This morning I put together a piece that I titled Old Economy. When I wrote it I was in a mindset that was fascinated by the enormous prices being bid for Qwest's yellow pages business. It didn't dawn on me until prompted that what I wrote sounded a little like a rebuttal to John Robb's excellent pieces New Economy and New Economy II. Nothing could be further from the truth. I don't agree with everything in John's essays, but what I wrote wasn't intended as a response.
Until now. What I'll say about "new economy" and "old economy" has more to do with semantics than economic theory. Just as terms like "agrarian age" and "machine age" or "industrial age" take on meaning in the context of how they are used, I find the same is true about this "new economy" notion. When this country began shifting from a largely agrarian-based economy to an economy more dominated by industrial manufacturing, a lot changed. What didn't change was the underlying basis of a free market economy. Sure, we've had too much government intervention, but the United States remains the leading free market economy in the world. We may have moved from the farms to the cities, but free market commerce was still at work.
During all of the hype surrounding the Internet bubble and dot coms and the technology craze, there were people who were pointing out the trouble ahead. As a long-time investor with and follower of Warren Buffett and Charles Munger, the warning signs were evident to me. Nothing during that period led me to believe I was seeing a "new economy." Computers were getting used a lot. The exponential advantage of networks was becoming obvious. But, behind the scenes, businesses had to have a solid value proposition for their goods and services.
Venture capital isn't the only way that businesses got and get financing. Investors of a certain ilk expect a reasonable return on an investment. Many, many times those investors have dramatically different time horizons. Warren Buffett speaks of himself as a "collector" of businesses rather than a trader in stocks. Many people miss the significance of this statement. He often says his typical holding period is "life." That's clearly a different definition of investing whether one digs into the deeper differences or not.
Thought of in this way, some businesses can offer outstanding returns to the patient partner and shareholder. Some enormous fortunes have been made by the investors in some great businesses. Risking a few examples I'll name Coca Cola, Walmart and Berkshire Hathaway as examples. These companies have had stellar performances for quite a long run.
Dell is thought of as a great investment, but as Warren Buffett has pointed out many times, investors must operate deep within a circle of competence. They shouldn't be out on the edges of the circle tip toeing around. They should be in territory they know well. As for all technology companies like Dell, Buffett has claimed no special competence. He can't predict with any degree of certainty for Dell or Microsoft or Intel how dependable the future cash flows of the business might be or what type of technological breakthrough or change could be disruptive to those types of companies.
Coca Cola and Walmart have wide moats around them and those are similar to the kinds of businesses that someone like Warren Buffett likes.
My objective here is two-fold. First, to explain what I meant this morning when I refer to "old economy." Second, I'm responding to John Robb's more recent post about stock ownership. Given all the choices that an American has for investment, one might reasonably think that art or antique cars or professionally managed mutual funds or lemonade stands would be "better" investments. With rare exceptions and over a span of eight or ten decades, the common stock in America's best run companies have offered returns that are impressive.
The current downturn in stock performance and corporate profits is, so far, quite brief compared to some other periods in history. Regardless of what kinds of companies sit atop the Dow30 or the "high flyers list" for the year, be certain that in a free market economy, some honorable people will find ways to run extraordinary businesses. Returns will accrue to those patient partners who understand that their ownership of stock in a public company was a result of a deliberate decision in which they bought as if they were buying the entire business.
Companies have cash flows. What they do with those cash flows today may be somewhat different from the "high yield" days of dividend payouts. However, a business that is run to enhance the wealth of its owners, will ultimately have an intrinsic value that propels a market value. An extreme example of this can be seen by anyone who invested $10,000 with Warren Buffett's partnership in 1956 and reinvested the proceeds in Berkshire Hathaway at the partnership's termination in 1969. That investor would today own shares worth over $280 million - after all taxes, fees and expenses. No dividend has ever been paid. I was 2 in 1956 and missed out! The ride since the mid-1980's hasn't been bad!
Let me conclude with this. John Robb suggested that we post something "if you are smarter than me on this." I wouldn't dare be so presumptious as to say I'm smarter than anyone on anything. John's work is bright, considered and intelligent. I will say that my personal experience investing in common stocks over a 25-year career differs from the examples in John's stock ownership essay. Here's what he had to say:
Here is a small post on stock ownership. What do people buy when they buy stock? The books say that you buy rights to a share of future cash flows. However, stocks don't work like that. It used to be that companies looked more like bonds; they distributed excess earnings as dividends to shareholders. That doesn't happen anymore. Most companies, like Microsoft, hoard cash and they don't pay dividends.
Does anyone truly think that Microsoft will ever distribute its profits to its investors? No. Doesn't everybody expect Microsoft to eventually end up in the dustheap of failed monopolies? Yes. So what are people buying exactly? Microsoft can't be acquired by another company at the current price. It is too expensive. If it ever is, it will be at a small fraction of its current price and its cash hoard will be squandered defending its failing monopoly.
This all goes to prove that the current market is a abstraction, almost to the point of fiction.
Hey. If you are smarter than me on this, please let me know. I will post all excellent responses. [John Robb's Radio Weblog]
