Interview With David Marcus Of Evermore Global Advisors: Lessons Learned From Michael Price On Event-Driven Investing [Part 1]

Part one of ValueWalk’s interview with David Marcus, co-founder, CEO, and CIO of Evermore Global Advisors. The full audio available for everyone, transcript is for ValueWalk Premium readers. Also, stay tuned for Part II of this interview.

Q1 hedge fund letters, conference, scoops etc

David Marcus

Interview With David Marcus

Transcript

Good morning, podcast listeners, today is a very special episode, I am here live with David Marcus, the co-founder, CEO and CIO of Evermore Global Advisors.  He founded the firm back in 2009, before this he worked at Mutual Series Fund under Michael Price, in 2000 he founded Marcstone Capital Management, a long short Europe focused fund which was funded by a Swedish financer, Jan Stenbeck.  After this he was a managing partner of MarCap Investors where he was seated by Dan Stern of Reservoir Capital.  David graduated Northeastern University in business administration and concentration in finance.  I want to welcome David to the show and I want to welcome all our listeners to a very, very special episode.

Welcome to ValuTalk with Raul.

Alright, so I just wanted to welcome our listeners to a very special episode, I have David Marcus, the CEO founder of Evermore, David, welcome to the show.

Thank you.

Alright, can you just tell me about your background and what led you to finance and investing?

Sure.  I’ve been interested in stock picking and investing really since I was a kid.  I was lucky enough to grow up in a house where my dad and my uncle owned a small brokerage firm, it was so small, it was literally a two man firm.  But they just were always talking about stocks, all the time, and they were always looking for the next IBM and the next Xerox.  And even as a kid I would ask them, “Why do you have to plan the next one, why can’t you buy those stocks?”  And so there was just always debate.  And so from the earliest ages I knew this was an area that was of interest to me, that I wanted to be in.  And I just focused on reading as much material as I could, I’d go to the library on the weekends, I’d get any books about Wall Street, the history of Wall Street, who the players were, if any fund manager wrote a book.  And in those days there were not a lot of books.  I would just try to consume as much as I could, I just was really into just learning as much as I could about the street, the stocks, investing and just how it all kind of worked, especially from the old days, were doing stuff that dated really far back, just again put context on how it all worked.

And then I went to Northeastern University in Boston for college.  And Northeastern is a five year undergrad because by the time you graduate you have done co-ops, which are six month full-time jobs.  And now they have it where you do six months full-time three times by the time you graduate.  So it’s four years of education but another sort of 18 months of working at a company, a bank, a broker, whatever sort of is in the area of your interest.  And I was lucky enough that one of the firms that I worked at, which was a bank in Boston was doing the back office work for Michael Price’s mutual fund, so I didn’t know who Michael was in those days, I was just a dopey college kid.  But I was a customer services rep, I literally answered the phones, but I wanted to do my last co-op or internship in New York City.

My boss recommended me to Michael and his firm and in 1987 I got to work on their customer service team at 26 Broadway, right around the corner from the stock exchange, answering the phones.  It was the greatest period of time to start in the business because in 1987 you had the crash of 87.  So just taking investor calls, hearing it in their voices, they had just made investments, what was going to happen to their money, they were concerned.  And just how Michael and his investment team dealt with crisis and fear and panic.  And I saw that in the midst of the crisis, all he kept thinking about what buying bargains.  And so really I was getting it eaten into my head that in panic there’s opportunity.  So I was very lucky that I started that way and I got to work for really one of the great investors right out of school, even though it was as a customer services rep, I was in the door and I got a good feel.  And then he asked me if I wanted to come back after I graduated a few months later or the next year, by then he moved to New Jersey, the business, and I started there.  And he gave me my shot on the trading desk to be a quant for him and other guys.  And I worked from the trading desk to being a junior analyst, senior analyst and kind of worked my way up.

Yeah, very cool.  So yeah, I just want to know, are there lessons you learned from Michael Price?

Quite a few.

Favorite ones, your most useful ones?

Yeah, and we talk about it all the time.  So I ended up working there for almost 14 years, from 87 to 2000.  And I really came a long way, as I said, from starting on the phones, being a quant on the trading desk, I literally helped hook up the satellite dish on the roof, I hung pictures on the wall, I did anything I could do to sort of get noticed.  And but the lessons really were … let’s just come back to investments, it’s simple things.  I mean Michael would constantly ask us about … you’d pitch a stock to him, and he would say, “Okay, David, that looks like a cheap stock, I can show you 20 more, why is this the one?  What’s going to make this stock go up?”  Well, today we would say what are the catalysts to make that stock go up to create value for shareholders?  And so this fixation on catalysts, what’s going to make it go up, how long is it going to take, who the management team is, who are the shareholders?  Really you have fixation on who are the main owners in a company and what is their perspective, are they good guys, are they not good guys, how have they treated shareholders in the past.  So there were so many little nuggets and gems that were just sort of in the day-to-day, the way he sort of pushed all of us to focus and find ideas.  You didn’t realize you were getting this wonderful set of skills, but you were really getting it.  But it was not an easy place to work, you know, it wasn’t … everybody wasn’t just singing songs and smiling every day.

I would say Michael was tough but a fair person.  He held the bar high for everybody, including himself, and so I loved working there but sometimes it was a little painful because you sat in one big room.  And if you did well you kind of heard nothing, if you didn’t do well everybody heard about it.  So you really were striving to do well which means picking stocks that make money for the clients.  And that was Michael’s fixation, where he had to make money for our clients, we do that we all do well.  That’s my focus here at my business, the same thing where here the core is to make money for our clients.  And we are our own clients, we have our money in the fund.  And it’s a simple philosophy and approach, but it drives everything that we do, so it’s that.

Other lessons were if you buy something for a reason, and that reason is not panning out, don’t come up with a new reason, don’t say, “Yeah, but it’s cheap anyway.”  Or start making excuses to yourself for why you should stay with something that’s just not doing anything close to what you thought it would do, because that’s usually when you start losing a lot more money.  So you might have lost money, it’s not working, but now you start to … here we call that the yeah buts, what are the yeah buts?  You say, “Okay, they’re not doing what we thought they would do, they’re not doing even what they said they would do.”  You know, an example would be a company that says, “We’re going to sell non-core assets and then we’re going to distribute that capital out to shareholders.”  Then they sell those assets and maybe even they get more money than they thought they would, and they say, “You know, we’re not going to distribute it, we’re going to make new investments.”  Well, the old investments were the things that got them into trouble, we don’t want them making new investments, they should stick to their plan.  And the yeah but, as you say, so they’re doing something different and you say, “Yeah, but it’s cheap anyway.”  And usually you regret it so we try to avoid that process of the yeah but, once you say yeah but, it actually doesn’t matter what you say after that, you’ve just decided you’re going to make an excuse and you’ve gone in to buy.

So that was a lesson, it’s sort of my interpretation of his style, don’t come up with a new thesis, it’s either what you think it is or it isn’t.  So it was things like that, but this fixation on who are the shareholders, what’s their motivation, what are they trying to do here.  So thinking not just about numbers, but strategy and I think that’s critical.  And so we apply that here by saying it’s not just the numbers, it is the people, it is what is their strategy and focus.  And there’s just a lot of components that go into it, but we’re not just purely on the numbers.  You know, we see it even today, there are a lot of cheap stocks, what’s going to make this one go up, why this one over the next one?

Yeah.  And then with the yeah buts, [inaudible] is that the time to sell and get out of the position?

Yeah, move on.  We’re not going to get them all right, you can’t.  And it’s, you know, Seth Klarman has done a number of interviews, I think it was just highlights from what he said.  And, you know, he used to work for or with Michael Price way back in the old days.  And he has said, “Sometimes they just don’t work, sometimes you’re just wrong.”  And so you have to just face the music, you’re wrong, you’re not going to get them all right, you move on.  And once it’s time to move on we generally try to move on pretty quickly so that we could get the money working for us in things that we want to own, not things that we don’t want to own.  To me there’s a critical difference which I know it’s going to sound kind of dopey but there’s a huge difference between buying and selling.  And what do I mean?  A lot of investors think, well, if I sell this what am I going to do with the money?  We don’t think that way.  I think that the buying and selling decisions are two completely separate and distinct decisions.  You sell something when it’s time to sell it, it worked, you sell it, it didn’t work, you sell it, whatever the reason was that you decided you’re going to sell, you sell it, you put that money in the bank, you let it fester till you have a great idea to put the money to work.  It might be the same day, it might be the next day, it might be five months later.

But the point is you shouldn’t feel because I sold I must also be buying.  We really think it’s just two separate areas and you sell when you should sell, you buy when you should buy.  And by the way, the opportunities, especially we’re in an age where the volatility is humongous, you have all these algorithmic trading, you have these bots, you have all kinds of weird stuff that are just whipping stocks around.  And the fact is it just reinforces that when the market or the situation that you’re investing in, gives you an opportunity to get a compelling price and you want to move on, you do that.  And again if it’s time to add more to buy because it’s a bad day, we do that too.  And so in those cases I make the distinction between being a nibbler and being a gobbler, and so what does that mean?  On a bad day we want to be a nibbler, so we take a small bite of things that we love.  By being a nibbler, if there’s another bad day if we have more capital, we can buy on that bad day too and then the next one, and then the next one, and then the next one.  If we’re a gobbler we don’t have unlimited capital unfortunately, and so if you take too big of a bite and then things continue to be weaker, the markets are bad, this specific stock comes down much more, if you take too many gobbles you won’t have the capital.  So being a nibbler lets you average in a little bit more, and so we make that distinction.  There are times when you do want to be a gobbler, but most times we want to just ease in, nibble, nibble, nibble all the way in.

Is that the same with selling?

So with selling, I’ll say each case is different.  If we’re selling because our thesis, we’ve decided we are wrong, with the companies not sticking to what they said.  We don’t tell companies what to do, but if they start doing things that are against what they said they would do, they’re going against their own plans, we’re very quick to sell, because we don’t want to start making excuses.  If it’s something that’s working, we’re going to ease out of it, so it’s hit our target range, we don’t have single point estimates for stock values.  I think it’s ridiculous to have a $10 stock and say that’s worth $18.47, it’s ridiculous.  And so we have a range, we’ll have sort of a base case, a bear case, a bull case, and we have a range of where we think something’s worth ultimately.  And as we’re approaching that range we may … it’s the later innings of the game, we’re probably starting to exit the game because we want to take that capital and get it into the early innings of a new game.  We want the money working for us.

Yeah.  I was reading a couple of your interviews and the one thing I like that you were talking about was the returns and just generating them within a reasonable amount of time.  So can you just talk about the time horizon that you try to seek for investing for your opportunities?

Sure.  Look, I think a lot of investors generally, but especially value investors will say, “Yeah, I bought that stock at 8 and, you know, now it’s 13.”  And you know, they’re crowing about the return and then you have to say, “Well, you started buying it in 1979, you know, your rate of return is actually very poor, you might have done better just to throw that money in the bank.”  And so we look at holding periods, we look at how well we’re compounding in a name.  You know, if you have a stock, and we do this all the time, we still do it, I do this with my investment team all the time, because maybe we’ll have a stock that was, let’s just say 65, and now it’s 130 and it took three years to go up a 100%.  And then we keep it two more years, it’s still 130, well, our compounding is now … we’re dividing by more time periods.  So therefore our rate of return, our annualized rate of return is really deteriorating, that money is actually not working for us as well.  We can still crow about how we doubled their money but we’re just crowing without any … we made the money two years ago and we’re still sitting there.  So you don’t always know till after the fact, we’re not … we can’t, you know, get it right every time.  But when we get … we don’t want to make excuses, and so one of the things that I like to do in addition to a weekly sit down with my team, our weekly research meeting.

So I actually take the whole team out of the office once per quarter.  We’ll go, for example, to the Jersey shore in the wintertime, and I can confirm there’s nothing going on down there.  Even the restaurants that say they’re open year round, it turns out they define that by May to September, apparently that’s a year down at the Jersey shore.  But the point is we get out, we take everybody’s phone away, we’re there for two and a half/three days.  And the whole idea is to review not every name in the portfolio, but go through the maybe 15-20 names out of the 40 that we generally kind of cap it at.  And go through the ones that are down, the ones that maybe the news isn’t what we thought it would be.  And we’re really grilling each other on are we wrong, are we early, what is the reason why it’s not where we thought it would be.  We go through mistakes, we go through lessons learned, we go through missed opportunities.  We talked about buying something, we didn’t do it, it went up a lot, did we make the right … just because it went up doesn’t mean you made the right decision.  Maybe it went up for a different reason.  So we want to really call each other out, constructively to learn.  You know, we’re not changing how we invest, but we’re fine tuning.

We want to be like the old geezer who’s pruning the rose bush, right, he’s just pruning, he’s tweaking so that year after year it gets slightly better and that’s what we strive to do.  And I think that the process of getting the team out of the office every quarter, it really helps to stay focused, to take lessons learned.  We’ve really learned a lot about our portfolio and about how we invest, and I think it’s added value over the longer period of time as we’ve tweaked along the way, especially after a rough patch.  And so I’ll beat you to the punch on a question you might have, but in the fourth quarter last year, we had a very tough year, as I’ve said to people, you know, we had a tough year in seven weeks.  The last seven weeks of last year killed the whole year.  And so it was very frustrating, but we were nibblers all the way through, we were adding to 17 positions out of 40 during the period.  And we’ve had a bounce this year, not huge, but decent.  But it’s not about this week or last week or whatever, it’s a little longer periods of time.

Yeah.  And so when those tough moments happen, how do you deal with it, I guess, like emotional wise and the team as well, the team morale?

I have a paintball gun, I just start shooting it.  No.  Frankly, if you were in … so I modelled the office here similar to the way Michael Price had the office, meaning I have a trading desk in the center, people don’t really … nobody has an office except me and I’m usually sitting on the trading desk with everybody.  We’re constantly talking, debating back and forth, our analysts sit around the desk.  You know, we’re not traders, we are investors, we’re all in one big room.  And every single office opens up to the trading, and the offices are just for the non-investment people, you know, the COO, the CFO, Investor Relations.  I want everybody to be in the loop on what’s happening here.  But if you came here during December … so if you come here when the markets are crashing, crapping out, whatever you want to call it or if it was the other way, you probably couldn’t tell the difference.  Why?  We try not to freak out or panic, I like to believe if you see … let’s just use … everybody likes to use the Dow Jones as just some sort of an indicator, if the Dow was up 500 or a 1,000 or down 500 or a 1,000, you wouldn’t see much stress here or euphoria.  But what I would be doing is saying, “Okay, people, what should we be nibbling on?  What should we be taking advantage of?  What of our stocks are down that we really need to take advantage of this?”  Let’s assume this is a gift, we don’t need too many gifts like this, but we’re getting ones.  And then November/December, we got kind of a few too many gifts, you know, of tough days.

But we’re very happy that we took advantage, but the key is to not freak out, it’s not to panic.  I’ve been doing this for almost 30 years now and you just realize that you really, if you can stay disciplined and when it’s really bad out there, actually have the wherewithal to buy, nibble, take advantage, get that phone call when there’s a distressed seller somewhere and you can name the price on that block.  That’s what you want to be positioned for and you want those brokers that are going to calling with those blocks to know they should call us for that.  You never want to be making that call, you want to be getting that call.

Especially on Sundays like what Buffett says.

Yeah, exactly, no, it’s absolutely true.  And so it’s building your network out and so forth.  But we like to be buyers on bad days and try to really be methodical and take advantage, but also during those tough periods, stocks that we were working on that we thought, this is interesting, it’s not cheap enough.  Well, they start coming on to the radars so you get an opportunity also in those names.  A lot of people don’t like to buy a new name during a crisis, we’re happy to buy it.  If they set the price low on the valuation that we’re looking for we’re going to dip, but you don’t have to be all in, you can dip your toes in.  Then it gets worse, now your ankles are in and your knees are in, you kind of ease in.  I know it’s easier to jump into the cold water than to go in slowly, we’ve all kind of debated what’s the right [inaudible].  For investing we want to go in slowly and take the pain along in increments.  And I think that’s the way I believe it should be done, but it’s also how we invest.  Now, we really are fixated on companies that are not just cheap, I don’t want to jump ahead but I mean I think our methodology is a little bit differentiated in the sense that we’re not just looking for 50 cent dollars.  Do you want me to chat about that?

Yeah, definitely, yeah, your approach.

I don’t want to just blabber here.  I’m a notorious blabberer.  So I think there’s two camps in value investing.  I think you have the traditional guy or gal who wants to buy a dollar for 50 cents and says, “Over time the market will revert to the mean, things, you know, will be recognized and the market will figure it out.”  I think that worked for a long time, it doesn’t really work anymore.  And there are people who say, “Well, it will eventually work.”  We have zero interest in that style.  Why?  The world changed, it’s not a news flash but it’s kind of a news flash to some people, the world has changed.  Money that used to go into those value stocks, in many cases there’s no value indexes or ETFs or other vehicles that are syphoning off that money, it’s just not coming into those stocks.  So you have the chance for value traps, you have … so you have the chance for value traps, you have the chance for stocks that just don’t … they’re always tomorrow stories, they’re what we call wishful thinking investing, if only this, if only that.  We’re just not interested, and I think that’s an extremely tough game to play.  And as I said, it used to work, the world changed so much that that is just a harder game.  I think a lot of those stocks become targets because they do get cheap.

And we’re not looking for cigar butts, some of those were cigar butts, there’s a few puffs left, we don’t want cigar butts, we want cigars, we want as much of it as we can get.  And so we want to be in the other camp.  What’s the other camp?  Yeah, that’s a 50 cent dollar, 40 cent dollar, 55 cents, whatever it is.  But there are catalysts, we’re fixated on breakups, spinoffs, restructurings, where it’s pushing out mediocre manage teams, elevating to a higher caliber management team.  We track what the activists are doing and others, not every activist case is going to make money.  In fact sometimes they’re so short term focused they may actually destroy value because they’re trying to get a quick hit instead of the long term value that that company could create.  So we have to really understand the nuance of what’s happening, but there’s focus on spinoffs, breakups, restructuring.

We love family controlled businesses where we have dynamic value creators at the top.  When you look at sort of a portfolio of those kinds of things you get the concept of sort of going back to when I started the business with the questions of what’s going to make this one go up.  Well, cheap plus catalysts.  Now, not every catalyst is going to create value, some companies are restructuring just to survive and exist.  So we have to go through a catalyst assessment process, what are they doing?  How long might it take?  What are the risks to get those things done, meaning what is the execution risk here, because ultimately we might see the value’s there, but we have execution risk.  So I actually think that when you have a cheap stock, plus you have a multitude of catalysts, those things should contribute to better earnings going forward, that’s why they’re doing it, or cash flow or whatever.

And the fact is we look at that as a package, I want to be there during that period.  When it’s past that period, they’ve done a restructuring, the transformation, the spend or whatever, afterwards the stock has done very well because they’ve built this transformation story, it’s usually when we move on.  Why?  It becomes what we call too good for us, because it’s actually now an earnings story.  They have to sell more next year of whatever they do, at higher price margin and deliver higher returns for investors and you have no cushion.  What do I mean by cushion?  You have no non-core assets that are still being sold.  You don’t have low margins that have been through the restructuring, improved, you don’t have any of those things as well.  If it’s just an earnings game, I think you have the highest risk of all, we want to stay away from pure earnings stories because that’s why the world is chockful of profit warnings, because companies are not always good at forecasting, nor are analysts, things change along the way.  We want to know that earnings are just a piece of the pie, and we have all these other things to fall back on.  And it’s proven for us over and over and over that that focus really has created a lot of value, where we have that.

Where we will sit with stocks for very long periods of time are what we call compounders.  Every value investor has their own definition of a compounder, our compounders are generally family controlled businesses, they have been around for long periods of time, they have cranked out huge total return for their shareholders, yet they traded at discount to some other parts.  And they are led by a dynamic value creator.  And so companies like Exor which is the Agnelli family holding company, they bought Chrysler during the financial crisis from the US government, they own Fiat, Ford and Maserati, PartnerRe, a big insurance company.  They used to own Cushman and Wakefield, they sold it, so they’re very … John Elkann who runs that for … he’s this generation of the Agnelli family to run it and he’s really a value oriented guy who has created huge value for his shareholders.  So we track guys like that and we own those stocks for much longer periods of time because they are just working for us every day of the week to create long term value.

So we have maybe 20% of the portfolio is in these compounders, these conglomerates that are going … sort of during this process of continuously working to find ways to create value.  They’re not really thinking about us as shareholders, they’re trying to create value for themselves as the main owner, they kind of let us tag along.  But they’re not just sitting back and collecting their dividends, they are aggressively managing their assets.  And so whether it’s Exor or Bolloré ,which we’ve run for a long time, it’s French.  Right now, you’re literally in a transition right now from the sixth to the seventh generation of the Bolloré family, they own Porsche in Africa, they control 26% of Vivendi, which in turn owns a 100% of Universal Music, the largest music company in the world.  So they have their tentacles into so many different kinds of businesses, and you’re going through a transition now in from the father to his sons who are taking over.  It’s a fascinating time when you get these generational shifts.  So this fixation we have on family controlled businesses, I think it’s a great area to focus on, a lot of investors don’t focus on family controlled businesses.  But the data shows that over time family controlled companies have actually substantially outperformed indexes.  Because when you have a steward of this capital, is really thinking for the long term, they tend to make better decisions for the long term rather than this quarter or next quarter.

So we have this hybrid portfolio where we have our compounders, and then we have our more transactional type investments which are the restructurings, the transformations, the breakups.  What’s interesting to note I’ll say is that a lot of investors want to come into a restructuring or some sort of a strategic change situation after.  They want to see that it’s done or it’s a company in a multitude of businesses and they’re breaking it up and that doesn’t say, “Yeah, I’ll come in afterwards, I don’t want it when it’s going through it.”  Well, afterwards it’s usually revalued or well onto its way of revaluation.  We want to get it when it’s the most compelling, so it doesn’t have to be before, it’s usually during, during the change, now you have execution risk.  You have to understand who is driving the transformation.  Where do they come from?  What’s their track record?  You don’t want to be in a situation where somebody says, “Look.”  And we focus mostly small and mid-cap, but we’ll dabble up when there’s a mega cap or large cap with something.  You know, Vivendi, that’s a 30 billion euro market cap.

We recently bought in the last year DowDuPont which is a massive breakup case and restructuring, and that’s 140 billion cap.  We never thought we’d buy something that big.  And people might say, “Well, what do you know that the next guy doesn’t know?”  Well, the next guy doesn’t want to buy a conglomerate, the next guy is waiting for this thing to break up, we’re buying it when it’s still together, when they have made all these announcements about their focus, how they’re reorganizing their operations to focus on making real returns instead of just investing for the sake of science.  They’re looking for ways to deliver bottom line performance, while still investing for new products and growth.  And but investors will value a conglomerate, its weakest business, in the case of DowDuPont, Dow, the Dow piece which is the combine from Dow and DuPont commodity business is where the whole pie has been valued.  Well, once that piece is broken out, which will be next week, then you’ll at the end of June get the agricultural piece, it’s the combined ag businesses, you’ll be left with the specialty business, which will be called DuPont.  And then we think DuPont itself will likely break up into subcompanies.

The market rewards narrow focus, so when you de-conglomerate you generally get more reward.  So buying it like in the middle of the change you get it at, we think, at the most compelling discount.  But this execution risk is real, you have to understand who’s … we think in terms of, we’re not just buying horses, we’re buying jockeys.  The horse doesn’t know what to do or which direction or whatever.  So the horse is let’s say the assets of the company.  The  jockey is driving it, and his or her skills help drive this thing to the end game, the finish line, which for some of our companies is really the starting line, because now they’re out for the first time as a new company.  And so it’s really critical to do the work.  But I’ve seen situations where we’ll see a company and people are saying, “Look at this, how lucky are we, our $2 billion market cap just got a new CEO.  They came from a $7 billion company.  How are we so lucky?”  And then we go and we do our homework and we say, “Hold on a second, when that person got to the $7 billion company it was a $14 billion company.”  That’s one of the great value destroyers out there, that’s the last person we want here.  So you have to do your homework.

And we’re in an era of so much information available, we’re really in the era of information overload, but you find people talk about information, they don’t always consume it.  You know, people will say, you’ll ask somebody, “Did you read whoever’s annual report?”  “Yeah, I got it.”  “I didn’t ask if you got it, did you read it?”  “Not yet.”  All the time you hear that, a lot of investors are waiting for other people to summarize, to condense, to whatever.  We want to go to the original work ourselves, we’ll make mistakes sometimes, we’ll get it right hopefully many more times.  But the fact is, it should be because we use our own brains to get there, it’s doing your own original research and not just outsourcing your thinking to somebody else.

Right.  Yeah, can you just tell me more about meeting the management and selecting the jockeys and the process and what you learned through the years of doing that?

Sure.  I think it really does come down to getting to know who’s the captain of the ship.  When it’s a mega conglomerate or a market cap, we’re not always getting that one-on-one connect.  But in those large cases, like in the case of DowDuPont, we don’t really need to meet Ed Breen, well, it would be great to meet him but there’s so many interviews, there’s so much history of what he’s done in the past, they have so well documented what their intentions are of this company.  And they’ve made other management people available, so you don’t always get that guy.  And this is not a company where there’s like a main shareholder, that’s a family forever.  There are heirs to the original owners that are probably shareholders, but they’re not controlling shareholders.  So it’s getting to know the management, we’ve put a lot of effort into it.

I was just in the Nordic region last week, Norway and Sweden visiting companies, and we spent a lot of time, not just with individual management teams, but it was also a number of family offices that are sitting on boards that control businesses, individuals that control companies.  We’re not looking for secrets, we couldn’t care less how this quarter or next quarter’s going.  We’re looking for interesting businesses that are cheap, where there are catalysts for value creation, and with these families there are such long term investors and thinkers that the more we can share our own thoughts with them and they share their thoughts with us on where they’re seeing opportunities, what they’re looking at, it’s great.

And to develop this network of families and individuals that control companies, it goes back to the earliest days of my career where when I was … I think I was 26 years old, I got a passport for the first time.  And I discovered a country called Sweden, as a firm when I was at Mutual Associates, we had never invested there.  And they were going through a financial crisis and I went there because there were conglomerates that were trading cheap.  And I realized very quickly there were families that controlled businesses, you know, the guys that started H&M family, the Wallenberg family, that’s AstraZeneca, Electrolux, Ericsson, a bunch of other companies, Atlas Copco, you name it, they controlled a lot of businesses.  The Stenbeck family with all kinds of telecom and media businesses throughout Europe and emerging markets.  And I thought, man, this is amazing, you have all these families and individuals, I’ve got to get to know them better.  And then what we also figured out is that if somebody was a good CFO in these smaller countries, like Sweden or Norway, eventually they’d be … if they were a good CFO, one day they’d be a good … they’d be offered a shot as a CEO.  So we made it a focus of ours to get to know as many CFOs as possible.

And so it’s just, it’s sort of just getting out there, meeting, talking, debating, complaining and challenging them.  If somebody comes here into our office, they’re from a family or an individual or I’m in their office in their country, I don’t want the pitch book, it’s less than I want to see.  We should have read it before we got there.  I want to hear them talk about their business, I want to hear how they think about creating value.  And do they know their business?  Do they have to flip through docs to get answers to questions?  How well do they know it?  What have they done, when they have made mistakes, how have they dealt with it?  And just the more you can speak with people the more you can really get your arms around how they do what they do.  Are they value creators or are they value destroyers?  Are they talkers or are they doers?  There’s a lot of doers out there, but there’s also a lot of talkers and you realize they never deliver.  And so you want … I don’t care if they’re a talker as long as they’re also a doer.  If you’re just a talker we’re not interested.

And some of these family controlled businesses, they don’t create value, they’re taking advantage of the shareholders.  They’re working against their shareholders, they use them like a piggybank.  We’re not interested in those, but we distill everything down to we want to … there’s a difference between a bad manager and a bad person.  A bad manager can be changed, a bad person is a bad person.  So when we think there’s a situation where it’s a bad person at the helm, we don’t care about valuation, we’re investing in people.  We have to have people that we can trust, that are of good character and judgment and so that qualitative aspect is critical.  That’s why speaking with different family offices and individuals in these markets is so important, because they help you triangulate many times the softer part, the, are those good guys.

I know in Spain, there’s a group that I talk to, I’ve been talking to for 25 years, a publicly traded company, we don’t own it.  But the head of it is one of the wealthiest guys in Europe, and whenever I’m there he likes to talk stocks, so do I, about European small and mid-caps, the guy’s really into all these other companies.  But if we’re vetting a company in Spain I will ask him specifically, “What do you think of that person that runs that company and how do they manage?”  And in some cases I’ll hear, “They used to work for us 10 years ago, we’re very happy they don’t anymore.”  Or it was, “We were sad to lose them because they went over there.”  So just these are soft comments, but they really help you triangulate.  We’re trying to construct a 3D view of the company and of the people running it because you’re betting on both.  So it’s a lot of work, we look at a lot of things to find a few things.

Yeah, very cool.  And then can you just tell me about your ideation process and do you screen for anything or how you find your next investment?

Sure.  So there’s a number of ways to source ideas.  First of all I think a lot of investors do screen on numbers, we don’t.  I think if you invited 10 value investors into this room, and you asked them to do some screens, you’re going to get a lot of overlap in output.  We screen on key words, if you do screens on spinoffs, post reorg, equity, if you do … for years where we do a search where we do patriarch, plus died, plus holding company.  You will get a lot of Asian conglomerates that were transitioning to the next generation.  Now you’re getting a lot of German mid-caps, where the next generation is not interested in the business, but they’re interested in the money, so you’re getting M&A activity growing.  So this helps us, I mean we have other kinds of combinations of words that we do.  A company might announce at their annual meeting, or if they’re doing a capital markets day, an investor day, whatever, we’re reviewing our businesses, we may spinoff non-core assets, we’re going to take a review till year end, we get an alert.

And then we do our own work, we’re not relying on anybody to do the work, but the alert says, “Okay, the company said that they’re thinking of breaking up basically.”  So then we do an analysis and we just start asking, “You know, is it cheap?  Why is it cheap?  What’s going to make it less cheap?  What are the risks?”  And we go into a whole process, we are very process driven.  So the sourcing is the key word searching, it’s this network of families and individuals that we know and who.  It’s random but somebody will say, “Hey, I know you like spins, have you looked at, or you like restructurings, finally this company in Bavaria has changed, they’re bringing professional management for the first time in the history of the company in 200 years, interesting.”  So that’s a little softer because it’s not as regimented, but we’re talking to our network throughout.

And I’ll make the distinction between brokers and the bankers.  We like to talk to bankers.  Why?  Well, businesses are breaking up, they’re spinning off assets, they’re refocusing on core, we want to get a call from the banker to understand what’s happening.  So what I didn’t say throughout this whole podcast is that we have a high fixation on Europe, I probably should have said that at the beginning.  But we really put a lot of our time and effort into Europe first, US second, everywhere else after that, for opportunities, for our kind of opportunity for special situations.  There’s more happening in Europe really than anywhere else.  And I’ve been doing that for almost 30 years now.  And so some people might say, “Well, how can a couple of guys do that from Summit, New Jersey?”  Well, the fact is it’s … we travel a lot but more than that it’s having a perspective that we don’t have to cover the whole world, we are only looking for key characteristics, we have a very rigid filter.  And so we’re not covering every healthcare, industrial business, whatever.  We’re only looking for the ones where there’s change, where there’s a problem, there’s a breakup, there’s a spin, those are the words that attract us, those are the characteristics that drive us to do more work.

So it’s not, you have the universe that you can look at which is globally, but the fact is the ones that are really managed well and are great businesses, we’re not interested in.  We actually want the good ones that have stumbled, that we think can get back on track, that’s sort of the play or part of the opportunity.  And so we do that and we are on the road quite a bit, but I’ve been doing it for a long time, you don’t have to be based there.  Having the outsider’s perspective is important.  But I would say that we have a network that I’d put against anybody who’s not, we can say ours is as good or better.  Because we started calling these companies and these families, and these individuals almost 30 years ago, and are still talking to them or their next generation.  And it’s invaluable, some of them do not actually meet investors, it’s just not what they do.  They’ll say, “Go and meet the management of the company.”  We get the meeting with them, and again we’re not looking for secrets, we’re trying to get perspective.  But it goes back to having been so focused on this.  And when I try to get a meeting I say, “Well, here’s the references I can give you to check me out or some of my team out,” so that we can get these meetings.  Because a lot of these families are very … I’ll call them introverts, they’re not really introverts, but they’re close, they’re not looking for outside, especially, you know, some guys from New Jersey to say, we’d like to chat, talk about stocks.

And I know I got off the topic, but for sourcing it could be that, so talking to the bankers, the network of families and individuals, this key word screening.  And then just tracking what’s happening in the world again with these various alerts.  In my weekly meeting that I do with my team, everybody has a topic area.  One person tracks what the activists are doing.  One person’s tracking spinoffs and breakups, all the announcements.  One analyst here is focusing on restructurings.  And so the Monday meeting is a catch all, we’re talking all the time but the Monday meeting is to make sure that we kind of don’t miss something from the prior week, that we might have talked about during the week, to make sure that if it’s warranted, somebody’s working on it.  So there’s a lot of ways to source but we don’t, as I said before, we don’t want to own everything, we want to have a much more curated list of names and cap it.  We say it will be around 30-40 positions, we’re actually slightly above 40 at the moment.  But that will come back down, some of the things that we own are somewhat smaller cap, and we don’t usually focus on sectors or industries, but we happen to have some maritime related investments, where the market cap’s just so small.  You can get some more characteristics in a number of companies and we don’t want to own too much of an individual name, so we spread it around a little bit.

And then, yeah, getting to Europe, what makes Europe unique and why you like it?

Well, look, when I first started in the business, whenever I would show a name to Michael Price in the US, he would pull out the proxy and because he had been doing this so long, he always had an opinion on the company or the management or whatever.  And so the bar was so high to sort of get some face time to talk to him about a name.  Because he already had a perspective, but I found out when he talked about a non-US name, it was like starting with a clean sheet of paper.  He’d listen, at least for a few minutes, to determine if it was worthy of him listening for more minutes.  He had a lot of guys pitching in the office.  And that coincided with where as I said before Sweden was going through a financial devastating crisis, where the banks were bust.  And that’s when I started going there and I just found there was nothing but cheap stocks in Sweden.  Then I went to Denmark, I went to Norway, I went to Finland and then somebody said, “If you think these stocks are cheap, there’s conglomerates in France.”  I went to France, there were stocks trading with … there were holding companies that had stakes in other conglomerates, at 65% discounts, crazy.  But they were sleepers, nothing ever happened.  And in some cases we nudged some of the companies to just wake up, and think about the shareholders, including themselves, they could create so much value with little tweaks.

And so what I found was that Europe was just chockful of opportunity that was in the early 90s, some of the best investments I ever made were then.  I feel that we’re in the same boat again now.  But instead of it just being in Sweden or Nordic let’s say, it’s all over Europe, you know, the financial crisis is still reverberated throughout Europe.  Europe is much slower than the US to get things accomplished because the EU is chockful of a variety of personalities, countries, leadership changes, Brexiteers or whatever, and it just adds more complexity and time.  But the fact is what has changed is the … it turns out the world’s shrunk in the last 20 years.  You’re not just competing with other companies in your industry in your country, you’re now competing with other companies in your industry wherever they are because transportation costs are so low, so that pushes companies to become much more competitive.  So for Europe which has generally been behind the US, from a corporate standpoint in terms of adopting technological advancements and efficiencies has been trying to catch up and jump ahead.  So you’re seeing … and I have to say, it’s guys like people at Fiat, that really push this, where they’re factories were at 20-25% of utilization.  You didn’t need all these factories and so they built new modern factories or modernize the existing one and they’d have to close other ones.  It’s just the world changed and they have to adapt to be competitive.  And somebody had to be the first one to push back against the unions, they were one of the first.

And you’re seeing that the streamlining, the technological advancements, the adoption of really new ways of production and operating your business, it’s taken a lot of the cost out.  So they’re becoming so much more competitive, that’s a game changer.  So in this slowdown period where China’s … the slowdown of China has really created a global slowdown.  What we see when we’re visiting companies is it’s so different now.  Managers and CEOs, families are talking about how can they take advantage of what’s happening out there?  Well, they’re restructuring their businesses, they’re tightening them up, they’re getting more narrow, because they’ll get a higher valuation and they can run their business better, instead of running five different industries well, they can do it better.  They may not go from five to one, they might go from five to two or five to three, but they’re still fitting out sort of the range.  And then they’re going aggressively to add on businesses that fit into their core areas.  So M&A activity is exploding, they’re bolting on, they’re adding product lines, they’re taking competition out.  Their balance sheets are generally pretty good, interest rates are low, a lot of people think too low in Europe, they have low rates, flush with cash, and they have been investing in their businesses as well and what they haven’t had is a lot of topline growth, right, their revenue growth has not been there.

But when you go on a diet and you take your cost down, you could have … you don’t need any revenue growth to have higher earnings.  But when you get a pick up in the topline you get explosive earnings.  And Europe has had a lot of fits and starts over the last, you could say decades or you could say a generation, or you could say 40 years or you can say 80 years, it’s been fits and starts all the way back.  But the fact is there’s an undercurrent of pushing this thing forward.  Yes, the UK wants out and rejiggle the way that they interact with the rest of Europe and the rest of the world, that’ll happen.  We have actually not owned any stocks in the UK in over five years, it wasn’t the Brexit call, it was most American fund managers start in London because it’s a similar language and accounting and stocks weren’t cheap because they always push them up and make them less cheap.  We want to go where we can get real value, so that was for us going anywhere but UK.  Well, with Brexit now, the UK’s getting cheaper, especially mid and small caps, so now we can focus there and maybe for the first time in years we’ll get some opportunities there, so crisis can create opportunity.  But so that’s why UK’s starting to get interesting, I’m not saying it’s interesting yet, I’m saying it’s starting to.  And I think the rest of Europe is still going through changes, there’s fears that Germany’s sort of peaked out economically and it’s slowing down.

But you have massive change, you have [inaudible] working up, you have Siemens selling their core businesses.  You have activists in Germany really pushing for aggressive change.  And so these companies are really doing this change, as I said earlier, it’s not just change that might create value, it might, but we have to determine, is this change really going to create substantial value, or is it just change for this company to survive, but there are changes there, and so relative to the US it’s cheaper.  But I would make the distinction, we’re not really buying Europe, we’re buying companies that are in Europe, it’s a very big distinction because most of these companies are global players.  Vivendi is a French company, they own Universal Music, which is a US company, well, regardless of the economic environment, are less people going to stream music?  Yeah, maybe at the margin, but it’s a growing business, and so every time Spotify or Deezer or whoever, you get more streaming customers.  Anybody who pays for music instead of getting it for free, they’re a customer of Universal Music, they’re a customer of Vivendi.  And so I don’t have to worry about, it’s not Europeans that’s going to impact them, unless the tax regime changes in those markets, that can impact it.

So there’s just so much happening and I think international global investors that are based in the US, in many cases have been fearful of Europe, the headlines are bad.  I mean if I was going to make a soundbite, I would say the headlines are bad but the stories are good, because underneath the headlines there’s change, there’s restructuring, there’s transformation, there’s refocusing, there’s M&A activity.  The shareholders are pushing the boards, the boards are pushing management, deliver or get out.  The old boy network, it’s fading away, just like the US put in anticorruption laws and start going after companies like Siemens and others who had issues in other countries, not even in the US, and made them pay substantial fines.  The French have adopted similar rules and are pushing companies there, that were in the old African colonies, countries in Africa that were colonies of France way back, where they had been doing business the old way for a long time, you’ve got to clean up your act.  And there’s fines and issues, I think this is fantastic for Europe.  Why?  It’s painful and excruciating, it levels the playing field.  So I think all of these things are pushing it forward, but investors have been looking backwards when they think about Europe, not forwards, I think that’s our opportunity.  You still have fits and starts but I think you’re going to have more starts and less fits.

And then is that like the US influence kind of coming in there now with all the shareholder … and like the shareholder value and being more focused and stuff like that?

Absolutely.  Look, when we started the firm almost 10 years ago, we had over 40% of our fund in the US, something like that.  Then we went all the way down to like 12% US, today we’re about 21 or 22%.  Are you talking about investing in the US or are you saying the US influencing Europe?

Yeah, US influence, yeah.

Okay.  Well, I’ll still answer first one even though you didn’t ask it.  Well, which is we’re seeing more things happen here like DowDuPont, and a few other businesses that we’ve seen here in the US that are compelling.  This concept of break up and spin extortion, it is global, it’s starting to happen in Asia as well more aggressively.  You’ve seen family fights in the Asian countries and corporates bidding more.  It’s things that you just didn’t see in the past.  So we have 7 or 8% in Asia up from almost nothing a few years ago.  Yes, the US influence has made it there.  I think American style activism doesn’t work as well in Europe.  The let’s go in and punch everybody in the face and then kind of see what’s left behind doesn’t seem to work.

What you do have are … now, some still do it and I’m not even going to throw out any names, but what we have seen more success from some of these activists is where they kind of use the system.  They take a stake, they get themselves a board seat, they get on the agenda for the annual meeting, they get on the board and they try to work it from the inside out, instead of the frontal attack, they’re doing it from inside, and it’s a softer approach, it takes longer.  But the success rate seems to be higher for them to get companies to adopt better corporate governance, refocus on their businesses, not try to be the best at many things, but be exceptionally good at a fewer number of things and excel there and then shed the non-core things.  So you’re seeing this happen in a big way.  And I think that is the influence from the US, but it’s sort of morphed where I think … it’s like when American investors started going into Japan, and going full out activist, a lot of them came back, vowed never to return to Japan because they got nothing accomplished.  I think it’s a different level but in Europe it’s somewhat similar, first the attitude is let’s circle their wagons and get rid of the Americans, then we can go back to killing each other and fighting each other at the board or whatever, but let’s get those guys out first.  And so I think that, so because of that happening for so long, there’s sort of a more circuitous way that these active investors have worked.

And I will say we … I’ve done activism in the past, I’ve done proxy fights in Germany, I’ve done all this kind of stuff.  It’s really not of interest to us.  We will look at an activist situation and decide, shall we join with them, should we go anti-activist and help the company work against the activist, because we think in the long run that’s a better play.  But we try to work with companies where we say, “Look, if we can be help…”  So we have discovered that over time certain smaller companies, small and mid-caps, they might be extremely talented and proficient in their business, but they suck in understanding capital markets.  We’re trying to do a deal, should they do an equity offering or a convert or a preferred or whatever, is this the right time or the wrong time, should they do a rights issue.  So they use bank debt if they’re making an acquisition, whatever.  And we find that they’re good at their business, they’re not good at this other stuff or dealing with shareholders.  And we’ll say, “Look, if we can be helpful, we’ve been around a long time, if we can be helpful, if we need to restrict ourselves in the stock for some period of time so that we can help you think about it, we’ll do it.  We want to help you achieve the success that the company should achieve.”  And so instead of being an activist we try to be more sounding board, help them think it through, we have a commonsense approach to the situation.

And we’ve had a number of cases where either we went against the activist and tried to help the company or we helped the company think through an issue where they just really, as I said, you know, they know their business well.  But they’re just not the best at understanding the way to utilize the markets for capital increases and so forth, we try to be helpful, especially with the timing.  You know, if it’s December of last year and the markets are not doing well, and you’re trying to raise money, you’re not going to get it done at a price that anybody is going to be interested in, except the people putting the money in.  Well, we’re already existing shareholders, you know, you have to be a little thoughtful, don’t wait till you’re desperate.  And so it’s, I think that is an area that we have put effort in and it’s been, I think, our shareholders, our investors have been rewarded over time because of that component to what we do.  We don’t really talk about it much because it’s so intangible, but there’s real value there.  And just the networking again, sitting down with the management teams, getting access to them, challenging them, we don’t set the bar for them anyway, they set their own bars.  But if we think it’s low we’ll say, “Do you think your bar’s too low?  Do you think you can do better?”  And we’re not asking about their numbers, but their long term goals, the long term perspective.

And ultimately we’re talking about numbers, but in the long run, not this quarter or next quarter.  We really take a longer term perspective in how we think about investing.  And it’s too hard to find really good names, so you want to find ones that you could kind of stick with.  Like I think DowDuPont, which is as I said before, the largest market cap I’ve ever bought.  I think that could be the gift that keeps on giving for quite a number of years, because we’re just at the front end of this break up.  And the benefits are just starting to come through of a lot of the work that they’ve done over the last couple of years to get it ready for this.  And I think we’re going to have a multitude of spinouts from it over time.  And so we’re excited to own it, and I think investors are going to sort of rediscover it, even thought it’s right there hiding in plain sight.

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