Henry Singleton | Learn From The Best
Capital Allocator Extraordinaire ~ The Way To Play The Markets
Henry Singleton founded Teledyne Inc in 1960 but its story really begins in 1965.
Singleton grew the company rapidly but shareholder value outpaced the growth of the underlying business. It was the manner in which Singleton achieved this growth that others ought to learn from.
Up until the 1966 stock market peak, Teledyne shares were trading between 50x and 75x earnings which Singleton knew was way too high. So what did he do?
Allocation of capital within the business was an area in which Singleton excelled. He had a doctorate in mathematics and so he understood how to play with numbers.
Teledyne began using its overvalued shares as currency for acquiring over 100 different companies. Singleton was therefore exploiting a temporary pricing inefficiency in the market by converting imaginary value into real tangible value for Teledyne. It was a brilliant move.
The shares outstanding quadrupled from 1965 to 1970 (mostly through acquisitions using stock).
An investment in Teledyne in 1966 would rise 235% by 1968. But the story doesn’t end there.
In the bear market of 1973 to 1974 the entire market collapsed and the Teledyne shares price was pulled down with the rest of the market. The share price fell 75% from its high at the end of the 1960s.
By 1974 a person who had invested in 1966 would have seen their early gains disappear (at least on paper) and, had they cashed in their chips at that juncture, would be looking at a 40% net loss.
However, as Warren Buffet always says, the market is there to serve you not to inform you. When the market is undervaluing a great stock there is no need to panic sell. The better approach is to buy while the stock is on sale!
Singleton knew that his company was being undervalued and so this time he bought back his own company’s shares at bargain basement prices.
From 1972 to 1984 Teledyne bought back approximately 90% of its outstanding shares at prices averaging 10x earnings knowing that this would be the most accretive means of allocating corporate capital.
Shareholders who had stayed with the company from the first buyback had achieved a gain of some 3,000% by 1983.
In fact, an investor who invested in Teledyne stock in 1966 was rewarded with an annual return of 17.9% over 25 years, or a return of 53 times his invested capital. That compares to 6.7 times for the S&P 500, 9.0 times for General Electric, and 7.1 times for other comparable conglomerates over the same period.
“I do not define my job in any rigid terms but in terms of having the flexibility to do what seems to me to be in the best interests of the company at any time.
“We are subject to a tremendous number of outside influences and the vast majority of them cannot be predicted. So my idea is to stay flexible. My only plan is to keep coming to work every day. I like to steer the boat each day rather than plan ahead way into the future.”
Henry Singleton
The key is to remain flexible and agile. Mediocre CEOs tie themselves to progressive dividend policies or paying out a fixed percentage of earnings each year regardless of prevailing circumstances. These are the kinds of companies that you are best advised to avoid as they will only ever be mediocre investments.
“When a mediocre management takes control of a wonderful business, it is only the reputation of the management that remains intact!”
Warren Buffett
Perhaps you are still unconvinced? Allow me to provide you with another example.
Lord (Simon) Wolfson, the long term CEO of UK fashion retailer NEXT was able to deliver compounded returns for shareholders of 15.4% annually for two decades from 2001 until 2021 despite sales growth of 4.6% CAGR and net earnings growth of 6.6% CAGR over the same period. Bear in mind that NEXT is a cyclical company which suffered in the three economic downturns that occurred during this period (operating profit fell 10% in 2008, 15% in 2016 and 40% in 2020). Also, know this, earnings multiples were relatively unchanged at the end of the period to where they were at the beginning.
“What alchemy is this?” I hear you say. “Against this backdrop, how did he achieve a 15.4% annual return for shareholders?”
Well, the 15.4% shareholder return was partially achieved by improving margins which increased from 13% to 19%, but Lord Wolfson also shrewdly acquired shares in the business when they were undervalued by the market. The share count reduced by 60% from 327m to 128m.
It is clear that Wolfson had taken a leaf out of the Singelton playbook.
“When companies with outstanding business and comfortable financial positions find their shares selling far below intrinsic value1 in the marketplace, no alternative action can benefit shareholders as surely as repurchases.”
Warren Buffett, 1984 shareholder letter.
The moral of this story is that the best corporate management teams are those that are adept at capital allocation. Singleton was arguably the best. He knew when, and when not, to exploit buy-back opportunities. If you are investing, you need to find companies run by the likes of Singleton and Wolfson.
Some CEOs learn from the greats that came before them. Others stubbornly challenge with arguments that don’t stand up to scrutiny. The most popular counter argument being, ‘We are a small company and our shares are illiquid, so buying back stock would reduce liquidity still further.’
This demonstrates a fundamental misunderstanding of capital markets. Let us rebut this argument:
Imagine that you are a company with a market capitalisation of $50m and you have 100 million shares outstanding (each share trades at 50 cents).
You have reason to believe that the company has an intrinsic value of $150m (based on net asset value, based on earnings yields, or whatever metrics you choose to use). Let us assume that you are correct in this regard.
So you can buy back a part of your business by way of a share repurchase operation for 33 cents on every Dollar of value. That seems to be a great use of shareholder capital with an impressive accretive rate of return (200%).
Let us now take this to an extreme just to demonstrate a point. You announce the decision to buy back stock because you believe that the stock is substantially undervalued. You state that all other forms of capital allocation (including dividend payments) will cease until either the repurchase is complete or until the share price no longer offers an attractive repurchase opportunity, whichever comes first.
How do you think that the market responds to that announcement? I would anticipate a frenzy of buying activity.
But let us assume that you are able to repurchase 50% of shares outstanding, so your share count now stands at 50 million. But the result of your buying activity and that of other investors drives the market cap up to the $150m fair value. Now your shares are trading for $3 each (6x what they were before).
Now you decide to promote more liquidity by embarking on a 3-for-1 share split. So now you have a market capitalization of $150m, increased liquidity due to a larger number of shares outstanding (150 million shares valued at $1 each), a happy shareholder base who have made a handsome return. You are lauded for being the shrewdest CEO in town.
Rebuttal complete.
The other factor that needs to be considered when assessing capital allocation decisions of management is dividend policy. Generally, a dividend ought to be used only as a last resort where no other alternatives exist to effectively allocate capital (click here to learn more on dividends).
If you have not read Singleton’s biography, “Distant Force: A Memoir of the Teledyne Corporation and the Man Who Created It” then you really ought to seek it out. You could not ask for a better book on great corporate management and capital allocation.
It is important to note that repurchases are only accretive to shareholders when executed at prices below intrinsic value and used to reduce the total share count. At all other times they destroy shareholder equity. Too many CEOs embark on repurchases at over inflated prices as a means of offsetting dilution following obscene stock based compensation awards which is the worst combination for shareholders - click here to learn more on SBC .