Podcast Summary
Terry Smith's Investment Philosophy: Investing in Quality Companies.: Investing in quality companies that consistently create value by making high returns on capital in cash, and avoiding bad companies that can destroy value, helps investors achieve better returns in the long term, compared to chasing quick gains.
Terry Smith's investment philosophy is centered around buying and holding quality companies that consistently create value by making high returns on capital in cash, regardless of economic cycles. He does not overpay for his stocks and avoids bad companies that can destroy value. By following this strategy, he has outperformed the market and achieved better returns for his investors compared to those achieved by value fund managers. This philosophy helps investors understand what to look for in a company and emphasizes the importance of sticking to a long-term strategy. Smith's approach highlights the need to focus on the fundamentals of a company and avoid the temptation of seeking quick gains through trading or buying cheaper, poor-quality stocks.
Investing in Quality Companies for Long-Term Value Creation: Terry Smith's portfolio can provide insight into quality companies worth adding to your portfolio. Don't base investment strategy on short-term returns and use caution in the current economic climate.
Investing in quality companies that compound in value consistently over long periods of time can be more valuable than investing in companies that grow faster. Terry Smith's portfolio, which includes companies like Microsoft, Google, Amazon, PepsiCo, Lauder, Adobe, and Nike, can be used as a resource for getting ideas for quality companies to add to your own portfolio. Although his fund has underperformed the market in certain years, Smith's investment strategy has historically outperformed the market. Underperformance is expected, and one should not base an investment strategy solely on short-term returns. Most active managers underperformed in 2022 except those that exclusively invested in the energy sector. The government's large fiscal deficits, low interest rates, and attempts to suppress volatility may exacerbate future economic and financial crises.
Capital Allocation in the Post-Easy Money Era: Companies must prioritize capital allocation to maintain cash flows for today by investing in higher quality and higher returning companies with sustainable growth, rather than focusing solely on free cash flow.
The era of Easy Money has ended and companies are forced to be more deliberate with their spending and investments in order to provide cash flows for today. The allocation of capital is now more important than ever, and companies should cut anything that doesn't show much promise. Terry Smith invests in higher quality companies than the s and p 500, with higher returns on capital employed and better margins. Moreover, his companies are trading at roughly the same free cash flow yield as the s and p 500. Companies should focus on consistently high returns on capital while seeking sources of growth, and not worry too much about the slight decline in free cash flow since 2021.
Importance of Factoring Stock-based Compensation in Valuation: Stock-based compensation should not be ignored when determining a company's normalized earnings, even if it is excluded from non-GAAP earnings figures. Terry Smith's investment strategy involves promoting change in companies' practices. Valuations of companies continue to grow despite low US Treasury yields.
Stock-based compensation is a real expense for companies that needs to be factored in when determining the cash a company produces for valuation purposes. It is an increasingly prominent part of some companies' expenses, especially among companies in the technology sector. Share-based compensation is removed from non-GAAP earnings figures by some companies to boost profits. Excluding stock-based compensation from GAAP earnings may make sense, but it should be accounted for when determining normalized earnings. Terry Smith's fund strategy includes holding onto long-term investments and putting companies on public display to push for change. Valuations of companies have grown significantly over the years despite similar US Treasury yields.
Quality Investing in Stocks and Stock-Based Compensation: Quality investing involves looking beyond stock-based compensation and focusing on a company's fundamental performance, high returns on invested capital, and opportunities for growth. It may require paying a higher price-to-earnings multiple, but the investment will pay off in the long run.
When investing, it is important to consider stock-based compensation but not to dismiss companies solely because of it. Terry Smith advocates for quality investing, which includes companies with high returns on invested capital, opportunities for growth, and a long-term investment horizon. This approach may require paying a higher price-to-earnings multiple for a company, but if the company is fundamentally strong, the investment will pay off in the long run. The focus should be on a company's fundamental performance rather than its low rating or cheapness. Smith challenges assumptions about passive investing, value investing, and risk. Quality investing lies somewhere in the middle between low-quality and speculative stocks.
Investing in Quality Companies for Impressive Financial Returns.: Investing in companies with superior financial products and services and little competition can lead to impressive returns. Quality companies with high returns on invested capital are worth paying slightly more for, and time is their friend.
Investing in quality companies that offer superior financial products or services to customers and are able to maintain higher than average returns on invested capital over a long period of time can lead to impressive financial returns. Such companies are able to compound capital at higher rates of return and have some kind of defense, which enables them to fend off competition. While every company has some sort of problem, finding a company with very little competition where other threats, such as regulatory overreach, are low can be a winning play. Time is the friend of a wonderful business, and investing in such businesses can be well worth paying slightly more for quality.
Terry Smith's Investment Insights and Cautionary Advice for Investors: When investing, prioritize business fundamentals over biases and narratives, be cautious of dividend stocks, consider the impact of central bank policies on inflation and currency depreciation, invest in high-quality companies with a track record of financial performance, and recognize that higher risk does not always equal higher returns in practice.
Investors should focus on the business fundamentals of a company instead of being swayed by biases and narratives. They should also be cautious while investing in dividend stocks and not solely focus on the dividend yield. Central banker's policies can result in inflation and currency depreciation over time. Terry Smith believes in investing in high-quality companies that have shown financial performance over many decades. The efficient market hypothesis does not necessarily hold in practice and taking on more risk does not always guarantee higher returns.
Why Investing in High-Return Companies is Beneficial?: Investing in companies with consistently high returns on invested capital is essential for long-term success. Focus on quality, minimize fees, avoid poor companies, and don't over diversify. Boring, underappreciated stocks can provide excellent returns.
Investing in companies that have consistently high returns on invested capital tend to outperform the market. Terry Smith emphasizes on the importance of investing in good companies that have high returns on capital relative to their cost of capital consistently over time. This creates value for shareholders who should want it to retain at least part of its profits to reinvest it at these attractive rates of return rather than handing them over as dividends or to be used for share buybacks. His investment rules also include minimizing fees, not over diversifying, and avoiding poor companies. An emphasis on certainty often leads to quality and boring stocks to be underappreciated by the market, allowing savvy investors to buy those companies that are underappreciated and outperform the market over time.
Invest in Good Companies: Terry Smith's Investment Principles: Invest in good companies with strong fundamentals and stick to a set of principles, ignoring popular opinion. Owning shares in a good company is more important than buying cheap shares, and reinvesting in the business offers unique advantages for long-term performance. Terry Smith's bold approach to investing is commendable.
Invest in good companies with good products/services, strong market share, cash flow, and product development, rather than obsessing over factors and cheap shares. Stick to a set of investment principles and ignore public opinion. Owning shares in a good company is a larger determinant of long-term investment performance than buying cheap shares. Don't sell stakes in good companies, even if overvalued, as they tend to outperform over time. Reinvestment back into the business gives equities a unique advantage over other asset classes such as bonds or real estate. The returns of a stock tend to mirror the returns of the underlying business over the long term. Terry Smith's willingness to stand out and go against other money managers if he believes they're wrong is admirable.
Investing in Successful, Ethical Businesses for Long-Term Growth: Invest in strong, ethical businesses with long-term growth potential. Running winners and investing in franchisers with lower operating costs can be profitable. Avoid solely relying on value investing. Focus on concentrated top holdings, like long-term compounders.
The best investments are often the most obvious and involve running winners instead of cutting profits. Investing in franchisers like Domino's, which operate through franchises and have lower operating costs, can be especially profitable. However, value investing can be flawed as stocks with low valuations are often not good businesses, and waiting for the low valuation to be recognized can lead to a headwind. Terry Smith's portfolio is concentrated with top holdings like Microsoft, a great example of the power of buying a long-term compounder, and Philip Morris, a tobacco company with stable earnings but a questionable ethical standpoint. Overall, investing in successful, ethical businesses with strong long-term growth potential is key for successful investment strategies.
Terry Smith's Investment Philosophy and Recent Purchases: Terry Smith invests in high quality companies with strong moats and consistent performance. Recent purchases include Adobe, Amazon, and Alphabet, with each offering unique benefits for long-term growth.
Terry Smith's investment philosophy involves investing in high quality companies with strong moats, high returns on capital, and consistent performance. He prefers companies with long histories and often looks at recent purchases rather than top holdings. He recently added sizable positions to Adobe, Amazon, and Alphabet. He also bought Otis Worldwide Corporation, an elevator and escalator manufacturing company and Church and Dwight, a household product manufacturer. While Otis has stable revenues and good return on capital, its lack of growth makes it less interesting. Adobe, on the other hand, has high margins, high return on invested capital, and is still growing rapidly. Its EV to EBIT is much lower than in years past, making it a quality compounder.
