235: Cashing in with Cash Machines!

Buck: Welcome back to the show everyone. Today my guest on Wealth Formula Podcast is Daryl Heller. Daryl is a venture capitalist and an entrepreneur and the founder of Heller Capital which he is also the ceo of Heller Capital and Daryl is actually the newest partners of the Wealth Formula investor group with some exciting stuff going on over there. So with that Daryl welcome to the show.

Daryl: Thank you Buck. Pleasure to be part of the show today. I appreciate the opportunity.

Buck: Yeah and you know so just for those who don’t have an idea of exactly kind of where what exactly you’re doing there over at Heller Capital maybe you can kind of tell us about what that is and then ultimately specifically you know why you got into the business that we’re going to talk about today which is the business of automatic teller machines or ATM machines.

Daryl: Yeah I’d be glad to. So my history is telecom technology entrepreneur started my first company I was in college ended up being fortunate enough to take a few to financial events and then about the 2012 time period I moved into private equity and Heller capital group owns anywhere from 12 to 15 operating companies three to five private placements at any given time and you know has a market cap of around 500 million right now. In terms of ATMs that’s a bit more interesting in 2011, I ended up having an opportunity to invest into this space and did a significant amount of diligence and found out there’s very thick operating margins and initially saw it and still do today as a real estate play where we could capture a lot of real estate and end up monetizing that real estate with things beyond ATMs so but we’re sitting here you know many years later nine going on 10 years later and having the same success and even higher success as we’ll talk about today I’m sure than we had back in 2011. So you know that’s how I got into the space I have about 15 million in the ATM space. I’m a firm believer in the old Microsoft adage that you eat your own dog food first and accordingly you know I’ve done just that.

Buck: Yeah and we’re talking about 15 million of your own money in there. So how do you make money from owning ATMs, I mean you know give us a sense of you how does of course when you go to a chase and you already have a chase account you don’t pay any money but a lot of this has to do with you know the the the surcharges right how does that work and you know what kind of volumes do you typically see in an ATM machine in a given day?

Daryl: Yeah our ATMs are what I would call a very defined demographic that is strategic by nature, for example mall groups we deselected about five six years ago fortunately we did with covet as they got crushed there we saw online retail I’m really impacting it. So our demographic is in this kind of on banked and under bank that’s a high percentage of it, I’m sure we’ll speak more to that later but in terms of how we make money within that demographic essentially an operator, our management company charges the user you know anywhere from 2.50 to 3.50 for each transaction that they make plus on top of that the operator makes around 25 for something called interchange so their revenue stream would be surcharge plus interchange and then the rule of thumb this varies obviously Buck but the rule of thumb is 20 to 30 percent could go to the retail location, 25 to 30 percent goes into the the WF Velocity fund that we’re talking about today and then generally in that you know 40 to 55 percent is retained by the management company to operate the ATM and then the management company aggregates ATMs into large pools, blends the returns for WF Velocity fund it removes it removes seasonality the demographic issues all those other volatilities and then we as the owner of the ATM get paid a percentage of that surcharge generated at the ATM. So that’s how it works in terms of you ask volume levels if you’re going to use a rule of thumb for the type of demographics we’re in we’re generally around that in that 500 range, we get paid on slightly less than that the management company keeps insurance buffer in there for themselves which is you know how we came through Covid completely unimpacted. But that’s essentially the revenue model and how you make money with an ATM.

Buck: So one of my one of the members of an Investor Club emailed me when we started we had this offering the WF Velocity fund, which is open of course only to accredited investors, and he says the first question I had in my mind is who uses cash? Now I know I don’t use it much and you probably don’t either however statistically year over year the cash numbers are actually going up isn’t that correct. So who’s using cash?

Daryl: Yeah that is correct the monetary system’s growing both in the US there’s some interesting stats in the US and certainly at a worldwide level but yeah I asked myself the same question back in 2011 and I remember reading an article from 1999 on the Wall Street talking about cash will be dead in a few years well you know we’re now 20 plus years beyond 1999 and cash is actually growing and we now have empirical data for the last nine years to actually show that it’s incrementing up not decrementing down and and it really comes down to again that demographic issue. Buck you and I and many of the people listening to the show today are not using their ATM card much. However the focus is those that lack credit thus credit card access so again that on bank and under bank which is a large demographic already and a growing demographic so it’s those who lack credit and thus credit card access you know credit challenges those who use prepaid cards which kind of plays into the EBT side our our government welfare system is now running a prepaid it has been for many years and will continue to be so that’s a big focus of our demographic is people using their EBT called EBT card and it’s essentially their bank an ATM is seen as their bank given a lot of them don’t have bank accounts they’re working on prepaid cards. And then you know ATMs get used for transferring funds and other functions in lieu of online banking which kind of ties into you know there’s a demographic of people out there that just distrust credit cards given all the credit card breaches some of the big retailers over the past few years and just prefer to do their online on a machine versus you know through you know their version of how it would run on the internet side. And then you know there’s just a segment of people when it’s growing that simply prefer cash that maybe don’t fit into the unbanked and under bank but they prefer cash. I mean for example 10 years ago you know all employers would give you a paycheck and you’d go to the bank and cash your paycheck and take a couple hundred dollars out. Now it’s all ACH or wired. So you know at some point you have to go get cash and all banks are seeing you know traffic counts going way down they’re closing branches and they’re starting to see ATMs as a vault on the street and many of the ATMs that are in this portfolio will be branded by the big banks as well so yeah you know Buck you already own some ATMs. Some of those ATMs have some bank brands on it so if you walk up to where their user does they may think it is XYZ bank when in reality it’s your ATM and they’re just paying to brand on it and that’s the banks are seeing let’s put vaults out there so access to cash is easier and that’s changing the demographic game a bit more where there’s a broader demographic people using it. I do use an ATM more than I used to I’m not sure if that’s because I’m an investor in it and yeah have an affinity towards it now or if it’s just a real change in my behavior I’m not sure.

Buck: Yeah when it’s interesting you know you make a very interesting point I think a lot of people don’t think about this but you know there is this overall shift you know in in in the workforce of increased you know sort of atomization and you know replacing replacing individuals with technology and ATM machines have a function beyond you know getting your cash out right. So I mean surcharges for that are part of that is just you know banking period right so you’re just you have banking transactions going on there. The other thing that I think it for me at least you know and I’ve just my own noticing what people talk about in the space versus what’s reality is that you know the idea that about cash and its use going away I mean first of all as you know it’s going up as we talked about second of all there’s no legislation, there’s no legislation on this matter in the US and this is a generational change it’s not like oh gosh every every you know the next day we’re gonna wake up and there’s gonna be no cash. The reality is that people like cash. I think there’s some statistic about you know well over 70 80 percent of people oppose the idea of going to a cashless society. And the other interesting thing is that in areas like the Bay Area where various merchants have tried to you know stop taking cash they’ve actually come under fire as being quote unquote racist because they’re not open to people who primarily function in cash. Some comments on that Daryl?

Daryl: Yeah no really interesting subject matter there. I mean I put it kind of under cash relevance because it’s a question I get asked a lot of questions that I and we still do a lot of diligence on. So you know we talked about this you know demographic issue that uses EBT et cetera but then you get into just and that’s not changing that’s actually growing so our demographic is growing not not decreasing but then you get into things like you spoke about there is no pending regulation out there there is no regulatory risk on the horizon relative to cash in fact there’s a a bill out there called payment choice act of 2019, I think it’s bill 2850 it has bipartisan support, I think it has 38 co-sponsors from both sides of the aisle and that kind of plays into what you saw occurring you referenced other countries some large retailers. You got countries like india sweden spain china there’s quite a few others that made a run at becoming cashless and all reversed it right and pretty quick order then you got some large retailers I mean Walmart started some pretty big pilots just continue to pilot quickly Mcdonald’s United Airlines. I mean you can go on and on and you know those have all been reversed and it is a discrimination issue. There are some local governments, state governments that have already put regulation out there in the discriminatory side but again there’s some federal things being worked on. And then if you just go and look at the us I mean this is an interesting fact that I read recently and in the US as of 9 30 so you know less than a month ago there was 2 trillion in circulation of cash in the US and that’s a 22 increase from January of this year so you can sit here and say did covet impacted negatively you know how did how does this epidemic how does this pandemic that we’re still in today impact cash well it’s certainly not hurting yet and well one of the things anything that’s increasing it and this perception of the virus contained in bills and stuff both of those myths have been dispelled by now.

Buck: One of the things you mentioned which I thought was fascinating and I didn’t realize this is a lot of the government programs are prepaid you know ATM cards right? I mean they’re basically debit cards and people can go in and the way they’re getting their cash is through those cards so that’s that probably explains why you’ve got so much cash coming in. Anyway so I’ve invested in ATMs myself over the past three four years through you know your various funds and what’s striking to me and I did it admittedly you know for me a lot of it was a tax play and there was you know attractive returns along with the tax play and all that stuff but over the last three or four years I’ve noticed a couple of things: first the monthly payments were never missed and even during Covid 19. Again to me I was like oh Covid 19 is happening how is that you know how who’s going to get cash but to your point, I mean if a large segment of the population relies on cash to just buy the basics, you know everyone’s being forced to stay at home but they still have to eat right I mean isn’t that basically, is that what happened I mean why why was this what what made it so strong you know other than the you know the prepaid debit cards, is that pretty much the main driver you think?

Daryl: Yeah so I think it’s a couple fold but you know again if you go to the prepaid debit cards that becomes a demographic issue and you know that on banked underbanked. In fact many of those came out of this pandemic with a whole lot of money more than they were typically getting as you well know so that played into it there’s also this perception when you go into a pandemic some people want to hoard cash. We saw massive runs in large large cities which is unbelievable amount of cash out some of our ATMs up to some of our ATMs were up two to three x from what they were a year over during that time period. So Buck when you really look at Covid and you say how did we weather that storm it was really the demographic issue was these central locations. Did we have a few ATMs shut down? Of course we did but we had many ATMs that were performing at the level they had previous to Covid and many that were performing at levels well beyond what they had performed. So you know for example when you take the most impactful four week period of time we were down around 12 now you read some industry reports which include bank ATMs retail ATMs and all ATMs that were down 30 a lot of operators. But again because of this very narrow band very acute focus demographic you know that was worst case down about 10 in our 12 excuse me in our segments and then that just started to come back I will say in July year over year same store same ATM we were up literally up from 2019. August the same. I’ve yet to see september numbers but I’ll be shocked that that’s not the case so yeah we it really comes down to where our ATMs were placed we did not have many in non-essential locations and they’re in C stores and they’re in places where that demographic was actually getting having more cash than they had prior to Covid because of all the government you know supplemental or subsidy programs that are out there. And then I think there was a higher percentage of people that were using ATMs that wanted to pull cash out and they made that. The bank was closed. They couldn’t go into a bank so they had to go to their bank on the street or bank in a convenience store. So there’s a lot of really interesting elements when you start to kind of pull the layers back on that and get under it but that would be a few of them and you know it’s the reason September August and I think excuse me July August and I think September will be year over same store up from 2019.

Buck: So with all that being said is it fair to say and do we have statistics to say that, that investments in ATMs you know at least in terms of the the way we’re looking at it through this fund model is uncorrelated to the economy at large.

Daryl: Yes I would agree with that assessment. I’d suggest cash stays you know relative consistent regardless of bull or bear market for all the you know aforementioned reasons we spoke about again, you study the demographic you’re just not going to see the volatility and those EBT users in fact you’re going to see an increase to it irrespective of board bear market.

Buck: So our our Investor Club and your group have partnered partnered now and offer what we are calling the WF and as of course it’s Wealth Formula, WF Velocity fund. Can you talk about how the fund works in general? I should point out that it is a Reg D 506C offering which means it’s open to accredited investors only and that’s why we can actually talk about it on this podcast specifically but maybe you could kind of give people an idea of how that fund works and you know maybe get into the numbers a little bit etc.

Daryl: Absolutely so there’s an allocation of ATMs that have been allocated to this fund as an opportunity it’s not an obligation but it’s an allocation that we’ve worked on with WF Velocity fund on. So essentially invested Investor Club members would make an investment. The unit is 104 000 you can also purchase a half unit which is 52000 and from that the ATMs are purchased, they’re then placed by the operator or what we would call the management company in these target demographics that we’ve defined here today and then the ATM is operated by that management company, that operator. So they’re certified iso they fall under a lot of regulatory accountability. They have a sponsor bank they have annual audits, random audits to give you some security and transparency on that side. All ATMs or EMV, ADA, PCI compliant and then essentially they’re contracting some of it is in source some of it’s outsourced they’re contracting with individuals to essentially operate that ATM so you have processors the same processors your bank uses like Fiserve and alarm other ones processing these transactions. They have bailment contracts they have two large national wall street banks that’s providing the cash to put into the vaults of the ATMs they hire armored which is secure transport your loomis springs guarded trucks that you see driving around as we’re on the highway these days and then they have maintenance companies some of it is in source they have some of their own maintenance teams but they have maintenance companies that will roll a truck to an ATM. A lot of it is the reboots and a lot of the maintenance and diagnostics are done remotely these days, but they’re still you know requirements to roll trucks at times. And then they insure the cash and the ATM so if someone steals that ATM or goes in and puts a sledgehammer to it whatever it may be, you know we take on none of that risk and as noted early we then get paid a percentage of that surcharge in these blended pools to remove our volatility and you know makes for a very nice investment on our site.

Buck: Yeah so basically the idea here is that you buy a unit which is you know or a half unit so it’s either six or three ATM machines and you own those right and but really what you’re doing is you’re taking you’re you’re signing a venture agreement and then in order to sort of really mitigate that risk of volatility, the income produced by those machines goes into a larger pool, you know thousands of machines to really flatten out and stabilize the return which is then returned as a fixed return over the course of seven years of monthly dividends. You want to talk a little bit about what those returns look like? And this is subject to change, but we’re talking as of October in almost November here of 2020.

Daryl: Just a bit on the pooled or blended funds or pools of ATMs. In the early days it was variable and the challenge we had is we had investor A and investor B sitting in the same country club when one individual was Sally was getting a lot more than John just by virtue of where it was placed so to kind of level all that out to take the seasonality out to take the demographic issue out, they pull thousands of ATMs which not only manages risk for all of us but it flattens that you know that ATM yield out and doesn’t create those those volatilities up and down on a monthly basis. But yet to the returns I use that as the segway you know I’ll put free metrics out there, you have your you know your cash on cash, and the cash on cash returns here are very high but again you’re making an investment in a piece of equipment an asset that depreciates it down so you know don’t let this be misleading to you, I might say that from a conservative lens. But the real cash on cash is you know 25.2 percent and then the cash on cash when you factor in depreciation which I’m sure we’re talking about today actually goes up to 33.2 if you factor it in at 40%. So strong cash from cash but at the end of that seven year contract your ATM for something but very little because it’s a fatigue depreciated asset. Rate of return which you know I like to look at that’s eleven point three percent rate of return with depreciation is seventeen point zero percent and then you know IRR which is what many people look at in this space without depreciation would be sixteen point five percent, with depreciation you know it’s up slightly over 30.

Buck: Yeah so the internal rate of return, this is something we don’t talk a lot about frankly in the real estate world because we tend to use different language. We often talk about annualized returns. But one of the values here in using this internal rate of return number is that it takes into consideration the time value of money and so for a fixed for something that’s a depreciating asset over seven years that’s a very, very important number. And a lot of it just is about how quickly you’re getting your money back with consideration of what else you could do with the money in other words, I mean that’s sort of like the high high level explanation of internal rate of return. Now Daryl was talking specifically about with or without depreciation. You know we talk a lot on this show about tax implications of investing in tax efficient investing. And so basically this is a piece of equipment and it can be depreciated so it’s not just because of a current law but any equipment if I buy medical equipment through my business can be depreciated over five years down to zero and similarly with just like depreciation in other areas that we talk about right now, there is the idea of bonus depreciation with the Trump law or Trump tax changes at least temporarily at least for the time being you can take all of that depreciation up front. So if you had a hundred and four thousand dollar investment and you have passive income to offset, that’s important it’s a passive income, then you can offset that income with the you know passive deduction you’re getting from these machines. So that is actually a huge, huge opportunity and honestly it’s one of the main reasons that I’ve done this. I mean obviously the returns are very attractive but you throw in the additional element of an internal rate of return exceeding 30, you put that together with you know being able to write the whole thing off during bonus depreciation time really it’s like getting your money back in less than three years and to me that’s a really interesting proposition. So Daryl do you have anything to add on the tax side because it’s funny because I don’t when we did this presentation when we did it originally as a webinar I think you were probably taken aback by the sheer volume of tax questions but my group is completely obsessed with the concept of tax efficient investing.

Daryl: Yeah clearly a very sophisticated group of investors. You know personally Buck I think this is one of the more significant opportunities that our current tax you know code law has and I don’t think it’ll be here long term I mean depending on administration changes in the next what couple two weeks well would start in January but decisions made in the next couple weeks, I do think this is an opportunity when you get into 2021 that at a minimum will be reduced if not completely removed. But yeah it’s powerful because if you think about it you can depreciate 100 of your investment in that first year. So you know whatever take round numbers take five units take 520k and let’s just say you’re you’re taking bonus depreciation and you’re in that 40 tax bracket all in so essentially that’s 208000 right off of that that essentially is depreciated or coming off so your net basis if you will is 312k but you’re going to get the return of a 520k investment. Now that does presume that you have some other passive income as was noted by you you’re naturally going to have passive income generated that first year so you have that against it so you won’t need the full 208, but you know you’re gonna have some other you need some other passive investment to kind of run that financial model hypothetical that I just put out there. But it’s powerful even if it’s gonna carry forward even if you’re just shielding you know you know all your income that first year because you can get in and say your entire income your first year two years is shielded through bonus depreciation so it isn’t a very impactful tool and one that you know I’ve utilized for years and I’m hopeful that it does not go away, but I think we may be looking at a three four five six month run on this.

Buck: I agree with that on the bonus appreciation side and you know Tom Wheelwright my CPA was on the show a couple of weeks ago and we talked about this issue of bonus depreciation. It’s one of the things that he whereas a number of the things in the real estate space he does not believe are really gonna go away, he doesn’t think 1031s are going to go away et cetera. Bonus is going to go away and the question of when it goes away is really when the legislation comes up for it to go away because once it gets ratified, which it almost certainly will, then it reverts back to the date that that legislation was put forward so it seriously could be you know sometime relatively early next year. There’s certainly a possibility. So what I like about the bonus depreciation from I’ll just take one thing that I’ll really like about because you don’t have to do this over bonus depreciation but you can and and to me it’s attractive because say you don’t use that depreciation because you don’t have enough passive income well you just carry it forward and try to figure out a way to create more passive income. Te talked about with that on the Tom show those of you who’ve got surgery centers, they’ve got infusion centers, you’ve got dialysis centers, this is all passive income and if your CPAs are not calling it passive income then you should seriously consult another CPA because you have an opportunity here potentially to wipe out like all the the taxes that you would pay on that. Again I’m not a CPA but this is stuff that we’ve talked about a fair amount and I feel fairly confident and telling you that you know this is this stuff works. Daryl one one more question for you and because you know people initially I think sometimes they also hear like it’s an ATM play and it sounds a little you know, even for the alternative people it sounds a little alternative right? But this is not a mom and pop show. Talk a little bit about the partners here. Because this is a you know this is this is a top five operator this is you know we’ve got some of the some people on the board here who are you know, this is high level stuff this is not like a rookie crew. Can you talk a little bit about that?

Daryl: I’d be glad to. So yeah our operator, our management company is top five in the US. They’ve got close to 10000 ATMs they’ve got you know up times of 98.5 so they are a best-in-class operator out there and this space you know you can kind of break it down into to use your phraseology that the mom and pop and then the more larger institutional players so we’re working with a bona fide growing very successful proper profitable you know operator management company which gives us a lot of security and beyond that what really helps and I noted this earlier at risk of being redundant I’ll bring it up again and that is they have a sponsor back and you know to to do it at this level they do fall under a lot of regulatory scrutiny so you know they do have audits and process process systems financial viability audits etc so you know you to be an operator to operate at this level you have to be an organization that is best in class that does well and that operates you know fundamentally selling business.

Buck: So you’ve got an institutional quality group of individuals and operators with an institutional level, a significant portfolio, attractive monthly payments, hedge against the economy and it’s highly tax efficient so it sounds like a pretty good opportunity and I assume you would think so too. So ladies and gentlemen you can learn more about this at WFVelocity.com Daryl and I did a presentation together and you can check that out there, again that’s WFvelocity.com. Daryl I want to thank you very much for giving us your time today and explaining what I think is the you know particularly interesting investment given the time that we’re in from an economic standpoint, from a volatility standpoint, from even from you know just the tax advantages that we have currently so thank you very much for joining us.

Daryl: My pleasure. I enjoyed our time. Thank you as well.

Buck: We’ll be right back