eBay and short January 2025 $45 puts on eBay. Ricky Mulvey has no position in any of the stocks mentioned. Robert Brokamp, CFP(R) has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple and Medpace. The Motley Fool recommends AerCap, Delta Air Lines, Sleep Number, and eBay and recommends the following options: short January 2024 $45 calls on eBay. The Motley Fool has a disclosure policy.
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