Munger speaks

Looking forward to getting a transcript of Charlie Munger yesterday at the Daily Journal shareholders’ conference.  Here the 95 year old former meteorologist and HelyTimes Hero talks to CNBC’s Becky Quick:

BECKY QUICK: Anything that rises to your radar screen now that may be under the radar for other people?

CHARLIE MUNGER: Well, nobody knows how much of this money printing we can do. And of course we have politicians who like– and are in both parties, who like to believe that it doesn’t matter how much you do. That we can ignore the whole subject and just print money as convenient. Well, that’s the way the Roman Empire behaved, then it was ruined. And that’s the way the Weimar Republic was ruined. And– it’s– there is a point where it’s dangerous. You know, and of course, my attitude when something is big and dangerous is to stay a long way away from it. Other people want to come as close as possible without going in. That’s too tricky for me. I don’t like it.

BECKY QUICK: In terms of possibly getting sucked up into it?

CHARLIE MUNGER: Yes. I– I– if there’s a big whirlpool in the river, I stay a long way away from it. There were a bunch of canoeists once that tried to– to run the Aaron Rapids. I think they were from Scandinavia. And– and the fact that the whirlpools were so big made them very eager to tackle this huge challenge. The death rate was 100%. I regard that as a normal result.

Are we in The Great Stagnation?

CHARLIE MUNGER: The opportunities that we all remember came from a demoralized period when about 90% of the natural stock buyers got very discouraged with stocks. That’s what created the opportunity for these fabulous records that my generation had. And that was a rare opportunity that came to a rare group of people of whom I was one. And Warren was another.

BECKY QUICK: So you’re talking–

CHARLIE MUNGER: And people who start now have a much less– they have lower opportunity.

BECKY QUICK: Do you think we saw a generational low after 2008, beginning of 2009?

CHARLIE MUNGER: Generational? Maybe.

Life advice:

BECKY QUICK: Charlie, so many of the people who come here come because they’re looking for advice not on business or investments as much as they’re looking for just advice on life. There were a lot of questions today, people trying to figure out what the secret to life is, to a long and happy life. And– and I just wonder, if you were–

CHARLIE MUNGER: Now that is easy, because it’s so simple.

BECKY QUICK: What is it?

CHARLIE MUNGER: You don’t have a lot of envy, you don’t have a lot of resentment, you don’t overspend your income, you stay cheerful in spite of your troubles. You deal with reliable people and you do what you’re supposed to do. And all these simple rules work so well to make your life better. And they’re so trite.

BECKY QUICK: How old were you when you figured this out?

CHARLIE MUNGER: About seven. I could tell that some of my older people were a little bonkers. I’ve always been able to recognize that other people were a little bonkers. And it helped me because there’s so much irrationality in the world. And I’ve been thinking about it for a long time, its causes and its preventions, and so forth, that I– sure it’s helped me.

I noticed a glitch in the transcript, btw.  It’s written as follows:

BECKY QUICK: Do you think we saw a generational low after 2008, beginning of 2009?

CHARLIE MUNGER: Generational? Maybe.

BECKY QUICK: We–

CHARLIE MUNGER: Yeah, I don’t think the market is going to be cheaper.

But if you listen closely it’s pretty clear Munger says “I don’t think Bank of America is going to be cheaper.”  Almost exactly nine years ago today, Feb 2009, BAC was trading at $5.57.  Today it’s at $29.12.

 


Charlie Munger Deep Cuts

In 2011 Warren Buffett and Charlie Munger came to visit The Office to film a video for the Berkshire Hathaway annual meeting. I hadn’t heard of Charlie Munger.  From the Internet I learned that he was a brilliant dude in his own right, as well as a guy Warren Buffett trusted, learned from, and considered his closest partner.

At lunchtime, everyone was huddled around the more famous Buffett, while Charlie Munger was sitting by himself.  In this way I ended up having lunch with Charlie Munger.

From his Wikipedia page I knew he’d been a meteorologist in World War II, so I asked him about that. His job was hand drawing weather maps to make predictions as the US was sending planes over the Bering Strait to our then-ally the Soviet Union.

Ever since this encounter I’ve read everything I can find by Charlie Munger.

This is a good place to start.

In my hunt for Munger deep cuts, came across this speech he gave in October 1998 at the Santa Monica Miramar Hotel to a group of institutional investors.  Stunningly blunt and direct advice on how to invest:

In the United States, a person or institution with almost all wealth invested, long term, in just three fine domestic corporations is securely rich. And why should such an owner care if at any time most other investors are faring somewhat better or worse. And particularly so when he rationally believes, like Berkshire, that his long-term results will be superior by reason of his lower costs, required emphasis on long-term effects, and concentration in his most preferred choices.

I go even further. I think it can be a rational choice, in some situations, for a family or a foundation to remain 90% concentrated in one equity. Indeed, I hope the Mungers follow roughly this course. And I note that the Woodruff foundations have, so far, proven extremely wise to retain an approximately 90% concentration in the founder’s Coca-Cola stock. It would be interesting to calculate just how all American foundations would have fared if they had never sold a share of founder’s stock. Very many, I think, would now be much better off. But, you may say, the diversifiers simply took out insurance against a catastrophe that didn’t occur. And I reply: there are worse things than some foundation’s losing relative clout in the world, and rich institutions, like rich individuals, should do a lot of self insurance if they want to maximize long-term results.

If only stupid Harvard had listened!

More:

My controversial argument is an additional consideration weighing against the complex, high-cost investment modalities becoming ever more popular at foundations. Even if, contrary to my suspicions, such modalities should turn out to work pretty well, most of the money-making activity would contain profoundly antisocial effects. This would be so because the activity would exacerbate the current, harmful trend in which ever more of the nation’s ethical young brainpower is attracted into lucrative money-management and its attendant modern frictions, as distinguished from work providing much more value to others. Money management does not create the right examples. Early Charlie Munger is a horrible career model for the young, because not enough was delivered to civilization in return for what was wrested from capitalism. And other similar career models are even worse.

More Munger deep cuts from the 2017 Shareholders Meeting of Daily Journal Co., (I found here on the wonderful Mine Safety Disclosures website but it’s in a couple places).  Daily Journal Co is a business that, as I understand it, exists on the fact that companies have to publish legal notices somewhere, and this company more or less has a monopoly on the business.

Munger gets real:

the Mungers have three stocks: we have a block of Berkshire, we have a block of Costco, we have a block of Li Lu’s Fund, and the rest is dribs and drabs. So am I comfortable? Am I securely rich? You’re damn right I am.

Could other people be just as comfortable as I who didn’t have a vast portfolio with a lot of names in it, many of whom neither they nor their advisors understand? Of course they’d be better off if they did what I did. And are three stocks enough? What are the chances that Costco’s going to fail? What are the chances that Berkshire Hathaway’s going to fail? What are the chances that Li Lu’s portfolio in China is going to fail? The chances that any one of those things happening is almost zero, the chances that all three of them are going to fail.

That’s one of the good ideas I had when I was young. When I started investing my little piddly savings as a lawyer, I tried to figure out how much diversification I would need if I had a 10 percentage advantage every year over stocks generally. I just worked it out. I didn’t have any formula. I just worked it out with my high school algebra, and I realized that if I was going to be there for 30 or 40 years, I’d be about 99% sure that it would be just fine if I never owned more than three stocks and my average holding period is three or four years.

Once I had done that with my little pencil, I just…I never for a moment believed this balderdash they teach about. Why diversification? Diversification is a rule for those who don’t know anything. Warren calls them “know-nothing investors”. If you’re a know-nothing investor, of course you’re going to own the average. But if you’re not a know-nothing —if you’re actually capable of figuring out something that will work better—you’re just hurting yourselves looking for 50 when three will suffice. Hell, one will suffice if you do it right. One. If you have one cinch, what else do you need in life?

Li Lu is himself a super interesting character.

A student leader in the Tiananmen Square protests, escapes China (with the help of Western intelligence?) ends up penniless at Columbia, hears about a lecture by Warren Buffett and misunderstands that this has something to do with a “buffet” and becomes of the most successful investors in the world?

More from Munger on a range of topics:

on Lee Kuan Yew and the history of Singapore:

Lee Kuan Yew may have been the best nation builder that ever lived. He took over a malarial swamp with no assets, no natural resources, nothing, surrounded by a bunch of Muslims who hated him, hated him. In fact, he was being spat out by the Muslim country. They didn’t want a bunch of damn Chinese in their country. That’s how Singapore was formed as a country—the Muslims spat it out. And so here he is, no assets, no money, no nothing. People were dying of malaria, lots of corruption—and he creates in a very short time, by historical standards, modern Singapore. It was a huge, huge, huge success. It was such a success, there is no other precedent in the history of the world that is any stronger.

Now China’s more important because there are more Chinese, but you can give Lee Kuan
Yew a lot of the credit for creating modern China because a lot of those pragmatic communist leaders—they saw a bunch of Chinese that were rich when they were poor and they said, “to hell with this”. Remember the old communist said, “I don’t care whether the cat is black or white, I care whether he catches mice”. He wanted some of the success that Singapore got and he copied the playbook. So I think the communist leadership that copied Lee Kuan Yew was right. I think Lee Kuan Yew was right. And of course, I have two busts of somebody else in my house. One is Benjamin Franklin, and the other is Lee Kuan Yew. So, that’s what I think of him.

on real estate:

MUNGER: Real estate?

Q: Yeah, real estate.

MUNGER: The trouble with real estate is that everybody else understands it and the people who you are dealing with and the competing with, they specialized in a little 12 blocks in a little industry. They know more about the industry than you do. And you got a lot of bullshitters and liars and brokers. So it’s not that easy. It’s not a bit easy.

Your trouble is if it’s easy—all these people, a whole bunch of ethnics that love real estate,. You know, Asians, Hasidic Jews, Indians from India, they all love real estate; they’re smart people and they know everybody and they know the tricks. And the thing is you don’t even see the good offers in real estate. They show the big investors and dealers. It’s not an easy game to play from a beginners point of view; whereas with stocks, you’re equal with everybody if you’re smart. In real estate, you don’t even see the opportunities when you’re a young person starting out. They go to others. The stock market’s always open, except venture capital. Sequoia sees the good stuff. You can open an office—Joe Shmo Venture Capitalist—startups come to me. You’d starve to death.

You’ve gotta figure out what your competitive position is in what you’re choosing. Real estate has a lot of difficulties. And those Patels from India that buy all the motels, they know more about motels than you do. They live in a god damn motel. They pay no income taxes. They don’t pay much in worker’s compensation and every dime they get, they fix up the thing to buy another motel. Do you want to compete with the Patels? Not I.

on Sumner Redstone:

Well, I never knew Sumner Redstone but I followed him because he was a little ahead of me in Law School, but Sumner Redstone is a very peculiar man. Almost nobody has ever liked him. He’s a very hard-driven, tough tomato, and basically almost nobody has ever liked him, including his wives and his children. And he’s just gone through life. There’s an old saying, “Screw them all except six and save those for pallbearers.” And that is the way Sumner Redstone went through life. And I think he was in to the pallbearers because he lived so long. So I’ve used Sumner Redstone all my life as an example of what not to do.

He started with some money, and he’s very shrewd and hard-driven. You know he saved his life by hanging while the fire was up in his hands. He’s a very determined, high IQ maniac, but nobody likes him and nobody ever did. And though he paid for sex in his old age, cheated him, you know always had one right after another.

That’s not a life you want to admire. I used Sumner Redstone all my life as an example of what I don’t want to be. But for sheer talent, drive and shrewdness, you would hardly find anybody stronger than Sumner. He didn’t care if people liked him. I don’t care if 95% of you don’t like me, but I really need the other 5%. Sumner just…

on the movie business:

And the movie business I don’t like either because it’s been a bad business-—crooked labor unions, crazy agents, crazy screaming lawyers, idiosyncratic stars taking cocaine-—it’s just not my field. I just don’t want to be in it.

on copying other investors:

Q: On the topic of cloning, do you really believe that Mohnish said that if investors look at the 13Fs of super investors, that they can beat the market by picking their spots? And we’ll add spinoffs.

MUNGER: It’s a very plausible idea and I’d encourage one young man to look at it, so I can hardly say that it has no merit. Of course it’s useful if I were you people to look at what other—what you regard as great—investors are doing for ideas. The trouble with it is that if you’d pick people as late in the game as Berkshire Hathaway, you’re buying our limitations caused by size. You really need to do it from some guy that’s operating in smaller places and finding places with more advantage. And of course, it’s hard to identify the people in the small game, but it’s not an idea that won’t work.

If I were you people, of course I would do that. I would want to know exactly what the shrewd people were doing and I would look at every one of them, of course. That would be a no-brainer for me.

on Li Lu:

 I got to tell you a story about Li Lu that you will like. Now General Electric was famous for always negotiating down to the wire and just before they were at close, they’ll add one final twist. And, of course, it always worked, the other guy was all invested, so everybody feels robbed and cheated and mad, but they get their way in that last final twist.

So, Li Lu made a couple of venture investments and he made this one with this guy. The guy made us a lot of money in a previous deal and we’re now going in with him again on another—a very high-grade guy and smart and so forth.

Now we come to the General Electric moment. Li Lu said, “I have to make one change in this investment.” It sounds just like General Electric just about to close. I didn’t tell Li Lu to do it; he did it himself. He said, “You know, this is a small amount of money to us and you got your whole net worth in it. I cannot sign this thing if you won’t let me put in a clause saying if it all goes to hell we’ll give you your money back.” That was the change he wanted. Now, you can imagine how likely we were to see the next venture capital investment. Nobody has to tell Li Lu to do that stuff. Some of these people, it’s in their gene power. It’s just such a smart thing to do. It looks generous and it is generous, but there’s huge self-interest in it.

on Al Gore:

Oh, I got another story for you that you’ll like.

Yeah get that thing (peanut brittle out of here or I’ll eat it all).

Al Gore has come into you fella’s business. Al Gore, he has made $300 or $400 million in your business and he is not very smart. He smoked a lot of pot. He coasted through Harvard with a Gentlemen’s C. But he had one obsessive idea that global warming was a terrible thing and he understandably predicted the world for it. So his idea when he went into investment counseling is he was not going to put any CO2 in the air. So he found some partner to go into investment counseling with and he says, “we are not going to have any CO2”. But this partner is a value investor. And a good one.

So what they did was Gore hired his staff to find people who didn’t put CO2 in the air. And of course, that put him into services-—Microsoft and all these service companies that were just ideally located. And this value investor picked the best service companies. So all of a sudden the clients are making hundreds of millions of dollars and they’re paying part of it to Al Gore, and now Al Gore has hundreds of millions of dollars in your profession. And he’s an idiot. It’s an interesting story and a true one.


Munger on grubstake

“The first $100,000 is a bitch, but you gotta do it. I don’t care what you have to do—if it means walking everywhere and not eating anything that wasn’t purchased with a coupon, find a way to get your hands on $100,000. After that, you can ease off the gas a little bit.”

found that Munger quote in this long but interesting post about Jim O’Shaughnessy on 25iq by Tren Griffin.

There’s a trick of capitalism, which is if you have capital, it’s not that hard to multiply it into more capital.  The hard part is getting capital in the first place.  Charlie Munger acknowledges that yes, that is a challenge, there’s no easy solution.

If you prefer Oprah to Munger, 25iq has a roundup on her lessons as well!

 


Ominous remark from Charlie Munger

Nick on Wikipedia. Thanks Nick!

Andy Serwer, editor in chief of Yahoo Finance, reports on our favorite former weatherman:

Finally, I asked Munger about Trump and reminded him he had previously said that the president’s behavior exhibited a form of “sickness.”

“I’ve mellowed because I consider it counterproductive to hate as much as both parties now hate, and I have disciplined myself,” Munger said. “I now regard all politicians higher than I used to. I did that as a matter of self-preservation.”  He said that he had re-read “The Decline and Fall of the Roman Empire,” and it made him “feel a lot better about the current political scene. We’re way ahead of the Romans at the end.”

That’s a pretty low bar, I pointed out.

“It’s very helpful — I suggest you try it,” Munger replied. “Politicians are never so bad that you don’t live to want them back. There will come a time when the people who hate Trump will wish that he was back


Key Takeaways from the Year of Business

Everybody wants one of a few things in this country.  They’re willing to pay to lose weight.  They’re willing to pay to grow hair.  They’re willing to pay to have sex.  And they’re willing to pay to learn how to get rich.

Mark Burnett 

If you buy something because it’s undervalued, then you have to think about selling it when it approaches your calculation of its intrinsic value. That’s hard. But if you buy a few great companies, then you can sit on your ass. That’s a good thing.

– Charlie Munger.

When I was a kid I played this Nintendo game.  It was kind of just a bells-and-whistles version of Dopewars.

One significant flaw in the game as a practice tool for the individual investor is it does not account for the effect of capital gains taxes, which would make the rapid fire buying and selling of this game pure madness.

In 2018, my New Year’s Resolution this will be the Year of Business.

Hope and greed vs sound business reasoning

On the speculative side are the individual investors and many mutual funds buying not on the basis of sound business reasoning but on the basis of hope and greed.

So says Mary Buffett and David Clark in Buffetology: The Previously Unexplained Techniques That Have Made Warren Buffett The World’s Most Famous Investor. 

By nature I’m a real speculative, hope and greed kinda guy.  My mind is speculative, what can I say?  Most people’s are, I’d wager.  I don’t even really know what “sound business reasoning” means.

The year of business was about teaching myself a new mental model of reasoning and thinking.

Where to begin?

Finally, when young people who “want to help mankind” come to me, asking: “What should I do? I want to reduce poverty, save the world” and similar noble aspirations at the macro-level. My suggestion is:

1) never engage in virtue signaling;

2) never engage in rent seeking;

3) you must start a business. Take risks, start a business.

Yes, take risk, and if you get rich (what is optional) spend your money generously on others. We need people to take (bounded) risks. The entire idea is to move these kids away from the macro, away from abstract universal aims, that social engineering that bring tail risks to society. Doing business will always help; institutions may help but they are equally likely to harm (I am being optimistic; I am certain that except for a few most do end up harming).

so says Taleb in Skin In The Game.

Taleb’s books hit my sweet spot this year, I was entertained and stimulated by them.  They raised intriguing ideas not just about probability, prediction and hazard, but also about how to live your life, what is noble and honorable in a world of risk.

Do you agree with the statement “starting a business is a good way to help the world”?  It’s a proposition that might divide people along interesting lines.  For example, Mitt Romney would probably agree, while Barack Obama I’m guessing would agree only with some qualifications.

I doubt most of my friends, colleagues and family would agree, or at least it’s not the first answer they might come up with.  Among younger people, I sense a discomfort with business, an assumption that capitalism is itself kind of bad, somehow.

But could most of those who disagree come up with a clearer answer for how to help mankind?

As an experiment I started thinking about businesses I could start.

My best idea for a business

Selling supplements online seems like a business to start, I remembered Tim Ferriss laying out the steps in Four Hour Work Week, but it wasn’t really calling my name.

My best idea for a business was to buy a 1955 Spartan trailer and set it up by the south side of the 62 Highway heading into Joshua Tree.  There’s some vacant land there, and many people arrive there (as I have often myself) needing a break, food, a sandwich, beer, firewood and other essentials for a desert trip.

The point itself – arrival marker of the town of Joshua Tree – is already a point of pilgrimage for many and a natural place to stop, while also being a place to get supplies.

Setting up a small, simple business like that would have reasonable startup cost, aside from my time, and maybe I could employ some people in an economically underdeveloped area.

However, selling sandwiches is not my passion.  It’s not why I get out of bed in the morning.

Starting a business is so hard is requires absolute passion.  I had a lack of passion.

Further, there was at least two big obstacles I could predict one: regulatory hurdles.

Setting up a business that sold food in San Bernadino County would involve forms, permits, regulations.

What’s more, there’d probably be all kinds of rules about what sort of bathrooms I’d need.

This seemed like a time and bureaucracy challenge beyond my capacity.

Work, in other words.  I wanted to get rich sitting on my ass, you see, not working.

Plus, I have a small business, supplying stories and jokes, and for most of the Year of Business my business was sub-contracted to HBO (AT&T).

That was more lucrative than selling PB&Js in the Mojave so I suspended this plan pending further review.

Time to pause, since I had to pause anyway.

What can you learn about “business” from books and the Internet?

No way you can learn more from reading than from starting a business, far from it.  But in the spare minutes I had that’s what I could do: learn from the business experience of others.

First up,

Excellent.  We’ve discussed Munger at length.  Most of his interviews and speeches are avail for free online

You’ve got to have models in your head. And you’ve got to array your experience—both vicarious and direct—on this latticework of models. You may have noticed students who just try to remember and pound back what is remembered. Well, they fail in school and in life. You’ve got to hang experience on a latticework of models in your head.

What are the models? Well, the first rule is that you’ve got to have multiple models—because if you just have one or two that you’re using, the nature of human psychology is such that you’ll torture reality so that it fits your models, or at least you’ll think it does. You become the equivalent of a chiropractor who, of course, is the great boob in medicine.

It’s like the old saying, “To the man with only a hammer, every problem looks like a nail.” And of course, that’s the way the chiropractor goes about practicing medicine. But that’s a perfectly disastrous way to think and a perfectly disastrous way to operate in the world. So you’ve got to have multiple models.

And the models have to come from multiple disciplines—because all the wisdom of the world is not to be found in one little academic department.

Next:

 

The Ten Day MBA: A Step By Step Guide To Mastering Skills Taught In America’s Top Business Schools by Steven A. Silbiger.

Fantastic book, it was recommended to me by an MBA grad.  Reviewed at length over here, a great cheat sheet and friendly intro to basic concepts of sound business reasoning.

The most important concept it got be thinking about was discounted cash flow analysis.  How to calculate the present and future values of money. How much you should pay for a machine that will last eight years and print 60 ten dollar bills a day and cost $20 a day to maintain?

That’s a key question underlying sound business reasoning.  How do you value an investment, a purchase, a property, a plant, a factory, or an entire business using sound business reasoning?  The prevailing and seemingly best answer is discounted cash flow analysis.

However, the more one learns these concepts, the clearer it becomes that there’s an element of art to all these calculations.

A discounted cash flow analysis depends on assumptions and predictions and estimates that require an element of guessing.  Intuition and a feel for things enter into these calculations.  They’re not perfect.

A few more things I took away from this book:

  • I’d do best in marketing
  • Ethics is by far the shortest chapter
  • A lot of MBA learning is just knowing code words and signifiers, how to throw around terms like EBITDA, that don’t actually make you wiser and smarter.  Consider that George W. Bush and Steve Bannon are both graduates of Harvard Business School.
  • To really understand business, you have to understand the language of accounting.

Accounting is an ancient science and a difficult one.  You must be rigorous and ethical.  Many a business catastrophe could’ve been prevented by more careful or ethical accounting.  Accounting is almost sacred, I can see why DFW became obsessed with it.

The Reckoning: Financial Accountability and the Rise and Fall of Nations by MacArthur winner Jacob Soll was full of interesting stuff about the early days of double entry accounting.  The image of a dreary Florentine looking forward to his kale and bread soup stood out.  There are somewhat dark implications for the American nation-state, I fear, if we take the conclusions of this book — that financial accountability keeps nations alive.

However I got very busy at the time I picked up this book and lost my way with it.

Perhaps a more practical focus could draw my attention?

Warren Buffett and the Interpretation of Financial Statements: The Search for the Company with a Durable Competitive Advantage by Mary Buffett and David Clark was real good, and way over my level, which is how I like them.

The key concept here is how to find, by scouring the balance sheets, income statements, and so on, which public companies have to tell you and are available for free, which companies have a durable competitive advantage.

The Little Book That Builds Wealth: The Knockout Formula for Finding Great Investments by Pat Dorsey

and

The Most Important Thing: Uncommon Sense For The Thoughtful Investor by Howard Marks.

are the two that my friend Anonymous Investor recommended, and they pick up the durable competitive advantage idea.  Both books have a central understanding the fact that capitalism is brutal competition, don’t think otherwise.  To prosper, you need a “moat,” a barrier competitors can’t cross.  A patent, a powerful brand, a known degree of quality people will pay more for, some kind of regulatory capture, a monopoly or at least and part of an oligarchy, these can be moats.

What we’re talking about now is not starting a business, but buying into a business.

Buying Businesses

There are about 4,000 publicly traded companies on the major exchanges in the US, and another 15,000 you can buy shares of OTC (over the counter, basically by calling up a broker).  You can buy into any of these businesses.

Charlie and I hope that you do not think of yourself as merely owning a piece of paper whose price wiggles around daily and that is a candidate for sale when some economic or political event makes you nervous. We hope you instead visualize yourself as a part owner of a business that you expect to stay with indefinitely, much as you might if you owned a farm or apartment house in partnership with members of your family.

so says Buffett.  Oft repeated by him in many forms, I find it here on a post called “Buy The Business Not The Stock.”

But how do you determine what price to pay for a share of a business?

Aswath Damodaran has a website with a lot of great information.  Mostly it convinced me that deep valuation is not for me.

Extremely Basic Valuation

Always remember that investing is simply price calculations. Your job is to calculate accurate prices for a bevy of assets. When the prices you’ve calculated are sufficiently far from market prices, you take action. There is no “good stock” or “bad stock” or “good company”. There’s just delta from your price and their price. Read this over and over again if you have to and never forget it. Your job is to calculate the price of things and then buy those things for the best price you can. Your calculations should model the real world as thoroughly as possible and be conservative in nature.

  • Martin Shkreli on his blog (from prison), 8/1/18

The simplest way to determine whether the price of a company is worth it might be to divide the price of a share of a company by the company’s earnings, P/E.

Today, on December 29, 2018:

Apple’s P/E is 13.16.

Google’s (GOOGL): 39.42.

Netflix (NFLX): 91.43.

Union Pacific Railroad (UNP): 8.99.

This suggests UNP is the cheapest of these companies (you get the most earnings per share) while NFLX is the most “expensive” – you get the least earnings).

But: we’re also betting on or estimating future earnings.  These numbers change as companies report their earnings, and the stock price goes up and down.  Two variables that are often connected and often not connected.

Now you are making predictions.

The most intriguing and enormous field in the world on which to play predictions is the stock market.

What is the stock market?

The stock market is a set of predictions.

Buying into businesses on the stock market can be a form of gambling.  Or, if you use sound business reasoning, it can be investing.

What is investing?

Investing is often described as the process of laying out money now in the expectation of receiving more money in the future.  At Berkshire we take a more demanding approach, defining investing as the transfer to others of purchasing power now with the reasoned expectation of receiving more purchasing power – after taxes have been paid on nominal gains – in the future.

More succinctly, investing is forgoing consumption now in order to have the ability to consume more at a later date.

Warren B., in Berkshire’s 2011 Letter To Shareholders.

A great thing about investing is you can learn all about it for the price of an Internet connection.  All of Buffett’s letters are free.

Here’s a roundup of quotes, ideas, points that jumped out at me from study of Warren Buffett and Charlie Munger

How to assess a public company as an investment with sound business reasoning

In researching a specific company, Buffett gathers these resources:

  • most recent 10-Ks and 10-Qs
  • The annual reports
  • News and financial information from many sources

The authors said he wants to see the most recent news stories and at least a decade’s worth of financial data.  This allows him to build up a picture of

  • The companies historical annual return on capital and equity

  • Earnings

  • Debt load

  • Share repurchases

  • Management’s record in allocating capital

(from The New Buffetology, Mary Buffett and David Clark).

Cheap stocks (using simple ratios like price-to-book or price-to-sales) tend to outperform expensive stocks.  But they also tend to be “worse” companies – companies with less exciting prospects and more problems.  Portfolio managers who own the expensive subset of stocks can be perceived as prudent while those who own the cheap ones seem rash.  Nope, the data say otherwise.

(from “Pulling The Goalie: Hockey and Investment Implications” by Clifford Asness and Aaron Brown.

This sounds too hard

Correct.  Most people shouldn’t bother.  You should just buy a low cost index fund that tracks “the market.”

What can we we expect “the stock market” to return?

The VTSAX, the Vanguard Total Stock Market Index, has had an average annual return of 7.01% since inception in 1992.  (Source)

10% is the average, says Nerd Wallet.

9.8% is the average annual return of the S&P 500, says Investopedia.

Now, whether the S&P 500 is “the market” is a good question.  We’ll return to that.

O’Shaughnessy has thought a lot about the question, it’s pretty much the main thing he’s thought about for the last twenty years or so as far as I can tell, and comes in at around 9%.

Some interesting data from here.

Munger cautions against assuming history repeats itself, in 2005:

(source)

Why Bother Trying To Beat The Market?

A good thing about the Buffettology book is they give you little problems for a specific calculator:

The Texas Instruments BA-35, which it looks like they don’t even really make anymore,.  You can get one for $100 over on Amazon.

This calculator is just nifty for working out future values of compounding principal over time.

One concept that must be mashed hard into your head if you’re trying to learn business is the power of compounding.

Let’s say you have $10,000.  A good amount of money.  How much money can it be in the future?

9% interest, compounded annually, $10,000 principal, 20 years = $61,621

15% interest, compounded annually, $10,000 principal, 20 years= $175,447

 

9% interest, compounded annually, $1,000 principal, 30 years= $13,731

15% interest, compounded annually, $1,000 principal, 30 years= $86,541


9% interest, $10,000 principal, 40 years= $314,094.2

15% interest, $10,000 principal, 40 years= $2,678,635.4

 

A significant difference.

Any edge over time adds up.

Let’s say the stock market’s gonna earn 7% over the next years and you have $10,000 to invest.  In twenty years you’ll have $38,696.

But if you can get that up to just 8%, you’ll have $46,609.57.

A difference of $8,000.

Is it worth it?  Eh, it’s a lotta work to beat the market, maybe not.

Still, you can see why people try it once we’re talking about $1,000,000, and the difference is $80,000, or the edge is 2%, and so on.

Plus there’s something fun just about beating the system.

Lessons from the race track

This book appeals to the same instinct — how to beat the house, what’s the system?

Both Buffett and Munger are interested in race tracks.  Here is Munger:

in one of his great speeches.

This might be the single most important lesson of the Year of Business.  Buffett and Munger repeat it in their speeches and letters.  You wait for the right opportunity and you load up.

“The stock market is a no-called-strike game. You don’t have to swing at everything – you can wait for your pitch. The problem when you’re a money manager is that your fans keep yelling, ‘swing, you bum!'”

“Ted Williams described in his book, ‘The Science of Hitting,’ that the most important thing – for a hitter – is to wait for the right pitch. And that’s exactly the philosophy I have about investing – wait for the right pitch, and wait for the right deal. And it will come… It’s the key to investing.”

says Buffett.

“If you find three wonderful businesses in your life, you’ll get very rich. And if you understand them — bad things aren’t going to happen to those three. I mean, that’s the characteristic of it.”

OK but don’t you need money in the first place to make money buying into businesses?

Yes, this is kind of the trick of capitalism.  Even Munger acknowledges that the hard part is getting some money in the first place.

“The first $100,000 is a bitch, but you gotta do it. I don’t care what you have to do—if it means walking everywhere and not eating anything that wasn’t purchased with a coupon, find a way to get your hands on $100,000. After that, you can ease off the gas a little bit.”

The Unknown and Unknowable

One of the best papers I read all year was “Investing in the Unknown and Unknowable,” by Richard Zeckhauser.

David Ricardo made a fortune buying bonds from the British government four days in advance of the Battle of Waterloo. He was not a military analyst, and even if he were, he had no basis to compute the odds of Napoleon’s defeat or victory, or hard-to-identify ambiguous outcomes. Thus, he was investing in the unknown and the unknowable. Still, he knew that competition was thin, that the seller was eager, and that his windfall pounds should Napoleon lose would be worth much more than the pounds he’d lose should Napoleon win. Ricardo knew a good bet when he saw it.1

This essay discusses how to identify good investments when the level of uncertainty is well beyond that considered in traditional models of finance.

Zeckhauser, in talking about how we make predictions about the Unknown and Unknowable, gets to an almost Zen level.  There’s a suggestion that in making predictions about something truly Unknowable, the amateur might almost have an edge over the professional. This is deep stuff.

“Beating the market”

When we talk about “beating the market,” what’re we talking about?

If you’re talking about outperforming a total stock market index like VTSAX over a long time period, that seems to be a lot of work to pull off something nearly impossible.

Yes, people do it, but it’s so hard to do we, like, know the names of the people who’ve consistently done it.

There’s something cool about Peter Lynch’s idea that the average consumer can have an edge, but even he says you gotta follow that up with a lot of homework.

Lynch, O’Shaughnessy – it’s like a Boston law firm around here.  I really enjoyed Jim O’Shaughnessy’s Twitter and his Google talk.

Sometimes when there’s talk of “beating the market,” the S&P 500 is used interchangeably with “the market.”  As O’Shaughnessy points out though, the S&P 500 is itself a strategy.  Couldn’t there be a better strategy?

is full of backtesting and research, much of it summarized in this article.  Small caps, low P/S, is my four word takeaway.

Narrative investing

Jim: Sure. So when I was a teenager, I was fascinated because my parents and some of my uncles were very involved in investing in the stock market, and they used to argue about it all the time. And generally speaking, the argument went, which CEO did they feel was better, or which company had better prospects. And I kind of felt that that wasn’t the right question, or questions to ask. I felt it was far more useful, or, I believed at the time that it would be far more useful to look at the underlying numbers and valuations of companies that you were considering buying, and find if there was a way to sort of systematically identify companies that would go on to do well, and identify those that would go on to do poorly. And so I did a lot of research, and ultimately came up…

says O’Shaughnessy in an interview with GuruFocus.  I’m not sure I agree.

Narrative can be a powerful tool in business.  If you can see where a story is going, there could be an edge.

would you bet on this woman’s business?

I like assessing companies based on a Google image search of the CEO, for instance.

O’Shaughnessy suggests cutting all that out, getting down to just the numbers.  But do you want to invest in, I dunno, RCI Hospitality Holdings ($RICK) (a company that runs a bunch of Hooters-type places called Bombshells) or PetMed Express ($PETS) just because they’re small caps with low p/s ratios and other solid indicators?

Actually those both might be great investments.

I will concede that narrative investing is not systematic.  I will continue to ruminate on it.

GuruFocus

Charlie Tian’s book is dense but I found it a great compression of a lot of investing principles.  It’s also just like a cool immigrant story.

The service that Charlie Tian built, GuruFocus, is a fantastic resource.

Premium membership costs $449 for a year, which is a lot, but I’d say I got way more than that in value and education from it.

J. R. Collins

His book is great, his Google talk is great.

Templeton

Investing doesn’t have to be all Munger and Buffett.  Towards the end of the Year of Business I got into Sir John Templeton.

His thing was finding the point of maximum pessimism.  Australian real estate is down?  South American mining companies are getting crushed?  Look for an opportunity there.

This guy worked above a grocery store in the Bahamas.

Great-niece Lauren carrying on the legacy.

Thought this was a cool chart from her talk demonstrating irrational Mr. Market at work even while long term trends may be “rational.”

Why bother, again?

At some point if you study this stuff it’s like, if you’re not indexing, shouldn’t you just buy Berkshire and have Buffett handle your money for you?  You can have the greatest investor who ever lived making money for you just as easily as buying any other stock.

It seems to me that there are 3 qualities of great investors that are rarely discussed:

1. They have a strong memory;

2. They are extremely numerate;

3. They have what Warren calls a “money mind,” an instinctive commercial sense.

Alice Schroeder, his biographer, talking about Warren Buffett.  I don’t have any of these.

Even Munger says all his family’s money is in Costco, Berkshire, Li Lu’s (private) fund and that’s it.

In the United States, a person or institution with almost all wealth invested, long term, in just three fine domestic corporations is securely rich. And why should such an owner care if at any time most other investors are faring somewhat better or worse. And particularly so when he rationally believes, like Berkshire, that his long-term results will be superior by reason of his lower costs, required emphasis on long-term effects, and concentration in his most preferred choices.

I go even further. I think it can be a rational choice, in some situations, for a family or a foundation to remain 90% concentrated in one equity. Indeed, I hope the Mungers follow roughly this course.

The answer is it’s fun and stimulates the mind.

A thing to remember about Buffett:

More than 2,000 books are dedicated to how Warren Buffett built his fortune. Many of them are wonderful.

But few pay enough attention to the simplest fact: Buffett’s fortune isn’t due to just being a good investor, but being a good investor since he was literally a child.

The writings of Morgan Housel are incredible.

You can read about Buffett all day, and it’s fun because Buffett is an amazing writer and storyteller and character as well as businessman.  But studying geniuses isn’t necessarily that helpful for the average apprentice.  Again, it’s like studying LeBron to learn how to dribble and hit a layup.

Can Capitalism Survive Itself?

The title of this book is vaguely embarrassing imo but Yvon Chouinard is a hero and his book is fantastic.  Starting with blacksmithing rock climbing pitons he built Patagonia.

They make salmon now?

Towards the end of his book Chouinard wonders whether our economy, which depends on growth, is sustainable.  He suggests it might destroy us all, which he doesn’t seem all that upset about (he mentions Zen a lot).

The last liberal art

Have yet to finish this book but I love the premise.  Investing combines so many disciplines and models, that’s what makes it such a rich subject.  So far I’m interested in Hagstrom’s connections to physics.  Stocks are subject to some kind of law of gravity.  Netflix will not have a P/E of 95 for forever.

Compare perception to results:

 

Dominos, Amazon, Berkshire, and VTSAX since 2005.

Stocks Let’s Talk

 

The stock market is interesting and absurd.  The stock market is not “business,” but it’s made of business, you know?

The truth is the most I’ve learned about business has come from conversation.

To continue the conversation, I started a podcast, Stocks Let’s Talk.  You can find all six episodes here, each with an interesting guest bringing intriguing perspective.

I intend to continue it and would appreciate it if you rate us on iTunes.

Key Takeaways:

  • you can get rich sitting on your ass
  • business is hard and brutal and competitive
  • you need a durable competitive advantage
  • if you are unethical it will catch up to you
  • we’re gonna need to get sustainable
  • the works of Tian, Lynch, O’Shaughnessy, Templeton, Chouinard, and Munger are worth study
  • accounting is crucial and must be done right, even then you can be fooled
  • I’m too whimsical for business really but it’s good to learn different models

screen shot 2019-01-03 at 3.10.15 pm

 

 

 

 


Tilray, Canopy, and The Canadian Marijuana Gold Rush

As part of my Year of Business I’ve been reading lots of investing websites.  An area of insane hype at the moment is Canadian marijuana stocks.

(The picks and shovels play here might be stock images of marijuana leaves).

Recreational marijuana will be legal in Canada in October, and unlike the United States, where federal regulation of the plant makes doing anything on the national level very difficult, it’s all good up there in Justin Trudeau land.

Once Constellation Brands, makers of Corona beer, made a $4 billion deal with Canopy Growth (traded on the New York Stock Exchange as CGC) it was off to the races.

I did not invest in Canopy Growth because a quick image search of CEO Bruce Linton did not inspire confidence.

An interesting aspect of Canada’s marijuana rules are that the packaging has to adhere to very strict regulation, with very little advertising.  This, it seems to me, presents kind of a Zen marketing challenge.  How will one brand distinguish itself from another?

Blessedly I have kind of a Peter Lynch advantage here.  From watching lots of Trailer Park Boys, I know that “BC Hydro” and marijuana from British Columbia is highly prized by the Canadian consumer.  Even a low information Canadian marijuana consumer might know to ask for weed from British Columbia.

Tilray, traded on the NASDAQ as TLRY, is a respected marijuana grower based in Naniamo, British Columbia.  Here is their respectable looking management team.

A few more observations:

  • It is worth remembering our Charlie Munger here.  Here he is talking in 2014 about why Berkshire Hathaway, the original textile company, was doomed:

The other rare example, of course, is Berkshire Hathaway. Berkshire started with three failing companies: a textile business in New England that was totally doomed because textiles are congealed electricity and the power rates were way higher in New England than they were down in TVA country in Georgia. A totally doomed, certain-to-fail business.

In a way, marijuana itself is congealed electricity.  I’m told power rates are cheapest in Ontario, where Canopy is based.  And of course Medicine Hat, Alberta, is the sunniest city in Canada.

Echodale Park in Medicine Hat, by Michael Ireland on Wikipedia

  • I find it interesting and a testament to the world’s absurdity that if you had eight ounces of marijuana in New York City, the minimum jail sentence is three years, while down the street billions of dollars of shares of marijuana growers are being traded.  Maybe Governor Cynthia Nixon will correct that imbalance.  (Since I first discussed this on Twitter, Tilray’s stock went up 67%)

 

  • If the President of the USA really cared about us defeating Canada, wouldn’t he work towards legalizing marijuana immediately, so that US companies could compete without Canada getting a jump on us?

 

  • At first I thought legalized marijuana would end up being just like any commodity, like corn or something.  But the technical know-how to extract and present CBD or THC as an oil or in something like a Dosist pen might give an advantage to companies with good processes.  Note this picture of a laboratory on Tilray’s website:

  • It’s my casual observation that a lot of very dumb bros, like guys who are too dumb to be in tech, are in the marijuana business.  There’s something great about a field where many of your competitors will be dumb.  (There are also many very, very smart people in this field.)

 


Warren Buffetts, real and fake

These dudes started a fake Warren Buffett account on a bet, and within a few days it was retweeted by Peggy Noonan, Kanye, etc.

Impressed with how generic and bland the advice was.

The worship of Buffett as an oracle is not just a US phenomenon.  If anything it may be stronger in Asia.  In Korea in 2007, I saw subway vending machines selling biographies of Warren Buffett.  In this video, being interviewed by a Chinese magazine, you can see Warren Buffett’s partner, Charlie Munger, attempt to explain why he thinks he and Buffett are so popular in China.  He suggests that it’s because much of their advice is very Confucian:

Actual Warren Buffett’s advice is free and very available.  You can read all of Berkshire Hathaway’s letters to shareholders, which are funny and interesting at times (the better you are at skimming the boring parts, the more enjoyment you will get out of them).  You can see everything he invests in — he legally has to tell you!

Investing is simple, but not easy

is a quote often attributed to Buffett, though I myself cannot find the original source for it.

Buffett himself was asked about the fake account on CNBC:

QUICK: BUT THERE WAS A FAKE TWITTER ACCOUNT, A FAKE WARREN BUFFETT TWITTER ACCOUNT THAT WENT FROM 20,000 FOLLOWERS TO 200,000 FOLLOWERS IN 24 HOURS BY TWEETING OUT ALL KINDS OF PITHY SORT OF SOUND ADVICE, THINGS THAT FOLKSY SAYINGS THAT SOUNDED LIKE IT COULD HAVE COME FROM YOU. WHY DON’T YOU TWEET MORE OFTEN?

BUFFETT: WELL I JUST DON’T SEE A REASON TO. I PUT OUT AN ANNUAL REPORT, AND I DO NOT HAVE A DAILY VIEW ON ALL KINDS OF THINGS. AND, AND MAYBE I’VE GOT A GUY IN THIS COPYCAT OR IMITATOR, MAYBE HE’S PUTTING OUT BETTER STUFF THAN I WOULD. SO IF HE PUTS OUT GOOD ADVICE, I’LL TAKE CREDIT FOR IT.

QUICK: WE HAVE SEEN SOME CEOs WHO LIKE TO TWEET VERY FREQUENTLY, INCLUDING ELON MUSK.

BUFFETT: YES.

QUICK: HE’S CERTAINLY SOMEBODY WHO TWEETED A LOT. WHAT DO YOU THINK ABOUT PEOPLE WHO TWEET A LOT?

BUFFETT: I DON’T THINK IT’S HELPED HIM A LOT. NO, I THINK IT’S — WELL, IT’D BE PARTICULARLY DANGEROUS TO START COMMENTING ON BERKSHIRE DAILY, WHICH I NEVER WOULD DO. I WON’T DO IT WITH YOU. BUT I THINK THERE’S OTHER THINGS IN LIFE I WANT TO DO THAN TWEET. I MEAN, I’M NOT THAT DESPERATE FOR SOMEBODY TO HEAR MY OPINION ON THIS.

This aspect of Buffett is much celebrated:

It’s sometimes forgotten or overlooked that he also owns a $7.9 million house in Laguna Beach.

Though in fairness he bought it in 1971 for $150,000.


Should you buy Twitter? Plus: Advice to Jack Dorsey

twitter bird

I’ve noticed that writing about investing is very popular on the Internet so I’m gonna try it.  

This post is about Twitter (TWTR).  At the moment: the stock is priced at 15.88, I don’t own it.

Twitter is one of my favorite products in the world.  If I’m being real, I probably spend minimum an hour a day looking at Twitter.

Lots of people hate it — my Great Debates colleague Dan Medina, for instance, claims to find it unusable.  Yet there he is:

Screen Shot 2016-02-12 at 7.14.49 PM

and he’s fascinated by it.

How can you not be?  Here are entertainers, comedians, athletes, famous people of all kinds, plus millions of strong-opinioned randos, bots, sex bots, ordinary citizens, kids, organizations, Vine people, all gabbing away at some fantastically weird party / school assembly gone mad.

On the one hand maybe Twitter is a negative in my life, because I read fewer books.  On the other hand, while I’ve been putting off reading William Gibson’s books, I’ve been enjoying his Twitter feed:

Screen Shot 2016-02-12 at 7.22.02 PM

Little Esther tells me Twitter is for losers, but her feed is hilarious:

Screen Shot 2016-02-12 at 7.25.56 PM

Twitter is a fiendishly perfect invention for distracting comedians because so many of them

  1. Crave instant feedback/laughs
  2. Are desperate for connection
  3. Are bored
  4. Are traveling / waiting around for something
  5. Are video game addicts

If anything, the biggest problem I have a user of Twitter is how much stuff there is I want to look at, and how to sift it out from all the garbage.

I’ve solved that problem more or less to my satisfaction by making private lists.  The second biggest problem might be the jarring combos of information:

IMG_2337

but maybe that’s a feature, not a bug.

For all this entertainment, hours and hours of it, Twitter charges me…

NOTHING?!  Zero dollars?

That is ridiculous.

I mean, I guess sometimes I have to look at ads.  But I gotta tell ya, these ads don’t tend to get in the way.  Often they are wack enough to be part of the fun:

IMG_2339

(What?  The Embassy of Poland wants to brag to me, specifically, about its military expenditures?)

What kind of wonderful company is this, that gives me entertainment, information and amusement for free?!

FullSizeRender (19)

Should I get in on?

When a product becomes a part of your life, you have to ask yourself if maybe you should go ahead and own part of the company by buying shares in it.

FullSizeRender (15)

SHOULD YOU INVEST IN TWITTER (TWTR)?

What I know about investing is cobbled together from skimming and half-reading investment books, blogs and articles (and Twitter) plus mistakes plus talking to people.

First, big believer in the Peter Lynch method.

Boston, MA-2/9/05- Peter Lynch of Fidelity Investments.(Story/Paulson) Library Tag 02272005 Business & Money

Peter Lynch of Fidelity Investments.(Story/Paulson)

Peter Lynch was a wealthy Bostonian of my youth who got his start caddying for the president of Fidelity Investments, became an intern there, and rose up to manage Fidelity’s Magellan fund:

From 1977 until 1990, the Magellan fund averaged a 29.2% return and as of 2003 had the best 20-year return of any mutual fund ever.

and also wrote some bestselling investment guides:

Beat the Street

which I haven’t read.  But which Wikipedia helpfully summarizes:

His most famous investment principle is simply, “Invest in what you know,” popularizing the economic concept of “local knowledge“. Since most people tend to become expert in certain fields, applying this basic “invest in what you know” principle helps individual investors find good undervalued stocks.

Lynch uses this principle as a starting point for investors. He has also often said that the individual investor is more capable of making money from stocks than a fund manager, because they are able to spot good investments in their day-to-day lives before Wall Street. Throughout his two classic investment primers, he has outlined many of the investments he found when not in his office – he found them when he was out with his family, driving around or making a purchase at the mall. Lynch believes the individual investor is able to do this, too.

OK, great.

I would say I’m not an expert but I’m pretty serious about:

  • comedy

Twitter is a great way to get comedy in quick, easy form.  Every comedian I know is on Twitter.

Screen Shot 2016-02-12 at 8.27.54 PMScreen Shot 2016-02-12 at 8.25.09 PM

  • written entertainment

Not every writer is on Twitter but a lot of them are, and there’s neat writing on Twitter every day.

Screen Shot 2016-02-12 at 8.28.52 PM

  • news/information/infotainment.

from this I’ve had my biggest insight of all: journalists are obsessed with Twitter.  They give better, faster, more interesting news directly to their Twitter feeds.

Screen Shot 2016-02-12 at 8.31.27 PM

Plus, the news makers and influencers are themselves talking directly to the Twitter user:

Screen Shot 2016-02-12 at 8.30.26 PM

and

IMG_2344

That’s how I identified Twitter as a possible opportunity.  Now let’s run it through a rigorous Lynchian checklist.

Do you use it yourself?

Yes, so much so that I have to impose rules on myself that I then break.

Do people you know use it?

Oh God they’re obsessed.

Does it seem like a good product?

Well, I dunno.  For instance I have no idea how or if they make money.

That brings us to the next level.

Buffet analysis.

Warren_Buffett_KU_Visit

Everybody knows billionaire investor and Omaha cheapskate Warren Buffett, he is one of the great American characters.

You might also know his partner and former WWII Army Air Corps meteorologist Charlie Munger:

Charlie Munger

A good intro to some of Munger’s ideas can be found here on the blog of Tren Griffin, who rounds up a lot of wisdom.

Buffett and Munger’s insights are many and not easy to summarize, but a crudely simplified version in three quotes might be:

1:

Buy into a company because you want to own it, not because you want the stock to go up.

2:

I never attempt to make money on the stock market. I buy on the assumption that they could close the market the next day and not reopen it for five years.

(that quote I can’t 100% track down to the source but it appears legit). 

and 3:

Never invest in a business you cannot understand.

Buffett is a value investor.  He asks, is the business valuable?  For instance, a railroad.

bnsf

Only a few companies control all the railroad track in North America:

North_American_Rail

and they’re not building more.  People continue to ship things on railroad.  Warren Buffett decided that he understood railroads I guess, because he bought one.

Presumably before he did that, though, he ran BNSF through the third level of investment analysis, which is the level of numbers.

This is the level that is so boring.  You almost can’t believe it.

Try, for instance, to read the wikipedia page on valuation (finance) and if your eyeballs don’t turn to mush maybe investment banking is for you.

For me, I can only handle the very basics.  There’s P/E (price of the stock to earnings), for instance.  Should be simple enough:

Theoretically, a stock’s P/E tells us how much investors are willing to pay per dollar of earnings. For this reason it’s also called the “multiple” of a stock. In other words, a P/E ratio of 20 suggests that investors in the stock are willing to pay $20 for every $1 of earnings that the company generates. However, this is a far too simplistic way of viewing the P/E because it fails to take into account the company’s growth prospects.

So says investopedia.  Ugh, everything is always far too simplistic with these guys.

Let’s take it down to basics.

Screen Shot 2016-02-10 at 5.47.09 PM

Hmmmmmm.

OK, I can do this.

EBITDA is earnings before interest, taxes, depreciation, and amortization.  A measure, right, of how much money the company is making.

Twitter’s is negative two hundred and eight million dollars.

Coca-Cola, by comparison, is $124 million.

Amazon’s is $7.8 billion.

Netflix’s is $368.1 million.

Chipotle’s is $908 million.

How about profit margin, that seems simple.

Coca-Cola: 2.7%

Amazon: .56%

Netflix: 1.81%

Chipotle: 10.57%

Twitter: -27.99%

OK, so let us answer the key question:

  • How much money is Twitter making?

Negative a lot?

  • How is that possible?

Well, I took to the Internet.  Here are some things I learned:

  • Twitter makes huge amounts of revenue, but not a profit.

From this week’s earnings call, we learned that Twitter’s revenue in the fourth quarter totaled $710 million, up 48 percent year-over-year.

Most of that money ($641 million) comes from ad sales, with the rest ($69 million?) coming I guess from data sales.  Although apparently Twitter has somehow screwed up selling that up — last year it made $147 million from data sales before they shut off their data “fire hose.”

I ran all this by my colleague Anonymous Investor.  Here’s what he has to say:

Let’s say you owned a pizza shop. In 2015 you sell a million dollars worth of pizza (or said another way, you made a million dollars in revenue). At first glance, that might seem good. But if your food, labor and rent costs add up 1.3 million, you would have ended up losing money for the year.   (a $300,000 loss for 2015).

Likewise, Twitter sold 2 billion dollars worth of stuff (mostly advertising sales).  But they spent around 2.5 billion dollars doing it.  I haven’t dug deep into it, but lots of their costs seem like wasteful spending — such as 778 million on research and development, which seems ridiculous for a company that’s basically not much more than a slightly-advanced message board.

Seems the company could be profitable if google or someone else bought it.  They could slash costs and make some profit off that revenue.
Hmm.  One of the big problems is:
  • Twitter wastes lots of money.

How much does it cost to run Twitter?  I honestly have no idea, but the brilliant thing about the business is that the users are doing the hard work of generating the content.  All Twitter should have to do is run the servers and so on, right?

In looking into it, I found that Twitter spends an insane amount of money on research and development.  This is from a 2013 Fortune article:

According to its IPO document, in the third quarter of the year, Twitter shelled out nearly $90 million on R&D. That was equal to more than half, 52%, of the company’s revenue in the same period. It is Twitter’s largest cost, nearly 50% more than it spent on marketing. And it’s far more than most of its rivals spend. Facebook, for instance, spent just 14% of its revenue on R&D in the the quarter right before it went public. It has since ramped up that spending to 26%. But Facebook FB 0.10% makes money, unlike Twitter.

Google spends just 15% of revenue on R&D. And Google is working on a self-driving car, high-tech glasses and, maybe, space elevators.

There is no sign that Twitter is working on anything that cool. Twitter actually gives very little detail about what it spends its R&D budget on in the offering documents for its IPO. It says that R&D expenses are to “improve our products and services.” And it doesn’t appear that Twitter is building some kind of high-tech lab or supercomputer. In fact, the bulk of Twitter’s R&D expenses go toward personnel-related expenses. And a good portion of that expense, about a quarter, was the cost of handing out stock options.

Twitter doesn’t say how many employees work in its R&D groups. The company has a total of 2,300 employees. That would be $104,000 per employee if all of its employees were in R&D, which they are not.

That sounds crazy.  And it seems like the problem has not been solved.  Take a look at this:

Screen Shot 2016-02-13 at 10.15.29 AM

Again, I am no expert, the whole point of writing this is to educate myself, but Twitter is spending $800 million dollars on research & development?!  WTF?  To research and develop what?!

Your job is to bring me this shit as simply as possible:

Screen Shot 2016-02-13 at 10.19.41 AM

And you don’t even do a good job of that!

Much of that money, apparently, is stock distribution.

  • Twitter’s employee stock distribution system is screwy.

So I learn from this Quora post.  I don’t entirely understand this.  Neither do the folks at Vox I guess, who proclaim:

At the same time, depending on how you count Twitter employees’ stock options, the company is either still continuing to lose money or only modestly profitable.

That murkiness definitely makes me uneasy.

Is this an accounting anomaly that’s falsely inflating how much money Twitter is spending?

Or is Twitter like giving away too much of itself to its employees?

  • Twitter is not gaining users

That seems to be what’s making “Wall Street” so mad, since when they bought into it at its IPO with a valuation of $30 billion dollars they were assuming it would be the next Facebook or whatever.  Not happening.

FullSizeRender (20)

As far as I can tell at least some significant percentage of Twitter users are bots anyway.  If some of your users are artificial sex picture machines, and you’re still losing users?

  • Twitter has untapped revenue potential?

So says this bullish article:

According to Twitter, there are 500 million people who consume Twitter that don’t actively use Twitter, or have accounts. These people see tweets on websites, mobile apps, in articles, or in Google search among other places. After much debate, and criticism about how Twitter can convert those users to the platform, Dorsey made the decision to begin showing promoted tweets to its logged out userbase of 500 million, rather than wasting money trying to convert those consumers to users.

I don’t really understand this.  Does it mean you’re gonna get users back to Twitter?  Doubt it.  We’ll watch the test case of our colleague Dan Medina, but in my experience people don’t come back to social media apps they left.

  • This guy has a terrible idea.  Or is it genius?

To let everybody pay to push up their Tweets.  Users eat it.

The title of his article is:

How Twitter could be 10X bigger, 100X more profitable, and 1000X more awesome

and I have to say this is a case of what we might call Bro Exaggeration.

  • What about the exact opposite?

Twitter pays you if your tweets get 2,500 RTS.  Celebrities excluded, can only win a few times, scams will have to be dodged etc., but: essentially Twitter becomes a joke casino where anyone can play.  Americans love casinos.  Casino owners do not go broke but they sometimes get murdered I guess.

OK so those are the things I know

Can I pass any of Buffett’s tests?

Do I want to own Twitter as a business, not just as a stock?

Not if it costs ten billion dollars, no, which is market cap as of this writing.

If the stock market shut down for five years tomorrow, would Twitter emerge well?

Ehhhhhh…. yes I think so but not worth ten billion dollars or its five year equivalent.

Do you understand the business?

Not really.  It is a simple mobile entertainment company where the content is generated for free but somehow it costs TWO billion dollars a year to run it?  Where all the ads are like garbage and increasingly young people tell me it is for losers?

I don’t understand that.

I kind of do understand it like the world’s news feed and it’s free.  Something like an AP wire that anyone can post on, that (mostly) sorts itself out but has as it’s biggest problem filtering, a problem it has to solve fast or it will be replaced like MySpace by something nimbler and cooler that doesn’t cost two billion dollars to run.

It all comes down to the final piece of the Hely Investment Method: look at a photo of the CEO.

Jack_Dorsey_2014

Does he look like he knows what he’s doing?  Would you trust this man with your money?

Hrmm.  I dunno.  How can you tell with these tech guys?

Maybe Jack Dorsey will:

  • figure out innovations that draw new users to Twitter without antagonizing the existing users
  • find deep new trenches of revenue
  • cut operating expenses

and Twitter will be an amazingly valuable company.  OR, maybe he will

  • appear or come close enough to doing that so the stock price goes way up.

Very possible.

Another possibility is

  • they go too far and drive off the users they do have.

Jack Dorsey, knowing he has to do something, uses his neuro-atypical brain to change interfaces in ways that actual humans hate.  No new users join, Wall Street freaks out.  The company stock plummets.  Maybe some giant buys it out of perverse experimentation or nostalgia or valuation of scrap parts at some lower level.

One thing I can almost guarantee:

  • Twitter will not grow in new user gain numbers

New people are not lining up to join Twitter.  Everyone in the world has had a chance to try it out.

What I would suggest to Jack Dorsey?:

  • DON’T DO ANYTHING.

Some huge number of people are insane devotees of your site as is.

Let them keep entertaining and informing themselves with it.

Change nothing.  You won’t gain any new users, but you won’t lose any either.  In the meantime, you can figure out how to sort out operating expenses and improve advertising.

Wall Street investment banks overvalued the company because they were in a hysteria about tech and had no idea how to value a company that had nothing but enormous user growth, so they overvalued it.  Now the user growth has stopped and they are panicking.  But it’s fine.  Maybe Twitter isn’t worth $10 billion / $15 a share, but it is worth something.

At this price I would suggest do not buy Twitter.  Marc Cuban agrees with me, here’s what he said to CNBC on Feb. 11 (funny how their transcripts are in all caps):

WAPNER: THAT LEADS ME TO MY LAST QUESTION. SINCE WERE TALKING TECH AND SO-CALLED FALLING KNIVES, WHEN YOU LOOK AT A TWITTER, WHAT DO YOU SEE IF YOU ARE PART OF AN INVESTMENT GROUP OR IF YOU WERE A CEO OF ANY NUMBER OF TECH COMPANIES OUT THERE, WOULD YOU LOOK AT THIS PROPERTY AS AN ASSET YOU WANTED TO HAVE?

CUBAN: YEAH, YOU KNOW, A LITTLE BIT LOWER I CERTAINLY WOULD. I THINK NOW IT IS AT THE QUESTION POINT WITH THE $10 BILLION MARKET CAP, BUT $6 BILLION MARKET CAP WITH $2 BILLION IN CASH, I WOULD BE A HUGE BUYER OF THE STOCK.

If you believe him, and I guess I do, somebody will buy Twitter soon.

So, there’s some stock price point at which that news will come out, and then the stock will go up some (probably).  So if you want to gamble on that exact moment you can make money.

Seems like a sucker’s game to me, but if you love gambling it’s probably fun.  Says Anonymous Investor:

Despite the fact that the company can’t make any profit, the stock is still selling for a high price.  It’s selling for 5 times its revenue. That’s higher than average.  The high valuation means that investors have the belief that in the future some of those revenues can be converted into profit.  And other investors might have the belief that twitter could be bought out by another company for a market cap north of 10 billion dollars (or to be more accurate: north of around 8 billion, since Twitter holds about 2 billion in net cash).
It’s all a matter of opinion.  To me, both assumptions have a pretty high risk of not happening. So in order for me personally to buy Twitter, I’d need to be compensated for that risk with a lower price.
I’m staying out of this one.

Did you know Jack Dorsey has a whole other company he’s CEO of?

Wait what?  You’re telling me he’s working at most half time on fixing Twitter?

Yes he’s also busy being CEO of Square, the credit card payment company that might be hugely profitable or might be about to collapse?

Haha this guy.  How does he explain that?

He says it’s easy with his “theme day” system:

The way I found that works for me is I theme my days. On Monday, at both companies, I focus on management and running the company…Tuesday is focused on product. Wednesday is focused on marketing and communications and growth. Thursday is focused on developers and partnerships. Friday is focused on the company and the culture and recruiting. Saturday I take off, I hike. Sunday is reflection, feedback, strategy, and getting ready for the week.

HAHA amazing.  This guy.