Philosophy & Process
Philosophy is the foundation, process builds the returns, structure tilts the probability of repeated success in our favor
Quality
Economic Profits Drive Returns
Investing in high quality companies will deliver superior investment returns over long periods of time:
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Competitive advantages or economic moats allow companies to create value by compounding the spread between returns and cost of capital
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Capital allocation by company management (funding internal growth, dividends, buybacks or acquisitions) is critical to compounding shareholder value
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A focus on long-term economic profits in board and management is rare, but builds more shareholder value than short-term earnings management
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A business owner mindset allows a long-term perspective that reduces behavioral finance mistakes:
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A long-term view lets us to separate signal from noise – focus on the long-term economic profits rather than extrapolating short-term results
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Stocks of high-quality companies (defined by leverage, profit margin, earnings volatility or beta) outperform low quality stocks over the long-term
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Time arbitrage is buying assets with long-term value (probabilistically enhanced by competitive advantages of companies) in a contrarian view to an under-appreciating market
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Business Owner Mindset
Style
Investment decisions are probabilistic, structure and every aspect of the process is designed to tilt the odds in investors’ favor:
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Concentration - active investing adds value across all funds (even underperforming ones) when only the best ideas are used as subset portfolios
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Active share and long-term holding (low turnover) combined adds alpha
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Equally weighted portfolios harvest the Fama & French small company factor (our portfolios also benefit from the quality/profitability and value factors)
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Conviction Investing
Structure
Risk management is fundamental to and integrated in our process:
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Looking for a margin of safety in investments is built-in risk management by rendering an accurate estimate of the future unnecessary
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Mean reversion or cyclicality in revenue, margins and valuations creates opportunities to create higher investment returns and better protect capital
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Minimizing losses is more important than maximizing gains; a disciplined process and checklist driven decisions minimize mistakes
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Consistent Process Improves Skill
Risk Management
Investment Process
Focus on what drives long-term business return
INDUSTRY
Predictability and long term return
BUSINESS
Sustainable competitive advantage
STRATEGY
Management incentives, strategy and capital allocation
DATA
Qualitative information with long shelf life
that cannot be collected by machines
Assessing
Business Quality
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Does the company have a proven business model?
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Does the company have a competitive advantage?
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Barriers to entry
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Pricing power
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Economies of scale
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Lower cost and higher demand
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Habit formation and captive customers
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Culture
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Does the company reinvest to widen its moat?
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What is the downside risk (survival)?
A consistent and disciplined investment process improves rational decision making
PROCESS
Initial Qualification
GOAL: Create a manageable opportunity set to prioritize and analyze
Historical Analysis
GOAL: Determine initial business quality and investment opportunity; rank candidates
Fundamental Analysis
GOAL: Research industry stability and competitiveness
Portfolio Construction
GOAL: Improve the overall quality and/or valuation of the portfolio; maintain low portfolio turnover
Risk Management
GOAL: Reduce the risk of permanent loss of capital; generate superior risk adjusted returns
"I try to invest in businesses that are so wonderful that an idiot can run them. Because sooner or later, one will."
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- Warren Buffet