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Ron Baron's Baron Funds Fourth Quarter Letter to Shareholders
Posted by: Holly LaFon (IP Logged)
Date: February 20, 2014 08:05PM
RON'S SPEECH CONFERENCE SPEECH, "VISION." Good afternoon. Welcome to the 22nd Annual Baron Investment Conference.
When I was young, Superman was my hero. I even collected Superman comic books. It wasn't just that he could scale tall buildings in a single bound. Spider-Man could do that. It wasn't just that he was strong. Captain Marvel was strong. And Batman? He didn't even have any super powers. He was just a billionaire with lots of cool gadgets. What's so great about that? No, for me it was all about Superman's X-ray vision that allowed him to see through any- thing. Now that was amazing. And I'm sure you can understand why that skill would be so appealing to a 13-year-old boy.
SLIDE: Superman using X-ray vision on a date.
SLIDE: Default Plane
Vision is the theme of the 22nd Annual Baron Conference. We chose this theme because we think it's necessary for CEOs to have vision and execute within its framework for their business- es to grow significantly. I want to thank John Addison, Andrew Florance, Robert Wagman, Peter Carlino and Mitch Rales for sharing their backgrounds and vision with us.
SLIDE: CEO Head Shots
Vision is what allowed them to see opportunities others didn't. Their businesses are growing strongly because they are investing for the long term to achieve growth. We agree with their strategies. We invest in people. These executives are precisely what we mean by that.
The cost of Baron's current holdings in CoStar, Colfax, LKQ, Penn National Gaming and Primerica was $619 million. Those investments are now worth $1.6 billion. Based on their businesses' growth prospects, we think those stocks could appreciate another $1.5 billion in the next five to six years!
SLIDE: Yogi Berra.
Yogi Berra used to say, "That was the best game of my life...I've had several of them." We could say something similar about dozens and dozens of our investments...including these!
I want to thank Linda for a very thoughtful and funny speech. I really enjoyed it.
I also enjoyed watching Kevin Plank, Under Armour's CEO and Founder, question our guys just like we have questioned him on so many occasions since we began to invest in his business eight years ago...and have since quadrupled our money. I want to congratulate our managers for holding up under Kevin's intense scrutiny. Today I want to speak about "Vision."
I. The Environment. "It's not what you look at that matters. It's what you see."
II. Our process. "Seeing with the brain" and "Thinking Differently."
III. "Vision." An ability to see what's not there.
I. THE ENVIRONMENT. First. The environment is confusing. It's foggy out there.
SLIDE: Foggy beach
My Grammar School guidance counselor in Wanamassa, New Jersey, advised our eighth grade class that we should "believe nothing that you hear and half of what you see." His advice to eighth graders to be skeptical was unusual...but it was memorable.
"Trust but verify." That was how President Ronald Reagan put it in 1986.
Individuals remain afraid to invest in stocks. That's because we narrowly avoided a Second Great Depression five years ago...and conventional thinking is that it can happen again. During the past several months, forecasts that our country's growth will remain slow for 20 years...or longer...have grown increasingly strident...
despite America's improving economy and strong stock market.
PIMCO, America's biggest investor in fixed income securities, expects our nation to experience an extended period of slow growth. They call this the "New Normal."
SLIDE: New Normal
That would be good for its bond investments. Two weeks ago, Barron' s magazine cover featured an article suggesting economic growth was "Slowing to a Crawl." Controversial headlines sell newspapers.
SLIDE: Snail Headline
That Barron's article was based upon theories of economist Robert Gordon. Gordon thinks the strong growth our nation experienced during its 237 year history is "a blip!" He forecasts an extended period, like the Dark Ages, when growth will be mediocre and standards of living will advance slowly.
SLIDE: Dark Ages
Responding to economic concerns, publicly owned businesses remain cautious about spending money to grow.
SLIDE: Eye Chart Environment
My good friend Arthur sold his business to a larger company several years ago. He recently had dinner with its CEO. "Why aren't you investing to grow faster?" Arthur asked. He was surprised by the answer.
"Wall Street doesn't want us to invest. They don't believe in growth. If we invest to grow, our earnings will decline and our stock price will fall. Wall Street wants share repurchases, increased dividends and cost cuts."
We think this is short sighted and widespread pessimism is the reason there are so many attractive opportunities and the stock market keeps going up.
SLIDE: Fog Lifts: Here Comes the Sun
We think exponential advances in technology; plummeting communications costs; abundant, low cost domestic energy; and rapid advances in healthcare, will improve our nation's standard of living and economy. We don't believe in a "New Normal."
In the 20th century, America's standard of living increased seven fold; our economy grew 6.8% per year; and our stock market increased 6.2% per year. Considering innovations since only 2000...iPads, smartphones, gene sequencing, social networking, facial recognition and shale development so far...and self-driving electric cars and Google Glass soon...we think growth will be at least as fast in the 21st century.
CLIP: SNL with Google Glass and porn That's our future...
SLIDE: Eye Chart Environment
With interest rates at historic lows; our economy deleveraging; and growth accelerating; stocks are currently priced 10% below their median valuation of the past 100 years. This, despite the fact that America's estimated 2013 GDP is almost 7% higher than last year's. This is a lot different than the 2% growth you read about. The difference is inflation. Stocks historically have been the best protection against inflation.
SLIDE: Eye Chart Process
II. OUR PROCESS
Most believe we see with our eyes. Science teaches us we see with our brains. Our process teaches analysts to "interpret" what they see. We read the same newspapers, review the same published data and watch the same CNBC programs as everyone else. Why do we reach different conclusions? Why have we earned better returns than most for 31 years? We think it's because we train our analysts to interpret what they "see with their brains" differently.
In 2012, the Detroit Tigers' Miguel Cabrera won baseball's Triple Crown, a feat that had not been accomplished in 45 years. Cabrera's hitting approach is different than most. He focuses on a pitcher's grip; the angle of his arm; and the slightest variance in his leg kick...while remembering the sequence, placement and speed of pitches already used.
While other hitters "keep their eye on the ball," 99% of Cabrera's "seeing" happens before the baseball even leaves the pitcher's hand!
SLIDE: Cabrera's Brain
Cabrera's intellect allows him to interpret what he "sees" better than others. We train our analysts to "see"....with their intellect. Our process is to ask more questions and understand businesses' prospects for the next five to ten years better than traders...who don't really care about what's going to happen in five to 10 years anyway!
SLIDE: Eye Chart Process
Most analysts and business executives can size a business opportunity. Fewer people understand competitive advantage or consider it important. Fewer still are able to assess management skills, vision and ability.
SLIDE: Executive Head Shots
Think about Kevin Plank sitting in his basement with boxes of T-shirts believing he could com- pete against Nike. Or Chuck Schwab believing his startup discount brokerage business could compete against Merrill Lynch and Fidelity. Or Ralph Lauren believing he could create a global lifestyle brand when he was trying to sell his wide ties to Bloomingdale's out of his briefcase. We have consistently invested for the long term in such entrepreneurs.
No banker would lend money to someone he or she hadn't met. As equity investors, we wouldn't consider "investing in people" before meeting them, trying to learn "what makes them tick" and understanding their vision.
We define "Vision" as the "ability to see what is not there." Vision is also an ability to see a future that may be dramatically different than the present.
I thought cell phones were the coolest thing ever after watching Maxwell Smart speak into his shoe in the 1960's television show "Get Smart."
SLIDE: Maxwell Smart
AT&T's Bell Labs invented mobile telephony for our military in 1947. However, AT&T then believed cell phones would target a niche of fewer than one million potential customers in the year 2000. There are now 7 billion cell phones. They were only off by 6.9 billion. SOUND CLIP: "Missed it by that much" AT&T's leaders didn't have the vision to see how different the future would be from the present.
SLIDE: Eye Chart Vision
Our vision for America's economy is different than most. Over time, we think it will grow dramatically faster for three principal reasons.
1. Technology 2. Healthcare 3. Energy 1. TECHNOLOGY!
SLIDE: Flight theme
We chose this image of the first Wright Brothers' flight at Kitty Hawk to symbolize Vision. That first flight in 1903 triggered innovations that have had a material impact on the world's progress ever since. In 1969, only 66 years later, Neil Armstrong, with a fragment of the Wright Brothers' glider sewn inside his space suit, walked on the moon! Isn't that amazing?
AUDIO CLIP: "One small step for man, one giant leap for mankind."
SLIDE: Man on Moon.
Of course, the very first Vision of man being able to fly in a heavier than air machine can be attributed to Leonardo da Vinci in 1493! He called it the "Flying Screw!"
SLIDE: "Flying Screw."
You couldn't make that up. The "Flying Screw." Not to be confused with The Mile High Club.
SLIDE: Hooters airplane
Flight and space exploration fostered a fascination with science that has led to great advances in technology, including the first integrated circuits which are the basis for modern computers. With computers came the internet, which dramatically changed all our lives. The internet has been grow- ing 30% per year for the past thirty years and driving the growth of our economy.
Our solar system is 9 billion years old. Earth is 4.5 billion years old. Dinosaurs survived 165 million years. Our civilization is only 15,000 years old and most major advances have taken place in only the last 100 years. The rate of technological progress is accelerating NOT decelerating!
SLIDE: Walter Payton
"No one is promised tomorrow." That was how star running back Walter Payton described it before his life ended too early at age 45.
Scientists believe longevity for Americans will increase to 125 years within the next century. Talk about improved living standards!
Gene sequencing provides a tool to diagnose, treat and cure cancers, heart ailments and Alzheimer's. It took 13 years and $2.7 billion to map the human genome. It now costs $3,000 and takes 24 hours! It will soon cost a lot less. LDL cholesterol clogs arteries and causes heart attacks. A level less than 100 is optimal. Scientists have found individuals with LDLs of 14! This is due to a rare gene mutation. Pharma companies are developing and testing drugs that mimic that good mutation. Early results are promising.
Breakthroughs in personalized medicine will soon take the guess work out of conventional diagnostics.
SLIDE: Medical Cartoon
2000 years ago, during the lifetime of Jesus Christ, life expectancy was 32 years.
At the beginning of the twentieth century, life expectancy had only advanced to 42 years! In America today, despite an obesity epidemic, life expectancy has reached nearly 80 years! With personalized medicine and genome research, life expectancy could increase more than 50% before the end of this century!
Prudential is advertising to encourage people to save more for their retirements.
SLIDE: Prudential Ad
"The first person to live to 150...is alive today," they say. "Get ready for a longer retirement." Maybe Mel Brooks and Carl Reiner were not that far off.
SLIDE and AUDIO: 2000-year-old man.
The investment implications are clear. Invest with money managers who know how to invest for the long term. Invest in tour and travel businesses. One of the young people I recently interviewed told me his grandma, aged 72, had just passed away. She told him the biggest regret of her life was that she had not traveled more. With a lot more older people, it is not going to be any easier to get through airports, especially on flights to Florida.
SLIDE: Airport crowded with older individuals Finally, with an aging populace, we think you should invest in pharma businesses that produce generic Cialis and distribute drugs that cure STDs.
SLIDE: Mort Baron
That's my dad, David and Michael's Grandpa, on his way to a Halloween party last week. He's 93! Talk about energy...
SLIDE: Energy Images
America's enormous domestic shale oil and gas reserves will soon make it the largest energy producer in the world. That is a REALLY big deal. Especially since America is using energy more efficiently and will likely use even less of it as electric cars become prevalent.
Our country is no longer vulnerable to a 1970's style oil embargo or to extortionist threats from unfriendly governments. Businesses that produce domestic shale energy are attractive investments.
SLIDE: Ron Vision
Every year we invite executives in whom we have invested to discuss their backgrounds and vision with you. We do this to help you see why we think Baron Funds which are part owners of their businesses continue to be attractive investments for your families and ours.
As the Founder and Chief Investment Officer of Baron Capital, which manages your money, I thought you might like to hear a little about my background and vision as well.
I grew up in Asbury Park, a small, middle class, Jersey Shore town. My Dad was an Army engineer at Ft. Monmouth. My grandparents came to America from Russia and Poland around 1900. By the way, have I ever mentioned? I'm Jewish! I began my career as an investment analyst in 1970. Susan Robbins, our health care analyst, and I started Baron Capital in 1982. Linda joined us a year later. All of us still work here. Which we think speaks volumes about our firm's low turnover of employees...which is consistent with our low turnover of investments in companies. When we commit, we commit.
SLIDE. Ron Vision.
I want to talk about three things...
1. "Big Idea." We are in the compounding business.
2. "We invest in people"
3. "Being hit by a meteor"
1. Our "big idea" in 1982 was to provide investment services to middle class people like my parents as well as to the affluent.
Our goal was to provide a service that offered better, more consistent, long term returns with transparency, liquidity, less risk and at lower cost than competitive hedge funds. We also wanted to outperform the market and competitive mutual funds. Our "big idea" then remains our "big idea" now.
Albert Einstein said "compound interest is the most powerful force in the universe." Baron Capital Group is in the "compounding" business. We managed $10 million for clients in 1982, $100 million in 1992 and currently manage $23.8 billion. Over the past twenty years our clients have given us about net $7 billion to manage for them, including $2 billion in the past year. The investments we made on their behalf have increased in value by $17 billion. For example, our largest fund, Baron Growth Fund, has achieved 14% compounded annual growth, about 500 basis points better than the market for 19 years. Our goal is for the investments that we have made on your behalf to increase in value by an additional $20 billion during the next five to six years!
2. "We invest in people" for Baron Capital just like we invest in people who manage businesses in which Baron invests.
To find these investments our firm hires MBAs who are educated at the best schools in America. So, first, we are looking for smart. Second, we get personal and ask about their families. When did they come to America? What did their mom and dad do? We want to hire individuals who have learned from their parents and grandparents that you can be successful if you are well educated and work hard. Also that you learned about being honest, ethical, fair and decent from your family...whether they were doctors, lawyers, teachers, accountants, mani- curists, housekeepers, shopkeepers, butchers or taxi drivers.
Finally, we are looking for nice, thoughtful people who are fun to be around and who want to work as a team to help each other.
Baron Capital Group is a "family business." Our firm is 31 years old. We expect our business to live much longer than I will. We think it is important that it remains highly respected and our employees remain proud to tell their children they work here. That will allow us to continue to hire the most tal- ented employees...train them...and retain them. We also want our clients to think well of us...both for the results we achieve... and for how we achieve them.
As Tesla's Elon Musk says, he wants "all vectors pointing in the same direction." So do we.
3. Investors have been asking me for a long time, "Ron, what happens if you are hit by a bus?" Since I don't often take public transportation, I have assured them it was less likely I would be hit by a bus than by a meteor!
Then last summer most newspapers carried a front page story about a meteor shower that smashed windows in a remote Russian village and caused deaths!
SLIDE: Meteors crashing to earth.
Good news: I hardly ever travel to Russia. I believe you haven't created a strong organization and culture if you need to recruit someone who is not already in your organization to lead it.
Cliff will someday succeed me as Chief Investment Officer...if he can outlast me, that is. Cliff has been a very successful investor in part because his hero was his grandfather, another well-known investor, and Cliff wanted to be just like him.
Linda will continue to run our business. I think the reason she has been so successful is that she is real- ly smart, works incredibly hard and loves her job. She spent 30 years studying our business so when it became her turn she had lots of ideas about how we could do better. She has made thousands of decisions...and she is almost always right. She also has significant entrepreneurial genes.
I expect my sons David and Michael to play increasingly important roles in our firm. They are both analysts and members of a seven person team that currently manages $700 million for private clients in two of our top performing strategies.
We think David and Michael have been able to make important contributions to their team in part because they have been studying me for their entire lives. I have heard Michael tell people on more than one occasion that he began to inter- view for his job when he was five! We think their involvement in our business should assure our clients and their fellow employees of continuity and stability.
Working every day with individuals like you've met today who are very smart, funny, hardworking and young, and meeting executives daily who are changing the face of our nation and solving its problems...that's what I do.
People often ask me, "Ron, if you could do what- ever you wanted, what would that be?
"I am already doing it," is my answer. That's my vision. Thank you for making it possible.
SLIDE: "Just getting started." Sprinter in starting blocks
Guru Discussed: Ron Baron: Current Portfolio, Stock Picks
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