The Swedish asset management company Carnegie Fonder took over the Pandium Global equity fund in September 2018. Carnegie and Pandium share a long-term stock-picking approach to investments. Mikael Tarnawski-Berlin continues as the portfolio manager in what is now the Carnegie Global fund. In this interview, he talks about how he invests and about some of his favorite companies and managers.
Quotes are edited for clarity and length.
The investment philosophy
“You can have different edges as an investor. It can be analytical, informational or behavioral edges. When I started out, I thought I had at least an analytical and a behavioral edge. There is a lot of smart money out there looking at the same stocks. You have funds with hundreds of analysts. So, I think it is important to think a bit different than most other investors. Thinking long-term is a behavioral edge. I always invest with at least a five-year horizon, that is different from most of the market.”
“I invest long term in a few good companies run by good managers. But I only invest when they are undervalued.”
Tarnawski-Berlin defines good companies as stable businesses that he understands, companies with a good competitive position. They are low-risk businesses that will survive even in bad scenarios. Later in the article, you can read how he thinks about management and how he monitors good companies to be able to invest when they are undervalued. And you can learn about some of the companies from his watchlist and in his portfolio.
As a law student, Tarnawski-Berlin was excited to land an internship at one of the most prestigious law firms in Sweden. It turned out to be extremely boring. He completed his law degree but decided that law was not for him. Instead, he studied business and got a job as a strategy consultant at the Boston Consulting Group.
“It was a good first job, a great learning experience, but it was still only a job. A great job, to be honest, great colleagues, really bright people, and a nice atmosphere. I had never been interested in investing and in business school, the teaching focused on the efficient market hypothesis and that kind of stuff. Then, while I was on vacation with my best friend, he read a book his boss had asked him to read. I borrowed it and I was hooked at once. It was the Intelligent Investor by Benjamin Graham. Viewing stocks like businesses just made a lot of sense to me and made it interesting. I became fascinated and started to read a lot about investing.”
“The newfound interest in investing led Tarnawski-Berlin to a job in private equity as it was a more natural transition from consulting. When the private equity company he worked in was sold, he decided first to invest his own money for a couple of years and then to set up his own fund, Pandium Global.”
In September 2018, Carnegie Fonder took over the Pandium fund and renamed it Carnegie Global. Now, Tarnawski-Berlin has found a setup that allows him to focus all his time and energy on what he loves.
“When I worked in private equity, I really enjoyed the analytical part of the business. But you also sit on boards, try to source deals, and negotiate deals. Stuff I didn’t enjoy that much. When I ran my own fund, I needed to do administrative work and sales work. At Carnegie, they have a great organization that takes care of that. It’s very nice to be able to focus full time on the investments.”
Industries and types of investments to avoid
There are a number of industries and types of investments Tarnawski-Berlin avoids. He does not invest in commodity companies or biotech companies since they are too difficult to understand and to predict. He is uninterested in arms, alcohol, tobacco, gambling, and fossil fuels as he does not want to support these industries. He also avoids turnarounds:
“Turnarounds often screen well, they can look cheap on standard value metrics. When I started to invest, I did a lot of those. It never ended really badly but at one point I did a review of all my prior investments. The common thing for all the turnarounds was that they either did not turn around or it took longer than I thought it would. The experience was usually not pleasant. Most investors seem to learn this after a while. It’s just too tricky. It’s better to wait until things have started to turn around if you want to invest in turnarounds.”
Tarnawski-Berlin also tries to stay clear of companies that are on the wrong site of inevitable structural changes. “The most obvious one, at the moment, is the shift from offline commerce to e-commerce. The customer tries to optimize the value of a transaction. They optimize the relationship between what they get and what pay. What they pay is not just the price, it is also the effort they put into it and the risk of getting a bad product. The customer always tries to maximize the cost-benefit.”
“If you look at e-commerce compared to offline commerce it’s a no-brainer. E-commerce does not even have to be cheaper to create more value for the customer. The convenience is much better when the product is delivered at your door. You don’t have to go to the mall or ask salespersons for advice. The transparency is much better, and you can research the products online and read reviews. The price is usually lower as well because the cost structure is different. E-commerce is 8% of the market or something like that, and it will increase much more. I try not to be on the wrong side of that. So, no offline retail in the portfolio.”
Looking for great management
Good managers are one of the key pillars in the investment strategy. The right incentive structure is very important to Tarnawski-Berlin. The managers’ and the shareholders’ interests must be aligned. He also applies this principle to his own work. He will always have all of his own and all of his family’s savings invested in the Carnegie Global fund, so his interests are aligned with the other investors in the fund. Tarnawski-Berlin explains how he thinks about management and which managers he likes:
“Some businesses are so good that the quality of the management becomes less important. But, usually good managers are one of the most important things. It is also one of the most difficult things to judge. They need to be good operationally and excellent at capital allocation and obviously, they need to be honest. I look at their history and what they have done in terms of running the business and how they have allocated capital. What did they pay for acquisitions? When did they buy back shares? I try to listen to all the conference calls to get a feeling of their way of thinking. I like cases where the same management has been around for ten or twenty years. Then you can go back and assess the track record.”
“You can put everyone into 3 buckets. I think it was Warren who described this framework. With some people, you get a feeling that they are lying or being dishonest, lest say it’s 3-5%. Then 90-95% of the people are hard to judge. You don’t know if they are good or bad. But you know that you don’t know. Then there are maybe 2-3% where you after a while have a strong feeling that these are superstars. They are honest, they have integrity, they are smart, and they are really passionate about what they do. Warren is that kind of manager. Mark Lenord from Constellation Software as well. When you read his investor letters you think ‘wow this is a high-quality person’. I try to look for that kind of people. The downside is that usually they are well known due to their success and that the companies they run rarely are cheap.”
“Another example of a great manager is Stanley Ma who just stepped down as CEO of MTY Food Group (but will stay on as Chairman). He founded the company in Canada and has built a business around restaurant franchises. I regard him more as an investor than an operations guy. Once a franchise business works, it creates a lot of free cash flow and there are no reinvestment needs. He has taken all the free cash flow and acquired new franchise concepts and he has done tremendously well.”
“I also like Michael O’Leary from Ryanair. He is obsessive about his business, about keeping the cost low and he has done really well. He is a bit controversial, but I don’t have a problem with that. I think it’s mostly to get free PR. “
Collecting good companies
Tarnawski-Berlin collects good companies on his watchlist and monitors these to find an attractive entry point. The list includes around 500 companies. These have the favorable company characteristics described above but are priced too high. Tarnawski-Berlin explains how he uses his watchlist:
“When I started to invest, I just discarded the analysis if a company was too expensive and looked at another one. The problem was that a lot of the work did not compound. So, I started to collect good stable companies on a watchlist to get a compounding effect of the work I did.”
“I have multiple targets on the companies on the list. When a company is trading below my target I get an alert. I start to analyze it and find out why it became cheaper? I prefer situations where the answer is simple. I prefer stable industries with higher earnings predictability, that makes it easier. When a company looks cheap there is almost always a reason. My analysis is often focused on that reason as well as trying to find the two or three things that really drive the case.”
“If it is a general market decline or a general decline in the specific industry that made a company cheap it is better. Then it’s probably not company specific. Mispricing can also be a result of increased short-term uncertainty without increased long-term risk. I don’t care about the next 12 months if the margin of safety is large enough. I don’t care about short-term uncertainty as long as the structural case is intact.”
“An example of a company on my watchlist is Autodesk. I don’t own it, but I would love to buy it at the right price. Autodesk is the largest player in CAD software (computer-aided design) for architects. The software is very complex. You learn how to use it when you study. All the architect schools use it and it is the industry standard. Everyone uses it, so you cannot use anything else. The switching cost and the network effects are very high. I spoke to the IT departments in some architect firms, they have a love-hate relationship with Autodesk. They like the product and the architects like the product. But they know they have no alternative whenever Autodesk increases the price. Some years ago, Autodesk changed its business model from a perpetual license model to a subscription model. This impacted the numbers a lot and the company became cheap. That’s an example of a really good company where it can pay off to monitor the development and the valuation.”
A passionate reader
Like most good investors, Tarnawski-Berlin likes to read. “I like to learn new things. That’s the main reason I read. I haven’t read a fictional book in an extremely long time. When you read you get a different perspective and you can leverage the experience of others. For example, you can read about other peoples’ mistakes, think about what they did wrong, and try not to make the same mistakes yourself. You can learn about industries and learn how great investors think.”
“My all-time favorite book is Poor Charlie’s Almanack. It’s the best book about thinking I have read. Not only about investments, but in general. Other favorites include Tetlock’s Superforecasting and Margin of Safety by Seth Klarman. I also like Value Investing: From Graham to Buffett and Beyond by Greenwald and The Warren Buffett CEO by Miles. I recently read Bad Blood about the Theranos fraud, that was interesting as well.”
Tarnawski-Berlin also starts his workday by reading. “I get into the office early in the morning. I walk to work. I usually start with some reading. I use something called Feedly. It is an RSS reader that connects all the websites that I follow, the news sources that I use, and blogs and stuff like that. I read the FT. I also use something called Pocket. It collects stuff I want to read and saves it, so I can read it whenever I want. The first couple of hours of the day I just read, then I usually start to research the company I’m currently looking at. That’s the perfect day. I don’t have a lot of meetings, maybe a short meeting once a week.”
Tools to structure your reading and your information sources
Pocket describes their service like this: Pocket helps people save interesting articles, videos, and stories from any publication, page or app for later enjoyment. Once saved to Pocket, the list of content is visible on any device — phone, tablet or computer. It can be viewed while waiting in line, on the couch, during commutes or travel — also offline. You can curate your own space filled with everything you can’t wait to learn. Get Pocket here.
Feedly describes their service like this: Feedly offers an easy way to aggregate your information feeds in one place. It aggregates internet content into one convenient place, making it possible for you to quickly scan headlines and full stories at a glance from a variety of different providers. You don’t have to keep checking back to any particular site to see if it’s been updated; all you need to do is follow an information source, such as the Washington Post, and then read the updates from those sites as they’re delivered to your feed reader. Feedly offers a clean, minimalist reading experience optimized for productivity. Get Feedly here
Below Tarnawski-Berlin presents three investment cases from the Carnegie Global portfolio: Moody’s, Alphabet, and MTY Food Group.
“Moody’s is one of my favorite companies. It’s a fantastic business. They have 40 percent market share in credit ratings and that is unlikely to change soon. It did not change in the financial crisis even though a lot of competitors tried to use their problems back then as an entry point into the market. Players like Morningstar tried to enter but without success. Actually, the financial crisis strengthened Moody’s position. Now banks and insurance companies need credit ratings on their debt instruments to measure the need for capital. It increased Moody’s underlying markets.”
“There are a couple of components to Moody’s growth. They grow with the general economy, the GDP. They depend on the general leverage in the economy. We have a structural high level of leverage if you look at 100 year cycles. So, it is more likely we will see a declining leverage and a negative contribution from this driver. The shift from lending in banks to corporates issuing debt is an important growth driver. Lastly, Moody’s has pricing power.”
“Moody’s charge a couple of basis points in bond issues they rate, I think it is around five on average. It’s not that much if you compare it to the benefits for the issuer. The rating increases the number of potential buyers of your debt significantly and it usually also lowers your cost of debt. There is no good study on the cost advantage, but the rating lowers the cost by more than half a percent. So, the value you get of a credit rating from Moody’s creates more than 10 times the value of what you pay on this point alone. I believe Moody’s can increase prices a lot and still add value to their customers.”
“The moat is almost structural and built into the system. It is not easy to get a license to be a credit rater. But even if you get a license it’s not enough. A lot of fixed-income investors require a rating from either Moody’s or S&P to be able to invest. It is only these two and maybe Fitch, but I wouldn’t even say Fitch, that are build into the system. It is a requirement to have a rating from one of these two.”
“The stock trades at 18.5 times forward earnings. I rarely look at forward earnings but in a staple business like Moody’s with the position they have, I’m willing to do it.”
“A couple of years ago, a friend of mine started an online funeral service company. He and two friends had done the math and concluded that you could cut the cost substantially compared to traditional offline competitors. You could lower prices, take market share, and have a good business. However, new competitors with similar offerings quickly popped up. Within 6-12 months they had at least three new competitors.”
“The issue was they basically only had one way to reach customers. They had no brand and funerals are a high-cost non-repeat purchase. The only way they could reach potential customers was through advertising on Google. Google AdWords works through an auction process. You need to be on top of the search page to win customers and the competitors bid up the relevant AdWords prices. In the end, they were willing to spend all the cost they saved by having an online concept. All the expected profit went into advertising on Google because the competitors were willing to do the same thing to gain market share.”
“Then you realize that Google and a few other online players are the new retail locations. People go there, spend time there, and find information there. Companies that don’t have strong branding or other competitive advantages will pass on all the savings from being online to Google, Facebook, and a few other platforms. The company that sells online will not get the benefit of the cost savings. The customer will get some and Google, and the other new online retail locations, will get some.”
“If you look at Google this way, they have a long runway. Online marketing is a fairly big part of total advertising and Google have a large part of the online advertising market. However, the market potential is huge when you see it as the combined cost savings from moving sales from physical stores to online.”
“Alphabet is not expensive. If you only look at the core business, it trades around the same PE level as the S&P average next year. Alphabet is not an average business, they have a huge moat. Then you have all their non-core businesses that potentially can have a lot of value in the future. That’s my case for Alphabet. I’m very optimistic about their long-term prospects.”
MTY Food Group
“I mentioned I like the manager in MTY Food Group and how he allocates capital. In the past five and ten years, they have grown faster than Alphabet on all variables. On FCF per share or earnings per share. They have grown a lot, it is a fantastic business, and the case is still intact. They have a very small part of the overall market for quick-service restaurants and a long runway for growth. The stock trades around 15 times free cash flow.”
“Their franchise concepts generate a lot of cash and they keep investing it in new concepts. They usually buy smaller concepts with 50 outlets or less. Often businesses that cannot grow more on their own because they don’t have the resource or don’t have the ability to scale by themselves. Then MTY helps them grow and add the benefit of scale advantages and best practices across concepts. They also have underlying organic growth both same-store sales growth and new franchisees joining. Once in a while, they make a big acquisition like they did when they entered the US market.”
“In the past, they had a huge advantage in the mall space. They could manage all the food offerings in a mall and be a single point of contact for the mall owners. They could also exchange one concept with another if it did not work well. Due to the changes in shopping habits, the value of this competitive advantage has diminished, and it is not as important as it used to be. However, this is not a big part of the case going forward.”
In last year’s note, I indicated my belief that the restaurant industry would continue to consolidate and that MTY would participate by being strategic in its search for new opportunities. During the 2017 fiscal year, MTY further expanded its exposure in the casual dining space through acquisitions worth well over $29 million. Although none of these acquisitions by themselves were transformational, they nonetheless continue to strengthen, grow, and diversify MTY’s brand portfolio.
The company has grown significantly over the past ten years; a decade ago we were proud to report MTY had reached the $250 million mark in system sales for the first time. MTY has evolved a lot since then, and we continue to evolve every day. Our goals for the next ten years and beyond remain the same: achieve organic growth and acquire new brands that will bring long-term value for our shareholders.
In our industry size truly matters. Our increased weight helps us not only to be more efficient in terms of purchasing, but also in terms of logistics, best practices, and in our ability to attract and retain the very best people in our industry. Through each acquisition MTY has increased its footprint in the industry, diversified its offerings, gained access to new territories, and more importantly, added seasoned leadership to its team.
Last year MTY’s network generated over $2.3 billion in system sales thanks to the acquisitions it realized in the past few years. This nearly tenfold growth in the last decade is the result of the efforts of the MTY team in accordance with our core principles of Excellence, Dedication, and Devotion.
The $2 billion mark was an important milestone for us, and we are determined to grow that number significantly in the future. Industry consolidation is expected to accelerate further, and I believe MTY is well-positioned to continue to seize on opportunities both in the United States and in Canada. As mentioned in previous years, despite our strong appetite for growth we will not deviate from being disciplined, patient, and rigorous in our risk-taking approach when pursuing acquisitions. Over the course of 2018, MTY will continue to seek strategic acquisitions while integrating the acquisitions announced since the beginning of the fiscal year.
… (see the full letter in the annual report here)
Rest assured that our team will make every effort to meet the challenges that stand in our way. I believe MTY is still in its infancy, and its best years are still ahead. We will grow and prosper with the help of our exceptional team, our franchisees, and our valued business partners, all of whom I want to thank personally and on behalf of the Board of Directors.
Chairman and Chief Executive Officer
February 15, 2018
Carnegie Fonder is one of the leading independent asset managers in Sweden. It is owned by the employees and by Carneo (The Nordic multi-boutique asset management group). The total AUM is around EUR 7.2 billion.
They offer 9 equity funds, five fixed-income funds, and three mixed funds. In September 2018, Carnegie Fonder took over the Pandium Global fund and renamed it Carnegie Global. Mikael Tarnawski-Berlin was the portfolio manager in Pandium and the largest owner of Pandium Capital AB. He continues as the portfolio manager.
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