DUBLIN – Investing is a long-term game, and when investors like Warren Buffett buy, they buy to hold. Yet even Buffett is willing to walk away sometimes. In particular, Buffett doesn’t like a scandal. As the man said, it’s never just one cockroach – scandal has a way of breeding more scandal, and even the most successful businesses can fail when things start to go wrong. Alec Hogg embraces this philosophy, and some of the companies that have been included in the Biznews portfolio have been dumped over the years when scandals broke. In this episode, Alec and I discuss this strategy and how it has worked, looking at companies like Steinhoff, Metro Bank, and Facebook. We also look at some of the big themes that emerged from this year’s World Economic Forum (WEF) meeting in Davos and how the tech industry is changing as regulators wake up to data and privacy threats. – Felicity Duncan
Hello and welcome to this week’s episode of The Editor’s Desk here on BizNews Radio. I’m Felicity Duncan. With me, BizNews Editor-in-Chief Alec Hogg.
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Alec, you are back from Davos. You got back just Friday night. You’ve spent the week out there exploring what is happening in the world and you are eager to share it with our BizNews audience. Do you want to tell us a little bit about maybe some of the highlights and then discuss the opportunity that our community has to hear it all from the horse’s mouth?
Well, yes. This time round we were going to do an event in London in the same way as I’m doing events in four cities in South Africa in February and all the details are on the site. It seemed as though there are too many competing interests in London so we’ve decided also that the best way of doing it just to have a webinar for our premium subscribers. So, that’s going to be on Tuesday night and as soon as possible after getting back from Davos. My mind will be focused and reflecting over the next couple of days and putting a presentation together. And as our webinars are always interactive, it’ll be a very interactive session on Tuesday. In fact, it’s Tuesday lunchtime, I think we’re having it but the details are all on the site and we will be sending out more details to premium subscribers in the next day or so. If they haven’t signed up yet (and there have been quite a lot of signups) that they can sign up there.
I spent a lot of time with the South African delegation this year – rather than more than usual – and the reason for that is that this is the first time Ramaphosa and his team as he could select – if you like – were there as president of the country and with the impact that they’re making on Davos. What was it about? The feedback we get from outsiders observing the South African team is that they did incredibly well and that they had a single-minded focus, which was investment. We want you to invest in our country. So that’s a very positive aspect. I’ll go into more detail on that and exactly how they performed and obviously answer questions on those issues. There were two other themes that came out quite strongly. The one was the way that environmental issues and sustainability is now coming front and centre for business people in the past. It was on the back burner, but it’s almost like as the millennials age and become a more important part, both within companies and as consumers, they’re demanding a different, approach.
They are also perhaps influencing older people to say it’s no longer…well, it’s not even conceivable that the business of businesses is business. Now, it’s very much a question of you have a social license and whereas in the past it was something that was maybe paid lip service to, now it’s really good. You’ve got to do it if you want you to have a sustainable business. And then the other issue that came through, which is not surprising as all of geopolitics and how that is now influencing the business and the investment in the economic environment. We did have the vice president of China there, but Donald Trump pulled the whole US delegation after the Thursday before the event. The only interaction that we had was a video conference with Mike Pompeo, the secretary of state in which he was pretty much following the Donald Trump line but did give quite a lot of optimism about the trade war with China coming to not just an impasse, which were at, at the moment, but actually being sorted out.
So, the geopolitics, the environmental issues, which are now no longer just soft, touchy feelies that you can forget about. And then of course, the South African delegation, those will be the three area or focus points that we’ll talk about on Tuesday.
Definitely worth checking out. It’s interesting to hear that, what you heard about the trade war with China, because it seemed to me that this last month has just been all domestic in the United States and that very much the political focus has been on events at home and getting the government reopened.
And we’ve got, now, three weeks of funding for the US government, which has been closed since late last year or at least large parts of it have been closed. All the non-essential parts have been closed. They’ve reopened it. They have emergency funding for three weeks, but my suspicion is that in three weeks we’re going to be back to the drawing board, because there are some very intransigent elements happening there.
It’s interesting that as you say, there are so many global geopolitical issues arising right now and at the same time, so many world leaders are very, very focused on domestic problems and what’s happening at home.
And one worries that the global side is going to get a bit neglected as people from, you know, Donald Trump to Theresa May, with her struggles around the Brexit deal, to Macron in France with his struggles with the yellow vests – everyone’s sort of looking at home even as the international issues crop up and the environment for doing business really struggles and starts to deteriorate as you say, compared to last year.
Yeah. And it’s almost like businesses used to have this rallying call and ‘think global act local’. We haven’t seen that really being implemented by many politicians who’ve been thinking globally and acting globally, are not acting locally and not keeping their eye on the ball locally. Hence, the Hillary Clintons of this world are no longer in a position where they can exercise any influence and that’s pretty much what we’re seeing. Davos was a ‘must do’ event for these political leaders. And suddenly this year they realized it wasn’t more important than what was going on in their own countries. And it’s a whole bunch of them. Modi didn’t come from India. He’s got issues – not desperate issues- but he certainly has enough on his plate.
A similar thing in China: president Xi has issues to deal with in his home country. Of course, you mentioned Macron in, in the UK with Mrs. May and Donald Trump as the most obvious of it. It is a very interesting time that the world is going through. I get the sense Felicity though, that this move towards nationalism and almost extremism that we’ve seen is starting to lose momentum. It was building last year, but it’s almost like it’s now…The realization is that we are all intertwined and it’s quite interesting from a South African perspective because the challenges for South Africa very different to those in many other countries. And although as a South African, you look at them and you think they appear almost insurmountable, in many ways they’re not a lot more winnable then the issues that many of the other countries are having to go through.
They’ve got deep, endemic, almost like almost like cultural issues that they’re having to deal with, whereas South Africa is in a recovery status. And it’s almost like if you, when you’re going up in the world, when your economist is starting to gather momentum and moving in the right direction with the investment that’s coming into South Africa, that is likely to occur despite the big challenges there… When you start getting positive, you get a, mushrooming effect and a knock-on effect, which accelerates the upward direction. But when you’re going in the other direction, like post Brexit Britain, it can become very challenging because you get the, almost the downward spiral, which feeds on itself. I know we always look for the brighter skies or the blue scars from a South African perspective, but they were some very good reasons for believing that the wheel is turning and that flywheel is starting to get a little bit of momentum that’s good news.
Yeah, and good to hear some good news against the backdrop of some bad news on the international side.
Let’s turn our focus now back to the corporate space and something that we wanted to pick up on today is – Buffett has an old adage, right – that when the scandal starts, it’s time to jump ship. When you see one rat, you know there are going to be a lot of other rats, and that’s a good moment to make the decision to cut your losses and move on.
Now, that’s something that you’ve tried to implement across our different portfolios and this week, with the ongoing struggles at Metro Bank, that strategy really seems to have paid off.
Yes. Perhaps the most spectacular of these was at the time, the South African Champions Portfolio was focused on South African countries that we’re operating internationally and clearly. Steinhoff was one of the big players. So, Steinhoff if was in the portfolio. Well, that was the smallest holding that we had. When the scandal hit on Steinhoff; immediately (well, not immediately. It took me a day) but after finding out that this was for real, we then sold the next day. We put in the order to sell and we got out…could have got out R9.00/10.00 per share. For whatever reason – the equities – we got out at R6.00 per share. But today, that looks spectacularly smart because the Steinhoff share price is a third of that level and it was a similar story with Metro Bank. Some months ago, just a bit of history. Metro Bank is a fast-growing bank in the UK, the first high street bank to be given a license in over 100 years.
I got to understand or learn about it from Gerrie Fourie, who’s the chief executive of Capitec in South Africa in a conversation when I asked him whether Capitec would coming to the UK where the high street banks are notoriously poor. He said that they wouldn’t because Metro Bank was already here. So that got me thinking. If someone’s better than Capitec, they’ve got to be pretty smart and I did a lot of investigation. We had it in the global portfolio. It did really well. Went to about almost £50.00 per share after we bought in the late twenties. Then it started coming back again and we sold out there in the early thirties and the reason we sold out was because scandal had hit. There was a major scandal around the chairman’s wife being paid, fees for doing the designing of branches. And that had not, according to the shareholders that had not been properly or according to the analysts, hadn’t been properly, or transparently recorded.
So, that was it. We were out. I think it was £30 or £31 or something that’d be sold the shares in the global portfolio at. Today, that share price is £14 and the major reason for that was in the last week it was discovered that Metro Bank has not been properly accounting for the risk levels on its loans. In other words, it’s been exaggerating the risk worthiness of its loans, giving them a premium positioning. And as a consequence, had to keep lists capital against the loans as backing because of the way banks work is that they lend out money they’re getting as deposits and then a multiple of it, but they have to keep capital as a reserve against the bad debts on those loans. And if your bad debt profile is understated, you are in quite a bit of a problem because you’ve got to raise capital to overcome that. And of course, that’s what Metro Bank have been found to be doing.
So, the old story, the old adage about never being just one cockroach in the kitchen is a very good example of this. We have a similar thing with Facebook. When Cambridge Analytica hit, the Buffett philosophy is ‘get out’. We did, we sold those shares in the global portfolio at around $150/$160, It then subsequently went up to $200 and for a period of time we looked a little bit sick but now it’s down in the $140’s and I don’t think the scandals of Facebook are over by any means. At the time, you might feel a little bit concerned because the market can rebound or you have dead cat bounces, but in the longer term, taking that approach that Warren Buffett advocates; when the scandal hits get out.
Yeah. Wise words and certainly something that has paid off in a lot of instances for the portfolios that BizNews advocates for, which is of course… the proof is always in the pudding, right. If you actually see it working, that highlights how wise those words really are.
Now, you know, you mentioned Facebook I think that’s something that’s interesting about… Cambridge Analytica was obviously a discrete scandal and involves very particular players and whatnot. But it kind of highlights some of the big themes that are playing out right now in that space, in the space of digital media, social media and so forth, which are things like privacy, things like what uses data are put to, and what is the impact of the fact that companies like Facebook control so much information about us, know so much about us and use that information and share that information in ways that we don’t fully understand.
Not directly in response to Cambridge Analytica, of course, but in response to growing concerns around this, the European Union implemented the General Data Protection Regulation, which was intended to better handle how people’s information is used by large, powerful tech companies. And this last week we saw a very substantial fine levied under GDPR against Google, the subsidiary of Alphabet – specifically a $5bn fine, which is a quite substantial amount, certainly the largest fine yet in Europe – levied against Google for abuses of user data with respect to its Android software.
The specifics of it are things like the way that they ask users for permission to use that data, the impact on competition, stuff like that. We don’t need to get into that. The point really is that these concerns are now bubbling up to the top and we’re actually seeing some movement among regulators trying to address these worries.  Â
And to me, this seems like a natural evolution in the lifecycle of these tech companies. It’s something that we’ve seen happen time and again throughout history when there’s a big collection of capital and a big collection of monopoly power in an industry; eventually regulators start to sit up and pay attention, start to make moves, and then the industry really starts to change and evolve and it’s a new environment after that for competitors, suppliers, and for consumers. You know, we could be very well could be at the start of that process in the tech industry.
There are two books worth reading in this regard and I’m 100% on the same page that you’re on. The one is: Ron Chernow wrote a book called Titan about John D Rockefeller who was standard oil, who at one point in time controlled 90% of the US oil market between standard and his and his lip and the subsidiaries. And they broke those companies up through the first class-action act in I think the 1920s. But it speaks to your point. We had a similar thing with Andrew Carnegie and, and steel in the United States and through history you’ve had this. We’ve got big tech at the moment. I was reading a piece in the Financial Times yesterday. The predictions are that Facebook and Google, who at the moment have around 50% of the world’s digital advertising will grow that to 75% by the year 2020.
That is the rate of escalation. And the irony about all of this, and I would also urge anyone interested in the subject to read transcript or listen to the interview I had with Koos Bekker, who obviously has got a pretty big dog in this game in Tencent and in Naspers itself. He even explained how it works in both Facebook and Google acquire information about us, which they can give on to advertisers. They don’t pay anything for that information. That inflammation comes as a consequence of the services that they offer, that we are prepared to allow them to use that information. But then they sell that on advertisers who pay a huge amount of money to be able to access us, so it’s our information that we’re giving away for free. The other book that I wanted to mention in this instance is by a guy called Geron Lanier. I saw him in London about a year ago.
He was brought out here for a talk. He’s from Silicon Valley by Investec and he’s the global expert in this field on privacy. he’s written a couple of books on the subject and when you read that you, when you see what is happening in this field, not just the point that you made about Google being fined, but the point also that Koos Bekker makes in the interview that we did where Axel Springer in Germany are now suing Google for abuse of its copyright. In other words, using content that Axel Springer’s paying a lot of money for and then propagating that to people using the Google search engine. For instance, if there were no publishing houses, if there was no news on Google, people wouldn’t be using its search engines. So, what Axel Springer is arguing is this is what we’re pay for. You should be paying us for the content that you are putting into your search engines.
And Koos Bekker looked at me and he said, this guy from Axel Springer is your champion as a publisher. So, it’s a very, very interesting time that we’re going through but we had Standard Oil. We had IS Steel. There have been other instances through history of the breakup of these, hugely dominant areas. And that came out of Davos as well, that the days of big tick and particularly Google and Facebook, being able to operate in the way that they have and at these massive profit margins… Facebook was running at a 50% profit margin (I think they’re down to about 35%) but those are just ridiculously high profit margins that in the long term in economics are not sustainable. That is a developing story that we will be keeping our eyes on into the future.
