Book Club Notes — The Outsiders

As a part of the Acquired Limited Partner program, we have been hosting a book club, reading some of our favorite business books as a group, and often getting together with the author on Zoom to discuss.

Below are the notes ahead of our discussion next week with Will Thorndike, author of The Outsiders.

Summary Thoughts

This fantastic book consists of eight case studies of “Outsider” CEOs who, borrowing the words of Warren Buffett’s quote on the cover, “excelled at capital allocation” and created enormous shareholder returns during their tenures.

Btw, how crazy is it that Warren Buffett gave the cover quote? That rivals Reed Hastings writing the forward for 7 Powers. 😀

All of the CEOs profiled (with the exception of Buffett himself) operated in the pre-internet and, in most cases, pre-private equity eras. While much has obviously changed — the days of buying companies for <5x cashflow are probably permanently behind us — it’s striking how many of the lessons remain highly relevant and, surprisingly, not well or broadly implemented today. We highlight the ones that struck us as the most unique and important in the following notes.

Notes

Rather than cover each case study (Acquired listeners will appreciate reading in full for the stories!), we list our overall themes and takeaways below:

1. The primary job of a CEO should be capital allocation (monetary + human) in pursuit of value creation, not “leadership” or growth.

• CEOs who are “leaders” (good with the press, investors, at all-hands, etc) are often optimizing for external validation, not firm value creation
• Growth — in revenue, headcount, business lines, etc. — does not always translate to value (see e.g., AOL-Time Warner, VC-backed companies spending unprofitably, etc). Often a slower but more disciplined approach is better in the long run.
• Developing a (high) internal IRR hurdle rate that all capital projects are required to hit or exceed in order to obtain approval is the best way to manage to value creation

2. Independent thinking (avoiding Buffett/Munger’s “institutional imperative”) is required to achieve sustained above-market results

• If everyone else in the industry / market is doing (or not doing) something, you should really ask yourself why, and whether you would earn superior returns by taking a different approach. Again the best way to do this is to run the numbers (simply! No complicated excel sheets.) and assign projected rates of return + risk to your various scenarios.

3. Decentralization of operations and decision making is generally preferable to centralization

• An exception to this rule may be capital allocation decisions, which should be made by the CEO / headquarters team. However, Constellation Software (not profiled in The Outsiders) is a fantastic example of a world-class capital allocation operation that is itself radically decentralized.

4. Flexibility coupled with analytical rigor is generally preferable to detailed future planning

• Also not discussed in the book, but one highly effective “Outsider-type” CEO uses a simply modified First Chicago Method for evaluating all capital projects: think about 4 scenarios ranging from big win to total loss, then assign your best estimate probabilities to each. Then update those probabilities every ~6–12 months as you learn more. If the weighted return estimate falls below your hurdle rate, kill it.

5. Frugality is next to godliness

• Avoid cash outflows that do not create a tangible return like the plague. E.g., corporate overhead costs, managing to GAAP net income vs cashflow (which results in higher taxes)
• We love this one: the “Edifice Complex”. Construction of an elaborate new headquarters building tends to be inversely correlated with future investor returns. (note this applies equally to startups, VCs/investment firms, etc)

6. It’s generally better to adopt (non-core) new technologies into your business later vs earlier

• Except for technology that is core to your product and customer relationships (which you should probably own/develop in-house anyway), it’s better to be a “settler” vs a “pioneer” when say adopting a new CRM system, etc. Let others prove ROI and figure out how to use it effectively, then implement once the value case is clear (which it often won’t be).

7. This one is specific to John Malone / TCI, but we couldn’t resist and it’s fun re: Acquired history. TCI (and its successor Liberty Media) was basically the Tencent of cable! They owned the distribution platform and king-made + took equity stakes in content providers: BET, Turner, Discovery, etc.

• We’re curious how much of Tencent’s strategy has been deliberately borrowed from TCI/Liberty vs. developed independently.

8. “Compound[ing] is the 8th wonder of the world” (-Einstein) Don’t interrupt it!!

• Massively differentiated results can only be realized over long periods of time — the vast portion of the value in a compounding asset comes in the final years you own it.
• Look at the chart below showing relative share price performance of the 8 “Outsider” CEOs — it only begins to diverge widely vs. market 10+ years in.

If you want to join the discussion for The Outsiders or any future book club, you can become an Acquired Limited Partner.