The book is the result of a flawed research method. The method goes as follows. Say you are interested in finding what makes people self-made billionaires. An obvious (and wrong) way of doing this is to do the following:
- Compile a list of self-made billionaires.
- Read about them and find how they are similar to each other.
- If you want to be more “thorough” you also find out how they differ from each other.
- Write a book in which you underscore the similarities and spend as little time as possible on the dissimilarities. If the similarities make sense, for example, hard working, having a vision, drive, etc., the book will come out rather well.
"The Outsiders" and "The Millionaire Next Door" both fit in this category. I am sure there are others. It is not to say that these two books are not useful. They might give you some good tips and ideas on how to select good investment opportunities or become a millionaire, but they don’t tell the whole story.
The questions that needs to be answered at the outset is the following: What is the usefulness of such a book? If one is reading it to learn tools and techniques which make a successful CEO, then I have bad news for you. While it is good to know, it is quite possible that the tools will be useless to you, depending on the situation you are in.
The flaw of the method lies in a simple misunderstanding of implications. If successful people have property A, then will cultivating property A make you successful ? The answer is not clear. In fact, it is a totally different question that I am asking. The research I did is useless in either confirming or disproving my hypothesis.
If my hypothesis is that “being a good capital allocator” leads to “good shareholder returns” then I need to conduct the research in a very different way.
- Find CEOs who are good capital allocators.
- Confirm if they have done well for the shareholders.
The book does the opposite.
- Find the CEOs who have trounced the S&P and have performed exceptionally well compared to the competition.
- Observe their similarities and extol them as virtues.
The book arrives at the following characteristics which they had in common.
- Running a decentralized organization with thin management layers.
- Concentrate on cash flows and not reported earnings.
- Concentrate on increasing the per share value of the company and not growth in revenues.
- Acquire when odds are in your favor -- even if the size of the bet is huge. Be patient otherwise.
The book also points out some of the similarities that these CEOs had. For example, they were frugal, analytical and humble. They did not give guidance and spent a very small amount of time talking with analysts. They were wary of investment bankers and lawyers and usually made acquisition and spin-off decisions on their own.
In one word, they were: iconoclasts. Someone who does not follow the crowd.
Let us look at a company which could have been a great example of shareholder returns if the price had appreciated. The relevant data for this company (whose name I am going to reveal later) is as follows:
It has flat revenues, good and predictable cash flows and has used the cash to buy back a lot of shares. This is how the shares have performed.
You might think that they have taken on a lot of debt in the process, but you will be wrong. Here are the net debt figures for them:
And the interest cover:
The company is: KPN (KKPNY).