I just spent a week canoeing with my father. When you share a canoe, you get to talk about all sorts of things. I always try to keep my father involved in my investment thinking. He’s a great resource because he has good business sense, yet has never been involved in the investment world.
He once told me a great story about when he was in residency to become an oral surgeon. The chief resident told him to visit a trauma patient in the ICU. His job was to examine the patient and report on his findings. He spent 15 minutes reporting on his findings before they cut him off. My dad had been so focused on his specialty (the mouth), that he had completely ignored the big picture. His patient had been dead. That was the only correct diagnosis. Nothing else mattered because there was nothing more to be done. The whole exam had been a test—can you take in the big picture?
I sometimes find myself so focused on some specific detail of an investment that I completely lose track of the big picture—do I actually understand what makes this business work? What are the real economics here? What are the competitive advantages? What should worry me?
I like to sit down with friends and a few beers and try to piece a thought out. Unfortunately, most of my friends are in the world of finance. They look at problems the same way I do. They look at the numbers; they try to figure out the returns on capital. They usually have preconceived notions about what the business is supposed to do. Our analysis is always too focused on numbers—not the reason for them. I find many people in the investment world can analyze a company’s capital structure, but fail to really understand the business itself. They are great at analyzing past numbers to come to conclusions, and sometimes they completely ignore the obvious. Is the patient dead?
I often joke about the difference between the real world and the finance world. In the real world, you need a deep understanding of your business and the ability to constantly reinvent yourself. That’s what builds real businesses. Then you have the financial world, where the solution to every problem seems to be using more leverage. How do you increase your return on equity? Leverage up. How do you increase earnings per share? Leverage up and buy back stock. It really is a binary thought process. It is the reason that I spend so much time on the road visiting with real businesses and trying to understand them. Otherwise, I’d be sucked into the vortex of finance guy thinking. It seems so deceptively simple to just play with a spreadsheet, but life never actually works that way. I have hundreds of old spreadsheets where I was off by so many orders of magnitude that I have simply stopped using them. I now focus more on the big picture—if I can’t get that right, I won’t get the little stuff right either.
I enjoy running investment ideas over with my father. He cannot tell me if the numbers work, but he usually knows if I have the concept right. That’s more important anyway. I’m not trying to make a quick gain on something by guessing at next quarter’s earnings—I’m trying to own companies for the long term which can go up five-fold or more. I think it’s time that everyone in finance finds someone from outside the world of finance to bounce ideas off. There is just too much group think in our industry. One of the most important lessons I’ve learned over the years is that it’s not so much what you don’t know that matters, it’s what you know that just isn’t so that can cause a fatal flaw in your thinking. Everyone needs someone to look over their investment ideas—I’m fortunate to have quite a few smart friends whose judgment I trust. Most are in finance, but some of the best insight comes from those from the real world. Every time I have the family canoe trip, I realize just how important real world thinking is.