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Circle of Competence Issue #51


"Charlie and I happily acknowledge that much of Berkshire’s success has simply been a product of what I think should be called The American Tailwind. It is beyond arrogance for American businesses or individuals to boast that they have “done it alone.” The tidy rows of simple white crosses at Normandy should shame those who make such claims." - Warren Buffett, 2018 Shareholder Letter


Search Fund Resources

Last week I wrote about the nascent search fund movement and the economics associated with it. I was encouraged when Karen Spencer from reached out to me to explain how they are creating a worldwide community that connects search fund entrepreneurs with seasoned veterans, capital, and potential deal flow. If you are a searcher or know of someone who might benefit from the website, refer them to for more information on how to get plugged into the community that Karen and her co-founders are creating.

10-K Thoughts

It's that time of year when 10-K's start rolling in, and I enjoy reading through companies' filings I've flagged to learn more about as well as older companies that are regular annual reads for me. I wanted to share a few different companies that have interested me lately and also would love to hear from any readers on companies they've come across lately that they believe are solid businesses with good long term prospects.

First up, Planet Fitness. PLNT is a gym franchise focused on the lowest cost but relatively high quality gym experience. As of its latest Q4 press release, it has over 1700 stores open and is growing at about a 200 store clip per year. It is growing revenue at north of 25%, profits at north of 30%, and same store sales right around 10%. The franchise model generates solid cash flow per store, attracts good entrepreneurial talent, and has good runway for new store openings. It boasts same store sales growth for each of the last 44 quarters according to its 2018 10-K. Although it is priced pretty richly, I like their business model of getting everyone to the gym - a combination of low fees and a judgment free zone makes for a welcoming atmosphere for all. Disclosure - I am long a very small amount to track the stock going forward but would like to own more.

Second off, Appfolio. APPF is a small and medium business cloud based software provider mainly for real estate property management firms. I have personally used Appfolio's software in real estate management, and at a cost of roughly $1 per unit managed, it is well worth the cost it to have all your collections, bills, P/L statements, renter profiles, and more all in one convenient cloud application. It has a clean user interface, is simple to use, and consistently ranks as one of the top property management platforms in the market today. They have over 13,000 property managers today and have significant room to expand their product offering, customer base, and even increase prices (when rents are $800-$900/month, what is $1 to a manager?). Bottom line - they have grown the top line over 6X in the last 5 years, profits are beginning to materialize in rapid fashion over the last two years, their gross margins are expanding, they have a recurring revenue subscription based business model, and their product is sticky with customers once they are managing several hundred units. Disclosure - I am long a very small amount to track the stock going forward.

Finally, this week Warren Buffett released his 2018 Letter to Shareholders. There's the age old saying that 'I really don't want to beat a dead horse'... but what the heck, everyone else is giving their take on his letter, so I might as well pick up my stick and take my turn. A few good lessons to review:

The benefits of long term investing horizon and compounding earnings:

"Here’s one example drawn from the table above: Berkshire’s holdings of American Express have remained unchanged over the past eight years. Meanwhile, our ownership increased from 12.6% to 17.9% because of repurchases made by the company. Last year, Berkshire’s portion of the $6.9 billion earned by American Express was $1.2 billion, about 96% of the $1.3 billion we paid for our stake in the company. When earnings increase and shares outstanding decrease, owners – over time – usually do well."

The benefits of a centralizing big capital allocation decisions:

"Finally, a point of key and lasting importance: Berkshire’s value is maximized by our having assembled the five groves into a single entity. This arrangement allows us to seamlessly and objectively allocate major amounts of capital, eliminate enterprise risk, avoid insularity, fund assets at exceptionally low cost, occasionally take advantage of tax efficiencies, and minimize overhead."

The line can be very grey between 'hitting your numbers' and fraud:

"Over the years, Charlie and I have seen all sorts of bad corporate behavior, both accounting and operational, induced by the desire of management to meet Wall Street expectations. What starts as an “innocent” fudge in order to not disappoint “the Street” – say, trade-loading at quarter-end, turning a blind eye to rising insurance losses, or drawing down a “cookie-jar” reserve – can become the first step toward full-fledged fraud. Playing with the numbers “just this once” may well be the CEO’s intent; it’s seldom the end result. And if it’s okay for the boss to cheat a little, it’s easy for subordinates to rationalize similar behavior."

American economic power is a miraculous achievement, and will continue to be if we continue to invest our earnings in productive assets:

"Let’s put numbers to that claim: If my $114.75 had been invested in a no-fee S&P 500 index fund, and all dividends had been reinvested, my stake would have grown to be worth (pre-taxes) $606,811 on January 31, 2019 (the latest data available before the printing of this letter). That is a gain of 5,288 for 1. Meanwhile, a $1 million investment by a tax-free institution of that time – say, a pension fund or college endowment – would have grown to about $5.3 billion.


In 1788 – to go back to our starting point – there really wasn’t much here except for a small band of ambitious people and an embryonic governing framework aimed at turning their dreams into reality. Today, the Federal Reserve estimates our household wealth at $108 trillion, an amount almost impossible to comprehend.

Remember, earlier in this letter, how I described retained earnings as having been the key to Berkshire’s prosperity? So it has been with America. In the nation’s accounting, the comparable item is labeled “savings.” And save we have. If our forefathers had instead consumed all they produced, there would have been no investment, no productivity gains and no leap in living standards."

Have a great week!

- Benton



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