Benjamin Graham is the undisputed founder of modern securities analysis. His seminal works, the definitive book “Security Analysis” and its condensed sibling “The Intelligent Investor,” are firmly secured as part of the finance canon. And they remain mandatory reading for anyone serious about value investing.
Graham has had many extremely successful disciplines over the years. Here on GuruFocus, we track the moves made by some of his great students such as Warren Buffett (Trades, Portfolio).
One Graham disciple who deserves closer attention is Robert Vinall of RV Capital. Vinall has always held firm to a number of Graham’s principles, especially his advice that investors should behave like business owners:
“Investment is the most intelligent when it is the most businesslike.”
Vinall’s Business Owner Fund is built on that very premise. The fund’s stated philosophy is extremely Grahamian:
“Investing like an owner in businesses run by an engaged and rational owner with the capital of investors who think like an owner.”
This month, the Business Owner Fund celebrated its 10th anniversary. In his latest letter to fund investors, Vinall reflects on the lessons learned over the past decade and how Graham’s principles continue to resonate -- and produce handsome rewards.
Evolution of a value investor
Vinall wrote that his realization of the power of value investing struck him “like a bolt of lightning” rather than came about as a gradual process of research. It was as if a switch had been turned and he understood. Many value investors seem to have similar revelatory moments when the scales fall from their eyes and they see clearly at last.
But that is not to say that Vinall’s growth ended there. Indeed, his letter recounted a remarkable evolution in strategy that never loses track of immutable Grahamian principles, especially the understanding of the concepts of margin of safety, Mr. Market and buying stock as part ownership of a business.
Vinall described three phases of his investment strategy’s development. The first was “The Great Price Stage”:
“I bought shares in companies based on the discount to the net cash and other liquid assets they carried on their balance sheets. Share prices were rock-bottom, so there was no shortage of this type of opportunity.”
This first phase came to an end when Vinall realized that the size of asset value discounts was making little difference to his overall returns. He thus modified his approach from the purely mechanistic to also include measures of business quality. Thus, the second phase became “The Great Business Stage”:
"It turned out the size of the discount to asset value made virtually no difference at all ... What did make a difference was how good the business was. This realisation ushered in the second phase where I paid far greater attention to building an understanding of a company’s business and competitive advantage in addition to simply looking for a large discount to asset value or a low earnings’ multiple."
The second phase led inexorably to the third, as Vinall came to understand that great businesses must have great managers. Thus began “The Great Manager Stage”:
“An assessment of people became one of the first steps of my research process thereafter. In fact, when my fund started two years later, I called it Business Owner, reflecting not only that I saw myself as a part owner of the businesses I invested in, but that I sought to align myself with companies that had long-term and rational owners, ideally the manager.”
Managers are the key
Vinall’s value investing strategy hinges on taking Graham’s proprietary view to its logical conclusion. It is not enough to buy cheap assets. The managers must be capable enough to secure advantages and turn an undervalued business into one other people are willing to invest capital in. This obviously informs the strategies of investors such as Buffett, who goes to great pains to keep capable managers even in companies he buys outright.
Vinall explained the vital importance of good management in an environment that inevitably involves imperfect information:
“If the key determinant of an investment outcome is what I do not see, the most important thing is to invest in managers I trust.
“I have found time and again that the surprises with managers I trust are generally positive, whereas those with managers I do not are nearly always negative.
“Today, I only feel motivated to do the hard miles and build an understanding of an investment case if I get a visceral sense that the company’s manager is someone I could deeply admire. Invariably, this is someone for the whom the company constitutes his or her life’s work or has the potential to be.”
Verdict
For Vinall, the importance of good management has only grown over the years. Indeed, it has moved from a first consideration to one of the utmost importance and centrality to investment decisions.
Perhaps that focus is even more important today in an environment of high asset prices. Another panic like 2008 could send stocks tumbling. Understanding the good businesses and capable managers who will weather such storms is the surest way to allocate capital successfully in times of uncertainty.
Disclosure: No positions.
