So, posting lately has been challenging as I have a new little one. I keep reading how writing regularly is essential to improving. I write frequently for my profession, however, drafting documents and memoranda aren’t really the same as putting together interesting blog posts. In order to try and write more regularly and hopefully churn out some decent content on this site (and create a diary of my own thoughts), I am going to start writing “I’m just saying” posts on like a weekly basis. For this one, I thought I would quickly run down an investment and briefly state why I am long.
First, my philosophy on stock picking is that highly detailed and precise analysis really enhances the influence of some cognitive biases. I think this may not be as pronounced in a team setting, but when you are the one conducting the analysis and making the decision and you spend a lot of time conducting a potentially misleading analysis with false precision (based largely on the assumptions you enter into your model), you are likely to become more certain of your conclusion. This is likely to make one really strongly look for confirmation data to prove to yourself how smart you were (or at least justify your investment of time). Mohnish Pabrai, a hedge fund manager and author, whom I consider to be the “real deal,” did a presentation on this phenomenon which can be found on youtube here.
As Mr. Pabrai discusses, some of the great investors follow this practice. Warren Buffett doesn’t do discounted cash flow analysis. Carl Icahn only invests in “no brainers” that one can write up on a cocktail napkin. Nelson Peltz also usually has a very simple thesis. Now I understand that Buffett (and probably all of these gentlemen) does extensive industry and company research but his ultimate conclusion is usually based on a few simple factors.
For example, Peltz’s Mondelez thesis is basically, great industry, great brands, margins are much lower than they could be based on peer comparables. You could probably same the same about Buffett’s KHC combination (he also has some superb tax efficiencies and diversification based on the structure). I am tracking both by the way and am interested around the priced set by these greats for us, a few years back.
Well this post is getting a little long, but to just briefly at least touch the stated goal (hah). My COTY long position, is kind of similar to the above. COTY is in a great, great industry. Beauty and cosmetics has yielded some of the best long term returns on invested capital, gross margins, ROEs; all that stuff.
I don’t see any real industry headwinds. In fact, the social media age and increased video communications, VR, etc…will likely be a benefit over time. COTY has a fair amount of exposure to fragrance, which is not as great a bidness. But they just acquired the Covergirl and several other brands from Procter and Gamble (via a split-off and reverse morris trust which is definitely convoluted enough to create some shareholder neglect).
One of my checklist items is that I want someone in the board room who is not a hire manager agent. In this case we have JAB Holdings and the family behind Reckitt Benckiser (“RB”). Bart Becht, the Chairman is the former CEO of RB where he had a great track record. He served as the CEO job at COTY a little over a year ago and he came in and flexed the margin and earnings power of legacy coty for a few quarters before acquiring the P&G bidnesses. Read some of the earnings transcripts if interested, but the dude is focused on margins and returns and basically plans to run COTY like a durable CPG company.
The financials are all screwed up right now due to the various moving parts from the acquisition. Basically, you have to take management projections as being somewhat within reason to get comfortable with this one. I got long around a 10ish enterprise value to 2019 projected EBIT (~$16). Not a huge position for me but material for my discretionary portfolio. I will post some updates as this idea develops.
So basically, alignment of principal-agent, good bidness, and good management (Becht JAB/oversight of the operators) at a reasonable price. There is a believable reason for why it would be underpriced (god awful mess of financials and P&G split off which disincentivized the crap out of P&G shareholders to tender shares; classic Greenblatt set up), but you have to kind of rely on management to see through the fog of the financials and to execute. Also, one drawback is that most acquisitions turn out to be disappointing, but these guys are a little different than the normal CEO building his/her empire and legacy so they can justify fielding a fleet of private jets. So that’s COTY, in brief. Maybe next time I will talk about a new strategy I’m implementing in one of my accounts. It’s a magic formula derivative…
Thanks for reading!