INTERVIEWER: Hello, everyone.
We have a very special
guest with us today.
He is a graduate
of Harvard College
and Stanford Graduate
School of Business.
He has also founded
Housatonic Partners,
which is a private equity firm
with offices in Boston and San
Francisco.
Interestingly, he
has written one
of those rare and
special books, which
has won claim from none other
than Warren Buffett and Charlie
Munger.
The book is called
"The Outsiders."
And we are thrilled that the
author, Mr. William Thorndike,
is here with us,
in person, today
to talk about "The Outsiders."
Welcome.
WILLIAM THORNDIKE:
Thank you, [INAUDIBLE].
[APPLAUSE]
INTERVIEWER: So I
guess to kick it off,
why don't you give
the audience here
and the thousands on YouTube
an elevator pitch of the book
and what it's all about.
WILLIAM THORNDIKE: OK.
Great.
So I think the best analogy for
the book is duplicate bridge.
So how many of you play bridge?
[LAUGHTER]
That's a rather low penetration.
That would be zero.
So duplicate bridge is an
advanced form a bridge in which
a group of teams of
two show up in a room,
they're divided into tables
of four, each of which
is then dealt the
exact same cards
in the exact same sequence,
minimizing the role of luck.
Then at the end of the evening,
the team with the most points
wins.
So I would contend, over
long periods of time,
within an industry,
it's duplicate bridge.
So if one company materially
outperforms the peer group,
that's worthy of study.
So the eight companies and CEOs
profiled in the book, they each
fit that pattern.
They had to meet two tests.
The first was an absolute test.
They had to have better
performance relative to the S&P
than Jack Welch had
during his tenure at GE.
And then the second test
was a relative test.
They had to materially
outperformed the peer group.
And so if you look across
that group of eight, seven men
and one woman, by
definition, they
had to do things
differently than the peers.
But it turned out that the
specific actions that they
took, the things that they
did, were remarkably similar
across the eight.
So they competed in a wide
variety of industries,
ranging from manufacturing, to
defense, to consumer products,
to financial services, and
across very different market
cycles, but the specific
actions they took
were remarkably
similar to each other.
And the primary area of
overlap was in the area
of capital allocation.
And so I think the easiest
framework for thinking
about capital allocation is
that to be a successful CEO,
over long periods
of time, you need
to do two things well--
you need to optimize
the profits of the
business you're running
and you then need to invest
or allocate those profits.
And again, I think
the framework for that
is there only three ways that
business can raise capital
to invest.
It can cap it's internal
cash flow, it can raise debt,
or it can issue equity.
And then there are
only five things
you can do with that capital.
So you can invest in
your existing operations,
you can buy other companies,
you can pay down debt,
you could pay a
dividend, and you
could repurchase your shares.
That's it.
So over long periods
of time, the decisions
CEOs make across
those alternatives
have an enormous impact
on per share values.
So if you took two companies
with identical operating
results, same level of
revenue and the same level
of profitability, and two
different approaches to capital
allocation, over
long periods of time,
they drive two very
different per share outcomes
for their share holders.
Second piece is that if you
looked at this group of eight,
they fit an interesting
sort of personal profile.
So all eight were
first time CEOs.
So very surprising finding.
Over half were under 40
when they got the job,
only two had MBAs, four
had engineering degrees.
And as a group, if you were
reaching for adjectives
to sort of try to
describe them, you
would not use the traditional,
CEO adjectives of charismatic,
strategic, and visionary.
Instead, you'd use
other adjectives
like pragmatic, flexible,
opportunistic, dispassionate,
rational, analytical.
Words like that.
So they fit a slightly
different profile.
So I'll stop there,
but that's a bit
of an overview of some of
the themes in the book.
INTERVIEWER: William,
picking up on how
you describe their personality.
You're saying you
would not associate it
with charisma and so on.
You also mentioned,
early on, Jack Welch,
who's arguably one of the most
celebrated CEOs in business
history.
But I remember reading in
your book, and correct me,
if I'm mistaken, you say
that Jack Welch does not even
belong to the same zip code
as Henry Singleton, who
is one of the CEOs
profiled in your book.
Can you say more about that?
WILLIAM THORNDIKE: I mean,
Jack Welch was a great CEO.
Period.
And it's the reason that
he was the benchmark used
as one of the two
tests for selecting
the eight for the book.
But if you look at his-- so
his returns are extraordinary.
He ran GE for 20
years and he averaged
about a 20% compound
annual return
across that period of time,
which is extraordinary.
However, his tenure coincided
with a record bull market run
and a broader stock markets.
So I think really
the way to frame
that is, how did he perform
relative to the broader market?
And he meaningfully
outperformed the market.
3.3 times the S&P over
the time he was there.
But if you look at that metric,
relative performance compared
to the S&P across
a CEOs tenure, I
think these eight materially
outperformed Welch.
And Singleton is
an interesting case
because he's got such an
interesting background.
We could spend more time on him.
But he, by that same
metric, outperformed the S&P
by 12-fold over a much
longer, nearly 30 year tenure
at a company called Teledyne.
INTERVIEWER: I want to maybe
pause on Singleton for a second
before we move on because
you said that he was not just
a pioneer in stock buybacks,
he was much more than that
because he sort of
built a framework
in thinking about them.
And later on, in
your book, you also
mention the straw buyback
approach versus sucking hose
buyback approach.
Can you share more
on that with us?
WILLIAM THORNDIKE: So I'll
give you a little background
on Singleton first.
INTERVIEWER: Yes.
Sure.
WILLIAM THORNDIKE: So Singleton
is a very interesting case
and I think it would resonate
particularly with this audience
because he had advanced
math background.
So he was an undergraduate,
earned his Masters and PH.D.
in electrical
engineering from MIT.
While at MIT for his
PH.D. dissertation,
he programmed the
first computer at MIT.
So when he was 23
years old, he won
an award called The
Putnam Medal, which
is awarded to the top
mathematician in the country.
So he's very capable, competent,
mathematician, engineer.
He designed an inertial
guidance system
that is still in use in
commercial and military air
crafts.
So he had this extraordinary
career before he became a CEO.
And during the 60s, and
70s, and end of the 80s,
he ran a conglomerate
called Teledyne.
And what's interesting
about Singleton--
and he had extraordinary
returns in doing that,
but what's interesting
is the range he
showed as a capital allocator.
So for the first 10
years, he ran Teledyne.
Conglomerates were sort
of the social media
companies of their day.
They traded extremely high P/Es.
And so Singleton used
the inexpensive currency
of his high PE stock
to buy 130 companies.
So he was an active
issuer of shares.
At the very end of
the decade, 1969,
a couple of the
larger conglomerates
missed earnings dramatically and
the entire sector got pounded.
So PE multiples came
down across the group
and Singleton never
bought another company.
He fired his business
development team,
the group that was going out and
finding acquisitions for him.
Instead, he'd focused on
optimizing his existing
businesses and then he
began a pioneering program
of repurchasing his shares.
And over the next
dozen years, he
repurchased 90% of his
shares outstanding.
So he showed this
amazing to sort
of pivot it as the opportunities
presented themselves
and the result was this
extraordinary return over a 28
year period at the helm.
So that didn't answer.
So buyback.
So in that second
period, the last dozen
years when he bought
in 90% of his shares,
he had an approach to
that that is wildly
different than the way most
public companies repurchase
shares today.
Corporate America, as a group,
is a completely ineffective
repurchaser of its shares.
So last year, 2014,
corporate America
set the record for most capital
allocated to share buybacks
and they exceeded the
record that was set before,
in October of 2007.
So the absolute trough
for buyback volume
by corporate America was in
the first quarter of 2009.
So corporate
America, as a group,
has a perfect record of
buying high and effectively
selling low.
And not surprisingly,
the returns aren't great.
And if you look at the
way buybacks are typically
implemented in public companies
in the US, it's not surprising.
So the typical way
that works is the board
will authorize an
amount of capital
that can be deployed
for repurchasing shares.
And that will then
be implemented
in even, quarterly
increments, usually designed
to offset option grants.
So there's very little net
shrink of the share base.
And not surprisingly,
that approach rarely
produces interesting returns.
If you look at
what Singleton did
and what the other
CEOs in the book
did when they
repurchased shares,
it was a very, very
different approach.
They went long periods of
time without doing anything
and then they would repurchase
large chunks of stock
when they felt it
was inexpensive.
Singleton did that
through tender offers,
which is unusual, but
that was his method.
Most of the others in the book
used open market purchases,
but, in any case, a
very different approach.
INTERVIEWER: Similarly, everyone
looks at Berkshire Hathaway
over the years.
A lot of acquisitions
have happened
when the price to book
ratio was two or above.
And the few buybacks
that have happened,
have happened at
lower valuations.
So the question is,
these outsider CEOs,
they're all sort of following
the similar framework of doing
buybacks or issuing
stock managers,
increasing the intrinsic
value for their shareholders.
But it doesn't sound like a very
difficult thing to understand,
it sounds like a
very simple thing.
And yet it's simple,
but hard since you
said most of the corporate
America is not doing that.
I want to get to know your
thoughts on why that does not
happen more often.
WILLIAM THORNDIKE: Yes.
So it's this distinction Buffett
has between something that's
simple, simple to understand,
versus easy, easy to actually
implement or do.
I think you guys are old enough
to remember the late '08 early
'09 period after
Lehman Brothers failed.
Do you remember that period?
So that was a
legitimately scary period.
And the stock market
fell dramatically,
but there were active scenarios
for the financial system going
into sort of a freeze.
Falling off a cliff was
the analogy that was used.
And so corporate
America, as a group,
reacted in a way that's
not irrational to that.
They generally focused on
paying down debt and husbanding
resources, given
the uncertainty.
So not irrational at all.
But if you looked at the two
outsiders CEOs, the two CEOs
from the book who are still
active during that period
of time, their actions
were entirely different
than that pattern.
And so the two CEOs
that were still active
are Warren Buffett,
at Berkshire Hathaway,
and a guy named John
Malone, who runs
a complex of companies centered
now around Liberty Media.
And for both of them,
the 18 to 24 months
following the fall of Lehman
was the most active period
in their career.
So while the rest
of corporate America
was husbanding
resources, and sort
of standing by the sidelines,
and healing balance sheet,
they were aggressively deploying
capital, buying companies,
repurchasing shares.
But that's easy to
intellectually understand,
but it requires a
certain temperament
to be able to actually
implemented it
in the heat of really
difficult times.
INTERVIEWER: Sure.
So picking up on what you
said about John Malone.
And reading your book,
I noticed this trend
with the [INAUDIBLE]
and Tom Murphy
as well, where there was
this idea of roll ups,
acquiring companies and
then sort of improvising
their operating metrics.
And less in Tom Murphy's case,
but more in John Malone's case,
debt has had to play
a significant role.
My question to you is-- when the
whole sector, media, was doing
well and you see a
long runway, maybe one
can look at that and
the long term value
it will bring to shareholders.
But do you think the
same sort of philosophy,
and the same sort of valuations,
and the same perspective
towards debt would make sense
today when a lot of things
of changing in
media for example?
WILLIAM THORNDIKE: I think
that's a very good question.
With the exception
of Warren Buffet,
although we can come
back and talk about that,
all the CEOs in the
book were users of debt
in some form or fashion.
Some of them quite aggressively.
But their use of
debt and their degree
of aggressiveness
in deploying debt,
was very much related to the
underlying predictability
of their business models.
So the most active user of debt,
by a wide margin in the book,
was John Malone.
But John Malone, over the course
of the time that the book focus
on, was focused in
the US cable industry
before the advent of
satellite delivery of program.
So effectively, a
regulated monopoly business
with very predictable,
recurring revenues.
Utility like recurring revenues.
So Malone recognized
that predictability.
So as an example,
you could go back
and trace the severe
economic downturns
while Malone was running TCI.
Cable subscribers grew
throughout all of them
over his tenure.
So he's a bit of
a different case
than Capital Cities,
which was focused
on advertising supported media.
So their largest
cash flow source
was TV stations at a time
when network TV was much more
dominant than it is now.
I think, today, it's a
very different situation.
And so, always,
your lens, I think,
in using leverage
has to be-- you
have to have a degree of
confidence in your projections
for cash flows
going forward, even
in times of economic stress.
And then you need to have an
appropriate amount of leverage
for that perspective,
that set of projections.
And so now you, I think, have
a much harder time getting
comfortable with
the sort of leverage
that Capital Cities
used, occasionally,
to fund acquisitions for
those sorts of businesses.
Today, it wouldn't sense.
INTERVIEWER: So you're
basically saying
that what happened
in hindsight, it's
the framework and principles
that have to remain consistent,
it's not those specific actions
that need to repeat themselves.
WILLIAM THORNDIKE: Exactly.
That's a fair characterization.
INTERVIEWER: So that leads
me to my next question, which
is not only were these outsiders
CEOs themselves, contrarians,
and they did remarkably
well for their shareholders,
but along the way, that also,
as you write in your book,
created a diaspora
of alumni from these.
Can you talk more about that,
and how you think about that,
and why that happened?
WILLIAM THORNDIKE: Yes.
So I think there's a bit of
an analogy with ducklings.
So there's this
concept with ducklings
that they imprint
on the first thing
that they see when they're
born, which, the vast majority
of the time, is their mother.
And they then follow that.
But every now and then, you'll
read stories of a duckling
is born and a young girl happens
to walk between the duckling
and the mother.
And the duckling will
imprint on the mother
and follow her around.
So I think in business, there's
a similar phenomenon where
people are unduly
influenced by early mentors.
I should say disproportionately
influenced by early mentors.
And so these companies had very
strong cultures and people who
grew up in those
cultures were sort of
indoctrinated into
these frameworks,
these ways of thinking
about capital allocation.
And those who subsequently
left to run other businesses,
brought those
frameworks with them.
And as an investor, it was
a very productive thing,
to follow the alumni.
INTERVIEWER: So what
are some names to that?
WILLIAM THORNDIKE: There's a
company called General Cinema,
the only Boston based company.
I'm from Boston, so the
only one for my local area.
The former CFO went to
run an electric utility
in the Northeast, a
totally different business,
and had extraordinary returns
doing that, but in a very
different setting.
There are numerous along alumni
who came out of Capital Cities
and went to run
other businesses.
INTERVIEWER: Bob Iger.
WILLIAM THORNDIKE: The
best known of which,
right now, is the current
CEO of Disney Bob Iger.
He's a Capital Cities
alum and is actually
still very close to Tom Murphy.
Tom Murphy, who's
now in his early 90s,
is still an active mentor
for Iger at Disney.
So it'd be any number
of examples of that.
So that's a pattern
that's definitely
proven to be fruitful
over time for investors.
INTERVIEWER: So on that
theme, if you take,
say, Danaher, as an example.
Even if it's an outsider
CEO, but they find a company
that might be subjective
to cyclical headwinds.
So I'm thinking of Colfax
in my mind right now.
WILLIAM THORNDIKE:
Yeah, yeah, yeah.
INTERVIEWER: Would it be fair
to just pay a high multiple
or pay a high valuation
even in a cyclical industry,
but generally, an outsider CEO.
So how should investors
think about valuations
along with the characteristics
of the industry
and the management?
WILLIAM THORNDIKE: Yes.
So interestingly, it
would be logical to expect
that capital allocation ability
would trade at a premium,
but it's interesting.
If you look at the actual
data, often it doesn't.
And I think there are a
couple reasons for that.
One is, this
approach to thinking
about capital allocation,
one of the hallmarks of it
is a focus on minimizing taxes.
Over long periods of time,
optimizing around taxes
can have an enormous impact
on shareholder value,
but optimizing
around taxes often
correlates with complexity.
So it often makes
those businesses harder
to understand.
Also, these CEOs generally
did not spend a lot of time
on investor relations.
They didn't view that as
a good use of their time.
So the combination of complex
structures, use of leverage,
and not a lot of time explaining
results to Wall Street,
occasionally produces
inefficiency, even
in the best capital allocators.
[INAUDIBLE] and I were
talking before about how
this would be true as recently
as 2012 in the Berkshire
Hathaway stock.
And there would
be other examples.
Colfax is an interesting case
because it's a mini me, so
to speak, of Danaher,
which is run by the Rales
brothers, Mitch
and Steven Rales,
who have just an
extraordinary record.
Clearly an outsider
group, they're sort of
starting over again with
a very similar approach
in this company Colfax.
The initial acquisitions there
are in industrial businesses
which are cyclical.
And Colfax, in
particular, has faced
sort of a perfect
storm of issues
in some of their end markets
and the stock as reacted
accordingly.
And so I think it's
an interesting time
to be looking at a
business like Colfax--
run by a proven
outsider team like that
after the stock has been hit
hard for what may or may not
be one time reasons.
I don't have a point of view.
But I would be studying it,
if I was focused, full time,
on the public markets.
I think it's an interesting
potential situation.
INTERVIEWER: Thanks.
And Will, I remember,
your book, in one
of the first few
chapters, profiled a CEO,
who, very soon after
joining, shrunk the company
by about half.
They lost rights to
their company jet
and they sold one of the biggest
divisions of the company.
And yet you profile this person
as one of the most successful
CEOs ever.
Can you share with
us your thinking
around that a little
bit more for the benefit
of the audience?
WILLIAM THORNDIKE: Yes.
So that CEO is a guy
named Bill Anders.
He's interesting because he
has an unusual background.
So he was trained as
an engineer, also,
he was then a test pilot in
the Navy, and an astronaut.
And he flew an Apollo mission.
And, in fact, there's
a very famous picture
that I'm sure you've all
seen of the Earth from space.
It's sort of this iconic
image from the 1960s.
And Anders actually
took that picture
out the window of
the Apollo capsule.
So he had this
interesting career.
He didn't enter the private
sector until is mid 40s
and then he went to work at GE.
He went through the
GE training program,
was a contemporary of
contemporary Welch's, and then
he was eventually hired to run
a defense oriented conglomerate
called General Dynamics.
And he was hired to run
General Dynamics in the 12
months following the
fall of the Berlin Wall.
So fall of the Berlin
Wall the early 1990s
threw the entire defense
industry into chaos.
The traditional model of
building a large weapon systems
to deter a Soviet threat
was, all of a sudden,
out the window.
So very unclear what
those businesses
are going to look like.
And Anders came in and did a
fair amount of analytical work,
working with Bain
& Company actually,
and determined that
defense businesses,
to survive and thrive
in this new environment,
were going to have to either
build on market leading
positions or sell
businesses that did not
have market leading positions.
So he began to aggressively
divest those businesses that
had weaker positions.
So he ended up selling off a
large chunk of the company.
He then went out to try to
build around the company's
core franchises, one of which
was its fighter plane business.
So General Dynamics made the
F15, which is a long time--
and he went to the
number two player
in that market,
Lockheed, to see if you
could buy Lockheed's business.
And he went to sit down
with the Lockheed CEO.
And the Lockheed CEO
says, we're not for sale,
but we'd love to
buy your business.
We'll pay you.
And he named an
extraordinary price.
And Anders, without
blinking an eye,
moved forward to sell
their largest business
because he just saw that
there was no-- he had done
all the math, all the work.
He knew, exactly, what the
cash generated by that business
would look like.
And when he was paid
enough of a premium,
he was willing to sell it.
And so he end selling
that business.
So the company, at the end of
this series of divestitures,
was less than half its size.
And meanwhile, he'd been
optimizing the businesses,
so he generated enormous
cash from improved operations
and from these assets sales.
And he then did two
interesting things.
He had a very savvy
tax adviser who
helped him design a series
of special dividends
that were characterized
as return of capital.
So they were shielded
from any capital gains tax
so that he was able to
distribute a lot of proceeds
directly out to shareholders
in a tax advantaged fashion.
And he used the balance
of the excess cash
to repurchase 30% of shares.
So the net of all that was just
extraordinary value creation
for the shareholders,
but in a situation
where the company itself, by
any metric, revenues, cash flow,
employees, shrunk
very dramatically.
So it's an interesting case.
INTERVIEWER: I want
you to say more
about that from an institutional
imperative point of view.
CEOs generally want
their company revenues
to grow, they want their
own influence to grow,
they want to have a good sort
of corporate office, and so on.
And here's someone sort of doing
that in the opposite direction
almost, at the surface level.
And this is a theme
that I find comes up
again and again in your book.
Tom Murphy left
a prestigious job
to go and start a radio station.
He had no experience there.
Warren Buffett, himself,
he left Wharton to study
in The University of Nebraska.
And one could argue that a
lot of what Singleton did also
seemed counter intuitive.
So there's a contrarian,
almost rebellious streak
that one sort of
senses in these CEOs.
What do you think
gives them the strength
to act the way they do?
WILLIAM THORNDIKE:
It's a good question.
So the word I would
use to characterize
that sort of strain of
independence is iconoclastic.
So these guys were iconoclasts.
They were intentionally--
comfortable
doing things different
than the peer group.
And what drove their
confidence, their ability
to have these
contrary positions,
was that it was rooted in deep,
analytically based conviction.
So as a group, the group is
very quantitatively oriented.
As I said, four
engineers, two MBAs.
They did their own
analytical work
around major
corporate decisions,
including acquisitions
and buybacks.
They did not rely on
an internal finance
team or external advisers,
bankers, and consultants.
And they were solving for the
problem of value per share.
They were very, very focused
on optimizing value per share.
And so, occasionally,
that mindset
would give them conviction
around some sort of an action.
It could be stock repurchase,
a large acquisition,
or a large divestiture.
And when they had
that, they were
prepared to move forward
because they, themselves,
had the conviction coming
out of their own thinking,
their own work.
INTERVIEWER: Sure.
Thanks.
And finally, I'm
sure the question
about who are the
modern outsider CEOs
is going to come up.
So I'm going to
pause myself on that
and it'll come up
during our discussion.
But before we open it up to the
audience, I wanted to ask you,
if you look at a CEO
who wants to improve
the intrinsic value per share,
but let's say their horizon
of doing this is
not a few years,
but maybe decades
or even centuries.
And I'm thinking of
someone like Jeff Bezos.
A comment that's been
attributed to him
is he's sort of said
your margin is my lunch.
How does one think
about a CEO like that
in the context of outsiders?
WILLIAM THORNDIKE: Yes.
So I think a common trait
across this whole group
was optimizing for long
term value per share.
I should have emphasized
that, [INAUDIBLE].
That's very true.
Long term, I would define in the
context of sort of from today
looking forward
three to five years.
I think that's really kind of
the visible business future.
I think decades and
centuries is harder, at least
in most businesses.
Particularly in
your business, it
would be hard to
look out that far
and make decisions
accordingly, I think,
in most of your business lines.
So I think that's a more
realistic time frame.
I think Amazon is
a fascinating case
and Bezos is a fascinating case.
So if you said-- So you guys
have an exceptional business.
It's been extraordinarily
well lead.
But if I was put on the spot
and asked to name an outsider
CEO among the traditional-- the
technology CEOs in the last 25
years, Bezos would be
the first choice for me.
And it would be
because-- and I can't
say that I've studied the
company in great detail,
but I have read annual reports.
And I believe he's optimizing
for per share values
5 to 10 years out.
And he can afford
that time frame
because he owns such a large
percentage of the company
himself.
So he has the ability
to tune out the noise
by virtue of having
so much ownership
concentrated his own hands.
So I think he's an
interesting case.
INTERVIEWER: And who
are the other CEOs
in today's market or
today's businesses that seem
like the outsider CEOs to you?
WILLIAM THORNDIKE: So you
mentioned the Rales brothers
at Danaher and Colfax.
I think they very
definitely fit the model.
There's a wonderful CEO
named Nick Howley who
runs a business called TransDigm
that focuses on specialized
aircraft components.
And he's done an extraordinary
job building value there.
There is a CEO name
Mark Leonard who
runs a very interesting
software business in Canada
called Constellation Software
using many of these principles.
I believe, controversial
as it is at the moment,
that Mike Pearson at Valeant,
although it's still early days,
has many of these traits.
And this is a very interesting
case to watch unfold.
There's a reinsurer
called Arch Re that
runs its business very much
along these lines, I think.
There are a series of sort
of mini Berkshire insurance
companies, Markel
Insurance, Fairfax,
White Mountains, Allegheny.
They are built
along similar lines.
There's a home builder,
of all things, called MVR.
So I could go on, but there are
current, contemporary examples
that I think embody
these traits very well
across a variety of industries.
INTERVIEWER: Sure.
So maybe along
the lines of that,
for the individual
investor on average,
if they are willing
to put in the time
to study-- additional time than
it would take to just invest
in an index fund,
let's say, what
would be your advice in how to
approach investing, in general?
And from a spin on the
outsider's perspective,
how could they go on
identifying these in foresight
rather than hindsight?
WILLIAM THORNDIKE: Yes.
So I think your first qualifier,
[INAUDIBLE], is very important.
So I think if you're
going to actively manage
your own retirement
portfolio, you
have to be committed to
putting in the time to do that.
And it has to be something
that, intellectually, you
enjoy doing because
otherwise, you're
going to be better off with
index fund type solutions,
I think, longer term.
But if that does
fit for you, then I
think you have a question around
portfolio construction, which
is, I think, a very personal,
temperamental thing.
Are you going to be
concentrated or are you
going to be diversified?
There are sort of
arguments for both.
So I think those are
things that you just
have to sort out for
yourself with advice
from people you respect.
As to identifying--
so there are two ways
to invest in outsider CEOs.
One is to keep a list of the
proven outsider CEOs, some
of whom we've talked about.
And you can start with
Buffett and Malone.
And then systematically track
the value of their stocks
and have some parameters
around when you might buy it.
I mean, Buffett has
given you parameters
about when he'd by Berkshire,
so you can start there.
But you guys create algorithms--
if Berkshire is ever
trading at 1.2 times, it ought
to flash red on your screen,
and you ought to put some
in your personal account.
That's easy.
So I think there's
some things like that
with existing, known outsiders.
You ought to have
them on a watch list.
And as I say, from time to
time, they systematically
trade at discounts to their
peers, crazy as that is.
So you ought to be set up to
wait for those opportunities.
In terms of recognizing
new outsider CEOs,
I think that's a
hard thing to do.
I think they need to
have been in the seat
for at least five years to have
enough in the way of actions
taken to be able to have a
point of view on whether they're
really outsiders.
So in the first
five years, you just
don't have enough data to go on.
Pearson's right around--
it's interesting,
he's right around five years.
I think in those five
years, the early markers
are interestingly qualitative.
I think vocabulary means a lot.
So I think it's very
interesting to hear
how a CEO talks
about their business
or how they write about
it in their annual report.
And so I think you get extra
credit if you use the words per
and share consecutively a lot.
That's just starting there.
If you're optimizing things
per share as opposed to just,
we're going to grow revenue,
we're going to grow profits.
Every time someone says that,
picking the word-- connection
with profits, you'd like to hear
them say per share immediately
afterwards.
Because just
growing profits, you
can actually
destroy lot of value
growing the business, growing
profits, growing revenues.
And I think a focus on
the use of the word cash
gets extra credit.
So people who are
optimizing around free cash
flow instead of net income.
And if people talk about
their unit economics
and they use words like
internal rate of return
when they're justifying
investment decisions,
extra credit, I think.
So I think there's
some things that you
can pick up about-- I'll
give you an example.
So we invest in the
cell tower business,
which is an excellent business.
And there are two, dominant
public companies-- American
Tower and Crown Castle.
And I have years of going
to investment conferences
and hearing those two
companies present.
Both have been
great, great stocks
over a long period of time.
But their approaches
to capital allocation
and to running their
businesses are very different.
American Tower is
the largest player
and, historically, if you sit
at one of their presentations,
they'll talk about number
of towers, revenue,
what they call tower
cash flow, and EBITDA,
which is the use of
the metric of cash flow
that they talk about.
And they've done a great
job building their business.
If you then sat in on Crown
Castle's presentations
over time, you'd see that
they evolved over time
under a CEO who was an
engineer at a different metric.
And evolved over
time, but eventually,
they would just say,
we're running our business
to optimize for one thing
and that's recurring
free cash flow per share.
And so they had moved
to a single metric that
was differentiated from
what others in the industry
were doing.
And if you really
understood the business,
you'd see the power of that.
Every piece of
that would give you
an indication of how they
would behave if their stock was
trading at a high multiple,
a low multiple, how they'd
think about new
builds, how they'd
think about acquisitions.
So I think you can learn a lot
from metrics and vocabulary.
INTERVIEWER: And do
you think one also
has stuff to learn from how
they structure their capital
allocations structure?
For example, becoming a
REIT, R-E-I-T, for example,
versus not.
WILLIAM THORNDIKE: I think so.
I think, potentially, yes.
Again, I think it comes down
to how they talk about that.
I think the REIT structure
can make a lot of sense,
but you'd love to
hear them justifying
that in quantitative,
per share terms.
What exactly are
the benefits of that
for shareholders, longer term?
Why is that going to produce
higher per share values
than a non REIT format?
INTERVIEWER: I was
hoping you would
share your opinion on that.
WILLIAM THORNDIKE: I think it
varies by industry, honestly.
INTERVIEWER: No, in the
examples-- American Tower
and Crown.
WILLIAM THORNDIKE:
They're all REITS now,
so they've all
made that decision.
And I think it's a
very rational decision
for that kind of a business.
It wouldn't have been as
rational earlier on, when
they were growing more rapidly.
INTERVIEWER: Because
they had to reinvest.
WILLIAM THORNDIKE: Yes.
It's just the dynamics
of those recurring,
capital intensive
businesses, I think.
But I think at this stage,
for both of them, that's
a very rational decision.
INTERVIEWER: Great.
So I have a bunch of
audience questions for you.
WILLIAM THORNDIKE: Great.
INTERVIEWER: The first one,
you shouldn't be surprised.
You're at Google.
The question is,
how do you think
about Larry Page, and Alphabet,
and the framework of outsiders?
WILLIAM THORNDIKE: Yes.
So I admit, I'm a
little embarrassed.
I don't really know all
the details of Alphabet.
So I'm very intrigued.
Obviously, thinking about
Google more generally--
it's just an extraordinary
company that you guys work for,
an extraordinary business.
And phenomenal value
has been created
and I think you guys
seem very well positioned
in your major business
lines going forward.
I think the issue
for Google is--
so I'll give you an analogy.
Charlie Munger once wrote
about the difference
between CBS and Capital Cities
in the heyday of the TV station
business, 1960s
and 70s, when those
were basically
incredibly profitable,
oligopoly businesses.
And Capital Cities ran this very
lean, frugal, optimizing sort
of a structure around
those businesses
while maintaining
leadership positions
for its news broadcast.
So investing in the product.
But CBS divested outside
of the core business,
it bought The New York
Yankees baseball team,
it bought a toy
business, it built
this landmark headquarters
building called
Black Rock, you can
still see it in New York,
had a corporate structure with
tons of presidents, and vice
presidents, and co presidents.
And Munger referred to CBS as of
prosperity blinded indifference
to costs and he
contrasted that with-- so
I think the issue for Google
is, you guys are so incredibly
profitable that you don't have
to make capital allocation
trade offs.
You can kind of do it all.
You can sort of try things.
And so I think the issue is
that as the business inevitably
matures, all businesses
mature, even yours,
that may be a decade
down the road,
will you be able to
think analytically
about optimizing across a
scarcer opportunity set?
Because the problem with
technology companies,
historically, is that they
don't stop investing in R&D,
even after the returns
from those investments
are very poor because
the founders just
have that in their DNA.
So I think the test
will be for Larry--
those investments are still
very productive for you guys.
The YouTube acquisition was
an excellent acquisition.
So I think it's early to
tell and the conundrum
is that there will be challenges
posed by your very success
today as to whether-- I think
we'll learn a lot about Larry
in the next decade
as capital allocator.
He's done an extraordinary
job getting the business
to this point in time and it
will be interesting to see.
INTERVIEWER: Sure.
So the next question.
He wants you to discuss the
lack of a control group.
Or flipping it around,
discussing the survivorship
bias displayed in
"The Outsiders."
WILLIAM THORNDIKE: Yes.
The lack of a control group.
So is a question that's
come up from time to time.
And so the question
is, are there examples
of CEOs who have pursued
these strategies and not
been successful?
Is there a survivorship
bias-- they sort of
got knocked out early.
And the reality is, we weren't
able to find any in our work.
We weren't able to find any.
But listen, I think
it's a valid question.
What's striking is that--
so one of the investors who
I've gotten to know,
after the book came out,
about working on this project
has a high level stats degree.
And I raised this
question with him
and he said it that, for him,
the strength of the correlation
was such that he was very
comfortable with the value
of the findings of the data.
But I think it's
a valid questions.
I think it's a valid question.
INTERVIEWER: Fair enough.
And is there any
opportunity for activist
investors to motivate non
outsider CEOs to behave
in an outsider like behavior?
WILLIAM THORNDIKE: The short
answer is yes, but sort of a
qualified yes.
I think that activism is
very popular at the moment,
but there are very different
approaches to activism.
And the world of activists
divides into two camps--
those who are sort of optimizing
around short term outcomes
and those who are more focused
on longer term outcomes.
So ValueAct and
[INAUDIBLE] would
be examples of the latter.
And there would be plenty
examples of the former.
And I think that group of
activists, the longer term
group of activists, has had a
very positive impact on capital
allocation trends over time.
And they have been
able to demonstrate
that they can come in
and, working productively
with the management team,
make changes that are very
beneficial for shareholders.
I think the shorter term group,
the data is much more mixed.
I think it's very
dependent on-- and its
very dependent on the CEO and
the board in any given case.
But generally, I
think activism is
a positive for more
rational capital allocation.
INTERVIEWER: Sure.
And I have to ask for
those of us in the room--
and actually, you're going
to have a much wider audience
even on YouTube.
For the folks who
are not necessarily
professional investors,
who are not finance majors,
but who are maybe students
or individual investors--
so this is a continuation
of my previous question.
What is your general
advice to them
about how to invest and
be successful in long term
investing horizons?
WILLIAM THORNDIKE: Yes.
So that's a good question.
So I think a lot of
it comes back to that
question I asked earlier.
[INAUDIBLE], you
enjoy investing.
Intellectually, it's something
that obviously is stimulating
and engaging for you.
That's not true for everybody.
So I think if you're going to
manage your own account, which
is, I think, a
wonderful thing to do,
you have to really
enjoy that activity
and be interested in putting
in the time to do that well.
I think, otherwise,
you should look
at more passive alternatives
for managing your assets.
And it's really hard, long term,
to beat intelligent indexing.
Just from a cost
efficiency perspective.
The other alternative, which
can be indexed investing,
is if you can find a very
good manager with a very
good long term record.
And if you can identify
a manager like and stick
with them, you can earn
significant returns over time.
It's hard to do that.
It's hard to find them.
It's hard to stick with
them when they under perform
because even the best
managers will have
periods of under performance.
And the worst time
to leave them is
when they're under
performing, but every fiber
of human instinct is to leave
them at that exact juncture.
So it's hard to resist that.
The third alternative is to
manage the account yourself.
And that can be
the most rewarding,
both in terms of returns and
personally, but you really
have to be wired, I think, in a
certain way to want to do that.
And people in this room maybe
self selected a bit for that.
INTERVIEWER: Sure.
Any other questions?
AUDIENCE: Is there any advice
to suggest you hire Madoff?
Long term, leading the market.
WILLIAM THORNDIKE: Not
long enough term, clearly.
And I think you need to
understand the strategy
and make sure it
resonates for you.
I think there were questions
about the strategy there.
Lots of sophisticated investors
looked at Madoff over the years
and didn't
participate, so I think
there were worrying signals.
But that would argue for
a portfolio of managers.
AUDIENCE: Should I grab
a mic or something?
AUDIENCE: Or you can
just repeat the question.
INTERVIEWER: Yes.
I'll repeat the question.
AUDIENCE: So your
work share focuses,
very narrowly, on sort of
increasing value per share,
which is the game as
it's played today.
I'm just curious
on your thoughts--
there's a growing
amount of people talking
and many point at Robert Reich's
new book about how it's sort
of missing this larger dynamic.
That when you focus
so narrowly on that,
it's caused a lot of
political distortions
and it's caused a lot
rent-seeking behavior
in various cases that actually
is making capitalism, overall,
less efficient.
So in some ways, your
book could be a handbook
for driving the helm in the fast
lane, if you by that argument.
I'm just kind of curious of
how you think about that larger
balancing act and what
responsibility, if any,
those CEOs should be
taking about that?
AUDIENCE: It was loud.
You don't need to repeat it.
INTERVIEWER: Great.
WILLIAM THORNDIKE:
So first of all, I
think that's a great question.
So I think there's an important
distinction between optimizing
per share value in the short
term, which I would define
is 24 to 36 months
in the public market,
versus longer periods of time.
So the average tenure
of the CEOs in this book
is over 20 years.
I believe that
over longer periods
of time, that one
metric captures a lot
of other important
things, including
some things that Reich
should be focused on.
So you cannot have exceptional,
long term per share performance
unless you are delighting
your customers,
you have an employee base
that's loyal and fulfilled,
and you're not treading
outside of societal norms
and parameters around
environmental behavior--
realizing those are
going change over time.
So what was acceptable
in the '60s and '70s
would be different
now, but you've
got to play within those rules.
So I think as a long
term, as a single metric,
it's pretty good at picking
up all of those things.
And I think it's hard to
measure performance in some
of these other areas precisely.
So are you
environmentally sensitive?
Are you really taking
care of your employees,
both while they're
employed for you,
and afterwards in the retirement
programs, and health programs,
the other benefits
you're providing?
Are there other ways of being
a good corporate citizen?
So I think it works pretty
well, long term, across those
dimensions.
Short term, it can be
the antithesis of that.
If you're optimizing short
term cash flow per share,
benefits plans are one of the
first places you would look.
You would look at raising
your prices aggressively
to existing, loyal customers
because they're not
going to turn
immediately and you
can get 12 to 24
months of-- there
are a lot of things
you would do,
if your goal is just to
optimize 24 month out cash flow.
But that's a way of
thinking about that.
INTERVIEWER: So questions?
AUDIENCE: At the time
of Henry Singleton,
it was very rare for a
company to buyback stocks.
Right now, almost every
company would buyback stocks.
Another example, 3G capital.
They are using like
a zero based budget.
And I read that
other food companies,
they are doing roughly
the same thing.
So does that mean
that, in the long time,
this outsider technique is
going to be used everybody,
so that this outsider mentality
would not be that valuable?
WILLIAM THORNDIKE:
That's a great question.
That's a great question.
So I think the answer goes
back-- so both of those pieces.
So let's look at
the buybacks first.
So we talked earlier
about buybacks.
So buybacks are very
popular right now.
But because of the way
they're being implemented,
I think it's unlikely
they're going
to create significant
value, generally,
across corporate America.
I think those who are
more targeted and bolder
in their approach
to buybacks, are
going to continue to be able
to create value that way.
So I think a lot of it has to
do with your approach to that.
So that's in the
case of buybacks.
3G is just fascinating.
It's just fascinating
to see what they're
doing across these industries.
And I don't know-- I'm
curious to see what that's
going to look like
five years from now,
but have proven, across a
range of businesses now,
the ability to grow cash flow,
increase margins through zero
based budgeting, reducing
costs without material
declines in revenues.
In many cases, they
haven't shown the ability
to grow revenues, but
they were in business
that were pretty mature anyway.
So I think it's early days
still in seeing how that's
going to play out over
time, but the early data
is very interesting.
And I think it's an
interesting question.
I think it's an
ethical question.
Because a company may
have been very prosperous
over a long period of time,
like CBS in the example
I talked about before, and it's
created a corporate structure
that just grew organically
over time, like Kudzu,
but isn't necessarily
rational relative
to the business itself,
and sort of grew
because of
institutional momentums,
is it ethical to streamline
those businesses so that they
run more efficiently, if it
doesn't change the customer
experience?
I don't know.
I think that's a really
interesting, ethical question.
I think you could certainly
make an argument that you're not
necessarily doing a favor for
those in bloated hierarchies
to protect their
jobs at ad infinitum.
I'm not sure that's
better for society.
I'm not sure that
what 3G is doing isn't
the right long term-- even
though it causes dislocation,
it's very unfortunate for
those who lose their jobs,
it's unclear to
me that that's not
good for society, longer term.
I don't know.
I think it's an
interesting question.
INTERVIEWER: So the question
has gone into more specifics.
Let me just repeat it.
The question is, how do
you characterize Facebook
and Oracle in the framework?
WILLIAM THORNDIKE:
I just don't really
have enough knowledge
of either company,
honestly, to answer that
question intelligently.
I know that Oracle
has been acquisitive
over a long period of time.
And I believe, although I
haven't studied the data,
that that's been a
very accretive activity
for shareholders.
So that would argue that they've
been effective in acquisitions,
which is a major potential
conduit for capital allocation.
Facebook, it's
extraordinary what's
gone on in that business.
And their primary capital
allocation channel
has been internal growth.
They've been funding
internal growth.
That's a very
prudent thing to do.
That's been true for Google.
Impossible to argue that that
hasn't been a great high IRR
activity for-- but at some
point, the growth levels out.
And the question
then becomes, what
do you do with the excess cash?
And I think it's early to tell,
but the WhatsApp acquisition--
You guys would be better
able to evaluate that to me.
I mean, that seems
completely insane to me
on normal financial
metrics, but I
don't think normal financial
metrics necessarily apply.
But we'll be able to calculate
the IRR on that three years
from now.
It'll be very
interesting to see.
When you guys did the YouTube
acquisition, by the way,
it was also a possible
to justify it.
That's been a
phenomenal acquisition.
So I think the
world that you guys
play in is a little
bit different,
the metrics need
to be different.
AUDIENCE: That was
also long term.
It lost money for a long time.
WILLIAM THORNDIKE: It did.
It did, but ultimately-- I
mean, I give a lot of credit
to Eric Schmidt and Larry.
Whoever was involved
in that, I think
they were thinking about
that very analytically.
They had a longer term-- they
had a point of view on that.
They had conviction,
and they acted on it,
and it created a lot of value.
It's different than what I'm
really able to evaluate though.
INTERVIEWER: So with that,
thank you so much for being here
and for taking our questions.
Please to have you.
WILLIAM THORNDIKE:
Thank you, [INAUDIBLE].
Nice to be here.
[APPLAUSE]
