When Michelangelo was asked how he created the statue of David, he reportedly said: “I started with a block of marble and removed everything that wasn't David.” In a similar way, I arrived at my criteria for investing: by removing what does not work for me.
Temporary Demand
A customer’s need for certain products is as frequent and regular as a heartbeat. Rain or shine, recession or expansion, the world relies on Microsoft's tools for everyday business.
On the other hand, NVR builds houses that are necessary, but purchases can be postponed due to affordability concerns. This delay creates pent-up demand that NVR will capture in the coming years. Life events inevitably lead buyers to adjust their appetites and purchase more affordable homes. The demand is not lost; it is merely deferred.
Conversely, when financial instability forces a British tourist to skip a summer holiday, there is little chance they will take two holidays the following year to make up for it. When John Smith stays home, Ryanair and Airbnb lose out on the revenue but get the chance the following season.
My investment in Peloton in 2021 brought something besides a loss (and office décor on my Wall of Mistakes) - a lesson on sudden surges in demand. Revenues grow, margins expand, and profits soar. The flood of new customers is followed by a jump in the stock price, inviting competitors old and new to test the width of the company’s moat. Meanwhile, management is losing focus when they need it the most. They can't fend off the media and the bankers championing senseless acquisitions.
Whether it’s the lumber shortage of 2021 or the frenzy for AI infrastructure in 2025, scarcity tends to end in abundance.
I spend most of my time determining whether the demand for products and services our companies offer is inevitable. Inevitability has a place in our portfolio.
Spreadsheet Investing
At the start of my career, I invested based on expected returns derived from an Excel spreadsheet. I measured the measurable and largely ignored the rest. An undervalued business with three unrelated segments? I’d take it. A Mongolian mine valued at less than the raw materials within it? Sure.
My aspirations for exceptional returns remain unchanged, but today, I won't invest without an intimate knowledge of the product and the management's pedigree, no matter the expected return number in cell A64.
Who Needs Debt?
John Malone, a pioneer of cable television, is a financial engineering genius. Timely use of debt, acquisitions, spin-offs, and tax optimization helped him become a billionaire. Today, he controls radio stations, TV channels, cable operators, Live Nation, and F1. Some of these companies are reeling under the weight of debt, while others are thriving.
John Malone always knew that Netflix was valuable. He knew it before House of Cards, he knew it before Squid Game was a global phenomenon, he knew it when the company was worth only $5 billion. He knew all this because John Malone is the greatest media investor who has ever lived.
In late 2011, he offered $8 per share to acquire Netflix. He came close, but negotiations stalled over the price. The premium he offered was modest. Did the lessons from past successes, the optimizations that made him rich, prevent him from seeing the forest for the trees? Ten percent more would have probably sealed the deal. He could have paid ten timesmore—$80 per share—and to this day, he would have achieved a return three times greater than the S&P 500, miles ahead of the returns from the declining businesses he kept.
Malone's experience is a cautionary tale about the power of anchoring on today’s stock price. The story holds another, more valuable lesson.
I once saw financial engineering as a sign of management's care for shareholder returns. Over time, I realized it's often a signal that a company must be squeezed to produce juice. Have any of the companies from the Mount Olympus of value creation ever used a significant amount of debt? Costco, Amazon, Microsoft... The list goes on. They are too focused on the customer to worry about optimization. A satisfied customer makes for satisfied shareholders, leaving Modigliani and Miller in wonder.
Don't Just Sit There, Do Something
For every hundred discussions about buying, there is one about a far less glamorous choice: not selling. And while we need buying to earn returns, I am increasingly aware of the importance of resisting. Resisting the urge to do something. Resisting optimization. Resisting selling today in anticipation of a better buying opportunity tomorrow.
Thousands of funds were shareholders in the companies from the Mount Olympus of value creation. I don't know one that has let those investments bloom. Like gardeners lost in translation, they were cutting down oaks convinced they were bonsai. Decisions to do nothing leave no trace on a brokerage statement but make all the difference. When it seems like we are doing nothing, there’s a good chance we are doing the right thing.