Managers

For a long time, I had somewhat written off the power of a great manager. Of course I had known about great managers like Buffett, but when looking at most companies, I didn't necessarily focus on the management. And perhaps in some industries, management may matter less. But recently I've found a new appreciation for great managers. 

When I look at Amazon or Netflix, I see two CEO's with skin in the game that are honest, not afraid to experiment and keep and open mind, and focus on things that matter and things that work. 

I heard a quote recently that turned on a lightbulb in my head "I wouldn't bet against a man that led a Company to land two rockets safely back on earth, backwards!" I think you can look at Tesla and say, "this is a car company that will never its cost of capital because of its competition and continues to underdeliver on its promises." But the other way to look at it is that Elon is re-engineering capabilities in batteries, engines, cars, rockets and autonomous driving, why would you ever want to short the stock? He could invent or reengineer something that has other practical uses that could be turned into another product or Company.

Anyway, I'd like to own companies with managers who focus on the key variables of the business, who aren't focused on this years earnings and will reinvest for the future. 

  

Optionality in distribution

When VHS came out, Disney was able to distribute content like never before. Technology was a huge boon for Disney.

Fastenal created a distribution network for fasteners that provided amazing service to its customers and ultimately was then able to sell other products through the same network profitably. 

Facebook has such a big user base that it has huge embedded options in the company. Could it compete against PayPal? or Ebay? or Match.com? or Snapchat? The answer is yes, and I think Zuck has been reluctant to clone, but Facebook has the optionality to create new products. 

Tencent, Nestle, Ecolab and Netflix are also great distribution companies. And Apple App Store to some degree. 

A new hit game benefits Tencent because Tencent can distribute it to a billion users. When Ecolab or Nestle either acquires a new customer, or a new product, it can cross sell its products to help its customers scale. It's the AWS of physical restaurants! Netflix similarly benefits from better content creation over time.

It seems like some of the best businesses get better are getting and better over time and have additional optionality in selling new products. I hypothesize that the market may not do a great job at pricing in this type of optionality.  

 

Berkshire Hathaway

 I currently have a major investment in Berkshire Hathaway. I think it'll be tough for Berkshire to grow at much more than 8-10%/yr going forward, which may be in line with the market index. 

I do love the culture at Berkshire exemplified and prefer holding BRK over SPX at current prices. Management views shareholders as partners, sells stock when shares are overpriced, buys back shares when they are underpriced. Management compensation is more than fair and management is very price sensitive when it comes to acquisitions. I could go on, but in essence, Buffett and Munger were in the top 1% of managers and I think have established enough of a culture that future managers will adopt.

In terms of valuation, I think BRK can earn a 9% ROE and should trade at 1.4-1.6x book (though BV will be less valuable as BRK buys back shares). With BV ~$420B, and a MC of $500B, that it's worth closer to ~$630B and trading 15-25% cheap. BRK has grown BV by 6.9x over the last 20 yrs, which is a smidge over 10% (with a cash drag!) It's also hard very hard for me to believe that in 10 yrs BRK will  be worth less than its current $500B MC. In 2019, my estimate of normalized net income was $38B with $80-90B of excess capital. If it didn't reinvest any its cash in growth capex, it could likely pile up $500B in cash and securities in 10 yrs time.  

The downside to BRK is obviously that it does not have a large runway ahead of it and returns for the next 20 yrs should be lower than that of the last 20 yrs. There's also been the complaint that Buffett has been overly conservative with the balance sheet over this past 10 yr bull run. I actually like that he's ridiculously conservative given how levered most Fortune 500 companies are. 

In terms of the market, I think we can maybe get to $160-190 EPS in SPX by 2022. So at 3500 we're trading 20x 2022E. If I discount that back 2 yrs, we can call that close to 23.5x. Now SP does have a higher ROE, closer to 14% so it deserves a much higher multiple than BRK. But it's also much more leveraged. 

Starting to write thoughts again

 It's been quite a few years since I've written anything on this blog, but I want to start again. In part, I've been thinking more about investments and investing philosophy and wanted to write some things down to

1. make my thoughts clear

2. hold myself accountable to ideas

3. hammer in some lessons that I've learned

4. to have a record of my thoughts of the future!

I'll likely also be writing some philosophical ideas and some of the things I'm thinking about through life. Cheers!