Phil Ordway of Anabatic Investment Partners shared his research and insights into the “power of a low-cost advantage” at Wide-Moat Investing Summit 2018.
Overview of Phil’s session:
A competitive advantage can come in many different flavors, but my favorite might be a low-cost advantage. I don’t think it’s necessarily better than others, but for me it’s easier to understand. A low-cost advantage can also be best exploited by one of my own areas of strength: patience.
An underlying premise here is that the world is competitive; I think the rumors of the death of capitalism are premature, and I see vicious competition in almost every business I come across. In these competitive fights there are few better allies to have than a low-cost advantage. Put differently, high costs – or even just an industry-average cost structure – can create serious impediments to success. Suffering less and avoiding failure can turn a prosaic business into a great success.
Some of the companies I most admire use a low-cost business model to create a virtuous feedback loop with volumes: low costs enable low prices; low prices generate high volumes; high volumes allow lower costs; lower costs are reinvested in lower prices; on and on we go. The best companies take this feedback loop and combine it with other hallmarks of “wide moat” companies – stellar customer service, notable brands/loyalty, strong network effects, effective capital allocation, etc. – to get exceptional and durable long-term results.
As noted in our 2017 letter to partners, history offers many examples of business success that was derived partially or mostly from a low-cost advantage:
Ford – The Model T changed the world with its efficient manufacturing approach, enabling a low-price product that was accessible to the masses.
McDonald’s – Real estate played a big role, but without a standardized, low-cost approach and low-price menu there would be no McDonald’s.
Sears – Before Amazon there was Sears and its low-cost catalog sales model that revolutionized the retail industry.
GEICO – Realizing that car insurance is both required and commodity-like, GEICO has been ruthless in exploiting its low-cost, direct-to-consumers approach.
Walmart – Sam Walton is perhaps the best-known example of a low-cost advantage being scaled up to massive effect.
IKEA – A simple warehouse with cheap, self-assembled furniture is now among the leading retailers (and brands) in the world.
Costco – Sol Price’s low-cost warehouse model was perfected at Costco, a company famous for reinvesting every last nickel of cost savings back into a virtuous loop of low prices and higher volumes. The annual membership fee (later copied by Amazon Prime) is also an important wrinkle that further enables low prices.
Nucor – Steel production is a brutal industry, but Nucor rode its low-cost “mini-mill” strategy to great success.
Southwest – Over more than 40 years Southwest has exploited its low-cost advantage to post an unbroken string of profits while many of its competitors withered and died. Ryanair took Southwest’s low-cost approach to the next level in Europe.
The Home Depot – After a successful stint running a leading home improvement chain, Blank and Marcus asked themselves a simple question: What kind of home improvement store could we not compete against? A big, no-frills, low-cost/low-price warehouse.
Wells Fargo – An efficient, low-cost deposit gathering machine is very tough to beat.
Amazon – The modern paragon of success, Amazon has low costs – and the reinvestment of those low costs – at the core of everything it does.
Vanguard – Aided by lean operations and its ownership structure, the low-cost index fund has made an enormous impact on the investment world.
Even if we accept the idea that history has proven low-cost business models to be successful, does that mean the future will offer similar rewards? Only time will tell, but I think the odds are favorable. I make an ongoing study of many of these companies and believe several of them are worthwhile investments.
Some current examples of companies/industries with a low-cost advantage that may be worth further consideration include:
– ultra-low-cost carriers (airlines);
– building products companies;
– industrial distributors;
– software companies;
– and financial intermediaries.
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About the instructor:
Philip Ordway is Principal and Portfolio Manager of Anabatic Fund, L.P. Previously, Philip was a partner at Chicago Fundamental Investment Partners (CFIP). At CFIP, which he joined in 2007, Philip was responsible for investments across the capital structure in various industries. Prior to joining Chicago Fundamental Investment Partners, Philip was an analyst in structured corporate finance with Citigroup Global Markets, Inc. from 2002 to 2005, where he was part of a team responsible for identifying financing solutions for companies initially in the global power and utilities group and ultimately in the global autos and industrials group. Philip earned his M.B.A. from the Kellogg School of Management at Northwestern University in 2007 and his B.S. in Education & Social Policy and Economics from Northwestern University in 2002.
