Is the market too optimistic? November 17, 2023

31:44When you say we, you mean you and your wife, not you and I? Yes. Can we just define our terms here when we say we? Andrew and I are not on the couch doing our monthly monthly laundry. Okay, good clarification. Yes, thank you. Me and my wife, we're doing that last night. And, you know, it's the usual comment. Do we have any of this? Yeah, that. No, that's enough. And I remember we've been doing it forever and it was always you had to get above, what is it, a hundred bucks or whatever to get the free delivery you know and so i sort of said i don't know are we over the limit yet and she's gone sweetheart we're at like four hundred dollars like what what have we got in the basket nothing like no like really like we've got two youngish kids a household of four i am promising you there is no there is no smoked salmon and lobster tails in that basket bread milk some meat some just basic kind of things some you know some snacks for the school lunch boxes, that kind of stuff.

32:42And I guess a few staples that we'd gone low on, you know, flour and that, but nothing, you know, just like$400. And sometimes I'm a bit oblivious to these things. And she's like, yeah, it's been that for a while now. I don't want to know. And it does sort of like, I think everyone has had that experience, regardless of your personal situation, even if it's something that's like, well, it's higher than I expected. Oh, my gosh, how do I make ends meet? whatever part of the spectrum you're on, I think all of us notice that. And that's when it gets real. And that's when, you know, it hopefully comes home that these things don't appear out of nowhere.

33:21They are the consequence of past action. And, yeah, I'm with you. I just don't see that we're doing anything to get out of it. So, look, full circle here and we'll move on. But for the market to be cheering that inflation is down, I'll join them in cheering that. but to then go oh that's great because now we can start putting interest rates down again i think no no no no let's not that's a very big jump yeah let's not count our chickens here and let's be careful what we wish for more more to the point because to my way of thinking that should only be on the cards when when it is absolutely needed right so yeah yeah we'll we'll continue to cover it but i just don't see anything sort of moving it's it is it is no one really wants to make the unpopular but necessary decisions unfortunately amen that is that is that is the very definition of modern politics before we move on i want to just mention one thing it comes from your inflation entrenchment index which i hadn't seen but i like uh as a concept and i just wanted to make a point for those who have been wondering because i you know i don't know about you mate but i get plenty of people who say why is the rba putting rates up this is a global problem it's oil it's wheat it's imported products you know australia's not doing it uh we're not causing it why should we smash Australians and put rates up because of some sort of global inflation?

34:37Yeah. And the answer is actually in that entrenchment index. Now, I'm not even sure that they're right, but directionally, they're probably not miles away from wrong. And the broader point here is that if it was only global, then we wouldn't have a different sense of what inflation might be entrenched here than anyone else. And the RBA from the beginning, we've said this before on the podcast, but it's one thing to make the point in the abstract, Something to make the point very real, which is US inflation now 3.2%. Our inflation last month, 5.6%. Now, we did lag on the way up. We'll probably lag on the way down anyway.

35:13But if you took a view or you believed, and I'm not bagging anyone, but if one of those people said, well, why should we put rates up? It's a global problem. We can't change it by doing anything about it. Well, guess what? This is actually where the rubber hits the road. The degree to which inflation is entrenched or not comes down to our ability to stop that inflation that, yes, absolutely came from overseas, largely. And that's where it started. But once you let it get in and then you let it take hold, i.e. become entrenched, it's a bloody difficult thing to shift. And if it is the case that The Economist is right, that's very much a very clear example of why we can't just say, it's an over there problem, so let's not do anything about it.

35:54These things become entrenched. I saw doctors' bulk building fee. Average bulk went up 10 % last year, right? Yeah. Now, I don't know if doctors are profiteering or not. They say it's cost increases. Maybe it's a bit of both. Either way, that's exactly the idea, right? Doctors, we don't import doctors, or whatever we do. We don't import medical services as a thing from a cargo ship from somewhere else, right? The fees that are going up now are not because doctors are using foreign oil. It's that cost impost that circulates around the economy. That is exactly what the RBA has been, I'll say, desperate.

36:27They didn't move quickly enough. So I think that was a mistake rather than a lack of desperation or lack of keenness. But that's why they've talked so much about the domestic sources or domestic impacts of inflation, examples of inflation, rather than just relying on the global stuff. And with Australia, one of the big drivers for that bit of work that was done with entrenchment was housing because, as we've mentioned, it tends to be different in the US, but most people tend to be on variable here. So interest rate movements flow through much quicker here than overseas. And when we had the September quarter CPI, we saw rents nationally, I think, were up like 7%, 8 % or so.

37:12And they, again, never go backwards. And there's still a lot of landlords that are waiting for their interest rates to go up as they roll off their fixed interest period. So the expectation is that a big part of the drive is going to be the rise in rents and just general housing related costs as well. So it feels as though it's not an unreasonable supposition that we will see a bit of inflation stick around for a while. So, yeah, I don't know what you're doing. Well, I've got some thoughts, but I don't know what realistically is going to be done about it. Yeah, yeah. And short enough to make it work.

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37:59Mate, one of the things that we've heard a lot of is inflation's high because the companies are profiteering. Look at those naughty supermarkets who are making a squillion dollars. Look at those naughty banks who are making a squillion dollars. Commonwealth Bank made$2.5 billion this week. I have long resisted the urge and frankly kind of discouraged the urge of people to equate big numbers with profiteering or that there's something horrible about companies trying to maximize profits as long as competition is working. I actually want to make the opposite point, which is ComBank made$2.5 billion in the last quarter.

38:34That's a massive amount of money,$10 billion a year on a run rate. No one's crying for them. I'm not going to complain on their behalf, except to say they're only growing profit at 1%. Yeah. And so when, you know, our listeners are, I'm going to say, smarter than the average bear. They're also more thoughtful than the average bear because I reckon everyone listening knows, or at least understands the idea that a large number is not a super profit necessarily, and that a large number is not profiteering necessarily. And while you like to whack the banks for closing branch and doing a whole lot of stuff despite all that when your profits are only up one percent uh it kind of anz and ab last week too pretty negative about the future prospects talking about the second half being really tough again i'm not going to say we've seen the peak of anything because that's just stupid i don't do predictions but i wouldn't be at all surprised if it's uh you know a tougher next few years for the banks and frankly potentially for large corporate australia yeah i mean it's not just that it's um the growth hasn't been strong but you got to put that profit in context with the size of the company itself or the equity you know straw man made two and a half billion dollars i mean it's an incredible profit right like just like we're doing something really really right but when you've got all of that capital tied up i mean gosh what's the the market cap of of cba is 171 billion dollars right like they have i think the equity that the return on equity that they're getting now is actually come back a long way after the Banking Royal Commission, which sort of went into some of the very profitable kind of activities.

40:16Michael, how profitable charging dead people is. I know, it's amazing. Gosh, aren't they great? Great actors. Anyway, it's not... Look, I'm the first person to put the boot in the bank, as you know, right? But it's not super profits. I think that's where you've got to be careful here but yeah i i thought the commentary was all very interesting it seemed to be and again you can't i'm sorry to bring it back here but you just can't talk about the banks without talking about property it's like i think in the case of cba it's like 78 of its lending right like they are they are all um uh institutions that have that have morphed into basically just funding all of our houses um uh just you draw the pie chart right let's just it's just it's that and then There's a tiny little bit of other things.

41:05Yeah, exactly. And they all said that at the start of the year, the competition was so intense that they were all basically writing unprofitable loans. In fact, they were lending money at a lower rate of interest than their cost of capital. And that's just not sustainable, right? So they all sort of pulled back a little bit. But it's not like these are highly profitable loans and it's not as – you will get to a situation when you have all of the major players, and it's pulled back a bit now, as I said, but when everyone's in an unprofitable scenario there, you don't need the RBA to do anything and they'll have to put rates up at some point.

41:48I mean, he's going to blink first. Someone's going to do it, right? Right, right, right. I just like, oh, we're unviable eventually. So I thought that was particularly interesting and I'm not trying to wish ill on anyone with a mortgage, But I actually want the banks to have a degree of strength and balance sheet capacity. Because, I mean, again, we don't know this in Australia because we just haven't had a proper recession since 1993. For us, like, what's that? We don't do recessions here. Well, actually, we will again. And they do happen. And when that happens, you do want your banking sector to be very strong.

42:25So there's a fine line between absolutely gouging the public and ripping everyone off and making super profits. But also if you're not strong enough, when the time comes, that will create problems as well. Right. Yeah. So, yeah. I mean, I still scratch my head when I look at a lot of these things. CBA is still on a forward PE of something like 18 times or something, which is a lot. For a company, it's not growing essentially. Yeah. Yeah, not only that, mate, but it's also massively more than its competitors. Yes. And here's the thing. Let's take an investment lesson out of this. For me, I could be entirely wrong about this, the implications or the conclusions, but I will draw a line because I think it's important for listeners to think about.

43:19Commonwealth Bank is more expensive than the others because it's considered to be the highest quality bank. Why is it considered to be the highest quality bank? Well, you can't ever really know for sure because everyone's got their own views on it, but A, it becomes a bit self-reinforcing. So it's a bit like blue chip. Everyone says it is, so it is. At some point, if no one believes it is, then maybe it's not anymore. And what does that do to the price? That's its own question. But also it's the highest quality bank because it's had the highest profit growth because it's had the biggest mortgage book.

43:49Now, let's assume that horizontal mortgages don't drive bank profits in the next 10 years the way they have in the last 35. and then you have to for 10 years time which bank is going to be considered which bank which bank is going to be considered the most the highest quality bank and I want just our listeners to be careful they don't miscorrelate it's not really a word but I made it one quality in any of its forms with circumstances CBA might be the bank most leveraged to win when mortgage's growth is big That's okay. That's the thing. It doesn't make a quality. It makes it cyclical and exposed in a certain way to certain circumstances.

44:32Yeah. That's very different to saying it is the highest quality bank, which is IE. It has some things inherently that make it better than the others. Yes. Yes. Yep. I mean, it's just, as I've said before, when you look at the balance sheet of the bank, It doesn't take a huge fall in defaults. Oh, sorry, an increase in defaults or the profitability of those things. But for these entities to look very different, it's not because of anything shady. Banking is inherently a leveraged operation. I mean, it's an unavoidable phenomena or feature of fractional reserve lending. We take in this much money and we lend out a lot more.

45:21We literally create deposits out of it. Again, I'm sounding like, I don't want it to sound like, oh, it's a conspiracy theory. No, it's just how modern banking kind of works. It is what it is. So I want to be careful here because some people go too far with this thought. But it is right to sort of say that when your loan, your liability is the bank's asset. That's their assets. They've just basically got a whole bunch of IRUs from ordinary Australians who they said, we'll give you some money. And when I say give you, we'll just create the money out of thin air for you. We'll give it to you. And then you'll give that to the person you bought your house off.

45:54But that's a deposit that's somewhere. In return, we get a pinky promise from you that you will pay us back over 20 to 30 years with a bit of interest. That's the asset, right? So it's ethereal. It's a promise. And I don't want to undermine it because people will do, for very good legal reasons and self-interested reasons, People will do whatever they possibly can to make sure they come good on that promise. So it's not as if the bank's being had here and giving money away in a silly fashion, or maybe not. I don't know. It depends on your point of view. But those promises might not be able to be met, or at least on the margin, which is the important thing here.

46:35And so, again, I'm not trying to be all doom and gloom and chicken little. It's just a consequence of any investment, whether it's a bank or whether it's a supermarket or whether it's an industrial chemical producer, is that you always go into an investment saying, well, here's what I think best case scenario kind of is. Here's my baseline sort of assumptions. But I might be wrong. Every now and again, economies go into recessions. Every now and again, companies have stumbles. There are industry characteristics. You need to consider the downside. Charlie Munger again, you need to understand the bear case better than the bears.

47:09And so I don't try and put it out there to say, this is what I think is going to happen. That's very easy for you to think that that's my standpoint. But my real view here is that it could happen. And it's not like a one in a million year type event. It's like, no, these regularly happen within normal modern economies and particularly within financial institutions. And if that was to happen, things can turn around very quickly. Now, fortunately, APRA did do some stress testing very recently, and they forecast some pretty nasty things, big fall in property and, you know, rise in unemployment. And the banks look as though they would stay standing after that, which is really encouraging.

47:50And again, back to my earlier point, I was like, you know, you don't want the banks to be too marginal. You want them to have a little bit of strength here. So I don't think it would be the end of the world. my point is if i'm buying a business at a reasonable growth multiple in a world where interest rates are rather elevated that has no allowance to my way of thinking at least of a bit of a stumble let's not call it a collapse because i don't think it would be but a but a but a stumble a patch of stumble yeah some some some rough sailing you know some rough seas for a little bit it just feels as though it's a very asymmetric bet but in the wrong direction it's like heads i get i get my grossed up yield of six percent maybe one two percent growth you know it's like you know high quality blue chip company over the next 10 years maybe i get a upper single digit type total annual return which is which is okay right but if but if it doesn't my downside could literally i could have 30 of my capital wiped out in a month and that is just not the i want the kind of bet where if i'm wrong it's just like okay didn't work out well but maybe there's a little bit of downside.

48:57If it goes right, wow, this thing's going to the moon. That's what you want. And that to me is what makes, at this point in time in the cycle, things will change. I just can't wrap my head around why anyone would be buying a bank at 18 times earnings. Not me. Mate, I have some breaking news for you. Oh yeah? You and I haven't discussed this. I got an email and I hope well I know you're sitting down I can see you I'm glad you're sitting down I hope our listeners are sitting down headline was new research reveals Tesla is one of the most talked about stocks on social media you don't say wow I kid you not someone actually bothered to do the research and then write a headline to tell us that actually it turns out people on Twitter kind of like Tesla I mean I don't know well also a lot of people on Twitter kind of hate Twitter i'm just sorry um remarkable hey staggering i i you could i knock me down with a feather i i someone actually paid for that research to be done someone else is trying to peddle that research get people to write about it um you know breaking sky is blue uh sun is yellowy orange and that water is wet uh but i i know i know it's a big claim but i got some research to back it up uh turns out the sky is actually blue i know i hope you're sitting down Do you know what though?

50:22I would, if I don't own Tesla shares, I was going to say Tesla, don't own Tesla shares either. I don't own Tesla shares, but, and I'm not a particular fan of that or don't like, what am I trying to say here? I'm not against it. I'm not for it. But I would still, I think even as an objective, rational investor, I would fold that into my thinking. The fact that it is, what is the je ne sais quoi that Tesla has that it is something special. Apple has the same thing. And that brand value will be something on the balance sheet that tries to record that somewhere. But it's vastly understated, I would imagine, just for the way that came out.

51:10work yep so it's interesting isn't it because i agree with you it's sort of like there's a lot of hot air in that sort of space but it is a bit of signal it is a bit of signal and the fact that tesla alone has a greater greater market cap than all the other major car companies combined i mean yeah yes it's ridiculous in in so many different ways but when you ask most people and again not everyone but most people what kind of electric car would you prefer tesla and it's like okay That's something. And I guess what I'm trying to say here is like, this is one of those things that when you're doing analysis on a company and you're putting a little spreadsheet together, how do you, there's no real field for brand value or, do you know what I mean?

51:54Absolutely, 100%. But it's important. It's important. The kind of person that expects, well, I like the company, but I'm going to wait for Tesla to be on a PE of 12 and then I'll buy. It's like, well, you're never going to get that. this is the same point i guess you're making with cba before it's like well really is it that different from westpac is it that different from nav and i'm sure some of the you know boffins will say well actually it's quite different well not yes yes and and and no but it's got that better reputation and and that is something that i guess you need to consider as an investor even if you yourself think it's all a little bit silly yeah it's a beautiful way to put we talked a little a bit about brands last time and i'm talking about the power of cults but i mean that that is you know i think the other thing i'd add to your point uh anyway comments last week i think it was a week before uh is you've still gotta you just gotta be a little bit careful to separate the cult from the fad and if that sounds like the same thing to you then good because i think they're different i want to explain why yeah fads come and go right the cult of apple is in its fifth Fifth decade, I want to say.

53:03Must be. Yeah, it must be. Fifth decade? Yeah. 1980 something would have started. Oh, my gosh. Yes. Maybe fourth decade. Either way, pretty close. Yeah, I know. Scary, isn't it? Were we old or what? Not at the end of its fifth decade, but in its fifth decade. It's going to be 41 years to be in the fifth decade. Anyway. Yeah. And that is absolutely true. There will be other fads that come and go. I would argue buy now, pay later, even if the feature remains, the buy now, pay later company, I think, will be, in hindsight, a fad. And so, by the way, plenty of people on social media would have been talking about buy now, pay later, 12, 18 months ago, two years ago.

53:42So just, I think you're 100 % right, mate, about Apple, about Tesla, about a whole lot of others. I throw, frankly, Coca-Cola in there. The fact that people pay meaningfully more for Coke versus Pepsi, it's not exactly a luxury brand in the same way. but proportionally, Coke is probably more expensive compared to Pepsi than Apple is compared to Samsung. Yeah. Now, very, very different dollar amounts, but that idea of the value of a brand is super valuable. Just be careful when you think about this, just to separate out what's truly a, I'll say cult, because I use the word slightly advisedly, but realistically, you know yeah um that some cults are dangerous and ugly and you know apple or tesla like that but the the fervent belief the um the the zeal with which the zealots will like to um you know share the message the the fact they brook no objection or criticism uh those things are real and i think all i would say is look for those things because you're absolutely right ram there There's massive value in those sort of things.

54:48Just make sure you know that this is the cult, not the fad, because one will flame out really quickly. And you look at it and go, oh, I thought that was a... And we all know what happens to some of those. Others, absolutely enduring. And the difference is worth many, many, many times your investment if you get that right. Yep, yep. I always think too, it's such a wonderful and special thing if a company can build a decent reputation and brand. But it takes a long time to build and it takes an instant to destroy. And so it's something that you hope that the leadership team in these companies understand the true value of that and not to think, I'm sure Tim Cook could make a better margin by cutting some costs on the quality of the phones, for example.

55:42and it probably wouldn't make much of a difference in the near term. Maybe you're not even in the medium term, but eventually it's sort of like, you know, part of the cultish status was because of the incredible build quality and all the rest of it. So after a point, it's sort of like you need a bit of reality to sort of back up some of the positive sentiment there. If you don't nurture that enough or you are too short-term in your focus, it is absolutely disastrous for a business. whereas anything you can do to strengthen that brand is something that it is we talk a lot about moats and i think any sensible investor focuses a lot on moats these sustainable competitive advantages moat is one moat moat is very much i'm sorry brand is very much a moat and it is something that i think should be at the top of mind for the board and management team is like what is what is what have we done this year to strengthen the moat and if you're not asking that question or making moves towards addressing that, you are failing, I would say, as a management team.

56:43I think that's really, really good. And I think, to my mind, mate, if you're going to buy a particular large company where you are, you know, some of the small businesses you invest in are trying to dominate new niches or existing niches or find new ways to do in business. And that's a very different style of company. If you're buying a medium to large business that's been around for a while and isn't anywhere near maturity or approaching maturity or maturing um i would say i'm going to say to i said the other day that if you asked me for one thing it'd be a founder owner for one one criteria the second it actually be the quality of the business the quality of the brand or reputation or whatever it is it differentiates the quality of the moat to use your phrase yeah because that is that is the thing that's going to let a you know a medium or large company continue to earn superior returns.

57:35Yeah. And it's going to be the difference between a big, ugly pedestrian blue chip and a genuine multi-decade winner. And once you're playing in medium large cap land, one of my favorite lines I know you like is, growth covers a multitude of valuation sins. It sure does. Yep. If you don't have that growth, I would suggest substitute growth with quality or with moat or with competitive advantage because it won't cover as many valuation sins because you haven't got that much upside. The range of outcomes is much smaller. But if you look at a business that continues to grind away over time, you mentioned, you know, cook could increase margins.

58:15One great business, I wish we had more of them in Australia. Costco is one. We have the stores, but not the business obviously listed here. Wall Street analysts for decades have been badgering Costco to increase its margins because they could. They could do it tomorrow and make more money. And instead, here's the beauty of Costco's business model. Effectively, their only margin is the membership fee. They run the stores at break-even. And so if there are savings to be had on product, for example, or efficiency in the store or scale head office, that goes to the customer. They could have banked that and banked that and banked that and banked that, but you know what?

58:54They don't. They make the Costco experience so compelling for the members that effectively the members are asked, do you think it's worth this much to shop at Costco this year, i.e. the membership fee? And that's Costco's margin. Yeah. And so they have taken this super long-term view, which is if we keep delivering our customers value by dropping our prices where we can, delivering better product, better store experience, we don't want to make margin at the store level, which is bizarre if you think about it from any traditional investment book. I'll give really quickly, Matt, really quick sideline.

59:28sideline uh i interviewed a bloke who's starting a new whiskey brand in the southern highlands right near me actually on the good oil the podcast i do um it came out on wednesday and that conversation was we talked a lot about the value of long term the value of short term the value of brand the value there's some really really good stuff in there um but that idea of building a building a business that is just enduring because you deliver value back to your customer over and over and over and over again. And then you say to them, if it's worth it, buy the membership. You reckon that doesn't focus the mind of executives.

1:00:05It's not, you know, let's make a couple more cents here, a couple more cents there. Let's loot the offering. Let's, you know, try and fleece the customers a bit more. They say, no, no, no. We'll pass the savings on to you. If you think it's worthwhile, you'll hang around. Yes. And that has been an extraordinary model. A model that, if you'd asked the bean counters, would never have got off the ground. Yeah. And yet it's been a remarkable one for decades and decades. Yeah, I mean, I just looked it up actually. So Costco net profit margin is about 2.5%. Yeah. What's Woolies? Five? Yeah, probably five-ish, yeah.

1:00:37It's double, right? And Costco can do that tomorrow. They can put their price up 2 % across the store. No one will notice or care in the short term and they can have a 4.5 % margin tomorrow. Literally, that's all you have to do. The great thing about retail margins, they're so small, increase them is not hard. Yeah. But as soon as you break that contract with your customer, Well, yeah, exactly. And I think it's about knowing where you are in the spectrum. You know, am I shopping at Woolworths because it's the cheapest? No. In fact, by definition, Costco is cheaper, right? But it's also much further away, much more crowded.

1:01:13You know, there is a convenience factor that is there. And this is why I think Aldi is really just such a great company. Even in their advertising, they say, we know you're not going to get everything from us. And they say that. They actually say, yeah, we know you're shopping at the other shops. That's cool. But come here first and get some of the things. Because we're not going to offer all of that other stuff. And you can imagine that there'd be someone there going, well, when we look around the landscape, we notice that Coles and Woolies have these in-house bakeries and they do this and they do that.

1:01:46Maybe we should do that as well. And thankfully, there's someone that goes, no. People don't shop here for those reasons. They shop here for the dirt cheap bargain. They don't want four varieties and, you know, eight brands of peanut butter. They just want the one. You know what you're going to get, right? And you know why you go to Aldi. And they understand that very well. And that I think is just a really good sign of a good management team. And I think it's something that a lot of, I often ask it when we interview CEOs with straw men, you know, it's just like, what is it that you guys are doing that your competitors don't do?

1:02:27Where is it that's your competitive strength? You know, that's very rare that I interview anyone that's got a monopoly, right? Like there are other people out there offering the same thing. So why am I going to you? Now, they might give you an answer that's not very satisfying, but it's an answer you want to hear, right? And I think for those that don't have a clear understanding of their value proposition and how the brand conveys that, I actually think it's a huge red flag because it won't happen immediately. but not recognizing that you'll not nurture it and not nurturing it, it'll have very real fundamental impacts at an eventual point in time.

1:03:13I think that's right, mate. I think, really quick tangent actually, we'll wrap up, but you know what's fascinating about Aldi is Aldi demonstrates really nicely, the Aldi experiment, the corporate life cycle of businesses. And it also shows the way businesses grow but also where their growth becomes a potential weakness a potential weak spot in their armor and it's one of those it's one of those things so so let's go back to Woolies. Woolies once upon a time sold stuff in what they call the center of store right packaged groceries on shelves what they did and they got to a point where they had x hundred supermarkets across the country and someone said how can we grow they said well you know we could do we could probably make a bit we'll space here buy a bigger store cut back on the number of peanut butters from 10 to 8 uh because we don't the 8 and we might have space for some fruit and vegetables so you don't have to go to the green grocer anymore yeah and the fact i did that oh what else could well we could i guess we could just install baked bread if we just kind of cut back on this a bit more okay and by the way these things come at much bigger margins let's do meat let's do deli let's do hot chickens let's do what let's all do it so they they grew their basket over and over and over again they chose to become as many things to as many people as they could to maximize growth once they tapped out the growth in this dry grocery or center of store or package grocery whatever you want to call it uh i've got a background grocery background um so they did that and all of a sudden that meant they are now vulnerable to someone who says i'm going to i'm going to woolies you i'm going to take the center of store back and so woolies has got this business where it's like, well, actually, our current level of sales and profit require our customers to buy all this stuff.

1:04:57So now we're protecting, we're playing defense on this. We're going to try and protect all the whole basket. And we're going to try and be full service because we know people want that. They're used to it. And they'll go if we don't give it to them. And we want the whole range because people are coming to us for a range. And we can't afford not to sell fruit and veg because they'll go to the green grocery and our basket size will shrink and our business will suffer. Our economies of scale will go into reverse. and everybody says, well, that's cool for you. But see, here's the thing. I'm new at this in Australia.

1:05:25I don't need to make your sales or your margins. I just need to have a business model where I can cherry pick. I can pick the eyes out of what you do. And I can take the most profitable bits of it and say, I'm just doing that. And if that sounds like the online banks, for example, when NAB launched Eubank or St. George launched Dragon Direct, they're trying to disrupt themselves before someone else does it to them because that's exactly what Aldi's doing. They're saying, you guys were great at this. And if you stuck with that, there'd be no room for us because you just have cheap groceries. That's all you do.

1:05:56But now we've actually found a way to chip away at what you're doing for exactly the reasons you said, Ram. And if you think about that, it helps you think about the life cycle of mature businesses. It helps you think about disruption. It helps you think about the Achilles heel of some of these companies. I was at Blackmore's. I worked there when Swiss, the vitamin brand came into the country and went nuts. And how did they do it? Simply by making a lower margin than Blackmore's. yeah black wars will make x margin x gross margin and say we sell at this price we sell your bike just sell that here's our margin swiss well i'll do it for half that and so i'll be on shelf for five dollars cheaper than you are and then black wars have got to say well if i if i lose share i lose sales then i lose sales if i drop my price i lose sales i lose profit i'm in a no-win situation here and swiss goes well you buy well you guys worry about that what eat my dust what Watch me run away from you when I say, I'm happy to take half the margin you are because it's still a truckload of money.

1:06:50I'll have that, thanks very much. That disruption is massive. And I think often the potential disruptors don't win because the big guys just are bigger and badder and uglier and put them out of business. But every now and again, someone slips under the guard. Think about Amazon and Walmart. Walmart should have killed Amazon five times over. Blockbuster should have killed Netflix. But they didn't want to because their existing business was way too profitable, way too successful. and that gap is really problematic if you're an existing business trying to protect your own rather than continuing to grow.

1:07:21I'm trying to, it's been a while since I looked at Blackmoors. They're still listed, right? No. No, okay. They were bought out about six months ago. Oh, you're right. Maybe nine months. Yeah, yeah, yeah. Okay, you fill me in here. I've got a recollection that what Blackmoors did, at least partly in response, was I think clever, which was let's lean into it. Okay, we're not going to beat you on price. We are going to beat you on quality. And so the positioning, now whether it's true, I don't know. I don't know the vitamin scene, but then they bought a premium brand, didn't they, where it was sort of like here's a bottle of vitamin C, here's another bottle of vitamin C.

1:08:08One's five times more expensive. Yes, but it's the good stuff, right? Now, put all your medical opinions aside, the fact of the matter is, is it's like I think that was a smart way to do it because it is a race to the bottom. And for one, it doesn't matter because I'm coming up from zero and you're starting up at 100. So, you know, it's going to be far worse. Had they decided to purely compete just on price, but they didn't. They said, no, no, no, we're more expensive, but we're more expensive for a reason. And I think I've mentioned it before on the pod, but someone years ago mentioned it to me and it's always stuck with me, which is when it comes to anything retail, you either want to be at an extreme end of the spectrum.

1:08:51You want to be super premium, super high price, super high margin, or you want to be cheap and nasty. There are people who are generalizing massively here, but there's people who are either quality focused and there are people who are price focused. You don't want to be in between where it's sort of like there's always going to be something that's better quality or cheaper because you're kind of trying to be the everything to everyone and it doesn't work. So I think when you get to a scenario like that, it's fine if you want to be the cheapest on the shelf, then that's fine. Optimize for that.

1:09:26um uh but think very carefully about it and i think in you can fill me in here on on how it went but i believe that the higher quality branded or positioned product actually did pretty well in in the wider business there for a while but that that was the right move it's like okay we're not we're not going to go there we're not going to we're not going to go head to head with you on that because we're gonna we're we're not going to do well out of it is that a fair comment do you think or is is am i what was the brand you know that you know that um biocuticals that's the one biocuticals yes yes which was like almost medical grade was the term that was used that you know and i think it's brilliant you see the same with honey right like like it's like i can get much much cheaper honey versus basically sugar and water mixed together no this is straight from the hive with chunks of honeycomb in it you know charge a lot more for it anyway sorry go on 100 no you dead right and in fact it's even more simple than that look at the Qantas Jetstar thing yes Qantas couldn't be everything to everybody and say well actually we'll play at both ends we will have an airline that is no frills cheap cheerful you're giving up a lot you're getting a good price or you want to fly the Spirit of Australia now this was before they trashed the brand over the last 24 months but uh you know Spirit of Australia premium brand premium experience lounges the whole box and dice and actually they end up outflanking Virgin because Virgin was then no longer couldn't be either the cheapest or the best because they tried to at one point they said well quantus was this positioning so we'll do the others that was fine they went slightly more down market from quantus they had the whole bottom of the market themselves yeah this is by the way also david jones and myers problem yes if you're myer who are you you're not the boot it's not just price you're not the boutique trendy chic uh cool glass shop you know in in a westfield and you're not big W.

1:11:15So what are you? And you're absolutely right, mate. It's not just single price point, single category. There are subcategories of some of this stuff, but you're absolutely right. The two growth areas in supermarkets are premium products or home brands, own labels. So the Woolworths brand, the Coles brands are growing like gangbusters. So are the$15 tub of ice cream. The$7 tub, the$6 tub that's stuck in between streets or whatever else it is. They're probably fine at the actual market share. So I should be careful using individual categories but these guys are struggling to find their place. Go to breads.

1:11:47The sourdough type breads, the Abbott's, and what's the other one called? Can't remember the name of it now. $7,$8 loaves in Woolies or Coles, and you can get the$1,$1.50 private label. Great, both fine. The stuff's in the middle. As you rightly point out, there's no reason to buy that because you're either looking for cheap. Now, again, it's not$100 or$0. There are places where we buy the stuff in the middle, but the growth is coming at the top and bottom ends because people are choosing those. And by the way, companies are making them deliberately, as are the supermarkets, deliberately filling those spaces because they know that's what's going on.

1:12:21Affordable luxury is kind of the phrase at the top end these days. I want to say affordable, not much as affordable, but paying 15 bucks for a top of ice cream rather than 10 or whatever they are, I don't like a lot of ice cream. $5 more, okay, on one hand it's a lot. On the other hand, well, I want to treat myself. I like my ice cream. I'll pay that five bucks for that thing. I might buy a home brand milk, but I'll buy the premium ice cream. or vice versa because that's my thing. But you're right. That's the way people are choosing to purchase. Oh, look, I've exactly positioned straw man that way, right?

1:12:51This is my own business. It was, we're very aware of our station in the wider financial space, which is tiny and irrelevant, right? And that's fine. And I just don't have the resources or I don't have the capital. I don't have the resources. I don't have the connections to ever make this It's more than a boutique little thing. But that's cool because I'm not in this for the ego. It's just sort of like, well, what can we compete? We can just be for the hardcore private investors. So that's what we're going to do. We'll never be more than 500 or so. I imagine maybe 1 ,000 if we get sort of lucky.

1:13:27Look, I'd be lying to you. Would it be nice to have 50 ,000 people? Yes, yes, it would. But it's not going to be. And my point is it's just recognizing what you're able to do and what you're not and then leaning into where you're different. So I'm not afraid to tell you. I mean, it's like$1 ,000 a year for membership, right? It's not for everyone. And that's very deliberate because if I said, all right, we're$15 a year so we can compete with, I don't know, Perla or something like that, which are very different products. That's a bad comparison. But you know what I mean? It's just sort of like maybe I'd get more people, but I probably wouldn't be viable and I wouldn't stand out in any way, shape or form.

1:14:08So it's not, I really didn't try to make this about me, but it is that idea of, I think anyone out there who's listening who has got their own business is recognize that value prop and lean into it. Don't be afraid. Even if you're a, like, I don't know, how could you, it'd be almost anything. You actually, actually, you see with hairdressers, right? There's the$10 haircut, cheap and nasty. You're probably going to get butchered, But, you know, for the married man, they don't care. They're beyond caring at this point. And that is your sweet spot as a barber, right, if you've got to do it. But then there's the others.

1:14:45It's sort of like, no, we're going to give you the back rub and the beer and the hot towel and everything else, and you're going to pay$80 for a haircut. I can tell you right now, mate, I'm never paying$80 for a haircut. But you see those places, and they're pumping because plenty of people do. And it's just another example. I don't care if you're a plumber, you're a Sparky, whatever. it's just sort of like I would be, oh, you call me up because I'm the cheapest guy around that's going to fix your toilet. Or you call me because I am going to do it really well. And then you focus on that. And it is something that I think is all business people learn after a time is that the second that you try to become everything to everyone, it leads to trouble.

1:15:27I'll give you one quick example before we tie it up is is um the the the one that i tend to self-flagellate myself on is catapult right so these these these guys do sports analytics tracking had a brilliant product really great just growing like the clappers and they just branched out into everything one of them being what um uh what they called the prosumer so they went down the value stack and they started competing in areas where the fitbits and the apple watches of the world are sort of there i was like what are you doing? That's not who you are. So pressure being the professional consumer, right?

1:15:58That next level down from the pro sports. Not the absolute nuffy, but the black girl who takes fitness a bit seriously. They've got a day job. They've got a day job. Yeah. I mean, I train three nights a week and I'm very serious about the league that I'm in and stuff, but I'm not supporting myself throughout. I'm not a professional sports person. And it's fine, but it's just like, that was a really, just the one that came to mind. There's a million of them. You see them on listed companies who should know better. It's like, oh, we're going to do this now too. Are we going to do that? And they're like, no, why on God's green earth would you bother even contemplating going into this space?

1:16:35And yet it is understandable, I think, because you want to satisfy as many potential customers as you can. And, you know, like, oh, we could be doing this or we could also be doing that. You lose focus and you generally go down in terms of a quality score. And it just, the type of, the company that almost religiously avoids the growth of the empire problem, which is I just want to be the CEO and board of a bigger company, not a better company, you know. And it happens all the time. And it's really just a question of, again, coming back to understanding, what do we do better than everyone else?

1:17:21That's what we're going to do. Sorry, mate. I'm going on and on here. It's coming to mind. We spoke to XTech recently. These guys make body armor for police and soldiers and stuff. They also do some drones and stuff for the Australian military. So you can imagine with what's going on in the world, they're enjoying a bit of attention at the moment. but when Scott Basham took over a little while ago, this is a company that it always, I mean, providing military gear is a tough job, right? Like it's, you know, it's just, you're dealing with government agencies, there's long sales cycles. It's just very, very difficult.

1:17:57And he basically just got rid of everything. So we do, this is the one area we do really well and that's what we're going to do. And we spoke to him recently. It's like, well, what else could you be doing? It's like, well, just this, this is what we're doing. And we've got enough runway that like if in 10 years time we've matured and we've captured all the reasonable market share we can, okay, now it's time to start planning for it. But until then, why would you? And I just, that was, I'm not trying to sell it, but that was one thing that stood out to me as sort of like that sign of focus is rare.

1:18:27And it's something to look out for. Yeah, nicely put, mate, nicely put. I think I'm going to give one last plug to the podcast for the good oil that we did on Wednesday, because that's exactly so. Mark Coburn is the guest. Coburn's whiskey. There is no actual Coburn's whiskey yet, because when you make whiskey, you've got to wait five, seven years before you release it. So there is whiskey. It's in barrels in a bond store. It's not actually on shelves yet because it's a brutal business, right? It's a capital intensive. Anyway, he talks about a lot of this stuff, about the value of the brand, about the fact that people kind of want to know the provenance of, of what they're doing he's going for the luxury market he's saying what premium not premium we're luxury yeah and he's he's what we're doing he's why we're doing it and he's what we're going to offer the he's not he's not going to compete against johnny walker red or whatever the right standard bottle is yeah no way black douglas yes exactly yep yeah what if there's like 100 pipers that was the that was a big selling scotch when i was working in grog shops at the union but that's about ah yes yes anyway so check out check out the uh check out the podcast it's a fascinating conversation put some of this stuff to in practice i'm not saying code burns is perfect by the way or necessarily even the best example of it but um some of these issues are just resonating massively because i only recorded the podcast a few days ago so um it's just fresh in my mind it's a really interesting worked example of a business trying to maybe maybe he fails maybe it crashes and burns maybe it works maybe somewhere in between uh but but just the idea that you're talking about is a lot of what's coming through a lot of how a good business and that's the other thing you talk about the the kind of you know the the the growth thing uh growth across what else can we do i guess we can do more of this stuff we can become a bit more mainstream, become a bit more this.

1:20:00The appeal of more volume is always there. Yes. But reducing the value of your business or your brand, the exclusivity, the whatever it is, or conversely, try and take a mass market brand upmarket. Good luck with that, right? Yeah. Try charging. You launch Black Douglas Gold or Black Douglas Premium, speaking of Scotch, again, I shouldn't have this all around. Maybe that's your thing and maybe you make something out of it but very very hard to take those brands in enough directions without really diluting what you started with and it's the old thing about you can't have one foot in the boat one foot in the you know yes you need to be all in one way otherwise you fall in the drink yep yep oh man have we done that to death i we we have but i'm just i mean even to myself i'm thinking i need to revisit some things because it is the more i sort of say it out loud the more i i i recognize the the it's hard to overstate the importance of this stuff because when i when i look at a lot of the the history of companies that haven't worked out well for me it's usually a case of them the phrase is growing yourself broke you've got all these annoying shareholders on the side saying we want growth we want growth we want growth okay god how are we going to get gross like well we could just keep doing this here yeah but it's not enough growth we need more growth all right well let's let's buy this company over here yeah let's do that you know just almost never works out well and and 100 % true um yeah i i need to i need to sort of tattoo it on my forehead or something because i probably avoid some some mistakes before they before they get to to be mistakes if i can see a company that's branching out into every single direction that is probably something I don't want to be on the ride for.

1:21:42Yep. I think that's a perfect way to put it. One last one for me, good to great. You talked about knowing the thing they do and just doing that thing they do regularly and a lot and over and over again. That's the hedgehog concept that really underpins good to great, which is a book I've banged on about it more than enough times and yet not enough because it's a fantastic read if you haven't yet read it, do it. But it talks exactly about that business to know what they do and they stick to that one thing and they do that one thing really, really, really well. It's exactly what Rams just said. It's not just us making stuff up.

1:22:09it's actually doing the work as well. Well, I reckon that's... We've gone well truly over time. As always. If you go over time always, does that mean we not only go over time because it's now the new time? Can I claim that? It's going to be four hours before we know it. Four hours of ranty, ranty goodness. Mate, will you come back on Sunday? Yeah, you know it. All right. I will look forward to it. As will our listeners, it will be our patented Sunday morning special mailbag edition. So make sure you hang around for that. released at 8am Australian Eastern Daylight Time because that's what time Ram gets back from his mountain climbing.

1:22:43Until Sunday. Fool on. Cheers. The Motley Fool and people appearing in this program may have positions in the companies mentioned. General advice only. Please speak to your financial professional to understand how it may pertain to your situation. Subscribe to the free newsletter at fool.com.au forward slash listener. The Motley Fool operates under Financial Services Licence 400691.