Nick Sleep's journey from landscaping to investment success is fascinating. His unconventional path and keen interest in deep thinking and questioning resonates with me.
Like me, Sleep values long-term quality over short-term gains, evolving his investment strategy to focus on "compounding machines" run by dedicated founders. His embrace of simplicity and dedication to understanding the psychology behind investments align with my principles.
He co-founded Nomad Investment Partnership with Qais Zakaria in 2001 and, over the next thirteen years, generated 921.1% returns versus the MSCI World Index of 116.9%. In other words, $1 million invested with the index would have grown to $2.17 million, while $1 million invested in Nomad would have rocketed to $10.21 million!
In today’s article, I will share with you seven lessons I learned from his Nomad Investment Partnership Letters to Partners.
1. Scale Economics Shared
“Scale Economics Shared operations are quite different. As the firm grows in size, scale savings are given back to the customer in the form of lower prices. The customer then reciprocates by purchasing more goods., which provides greater scale for the retailer who passes on the new savings as well. Yippee. This is why firms such as Costco enjoy sales per foot of retailing space four times greater than run-of-the-mill supermarkets. ‘Scale economics shared’ incentivises customer reciprocation, and customer reciprocation is a super-factor in business performance.”
Sleep is all about the power of companies sharing their advantages with customers.
He thinks that as companies grow, they can save money and offer better prices to customers. This creates a cycle where more customers come in, leading to even more savings and growth. Sleep calls this idea "scaled economics shared."
Big companies like Walmart, Costco, and Amazon use this model. They pass on their savings to customers with lower prices, even if it means less profit in the short term. But in the long run, it helps them grow and make more money.
This continuous loop also widens the company's moat against competitors.
2. Price Give Back
“We would suggest that investment in price-giveback, so favoured by Nomad's firms, is the most long-lived of the investment spending items if it engenders consumer habit. It may, therefore, be the most valuable to long-term investors.”
Sleep views price give-back as a crucial part of scaled economics for companies like Amazon and Costco.
Despite not being reflected in financial statements, the revenue "lost" through these price reductions can surpass investments in R&D and sales & marketing. Sleep emphasizes that this investment in price give-back has a lasting impact when it ingrains enduring consumer habits. He believes this strategy creates a strong link between scaled economics and investment in lowering prices, fostering long-term customer loyalty.
For companies like Costco, prioritizing these prices gives back shapes customer experiences and generates lasting investment returns that surpass other forms of spending.
3. Lollapalooza Moat
“Firms that have a process to do many things a little better than their rivals may be less risky than firms that do one thing right [e.g. develop/own a patent] because their future success is more predictable. They are simply harder to beat. And if they’re harder to beat then they may be very valuable businesses indeed.”
Sleep's investment philosophy focuses on accumulated small actions.
He prefers companies whose edge arises from excelling in myriad small aspects rather than relying on a single advantage like brand or patents. Comparing this to scaled economics, Sleep highlights how for a company to surpass giants like Costco, it must excel in countless small actions, making it challenging to replace.
Sleep contrasts this with firms reliant on a singular advantage like patents, noting their vulnerability to technological advancements.
He borrows Charlie Munger's concept of the "lollapalooza" effect, where various biases converge to influence decisions, applying this to companies where multiple actions combine, influencing customer behaviour to benefit the company.
4. Founders & Management
“Almost ninety percent of the portfolio is invested in firms run by founders or the largest shareholder, and their average investment in the firms they run is just over twenty percent of the shares outstanding.”
Sleep highly values founder-led companies, emphasizing their unique drive and commitment compared to hired executives.
He sees founders as individuals deeply motivated by the challenge and passion for their work rather than just monetary gain. Reflecting on exemplary businesses like Berkshire Hathaway, Amazon, Costco, and Apple, all with founders or historically led by visionaries, Sleep notes their exceptional management, enduring success, and adaptability to evolving landscapes.
He likens founders to coaches guiding teams or head chefs running kitchens, all focused on achieving top performance and striving for excellence.
For Sleep, seeking out founders or CEOs who embody this founder-like dedication increases the likelihood of discovering outstanding investment opportunities.
5. Information Diet
“Information is like food has a sell by date - after all, next quarter's earnings are worthless after next quarter. And it is for this reason the information Zak and I weigh most heavily in thinking about a firm is that which has the longest shelf life, with the highest weighting going to information that is almost axiomatic: it is, in our opinion, the most valuable information.”
Sleep believes we should spend less time gathering lots of information and more time thinking about what truly makes a business great.
He thinks that information, like food, goes bad quickly—like how fast a quarterly earnings report becomes old news.
Instead, Sleep focuses on the most important and long-lasting data that matters for a business. He wants to understand the lasting qualities that make a business good, rather than just collecting a bunch of short-lived details. This way, he tries to figure out what makes a business succeed in the long run.
6. Volatility
“We can all observe that stock prices, set in an auction market, are more volatile than business values. Several studies and casual observation reveal that individual prices oscillate widely around a central price year in year out, and for no apparent reason. Certainly, business values don’t do this. Over time, this offers the prospect that any business, indeed all businesses, will be meaningfully mis-priced.”
Sleep approaches volatility with a focus on long-term value over short-term fluctuations.
He believes in resisting the temptation to trade winners for losers or vice versa, emphasizing that investors lack control over market swings. Instead, Sleep advocates for investing based on enduring value, not temporary price movements.
He illustrates this with Amazon's fluctuating share prices despite steady revenue growth, emphasizing that business values evolve more slowly than share prices.
Recognizing the inevitability of market ups and downs, Sleep echoes the wisdom of Charlie Munger, emphasizing that real wealth accrues by patiently holding onto assets despite Mr Market's fluctuations.
7. Inaction
“There are, broadly two ways to behave as an investor. First buy something cheap in anticipation of a price rise, sell at a profit, and repeat. Almost everybody does this to some extent. And for some fund managers it requires, depending on the number of shares in a portfolio and the time they are held, perhaps many hundred decisions a year. Alternatively, the second way to invest is to buy shares in great businesses at a reasonable price and let the business grow. This appears to require just one decision (to buy the shares) but, in reality, it requires daily decisions not to sell the shares as well! Almost no one does this, in part because it requires patience.”
Sleep views portfolio inactivity as a deliberate choice. He knows that doing nothing can be tough because everyone wants to feel like they're moving forward by doing something.
But for him, avoiding unnecessary buying or selling is a smart decision for the portfolio. It's hard to resist the urge to make changes, especially after spending time researching a new investment. However, Sleep believes that only the very best should be included in the portfolio.
Conclusion
Nick Sleep's investment philosophy echoes the timeless wisdom of Warren Buffett and Charlie Munger.
His approach emphasizes the significance of identifying robust companies with enduring competitive advantages or "moats." Rather than chasing after the next big idea, Sleep stresses the value of focusing on businesses exhibiting characteristics like scaled economics, price give-backs, and the lollapalooza effect.
He encourages investors to compile a list of top companies embodying these traits and evaluate their portfolio holdings against these standards. This exercise, aimed at recognizing enduring business success, will be a driving force in his future thoughts.
Ultimately, Sleep's approach underscores the importance of dedicating ample time to discerning the sources of long-term prosperity in investments, highlighting the consistency and depth of his investment principles.
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