[Book Review] Investing Between the Lines by L. J. RittenHouse
If I want to gather firewood, I can choose to use an ax for a start. But eventually, to get better and faster at my job, I must learn how to use an ax more efficiently or even upgrade to a powered wood-cutter. The same logic applies to the work of analysis. To get better at analysing, one needs to read more books to open up his eyes to look at companies with a enhanced framework.
It occurred to me that my investing skills might be a bit rusty. It caused me to feel paranoid about my own knowledge — whether has it disappeared? Over the weekend, just to revise myself, I picked up a book I read a year ago.
The title is… Investing Between the Lines: How to Make Smarter Decisions By Decoding CEO Communications
As a seasoned reader of annual reports, I did not start off with any expectations of a shareholder letter from the CEO or Chairman. However, after diligent reading of annual reports, I began to realise the differences between a thoughtful one versus a lazy one.
I recalled a memory of mine. Back in polytechnic, I set off to bake brownies to raise funds for a school charity event. I baked them in an unwilling fashion because I just wanted to finish it as soon as possible. Without guessing, it turned out horrible. My mother chided and told me that in any work that I do, I have to do it with a heart. Understanding that concept later, I baked carefully and the products turned out well. The next day, it was all sold out and I was able to raise the funds for my school.
How does this story relate to a shareholder letter? I believe the same way a management spends time to communicate carefully with its shareholders, he will spend the equal amount of thoughtful time and deliberation to grow the business prudently.
Excluding Annual General Meeting, a shareholder letter is the most important communications tool for a listed company. It shows how much the management cares.
When I read a shareholder letter, there are few questions on my mind:
- Is this written by the management himself or a public relation firm?
- What is the management’s vision and how does he intend to make it happen?
- Can he relate to shareholders by using simple words to explain the business? Some management tend to hide behind hyperbole, awkward and filler words.
- Are their priorities over the next two months communicated?
- Are they honest with themselves in terms of mistakes? Do they display candor?
- Can I sense the management’s personality?
- Is the management clear about the business?
- Is it a true and authentic assessment of himself and the company?
- Do I get a feeling that I am valued as a partner and I am educated on the business progress?
- Are the performance measurement consistent?
- What does it tell me about its corporate culture and its people?
- Are its vision and mission thoughtfully crafted or just plain generic words?
- Are they in touch with their suppliers, customers, and stakeholders?
- Is the letter warm or cold?
- Are they comfortable opening up details about their pay packages?
In this book, the Rittenhouse Rankings was introduced as a way to foretell at-risk businesses before trouble hits — by analyzing the choice of words against a set of measurements. Rittenhouse cited the examples of Enron and Lehman Brothers with supporting evidences.
The author also analysed what would a company do if there is an excess of cash without reinvestment opportunities.
The good ones would (1) return cash to shareholders through dividends (2) reduce the outstanding company shares over time. That was what Ken Powell did when he was CEO of General Mills.
Good CEOs are the ones who understand the economic value of their businesses and they are not bothered by their market value. As below…
So, if the company is better positioned today than it was a year ago, why is the stock price so much lower than it was a year ago? As the famed investor Benjamin Graham said, ‘‘In the short term, the stock market is a voting machine; in the long term, it’s a weighing machine.’’ Clearly there was a lot of voting going on in the boom year of ’99—and much less weighing. We’re a company that wants to be weighed, and over time, we will be—over the long term, all companies are. In the meantime, we have our heads down working to build a heavier and heavier company.
– Jeff Bezos, CEO of Amazon, Letter to Shareholders, Year 2000
The book chapters are arranged by categories which include Candor and Communication Risk, Strategy, Leadership, Vision and Stakeholder Relationships and it all adds up to Capital Stewardship.
(source: https://hurricanecapital.wordpress.com/)
The book also highlighted the need for good communications using Berkshire Hathaway Owner’s Manual as the gold standard.
We will be candid in our reporting to you, emphasizing the pluses and minuses important in appraising business value. Our guideline is to tell you the business facts that we would want to know if our positions were reversed. We owe you no less. Moreover, as a company with a major communications business, it would be inexcusable for us to apply lesser standards of accuracy, balance and incisiveness when reporting on ourselves than we would expect our news people to apply when reporting on others. We also believe candor benefits us as managers: The CEO who misleads others in public may eventually mislead himself in private.
Words matters. A lot.
The book further cited good case studies such as General Electric under Jack Welch, Nike under Phil Knight, Google under Larry Page and Sergey Brin, IBM under Sam Palmisano, Home Depot under Francis Blake, and Amazon under Jeff Bezos.
I particularly enjoyed Phil Knight’s sharing from the book:
When we went public in December 1980, we had 7,500 shareholders, and in a word it scared me. I can remember getting that first list, 7,500 people long, that had invested in this company. I put that list on a credenza in back of my desk, and it was the last thing I looked at every morning before I sat down at my desk, thinking, These people have invested their savings in you. Today we have 300,000 shareholders, and I’ve really never lost that feeling. We really have an obligation to do well not only for ourselves but for them
Do check out their shareholder letters by clicking on the links embedded! After reading this post, apply a higher standard when you are reading the annual report and this gives you an overall sensing on the management. PS: They are no recommendations!