Value Investing, Taught by Six Superinvestors

Arnold Van Den Berg : The world has changed, but people haven’t changed and the mind hasn’t changed. I believe today that if there’s a young guy that wants to start a business, if he’s willing to pay the price, if he’s willing to make the sacrifice, if he’s willing to do without some of the frills where people think are necessary, he is going to make it. You can’t help, but do good and not get paid. There’s no such thing in the universe. If you serve people and you do a good job and you love them and you take care of them like they are your family, there is no way you’re not going to make it. I don’t care who it is. Now you need a certain level of intelligence, but you don’t need to be very bright. As a matter of fact, I don’t consider myself very bright. I never did well in school, I never did well on intelligence tests. As a matter of fact and I shouldn’t probably be saying this on camera, but my mother took me to one of the best child psychologists after the war because I had a lot of problems and he felt that I was permanently damaged in the brain because of malnutrition. I almost died from malnutrition. I always had this image of myself that I wasn’t very smart and the way I did in school proved that I wasn’t, but once I realized that if you dedicate yourself and you commit yourself, you can learn anything. Now I will admit this – whatever I learn takes me three times as long as anybody else, but if I spend three times as much time as anybody else, then I’m equal. I can learn it, just give me more time, more books.

Arnold Van Den Berg: Oliver, I don’t think I can add much to what’s been written by Benjamin Graham, by Warren Buffet, by many of the great money managers. I think the best advice I can give any investor or any businessman or something is to figure out what it is you can practice with great conviction and faith and stick with that and perfect that for you, inside of you. It doesn’t come about by reading other people. Once you know the basic principles and just continually work on perfecting that technique. You could be a growth investor and have the faith that these companies do well. There’s many roads to heaven and you can find spiritual people in all religion, you can find great practitioners in every methodology of investing. I think the best advice I can give an investor who’s already developed his own technique is to keep on sharpening the saw. Keep on saying, “Okay, I made a mistake here. What was the mistake?”

Let me give you my favorite explanation of failure, which we all experience. “Do not despair because of failure. From your particular failure, there’s a special greatness, a peculiar wisdom to be gained and no teacher can lead you to that greatness, that wisdom more surely or swiftly than your experience of failure. In every mistake you make, in every fall you encounter, there is a lesson of vital import if you will but search it out and he who will stoop to discover the good in that, which appears to be disastrous, will rise superior to every event and will utilize his failures as winged steeds to bear him to a final and supreme success.” The advice would be to take whatever you have developed as a philosophy, to study the mistake that you make, which every investor makes, to search out what you could have done differently, to write it down in a book and then when you get together with your quiet moments, you get together and you say to yourself, “What could I have done different? How come I went wrong? Where did I go wrong?” Then to get in a quiet state and let that just develop in your mind. Eventually, as you get into the subconscious, it will give you guidance.

People talk about the small voice. Some people talk about it with regard to conscious. Like Abraham Lincoln said, “When I do good, I feel good. When I do bad, I feel bad. That’s my religion.” The best advice I can give an investor is to follow his own path and to develop it from within, not from without because as a value investor, you go through time of soul-searching. We’re going through it right now. We’ve made commitments to gold stocks. We bought them when they were way down, but they’re still lower and they most important thing in that decision is to say, “I really believe these are values, though everybody disagrees,” and all of these kinds of things. We bought them on a value and we believe they’re of value and eventually they will rise to the occasion. Sometimes you’re wrong, but as you gain that conviction, you learn to lean against the wind. I can’t think of anything more important from a value investor. At the time you get into things that are very unpopular and they’re not favorable, you have to have the conviction to stick with it. That comes out of doing your homework, writing down why you believe in it and moving on.

Rupal Bhansali: You talked about how do we take the emotion out of the investing which is spot on because that psychological component of this investment sport is very much almost like half the battle won. When we are doing research on a company, I told you the two things – don’t do research on companies that you intend to invest in. I know it sounds so counterintuitive. Do research on companies that you don’t intend to invest in, find out what you don’t like about it, find out what makes it a bad investment, why is it a failure?

That will teach you more than when you do look at an investment that you think looks attractive, the pattern of failure that you have picked up on, this is what when wrong this is what went wrong, and I’ll give you a perfect example. Sony [Tokyo: 6758] used to be the Apple of Japan. If you’ll just go back in time, Sony was the Apple of Japan. Remember the Walkman, the Discman? Now we have the iPod and the iPad but just about a decade ago that was the cool product to carry around.

Knowing that, being informed about what happened to Sony and how much it has fallen from grace will give you a flashpoint that could this happen to Apple? That alone takes the emotion out of the investment because when you’ve seen that failure of a Sony over this decade and you’ve seen that that can happen to something that was viewed to be a blue chip, it’ll force you to ask that question.

Imagine if you are looking at a person and you say, these are all the things that I like about this person, when you interview a person, then you also have to ask the question what do I don’t like about this person? And it’s when you make that calibrated you force yourself to ask that other question. It’s all about that the more you are informed about the investment, the good, the bad, and the ugly, the less the emotion there will be in it.

Guy Spier: I think where I started to get insight into the enormous power of the Wall Street selling machine, I talk about earlier in the book getting some attention from Wall Street and I would start getting these calls from these brokers and they know every trick in the book. They’re the best sales people you’ll ever get. The Kirby vacuum cleaner salesperson doesn’t have a shot on the kinds of people the Wall Street selling machine does, but it was relatively early on, I’d only been to two or three Berkshire Hathaway meetings and I remember saying to a salesperson that, “If you’re selling it, I don’t want to buy it.” He was kind of hurt and what is amazing is the minute you make the rule, all of that noise goes away. What we need to remember is in another application of Roy Baumeister’s idea, “The amount of willpower we need to resist a salesperson if we actually open ourselves up to every pitch of theirs is huge,” and simply shutting it down is an amazing relief.

There’s an amazing calm and quiet that takes over pretty quick when you just say, “Look, I’m not going to buy anything that Wall Street is selling me.” It takes a certain amount of initial courage to do it because you feel like you’re going to be left all alone. The reality is that once that calm tranquility settles in, a whole new and higher quality of ideas starts seeping in from other areas. I actually think that it’s a really important thing, John, that we need a cultural change that we need to try and instill in the various conferences that we either attend or are a part of. We know that people show up to the conferences to get ideas, not question about it and I’m not saying that we shouldn’t share ideas, but standing up and making a stock pitch is kind of a sale and usually the people presenting at the conference have some kind of ax to grind. It’s nowhere near as bad as the sell side salespeople and the analysts, but there’s still some kind of ax. If you have a corporate activist who pitches something trying to get people on their side, we have to be very wary of that and I think that the thoughtful and responsible organizers of conferences would try and steer those conferences away from them.

Part of that is if Wall Street is selling, just simply don’t buy it and we can draw that also from the simple statement of Warren Buffett that he doesn’t want to participate in any open [PH 0:22:21] outcry auctions. If Warren Buffett doesn’t want to participate in any open outcry auctions, we know, believe me, he’s smarter, he’s got so many edges. We would be nuts to walk into that minefield, but even when it comes to a friend of mine, somebody I know well and like and trust, who’s on the buy side, who doesn’t have any money to be made on selling me on something, there was still the psychic confidence or the psychic pleasure that a person gets, that many people gets in convincing their friend that the stock they just bought or they like is a good idea. I think even then we have to be wary. I try to manage that by changing the nature of the conversation. I try to steer away the conversation from, “I bought it, I didn’t buy it. I like it, I don’t like it,” to conversations about the quality of the business, conversations about sources about the business or why people did certain things, to try and take that emotive and call to action that the stock market always has away from the conversation.

Guy Spier: I can’t prove this, but my paunch tells me that the degree of commitment consistency you see is proportional to the number of people in front of whom you say it. Yeah, I think there’s a big difference between saying, “I believe,” two people and saying, “I believe,” to 100,000 people. That makes a difference. I think I’ve experienced people who don’t want to talk. I’d meet them at the Berkshire Hathaway meeting at the [inaudible 0:47:36] cocktail party and they’d just say, “Well, I don’t talk about my ideas.” I think that’s being, in a certain way, overly secretive for no good reason and I think to talk in an non-emotive way, to talk about businesses, to talk about people, to talk about whether they’re good capital allocators or not, to talk about whether moats are widening or narrowing are always interesting topics for those of us who are fundamental analysts. For somebody to come and say, “I’ve been looking at Verisign’s business and I think their moat’s getting broader for the following reasons and I think it’s a fascinating new monopoly that’s developing that is right under our very eyes,” and then to engage about why that’s the case and why that might not be the case, it’s a very different discussion than saying, “Hey, you should buy Verisign, I just bought it.”

A few of the rules that I have in talking privately to people is, first of all, don’t tell people what to do, so ‘you should buy Verisign, I’ve bought it’ is not a good way to talk about investments. I try to stay away from people who talk about investments in that way. On the other hands, somebody who says, “I think Verisign’s a really interesting business, it’s an interesting monopoly that’s developing,” is an open-ended question that is an interesting question to answer. I think that to develop a reputation for one’s self in which people feel like if what they talk to you about, I’d like to believe that when people talk to me about stock ideas they have the confidence that I’m not going to share them with anyone unless I have express permission to. It’s powerful and valuable. It means that more information flows to you. More insights flow to me, I would argue. Obviously, in purchasing and selling, I think that if you can develop a reputation that if you’ve sourced a great idea, I’m not going to act on it unless you let me allow me to act on it I think is an important thing. It’s part of having integrity.

What I would say, John, is that what’s hard about these things is that if you start doing it today, the benefits will only flow in a significant way after Year 5, so you have to spend five years just doing it because it’s the right thing to do and eventually you’ll have an incredible life. Again, maybe this is one of the pieces of wisdom that’s at the core of value investing is that value investing is all about deferring rewards until alter and the real question about who ends up being a successful investor or not is not about intelligence and it’s not about luck, it’s not about all sorts of things. It’s all about were you simply able to defer rewards because acting with less integrity of saying, “Look, John, I’m sorry. You told me about it, I had to buy it,” and John would probably forgive John Spier, but on some level he would be a little less likely to recommend me, a little less likely to tell me something in the future. To say, “No, I’m not going to do that because it’s the right way to be and I want to live a blessed life,” it’s just a little bit harder, but more rewarding if you can stay the course.

Guy Spier: I just realized now, John, that when we think about buying more of something that’s gone down, there’s two powerful factors that are taking place there. One is every time we buy more of something that goes down, there’s some commitment consistency buyers that’s playing in there, so we become more wedded to an idea that maybe we shouldn’t be more wedded, so reinforcing that we maybe don’t want to do. That plays into this whole idea about talking about stocks. If we go back, here’s a more general idea that is powerful not just in investing. If John asks me, “What do you think about the President of the United States,” and I say, “Well, I think that…” and I give a whole bunch of things, now I’m wedded to that idea and I’ve got commitment consistency. I’ve said that I think something and I’ve said it to John. Two weeks later, I see something that makes me want to change my mind, I’m going to have a harder time doing it because John can say, “But two weeks ago, you were saying…” and he can repeat back my words to me.

There’s a better way to talk about politics and many things that we don’t know the answer to. If John asked me, “What’s two plus two,” I’m happy to say, “Four.” In just about everything else, I can say, “Well, I’ve heard XYZ person say that they think that the President of the United States is XYZ and I think I tend to agree.” That says, “I don’t know and I want room to change my mind,” because changing your mind is good. Changing your mind means that you’re learning, means that you’re making progress. It means that you’re taking in new information, so we need to give ourselves the ability to change our minds, to stand up in front of an investment conference and say, “I think that this company is…” whatever it is that we’re going to say is not going to give us flexibility on that company and it’s just not a smart habit to develop.

Standing up and pitching ideas, even if you stand up and pitch ideas, the best way to do it is to not say, “I believe…” It’s to say, “Here’s what I’ve looked at in this business. Here’s what I like about it, here’s what tends to make me think…” to try and remove ourselves from cathecting to and associating with too closely the ideas that we hold. I think that unfortunately it actually ought to be an aspect of our liberal education to teach that. Absolutely critical that we have the capacity to change our minds. Our ability to change our minds is closely associated with how we choose to talk about things. I’m not saying that we should be diffident about our views, but there’s a difference between saying, “When I look around, there’s an overwhelming preponderance of evidence that tends to suggest that this is the conclusion,” is very different from saying, “It’s obvious,” for example. To say ‘it’s obvious’ is an emotive statement.

Howard Marks: When 30-year treasuries yield 3%. That kind of sets the bar for everything else. Everything else trades off of that, which means at not very high returns. That means we’re in a low return environment and one of the things I believe is that we must understand the environment we’re in. Understand the ramifications and accept it in the sense of accept the reality. One of the hardest things is to make high returns in a low return world. If you insist on doing so, you can get into trouble. If you say, “Well, treasuries used to be six and high yield bonds traded at 500 over, so I made 11 with ease on the average high yield bond and so even though treasuries are now three or two on the ten-year, I still want 11 and I’m going to get my 11,” then you end up making investments that may appear poised to pay 11, but because you now need 900 over, you may take greater risks than you used to take to get the same returns. Just insisting on making the same return that you used to make can be very dangerous.

Peter Bernstein once wrote me brilliantly, maybe he passed on a quote from Elroy Dimson who said that the market is not an accommodating machine. It will not give you high returns just because you need them and you have to realize that. If you say, “I used to get 11, I still need 11, so I’m going to take more risk,” you can do that, but the key is to recognize that you have to take more risk to do it and to make a conscious decision that you’re going to do it. Blindly accepting more risk to get the return you used to get, in a high return world can be a big mistake.

Howard Marks: I really think that the things in the book have been our models for the last 17 years since we started the company and longer, when we were working together before starting the company. It’s not an algorithm, it’s a mindset. I think that we always try to stress the dangers of overconfidence or hubris and I frankly forget it in the book, but its better if you kind of invest scared, if you worry about losing money, if you worry about being wrong, if you worry about being overconfident because these are the things you want to avoid. They should be foremost in your mind. The most dangerous thing is to think you’ve got it figured out or that you can’t make a mistake or that your estimates are right because they’re yours. You always have to recheck your information, bounce your ideas off yourself and others, but on the other hand, it’s really not a good business for people who don’t have some ego because you have to do the things Dave Swanson describes as lonely and uncomfortable.

I think it was Eveillard that said it’s warmer in the crowd, in the herd, but if you only hold popular positions, you can’t do better than average by definition. I think you’ll be very wrong at the extremes. You have to be strong enough in ego to hold difficult, unusual positions and stay with them. As I say in the book, you have to have a view which is different from the consensus and you have to be willing to stay with it and you have to be right. If you have a non-consensus position and you stay with it and you’re wrong, that’s how you lose the most money. I keep going back to what Charlie Munger said to me which is, “None of this is easy and anybody that thinks it’s easy is stupid. It’s just not easy.” There are many layers to this and you just have to think well and I can’t tell you how to think well. Some people get it, some people don’t.

Howard Marks: I want to say emphatically, Oliver, there are more than one way to skin the cat. I talk about the things you can’t do. You can’t make macro forecasts repeatedly successfully, you can’t trade algorithmically, so then what’s Stan Druckenmiller doing? What’s Renaissance doing? All the things I say you can’t do, there are people who’ve done them extremely successfully. Trade commodities, who’s Paul Tudor Jones? There are lots of ways to be successful. I always talk about the importance of risk-controlled investing. There are high risk investors who’ve been successful. I think the key is 1) to have an approach, well thought out, built out hopefully over some years or decades. Hold it strongly. As the memo says, be willing and able to hold through the periods when it’s not working because nothing works in every market, nothing works in every state of the cycle and nothing works every year. Even if you’re in an up cycle, it should work, it didn’t work.

I was struck by Barton Biggs’ book, Hedgehogging. He talks about outstanding investors who had terrible periods in the doghouse. If you hold a philosophy strongly and an approach, no approach is going to work all the time and the more strongly you hole your approach, that means the more out of favor you’re going to be in certain times, so it’s extremely important to hold that. A well thought out, valid approach that you’re committed to and can stay with, I think you have to have an approach that fits your personality. I was lucky in ’78, I was asked to start up some bond funds in convertibles and high yield. I’m a conservative investor, it fit me very well to be investing in fixed income. If they would have said to me, “We want you to go out to Silicon Valley and start a venture capital fund. We want you to find Google when it gets invented,” I probably couldn’t have because I’m not a futurist and I’m not a dreamer. I’m probably better at sealing off the downside than finding the upside. Like they say in football, “Is he playing within himself? Is he doing the things he can do?” I think it’s extremely important for an investor, so I think the people we’re talking about are people who have these approaches, strongly held. I think it helps to be highly intelligent. Buffett says, “If you have a 165 IQ, sell 30 points because you don’t need them.” I don’t think that’s true. I think that high intelligence is very important and I think the people that I’ve mentioned are extremely intelligent. Those are some of the criteria for success.

Guy Spier: Yes, but there’s a trap that I think relatively new investors fall into is that you can see something, buy something like it, it goes down, buy more of it and suddenly it’s far too big a proportion of your portfolio. I think the experience that I’ve had in observing other investors, you make a decisions, you spend the time to buy it and then be done with it. Make it a certain proportion of your portfolio, but a constantly declining stock can be a death spiral if you’re consciously making decisions whether you want to add to the position or not. Define your full position size whether it’s 10% of your portfolio, 5% or 7%. Buy in the full position over a certain period and then be done with it. Two or three years later, you make a decision as to whether you’re continuing to own it or you’re selling it. Perhaps part of the wisdom I’m trying touch on and reaching for, which I don’t think is in the book and it’s part of this willpower idea of trying to reduce the number of decisions you make. I actually think it’s quite possible that my returns would not be much worse and might even be better if I was only allowed to trade on one day a year, so every January 1st or the first week in January, make all my trades and then not do anything for another year and just let those decision build up.

Reducing that decision-making – adding and subtracting from positions, buying something as its going down, making decisions as to make it a 5% or a 10% position – I think it’s good to have all of those things clear upfront. In fact, the strange thing that we’re talking about here, John, is the market gives us so much freedom of action between buying and selling, position sizing. I think a lot of what this is saying is we don’t actually want to use most of those freedoms of action and it’s a strange thing because you would say, “Why wouldn’t you want to?” Actually, the psychological benefits are so powerful that they outweigh any marginal benefit you would get out of allowing yourself that freedom of action.

Guy Spier: I think another little supportive nudge came to me from a friend I’ve made in Zurich called Rolf Dobelli who’s got a wonderful book out called The Art of Thinking Clearly and he’s delivered at TED University. He’s got an article that if you, the viewer, want to email me or, John, I can get it to you. It’s why reading news is bad for you and one of the things that he puts into this article, he compares reading meaty, knowledge and insight-filled articles and publications like The Manual of Ideas or well-written books rather than reading news or stock prices. The solid stuff, he compares to meat and potatoes and stock prices and news headlines, he compares it to non-nutritional sweets. What he says in that article is that when things happen in the world that are important, we will hear about them without having to read about them first because our friends will bring them up or we’ll see it when we’re passing through a café and there’s a television headline blaring. It’s not like we’re not going to find out about what’s going on and I feel very much that way about stock prices.

Really significant events that happen around the companies that I care about and I’m following, they’ll make their way through to me one way or another, but to John’s question, I talk to about my tortured relationship with the Bloomberg monitor. I used to go into the office, the first thing I’d do is switch on the Bloomberg monitor. There I’d have not just the monitor, I’d have a Bloomberg launch pad and I’d fire it up. I’d have at least 100, if not more stock prices with limits. Even then, I was self-aware enough to realize that the standard settings for Bloomberg with green if the stock price is up, red if the stock price is down and that little flash, all of that activity is actually designed to addict us to what’s going on, even though I didn’t have all those colors, I changed those colors. For a period of about six months, I didn’t have a personal Bloomberg log-in and that was hard for me. They’ve developed in me a reliance on the very quickly available information one can get from a Bloomberg monitor. Still, there are some things that are harder to get just straight on the internet, bond or [inaudible 0:12:48] documents and certain company filings or just an aggregation of the right information in the right place.

I decided I wanted the Bloomberg monitor back, but for that period of about six months, which was in 2009, I went cold turkey for six months and I just didn’t check stock prices. When I wanted to check a stock price, I either had to look it up on Google or Yahoo or something or I had to go into my office where there was a Bloomberg monitor, but it was a common log-in. It wasn’t one that was personal to me. Then once I got the log-in back and after that six months of cold turkey, I just didn’t have the habit anymore of the first thing I did when I came in was to log into the Bloomberg. The other thing I did was that in spite of its incredible functionality, I stopped using that Bloomberg launch pad function. I realized that that was not helpful to me. At the same time around 2009, I visited [PH 0:13:45] Nick Sleep’s office in London. He’s a phenomenal investor, keeps very well below the radar and he had this thing where the Bloomberg monitor – and I think I described it in the book – was on a low desk, a low coffee table type desk and the only way you could look at it was to stoop.

The answer, John, to how do you do that, I think you do it step by painful step. You perhaps try cold turkey, but my experience was that even if I go back, create barriers to doing it and create difficulties to doing it. I think the struggle we all have is even if we step away from Bloomberg, just the internet and computer screen, there’s just a flood of mixed information. Some of it is extremely addictive and there isn’t much substance to it. Recently, I checked out this StockTwits. I thought, “Oh, this is interesting.” I don’t think there’s much value there. There’s a huge amount of noise and not much signal, I guess, but then you have websites – Mohnish Pabrai describes very well in a talk about why he doesn’t use analysts – Manual of Ideas is one and SumZero is another. There’s a message board called Corner of Fairfax & Berkshire, which is a wonderful message board where you have thoughtful people gathering. How do we navigate between those two things? It’s a struggle for all of us. I don’t have the right answers, but the one thing is to be aware that we have to put the Bloomberg in an uncomfortable position. Don’t switch it on as the first thing you do when you come in in a day.

I would say another thing for me, John, that’s described in another chapter in the book called Creating my Own Omaha, I’ve got a process, which is how do I go about looking at an investment idea, but then there’s a whole chapter on how do you design an environment that improves your investment decision-making. One of the things that we talked about at breakfast is I have figured out that to separate my busy room – the room with a computer, phone, all of that – from a library where I’ve conducted interviews with you, John, where there’s no computer, there’s telephone. There is just opportunities to read and I find that when I go into that library and spend time, my mind calms down and I get greater clarity, so a lot of the answer to not checking stock prices is built around structure. When we talk about structure, we’re not talking about something that’s a real thing, we’re talking about what devices do you put into the room? Do I put a telephone into my library? No, I don’t have a telephone in my library. Where do you put the Bloomberg monitor? Very, very simple, basic steps.

There’s a coach whose book I have not read, but this guy Dan Moore used to work for me. I was a big fan of his. Dan Moore, who works at CJS Securities is a wonderful guy, very, very good analyst talked to me about how John Wooden, when he had new basketball players, a new basketball team to coach – and he was the coach of, I think, the LA Lakers – each season would start off with how to put your socks on. In some way, his view was that you built up a great basketball team by starting with the most basic things like putting your socks on. I think there’s a lot that we, as investors, can learn. It’s so hard to say, “I’m going to come into the office today and make great investment decisions.” It’s such a hard thing to aim for, but to say, “I’m going to come into the office today and do a solid hour’s of reading of 10Ks before I switch on whatever stock price service I use,” is something that is within reach for us and that’s actually where we should focus our time and build a broad base of opportunity to raise our decision-making game.

Guy Spier : If someone were to ask you, “What exactly did you do? How did that happen,” I don’t think there’s any answer that Mohnish can give. It’s probably different, every aha moment happens a different way.

Mohnish Pabrai: Let me just kind of crystalize my thought a little bit on that front. The thing is this process of getting insights, I think Warren and Charlie, they’re light years smarter than I’ll ever be, so I take a low-life shortcut, you can say. The low-life shortcut is I looked at, for example, and I continue to look at what great investors are doing. For example, the automobile insight, the automobile insight really came from looking at the Manual of Ideas and finding that GM was owned not only by Berkshire, but it was the second largest position owned by David Einhorn. I always hated the auto business for all the obvious reasons of unions and high CAPEX, consumer taste and all of that. American autos, I hated even more because of all the quality issues and such. The question that it prompted in my head was clearly David Einhorn is a smart guy and clearly at Berkshire, my guess was because the size of the position was not that large, it would have been Warren, it would have been one of the two managers. I thought because of the GM distress and such it may have been Ted because that’s more his bent.

The question I had was why would Ted Wechsler and David Einhorn, who can clearly see all the problems in the auto business want to make this bet on autos. Why would someone like Einhorn want to make such a large bet? The funny thing about Einhorn’s bet is his largest position at that time was Apple. Think about it, you have a bet on Apple, which is a big position and then your second bet is on General Motors and the two cannot be more different in terms of the nature of the business. For me, the starting point with autos was to simply try to answer the question, “Why would these smart guys actually do this?” I wanted to actually get an answer, which made it clear to me and as I drilled down to try to get that answer, it dawned on me that it wasn’t stupid to be in the autos. It was actually pretty smart to be in the auto because there had been a C-change and that C-change was not fully appreciated or recognized by the market. Detroit had gone from one of the worst places on the planet to build a car to one of the best places on the planet. In fact, that US is now exporting lots of cars to other parts of the world because it’s so competitive in terms of its manufacturing.

That insight did not come from just looking at a 13F, but without the 13F, the seed of the insight wouldn’t have happened. For me, what has usually worked is something somewhere has given me a seed and usually it’ll be looking at what the great investors are doing and then trying to understand why they’re doing it or sometimes it could come from a position in my own portfolio. For example, in 2008, in December 2008 when all these commodity stocks were collapsing, I made an investment in Horsehead Holdings. They’re a zinc recycler and I made the investment because it was a net-net. It was trading below net current assets, really cheap. It was a classic Ben Graham type stock. The classic thing that they say is you really learn about a business after you own it. I’d bought Horsehead because I was buying a basket of commodities and this looked super cheap, but then as I subsequently drilled down more and more about the business and tried to learn more about it, I was fascinated and saw that they actually had, even though they were in the commodity business, they had an incredible moat. In that case, I wouldn’t have found that with Horsehead if it wasn’t a net-net. I wouldn’t have been able to appreciate the finer points of the business if I hadn’t made the investment as a net-net.

I would say the key is there has to be a seed somewhere. I think in the case of someone like Warren Buffet, he took that guy, Adam Smith, around Omaha in the ‘70s pointing out all these great businesses in Omaha. About 15 years later, he had bought most of them. The thing is Warren had actually looked at his own hometown and picked out the ones that were exceptional. That’s another way to do it and I’ve thought about that, look around in Irvine, for example. What are great businesses in Irvine and take it from there. To me, the thing is cloning the 13Fs has been a good seed. Sometimes these net-nets have been a good seed, but what are your thoughts on it?

Spier: Well, I was thinking a good business in Omaha might be right around here, but I guess that’s already owned by Pabrai.

Rupal Bhansali: You’re absolutely right. We look for undervalued quality franchises. The interesting thing about our investment profession is that it’s not just an intellectual sport which is to try to identify what is the business? What is the fundamental intrinsic value? Increasingly, it has become a psychological sport. It’s a mind game. There are too many investors out there who want to make money quickly.

The opportunity for long term value investors like myself present themselves because we understand that psychological behaviors in the marketplace cause people to take actions which are contrary to what the right mode of behavior might be. I would say for example last year there was a fetish for emerging markets. Everybody wanted to put more and more money, you saw the fund flows going that direction and nobody wanted to put money in the submerging market of Japan.

We’ve perceived to be a big value spread differential where Japan for the first time in I would say about 25 years became cheaper than even the US market. Finally that correction which added many, many fallen stocks before we thought presented an opportunity. And the first time in my career that I became overweight Japanese equities in my portfolios.

That’s the point about in a way you can take advantage. People’s attention might be steered in the wrong area because that’s what everybody’s talking about in the popular press. By being contrarian, again going back to the original theme of being independent thinkers, we perceived that there was an opportunity on that which was absolutely out of favor, nobody wanted to invest in Japan.

We thought there were some fantastic opportunities such as Toyota [Japan: 7203] which is a terrific multinational company with global growth prospects. Denso [Japan: 6902] which is an auto component supplier. (Inaudible, 8:42) which is a play on smartphones and therefore you could participate in say the growth of Apple [AAPL] but Samsung [Korea: 005930] as well because they provide the backbone infrastructure that goes into these new age devices I would say, tablets, etc. There is an opportunity to own some of the best businesses.

Our job and this goes back to how do you find them is to cast the net wide. The vantage point that we have because we manage international equities and global equities is we can go anywhere in the world. Somewhere, sometimes, there are always markets or sectors, or stocks that someone does not want to invest in because in the near term, in the foreseeable future they don’t look attractive.

Combining this notion of being contrarian and being long term allows us to find these mispriced opportunities and avail of them before the rest of the market (inaudible, 9:32) to them. I would tell you of late given how much the Japanese market now has performed I would say that that opportunity set has reduced substantially. That’s why again active management is helpful because we were able to avail of that opportunity in real time to our investors’ benefit.

That’s the two-piece answer which is there are undervalued franchises but they may not all be in the same place so you need to look far and wide, and we do in the global equity manner that we have. Second, you need to be psychologically prepared to own things that nobody else wants to own. I’ve always told my investors, I prefer to look dumb than be dumb. Often by owning some of these markets, you don’t look very smart at the time but eventually you do very smart things in the client’s portfolios. That’s what it takes.

Rupal Bhansali: We like to think of ourselves as independent thinkers. But in this environment where a lot of people tend to act as lemmings in the market, it makes us contrarian. The way in which we approach investing which is quite different from many others out there is that many investors start their investment process with screening. And in their screening process, they screen in ideas that fit.

Our approach is the opposite. We screen out ideas. We sort of say let’s reject. We don’t accept. Psychologically that creates a notion of the idea must compete for our attention because we tell the idea, you don’t quite stack up. You’re not good enough for us. Now, tell us why you are. From the very get-go in our investment approach, we are trying to eliminate rather than select. That’s the beginning.

Then what we try to do is we understand that in investing today, the battleground is no longer having access to information. That was yesteryear’s investing. Today’s investing in 21st century is about asking the right question. You’re no longer going to be a good database. You’re going to be a good search engine. The answers are there to be found. It’s the right questions to ask. That’s how we differentiate ourselves as well. We’re not looking for information. We’re looking for insights.

The third way in which we differentiate ourselves and it manifests itself in the idea generation is we always ask the question not just what can go right but what can go wrong? This is where the notion of what can go right is the way Buffett would think about the quality of the investment proposition, the franchise, the moat, the prospects as Phil Fisher would talk about, the growth prospects, the compounding in the business. That’s what can go right in the business.

But then you ask the question which a Benjamin Graham would ask or which perhaps a Sir John Templeton would ask. What can go wrong and is there a margin of safety in what I’m paying in the business or what I’m being asked to pay in the business? And when you tie the two together, our approach to investing is not just looking at the returns of the business but also looking at the risk of the business and where is the intersection point of where the good risk adjusted returns would be is what price do you pay for that so that you’re being paid to take the risks?

That’s how we tie in where we are different, how we’re independent in our thinking and how we are contrarian in our idea generation. I can give you some examples of the kinds of ideas it has led us to but that’s the approach.

Howard Marks : Yes, there are pathways, what I call approaches. A formula is different from an approach. A formula says, “If you do this and you do this, you divide by two and multiply by 1.3 and take away four, you’ll get the right answer,” but what I mean is an approach. In fixed income, in high yield bonds, we have concluded that the most efficacious way, the most reliable way to pursue success is through the avoidance of defaults, not through the pursuit of upgrades or takeovers or other salutary events, but through the avoidance of negative events. Why? Because it’s fixed income investing and all the 8% bonds that pay, roughly speaking, are going to pay 8%. It’s not really that effective to pore through all the eights that are going to pay to select the ones that are going to make a little more than the others. You should spend all your time finding the 8% that aren’t going to pay and making sure you don’t hold them.

I had a chance to read the 1940 edition of Graham/Dodd a few years ago and they described fixed income as a negative art. You add value to a portfolio not through what you include, but through exclude. Again, that’s an approach. Now how you do it is something that you have to have skill for. If they say, “Exclude all companies that have debt/equity ratios over 4:1,” well, some companies that have debt/equity ratios over 4:1, you can hold and some that have 3:1 you can’t hold. That’s what I mean by a formula, a quantitative rule. That’s different from a thought pattern or an approach.

Tom Russo : I think at the very heart of it and this is what we look for in all businesses, but it seems to have been more enduring in brands in general than most is the ability to enjoy price inelastic demand for your product. That’s really it and then the regular consumption, the kind of predictability of a business that’s blessed by having brands that’s part of one’s daily life – one being the broad sense for the consumer – means that you have a very predictable model for which you can invest and build capacity. I once flew across the country with a person from Toshiba and he was involved with the sale of their notebooks and their laptops. I told him that I’d just met with Hershey and I was excited about Hershey at the time for whatever reason. Clearly, it’s the core portfolio of strong brands. He said, “Why would you invest in Hershey? What’s the point?” I said, “Do you realize that if you owned Hershey 100% yourself, you’d wake up on January 1st each year and you’d have a pretty good idea exactly how many bars you’re about to sell for the following 12 months.” Within 1% or 2%, you could get it right. I said to him, “What do you think the chances are by yearend you could know how many Toshiba laptops you’re going to sell?” He said, “I don’t have a clue.”

In order to sell them, basically they’re probably going to do quarter-end incentives, make sure they make the numbers and all the rest and basically incent the consumer to try to buy them. In the case of a brand, that’s loyalty that’s embedded in the memories that people have of pleasant times associated with powerful brands for their lives growing up. It gives them a real stickiness and that stickiness has surprised me as a global investor because, for instance, the walls went down for China and for Eastern Europe. Trademarks that had been dormant for decades sprung back to life. A friend of mine escaped from Romania in the early 1990s after the wall went down and his mother went to Paris to meet him. They were trying to get a train to [PH 05:15] Doveal. He didn’t have tickets and it was sold out. The mother said, “Don’t worry, son, I’ll take care of this.” She went to the ticket head and she pulled out a box of Kents that she’d had in her purse probably for 20 years.

She gave that and she put that on the passageway before the teller, looked at him like this thinking that that would part the sea. Well, the fact is in Romania, for most of the time of communism Kents were a form of trading value. They were trading cigarettes, not smoking cigarettes and the brand meant something. Currency, it stood for stature and standing and something that could be trusted. When the wall went down, Kent was really the brand of choice until over time the consumer realized it had become a bit of a backwater. In fact, what they long remembered as having been the most powerful brand in the world had slipped. They then, at some point, had to recalibrate whether it carried the same value for them emotionally and positionally as it had historically, but their memory was lasting. Then the durability of the brands has really impressed me over time and what you can do with that. You start with the basis of knowing that your core demand will wake up every morning and likely have, within reason, a very similar day than the day that was before and the day it will be afterwards. You can plan around that business with so much more certainty than ones where you’re really at risk of the change of your business on a daily basis.

Tom Russo : There’s been an expression in the food and branded goods section where it reads that the consumer talks lean and eats fat so that there have been countless efforts on the part of companies to try to come up with products that are marketed as healthier for consumers.

And the consumers invariably want Oreo cookies, they don’t want a trans fat-free cookie called Snackwell which Nabisco launched with the idea of launching a product that was good for you.

ConAgra [CAG] launched something called Healthy Choice, I think it was, and it was a master brand that went across all categories, and it was designed for people who have heart issues and all the rest. It just never worked.

They were willing to invest a lot behind it but ultimately the consumer products companies have found that that investment spend, the burden to try to develop something that will be good for the consumer then they would stay with it has been largely unrewarded. That’s the sort of experience I’ve seen over time.

I felt for instance when Kindle announced that they wanted to go directly after the iPad with the Razor, the Fire or something, a full complement of a tablet, that they were probably well-advised not to go down that path because it seemed to me there have be absolutely no way that they could outdeliver a consumer value off of a tablet versus the kind of sophistication that Apple could deliver and also the network effect that comes from being an Apple iPad, versus your Mac versus, your iPhone, versus that integrated seamless interconnection.

I would have thought that they were probably spending money with the capacity to suffer because Jeff Bezos has a following that doesn’t really seem to value reported profits as much as the ability to grow category strength. I just would have thought that that’s when they probably would have been wise to just stay away from.

By contrast even more forcefully when Barnes & Noble [BKS] controlled by Riggio thought it would be a good idea to go with a Nook after the Kindle itself. I would have thought that’s a pretty poor choice of how to spend money.

Even though the family that backed Barnes & Noble almost thought we can afford the income statement burden because those that take it out take out our company and no activist can come and force me to do anything because I control it so he would have thought. It doesn’t mean that it’s the right thing to do.

You have the capacity to suffer but it doesn’t mean that you’re supposed to suffer. And it reminds me of an expression that Buffett has which is if something is not worth doing at all it’s not worth doing right.

Incumbent upon management is to choose wisely to begin with and then go about investing deeply. But just to invest deeply because you can, because you don’t have to worry about the market for corporate control doesn’t assure that you’ll come up with a good outcome and I would have thought that was the case.

Along the way Barnes & Noble was able to selloff 15% of the Nook to Pearson [London: PSON] for $900 million and another x% of the Nook as a standalone project to Microsoft [MSFT] for $1 billion. And so the effort was in part shared but ultimately I would have thought misdirected in the first place.

But taking Jack Daniels around the world, that effort is worth doing at all and it’s worth doing well. And to do it well you have to lose money and you have to have the capacity to suffer.

Tom Russo: For me, it’s whether or not you could see the growth in generations of consumers that will come, flow naturally from the businesses that we enjoy today. For example, just across the street from us as we sit here, Cartier at the base of the GM Building has just opened up a new showroom where CBS studios used to be. It’s a fabulous new showroom and it’s designed to capture the traveling tourist, mainly from China, who come locked and ready to buy at Cartier. A hundred million Chinese will travel this summer up from 70 million five years ago, up from 30 million ten years ago. That crowd will go back to China once they’ve been to Fifth Avenue and then bought whatever they buy at the Cartier store as brand ambassadors.

If you have a business that can recreate itself with such a mainstream ground swell that arises from people’s conduct and aspirations and it can replicate it again and again and again, it has great duration. Ultimately, that’s what I’m looking for is the businesses that can absorb that reinvestment and do with an expanding network of future consumers and recognizing the current consumers, in some ways, become the brand ambassadors, especially as it involves increasingly global travel consumers.

Tom Russo: Yeah sure. So the question about the luxury goods—it is… I think it’s a [inaudible 0:42:24.6]. In most instances what you’re dealing with are items that fill a need—it’s very high order… I mean this little concept of hierarchy of needs—food, shelter, clothing and all the rest—but as Coco Chanel said, I think, better than anyone else, as it relates to luxury goods… When defining what luxury goods was she is attributed with the expression that a luxury good is something that you don’t need and cannot live without. And that’s a very high order and I mean the people who spend $5,000 on a purse invest an enormous amount of their mental capacity to figure out what purse to invest in and whether or not it communicates of them what they wish to suggest about them. It’s deep. It’s profound. And it’s something without which they could not live. And from our perspective we want to find those types of moments.

Now the manufacturers have to be very careful. A friend of mine gave his wife such a piece and she took it back to LV [inaudible 0:43:39.5], which is where it was ostensibly from because it became slightly unstitched and asked the service department whether they could repair it and they asked her whether she had a receipt and she said no—her husband gave it to her—it was a Christmas present. And they said, “Well, we’d like to help but you really do need a receipt.” “Well, but he gave it to me as a present”—back and forth. “Go back and get it.” “No, I’m here now”—back and forth, back and forth. And finally she said, “You know this is really terrifically unnecessary and inconveniencing. I demand that you fix it now” and they said, “Listen, we’d like to but we can’t tell whether your husband really bought it for you or whether it was a counterfeit bought on the street” to which she said, “If you can’t tell whether it’s counterfeit or not then why would I esteem it so high, because I thought I should?” And of course this terrible answer… It’s a terrible answer. It’s not just the sale of an expensive product that secures the loyalty of that consumer. It’s the entire relationship, part of which is unquestioned commitment to service and they never should have walked down that line of reasoning with her because they completely eroded the allure of that brand to her.

Tom Russo: I think the trick is you have an expression of the strength of the brand, in Apple’s case let’s say, by the price premium charged. There are smartphones that cost $15 or $20 and Apple still gets $550 for the iPhone 5s. I just bought one the other day and I think it’s 50 times more expensive than an Android phone that has effectively the same capacities manufactured abroad and sold increasingly to very early stage consumers in developing and emerging markets. Well, the product has roughly the same functionality. The premium price that Apple enjoys is the price paid by the belief that you can’t live without it. Now there’s a portion of that belief that is real and that is that if you’re locked into their iTunes network and they have platform interoperability, you are really without much choice if you want to stay within that fold. Then there’s the perceived belief that if you have those white, droopy earphones that you’re more socially desirable and acceptable. That’s the desire to belong. Then there’s the cult aspect of the demand, which is that there’s a respect for the ethics of the firm and altogether the interconnection capture, the desire belong and then the esteem of the form of cult-based nature of the company meant that this has been a very enduring franchise.

When it goes wrong, however, whether it’s the fact that they may not live up to their ethics that were seemingly surrounding the original founder by child labor practices in Asia, whatever number of things, products that missed the market because they misread the consumer’s capacity, if something else, the next new thing comes along and supplants whether it’s Google eyeglasses or something else that is the next cool feature you put on your wrist to know how healthy you are, any number of things could come along as a category and displace their urgency. Then the last part, the captivity thing I think is important enduring franchise that will be more predictable, but I don’t think it’s driven the kind of sales that we’ve seen. It’s a question of being supplanted by a more capable and a more exciting product launch. Ultimately, the question about whether the price premium is supportable because you’re dealing with products that are 50% to maybe even 100% more expensive than the counterpart that can effectively do the same thing.

Tom Russo : I think it’s just there’s a need to experiment and there’s also a preference. You become a brand-loyal user of something like regular Marlboro, the likelihood is you’ll probably come back to it so long as they keep you in the family and by having things to choose. We once looked at a company – it’s an interesting story – that was called [PH 0:27:04] Kool brands. They were involved with the ice cream business and through it, I learned about Ben & Jerry’s because Unilever had just bought Ben & Jerry’s. As a result, there was some competition with Kool brands, but they said the trick with Ben & Jerry’s has to do with the same question of why the consumer behaves the way they do. The trick with Ben & Jerry’s is they had a direct distribution salesforce that called on all of their outlets and they had on average at an outlet, 24 different choices, but the fact is only five choices sold – Cherry Garcia, Rum Raisin, a couple other ones. I can’t remember their names, but only five sold.

The 20 flanker brands, the flavors and all the rest reassured the consumer that every time they visited that display that they had anything they could possibly hope for in terms of flavor variance and they always bought their standard. When that business was purchased and the buyer had a fully developed warehouse delivery system, not a direct store delivery system and they delivered that product through the warehouse now rather than the store perhaps, somebody corporate looked at the velocity and said, “There are 19 flavors here that don’t sell and we should just stop carrying them because it’s really that only five are selling.” When they took away the flankers, the five stopped selling because it was only after reassuring the consumer that there’s a world of choice that they were confident enough to go back and pick the flavor they wanted, which was the same flavor regularly. That’s part of the strange, bizarre characteristic of the investor.

I think brands, as I said, are price inelastic because there’s brand loyalty, but they stood for a couple of different things over time. Initially, they just served as a proxy for trust. The first brands in cereal, for example, really were built around the reassurance that the box would keep mites out from the farm, which was the grain inside the box. Historically, people just went to a grainer and bought raw [inaudible 0:29:22] and put it in a bag. By the time they had it for a breakfast meal, there were insects and so the first thing was trust. They trust this product to have attributes and qualities they can depend upon. Over time, Maslow’s hierarchy says that you’re trying to meet higher need states over time and over time, brands generally evolve to satisfy the emotional need to show one’s position. That’s probably more powerful, especially on the luxury side where the observation in the luxury world is that a luxury good is something that the consumer doesn’t need, but can’t live without. You tap into something very profound when you’re in the business of selling $3,500 bottles of Louis XIII Rémy cognac. That’s a very special order and it’s all about badging.

The story of a brand for me is verifying that the quality was good – there’s still some of that – to stating your position in life and then knowing how to position that. In the case of something like a watch, Patek Philippe understands that Americans are very puritanical and American males cannot indulge luxuries on themselves. Recognizing that, Patek’s campaign came out and said, “You don’t own this watch. You’re just taking it care of it for your young in the ad with me, looking up at me admiringly. You’re just waiting to give it to him because his life won’t be the same if he doesn’t have your watch.” Now that’s a fabulous campaign because it touches on everything and it gives the permission to the American male to do something, which they couldn’t otherwise accept. In Europe, it’s very traditional for people to have six or seven watches.

Tom Russo: What I would say is at caveat for what not to do. The one thing that businesses require if they’re going to succeed in developing and emerging markets is the capacity to suffer as managers, the burden on income that comes about from developing a market.

First, it’s certainly something that Berkshire has talked a lot about as a competitive advantage for their businesses because Warren is not at all dependent upon quarterly reported earnings to make a difference in his life and then the management within Berkshire knows that.

So if there’s a business that offers a huge long term return in Berkshire, they’ll take it even if it destroys short term profits. Berkshire is freeing up the balance sheet of certain companies that are desperate and they’re willing to take that on. When they take that on, they have huge burdens to the reported profits that don’t matter economically.

Most public insurance companies would never do that because they are driven by smooth reported profits. Berkshire has made a tremendous amount of money over the years having to free them from acting.

With GEICO, when they bought that, GEICO only had 1.5 million policies when they bought it and now it’s eleven million. The reason why GEICO couldn’t grow is they couldn’t absorb the income statement risk of the reported profit hurt caused by new accounts.

When Berkshire did the equity index put option, they exposed themselves to the risk of a mark-to-market equity movements globally. Over eight quarters, they put through their income statement $13 billion worth of losses which were the accounting impact of what happened to those puts.

It doesn’t matter. Warren had the five billion of premium. He’s investing it. In twelve or fifteen years from the time he took that on, he had no worry that he’d actually have a financial underwater liability because equity markets over time likely will go up.

Nobody else took that insurance risk because they wouldn’t risk the reported profit flows that came about and actually did burden Berkshire. The ability to suffer with building for the future is extraordinarily empowering because most people don’t feel they have that ability.

To do it, you really often are best served by having family-controlled companies. Cadbury Schweppes wasn’t one. Berkshire is and that’s why they were able to accomplish so much. Brown-Forman [BF/A] a company that I invested in the 1980s was and they’ve grown their Jack Daniels franchise around the world because of their capacity to absorb the starting losses to the point where today they have 25 markets with 100,000 cases.

You’re not going to make much money in a market when you’re building from zero to 100,000 cases because the fixed cost of distribution, and sales, and all the efforts that you have to make are too high relative to the few thousands of cases that go through the system.

From 100,000 plus, you’re starting to accrue full margins for the next case sold and you developed a preference so that there’s a penetration that’s beginning to accelerate. And so from that point on, incremental volume is profitable.

The benefit of increased penetration will drive more volumes as will create a frequency. You introduce someone to the product, they’re part of the 100,000 but once they are a consumer they will increase their frequency with the product as they have more money to spend.

And in those developing and emerging markets that they’ve set these toehold positions, it’s that growth of consumer disposable income as a function of GDP that we really count on.

And so Brown-Forman is a spirits producer company we’ve owned shares for a long time, family-controlled as it is was willing to make the investment to burdened income to the point where today they have 25 markets that have a very promising future because they’ve cover their fixed costs.

That’s the hand that you’re supposed to play and that was the hand that Cadbury was playing in China. They proved up the peel of their chocolate, gum, and hard candy business in the three major cities.

And about twelve years ago, they embarked on a program to take that success nationally. They went to the next 200 cities which as you know in China might be the smallest of those 200 cities may still have a million people of it. And within that same range there are cities that are bigger than New York, ten million plus, they’re countless numbers of them.

They basically began to build the brand where you can imagine what happens, you go to a city, five million people in the middle of the world industrial part of China and you announce yourself as having a product that the consumer is supposed to care about.

You’ve got to make it. You’ve got to advertise it. You have to distribute it. You have to sample it. You have to go back at it again, and again, and again. And it’s all about an accelerating and deepening loss because when you open up ten, then you open up forty, then you open up a hundred cities, and in the course of opening up a city you have smaller expenses that grow bigger, and bigger, and bigger.

Compounding the rate of spend versus relatively anemic revenue upfront, versus the numbers of cities you spend in, you end up having quite a considerable burden to your income statement.

And we celebrated it. We applauded management, we told them you’re doing the right thing, they proved you up to the big cities, take it out the small ones and owning the market because there’s no Western company there yet, you had a leader advantage than all the rest.

Job well done so we said but another activist came along, and brought 3% of the stock and demanded to have a meeting with management, and the next week after that meeting the management came out and said for strategic reasons they thought it would be a good idea to shut down those 200 emerging cities in China.

What they really did is they gave earnings per share back to the investor. In doing so, they destroyed net present value because as those losses mounted, they’re in the fifth year and they have 200 cities, they’re all activated, and they’re all running the losses let’s say, that’s a point where the consumer has sampled, developed brand preference, is increasing his frequency and there are more of them.

And so the revenues, if they just could hold on would more than begin to offset the costs and you’d start to break into margins that would start to look more normal. And this journey of loss-making to profitability will have concluded in a natural way.

The only thing it needed was time and the one thing that an activist doesn’t value like we do is time. They knew that they could create earnings by stopping the investment spend at this late stage of that rollout but now those branches are no longer present and those consumers who are all prepared and trained to be consumers no longer have the ability to express that brand loyalty.

It was short term beneficial and long term destructive. And that’s what we try to avoid – businesses where the short term has a higher preference than it does the long term.

Rupal Bhansali: The very first thing I learned is actually from Silicon Valley. I must confess my biggest learnings and what’s made me a better investor has not come from people who are investors themselves but from people who are absolutely not investors because the danger of learning from others is you get to know something but knowing something is not the same as applying it.

When you learn from someone who’s outside of your industry, you have to figure out how to apply it because whatever they’ve told you do not have direct bearing but has indirect bearing. I’ll give you something I read in the early 2000s, like 1999-2000, there’s TMT euphoria that was going on and a lot of people said what a colossal waste of money, this money that was in internet startups and so many of them failed.

But one of the lessons I learned from, and this was Meg Whitman when she was running eBay [EBAY], she said because she ran a very successful internet startup, eBay became successful very early on compared to many others out there, and she said it’s not that we don’t make mistakes at eBay, it is that we keep the cost of those mistakes low.

What she was talking about is we experimented with a lot of ideas, with a lot of concepts, many of which have failed, but as long as you keep the cost of that experimentation low, you can make a lot of mistakes. We could conduct a lot of experiments. And I looked at that and I said wow. In the internet startup world, they’re dealing with a lot of uncertainty. They don’t know what’s going to work. That helped me understand – okay I can apply what she said there to what I do.

I always ask myself, how does it fit? And the way it fits is we ask ourselves that question, what if we get this investment idea wrong, what if we are wrong? Let’s say this is just an experiment, we think its research but we could be completely wrong. How much will that mistake cost us? I will tell you that we have made so many investment mistakes but the reason why we still and I’ve had a good long term track record in my career is because I kept the cost of those mistakes low.

This is why risk management, understanding what can go wrong and how much can the stock fall, what is my downside risk, I’ve learned it from a completely different area but I applied it in this specific way.

Another thing that has helped me become a better investor is I think as a young person when you are young everything is about doing things with the spirit of I’m all in. You’re all in, if you’re passionate you’re all in, it’s all or nothing. And from an investment standpoint, this analogy of a marathon versus a sprint, a very wise person in my life told me that think about investing as the (inaudible, 56:43). It’s an endurance test so pace yourself.

And so this notion of going all in when you like something, even if I like Toyota a lot or whatever, go and put your full money to work there, have a very consolidated portfolio. I don’t believe in that anymore because there is uncertainty about how much a stock can fall and there could be many reasons why the stock keeps falling, but if I don’t keep powder dry, if I’ve gone all in in my initial position then I can’t average down.

So now this is another lesson that I have learned is that it’s important to go in in stages. It’s not about going all in, you feel very great about yourself and it’s a very macho decision if I may say, but it’s not necessarily the right one. By going in in phases like a marathon, you’re pacing yourself. You can actually accumulate (inaudible, 57:33) and average down so that when the stock goes down you’re not panicking. You’re not wondering, did I get my research right or wrong? You’re simply averaging down and taking advantage of that again short term volatility.

Those two things are the most instrumental in the way I have learned from others. And I suggest to people that if they want to really learn, learn from the mistakes that others have made, not necessarily on your own profession but in others and I’ve learned more from failure than I have from success.

Rupal Bhansali : investing should be practiced by professionals because it is a professional occupation, it’s a full time job where you have to make these sorts of calls which require judgment. And judgment in my opinion is nothing but the cumulative experience married to some skills and knowledge and information that you pick up along the way.

Therefore, people who’ve believed that an academic degree is going to help them become a better investor or just being well-informed on a given day by reading a magazine or by listening to an interview, that’s not enough. It may be a good start but that’s not enough. What it really takes to invest is you need to surround yourself to understand the business from the inside-out not from the outside-in and that means a deep domain knowledge of what drives that particular business.

When we did research on Toyota, Toyota is a company that you think is so well-researched. Where is the information advantage to be procured in researching a company like that? Guess what? A lot of people misunderstood what was going wrong at Toyota including Toyota itself.

But the job of Toyota’s management when there was a management change was to figure out to take advantage of the crisis, Toyota had faced many problems including some of the quality issues and their components, and some (inaudible, 18:20) brakes which they were exonerated on, they were never at fault and the downturn of the auto industry worldwide, they took advantage of that to reset the business on the right path.

In particular, one of the things that few people talk about in Toyota is that the CEO of Toyota who is the grandson of the founder but of a very different type, he is a big believer and actually is a professional test car driver, race car driver so he actually tests every new model to see what is the feel of the drive.

Before that, Toyota was all about durability, reliability, factual metrics but not the soul of the car where the German engineers, where the German designers, the Italians with the Lamborghinis and the BMWs were stealing a silent march and the consumers were evolving in that direction where the look and feel of the product was as important as the functionality of the product as we know with some of the devices we use today in technology.

Toyota understood that. Now that kind of an insight you only get and we actually researched and found a lot of interviews with the CEO. Very few people go around looking for what does the CEO say because not too many people get an audience with him and neither did we. But by hearing how he was trying to get Toyota from where it was to where it needed to be, a lot of people talk about the cost-cutting at Toyota, how they were going to relocate some factories and how the yen was hurting them but that is information that everybody had.

What we had was an understanding of how they were going to pivot the company to position it for the next decade or two both in emerging markets where they needed a value-engineered car but in developed markets where they needed a car to move more upscale. Then they re-launched their hybrid technology. This company always had strengths but how you apply your strengths is more important than just having them.

This is the kind of surrounding of the research where we are trying to find out what is different about how we understand this company’s positioning where we understood that by introducing this new technology they will be able to differentiate themselves from the conventional view that Hyundai [Korea: 005380] which was coming in at the low end will be able to steal a march on Toyota.

We were able to rule out that threat because Toyota was moving more and more upscale in terms of the technology deployment in their cars, and Hyundai would not be able to catch up because to invest in hybrid technology takes decades not just years. This is the kind of investment research that an investor has to do, and we certainly do it on all different companies. Then we would talk to the suppliers of the company and then we’d talk to the competitors. We try to understand it 360 degrees on that company before we even get to what I call the financial model of the company.

Everything I’ve talked to you about right now is the business model of the company. What drives the business? Then we look at what are the numbers behind that business. Too many people start with the numbers first. Numbers are telling you what’s history, they’re not going to be telling you what’s going to happen in the future. The future is a business strategy, that’s where we start. Then having looked at the business strategy we say do the numbers make sense in the context of what we understand about the business?

Then finally even after we’ve done these two things, business model, financial model, we then look at the valuation model – what is the market telling us about the risks this company is exposed to? What is the market telling us it’s going to pay us to absorb those risks? When Toyota’s stock price fell 60%, 70% when everybody was concerned over the risk of it losing market share, of the yen causing it to lose its margins, the threat of new competition, it was paying us for all of those risks. That is the key to investing.

Knowing what risks you’re taking but also checking whether you’re paid to take those risks. Once you have those two things figured out, investing actually becomes fairly straightforward.

Mohnish Pabrai: One of the things I thought we might start with is this notion, if you remember from the Buffet lunch, Harina, my wife, Harina, had brought up to Warren that I thought a business like Ikea would be a perfect company for Berkshire to acquire. Harina mentioned that to Warren and Warren immediately says, “Yes, I wrote to them and told them if they were to decide to do something, to give me a call.” Of course, then he explained how the way Ikea was setup with the foundations and trusts and all that, it was unlikely that there would be any kind of transaction with Berkshire or anyone else, but the interesting thing is that recently I was rereading Alice Schroder’s book, The Snowball. I think she did an exceptional job with the depth and the writing style was just wonderful, but one of the things she talked about was one of the things that’s on Buffet’s reading list, he reads American Banker, he reads all these newspapers, but he also gets these furniture publications to his office and he skims that as well. Alice also mentioned that he’s very close to the Blumkin boys, the Nebraska Furniture Mart grandchildren of Mrs. B, Irv and Ron Blumkin. In fact, meets them frequently for dinner and even takes a once-a-year trip with them.

The [PH 011:34] net-net of all this is that he has spent an enormous amount of time studying the furniture business and what has happened out of the study of the furniture business is he’s talked to the Blumkins about what other companies in the furniture business would be good to acquire and Berkshire’s had a number of acquisitions in that space, including Jordan’s and RC Willey and so and so forth. The issue is that in investing, what happens is that it’s one of the broadest disciplines and the edge you can get, if you will – like I think Warren has an edge in the furniture business – comes out of a multidimensional way of looking at it and I came at looking at Ikea being a fit just because the nature of their business being so amazing and I think Warren probably came at it more from the whole Nebraska Furniture Mart experience and probably even the Blumkin brothers might have mentioned it directly to him. The thing is that with someone like Warren Buffet, he had those unusual insights into the insurance business and then went into insurance in a big way. He had that into banks. Warren understands banks really well, he used to own [PH 0:13:00] First Rockford.

If you look at See’s Candy, for example, that was a big learning for Warren and the See’s Candy experience led to the Coke investment, it led to investment in other brands and so on and so forth. The thing with investing, what is most fascinating to me, is when you go through growth and you grow to the next level and you find something that clicks, all the data’s public, but it’s the analytics that become superior. It gives you insights that maybe you’re able to see around the bend that others can’t see. We had some of that when we looked at the car business in the middle of 2012 and also when you looked at Money Center Banks. To me, the interesting thing about the investing business is that one has to continue to, first of all, not only scan the horizon, but also go deep in some of these areas to find those rich veins.

Guy Spier: Which is a duopoly and in a certain sense, he probably learned from furniture retail to be sure Shaw Carpet was the place in the value chain where they captured the most.

Mohnish Pabrai: That’s the interesting thing. If you think about something like carpets, a normal investor might just think of it and move on saying, “Okay, carpets – blah,” but when you drill down, that’s when you really start understanding or like, for example, USG, which makes sheetrock. Again, they’ve had [PH 0:16:55] John Manswell in their portfolio and drywall is, you can say, a commodity and USG drywall, the sheetrock breaks and is easier to cut and crack than other drywalls, so contractors, in terms of labor savings and all that, prefer it. Even something as subtle as drywall can have a moat and so the fascinating thing, for me, about the investing business is you don’t need too many. If you can find one of these insights, looking around the curve even every couple of years, that’s quite a bit. The railroad, for example, Warren’s perspective on the railroad, I think Berlin Northern was bought for like $40-odd billion and today, I don’t think it could be bought for $100 billion. It’s gushing cash and that is the ultimate toll bridge because you’re not going to build another trans-[inaudible 0:17:59] railroad and they’re, with every passing day, getting a deeper moat versus trucks and so on.

Guy Spier: You have this orientation that is you can have a really bad hand and play it well and do really well and that would be the same as buying into a horrible-looking business, but if you play it well, you can end up with very high returns.

Mohnish Pabrai: Well, what I’ve learned to appreciate is I think the Holy Grail is to identify hidden moats. Not so much cheap assets because if you found a 40-cent dollar and at some point, it gets valued at a dollar, fine, you’ve doubled your money in some period of time, but if you’ve found a Chipotle when it was in three states, for example, and you had a sense there high probabilities this would appeal to a much wider group of people, for example. Back in Pabrai Funds, one of the first investments we made – this was in ’99 – was in a bank in the area, Silicon Valley called Silicon Valley Bank. Silicon Valley Bank is one of those unusual banks that has a definitive moat that is different from other banks and that was one I thought had some legs to do things, plus they had other peculiarities that made it interesting.

Guy Spier: Here’s what we come down to, I’m waiting for the Manual of Ideas to come out with its Coursera course on investing which I will take avidly. But if you haven’t yet signed up for a Coursera course, I strongly recommend it. One of the many that I’ve signed up for is Dan Ariely has something called behavioral finance or behavioral economics. And those of you who’ve read the relevant books would know that there’s a big difference.

You give somebody an option between two outcomes. In one outcome, they stand there and do nothing, and three people die. Or they can flip the switch and three people are saved but they kill the guy standing on the other track. There are for many people, even though either way somebody dies, somehow if you’re a passive observer you’re not morally dragged into it in the way that if the person flicks the switch, they feel like they’re someway responsible for the death of that one person even though another way to look at it is that they saved three lives. What I would say is that that is what’s going on with the for-profit education and with the healthcare.

Just to contrast that, I don’t think anybody minds Ferrari trying to figure out how to get a super-rich person to part with a little bit more of their money. Somehow that is completely unproblematic. But there are certain things in the case of the moral example that I just gave you, somebody’s life, or somebody’s educational future, or somebody’s health, merely messing with it is somehow morally, even though the person who’s messing with it says I flipped the switch but I saved three lives. Yes, I killed one person but I saved three lives.

Somehow merely messing with it and that’s where the for-profit education and the healthcare people are playing in. Better to play around with Ferrari and to go and buy chocolate manufacturers who convince people like you and me John to pay ridiculous amounts of money for a cute box of chocolates – that has no moral issues there.

MOI: I also wanted to get at maybe something else which has more to do with the actual business model or the nature of the products. Some companies do have that trade-off that you described but for some where they’re dealing essentially in what could be a public good where just having it out there, it’s not restricted based on how many people use it, think of a Google search engine or something like that where they just need to make that product better but then there’s no limit to how it can be consumed. Obviously, public television was an example of that and other things like that. Would you say that business models where companies put in the upfront effort but then there’s essentially no marginal cost to getting that out to the world, are those fundamentally more attractive to you?

Spier: The book has not been finished on this and it’s a really interesting conversation. By the way, your IQ goes up by ten points merely by getting a subscription to the Manual of Ideas. And actually I say that, John by the way on the other side of the camera is nodding at me because he feels like I’m lathering it on thick. If John will give me the chance, there are very, very real scientific reasons why that would be the case. But I’ve lost my train of thought, your question was on?

MOI: On why you love the Manual of Ideas?

Spier: I’ll stay with that point for a second, now that John’s asked me the question. The reason why your IQ goes up ten points when you subscribe to the Manual of Ideas is that when you subscribe you’ve just made yourself a part of a community. By making yourself a part of a community, as Nicholas Christakis from Harvard Medical School will tell you, what determines your propensity to become obese is simply having obese friends. That’s not your neighbors, it’s not the people you ride on the train with, it’s the people you socialize with, the people you play squash with, the people that you go to birthday parties with.

So when you join the Manual of Ideas, you subscribe to that and you become a part of that community. There are some very, very smart investors. There are very intelligent thinkers about investing. Merely by subscribing, you put yourself into a community where the natures of the interactions you’re going to be having are going to improve your ability to invest well. So there, I believe I’ve proved that point.

Back to the question that John asked which was on if healthcare is such a lousy model, what are good models? There’s no question and that was point, many people who subscribe to the Manual of Ideas already understand this is you have these models and Google is one, and Amazon [AMZN] is another, and Wal-Mart is another where you make money by doing well. It’s a scale economy shared, everybody benefits, you’re selling a harmless product and you’re reducing the cost for everyone while making money at the same time. That can’t be said for all businesses.

Airline business doesn’t work that way. There are huge scale economies in airlines. Once you’ve covered the cost of the airplane then every extra ticket that you sell, every extra dollar that you sell is in a certain way on that flight free revenue. You don’t pay much extra marginal cost to take an extra passenger once you’ve covered your (inaudible, 46:44). But airlines compete with each other for the marginal passenger in such a way that it actually destroys profitability. It doesn’t work on the airline industry but it does work at Wal-Mart. It does work at Costco. It does work at Amazon.

There are probably other businesses like that and those are very worthwhile businesses to look at. I would argue that it actually works on the payment services industry. The Visas and the Mastercards of the world who appear to be expensive and they appear to charge a high price for what they offer but actually when you consider the alternative which is either not to make the sale or to force either the merchant and/or the consumer to walk around with large amounts of cash in their pockets, or to carry much larger bank balances than they would like, it’s actually massive value for money for all concerned and this makes the whole payment system more efficient.

(Inaudible 47:38) out there which is probably too expensive but is a really, really interesting one is Verisign [VRSN]. Verisign does internet registrations and they have very high free cash flows, very low marginal costs, provide a service that has been running for more than ten years without one millisecond of downtime. For that, they have (inaudible, 48:03) of the best paid and smartest engineers on the planet making sure that their domain name system for the registration of internet names work. Anybody who’s registered a website, some of your money, with many of the domains is going to Verisign.

Somebody that John and I know well, Josh Tarasoff has gone and makes it part of his life’s work to identify those business models. What’s very hard is that often they get identified and the price goes through the roof before we get the chance to invest.

MOI: Yes and just to say something about that, Josh has talked about essentially liking companies that have a large gap between the value of the product and the price. If you’re selling something that’s adding a ton more value, not only do you retain your customers better but you also have a lot of room for price increases or pricing power. So back to our inflation discussion, it seems to also play a little bit into that because you have that room to maybe even raise prices ahead of or with inflation rather than lagging.

Spier: I know a business like that. It’s called the Manual of Ideas. The Manual of Ideas delivers tens of thousands of dollars of value. And for a mere thousand dollars you can get all of that. Actually very genuinely, I would say that what is fascinating and I do happen to be being interviewed by John right now, but John has studied this stuff. And what is great about John is he’s applying it in his own life. He’s applying it at the Manual of Ideas. He wants to deliver massive value. He wants to deliver something that is priced at a very affordable price point but where multiples of that are delivered.

What that creates and I’ve seen it in John Mihaljevic’s life is that it creates optionality for the business. There are all sorts of things that come up when you start doing that. The hard thing is you need to do it for three, four, five years before the optionality return and start coming to you. It’s the reason why John, I moved to a zero-fee structure which is exactly the same idea.

You create so much goodwill, people feel so good about you when you deliver a lot more value than you actually cost. That creates all sorts of other things that pop-up when you least expect it actually. And that’s the reason why when John and I got together to do (inaudible, 50:41) we wanted to make it a value proposition as well.

This issue with Amazon, yes it gives them more flexibility to deal with inflation. Amazon is sui generis in a certain way. It’s not analyzable in terms of reference to anybody else and Wal-Mart in many ways is the same thing. The problem that we have with Wal-Mart is that we should’ve found it thirty years ago. And the question that we have today is – where is tomorrow’s Wal-Mart or tomorrow’s Amazon?

If anybody watching this video has figured that out, don’t hesitate, drop what you’re doing and send me an email right away. Forget about all the other riff-raff. Don’t send (inaudible, 51:26) email to Mohnish Pabrai, Warren Buffett, John Mihaljevic, straight to Guy Spier.

Arnold Van Den Berg: If anybody took Benjamin Graham’s basic rules and you took the basic rules and just sort of modernized them because things have changed a little bit – it wouldn’t take much change – I think they could do very well. As a matter of fact, Benjamin Graham felt that with his simple rules you might not be able to do extraordinary, but you could do very well and he proved it many times over. I’ll tell you what really helped me. One day we were talking about a stock and there was an acquisition, the company was bought out and so the company paid a lot more for that stock than I thought it was worth because I had multiples that I’d developed through the Graham philosophy. I thought, “Geez, I wonder what these guys see in this company because based on the Graham philosophy, they paid almost 50% more than it’s worth. I started studying acquisitions and I realized if these guys in the business, they spent their whole life in it, if I was going to buy another money management firm, you know I’d know what to pay for it because I’d been in it for 40 years and I’m certainly not going to overpay for it. If I’m willing to pay that much, as a businessman, I must be able to pay that much and still make money.

That got me to thinking. One of the rules I’m going to do is I’m going to follow every acquisition, so whenever I read about an acquisition, I would cut out the article in the newspaper. I’d get the value line or the standard [PH 0:35:39] pour sheet, throw it into a shoebox and on the weekend I’d come and run every ratio – price to book, price to sales, now we use enterprise value to sales, price to EBITDA and all that. They didn’t call it EBITDA at that time, but price to operating earnings, so forth and so on. I categorized all these acquisitions and then after a while I had so many of time, I said, “Okay, this was the acquisition price for a retailer and this is the acquisition price for a manufacturer,” and then I would compare it to the Graham philosophy. Then I added that onto the Graham philosophy by saying, “Here’s how low it can go,” because I would see over many cycles how low the stock would go, “but this is how high it can go,” because the ultimate price of a stock is what sophisticated buyers and sellers are willing to pay for it. That usually is about 20% more than what the stock is trading for in the market.

Now I had an overview, an acquisition file. I called it the Private Market Value Template. I would take every stock and say, “If it was bought out, this is what they paid for it.” I didn’t figure this out. The other guys did, the people who were buying these companies. I started to realize that the highest the stock would go in the market is about 80% of what a sophisticated buyer would pay because if you could control the company, you’re willing to pay a little more because you can move the levers around. That became my sell point. Now I had a sell point that was about as rich as it can get, 80% of private market value, and then I reduced it saying, “How much of a discount do I want to make to buy this company?” I started grouping the companies together and I realized that big cap stocks, big companies, usually the cheapest you’re going to get is about a 50% discount for private market value. The medium companies are about 60-65% and the small caps are about 75%.

Then when I’d get a small cap company I’d say, “Okay, here’s the price of the stock. I’m going to buy it. My worst case is going to be 25% of that private market value,” so that became my worst case if something happened. Then I say, “Okay, I’m willing to pay a little bit more because I don’t want to miss it.” You run a risk of missing it. Then I worked about a ratio so that I said, “If I had a company that’s worth $30, $36 private market value, $30 is the sell point, then I’d want to buy it.” I look down and see how cheap it can get. It can get to about $12. If I buy it at $15, I’ve got three points on the downside and $15 on the upside, so I’ve got a 5:1 ratio. That turned out to be a good ratio – 5:1, three on the downside, fifteen on the upside, 5:1. Look what happens if you pay $17. If you pay $17, you’ve got five on the downside and a three. You’ve reduced your reward from if you pay $17, you only have $13 on the upside. You divide the $13 b y the $7 and you’ve only got two and a half to one or maybe three. You can see that by paying up a little bit, you take the reward risk from a 5:1 to a 2.5:1.

I learned to be very disciplined. I had the private market value, I had my worst case and then I’d buy at no more than 20% above the worst case and that gives me my 5:1. If I have a midcap, I might go 4:1 and if I have a really great Buffet franchise kind of company, then I would only take a 3:1 because you don’t want to miss them. It just came about through natural common sense, watching things in the market. Any investor can learn this. I do not know more than 4th grade math, but you don’t need more than 4th grade math to do these calculations. There isn’t anything when you do a financial statement that would take a lot of math. As a matter of fact, Benjamin Graham even said, “Whenever I see formulas that have a lot of sophisticated math in it, I distrust it.” That’s true. Think about an immigrant comes over, starts a business and makes a billion dollars. Does he know calculus? No, he can barely sign his name, but they make money. You know why? Because they learn the basic rules of thumb.

I have 100 different rules of thumb. Scott always tells me, “Dad, one of these days you’ve got to publish a book called Rules of Thumb. You don’t need all this high math, you don’t need all this education. You just need to know business sense. I’ll give you something that my mom taught me that you’ll get a kick out of. As I was graduating, I was very popular and very successful in my career in gymnastics, but I did very badly in school. I was getting worried about what I was going to do with my life. Everybody was going on to college and I didn’t want to go to college. I figured it’s not for me, so my mom says, “Arnold, what’s the matter? You look a little depressed.” I said, “Yeah, Mom, I’m trying to figure out what I want to do.” She says, “Well, what do you want to do?” I said, “I want to make some money.” I didn’t have any money, I was working at a gas station. She says, “Well, why don’t you go into business?” I said, “Business?” She says, “Yes, there’s only two kinds of people in the world. There’s the [PH 0:41:14] yecca and there’s the businessman.” I said, “What’s a yecca?” She said, “A yecca is a guy like your dad. Ask him any question about history, about music, about mathematics, about religious philosophy, he can answer. Can he make any money? Nothing.”

She says, “Now you take the businessman. Take me, do I know about religion, philosophy, music, mathematics? No. Do I care? No. Do I know how to make money? Yes. You want to make money,” – that was my career counseling – “you go into business.” I said, “Okay, that sounds good.” Then I thought, “Well, what kind of business?” She says, “What difference does it make? Business is you buy something, you sell it and you make a profit.” She says, “I only need three people – the person I’m going to buy it from, the person I’m going to sell it to and I’m in the middle who needs to make some money.” That got me to thinking about business, but it wasn’t until I saw the mutual fund business that I really got hooked. I was looking all these years for something to go into. As a matter of fact, you know how I got involved in the insurance business? I read this ad, “Start Your Own Business.” I thought, “That’s for me,” so I went down and interviewed and the guy gives me this big pitch about how great the insurance business is. You build your business and renewals.

I thought, “That’s great,” but I had a job. I was managing a print shop, I was the supervisor. I said, “You know what? I’d like to try this at night because I’m not sure I can do this. I have a pretty good job.” The guy says, “You mean you’re going to work your fulltime job and work at night, too?” I said, “Yeah, because I’d like to work more and then I can learn the business and if I like it, I can switch.” He says, “Oh my God, you’re going to be great.” I said, “Okay,” so he set me up, I went knocking on doors and after about three months, I got the hang of it and I was doing better than I was doing at the print shop, so I quit the print shop. Then I started selling and as I started analyzing the insurance business, I thought, “This is not good for the people, the kind of policies they want you to sell. They make them a lot of money, but it’s not the best for the people.”

So I started selling term insurance, but in term insurance you don’t make any money. That was another struggle that I had. I was selling the term insurance, not making any money and then the mutual funds fall apart, so I was in trouble. When I got into the mutual funds, I said, “Now I know I’m going to give up the insurance business. I’m going to go into this,” and then the market collapsed and here I am. It was a long, hard journey, but the point is you could do it.

Tom Russo: Yeah. Well, it’s a dynamic that I’m more involved with today probably than I was ten years ago. 2008 gave me an opportunity to rotate a vast number of my domestic only holdings, which actually had in some ways run out of rope for reinvestment and had been making value destroying attempts—not overwhelming but certainly important attempts—to expand through other businesses or other geographies in a way that wasn’t any value. In the collapse of the international companies in ’08 I resolved to lighten the portfolio with the domestic companies that lacked reinvestment naturally and struggled to reinvest and put more money to work in the internationals. Now they’ve done well and they’ve ascended to a very large percentage weight of the portfolio and in some cases they gap sharply up, such as what Richemont’s done over the past several years and they’ve become, by virtue of that, higher valuation—they’ve become a higher weight in the portfolio.

And one of the steps that takes place in that environment is that I will lighten up on something that’s become a higher weighted, higher valuation than where it was when I started the position. And the proceeds from that go to support just the opposite—a business whose business remains equally attractive to what I thought it was, whose share prices have come down and have been in the process of becoming underweight even as they become undervalued more. And so that’s the movement of portfolio funds and that’s an ongoing appraisal. As to the degree of sophistication and precision around which investment decisions are based in terms of valuation, I’d say that the metrics have been challenging because as I suggest, very often it’s the steps that consume reported profits that are the engine for future growth. And it’s very hard to get from a management team—it’s rare that you can—the extent to which their investment spending burdens current results.

But for me, as a measure of undervaluation PE, for example, may not be terribly useful because I may hope that Nestle spends aggressively to exploit the nascent franchise advantages and markets, the spending of which will reduce reported income. So Berkshire certainly—the second largest holding—has done a tremendous amount of investing. It destroys current income. So you can’t really look at a PE basis for Berkshire and with Nestle, I’d just as soon that they don’t maximize the E but actually take steps to minimize the E, which result in a higher PE.

So any attempt to sort of benchmark the portfolio’s value relative to expectations about what it means to be undervalued, given my preference for reinvestment—especially reinvestment with a current income burden—I kind of stumble. So I really look out four or five years and think whether or not if they continue to have investment opportunities and they pay off, what that might mean for the size of future, cash earnings is really what I use as my gauge. And that’s a subset of businesses that have the capacity to put that kind of money to work and so transform the business in which we invest in by just extending the franchise that we once began with.

Guy Spier: I will say that when I find myself looking at a General Motors or a Horsehead or the company in Argentina, the real estate, what happens in my mind, which you understand very well, is I have this rising sense of nausea, so I’ll be looking at GM and I’m thinking of the bankruptcy. I might even mention it to a friend and they’ll say, “Are you nuts? This thing just went bankrupt,” and my sense it can have so much hair on it, you don’t have that rising sense of nausea. You actually have a rising sense of excitement even as all of this hair comes out. You need to overcome a huge amount of resistance just to want to start reading it. I mean who would want to start reading the agreement, which I think you did, between the unions and the automobile company to see what’s actually in it. My reaction would be, “Oh my god, I’m going to read what’s in the union?” Now that helpful book, but just going to that rising sense of nausea, you don’t have it, do you?

Mohnish Pabrai: Well, actually, maybe this is wiring, but I actually do not find it exciting to look at Nestle or a Proctor & Gamble at 17 times earnings.

Spier: It just doesn’t do it for you.

Pabrai: I think it’s a negative because the thing is that these great franchises can turn out to be bargains just because of the amazing returns they can generate and that amazing growth. In some cases, they can go from being national to international. When I look at global established brands and they’re not under distress of any kind, the concern I have is how much money can we really make off this and what type of insight do I have that is so unique that 17 analysts following it for 17 years don’t have it? You miss some. For example, I’ve been a loyal customer of Amazon for a long time, I’ve been a loyal customer of Costco for a long time. I’ve always thought Amazon was an incredible business. In fact, Amazon is an interesting case to talk about because there’s a different way to analyze the business. Jeff Bezos is one probably on of the all-time greatest business managers out there. He’s an incredible visionary, leader and CEO. He’s taking Amazon into areas like if you look at Amazon web services. If you compare Amazon to Wal-Mart, for example, Amazon has lines of business, which are outside of retail, like their web services, their hosting businesses, all of that. He dreams up new businesses for them to go into. He’s probably capable of dreaming those up every three hours.

The areas the company can go into is wide open, but even if you look at the range of businesses they’re in today and you look at geographic expansion and just the number of customers they have, Amazon does, I think, $70-80 billion in revenue today. It is probably not outside the realm of reasonable probabilities that five or ten years from now it could be a few hundred billion, it could a $400-500 billion company. If you think of Amazon getting to something like $500 billion and if they put 3-4% of that to the bottom line, so they have 4% net margins, if you will, that would be a $15-20 billion cash flow producer, one of the best cash flow producers on the planet, if you will, and so what is that worth? At $500 billion, they may not be maxed out. Just look at the number of countries they operate in. it’s a small number of countries. There is a moonshot aspect, even now, to Amazon after all these years, but the flipside of it is it can also falter and so this is a difficult one. If things don’t hit me over the head with a 2x4, I tent to just take a pass. Something like Amazon, even though I can see the upside, the downside would dissuade me. I don’t see the margin of safety.

Rupal Bhansali: I think one example of how we can apply independent thinking in investing is to think about what investors are unduly focused on and to actually think about what people are neglecting because neglect drives opportunity in the marketplace. Currently, for example, there is such a fetish for certainty and visibility that people are willing to buy certainty and visibility at any cost. You take utilities, fixed income, consumer staples, because there is more certainty, people are overpaying for them, frankly. On the other hand, there are many sectors that are exposed to more uncertainty such as healthcare and technology, but you are paid for that uncertainty and so the question of independent thinking comes into play in terms of what you’re going to choose to invest in on behalf of your clients. It may not be popular to invest where there is a lot of uncertainty, but it may be the right investment decision from a risk/reward standpoint. That’s an example of where independent thinking can come into play.

Rupal Bhansali: You’re correct. It’s not an easy decision in terms of how much things can go wrong and I think, therefore, doing scenario analysis and probabilistic estimates is very important, which is something we do as part of our investment process. We can think about pessimistic scenarios to worst case scenarios and identify what would the business be worth even if a lot more things go wrong for some of these companies I’ve described? In the same vein, though, it’s also important to understand what can go right. Undue focus on simply what can go wrong and keep going wrong will prevent you from also understanding that there is something that can go right and it can actually go very right. Looking at scenarios, looking at the continuum that can happen in the real world for these businesses is very important and I think scenario analysis, therefore, will help in helping you accumulate the position, understand the downside potential, but also the upside potential of that name.

Rupal Bhansali: You make an excellent point. I think there are so many out there that think alpha can only be generated in the small cap space and frankly, because that’s been an accepted notion for a long time, every keeps looking for alpha in small caps and almost gives up looking for alpha in the large cap/mega cap space and so we’ve had a field day, frankly, in the last couple of years with companies like Toyota in Japan, GlaxoSmithKline in the UK, Roche in Switzerland, Johnson & Johnson in the US and I can give you a plethora of mega caps that have, frankly, got very good business prospects and became very undervalued.

Rupal Bhansali: Sure. If you think about what’s happened in the healthcare sector, after a decade of negative news flow where every media headline talked about patent expirations, reimbursement pressures, austerity and all sorts of negatives, R&D productivity declining, etc., the sector de-rated and it became very out of favor. Many babies were thrown out with the bathwater. There were clearly some companies that you should not have invested in because they clearly did not have an R&D roadmap, but some of the exceptions to those rules were companies like Johnson & Johnson, which had three divisions – consumer division, medtech division and the pharmaceutical division. All three of them were facing certain cyclical challenges, but from a secular standpoint, there was a clear pathway to success and the market was ignoring the improvements that were yet to come and extrapolating the deterioration that had occurred. That’s an example of a company which is extremely well-known. It is a very mainstream company both in terms of its business line and its stock and yet the stock was trading at extremely low multiples with a very high dividend yield and a strong balance sheet with a change in management, a clear pathway to multiple divisions [inaudible 0:03:43] ultimately that was available at a discounted price in market.

Tom Russo: Value investing is the camp that I guess I belong in if you were to categorize investors and that value investing simply says you’re looking to try to buy a business at some margin of safety that comes about because the price pays a discount—a sufficient discount—from value given—granted. That discount is what you can determine through analysis of the strength of a business, through its component parts, its segments and then value of the enterprise—coming up with a sense of what it’s worth and then backing up liabilities, adding in financial assets and then coming up with a per share value and comparing that to what you’re paying.

And that’s a very mechanistic approach but the real glue of investing, I think, is understanding what the cultures are in those businesses that can do something with that discount and make it actually mean something long term. And that means to say that a discount from value can reward you by just closing but the returns that you make from that closing are very time specific. If the discount closes in the first year of ownership you’ll make 100% on your money. If it takes seven years you’ll make 10% on your money. If it takes 14 years you’ll make 4%... 6% on your money. Substantially declining rate of return with the passage of time. So what you really need to do if you’re going to find a discount value to begin with and then hold it for a long time without reducing—maybe even increasing your internal rate of return for the whole period—is you had to find a business capable of reinvesting.

Howard Marks: I think it’s risk consciousness. I think that the great accomplishment in investing is not making a lot of money. It’s making a lot of money with less than commensurate risk and so you have to understand and be very conscious of it and control it. Know it when you see it.

The great investors, the people that I think are the great investors are really characterized by exceptionally low levels of loss, in frequent loss, infrequency of bad years. That’s one of the reasons why we have to think of great investing in terms of a long time span. Short-term performance is an imposter. The investment business is full of people who got famous for being right once in a row, but if you read Taleb, if you read Fooled by Randomness, you’ll understand that being right once proves nothing. You can be right once through nothing but luck. The law of large numbers says that if you have more results, you tend to drive out random error and the sample mean tends to converge with the universe mean. In other words, the apparent reality tends to converge with the real underlying reality and the great investors are the people that have made a lot of investments over a long period of time, made a lot of money and their results show that it wasn’t a fluke, that they did it consistently. The way you do it consistently, in my opinion, is by being mindful of risk and limiting it.

Howard Marks: If you went to the horseraces, would you always bet on the favorite? The favorite, assuming the crowd is intelligent, which usually it is, the favorite is the horse with the highest probability of winning. That doesn’t mean that the favorite is always the best bet. You might have another horse, which has a lower probability of winning, but the odds are so much high that that’s the smart bet, leaving alone anything specific that you know about the horses. The point is this is second level again. First level says, “Native Dancer’s going to win the race. It’s always won, so we should bet on Native Dancer even if the payoff is 6:5.” You put up $5 and if it wins, you get $6. Maybe the better bet is [PH 0:24:58] Beetlebaum, which nobody expects to win and consequently, it has a lower probability of winning, but if it wins, it’ll pay 4:1. It’s the same thing. You have to make investments where the risk can be assessed, diversified and where you’re highly paid to do so.

The book, I think, is full of explanation of why so-called safe, so-called high quality investments are not always and, in fact, maybe are rarely the best bet. That’s what this distinction is all about. We want to make intelligent bets We don’t want to invest in high quality or safe things because a so-called safe thing at bad odds is a bad investment and sometimes I think the world ‘quality’ should be banished from the investment business if you want to make money.

Guy Spier: There are studies that show that decision-making is so often not taken in the rational neocortex. The decision is taken somewhere deep, deep down in our mammalian brain that then is rationalized by the neocortex. In a certain sense, we have a model of how the mind works that is all wrong. The problem that we have is that if I do an analysis and I figure out that I need to go and buy XYZ stock and I go buy it, now it tumbles. There’s a whole bunch of emotional stuff that inevitably takes place. My view of my mind is that all the feelings of self-loathing and self-doubt and ‘I got it wrong’ and ‘this thing’s going to zero’ are capable of influencing my rational neocortex to now rationalize a reason why it’s no longer a good buy. What I’m really trying to do by that rule is to short-circuit that whole process. The problem is that in the moment, I’m not going to say, “Oh yeah, but this is just my rational neocortex rationalizing my feelings of self-doubt over the fact that this thing is falling,” because my neocortex is going to shove that thing aside and just say, “No, no, the world really has changed. This really is going to zero,” all of these things.

We need to have that rule in advance. I think what it ultimately does is it deeply affects what one ends up buying and I think perhaps the biggest benefit of that rule is that wipes out a whole class of investment. Any kind of investment where the price action might be the best and the first indicator of the real development of the corporation are thrown out the window. I think that unless you’re going to try and go after nonpublic information in biotech stocks, the first indicator that anybody who only has public information has that a new drug is not going to make it through the FDA is the price action, so you just cannot invest in those things. You need to be in situations where the value of the business, the first news that you have about the value of the business being different is the price action. Part of it is just cutting out those investments. The thing is it’s easy to just have that rule and take those investments out of consideration and every time one sees a biotech stock to ask the question, “Could I be blindsided by information I don’t have?”

Guy Spier: The final nail in the coffin was when I recently read the Harvard Business School has a case on Lululemon. I read the case without knowing the follow-on and I did it right. I didn’t go and read what had happened. I did my analysis based on the information I had. This was just before a new female CEO took over. My write-up was head for the hills, prepare for bankruptcy, prepare for renegotiating your leases, and prepare to massively cut the footprint.

And actually, the woman who came on board did a fantastic turnaround and sales tripled from the point at which the case ends and the share price more than tripled. That was just a confirmation to me as to how little I know and understand about retail. In that particular case for Lululemon, to have analyzed that well, the person analyzing it well would’ve really had to understand the nature of the buyer, the nature of the in-store experience and why this was different and special, and why this was set to continue to do what it was doing.

But what I saw was something that was extremely hard to manage. And for me that it maybe had worked right for a certain period of time but there was no way for me to tell how long. This store started at some regional part of Canada. And I think that each retail story is another story like that. Each one is targeting a specific mind space, a specific shopping habit, a specific kind of person. And some of them will bake through to being Wal-marts but predicting in advance which ones those will be is extremely hard.

You could just ask Bill Ackman with JC Penney [JCP] and the CEO from Apple [AAPL]. And Bill Ackman does a huge amount of work and he may still be proven to be right but it’s very painful right now. It’s a circle of competence thing. I think Joel Greenblatt has a sister who does retail investing. Maybe if you specialize in it and if you spend all day talking to people in stores and observing shopper’s behavior, maybe you could get good at it.

There’s no shame in saying one doesn’t need to invest in retail to make money. I’m an example of that because other than McDonald’s at one point, I don’t think I’ve ever owned retailer actually. That’s not true. The first stock I ever bought was Burlington Coat Factory [BCF], a retailer.

MOI: So Guy, you mentioned JC Penney there and Bill Ackman has talked about the retail turnarounds that they’ve been attempting so far not very successfully. But also about a real estate story there and even comparing it to companies like Simon [SPG] and others. What if a retailer owns a lot of real estate and you’re essentially getting the retail business for free or cheap as might be the case with Sears [SHLD] as well, would you then ever consider it?

Spier: The answer is John that my plan is to get through life without ever investing in a retailer and I’m sure I’ll be very happy. Warren Buffett’s plan was to get through life never investing in an airline and he failed to execute on that plan, and deeply regrets it. But his life would’ve been happier. I feel the same way about retail. I haven’t closely analyzed either JC Penney or Sears but there are various things that can really throw an investor for a walk in the park or a loopy.

When I first looked at companies like Tejon Ranch [TRC], another one was a big property owner in Florida, their name escapes me but they owned one-third of Florida. The first thing that one does is one applies a very conservative cost per acre and just says this thing is worth so much. You could value an oil company based on all the oil that’s got on the ground but there’s a limitation to how quickly they can take the oil out and who they can sell it to.

In the case of a landowner, if I own one house then that’s a relatively liquid asset. If I own one-third of Florida, that’s an extremely illiquid asset and exactly how much of it I can develop at what value, the name escapes me, but the company I’m thinking about ended up being a very good short thesis by David Einhorn.

MOI: St. Joe.

Spier: St. Joe Corporation [JOE]. I remember, people that I respected telling me that it was great to be long at St. Joe until David Einhorn did his presentation. The issue with the real estate for retail in the United States is that this is not high street shopping the way you would have it in London or in some European city where your real estate is centrally located. What you’re talking about is very dedicated spaces sometimes self-standing in a shopping mall with roads driving up to them.

There’s a questionable number as to what you would have to do to repurpose that space for another person to come in there, if it is at all possible for another person to come in there, for another corporation to come in there. Different retailers are very, very specific about the space that they require. Starbucks [SBUX] or McDonald’s is going to put up a box and the kind of real estate that Sears has is just not appropriate for Starbucks and McDonald’s.

So you have the repurposing of the real estate, the fact that it’s sitting somewhere on the edge of one great big shopping mall. As quickly as a car can drive to one place, a car can drive to another place, if that shop (inaudible, 24:53) empty the cars don’t drive there. It’s not like it’s the center of town where there’s definitely somebody who’s going to fill the space.

This is really based more on conversations with smart people then verifying this for myself, but people don’t look at the contingent liabilities of liquidating that real estate, of shutting down environmental liabilities, maybe severance pay, all sorts of things that you need to do to potentially abandon the property. The idea that this residual real estate is worth something, I’m not Bill Ackman, Bill Ackman will say that’s a very nice (inaudible, 25:33) Guy, let me tell you the realities of how one makes this real estate valuable. But that’s why Bill’s invested in JC Penney and I’m not. We’re not trying to be experts on all things. I would also say that if you do something like you move from the United States to Zurich, if it’s hard in the United States then it’s even harder in Zurich basically.

MOI: It seems like the values of that kind of real estate and the health of the retail business actually correlate pretty highly. So when you would need to rely on the real estate values the most (inaudible, 26:14).

Spier: Is when the retail business is as interesting. That’s an interesting correlation I didn’t think about. It’s very, very interesting. But I’m actually trying to sell a house right now in about fifty kilometers outside of New York City and it’s been a lesson to me in how variable real estate is. That’s a new distinction that John just gave which is absolutely fascinating. The value of the real estate is highly correlated to the value of the underlying retail business.

When retail’s good, the real estate is worth a lot more than when retail is not good, or when the specific kind of store that the real estate is purposed towards is doing well, so if big box department stores are doing well then your land is fine. But if what you really want is a small box McDonald’s and Starbucks then the big box spaces are not doing very well. It’s not just where it’s located but it’s the kinds of price cycles that you get with different locations.

If you own any kind of piece of real estate in central Manhattan, your pricing variability through economic cycles is not that great. When you own a piece of real estate, an old house fifty kilometers outside of New York City, there are market cycles where you just can’t sell it for any reasonable price. The only way to sell it would be to put it at 50% of replacement value.

Guy Spier: We should never be misled by the indices. Just take the S&P index, it just takes companies by large above a certain market cap and just puts them in there. But that doesn’t mean that we should be in there. First of all, here’s one basic fact about healthcare that makes it already from the beginning a very iffy place for anybody who’s half smart and half moral to invest in it which is that at some point, somewhere in your business in some way either to a large or a lesser extent, you’re going to be making decisions where on the one side you have the health well-being and life quality of people, fellow human beings. And on the other side, in a directly opposed zero-sum decision, you’re going to have the profitability of your business.

That is just a moral position that to an extent that we need it in a capitalist society, that’s fine, but if I have a choice not to have to be involved in that in any way, I’m much happier. Who would ever want to be in a business where even just as a shareholder where our decision to make a high return on our capital which is what we’re in business to do directly impacts the life longevity of somebody? And so that rules out any HMO because when HMOs are in the business (inaudible, 29:57).

There are so many treatments that different people could have for different things and if they want to pay for them privately, no problem. But what most people want to do is they want to get some of their health insurance dollars back from the HMO and if the HMO wants to send some money back to the shareholders, they at some point have to say no, you can’t get this treatment. I really don’t want to be the guy who does that. In a certain way, an HMO takes money and on the one side runs a network of doctors and tries to convince its user base to use that network of doctors and network of services to the minimum possible.

There’s one area of healthcare where that effect is attenuated. I was switched on to it by reverse engineering, the Berkshire Hathaway investment documents. One of the Berkshire managers, it’s unlikely to be Warren Buffett, has an investment in this company DaVita [DAV] and DaVita does dialysis. What is very interesting about dialysis and it can be distinguished to the vast majority of healthcare, so one thing is making decisions where somebody wins and the shareholder loses or vice versa is not a great place to be.

The other thing is that how much healthcare should you give somebody? How long is a piece of string? The vast majority of healthcare has a very unclear or negative ROI when looked at from the value of a human life. In a certain way, we want to live in a healthy and just society in which people have as much as possible of the good stuff. And hopefully, the cost of the good stuff keeps going down and we can provide more and more of it to people. But much of healthcare from a societal standpoint is not going to increase the taxpaying ability of that society. It increases the quality of life of the people who receive it.

So if you get, on the one extreme, if you have plastic surgery or if you have an injury healed, it doesn’t actually change anybody’s productive ability. It turns out that dialysis does change your ability to be productive. You take people who would not be able to be productive members of the workforce and by giving them dialysis you put them back into the workforce, you give them a life and you enable them to earn money and pay taxes. There’s a higher ROI in that particular part of the healthcare sector.

There are two companies – in the United States it’s DaVita and here in Europe it’s a company called Fresenius Medical Care [Xetra: FME] who have huge market share in the dialysis market. And those guys are very smart. They focused on one specific sector that has a high ROI. But even then, DaVita was recently in the United States hit with a key term action where still an important payer is the US government or Medicare, or the Veterans Administration and it’s just too easy, and the incentives are too high to cheat on the way you get reimbursed for some of the stuff that you do – again, problematic from a business perspective.

The only other place that is left is the drugs business. My best understanding is that pharma is going through some substantial changes. I don’t know what it looks like on the other side but we had an era of twenty or thirty years where there’s very high returns to what they call wet chemistry and it seems like that era’s come to an end. Exactly what the economics of pharma will look like going forward is at least a question in my mind.

I thought that when I started investing that all I had to do was find some, one-newspaper towns and invest in them like Warren Buffett did, and then maybe add one or two TV stations to the mix. We’re in a very different world. And to go through life without investing in retail or healthcare is just fine, not a problem.

Guy Spier: When the government is 80% of your revenue, you care a lot about what the government thinks and you better make sure that the government is happy with you. By the way, that is the same with healthcare. It’s the same with a lot of industries. In a certain way that’s true with the power business as well. Berkshire Hathaway is (inaudible, 35:26), this may not be the government paying your bills but the government effectively does by regulating you and they can put you out of business, and they can change your economics at the stroke of a hat.

In the same way when you run a healthcare company, you are making decisions at the margin between high quality of care and high profitability. When you run an education company, you are doing the same but quality of education versus profitability. We all want as much education and a much quality education for all of the members of our society as possible. Unfortunately, it is rationed. Somehow it’s morally a lot less unpleasant or a lot more acceptable if the government is rationing that education now even if it’s doing a very, very bad job of it than to have somebody who has the profit motive to ration that education out.

One of the things that stick on the throats of many of the people who’ve examined the for-profit education industry is that for-profit companies invest in what matters. Having large, beautiful libraries for students to visit or beautiful sports fields, or campuses for that matter is just not where it’s at for the for-profit companies because they’re about delivering exactly what the person needs to do well in the workforce.

On a certain level, we can all understand that that’s right. On another level, those of us who had wonderful college educations and many other members of society feel that there’s something morally wrong about a company that is deciding to make more money by depriving the students coming to them of a library or of sports fields, or of a beautiful leafy green campus.

But the United States government effectively is responsible for 80% of many of these companies’ revenues or more and there is a very real and fundamental reevaluation of exactly what kind of relationship the US public wants to have to its for-profit education companies. The business model for an Apollo [APOL] or some of the other companies going forward may be very different to what it was because there’s a fundamental shift in how the US Congress decides that those companies should operate.

They might come along and say we’ve decided that it’s fundamentally unjust for students to be going to a college that doesn’t have a leafy green campus and a library. We’re going to legislate that in. You’ll only get a title for a funding if you have a leafy green campus. There is no end to the amount of dollars that a leafy green campus and beautiful library spaces can cost.

Apollo Education is unbelievably cheap relative to its former business model. But what it looks like relative to its upcoming business model we don’t know. There’s no question the pendulum has swung very, very far. But pendulum might be the wrong model. It might be where the apple has dropped and it is never going back on the tree again. It is a very real and valuable, and honest debate that should be had.

But what one can come down to on Apollo is to say look, at the end of the day the American public is going to accept a model in which high quality education is delivered in a very efficient model that is very different to leafy green campuses, and we want that as part of the system. Obviously, the for-profit education companies are doing their very best to put that view into the debate. Exactly how it falls out, where I come out on that is now I’m making a bet on the political process rather than a bet on how things will play out.

Dave Sather: Well, when I first got out of graduate school and I was working for Paine Webber, I was very thankful I got to go to graduate school and get my MBA, but I wish somebody had knocked me on the head and said, “Hey, if you’re going to go spend all that money, you need to figure out who Warren Buffett is and figure out why he’s successful and what he does.” Very early in my career, I started reading. This guy was so successful way back then and it was obvious that something about the way he did things worked very, very well. Fortunately, I could always get his annual reports. Back then, I could call his office and talk to his secretary directly and ask her to mail me an annual report and she would. I didn’t have enough money to buy A-shares. Those were the only shares that existed back then, but it was obvious that he just had such a common sense approach about investing and it really made a lot of sense for our clients.

Texas Lutheran is where I went for my undergraduate and it’s a very small school. It’s only a little more than a thousand students. It’s really got a great business program and I serve on one of their advisory boards for the business program. One day, we were talking about internships. I started thinking about the nature of money management and the critical thinking process that goes into it and realized that this might be the type of platform you could actually build and gain momentum. I pitched the idea to them and my first summer, I had three kids that just sat there and read nothing but Warren Buffett books all summer, kind of outlining them, The Intelligent Investor and The Warren Buffett Way, Buffettology, Interpretation of Financial Statements, all those types of things. Then in the fall, we got five students and five grew to eight and eight grew to fifteen. Now it’s going into its fourth year and it’s really gaining a lot of momentum.

The trick, though, for me is recognizing that a school this small, very few of our students are going to became portfolio managers. Instead, our approach has been far more to say, “Okay, how does Warren Buffett look at a company?” He’s very famous for saying, “It’s got to be consistent, predictable and I’ve got to be able to understand it.” Really, if you read a lot of his stuff, he has great discussions about return on equity, return on capital, debt issues, debt divided by net income, just great fundamental analysis. The approach of our intern program was to use those characteristics to teach kids what is the difference between an average company and a really great company because if they understand that, no matter what company they go to and whatever industry they work in, they’ll be able to go back and say, “I know that our debt is X and the kind of company Warren Buffett looks for is far different, fine,” and that to me gives them a real competitive advantage when it comes to competing against other universities and students from all around the world.

Simon Caufield: I'd love to own those businesses, I really would. You have so much going for you, time is on your side, if you pay a bit too much for them, well then the intrinsic value grows into the price that you paid. None of that's true for Graham style stocks. You hold them forever which means you benefit from deferring the tax. There are lots of reasons to, theoretically, to prefer the kind of Buffett style stock but to my mind at least, the real genius of Buffett, I mean in part I think it was the free leverage from the insurance float, that was pure genius but the second thing is really as a business analyst, to know that Geico would be able to sustain its cost advantage over decades. That’s amazing. I mean, there are low-cost airlines, there are other low-cost insurance companies around today, a few of which look like they might have sustainable advantages but to bet, to make a bet at a price of 20 or 25 times earnings that you're going to be right for the next 30 years, that's a huge bet and I admire people who do it and obviously admire Buffet for having done so well at it at it but in some ways I know that people do talk about Buffett’s skill as a business analyst but I think in some ways we don't talk enough about it because I think that’s part of his real genius.

Paul Lountzis: Mr. Buffett always talks about what’s knowable. He simplifies everything. People really great at things tend to simplify. As we were talking earlier, Oliver, when you watch Roger Federer play tennis, he makes it look easy or Phil Mickelson or Tiger Woods in golf. Well, it’s really not that easy and he’s the same way in investing. What I would say is he always talks about what’s knowable and what’s important and focus on what’s knowable and what’s important. He can crystalize a few key issues. He can look at anything where in his circle of competence, which he refers to it as, and always identify the key triggers, the key points. I would also add to that. Not only what’s knowable and important, but also what is unique about that company or that business that’s not easily replicable by others? What’s unique about them? What can they do that others can’t – low cost, better product, better people, a combination – and then whatever it is that they can do better than others, is it something that you can replicate and expand going through a runway and keep building the business doing that whether it’s Starbuck’s, Progressive or Geico or whatever.

The way he looks at investments on an everyday basis, he’s always thinking, “What’s unique and different about this business? What’s misperceived by others? What do I see that others don’t see,” but always underlying that thought process is a foundation of safety, that it’s selling at a meaningful discount to what he thinks it can do two, three, four and five years out. He has a really long-term horizon, which is also a big advantage.

Paul Lountzis: I think it’s incumbent when you’ve been that fortunate, that blessed and that lucky as I’ve been, when you learn something, to try and share that and let others benefit from that.

Mr. Buffett’s writings, if you just read his interviews and his annual reports and all that, it’s a fundamentally incredible, academic investing lesson, but more than just investing, it’s also about life. A lot of people miss out on many of the things Mr. Buffett has said on how to live your life. Many of those quotes that we’ve talked about, the inner scorecard and those have had an even greater influence on me, surprisingly, than even the investing knowledge that I’ve gained.

MOI: Tell us more about the outer/inner scorecard.

Lountzis: That came from his father who Warren, Mr. Buffett, idolized. His father was an extraordinary man and he always lived by the view that you should always do what you think is right no matter what the consequence is. He had an inner scorecard that told him what was right and what was wrong and he defined it. It was self-defining. He really didn’t worry about the noise outside and what others thought. If he knew that what he had done was right, it didn’t really bother him what the outer scorecard and what others said or thought. He kept to his values and his principles. It reminds me a lot, Oliver, of I played a high school football game once and I played terrible. I had great teammates and because of that, we won, but not because of me. I was terrible. That weekend, I was 16 years old – it was 1976 – and there was a great quote in Sports Illustrated that I read and the quote came from Pakenham Beatty’s Self-Reliance.

It’s a really great quote for quarterbacks or for money managers. It was something like, “By your own soul, learn to live and if meant for it, you take no heed. Have no care, sing your song. Dream your dream, hope your hope and pray your prayer.” The point is you’ve got to have to think independently and you’ve got to live with a value system that you’ve created that works for you that you’re comfortable with. It can’t be situational, it has to be pure. It has to come from you and it’s what’s inside you. The external stuff doesn’t really matter. How people perceive you, if you feel you’re a high-quality human being and you’ve done the right thing is really what it’s all about. In closing, I just find it really ironic in spite all that I’ve learned from Mr. Buffett on investing and other things, really learning about life and the way he’s lived and many of the comments and quotes he’s given from the inner and outer scorecard to generosity to giving away his money to living very simply despite his enormous wealth, I think those are wonderful lessons. The lessons I’ve learned about how to live are even more profound than how to invest.

It reminds me of a speech that I recall that he gave at the University of Florida in 1998 and he told the class that he wanted to do a deal with them. The deal was that he was going to allow each member in the class to pick on of their classmates and collect 10% of their income for the rest of their life. He really started thinking about it and he said, “Are you going to pick the one with the highest GPA (grade point average)? Are you going to pick the highest IQ? Are you going to pick the highest SATs, highest GMETs?” The reality was what it really came down to, they were going to pick the student or the classmate that was the most honest, that was dependable, that when they did group projects he shared the credit, that when things went wrong he accepted the blame, that he or she would do what they said they would do. He went on all the way down all these qualities and the irony was all these qualities are qualities that we can all take on and adopt ourselves.

Now we all try and none of us are perfect. We don’t always succeed, but I found that to be an extremely thoughtful and interesting way of looking at the world and that has nothing to do with investing. That has to do with trying to be, trying to be a first-rate human being. That really, really impacted me. Again, that was 1998 when he gave that lecture. I think while his investing career, his legacy, everyone knows about his great investing – maybe the greatest investor that’s ever lived – people know about the enormous wealth that he’s created, but a couple other things that really stand out are what an extraordinary teacher he’s been to allow others to read and learn and grow from his experiences, how many people that he’s inspired to get into investing. I know I would fit in that category. Then, finally, his generosity by ultimately giving away the preponderance of his wealth back to society. I think it’s a pretty extraordinary life.

MOI: On that note, Paul, I want to thank you so much for taking the time to go through these wonderful quotes from Warren Buffett with us today.

Lountzis: Thank you for having me, Oliver. It was my pleasure.

Jeff Matthews: The biggest secret and I call them business and investing secrets because that’s what gets people to read the book, they think there are some dramatic secrets out there that they don’t know. The reality is Buffett’s been talking about these things for decades.

Every year he has the meeting, every year he writes his shareholder letter where he talks about what he’s done, why he’s done it, what went right, what went wrong. And he talks about things that are bothering him like a few years before Bear Stearns went down the tubes two he wrote about derivatives. He wrote 22 paragraphs on derivatives in his letter that year, that was 2003.

He’s been telling us exactly how he does things and why he does things for decades. There really are no secrets but there are keys to his success and these are things that every investor should at least understand. But the biggest thing I learned was coming to Omaha and that’s what surprised me the most. That was the biggest learning experience I had was when I actually came to Omaha. Because as I said, I’ve been studying his letters for 25 years, I‘ve been reading transcripts of the meetings in Outstanding Investor’s Digest before they got on to the internet as they do now.

I figured I knew everything. Why come out to Omaha to hear all this stuff because we’ve already heard it before? But when you come to Omaha to come to the meeting, what you learn is how important the shareholders are to all of these. That’s the real hidden secret, it’s the shareholders. Buffett has talked for years about having quality shareholders and that’s what he’s got, and that’s what enables him to do everything else that he’s doing.

Think about this – when he bought Burlington Northern Railroad, he spent $45 billion. That was the total commitment of capital for Burlington including the debt that he assumed and the stock that he bought, plus the stock he already owned. $45 billion in one day and 20% of Berkshire’s assets went into Burlington Northern overnight.

I don’t know if you remember what happened to Berkshire stock that day but nothing happened. Nobody panicked. Nobody freaked out. Nobody said what’s he doing? Why do we own a railroad? Because Buffett shareholders are so well-educated about what he’s doing they understand what he’s doing.

They figure if he’s buying a railroad, and he’d been accumulating Burlington for a couple of years, so he’d been talking about the railroad business getting better. When it came time to committing $45 billion to it, they said alright if that’s what he thinks, okay.

But can you imagine what happened at GE [GE] if Jeff Immelt woke up one day and said we’re going to spend 20% of our assets which is $120 billion in their case. We’re going to spend a $120 billion, 20% of our assets on a railroad. Can you imagine what would happen to GE stock? It would be down 20% before you can even sneeze.

What Buffett has done is he’s accumulated shareholders over the years that let him do what he wants to do. That’s a big lesson for any investor because if you have, whatever your style is, if you run a hedge fund, a gold fund, a bond fund, if you’re a currency trader, whatever you’re doing, if your investors aren’t with you the way they’re with Buffett, if they’re not totally on your side, you’re going to have to manage them as well as your assets.

You’re going to be worried about what are they thinking? Am I doing what they want me to do? How did I do? They’re worried about my performance today. What am I doing? I got to do well for them. And because so many people operate that way where they have investors that don’t match what they want to do, they have investors with very short time commitment, a lot of the money that’s managed today has a very short term time span, and it’s too bad.

If you want to really learn something from Warren Buffett, it’s all the stuff about buying a company with a moat, with honest management, with high return on tangible capital, with free cash flow, all that stuff is good. But if your investors aren’t on your side, you’re going to have trouble doing what you want to do because you’re going to have to answer to them. That’s what coming out here has really opened my eyes to. That’s the secret sauce to all this.

Timothy Vick: More and more, I learn this value of just having good managements. It’s not something that I would have thought about twenty years ago when I first got in this business when you wanted to just analyze everything in terms of spreadsheet metrics and finding good companies that way. It really focuses on management and the team that’s below management, and the culture that’s built up.

Berkshire exemplifies this. They are the top of the mountain in terms of giving us the direction and being the guiding light for how to run a successful business. And every time I leave Omaha, I just think about how do I find another Berkshire? Are there other Berkshires? Who’s aspiring to be Berkshire? Who can do it? Who has the ability to do it? Who’s got the management team in place?

Berkshire has set the mold and now I want a lot of the investments in my clients’ portfolios to look like. So I’m looking for more Berkshires in my future. Every year, I get a little wiser in identifying the tools that allows me to find these Berkshires.

Christian Ryther: He saw that the industry had changed. From maybe the 1920s to fairly recently, the Interstate Commerce Commission regulated railroads so that they couldn’t make money and it was unprofitable for them to reinvest and then they figured out that’s a terrible idea and that’s going to kill everything, so regulation for railroads improved and then they started gobbling each other up. The barriers to entry in this country mean that nobody’s going to build another railroad and Buffett figured that out. I can say that in hindsight, but I remember I was in business school when that happened. Professors were saying, “Oh, he’s lost it.” That’s why Buffett’s Buffett because he has done everything right. The guy is amazing, he gets better. He’s able to identify these transitions when they’re really transitioning from a mediocre business to a great business and identifying the structural reasons for why this is a great business and why that will not be attacked.

You take an airline where you get consolidation, but I’m not going to touch that because for me, you can still build an airline in this country if you want to. If you have a billion dollars or can borrow a billion dollars, you can do that, but no one is going to build a railroad. Seeing that in advance, I think I don’t want to do it. I think that is such a seductive idea because you feel like such a genius when you figure that out that you’re likely to figure it out when you haven’t and I say why go down that road when you’ve got spinoffs? You don’t need 50 great ideas, you don’t have to be the genius. You just have to get the ones you pick right.

Chuck De Lardemelle: But I used this as an example of how sometimes you need to dig into the numbers to truly understand the franchise value of the stock.

And I would argue that the genius of Buffett when he bought Burlington Northern was similar in the sense that if you looked at Burlington Northern at the time and if you read Charlie Munger’s comments as well, he explains that for the longest time both Buffett and Munger hated the railroad business.

And indeed, I remember Jean-Marie asking me to look at Burlington Northern in the mid to late 1990s soon after I joined SoGen. And I was struck by the low returns, by the fact that they were unable to raise prices.

What both Buffett and Munger saw was the ability after consolidation of that business to raise prices and they also understood the return on incremental capital i.e. you add a rail car to the train, that incremental return is phenomenal. And it’s important to understand in any business more than what the stated return on equity is, what the incremental return might be in the future.

But the key turn for the railroad industry was pricing power and that happened around 2000, 2002. Suddenly, you see the price per rail car going up, the ability to pass through a few surcharges to clients. And my hat to Buffett for seeing that turn and taking advantage of it.

Guy Spier: That chapter comes towards the end of the book and it’s come after the financial crisis and after my lunch with Warren Buffett. Both the lunch with Warren Buffett and the financial crisis, which came after lunch with him. Anybody with half a brain cell would have to completely rethink what they were doing. It forced me to rethink what I was doing and there were a few things that came together. One is that here’s absolutely no way that I knew that I could match Warren Buffett in terms of his intelligence, but also his dedication to research. I saw at the lunch with Warren Buffett that he was not forcing himself, he was not pushing himself. He was being himself and I knew instinctively that I had to be myself. The one factor in pushing me to rethink what I was doing was the realization that I could never match Warren Buffett in those attributes. Then at the same time, we had the black swan of the financial markets and the understanding that really came home to me that I really had to junk all of my economics and much of my business school education.

The world is a complex, adaptive system. There are avalanches that will happen, there are unpredictable things. A butterfly flapping its wings in China will cause a storm every now and then in the United Sates. I realized there’s this unpredictable nature to the world that when combined with my lack of my mind, which cannot even start to encompass all that’s going on in the world, it gave me a very, very different understanding of how I needed to manage myself in order to become a better investor. What I realized that I could match with Warren Buffett was these self-management tools, management of my process, management of how I go about doing things and so I really started doing that after 2008. Well, after this financial crisis in 2009 and it’s a work in progress. I think I have some powerful insights. Some of the insights are valuable for everyone, some of the insights may only be valuable to me and that’s up to the reader to decide. I don’t know if that’s a good introduction, John.

Guy Spier: I brought up to you the book, The Billionaire’s Apprentice, and one of the things that I said to Mohnish, John, was that I was glad it wasn’t just the Jews, the Bernie Madoffs of the world who were doing what they were doing, but just in the context of that, Lee Kuan Yew, in his book, One Man’s View of the World, talks about America being an amazing place to live, but he talks about how if he wanted to live somewhere, he’d actually go to the UK. I guess the Indian experience in the United States has been an amazing experience. Of course, it’s a broad experience. There have been successes and there have been also some people who have engaged in criminal behavior, but maybe you can just give your take on having immigrated to the United States from India with your background and what it’s done for India, what it’s done for you.

Mohnish Pabrai: I would say that people say, “America is an idea,” and I think it’s an incredible idea. I’m so glad this idea exists and I think it has a physical presence. I love America for so many reasons because so many of the things that are possible for Americans and immigrants and anyone in the United States is not possible anywhere else in the world. I’ll give you an example. I finished high school in Dubai and I still have friends that live there. One of the things that impacts your opportunity set is how big the country is and how big is the market. You can be as smart as you want in Dubai, but you basically have limitations because of boundaries and all of that. The United States just has amazing advantages in terms of size and going across two oceans, etc.

Spier: How you can scale up.

Pabrai: Not only that, but then on top of that, you overlay. Incredible natural resources and you overlay on top of that an incredible approach to developing human resources and an incredible openness for anyone to come in and be able to do their thing. You look at a company like Google. It doesn’t happen if you don’t have migration from Russia, so we have all these amazing advantages in the United States. I just think that there is no other country on the planet that can come close. In fact, I feel now that the United States is the emerging market. I think people start looking in all the nooks and crannies for emerging markets and where the growth is going to come from, but I think America has so many intrinsic strengths and those strengths are getting more and more prominent. For example, the whole Shale Gas Revolution, I think that’s a huge tailwind for the United States. Having all the leading universities, huge tailwind. Still a huge importer of incredible talent, huge tailwind and if they get immigration fixed, those tailwinds get even stronger and no other country has those advantages.

Spier: I think you’re right. You did miss out a few universities outside of the United States.

Pabrai: Absolutely, there are good schools. ITT in India is great, but I’m just saying the collection that you have in the United States is just incredible. I was talking to one of my Pakistani friends and he was saying, “Mohnish, you can go to just a place like Orange County and the number of pilots you would have in one county in the United States would probably exceed all the pilots in Pakistan.” I’m just saying the strengths of this country on different fronts is incredible.

Howard Marks: What we’ve tried to do is build a business, serious business, which has business aspects that satisfy the client and not just good investment performance. We deal with institutions that want things other than just good performance. They need transparency, they need reliability. They need integrity and all those things. There are people – I call them three guys in a desk – who can just bringing money, sit around the desk, have a mysterious nontransparent process and put out a statement every year which says, “We’re up 40%.” They don’t need the other stuff. Probably they won’t get sovereign wealth funds and state funds of the world because they don’t satisfy their need for things like transparency, but they can be quite successful assuming that they really earned 40% when they put out a statement that says they did. I came up the institutional side of the business and I’m used to dealing with pension funds and endowments and sovereign wealth funds and they want other things.

The other thing is that it all depends on your personal approach. To me, it’s very important to not only have excellent investing, but also take the high road. I’m proud of Oaktree’s performance, but I’m proud of the fact its financial success has been accomplished on the high road. I guess there are probably some people out there who don’t care that much. We make certain ethical statements in our business principles that probably other people are indifferent to, but we wanted to go that way.

Tom Russo: First and foremost, I’d say I’m unusual because if you go to a Wall Street gathering with the head of Nestle, the head of P&G [PG], the head of most of these companies, and you asked all assembled what they want to go home with, they will uniformly say they’d like to go home with assurance from the company management that they would figure out ways to forever reduce working capital, and they’d like to see some assurance that the cash flow conversion ratio of those businesses will exceed and stay above 100 forever.

I go with entirely a different mindset which is I’d love the businesses to say this – we’re going to be investing an enormous amount of working capital because we’re rolling out the business. And when you do such in developing and emerging markets, remember that working capital is a two-sided calculation.

And on the one hand, if you don’t extend the terms to your retailers and build receivables, your retailers in a very fragile environment starting out which is really the retailer is a village hut or house that happens to have Doves, Lifebuoy soap on the front window sill and then they have twelve sticks of soap, that’s a retailer provided by Unilever through their process called "shack tier" because of which Unilever gets terrific corporate social responsibility credit with the union government.

There are 700 million Indians, they live in the rural areas underserved by the hypermarkets, and Unilever’s job is to make sure that in that market as vast as it is that they somehow get the product to the closest point of consumption. They can’t do that if they’re at the same time forcing the vendor to have terms that mean that they can’t hold stock. And if they’re doing that then that starts to weigh on the ability for them to cut working capital.

At the same time, they can’t really stretch out their suppliers indefinitely because the suppliers are vital to delivering safe products that don’t kill people and they need to have enough resources at their command that they can do things right and not cut corners because Unilever has a global reputation.

All that I’ve said about this particular case having to purchase bars of soap, you could substitute Nestle and call it the Maggi business that they want to have one little sleeve of Maggi at that same village house alongside that bar of soap. They might want to have one sleeve of Nescafe at that same point of retail.

To get both those there, you can’t pressure your suppliers as much as you would in the Western markets where everybody is large scale and mature, it’s just a question of who bears that risk of financing.

In the case of emerging markets, you have to ensure in stock, you have to ensure high quality, that’s going to require investment and working capital. And so when our companies are asked repeatedly by the investors assembled, the sell side often, about what plans they have for reducing working capital, my urge to them is to tell them nothing. We want to invest in the long side of our business.

Flipside is the property plant and equipment. That’s a little more difficult because as you can imagine it’s very lumpy especially let’s say for Nestle where the plants are either dehydrated milk, dehydrated culinary or dehydrated coffee.

Each of those businesses has exactly the same structure. It costs $350 million, it’s a tall structure that vaporizes the initial product then it reconstitutes to the dry format. Its $350 million a copy so you’re not going to willy-nilly drop one of those at a market that you think will come along over time.

You have to be much more strategic about how you use the existing facilities and increasingly how you then use mixing facilities in regions and ship bulk to the regions where the product is finished for the local tastes.

It’s a story that was told to me by the CEO of Nestle and it specifically pertained to the Brazil operation. And they have an actively growing Northern market which has historically been quite poor but it’s moving up quickly, and all the resources are in the South so Nestle has orchestrated it, and the CEO is extremely engaged with the details of this, a system whereby a bulk goes up and is processed local to the local community.

Along the way they save taxes because the finished goods as they pass through states have to bear incidents of VAT taxes, and by setting up bulk commodities, they don’t bear those taxes.

By setting up bulk commodities, the trucks which can hold five tons get to travel with five tons, and if they were finished goods they would bulk out before they weigh out. They’d send trucks up with only a ton of material and so they’d have five times as much transportation cost and there are a whole series of things.

Nestle came up with these effective solutions in part because they were empowered by the information system that I mentioned that went into place ten years ago under the old CEO to create a lightning fast capacity of an equivalent fleet of small boats even though at the heart, Nestle is in fact a battleship. And so that’s a terrific example.

I met with management in Sao Paulo just a couple of weeks ago with the country head and the CFO of the parent company, and the way that they’re organized by geography plus by line of business means that they bring the best resources to bear on each market with the local phase.

In this case, they are celebrating the launch of KitKat, third time that they’ve tried to launched it in Brazil, twice it failed. This time it’s received terrific response and it’s in part because of the company’s dedication to the internet, oddly enough.

They have invested a substantial amount recently in something called the digital activation centers at Vevay and the commitment to get the product line off into digital space has rewarded them recently with Google naming the most recent android platform, KitKat.

And that buzz created a youthful spirit around the brand that allowed it to be launched yet a third time in Brazil where they remixed the chocolate a bit, changed the wafers a little bit, and capture that buzz that came out through the social network for it becoming identified with Google’s most modern android platform, and so finally, this big success.

Brazil is a $5 billion business for Nestle. It’s a huge business, a very profitable business. And it along with the other components of BRIC is a crummy market right now in part because of the natural resource length that Brazil has to China, China slowed down, it means Brazil slowed down which means that the prospects for Nestle in both markets today is less good for today.

But the stuff that the President-CEO of the company talked about how they’re taking advantage of the growth in parts of the country in a way that retains capital flexibility but addresses all the components of going to market thoughtfully is the return of information and the return that they get from being smarter than the pack.

It’s funny, part of the story about China cleanse, you think about the most recent data point which is the release of Apple’s [AAPL] numbers last night. It’s all about China, Apple, iPhone 5C sales, this and that, and you see what happens is when the market goes all on one side of the boat, whatever it is, it leans over, the other side pops up.

In this case, this effort to try to get everything away from the developing and emerging markets has created the kind of investor allure of a company like Apple with a really strong domestic franchise.

And on top of that with a technological buzz which is of interest to the markets today, and suddenly they stumble, and the markets move capital so heavily back to Apple in the course of twelve months, and that capital that’s been flowing back to Apple has been coming straight out of the emerging markets because who wants to be involved with businesses in markets which are knowably trouble when you have something that’s as obviously easy as an American-based and cash-rich and fast-growing, certainly Apple.

And of course, it doesn’t happen in terms of the kinds of companies that we have that have straddled the international world especially the emerging markets. I spoke at an interview this morning for Bloomberg on Phillip Morris and the tobacco business, and as I said earlier the two companies that are internationally exposed are the ones that have had the worst performance.

And yet the world over the last fourteen years has seen in the top four countries including China, Russia and Indonesia, you’ve seen doubling of the cigarette consumption over the past ten years, maybe fifteen years.

But that led to an extraordinary global transformation in the developing and emerging markets at the same time as the U.S. market for example has gone from 500 billion cigarettes a year down to 200 billion, just over 200 billion, and markets like Germany are down on average of 55% from where they were just two decades ago. That’s the world that we occupy.

But the businesses have been able to participate through their Western brands and through acquisitions that they’ve made in the emerging markets of local brands quite favorably.

Because the world is worried about Indonesia’s commodity-oriented economy shipping all of the ingredients that they’ve done so well doing to China slowing down, there’s a fear over the tobacco business in Indonesia.

I don’t think that’s a long term fear. The shares reflect very good value going forward because the volume growth which is attached to the business for almost two decades probably stands a good chance to continue.

That’s an unusual industry because obviously the governments around the world are lined up against it, the excise tax authority, there’s some litigation risk, regulation risk in the Chinese country.

For example in China, 57% of adult males still smoke and the government wants that down to 40% in twenty years. It’s ironic because it’s one branch of the government seeking to do that while the government itself owns the tobacco monopoly. It will be obviously a course of tradeoffs as you go forward.

It won’t affect us because Phillip Morris only does ten billion units in China in a market that has almost three trillion cigarettes. They have less than a third of 1%. And unlike spirits or unlike beer where I have serious exposure, I don’t project that they’ll necessarily gain those share points because of the presence of the state monopoly and the fact that the consumer has developed really strong loyalties to the local brands.

And if they travel around the world, they likely will not be confronted with the kinds of challenges that the people who are in a business like the beer business which didn’t exist in China a couple of decades ago, it’s a new business.

And then opportunity for the Western companies that we own whether it’s Heineken, or Anheuser-Busch, or SABMiller [London: SAB] which is the largest brewery in China to do well exist by virtue of the small scale that they have against the vast market.

The market’s 550 million barrels of beer a year and our companies may at the very premium end have something like 4% of the market. That’s a big opportunity to grow into especially as the market prospers and they value the luxury brands that we sell whether it’s Heineken or Budweiser.

Rupal Bhansali: Thank you, Oliver. Glad to be here.

MOI : It’s always a pleasure to speak with you, to learn from you about investing and today we’re going to talk about independence in investing and you will share some case studies with us that illustrate independent thinking and practice. Perhaps a good first question is if you could tell us about a real-life example that illustrates what independent thinking is all about.

Bhansali : I think one example of how we can apply independent thinking in investing is to think about what investors are unduly focused on and to actually think about what people are neglecting because neglect drives opportunity in the marketplace. Currently, for example, there is such a fetish for certainty and visibility that people are willing to buy certainty and visibility at any cost. You take utilities, fixed income, consumer staples, because there is more certainty, people are overpaying for them, frankly. On the other hand, there are many sectors that are exposed to more uncertainty such as healthcare and technology, but you are paid for that uncertainty and so the question of independent thinking comes into play in terms of what you’re going to choose to invest in on behalf of your clients. It may not be popular to invest where there is a lot of uncertainty, but it may be the right investment decision from a risk/reward standpoint. That’s an example of where independent thinking can come into play.

MOI: Let’s explore that a bit further. You mentioned the sectors here. Can you give us an example of a specific equity situation that demonstrates that?

Bhansali: Sure. If you think about what’s happened in the healthcare sector, after a decade of negative news flow where every media headline talked about patent expirations, reimbursement pressures, austerity and all sorts of negatives, R&D productivity declining, etc., the sector de-rated and it became very out of favor. Many babies were thrown out with the bathwater. There were clearly some companies that you should not have invested in because they clearly did not have an R&D roadmap, but some of the exceptions to those rules were companies like Johnson & Johnson, which had three divisions – consumer division, medtech division and the pharmaceutical division. All three of them were facing certain cyclical challenges, but from a secular standpoint, there was a clear pathway to success and the market was ignoring the improvements that were yet to come and extrapolating the deterioration that had occurred. That’s an example of a company which is extremely well-known. It is a very mainstream company both in terms of its business line and its stock and yet the stock was trading at extremely low multiples with a very high dividend yield and a strong balance sheet with a change in management, a clear pathway to multiple divisions [inaudible 0:03:43] ultimately that was available at a discounted price in market.

MOI: It’s quite unusual perhaps to find these lonely trades in such big companies such as J&J, so it really illustrates that dynamic really in the market with even the biggest of companies, which is interesting to note. It doesn’t just happen with the small companies.

Bhansali: You make an excellent point. I think there are so many out there that think alpha can only be generated in the small cap space and frankly, because that’s been an accepted notion for a long time, every keeps looking for alpha in small caps and almost gives up looking for alpha in the large cap/mega cap space and so we’ve had a field day, frankly, in the last couple of years with companies like Toyota in Japan, GlaxoSmithKline in the UK, Roche in Switzerland, Johnson & Johnson in the US and I can give you a plethora of mega caps that have, frankly, got very good business prospects and became very undervalued.

MOI: Now you made this distinction between lonely trades such as J&J that give opportunities to investors like yourself versus crowded trades that people will identify, as you mentioned, consumer staples today, but I’m curious, when it comes to lonely trades, we do know that not always lonely trades actually work out well for the investor. What is it about these lonely trades that increases the chance for an investor being right, not just a different contrarian and lonely?

Bhansali: Excellent question. Not all lonely trades are alike and there are many that are worth avoiding. You can get into the construct of a falling knife, a value trap. We’ve heard these phrases and so not all lonely trades are worth investing in. What differentiates a good lonely trade versus a bad one is the quality of the underlying business and whether there is a pathway out of the current challenges or difficulties the companies might be facing. That takes research and that’s why in the case of Johnson & Johnson I explained that those divisions that were suffering, we could see what improvements were occurring in those divisions, what steps management was taking, what was happening in the outside world, all of which would actually allow them a way out eventually. That’s an example of a lonely trade where you can see a clear pathway and that’s worth investing in.

The opposite is a lonely trade, which actually has fallen a lot and the marketplace does not like it and yet you should also stay away from. An example of that is Research in Motion in Canada where RIM used to be a very successful company. The Blackberry, many of us have used it and continue to use, but not for long. The reason for avoiding that lonely trade, obviously we did research on it and what our research uncovered was that Blackberry and RIM had a very specific competitive advantage in the years when a 2G network environment existed. That network was much more voice-centric whereas push email required a more data centricity that the networks were not optimized for and RIM helped solve that problem with specific capabilities and infrastructures that they had in place.

As we migrated towards the 3G and 4G environment, besides the fact that Android and Apple came along and actually decimated their potential in the consumer market, in the enterprise market, because the network had changed and were data-optimized, the telecom carriers did not need them as much as they did in the 2G environment. Their core competitive advantage was going to be less relevant in the future. That’s an example where you actually don’t see a pathway to success. You actually see a pathway to failure and that’s a lonely trade to avoid.

MOI: I’m just curious, when it comes to such example, if you could talk a little bit about the portfolio management aspect of when do you enter a position? In a lonely trade, do you go in right away with a full position or is there a way also to optimize the position size? In the portfolio management side, how important is that to just generating the right idea?

Bhansali: You’re correct. It’s not an easy decision in terms of how much things can go wrong and I think, therefore, doing scenario analysis and probabilistic estimates is very important, which is something we do as part of our investment process. We can think about pessimistic scenarios to worst case scenarios and identify what would the business be worth even if a lot more things go wrong for some of these companies I’ve described? In the same vein, though, it’s also important to understand what can go right. Undue focus on simply what can go wrong and keep going wrong will prevent you from also understanding that there is something that can go right and it can actually go very right. Looking at scenarios, looking at the continuum that can happen in the real world for these businesses is very important and I think scenario analysis, therefore, will help in helping you accumulate the position, understand the downside potential, but also the upside potential of that name.

MOI: Well, Rupal, thank you so much for these examples and case studies illustrating the concepts and practice. If you were to summarize, what are some of the key lessons that you have learned when it comes to, let’s say, lonely trades, crowded trades, certainty, uncertainty and independent thinking in investing?

Bhansali: Our investment philosophy is very much focused on intrinsic value investing. That’s what we [inaudible 0:09:52], that we what we know how to do and so in that construct, being extremely good at understanding the business model of the companies your investing in, of the sectors that those companies belong to is very crucial in terms of your fundamental research. I think the takeaway in the examples that I gave you is really that you need to know your stuff. Simply looking at companies that have been neglected or are underperforming or are out of favor is not sufficient. It may be a good starting, but a lot more homework has to be done to ensure that the investment you make is of the variety I described, which is a Johnson & Johnson and you don’t end up with a lot of RIMs. That takes a lot of research. That takes a lot of team effort, playing devil’s advocate. I think it’s a process, it’s not a formula, I think experience matters and finally, I would say the biggest learning that I’ve had and I would pass onto your audience is investing is a profession, not a hobby. There’s a lot of information and insights that one needs to have to figure out what’s misunderstood in the business and, therefore, what’s mispriced in the stock. That, I would say, is my final thought on the topic.

MOI: Well, on that note, Rupal, thank you so much for taking the time to share these very instructive case studies with us today. Thank you.

Bhansali: Thank you, Oliver. Glad to be here.

Arnold Van Den Berg: Well, it’s hard to say. It started in steps. I started at such a low level that every time it got better and better and better. It was just a long, gradual road. It wasn’t a sprint, it was a marathon. If you’re running a marathon, you say, “Where’s the milestone?” Well, I guess when you get halfway, that’s part of the milestone. It was just a gradual, slow event, but as it went, I could feel it. Remember that nobody is successful by themselves. I have my son Scott in here, Jim Brilliant started with me. He was one of my first employees. After about 12 or 13 years, I believe, I was in business and then I hired Jim. I had a secretary and a couple of administrators, then I hired Jim and Scott came in. My daughter worked at the firm for a while. My wife helped me start it. She was my bookkeeper and secretary. You don’t do this by yourself. It couldn’t have been possible by myself and other people contribute their talents to it. The only thing you can take credit for is the dream. The rest of it gets filled in by other things and other people. Then you start on the journey and as you go on the journey, it just broadens, but I don’t think there’s any one thing. I can tell you that there are certain breaks that I got in the business, but I attribute that to the subconscious. I’ll give you one example.

I got a call one day from a friend of mine who I was managing for and he said to me, “Arnie, there’s a real successful businessman that I just spoke to and I gave him your number and he wants to come and see you.” I said, “Oh great, he wants to open up an account.” I said, “Oh, that’s great. Thank you so much.” I got to talking to this guy, Jack, and I said, “How did you get to talking to him?” He said, “I was talking to you on the phone and I was getting quotes on my stock and this guy is the auditor. He’s a CPA and he walked by and heard me. He said, ‘Were you talking to your broker?’” He says, “No, no, I was talking to a friend of mine. He’s an investment advisor.” He said, “How’s he doing?” He said, “Oh, he’s doing really good.” He said, “I’m looking for a guy like that. Can you introduce me?” He said, “Oh yeah, he’d be happy to meet you.” The guy comes in and I show him what I’m doing and how I do it, my philosophy and he said, “Arnie, I have a CPA firm and I need to have investment counselors for my clients. I haven’t found one that’s done a good job for me, so I’m looking for one. I’ll tell you what I’ll do. I’m going to give you $50,000 and you manage it for three years. If you do a good job, I’ll start recommending you clients.”

You can imagine, I’m sitting there managing $50,000-$100,000 accounts. I managed the portfolio for them for three years. He called me up, he said, “I’m really impressed with the results. I’m happy, I’m going to start referring you. You give me a call and you meet me down the country club.” It was the Hillside Country Club in Century City, a very beautiful club. He calls me up one time and said, “Arnie, I have a gentleman I want you to meet. I told him about you and he wants to have you manage his money.” I meet the guy for lunch. We’re sitting there and he said, “Okay, Arnie, Hal’s told me all about you. I’m ready to go, here’s my account.” I look at it, it’s $800,000. I almost fell out of the chair. I mean I’m managing $50,000-$100,000 was a big account. I go, “Oh, this great,” so three days later, some other guy comes in., “Hal told me…” [PH 1:07:29] Hal Burlfind was his name. As a matter of fact, I just went to his funeral. He’s been a client of mine since the beginning, 35-40 years and he just died. I went to his funeral. I managed money for all of his children, gotten really close to the family, just a terrific guy. Became one of my mentors. I walked into this office one day. I’d never been to his office, he’d always been to mine. I walked into his office and here’s this big CPA firm, the biggest CPA firm on the West Coast at that time. This is in the ‘70s.

I walk by these rows of people working there and I walk to his desk and I expect to see a pile of papers like my desk where you barely see me behind the desk. His desk was completely clean. He had an inbox and I looked, there was only three pieces of paper there. He’s running this big accounting firm. I said, “Mr. Burlfind, where’s all your work?” He says, “Work? Didn’t you walk by those rows of desks there?” I said, “Yeah.” He says, “They’re the ones doing the work. I’m the businessman. I’m the one who does the thinking, I’m the one who does the marketing.” I said, “Well, how do you do that?” He said, “Well, you’ve got to get the right person in the right place.” He sat down and gave me a little lesson about how to plan the business. He said, “You can’t be doing this all yourself. You do this all yourself, you’re going to bury yourself,” and I could just see myself with my desk there. That was an important lesson for me, that he sat down and said, “You’ve got to get other people to help you. You can’t do this all yourself. If you do it, you’ll drown.” That was a very important lesson and when I saw his firm, I couldn’t think about anything else. I thought, “My God, that’s a whole different way of looking at a business.”

Anyway, this gentleman became a big fan of mine and promoter. He helped me build the business and we became close friends. We used to get together and talk about all these things. Like I said, he just died. He was 92 years old. Very successful life, very great man, great daughters. As you travel through life, there’s an eastern saying, “When you’re ready to learn the lessons life has to teach you, a teacher appears.” A teacher can be from all walks of life. It doesn’t need to be a professor. It could be a businessman, it could be a friend. My kids have been my greatest teachers. My daughter, Debbie, studied to be an acupuncturist and she studied Chinese medicine. I wanted to be supportive, so I was her first patient. She runs all these tests on me, does all the Chinese diagnostic tests and does the acupuncture. This is 13 years ago. She said, “Dad, you keep up this way, you’re going to have every degenerate disease known to mankind. You’re not working out, you’re eating the wrong food. You’re going the wrong way.” At first, I said, “Thanks, Debbie, I feel good.”

More she talked about it, so after about six months of meeting with her and talking about it, one day it hit me. It’s like somebody shows you the same thing, it doesn’t hit you and all of a sudden – boom – a lightbulb went off. I said, “She’s right. What good is all the money if you’re not healthy?” I said to her, “Debbie, I am going to make a commitment to follow your advice. I’m going to go full-blown into health.” I became a vegetarian, I got into yoga. These are all the books I read about it. I get together with her every Wednesday morning for two and a half to three hours. We either do a yoga class, we go out to breakfast and then we have a couple of hours when we get back to talk about principles of the mind, principles of the body. What I love about Chinese medicine is they incorporate the mind. Here’s what interesting about Chinese medicine. She told me to go to an acupuncturist who she really admired just because she wanted me to get the experience of a real professional. I went to this man and we got to talking about it. I said, “What did you Chinese people do about psychiatry, when a person has an emotional problem?” He said, “We don’t have psychiatrists.” I said, “What do you mean you don’t have psychiatrists.” He said, “No, no. Chinese medicine incorporates the body and the mind. We don’t separate them, they’re one.”

That was a great lesson for me to realize that what I’ve been studying was separate from the body. I was ignoring the body. I used to put the main emphasis on the body when I was an athlete and now I realize they’re connected, so by getting into yoga, I understood now the two are important. I use the mind and the body. That’s an added thing and my daughter taught me that. Scott has been a tremendous help in business and helping the business. Jim Brilliant has been a tremendous in that area. You can learn from everybody and anybody and sometimes you can learn from a child if you’re open to it. They have some great truth because they’re not filtered by all the stuff we learn as we go through life. I think you’ve got to take the position that you’re looking for the truth and when you’re ready to receive it, a teacher appears. I’ll give you one more example.

One time a gentleman calls me up, used to be my supervisor in the mutual fund insurance business and he said to me, “Arnold, I’ve got a young guy who wants to start a business and I told him about you, your starting of a business. Would you mind going to dinner with him and talking?” I said, “Oh no, bring him down.” I bring him down and he’s a young guy. He’s got this program that he wants to start, so we sat around, kicked around ideas on how to start his business. I gave him the thoughts I had. Then he said to me, “Arnold, meeting you tells me that I’ve got a book that you are just going to love. I just know you’re going to love this.” I looked at him and I said, “What’s that got to do with me?” He said, “When you read it, you’ll see it.” He said, “There’s stuff in that book you’re going to just gravitate towards.” I said, “Okay.” He says, “I’ll take you out to dinner next.” I said, “You don’t have to take me out to dinner. Just send it to me.” He says, “No, no. I want to take you out to dinner because I want to make sure that you truly understand the significance of this book in your life.”

Here’s a guy I’m going to teach him how to do business and he’s teaching me that and I didn’t even realize, that principle. I said, “Great.” I took the book, I put it on my nightstand. A few nights later, I thought, “Jose was so caught up in this book. There’s got to be a message in there for me.” I felt like there was something in there that he was trying to give to me. I read that book and I’ve been reading it for 30 years. I’m going to give you this copy as a gift.

MOI: Thank you very much. That is very kind of you.

Van Den Berg: It’s From Poverty to Power. I have yet to find a problem in my life that I couldn’t find the answer in that book. That’s why I keep reading it. It’s a great book.

Arnold Van Den Berg: How do you visualize? That was a problem I had when I first started. I thought to myself, “How do I visualize myself as a successful money manager? Do I picture the building or do I picture a plane with a car, all these silly things or do I picture myself in an office? How do I picture it?” I was struggling with what was the real image if you wanted to be a successful money manager. Well, one day I read in Barron’s, there was a story about a guy who had done great things. I even forgot his name, but he had a great track record, built a great, successful business. I thought, “That’s it. I’m going to visualize myself that I’m this guy, that I’m a successful money manager,” so I started to picture myself and this guy was standing in front of a desk. He had a dark suit on and there was a little shadow in his face, but he was basically standing there real proudly in front of his desk. I cut out that picture and I stated visualizing. Once I had it in my mind, I put my face on the picture and I just pictured myself.

One day a guy calls me up out of the clear, blue sky and he said, “Arnold, I have a friend of mine that’s starting a consulting magazine and he’s looking for a guy to write a story about it. Would you mind doing a story for him?” I said, “No, I’d be happy to.” I thought it’d be good exposure, somebody hears about our firm and so forth. I met with the guy, I was pretty excited about it. He said, “What do you think we’re going to write about?” I said, “Well, I’ve been thinking about this and this,” I gave him an outline. He says, “That sounds interesting and then he said, “You mind if I ask you some questions about your life?” We got to talking about all of the thing from A to Z and he said, “Oh, that’s great. I’m really looking forward to your article.” I was really excited, I was going to do a lot of research on it.

One day he called me up and he said, “Arnie, we got to thinking and we’ve had a change of heart about your article.” I was disappointed. I was all excited about this and they don’t want my article. I said, “Oh, that’s okay. Don’t worry about it, I understand. You’ve got a lot of people who want to write for you, so you don’t worry about it.” He says, “No, no, we want you. We just want to change the article.” I said, “Oh.” I was feeling better now after being dejected. I said, “Well, do you want me to write about something else?” He says, “No, no, let me tell you the change we’re thinking about. I told all my people at the company and the editors and they thought it’d be better to write about you, about your life.” I said, “About me? What’s there to write about me?” He says, “Well, I think that people who are starting a consulting business would enjoy hearing how you got started.” I thought to myself, “Why?” He said, “Well, it’s kind of an unusual story and I think it would be of interest to people.” I said, “Well, look, it’s your magazine. If you think it’s good, I’m happy to do it.” He said, “Okay, great.”

He said, “What I’m going to do is I’m going to send a photographer down, take some pictures.” The photographer comes in, he says, “You know the way I like to take pictures, Arnie? I brought a guy here and you talk to him just like you’re making a discussion on investments. Then I’ll be walking around snapping pictures.” I said okay, so he sets up these lights, big, elaborate thing. I’m sitting there, he’s shooting along and after he shot 20-30 shots or something, he said, “Okay, I think I’ve got it. We’ve got some real good shots in there.” He wraps up all his equipment, he puts his lights away and I’m walking him out to the reception room and in the reception room, there was a big panel wall. He goes, “Wow, why didn’t I think about this before?” I said, “What’s the matter?” He says, “That wall.” I said, “What’s with the wall?” He said, “Oh, I’d love to have a picture of you just standing up against a wall.” Well, by that time, I’d been through the whole thing, I was a little tired and I said to him, “Well, yeah, but you’ve got to unwrap all your equipment and all the lights. Is that worth doing?” He says, “Oh yeah, if I would have thought about it, that’s the first one I would have taken.”

I said okay, so I kind of leaned up against a wall. He shot the picture, took two or three shots. He looked at it, he goes, “Great. Okay,” so he walks out. I didn’t think anything of it. About two or three weeks later, the editor of the magazine calls me, he said, “Arnie, we got your story written. We’ve got everything in place and I just want to show you the initial magazine before it goes out.” It was like a proof. I said, “Okay, I’d love to see it.” He comes down and he hands me this envelope with a brown cover on it. He says, “Take a look at it.” I pull it out and I looked at that, I was just shocked. He says, “What’s the matter? Don’t you like it?” I said, “I just can’t believe it.” He says, “Why?” Then I told him the story about how I was trying to figure out how to visualize being a successful money manager and I didn’t know how to do it until I say the guy and this is exactly how the guy looked. He even had a shadow on his face. I said, “It’s almost like a duplicate. He’s probably better looking, but other than that, that was it.” He walked out, I sat down and thought, “There is just another confirmation.”

Now some will say that’s a coincidence and like all things in life, there are coincidences and I recognize that. Here’s the interesting story. I was talking to this young guy who was a coach. He was a brilliant track star and he’s now a coach. He wants to help young kids become great champions. He was an all-American six times. He was asking me, we were talking about the subconscious mind and I told him all these stories about athletics, which he could relate to. He was a great athlete. I told him this story about visualization, “You’ve got to teach your kids to visualize.” I told him this story about visualizing this picture. He said, “You know what? I’m going to do that.” I said, “Why not? You could be the coach of the year.” We both laughed and he walked out. About six months later, he called me and he said, “Arnie, I’ve got to show you something.” He comes in here, he’s on the cover of a magazine. His girl team broke the school record and won the league that year, so they wrote about it. He said, “As soon as you told me that, I started doing it.” Is it a coincidence? Yeah, it could be, but you start seeing these kinds of things and you just kind of wonder to yourself, so I thought that was just kind of interesting.

Guy Spier: Hi, John. It’s Guy here. Really sorry you couldn’t join us, me and Monish, in Irvine, but I hope you will at some point. Delighted to be able to try to give you a short office tour. We’re actually in a pretty non-descript office park in Irvine, California. There is not a financial firm in sight. Most of the other businesses that are here are education companies, companies that prepare people for SATs and I think that’s interesting. In Omaha, Berkshire Hathaway is there with a bunch of construction companies. Monish Pabrai here is with a bunch education preparation companies. Let’s go inside. We’re just going up the steps here and I find it interesting Monish has amazing photographs of his heroes everywhere. It’s like a reminder of who he’s emulating.

We’ve got Charlie, two photographs of Charlie Munger and a great portrait of Warren Buffet over here and then if we look the other way, another one of Monish’s heroes, Mahatma Gandhi, who wrote an incredible autobiography, The Story of My Experiments with Truth. Those photographs and those images are going into Monish’s mind every time he comes into the office. Then if you look up there, above the door, you will see a great sign that says, “Invest like a champion today.” It was originally from Notre Dame, “Play like a champion today,” and that is something that is above the door in Warren’s office. We saw it and immediately made a copy. There we go. Monish, I’ve shown them the outside of the office and we’ve come straight here. John did a tour of my library and people are really interested, so I guess this is really for John to take a look at how Monish is setup in his office.

Mohnish Pabrai: It’s a messy desk.

Spier: Yeah, why don’t you take the camera around your office briefly and show them?

Pabrai: The wall to my right, if you just take the camera to this wall, this is my wall of mostly Munger and Buffet letters and notes. We’ve got a few others over here, so just odds and ends over the years, which I’ve just kept and enjoyed receiving. Then the rest of the office, if you just scan the other walls is mostly pictures, different sorts of pictures. Right behind you is a set of pictures mostly from Omaha or Pasadena with Charlie and Warren and other luminaries and such. Then we’ve got another wall here, which is mostly the Buffet lunch. This is just any picture I find interesting, will tend to, if there’s wall space, put it up. This is very much a pre-Facebook approach to pictures here and such. That’s what’s happening.

Spier: Does the bedroom exist, Monish?

Pabrai: The bedroom exists. Shall we go to the bedroom?

Spier: Let’s take a quick look at the bedroom.

Pabrai: Alright, then we have to go in here. This is the bedroom where the afternoon naps take place. We got some of the bedding from Western Heavenly Bed, so that works out fine. It’s a nice, little room, but it’s very quiet. I actually take a nap every afternoon, so it works out great. The person who is most excited about these annual reports is Guy Spier more than anyone else. Anyway, one of the things I learned from Warren is that anytime you look at a stock, he’d buy 100 shares and he still does. He buys 100 shares, so he can just keep track of it because it forces them to send him the annual report. Since I’m cheaper and more frugal than Warren is, I only buy one share and the one share goes into my wife’s IRA so that we don’t have tax issues for a while. Then that forces them to send the annual report, but now some of these companies have stopped sending it because they want to go all digital. We basically have long histories of annual reports and it makes the research easier when we’re looking at a business and we can go back and look at several years. Basically, what happens with many of these companies is you really cannot get the reports, which are really old anymore. I actually like to read everything hard copy, so I actually prefer the actual, original document issued by the company.

Spier: Here’s a Fiat 2011 annual report.

Pabrai: Fiat has not sent us the 2012 annual report, as an example.

Spier: I’ll say something without question, I think it’s always interesting to visit people’s offices. I feel I’ve cloned Warren Buffet, but I didn’t do a good enough job. One time I was here and I saw a bunch of annual reports. I asked why he is receiving them and then I realized it’s because he had opened an account and he had bought one share. It’s only the last six months that I’ve done the same thing, so I’m looking forward to receiving the annual reports.

Pabrai: Have you gone hyperactive and bought one share of every stock.

Spier: I’ve been paying brokerage fees progressive to the purchase price to Charles Schwab up the yin-yang. A question to you, you can’t keep every annual report, so how do you choose which ones you want?

Pabrai: The thing is we do keep all the annual reports for which we bought the share, we bought the one share. It doesn’t take that much room. This is not all of it, but this probably 80% of it, so it doesn’t take that much room. Let me just continue the tour over here.

Spier: Yeah, Hall of Shame and I’ll stay behind the camera.

Pabrai: I learned this from Chris Davis where he had a Hall of Shame. In fact, I went to his office in New York and he showed me. This wall right in front of me is businesses that we used to have a stake in and we’ve exited fully and we made money. We’ve actually gained in all of these businesses, so things worked out well. That was good. Then if you just follow me here where we may have coffee in the kitchen, we have a smaller number of plaques here, which I think is good because these are the businesses that we had permanent loss of capital. You can see Delta Financial up there, which is a business we lost about $65 million and then there are a few others, which have led to losses. I pretty much see it every day and thankfully this is not growing much. It’s constant. Then if we go just back to our common area, on the wall here, these are businesses where we neither made nor loss money. Actually, we made just a slight amount of money, so they were just basically flat businesses that we invested in, exited, but we didn’t make or lose much money.

There are some other things that you mind find of interest. This is our wall of Berkshire Hathaway annual reports. Warren is quite monotonous in the way he designs the covers ever year of the annual reports. They’re all identical for more than 40 years. The only surprise is what color he places on the cover. The reason I put these up is just to drill in the point that it’s really the content inside the report that one ought to focus on and, in fact, at Pabrai Funds and at the Dakshana Foundation, we’ve taken a cue from Warren and our designs stay very similar and our colors change. That’s worked out well. If you just follow me in there, this is just odds and ends of shareholder credentials at the Berkshire meetings. Again, every year when I go to the meeting, I try to keep them. I think they’re nice collectors’ pieces and I think they do a very good job with them. The office, I’ve just tried to make it a relaxed atmosphere, make it a fun atmosphere and take it from there.