China Internet Report 2019

I want to share a great overview study of China tech industry landscape of 2019 by South China Morning Post & Abacus. I think the advanced AI usage by Chinese tech companies are highly under-appreciated by the outside world.

This study has many live evidences of what Kai-Fu Lee wrote/predicted in his latest book “AI Superpowers: China, Silicon Valley, and the New World Order” which I recently just finished. Highly recommended and will try to do a review later.

Another interesting trend particularly interests me is the integration of live streaming and shopping. I think this model (temporarily dubbed it as “QVC on steroid” for the sake of western world readers’ familiarity) has huge potential and I plan to study it more.

Incentive System Evaluation – a Case Study of Coty

Coty is a new position last quarter. As mentioned in my Q3 letter, I think the “system” factor of Coty is very impressive. As an effort to document my own learning as well as knowledge sharing, I here formalize my notes. It’s not intended as a support for my judgement, rather I think it would be beneficial in general for anyone who involves in a principal-agent situation (e.g. board of directors, entrepreneurs, etc.) for designing or assessing incentive systems.

Investing community generally agree that a management with owner mindset is preferred. But how exactly could one evaluate “owner mindset”? One way is to talk to the management in person and make assessment qualitatively, however that’s not possible for all shareholders. CEOs typically are also very good at marketing themselves, which adds another layer of uncertainty. These are the reasons why some investors prefer founder CEOs, who are inherently owners.

Coty’s incentive system has following uncommon designs based on a heavy ownership philosophy.

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All About Moats – Book Notes of Pat Dorsey’s Two Books

If you haven’t heard of Pat Dorsey, here is a quick intro for you: He started his career at Morningstar as a sell side analyst, moved up to the head of the reach team in a few year and stayed there for about a decade. After leaving Morningstar, he started his own firm Dorsey Asset Management in 2014. Although his track record as a fund manager is yet to be tested, I found his books very insightful, especially for firm’s economic moat/competitiveness study.

 

Dorsey is the author of below two books:

Image result for The Five Rules for Successful Stock InvestingImage result for The Little Book that Builds Wealth

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Long Term Management Against Long Term Investing? – Thoughts on Activism and Short-termism

Corporate governance is complicated, and I usually don’t like to think too much about it because it’s just hard. However, I recently came across two very interesting and insightful articles, one from Harvard Business Review and the other from Atlantic with conclusion against each other on Activism. I hope this thinking process will be beneficial to me, and to my readers, in building up knowledge base and investment philosophy.

 

First, let’s go through a quick summary of the articles.

HBR, in their 2017 May-June magazine, published a package of articles titled “Managing for the long term” [link here], with a core article of “The Error at the Heart of Corporate Leadership” written by two well-regarded HBS professors Joseph Bower and Lynn Paine. The article started with the Valeant-Allergan acquisition drama involving Bill Ackman (by the way, I agree that Valeant was a questionable company which adopted questionable business practices and didn’t create social value. So I am with Allergan and this article on this point), and followed by challenges on the most widely used agency-based model in context of the corporate governance and proposed a new entity-based model which essentially proposes to gives company more discretion (i.e. power) by loosening them from the agent-principal handcuff. A quick summary chart exempted from the article below.

HBR_EntityModels

This article is thoroughly contemplated and aimed justifiably at the core issue of the capital market – Short-termism, however may have gone too far to directly link Short-termism to Activism. Thus, I have some reservation on some minor points, mainly due to this linkage (which could be a separate write-up, so I won’t elaborate here), but overall think it’s a great step to tackle such a socially important issue and think this new model may have profound impact on future corporate governance.

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Indirect Hard Lesson – Baker Street Capital

The more hard lessons you can learn vicariously rather than through your own hard experience, the better.

– Charlie Munger

I recently came across this Forbes article [The 34-Year-Old Hedge Fund Manager Who Bet Everything On A Stock That Tanked] discussing about a doomed hedge fund due to heavy concentrated bets. In short, the fund invested over 85% of AUM in a single name, Walter Investment Management [WAC], and the stock suffered a 95% slump since its investment in 2015. Per this fund’s SEC 13F filing, WAC seems to be the only US long position it holds currently. Given the significant size and the drastic drop of stock price, regardless other non-US longs or other shorts, the WAC position will possibly wipe the whole fund out.

Out of curiosity, I further researched Baker Street and its founder Vadim Perelman. It appears that Perelman is a strict value investor, following legendary investors like Warren Buffett, Howard Marks & Seth Klarman’s doctrines closely. Before the WAC position, Baker Street had also played a concentrated bet on Sears Holdings (SHLD). More detailed info can be found on this Barron’s article.

Some resources and interesting reads:

Based on these writings, Perelman certainly appears as a talented and diligent investor (also with sense of humor for the sake of the Berkshire joke). However Buffett would hardly approve his approach as intelligent investing (remember the oracle of Omaha’s 2 rules: Rule No. 1 is never lose money. Rule No. 2 is never forget Rule No. 1.) This drives me to think what went wrong to lead a talented value minded investor to such a flunk.

Trying to put myself in Perelman’s shoes, here are my further thoughts and some lessons I learned from this case study:

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What do you need to know about Internet Finance in China

You’ve heard “Internet Finance” is booming in China, but what exactly is it? It all began from the inception of Alibaba’s Yu’E Bao (literally means balance treasure) in 2013. Metaphorically speaking, it’s like your Paypal account balance which is as liquid as your checking account, but EBay is paying you 5% interest yearly. Wait, what?! I know what you are thinking, no, I did NOT miss a decimal point. Since I was away from the country for years, I haven’t really paid close attention to this business model until recently.

It was about two months ago, one family friend from China asked me about investing in real estate in US. A REIT name – Inland Real Estate Corporation [NYSE: IRC] looked very attractive to me then and I recommended it to him (see my older post here). The company then hit the 52 week low at around $8 with yield of 6~% and FFO multiple of 8, and seems to be oversold compared to its still solid property portfolio and operation. As we are speaking now, it was announced to be bought private by DRA Advisor in a $2.3 million deal, paying $10.6 per share. However, my friend decided to pass on this would-be 20+% in two months opportunity because he wasn’t interested in investing in a non-principal-guaranteed asset for 6% yield. “I’d better off put my money in my XX Bao, which gives me up to 10%.” he said. Well, that is very impressive, especially they “guarantee” principal, so basically making it a “risk free” investment. I then asked two question: who are they, and what type of asset they have to invest in to give you that return? “I don’t know, why do I care when they guarantee my principal?” replied my friend.

After some research, I think I find some clue.

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How Far is Too Far: Tesla’s Valuation

Since the first positive earning was posted in the most recent quarter, Tesla‘s stock price has been on a rocket, tripling from around $50 to a historical high level of $150. I’ve been following Tesla since 09, long before it even went public, because I did a valuation on it as a class project. I remember I got a 30ish price from a multi stages DCF model, which is not too far from its IPO price later. Did I buy any of it afterwards? Sadly no.

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Deadly Loans: Why China’s ‘Shadow’ Capital Market Persists

[From TeaLeafNation]

Zeng Chengjie, a Chinese businessman from Hunan province sentenced to death for charges of illegal fundraising, was recently executed without authorities notifying his family, a lapse which sparked considerable backlash among Chinese Internet users. Zeng was not the first entrepreneur to receive a death sentence for financial crimes: Wu Ying, a businesswoman from Zhejiang province, was sentenced to death for defrauding investors of over 300 million RMB (about US$49 million) just several years ago. Unlike Zeng, her sentence was commuted to ‘death with a two-year reprieve,’ which in China’s judicial system is usually then commuted to a life sentence after two years. Yet both cases show that harsh sentences often await those convicted of economic crimes in China, without regard to the flaws in the system that have led to their actions in the first place.

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