It is no secret to the readers on this forum that I am huge admirer of Tom Russo (Trades, Portfolio) and the idea of the “capacity to suffer.” Businesses with capacity to suffer are rare to find so once you find one, you would want to keep them for a very long time. The question then becomes, how can we identify businesses with the capacity to suffer when we don’t have access to management team the way Russo does? Here I am reminded of the answer Tom Gayner gave to a question he was asked on the Google Campus (link to the article):
I spent more time reading about people using the exact same resources that you would have access to as well as annual reports, proxy statements and magazine articles. And I try to think and just look and get a gut feeling and make some judgment and discernment whether these people are acting in a way that’s reasonable. I encourage you to think about things in that dimension.
So I set upon a mission to identify clues of capacity to suffer from publicly available information. I set my eyes on Nestle SA (NSRGY, Financial), as it is Russo’s largest holding. Nestle’s investor relations website has an enormous amount of useful publications that are usually not available to non-institutional investors. This alone says something about the management team. Below are the links where interested readers can find those very helpful publications:
I downloaded all the available annual reports and most of the presentations and transcripts as a good start. Then I spent a few days reading through them, with the mission of spotting signs of capacity to suffer. I was surprised by how many signs I was able to identify. Below are a few examples I found.
1998 Annual Report
“In contrast to other companies, we did not withdraw from the affected countries but instead intensified our efforts to broaden the appeal of our brands and increased market share.”
In the second half of the year, Nestle was able to raise its participation in Nestle Philippines from 55% to 100% when the Philippines market was in turmoil (down 19% in francs), as well as acquire additional shares held by minority shareholders in companies operating in Bangladesh and Malaysia. Nestle also doubled down in Russia during the second half of 1998 by acquiring two leading local chocolate and confectionary businesses.
Nespresso Presentation 2008
Nespresso Concept Idea: to offer espresso just like the best Italian coffee bars do, but directly in homes and work places. After years of research at Nestle R&D on the technological development, including many patents, the project was completed in the mid-1980s. Inside Nestle, Nespresso was almost killed many times because it was not making any money. Today it’s a more than $4 billion business.
2014 Nestle Investor Seminar – Boston Q&A Transcript (This is really fascinating):
Question from a Blackrock Analyst: So you've talked a lot about capital discipline and working capital control to try and boost your return investment capital and we saw that yesterday in a number of businesses in the U.S. But I think over the last two days, you've left a number of us with the impression that a group level that gets diluted quite a lot by the investment in developing categories and Nestlé Health Science, et cetera, is that fair as an impression to be left with?
CEO Paul Bulcke’s response: Now, would I say it is fair? No, it's not really fair in the sense of we have always been investing upfront in certain businesses. Everybody speaks about Nespresso, “25 years of which plenty were losing money,” rather than losing money we were investing in the future belief. And I think a company like ours should be able to do that. I mean, if we cannot organize ourselves to invest upfront in certain dimensions that there are promising future platforms, well then, we wouldn't be as successful as we are today.
Because we can do that, invest in Nestlé Health Science, you're totally right. We have expressed only in the institute, the knowledge, and the science platforms. We are investing $500 million in the next 10 years, but it's worthwhile. We had done that in R&D in general. As you'll think about we already have a Nestlé Health Science, the resource and all these things, they were upfront investment. Dolce Gusto, shorter timeframe, as Dolce Gusto only last year started to raise black figures. And so it's a $1 billion business already but only last year. The success of this company is because we do that, we see the timeline. And we can do that because somebody else in front of us, before us did the same. He invested for something that we're enjoying now that allows us to invest for the next one. And that's the rolling innovation process that also we are inviting the markets to do. If you fall in the trap of short term, you create anaemia in your brands in anaemia in your product innovation process and the markets has to do the same. They have to invest now, and it costs you money. You have to invest in slotting fees, you have to invest in your commercial support.
And the first years, you don't enjoy bottom-line profit, but you do that because that's the rolling innovation cycle that we have inviting. And actually, that's something that here in the USA that has to be levelled up.
So, it's fair and unfair. It's fair to say whatever you invest now, we can’t enjoy today so don't invest. It would be unfair for the future but that's the strength of our company. We are long- term conditional thinking company, we keep it going.
You know it all. You have been around and we can increase our bottom line tomorrow and hundreds of basis points. We just cut down our marketing spend, we cut down R&D. Well, that's not what we are paid for. We are paid for giving away a stronger company, after us, than we got, so we're working on that.
But you have to balance it out at times. I can hardly come to you and say, "Look, we're investing in a new huge platform that's called Nestlé Health Science. It's huge, it's promising. I promise you. It's going to be billions. So give me a sabbatical for five years. I'm going to invest 400 basis points more for that platform.” Would you say, "Okay, fine. We'll go with you." No, you wouldn't because that's not your business. So, we have to balance these things out.
And yes, indeed, the platforms we have been investing in for the future are deeper in science. So they ask for more money. That's true. That's a little bit the tension I have because if you really go into the dimension of science you need for Nestlé Health Science, the promise is big but the pre-investment is a little bit heavier than reformulating a bouillon cube. You understand that.
But that's something a company like ours should be able to manage. That's why Wan Ling is also sharp on portfolio management. That's why we don't allow ourselves to have laggers, because we don't have the luxury anymore because we are investing more heavily for future. And I think it's the right thing to do.
(End of transcript)
What’s more fascinating is that you can see these signs are consistent over time, from 1998 to 2014. Capacity to suffer is deeply rooted in Nestle’s DNA. I love the way CEO Paul Buckle handled the Blackrock analyst’s question. Clearly the analyst’s question is short-term driven with no regard to the long-term prosperity of the business, and a typical management team can easily cave to that type of institutional pressure. Buckle rebutted that fiercely and determinedly.
Now I can see a little better why Russo is delighted to be associated with Nestle’s management team and hold the shares for decades. I would love to be associated with that ethos for a long time as well.
The biggest point I want the readers to take away is that you, too, can spot signs of capacity to suffer without personal access to management teams, with the public information available. You may have to go through a lot of trouble and read all those reports but once you’ve done so, it would be hard not to identify businesses with capacity to suffer.
If you do it again and again, over time you will be able to spot them faster.