In Part 1 we addressed the first of the 3 Keys to What We Look for in an Investment – the structure and nature of the business.  In this post, we’ll focus on the second, the people who will be managing the business.

People
The second of the 3 Keys to What We Look for in an Investment is management.  It is a cliché, but there is often truth in clichés – people matter.  This particularly true for us at ValorBridge as we look to have the executives who build our operating companies as long term partners with significant personal net worth invested alongside us.  We are looking for those with the mindset of owners, not managers.
 
Which begs the question, what is an owner’s mindset?

1. Thinking about what are the critical attributes to focus on in order to build a business for the next 10-20 years, not the next 1-2.
2. Making decisions that optimize the long term over the short term.
3. Understanding the importance of culture to the sustainability of growing a business.
4. Frugality.
5. Understand the power of incentives to drive results.
6. Approaching decisions from “opportunity cost” and “unit of effort” perspectives

An opportunity cost perspective is one where a decision is evaluated relative to the gain from an alternative choice that is unattainable once the decision is made. 

A “unit of effort” perspective is “how much more product do I have to sell at my current gross profit level” to justify an expense.

We are seeking partners who are business builders – this means they are willing to slog through the challenges that arise when building long term

• We prefer to retain management, so we are looking for managers who want to roll most of their ownership into the business as part of our investment
• We want managers who think about a culture where their employees can grow, provide incentives and measure productivity
• We seek partners who are open-minded to considering advice from their partners.  To quote Ryan Holiday, “Ego is the Enemy.”  We look for people who are humble enough to ask for help and perspective as we have great depth of entrepreneurial and operating experience on our investment team.  These experiences is a core differentiator for ValorBridge.

Hindsight provides valuable examples that can be role models.  We’ve spent time recently evaluating the history of Amazon after reading Brad Stone’s outstanding The Everything Store.  In his first shareholder letter in 1997, Jeff Bezos followed Warren Buffett’s lead in Berkshire’s Owners’ Manual [pdf here], with a candid overview of his perspective in building Amazon [pdf here].  It’s a great read.  

To be continued in 3 keys to what we look for in an investment, Part 3

VB Blog Post – 3 Keys We Look for in an Investment
 
In complex pursuits, it helps to simplify.  At ValorBridge we reduce our investment opportunities down to 3 Keys We Look for in an Investment – Business, People and Price. 
 
"Business, People, Price" is borrowed from the writings of Fielder Capital and the legendary investors Southeastern Asset Management (a nice profile from Value Investor Insight here).
 
Let’s start specifying what we focus on in the 3 keys that we look for in an investment in part 1 of our 3 part series.  We believe that the "BPP" framework can be applied to investments in public and private companies.

Business
Our focus is on the attributes of the business – the business model, how the company makes money, how the industry is structured, is the industry in secular growth/secular decline/cyclical and are the returns on capital sufficiently high to meet our minimum standards.  A solid understanding of these attributes will help visualize what the next 5-10 years of an industry and potentially our investment will look like. 
 
The equation that we are solving for is how large can this business be in 5-10 years.  We are seeking businesses that can double in size every 3-5 years for the foreseeable future. 
 
This is a reflection on how much free cash flow the business can generate and the opportunities to reinvest those future free cash flows either in organic growth or tuck-in acquisitions. 
 
In terms of how much free cash flow a business can generate, that is a reflection of how much free cash flow can be produced relative to the tangible assets in the current business.  The higher that ratio, the better.  This tells us how good a business is today and we can compare this ratio to that of prior years to determine the consistency of free cash flow relative to the tangible assets that have been invested in the business.  The more consistent this ratio, the more conviction we have about what the future may look like.
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