Constellation Software (CSU) recently had an investor day. Both Topicus (TOI) and Lumine (LMN) participated.

This was a rare opportunity to hear directly from those running the business. Historically, aside from Mark Leonard's annual shareholder letter, this was a group that kept a very low pubic profile. They focused on business rather than public relations (which is to be commended).

The event threw up some interesting tid bits of information that I wanted to share:

• - When asked if any of the Constellation Group would contemplate buy backs, they said that they think about any acquisition on the basis of opportunity cost using the same hurdle rates. They have always been able to acquire other companies at a valuation multiple far beneath where Constellation Group companies trade and so they can generate much higher returns by buying companies than they can by buying their own shares. Mark Miller, President of Constellation Group (successor to Mark Leonard): "I don't want to buy back shares."

• - The management team was then pressed on whether AI had resulted in any customer attrition, to which Mark Miller stated, "We really haven’t seen any AI specific attrition at any point."

• - In response to competitive threats it was said that software supplied by the group is typically mission critical for the customer and it is the reliability and dependibility of the Constellation Group that customers most value. There are often alternatives available and, in an age of AI, it is also possible to develop software in-house but both introduce unwelcome risk. This is also true when customers want to enhance the software that they currently use in order to meet ever changing commercial needs. It is all about using a vendor that they trust. David Nyland (Lumine): "... they’re going to want us to do it. They’re not going to want some new name company that they don’t know. So they will always give us the first chance..." he went on to say, "...we’ve got some big customers worldwide... we learn a lot by speaking to them by finding out what the problems are... they start to share with us ideas about what else we could acquire to help them... you have to kind of earn the position to have that conversation. It takes some time, but the power of that relationship is unbelievable." Mark Miller added that building code is one part of the solution, but having the ownership and the trust is more important. Many can deliver the first part, few can deliver the second.

• - The management team were asked about how AI is improving product development within the Constellation Group. David Wilkes (CEO of a Constellation platform), "I [had] one question, which was simply how fast can we go? If you think of a cycle time from concept through to production software, typically for us, that was measured in months... we already started measuring that in weeks. And as we went through last year, we turned that from weeks into days. And today, our cycle time is measured in hours. We can cycle from concept through to production in hours. And that means a road map that might have taken, say, a whole year... that can be literally a week now... it’s fundamentally transformational in terms of what it means for our business... last year our growth was running at about 12% per annum. To date, it’s running at 23% per annum. Our vision is that we’ll double our revenues by 2029...[and] if there’s a big enough change in velocity you don’t just do the same thing faster, you do different things, you do more things and you create new value... we’ve literally rebuilt our product from scratch. We’ve, in effect, reimagined what a new category of product might be. If you think about our old product, it was a system of record. You created, read, updated, deleted data. Our new product is a system of action... it predicts, it gives you insights. It does really clever stuff for you. So that creates a huge value for our customers and with value comes new price points doesn’t it? And with that, we are driving growth, and we’re seeing the results of that already." Bill Delaney, (CEO of a Constellation Platform) added, " We’re focused on how to leverage this capacity because what you want to understand is we just have an enormous backlog of our customers wanting us to do things for them. Some of those things that just didn’t make business sense now do make business sense." Barry Symons (CEO of another Constellation Platform) hammered the point home stating that he did not need to grow his customer base to benefit from AI, "... there’s so much more we can do for our [existing] customers and AI just makes it so much easier." This hints at a huge shift in the amount of organic growth that the group is likely to see in future. This is front and centre of management thinking as was confirmed by Mark Miller: "I’d love to see more organic growth." When questioned about how this new wave of internal development would impact margins, Jamal Baksh (CFO) stated, "....we’re probably outpacing revenue with cost today because we’re investing a lot. But it’s not a material impact on margins."

• - On the subject of culture, the senior management team are clearly all missionaries, not mercenaries (Steve Jobs parlance). It isn't about personal enrichment, instead it's about winning at a corporate level. As is the case at Berkshire Hathaway, senior management's fortunes move in lock step with those of its shareholders. They are all personally invested and do not seek huge pay checks or free equity grants. Mark Miller elected not to receive a salary or bonus as President of the group. This follows the example of his predecessor and company founder Mark Leonard who stopped taking a salary in 2014. Mark Miller: "I just carried on what Mark Leonard did. And I really care a lot about this company, and I took this job to help this company and the shareholders in it." These are the kinds of management teams to invest in. They are rare. Most CEOs pay lip service to alignment with shareholders, very few deliver. The Constellation Group ranks in the minority alongside the likes of Berkshire Hathaway.

• - When asked about whether deployment of capital was becoming more difficult, Bernie Anzarouth (CIO) stated, "Our database of these software companies is still quite large, and it's still building... and if you think of what the software world is all about, especially now with AI tools that are out there that you can get more software businesses that are created on a regular basis, the number of acquisition targets that are here today will be multiplied several fold over the next 10 years or so." However, the company has recently embarked on making investments in public listed companies - Topicus taking a ~25% stake in Asseco is a prime example. It refers to its role in these as PEMS (Permanent Engaged Minority Shareholder). It is a strategic capital allocation initiative introduced to buy long-term minority stakes in larger software or technology companies that are too large or costly to acquire outright. Bernie Anzarouth (CIO), explained, "We're trying to invest capital, and it's a very tough slog. It's tough despite the number of VMS businesses that are out there... that's why we came up with the idea of PEMS." Mark Miller added, "[We] buy and hold forever, we’re in it for the long run, and [PEMS] is another tool. The other part of the [PEMS] thesis is that the companies we want to invest in have the potential to benefit from an engaged minority shareholder. We want our [PEMS] or public portfolio companies to be run by people we respect. We want their incentives aligned with those of long-term shareholders. We like the businesses to generate high returns on incremental invested capital, and to return any excess capital to their shareholders." Additionally it was said that it will only make a PEMS investment if it believes that despite being a minority holder, it is able to exert influence over the company to bring about a positive commercial benefit. The group was asked how it values these investments relative to acquiring private companies outright. Bernie Anzarouth (CIO): "If you think of the way that we've done acquisitions to date, we buy businesses lock, stock and barrel, and it takes 1, 2, sometimes 3 years to get them up to speed with the best practices that we use to run our businesses. And so if you think of a minority shareholder and how much influence you can have on a business that you do not own 100%, it will obviously take a little while longer in order to influence management to do the right thing. And so what we believe is that we have to get them at a lower price than the businesses that we are actually acquiring at 100%. And so you will see if we measure ourselves at the same IRR that we measure 100% ownership, we would have to get these businesses at a lower price." Given that public companies typically trade at a premium to their private SME peers, it is probably fair to conclude that these PEMS will be rare.

• - The issue of the decline in stock market valuation of Constellation Group companies was raised, John Billowits (former CFO, CEO of a Constellation platform and current board member), stated that the decline was not specific to Constellation but driven by the 'AI will eat software' narrative. He made the point that since the Constellation Group is concerned with acquiring vertical market software companies, "We want valuations depressed as long as possible."

To watch the full meeting (over 4 hours), please follow this link: csisoftware.com/corpora…