Bob Robotti - Searching For Improving Industries
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Bill: Ladies and gentlemen, welcome to The Business Brew. I'm your host, Bill Brewster. This episode features Bob Robotti. Bob is the President and Chief Investment Officer of Robotti & Company. Prior to forming Robotti & Company, Bob was a vice president and shareholder of Gabelli & Company. He shares some of his background in this episode. Bob is one of my favorite people. He's somebody that I think that we're all going to learn something from and I truly enjoyed this conversation. I think you will too.
As for disclosures, Robotti & Company and its affiliates may own positions in the company as discussed. Past performance is not indicative of future results, investing involves risks including the loss of capital. And as always, none of this is financial advice. All of the information contained in this program is for entertainment purposes only. Please consult your financial advisor before making investment decisions and do your own due diligence. All right, enjoy the show. I am thrilled to be joined today by the one and only Bob Robotti, a man who always makes me smile and I always enjoy talking to. So, expect an interview where I pump Bob up, because I like him a lot. So, Bob, how are you doing?
Bob: Okay. Great, great. Just goes to show you have some poor judgment, but anyway that's good.
Bill: [laughs] Well, I don't know about all that. You're one of those people that every time I see you, I smile.
Bob: Good.
Bill: I'm smiling right now talking to you. So, thanks for saying yes.
Bob: That's great. My pleasure.
Bill: You're welcome. For people that don't know you, do you mind going into your career and your background and kind of how you got to where you are and then we'll take the conversation from there?
Bob: Sure. Yeah, I graduated from college in 1975 and it was an accounting major. In college, I did not do well. I did not apply myself. As a result, I graduated with a C. Therefore, back then it was the Big Eight Accounting, now that’s a Big Four, but I couldn't get a job with any of the Big Eight. And then I was also coming back to New York and it was a whole bunch of smaller accounting firms still couldn't get a job there. I ended up with a tiny accounting firm, 25 people. It was the most fortunate thing that happened to me because their practice was the two pieces mainly that I was involved with. One was I would audit daycare centers in really tough neighborhoods in New York, when New York was a really tough place, as opposed to people today say, “Oh, it's a tough place now.” No, it's nothing like it was in the 1970s, 1960s when the city was going bankrupt.
Bill: [laughs]
Bob: Anyway, the other part of the practice though was auditing investment advisors. There were a number of New York-based investment advisors, and preeminent one that I worked on was the audit of Tweedy, Browne. Tweedy, Browne, of course, is succession to Graham-Newman. They actually office next to each other. So, when Ben decided that he really didn't like the stock picking stuff and he wanted to go to France and read the classics and hang out, he closed up shop. A number of the people from Graham-Newman walked into Tweedy's office including Walter Schloss, who sat there those years. I was there and I spent maybe half the year, four years working on the audit of Tweedy. There was a retired partner by the name of Joe Reilly. So, it was originally Tweedy, Browne and Reilly. And Reilly and I became fast friends. And so, that was my introduction to investing was what Tweedy owned, what Tweedy bought. It was a really interesting time too because in 1973/1974 you had the market crash, then. When that era's one decision stocks that you can never go wrong, you could own at any price and there'd be great investments, it turned out not to be such great investments. There were maybe some parallels to where we are today, I would suggest. It was a period where Tweedy just came out of nowhere and really did great and in 1980 when Train wrote the first book, The Money Masters and Tweedy was one of the people in there and the chapter on them was the pawn brokers. Because what they did was all these inactive small companies where they bought NetNet, could buy a NetNet back then. NetNet, of course, companies, probably a bunch of them were not the best companies, but they were interested and they were cheap and the valuation was really attractive and that's what happened. In those years, Tweedy did really well because they own stocks that were very much undervalued. Part of that was even they got recognized as being undervalued that meant they were acquired by others. Therefore, they were trading in the market for far less than what those assets were worth and someone recognized that fact and took advantage of that. So, that was my introduction. I saw what they owned and it was a very open place. I talked to Walter Schloss. I talked more to his son, actually, Eddie, who's my age. And so, that was how I learned about investing.
Bill: What were those conversations like? I've read about Walter and I have a sense that he had a diversified book that was based on really cheap stuff, but I have no idea how he looked at the world or the person he was or any of that.
Bob: I'd be definitely embellishing to say that Walter and I were fast friends. We were not. Joe Reilly and I were fast friends. And occasionally I talked to Walter, but Walter, of course, is much older than I am, And so, it was more like I knew what he owned as I knew what Tweedy owned. So, it was really more a one off as opposed to the people at Tweedy I had a better relationship with including Ed Anderson, who ran the firm at the time had been recruited to come Tweedy, Browne because Chris Browne was too young at the time. And so, Ed came in and filled that slot for 10, 15 years.
Bill: Very cool.
Bob: It was more than Tweedy people. And it was Joe Reilly, who was one of the founding partners. Those are my contact points.
Bill: From there, you ended up as CFO of Gabelli, correct?
Bob: That's right.
Bill: Yeah. So, how did that transition occur?
Bob: Well, one of the other investment advisor clients at the firm was Gabelli. Gabelli, when he went to Fordham as an undergrad student, took an accounting class with a professor named Pustorino. The accounting firm was Pustorino, Puglisi. Pustorino was the person that he knew. Pustarino was closely involved. When Mario needed someone, Tony Pustorino said, “You should talk to Bob.” In 1980, he hired me to be CFO for Gabelli & Company, when Gabelli was an extremely modest firm. The focus of Gabelli at the time, because he was originally a self-eyed institutional analyst back in the day, when there were fixed commission rates. And therefore, that was an economic venture, as opposed to in May of 1972, when they eliminated fixed commission rates, they precipitously dropped. Sell-side research was something that had difficulty in getting compensated because the value was coming down dramatically, the compensation was coming down. So, Gabelli went out to start his own firm. He was with a firm called William Witter. William Witter was bought by a firm by the name Drexel Burnham.
Bill: Oh, interesting.
Bob: Mario spent a month at Drexel Burnham and said, "Well, I don't want to do this" and went out and started his own firm in 1977. So, that was the exception. It was pretty much the beginning. So, in 1980 is when I started to work--. When I started to work for Mario, his business was mainly a brokerage business. He managed $7 million when I started. When I left in 1983, he was managing still only $77 million. So, Gabelli at the time was relatively small firm that was focused on the brokerage business. Part of the reason I think he probably keeps it around today, because it's a legacy that he likes and thinks about and was the training ground for him and therefore probably for others that are in his organization today.
Bill: Had he come up with the concept? I'm going to call it a marketing concept, but I don't really mean it in that way. But he markets himself as private market value as a catalyst. Had he come up with that yet?
Bob: No, it was still-- Earlier on, he just stated and came to fruition and manifested later on because it probably happened that there're businesses being taken out and therefore the differential between what the value was to an acquirer and where it was trading in the market were very vastly different. So, therefore highlighted that concept. Of course, today, I think the same thing. It is going to be interesting. Of course, we active managers lose money all the time to private equity. One of the great advantages of private equity, of course, is that it's not the volatility, not the risk because of course, they mark to a model as opposed to mark to market. I'd like to mark my portfolio model all the time, because I think the businesses are worth two or three times where the public market is valuing it. The public market mandates carry that value and not what I believe the intrinsic value of the business to be in the private market value. If I'm right the market will recognize that differential and therefore stocks will appreciate and therefore, I will do well. In the public market, of course, you can buy things of substantial discounts to what they are worth. The private market is an extremely efficient market. Businesses sell for maybe there're different views, of course, today it's changing. What's the inflation rate, therefore what's the risk-free rate of return? Therefore, what's the premium you need for everything? So, everything is probably changing in terms of what it's multiple is, but not as quick in the private market as it is in the public market. Maybe the public market even gets in front of the change before it happens and therefore it discounts businesses. So, the discounting factor of the public markets is something you can't get in private markets. I would think from here from where we are, a huge opportunity for investing in the public markets, as opposed to a private equity investor who has to buy businesses at much higher valuations I think because that market is efficient because who's the buyers and sellers are all these private equity firms with plenty of capital and marking to that model and therefore not looking to vastly change valuations.
Bill: I do want to close or finish one thing. So, when you went out on your own, what would you call the ethos of your firm as you started it? I know I traditionally have thought of you as a value investor, although a couple of months ago, we were in a room and you referred to yourself as a growth investor paying value prices. So, I was just curious. Have you evolved over time or what was the, I guess, germ of truth or whatever I'm trying to say?
Bob: I hear you. There's an evolutionary process of investing. As I said, I'm a CPA. I can calculate NetNet working capital. I can calculate book value. So, I can calculate those numbers to come up with what is a statistically cheap stock and then owning statistically cheap stocks and that's what it was. Originally, as I said, Tweedy's chapter in the John Train book, The Money Masters was the pawn brokers because their specialty had been those pink sheet stocks, those were legacy companies before the 33, 34 Act never registered and then therefore still there were shareholders that spread over time, because there were multi-generations and therefore, you had a diverse ownership. Those companies were harder to understand, no information about and undervalued. That's what we did. Originally, we made markets in pink sheet stocks because Tweedy had grown successful and large and therefore harder to deploy capital in a relatively small market that was shrinking and of course, it's pretty much shrunk to almost nothing today, because those legacy companies eventually got taken over, consolidated, and sold off something in that process. So, that's what we did. We bought cheap stocks. Then looking back over time, there were two groups that outperformed the other cheap stocks that I own. One group was there was a controlled shareholder who understood capital allocation and then took that business and maybe sold off businesses or whatever, redeployed capital and grew these businesses and really compounded capital and really did great. Owner-operator that you can invest alongside, potentially it's good. Now, of course, potentially it's a risk too because the other thing I did when I first started in business is, I was the name plaintiff in 25 class action lawsuits. Because when you buy a cheap stock that's controlled by someone who is really smart, one of the really smart things decided to do to economically increase his own value is to buyback the stock from you and the public market. Therefore, valuations potentially that they were doing that. I thought the number of times were egregious. The form of the substance of the transaction was egregious. That's what you got stuck doing. But anyway, those guys compounded. How do you follow those guys and how do you do that? So, an early success for us is really following Joe Steinberg and Ian Cumming at Leucadia. Leucadia, Universa Companies was one of the things that we migrated to probably in the mid-1980s when I started the firm in 1983. So, 1984, 1985, 1986, 1987, that's what I was doing a bunch of these companies. The other one was, of course, buying businesses that are cyclical and out of favor and then the business recovered. Therefore, buying cyclical businesses, buy a business was substantially [unintelligible [00:12:59] to build that business anew. And it is not a buggy whipped, then you really have something that will recover. For recovery, that means there's growth that comes from that process. I would say that we've further over time honed in and moderated that and perfected it. Not perfected, no one's ever perfect. We're a long way to perfect. But looking for businesses that also there's something different about that company. Yes, this industry situation is going on. It's not just the stocks get discounted. That's one thing. Public markets discount securities businesses that are going through difficult times, because the presumption is that difficulty will continue for a long period of time and no one knows when it changes. Therefore, the current cashflows are foggy at best. So therefore, there's a heavy discount. One of the things Mario also perfected was value with a catalyst. In every community including the value of community, there's no deferred gratification. I want it now. Therefore, of course, your investors want that. But with a catalyst, it always seems to me as if there's risk in it too because that catalyst doesn't necessarily galvanize the way people thought it was. And so, therefore you don't necessarily capture the value. Things can work against you. Instead, I'm looking for businesses that are absolutely, statistically, extremely cheap. But I'm also looking for a business that has something about it, whether that's product they sell is different, whether it's the management who really understands that business or it's an owner-operator who has his own capital on the line, who's thinking about it, and who's a smart person who takes advantage. Because in that downturn, not only does the public discount the stock price, things happen internally to businesses like that. They downsize, they right size, they consolidate. Therefore, you get a much better business if it survives through that difficult period of time. You also get a competitive landscape that potentially changes. So, that's what we've spent a lot of time is looking for businesses that we think that, "Yes, the recovery is going to come to that business." And this company is different and better than the others and potentially continues to consolidate. It's an industry that's more rational at having gone through a difficult time. So that's what we're looking for. One of the stocks, of course, post the world financial crisis and the housing implosion, of course, that drove America in 2009 and 2010, 2011, 2012, we accumulated large positions in a couple of distributors to homebuilders. One of them was in Builders FirstSource, the other one was in BMC, which was the Boise Cascade distribution business that had gone through bankruptcy and came out of bankruptcy and we bought our interest from a number of the banks unwitting and unintended shareholders in the business and didn't want in and the business took time to recover. Because it took time to recover, they were anxious to monetize their positions and therefore we're able to buy interest in that business at extremely discounted price. Eventually, what happened was that business did exactly that. Those two companies more than anybody else in the distribution of home lumber and lumber goods, so therefore that lumber component part of home building started to do more of offsite component manufacturing. Therefore, changing the process instead of sending sticks to a site that therefore cut and therefore assembled, to do that offsite where you can do a roof truss, a wall panel, floor trusses. So, components or even in the case of BMC when I was on the board, because eventually, we owned enough stock, I ended up on the board for three years' time, they had a ready frame business, which is a whole house solution. Every piece of wood goes to the job site, numbered, cut, so that therefore someone can assemble it. Therefore, you need less labor to do it, you need less skill to the labor to do it. There's less cutting of wood, therefore you don't throw it in a dump after. So, it's probably even ESG positives to it, because you're using less materials and there's less waste. So, there's a number of those things. BMC and Builders were the two companies that across the country were implementing that as an alternative. In a world in which the materials became expensive, the labor became hard to get. Those two things really made it a better process to help home builders. Then what happened was that you did have events happen, including you had a recovery in homebuilding and you had labor shortages. When that happened, this solution that was out there, the people were hesitant to adopt, got adopted. You saw that in places like Texas. Texas is a place that theoretically should have always used components, but I guess, they figured they had low cost labor, some of that was immigrant labor and therefore they would cut and do their own roof trusses. In actually COVID days, they really immediately picked up and gravitated too. There's been a huge acceptance of this component manufacturing process. In the meantime, BMC and Builders eventually merged in January 2021 and each of those had merged or acquired one of the other large competitors. So, it's the amalgamation of four of the five largest distributors. It's been a huge amalgamation driven of course by an extended downturn and difficulty in the difficult period. All these things came together and enabled them to further differentiate themselves in terms of what their product offering is, what the competitive landscape looks like and therefore the nature of that business today I think is not the same as what a distributor to homebuilders was for lumber or lumber goods products 15 years ago.
Bill: Yeah. So, one of the things that I've learned from you is what it's like to actually own a business for a long time. When we talk, your holding periods are very long by any standard. As this conversation is going on, you're talking about buying Builders in the depths of really despair. Post 2008, it was awful. I'd argue that 2020/2021 was not despair. So, how do you think about holding inequity as the fundamentals have improved? How do you think about exiting a position or is it just not something that you want to exit? It something that you say, "Look, I've bought this right. The competitive position is awesome. It's getting better. I'm just going to own this."
Bob: Many years ago, I was asked at a conference to speak about my biggest loser ever. It was an easy thing for me to do because the biggest loser I ever had was Richmond-based company by the name of NewMarket. That's the name today. Originally when they invested, it was called Ethyl Corporation and it was run by the Gottwald family. It was a classic, Gottwald family are smart owner-operators, had consolidated the business that they were in. They had bought out Texaco and Amaco's business. And so, the industry really had consolidated at the four guys. Ethyl Corporation, Afton was their additive business was the smallest of the four. They looked around after making those acquisitions and say, "We're not going to buy Lubrizol, the largest guy in the business. That's not going to happen. We're not going to be able to buy Infineum, which is a Shell-Exxon joint venture, we're not going to be able to buy Oronite, which is a Chevron-Phillips joint venture. Those guys don't want to sell. If they do, they know we're buyers. But in the meantime, they haven't." What we do is they bought back their own stocks. So, they bought back stock at 45. The family didn't sell any stock. They increased the percentage of ownership. An indicator, one of the things we look for is like, "Oh, gee, a smart guy buying back stock, not selling himself. The stock must be attractively valued." A year later, the stock goes to 35. The fact of the matter is though, we do tend to invest in industrial businesses that have cycles. And therefore, we did not anticipate the cycle that came up. Here they had levered to buy back stock and then suddenly the industry had issues because Oronite, Chevron built a new plant in Asia in 1996, 1997 because the Asia markets were exploding. And then a thing called The Asian Financial Crisis happened in 1997, 1998. Suddenly, Asia slowed down dramatically. A new plant comes online. So, the industry supply demand balance gets out of balance, because this is an industry that grows at 1%. It's a low growth business that people had said, "Oh, gee, we've got to pick up especially this local geography. Therefore, we could add capacity and that's really going to be wonderful." The fact of matter was, "Oh, no, too soon. Something happened in the interim." So, here they're levered up. In the meantime, the stock had gone to 35 when I first bought my stock thinking I'm really clever, because I bought it 35, they bought back to 45. The stock proceeds, of course, did go to four over some period of time, because that's what happened, one of the larger customers was Pennzoil-Quaker State. So, engine motor oil is probably 50% of the volume. It's not where the margin is in the business so much, but it's the volume guy.
Bill: And that serves your operating leverage. It pays the bills and then your margin goes elsewhere.
Bob: That's right. When that merger happened, they went to all of the additive suppliers and say, "Okay, who's going to give me the best deal? They're going to get all our business. We're the biggest customer in the business." So, there was overcapacity and that competitive environment happened and therefore, the pricing got difficult and the profitability came down at the same time they had levered up. So, the business became strained. Of course, one of the advantages of also being invested with a family like that owner-operators. NewMarket's interesting because the Gottwald family had five years earlier split the businesses into pieces. It was the second moving to the third generation. They were probably anticipating all the social things that come along with a third-generation family. They made different companies. Head of one family had Albemarle, the head of the other family had Ethyl Corporation. Then they spun out Tredegar for another portion of the family. They had First Colony, which is an insurance company. They had four public companies they had created. There were different branches of the family that ran each of these businesses. What that also probably created, I believe, and this is speculation on my part just thinking about human nature, because human nature is an important component of all investing, what drives the people making decisions who own the business. This business, because of that fact pattern, had a very difficult situation. So, Bruce Gottwald, who is the patriarch that had that branch of the family, I just envisioned every year, Thanksgiving now, they all get together for the family and they all look around the table and say, "Hey, Bruce, what the hell's happening to Ethyl? Ethyl is the name of our company. That's how granddad made all his money-
Bill: [laughs] Yeah, what's going on here?
Bob: -and it's going to go bankrupt. What the hell are you doing?" [laughs] The gravitas that comes from someone like that to this thing will not fail. And of course, we bought more stock. What was it for? Because that's what happens. The stock continues to go down, down, down, down, probably quicker than the values declining to the point where it got to-- The market cap of the company was less than their annual spend on R&D. There was a substantial disconnect between what we thought the public market was valued in this business at clearly what it would cost to replace that business and what the opportunity was in this business. That time had gone on, they had generated a lot of cash because they didn't really have any cash needs. Once you own a chemical plant, the maintenance of that plant, you continue to do the work and you do what you need to do to it. They have a life much beyond their original economic accounting life there. You really have an asset that does generate a lot of cash and was generating cash and therefore, it had taken it from $750 million in debt to $150 million in debt. You delevered the business and now suddenly, importantly, what happened was Lubrizol, who said they were a growth company and that was what they were telling Wall Street and this is a business with no growth was therefore really running the business, nobody was making money. Lubrizol went out and made an acquisition of a company that made haircare additives. And that business actually had organic growth of 67%. Now suddenly, they could be a growth company because they had that business and then they could look at this business and say, "Hey, wait a second, let's run this business for cash." So, they shut down one or two plants and they started that process and then they raised prices. This is a really long-winded story. My goodness I'm just telling you how--
Bill: No, no, I like this. Bob, this is important. One, you're talking to institutional people definitely listen to this. Two, there are a lot of people that are looking to learn and a lot of younger people that haven't been through a cycle with the company, one of the things I really have learned from talking to you is what it's like to own an asset. So, I appreciate you going into the long story of this, because I think it's an important illustration. So, thank you.
Bob: Of course, it reinforces the experience we have that we always say real edge is our behavioral edge. That is the ability to persist through losing money. Stay with something that had a business that consolidated down to only four people that there's a really smart guy who ran that business, who clearly thought this was a real opportunity. And to understand how that business was like, yes, there is a huge barrier to entry in this business. So, it has a lot of attributes and it should have the ability to have returns that are commensurate with that. So, therefore, living through the losses are probably critical to how I think and therefore how I do this again and again. What happens then is Lubrizol raises the prices, then base oil, which is a key ingredient goes up. Therefore, the margin that they had added goes away. So, they raise prices again. The industry follows and raise prices. Cost of base oil goes up again. This happens four times. Every time the margin that they create disappears. Now, of course, I'm looking at this and saying, "Hey, this is a clear indicator that finally supply-demand balance is clearly aligned that there is pricing power that people are working along with that to therefore increase the profitability of this business. At some point, base oil doesn't go up. Therefore, at some point, the margins expand and therefore at some point, this thing really starts to manifest its latent earnings power, which has grown over time and people haven't seen, the industry environment didn't enable it to have pricing power and returns. That's what it does. It suddenly starts to improve. I call the CFO, who I've gotten to know because nobody else knows and nobody talks to, because nobody knows that company.
Bill: Yeah, no one else is calling him. [laughs]
Bob: Yeah. Right. 18 million shares and it was $4. It had no market cap. It was a microcap. So, I'm talking to the CFO and I say, "Hey, David, next year you guys are going to do $4." The stock had recovered from $4 to $15. At $15, I'm like, "Hey, David, next year you're going to do $4 in cashflow per share and it's a $15 stock, and you've delevered the business." And he's like, "Bob, from your lips to God's ears." He sees the numbers too. He has a sense of that. His conviction on anything-- His company almost went bankrupt a year or two ago. So, therefore, I don't know anything anymore. That's what I say. He can't see the forest for the trees, because every day he runs into a new tree for five years. All you see is the next tree. You can't see the forest. I'm looking at it and say, "No, you're going to do $4. This is $15 stock." So, that's what I did. I went out and I bought a whole bunch more stock. I doubled up. We owned 6% of the company, I think. I made a big position of 15 and I am feeling really smart, because-- Well, I follow this whole thing. I saw the whole thing play out. I thought it would play out that way. Now it's playing out that way. Again, we don't buy cigar butts because the cigar butt maybe at $4, clearly it was the cigar butt at $15, it had recovered. The business had gone up. The idea that, "Hey, it never hates to take a profit." Well, I'll get back to that one. That's a really-- Frequently, when these stocks start to improve, there's a really long runway because it's been a long time that they've gotten crushed. So, for the recovery is extremely long. That's why I say, I'm a growth investor, because at that point I'm like, "Wow, this stock is really going to grow. Let me put money in." So, I bought stock. Now, of course, I'm still a value guy. So, therefore, a year and a half later, I'm right and the stock goes to $39, almost $40. It's at 40 bucks and it's $4,10 times cashflow. "Oh, it's a business with only 1% growth. Therefore, that's a full value. So, let me start to sell the stock." So, I started selling the stock, very proud. [laughs]
Bill: Yeah, you doubled in a half. That's awesome. And you leaned into it at the right time. Why not feel great?
Bob: Didn't I? Now suddenly, six months later, stock gets to $48, the company starts buying back stock. I'm like, "What the heck is that?" You're buying a stock at $48. And so, I'm selling some more stock. The next thing I know, six months later, they're buying back stock at $62. $62? What's that all about? Where were you at $4? Where were you at $15? Now, you're at $48 and $62. Of course, in the meantime, I'm sure at $4, there were reasons why they just couldn't buy it. There were problems given the nature of their position, all those things. I'm not sure exactly what it was. Anyway, they're buying back stock. So, I'm like, "Huh, that's interesting." I wonder what they see that I don't see. Of course, what they really see is they see everything has galvanized. This business really is in a position, it's really changed. Part of it is, when you have a business like that with four guys, each of these people, base oil may be half of the volume, but the other half are all one-off customers on a specific need they have. You work with the customer on, you need a lubricant for some reason, you need an additive for extended miles for some reason. Therefore, you work with the R&D, because they were spending a lot of money on R&D to come up with development. Developing a chemical additive that really makes the customer product a differentiated product with extra pricing in it and therefore willing to pay more money for those things. Working on those solutions end up being really good margin businesses that therefore, you can really grow over time and really increase the profitability. So, that's what they're looking at. They're looking at how this thing is playing out. This is the culmination of what they had seen earlier on where they consolidated those other businesses. In 2013, I sold the balance of my stock. They paid a $25 dividend because there was the tax law change-- [crosstalk]
Bill: Oh, my goodness.
Bob: It was preference. And I sold the balance of my stock at $275 a share. So, the growth that happened in that company and that's why they were doing this all along. That's the opportunity they really saw. That's what then finally hit and culminated and that industry structure enabled those people to really have great returns. The stock, I think today even trades at $400 a share. The stock's been just the monster stock. In the meantime, it's also interesting too, because one of the things when stocks are really cheap, occasionally, companies have the capability to buy back stock and frequently people will say, "No, you can't do that because you reduce the float and if you reduce the float, that changes the stock price and all that." In the meantime, that's really not true. You're probably not at the margin affecting the liquidity of the stock if the company is really buying it back or not. But you definitely are if you are substantially trading for less than what you're worth, increasing the earnings power of the business on a per share basis and increasing the per share value of the business. Eventually what will move a stock is the earnings manifest. When the earnings manifest, suddenly the stock appreciates. When the stock appreciates, then the guys who owned it forever. I would suggest if you bought it in 1998, 1999 and the stock went down, you just tend to own these things forever. If you were gone, you got out at $35 and at $30 and whatever else, you weren't there at $4 and you weren't there at $15, you weren't buying them back in. So, therefore, you've moved out the shareholders who buy and sell and you got people who just own things forever. But when the earnings start to come, then suddenly those guys say, "Hey, I guess, maybe I will sell some stock." Well, I'll sell a little bit. I've made a lot of money here. That's when you start to get liquidity because liquidity is its own function it is and have to do with how many shares are there which anything has to do with, "Are the earnings manifesting? Is the stock appreciating? Are there new buyers, are there sellers, therefore, does it change--?" In the meantime, they will buy back stock. Today, there are fewer shares outstanding. Of course, the liquidity is through the roof and fewer shares, a lot more value and a lot more value because it has a lot more earnings because that's what it is. Earnings of the thing, of course, it eventually turns the stock price. The number of shares in the market, the liquidity or any of those other things.
Bill: So, if you're looking back at this, the reason that this is the subject to the biggest loser is you trimmed early.
Bob: Oh yeah, I sold most of my position, at probably 50 and I didn't hold on to it till 300. So, that's where the loss covered. This is in my numbers. You don't see that number, but that opportunity cost-- So, this idea of holding things and trimming back and all of those things. Trimming back really is a function of what's the price, what's the value, what's the opportunity, where are the earnings going and therefore, what's going to be the stock price of this thing? That's the determinant to do that and that's hard to do. But that is my sales were the thing, of course, that caused me a huge loss.
Bill: Do you think that one of the learnings is lean in when you see things that are cheap and at an inflection point and then just hold until it's almost painful to sell? How would you implement the learnings from your biggest loser and how do you implement those learnings?
Bob: The longer it's difficult, the lower the stock price goes because that's what happens. With Builders and BMC was the same thing. Here I buy it in 2009 thinking the business is going to turn and then of course, there's a value investment. My timeline is far off and I'm wrong and the business gets worse. The first thing to do is, well, when it gets worse, you buy more. And so, therefore I bought Builders at $340 in 1999 and then in 2011, I bought it for a buck 70, a buck 40. It went down because the business just didn't turn around that quickly. So, therefore definitely it had issues still. And so, the business gets cheaper. Of course, yet, the corrective cathartic process of a difficult time and what it does in capital allocation and capacity is improving the fundamentals. You don't see it, but every time it's disappointing what does the stock do? It doesn't stay flat, it goes down.
Bill: Yeah.
Bob: So, what's the price? The price is predicated where it started. Therefore, the price becomes disconnected from economic reality. The price is connected only from where the price was. The longer that goes difficult, the lower that price goes. Again, fundamentally more consolidated better the business probably becomes because of the continued reallocation of capital and sparing back given the difficult situation and fewer competitors, because people go away. Forget it, I'm not in that business anymore.
Bill: Yeah, you were one of the first that I heard coined or used the term 'The revenge of the old economy.' You were saying this in 2020 before it was in vogue to say it, SaaS was still flying and everything. What did you see in 2020 that got you--? I don't know, talking to you, it felt you were noticeably excited about future prospects. What did you see at that time? It sounds it may rhyme with some of the stuff that you're just talking about.
Bob: I only came across it like two or three years ago. There was a German-born economist who taught at MIT at the end of his career and he's known for the comment that says, "In economics things take longer to happen than you think they will and then they happen faster than you think they could." That's what we would say is, we're looking at these industrial businesses. That's just the nature of the things we invest in because they are cyclical and therefore give opportunities repeatedly as they go through a cycle to do something. That's what it is. The decade of 2010 through 2019 was very low economic growth. And as a result, all those other things happened. You had low inflation and therefore as a result of that you had low to no to negative interest rates. Part of that was continual process of misdirection on the part of governments. Misdirection on the part of governments was fiscal policy is something government should have done eight years ago, because we needed bridges and roads. If you build a bridge and road, it does something. The Eisenhower Interstate Road System was huge for the country for an extended period of time. Instead, it did this monetary policy thing, which I of course will laugh at. So, the Fed is totally ineffective. The Fed can't do anything. People believe the Fed can do everything and as a result, everybody believes just like Wizard of Oz, he's behind the curtain, he's doing these different things and everybody says, "Well, the wizard could do. He's the wizard." And so, therefore he can do whatever. The market buys into that because of course the market is multiples of the size of the Fed, but it buys into it as long as it buys in, I've got that kind of agreement. They anticipate the Fed is going to respond and therefore they go out and they buy bonds. It's the safe thing to do. Of course, over 30 years it had been the safe thing to do, so it became 40 years it is the safe thing to do. You get this one, two step all the time. Something goes wrong, you buy bonds and then the Fed steps in and buys more bonds. Therefore, "Hey, that worked well." In the meantime, you suppress interest rates to a level that just makes no sense and therefore you get misallocation of capital. In the meantime, if you're an industrial company, there's a very low growth environment. The decade had the lowest growth ever of economic growth, but it had no recession. So, there was no boom, so there was no bust. In the industrial businesses, you really didn't see much because there wasn't much changing. All that meant was you continued to downsize. In the meantime, we look at these businesses, for example, one of the companies is Olin Corp. Olin Corp in many ways in my mind is a replay of Ethyl Corporation. You have a company that is in chlor alkali, which is a crappy commodity business with relatively low growth. What it did though in 2015, 2016 was the Dow and DuPont. This is also a function of how capital allocation works. Dow and DuPont merge and they say, "Oh, we only want to be in the best businesses. Anything that's a commodity like business let's get rid of because we're going to stay in the good businesses." What they do is they take the chlor-alkali business and they put it into Olin. The shareholders at Dow end up with 51% of the company. What that does is that makes chlor-alkali business in which Olin has 40% market share. Chlor alkali in the United States, the key ingredient is salt, which is actually abundant, but most importantly, it's electricity. Electricity in the United States is the cheapest it is in most of the developed world. So, there's a competitive advantage. So, making chlor alkali-- [crosstalk]
Bill: You have a relative scale advantage and a cost advantage.
Bob: That's right. You're in the right market, you are in the great end market, because there's demand for product too. You don't have to ship it any place and you further consolidate that business. So, what everybody did. There's a manager that I know well, who like me made a lot of money in NewMarket, said, "Hey, this is the same replay of that fact pattern." There are now five guys that control most of the market in the United States and the United States is the low-cost producer. So, that should mean economics will follow because economics different than this industry has had probably forever given you've got a really consolidated competitively advantaged business here. It didn't happen for a multitude of reasons. Part of that is mismanagement, probably other reasons that came into play. And because it didn't happen, then of course, there was huge disappointment. The stock traded down. They did come out with, "Oh, this is what we think will make." And also, they consolidated the epoxy business. The epoxy business is one in which, "Oh, we think this is what the earnings will be in the epoxy portion of this will do in chlor-alkali," and it never manifested. But in the meantime, why? That industry structure is there just like when NewMarket had consolidated Texaco, Amaco in its business, this is a consolidated-- The nature of this business is such that it should have pricing power, it should get good returns, and you've structurally changed this business. It didn't happen. So, we had seen a bunch of other businesses like that. That was probably the most glaring where we thought Westlake is again US competitor in its business-making things. And you have a cost advantage, because natural gas in North America is cheaper than oil in Europe and European oil sets the price for a lot of petrochemicals. Because of that, that means the guy in the United States is using natural gas has extra margin that he makes, because the price is set by the other guy who uses the higher price raw material and you get that advantage. So, that's another thing. We saw that too. It just didn't play out though. It didn't play out in terms of the earnings manifesting as quickly as what we thought they would. We thought actually at the end of 2019 in a lot of these businesses, the demand had reached a tipping point where you started to have pricing power. You started to get the realization of the things that we had seen that were latent. And then of course, you had the pandemic come into play. The pandemic then puts it all on hold for two years' time. Initially, you're choking, because everybody's got too much volume. Any capacity is too much capacity. But all those things, we thought were playing out and that's what we think today. We think that post the lock up in most of the world that therefore you've got economic activity, you've got a lot of things happening. And so, therefore, it is now manifesting that those industries have right sided the supply, therefore have pricing power. Therefore, when inflation happened in the last couple of years, everybody said, "Oh, this is due to supply chain issues." What we said was, "No, there's some element to that, but there's an element here that is due to supply issues." Industries have rationalized and therefore have pricing power and are exercising pricing power. That is something that will manifest because you've got enough volume and restricted enough capacity, so you have that. That's not a transitory increase. One man's pricing power is another man's inflation. That's what we would say is that a number of these things have happened where you've really gotten prices to go up pretty dramatically and you've got an industry structure that's different than that industry has ever been, and therefore you have sustainability of those higher earnings. We'd even say, well, these are Buffet businesses, because there's a barrier to entry. To build the chlor-alkali plant any place, definitely in the United States is not easy to do. It's expensive. There are barriers in terms of, "I'm not going to permit that in my community." Therefore, how do you get into that business? You can't go in Europe and do it because you're not competitive in terms of pricing. You can't build it. There's a limited number of places that you could do that. I really think to get into the chlor-alkali business if you're not in it. I don't know, it's an odd business. There's a limited number of players who are rational competitors and therefore having pricing power and really good earnings. Therefore, that's what we think we have. The things that Buffett talks about is a better business and they're available at Graham-type valuations, because they traded single digit P/E multiples, two years of phenomenal cashflows. So, therefore, balance sheets that are many cases net cash on the balance sheet. What they're doing with that net cash that they're generating, this cash is generating, they're not going on building a new plant. They're not increasing the supply to therefore kill their demand control situation and their pricing power. They buy a competitor, they buy back stock, they further do things to enhance the earnings power. While the stock does nothing and it trades at five times earnings, well, that's okay, because I'm buying back more stock at five times earnings. The economic earnings are higher than that because my depreciation is greater than what my CapEx is to really maintain that business and operate it at this level and this production level. Cheap stocks getting cheaper or doing things that are creating more value and the runway for that is really long. Therefore, build this first source, distribute it to the home builders, that one in terms of how long do you own these things. Today, I'm like, "Well, home building is clearly slowing down to an extended dry period year, because the cost of homes in every form, whether it's the materials, the materials will come back some. It's still more than they used to be." Of course, the availability of capital mortgages is higher than it is. I believe that's not going back down to where it was. We were in odds, you're not going to get back to 1% inflation and 1%, 2% 10-year Treasuries and 3% mortgages. Those numbers aren't coming back. They're gone. And therefore, slower activity. Yet, in the meantime, given the competitive nature of the business, given the products they have, given their market share, they're moderated to production level and therefore, they're able to still continue to make money generating cash. And that's what they're saying next year businesses down 20% will still generate a billion dollars in free cash instead of $3 billion over the last year and a half, the $9 billion market cap enterprise value in the business. No market cap because there is some net debt, but the net debt is long dated and it is relatively low rate. Therefore, again, people say, "Oh, you don't want to own a company that's levered two, three, four years ago?" I'm saying, "No, levered is potentially an asset." If you can borrow money and it extended for a long period of time at the rates that they were willing to give it to you for free, the house had a liability. If something happens in the interim and debt markets freak out, you have the potential, even though to buy back the debt, you're probably not going to pay par for something that's got a 1.5% coupon that's got a 10-year maturity on it, when interest rates are 5%, 6%, 7%, 8%. And that becomes a little bit of problem, because there is in the interim pain, because the price definitely comes down in anticipation of uncertainty or certainty on the next year that earnings will be lower because the environment is more difficult. But where's this business end up? Once it's longer-term value, it still has a significant opportunity. So, we tend to own them probably longer than we should if anything, but for to own it longer because I have the potential, I think for businesses that are really differentiated that are misunderstood by the market and have very low valuations. So, all of those things are ability to have appreciation over the next few years.
Bill: Well, one thing that you said earlier in the conversation is that you don't own cigar butts and it seems to me that in all these businesses that you're discussing, the asset base is one that you think regardless of where we are in the cycle on the other side of the cycle, this asset base is one that's going to generate a stronger degree of earnings power than it came into the cycle. So, even though there's interim pain, it sounds to me your comfort level comes from the underlying assets in the long-term cashflow generation. Is that a fair summary?
Bob: That's right. Another thing we own is a company called Stolt-Nielsen and it's a shipping company, but it's a chemical shipping company. Chemical shipping is a very small subsegment of the total shipping market. That's why I focused in on that one, because they have ships that have 45 different segregations on it, which means they carry probably 45 different cargoes with 45 customers. It really ends up a lot of shipping is they have one customer and you carry one cargo from this location to that location, and then you go back empty and to do it again. So, therefore anybody can own a ship and anybody's a competitor in that business. But instead you call on certain ports, which are key industrial ports with terminal storage for chemicals in it, there's a route process you go through and people then pay you to move their chemical. It's a higher value product that you're moving. It's not a ton of iron ore, instead it's a higher value chemical with specialty facts to it. It's got to be heated sometimes, cooled certain times, it's noxious, all these damages, all those things. I thought, "Well, this is a business with a huge barrier to entry." And therefore, a huge barrier to entry means that it should have much better returns with lower competition. So, a better business. Even my chemical shipping business, which for a multitude of reasons have been wrong, it hasn't manifested itself until the last year or so. What I thought was the structure that it had and the differentiation and why it was something that people thought it was a shipping company, but it wasn't. It was something different than that. Only now is that starting to manifest itself. Again, we look at businesses and try to say, but there's something about this business that it's considered this but it's not. It's really something very different.
Bill: Do you mind explaining what you see with oil when you're talking about Saudi Aramco giving a look into-- Now you have a public entity that you can actually track what's going on and their CapEx versus what they're getting from it. That was kind of eye opening to me.
Bob: First off, let me start with energy markets, because the energy markets today are all energy in all forms are in high demand. That's a multitude of reasons. That is because the world is concerned about CO2 and CO2 production. Over a decade, we've thought about how do we create energy without causing CO2 as a byproduct of that. Therefore, we spent time around the world really doing renewables, and that continues to gain traction, and it should continue to gain even more traction. It's part of the equation and a key element. The fact of the matter is you just can't build that out fast enough. Today, our renewables are 10% of the power generation. People aggregate renewables. Sometimes, they say hydropower too. Hydropower, yes, it is a renewable. However, it's not a renewable that you can double and triple the size of. Solar and wind, you can double and triple the size of it, because you can build-- We're not hitting the limits yet in terms of space and availability that you can put solar farms on and wind turbines on. Therefore, you don't have a physical limit yet. This is not on the river, you can't build hydropower. So, you can't expand the hydro component. So, therefore to talk about that as a renewable is misleading because that's what it is. We want to [unintelligible [00:46:56]. The other side of the equation is because we've been growing renewables and focused on that and focused on trying to pare back the rest of the CO2 production, the world also has concerns about nuclear for variety of reasons, so pared back some of the capacity of nuclear. Most of the power generation has been stagnant, potentially even declining some while you've been growing one at a very high rate. We've gotten to the point where we just don't have enough power and therefore, we need in all its forms. And you see that clearly around the world today. But what that's done is that's changed the world from what people have think about is oil, because that's what the focus is because it's always the headline grabber and has been since back when I was in college in 1973 and my roommate and I went to New Orleans and couldn't get gas and almost ran out of gas in Virginia. We had rationing odd and even and all those. Oil is something that's preeminent in people's mind. For us in the United States, it's more preeminent too because we don't see the full integrated problem with energy because we have natural gas, we have coal. We are self-sufficient kind of in oil, but in the other things we are clearly an exporter. We have more than plentiful supply. That's different than the rest of the world. The rest of the world doesn't have a plentiful supply other than China. China's got enough coal. Of course, China does burn more than half the coal in the world. What that's done and where the world is today is oil is connected in with the other fossil fuels, and oil to them are in high demand today. And in much of the world, the price of natural gas and the price of coal are equal to and higher than the price of oil. So, what that does is it creates a new connectivity between all of those things and it also creates a difference in North America and the rest of the world. Because in North America, since we have an overabundance of natural gas and coal, our prices for natural gas and coal are disconnected. It's the marginal cost of power that then determines also the cost of electricity. So, our electric costs are much lower than the rest of the world. And so, therefore that's a huge differential. So, that's a component that I think is really misunderstood by markets. Again, having invested since 1970s and having seen the first oil embargo and the first oil shock, I've seen plenty of movements to oil, and in few markets of oil in particular. This connectivity, I think is different than we've seen. That differential between North America and the rest of the world is important too. But then when you look at oil itself, in the 1973 oil embargo, what you really had was there was enough supply in the world to meet the world's demand. It was just that the Middle East decided to constrict part of the delivery, raise the prices, and exert pressure on the United States and most of the West for supporting Israel. So, therefore it was a tool. Again, people will say, "Oh, the current energy problem is caused by the Russian invasion of Ukraine." And I'd say, "I would disagree." I would say, "The factors that enabled Russia to use that are the factors that drove just like in 1973, the US declining production, growing dependence on the Middle East is what enabled them to use that lever and use it to raise prices of oil dramatically." And so, therefore that's what happened. That's what's happening now too. It is that demand and the culmination of a long period of time of underinvestment than high demand for the availability of what's there that's driving the pricing environment. Exacerbated, of course, clearly by what's going on in terms of Russia's invasion of Ukraine, although even there I'd suggest that oil piece of it is really not. There's just as much oil that's being produced, maybe a barrel to less than a million barrels, but not really, because you can move it around any place and it is moved around. So, instead of moving it to Europe, they move it to Asia, because India buys it and China buys it. So, it's still on the world market. It's out there and it continues-- The natural gas part of it is different. Natural gas is harder to transport. Therefore, the pipes they have to Europe, they can't tomorrow just take that gas and move it someplace else, because you don't have a pipe that's already built and you don't have a ship, because all the ships are in high demand. Therefore, that's the one piece of energy that really has reduced off the availability today that probably at the margin definitely has an impact.
Bill: Yeah, and it's not like you can build those liquefaction facilities quickly. Cheniere took how long?
Bob: You need all of them. That's right. You need to liquefy, you need to then put it in a ship to then move it, you need to regasify it. These three pieces of infrastructure you need to build out before you drill the well for the gas to put it in to get it from where you're going to produce it to where it's going to be consumed. So, gas is a different commodity and therefore a longer lead time to get it from production to use. That connection though is an odd situation that we really haven't had before. I was going to say something else, but I lost my train of thought. [laughs]
Bill: Oh, I'm sorry. I didn't mean to make you lose it.
Bob: No, that's me. Not you.
Bill: The original question was about Saudi Aramco.
Bob: Yeah, thank you. The oil side of it is the Saudis have said and have started already, they're substantially increasing their capital budget. It's up 60% this year. One of the ways you see that is in the offshore services business, which is one of the things we think are clearly excellent places to be invested today that are industries that have been out of favor, that have had under capital investment for an extended amount of time and therefore the supply of the equipment is substantially less than what it used to be. Demand has now grown to fully absorb pretty much the competitive capacity that's there. Therefore, you see this huge pricing turn. Anyway, the number of rigs drilling offshore is going from 60 to 100. The Saudis are dramatically ramping up their activity to drill more and they're going to continue to spend that money through 2027. The goal is by 2027, they expect to be able to increase their daily production from 12 million barrels a day to 13 million barrels a day by the end of 2027. You have the guy that everybody thinks has the spicket and he turns it. And 3 million, 4 million barrels flows out, and the world's fine, and the price goes down. There's no spicket for him to turn. Instead, he's out drilling wells like crazy because he's got this huge production decline on the stuff that he's been drilling since the Ghawar field has been producing since the 1940s. That field has seen dramatic decline in its productive capacity. The rest of the country is the same thing. This guy that we all think this is like an unlimited supply of oil clearly from what he's doing today, spending all that money basically to keep production flat. That's a very different reality than most people's presumption is. So, the oil markets today are much tighter than people think they are. That's a key point. Then let's go around the world. The second biggest place that you produce oil is from Russia. You get 10, 11 million barrels a day from Russia. On its own, the production, my guess would be that over the last four years, when Russia joined OPEC Plus, it was a phenomenal marketing effort on the part of Russia. And OPEC's acknowledgment that, yeah, they're in it just for the glory, but it's okay because it potentially helps, because it looks like we're more unified and we're a bigger production source. Because through that period of time, the Russian production increased. While they're part of OPEC constraining production, OPEC Plus, they're increasing production. They're drawing on their wells as hard as they can and they have been for a number of years. When you draw on an oil well at maximum capacity, you permanently damage the recoverability and increase the decline rate that you're going to get out of that. Therefore, there's a price to pay that you don't see for some period of time. In the meantime, because of Russia's invasion, you have seen Western companies who are spending a lot of money in Russia pull out of the country. They have to pull out of the country. Service companies who are doing work there who are more technically competent than the local Russian companies have also pulled out. Therefore, with all of those headwinds, Russia's production in the next year or two, I just can't see how it declines. It doesn't decline by a million barrels or 2 million barrels. The number two producing source probably has at best maximum and probably declining production. Third one you go to is you go to West Texas, which is the guy who caused oil prices to fall apart in 2014, because from 2010 to 2014, every year they increased production by a million barrels. Every year, a million barrels more, a million barrels more, a million barrels more. 95 million barrels, suddenly you add 5 million barrels, well, that has an impact. That's what happened in the end of Thanksgiving 2014 is when the Saudi said, "That's it, we're not going to hold price up. We're going to put oil onto the market, bring the price down, slow down these guys in West Texas." That growth means that the production decline in Texas now is as much as anything else. While you're drilling new wells, it's to keep the productive capacity because those shale wells deplete quickly and therefore, you've got a decline curve you're fighting. The ability for West Texas to increase production, it's probably like a half a million barrels. The last year definitely has been disappointment in terms of how much production has come out of West Texas. There definitely are theories that what you really have is the wells aren't as good, because the better wells you've already drilled. So, the productivity of the incremental wells isn't as good as the productivity of the wells that you've already produced. Therefore, you've got a profile of where production is coming from that makes it less economic. West Texas doesn't have some huge ability to do that again like it did a million of barrels a year, they continues that. They can't do that anymore. When you think about all the big productive sources and then, of course, many of the OPEC countries produced below their quota, because they don't have enough production, because again they're fighting a decade plus of decline. Nigeria, Angola, countries that had regimes and cost structures where it just didn't make sense to drill the new wells that you failed in those places, because the financial terms didn't make sense. Therefore, both of those countries are seeing declining production. Mexico, again, another big producer that continues to see declines in production. So, things have to happen differently and they are changing in some of those places. Angola has a new cost regime to therefore incentivize companies to come back in to drill more wells. They are picking up activity, which is one of the reasons we're excited because country like Angola or Nigeria says, "Hey, in three years' time, we know where production has already come down to. We know where it's going to be. That means that's going to change the economic viability of our country. How do we get more oil?" Well, the way we do that is if we get them on somewhat better terms, they'll spend the money, they'll develop that well, and then the production will start to moderate and maybe even come back and will have incremental revenue. When you look around the world that where oil is being produced and the ability to increase production, to maintain production is difficult for those places. That's very different. In the 1970s from 1973, when there was enough oil and then what you had was 1979, you had a second event. The second event was, the Shah was overthrown in Iran. As a result, Iran at the time, who was a larger producer than the Saudis came off the market. When that happened, you had a second spike. So, the oil prices spiked so high, it brought on all these new sources of supply. Mexico, North Sea were two of the places that definitely became economic. There was huge development and huge growth in that. There's none of those places today to do that because we spent a hundred years looking all over the world for oil. If it there someplace, we found it. There's an outlier in terms of Guyana. Even there, they'll get to-- In 2026, they'll do a million barrels to be able to produce oil for Guyana. So therefore, it's ramping up. That's not on a hundred million barrels a day. It's not moving the meter that's going to oversupply. Instead, in 1985, the world consumed 55 million barrels a day. The world could produce 75 million barrels a day. There was a 20-million-barrel excess on a $55 million consumption number. Today, it's a hundred million. Maybe there's 2 million barrels. The supply that you have in excess of the current consumption is very small today. That's never happened before. People don't appreciate that because they think it's the same as this time. We've been through this before. It's the same as the last time, it's the same as the last time. It's not-- So, oil situation is very different in terms of the supply demand, and the ability to increase the supply, to go all the way back, you need renewables because the idea that oil production at these prices, this is what you get. You raise prices to $150, you'll get more production. I don't think anyone's interested including the Saudis. Again, the Saudis get bum wrapped, because here Biden goes to them and says, "Oh, we want you to help and do these things." They change the quota and they pull it back some. Of course, in the short-term, they didn't do anything. Actually, oil prices, probably lower today. It was when they announced they were cutting back production of billion barrels. Of course, what they're really doing is they said, "What we'll do is we'll go out and spend a huge amount of money for the next five years to try to bring on new production and we're doing what we can." That's the real long-term solution. If anything, higher price of oil is good because price points make people do things that they should be doing and therefore that will increase conservation, that will increase alternatives, that will increase the economics of renewables. And so, that's what you really need. It may hurt in the short term, but of course that's what it is. The world today exists and I don't want any short-term pain. Don't tell me about the long-term benefit of that better off in two, three, four years' time. I want better today. I want better today. Better today is not the best thing for you to do.
Bill: Yeah, you had said something. I may misquote it but you said, "In the 1970s, there was 70 million barrels of potential production and 50 million barrels of consumption." And then today, I think what you basically said, I just want to close the loop on that is that "Basically, consumption and production are at equilibrium, but probability of increasing production is potentially low because maybe we've used the easy wells to tap." Is that a fair summary?
Bob: That's almost exactly right. The earlier point what I said was in 1985.
Bill: Okay.
Bob: Probably it was already 1982, because that's what you had. You had the 1970s where the price went up from $3 a barrel. Immediately, in 1973, it went to $12 and then from $12, it eventually went to $39. So, that increased price of oil meant that all this new economics was created. Because at $30, suddenly things were economic, but weren't economic at $3. You needed $30 or $15 or $20 some number to therefore incentivize people to go out and find new oil, which you did and that's what happened. Then of course, from a decade of that price of being high, you incentivized new production. And of course, that also incentivized conservation. So, that by 1980,1981, the supply demand balance had totally tipped and you had brought that. By 1985, when the price of oil got to $5 a barrel, I think it was when the Saudis once again said, "That's it, we're done. We're going to take back share. We don't care where the price goes in the short term." That's what you had. 75 million of productive capacity, cumulation of a decade plus of high prices. All that new production had come on, consumption had declined to 55 million because of the high price point. You had that 20-million-barrel excess back then. Today maybe there's 2 million barrels of excess supply and you're consuming a hundred million twice as much almost on a daily basis. So, therefore the appetite, what's the play on Broadway of the plant? Feed me. Feed me. [laughter]
Bill: Yeah, what is that? Little House of Horrors? Is that what it is?
Bob: Yeah. Little Shop of Horrors.
Bill: Yeah, there you go.
Bob: Yeah.
Bill: This may be outside the scope of your expertise, but I'm curious for your answer. How do you think geopolitical risk over the next 10 years or something? All I've lived through is globalization, abundance. It seems there's a reasonable probability that we're going towards a little bit more of a scarce world with more, I don't know, if onshoring is the correct term, but maybe a little less globalized. How do you think about that stuff? One, I guess, do you even think about that? Two, if you do, how do you think about investing in that environment?
Bob: Reshoring is something that makes all the sense in the world. Forget about the geopolitical problem with it. I'd argue that making steel in the United States, North America is competitively advantaged because the variable costs associated with making steel are iron ore, metallurgical coal, and energy. North America has iron ore, metallurgical coal in abundance, and energy that's low cost. So, therefore we have lower cost inputs than China does, because China has part of it is it's grown so large. Since 50% of the steel is made in China, it's grown. It has natural resources, but the productive capacity is such that it needs to now import. It imports iron ore, it imports metallurgical coal, it imports all of the energy. Therefore, it's got to pay world prices. The United States pays less than world prices. Our energy prices definitely are less than the rest of the world because we do have abundant natural gas, especially in Pennsylvania, Ohio close to the steel belt that we can access that gas at a fraction of the price that they're going to have to pay for coal that they're going to burn, therefore make all the CO2 when they make all that steel. Therefore, we make low CO2 steel at low cost. The idea that things should come back to America, well, that makes a lot of sense and especially in something that's a heavy industrial business that's less labor intensive. So, yes, we pay more money than they do in China, but labor is less of a component. Therefore, the variable costs in the United States, I think, North America are competitively advantaged for industrial businesses. The idea that you would do more in North America intuitively makes sense even before you get to a geopolitical thing. Of course, the idea that we make everything in China, I guess, that's the disadvantage of if you have a place that has phenomenal scale and low cost and you take advantage of all those things, eventually those advantages dissipate, because you really do have concentration. Therefore, there's a whole bunch of reasons why it's not just the geopolitical thing. You don't want to have that much concentration in just one place. That's another point. The way I see it is I see inflation as something that is a reality. Again, I told you at one point I thought the Fed is really ineffective. And that's what I would suggest that obviously, we all think back to Volcker, that we would praise Volcker. He was wonderful because he's the one who cured inflation. We would say, "Ah, probably they had something to do with it." There was also something in 1982 when he did that and he started to cure inflation, that was a year or two after oil price went from $39 a barrel eventually down to $5 a barrel. Therefore, the cost of energy went down dramatically. It's also the same time where the country of China suddenly became the destination where everything was made and everything was made low cost, which of course, is part of the problems that we've had in North America since then is because were at a huge cost to disadvantage. We lost employment and we all know that. As much as the people complain I lost employment, they went to Walmart to buy the things that were made in China because they were made there much cheaper than we can. That hit me 12 years ago when there was a company called Interpool, we were shareholders in it. And Interpool had containers, container business and also, they operated container systems in ports that had a monopoly in the port where they would operate. Anyway, the part that was containers he said to me, "Bob, we used to make containers in the Midwest and it became very expensive. We moved to the south because it was cheaper. Eventually, we moved from the south, we moved to Mexico because again the cost had gone up in the south and was cheaper in Mexico. The costs went back down again. Over time the cost moved up and then we moved to Taiwan, because the cost went down and then eventually the cost started to creep up. And so, then we went to China and now were in China." He says, "Bob, there's no place to go beyond China. There is no place that's going to be cheaper than China. Therefore, we've hit the last low-cost place that we could move to and from here costs just rise." I think that's true in so many ways across the world's economy that everybody got used to buying low-cost things from China because of the size of that employment base, the productivity of the government and what it did to incentivize industry being built, the low-cost nature of those things, all of those things happened and therefore things were made for continual-- the same amount of money or less money. Therefore, that's what sucked inflation out of the world. In China today it is a mature economy. It's not an emerging market. One in which for a number of years now cost of wages have been going up and therefore the cost of a lot of things, because again, they've gone from being self-sufficient in steel making where they had their own iron ore and they had their own metallurgical coal to therefore need to import incremental tons of metallurgical coal and iron ore. So therefore, their cost structures are changing. If China continues to be the low-cost producer, their cost is still going higher. Therefore, you really have the inherent inflation that every economy has now built into the China. They've got extra problem of the population, of course, is declining. Therefore, the employment base is capped and declining. And so, therefore that means there's more pressure on wages, it's going to happen. China in my mind is no longer sucking inflation out of the world, but if anything, it's going to start to feed inflation into the world. As you move around and you go to another place that isn't quite as efficient as China because you can't do it as efficiently in China as this monolith is and can do. So therefore, when the containers-- When I talked to a container company recently, I was going through, there are three companies that make all the containers in the world, they're all in China. [chuckles] But they're now making them in places like Vietnam. The guy in Vietnam, he can fabricate the steel and he can do that more cheaply, but he needs a bunch of components, so the components he has to buy from China, because he can't build out the related industry that are around each of these industries. You just can't do that. So, yes, you can go to other places that have lower costs. You don't have the infrastructure that you have in China. So, there's a certain inefficiency, but there's an inefficiency in being able to source from four different places that probably has other advantages within that process. That's why I think also inflation is something that's not totally transitory, because you've got a different base driver behind the world's economics, because China is in a different place today than it's been and for a multitude of reasons, India will never be China. You just can't run a democracy the way they run that country in terms of being able to do things that are efficient. Of course, the other reason it's not going to happen is in the last 40 years, when China became the economic power it is, it became a huge CO2 producer. Environmental impact of creating another China, the world cannot take today, would not accept. So, that's not possible. You cannot become number two CO2 producer, because that's what they have come, that's part of what has come along with China's economic increase is really the impact on the environment.
Bill: That makes sense. When you say you can't run a democracy as efficiently, your sentence structure confused me a bit. What you're saying is, India as a democracy cannot accomplish the same things that China could because of the way that China is run. Is that fair?
Bob: The centralized power of the government in China to therefore say, we are going to build 56 airports. They get built. We are going to build this train system, it gets built. We are going to do this. It gets done. You can't do that in India.
Bill: That's what I thought. I want to circle back, maybe for one final topic, but you've said it never hurts to take a profit. Do you want to expand on that, because we're coming out of a decade where it always hurts to take a profit. So, maybe that's a controversial statement that you're making and maybe it's a good one of a regime change.
Bob: No, I believe absolutely my example with Ethyl Corporation, NewMarket was absolutely it hurt to take a profit, because I gave up the real profit. Therefore, selling too soon is a huge mistake.
Bill: Well, we'll cut that question because that doesn't make sense. I flagged that. All right, my bad.
Bob: No, but the flipside of that is interesting because at some point you need to do that. That's what's happened in public markets in the last 10 years. If you took a profit, you lost money. One of the phrases we all talk about is, Curtis has it. Curtis says, "If you want to outperform the market, you have to do something different than the market." That's what we do. We need to do something different than the market. Of course, when I reminded Curtis, of course, for the last ten years, that's been a losing proposition. Doing something different than the market means you didn't make as much money, because the market just had phenomenal results. So, the concentration of large cap growing companies pulled the world's market. So, it's been to the place to be. Having sold some of those stocks three, four years ago, you will give enough money. You left money on the table. Of course, today, maybe you'll be back to where you were in some of those things and maybe today is problematic. I don't know how you have the discipline and how do you figure out what's the right price point to sell. Someone who bought Apple and bought Microsoft a decade plus ago, they were cheap stocks on a valuation basis. At some point, they weren't so cheap anymore. But when did you sell that? Maybe you don't sell it until really there's a break in it because of the momentum behind those things. But that's the difference. That's the momentum potentially more than it is the economics that are driving the performance of those stocks.
Bill: Yeah, as somebody that's trying to learn, it's really difficult to separate how much--? I was born in the early 1980s. I have only seen good times and rates go down. That's all I know. I'm thankful to be able to speak to people like yourself that have been around longer that push me to think wider, because it's very plausible that all the lessons of the last 40 years are, I don't know that they're not going to apply, but we may have different learnings over the next 40.
Bob: Yeah, certain things will hold true. I was at a conference in 2018/2019 and the guy sitting next to me was a really smart guy, an MBA from one of the top schools, and he was saying, "I've been investing for a long time." Of course, it wasn't a long time. But it was, it was like 10 years. So, it's not like it was nothing. He said, "Based on my experience, blah, blah, blah." I said, "Wow, that just strikes me because you're a really smart guy and 10 years is a really long time. Therefore, you think what you're doing because you understand the ground rules." The fact of the matter is you lived in a period of time that's I'd say probably unique in American history, but you don't recognize the fact it's unique in American history. And you think that's it, this is it. This is the way the world works. This is the new norm. That idea permeated people's minds. People who even have, who are 30, 32, 33, 34 been in the business for a long time and it's corrupted. People have been in the business for even longer because maybe it really has changed. There really was a dinosaur and the world's moved on to a different place and I missed it. I just don't get that. Therefore, so much capital is invested based on that period. That's what we talk about is the myopia of linear thinking, because that's what's happened and I know it, and I lived it, and I've got experience, and therefore, these are the things that drive secure prices. It's like maybe, maybe not.
Bill: [laughs] Well, I have enjoyed this conversation. I'm going to get you out of here, because I don't want to take your whole day. But if people have enjoyed how you think and they're interested in learning more about your firm, how should they contact you?
Bob: robotti.com. And then my email is robotti@robotti.com. The only problem is, if you send me an email, there's a 60% chance that I'll miss it.
Bill: Yeah, I have similar problems with my inbounds. I get a fair amount of them.
Bob: Per age, you get a lot more than I do, because you have a higher profile than I do. Therefore, you're way ahead of me or way behind me. I don't know if you want all those emails.
Bill: I'll tell you what, Bob, this has been a really interesting platform, because yes, there is a lot of spammy stuff that comes along with it, but the amount of people that I've been able to connect with and the quality of people that reach out to me, it's incredible. I'm just so thankful that I have a listening base that wants to help. I hope people listen to our conversations and they heard things that you said that they want to provide feedback to you that's helpful. I hope that they reach out to you too, because you get real industry experts that contact you and it's been really fun for me. So, thank you very much for building on my knowledge base and thank you for educating my listeners. I appreciate it.
Bob: I always enjoyed talking to you too and it makes me smile.
Bill: I like it. Well, then the feeling is mutual. I look forward to seeing you again soon.
Bob: Okay, great.
Bill: All right, Bob. Take care. [music] [Transcript provided by SpeechDocs Podcast Transcription]