The Outsiders - Eight Unconventional CEOs and Their Radically Rational Blueprint for Success
CEOs have five essential choices for deploying capital— investing in existing operations, acquiring other businesses, issuing dividends, paying down debt, or repurchasing stock—and three alternatives for raising it—tapping internal cash flow, issuing debt, or raising equity.
Singleton focused Teledyne’s capital on selective acquisitions and a series of large share repurchases.
Isaiah Berlin, in a famous essay about Leo Tolstoy, introduced the instructive contrast between the “fox,” who knows many things, and the “hedgehog,” who knows one thing but knows it very well.
Over the long term, this systematic, methodical blend of low buying and high selling produced exceptional returns for shareholders.
Scientists and mathematicians often speak of the clarity “on the other side” of complexity, and these CEOs—all of whom were quantitatively adept (more had engineering degrees than MBAs)—had a genius for simplicity, for cutting through the clutter of peer and press chatter to zero in on the core economic characteristics of their businesses.
As a result, the outsiders (who often had complicated balance sheets, active acquisition programs, and high debt levels) believed the key to longterm value creation was to optimize free cash flow, and this emphasis on cash informed all aspects of how they ran their companies—from the way they paid for acquisitions and managed their balance sheets to their accounting policies and compensation systems.
At the core of their shared worldview was the belief that the primary goal for any CEO was to optimize long-term value per share, not organizational growth.
in American business, there is a deeply ingrained urge to get bigger. Larger companies get more attention in the press; the executives of those companies tend to earn higher salaries and are more likely to be asked to join prestigious boards and clubs.
Tom Murphy and Dan Burke were probably the greatest two-person combination in management that the world has ever seen or maybe ever will see. —Warren Buffett
“The goal is not to have the longest train, but to arrive at the station first using the least fuel.”
the outsider CEOs shared an unconventional approach, one that emphasized flat organizations and dehydrated corporate staffs.
“Decentralization is the cornerstone of our philosophy. Our goal is to hire the best people we can and give them the responsibility and authority they need to perform their jobs. All decisions are made at the local level… . We expect our managers … to be forever cost conscious and to recognize and exploit sales potential.”
CEO makes is how he spends his time—specifically, how much time he spends in three essential areas: management of operations, capital allocation, and investor relations.
“My only plan is to keep coming to work… . I like to steer the boat each day rather than plan ahead way into the future.”
he believed investor relations was an inefficient use of time, and simply refused to provide quarterly earnings guidance or appear at industry conferences.
Fundamentally, there are two basic approaches to buying back stock. In the most common contemporary approach, a company authorizes an amount of capital (usually a relatively small percentage of the excess cash on its balance sheet) for the repurchase of shares and then gradually over a period of quarters (or sometimes years) buys in stock on the open market.
Singleton, is quite a bit bolder. This approach features less frequent and much larger repurchases timed to coincide with low stock prices—typically made within very short periods of time, often via tender offers, and occasionally funded with debt.
The CEO as investor. Both Buffett and Singleton designed organizations that allowed them to focus on capital allocation, not operations. Both viewed themselves primarily as investors, not managers.
Decentralized operations, centralized investment decisions.
Investment philosophy. Both Buffett and Singleton focused their investments in industries they knew well, and were comfortable with concentrated portfolios of public securities.
Dividends. Teledyne, alone among conglomerates, didn’t pay a dividend for its first twenty-six years. Berkshire has never paid a dividend.
Significant CEO ownership. Both Singleton and Buffett had significant ownership stakes in their companies (13 percent for Singleton and 30-plus percent for Buffet). They thought like owners because they were owners.
It is very, very rare to see a public company systematically shrink itself; as Anders summarized it to me, “Most CEOs grade themselves on size and growth … very few really focus on shareholder returns.”
Luck is the residue of design. —Branch Rickey
In 1993, in a stunning development, Malone reached an agreement to sell TCI to phone giant Bell Atlantic for $34 billion in stock.
Malone was a pioneer in the use of spin-offs and tracking stocks, which he believed accomplished two important objectives: (1) increased transparency, allowing investors to value parts of the company that had previously been obscured by TCI’s byzantine structure, and (2) increased separation between TCI’s core cable business and other related interests (particularly programming) that might attract regulatory scrutiny.
He courted Microsoft but eventually struck a deal with General Instrument, the industry’s largest equipment manufacturer, for 10 million set-top boxes at $300 each. In return he asked for a significant equity stake in the company, eventually owning 16 percent.
Malone abhorred taxes; they offended his libertarian sensibilities, and he applied his engineering mind-set to the problem of minimizing the “leakage” from taxes as he might have minimized signal leakage on an electrical engineering exam.
When he sold assets, he almost always sold for stock
only purchase companies if the price translated into a maximum multiple of five times cash flow after the easily quantifiable benefits from programming discounts and overhead elimination had been realized.
To the standard menu of five capital allocation alternatives, Malone added a sixth: investment in joint ventures.
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It is impossible to overstate Graham’s unpreparedness for this position. At age forty-six, she was the mother of four and hadn’t been regularly employed since the birth of her first child nearly twenty years before. With Phil’s unexpected death, she suddenly found herself the only female chief executive of a Fortune 500–size company.
What’s less well appreciated is what Graham did for her shareholders. From the time of the company’s IPO in 1971 until she stepped down as chairman in 1993, the compound annual return to shareholders was a remarkable 22.3 percent, dwarfing both the S&P (7.4 percent) and her peers (12.4 percent). A dollar invested at the IPO was worth 5 for the S&P and $14 for her peer group.
In 1974, a new and unknown investor began to accumulate stock in the company, eventually buying 13 percent of its shares. Ignoring the advice of her board, Graham met with the newcomer, Warren Buffett, and invited him to join the board. Buffett would quickly become her business mentor and would help her navigate an unorthodox course for the company.
When Kay Graham stepped down as chairman in 1993, the Post Company was by far the most diversified among its newspaper peers, earning almost half its revenues and profits from nonprint sources. This diversification would position the company for further outperformance under her son Donald’s leadership.
Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks. —Warren Buffett
During the 1970s under CEO Hal Dean, the company had followed the same path as its peers, taking the enormous cash flow provided by its traditional feed businesses and engaging in a diversification program that left it with a melange of operating divisions, ranging from mushroom and soybean farms to the Jack in the Box chain of fast-food restaurants, the St. Louis Blues hockey team, and the Keystone ski resort in Colorado.
In this regard, he was not unlike Warren Buffett in the early days at Berkshire Hathaway, extracting capital from the low-return textile business to deploy in much higher-return insurance and media businesses.
Stiritz overcame initial board resistance and initiated an aggressive stock repurchase program.
Throughout the balance of the 1980s, Stiritz continued to optimize his portfolio of brands, making selected divestitures and add-on acquisitions. Businesses that could not generate acceptable returns were sold (or closed).
In a spin-off, a business unit is transferred from the parent company into a new corporate entity. Shareholders in the parent company are given equivalent pro rata ownership in the new company and can make their own decisions about whether to hold or sell these shares. Importantly, spin-offs highlight the value of smaller business units, allow for better alignment of management incentives, and, critically, defer capital gains taxes.
As figure 6-1 shows, a dollar invested with Stiritz when he became CEO was worth $57 nineteen years later, a compound return of 20.0 percent, comfortably surpassing both his peers (17.7 percent) and the S&P (14.7 percent).
He viewed spin-offs as a further move in this direction, “the ultimate decentralization,” providing managers and shareholders with an attractive combination of transparency and autonomy and allowing managers to be compensated more directly on their operating results than was possible in the larger conglomerated structure of the mother company.
“The hurdle we always used for investment decisions was the share repurchase return. If an acquisition, with some certainty, could beat that return, it was worth doing.”
Stiritz jealously guarded his time, eschewing high-visibility, timeconsuming philanthropic boards, and avoiding casual lunches as “mostly a waste of time.”
He did, however, make time to sit on other corporate boards, viewing this as a unique opportunity to expose himself to new situations and ideas.
“Some people are innovators and some people borrow ideas from others.
It’s remarkable how much value can be created by a small group of really talented people. —David Wargo, Putnam Investments
This accordion-like pattern of expansion and contraction, of diversification and divestiture, was highly unusual (although similar in some ways to Henry Singleton’s at Teledyne) and paid enormous benefits for General Cinema’s shareholders.