"Time is a friend of great businesses and great entrepreneurs."
- Zhang Lei
On Zhang Lei's bookshelf, there was another book that stood out to me – "Security Analysis" (1934 edition) by Benjamin Graham and David Dodd.
This is likely surprising to many people because few, if any, associate Zhang with Ben Graham. In fact, Hillhouse's investments often befuddle value investors because Hillhouse is more than willing to bet big on companies with no current net earnings (such as JD.com (JD, Financial)) and sometimes even without current revenue (as is the case with BeiGene (BGNE, Financial)). Therefore, many are doubtful of the claim Zhang Lei made that he is a true value investor. I too, had doubts a few years ago when I first heard about Hillhouse and Zhang Lei.
Today, I think he's not only a true value investor, but also one of the best in the world. Zhang thinks "Security Analysis" is the bible of value investing. Even today, he still reads it from time to time. The reason why Zhang likes the old-fashioned book so much is because he thinks it revolutionized investing by putting fundamental analysis at the core of investing. In his view, thorough and deep fundamental analysis should be the hallmark of value investing.
Warren Buffett (Trades, Portfolio) and Charlie Munger (Trades, Portfolio) have often said that it's better to take the high way because it's less crowded. I certainly think this is how Hillhouse thinks about investment. From the day Hillhouse was founded, Zhang Lei's goal has been to make investments that make sense.
However, "making sense" is often misunderstood. It is actually the hardest thing to do because there are many things in the world that don't make sense. Many things don't follow the first principles. Hillhouse always returns to the basics when looking at problems and uses first principles to make value judgments. To Hillhouse and Zhang Lei, brands, business models, scale and intellectual property are crucial to a business but are not long term sustainable moats. Hillhouse believes that the only true moat in a business is the entrepreneurial spirit which enables the business to constantly invest in innovation and have an extremely long time horizon.
The foundation of Hillhouse's strategy is research. Only more in-depth research can make more accurate forecasts and judgments about future growth. Hillhouse's research is cross time, cross region, cross stage and cross sector. It's cross time because Hillhouse's team studies the history of the industry, all the way back to day one, when the industry first appeared in human industry. They then study what has worked before and what has failed before and why. It's cross stage because Hillhouse invests across all phases of the capital raising whether it's pre-A or post IPO. It's cross sector, though Hillhouse focuses on healthcare, technology and consumers. In the beginning of its career, Hillhouse focused its investments in China, but now it's truly cross region with investments in U.S, Europe, India, China and Southeast Asia.
Another highlight of Hillhouse's strategy is its ecosystem of cross-learning. Zhang holds informal gatherings with the leaders of Hillhouse's portfolio companies as well of leaders from non-portfolio companies so they can learn from each other. For instance, Zhang organized learning sessions between JD and Blue Moon. During the session, Blue Moon's executives learned from JD how to redesign their liquid detergent refill packs to better fit into JD's delivery bins. He also took the Chinese model offshore to help Hillhouse's international partners. In Indonesia, Hillhouse created a joint venture between Tencent's (HKSE:00700, Financial) WeChat platform and Global Mediacom (ISX:BMTR, Financial), Indonesia's largest media, television and pay TV conglomerate. As Zhang Lei said, "It is a win-win situation."
Hillhouse can also help its partners in terms of providing technology support or enhancing its partner's ability to embrace technology. For instance, after Hillhouse invested in snack maker Bestore Co. (SHSE:603719, Financial), a Wuhan-based company that sells cashews, preserved plums and beef jerky, it helped Bestore use big data to determine whether certain neighborhoods had sufficient demand and whether stores were running at full capacity.
What differentiates Zhang from other value investors is his ability to forecast value creation in the future. In other words, most Hillhouse investments' intrinsic values depend more on future earnings power and growth power than assets value. Hillhouse's conviction level of the future growth of their portfolio companies is extremely high. Underlying this high conviction level is Hillhouse's trademark deep research capability and its dynamic ecosystem.
Read more here:
- Hillhouse's Zhang Lei: Be a Friend of Time - Part 4
- Hillhouse's Zhang Lei: Be a Friend of Time - Part 3
- Hillhouse's Zhang Lei: Be a Friend of Time - Part 2
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