More nuggets I've learned from the GOAT Mohnish Pabrai. He continues to amaze me with the new ideas he gets and how he easily explains them. Kind of like his mentors Buffett and Munger.
Mohnish discusses a newer component of his investing ideas. The idea of a spawner. He says a spawner is a company with "DNA, which reflects a deep conviction in the importance of relentlessly adding and incubating new businesses that have the potential to be massive growth engines."
One very interesting aspect he discusses on Spawners is how they can experiment with Spawns and expect many of these to fail. The reason it's worth it is that they can use pre-tax earnings (to reduce net income, and therefore decrease taxes) to create these spawns. He compares it to a tax-free loan from the government on easy terms. For instance, when Amazon was growing much of the revenue they made ended up in R&D into Spawners rather than on their income. Only now after certain spawns were successful are they seeing income growth.
Amazon is easy to witness how it's changed. Its spawned new areas of business, moving from selling books, to becoming the e-commerce giant of the western world, selling music, to developing AWS. One of the biggest spawners I have is Alibaba, which I feel is on a very similar projection to Amazon but is just a little bit behind in its timeline.
Alibaba has a multitude of seed businesses in its pipeline: Taobao deals, Taobao Live, Taoxianda, Taobao Short Video, Taobao Grocery, and more. Many of their businesses have moved from Seed to Traction to Profitability. Alibaba Cloud looks like it's moving into profitability with its first quarter of profits. From what I read it looks like this might still take some time to regularly be profitable, but I think this will be a huge income generator for them for a very long time.
Mohnish outlines 4 types of Spawners:
Adjacent Spawners create related businesses.
Embryonic Spawners acquire businesses and nurture them into much larger enterprises.
Cloner Spawners do not innovate. They copy successful products.
Non-Adjacent Spawners create or buy new, unrelated business areas.
He discusses "Apex Spawners" as well, which "continuously deploys the spawning tactics of all four categories." Apex spawners are very rare, but if you can find one, you will probably do really well as these companies blast out multiple streams of revenue and can keep growing simply by growing individual spawns.
- Most companies aren't spawners
- Those that do may end up screwing it up (Mcdonalds with their share of Chipotle, and Ford with Land Rover and Jaguar)
- Companies can be successful if they aren't spawners: Moutai and Costco
- Spawning extends runways of companies that are dying: GE, Microsoft, and IBM
The 50 Billion Rule
- There were over 3700 IPOs in the US in the last 20 years
- Only 9 businesses that IPO'd in the last 20 years exceed a $100 billion market cap
- With this information, you can assume that it will very very difficult for companies you invest in to exceed $50b
- Use this to your advantage:
- How can we get a 10 bagger in 10 years?
- 15% CAGR gives us a 4x in 10 years, add a bigger multiple and we can get an 8-12 bagger in 10 years
- How can we get a 100 bagger in 20 years?
- 15% CAGR with multiple expansions can get us to 40x in 20 years. But if we can simply add a few spawners that can be successful, we can find a way to a 100 bagger
As I listen to this, I'm beginning to understand more and more how he views Shinoken. Shinoken is a company that I will be investing heavily in. There is a tonne of coverage on it on VIC and Raper Capital, look it up. But if you look at the roadmap of the company, how they started as a simple buildings material company all the way to where they are now: RE Sales, RE Management, Building Construction, Gas and Electricity Services, Elderly Care, and overseas expansion.
They are a true spawner. They have numerous adjacent spawners. They acquired their construction business and they have grown it very well. Now they are planning on selling their properties to REIT which they can use multiple spawners to build and manage. They have a goal of creating their own Real Estate as a Service platform to make real estate investing more inclusive. So yes, they have many opportunities ahead as what I believe is an Apex Spawner.
Back to the 100 baggers... His main point is since 50b is the ceiling of most IPO's, you will want to make sure the majority of companies you buy are under 500 million dollars in market cap. This allows for the company to grow to that 50b mark, giving you a 100 bagger.
Here are his Spawnings Rules:
- Assume no business will exceed $50 billion market cap
- If you want a 10 bagger, you will need to buy below $5b market cap, and for a 100 bagger you will need to buy under $500m market cap
- You must look at the business to find out if they are spawners or not:
- Does it have strong spawning DNA?
- Does it have a great capital allocator at the helm?
- Don't make unrealistic assumptions. The future should be obvious from past behaviour and success/failures
- MP wants to achieve a portfolio of all apex spawners with a <$500m market cap. This is his holy grail.
- Be a silent partner of Jack Ma or Sam Walton before they were "big"
- "The first rule of compounding is to never interrupt it unnecessarily" - Charlie Munger
- Even if you exit early, you will likely see great results, but obviously, try to maintain conviction until you see real reasons to get out
- Only exit, when it's the absolutely clear secular decline has started, not when it meets or exceeds the intrinsic value
- Ignore temporary headwinds, don't think of these as "end of times"
- If you find a spawner, you can't apply a discount to what this spawn is worth. You should however be willing to pay more for what its current core business is.
- You should be willing to pay a premium for its "Spawner DNA"
For instance, if company XYZ is selling for $400m today and you can see a path to 15% growth for the next 10-20 years you can see how this would be a 40 bagger. This will take it to $16 billion. If you can see a few valuable spawners along the way valued at $5-$10 billion each, you can see how accretive that can be to get you to a $50 billion evaluation and to the illustrious 100-bagger.
- Avoid fake spawners, but making sure to only invest in obvious spawners, if they aren't obvious, skip it
- Common element of management that is in spawners is having a long history (10+ years) of previous successful spawning
- Great spawners don't make large early bets, they want a "free lunch." If something works, put more money in. If it has no traction, dump it.
- If they fail, its a rounding error
- It's better to miss a spawner than to mistake a non-spawner for a spawner
One of my biggest takeaways that MP doesn't mention directly is that these spawner companies give you a better margin of safety on your investments. Let's say their core segment of business begins fading in your initial assessment (whether by choice or by increased competition) this can easily decrease their earnings from your initial analysis. But if they have multiple spawning opportunities and a few of them begin bearing fruit, this can easily make up for decreases in certain segments.
The hard part is evaluating if this can actually happen as it requires you to forecast the future. If you are seeing a business where their main segment is reducing but they aren't able to replace the lost sales from other areas, then it might be a pass. But if they are intentionally trying to reduce from one area and replace it with another, and it's obvious, this can show a very good spawner's hand.
Lastly, when I look at my portfolio I am only seeing a few spawners. This will be something I look to rectify as I learn more and find more opportunities. Think about your portfolio or other great companies that are on your watchlist. Are they true apex spawners?
Interested in more mental models discussing the Spawner Framework, such as:
The role of specialist vs generalist in an ecosystem.
How spawners have a leg up on the competition when you view the evolution of business life as an algorithm.
Why spawners can fill the niche of building a great business that no one is building, as outlined by Peter Thiel.
Then check out my blog posts here.
For the full discussion and lecture look here: