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Nestle and Capacity to Suffer

August 06, 2015 | About:

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), 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.

About the author:

A global value investor constantly seeking to acquire worldly wisdom. My investment philosophy has been inspired by Warren Buffett, Charlie Munger, Howard Marks, Chuck Akre, Li Lu, Zhang Lei and Peter Lynch.

Rating: 5.0/5 (12 votes)



Jtdaniel premium member - 5 years ago

Hi Grahamites,

I enjoyed your article enough to read through it four times today. I am a fairly recent Nestle shareholder, so your research and analysis was a great help to me. Nestle is a visionary company that I plan to keep in my portfolio for the long run. As for Tom Russo (Trades, Portfolio)'s portfolio, it looks focused at the top end, but quite diversified with "starter" positions at the bottom. It will be interesting to see if he raises his stakes in Wal-Mart, Exxon, etc., now that they are more reasonably priced. Best, dj

Grahamites - 5 years ago    Report SPAM

Dj - It's been a while since I got your comments so very pleased and flattered. I'm glad you enjoyed this article on Nestle and read it 4 times. Very nice of you. I think there's a lot of Nestle that has not been fully appreciated by investors. The more I learn about Nestle, the more I'm impressed with the company. The capacity to suffer and capital redeployment opportunities, their local and decentralized structure and the committment for socially responsible growth. It's very rare to see all of those coming together from you company with such a strong culture.

I'm not sure whether Mr.Russo will make WMT and Exxon larger positions even though they seem to be more reasonably priced. For WMT, how and how well they can redeploy earnings in the future is a big question mark. Energy has never been his area. Although that doesn't preclude Mr. Russo from owning a larger position in Exxon, I think it's not his circle of competency.

Thomas Macpherson
Thomas Macpherson premium member - 5 years ago

Great article Grahamites. We love to partner with managements willing to suffer. One holding in our portfolio stated in a letter to us that "we are deeply committed to deploying capital that creates long term, sustainable, and market beating returns. We believe as management we should personally feel this pain along with our shareholders and this is reflected in our executive compensation structure". When we received this we felt entirely comfortable investing and thought the letter represented outstanding stewardship. Thanks again for another outstanding article. Best - Tom

Grahamites - 5 years ago    Report SPAM

Tom - I think and write. You think, write and practice. I'm impressed with all the right things you are doing and looking forward to learning more from you. Thank you.

Fritz premium member - 5 years ago

good article

Svoleti7 - 4 years ago    Report SPAM

This is such a wonderful and insightful piece. When I purchased Nestle shares many years ago, my research into two particular business investments left me with really special insights about how Nestle views the 'long term'. The first involved a 'partnership' with L'oreal in the early 70's and the second involved the acquisition of Alcon in the late 1970's. I feel that any person interested in Nestle can learn alot as I did, from researching the circumstances of those particular transactions, the role of Nestle and the subsequent life of those ownership stakes. Thanks for the wonderful article here.

Zejia - 4 years ago    Report SPAM

HI Grahamites, Thanks for your insightful article.

Usually time will prove if the management team is right or wrong. For example, in your article, you mentioned that today Nespresso is a business worth $4 billion. My question is what makes you have the confidence that the management is making the right investment at the time of the investment. I believe you are not convinced simply because the management tell you they are right. You may have to do your owne research to form your own judgment I believe. Can you shed more insight on this?Thank you so much.

Grahamites - 4 years ago    Report SPAM

Svoleti7 - Thanks for the nice words. The L'Oreal and Alcon investments are prime example of Nestle's super-long-term horizon. Truly rare and extraordinary.

Grahamites - 4 years ago    Report SPAM

Zejia - Thanks for the nice words. You never know whether the investment will work out or not so yes some judgment is needed. I personally think to make that judgment, you need to know the track record of management team, the culture of the company, the addressable market as well as the competitiveness of the products. That's a lot of work actually. Nespresso has worked out for Nestle. Today Nestle is investing heavily in Health Science and Nutrition Science. We know management has a great track record and the culture of Neslte is very favorable, so we want to make sure we understand the dynamics in healthcare and nutritions and how Nestle is positioned. I encourage you to find answers in Nestle's presentations and transcripts.

Zejia - 4 years ago    Report SPAM

Hi Grahamites, thanks for sharing your thought. I think the process of judging the management's investment involves a lot of critical thinking. It reminds me one of your recent articles about seeking disconfirming evidence. The mangement ususally claims that there is enormous opportunity to justify their investment decision. If you have a chance, maybe in a seperate article, I would appreciate if you can share with us an example how you exercise your critical thinking mind to seek disconfirming evidence when judging a company's investment. Thanks again for your thought-provoking articles and comments. I am very enjoyed reading them.

Grahamites - 4 years ago    Report SPAM

Zejia - Thanks for your comments. I can certainly write about judging a company's investment. Most of the them it's not very clear-cut due to lack of information but I'll see if I can find a good example.

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