In life, we focus more on winning, surviving rather than failure. This illusion kills our ability to calculate the probability of surviving, success. We cannot see that probability of success can be very small. We always taught about success and not taught about failure. This is known as a survivorship bias.
Many authors write a book but a few will achieve success. Thomas Edison failed many times before inventing of the bulb but today, we only remember with their success, survivor.
“I’ve missed more than 9000 shots in my career. I’ve lost almost 300 games. 26 times I’ve been trusted to take the game-winning shot … and missed. I’ve failed over and over and over again in my life. That is why I succeed.” ~ Michael Jordan
Investment – Similarly, very few have achieved success in the investment world but we overestimate the probability of success and ignore to look that many have spoiled their life. We focus on successful companies which have created a lot of wealth. When we visit any seminar or marketing people or media, they only talk about the successful companies which have created wealth but never talk about companies which have eroded wealth. Wealth creators are very few compared to wealth eroded. But we ignore the probability of losing and never try to learn from others mistakes. We all come to the stock market for becoming a next Mr Buffett but does not focus on developing ability and insights as similar to Mr Buffett & Mr Munger.
There are ~7000+ companies got listed on Indian bourse from that ~4294 companies are down almost 80%+ (many companies got unlisted or close) whereas we know that few companies which have generated wealth over a period. So ~60% of wealth destroyers are there compared to hardly ~3% wealth creators (maximum- if we see actual wealth creators for long term then that is ~1% only).
We can see that there are huge wealth destroyers companies available compared to few wealth creators. So that while investing don’t try to catch every opportunity available but prepare investment philosophy suitable to us, swing bat only when the suitable opportunity arrives. We need to prepare investment philosophy, process, circle of competence and investment style so that we can swing bat when things fall under our zone.
Mr. Buffett has mentioned that they are ready to wait for opportunities within their comfort zone. They do not like to capture each and every opportunity but want to capture an opportunity within their circle of competence. He added that they have picked up their best investment when some of the macro factors are at the peak. Here, we can also make an interpretation that we also can make a good investment when the macro is at the peak of worst situations such as 2008 global crisis, 2013 depressed economic growth with policy paralysis, etc.
Own investment approach
Book Value and Intrinsic Value
Mr. Buffett has explained how we need to look at the growing business in-terms of earning and not huge growth into the book value.
Berkshire has made an investment into the Scott Fetzer at the beginning of the year 1986 with having a collection of 22 business which is the same in the year 1994. They paid $315.20 million for Scott Fetzer which having a book value of $172.60 million.
Performance of the book value given by Mr. Buffett of Scott Fetzer –
We can see that book of the company has not grown but earnings of the company have grown approximate double. Also when Berkshire has made an investment into the company then the company has debt on balance sheet and in the year 1994, the company becomes virtually debt free. Return on equity has been improved well.
Intrinsic Value and Capital Allocation
Whenever merger and acquisition made by a management then they should have the focus that whether the intrinsic value of the company is increasing or getting diluted.
We need not make a difficult investment for getting a good return if we can able to analyze business which is easy to understand and its economic characteristic are long lasting then we can get a good payoff for our investment.
They also give priority to the existing investment rather buy a new investment. They compare that which investment opportunity is more beneficial to them.
Mistake Du Jour
Mr. Buffett has mentioned that purchasing a USAir in the year 1994 as his mistake.
WB Letter 1995
Mr. Buffett has explained regarding acquisitions that when the company has a business which is performed sometimes and worsen at few times then we need to sell the business when it is performing well. Majority of the company doing same so that when the acquisition of any company happens then majority of the time acquiring company does not get a benefit. We need to carefully analyze that whether acquisition increases a per share intrinsic value for shareholder or not.
Examples of wealth destructor companies through acquisition
One of the medical device company which has done reverse compounding of the wealth of investors –
One of the wind energy company which has done reverse compounding of the wealth of investors –
Helzberg’s Diamond Shops
Helzberg’s Diamond Shops was started by the grandfather of Barnett Helzberg, Jr. In the year 1915 with a single store which has increased to 134 stores in 23 states. Sales had grown from $10 million in the year 1974 to $282 million in the year 1994. Berkshire has taken stake into the company in the year 1995.
R.C. Willey Home Furnishings
R.C.Willey is the leading home furnishings business in Utah. Bill Child, CEO of R.C. Willey has taken over the business from his father-in-law in the year 1954 when sales were about $250,000 and he put efforts which resulted into the sales of $257 million in the year 1995. Company accounts for 50% of the furniture business in Utah.
According to Mr. Buffett, Retailing is a tough business –
Mr. Buffett has bought GEICO into his personal account when he was at the age of 20 years.
Berkshire has not only compounded business earnings but also compounded its float. Since the year 1967 to the year 1995, Company has compounded its float by the compounded rate of 20.7%.
Examples of the companies which generating 10%+ ROA and compounded float –
One of the automobile and commercial vehicle company which has created a huge wealth –
One of the automobile company which has created a wealth –
One of the FMCG Company which has created a huge wealth –
One of the Asset Management Company –
Charlie and Buffett believes to control being wrong and follow – “Just tell me the bad news; the good news will take care of itself”
The merger of Cap Cities into the Disney approved in the year 1995 where Cap Cities shareholders get a choice of cash or share of Disney (one share of Disney for one share of Cap Cities). Berkshire has selected share option for their 20 million of Cap Cities shares.
Mr. Buffett has been interested into the Disney since the year 1966 where Disney was available at ~23% of pre-tax earnings yield (23% = $21 million of pre-tax profit / $90 million of market value).
Berkshire always respects shareholders though they hold large size or small size.
On 17th January 2016, I got an opportunity to address one group of investors. I am so thankful to all my friends who provided me such an opportunity.
Investor Philosophy – Pat Dorsey
This presentation (Click here Pat Dorsey) based on what I learned from Pat Dorsey and about his philosophy.
Company A earns High profit / High Return on Capital that attracts many players to the same industry; which resulted in a higher level of competitions. Higher competitions affect to the margins of the company A and continuously increasing competition affects to the earnings of the company A. and if company A doesn’t have any Competitive Advantage then the business of company A can be in problem.
So the question is what is the competitive advantage?
Now, let me explain with a simple example that how USP helps.
Above all are benefits of having a strong USP of Rajinikanth. Now, compare these benefits to the business class.
So before understanding, what is the competitive advantage? I explain what can not be a competitive advantage?
If a company cannot able to raise the price of the products/services then we should understand that there is an absence of competitive advantage. (Eg.: – ITC Ltd. – Budget imposes the duty on cigarette but company easily able to pass those costs to the customers and that’s the reason for the survival of the company in adverse situations.)
We can easily able to recall brands. Meggie is becoming synonyms for noodles, Fevicol becomes synonyms for adhesive, and Colgate is becoming synonyms for toothpaste.
Also, the company which has the ability to change consumer behavior that Amazon has done (From traditional bookstore to online bookstore).
Patents & Licenses can be useful for protecting the interest of business (not considering strong moats because after the expiry of patents other companies also can able to register it and licenses can fall in the compliance risk).
Any psychological barrier or any cost associated with a switch from using current product/service to other product/service.
As the addition of new users make the network more and more strong and replicating such model becomes very difficult.
Low-cost producer compares to other players in the same industry.
Wide and strong moat resulted in the long-term Return on Capital generation and if absent of moat not able to provide long-term Return on Capital to the business.
Bad managers destroy business for own enjoyment and ambitions.
Now, what to select and what to avoid is up to us. If we able to select good business with the good manager then wealth creation become more effective. That is like the good horse with the good jockey that can able to win a race.