The Value Perspective Podcast episode – with Amit Wadhwaney

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JTR: Amit Wadhwaney, welcome to The Value Perspective podcast. It is a pleasure to have you with us. How are you?

AW: I’m great, thank you. Thank you very much for having me this morning – or this afternoon, actually.

JTR: Well, that’s a good way to start. Where do we find you today?

AW: I’m actually in my study in New York City – in Astoria, Queens, which is where I live part of the time – and doing what I usually do here over the hours, days, weeks and so forth!

JTR: For those who may not know who you are, please could you provide us with a bit of background and how you came to be a deep value investor?

AW: I started a number of years ago at Third Avenue Management – or actually the predecessor company, MJ Whitman, initially – in 1990. I was there for about 20 years and it was a great firm. We had a great mentor in Marty Whitman, who was a great value investor and a great distressed investor, and we did a very particular style of investing. After many years of being there, myself and a couple of colleagues, who had been there about a decade each, moved to set up Moerus Capital Management, where we started operations in 2015 and really opened our doors to outside investors in 2016.

The thing about Moerus is its differences are as pronounced as the similarities to the place we were at. We learned a lot over the years. Being at Third Avenue over 20 years, the firm started very small and then became larger and larger – and, as firms grow and evolve, they can turn into something somewhat different to what you signed up for. So the learnings we chose to take with us and implement at Moerus were, for example, we would be very focused. We were going to do one thing and one thing alone: disciplined, long-term, deep-value investing focused on global stocks around the world’s developing markets.

A key reason for the long-term aim was to try and avoid the temptation of manufacturing products in subcategories. Sometimes what people do is they chase every shiny object that goes by. Something’s hot? Let’s have a product – you know, for example, some people want EAFE funds, some people want EM funds, some people want real estate funds or financial services funds or natural resource funds, that kind of stuff. And sometimes this becomes hot, people chase it, introduce new product and raise assets. That is not what we wanted to do. We just wanted one product that spanned what we wanted to invest in, which is global stocks.

We also wanted to build an investment-centric firm where, basically, you stay true to your discipline – unlike others who have drifted into growthy stocks over the last few years to try to keep up performance and then got burned very badly – and we’ll get to that, I’m sure. But we were going to stick to our style of deep value investing. What follows from that is, if you are going to do only one narrow activity, you don’t need a lot of people – you just need relatively few good people. Now, finding good people, hiring them, retaining them, keeping them happy – I mean, that is a challenge unto itself. But the plan was to have a small firm with bright, committed members so you can build a non-hierarchical meritocracy. And those are two very important words there – non-hierarchical. I mean, where we came from was a pyramid – there were people at the top and then there were all the others. We wanted a very flat organisation.

Second, we wanted a meritocracy. I am not going to say an ‘eat what you kill’ kind of thing because it is a collaborative venture. Maybe it is ‘eat what we all kill’, I suppose – and this is coming from an ex-vegetarian! So you have this meritocracy and the thing of having a few people doing one thing and one thing alone is it all becomes quite scalable – and that is the idea here behind Moerus. It is not a large firm – there  are nine of us – and there is no expectation of it being a very large firm because the thing with large firms is they usually stem from having many different product areas, many different activities, many different pursuits. And then, when you have a large firm, there is a bureaucracy element of it – you have, let’s say, a lot of non-investment activities that distract you – and we wanted to minimise that.

So that is how we focused on building Moerus – as a very investment-centric firm, with a small number of people who focus on what we are doing. And that is where we are today. We started, as I mentioned, in 2015, we opened our doors to outside investors in 2016 and we are somewhere in the order of about $850m [£654m] of assets under management. That is small in relation to what the behemoths of the world are these days but, again, we are not trying to be what all the other people are. We certainly have no intention of being a BlackRock or something huge like that. We want to be in very narrowly focused areas.

Working with, and learning from, Marty Whitman

JTR: That is such an interesting journey. Now, Marty Whitman is a legend among value investors and the investment world and I cannot pass up the opportunity to ask you what is was like to work for and with him?

AW: Marty is – forgive me, he passed away some years ago – Marty was a very demanding person and much more so as he was younger. He had a very particular style of investing, which evolved from being a bankruptcy investor. With that style, the prototypical bankruptcy you are trying to invest in is a company that probably has a good business but has a balance sheet that is incapable of being supported by the business – so what you have to do is you have to fix the balance sheet. So you try to change the composition of the balance sheet – usually the debt side – so that it is consistent with the cash-generating abilities of the business.

So that approach to investing – on the debt side, in the case of bankruptcies – translated over the years into equity investing. And the equity investing side of the business, as it turned out, was very balance sheet focused – we used to call it the ‘primacy of the balance sheet’ in the old days. And at Moerus – this is one of the things we have really taken away from Marty – we are very focused on the balance sheet. The balance sheet is the best guide to a valuation – what is the thing worth today, here and now?

What we don’t do is we don’t forecast future earnings – we didn’t do that at Third Avenue and we do that even less so Moerus. Instead, we are very focused on the balance sheet in terms of what the pieces are worth today. And the quality of the balance sheet also matters – for example, we worry about ‘survivability’. When we buy things they are usually very cheap and they are very cheap in relation to the balance sheet itself. And if a company is that cheap, something bad has usually happened – either with the company itself, its industry or else some sort of capital markets phenomenon – you know, some kind of Asian crisis, for example.

So that is how things get cheap and what you want is your company, after you buy it cheaply, to come out of this over time. We tend to be long-term investors – historically we hold on to things for  three to five years or more – I mean, it really depends on the investment. I remember one thing I used to own when I was managing at Third Avenue, I held from 1997 to 2014! It was an emerging market security in a highly volatile emerging market. So we own things for a long time and our turnover is very low but, to stay put in a security, you have to be confident the company is going to be a survivor. The probabilities of survivability are enhanced by a good balance sheet, a good business model and so on – and so we have a whole list of criteria to check there.

Marty was very focused on that and he often owned things for many, many years. He was a better buyer – not a great seller – and he would buy certain things for years and years. And that is something we really learned from him whereas the changes are we are much more intensely balance sheet focused. We are very focused upon business models and, because we go lots more outside the US into various other geographies, we are very focused on the riskiness of a given part of the world, for example. So there are particular tweaks to what we learned from him that we apply at Moerus but, really, our formative years were with our mentor Marty. The three of us worked with him for a number of the years we were at Third Avenue and we have chosen to develop what we learned in a very narrow fashion – a very narrow area. I don’t want to say we are more rigorous about it but certainly we are very disciplined in how we apply the methodology.

JTR: Where does your company’s name Moeurus come from?

AW: Moerus is the classical Latin word for the defensive fortifications of a city – and the root of ‘mur’, the French word for wall. In fact, in our initial pitch book, we used to have the walls of Cartagena to represent Moerus. The idea of Moerus is defensive fortifications. We try to buy companies that have strong balance sheets so we think in terms of our companies having a ‘moerus’ – this sort of fortification that would protect the business against adversity. That is the thought behind Moerus. It is probably a very defensive way of thinking about investment but there is just so much stuff that could go wrong. Inevitably, if you own things for three, five, six,10 years, some bad stuff is going to happen. You just want the company to come out of it the other end and doing well. So that is the importance of a ‘moerus’ – the fortification, the defensiveness.

Avoiding style drift to stay true to value

JTR: That is really interesting. Amit, you are a classic value investor in every sense of the word yet the style has been out of favour for quite a long time. From a process perspective – and you touched on this briefly – how do you and the team remain loyal to the investment style and avoid style drift?

AW: Well, I suppose it’s not wisdom – it’s just that I don’t know how to do anything differently! More seriously, we started Moerus and ran straight into this terrible storm of more growthy names – it was a very hostile environment for value investors, as you mentioned. There were a couple of things that happened along the way and from, let’s say, 2014 to 2017 and even more so before and during the pandemic, you had a period when being a value investor, especially of our kind – ours is a bit more, shall we say, old-fashioned? I don’t want to say rigid, but it’s much more disciplined and there are things you do and things you absolutely do not do – that was completely out of fashion.

The result of this environment was the number of value investors gradually shrank – and some went out of business. So you had a diminution in the number of players doing what we do. Second, those who survived and looked like they were doing well – if you looked at their portfolios, you would see they were buying more and more growthy stocks. What they did was they relaxed their investment discipline and, in their desire to keep up with their neighbours and keep up with the growth investors, this introduced an element of growth.

So perhaps they relaxed the discipline from maybe absolute valuable but not relative value – in that your stocks are just a little bit more expensive, but cheaper than others. That’s how you wind up owning these kinds of assets. So they wind up owning all these growthy names and then, come 2022, these people got murdered. I mean, they were value investors who were very good – whose style had been very good – but they certainly let down their guard and bought all kinds of things they probably should not have. I mean, they explained it away to themselves and they explained it away to their clients – they were buying because this is ‘cheap in a relative manner’ and blah, blah, blah. So you saw people who were value investors down 40% or 45%. It was quite spectacular. It was horrible. It was unfortunate.

Now the flipside of that is, as I said, we know no different and we said, Look – we’re going to be patient because we have seen bad times like this happen before, when value completely goes out of fashion. You saw that in the 1999/2000 period, for example, and then you saw a reversal back to sensible investing afterwards when the TMT bubble collapsed. This time, the bubble was even greater when, of course, you had this period of negative interest rates and QE and all the craziness that went on. And of course, it got wilder and wilder and so we just said, Fine – we’ll do what we’re doing. We spread ourselves, obviously, across the world – there were cheap things around the world and places that, historically, we had not had the opportunity to buy before. And the portfolio was built.

Look – in a period like that, you go through some difficult times and, of course, this results in your performance not looking very good and you will underperform, if you’re a disciplined investor during this time. However, the really big pay-off came in 2021 and then, really, 2022 was the startling payoff when you performed positively in absolute terms and you vastly outperformed the indices. These numbers are a matter of public record – I mean, certainly the results of a public mutual fund are reported out there. So this was by a significant amount, I would say, and it was exactly the sort of stuff that we bought over the years, where the companies were doing fine, the stocks were cheap – very cheap – and they began to do very, very well.

A classic case in point were things like our holdings in oil service companies that we bought in periods when the oil price went to negative numbers in the US – the WTI was a theoretical concept but it was a very depressed oil price. So, of course, the stocks collapsed and so forth. So you went through that pain and you sat it out, basically. Obviously, to implement this kind of investment style, you have to have clients who understand what you are trying to do: a) you are a long-term investor; b) you are going to buy stuff that is out of favour – and can stay out of favour for a while; and c) if you’ve done your work correctly, you will at some point experience the benefits of having been a contrarian investor. So that is how we did it. We stuck to our knitting and we just stayed there. It was not fun. It was absolutely not fun – you could see all the craziness that was going on – but joining the party was a non-starter for us.

As a business, does value investing have a future?

JTR: David Einhorn provoked a lot of comments among value investors recently when he said that value investing as a business was dead. Given you have been involved in value investing businesses for the whole of your career, I was wondering if you had any thoughts on that?

AW: Well, he’s right. He’s right on value investing as a business. As I mentioned earlier, the number of value investors has shrunk and shrunk so that is true – absolutely true. And to stay in the game, as I mentioned also, a number of value investors have been buying growth stocks – or different sorts of growth stocks, in the guise of calling them relatively cheap value, and so forth. So, as a business, it has gotten tougher. But, by the same token, one thing that happens is, as the number of players shrinks, the field of opportunity increases, for me.

Let me give you an example. He is totally right in what he says – that there is this bias – however, we cast our net in all kinds of places where many traditional value investors tend not to go. I don’t know why, but people just tend to have their own biases, right? I mean, historically, value investors have been shy of going to emerging markets – or else the way they do emerging markets is not the way we do it. But we can get to that. They also historically tend to be wary of resource companies. I grew up with resource companies in Canada as a young person, so I know a little bit about them. So those are areas that we have certainly invested in over the years and they have done wonderful things for us.

So the field of opportunity is interesting. And I suppose he’s right – I mean, the traditional US value investor who is focused on the US, I would expect, would likely have a hard time. In the early years, when I was at Third Avenue, value investing was like a path to great riches so there was a big increase in the number of people who got involved in the space – and then you had lots of people who were chasing this universe of stocks. And of course, some of them drifted outside the US – mostly to developed markets, to Europe, to Japan and so forth. Relatively few went to other markets, such as India, Latin America and so on.

The sort of ‘mechanically easier’ markets like China and Singapore, people went into those – I mean, the options there have been worked so the opportunity set there has diminished enormously. However, everyday, the page of the book is turned and there are new things to learn and see. I would never ever have thought we would have so much in Latin America in our funds – but that is really another story. But the opportunity set varies over time – the geography, the location, the industry composition – and you have to be adaptable. As I said, doing what you did mechanically and sticking to some very narrow geographic universe might be difficult, even in the presence of a diminished number of competitors in the space.

JTR: That is interesting, I am definitely going to ask you about investing in international markets in a minute. Before we do, though, could you walk us through some of the lessons you have learned and been able to implement in order to build your own firm in the way you think is the best?

AW: As I mentioned, for example, we wanted a narrowly focused firm that was investment-centric. And we also wanted a firm where, although a narrow focus is a kind of specialisation it is a specialisation that while it is deep, it is also very broad – in other words, you go across the world, but you see the world through your filters, through your investment discipline. And the great thing about that is, if you are narrowly focused, you are not limited to industry area and, of course, opportunities come and opportunities go. For a brief period, in my previous firm, we actually had an emerging markets fund. Now, emerging markets are a heterogenous group but sometimes there are lots of opportunities, sometimes there are very few opportunities. So to have a business focused on just being an emerging markets fund is a very difficult way to earn a living – or to be an EAFE fund is also difficult way to earn a living.

So we wanted maximum flexibility across the kinds of investments we could make – yet these investments would be viewed through a very disciplined filter of this kind of value investing. And, again, we wanted to be a small firm – we did not want the bureaucracy; we did not want all these administrative headaches. Now, that comes with a different set of challenges. Small firms do not have the luxury of specialisation. So we don’t have a large compliance department. We don’t have a large number of operations people – we have two or three. We are multitaskers – generalists, I suppose – so we don’t have this luxury of specialising in narrow areas. We all do many things. I suppose, with the passage of time – if, as and when we get larger – we will probably have more people. But it’s never going to be a large firm and that’s very important to us.

Also, I mentioned we wanted to be a non-hierarchical firm – and that is very important to us too because you have people as equals. Everybody in this firm at some point, if they are ‘keepers’, so to speak, should become owners in the firm. So we all benefit, when we do well and we all tighten our belt, when we don’t do so well. So, in that sense, it is a very different kind of culture – not one where the people who are younger or junior live off the crumbs of the people upstairs. It is a very different kind of culture to the one we grew up in and it is more to our liking.

There’s a certain degree of flatness – when I say ‘non-hierarchical’, I mean, everybody knows everybody and everybody knows lots about everybody. And it is a very collegial kind of place where people treat each other with a tremendous amount of respect. That just makes for a more pleasant place – and an infinitely more productive place so you get a lot done with fewer people. And that is the idea to the extent that, if the firm grows, you’ll probably end up doing more of the same – it becomes a very scalable kind of thing. Obviously you can have issues periodically but that is how we want to do operate.

And ideally, we’d like to – given our backgrounds – be investing across the world, in developed and developing markets. It is a fairly unique place to be because value investors typically have tended to focus on developed markets and less so on emerging markets. My background as a professional investor started in 1996 and I have done lots in both developed and also emerging and frontier markets. So, in that sense, there is some degree of accumulated knowledge about these other places where opportunities come by periodically. So that really differentiates us in great way from where we came from – historically, that was not a place where much emerging market investing was done.

The rule of law and other emerging markets risks

JTR: You mentioned you started your career with Marty Whitman when he was still a bankruptcy-focused deep-value investor and, in that discipline, the rule of law is very important – just as it is for all value investors in developed markets. How do you think about that specific risk in the context of emerging markets and some of the other risks that tend to be signalled when you mention you are doing deep-value investing in emerging markets?

AW: Sure. You will notice we don’t do any distressed bankruptcy investing outside the US, because creditors don’t have the same position in a reorganisation – there are many more stakeholders involved and so your returns can be diluted. And also, psychologically, you have to be a different kind of person to do bankruptcy investing. Bankruptcy investing types – the ones who are really good at it – are believers in, shall we say, a zero-sum game kind of investment style. It is ‘What you get, I don’t get so I’m going to fight tooth and nail’. It is going to be Mortal Kombat to get the pieces of the flesh! So we don’t do bankruptcy investing – and particularly not outside the US.

In countries outside the US, we need to have a rule of law. And, just to be clear, there’s a lot of – for lack of a better word, the word ‘crap’ comes to mind – there is a lot of crap that goes on in US capital markets. I mean, there are more ways in which you can lose money in the US than in other countries – there is a lot of stuff that goes on over here. But, focusing on non-US markets, you have to have some sense of who you are getting into bed with, what kind of corporate structure you’re a part of – holding companies, for example, can be the kiss of death. I mean, all kinds of things go on where, especially in a developing market, if they are interrelated companies, you can have related company transactions that are not reported. And asset value basically drains from the company you own to something the control party owns.

So there is a fair amount of ‘know who’ that goes on, which means it takes us a long time to get to know countries, companies, people who run companies. Take Russia, for example – I mean, Russia was a very big place for investing in the mid-1990s when the privatisation programme was happening and fortunes were made. Fortunes were made by insiders; fortunes were made by somewhat smarter and more adventurous investors than I. That said, it took me forever to get comfortable with companies, control parties, the nature of the business, how it was regulated, who owned it on and on and on – it probably took me to 2010 or 2012 until we made our first investment in Russia.

And Russia is not an easy place to invest – but I would argue, when you know a country, despite perceptions from the outside, you can actually invest with some level of prudence. So, for example, most people who invest in Russia would be terrified of investing in Pakistan yet we were investing in Pakistan in the very early years of the firm. It was my first investment undertaking and we did extremely well – extremely well – in that. Quite simply, we invested in companies that we understood and we invested with people whose motivations we understood, whose behaviour we were comfortable with, whose priorities we were comfortable with.

There are a number of things you need to check out before you invest and it takes a long time for me to get comfortable with any company – or any country for that matter. So it is not a mechanical checklist that gets you there – it is knowledge of the ecosystem, where the company resides, the nature of the people involved with the company. And the business model, for example – what they do, how they do it and so forth. I mean, it is a lot more than purely statistical analysis of financial variables that gets you to invest in a company – there are softer, qualitative attributes about the business and the people involved, which also can be complete dealbreakers.

Sometimes businesses look exciting, with all kinds of fabulous-looking financial metrics – but, at the end of the day, you have terrible people involved with them and you don’t want to deal with them. A lot of that goes on – and this is not something that happens if you’re in and out in companies or countries. You have to spend a lot of time learning them – for example, with Brazil, we started from square one. We were so new to it, we visited Brazil pretty much every year and visited many companies – every time coming back empty-handed.

The reasons related to the business, the valuation, the people and so on and so forth – there were always reasons. It really had nothing to do with it being Brazil. I mean, fast forward to Moerus, many, many years later and Brazil was going through a crisis – you had Dilma Rousseff being indicted, then, of course, you had Lula da Silva thrown into prison and so on and so forth until, finally, Brazil has its first recession in many decades. So we had a tremendous opportunity to invest in Brazil and that’s how we got involved there.

So it really takes time – for example, take Colombia. I started investing in Colombia in late 2003. You know, easy things at first – [Baladia???] was a big investment. A year or two later, we started buying companies like [GEA???]. A company we did not buy at that time, however, given the valuation, was Grupo Exito. It was a great, great, great company but we did not buy it. Fast forward, we wind up buying it when we are at Moerus because, every time we went to Columbia, we would visit it and learn more about it – update, update, update, keeping on top of what they had done, what they had not done, what the clients were, what the expectations were and how they were building the business. We admired the business – it was just very expensive.

So we first bought Exito, probably, in 2016. The company was then taken over some years later by CBD – Companhia Brasileira De Distribuição – so it disappeared. Now, there’s no Exito – well, it’s there but only 3.5% is trading in the public marketplace. Then, Casino Group, the parent company of CBD, gets in trouble and so, to help them out, they are going to distribute the bulk of their stock holding in Exito. Of course, no-one is focused on this – at the same time, you can buy CBD for less than the value of its holding in Exito alone. Plus, you get the Brazilian business for free. Plus, you get a holding of 30% in Cnova, which is an ecommerce business in France for free – actually, negative value.

So being aware of a business really helps you invest – in tandem, of course, with our investment discipline. We look at things based upon a break-up value – sum of the parts – and a balance sheet basis. That sort of liberates us from focusing on the earnings swings – the ups and downs of earnings – which everybody else is doing when you look at CBD ... which is why we got CBD so cheaply by creating an ownership position in Exito at a very low price. Time allows you to learn about businesses. Learning about the people and how they run the business, learning about business models – this takes time. But you have to get comfortable – with markets, with companies, with ecosystems, with governance structures, political environment and so forth.

Tackling emerging markets as a value investor

JTR: Your focus has been on international markets throughout your career. Do you see emerging markets as an area where there are so many inefficiencies it makes them an attractive hunting ground for value investors?

AW: The funny thing is, historically, value investors, when they’ve gone outside the US, have typically gone to developed markets. The favourite ones were obviously Europe, then Japan and they would do stuff in Southeast Asia – the bigger markets, be it Hong Kong, Singapore and so forth. Emerging markets, I suppose, if you are trying to be disciplined value investors, are much harder places. They are very hard, depending on the individual market, but they are also hard because most people think you buy emerging market stocks because emerging market economies grow faster than developed market ones. So the companies that benefit from that growth will, of course, be valued higher. Then the demographics are often very good and, as capital accumulation continues in those countries, they grow fast. So it’s kind of like buying a growth stock when you buy an emerging market stock – and growth stocks historically have been valued richly. So, for the longest time, most emerging market stocks were just expensive – they were very expensive.

Now, it varies from market to market but one market has historically has been a very difficult place for us – a very interesting place, with interesting companies, but a very, very expensive collection of companies – and that is India. India has had some absolutely fabulous companies – however, because they were growing rapidly and the growth was well recognised, the valuation was absolutely absurd. When I was at Third Avenue, year after year, everybody in the team visited India and, like Brazil, we would come back empty-handed. Then, in 2013, we had the taper tantrum when then Federal Reserve chairman Ben Bernanke threatened to raise interest rates and there was a huge amount of capital outflow from any India portfolio – and, of course, the stocks collapsed, the currency collapsed.

And we were ready. We were totally ready. I don’t want to say we had a ‘buy’ list ready but we certainly had a list of interesting companies where we wanted to invest – if the price was right. And suddenly the price was right and the portfolio became full of Indian securities. We had a similar opportunity in 2020. During the pandemic of course, the world shut down, India was hit, Indian stocks were hit and here too we built up a bunch of Indian securities. Not as many as in 2013 but we certainly got some really interesting companies at very good prices – things we would never otherwise have been able to. So, again, the way we think about developed markets is also how we think about emerging markets – except the process is slightly different in that, typically, valuations make it difficult for us to buy. So we don’t – but we spend time learning.

And Brazil, as I mentioned before, became interesting after the Dilma Rousseff drama – the Operação Lava Jato or Operation Car Wash scandal – that went on. That made things very cheap and interesting there. And Brazil has actually been a so-so option because of the ongoing discomfort now of president Lula – people don’t know what Lula is going to do. With Latin America as a whole, over the years, we have invested on and off – except one country we had not done much in was Chile. Chile was always outrageously expensive because of the persistent buying because of its budget plans. However, 2019 was a watershed moment in the history of Chile and its stock market, with the political upheavals, which then were followed by the pandemic.

What was interesting for us is that, for the first time ever, the AFP pension plans had to do a lot of selling – there were two or three very large bouts of selling of local stocks. Chilean stocks actually started to get cheap – I mean, historically, Chilean stocks were very expensive but they actually got quite cheap. And we were actually able to make purchases – again, there were particular special situations that we were actually able to buy at absurdly good prices.

Similarly, the recent political discomfort in Colombia – probably going back to 2021, there has been a tremendous amount of discomfort over the government of president Gustavo Petro. And, for the first time in many years, things got very cheap. Yes, there was a modicum of political risk – namely, that Petro might pull off some crazy reforms that did some things that were genuinely damaging to the economy, both short term and long term. You know, the idea of just eliminating hydrocarbon production and exploration and so on and so forth – that kind of stuff. And it continues to be like a cloud hanging over the economy.

One business got so cheap, however, it is often used as a value case study – a big, well-known Colombian company. I once taught a class in Bogota about holding companies and I compared Grupo de Inversiones Suramericana to Brazilian holding company GP Investimentos and I asked which they would you buy? Given the home bias, everyone in the audience said Grupo Sura – but the irony, of course, was the Brazilian company was far cheaper. So for the first time in many years – we used to own Grupo Sura in 2005 or so  but never since – we revisited it in 2021 and it was as cheap as it had ever been. And the idea was very simple, Petro or no Petro, the economy was going to recover from the downturn, the underlying stocks were going to recover – they were showing signs of this – and, of course, if the stocks sitting inside this holding company went up in value, the holding company itself would probably start to reflect the appreciation of its holdings.

It was a simple idea. We were going to own it for three to five years, maybe more – who knew? Who knew? Well, we bought it at 19,000 or 20,000 pesos in the third quarter of 2021. Then, along came a gentleman by the name of Jaime Gilinski, who made a bid for the company – initially in the 30s and then at 39,000 – and we were gone. So even periods of discomfort – or particularly periods of discomfort – are great times to buy stocks. And the way you can react to discomfort easily is by knowing what you’re buying – know the history, know the businesses, know the ecosystem where they operate, know the key players, know the good and the bad of the company. Look, Grupo Suro is not a perfect company – I think there is a lot of low-hanging fruit inside it and it can actually be a more efficiently-run company. But we’re not buying great companies – we’re just buying very, very cheap companies. Sorry if that was a rather longwinded answer to your question.

Why understanding balance-sheet risk matters

JTR: No, no, no – that’s fascinating and definitely that case study in Colombia was an interesting event. Being Colombian myself, I was following the situation and it was probably the first time in the history of Colombian markets that an activist made a big move against one of the groups. You have mentioned before the importance of understanding balance sheets and balance sheet risk but it seems to us as if many people now overlook this aspect of buying into a business. In your opinion, then, has anything really change on this point over the course of your 30-plus-years career and, either way, why should people be mindful of the balance sheet and balance sheet risk going forward?

AW: Very simply, if you are a long-term investor, you have to worry about the balance sheet – because, if you own something for a long period of time, good things happen and bad things happen. And if bad things happen and your company has a poor balance sheet, it might not survive. So it is irrelevant that you want a cheap stock because, if a cheap stock does not survive, it is not an investment, yes? So balance sheets are important to take you from today to tomorrow, the day after tomorrow and then the year and the year and the year after that – the balance sheet is a bridge between now and the future.

So balance sheets have to be considered, not just in isolation – that, today, this is a snapshot of the balance sheet, this is the debt-to-equity ratio, this is the EBITDA coverage of interest payments and blah, blah, blah. Those are mechanical things. You have to think of a balance sheet in a holistic manner – and, specifically, how does the balance sheet fit in relation to the business model – the nature of the business the company is in? Is the balance sheet adequate to support the business? Or does the business support the balance sheet adequately? It is a two-way thing in that the business, of course, funds all the needs of the balance sheet, the balance sheet requirements, the cash requirements – but, separately, the company grows. So the company needs investment, can the liquidity of the balance sheet support that. This is a holistic kind of thing.

You absolutely have to think in terms of the balance sheet in the context of the changing economy over time – and bad things do happen. This is something people often forget, for example – sometimes companies borrow in a mix of currency and sometimes currencies other than the ones in which they earn their revenues. So you could be, let’s say, a Turkish real estate company – so all your earnings are in Turkish lira – but you borrow money in US dollars because the funding looks very cheap and you are hedging. So, on day one, you have fabulous coverage ratios but then, say, the Turkish lira collapses and, of course, your coverage ratios go to hell. I mean, they are a disaster – you can’t pay your interest, you can’t service your debt.

So you have to think in terms of the nature of the risks embedded in your balance sheet – by the currencies, by the business and so on and so forth. And, over time, what look like good balance sheets can become terrible balance sheets. Take, for example, Glencore, which has been in the news of late. Glencore went public in 2011, resources were doing very well and its balance sheet was fabulous – and, of course, it issued stock at a fancy price because, you know, it was a fine company. Go forward a few years, however – so just before the pandemic – and resources prices are flat on their back. Now, Glencore’s ability to support its balance sheet was a function of resource prices, resource prices had collapsed, the coverage ratios had imploded, it was in bad shape and it had to do an equity issue. So what looks like a good balance sheet under certain circumstances can become a terrible balance sheet as times unfold.

Broadly speaking – and this is a big generalisation – people don’t think of balance sheets most of the time. When people are busy buying stocks, they are usually optimistic about something – and, in periods of optimism, people tend not to think so carefully about the nature of the balance sheet they are buying into. People tend only to start to freak out over balance sheets in bad times, when something goes wrong with a specific business or the economy at large and/or the capital markets go bad so the company can’t refinance maturing debt.

So, if you are a long-term investor, you have to worry about all of this. And a balance sheet is important – both, as I said, in terms of valuation and also in terms of a business’s ability to survive and hopefully thrive. I mean, if you really have a good balance sheet, you can be out there making acquisitions when everybody’s out on their backs – you can buy businesses cheaply. That is kind of important – and balance sheets are very, very important to our way of approaching the world. It is a very particular, conservative way of approaching valuation. It is also a differentiated way of approaching valuation because you see the different component pieces and what an intelligent proactive management could do with an individual piece. You could sell off this piece, buy back shares, you could distribute the business to your investors – many things can be done.

So viewing a business through the filter of a balance sheet is important – not only in terms of identifying opportunities, but also being defensive in terms of surviving and owning the business for many years. Again, a focus on the balance sheet is not something people have in good times when all they can think of is earnings and earnings growth and all the stuff that growth investors think about. It is kind of a boring consideration but it is a key focus of pessimistic value investors who have been through cycles and lived through downturns. So, yes, it is the kind of thing we do a lot of.

Good communications, happier clients

JTR: Good communication is a topic we have touched on in this podcast many times before. You have already identified the importance of having ‘good’ clients – those who understand and buy into your process – as part of your success, so how do you go about communicating to them the importance of being long-term oriented and the fact you are potentially going to be investing in complex situations or in geographies that could make them very uncomfortable?

AW: Before people become your clients, you have to educate them. You have to tell them what they are getting into. You let them know that, historically, we have invested in all kinds of parts of the world – in developed countries, in developing countries, in countries where, you know, there could be discomfort. The reason behind an opportunity could be that people have run away from it because they are not comfortable with it – it is not an optically attractive situation.

So, before people become clients, there are obviously lots of conversations and they will do lots of due diligence. I mean, they are usually reasonably sophisticated people – or at least advised by sophisticated people – people who can understand the kinds of risks they are taking. But that is the sort of starting point, which is important – but, even more important, is communicating with people as you go along. As you go along, things happen in the portfolio.

Our communications tend to be quite voluminous, for lack of a better word. We do two fairly large letters each year while, in the two other quarters of the year – the non semi-annual periods – we do conference calls, where we go through all the details of what we’ve done, what we’ve not done, what worked, what didn’t work, why it didn’t work, what our expectations are and what went wrong. It is always very important to, you know, own up to stuff that did not work. Stuff doesn’t always work so you tell people why things don’t work – you tell people exactly what happened, what went wrong. At the same time, you tell people what went right – though woe betide you if you tell people you expected something would happen, therefore it went right. That is just not true – it’s rare that you have such detailed expectations of the future.

So there is a fair amount of candour and explaining to people just exactly what happened, why it happened – why you think it happened, at any rate – and telling people what went wrong. That is also very important because there is no question we make mistakes and dealing with mistakes, understanding the nature of a mistake and explaining it to clients is important. Otherwise, it would not be honest – not to tell people about that. So our typical communications are the semi-annual, big, written ones and the calls twice a year.

Then there are the, shall we say, intermittent white papers or position pieces – for example, we did one on Latin America. We have done pieces on risk and how we approach risk; we have done pieces on how we approach valuation; and then, for the first time, we have recently done an overarching piece on how we think about investing generally. The intention here was to set the tone as to what people should expect from us and what it is we are doing. Again, we should be long-term investors – so don’t expect any fireworks in the short term unless there is some sort of random event. Stuff happens – good things happen and bad things happen to us in the short term – but really the focus is the long term and we do try to condition people about that.

A book recommendation

JTR: Amit, we are coming to the end of our session and we wanted to ask you to recommend a good book. I  can see a very extended library behind you so I am pretty sure you have some great recommendations for us.

AW: What I am going to suggest is not a ‘How to’ investment book in the traditional sense but it has got absolutely everything to do with how one approaches investing – and actually living more generally. The name of the book is Silence: In the Age of Noise by Erling Kagge. He is a Norwegian explorer – he has been to the North Pole and the South Pole, climbed Mount Everest and so forth – and also an art collector. Art is a passion of his and he’s written about ‘How to buy art cheaply’ – or what he considers to be cheap – which is a different story and I’m not so sure about that!

Anyway, this book is really a meditation on silence. The impact of silence is underappreciated among investors. Most investors usually sit in the intersection of a lot of noise – a lot of people talking about a lot of things, all the time, so you have a lot of information. Yet there really is an important element – the ability to engage in quiet thought is very conducive to approaching decision-making with some clarity. Yet that is very elusive in this day and age where you are surrounded by all this chitter-chatter, all this noise, which is typical of an investor’s world. It is a fabulous book and I gave it to the entire team a couple of years ago. I think it’s great reading.

JTR: That is a fascinating recommendation – one of my favourite recommendations in all the time we have been asking the question, I think. Amit Wadhwaney, thank you very much for coming onto The Value Perspective podcast.

AW: Juan, thanks very much for having me – this was much appreciated and a great conversation. Thank you.