We Study Billionaires - The Investor’s Podcast Network - TIP167: How The Mighty Fall by Jim Collins (Business Podcast)

Starting point is 00:00:00 You're listening to TIP. One of the biggest names in business literature is Jim Collins. And we recently saw that billionaire Jeff Bezos from Amazon recommended Jim's book, Built to Last. Since we're big fans of both Jim Collins and Jeff Bezos, we felt like the book would be a fantastic read that we could share with the audience. So in episode 111, we covered Jim's book Good to Great that talked about all the fundamental attributes that made a great company.

Starting point is 00:00:25 But today's book, Built to Last, is the exact opposite. Jim talks about all the qualities that destroy a great business and what leaders can do to prevent such a dismantling from occurring. Jim Collins is really a master of explaining why some companies are outperforming and, as we'll talk specifically about in this episode, why they might fall. And as a business person, whether or not you're a leader, employee or investor looking into the company is just so important for you to be able to identify. Another thing I would like to highlight about this episode is the question from the audience

Starting point is 00:00:59 at the very end of the episode. And the question is about currencies. In our discussion, we talk about why we might agree or disagree on what's happening here with the frustration that we see about the US dollar and the potential impact of other currencies, especially Bitcoin. You are listening to The Investors Podcast, where we study the financial markets and read the books that influence self-made billionaires the most. We keep you informed and prepared for the unexpected.

Starting point is 00:01:32 All right. How's everybody doing out there? You got Prest and Pish and Stig Broderson with you. And today's podcast, we're covering Jim Collins book, How the Mighty Fall. And I really, really enjoyed this book. When we covered good to great on the show, Stig and I were very big fans of the book and I really gained a lot out of that. And so I had high expectations, but I was also kind of expecting to hear maybe some of the same stuff. And I was pleasantly surprised. I really liked the way that he laid this out. And I think the thing that I liked the most about this book was how simple it was.

Starting point is 00:02:17 It was just, it was simple to follow. It made complete sense. He got straight to the point. I'm kind of curious if you had a similar opinion. I don't know what you think about this one, but I really liked this book. I thought it was a very good one. Yeah. You know, Preston, I think I probably like this book more than his most popular book.

Starting point is 00:02:36 which is from good to great. I guess the reason why that book is so popular is that people want to know what a great company is and perhaps also how they can work for one or invest in one, I kind of feel that you learn more about companies if you understand why they fail more than anything. And I think especially as an investor, it's important to read a book like this because you really understand how to sustain a competitive advantage. Whenever you're doing your stock analysis, It's always something about, yeah, it has economies of scale, which is basically just a fancy way of saying it's big, so it can do a lot of things at a very low cost.

Starting point is 00:03:14 But what we can see in this book, as simple as it is, is that there's just so much more to the story. And while there is more or less only one or two ways to build a great company, there are so many different ways of failing as a company. All right. So let's go ahead and just kind of summarize what the five stages are. Let's talk about the five stages. and then I also want to start off with this story.

Starting point is 00:03:36 So I really like this analogy at the start of the book. He talks about this person that he had recently seen that was out running and that he had found out that the person ended up having cancer and that they had this massive decline. And he couldn't get through his head whenever he saw this. He kept thinking back, you know, I just saw this person like a year ago climbing up the side of a mountain, running up the side of a mountain. They were so healthy and they looked like they were in perfect condition.

Starting point is 00:04:03 And little did we know that at that moment that person had the seed of their ultimate downfall from a health standpoint. And so he said, when I thought through this scenario, I thought how fitting that is for also businesses and how a business on the surface might seem like everything is perfectly fine and that they're going to continue to do great things. They're going to continue to grow market share. but fundamentally, if a person really understands what makes the business tick, the seed for their destruction or their downfall or their pullback is already embedded into that company. And so he thought

Starting point is 00:04:42 to himself, how can I identify what that is before all this starts to unravel? And I really like that analogy. And I think that it's very fitting when you're thinking about a business because so often management is going along their merry way thinking that everything's fine and dandy and then all a sudden, it's quickly unraveling itself faster than they could ever imagine. So he describes this process, a company that falls from grace, in five stages. The first stage is the hubris born of success. The second stage is undisciplined pursuit of more. The third stage is denial of risk and peril.

Starting point is 00:05:19 The fourth stage is grasping for salvation. And the fifth stage is capitulation to irrelevance or death. So what we're going to do through this episode is we're going to talk about each one of these stages, we're going to talk about the things that kind of identify and signify whether you're in stage one through five. And just for the progression, stage one would be you're that runner that has the seed of the cancer and you don't even know it versus stage five is everything is falling apart and you're at your death phase with the business. So did you have anything else you wanted to add for the intro and the overall summary of what we're going to be

Starting point is 00:05:54 cover and stick. No, I think the only thing I want to say is I think it's important to have respect for why it's easy to look back at, call it Lehman Brothers or Bear Stearns and say, yes, this is a very simple narrative of why things go wrong and how difficult it can be when you are in the middle of the situation. And I think it's important so we don't make this too simplistic. There are some very smart people running these companies that we're talking about and also that failed. And it's just one of those. It's easier to explain what has happened than what's going to happen, I guess. Yeah.

Starting point is 00:06:32 No, that's a great point. The other thing that I want to quickly highlight is, like any Jim Collins book, there's just a ton of research. He backs this up with case studies. He backs it up with research from actual companies. That's the one thing I really like about his writing is it's not just anecdotal. He has a lot of examples to substantial. his claims. So let's go ahead into the stage one. Huberous born of success. So when we're talking about this first stage, what we're talking about is that a company, I guess the easy way

Starting point is 00:07:04 to say it would probably be a company has an ego problem. We're successful because we do these specific things. And they're going around touting that. What Colin says they should be saying is we are successful because we understand why we do these specific things. things and understand what conditions would prevent those from happening or that they wouldn't work any longer. So understanding why the specific things is the important part. He provides an example with Motorola. They invented the StarTac cell phone, which were the smallest phones in the world at the time

Starting point is 00:07:38 using analog technology. But at the time, this is where digital was starting to come out. And you can kind of see that phrase that he was saying, we're successful because we do these things, but they're not understanding why they do the specific things. And he talks about how the amount of impact that that had and how that set them back. Yeah, and it's actually very interesting speaking about a company like Motorola. I mean, for decades, it has been praised as one of the very best companies. And you might be thinking it's because Motorola didn't reinvent itself. Like they kept on with the analog technology and they didn't go digital. That's definitely a huge

Starting point is 00:08:18 explanation, but Jim Collins talks about how complacency is really not important. I mean, it's easy to come up with a narrative saying that the company didn't change the way they should. It's not a question about changing. It's not a question about innovative if you look at the stats. That was something that also surprised the author whenever he was conducting this research. A company like Motorola, they never had as many patents as when they were all filing for bankruptcy. They just had the wrong patents. They couldn't understand. why they were successful and in which situations they were not successful. And it's very important just to read between the lines.

Starting point is 00:08:57 And he's starting out this chapter, or perhaps it was even the preface, about United States leather company. And there was once one of the very biggest companies in America, I think it was like the 15th or the 17th at the start of the 20th century. But they just didn't reinvent itself like they kept producing saddles, which was not a good investment, it's turned out when the card came out. Basically, he's telling that story to tell you that the stories are not as important as the data that you're looking at. And it's all about understanding why you're successful, not all the other, what you would call noise. So concluding

Starting point is 00:09:36 this first stage, let's talk about some of the indicators that help you identify whether you're in stage one. And this is the one that I really liked. And this is the thing that I, I, always say to Stig whenever we're thinking through our strategy with our business. And that's neglect of the primary flywheel. So going back to Colin's first book, he talks about this thing, the flywheel. What's that fundamental thing that the business does and does better than anybody else on the planet and is really their competitive advantage that they're really, really good at? And they're very efficient at.

Starting point is 00:10:12 And he says that when a company starts getting away from that thing and they start drifting off and maybe focusing on other things or leaders get distracted by the exciting potential earnings that they fail to focus on. That's when the company is setting themselves up for this stage one. And I like this point too. He talks about refusing to attribute luck to random events. He says that the management thinks that every success that came to the company was 100% due to their actions, opposed to, you know what, we did this really well. But if, if we're not, we did this really well, but if we didn't have this lucky circumstance over here that happened, we would have never been able to been catapulted to where we're at. They're basically attributing all success completely to their

Starting point is 00:10:57 actions. And that's a dangerous thing. And that's where the ego is really stepping in and not accounting for the why. And I think that's the big word in this first stage that you've got to really understand is why did we do this? So just a couple points. It really comes back to the episode we did. I think was episode 108 called the Outer. about the very best eight CEOs, and they really owned their mistakes, and they owned everyone else's mistakes. If something went wrong, it was always his CEO saying, it's my fault. What can I do about it? Even when it was not his or her fault, it was just the approach that they have. And every time things went well, the author would have what he called, like, Luke outside of the window

Starting point is 00:11:36 principle or something like that, which basically meant that he would attribute all the good fortune to someone else, like his team, the market conditions, whatever you could come up with. And that's just such a healthy approach and really makes you humble. One of the best stories that Jim Collins comes up with to exemplify this in the first stage is he's talking about Walmart versus Ames. And Ames was a retailer came out four years before Walmart and they basically have the same concept and save opportunity. But the reason why Walmart was so successful compared to Ames, that was really because of Sam Walden's humility and his willingness to learn. And the anecdote that he attached to this story is that at some point in the 80s, a Brazilian investors bought a discount chain.

Starting point is 00:12:23 They was only going to run in Brazil. They sent out letters to 10 CEOs in the U.S. to consult with them and have a brainstorm meeting on how can we best serve our customers. And nine out of 10 people ignored. The one person who came to those meetings who met up and spent a week with the Brazilian CEOs, there was Sam Walton. And he did that not just to teach them how to run retail because he said, I'm not sure I know why. He said, I might just have been lucky with Walmart so far.

Starting point is 00:12:53 What can I learn from you? What can I learn from you that is useful so I can sustain the success that we're having so we can keep on growing? That just tells you the opposite side of this arrogance of being, of course, we're successful. We're aims. Of course we're supposed to be successful because look at our track record in the past 10 years. As Sam Walton would say, I don't care about the past 10 years, what's going to have the next 10 years, and how can I get there? And how can I own up to it? Yep.

Starting point is 00:13:22 So I've got a funny story that I can tell you. From whenever I was young, I got out of high school, I go off to college, and I ended up going to West Point. And at West Point, they have an interesting way to introduce you to the school. And on the very first day when you show up, you were taught that as a freshman, you have four responses if you're talking to an upperclassman. The four responses are, yes, sir or ma'am, no, sir, or ma'am. I do not understand, sir, or ma'am, and sir, no excuse, or ma'am, no excuse. And I think for a person hearing that from the outside, they might be like, that is ridiculous. You know, like, that's the only thing you're allowed to say unless they ask you to expound on something.

Starting point is 00:14:06 And the last one is the one that I want to highlight because I think it fits into this stage one where we're talking about taking ownership. And when you are forced to say no excuse, even if in your mind there's an excuse, there's a reason why something happened. Maybe your friend did something and you got in trouble for it. The only thing that you can respond with is no excuse. And I had no appreciation for this at the time. But looking back decades later and looking at the experience, what it forced me to do personally after going through that for an entire year of saying there's no excuse. And sometimes the comeback would be, well, yeah,

Starting point is 00:14:43 there is an excuse. Tell me what you failed at. And so then you would have to say, well, if I would have done this better, then that circumstance might not have played out. And it forced me to take ownership for every single thing, even when it wasn't my fault. Even if it was my friend's fault, I had to take ownership for it. And that was a really, really powerful thing that I learned at a young age that I still hold with me today in that when something doesn't go wrong, I like the feel like. Maybe other people in my life might argue that this is how I handle things, but I would like to feel like I always look internally at myself first and say, how could I have done that better? And it comes back to that lesson that I learned as a young cadet years ago.

Starting point is 00:15:28 So moving into the second stage, this is undisciplined pursuit of more. I loved his example in this stage here because he talks about rubber made. And he talks about rubber made making so many products that they were actually making a product every single day of the year. They got to a point where they were making so many products and they had so many products on the shelves that when they went back and looked at how many products they had versus the time that they did it in, they had literally made a product for every single day in the year. I mean, anybody looking at that from the outside can say that does not make any sense whatsoever. You have to know what your market It really wants, what's going to give you 80% of the return for 20% of the effort?

Starting point is 00:16:13 And you've got to just optimize the living heck out of it. And the example that he provides with Rubbermaid was quite amusing. Stig, I know you've got some notes on this idea. I think the best example I can come up with for this undisciplined pursuit for more, that would be Starbucks. And Starbucks was actually not mentioned in the example. He used Merck as an example, but it's basically the same. So what happened with Starbucks, I want to say,

Starting point is 00:16:38 it was around 2005, 2006, when they really took off, was that they decided to grow. But they decided to grow for the sake of growth. So the metrics that they started to look at, that was not bottom line at all. It was not expenses. It was just one of the key metrics that was the number of stores, which is probably one of the most ridiculous metrics to look at. Because you can always get a higher top line by just opening new stores. But what happened was that they opened up very unprofitable stores.

Starting point is 00:17:09 Another thing would be hiring X amount of people. But I think I want to tie a bow on this long spiel about talking about Packers Law, which was something that Jim Collins highlighted in this chapter. And that was that you can grow faster than finding the right people to implement that growth. Think about how is it measured. And it is not measured on the bottom line. You should be very, very careful. You know, you see this so often with businesses that go and buy or acquire another business,

Starting point is 00:17:42 and it has no correlation to the underlying assets of the original business that they purchased. If a company is doing this from a non-operational standpoint, it works, kind of like the Berkshire Hathaway model, where it's kind of like a non-operational role. And even in an operational role, if you have the right people in place, and the headquarters doesn't try to go down there and change everything. I think that's when they try to really do the merge, and they try to bring their headquarters in there and start bringing some of their leadership down there and it gets messy. I see that fail so much more than it actually works that I think we get easily nested up here

Starting point is 00:18:20 into this stage two, which is undisciplined pursuit of more. So some of the indicators that you're in stage two, I really like this one. So easy cash erodes the discipline that sustained the company in the first. place. How many times do you see a company that goes and does an IPO or raises a bunch of money, maybe an early startup? They raise a bunch of money. I mean, you're seeing this in FinTech right now, like to the extreme, all this cryptocurrency, Bitcoin stuff. Like, you're seeing so many companies that are getting very large checks being thrown at them. And they're just going out there and spending and trying to grow. And they're not, they're not getting hardened is the way I like to

Starting point is 00:19:04 describe it. When a company is strapped for cash, they have to get hardened. They have to develop these protocols inside of their organization to be efficient, to be lean, to do things in the most optimal way possible to generate net income. And I think that's a really healthy thing for a company to go through. And so anytime you see a very large check being written for a company, the immediate question needs to be, so what is this for? Like, what in the world are you going to use all this money for. Let's take a quick break and hear from today's sponsors. All right. I want you guys to imagine spending three days in Oslo at the height of the summer. You've got long days of daylight, incredible food, floating saunas on the Oslo Fjord,

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Starting point is 00:23:46 Another thing that's really a red flag, and this is probably not so much from the outside, but whenever you look inside an organization is if people start to think in terms of job instead of responsibility, that's something I've seen so many times that people are saying, no, that's not me. That's not my job. That has not been delegated to me. So what can I do about it? And that's just the wrong approach. You have a responsibility and you can always ask for more. One other point that I have for the indicators for the second stage is, will these activities that we're doing right now help the organization's economic engine, or is it going to basically create a resource engine? So a lot of the times when these companies grow and they expand,

Starting point is 00:24:32 what they're really doing is maybe adding more risk to the business because there's more cogs in the wheels and there's not really much economic benefit or margin being added on the income statement that then gets banked and can be used as retained earnings into the future to give the company that flexibility to maneuver in the market dynamically. Instead, they're just adding more and more and more people to the churn, and you're not really seeing much more net income being added to the bottom line. And that's when you're getting yourself into this situation that I look at it like a person walking a tightrope. If you add more and more and more weight to that person, as soon as you get a little bit out of balance, the whole thing's going to fall over. That's,

Starting point is 00:25:13 I guess, the best analogy that I could use for this stage two piece. Something that's important that Collins talks about in the book is you could start out at stage one and recognize it and pull yourself right out of it. You could get to stage three and recognize it and pull yourself out of it. So a lot of these companies, they might start going down this path, but they can get themselves back out of it. The ones that just continually go stage one, two, three, four, and don't do anything to mitigate or correct or self-correct themselves. They're the ones that eventually have the slow and sometimes even quick death. So let's go ahead and jump into stage three.

Starting point is 00:25:47 Stage three is called denial of risk and peril. So this is where you're really starting to see the numbers demonstrate what's actually happening here. Instead of the company still grow on their top line and there's like this thing that's kind of growing inside of the business, this mindset that's kind of growing inside of the business. Now you're actually starting to see it play out. You're starting to see maybe the Starbucks example.

Starting point is 00:26:13 and this isn't necessarily what happened, but let's just say they continue to add more and more stores, a lot of them aren't profitable, then it's a strain on resources, at the headquarters level and it just compounds, and it gets to the point where it's not sustainable, and you're actually seeing the top line start to contract. And then management's way of handling that is,

Starting point is 00:26:32 oh, well, it's this outside thing, or it's the economy, or it's anything but us. It's not us. It's everything else. It's the competitor, that's coming into the space. We need to just keep doing everything the way we're doing it. We need to keep expanding.

Starting point is 00:26:47 That's what we're talking about here in stage three. So he actually gives some really good pointers in terms of how to read the financial statements. And he found in his research that three key ratios are more important than others. And he mentions gross margins, current ratio, and debt to equity. And all of the fallen companies that he studied, that saw deterioration at least one of those three ratios in states three, which will then lead them to state four. So the gross margins is basically what you see a lot of in retail right now. So it's basically just the difference between the revenue, so the price that you charge for a product, and then the cost you have to that product.

Starting point is 00:27:29 If you ever start to see that you road, it's a big red flag. Now, that's also why retail is so cheap, and I guess some people would say it's, it might still be oversold, so there might be some value there, but it's definitely a red flag. And there's often a good reason why companies like that are trading at a very low multiple. And so the current ratio would be how much cash is expected to go in and how much cast is expected to go out within the next 12 months. And if you see a change in that, it's also a red flag. Tell the audience what a normal current ratio would look like as far as the number. I would recommend that you have a current ratio of around 1.5. or more. And if it's 1.5, it basically means that every time we have $150 coming in, we have

Starting point is 00:28:16 $100 going out. This is very different from sector to sector. There are some good reasons why it's different for a company like Walmart than if you have an already company. Yeah. And if you guys want to go do like a graduate level study of the current ratio, go look up Amazon and look at their current ratio. And what you're going to find is that it's actually under 1.0. I think we talked about this on our form, maybe like four or five years ago. There was a big long discussion on our forum about this. And it really comes down to their operational effectiveness and how they're able to do this and their dealings with vendors. Yeah, I think it's less than one. It's something about like the credit terms that they can negotiate because of the size. And it's more like a math thing.

Starting point is 00:28:58 It's not like, we're not saying that Walmart is going bankrupt. That's not for saying it all. If you look at the numbers, it's a different type of business. But yes, it is in general a concern if you have more cash going out than coming in. And it's just a trend that you should definitely look into. And then the last thing, that's the debt to equity, which is also a metric. We talked about multiple times here on the show. And the easiest way to think about this metric is basically that a company would slowly build equity whenever they have a profit. But then we look at how much debt do they have in comparison. And basically, we just don't want the company to have too much debt compared to the wealth that they're accumulated.

Starting point is 00:29:37 Another sign that he's pointing to that's not like a key ratio, that would be multiple reorganizations. There was another thing that he pointed to. And for me, it has been very relevant. So Preston and I talked about McKeeson here a few weeks back, and that as a very interesting stock pick. And I picked up some, and I think Preston, correct me if I'm wrong, but I think you also picked up a little. And it was a very good price, and it shows some very good numbers. One thing that was concerning for me whenever I was going through, the financials, statements. That was that they are doing some restructuring right now. And they had some,

Starting point is 00:30:14 some things going on in the UK, and they're going to write that off. And I'm not saying it's a huge issue, even though whenever I look back at some of the previous financial statements, I can see very little, but a few restructuring. And basically, this ball is down to how do you present your data? Because if something is restructured, it doesn't appear as your normal operating income. And the way that McKeeson and a lot of other companies are reporting operating income is that they have something they call adjusted a bit. And whenever they're doing their adjusted a bit, it's a different number than the profit that they're actually making because that will include all the costs that they're basically just running off. So whatever I see something

Starting point is 00:30:57 like that, it's not so severe that I will never invest in that company. That's not what I'm saying, especially if I get good value and if not like a big precision. But it is something I definitely plan to monitor closely also for this company whenever I find that. So anybody that's listening to this and they're interested in how something like the current ratio is calculated, this is all on the balance sheet. When you go under the balance sheet, there's current assets listed and there's current liabilities. Those are items that are going to be either paid out or collected within 12 months. So all you do is you just take the current assets and you divide it by the number for the current liabilities and that's how you come up

Starting point is 00:31:36 with that ratio of a 1.5 or whatever the number is that Stig and I were talking about. So let's talk about the indicators that you get when you're in stage three. Just listen to some of these. And you guys are just going to be nodding your head, be like, wow, this is what my company I'm working for right now sounds like. Okay, listen to these.

Starting point is 00:31:55 Amplify the position and discount the negative. So if you go into a meeting and all they're talking about is how awesome they are and any negative is just kind of washed away, that's a stage three sign. Bet big on new goals without empirical evidence or validation of previous small wins. I love this one. If you're going out there and you're just, you know, you're putting all the chips down on something that you have no idea what it's actually going to do, that's a sign of stage three. Here's another one.

Starting point is 00:32:25 Debate and dialogue is replaced with consensus. You know, if the boss is sitting at the head of the table and he's not saying, so what's wrong with this idea? Shoot some holes through this idea. Tell me why I'm wrong. And instead, all you hear is people just kind of nodding their heads and saying, oh, sir, that's a great idea. We love that idea. Those are some signs.

Starting point is 00:32:44 Here's another one. Externalizing blame rather than accepting failures. I mean, that one's obvious. And here's one more. Obsessive reorganizations within the company. So all of these, I think everyone has seen in their days in the workplace, but whenever you're seeing these, just permeate your workplace.

Starting point is 00:33:06 You're in stage three. And I don't want to talk too much about stock investing necessarily, but here goes anyway. Whenever you're listening and reading through the reports, of course, it's a natural tendency to emphasis good news, but it just can be so, so dangerous. And I just need to bring up this one example.

Starting point is 00:33:27 So I called Preston last night, and we talked about just business general. And then I said that the stock pick that he pitched, I think it was like two or three mastermind meetings ago, which was GameStop. And I don't think, actually, I don't think you ended up buying that, but I bought some stock in that. And they were sending out a new quality result. And the mug was like training it 8 or 10% pre-market up. And like, everyone was just so happy. And I was kind of thrilled too, because I'm usually to never ride about my stock picks.

Starting point is 00:33:54 And then I read through the statement. And so basically, like they have two. growth drivers. I don't want to talk too much about the stock pick, but it's more for the example. They have something that called technology brands. Technology brands is very important to them. That's one of the primary driver for growth and already like a really important business unit. And I was actually very surprised to learn that the earnings or the gross profit has decreased on that. And I was because they actually took up a sizable debt to buy a lot of AT&T outlets and to to really grow that. I mean, that was definitely the expectations. And they were asked into

Starting point is 00:34:31 that twice. And the response went something like this. Yeah, there's a delay in iPhone X. So that's just why next question. Like they didn't talk about that at all. But then they had another business unit that there's also a growing is called collectibles. And it's significant less severe. And they just talk 60% of that earnings call, wherever that was all about the growth that they have in the collectibles, completely neglecting the problems they had with technology brand. There was actually an even more important business unit. And I haven't like sold my positions since I read that. It's probably, I don't know, two or three hours ago since I read that. I was just so taken back about what I felt was a very insincere handling of problems with the management. And hey, they might have some good

Starting point is 00:35:17 reasons for why that has been the case. But nonetheless, they need to own that mistake. They can't blame it on Apple because they're delaying one of their releases. That's for me as an investor, that's not good enough. So for me, that was definitely a flag. So perhaps Preston was right after all. Who knows? Yeah, I did not buy it. But I, you know, like I said, when we recorded that, the numbers were just so interesting. You know, when you bring up this point stick about how they're not owning up to the failures in really kind of making those the focus, when you go to a Berkshire meeting and you watch Buffett and Munger talk about their decisions, they are so comfortable talking about their failures. In fact, I think that they almost prefer to talk about.

Starting point is 00:35:58 about their mistakes and their failures because you can see them trying to learn and also teach people how to not make that same mistake. And they're almost obsessive about focusing on that area, as opposed to talking about all their wins, which they just have so many of them. So it's quite interesting to see the dynamic between what he just described and what we see every May when we go out to their shareholders meeting. All right. So stage four, grasping for salvation.

Starting point is 00:36:27 So this is the point where things start getting a little scary. And the business is not only seeing financial decay, but they're also seeing talent decay. They're seeing flight of investors that have been around for a while. They're seeing all sorts of things that are happening here and they're reaching for straws. They're getting desperate. They're trying anything and everything. They're firing people that have been there for a long time because they think that they're the reason that they're underperforming. And really, this is just the mindset is kicking in even deeper and pointing more fingers.

Starting point is 00:37:02 So for the example in the book for Stage 4, Collins talks about HP and IBM. So Stig's going to cover the recap of this. Yeah. So for HP, they had the problems at the end of 1998. And basically what they came up with was that they needed a bold new leader. And not only did they want like a new leader, they want like a different expression, especially in the media. One of the reasons also to attract talent,

Starting point is 00:37:29 at least that was the narrative. So they wanted a new leader, and they found one. And they found a really charismatic woman. She was featured on Oprah. I think she was even on the front page of Vogue. I think actually paid $3 million for that front page. And she was very determined,

Starting point is 00:37:46 we need to do these two or three things, or whatever it was. And when we do that, we have turned this company around, and it just needs to go like this. he was definitely in a hurry and obviously what happened after not a short period of time, these initiatives didn't pan out and she was let go. And then he compares that to the previous IBM CEO that almost went underground after he was appointed.

Starting point is 00:38:09 He didn't go public at all because whenever he was actually said that he did not have a grand plan because how could he? He didn't know the company well enough. So he spent nothing less than three months before he made the first public statement in terms of where they were heading. And he still said, I just really trying to understand what we need to do. And that was how IBM and perhaps they can use a CEO like that today, who knows?

Starting point is 00:38:35 That was really how they turned it around. And this really comes down to some of the markers in terms of when this is happening. Are you seeing someone who is in a hurry to implement a solution? For instance, like HP, you know, then that's probably a bad thing and vice versa. Do they look at big acquisitions? Like the silver bullet solution, you see a lot of. of that, whenever you see a new management, focus on MNAs, usually not the best thing, is you usually focus on the core competence for that company.

Starting point is 00:39:02 Do they have good stories and good narratives in terms of how to go out of the crisis, or are they performance and fact-based whenever they're making arguments both internally and externally? That's really what you should be looking for to turn around stage four company. So the behaviors that exemplify and perpetuate stage four, listen to this one, seek a big game-changing acquisition based on hope for it has yet unproven synergies to transform the company in a single stroke. That would be something that would exemplify stage four. Here's another one. Embark on a program of radical change, a revolution to transform or up and nearly every aspect of the company.

Starting point is 00:39:48 jeopardizing or abandoning the core strengths. So if those are things that you're hearing inside of a company, then you know you're in stage four. What Collins recommends something that could get you out of stage four would be gain clarity about what is core and should be held firm and what needs to change building upon proven strengths and eliminating weaknesses. So whenever I read that, the thing that immediately comes into my mind, if anyone's read the Steve Jobs book, I distinctly remember when you,

Starting point is 00:40:18 Jobs came back to Apple. This was after he had started next. He had came back to Apple. And he comes in and they've got all these odd end projects going on. It was just kind of like a mess. It was exactly what would be classic stage four company. So Jobs is sitting there with a whiteboard and he's jotting down all the different products, the assets within the company.

Starting point is 00:40:41 He's asking them about the competitive advantage of this. What's the competitive advantage of that? Well, what's the technology? How long is this technology good for? he's like mapping this all out on the whiteboard. After he's done hearing all these different people show up and is like, it seemed like there was just yet another department that came out of another department as he's writing this stuff down.

Starting point is 00:41:00 And after he was done, he had heard everything. He took out his marker on the whiteboard and he circled four things. And then he wiped everything else away. And he said, these are the four things we're going to do. And we're going to do them better than anybody on the planet. And if anyone comes to me with anything else, we're not going to do it. We are doing these four things. And that's what set Apple on the trajectory that it's at today.

Starting point is 00:41:27 And that is exactly what Collins is getting at with how to recognize what is stage four. What a company needs to do to get through stage four and start coming back out is what are those core assets that are bringing home the bacon? And how can we optimize those? how can we refine those? How can we be really, really, really good at that and cut all the excess fat off this company because if we keep running around at 300 pounds, we are going to die. So we've got to figure out how to save this thing and focus on those things that will save the company. I found that to be a really profound chapter and I really found a profound, the insights that

Starting point is 00:42:07 he gives on how to self-correct at this point because this is your next to last phase. And if you don't self-correct here, you're done. Let's take a quick break and hear from today's sponsors. No, it's not your imagination. Risk and regulation are ramping up, and customers now expect proof of security just to do business. That's why VANTA is a game changer. Vanta automates your compliance process and brings compliance, risk, and customer trust together on one AI-powered platform.

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Starting point is 00:45:55 in a great fashion and some of them just continued to stumble around at the bottom. A company that I would like to talk about today, that in my personal opinion that's in stage five is Sears. The reason I feel like Sears is in stage five is because the company has set themselves up for a situation where they have structured the way that they compensate their employees in such a manner that no outside investor is going to have a lot of interest in buying or merging or taking on the responsibilities of that company. There are laws in place that if you have all these obligations, and I'm talking about basically retirement obligations to a lot of the employees that you have at Sears, that is not something that you can just swipe away and make those disappear.

Starting point is 00:46:44 Those are obligations that must be paid at a certain order if the company would liquidate or if the company would be purchased. Those obligations are going to be carried over. I think that's a big, big concern and that was very, very, very bad, poor decision-making by the management of this company years ago. Think of it like, this, if you're going to structure something inside of your company, you know what that means financially. So if I offer somebody a retirement package that's going to be paid if they work for the company for 30 years and it's going to be X number of dollars, I have to value that in today's terms. So these managers that would have structured all these deals with all their employees,

Starting point is 00:47:26 they were making promises that they knew could not be held. Or at least I would suspect they had no idea that they could be held. That was the death of this company, not to mention many, many other things, but the reason that I think that company is going to go into stage five is for all those reasons. And like I said, he didn't provide an example in the book of a company that got there, but I think if you're studying this book and you're looking at real world examples, I personally think that that's a company that'll get there. Maybe I'm wrong. Maybe somebody will come in and happily pay all those benefits out. But I think it's a big concern and I think that it's a great example. And states five is really where the company's leader, perhaps even the

Starting point is 00:48:06 founder, typically just sells out. And it might be to a competitor, it might even file bankruptcy. And it's obviously, it's not a good stage to be in. But I think the best way it is for me to talk about this stage is how to avoid it. And I know that we're giving a lot of pointers so far in the first four stages. But if there's one thing I really wanted to point out, that's the sense of urgency. I mean, it's easy to feel the sense of urgency if you're just about to go bankrupt, but obviously you need to feel that a lot sooner than that. If you feel urgency, both in good and in bad times, and if that is ingrained in your culture, that's really the roadmap to success. Whenever I read about a company that might be stage four, state four, state five, and they

Starting point is 00:48:53 talk about how they will now improve the bottom line by starting a cost-cutting program. That's some of the worst thing I can ever read. It's kind of like me telling my wife, you know, I want to be a good spouse the next two weeks. I'm going to put a really great offer into being a good spouse. You should not do that just over the next two weeks. You should just be a good spouse. You should not have a cost-cutting program. You should just always cut cost. I know this comes out like a rant, I guess, of some sort, but that's the best way of not getting there to stage five, I guess. You know, it reminds me of dieting, a person that gains a bunch of weight and are like, now I'm going to go on a diet and it lasts for two or three weeks and then it's just right

Starting point is 00:49:37 back to square one. It's not based in some fundamental change of the person's lifestyle or the habit in the person's lifestyle that allows them to keep the fitness or the diet or whatever it might be into perpetuity. And trust me, folks, I'm not some beacon of excellence when it comes the health, but I'm using that as an example that a person could tie back to a company. And what Stig's point is, is if you're just saying, hey, we got to start a cost-cutting program, that means that it's temporary in nature, that it's something that we got too fat. If you're getting too fat, the problem is, is why are you getting too fat in the company? Why are you not developing very optimized flywheels, as Collins would call them,

Starting point is 00:50:19 before expanding those and growing them out into bulk and into volume throughout your organization. And I think that that's the really critical part when you're building the company and also as you're trying to optimize it if you're in a decline. All right. So in general, love the book. Highly recommend this book. This is a really quick read. And all five of these stages are so critical.

Starting point is 00:50:41 And I think it's something that a person should probably read often to try to remind themselves and think about these things thoroughly enjoyed this book. It was fantastic. We actually read quite a few books that we don't talk about on the show. So we want to ensure that you're actually getting the very best books. So that's why we, I guess, sometimes we sound over-enthusiastic. We probably only do like two of every four books that we read, wouldn't you say, Stig? Yeah, yeah, easily.

Starting point is 00:51:06 Yeah, that more than that. All right. So at this point in the show, we're going to play a question from the audience. And this question comes from Antonio. Hey, guys. Thank you for taking your time and answering my question. I'm a huge fan of the show. Recently, there has been some speculation that China is looking to replace a petrodollar

Starting point is 00:51:23 by convincing oil supplying countries such as Russia or Saudi Arabia to accept payments in yuan backed by gold. Is this a death of the petro dollar as we know it? How will this affect the American economy and can Bitcoin profit from such a scenario? Thank you. All right, Antonio, fantastic question. Stig's going to take this first stab at this one. So, Antonio, thank you for asking this question, first of all. Without trying to put on my tweet jacket and talking to you about the PetroDolar and history,

Starting point is 00:51:55 like in a professor kind of way, please allow me to just provide the foundation for the concept that you introduce here. So PetroDdollar really was something that came up after the collapse of Bretton Wards gold standards in the early 1970s. And basically what happened at the time was that the U.S. struck a deal with Saudi Arabia to standardize all prices in dollar terms. And it had a lot of impact. The dollar was already the main currency,

Starting point is 00:52:21 the world's restored currency, actually. And it really became even more important after that. That's also one of the reasons why the U.S. is able to enjoy persistent trade deficits. And it also provides the U.S. with financial markets, which is a very impressive source of liquidity and foreign capital outflows. And actually, the latest number I could find on this, just to talk to you about the magnitude was back in 2013, 87% of international deals were settled in USD on one side. So basically, what you're talking about is, is this changing now and what will

Starting point is 00:52:57 then happen? And the answer is yes, it is changing now. Now, that's not the same as saying that the US probably won't be the world's premier reserve currency. They have been that since 1945, where they replaced the British pound. So first of all, I think that's essentially fascinating that it's not longer than 1945 that the US dollar was not the restore currency in the world. Thinking about how fast that has basically changed. So if you're asking, can that change one way or the other

Starting point is 00:53:27 where it's going to be China? I mean, the answer is obviously yes. Time is infinite and yes, it will happen at some point in time. Will this happen and will this happen with China, for instance? If we look at a list of the biggest all importers in the world aside from the US, you have China. Yes, China, they probably would like to sell things in their own currency if they could. You have India too. And China's actually primarily important in terms of export for them, but the total trade with China is actually slightly more than is the case for the US.

Starting point is 00:53:59 It's the same with Japan. That's a three on the list. And with South Korea, where I want to say, China is even two with a five or three times as important in terms of a trading partner. So you can come up with many good reasons why in the future a commodity like oil will not be settled in USD and why it would be another currency. Now, with this dramatically change, we talked about having the Chinese currency as a primary resource currency multiple times before. It's just now being included in IMFs, the International Monetary Fund's basket of research currencies,

Starting point is 00:54:38 and it's very, very little. I don't see that happening anytime soon, despite the facts that I just gave to you. The second most important currency in the world, after the dollar, that will be the euro, being European and seeing everything that's going on. In my wildest dreams, I can't see how the euro can overtake the US dollar. With the membership countries being so inconsistent of what they say and what they say, what they do and the goals they have for the monetary policy. So I guess my response to the first part of the question would be the US dollar and the current

Starting point is 00:55:10 system we have. It's not perfect, but it's the system we got. And I guess I have a hard time seeing how that's going to change dramatically, at least over the next decade of two. That being said, your points about China, definitely. You will see a shift, but perhaps not to the extent that one might argue. I agree with what Stig's saying to the extent that I don't think that you're going to see any kind of drastic change in the next couple years. I think when you get out to 10 years from now, I'd say seven to 10 years from now, you might start to see things start to change around a little bit.

Starting point is 00:55:45 But I think in the near term within the next five years, I don't see too much changing. I do find this very interesting, though, what you're talking about. And I think that it's more representing the frustration that a lot of countries in the world have with everything being priced in dollars. And I think that that is probably maybe more important than anything else because I think that that might be what drives the big shift maybe in 10 years from now to some other type of currency emerging as maybe a global reserve currency. And so I guess that leads us to the Bitcoin conversation. So, you know, you look at Bitcoin just this past summer. I want to say in like June, you looked at the market cap of Bitcoin and it was around, oh, I don't know, maybe $80 billion was the market cap of Bitcoin. Bitcoin. Today, the market cap of Bitcoin is $137 billion. So that's just a couple months ago. That was like four or five months ago that you've seen that much growth in it. But let's call this what this is. 137 billion dollars of a market cap on a currency is very small, like insignificant as far as how small it is. But I will say, watch the trend on this thing. Because this trend is like something I have personally never seen in my entire life. And I don't know that we

Starting point is 00:57:01 ever see it again if this trend persists. So when we look at like the market cap of various currencies, so like let's just start off with gold, seven trillion for gold. When you start talking about like the US dollar, I have no idea how big the market cap is on the US dollar. But if I had to guess, I mean, you're talking tens of trillions of dollars. It's way up there. It also depends on how much you include as the market cap of the US dollar. I mean, we're not just talking about like notes and here. It really depends on what kind of, you have all these fancy terms, call it M1, M2, whatever you want to include as a currency and how much is credit and how much is not. And if we start seeing a currency backing a commodity, whatever it is, it's a different world.

Starting point is 00:57:47 I mean, I know that $137 billion, it sounds like a lot, and obviously it is a lot. But, yeah, as Preston said, for a currency, it's next to nothing. And I don't want people to hear us say that right there and say, oh, well, Preston, Stig, don't think that Bitcoin can be a really big deal in the next five or 10 years, because we definitely think it can be a very big thing in the next five or 10 years. We just think that where it's at today, as far as market cap, that's not going to happen in the next couple years where Bitcoin's now going to be, what oil and things are priced in in the next three years. That's not happening.

Starting point is 00:58:20 Even at the pace that Bitcoin's going at, it's not going to be there in three years. But give it 10 years, and it keeps trending the way it is, and you see all this, money that's stuffed up into fixed income with a zero percent return starts flowing out and a lot of people are selling out of that and they start chasing the 300 or 500 percent return that Bitcoin's been returning every single year for like the last seven years. Yeah, you might start to see some interesting things happen if that trend continues. And I think that's our best advice for people when they're thinking about Bitcoin is if you're not studying it and you're not aware of it, there's some interesting things happening here. And we're not saying it's going to replace or

Starting point is 00:59:00 become the world reserve currency. It's something that I think people need to be aware of. And I think, Antonio, if your question is more in the direction of will countries use, call a Bitcoin or another cryptocurrency to sell transaction, I think that is highly unlikely because all nations really have a incentive to use their own currency, at least not use a cryptocurrency. So that's probably not it. Right now you see a lot of individuals settling transactions with cryptocurrencies. You will probably also see companies starting to do that. but you'll probably not see government institutions doing that for a very long time. But if you ask in a sense that what will happen if the market loses faith in the US dollar,

Starting point is 00:59:42 whether it's gradually, it's just slightly or if it's more significant, yes, it will have an impact on other currencies. So remember, what is one dollar worth? One way you comprise that would be in other currency. I can tell you what it's worth in euros or I can tell you what's worth in yen. And if people start to lose faith in the U.S. dollar, for whatever reason, less money will be flowing into the U.S. dollar. And basically, you know, a currency is no different than the price of a stock. You know, you have demand, you have supply. And if you have less demand for the U.S. dollar and that money is going elsewhere, you will see a sore in that type of currency instead.

Starting point is 01:00:19 Now, whether or not that would be Bitcoin, which is what you're saying, I don't know. I mean, I think a lot of money that would potential flow out of the U.S. dollar, I think it will go to the other major currencies, definitely first. But you write in the sense that you don't need a large percentage of funds, call it from fixed income or whatever it might be, to pump up something that's only $137 billion and thinly traded. So this is where Stig and I see things a little differently. So he said that if money flows out of the U.S. dollar into other currencies, he thinks that they're going to go into other currencies before cryptocurrencies. I would agree with that up until probably the next year, and then I think that that's going to start to change.

Starting point is 01:01:02 I think when you look at the price action of Bitcoin specifically, it is following Metcalf's law, almost to a T. And Metcalf's law is how when you look at the growth of Facebook, you look at the growth of Google, Alibaba, 100% correlated the Metcalf's law. Since the start of Bitcoin, it has been following Metcalf's law almost to a T. Could you elaborate more on the law and what it means? Yeah, so the law is, if you've ever taken a business class or you've seen a chart that shows a network effect where the pricing of something looks like a hockey stick, where it starts off slow, then all of a sudden it's almost completely parabolic and it goes almost like a rocket straight up.

Starting point is 01:01:46 When you look at the pricing, you need a logarithmic scale to plot something on a chart to do this. That's what's happening with Bitcoin today. So I think once you start getting past a market cap of $100 billion, you got some people really raising their eyes saying, what the hell is this thing over here? And then if that continues, if that trend continues, which it is, this has not subsided at all. If this trend continues and we see this go for another year,

Starting point is 01:02:15 guess what? You're not talking $100 billion. You're talking like $500 billion. You're talking some real numbers here. And then once it hits a trillion dollars, watch out. Because, I mean, the network effect of this is going to only compound on itself. So I really think there's something here. And I think that it's something that people need to pay attention to.

Starting point is 01:02:37 I'm not saying that, I guess I'm not saying anything. I'm just describing what has happened over the last seven years. And I think that the trend, you know, the perfect example, I saw, and we're here in November of 2017, Coinbase, which is the exchange that does cryptocurrencies here in the United States, Coinbase had something like, I want to say, 12 million users from the last seven years. In the month of November alone, they had something like 1.2 million people sign up for Coinbase just this month. In just a month. So when you have that many influx of buyers versus sellers, there's some interesting things happening.

Starting point is 01:03:17 And I think it should really grab a person's attention. and I think they need to study what the heck's happening. I'm glad that we disagree. Unfortunately, it's not about stocks, but primarily about Bitcoin, I guess. I guess we can live with that. I think what I see now, whenever you bring up numbers like that, yes, there are definitely a lot of individuals. They're signing up going into Bitcoins.

Starting point is 01:03:36 Perhaps they're buying for a thousand bucks or 500 bucks or whatever it is. I'm really curious to see what happens with institutions. And we talked about, I think we talked about CME before, and what they're doing with futures was this, to me, a lot more breakthrough in many ways than, for instance, Japan saying that now you can start paying for things with Bitcoin, even though it sounds a lot bigger. The market for Bitcoin, it's very thinly traded compared to many other markets. And that also means that if you take out 10 trillion from the US dollar and then you put $9.8 trillion worth in other currencies,

Starting point is 01:04:12 and only is like 0.2 trillion, which will be $200 billion, you don't see a market cap going from 137 to 337. That's not what you're seeing. You're seeing the number of Bitcoin multiplied with the last traded price. So the market price might go to trillions of dollars suddenly. And also what you see now is that the circulation of Bitcoin, it's not that much in the sense that you have a lot of people who are using it as an investment or storing a value or whatever you want to say.

Starting point is 01:04:40 So you have a lot of buyers going in, not too many sellers going in. So if you see a huge influx of money, you would see a very, very important. interesting pattern in price setting. Yeah, meaning that it would go up more. Yeah, no, interesting, interesting stuff. I think that when we look back at this in 20 years from now, we're going to be quite amazed maybe what transpired, what happened, what didn't happen. This is just, this stuff is crazy.

Starting point is 01:05:05 This is absolutely crazy. It's very exciting. I guess that's probably why I have so much emotion in some of this is because it's really exciting stuff to see what's happening here through the technology and what people are coming up with to try to egg all these global currencies, domestic currencies. It's quite fascinating. All right. Fantastic question. So Antonio, we went way longer than we had ever expected on that question. But because you submitted this, we're going to give you a free course on our website, on the TIP Academy website. It's our intrinsic value course. And for anybody else out there, if you want

Starting point is 01:05:39 to get a free course on our academy webpage, go to AsktheInvesters.com. You can record your question. If we get played on the show, you get a free course, and we just really appreciate everything our community does for us and offering up these questions. So thanks for doing that. All right, guys, that was all that press on I had for this week's episode of The Investors Podcast. We see each other again next week. Thanks for listening to TIP. To access the show notes, courses, or forums, go to theinvestorspodcast.com. To get your questions played on the show, go to AsktheInvesters.com and win a free subscription to any of our courses.

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