a deep value conversation with guy spier - … deep value conversation with guy... · introduction...

A DEEP VALUE CONVERSATION WITH GUY SPIER WWW.NETNETHUNTER.COM �1

http://www.netnethunter.com

Introduction by Evan Bleker of Net Net Hunter

If the name Guy Spier seems familiar, it may be because of his growing reputation among the value investing community. Spier is famous for paying $650 000USD, along with Monish Pabrai, to have lunch with Warren Buffett. His 2014 book, "The Education of a Value Investor," has also made the rounds and is becoming a very popular book. It's currently rated a 4.5 star read by 295 people on Amazon.

Spier was born in South Africa and educated at the City of London's Freeman School, later receiving his MBA from Harvard. He started out as a professional money manager in 1997 with $15 Million mostly from family and friends. Since then he's managed to wrack up outstanding returns versus the S&P 500. In 2011, his gains totalled 221.6% versus the S&P 500's 36.7%. That's an impressive record especially when most managers fail to beat the market over even a moderate period of time.

Guy Spier's investment vehicle is his Aquamarine Capital, an investment partnership inspired by Warren Buffett's early partnership. Aquamarine is fairly restrictive with regards to who it manages money for, and fund information is only distributed by request.

Citing Buffett, Munger, and Pabrai as major investment influences, you'd be forgiven for thinking that Guy Spier sticks to Warren Buffett's moat-type businesses. While Spier was once a card-carrying Buffetteer, his true preference is for classic Graham deep value investments.


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What attracted you to value investing?

Guy Spier: I was about 28 years old when I came across The Intelligent Investor and then pretty quickly after that, having read the introduction to the book by Warren Buffett, I read the Roger Lowenstein biography, Warren Buffett: The Making of an American Capitalist. Afterwards, I ordered all the Berkshire Hathaway annual reports. There was no, or little, email at the time, so I remember calling up the company and ordering the report, which came in the mail two or three days later. From there, I started ordering the annual reports of the companies that Berkshire Hathaway had investments in: Geico, Coca-Cola, Cap-Cities, and ABC. What attracted me was that I was an investment banker at the time, raising money for start-up companies and, in order to be successful, I had to be extremely aggressive about projections and in explaining what I believed those companies delivered. In this role, I was being put into situations where in order to do my job, I was being forced to mis-represent the truth and overstate what actually happened.

What came as so obvious about value investing is it allowed you to be a mild, quiet, conservative person, which was much more in tune with who I was. It was a real revelation for me. I remember sitting in my office at 44 Wall Street and feeling like I wanted to be doing what Warren Buffett and Charlie Munger were doing, not what I was doing at the time. This was within three months of reading The Intelligent Investor, and I was already planning on leaving my job.

So I started interviewing with value investment firms like Tweedy Browne and finding ways to meet people like Carley Cunniff of Ruanne Cunniff and Tom Russo, and I was just figuring out a way to get into that world. Today, value investing and the Buffett phenomenon are better understood and widely accepted, but at the time, I was extremely impressed by how successful Warren Buffett was, and how different an animal he was to most corporate and financial titans, such as corporate raiders, for example, who were normally the ones I read about having success in the investment world.

Why did you decide to start your own fund?



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Spier: I was actually looking for a job as an analyst, and I thought that was the role for me, but strange things happen in the world. In my case, my dad came up to me and said, look, I have been running this business, Aquamarine Chemicals, and now is about the time you should start thinking about starting your own business. Don’t make the mistake I did by working for someone else for the next forty years. I will start you off with some funds, and you’ll start learning the investment business.

So I started learning about investments. Once I started investing his money, he brought a couple of his partners to me as well. While reading about the fund world, I figured out this was a great way to manage one account rather than multiple accounts. In turn, I left my job at the investment bank in 1995 and, a year and a half later, I had launched Aquamarine Fund. I launched it with no real investing experience, and by that I mean I had bought three or four stocks before I started the investment business and had not worked for anyone else in the investment business.

How would you describe your investment philosophy? Is it “cigar butts,” GARP stocks or something else?

Spier: Pretty soon after I started I fell in love with this whole GARP idea. I spent a lot of time around Ruane Cunniff by researching their ideas and attending their annual meetings, where I had the chance to listen to and meet some of their brilliant investors and analysts, including Bob Goldfarb, Greg Alexander, Jonathan Brandt, and Girish Bhakoo. I learned about why Warren had moved into the business of buying, and paying up for better businesses.



Something I learned during the financial crisis was that when you pay up for a better business, you can suffer greatly when the price people are willing to pay for that business goes down dramatically, as it did in 2008. Many “better” businesses fell in price more rapidly than other businesses because, as the crisis came about, many investors were not willing to pay up for growth or quality. However, while I lost more money owning those businesses than I would have if I had owned the right cigar butts, I have gained an important insight, which explains why I was in some of those GARP stocks, and it is this:

If you talk about your stocks, it will affect how you think about them as well as the portfolio decisions you make. At the time, I did not believe it would skew my decision making. But if I go back over the life of Aquamarine Fund and examine my letters to investors, I can see clearly how this created a bias for better businesses, simply because it was more fun to talk about them. (Or perhaps a better way to put this is that I developed a bias for businesses that are fun to talk about.)

Owning things that Mike Burry says have an “ick” factor or cigar butt investment ideas that have a lot of hair on them is not something your investors want to hear about unless you have a very sophisticated group of investors. In my case, many of my investors had never owned stocks before so they were not going to feel too comfortable about me owning companies with a high “ick” factor. So I was immediately biased toward buying better businesses at a reasonable price. With most audiences, it is much easier, for example, to talk about Heineken and their phenomenal sales growth in Russia and other BRIC countries, or about Nestle and their Nespresso brand, than to talk about businesses that are either “hated, or unloved,” as Whitney Tilson would put it.

One of the things I have learned as a result of the recent financial crisis is not so much that you want to own cigar butts, but that you want to own something that makes the situation unusual and gives you an unusual risk/reward. That is not necessarily a cigar butt,


“Owning things that Mike Burry says have an “ick” factor or cigar butt investment ideas that have a lot of hair on them is not

something your investors want to hear about unless you have a very sophisticated group of investors.” - Guy Spier


but you have to identify what it is that will result in a return of 3x in two years. I am trying very hard to own things that will give me a return of 3x in two years rather than settle for something that will appreciate at a few percentage points better than the market.

Thus, you could say that my approach to investing, in contrast to Buffett, has gone in the reverse direction. My approach today has become more similar to the way Warren Buffett invested when he got started. The important thing to realize is that if Buffett today was running a fund the size of Aquamarine, he would be investing differently than the way he does today. Buffett would be investing in what he has called at investor meetings “wrinkles.”

Do you favor any specific metrics, like price to book, return on equity or return on capital when evaluating equities?

Spier: When I started investing I used screening software to find companies with the metrics you mention — high ROE, low price to book, and high return on invested capital. I was looking for all of those types of things.

I think all of those metrics have a potential downfall, and I will give you an example: In general, you want to invest in high ROE businesses, and you can run various types of a screen to find high ROE businesses, but to the extent that in the vast majority of businesses, ROE is going to revert to the mean, you may have paid up for something that might not be there in five years. The ROE five years forward might be a lot lower than the ROE you are paying up for today.

Tom Russo has said, “flying an airplane requires you to focus on five or more instruments,” and you can’t favor the altimeter over the speed indicator, or the vertical speed indicator over the pitch indicator, for example. You have to look at all the instruments together and fly the plane integrated. Tom has used this plane analogy to discuss investments. There is no single metric you should look at but rather keep an eye on all of them. I do not favor any specific metric, but a better way to talk about what we’re looking for is not so much the metrics but something unusual and where we can understand why it is unusual.



What types of questions are on your investing check list? In short, how do you analyze equity?

Spier: There are many books written on analyzing equities. Ken Shubin Stein, for example, teaches a class on investing at Colombia Business School that lasts a whole semester. And believe me, if I were to take that class today, I would learn plenty, so I am not sure what useful knowledge I can impart in a short interview, but I will do my best by sharing a few things on checklists:

First off, credit for coming up with the idea of creating an investment checklist really goes to Mohnish Pabrai. He involved me in the process of thinking about it and, although I have spoken about it to groups of investors, he really had the insights and has subsequently done some phenomenal work on the subject. I believe and hope one day he will go public with it. To the extent that I contributed to it, I will be happy to share. I cannot share the entire checklist with you though: You can ask Mohnish if he will and, at some point, he may.

I can, however, talk a little bit about creating the checklist and provide some examples. The process of creating a checklist is very simple and works the same way the Federal Aviation Administration does it. You look for mistakes — yours, mine, Warren Buffett’s, Charlie Munger’s or anyone else’s, and look at the salient features of those mistakes — what was present that could have been seen at the time the investment was made. Add that to the checklist. For example, take leverage: There are times leverage can be very damaging to one’s net worth. It is a simple checklist item, but in my checklist there are five or six items related to leverage. So one question might be, what is the debt to EBITDA ratio? Another question might be, what are the debt covenants, and is there a possibility of default anytime soon? Another question would be, when is the debt coming due? The point of these questions is to force the mind to focus. Imagine coming across an idea that could be a 5x. It is easy to get excited about a 5x, but going through the checklist forces me to cover these items.

Another item on my checklist is the one talked about in Atul Gawande’s The Checklist Manifesto, which relates to whether the CEO is going through a divorce. I once had an


“I try to look at the world as borderless.” - Guy Spier

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investment in a company where this was the case. I realized that much of the CEO’s behavior in the corporation was driven by his divorce proceedings, and while it may have made sense from that perspective it was completely dysfunctional from an investor standpoint. Therefore, if I know that the person controlling the company is going through something like a divorce, it would be something to double-check and focus on. With investing, unlike flying, the results of the checklist do not have to be perfect, but they do have to be identified and then one has to have something to compensate for it, like a low price.

Do you only invest in certain countries, or do you invest wherever you see value?

Spier: I try to look at the world as borderless. If I am looking at an industry, I want to look at all the companies in that industry, whether they are based in North America, Europe, South America, or the Far East. I think there are huge advantages to looking at the world as one integrated whole, and I think increasingly most marketplaces are integrated as a whole. Further, even if the markets are local, the forms that exist in the different markets are becoming more and more alike. In traded markets, if you are looking at coal mines in Australia, it makes a lot of sense to look at coal miners in North America and in Canada. If you are looking at steel producers, look at them as one and review the similarities and differences. Even in the retail sector, if you are looking at Nike, you would be crazy not to look at Puma, Adidas, and even at a Japanese firm called Asics. If you are looking in the food industry and are looking at Nestle, you would be crazy not to look at Kraft. And even parking companies, which were initially local businesses, are becoming increasingly corporate, and organizing themselves in a similar fashion around the globe.

But while there are lots of good reasons to see the world as borderless, borders do, of course, exist. The institutional makeup of where a company is incorporated makes a big and often the determining difference. If there were a mining company based in Russia that had all the right characteristics for me, I still would likely not invest in it because the regime in Russia has made it abundantly clear that it views mining and the key commodities as its domain, where the rules that apply in other capitalist countries do not necessarily apply. The Russian regime appears to have no problem expropriating large and powerful corporations like Exxon, Chevron and others, so I would not stand a chance. However, I would be much



less likely to rule out something in Russia that is not considered by the ruling oligarchs to be a part of “the commanding heights.” For example, I would be willing to look at a retailing chain in Russia, or a food company, if only because I would likely learn something.

What the Russia example brings up is that, while I want to see the world as a whole, I want to invest in places where people are playing the same game as I am playing and where they want to and are willing to allow their investors to make money alongside them. The truth is that if an organization, whether that be the government or the controlling group, want to make sure that the passive minority investor does not make money, either management or existing rules and regulations can make it very simple for this to happen, so you have to be around people who are interested and willing to let you win as well.

Even more important than the system being protective of outside passive minority investors is that the people who control a corporation think in the following way: For instance, in the U.S., Buffett exemplifies the individual who wants to play the same game as his investors. He wants his investors to make lots of money, so he takes a small salary, keeps his expenses low and may end up paying a dividend quite soon. That is the type of person

you want to be around, and there are many other great examples in the U.S. But the opposite also exists in abundance in the U.S., and it is hard to make money around such people. It is increasingly true that one can find people of Buffett’s ethos all over the world. On a recent trip to Brazil, I was extremely impressed by the fair-minded

business ethic of the people I found there, and I am invested alongside two private equity funds — Patria Investments and GP Investments. In another interesting example, the Philippines, which is by reputation highly corrupt, is home to the Fred Uytengsu, one of the most ethical and straightforward managers of a publicly traded business you will find anywhere.

It is most certainly the case that you can find good, decent people all around the world, even in places with a reputation for corruption. And even though it may be harder to find


“It is most certainly the case that you can find good, decent people all around the world, even in places with a reputation for corruption.” - Guy Spier


them in difficult markets such as the Philippines, the reward, in terms of a lower valuation, is much greater.

Should value investors be looking at emerging markets?

Spier: I think they most certainly should be looking at emerging markets. Unfortunately, the time to have been looking would have been five or ten years ago. That’s when things were very cheap and no one was really looking at them. Now Hong Kong, Singapore, and Brazil are relatively well picked over and there is plenty of talent looking at them. But again, I think it is one world and you should look at the whole world.

Besides Think and Grow Rich, How To Win Friends and Influence People, and Awaken The Giant Within, what other books do you recommend?

Spier: Think and Grow Rich is a fantastic book. So is How To Win Friends and Influence People, which should be read regularly until the lessons have been absorbed. I still learn new things each time I re-read them. Regarding Awaken the Giant Within, I think Tony Robbins is a unique American phenomenon. He has a lot to teach and he has even coached presidents; many of the people he has coached do not want to make it public. I have learned a lot from having read his books and attended his seminars.

The Rational Optimist by Matt Ridley is a wonderful book. One of the issues investors have to deal with is that pessimism has a big payoff for journalists in terms of eyeballs and attention. And optimism pays a lot less. If you write an article with a catchy title that is pessimistic, it garners much more attention. At the end of the day, newspapers, journalists, and bloggers are interested in catching peoples’ attention. A negative article much more readily catches our attention. In his book, Matt says that despite all the pessimism, there is plenty to be optimistic about. The basic idea of the book is that we have been improving our standard of living as a species for thousands of years, and that the rate has accelerated dramatically in the past 500 years. Considering this, it is extremely likely that, despite all that is happening, we will all be living better 50 or 100 years from now. New businesses and new opportunities will be created, and for that timeframe, there is not so much we should really fear.



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Why did you move to Zurich? What are your thoughts on the crisis?

Spier: The mentality of the Swiss is in many ways similar to that of value investors. The buildings, trains, airports tend to be extremely well thought out and very well engineered. You see can the “margin of safety” concept applied in all sorts of areas in Switzerland. I also like Switzerland as a quiet place to live with my family. For me Zurich met the need for a good place in which to do business, with a good infrastructure. At the same time it is a small city where my children can walk to school and where we can enjoy the greenery. So it met the quality of life test for me.

In terms of the crisis, Switzerland has not been too affected. Switzerland has a 4% unemployment rate right now, which means it has a pretty tight labor market; neither has it had a housing crisis. The Swiss really embody what should have happened in the U.S. twenty years ago. The Swiss tend to live within their means. The savings ratio is high, the Swiss tend not to borrow a lot of money, they tend to keep high cash balances in the bank. So this place is extremely well set up to deal with bumps along the economic road.

Do you see distressed opportunities in European equities due to the European sovereign debt crisis?

Spier: Although I did some work on Greece during the sovereign debt crisis, one of the issues is that corporate tax rates could increase a lot, or some of the governments in these peripheral countries might find a way to tax profitable companies because they need tax revenue. And so you have to discount that into the corporations you look at. In Greece, there was a high potential government interference factor that made an investment a lot less attractive to me.

There are some things I am probably missing out on, but I brought a very substantial network of resources, friends and ideas over with me from the U.S. And I am not as familiar with the European sector as I will be in five years’ time, so some of that may be ignorance on my part.



What has been one of your biggest investing mistakes?

Spier: One of the things we know about financial institutions is that you do not want to be around them if they are projecting out what their earnings will be, as Fannie and Freddie did in the years leading up to the financial crisis. This is because in a financial institution, the minute the leadership starts projecting numbers, there will be powerful incentives within the firm to start cutting corners in order to make sure the company achieves the target.

From 2005-’08, I was very interested in growing and marketing myself and the fund. As a result, I felt forced to talk myself up and make predictions to investors, setting expectations as to what I thought I could do. In many ways I was making the same mistake for myself as the one I just described for financial institutions: Having expectations higher than I should have had, I found myself having to resist the pressure to try to meet them by pushing the envelope. This notwithstanding, in 2008, investor expectations were not met. This lead to withdrawals from Aquamarine Fund, which meant I had less money to invest in the juicy values I was seeing in the latter part of 2008 and early 2009.

I think it was a huge mistake, not so much for the specific buys that I had made, but in terms of not being diligent about constructing an environment that was conducive to making good investment decisions. I think if we can create an environment that is conducive to good decision-making, then that is more than half the battle. In my case, I was inadvertently doing the opposite; I was creating an environment that was inimical to making good investment decisions.

One of the hard things about creating an environment that is wrong is that you cannot deconstruct it at the flip of a switch. It takes time to de- and reconstruct. In fact, part of my decision to move to Zurich was that I wanted to reconstruct my environment in a solid fashion, and one of the easiest ways to do that is to start certain parts from scratch. You can get locked into all sorts of relationships — leases, business suppliers, customers etc. — and they all expect you to behave in a certain way, so if you say you want to behave differently, you need a lot of willpower to shift yourself over. So the best thing to do, of course, is to never put yourself in a situation where you have to shift. That has been one of my biggest investing and business mistakes.



Another reason why I had such a bad down year in 2008 was because I was concentrated in some GARP ideas that I thought were very good, and they all went down together. So as for concentration, I think there should be a limit. I have since instituted a concentration limit in my portfolio. I know of one investor who allocated all his money to one investment idea: Contango Oil and Gas. There is nothing wrong with Contago Oil and Gas as an investment idea if you run permanent capital the way Berkshire Hathaway does. However, in the case of someone who does not run permanent capital, there is always the possibility that there could be a “run on the bank,” which will tend to happen when you have a very big drawdown. The unfortunate truth is that, if you have a fund where people can redeem at will, then you can have a potential run on capital, and so diversification is a good thing. The combination of not being diversified and trying to set investor expectations put me into a situation where I was not able to respond with the best performance I should have achieved.

What do you remember most from your lunch with Warren Buffett?

Spier: It was Warren’s intellectual intensity and his enthusiasm for the lunch and for the people there. This is a guy who is older, wealthier, more experienced and smarter than I am, but in his eyes, this all counted for nothing. From the moment he was there, he brought his full self to the lunch and every time I or someone else spoke, he focused all of his attention on what they were saying. This was disconcerting at first but exhilarating once I got used to it: I felt like my words were being sucked out of me because he was so curious to hear what I had to say, and in many cases, I felt like he had understood my point or question before I had finished. As you can imagine, he responded quickly, warmly, intelligently, and with ideas that were original, thoughtful and fascinating,



such that I could savor each of his responses. Of course, we knew the time was limited so we moved rapidly on to different topics. Needless to say, I came from the lunch completely exhausted, while Warren seemed quite refreshed.

One of the many things I took away from the lunch was that I felt like Snow White who had drifted: I was not living up to the expectations I had for myself when I started down this path. Part of that was coming to an understanding of why I was in New York, and realizing that it was time to move to Zurich.

Honestly, was it worth the money?

Spier: Perhaps the best way to answer this question would be to have you call up Reverend Williams at the Glide Foundation, or you could ask to speak to some of the many thousands of people who benefit from Glide in San Francisco. Believe me, once your readers become aware of the Glide Foundation’s work, especially those who live in San Francisco, they will know that it was worth the money. I find it interesting that some of the very same people who would ask, “is it worth the money,” would not think twice to ask the question if I had made a charitable donation to a deserving organization that did not come with the added benefit of a lunch with Warren Buffett.

There is another way to answer this, which might make the “was it worth the money crowd” a little happier: If you are in a marketing organization, management will require you to justify your marketing expenditure, whether it is on a quarterly basis or annual basis. You may be lucky and only have to justify it on a five-year basis, but even then few organizations will allow you to invest money on a five-year basis without knowing what sort of return to expect after those five years. That means most marketing expenditures are focused on things that will get a short-term result. Long-term investments tend to get neglected. The chance to have lunch with Warren Buffett was an opportunity to make a long-term investment in myself, and I still have a lifetime to reap the rewards of that investment. It is one of those investments that are hard to measure. For example, how do I measure the fact that I came out of the lunch saying to myself, “here I am in New York and I am not who I want to be.” The lunch with Buffett got me thinking that now was the time to be living in a different place, a place that is more like Omaha and Buffett. That was a decision that was greatly influenced by the lunch with Buffett and likely tipped the scales from staying in New York to moving to



Zurich. On that front, if you look at the cost of living in Zurich vs. New York, the cost of the lunch repays itself within a few years.

It is hard to measure, but having the lunch with Warren made many people who did not want to meet me, want to meet me — because they were curious to meet the guy who had lunch with Warren Buffett. There are some absolutely phenomenal people in that group — some of the wealthiest as well as the most interesting people in Switzerland as well as some great journalists, and some just great people in all regards. So my network expanded and improved. But more than that, Warren Buffett has said that you should seek to spend time around people who are better than you, and you yourself will naturally improve. I

would argue that the lunch with Buffett has enabled me to attract a better quality of person into my network of friends, associates and acquaintances, and that this has improved my business sense and reflexes in a myriad of ways. So I think I am in a better place in terms of my behavior now than I would have been had I not met with Buffett. And although I think it is hard to put a price on it, the value of all of this to me easily exceeds the cost of the lunch.

Because of the ways in which my social network improved after the lunch with Buffett, I am now more

willing to invest in expanding and deepening my social network. For example, in a week, I will be giving a week-long course at the Harvard Business School with a group of phenomenal people, all owners of substantial businesses. I do not think I would have been as willing to invest in myself in that way, had I not seen the personal benefits of the lunch. So I would argue that the lunch with Buffett helped to accelerate and steepen my learning curve in a way that would have taken much longer had we not had lunch.


"Something I learned during the financial crisis was that when you pay up for a better business, you can suffer greatly when the price people are willing to pay for that business goes down dramatically, as it did in 2008. Many “better” businesses fell in price more rapidly than other businesses because, as the crisis came about, many investors were not willing to pay up for growth or quality. ...I lost more money owning those businesses than I would have if I had owned the right cigar butts…" - Guy Spier


Do you still keep in touch with Warren Buffett?

Spier: Warren has very high priorities on how he wants to spend his limited time. For example, he decided he would be willing to spend three hours in an auction for people willing to give money to Glide. He valued that time highly because he wanted to help Glide. So he spent an intense three hours with us. He was under no obligation to spend any time with us after that.

Mohnish and I got to know Warren’s assistant through the lunch, so the next time we were in Omaha we let her know we were in town and we had the chance to say hi to Warren as well. So we have a relationship, but it is not something where I can call him up and expect him to have a long conversation with me about whatever happens to be on my mind. Warren is very focused and his focus is not on having lots of new friends. The only person he really likes to talk about investments with is his partner Charlie Munger.

If I happen to meet a guy at dinner who is the owner of a substantial business who is looking to sell, and I ask him if he has considered Berkshire and he asks for an introduction, would I feel comfortable picking up the phone to Warren? Absolutely. Also, I think that it is quite likely that he would pick up the phone, or that he would be on the phone within milliseconds. But that is because I would be calling with something that is bang in the middle of what he is looking for. By the way, this is a key insight into how Warren Buffett works — which is to have a well-developed “web of deserved trust,” to use Charlie Munger’s term. If I only get in touch when the circumstances warrant it, I increase that trust. If I were to get in touch in ways that were a distraction to his priorities, you can be sure that the relationship would diminish rapidly.





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