Buffett lives by a few simple rules throughout his life. He has acquired them over the years and found them to be useful rules to live by. He and his partner Charlie Munger believes in such simple logic. Charlie Munger used to say that there are really just a few big ideas in life. There are no secrets to become rich, or to be successful, or to be whatever you want to be. The so-called secrets are simply ideas/rules that we know so well but we fail to apply them. Or our emotions overrule our logic and deter us from applying them rationally. The simple rules are like these listed below:
1. Early bird catches the worm
2. Live within your means
3. Bang for your buck, value for money, go for bargain
4. Keep things simple stupid
5. Be fearful when others are greedy
So today, we look at a similar one that Buffett came up with: “If you don’t know the jewellery, at least know the jeweller”. The idea behind is really simple. You must know that the management of the company is good and trust them to do the right thing. You may not know whether you are really buying a real gem or a useless piece of rock at the jewellery store, but if you know that the jeweller is honest, wants to help you whole-heartedly, (unfortunately no such retailer exist in Singapore, ALL retailers are out to screw the customer), well then perhaps you can trust him to select a good gem for you.
Buffett doesn’t know everything about businesses. He admits that he doesn’t know nuts about technology. But the good thing is Buffett has perhaps mastered the art of sizing people up. He has been meeting people for over 50 years, for goodness. Well some times he screws up (like maybe Salomon Brothers…), but most of the time, he meets up with people in the top management, gets to know them and if they are up to the mark, he trusts them to make the right decisions for shareholders.
This is perhaps the major reason why he bought BYD, the Chinese battery maker. He probably placed two layers of trust here. Trusting Mid American Energy to know enough about BYD to buy a stake. And trusting BYD’s management as well. Apparently he flew to China to meet the CEO, now the richest man in China, and was very impressed. He definitely know nuts about batteries and technology, so it’s really about knowing the jeweller.
In stock analysis, we always like to look at financial ratios like ROE, operating cash flow, margins, balance sheet strength etc. It’s quite no a brainer once you know a thing or two about financial statement and just divided one no. by another. The insight here is actually thinking about who made those no.s? Ultimately, it’s the people in the business. The top management, middle managers in the company and the company staff.
Company ABC’s average ROE for the past 5 years is 15%, therefore we can expect it to be 15% as well when the economy recovers. Or we can expect it to grow to 20% bcos they have a new product, or perhaps the industry average is 20%, so they should make 20% in time. Well, only if the top management has the leadership, determination and drive to make that happen. People make the numbers. Superior management made the 15% ROE and have the capability to bring it higher. Crappy management cook the books. And there's a lot of crappy management around.
But as small time retail investors, how do we get to know management well enough? Yes it’s difficult. It is true that retail investors may not access management from meeting them, talking to them directly, but we can still judge by their actions, their business plans and get to meet them during AGMs. Sometimes, things get so blatant that any Tom, Dick or Harry investor would stay 500 miles away from stinky management.
It takes a while (like a few years) to gather information about managements of listed companies and also experience to determine if what the management did was good for the shareholders. This means to read beyond what our "high quality" press media reports, decipher the news in the context free of any hidden agenda.
1. Early bird catches the worm
2. Live within your means
3. Bang for your buck, value for money, go for bargain
4. Keep things simple stupid
5. Be fearful when others are greedy
So today, we look at a similar one that Buffett came up with: “If you don’t know the jewellery, at least know the jeweller”. The idea behind is really simple. You must know that the management of the company is good and trust them to do the right thing. You may not know whether you are really buying a real gem or a useless piece of rock at the jewellery store, but if you know that the jeweller is honest, wants to help you whole-heartedly, (unfortunately no such retailer exist in Singapore, ALL retailers are out to screw the customer), well then perhaps you can trust him to select a good gem for you.
Buffett doesn’t know everything about businesses. He admits that he doesn’t know nuts about technology. But the good thing is Buffett has perhaps mastered the art of sizing people up. He has been meeting people for over 50 years, for goodness. Well some times he screws up (like maybe Salomon Brothers…), but most of the time, he meets up with people in the top management, gets to know them and if they are up to the mark, he trusts them to make the right decisions for shareholders.
This is perhaps the major reason why he bought BYD, the Chinese battery maker. He probably placed two layers of trust here. Trusting Mid American Energy to know enough about BYD to buy a stake. And trusting BYD’s management as well. Apparently he flew to China to meet the CEO, now the richest man in China, and was very impressed. He definitely know nuts about batteries and technology, so it’s really about knowing the jeweller.
In stock analysis, we always like to look at financial ratios like ROE, operating cash flow, margins, balance sheet strength etc. It’s quite no a brainer once you know a thing or two about financial statement and just divided one no. by another. The insight here is actually thinking about who made those no.s? Ultimately, it’s the people in the business. The top management, middle managers in the company and the company staff.
Company ABC’s average ROE for the past 5 years is 15%, therefore we can expect it to be 15% as well when the economy recovers. Or we can expect it to grow to 20% bcos they have a new product, or perhaps the industry average is 20%, so they should make 20% in time. Well, only if the top management has the leadership, determination and drive to make that happen. People make the numbers. Superior management made the 15% ROE and have the capability to bring it higher. Crappy management cook the books. And there's a lot of crappy management around.
But as small time retail investors, how do we get to know management well enough? Yes it’s difficult. It is true that retail investors may not access management from meeting them, talking to them directly, but we can still judge by their actions, their business plans and get to meet them during AGMs. Sometimes, things get so blatant that any Tom, Dick or Harry investor would stay 500 miles away from stinky management.
It takes a while (like a few years) to gather information about managements of listed companies and also experience to determine if what the management did was good for the shareholders. This means to read beyond what our "high quality" press media reports, decipher the news in the context free of any hidden agenda.
Definitely management plays an important part in the future prospects of the company.
ReplyDeleteBut, how can a normal individual layman meet with the management to determine their strength?
You are comparing with Buffett! He can meet management any time he wants and he can probably even tell them what to do.
Management is surely most important. The most important thing is how seriously the management views their fiduciary duty for shareholders. Ultimately, management is the steward for shareholders who have placed their trust in them.
ReplyDeleteBut, the duty of establishing the trustworthiness of the management ultimately lies with the investor to gauge. No doubt, a retail investor can hardly gain decent access to management. But that does not hinder the retail investor for it is up to the investor to learn and gauge how they place their trust in others. It is not much use to have all access to management if the management in the first place is of shady character. Gauging a person character is surely the hardest task, but it is a skill to be learnt and try to strengthen it. Buffett mentioned there're 3 qualities when he size people up in business - integrity, intelligence and drive. All 3 are must-haves. But the most important is integrity because lacking which, having the other two only harm others because it is far easier to rob with the point of a pen than a gun. The smarter people with brains but lacking character would be the Madoffs than a bank robber.
As for Buffett, surely he can access any management he wants to given his current status. But let's not forget such status are not a given when he started out. Surely, he does not have such access 30, 40 or 50 years ago.
Even today, he does not necessary reach out to management. For instance, Moodys, he had never talked to the CEO of Moodys (if I am not wrong, I recall reading it somewhere).
this is well writen 8percentpa. nice :)
ReplyDeletei was wondering if you'd like to do link exchange with my new blog at http://www.lattemoney.com/ please? i have already linked to you.
Hi Lau, as a retail shareholder, you can only judge management by their actions over time by reading media reports. As stated in towards the end of my post. A lot of info can be extracted from public domains actually which some times is good enough to judge whether a management is good or bad. Take a look at my analysis of CK Tang.
ReplyDeleteHi Berkshire!
ReplyDeleteThanks for dropping by. It's really great to see your addition of Buffett's approach in sizing up people. Much appreciated.
Hi Lattemoney,
ReplyDeleteYou have a really nice blog. I will put up a link right away!