Mastering Long-Term Investing: Insights from François Rochon

The Importance of Owning Great Businesses

François Rochon, founder of Giverny Capital, emphasizes the critical importance of owning great businesses rather than trying to achieve perfect diversification. He believes that a portfolio of 20-25 high-quality companies provides sufficient diversification while still allowing for outperformance:

"I think it's much more important to own great companies than to have some kind of proper diversification. I think with 20 to 25 names you're diversified enough so that you don't have a big weight in one security that could really hurt you if something goes wrong, and it's also concentrated enough so that you have some odds of beating the index."

Rochon aims to find businesses with durable competitive advantages that can compound value over many years. He looks for companies that can grow intrinsic value at 12-15% annually through a combination of earnings growth and intelligent capital allocation.

Treating Investors as True Partners

A key principle for Rochon is treating investors as true partners in the business. He puts significant effort into writing detailed annual letters to keep investors informed:

"I try to treat partners like I'd like to be treated if I was in their shoes. If I was an investor with a portfolio manager, I would want to know what he thinks, why he invested in those securities, and how the portfolio is doing."

Importantly, Rochon and the other portfolio managers at Giverny Capital invest alongside clients in the exact same securities. This aligns incentives and builds trust:

"I'm not promising results to clients. What I promise is that we'll all be in the same securities, we'll own the same portfolio. If I do well, they'll do well."

Focus on Intrinsic Business Value

Rather than trying to predict short-term stock price movements, Rochon focuses on the long-term intrinsic value growth of the underlying businesses. He uses what he calls "owner earnings" to track the progress of portfolio companies over time:

"I just take the portfolio and the number of shares I own for each company and multiply that by the earnings. I'm doing a calculation as if I was a private holding company and I owned 25 companies in that holding. How would I judge the performance of investment from one year to the other?"

This owner earnings metric helps Rochon stay focused on business fundamentals rather than getting caught up in short-term stock price volatility. Over time, he has found stock prices tend to follow the growth in owner earnings:

"It's pretty incredible when you look at it, how highly correlated those two are - the performance of the intrinsic business and the performance of their stocks in the long run."

Avoiding Market Timing

A core tenet of Rochon's philosophy is avoiding any attempts to time the market. He aims to stay fully invested at all times, focusing on owning great businesses rather than trying to predict market movements:

"From day one I wanted to be 100% invested in the stock market. When I did my self-education in investing, I read all I could find on the great investors - Warren Buffett, Ben Graham, Peter Lynch, John Templeton. They all had different ways of finding companies and different ways of investing a portfolio. But they had two things in common: they looked at stocks as part ownership of businesses, and they all believed that you could not predict the market."

Rochon acknowledges that valuations fluctuate and there are certainly times when stocks look more or less attractive. However, he believes it's far more important to focus on finding high-quality businesses trading at reasonable valuations:

"Yes, I much prefer to buy Disney at 9 times earnings instead of 18 times, but I still think that at 18 times it will do okay. My job is not to wait for the perfect opportunity, it's to allocate capital to what I believe are the best opportunities available today."

Key Criteria for Evaluating Investments

When analyzing potential investments, Rochon looks for several key attributes:

1. Competitive Advantage

He seeks businesses with strong, durable competitive advantages or "moats" that can protect their economic castle from invaders:

"We want companies that have a competitive advantage, some ways that they protect their economic castle with a moat from invaders - those that want to take your castle, want to take your business."

2. High Returns on Capital

Great businesses should generate high returns on invested capital without excessive leverage:

"Usually great companies realize great returns on capital and great margins without the use of leverage. If you need a lot of leverage to have good return on capital, it's usually not a sign that it's that great of a business."

3. Conservative Accounting

Rochon prefers companies that take a conservative approach to accounting, as this often reflects the overall culture:

"I like companies that are very conservative in their accounting. I think it's much more than just accounting, it's a sign of how the people at the top of the companies are. If they're conservative in the accounting, they are probably conservative in everything else."

4. Reasonable Valuation

While seeking high-quality businesses, Rochon is still disciplined about the prices he pays:

"That's the valuation part, and again we go back to Ben Graham on the importance of margin of safety. You don't want to have valuations that discount many, many years of growth in advance."

Examples of Investments

Rochon discussed a couple of his current investments to illustrate his approach:

Booking Holdings

Booking Holdings (formerly Priceline) is a leading online travel company that Rochon has followed for over 20 years. He admires the company's strong competitive position and capital allocation:

"I believe when we purchased shares last year, we paid something like 19 times earnings, which is very reasonable for a company I believe can grow 12-14% annually. And you know, probably a third of that will come from buybacks because of such a high level of cash generation and good capital allocation policies."

Rochon sees Booking as having a stronger competitive moat than rivals like Airbnb or Expedia. He also likes that they are focused on their core business rather than diversifying:

"Not only is this a great business, but there's no diversification to use that Peter Lynch word. They're just buying back stock with the excess cash, and since the stock is reasonably valued, it's a good allocation."

Brown & Brown

Brown & Brown is an insurance brokerage business that Rochon owned previously in the 2000s and recently repurchased. He sees it as a much more stable business than insurance underwriters:

"These are much more stable businesses than the insurance companies themselves. In the insurance companies, like Warren [Buffett] would say, surprises are rarely positive. You make a mistake in underwriting, you can see the results of that mistake five years later."

Rochon admires Brown & Brown's long-term track record of growth through industry consolidation:

"If you look at Brown and Brown, I think in the last 10 years the earnings per share has been growing at 15% annually, which is quite incredible. I think they can continue just by consolidating, by making acquisitions and increasing their level of market share, can continue to grow at let's say 12-14% annually."

Approach to Technology Investments

Rochon is open to investing in technology companies, but is very selective given how quickly the industry changes. He looks for tech businesses with durable competitive advantages:

"It can be a little harder when you go into technology securities because this world is changing so fast. How sure can you be to find a durable competitive advantage? Because if the competitive advantage is not durable, it's not really a competitive advantage."

He cites Constellation Software as an example of a tech company with a more sustainable competitive position:

"Constellation Software, I think, is a very interesting example. Yes, they are in the technology industry, but I think they have very dominating businesses in all sorts of industries linked to software, but a lot of recurring revenues and a lot of niche markets. I think that makes them less vulnerable perhaps to new changes in the technology world."

Rochon also owns Meta Platforms and Alphabet, viewing them more as advertising businesses with powerful network effects rather than pure technology companies:

"When you think about Facebook and Instagram, it's basically the same business today it was 10 years ago. What's changed is the number of users and the number of ads they're able to sell to those users. I think those are fantastic businesses."

Use of AI in Investment Research

Rochon sees AI tools like ChatGPT as potentially useful for gathering information more quickly, but not for making investment decisions:

"We can use it sometimes to ask questions, for instance from ChatGPT or Google. We ask questions for information and we always validate that information received to be sure there was no mistake. But I would say it accelerates the research process if we have precise questions on historical things or data or competitive positions."

However, he believes human judgment is still superior when it comes to actually analyzing businesses and making investment choices:

"I don't think that it can really improve your decision process. I think that's a different thing. Using gathering information quicker is not the same thing as making wiser decisions. I think in terms of decision making, I still believe that human intelligence is probably more useful."

Key Takeaways for Investors

In summarizing his approach, Rochon emphasizes several key principles for long-term investing success:

1. Focus on owning great businesses with durable competitive advantages
2. Maintain a concentrated portfolio of 20-25 high conviction ideas
3. Think like a business owner, not a stock trader
4. Avoid attempts to time the market
5. Look for high returns on capital and conservative accounting
6. Be disciplined on valuation, but willing to pay fair prices for great companies
7. Align interests by investing alongside clients
8. Communicate openly and thoroughly with investment partners

By following these core tenets and maintaining a long-term perspective, Rochon believes investors can achieve superior returns while taking less risk than the overall market. His track record of outperformance over nearly three decades serves as strong evidence for the merits of his patient, business-focused approach to investing.

Article created from: https://www.youtube.com/watch?v=Me_mXNV3beI