Robert W. Bruce Lectures 2004-2007 to Bruce Greenwald's Columbia ClassVW Staff
energy level and the desire. So the question was: Who would be the best leader? Who was going to go into a foxhole with me?”
“I devised this little system in getting you to think about how you might attack that problem yourself, or how you might be the person that would be chosen under those circumstances. Imagine that you have just won a lottery I conducted. And by winning it, you had a very unusual prize. The prize you get is the right to pick within the next hour one of your classmates. And you get 10% of the earnings of that individual for the rest of your life.
What starts to go through your mind? Are you going to give an IQ test or look up their grades and take the person with the highest grades? Are you going to try to measure desire or energy or something? I think you’ll decide that those factors tend largely to cancel. They could be important up to some threshold limit, but once you hit those levels, you’re OK.
I think you’ll probably start looking for the person that you can always depend on; the person whose ego does not get in the way; the person who is perfectly willing to let someone else take the credit for an idea as long as it works; the person who essentially wouldn’t let you down; who thought straight as opposed to brilliantly.
And then, let’s say there is a catch attached. For the right to buy this 10% interest, you had to go short 10% of somebody else in the room. So in effect, you get the 10% of the first person’s earnings, but you have to pay out 10% of the second person’s.
Now again, do you look around for the person that is a little slippery, the one that everything has to be his or her idea, the one that never quite does what is expected of them, or pretends to do things that they don’t. You really get back to things that interestingly enough…are things that you can control.
You have these–what I would call–voluntary items of character, behavior. Essentially, you can pick out those qualities of behavior, and if you want them, you can have them yourself. And I would say that most if it’s habit. It is just as easy to have good ones as bad ones, and it makes an enormous difference.
VI. Waiting for the right price
I just want you to be aware that this personalization of corporations is recent in the last five or ten years. Now, in terms of finding franchise companies to invest in, checking to see if the managers of those companies are the type of people you want to be with.
Then what do you do? You want to wait for the stock to trade at a price discount to value. Nearly all the companies we are talking about have great financial characteristics, they are well regarded and nearly all of the time they will trade at or above intrinsic value. They are easy to like. So what makes the opportunity occur? Sometimes the company fails to make its earnings expectations or the company recalls a product. There is some type of disruption, something goes wrong, that the market is worried about in the short run. My experience has been that you have to have done your work in advance, that you don’t have time to react. Chances are you won’t have enough time to do a good enough job to take advantage of the opportunity.
The image I have is shopping for shoes and waiting for them to go on sale. I know what I want and I wait for them to go on-sale. You go to a shoe store and you walk up and down the aisles and look at all the shoes. You like that one and that one, but they are too expensive. I think I will come back when they go on sale.
So what I do is I look for companies that fit my financial characteristics, my perceptions right or wrong of the quality of the company. I have a lifetime experience of getting to know 200 or 300 or 400 companies that might fit my description. And I never know when any one of them stumbles, but if it does, I would like to be prepared. I got my eye on a lot of different stores, but I have my eye on enough shoes that if any of them go on-sale, I am ready to act quickly.
VII. How do you know if the problem is a blip or the beginning of the end?
It is not an easy question to answer. The cliché of momentum investors is that there is never only one cockroach. The first piece of bad news is never the ultimate bad news. That isn’t my theory. In the kind of companies that I look at, if I understand the business well, if I understand what makes them work, if I have a reasonable understanding of its business model and the environment in which it operates, I should be able to distinguish if it is a long run or short run problem. If it is indeed, in fact, a long-run problem, then I exclude it.
The best example I have for that was what happened when Hillary Clinton had her health care scare. When she put her study group together to socialize medicine, it caused all the major drug companies to be targets, the stocks sold down to levels that in retrospect were extraordinarily attractive. But the investor had to know the prospect of her bill/act passing. I didn’t know at the time, but if I had, then this would have been an opportunity.
There is one other type of company, speaking for myself, I like to find companies rich in assets. Companies with hidden assets. These may be companies, which may be a little more difficult for the casual investor to understand, but the companies are rich in assets and may not have extraordinary attractive operating characteristics. For example there is a company–I am not long now–called St Joe Corporation which owns 4% of the state of Florida. It is a fascinating business. The operating characteristics are not particularly eye-catching. Other companies may have natural resources–timber, ore in the ground, oil and gas, real estate. These are assets that are not recorded accurately in GAAP financial statements. So you have to read the company’s footnotes.
Remember that when a company invests a million dollars to drill an oil well and the oil discovered is carried on the balance sheet for a million dollars whether the well produces 1000 barrels or a million barrels of oil. The GAAP numbers don’t tell you enough. You have to look behind those numbers. The same thing is true in regards to timber assets. The market value may have little relation to the cost of the timber purchased 30 years ago.
VIII. When do you sell?
Always be aware of intrinsic value. What happens when you buy at $70 because the intrinsic value is $100, but now the stock is $50 but the intrinsic value is $70–it is still selling at a big discount. What do you do? Your confidence might be shaken in your ability to judge intrinsic value. There is no easy answer. Warren Buffett in his 2003 Annual Report expresses regret in not having sold some of his large marketable securities–his Coke and Gillett during the bubble.
I am not dealing with companies, which go up and up and up for 10 years. Because I am sensitive to intrinsic value, because of the types of companies I am dealing with. If I buy a company at a big enough discount, I sell when it reaches intrinsic value. As a result I have almost never had a security that goes up several times.
Buffett has said he has identified companies that are so intrinsically wonderful, that he will hold them forever. Now, he is saying there is a time to sell. (Buffett mentioned this in his 2004 annual report to Berkshire shareholders).