Marrying his passion for thoroughbred racing with his professional expertise in financial markets, Sam Ellis struck upon an idea.
Fast forward three years and Ellis is one of the four-man management team, advised by Chris Waller and Bill Mitchell, ready to launch the Australian Stallion Fund, an innovative thoroughbred investment fund which will look to capitalise on the strength of the Australian stallion market.
"I had the idea about three years ago. I was fortunate enough to race Zoustar (Northern Meteor) , which set the light off a little bit about the asset class in itself," Ellis told TDN AusNZ.
Zoustar's winning connections, including Sam Ellis and trainer Chris Waller
Having maintained breeding rights in Zoustar, who is now one of the rising star stallions of the Australian industry, Ellis recognised the opportunity to target what were statistically undervalued stallions in what was an as-yet unexplored aspect of the market.
Bringing together a team with significant financial markets and funds management experience and adding in the thoroughbred expertise of Waller and Mitchell, ASF is aiming to 'moneyball stallions', by applying a level of analytics which identifies active sires which are well-positioned for investment.
"I began to look at them (stallions) a little like fixed-interest securities, like a bond in itself. They are cash flow producing assets that can be modelled and priced to solve for a desired yield. Apply a diversified portfolio approach and you really have a funds management model here. We thought: how can we make it happen?" he said.
"They are cash flow producing assets that can be modelled and priced to solve for a desired yield." - Sam Ellis
Ellis and his team modelled several avenues of possible investment in the thoroughbred industry, including the highly competitive yearling markets as well as broodmares, but the stallion market most closely mirrored their area of expertise, fixed income securities, and offered the best risk profile
With the key indicators for the health of the Australian thoroughbred industry very strong at the moment, including record prizemoney levels and a strong yearling market, Ellis sees a distinct opportunity to invest across a diverse range of stallions.
The Fund takes into account a stallion's age, number of seasons stood, number of mares covered, fertility and service fee amongst other things
“We started the fund after identifying the potential yields achievable in what is a very low yield environment following years of quantitative easing globally. Stallions are the safest asset within the racing industry, combined with phenomenal tail winds such as prize money, government and industry support, combined with large offshore players coming into the market, especially from Asia; we think the timing is now.”
"Stallions are the safest asset within the racing industry." - Sam Ellis
"We need strong prizemoney, strong turnover, this all flows through into yearling prices, profitability for the mares’ owners and then onto the stallions fees."
Applying a quantitative screen across all active sires taking into account a stallion's age, the number of seasons it has stood, the number of mares it has covered, its fertility and service fee, as well as other key stats such as the ratio of yearling sales prices to service fee and more, ASF aims to identify opportunities to invest.
Buying into stallions
In a practical sense, the Fund will raise capital which then can be used to negotiate with a range of studs to take up to a 20 per cent interest in one or several stallions on their farm. The aim is to build a portfolio of a minimum of 10 and up to 30 stallions who are at an ideal point of their career for investment.
"We’ve spent a fair bit of time with a lot of the studs. They see the benefit I believe in the long-term commercial relationship. We will be there year in, year out and our model sees us supporting a stallion in those harder years, years 3,4 and 5 of their stallion career, that's where we can come in," Ellis said.
"Our model sees us supporting a stallion in those harder years." - Sam Ellis
"Our modelling identified this as the part of the curve we want to play in. It's an interesting situation for the stud, because they aren’t used to having anyone wanting to buy a horse in Year 3."
"A lot of people see the merit in it, and they see it as one of the more innovative and smart ways of doing things. I think there is always a level of scepticism, perhaps from some of the bigger players who see us as some sort of competition."
"But I say to the studs, we are a passive chequebook alongside of you. We want to partner with you and we want to make sure every horse we are in gets the best opportunity possible."
It's a significantly different model than the current phenomenon of colts' funds, which have seen demand for top-end yearling colts skyrocket in recent years.
"There's a lot of colts' funds, and that's where some people get confused. We aren’t trying to buy yearlings and turn them into stallions. We are playing at the other end of that game, buying into proven stallions as well as potentially those off the track if we know they have a life at stud," Ellis said.
"We aren’t trying to buy yearlings and turn them into stallions." - Sam Ellis
The key to success, according to Ellis, is to diversify the stallion portfolio while being agnostic about the stud in which the stallion stands.
They are also keen to use stallion relocation as a possible lever to improving a sire's future value.
"Relocation is something we want to play a part in, jurisdictional arbitrage, call it want you want; we like the idea of strategically taking a horse from say Scone and placing it interstate. There's an opportunity for the Fund to play that role," he said.
The Fund is not aiming to buy yearlings to turn into stallions
The investors?
In terms of possible investors, Ellis feels ASF appeals to those both inside and outside the thoroughbred and bloodstock industries.
"For a mare owner, we see it as a bit of a hedge on stallion prices, because we are effectively trying to run an index on stallions. As a mare owner, I think it’s a no brainer. You can invest into a fund that takes a dividend out of the market that is actually an expense for you," he said.
"We want some breeders in there because they support the investment." - Sam Ellis
"We want some breeders in there because they support the investment. We will market the stallion ourselves and will facilitate direct bookings through our website. Having enough mare owners on our books is very important."
"For a racing investor like me, who buys yearlings, if I can get a bit of a dividend back from the cash flow producing part of the market, I’m winning. I know I am going to spend it elsewhere, whether it be yearlings or training fees."
"If you can get some sort of carry out of the market to flatten the expenses, it's great for the industry and it will encourage people to come back and support the market."
"We also want new money. People that want to take that step into the racing industry and don’t know how to do it. Holding someone's hand into the market is easy like this and if you can give them an annual dividend into the market, it will only come back to the industry I feel."
The reaction from possible investors has been overwhelmingly positive. Ellis was busy at the recent Easter Sale, doing the rounds of those at the heart of the industry,
"The feedback has been great thus far," Ellis said.
Ready To Roll
Having overcome the various legal steps and done the groundwork with studs, the next couple of months are crucial for ASF, with subscription documentation ready to go out.
"The plan is to reach that $10m by late May early June and go out and get that capital spent so we don’t miss this season," Ellis said.
"Once we go back to the market with this is what we've done, raising the last little bit of capital that we want, will hopefully be a little bit easier."
With a five-year timeline, at least, on ASF, plans are already in the works for the next iteration.
"The second fund is where we will think a lot larger and take it internationally." - Sam Ellis
"There are many plans in Fund 2. Fund 1 is a five-year fund and potentially the liquidity flows on from there into another fund. The second fund is where we will think a lot larger and take it internationally. We think the US market with that model is a really good stepping stone for us to target next," Ellis said.
What makes a business or an idea innovative is doing something that has not been done before in a way that has ever been done before.
An investment fund approach to the thoroughbred industry is nothing new, neither is investing in stallions, but bringing those two together is what does make ASF an innovator.
"We are bringing a different level of sophistication to it. We are targeting one part of the asset class and we are applying a traditional funds management model to it. It’s exciting," Ellis said.
