– Lachlan Mackay
The coffee can approach to investing is an important concept that illustrates a key factor in how we view prospective businesses. It was coined by famed advisor Robert Kirby, who discovered that one of his clients had been selectively acting on all his buy recommendations, putting away the stock certificates and ignoring any sell recommendations. After a few years, despite some unsuccessful investments in his portfolio, he had performed far better than Kirby himself.
The key reason for his client’s success was that he never sold his winners. Xerox went up 160 times in the period and was worth more than the entire identical portfolio that followed all of Kirby’s advice. As John Huber noted, “The vast majority of losses come from picking the wrong business, not picking the wrong valuation on the right business.” In the long-term, allowing the world’s best businesses to continue compounding your wealth has proven to be a most effective strategy.
The important takeaway is that we invest in businesses we are confident we could forget about for five or more years and be sure their earnings power will remain at least as strong as it is today. This kind of time horizon prevents overweighting of information that may appear significant but truly only affects what the next six to twelve months might look like. Of course, we still believe it is important to be on top of new information (fundamentally you must know to change tact and sell early when you are wrong), albeit with a strong filter.
One of the best things about great businesses, especially the ones leading the world today, is their ability to grow into bigger and even better businesses than analysts are capable of forecasting. Amazon has appeared expensive for the better part of twenty years yet continues to make strategic investments – often known as real options – that ultimately turn into new and powerful revenue streams. Beginning as an online bookseller, Amazon has since become the online commerce leader, driven by Prime and Fulfillment by Amazon. Whilst expanding their retail offering into fashion, grocery and entertainment media, they have also become the world’s largest cloud computing provider with AWS.
With greater scale comes greater access to data, which Amazon leverages to target these new business ventures effectively. Amazon has compounded revenues at almost 30% in the decade through 2019, near unheard of for a business that was already doing over $20 billion in sales in 2009. Despite such growth, Amazon remains customer focused and continues their culture of investing strategically for the long-term benefit of shareholders, evidenced by the recent acquisition of autonomous driving start-up Zoox. Meanwhile, Amazon is one of the best positioned businesses to benefit from the digital transformation being accelerated by the ongoing pandemic.
The coffee can investing approach operates akin to Warren Buffett’s 20-ticket punch card rule, whereby you view each investment decision as one of twenty you get in your lifetime. This attitude is exactly why Berkshire Hathaway has operated as an ideal coffee can for so many decades – businesses are bought but very rarely sold. Buffett understands the power of compounding and the importance of taking big swings when you are certain you have found one of your best ideas, as they are exceptionally rare.
Although the coffee can principle appears simple, in practice it is almost never followed. New information is endless and investors are emotional. It is nearly impossible to act purely on a view of the world years in the future, especially during a crisis when under the most near-term pressure. Humanity is such that we always want to act. Our approach at Montaka involves owning the long-term winners in attractive markets, while they remain undervalued. Our goal of maximising the multi-decade compounding of our clients’ wealth (alongside our own) guides our decisions to be based on the probability of outcomes years from now and keeps us from acting irrationally to temporary concerns.
Lachlan Mackay is a Research Analyst with Montaka Global Investments. To learn more about Montaka, please call +612 7202 0100.