Rick Van Nostrand, CFA - Consistently Hunting For Real Value
Rick Van Nostostrand is a Partner and Senior Portfolio Manager at Cornerstone Investment Partners. Cornerstone is an investment boutique in Atlanta, Georgia. The firm manages "mid $2Bn" across a number of value strategies. They have a qualitative approach with a quantitative model that guides them. See https://cornerstone-ip.com/.
Prior to Conerstone, Rick was a voting member of the investment committee at EARNEST Partners and served on the Fundamental Value product at Invesco Capital Management. Previously, he worked in management consulting where he served clients across industries at both McKinsey & Company and Accenture (the Anderson Consulting). Rick earned an MBA with a concentration in Finance from Wharton (U Penn), and holds a Bachelor of Science in Computer Science Engineering from Southern Methodist University.
Album art photo taken by Mike Ando.
Thank you to Mathew Passy for the podcast production. You can find Mathew at @MathewPassy on Twitter or at thepodcastconsultant.com
+ Timestamps
~2:30 - Rick's Background
~3:53 - His consulting career at Accenture and McKinsey
~7:11 - College businesses, one of which could have been quite successful if Amazon existed
~13:57 - The theory that in the real world prices and value are seldom aligned
~ 16:23 - Need to develop an investment process and Cornerstone's philosophy
~ 22:21 - What Cornerstone's model told them about Microsoft that the market missed
~ 24:08 - Looking for high quality companies building value over time
~ 26:21 - ESG discussion
~29:36 - Risk subsidies driving valuation
~32:31 - Indexes and how they impact investment results and the market
~37:00 - What happened to certain stocks after the 1999 bubble burst
~38:00 - Investing in the late 90s
~43:00 - Buying the dip may not work forever
~45:00 - Avoiding financials in 2009
~50:50 - Real option theory in valuation
~54:05 - Where Wells Fargo erred in remediation
~ 57:19 - Why Citigroup was a palatable turnaround investment
~1:01:00 - The benefit of investing with a team
~ 1:05:00 - Avoiding groupthink as a team
~1:07:00 - How to have investment teams function well
~1:14:00 - Building teams to last and culture
~1:19:00 - Miscellaneous discussion
+ Transcript
Bill: Ladies and gentlemen, welcome to The Business Brew. I'm your host, Bill Brewster. I’m excited to be joined by Rick Van Nostrand today. As a reminder, everything in this podcast is for educational purposes only. This is not investment advice. Any securities mentioned, it's not a buy or sell recommendation, and you should not presume either of us to have realized any gain or be on the verge of realizing any gain, any security mentioned. So, remember that. Do your own due diligence. If we have to clean up any of this for compliance, we will, Rick. Don't worry about that.
Rick: I was wondering, is this for entertainment or for education purposes?
Bill: I don't know. I guess it's both. But I used to say entertainment. I do think it's somewhat educational, though. I at least try to make it educational.
Rick: I agree. I totally agree. I remember you having this debate on one of your podcasts, and I totally think it's educational. It's great entertainment too, but it's completely educational. I think it's an important role.
Bill: That's why I switched up that word. It's more serious than entertainment, but not investment advice. That's the best way that I knew how to say it, was education. Rick, do you want to tell people where you're at before we jump into where you've been?
Rick: Sure. I'm at Cornerstone Investment Partners, where we are an investment boutique here in Atlanta, Georgia. We manage mid $2 billion across value disciplines. But our heritage, our flagship strategy is something called the Concentrated 30. We go against the Russell 1000 value, and so I'd say that's part of maybe the contrast, when I think of many of the people that I've heard on The Business Brew. You have people who are go-anywhere investors, or you have people who research stocks for The Motley Fool, or you have people are talking about their own PA, their own personal account.
For us, we are highly specialized. We play a position and are hired by institutional investors to play that position for them, and then they allocate across different strategic asset allocation classes in order to put together a portfolio that achieves whatever their objectives are. But our job is to play a position and might make for an interesting conversation in that way.
Bill: I'm certain it will. But I think that before we get into it, I think a good way to start is to help people understand how you came to finance, and specifically your first foray into business as a college student.
Rick: I wish that I had a lesser kudu’s path. But I’ve met all people who like some of your guests. When I was 13, and I gave up the comic books, and started investing in stocks, I was not that guy. I had one competition I think in the 6th grade, where you had to pick stocks. Of course, I went to the penny stocks, picked one stock, and if you just go up one penny, I’ll win this whole test. [laughs]
Bill: [laughs] It's a sound strategy.
[laughter]
Rick: I, naturally came to finance really at the juncture of my parents. Mom is a physicist, who turned out pure mathematician, and my father's a psychologist, who ran a nonprofit. If you think about finance, it is the intersection of science and psychology. In science, you have a deterministic path, you say, “Hey, I shoot a bullet out and it hits the ground, and exactly this far away, knowing this velocity,” and all that kind of stuff.” But finance, we do all this stuff on DCFs and everything, and it isn't actually there. There's science behind it, but any one of your guests come up with a completely different value for something and figure out what it is, and that's a frequent piece of conversation. But my background was, I was computer engineer. Got real interested in that, and started to pay my way through school with it, and then, suddenly found myself realizing I didn't want to do computers all the time as I ran into all people who were computer engineers, who were a little tricky pins around the office and did things like that.
So, I went to, it was at the time, Anderson Consulting, now Accenture, and helped redesign companies, and with my computer background, it helped, but I also had some background in artificial intelligence, and also a background in telephony, and how networks worked, and all that stuff. All we did is really cut jobs. That seemed pretty crappy. At first, it was fun, and then at some point, you're like, “Oh, my God. These are people's lives.” Your empathy comes up as a 20- to 23-year-old. I understand why we have to triage the patients, but how do we teach them not to stick their arm down in the tree mulcher to start with? Someone says, “Well, you want to go into strategy consulting.” I said, “Okay, how do I do that?” Three or four schools were mentioned to me, so I went to one of the schools.
Then, came out and went to work with a company called McKinsey & Company. McKinsey was a very good experience, but at McKinsey, they do a lot of practice development. Kind of what they would call business research. At the time, McKinsey claimed that they spent more on business research than the top 10 business schools combined. Now, I don't know how you value a McKinsey associate versus a PhD student, but they thought they spent 10 times or as much as the top 10. But this practice that we did turn into the book called What Really Works, written by my director at the time, Bruce Roberson and Nitin Nohria now, the Dean of HBS. What we were trying to do with that was to fix the survivorship bias that happened with built to last and good to great Collins books. It's pretty well known. He writes a book about 10 names, and you get to the back of here these companies are going to last. At the end of 10 years, and guess what five of those companies were in the dumpster. A lot of times people start looking, and they say, here's proof of success. Let me look at these metrics in what these companies did. A lot of people come on to your show, and they talk about Amazon, they talk about Tesla, well, these are the successes. It's easy to go back and say, this is why these companies are successful.
Similarly, someone who did invest through the dotcom boom and bust, there were a lot of companies-- Sure, it was easy now to say that, "Hey, these were going to be the long-term winners.” But now, did we remember, Webvan, and Pets.com, and everyone else who went along the way. What McKinsey said is, “Well, let's instead just take this completely, and just set up quads of four companies, each in industry group did 10 years’ worth of data across 160 companies,” it turned into a really good piece of work that looked at winners, and losers, and companies that were able to improve themselves, and those who lost it. That piece turned into a book, and of course, what McKinsey wanted to do with that was to go up to management teams and say, “Hey, here's your strategic direction, and with this strategic direction, these are the levers you ought to pull. You're an innovation company, so spend on capex. Spend on small M&A, ta-da, ta-da, ta-da. Oh, you're in a highly regulated business, then let's spend in these other ways with return to capital,” and so on and so forth. Of course, I looked at it and said, “You've got the answer. Why would you be talking about it? Why don't you go and invest with it?” I found myself on the alumni network for my business school, and I found myself here in Atlanta, cold weather wasn't exactly in my blood anymore.
Bill: No, I would not choose cold weather either, given the choice after the move that I've recently made.
Rick: [laughs]
Bill: I'm not going back anytime soon.
Rick: My mom's family is from Chicago, and I spent a lot of time in Chicago. So, I totally get that.
Bill: I have insane amounts of love for that city. I have no desire to live through another winter.
Rick: [laughs]
Bill: I'm done with that stuff. Listen, when you got hired by Accenture, I think it's important to highlight what you did in college, because even though you may think that it's a silly little business, it took a lot of initiative to put together what you put together. Do you want to go into what your businesses were that you started? It doesn't have to be a long conversation, but it's interesting.
Rick: One of the things that got me really interested in business was just I had a partner who was from Sri Lanka, a road crew with him at SMU, and he had an uncle who ran a wood manufacturing facility. This was way before anyone worried about green, but we were completely green. We had rubber tree plants which are planted in big plots, and then harvested on a regular basis in a very ecologically friendly way in Sri Lanka. We thought we'd bring this in and hey, everyone will understand how great this wood is, because it's as good as hardwood, but it doesn't require deforestation or anything like that, and so we were way, way, way too early on that. With the ESG thing now, I wish we had that. Then, of course as 19- and 20-years-old, we came around, we tried to pitch Pier 1 [unintelligible [00:08:13] company and Container Store, and everybody. We came in saying, oh, here's all the stuff we could do.
Bill: How'd you get the meetings? You just cold calling people and trying to--
Rick: Oh, cold calling. Absolutely.
Bill: That's awesome.
Rick: Yeah. [laughs] It was absolutely ironic. We went to go pitch Pier 1. Wee got together, did our trip, went into it. Of course, the only thing I have is a blue blazer with khakis that was from my pledge semester of fraternity and we're looking at each other, “Well, you look really professional.” We went and rented a car.
[laughter]
Rick: Some sort of Chrysler with four doors, so that we looked professional in case they watched us we walked in. [laughs]
Bill: I like it. That's cool.
Rick: We spent a lot of time on that, and we put together these huge sample boxes, and sent them off to people across the United States. All of our sales, we ended make getting a booth that we did at the World Trade Center in Dallas. We'd go through and sell to people in there and raise some money, but it never was the big home run of we'd like to sell 10,000 pieces to Bombay Company or something like that.
Bill: What was the business plan? Did you have inventory before the sales or did you wait to buy until you had the sales?
Rick: It had to be wait to buy, because someone like Bombay Company, you can show them the proof of concept and that aspect, but they're going to go out and prequalify your plant to make sure that your kiln works exactly the way they want it, that you're dying in a way, you stain it looks exactly the way that they want it. Some of the others may be a little less particular, but Bombay Company at the time, this is back in the 90s. I'm sure you were probably not a big fan of the place, but it was in all the malls and had this dark heavy wood look like mahogany, and it was a great way to add instant class to your McMansion.
Bill: Huh. That's cool. It's a fun story as an 18-, 19-year-old to be doing that. It's not common that people are doing that as freshmen, sophomores. You basically, pledge in your fraternity and then you say, I'm going to start a business doing this.
Rick: Yeah, I think this proceeded the pledging and fraternity a little bit.
Bill: Oh, yeah?
Rick: Fraternity led to the other business that Mel and I launched in business school in undergrad.
Bill: Which is arguably a better product-market fit.
Rick: [laughs] I just wish Amazon existed at the time, because that was the big issue. This was what was called the College Student Drinktionary. Being a computer engineer way back before there was even Netscape or any browser, you literally went around to listservs to access these things. I’m out and I pulled off a list of drinks, and started giving them to friends, and friends would say, “Oh, this is great.” But I don't know what it means to shake & strain. I don't know what it means to layer a drink. I’ve started typing up things, and suddenly, I'm realizing, people are literally asking to buy this stuff off of me, because I can't just keep copying it for free. I said, “Okay, hey, Mel, we got a business here.” I wrote up some stuff, and then at one point, I fancied myself to be maybe a journalist major, but I didn't go that route, because I think I realized my skills were elsewhere. But we realized, we had students who wanted to write copy. They want it for their portfolio. We had artists, who were students who wanted to do that. We had a friend who became, actually wanted to be a publisher of all things, nobody wanted do that. He launched a publishing company in undergrad as well. He published ours for basically cost. We got all these students to write stuff in for free and, and then they’re published in the College Student Drinktionary, which was replete with hangover ratings, because we're two engineers who have to geek out about stuff like that. [laughs]
Bill: That's cool.
Rick: It's funny. I'm glad there aren't too many of these books that still survived. I'd probably be pretty embarrassed by now. But I did run into a cocktail party at my-- My kids are at an international school here, and I was at one of these cocktail parties or something like that, and this woman comes up to me, she's like, “Were you at SMU back in the 90s?” I said, “Yeah.” “Oh, my God, I have your book.”
Bill: [laughs]
Rick: We had done a test market everything, 700 or 800 books in our first printing locally before we went broader. It literally had one. I hadn't saved one. I'd sold all of mine. The only one I had was marked up from the first printing. She ended up giving it to me. [laughs] I was like, “Wow, it’s so nice.”
Bill: Oh, that's nice. I thought you're going to say, she made you buy it from her for a margin of safety price. [laughs]
Rick: She should have. She should have.
Bill: The scarcity value is high, but there's only a couple buyers.
Rick: Yeah, I don't think this has the same level of insight and profit potential as margin of safety.
Bill: You never know after this podcast. We'll see.
Rick: [laughs] If you can go search for it on Amazon. Yeah, that was the issue. Amazon, etc., didn't exist. There wasn't internet commerce. The only way to sell this was either at point of sale, or to go and try to sell it to-- set up pods of people to go and sell at University of Texas or something like that. Now, you’re big working capital consumption for someone who's paying his way through school. I can't just come up with $10,000 to buy a bunch of books and send them off to three schools or whatever. This idea would have been fantastic had we just barnesandnoble.com, amazon.com. Five years later, it would have been really easy to distribute and would have been an easy job. You look at how easily internet has changed some of the way that entrepreneurs can get stuff to market. It's pretty remarkable.
Bill: Yeah, and then on the other side of it is because of how easy it is to get stuff to market, there's no barrier to entry in a lot of these things. So, creating something defensible is very difficult. I feel it a little bit in content.
Rick: Yeah. Oh, content. You've got it, because everyone wants to hear your voice, Bill.
Bill: Well, I appreciate the compliment, but the problem is, there's a lot of other guys that think the same thing. So, I’ve just got to keep giving people what they want. When we were talking, one of the things that I really enjoyed, that you wrote, and it may have been in the email that you wrote me, but you said that you think that you were a natural person to come to finance, because of the marriage of mathematics and psychology, and how that typically, we can all do this DCF, and it's what the value should be, but in the real world, market prices are seldom aligned with the actual value of assets. How have you morphed as an investor, and developed the patience to wait for values to come in line to-- what's your evolution been as you learned more about investing and left McKinsey?
Rick: When I came to Invesco, I came to a value shop at the end of the 90s when value had been dead for a few years. I know a lot of people come on and talk about how all the dotcoms didn't have any valuation-- didn't have any revenues. It was measured on eyeballs and that. That's true, but it's not exactly true. Some of these companies were making money. Certainly, there was so much venture capital money at the time that even if you didn't win by going directly to the dotcoms, you could win by looking at companies that were producing for the dotcoms. The servers, the Cisco, the Juniper, and all those things. There's a lot that went on in that space, and value managers often got beguiled by that.
One piece that I would say that was very foreign for me was to come in as a dogmatically value person, and one of my first books I really enjoyed was Tom Copeland's book on valuation. That's really a practitioner’s guide. It was looking at that piece and saying, okay, here, they've got all this great valuation work. They've built a huge business on this, and then suddenly, value stops working, and some of the powers that be started pushing against the investment process to “fix it.” Seeing when you try to fix an investment process when it's not working, really had to ask yourself, “Why isn't it working?” That was an important lesson. As I left Invesco to go to a company called EARNEST Partners, that was starting up at that point, then left later to come to Cornerstone, this focus on investment process itself was really, really important. I'd say, that's something I didn't understand in the beginning. I thought you'd come out, and just be brilliant stock picker, and look at these companies, know them better than anyone else. You'd have this insight that was the diamond and you pick it up, and you'd go cash it in, and make a lot of money. It's not the way it works. Mining diamonds is not walking out in a field and finding a diamond. It is swinging a sledgehammer and knowing where to go and hit, and then just working at it.
I think the piece that's really hit me within Cornerstone, I'll say, in my CIO, John Campbell, my partner and CIO is a very strong process guy, and when he came aboard, he and I both came on to really, what I would call, institutionalize this firm. By that, we had a high-net-worth background, but we didn't really have a strongly articulated investment philosophy. I think that's where you have to start. Like you say, here's an investment process. Well, what is that? Everyone probably just draws a funnel. But that process has to be building something. You often talk about, well, know yourself as investor, know thyself. For us, we want to say here's an investment philosophy. This investment philosophy identifies the market anomaly that we are going to exploit on behalf of our clients. That market anomaly for us is really simple. I'm sure it's something you subscribe to. It's at stock prices are more volatile than the fundamentals that determine value and we see that. Stocks move around all over the place from day to day.
There are a couple other caveats that we put for ourselves personally. First is, we take information to be a commodity, probably sounds stupid, but what I'm saying with that is, it is a commodity. It's an extremely valuable commodity like gold is a commodity. It's very valuable. But what we don't want to do is convince ourselves that we found one piece of information that no one else has found. Especially, within large cap realm, but even in small cap, there are a lot of people out looking for information, and they are heavily covered by the street, heavily covered by all sorts of other people, and that piece of information that you think you find that what happens with that false confidence, if you're wrong, let's say. If you're right, then you make money with it. If you're wrong, we continue to believe in you. This isn't just a one-face game. This is a multi-face game. If you're wrong, and you believe you found a piece of information, so you think the markets acting irrationally, so what do you do to it? You allocate to your losing position. Then, you're wrong more, what do you do? You allocate to losing position. This kind of confidence bias that people tend to have is one of the things that we think we have to go through and eliminate from investment processes altogether. That's the cognitive and behavioral errors. The reason stock prices are more volatile in the fundamentals, is because of these cognitive errors, because of this fear that creeps in. How many people sold? We're still selling last April, even on 3/24. We still have this fear that creeps in, and it's visceral for people. Processes have to be able to work straight through that.
Similarly, the other piece that we would say is we don't forecast. I know a lot of people come on and they talked about, they're going to look out for 20 years or 10 years and figure out what the market is going to be for the SaaS company or something like that. We're looking at more value-y names. We're not looking for hypergrowth companies usually, and what we're looking for is where those companies are going to be able to just simply repeat the embedded fundamentals that are there. if I can do that, then I have a certain margin of safety with that. What I need for the company to do is simply to repeat what they've done in the past and understand where maybe they won't be able to do it, because if they aren't able to repeat that track record, then my valuation doesn't really make any sense.
Bill: How are you able to think about whether or not they can repeat what they've done in the past without doing some forecasting? My sense is that you are doing market-level forecasting, because you have to think through how long can this reinvestment runway go. You've got to have some sense of returns on capital, incremental returns on capital, things of that nature.
Rick: Oh, yeah, absolutely. But what I mean by what I expect for them to be able to do is, for example, We look at 10 years’ worth of return on capital, adjusted return a capital whether its return on equity, return on capital depending on the debt structure and I don't mean to get too mathematical, but we'll make those adjustments and come up with really what is a mean return on investment for the company. What I'm saying with this is I don't want to assume that the company is going to be able to-- I don't want to forecast a return on investment that's greater than what the company's done in the past. That's one piece. Oftentimes, even assuming what they've done in the past is not really relevant, because when you think about the average return on capital of projects versus the marginal return on capital, most companies have gone through and exhausted the low hanging fruit. We owned Microsoft, when it was not fashionable, owned Microsoft the end of a bombers reign there. For a long time, we had people saying, “Well, is this really a growth company anymore?” No, it's not a growth company. What part of trading that basically 12 times earnings after you took out the cash was a growth company?
Bill: Yeah, it doesn't have a growth multiple. [chuckles]
Rick: Right, it doesn't have a growth multiple, and the market expectations aren't there for it. That was one of the big pieces at the time. That was before we really saw, then take off, and turn in Azure. They were launching windows 365 at the time. They're starting to step into that. But .NET was out, but it wasn't really out for enterprise, it was more as a series of Internet Explorer and those changes to just enable the internet, but not to allow the whole iPaaS, iSaaS kind of stuff. There was a time that a lot of our clients were asking, how can you own this is basically in channel bounding between 20 and 25? We can show them our valuation, we have this tool that's done valuation since 1987. Here's how it's tracked. Microsoft's done a really good job of tracking this. Right now, I've got this gator mouth where the value is building, but the price hasn't moved. We buy it, and then suddenly they start launching a lot of their other stuff, and that was the next leg up for them.
A lot of times when you think about the difference between micro econ and real-world economics is that we don't have these continuous functions. You can't just invest one dollar and get your 30 cents return. In fact, people like this, like Microsoft, have to invest for 10 years to be able to make that big step into Azure and everything else that's coming. We’ve made a lot of money with a name. It was a very good name for us across that. That's an example of, well, we didn't really have to see them creating reserve, we just had to know that this company's been a very good allocator of capital across time. Even though a lot of people at that time didn't like Balmer, everything was set up there as they were moving into it.
Bill: What did your tool capture that the market was missing? It may not have been one thing, but you said that your tool said that valuation, at least per share, was increasing. What did the tool see that the market was ignoring?
Rick: What the tool is looking at is just basically, demonstrated history of producing earnings. For us, we look at that on a normalized basis. We literally look back and we say, okay, how volatile is this company over time? If you think about someone like Home Builder, you've got big peaks and big troughs, because they're fairly cyclical. You need this move over smooth over more gears in order to come up with what's a normal gear. Someone like a Walmart, highly consistent. Shorter number of years. Microsoft, at the time, was about an average company, and so we were smoothing over, I don't remember exactly, I think it's five years, it might have been four years. With that, you come up with a fairly conservative measure of normalized earnings power for the company.
Now, the second piece we're looking at is how much growth do we think they can generate with that? How much growth they can generate, we look at a sustainable growth rate equation, and just how much are they reinvesting back into themselves, how much profitability do they get, and then we ratchet that down, if they're not actually expected to grow that fast. We use street estimates on how quickly it is supposed to grow over the next couple of years. We’ll ratchet down. We’ll never ratchet it up, because we say you can't really grow sustainably greater than that theoretical limit. With all that I think we were using at the time, maybe a 6% or 7% growth rate on a four year mean EPS, that was very conservative versus what they're actually expected to do, and the valuation was just building.
For us, we look at this as particles in space. If I've got two objects in space, and they have a little bit of gravity that pulls them towards each other, then over time, what happens? They're going to pull to each other. You throw something up high enough from the earth, and soon doesn't go into orbit, it eventually comes back in and collapses. But it can keep going for a while, and you just don't know how far it's going to go. Back to my two items in space, what I want to see when I look at valuation is not simply the departure between price and value. But I really want to know that the company has built value over time, because then that puts time on my side, if I'm investing for my 2, 3, 4 years, then I know value is building up. Then, even if price is away from it, eventually pricing get pulled up towards that value and probably through it, and we’ll probably sell it early, and when your growth guys will buy.
Bill: The concept of business quality and growth as a margin of safety is something that took me way too long to understand. I always thought that price was the only margin of safety.
Rick: When I look back at mistakes that we've ever had, it's been in being too deferential to management's ability to repeat some of their track records and dismissing some of their errors. We had Mattel, which actually I call it a mistake. We actually made money with the name, but we owned it for a year longer than we should have, because they had a big miss out of Barbie that they just didn't do a good job of explaining. Really in retrospect, it should have been the first title of mosaic theory. It should have left us to really questioning whether they had control of that. We had both Mattel and Hasbro at the time. We did very well with Hasbro. We did well with Mattel, but then just didn't sell it right when we should have because some fundamentals were starting to roll over. So, now, we've started to interject is what we call tier analysis.
For each of our names, we literally go through and rate them. Are they a tier 1 through tier 5 company? Tier 1 means it's a high quality, highly repeatable. It's got good moats. We have a scoring system. We go through and look at it. Interestingly, for us, we score on ESG as well, which I know a lot of people probably think is antithetical to capitalism. But if you're looking at the long histories with these companies, ESG, environmental, societal, and governance aspects are very important, because negative externalities lead to what? Litigation risk, regulation risk, and legislative risk. When you look for strongly embedded fundamentals, you don't want a company that is short cutting stuff or causing harm to society, causing harm to environment, because that's going to come back on them.
Bill: It just gets hard to handicap. I know that y'all cover some financials, and it's one of those arguments where people will say, “Well, banks are-- They charge so much in overdrafts.” On the other hand, the commercial bank, I would argue, is the lubricant of all of society. It's very, very important what they do. So, balancing those two things once you start scoring ESG is difficult.
Rick: ESG is still fairly nascent. We look at it, but I'll tell you, pre-Sarbanes-Oxley, financial analysis was different than it is today. Pre-Reg FD fair disclosure, also, financial analysis was different than it is today. So, FASB, the Federal Accounting Standards Board, has matured and grown up. SASB's doing the same thing, Sustainability Accounting Board, the standards board right now. What we don't have right now is, okay, you want to look at all the energy companies, do all the energy companies report their CO2 production per barrel extracted at the same way? Do they all even provide the same information? We have standardized sets of financial accounting, but we don't have standardized sets of sustainability accounting. These are things where the business is growing, and as a market participant, as an investment manager, as a portfolio manager, we have to be abreast of that and digging in and learning that. But level disclosure are getting better. SASB’s out there. We've been educating ourselves on that, and maybe looking at their FSA exam, which is fundamentals of sustainable accounting. It's a development field that does not have to be contra to capitalism. Good companies, as you're saying, should have strong ESG practices.
Bill: Well, what's funny is, I, for the longest time had associated value investing with buying something cheap and then selling it when it's dear. But all of my real heroes buy companies to own them over the long term when I really break down what they do. To me, if you're going to be an owner of a company over the long term, it's impossible to ignore some of this ESG stuff. I came to that conclusion no more than three months ago, talking to this woman, Liz Simmie. At the end of that conversation, I was like, “Man, I've really, really underweighted this stuff,” because, ironically, I think a lot of the people that traditional value investors pray to preach long-term thinking, but then the implementation of value investing in many circles tends to be a short-term rerating game, which is not totally consistent with, I think, the text of what's preached. But also, as a way to make money, don't get me wrong.
Rick: I think it's spot on. There's a question of what kind of value investor are you? I'll tell you something with the same stripes. If you think of more of the Sir John Templeton, then, you've got the maximum pessimism deep value approach, and then you've got people who maybe argue that GARPy, growth at reasonable price guys are also value investors. Probably, everyone is going to say, if certainly in your show that even if I'm buying something at 76 times sales, but it's a billion-dollar company, and I think it could be $100 billion company, then that's value investing, because it's building value.
There is a question of how far are we each willing to look out to the investment horizon. For us, we're thinking three to five years as we look at our names. There's time for to recognize value, there also should be time for it to build value. I think it's just a matter of how much are you willing to discount that future risk. What we've had out of the Fed really since the global financial crisis has been very accommodative monetary policy, and that monetary policy has subsidized risk. With risk subsidized, it has pushed a lot of capital into all other assets. It was just two years ago, maybe just a year ago that we had, what, $30 trillion dollars’ worth of negative yielding debt from different kinds of sovereigns, and even some corporates? If the entire term structure for Switzerland was negative for how long, for two or three years? As we look at stuff like that, you've got to go look for yield. That pushes yield someplace else. That yield might express itself as an earnings yield, and so that's part of what we've seen. Then, the other piece of it has been once you've displaced that risk, then where else?
Now, you see huge amounts of private equity going into all recurring revenue business models. That's why SaaS is getting really gobbled up here. But if I look at beyond that, to give an example, at small cap, we've owned for over time, we've owned some skilled nursing facilities. Skilled nursing facilities one side, another side we've owned different companies that would roll up anesthesiologist’s offices. So, why did they do that? They did that because you could go in, you can buy this at six times EBITDA, and then you can run the company, you plug it in, give anesthesiologist a better-quality life or take this skilled nursing facility, and overlay better operations and better purchasing those things, squeeze out a little bit of post-merger management's energies, but your company is trading at 10 times EBITDA. Immediately, you’ve got a four times expansion on it. Those deals aren't to be done. You look at all the money that's in private equity, it has come in and it's chasing those deals, and it's very difficult for those companies now to go and make those acquisitions that look nearly as accretive now. The good news is, public multiples are also up, but it's still difficult enough for someone to see that.
I think for us, you have to look at that displace risk. That displaced risk now is because you have this really long-time horizon for subsidized risk, and that has all moved out, that will come back in, and that's just part of it. It goes longer than you think it can go, but some of these things that I think is interesting-- Do you follow factor investing at all? Familiar with the term? Within factor investing for a long time, we've had a conflation between momentum investing and growth investing. Those factors have been very highly correlated. However, you think about in terms of alphas for those factors, or betas for those factors, or if you think about it in terms of just the market risk premium that each of those is having over time you track it that way.
What we are hitting right now is since we bounced off the market bottoms from 3/24 of 2020, is what came around, in September, has been a pretty strong move out of value names. Especially, October forward, we've had big moves out of that. We now are seeing a reversal of it. Now, you're seeing value starting to outperform growth, and as that happens, guess what happened? [chuckles] Basically, it takes all the momentum money that was pushing into growth and was conflating these two is now going to be driven into value. I'm talking through passive structures. What's interesting is that momentum itself is really a reinforcing mechanism. It's a virtuous cycle. Because as you have S&P, we think back to highly concentrated market with those names that have done well, and people allocate into passive investments, what do they do? You buy more of those things that are already overly represented in the benchmark on market cap basis. Then, you buy more of it, and then that gets to go up more. So, it gets pushed more and more.
Similarly, as we watch someone like ARK [unintelligible [00:33:04] assets and having to trim some of the positions, those positions are going to be sold out, it pushes them down, and she's selling her most liquid names first, but guess what? Their whole series of names aren't as liquid. As you see allocation away, and so you're a momentum investor, you're going to sell those names that have lagged a little, buy the names that have performed the best, now you're selling growth, you're buying into value, that's going to push it more. These are the things where the first derivate is turned, and the second derivative is positive. For this case, I guess, negative if you're thinking of as a growth investor, and so that first rivet is just going to accelerate negatively even more quickly in my view.
Bill: Do you think that when that happens, does that create a fundamental more risky market structure, or do you think that the assets rotate into the value names, or the names that haven't caught in a bit previously, it's zero sum as that rotation happens?
Rick: Within the momentum just element of the market, just talking about that money flow, that's a zero-sum game. That zero-sum game is an opportunity, frankly. I think as a stock picker, the big move into different kinds of passive investments by investors across the way-- Warren Buffett says, “If you're running your own portfolio, just buy the index by the spiders and go to sleep every night.” Okay, that's great. Now, as someone who has watched that market structure change from being 10% passive to 40% passive to over 50% passive, I'll take that. Because as everyone allocates that money in, they are creating an opportunity for stock pickers themselves to go and find those diamonds in the rough. Now, as an investor, you need to be able to ride through long periods of that not necessarily working. You've talked a lot about repeatability and all the elements that have to go into that on your show, and I love that as a topic, because having that focus on knowing what you are going to be able to accomplish and finding the opportunity, and they're not being pushed out of it before you can actually recognize the value. I think that's what's coming. I think a lot of value investors have been waiting for a long period of time and we’ve gotten a few head fakes with Brexit and things like that. I think you're actually now seeing a number of forces that are lining up, and those forces that are reversals of things that have already existed.
Bill: That makes sense to me. Something that has been interesting to discuss with people, as I've been able to discuss some of the growthier philosophy is the idea of, well, I don't really know how to model the next five years, but I think terminal economics or this, therefore, I'm really terminal value investor, for lack of a better term, and I think it is-- I've thought about it a fair amount, but maybe I'm missing something obvious. But if that is the way that people are looking at the world, which I think would be a consequence of rates, it's interesting, because it's almost, well, the next five years of cash flow don't really matter as long as they're not hugely down or bad. As long as you're not bleeding just tons and tons of cash, and all the value is in the terminal value, who even cares about the next five years is almost some of philosophically what I've heard which is interesting to hear, because it strikes me is not what investment is, but at the same time, I do think it's the investing that's really worked over the last 10 years. I wonder whether or not it's really smart or whether or not it's the wrong lesson, and I don't have a good answer for that.
Rick: I hear lots of analogs drawn between the dotcom era and the present era. I hear why it's the wrong analog, and why it's the right analog, and people try to draw lessons from it. It is back to the old barb that history rhymes, but it never repeats. That's the thing that we're talking about. What people is now-- I guess, maybe for me, bitcoin, I hate to even take the conversation here, but--
Bill: No, thank you. It's good for rating.
Rick: [laughs]
Bill: People love listening to bitcoin talk. [chuckles]
Rick: I should not even talk bitcoin. But it's a good parallel to draw, because a lot of times, when we look back to dotcoms, people say, “Ah, but you wouldn't have thought that Amazon would win or you wouldn't--" Therefore, it was right to buy it. Okay, but Amazon sold off 90% from its peak. You had a great opportunity to step in and buy it in 2001. Webvan had everybody. This was George Shaheen, left a major big six to go over and run it, and they have venture capital out the wazoo, and we literally went and toured some of their facilities, and at the distribution facilities, we’re just insane. How can this much capital be deployed into this for basically groceries? Now, be fair, groceries have proven to be a viable business for delivery. But the Webvan model didn't work for it, because there's too much capital that was going in to basically chase and support it. But capital was subsidized, much as we see risk being subsidized.
I'd say that's the rhyme is that the venture capital large and the follow-on and everything else that came behind that, that was subsidized risk by the capital markets. Now, you have it, just not the risk has been set subsidized, but the capital markets, it's been subsidized by the Fed. The market’s now realizing that. That's why crypto and those things are coming in. People are saying like, “Oh, my gosh, we have a Fed that has a balance sheet that looks 10 times the size that was going through the global financial crisis, and we've never weaned ourselves from all these emergency measures that they put on,” and so then you hear terms like fiat currency, Elon with his tweet, and he'll take the ladder. Talking about bitcoin. Well, okay, that's great. But you don't know what's going to be bitcoin?
Back to the point. Yes, buy a basket. If you think that there should be a global internet currency, then buy a basket of it. But to make a call and say it's going to be bitcoin is the same as saying, I know, it’s going to be Barnes & Noble, I know, it's going to be Amazon, and I know, it's going to be Pets.com, and I know, it's going to be-- If you bought that basket in the dotcom, then you could do pretty well. But if you just tried to pick one, your odds of saying, picking Amazon in 1998 was a difficult one. I'm not saying it was impossible. Someone did it but it was a difficult one. A lot of times, just like in the Collins’ book, Built to Last, people look at their successes and say, “Ah, look how obvious it was if you just put all these things together.” But it's so much easier to if you ever read chess games. It's so much easier to understand the chess decisions when you look back at the chess game. But if you watch it in real time, you're like, “Oh, what's going to happen?” You don't know Kasparov was going to do this. But in [unintelligible [00:39:29] “Oh, wow, that was brilliant. Of course, he did that.” When you watch it in real time, it's much harder. As we see risk, cease to be subsidized some of these methods that have worked in the past, meaning, I'm willing to take growth now at any price in order to get that terminal value is not going to persist.
And just to give you one of the rhyme, but not exactly repeated. Invesco, we’ve managed $54 billion in just the institutional business at that point. Everybody came and sold us everything. Every research, every whisper number, every, every, everybody. We had a hot internet analyst in at that time. At that time, those guys were like rockstars. I forget the name of the fellow, and I wouldn't attribute to him if I did remember. But he came in and said, “There is no value too high to pay for infinite growth.” Okay, well, it's true. But I tell you something about infinity, and also n divided by zero is not infinity as people seem to think it is undefined. [chuckles] So, not to be too precise on mathematics, but he had the wrong concept. [laughs]
Bill: Yeah, well, and the other thing that I have found myself thinking about is, it's amazing to look at the returns to scale that the largest companies have accomplished. I was way too closeminded on SaaS things like Datadog, and I guess some of these names that-- I say Datadog, because I think I actually understand that strategy. I don't really understand the product as well as I need to. But the thing that's hard for me to get over and I continue to find it hard to get over is the amount of SG&A that's going in to create the growth. It's not purely organic. Now, the strategy consultant in me or whatever would say, well, if your stock is this high, and the employees are willing to accept stock, and we think that SaaS is sticky, go out and just get as much market share as you possibly can today. If the stock rerates, then you end up issuing more shares down the road, and who really cares if you keep your employees and you get the land grab. The investor in me is very nervous about that statement, though.
Rick: This is again where it rhymes but doesn't repeat. This is a big thing back in the 90s, and in the 90s, you didn't have FAS 123R. You didn't have disclosure of stock-based compensation. Literally, it was not in the numbers. They put it down below the line. But this kind of piece where you are basically using your stock as currency is what makes sense to do when you have expensive stock. Because your stock is really cheap to you, but the market values it dearly. When you were applying that, you're buying people with the stock-- remember back when Lyft was trying to get people going, and so they used to give out stock to the Lyft drivers? Then at some point, the stock doesn't do well, and so then, what happens? This is just leverage on leverage on leverage, this is not financial leverage, but it's operating leverage, and leverage within the extension of the business model.
When you think about the high SG&A that you're referring to, the high SG&A provides fantastic leverage, as long as we're growing up. What happens on the reverse side of that? As long as these guys grow, and grow, and grow, and grow, then that's fantastic. Presumably, that's where strong growth investors will immediately look at the second derivative and say, “Okay, it's rolling over and I’ll buy it. Then, I'll sell it.” That's what they'll say. But you know already these have unsustainably high growth rates, and so there's going to be deceleration, and then what do you say in terms of when I'm actually going to sell the name? That's a key lesson. So far, investors who've been investing since the global financial crisis have never had any sustained bear market. What do you do when you buy on the dip? What do you do when you see a dip? You buy on it. That's just what has been rewarded. At some point that may not be what's rewarded. At some point, that may not be something that actually catches all names. So far, the Fed seems to be pretty happy to try to backstop the economy and backstop everything. We've seen good policy responses that have again subsidized risk, not just by providing capital to the market, but also by saying, “Hey, the knock-on effects of a bad stock market are bad for GDP growth, and since they're bad for GDP growth, then we're going to backstop the stock market.” Well, subsidized risk, because you took away downside risk. It doesn't mean though that segments of the market can't be overheated and therefore correct.
Bill: Yeah, it's a weird world where it feels the Fed is actually-- to your point, supporting the market in order to support the economy, it feels to me it should be the other way around, and that's also not totally accurate. The government did support the actual economy quite a bit also through the pandemic, but that's separate from what the Fed is doing, right?
Rick: Yeah, absolutely. All the PPP stuff and every derivative around that was huge, and being able to backstop it. Actually, it's probably what gives legs to this. We mentioned we do own a lot of banks across the strategies, but a lot of the big diversified money centers within our concentrated 30 in particular, and our consumer metrics are just phenomenal. If we would have been talking in February of 2020, and I would’ve said, “Bill, there's going to be a big novel virus that's going to hit everybody,” and I guess you knew about it in February, so congrats, but most of the world didn't know about it in February. This novel virus is going to decimate the economy. By the way, the consumer is going to do leverage. We're going to have double-digit unemployment, and the consumer is going to do leverage. Look at the reserves the banks all took last year. Now, we're coming out of this year, [unintelligible [00:44:56] went great for these guys. [laughs] They get to release reserves and start paying dividends. It's just stunning. Not a little bit. We're talking about 10 cents on the dollar for what they reserved are actually being used. We look a lot of stuff that's filed with the Fed that’s called Y-9C filings, which gives great visibility into non-performing loans and everything that banks do. Boy, our adjustments we make for a loan loss reserves right now, just even with releases, the banks are still very, very well capitalized. It was ironic and a part of where we did so well over last year, with the recovery was really buying a lot of these pieces, realizing that the banks were so well capitalized, we weren't looking at another global financial crisis.
In contrast, the global financial crisis, we were completely underweight banks. We only had one money center bank in the portfolio, and otherwise, we mostly had insurance companies that didn't have the same exposures. It’s not that we called the global financial crisis, but at the time, we were getting a lot of queries of how can you not own these? Don't you see how much money with CDSs and mortgage-backed securities, and so on, and so forth. Yeah, but I can't tell what's on the books. I can look at the leverage and see there's a lot of leverage, and then on top of that, when I dig down in, I'm looking at tier 1, tier 2, tier 3 assets, we had-- who was at Bear Stearns come up on our work. Bear Stearns at 31 leverage, but their tier 1 assets was only 3% of their book. A tier 1 asset meaning, I can actually go out and identify a market price on it. tier 2 means, I can find something similar, and tier 3 is, its completely model driven. They were memory serves something like 80% tier 3 at that point. That means for something I can actually identify and leverage-- I think it's 33 to 1, and now I've got 3% of the other side, so, I'm literally 100 times levered versus anything I can go out and actually get immediate liquidity on without taking hit.
Bill: Yeah, Rick, remind me how that tier 3 mark or level 3 mark works when you need it? [laughs] I don't think it's exactly as you have it modeled, right?
Rick: No, exactly. That's why you couldn't count on it. Tier 2, I might be willing to give you because I understand you don't have an on-the-run security, but you got something that's 17.5 year 10 or something like that. Okay, you can interpolate that, but a lot of this stuff that was just put on and completely priced outside, and then you saw the sticky valuations that we didn't know about at the time, but now when you look back at the big short and stuff like that, you realize the banks were playing their own little games with that. Why were they doing that? Because that's how it was set up for them to do it. The hedges at the time had it completely right those who are short. They were just sitting on stale marks. That's why you need to know what's in the books.
Bill: Yeah.
Rick: For us as a long-only investor-- and not saying we shorted anything, because we don't do that. But in as long only investors, we avoided it.
Bill: How do you think through the risks that fintech is bringing to the banking system? My interpretation and I'm not trying to feed you the answer, but I think the middle market, I'd be really worried about, I think that they're going to just consolidate and get big. I think you have to either be really big or some of these-- like the lender relationships might benefit some of the smaller community banks that fintech leverage. But I think the money center banks, I haven't been able to figure out how it hurts them yet.
Rick: It depends on whether you think they really come in, and does fintech basically go at shadow banking? So, you think of other places where people borrow money like a Car-Mart-- America’s Car-Mart, CRMT, which we actually own one of the portfolios did they get, hit by Fintech. Does it do something to subsidize risk, read stuff about instead of looking at Fair Isaac credit scoring and some of those things, instead of using actual credit exposure, let's go back and use alternative measures. How do you use your checking account? How do you pay off your utilities and those things? There are pieces within fintech that we'll dig deeper into data sets that don't exist. My opinion as we see some of that come up, and I'm not thinking about payments right now, because payments are kind of put on a different side, but specifically around fintech, and how we think about the banking services that there's a huge percentage of our population that is unbanked or underbanked, then fintech does have an opportunity to bring those in.
We own JPMorgan in the portfolio. Have a lot of respect for Jamie Dimon. Jamie Dimon on his last-- I think his earnings call, it might have been a separate interview, but he said, he was scared blank-less by Fintech. Now, when he says that, is that because Jamie Dimon does not have a plan for dealing with Fintech? This guy has been skating ahead of the puck his entire life. If he says that, he's not saying I'm scared to death of this, my paraphrased form, because he doesn't have an answer. He understands a path to how he's going to build to it and get to it. I think his approach will be something what you saw out of Chambers back with a Cisco in the 90s. In the 90s, Cisco spent very little money on R&D. They put a huge amount of money in M&A. I don't remember the number. Now, I feel from 1994 to 1998, I think they made 67 acquisitions, something like that. Those acquisitions weren't to go out and just buy everything. They were very specifically targeted as I don't know what technology is going to win, Chambers literally said it. I'm not-- again paraphrasing. I'm going to use the market as my R&D. He pulled in his R&D, put it into his-- and then he has his own stock price which has gone way up, and all these switches and everything are big stack networks where interoperability is good, and frankly, a certain level of homogeneity is good, because it allows the operating support systems to function across that environment. This is pre-AIN that Cisco now does, that allows heterogeneous networks to work together.
But at the time, it was real important to have your whole stack and [unintelligible [00:50:27] what the OSI stack, how telecoms works together. He did that. He made all those acquisitions, and when someone came out with a better level 4 switch and again, I'm making this up, because I don't remember all the acquisitions, but he went out and bought that, “Okay, we've got this kind of switching fabric. Great. That's more efficient than ours, buy it.” He knew he was using overpriced stock to go and buy what he couldn't necessarily develop internally, because he would have developed it all internally wouldn't have known what own.
I think when we look at that real option theory being employed to your M&A strategy, I think you'll see very similar aspects out of Dimon. Now, what Dimon did coming out of the global financial crisis that was really smart and very prescient, is he looked at the global financial crisis and said, “Okay, why did this happen?” I believe, big reason that this happened is because there wasn't good policies and controls within the banks. Meaning, we're just allowing people to write huge amounts of money in MBS’s and later on CDS’s and later CDS’s squares. So, there are all these very difficult products, and then who you are trusting to give you quote back on it. You didn't really know what your risk looked like, risk management wasn't really there, if you remember, Value at Risk was really hot topic back in the odds, but there wasn't good modeling on it, because the sources of the pricing back to our prior conversation in tier 3 assets weren't really there.
Bill: Yeah, it's all the barbers telling you, you should need a haircut. Like they're all basically pricing their own esoteric stuff that they're writing.
Rick: Exactly, but on top of that, there's also an agency effect. That agency effect is, if you're that banker who's writing those contracts and making the money with it, you don't get paid at the end of that. You get paid that year.
Bill: Upfront. Yeah, no doubt.
Rick: There were huge bonuses paid out to people for stuff with trailing liabilities that weren't even known. When all that came up, I remember sitting at the Bernstein Strategic Decisions Conference, and I think Dimon came, and he gave a talk about how basically they had hired something 10,000 different kinds of people just into policies and controls. You think, wow, that sounds terrible overhead. He's literally having to guide down, the SG&A is up by one to 2% in his guidance, because he's going to take this hit as he's investing those people. Okay, but when you look at regulators, what do they need to see? They needed to see some level of contrition, and not only their contrition, they also needed to see some level of action plan to be able to address it. I think he had the vision to do that.
When you're on the backside of this, and you're looking at a lot of moving people from being unserved or underserved into being served as a banking piece, there's a huge piece of regulation here that isn't something you just go and hire compliance officer and you're done. Wells Fargo has certainly seen that. There's a real important aspect to building this as a core competency within the business and giving to the society as a whole, “Hey, we're not just basically stealing from you,” which can be argued it was what happened with Wells Fargo, or what happened with a number of the banks back in the financial crisis. Then, having the regulators be believable, and being able to come in and say, okay, we've pushed against this system, and we understand that their policies and controls are in effect and are doing their job, I think that's a part that fintech doesn't really have yet, is we don't see great policies and controls on how all that's going to be integrated.
Now, it's not big enough, so we’re not worried about it right now, but at some point, it'd be a big enough piece of the economy that regulations will come in. Again, not to just to help your ratings, but it's the same stuff that's going to happen with crypto. At some point, all the different regulatory bodies are going to want to have a look at it, and it's what we saw the first shot across the bow from China. Now, we're all willing to take a bet that China is going to be the last.
Bill: Yeah, well, the Fed speech, what was it? Yesterday or whatever. That talked a little bit about it. The Wells Fargo, did you ever read the Republican house report on Wells Fargo? It came out, I think it was two years ago, or maybe it was last year that it came out.
Rick: I’ve read some excerpts of it. Yeah.
Bill: Just sit down and read it sometime. It's shocking. Shocking how little they paid attention to what needed to be done. I think that's one of those cases of just not wanting to own what the problem really was, and then all the hiring of the external consultants that I don't even think it was their fault. I just don't think that they were even in a place where they could win, and then when they had a proposal, it sounds the Wells just said, “Okay, thanks,” and then never did anything to implement it. That's a great way to piss regulators off.
Rick: It is the issue and it’s where incentive designs are really important. You think this started with a simple lever at the top. I was doing more cross selling. Okay, do more cross selling, but then how you implement that makes a big difference. [laughs]
Bill: Yeah, that's right. Maybe Wells is a reasonably good place to ask this question. Have there been things that you saw as a strategy consultant, that have created situations, whether they're turnarounds or whatever, that you just won't go near? When I was pitching Wells, people were saying, “Don't go anywhere near it.” I'm just curious as someone that seen inside of a lot of companies and strategies, what your takeaways were?
Rick: It's a really interesting question, because I think a lot of times value investors are drawn straight to turnarounds. Turnarounds now rely usually on a new management team to come in and do something that the prior management team wasn't able to do. Certainly, there are great amounts of money to be made with that. Wells is one example. It has certainly screened well on our work, and so we've reviewed it multiple times, if not purchased it. I do own a little bit of it personally, but that's in a personal account that's away from anything we supervise. That is because it doesn't really fit our process in terms of here are the embedded characteristics. I think the analysis of the embedded characteristics of a company, and I say of a company, it means the regulatory environment and everything around it. It also means the competition. It's just failed our fundamental analysis. That failing the fundamental analysis has been the ready to basically build and correct things.
Certainly, the Fed has not decided that they are, and we still have a growth cap on them, and that raises some concerns. I do think the brand is actually pretty strong, and so, the brand will continue, people will make jokes about it. But ultimately, if you can get another 10 bips out of your savings account, you're going to do it. How many people right now are moving to Marcus, because it's paying a little more from versus MX savings. People will move money based on that if the services are there.
What is concerning is these are talent organizations. They’re human capital. So, as they say, the value of the firm goes up and down the elevator every day, maybe that's not the case, and I work from home, but there is a lot that goes, and this persisted for such a long period of time that there are real concerns, especially on the commercial side, that you may see aggressive, the very assets that are required for the company and returned back to business.
For us, I'd say, that's a hard thing to fix, and unless it's really well articulated about how we're going to fix it, then that's a concern. If I contrasted that with Citigroup and looking at Fraser, when she came in, she came in and just off the bat says, “Okay, look. We think we are underrepresented in all of these markets. So, we're going to exit at a variety of these,” left a lot for Asia to go away with the exception of Singapore and Hong Kong, where they felt they had good level of critical mass. But for the others, they said, “Well, we simply can't build it there. It's not worth the amount of to come in, and then basically be a subscale competitor, even if we invest substantially in it. So, we'll exit it.” That's been an overhanging piece of the business that people have often looked at as a real option. Well, maybe someday, it'll be worth something. I think she correctly made the determination, which was not a popular one, that, “Hey, we need to exit these markets and focus ourselves in these places where we think we can get it.” Now, that I’m sure, we think we can get critical mass.
It's like a Jack Welch piece to come in and say, we want to be number one, number two in the markets we're competing that. If number two, we're going to work to be number one, that's that mantra. That's a strong leadership piece that comes in, you can take, here's a little bit of underperformance stuff, we're going to cast that off and we’re going to focus ourselves on these areas, and march forward. Now, she's not rolled out our whole plan, but that announcement was within really a month of her assuming full-time CEO duties. That kind of strong leadership is something that's good to see from a team, and one that really is thinking about rational allocation of capital for one, but then also policies, procedures, and building stuff, building a recurring ability to deliver on that capital. I think that's a big piece. When we are investing, we're literally taking our capital out of my checking account and my savings account, and I'm given it to this management team, and I want that management team to do what? Earn me a rate of return on the capital that justifies the amount of risk that they're taking. I'm not willing to do that if the management team is saying, “Trust me, I got this.”
Bill: I guess the natural follow-up to ask is why is it okay for your PA and not for the firm?
Rick: Because my PA, I'm willing to take a small position. I see that there's a valuation opportunity there. If the brand is worth it, and they're able to build stuff, build back to what they're doing, then, okay. In a concentrated 30, it's got to be the 30 best names. This does look good. Looks like there's evaluation opportunity, but our confidence in the management team's ability to execute a return to generate and what they've done over their past history is highly suspect. I think with that question, it just doesn't fit our risk profile, and so doesn't push the next best name out of the portfolio.
Bill: Can I say this slightly differently? If I'm hearing you correctly, it sounds to me like there is probably a perceived larger valuation discount, but the range of outcomes is wider, and therefore, the confidence interval would be lower.
Rick: That's well said. Actually, I will tell you, we go through-- and oftentimes, we think about individual investors. Individual investors are running their money out of their PA. Then sometimes, there are PMs, who are a star PM, and there's one person who manages money where everybody makes all the decisions. We think all that creates problems. So, my PA, I'm just the only person, and got to justify to my wife, but I'm the only person that has to really understand that investment and look at it. For a team, what we want to do is remove that fail ability that we can see out of an individual human, because you have a star PM at one of our competitors, and a guy or gal goes through a divorce, or get sick, or gets whatever, gets hit by a bus, there's huge just human risk to that. Hit by bus maybe is easy, because you get the notification, so you just fire the manager, but you don't know that maybe he's sick, or maybe he's had a death in the family, or something that's going on, that distracts him.
Bill: Yeah, some emotional thing that he's not telling you about.
Rick: Right. You as an investor don't really know that. We want to remove that, and we think that happens best as a team. The team aspect, then, interjects-- while it makes the process highly repeatable, it does interject its own problems. At Invesco, for example, we had groups of PMs. We also had huge teams of analysts. We had utility analysts back in 1998, 1999. The poor person just had nothing to bring. Utilities just look terrible on all the work. The best thing for that utility analyst to do is come and say, “Hey, nothing looks good. Don't worry about it.”
Bill: That doesn't help his job, right? His incentives are to come, pitch something.
Rick: [laughs] Exactly. He comes, pitches. Now, as a PM, you're hearing pitches. Now, you've got 20 different sector analysts who all come in, and some of them are really good salespeople, some of them are really bad salespeople, and they come in and maybe the guy is a really bad salesperson, though, is a really good analyst, and just comes in and doesn't present exactly the right facts in exactly the right way, and you wind up buying from the good salesperson who's not as good of an analyst or just doesn't cover a sector that has the same value opportunity. This idea about having a 30-stock portfolio that is committed to that, there are only 30 names, it can't be 29, it can't be 31, alleviates part of that. The other part we alleviate is that we're all generalist. Literally, we rotate. If we were going through and reviewed Wells Fargo, a year ago, then, a quarter later, we review it again, we'll literally have a different portfolio manager review that name, and then bring it to the team. Then as we do it, each of us do our own work on it. Then, we actually log a vote.
What's interesting about your confidence interval is, we do a 2x2 graph, which has a quality of valuation on one axis, the vertical axis and the horizontal is the quality of the fundamentals. When we look at that, we put a bubble down. Do you think it's an attractive valuation with attractive fundamentals, and how much confidence do you have? If I were to draw what we put down for Wells Fargo, absolutely. Looks like a good valuation, but I think had a wide band of confidence around that valuation. Then, likewise, has pretty crummy fundamentals, and I've also got a wide band of concern around that. I draw that out, and that looks really bad from a risk allocation standpoint. In that, I really don't know how this is going to work out. So, I don't have confidence that the markets ever going to appreciate my valuation, because it may never return to delivering the fundamentals that we think.
Bill: I think a follow-up that you deserve to be asked is your PA versus how much you have invested alongside your investors, the majority is co-invested in your strategy, correct?
Rick: Every investor here is invested alongside clients. I'm jealous when I hear some of your people come and talk on your show, because literally, my entire investment account is invested in different strategies run by the firm. My level of diversification is terrible, because we basically manage large cap value, all cap value, small caps, mid cap, and so I've got, I think, five or six portfolios with the firm, and they are all on that value side, all domestic equities, I’m like, “Where's my diversification?”
Bill: [laughs] Well, to be fair, I'll let you cite your performance, because I don't want to mess it up. But your output is pretty impressive versus the Russell. What is it?
Rick: Normally, we think it's immodest for the portfolio managers to talk about it. I leave that to my marketing guys, usually. What I would say is that our long-term history, I think, 1, 3, 5, 7,10, I think if you go back across the investment universe and look at us against our competitors, there aren't that many who have been around since going back to 2001, which is when our strategy started, and I think there are fewer than 100 in the large cap value universe, and we’ve clearly come out at the very top of that.
Bill: People can always request the information from you guys, right? Where can they find you?
Rick: Oh, you can find us on our website, www.cornerstone-ip, like, Investment Partners .com. We have a variety of information there, and that'd be the place to get all of it, so I don't have to put a bunch of subtexts in super-fast speed with compliance language.
Bill: Yeah, we don't have to go through compliance [laughs] with a fine-tooth comb. But what I think is so interesting about what you sent me about your results, and what we've talked about with team building and process in general as we prepared for this, is I hear some of my idols and some people that maybe have motivated reasoning, perhaps myself included, say, I don't want to have a group of people, because groupthink can really ruin investment results. But it is clear if you request the information from Cornerstone that you'll see the investment results are satisfactory, to put it in Buffett's terms. How do you avoid that? Is it a devil's advocate approach? Is it being just very, very honest and transparent? How does the team foster the trust to come up with the right 30 stocks?
Rick: I would say there are two great quotes from Michelangelo around sculpting that I like. The one that I use in this case is, when asked how David was made, Michelangelo's response was, “Well, it’s simple. I removed that which was not David.” Meaning that whatever the block of stone is, there were things that just needed to be carved away, because David needs to be freed from the stone.
Bill: Wow, that's a really pretty quote.
Rick: It's beautiful. I think what's important about it is, when you think about investment processes, it's a big block of granite or a big block of marble that's there, and you need to carve away the stuff that works for you. You've talked a lot. One of the things I love about your show is to tell people to know what kind of investor they are. I think that is key, whether it's your PA, or whether you're a professional. As a professional who's playing position, then and my job is to beat the Russell 1000 value, and our team's job is to beat the Russell 1000 value. To do that in a way that I can articulate ex ante head of the fact, this is how we're going to do it. So, it's definable, and then it's repeatable.
The repeatability of investment process is really important. That means, the team needs to overcome a lot of aspects. Part of the repeatability relies on having a team-based approach, but the aspect behind group psychology is very important. A few examples. We go through and we review each name in the portfolio or an idea for the portfolio each day. In large cap, in small cap, we do similar review. That starts with 1 PM being assigned to present that name. That person puts together a deck which goes through all the fundamentals, goes through everything on the name, the valuation, everything. It's like going into a doctor's visit. If you're going into your doctor and you say, “Hey, I've got a broken finger,” then the doctor doesn't just say, “Okay, I’ll put a splint on that.” The doctor, well, in the US checks your insurance first.
Bill: [laughs] It’s a good addition. That is exactly what happens.
Rick: But the doctor takes your height, your weight, asks you about your general health, and might even run a blood test, and finds out that you're hypoglycemic. Maybe the reason your fingers broken is, because you've got diabetes, you're not realizing what you're touching or not. So, right, so that other pieces that go in, you don't just want to put a splint on it. Similarly, when you review a name, every time you wake up, and you own a name in a portfolio, it is devoid of transaction costs. It is akin to buying that again. So, we never just want to have an inertial bias there of I own this yesterday, therefore, I should on it today. Every time we go through a name, which we do, then about every month and a half, we're going through a name and we're revisiting, why do we own it? What's the investment thesis here? It's not sufficient that a stock appears undervalued, why does it appear undervalued? What's a cognitive error, the behavioral error, the rest of the market is making around this name. Usually, there's some bugaboo that's out there that people are overly concerned about the name. That's something that's been mispriced, that's given us an opportunity, and then from that, let's go through each piece. The fundamentals there, what happened over this time, and determine whether that is that still exist.
Now, each of us has to go through and do our own work, and then, we have literally in the fair value model, which also does knowledge management and a bunch of other stuff like workflow management, we put in a piece where you have to go and enter your vote. Now, it’s password protected. If we ever have you down in Atlanta, I'll take you in, I'll show you this, and you can go in, you can log, you can review the stock, you can put your own vote in, and now, we go, we all come together, and we've got a war room which just form follows function. It's three big projectors. It's got Bloomberg and Baseline, used to be FactSet, and all that kind of stuff, and they're every resource in the firm.
The idea is now, let's say one of our PMs presents Wells Fargo to you, and starts going through and giving you a description, but you think you've identified something that PM’s report doesn't. Well, then you'd bring that up, or maybe you just your analysis disagrees. So, it becomes a coproduction model with all of this just bashing heads against one another. This idea, two things that in McKinsey had that I really liked his culture, and that I think we've brought into this room as well, is that it's an intellectual meritocracy. It doesn't matter who says it. And number two, you have an obligation to dissent. If you see something you don't agree with, then you have an obligation to. Now, one forcing mechanism for that is, you're going to have a vote. Your votes will be logged, password protected, and you can't change it. We all sit down, if you have a different opinion than the CIO, well, then you need to explain why that's different. So, what's the data you rely on? What's your analysis and ultimately? What's your synthesis for it? Relax judgment a little bit, so we want this-- You want it databased, analytics based. Bring that in, and then the team will work on the synthesis.
I think that's an important aspect. When you talk about the value of the show, the big value of the show has been able to broaden your network to different kinds of investors, and then bring those different perspectives together. I'm sure you synthesized a lot just over the course of your first season here. That's the same kind of thing we're trying to do with every single name, but what's important for us is that everybody does that under the rubric of the same investment philosophy using the same investment process. Those are the rules of the game. I think what that allows us to do is to play that position very well in kind of our box. If we're supposed to beat the Russell 1000 value, then let's do that by buying the names that are mispriced versus their intrinsic value that are building value over time and been able to do that consistently.
An important aspect that I've mentioned to you, and it's worth touching on is that these investment processes have to be highly disciplined. The reason they have to be highly disciplined is because sometimes they work, and sometimes they don't. Anything that works all the time is arbed out of the market. People have identified that. You have Simmons. He's gone through, and he's got a bunch of former physicists who have already figured out everything that always works. He's not telling you what that is. The rest of us have to go through and identify those things that work over time, but not all the time. Now, as an individual investor or as a member of a team investing, it's important that we have the strong conviction in the investment process so that we can avoid the, what I call, the fix it, and so as a consultant, you have in a manufacturing process, you're making cars, and you start making cars, and they come out the other side, and there's a bad result in the cars. You stop the production line, you go back and you fix whatever wasn't going. You start it back up, and sure enough, the problems fixed and you're making cars that are not defective.
That doesn't happen in investments. If you try to go through and fix your process, when it doesn't work, then you are going to break it. Now, that assumes you're executing the process right, and you’ve identified an investment philosophy that is timeless and actually captures a market anomaly. Over our time, I think we've done that, and we've proven it works. Now, the question is, when you run into a thing, an opportunity, like the global financial crisis or the COVID lockdown, how do you execute that time? For to come in, and as a value investor in particular, you should be ecstatic when March of 2020 rolls around. I don't mean for the human cost, but as an investor-
Bill: As a market participant.
Rick: -as a market participant, the babies have been thrown out with the bathwater. You should be out there. We went out and we normally run about 30% to 35% turnover in a year. Our annualized turnover in that first half of the year was about 60%. We sold a lot of names. Now, I will tell you, that market selloff hit us and hurt us hard. A lot of our names got sold off, we had a lot of names that were exposed to the economy, and those were the things that were sold off immediately. Then, a lot of the things that were very dramatic, like the SaaS names that outperformed, held on, because people said well, this [unintelligible [01:13:46] go, we don't own. So, that was harmful. But the trades that we made led us to pretty strong performance, and I’m very proud of how our team functioned through that. Because there's everything going on. You're scared for your own wellbeing. We didn't do Zoom, but we picked up Slack, and Slack actually has worked so well for us, because now instead of having three screens up, everyone has their screen up, and so, if I disagree with you, say, “Hey, let me grab the screen, I'm going to show you the one I'm looking at.” That pieces become even quicker than it was when we're all sitting in person. We're trying to figure out as we come back to a hybrid model, how we bring that same quickness of sharing, analysis, and thoughts, and doing that stuff on the fly, once we're sitting in a room together.
Bill: As somebody who's been in Florida, I think that the people coming back together is going to be much faster than other people that I see project, but maybe that's because I live in a crazy place. But the restaurants have been wide open, and people are hugging, it feels very, very back to normal. It's an older community. So, a lot of people have been vaccinated. I guess whether or not people want to come into the office is a different question, but I think that there's a camaraderie at the office that cannot be replicated on video. It's just not possible. There's some spontaneous conversation that you’re missing. I don't know which one it is, but I know that they're not existing.
Rick: Yeah, I agree with you. I think that a lot of creative problem solving happens asynchronously. Again, form follows function, literally, all the PM’s desks are built around our war room. What I'm used to hearing is just the banter. People talk and so, you're sitting in your office, you've got to keep our doors open, and you've got an ear out, and suddenly something piques your interest and you come out, and then there's impromptu conversation about a name, or a piece of news, or something. At this point, we still do that. We spend a lot of time meeting with each other, and so there's time for banter, but it's hard to say, okay, that'd be spontaneous. [laughs] Yeah, we schedule upon spontaneity.
Bill: Yeah, [chuckles] that's not exactly how it works by definition. Something that people probably don't know about you is, you have a hobby studying scientific magazines and neuroscience. Do you think that that has helped you build the investment team in the way that it's been built or contribute to how it's been built? I don't mean to imply that you're the one that built everything in the firm, but you strike me as somebody that's very cognizant of biases that people have and how to try to remove them.
Rick: It's a everyone in our team is highly committed to this removing behavioral biases. The focus on investment process is something that frankly, I learned from John Campbell, our CIO. He's really got that, and I think together and really as just a team evolution, we've done a really good job of building team that embraces that. Big piece of that realization is that Wall Street's failed with a lot of smart people, and when you've had a lot of smart people, then you generally think you can outthink the market. There's that belief like, “Oh, if I can just go and do this.” We did a lot of recruiting to just find-- You can find smart people just by throwing a rock, but can you bring someone in who's smart enough to do what we need, so they need to be a genius person, but we need them to have the humility to come in and say, “I'm not going to fix it. I'm not going to change what you're doing.” We can evolve it, but we're not going to change it. So, come in, play your position. I think that focus on process, and I think a big piece of John's leadership around getting everyone to buy into that, literally as came in the first piece he did was, coin our investment philosophy and say, “Hey, this is how this actually works, and this is how it works in practice.” That was really what I would think of as being the first step of exculpating David from the marble. He came and said, “Look, here's what we're not going to do, to cut this part out, cut this part off.” That's something you come in and say, “Okay, first thing, we're going to be doing fundamental analysis, but we're not going out-research the market.” I think that part, it doesn't tie directly into neuroscience, but it really ties highly into behavioral psychology, which is something I've enjoyed a great deal of-- If you've read comments thinking fast or slow, and that whole set of work by Turski and Kahneman are just phenomenal. This idea that there are all things that happened within people that you need to be able to relax in order to address has just been phenomenal.
Bill: It sounds like a very cool place to work. I've enjoyed the background. I'll tell you what, if you guys do due diligence half as well as you prepared for this podcast, I can vouch for you.
Rick: [laughs] I think we probably overprepare for everything.
Bill: No, that's a good thing. You know what? I would say that you and Arnold Van Den Berg have been the two that have done the most prep work thus far, and I've enjoyed it very much. I think it's going to be a very integral part going forward once Season 2 starts up. Because some of the ease of the beginning episodes where I knew a lot of those guys, and now, it's like coming into meeting people like you, it's been awesome in that way, but it does require a lot more work upfront, because I want these episodes to be good. I want people like you to listen to them and be like, “These are awesome.” So, it requires work.
Rick: They are fantastic. What you've identified, I hope you keep doing what you're doing with this in Season 2, is I think you've done a very nice job of blending that individual investor with the professional investor. There's a brackish water you're swimming in that I think is unique for you, because it's not just getting the professional investors to come in, it's not just getting stock jocks who are on Reddit to come in, and it's not just the Motley Fool to come in. You've gotten this nice brackish water, and I think the dialogue that necessarily follows if people prepare allow for your own brand of thinking about the market, and that conversation continue to evolve with each new voice that you're able to bring in. So, I look forward to your future podcasts. They are fantastic.
Bill: Thank you. Well, thank you for participating, and it's thus far. The reason that I think that it's fun to do it that way is, I have noticed that Twitter is a place where a lot of people clash, and I think a lot of the reason is you have long, short hedge fund managers, and you have long-only people, and you've got retail, and the way that they look at the world is different, and I think that there's a competitive element to the market in general, where people want to prove that they're right. What I've noticed is almost all of them are saying at least one thing that's worth learning from. So, I've tried to pick people that I think can expand the aggregate mind, and people will miss eventually. Not every episode is going to be great, I'm going to have dumb ideas too. But I don't have a lot of long duration assets in my portfolio, but I have a couple, and I do worry that it's a product of what I've lived through over the last 10 years, but I'm confident that 85% of my portfolio, I'd buy again today, even if I was just from first principles, but I have gotten a little bit more growthy in certain names. I almost view it as a hedge from an interest rate perspective, if that makes any sense. It may not.
Rick: I think being able to hedge yourself is worthwhile. If I didn't have all my retirement assets in our strategy, I would certainly be looking for a hedge, I just can't. [laughs]
Bill: You had mentioned that there was-- I guess, value investors like traditional value people were looking at Intel a little bit more, and y'all went with Taiwan Semi or maybe it wasn't mutually exclusive, but picking Taiwan Semi back in 2016 is a very prescient pick. So, just walking through how you came to that.
Rick: We'd actually owned Intel ahead of that, and Intel at the time, I think had about 97% of profits being derived from data center. So, a very high level of concentration within. You’ll recall, there was a big battle with them in AMD. AMD had finally gone to the fabless model. This was before Nvidia, and people were really thinking about GPUs so much for the server. I think when you look at the value proposition of Intel, you had to tie it on two things. One is, what was the value of their intellectual property around CISC, the complex instruction set computing that they do kind of that “x86” typography. Then, on the other side of it is, what about the lithography? Actually, the science in making chips. At the time, I think they were 45 nanometer, go into 32 nanometer. Nanometer, kind of the width of the line you're trying to etch, and--
Bill: Yeah, it's amazing where we are today. [chuckles]
Rick: Now, we're getting confused about whether it's eight or six, and there's four, because people aren't all measuring the same way, and it's come up with the tri-gate stuff as now we look at multiple layers and this is all being rendered in 3D. But at the time, TSM was basically two iterations behind Intel. When you watch that, and it's almost back in 2012, 2013, 2014, and so when Intel went to 45, Taiwan Semi was just getting round, even getting their production facility set. Then, the step down to the next node was, that was about the time that TSM was getting there. There was an inherent computing advantage in terms of speed, and loss, and basically energy efficiency that if you just use the CISC architecture you had, and so you gave back immediately some of the advantages that RISC architectures like what Arm Holdings does, and then later what you saw in Nvidia, you've seen the GPUs go with smaller cores and in multiparallel processing.
Those aspects, what we saw was Taiwan Semi basically put together two teams that just went straight at, okay, we're going to 32, and then, I think for them, it was 25. I don't remember exactly. I'm sure the comments will correct me on this. But they basically skipped two nodes. At the time, Intel basically had what they were calling Tick-Tock, I think [unintelligible [01:23:22] at the time. Tick-Tock was, look, we're going to come up with a new node, and then the talk was we're going to bring all the architecture onto it. We come up with the nodes, we're going to manufacture it 28 nanometer, and now, we're going to bring all these different pieces on the next year, while we figured out how to do the next node. That worked brilliantly. But Taiwan Semi, in the course of literally two years, was able to close that gap. We saw that, we said, “Wow.” Now, you've had a huge step forward that they've managed to do. Now, they are at par with lithography. Now, we're producing at par lithography. Then, at the time, what did you have as a competitive response from Intel? Number one, they started to lose it on lithography, and that's where they’ve now fallen a node behind. They went to try Gate so they stepped up and they started doing you get faster gate switches with less powers, you increase the north-south build instead of just putting these in a single layer. They did have some advances there.
But the problem is Taiwan Semi has basically the world that they make for. 20 years ago, it was Taiwan Semi and it was UMC, and it was GlobalFoundries, but it's only been one winner, and that's been TSM. This is one of those places where it becomes basically the big are going to get bigger. That's because back I remember 2001, I believe, IBM was making their chips, which they still do, and they were building a new fab in Fishkill, New York, and I believe they paid about a billion and a half to build that. Then, whenever we're about 32 nanometer, a new fab cost about four and a half billion. A new fab today is north of $10 billion. 10$, $11 billion. So, you can't just justify it.
Bill: Yeah, the capital requirements just get out of control.
Rick: Right. The capital requirement is out of control, TSM is there. But now, TSM has matched and then ultimately passed Intel on that trajectory for lithography. But now, what had happened to the other piece of the value proposition, the core competency of Intel is around the CISC architecture. So, yes, it’s a very good, absolutely, but is it the best? Not for every application. Then, what happens? Someone else comes in with the next thing. I don't know how to tell you who the next thing is going to be, and certainly, I wasn't calling for bitcoin to, “Hey, say that graphic processors were going to be the ultimate piece, because of the multistreaming with massive scale and parallel processing.” But who's going to make it with whoever does come up with that idea. That's TSM. Looking at TSM, they just had the market that if you needed to do high-performing circuits, it's going to be them, and that's what's played out. They continue to hold that spot, and so, it continues to be a position in the portfolio.
Bill: How did that overlay with your model that looks at historical returns on capital? That is a very insightful qualitative conclusion that leads to a growth year outcome than maybe something that looks more at historical mean reversion type stuff.
Rick: That's the value of having a model that goes back that many years. If I look back at our price in 2014, 2013, we had a price at 17, and we had a value of 31 on a normalized basis. That has persisted now. Throughout that, if I look at that in 2014, by the time I'm at 2016, the value built to 35, and if I carry it forward to 2018, I'm looking at value of 63. This is company that's building value as fundamentals are coming through, and that's my point, is that by just looking at the normalization of what the company's done, it was still being mispriced by the market. I've got all the value of that fundamental analysis that I just explained to you that we were doing in understanding why the company was going to improve its fundamentals. My normalized value that I'm basing the purchase on, or the team’s basing the purchase on, is actually using a very, very conservative estimate of that normalized value.
In fact, we know the company is actually building value over time. Sometimes, on your show and others, you hear about this concept of value compounders, of compounders, right? Sometimes, we will come at compounders almost as hyper growth, but compounders can happen in other businesses too. Someone like a Taiwan Semi that doesn't have to be hypergrowth. Even something like a FedEx without a few missteps is a good value compounder over time. FedEx is one also have to declare that we own in the portfolio.
Bill: FedEx, I was interested in, I think it was 2019. They were going through that merger problem, and then they had all those problems over in Europe, the integration. The one thing I couldn't fully get through over is the amount of capex that business requires, but it's a hell of a business, and Fred Smith is a beast.
Rick: He's a beast, and what is he? 72 now, I think. I always loved to see the founder CEOs that are there, because they do have a special commitment to their business. There's a good chance, I don't know, but I'm totally speculating that Fred Smith might have ridden out into the sunset in 2018, or wish that he had, because yeah, then they have the poor acquisition of a TMT.
Bill: Yo, they got the cyberattack, totally messed them up. That was a big deal for them. Are you guys interested in the ultra-low-cost air carriers at all like Ryanair and stuff like that? It's a really good business model actually. It's weird, but it's good.
Rick: It's a super business model. You just saw the report last week. The CEO came out at Ryanair and said that he thought they would be at 90% of 2019 levels by September, so that snapback, because ultra-low cost is so much consumer, and is a European-dominated firm. Short answer your question is no-- It's not screening for us. No, we're not taking a look at it.
Bill: I don't know if I'd put it in the top 30, but as a business case study, it's super interesting,
Rick: Super interesting.
Bill: He's a fun guy to listen to. [laughs]
Rick: I used to live in Dallas. In Dallas, of course there's Love Field. Love Field is, L-U-V, the ticker for Southwest is that was where Southwest got their start with Herb Kelleher, basically, drawing on a napkin. “Hey, let's just fly to the contiguous states around Texas,” because when Dallas built Dallas-Fort Worth, they basically put in. I forgot what it was, but basically mandate you couldn't fly beyond a contiguous state from Love Field, because they wanted everyone to keep all their wide operations and move into Dallas-Fort Worth.
Bill: Yeah, because American paid somebody to do that.
Rick: Yeah.
Bill: Probably.
Rick: Well, maybe they wish they hadn't, because it was Kelleher idea. “Hey, we'll turn this into greyhound buses, and just fly from two contiguous states.” But no one said we couldn't fly from contiguous state to another state. Yeah, so, we look at that insight, it was just phenomenal, and then of course, Ryanair is taking it a step further, you might say that’s safe here.
Bill: Allegiant, too. They came back quick. They filled up their loads by, I don't know maybe May or June. It was crazy. Not at 100 percent, but I remember reading-- That and the cruises saying that the older customers were just opting to book next year. That was shocking to me, because I was thinking like, “Okay, well, the older people would be the least likely to go on a cruise after a pandemic that takes out older people.” I was very mistaken. Cruisers love cruising. That was my takeaway from all that.
Rick: Now, you're right. Everyone I met on the ship were huge repeatability of traffic, and they do just love it. Honestly, it seems, the names, both RCL and CCL do a really good job of, and I own a little bit to CCL personally. But do a really good job of that stickiness to bring people back. I have no doubt, and you saw the first kind of birds go, and they were just-- All they wanted was just pay me something, so, you get on the boat, and I'll monetize you while you're on the boat, but I'm not even worried about, because I just want you back, because it's not the nth time. It's nth+1 time that I'm going to bring forward. It's genius. I feel those are probably going to be really good recovery businesses.
Bill: Yeah, it's a recurring business that people don't think of as one, but it actually is. Now, you can't model it as one, but the customers love it. So, well, Rick, we're coming up on time, man, and I just want to say thank you very much, and again, where can people find you, how do you want to leave your contact, or just go to the website?
Rick: Sure. The easiest way to reach out to us is through LinkedIn, or through the Cornerstone website at www.cornerstone-ip.com. For those who use LinkedIn, I'm on it. I'm on Twitter as well, but I tend to be more of a lurker than I am a publisher.
Bill: We understand that. That's many people out there. So, thanks again, and have fun. It's been fun getting to know you, and I look forward to continuing our conversations.
Rick: All right. I really appreciate it, Bill. You're fantastic.
