Gold Hiding in Plain Sight

“Finance properly taught should be taught from cases where the investment decisions are easy,” said Munger. “And the one that I always cite is the early history of National Cash Reigster Company. It was created by a very intelligent man who bought all the patents, had the best sales force, and the best production plants. He was very intelligent man and a fanatic, all of whose passions were dedicated to the cash register business. And of course, the invention of the cash register was a godsend to retailing. You might even say that cash registers were the pharmaceuticals industry of a former age. If you read an annual report when Patterson was the CEO of National Cash Register, an idiot could tell that here was talented fanatic – very favorably located. Therefore, the investment decision was easy.” [emphasis added] – Damn Right, Janet Lowe, p. 234.

If you had read NCR’s early annual reports, it would have been obvious. That is what you should be looking for – situations that are obvious. You may only be able to find one or two a year, but that is enough to make you rich. Of course, you need to also make a meaningful investment when you find one.

The point is that the fact that NCR was a no-brainer jumped off the pages of its annual report. John Patterson was laying it all out for anyone willing to read it. This underscores the importance of spending a lot of time reading annual reports. That’s what Buffett does. The greatest investor of our time is intensely focused and jealous of his time, yet he spends most of his day reading annual reports.

Buffett is intensely critical of annual reports that are written by the PR department and have little to say of real meaning. The bad news is that there are a lot of annual reports written in this fashion. The good news is that when you find one that actually says something – where the CEO is laying out the case for why the business is a great opportunity – you may really be on to something.

There is no way to screen for these types of annual reports. You have to go out and find them one by one.

I remember the first time I read Fairfax Financial’s annual reports. It was clear that Prem Watsa was an unusual CEO and that Fairfax was an unusual company. The data was all there and the way it was presented spoke volumes. Berkshire’s shareholder letters are the same way.

History doesn’t repeat itself, but it rhymes.

Another lesson here is not just to read annual reports, but to go back and study the histories of great companies and also great failures in order to build a set of mental models that you can draw upon in analyzing and evaluating prospective investments.

When I read Munger’s description of John Henry Patterson, I could not help but be struck by how much it reminded me of his description of Wang Chuanfu, the chairman of BYD. “This guy,” Munger told Fortune, “is a combination of Thomas Edison and Jack Welch – something like Edison in solving technical problems, and something like Welch in getting done what he needs to do. I have never seen anything like it.” Did Munger’s study of NCR put him in a position to see and appreciate the merits of investing in BYD when the opportunity came along?

The lessons learned from investing and studying businesses are cumulative. That’s why Munger argues Buffett is better now than he’s ever been and that he continues to get better. You should make it a point to study these past winners and losers and add them to your library of mental models. Henry Singleton of Teledyne is another example, about whom I posted recently.

As always, I welcome your own thoughts and feedback.


4 thoughts on “Gold Hiding in Plain Sight

  1. kungfu panda

    hummm…. could you please shed some light on the characteristics of a good annual report vs a bad annual report? thanks much

  2. Salsero

    Another very fine post! Thanks.

    I have been reading the 10-K filings, but should I also be reading the actual annual reports? I guess there is more information (often fluff)there.

  3. Greg Speicher Post author

    Not to be cute, but it’s not unlike the Supreme Court’s comment about obscenity, “I know it when I see it.” If the CEO is skilled at capital allocation, you should recognize it in the way he talks about share repurchases, dividends and making acquisitions. Is it boilerplate – earnings up x%, sales up x%, etc., blah, blah, blah – or does its really inform you about the business, including the challenges the business is facing? Is there an emphasis on building wealth over the long-term or meeting quarterly earnings estimates? Is it clear that the CEO actually wrote the report/letter or could it have been written by anyone? Have the metrics by which the business will be measured clearly been laid out, i.e. growth in book value, ROE, etc.? Is management making progress as measured by those benchmarks?

    Think about what you like about Berkshire’s shareholder letters and ask yourself why they are superior to almost anything else out there? Read Fairfax Financial’s and Markel’s letter for several years and you will see patterns.

    Hope that helps.


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