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Lampert's Lemon and Lemman's Lemonade
Posted by: The Odd Lot (IP Logged)
Date: January 13, 2014 05:07PM

In investing it's often useful to analyze two different sources (annual reports, interviews, articles, etc.) and directly compare them to see if any patterns can be extracted. 

Eddie Lampert and Jorge Paulo Lemman 

This time, let's focus on two admirable investment billionaires: Jorge Paulo Lemman and Eddie Lampert (despite his recent slump, I still remain a fan of his earlier work). Fundamentally, the similarities between the two stretch beyond their appearances on the Forbes Rich List. Both are considered extremely savvy investors who take an active, hands-on approach to running the companies they invest in.

In recent years, however, the two have diverged despite their common grounding. Lemman's firm, 3G Capital, seems to be hitting one home run after another, most recently in its mammoth acquisition of Heinz. Lampert's ESL Investments, on the other hand, has experienced one headache after another, as its gigantic investment in Sears Holdings (SHLD) (a department store conglomerate of which Lampert is the CEO) continues its crippling battle to stay alive. Lemman's 3G Capital has become a magnet for investment capital, even teaming up with Warren Buffett (Trades, Portfolio) himself in their latest deal. Lampert's ESL Investments, however, is reportedly getting redemptions out the wazoo.

No place is this divergence more striking than in the press. Of particular interest are two articles that can be found on BusinessWeek's website:

1. BusinessWeek's article on Jorge Paulo Lemman August 2013 (click to view)

2. BusinessWeek's article on Eddie Lampert July 2013 (click to view)

Here we have two articles from the same publication, published in the same year (a month apart), both telling a story with the same premise ("a billionaire investor with an impressive track record takes matters into their own hands in latest investment") and yet both outcomes read completely differently. Why?

The Jorge Paulo Lemman article paints him as a swashbuckling "businessman" that is masterfully restoring once mighty, now gluttonous American brands. The Eddie Lampert piece seems to tell the tale of a pedantic "corporate engineer," so obsessed with his own economic ideology that he is willing to risk bankrupting of one of America's oldest businesses just to prove his outdated view of the world correct.

The Devil Is in the Details?

I originally thought it would be interesting to compare one article outlining "good" management practices that led to billions in value creation (in the Lemman case) with the other article that exemplified "bad" management practice, leading to billions in value destruction (the Lampert article). "When I come across managers exhibiting Lemman's characteristics", I thought, "I'll load up on their stocks. When I come across a Lampert, I'll rush for the exits."

The pattern I actually found when directly comparing the two articles completely surprised me and had me re-learning an old investment adage (snore!)...

Here is an example of one of Lampert's main management tools at Sears as reported by BusinessWeek:

"Lampert runs Sears like a hedge fund portfolio, with dozens of autonomous businesses competing for his attention and money. An outspoken advocate of free-market economics and fan of the novelist Ayn Rand, he created the model because he expected the invisible hand of the market to drive better results...Instead, the divisions turned against each other—and Sears and Kmart, the overarching brands, suffered."

BusinessWeek article on Eddie Lampert July 2013

This is as opposed to Jorge Paulo Lemman's team, who, according to BusinessWeek

"...hired a management consultant named Vicente Falconi, who put in place a system where, instead of basing budgets on the previous year’s, managers started at zero every 12 months and had to make a case for why they should get more. Hees used the same system at Burger King."

BusinessWeek article on Jorge Paulo Lemman August 2013

I'm no business consultant, but "zero-based" budgeting and "autonomous business units" essentially sound like different terms to describe the exact same thing. The similarities in management styles don't end there. Because of Lampert:

"...individual business units started to focus solely on their own profitability...Last year less than 1 percent of Sears’s revenue went to capital expenditures, much less than most retailers; even thrifty Walmart invested 2.8 percent of its sales. Lampert and his hedge fund own 55 percent of the company. He defends his decision not to invest in the stores by arguing that Sears’s money is best spent elsewhere—such as the online business unit, which he’s showered with resources."

- BusinessWeek article on Eddie Lampert July 2013

If this statement is to be believed in isolation, then aggressive cost cutting for a company is bound to result in disaster. Yet, a mere one month later, BusinessWeek identifies Lemman's success largely resulting from his team's ability to cut expenditures, aggresively:

"Lemann’s partner Sicupira has a favorite phrase: 'Costs are like fingernails: You have to cut them constantly.' ...Lemann’s single-minded focus on cash flow explains how, after the takeover of Anheuser-Busch in 2008, AB InBev had little trouble paying down its massive debt amid the global financial crisis.Once they’ve streamlined away a company’s inefficiencies... there’s nothing left to improve."

BusinessWeek article on Jorge Paulo Lemman August 2013

From here, the similarities between management strategies become eerie:

Decentralized systems and structures work better than centralized ones because they produce better information over time,” Lampert writes.

- BusinessWeek article on Eddie Lampert July 2013

"Then he started knocking down the walls between offices to create an open-air plan and promote communication."

BusinessWeek article on Jorge Paulo Lemman August 2013

"Under the new model, Lampert evaluated the different divisions—and calculated executives’ bonuses—using a metric called business operating profit, or BOP."

- BusinessWeek article on Eddie Lampert July 2013

"[Lemman and his business partners] incorporated some of the Garantia culture, ...implementing big, target-based stock incentives."

BusinessWeek article on Jorge Paulo Lemman August 2013. This quote is, interestingly, describing Lemman's success in turning around a retailer.

The more you read each article, the more similarities emerge. BusinessWeek alludes to one of Lampert's key failures as being the fact that his managers at Sears have lacked prior retail industry experience:

"While he often clashed with retail veterans, Lampert got along better with businessmen from finance and technology. '[Lampert] valued the outsider view,' says Bill Kenney, a former vice president who now runs his own consultancy. 'He tends to bring people into the company who don’t have a lot of retail experience.'"

BusinessWeek article on Eddie Lampert July 2013

Yet, BusinessWeek pinpoints Lemman's success stemming from putting in place managers who triumphed precisely because they don't have relevant industry experience:

"Their first move was to replace Heinz’s long-serving chief executive officer, William Johnson, with Bernardo Hees, a former Brazilian railroad executive who had most recently run Burger King (BKW)... Hees didn’t know anything about fast food before becoming CEO of Burger King. He started his career as a logistics analyst at a Brazilian railroad Lemann and his partners took over in the 1990s, rising to CEO after just seven years. Putting a railroad guy in charge of a fast-food chain makes no sense at first blush, but this, too, is a typical Lemann move'What’s important is not knowing hamburgers, it’s knowing how to lead a company,' says Paulo Veras, an Internet entrepreneur who for several years led one of the trio’s foundations. 'It’s the kind of intelligence that transcends any specific business segment.'”

BusinessWeek article on Jorge Paulo Lemman August 2013

The Difference Between Value Creation and Destruction?

Okay, I'm sure by now you get the point.

I think the conclusion to draw from this sermon is not how seeking strategic advice from BusinessWeek articles may be a little confusing. Nor am I suggesting that Lampert and Lemman have the same modus operandi: I'm sure there are lots of things Lemman's managers do that Lampert's don't, and vice versa.

The interesting pattern I'm focused on is this: In one story, broadly speaking, a cunning, smart capital allocator with a fresh, new strategy in an age-old industry — coupled with an eagle-eyed view on unnecessary costs — whipped a company into reaching unimaginable new heights, while creating billions for himself and his investors. In the other story, a cunning, smart capital allocator with a fresh, new strategy in an age-old industry — coupled with an eagle-eyed view on unnecessary costs — strangled a company into reaching unimaginable new lows while losing billions for himself and his investors.

What keeps me up at night as an investor is this conundrum: If I just presented you with just the strategic facts of each case (read over each quote again, but only focus on the bolded words — without BusinessWeek's added journalistic flourishes) before you knew the outcome of each investment or the industries each operated in, would you have picked which manger was sure to make you billions or which one was bound to lose?  Maybe not? Don't worry, not even BusinessWeek could: (click for link).

For me, the main difference between the success of Lemman and the languish of Lampert is simple: the businesses they chose to manage and the industries the chose to compete in. Lampert, perhaps originally focused on other motivations, chose to back a crippling, high-cost business in a perfectly competitive industry experiencing tough structural change. Lemman chose to practice his brand of management on perpetuity-like businesses that competed in oligopolies. These oligopolies grew by the year and had the potential to be made even stronger by brilliant management. Lampert chose a business whose revenues and cost structures were tied at the hip. Lemman's businesses have revenues that vary almost independent of their cost structures.

It seems that the stories of Lemman and Lampert, once again, prove the old investment adage: "A jockey is only as competitive as his horse."

"We make silk purses out of silk," explains Charlie Munger. "We dont know how to make silk purses out of a sow's ears." Lemman took lemonade that was already being made and, using extreme management prowess, turned it sweeter. Lampert first had to make lemonade by endlessly trying to squeeze a lemon.

 

www.oddlotinvest.wordpress.com



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Re Lampert s Lemon and Lemman s Lemonade
Posted by: The Science of Hitting (IP Logged)
Date: January 13, 2014 06:20PM

Great post - and the same goes for the few you've posted on your blog in the past few days; thanks!



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Re Lampert s Lemon and Lemman s Lemonade
Posted by: The Odd Lot (IP Logged)
Date: January 13, 2014 07:02PM

Thank you for your kind words. I'm a big fan of your work, so I extra-appreciate the comment. 



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Re Lampert s Lemon and Lemman s Lemonade
Posted by: The Science of Hitting (IP Logged)
Date: January 13, 2014 07:30PM

Glad to hear it - keep up the good work and I'll try and do the same haha :)



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Re Lampert s Lemon and Lemman s Lemonade
Posted by: kengolub (IP Logged)
Date: January 15, 2014 01:03PM

The different outcomes is because Sears is a retailer and Heinz is a manufacturer.  It's one thing to streamline production, introduce new products and manage your employees.  Retailing requires a whole different set of skills, from getting customers into the store, to leading them through the store, to presenting the merchandise and closing the sale.  Those customers aren't employees and they're often making discretionary purchases; things they don't need.  A retailer has to be able to woo the customers.  To succeed in retailing, you have to excel at managing that most unpredictable quality: human behavior.

I'm not surprised that Lampert has trouble empathizing with Sears and Kmart shoppers, I'm only surprised he doesn't seem to know his limitations.  But don't count him out yet.  Sears is circling the drain but liquidation may yet make this a profitable investment.

 



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Re Lampert s Lemon and Lemman s Lemonade
Posted by: The Odd Lot (IP Logged)
Date: January 15, 2014 06:40PM

Kengolub:

You have made some great observations - particularly regarding the requirement of a retailer to "woo customers". Your statements are a terrific summary of our (perhaps unnecessarily) long article. 

The interesting thing about Lampert is that his "streamlining" formula did work on two other retailers (ok, I've somewhat broadly classified here): AutoZone and AutoNation.

Obivously, as I'm sure you've already independently concluded, the customer base of those two retailers can be "woo-ed" via a different means: cost and 'merchandise depth'. 

---------------- 

You make an interesting observation on the liquidation thesis too. I completely agree there has to be a lot of value in this conglomerate - most likely not as a going concern. However, at what price would it make economical for today's investor? That's a question I can't answer. 

Whatever happens, Lampert (and his original investors) have minted money on this investment even taking into account the price decline. When an investor buys a large company for around 13-20 cents on the dollar in bankruptcy and uses its cash to buy another large company - its pretty hard to lose.

Lampert is still an astute investor in my book - all one has to do is look at the performance of his other holdings. 



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