It’s the increase in a company’s per share value, however, not growth in sales or earnings or employees, that offers the ultimate barometer of a CEO’s greatness.
Much of what distinguished Singleton from his peers lay in his mastery of the critical but somewhat mysterious field of capital allocation—the process of deciding how to deploy the firm’s resources to earn the best possible return for shareholders.
CEOs have five essential choices for deploying capital—investing in existing operations, acquiring other businesses, issuing dividends, paying down debt, or repurchasing stock—and three alternatives for raising it—tapping internal cash flow, issuing debt, or raising equity.
Stated simply, two companies with identical operating results and different approaches to allocating capital will derive two very different long-term outcomes for shareholders.
Singleton was a master capital allocator, and his decisions in navigating among these various allocation alternatives differed significantly from the decisions his peers were making and had an enormous positive impact on long-term returns for his shareholders.
Follow which option a company follows
Cash flow, not reported earnings, is what determines longterm value.
Introduction
Each ran a highly decentralized organization; made at least one very large acquisition; developed unusual, cash flow–based metrics; and bought back a significant amount of stock. (p. 6)
As a group, they were, in the words of Warren Buffett, very “greedy” while their peers were deeply “fearful.” (p. 8)
The key to long-term value creation was to optimize free cash flow (p. 10)
It is very rare to see a company proactively shrink itself. (p. 10)
Growth, it turns out, often doesn’t correlate with maximizing shareholder value. (p. 12)
He achieved legendary returns by continually adapting to changing market conditions and by maintaining a dogged focus on capital allocation. (p. 38)
For most of the 1960s, the price to buy control of an operating company (measured by its P/E ratio) was often materially less than the multiple the acquirer traded for in the stock market, providing a compelling logic for acquisitions. (p. 40)
Singleton and George Roberts eschewed the then trendy concepts of “integration” and “synergy” and instead emphasized extreme decentralization, breaking the company into its smallest component parts and driving accountability and managerial responsibility as far down into the organization as possible. (p. 43)
In another departure from conventional wisdom, Singleton eschewed reported earnings, the key metric on Wall Street at the time, running his company instead to optimize free cash flow. (p. 44)
A unique metric that they termed the Teledyne return, which by averaging cash flow and net income for each business unit, emphasized cash generation and became the basis for bonus compensation for all business unit general managers. (p. 44)
This influx of cash was sent to headquarters to be allocated by Singleton. The decisions he made in deploying this capital were, not surprisingly, highly unusual (and effective). (p. 45)
To say Singleton was a pioneer in the field of share repurchases is to dramatically understate the case. (p. 46)
Buybacks, however, add value for shareholders only if they are made at attractive prices. (p. 47)
Great investors (and capital allocators) must be able to both sell high and buy low; the average price-to-earnings ratio for Teledyne’s stock issuances was over 25; in contrast, the average multiple for his repurchases was under 8. (pp. 47-48)
His top holdings were invariably companies he knew well. (p. 49)
P/E ratios were at or near record lows at the time of his investment. (p. 49)
Singleton eschewed detailed strategic plans, preferring instead to retain flexibility and keep options open. We’re subject to a tremendous number of outside influences and the vast majority of them cannot be predicted. (p. 53)
No masterplans—”I like to steer the boat each day rather than plan ahead way into the future.”
The company’s board would fail miserably by the current standards of Sarbanes-Oxley legislation. Singleton was a proponent of small boards. Teledyne’s board consisted of only six directors, including Singleton, half of them insiders. This group collectively owned almost 40 percent of the company’s stock by the end of the period. (p. 54)
Relate with the control structure implication from Ludwig Lachmann
“If everyone’s doing them, there must be something wrong with them.” (p. 56)
Both Buffett and Singleton designed organizations that allowed them to focus on capital allocation, not operations. Both viewed themselves primarily as investors, not managers. (p. 57)
Both Singleton and Buffett had significant ownership stakes in their companies (13 percent for Singleton and 30-plus percent for Buffet). They thought like owners because they were owners. (p. 58)
Both Singleton and Buffett recognized the potential to invest insurance company “float” to create shareholder value. (p. 58)revisit
Radical Rationality
The outsider CEOs believed that the value of financial projections was determined by the quality of the assumptions, not by the number of pages in the presentation, and many developed succinct, single-page analytical templates that focused employees on key variables. They ensured a focus on empirical data and prevented blind crowd following. (pp. 200-201)
The repurchases were not made to prop up stock prices or to offset option grants (two popular rationales for buybacks today) but rather because they offered attractive returns as investments in their own right. (p. 201)
These CEOs knew precisely what they were looking for, and so did their employees. They didn’t overanalyze or overmodel, and they didn’t look to outside consultants or bankers to confirm their thinking. (p. 204)
The outsider CEOs achieved extraordinary relative results by consistently zigging while their peers zagged: they disdained dividends, made disciplined (occasionally large) acquisitions, used leverage selectively, bought back a lot of stock, minimized taxes, ran decentralized organizations, and focused on cash flow over reported net income. (p. 207)
The right capital allocation decision varies depending on the situation at any given point in time. This is why Henry Singleton believed flexibility was so essential. These CEOs faced the inherent uncertainty of the business world with a patient, rational, pragmatic opportunism, not a detailed set of strategic plans. (pp. 207-208)