Chris Waller, why does Plural Investing own TerraVest stock $TVK?

Chris Waller of Plural Investing joined us for the first time. In this interview, you can learn more about his fund and his investment strategy.

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We have discussed the following topics:

Introduction

Description: Chris Waller of Plural Investing (https://www.pluralinvesting.com/) joined us for the first time. In this interview, you can learn more about his fund and his investment strategy.

Introduction to Chris Waller

[00:00:00] Tilman Versch: Dear viewers of Good Investing Talks, it’s great to have you back and today I’m having a first manager interview with Chris Waller. Chris, it’s great to have you here, so who are you and what kind of fund should we associate with you?

[00:00:16] Chris Waller: Well, thanks, Tilman. Thanks for having me on and thank you those who are watching and listening for taking the time. As you can potentially tell from my accent, I grew up in the UK, not in London, but in Bristol. Yeah, based in the southwest.

I’m based in New York now, so my journey to getting here is really that I initially started working in London at Goldman Sachs Asset Management in global equity and then international small-cap funds. I moved in 2016 to New York to do my MBA at Columbia Business School and shortly thereafter started a fund. It’s focused on global small-cap value and is really about trying to find the seven to eight best ideas or hidden gems that are going to work out over a three to five-year time horizon.

Investments Chris Waller is excited about

[00:01:19] Tilman Versch: So, Chris, what kind of investing situations make you really passionate and like, well, you can’t stop thinking about anymore? Maybe you can name one or two situations where it’s just like Chris, the passionate guy not from London, but from Bristol.

[00:01:36] Chris Waller: Yeah. I’m really looking for hidden gems, so I’m looking for companies that are generally quite off the beaten path. They’re usually companies that may initially look boring so you know TerraVest which we might discuss today, is in propane tanks and boilers which doesn’t sound very exciting and you know another position might be in bank notes or package holidays.

So although these industries might sound quite boring, the companies themselves can be quite exciting. So I like companies that are dominant in small niches that have management teams that own a lot of stock and are owner-operators and really have a long track record of delivering good performance over time.

And I think when you can find some of these businesses that have not yet been widely used recovered and they’re trading for very reasonable prices that’s what really gets me excited to be able to invest in a business with those types of qualities for many years to come.

[00:02:46] Tilman Versch: So what kind of pond or spaces do you find ideas or where do you fish for them?

[00:02:53] Chris Waller: Yeah. So the companies are generally in developed markets and particularly English-speaking markets and that’s because unfortunately, I only speak English and a lot of my process is about trying to find sort of 15, 20 or more people in the industry who are industry experts and really trying to speak to them.

Usually, these companies are in either the US, Canada, UK or Germany, although I do occasionally look outside. In terms of the size they’re smaller businesses, so generally under a $2 billion market cap, sometimes as low as 100 million. Generally, the sweet spot is probably 4 to 700 million in that range. And more sort of consumer industrial businesses, more sort of simple to understand. So those would be the sorts of characteristics I’m looking for in terms of geography and size and so on.

And generally speaking, you know, significant insider ownership and uh, you know dominant in a niche market. In terms of where I kind of get ideas from, I spend a lot of time reading write-ups. So I will read write-ups off of different websites you know. So Good Investing would be an example where there are write-ups that people post.

Some other sources like Value Investors Club and other locations and I end up reading probably around 20 write-ups a week and having a process where I essentially, you know, take notes and track these companies and the ones that I think are interesting, then enter my watch list and over time more and more ideas should really come from the watch then from an idea that’s totally brand new, I would say today it’s about 50/50.

As the fund continues to progress, I would expect a bigger portion of those ideas to be coming from those watchlist stocks where I’m pre-prepared and am sort of ready to go when those stocks become cheap.

[00:05:10] Tilman Versch: And if someone will look on the website for write-ups, it’s in the community. So you first have to apply to Good Investing Plus more on this later.

[00:05:16] Chris Waller: Yes.

What is his strategy?

[00:05:19] Tilman Versch: So, but let’s go back to your process. You mentioned you look for small-cap value. What is in your definition?

[00:05:31] Chris Waller: Yeah. So when I think of value, I’m not necessarily just thinking of what you might call deep value or you know asset-based businesses or cigar butts. I’m really looking for more franchise businesses that are you know certainly are going concern and then creating value over time. So I’m looking, you know, very simply at what is the value of a business generally three years from now in comparison to the current price.

So I think three years is a short enough period of time where you should have a good idea of what free cash flow is going to be at that point. But it’s also a long enough time that if this is a business that’s a high-quality company going through a difficult period or maybe there’s some cyclicality or other factor that is causing the business to struggle, three years should be a long enough period of time where that really gets resolved and you can see the kind of underlying earnings power of the company.

So I’m typically looking on that basis. In theory, a business could have lots of different characteristics and still be cheap on a three-year basis. But generally, for me, these are going to be companies on a relatively low multiple of free cash flow today and then even cheaper in three years.

So I think today the average company in the portfolio trades on about 12 times trailing free cash flow and is growing at sort of low double-digit rates. And that makes those that means those companies will be on a single digit of free cash flow in three years’ time. Generally, that’s the type of valuation I’m looking for when I say value.

So I think today the average company in the portfolio trades on about 12 times trailing free cash flow and is growing at sort of low double-digit rates. And that makes those that means those companies will be on a single digit of free cash flow in three years’ time. Generally, that’s the type of valuation I’m looking for when I say value.

Chris Waller’s circle of competence

[00:07:24] Tilman Versch: Let’s talk about your circle of competence and a more challenging question, where have you stretched it recently?

[00:07:35] Chris Waller: Yeah. So I’m a generalist. So I think it’s an important advantage to be able to go to different geographies and industries. Having said that, I think there are certain specific areas where I tend to focus a lot more on. So you know consumer and industrial businesses are generally ones that I find that are easier for me to understand. So I don’t generally, for example, look at any healthcare banks, insurance companies, or natural resources, there’s a whole host of industries that I will not look at.

Now within consumer and industrial, you still have a very broad set of companies there and so a lot of my process is about finding these sort of 20 industry experts that can really help me learn about a business and typically by the time I’ve invested in one of these companies, it’s been a couple months of research of talking to people, which may seem like a long time in an investment world where often analysts are being forced to come to a view on a company within a few days or a week but actually it’s quite a short period of time compared to someone who spent their career in an industry.

So I try and develop my circle of competence through these discussions and then continue on an ongoing basis after the investment. I think in terms of stretching that area of competence there are unfortunately certain businesses where even after doing that type of work, it’s very hard to predict what the future will look like. So one of the mistakes that I’ve made over the last few years is actually investing in an e-commerce business called Red Bubble.

Now it has a slightly different name, so that was a company where, you know, we’ve done a lot of work, but the reality is that growing e-commerce businesses can have quite an unpredictable future, and if you haven’t reached a certain level of scale, you become vulnerable to changes in all sorts of trends. And so that’s a company where I probably stretch too far out of the circle of competence, and I did actually write about it in one of my quarterly that’s is sort of describing some of the mistakes there.

Reflecting on Naked Wines

[00:10:05] Tilman Versch: But you also stayed away from one of the quiet laugh ecommerce plays, Naked Wines. You’ve written a long report on this.

[00:10:13] Chris Waller: Yes, well, that’s a good that’s a good example actually and funnily enough, I think some of the mistakes with Red Bubble help me avoid Naked Wine. So Naked Wines as some of your viewers may know, is an online-focused business that delivers wine directly to consumers, particularly in the United States where there is a three-tier system with retailers, distributors and producers creating all sorts of cars.

Naked Wine’s selling point is that it can essentially cut through that and sell wine at a much cheaper price, and this was a company that I think gained a lot of attention, particularly sort of two years ago with the sort of Netflix of wines idea.

But that was another company with an uncertain future, given it had not reached a level of scale where it would really be sort of inevitable that its economics would be superior to other companies in the long run. And so I did in that case, you know, again speak to quite a lot of people in the industry and do some data analysis and essentially found that its wine was selling for this for a very similar price to other producers.

And so really the key selling point of the company was that it could sell the same quality wine for a lesser price. I found that my data was not yet the case. In addition, there were some quite significant competitive changes happening with companies that were much larger than Naked Wines. For example, you have aggregators like the Vino that are, you know, in some cases 10 or more times bigger than Naked Wines.

You have companies like the food delivery players like DoorDash, for example, that are now entering this industry, or Uber Eats entering the industry. And so you had these giant players with just much greater scale, the ability to acquire customers at lower cost entering the industry. And so Naked Wines really had an uncertain future. And so, given the uncertain future and the fact that its existing selling point was not as compelling. I was able to avoid that as a result.

Finding industry experts

[00:12:37] Tilman Versch: You’ve mentioned the industry exports you’re trying to kind of date. Before you do an investment what is an industry expert for you and how do you find them?

[00:12:48] Chris Waller: It differs depending on the company I’m researching. So essentially having spent let’s say a week or two looking at the public filings and transcripts of the company and competitors, I have a sort of rough understanding of the industry. And I draw up a list of people who, in a perfect world, I would love to speak to.

So that would quite often be former employees at a senior level. It might be people at competitors. In the case of TerraVest, which is a company that makes a lot of acquisitions, it was the founders and CEOs of the companies that had acquired in the past. So these are all people who have a perspective on the industry or the company and that perspective has been based on a lot of experience, whether that’s just experience in the industry or experience directly with the company itself.

And so those would all be people I would class as industry experts. Sometimes they can also be more junior people. So in the case of Naked Wines, one thing that I that I did quite early on in the research process was speak to five or six wine producers and distributors to just help me really accelerate my learning. It was not necessary in that case to speak to, you know, the largest wine producer in the industry or largest distributor. I think at that stage of the research process most wine producers and distributors would have been helpful in really educating me on the industry.

When to stay away from investing

[00:14:31] Tilman Versch: In your resource process, what are the reasons that you do not invest and discard an investment?

[00:14:39] Chris Waller: Yeah. So certainly you know circle of competence, if it’s an industry or a company that I just feel like I’m not going to be able to get a good understanding of where the business is going to be in a few years, whether that’s in terms of the free cash flow or the competitive advantage, that would definitely be a reason.

That is something that can be apparent initially, but it can also, unfortunately, become apparent after you’ve done a lot of work and realise you still really don’t have a good handle on the future of the company. So that would certainly be a reason in terms of the quality of the business. I tend to focus on competitive advantages a lot.

So really looking at the unit economics and the returns that a company can generate and then whether it has those competitive advantages to sustain those economics. So competitive advantages would be another big reason where if a business does not have a good reason where it can sustain these economics, you know, even if those economics are attractive today, I’m unlikely to invest in that business.

And then the third one and actually the most common reason particularly initially is around governance, so I think governance is a really important topic and you sort of I’m happy to go into a bit more detail as helpful as how as to how I look at that. But I think it’s really important, particularly in the small caps that you have a shareholder base, a board and then a senior management team that is aligned with what you are trying to achieve as a shareholder and has the expertise to really execute on that.

But I think it’s really important, particularly in the small caps that you have a shareholder base, a board and then a senior management team that is aligned with what you are trying to achieve as a shareholder and has the expertise to really execute on that.

And so quite a lot of times. When I initially look at a company, I will find that the governance isn’t up to scratch. Generally, that means the management team may not have shareholders as their top priority or actually just don’t have the expertise to really execute at the level that I would like. And so governance is the sort of third and I would say most important reason that a company gets rejected.

[00:16:49] Tilman Versch: Did you already explain the governance spec, or do you want to go deeper into this?

[00:16:54] Chris Waller: Maybe I just touched on it a little bit more. I won’t go too much.

Governance

[00:16:59] Tilman Versch: Because you gave this hook that you want to talk about it. So happy to dive into it.

[00:17:02] Chris Waller: I think governance can be thought of in a few different ways. I think first of all, the owners of the company the big shareholders, depending on who that is, they can have different incentives themselves, whether it’s a, you know, private equity firm that maybe wants to exit in a short period of time, whether it’s a family that has owned their shares for years or decades, I think seeing who the owners are is really important.

And then the board, you know, quite often those owners will influence who’s on the board. They may be on the board themselves. And I think it’s really important that the board contains both shareholders and industry experts and I think it’s surprising how often boards don’t contain either of those. So those could be shareholders.

You sort of directly sort of major funds. It could be management who own a lot of stock, ideally both, and then people who are actually industry experts being on the board as well. Quite often the board will have a lot of people from different industries, but actually not from that industry itself.

And then just trying to understand what are the incentives of the board members. Why are they there? Are they on a lot of boards and looking to collect a sort of nice fee? Do they actually own the stock? And I think more importantly, how much of their own money have they put in to buy the stock versus how much have they taken out in various fees?

And I think sort of the, the last sort of major thing just in terms of the way compensation is structured. Who’s on the compensation committee, and particularly looking at small decisions that can give you a hint as to their true motives. So when management misses certain metrics for their bonuses, what happens at that point? Does the board pay them anyway? Do they adjust the earnings?

And so how these little things occur over time gives you a lot of clues and I think just that the last thing is how are employees incentivized throughout the organisation you know is there a profit share, are they paid you know based on the specific sites they’re on? Or how were they incentivised? I think that tells you a lot as well as to what the organisation is trying to achieve.

[00:19:29] Tilman Versch: If you go back five years, which part of your research process are you now spending way more time on?

[00:19:39] Chris Waller: Yeah, I mean I do think it is the governance aspect. I think that some of my mistakes, particularly when I started were around management and the three things that I really you know, expect from my management teams are integrity, a customer focus and then prudent capital allocation.

And I think probably most investors including myself when I initially started were probably very focused on capital allocation and not so much on the first two and that is through sort of experience in making mistakes that I’ve come to learn just how important those first two factors are.

So you know, going back to the governance, a lot of that is around incentives and also frankly the integrity of the management team. What are they really trying to do and are they people who have your best interests at heart and are they honest?

So I think that’s something that’s really important and it can be quite tempting to see a company that’s maybe growing rapidly, maybe it trades at a cheap valuation and sort of justifying and rationalising to yourself that okay maybe the management isn’t so good or maybe they have a chequered history and trying to justify it to yourself. That is okay.

And my experience is that that will ultimately come back, come back to hurt you at any price. And so really, unless I feel that the management structure is right and the integrity is right, there isn’t really a price at which I would be willing to invest in the company. And that’s probably the biggest area that I know. Focus more of my time on.

Good Investing Plus – A warm invite to apply

Hey, Tilman here. You seem to have passion investing. That is great!

If you want to dive deeper and go further down the rabbit hole, you are kindly invited to apply to my community Good Investing Plus. It’s a place that’s very helpful to people who are ambitious about investing and is helpful to investment talent and experienced fund managers. So if you’re interested, please click on the link below.

TerraVest investment case

[00:21:20] Tilman Versch: You also produce reports when you invest in the company or when you don’t invest to show a bit of your research on the FOB process. I’m happy to share a link to the report below so people can find it and also they can subscribe to the newsletter where you distribute the reports if they, when a future reports. And the latest reports you’ve published were on TerraVest. And maybe you can do the summary of the TLDR quickly on this company.

[00:21:53] Chris Waller: Yeah. So TerraVest is a company that is listed on the Toronto Stock Exchange under TVK and has a billion Canadian dollar market cap, 750 million in the US. It trades on 14 times free cash flow and will likely grow earnings at double digits. Going forward, it’s a company that has done really well over the last decade, you know, had annualised shareholder returns of around 30% per annum and I think can do really well going forward.

The five most senior members of management all have the vast majority of their net worth in the stock. And most of them are still fairly young, even though they have experience. So the CEO is 40 and the companies follow are roll-up strategy of acquiring and then restructuring businesses that are generally mom and pops in the storage tank and pressure vessel industries as well as some other industries like boilers and furnaces, and essentially they have a long runway to keep acquiring at sort of 11 times earnings restructure to seven times and really just repeat that like they have done for the last decade and it’s a company that doesn’t speak to sell-side analysts.

They don’t hold earnings calls. They’re not really well known amongst institutional investors. And I just think that as they continue to execute and deliver those strong returns, it will just become sort of better known amongst larger investors. And I expect the stock to continue to do well for those reasons.

[00:23:29] Tilman Versch: So what kind of problem is the company solving for the customer to come back to the idea of customer focus?

[00:23:37] Chris Waller: Yeah. I think for customers these products tend to be fairly similar. So if you think of a propane tank, there are different sizes. Some of them go on the back of the truck, some of them go next to an oil field, and some of them go next to your home. What TerraVest can do is essentially has a lower cost because of its scale and so the main cost of producing a propane tank or pressure vessel is steel just by the nature of its scale and direct relationships with steel mills, TerraVest can often get anywhere between a 10 or even 30% discount on the cost of steel, which is usually half the cost of this product.

And so in some cases, they can pass that on to customers in the form of lower prices they can also generally deliver quicker because they have the ability to have that steel inventory available, which would be a significant cost for a mom-and-pop.

And if that mom-and-pop was not able to actually sell the product, they would have a lot of cash and working capital that they would struggle to potentially finance and so. TerraVest, again through its scale is able to have that product ready so it can deliver quicker.

And some of its customers really value that speed of delivery. If you are for example, an oil and gas producer in Western Canada and you need a propane tank to be able to begin your drilling because propane is a byproduct of that drilling, every day you are waiting for that propane tank. You are actually missing out on all of the production you could be having, so speed also matters and essentially TerraVest is a company that through its scale can just deliver a better product at a lower price and that helps customers.

[00:25:41] Tilman Versch: And so how do we get from eleven to seven? Not from seven to eleven.

[00:25:45] Chris Waller: Yes, well, definitely going from eleven to seven is the key. So there are a few areas, some of these, I would say probably three areas I would point out. These businesses are generally small businesses still run by their founders. And quite often they are not as profit-focused as they probably could be.

So the first area where TerraVest makes a big difference is just in terms of the mindset of the company and just by being focused on actually trying to maximise profitability, that can lead to a lot of changes in terms of which product lines are you focused on. Are you still selling products that may not be so profitable?

How do you think about, you know, pricing, delivery, all these different areas? How do you incentivize salespeople and so on? So there are a lot of areas where just a different mindset can ultimately make a big difference.

I think the second area is what we touched on, which is in the purchasing so they can get a very significant discount on the cost of not just steel but other products like valves and parts and so on. And so that’s just the kind of really easy instant improvement that they can. Make and I think the final areas in terms of shared resources. So TerraVest has about 20 companies across these different industries, but many of them operate in similar industries and similar geographies.

And so there can be some shared resources, whether that’s in terms of production facilities that were maybe under-utilised previously and they can bring different production facilities together and really get that utilisation improvement. Whether that’s in terms of sharing leads.

So perhaps one company is speaking to a client that wants a certain product, and maybe that TerraVest company is not able to supply it. But there may be another TerraVest company that is able to and so they do have quite a good structure that shares leads and so that produces, you know, better outcomes for clients as well.

TerraVest’s holding period

[00:27:54] Tilman Versch: What is your holding period for this investment?

[00:27:57] Chris Waller: Well, generally speaking, I’m looking at three to five years, but there’s no particular reason why it has to stop at that point. I think particularly when you have a company that has a great management team that can continue surprising you that the holding period has the potential to be much longer than even five years.

And I would like to think in the case of TerraVest, this is a company that fits into that category. And although the fund is not older than five years. So I can’t sort of prove and test that theory. What I can say is that there’s one of the main investments in the fund today, Jet2, is a company that I first invested in personally 11 years ago so and held throughout that period.

So you know, ideally that would make my life a lot easier if there are companies that can just, you know, continue to hold because they’ve got a great management team and that’s what I’m hoping TerraVest will become.

[00:28:59] Tilman Versch: So from eleven to seven and from two to eleven?

[00:29:02] Chris Waller: Yes. Yeah.

[00:29:05] Tilman Versch: And coming back to TerraVest, when do you have you felt in your process your research is finished if you can see there something like finished.

[00:29:14] Chris Waller: Yeah, well, there isn’t really a point when it’s finished, because I think it’s really important as an investor that you continue your research after you make the investment. I think this is probably an area that I’ve worked on and probably most investors or many investors don’t spend as much time as they should because we we sort of think that you know, all the training we go through is that you know how do you find the stock, how do you do the research and how do you size the position and then that’s kind of the end of it, but it really isn’t.

So I do have a process on an ongoing basis to continue the research but in terms of that initial phase, I think that once you’ve spoken to a good number of people in the industry, you should have a level of knowledge where you feel like you understand what’s happening in the industry and you feel like you’re fairly confident where you know free cash flow is going to be in three years in my case.

But just as importantly, what the competitive dynamics are going to be like, you know, even longer time span and I think once you have that confidence and you can compare your notes, perhaps to what other investors are writing on the company to just make sure there aren’t any kind of major areas that you don’t understand. I think at that point you probably understand enough that you can make a decision on whether to invest in the company and then continue your research beyond that.

Potential risks with TerraVest

[00:30:49] Tilman Versch: You’ve made a bit of a long pitch here, but what could you have potentially gotten wrong on this company? So where could you be?

[00:30:59] Chris Waller: Yeah, I think that probably two areas, I think the company does have some cyclical exposure. So it does have some exposure to oil and gas for example. Now, I don’t think it’s as significant as some investors may fear, but there’s probably 20% of revenues that are exposed to oil and gas, and there there is some revenues exposed to the housing cycle, for example.

So if there is a big cyclical decline that could definitely impact this business and investment. I do think that management has been quite good in previous downturns. They’re quite profit-focused. They’re quite cost-focused and actually oil and gas in Western Canada has been in a recession effectively since 2014 when the price of oil came down from $100, and they’ve been able to maintain that part of the business at sort of a low level of profitability or break even when many competitors have gone out of business.

So I think they’re quite good at mitigating that, but nevertheless, cyclicality is at risk and I think the other potential risk is just in terms of them continuing to make acquisitions. They could always make a bad acquisition and I think that although the management team is quite focused on not just building an empire and very focused on their returns, they could always make a mistake.

And as they grow, those acquisitions will likely get bigger. And so there is the potential for a more sizable acquisition that if it goes wrong is a bit bigger than what a historic acquisition might have been in comparison to the size of the company.

[00:32:48] Tilman Versch: Let’s move TerraVest and move to your business to fund management business for the end of the interview.

[00:32:54] Chris Waller: Sure.

Why Chris became a fund manager

[00:32:57] Tilman Versch: Why did you start out as a fund manager?

[00:33:01] Chris Waller: Yeah, it’s a good question. I mean I am, you know, I’ve someone who I think for a while has wanted to start a fund and invest in the way I’d like to invest. And actually, when I was at Columbia Business School, I was very fortunate that I had a professor, Joel Greenblatt, who is still teaching at the time and he’s probably the professor from whom I learned the most.

And you know, he’s been obviously a very successful investor himself and a lot of my approach was really inspired by what he did with Gotham Capital. And I was fortunate to have a number of discussions with him. And that’s really how the fund initially came about.

So, you know, the reason I’m looking off for off-the-beaten-path stocks, you know, particularly small caps, you know, a concentrated approach over a longer time horizon, you know, that was all sort of inspired by the success that he has.

I think probably one difference in approach, he’s obviously kind of famous and has been very successful at Special Situations investing and this particular fund is not so focused on special situations, although there are a couple of companies that I’m invested in that that are spin-offs, but generally speaking I’m looking for slightly higher multi businesses that don’t necessarily have to have come out of a special situation. So I think that would be an area of difference.

But yeah, being able to launch a fund and invest with this type of approach I think was really the, you know reason behind starting it and if you can handle the stress, uh it’s uh very rewarding position to be in.

[00:34:57] Tilman Versch: So I have to ask at this point was there one light bulb moment for you in conversation with Joel about the fund or where is “ah” would have thought earlier about this?

[00:35:10] Chris Waller: Yeah, it wasn’t a light bulb moment in terms of I should start a fund. I think there were definitely key moments in terms of the approach, you know. So I think initially. I was not as focused on small caps.

You know, I was certainly looking at small caps, but I was also willing to look at, you know, larger, more covered businesses and you know something that Joel, you know, mentioned clearly is that one of the advantages you have when you’re small is to look at smaller businesses because what tends to happen is the investors who become successful their funds grow and they’re no longer able to look at some of these small businesses. So whilst you have that opportunity, use it to your advantage.

So I think that was definitely a kind of key point that he emphasised. I think another key point because just in terms of focusing on again a little bit higher quality businesses, they don’t have to be the best businesses in the world.

But I think one thing that he said to me is so you know, a traditional approach might be I’d like to buy a dollar for $0.50. But if you buy a higher quality business at $0.70 that intrinsic value goes from a dollar to $1.20 to $1.40 over time. Well, which one really has the bigger margin of say? You know, probably actually the second one which might look a bit more expensive initially. So I think you know those are probably just kind of a couple of key points that he mentioned that sort of helped adjust my approach a little bit.

Value Investing

[00:37:23] Tilman Versch: What kind of value do you want to bring to the marketplace as a fund business?

[00:37:31] Chris Waller: Well, I think. You know, of course, you know, primarily your goal is to deliver good performance to your clients. I think that actually one of the things you know, Joel asked me and I tried to emphasise in my letters and when I speak with people is success for me is having the best performance rather than necessarily the largest fund, and so the approach is structured in that way, that’s both in terms of the approach of the fund, you know being quite concentrated can sometimes put off potential clients. I’m not necessarily trying to minimise volatility or drawdowns, but ultimately I think that approach will generate better performance over time.

And so that’s something that obviously I’m really looking to contribute. I think another area that is hopefully interesting is just these types of reports that I’ve written and started to publish more and I’d like to think they’re reasonably in-depth and kind of, you know, interesting to read if you do want to read something long if you don’t want to, it does come with A1 page summary so you can have a shortened view, but you know, hopefully, that type of work the ongoing work is sort of interesting and you know, helpful to certain people as well.

[00:38:53] Tilman Versch: And again the link is below in the show notes for people who are interested in the report.

The competitive edge of Chris as a fund manager

[00:38:59] Tilman Versch: What is your competitive advantage as a fund manager? You kind of answered this already, but maybe there is more colour to this.

[00:39:07] Chris Waller: Yeah, I think it’s actually quite important that your investment model and your sort of business model fit together, so. The advantage I have today is I can go to the more gaps and then on top of that, you know, not only is the level of competition generally lower, but I try and really maximise my advantage by being able to spend a lot of time on each company.

So because I’m only investing in sort of seven to eight best ideas and it’s a three to five-year time horizon, that really means I only have to find one or two ideas per year, and so that might be one idea from the watch list where I’ve done a lot of work previously and so maybe only one totally new idea per year and so when that’s what I’m looking for I have the advantage that I can just spend a lot of time on each company and I think a lot of investors don’t always have the luxury to be able to spend a couple of months on a new investment.

And I think one of the reasons why doing this type of work and kind of sourcing and speaking to these 20, you know, people doesn’t happen too often is because it does take a lot of time and work and so because I’ve structured my approach in this way, I do have the ability to have that time.

Now the reason I say the business model is important is because you know, if you had a team of a large number of people you would need a much larger fund and therefore you would not be able to invest in these types of stocks or you would have to hold many more stocks to be able to support that type of asset base.

And so I think that is an advantage when you’re small and you have a small team. In my case, it’s myself and a chairman. You have the ability to stay small and look at these companies and devote that level of time. And so that’s really the sort of advantage I’ve tried to focus on.

[00:41:15] Tilman Versch: No office animals, no cat or something. Like this no?

[00:41:19] Chris Waller: No. Yeah, exactly.

[00:41:21] Tilman Versch: Just pure human.

Portfolio construction

[00:41:27] Tilman Versch: As my final question. What do you think about portfolio construction in this setup? What is your framework and is it any different in the small-cap?

[00:41:40] Chris Waller: Yeah, I think, yeah, certainly in terms of portfolio construction, I think it’s important the types of businesses you’re invested in. I think if you’re invested in, let’s say, more traditional value companies that are you know can be quite low quality maybe they’re cigar butts. You do need a much more diversified approach because the reality is that there are certain risks with those companies that you know can cause quite catastrophic outcomes in some cases.

And so you do need a much more diversified portfolio I think with companies that are a little bit higher quality and you know franchise businesses and in my case companies that generally speaking have very low amounts of debt, sometimes even net cash with seven to eight stocks, you tend to get the majority of the benefits of diversification without the negatives of you know, having companies that may generate lower returns.

In terms of how I sort of size the positions, I generally take a fairly simple approach because they’re all in different industries, quite often different geographies.

And so I essentially just look at my upside and downside and then I place a higher weighting on the downside. I think it’s really important, particularly when you have a concentrated portfolio to size your position on the downside.

So I think that’s definitely an emphasis of mine and I do have a qualitative overlay where there are a few qualitative factors that I think are really important over time but are very difficult to quantify. So for example management transformation of a business I think is really important, but it can be difficult to estimate accurately how will this transform business look in three years sort of by definition, you know, particularly if you have a good management team, they should be able to transform that business in ways that are hard to predict.

Another example would be the industry disruption that could be in your favour. Maybe you are the disruptor. It could also be you know, out of your favour where you are, the incumbent being disrupted and again that can lead to quite uncertain outcomes, but it’s clearly an important variable. So essentially I do look at the upside and downside with a focus on the downside and have a kind of qualitative overlay just to adjust for some of these qualitative factors that are difficult to to accurately sort of predict.

Closing thoughts

[00:44:15] Tilman Versch: So for the end of the interview, you always sense as a guest to add something. So is there anything to add from your side?

[00:44:23] Chris Waller: Not too much, I think maybe a couple things. I think this approach of you know looking at small-cap value, it does have a sort of proven record in the sense that there have been a number of people who’ve been successful with this approach over time. I think it’s been a more difficult period actually over the last couple of years for value investors in general, but also particularly small-cap value, especially when you know a lot of managers are compared to industries that are dominated by large-cap tech.

And so that’s something you know not just for me, but I think probably many of your listeners probably feeling the same and so I think one point is just to, you know, stick at it. And these the reason that these uh categories tend to do well over time and the reason the opportunities exist is that there are actually periods when it’s quite difficult. So that would probably be one and maybe just a quick plug at the end.

For yourself, I do think you know what you’re doing at good investing is really exciting and you’ve built it out quite quickly. So uhm yeah, I think I think it’s really good what you’re doing there and I like your work around Berkshire Hathaway in particular with the guide and a few other things you’re doing.

Thank you

[00:45:48] Tilman Versch: Happy to see you there and in the near future. And the video will be published ahead of them. So people looking for information on the meeting, feel free to go on my website. You find the special on Berkshire and thank you very much to the viewers for listening till here and thank you very much, Chris, for joining me. Now it’s time to say bye-bye.

Disclaimer

[00:46:10] Tilman Versch: Thank you. I really hope you enjoyed this conversation. If you did, please leave a like and a comment and sure subscribe to my channel. Traditionally I want to close this conversation with the disclaimer, so here you can find the disclaimer. It says please do your own work. This is no recommendation. What we are doing here is just the qualified talk that helps you, but it’s no recommendation. Please always do your own work. Thank you and hope to see you in the next episode. Bye-bye.