At one point in the summer of last year (2020) a survey asked members of the UK public what proportion of the UK population had died of COVID-19. For those who understand human psychology and decision making, or for Danny Kahneman or Amos Tversky, the answer wouldn’t have surprised.
Inundated with graphic images of overflowing wards in an Italian hospital, New York mass graves and chevron-clad warnings from its own government to “Save Lives” the answer that came back (a mean average) was 7% for the UK and 9% for the US. To give perspective that would be 5m and 30m respectively, 100s of times the reality at that point in time. …
fad, n: “a style, activity, or interest that is very popular for a short period of time”
Do you remember POGS? Of course, some of you will be saying, while others, older or younger, won’t have a clue what I am talking about, as this firmly pinpoints me as a school kid growing up in the early 90s. POGS were the ultimate collectible in schools back then, much like Pokemon cards are now. Of course POGS were a fad, but at the time it felt like they were going to take over the universe (especially if you were a 10 year old boy).
The point about this trip down memory lane is to make the point that fads are, by their nature, ephemeral and can go as quickly as they come. As an investor, trying to capture returns from a company benefiting from an explosion in demand is often fraught with danger. For one thing the point of maximum enthusiasm is difficult to pinpoint and usually the stock price peaks before, or at that exact point. …
Since our last Friday Views in mid-December it is fair to say quite a lot has changed, for one thing Elon Musk is now the richest person in this universe! Without dwelling too much on this it goes without saying that we are likely all feeling the strain for one reason or another, I know this personally from the current juggle of home-working and home-schooling two young boys.
Anyway with this in mind I wanted to highlight a passage from a book — Why We Sleep by Matthew Walker — that has fundamentally changed my views on the unequivocal need and benefits of proper sleep. This particular excerpt is incredibly apt. …
In our final thoughts of the year I wanted to reflect on the conundrum that continues to bifurcate markets and one that we have discussed at various points; namely the huge dispersion between stocks with low valuations and those with record high valuations (the Cliff Asness blog was one of the clearest on this issue). As a firm our philosophy is to try and find opportunities below or above intrinsic value, based on bottom up fundamental research — this is ingrained in our DNA. We are not chasing momentum or looking for that short term upgrade or downgrade.
With this in mind, enjoy this wide ranging (and very long!) chat between Tobias Carlisle (of Greenbackd and the Acquirers’ Multiple fame) and Bill Brewster. There is so much discussed in this — value investing, back testing, Twitter, how to value companies — it is packed with tonnes of insight. I particularly liked Tobias’ admission that he had become a bit myopic just looking for undervalued earnings per share growth and needed to think more about how growth opportunities can be undervalued. At heart though his assured approach to picking companies that can reinvest and give him a return regardless of whether the stock market was shut for 5 years made a lot of sense.
On the discussion around valuations and process he was equally clear and projected a rosy outlook for the future of deep value equities. While there has been a notable reversion of some of the value vs growth indices since the vaccine rally, in reality this barely touches the sides. In fact if you look at the dispersion of valuations across the SXXP, something we have highlighted in the past, it has ballooned to a record high even considering this. …
Any plane spotters or readers of Dale Brown novels (that’ll be just a teenage me then) will be familiar with the acronym AWACS — Advance Warning and Control System. These are the planes with giant circular discs (radars) that cruise at 40,000 feet detecting potential airborne and ground threats well in advance of them actually taking place or being able to cause any serious damage.
For investors, protecting against portfolio damage is just as important given the harm this can do, both to performance, but also reputation. As we have alluded before (in a post titled “Embracing Bears”), avoiding blow ups or getting sucked into the latest trend is part and parcel with delivering a consistent track record of strong returns. It is therefore no coincidence that Warren Buffet (and other celebrated long term investors) enjoyed massive market outperformance during particularly tricky years, as Charlie Munger describes quite beautifully:
“I think part of the popularity of Berkshire Hathaway is that we look like people who have found a trick. It’s not brilliance. It’s just avoiding stupidity.“ Charlie Munger
But trying to arm yourself with a stock market “AWACS” is tricky. We have quoted text from Tim Steer’s excellent “The Signs Were There” which shows examples of how the footnotes and disclosures within Annual Reports of companies like iSoft or Autonomy or Quindell would have revealed some tell-tale warning signs but even then it would have taken lots of sleuth work and years of experience to unpick how serious these were.
This week however we launched our latest accounting red flag metric for Dragonfly — Trade Receivable Loss Allowance. While there is no absolute metric for spotting a genuine fraud or potential blow up this red flag could be more powerful than most because it demonstrates how conservative or aggressive management are in applying accounting guidelines. …
One of the podcasts that sticks with me most, in terms of the poignancy of the lessons learned, is a Revisionist History episode called “Free Brian Williams”. I won’t give too much away but the crux of it is that the memory of human beings, especially our memory for how we felt and when we did things, is completely fluid and often fabricated post-hoc. Place is more reliable, but everything else is as flimsy as a Michael Fish forecast!
Anyway, as we approach the Christmas period, hopefully with more optimism, I thought it might be interesting to look back on this “unprecedented” (most used adjective of 2020 surely) year. Indeed going through some of my previous Friday Views I came across one in May highlighting the predictions being made by Next, I had titled the email Everything has “changed forever”…apparently.
At the time Next (renowned for its calm and incredibly clear guidance) was assuming that Q3 sales would be 26% below last year and Q4 would be 22% lower, at the same time The Economist published a full red page with the words “The 90% Economy” plastered on the front — everything looked pretty bleak. 5 months later, at its most recent trading update in late October, Next revealed that Q3 full price sales came in +4% UP on the previous year and its central assumption was now for sales in Q4 to be only 8% lower yoy. …
This email is designed to put a human touch on some of the outputs from StockViews’ Dragonfly machine intelligence (link to our 2min video guide) by giving more context to the reasons behind new accounting, governance or earnings quality Dragonfly red flags that appear as a result of fresh data from recent results.
Dragonfly database last updated COB 27th November 2020
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It creates lasting and dependable franchises
This week I want to point you to a podcast that was truly inspirational. The latest Founders Field Guide hosted by Patrick O’Shaughnessy. It features Nick Kokonas who is the owner of Alinea, The Aviary and Next. Alinea has regularly ranked in the World’s Top 50 restaurants (as high as #6 at one point) and is famous for painting the table with food (see above)! Nick is also the founder of Tock, the booking system for restaurants that is taking on Opentable. Nick pioneered pre-paying for reservations and dynamic pricing.
Perhaps the most fascinating part of the podcast was when Nick describes the benefits of having the world’s first restaurant “float” from having installed a system where customers paid upfront, something everyone in the industry told him wouldn’t swing. This was back in 2013. For a start noshows collapsed to just 2% (from around 8%) but the most compelling element was being able to go to his suppliers and pre-purchase 4 months worth of produce — not something anyone would ever do.
When asked what price the butcher would give for dry-aged rib eye steaks — usually $34/lb — he had to go back and do some thinking. A day later he came back with a price of $18, Nick said he would settle at $20 if they told him why so cheap. The reason was that for 35 days the butcher can sell, but after that point the dropp off is massive and good steak ends up selling for dog food at $1/lb.
This might all sound rather obvious, but it wasn’t at the time and via the virtuous circle of reinvesting these minor benefits, rather than just inflating his profits, Alinea has been able to offer $85 a head three michelin star dining and thrive.
The point about this micro example is that putting customers experience and utility first is central to the longevity of many businesses. This is very relevant in our ongoing discussions around Jet2, which has never used its customers’ deposits as working capital and pays its hotels faster than any other tour operator. Central to the Jet2 mantra is customer service — this has meant that during Covid the reputation has soared. In comparison TUI has had to deeply frustrate its customer base by withholding refunds because that cash is central to its operations — just put “TUI refunds” into a Twitter search. …
Don’t just look at share prices, enterprise value is more important…
Equity to debt transfer in action…
No podcasts or books or articles linked this week — however the point we are making below could be incredibly important in the coming weeks and months.
When we started working through the potential upside on National Express I recall being surprised that Tom only came out with a valuation of 240p…considering this stock had traded at 450p only a few months earlier in February this seemed pretty miserly all things considering.
That first level thinking by me is no doubt at the heart of a lot of potential mispricings and misunderstandings in the most beaten up sector — Travel & Leisure. Thinking about where stocks are trading within their 52wk range can form the basis of hunting for potential winners — cf the vaccine rally — however it misses a critical step — how has the ENTERPRISE VALUE changed??? The sad reality is that for many stocks in this space cash burn during zero-revenue periods has meant that market cap value has been converted into debt. Therefore EVs are actually in some cases higher than they were pre-Covid!
One of the reasons that this is yet to become apparent, or an issue, is that a lot of companies are yet to report balance sheet detail which will reveal the true scale of cash burn devastation. …
This post is designed to put a human touch on some of the outputs from StockViews’ Dragonfly machine intelligence by giving more context to the reasons behind new accounting, governance or earnings quality Dragonfly red flags that appear as a result of fresh data from recent results.