Robert Robotti, President of Robotti & Company, offered a powerful framework that marries a “grassroots macro” perspective with a deep-value, contrarian approach to investing in overlooked industrial sectors. His central thesis is that North America possesses a sustainable, multi-decade competitive advantage rooted in low-cost energy, a reality that is reversing decades of industrial offshoring.
The North American Advantage and the Virtue of Cyclicality
Bob’s core macro call is that cheap and abundant natural gas provides a durable cost advantage to North American manufacturing. This will fuel a long-term re-industrialization, driving secular demand for basic materials like steel, cement, and chemicals. This perspective informs his search for opportunities in businesses that the market has left for dead.
He champions a contrarian philosophy, arguing that the most fertile ground for investment is in industries where the business has “stayed bad as long as it did.” Prolonged downturns are cathartic; they force consolidation, eliminate weak players, and allow disciplined operators to acquire assets at fire-sale prices. This process can fundamentally transform an industry’s structure and future profitability. His firm’s highly successful investment in Builders FirstSource (Nasdaq: BLDR) is the prime example. They invested during the depths of the housing crisis, and the prolonged downturn allowed the company to consolidate the distribution industry, emerging as a much stronger and more profitable business than it was pre-crisis.
This leads to his focus on what he calls “zombie companies,” particularly within the Russell 2000 index. While many dismiss these non-earning companies as uninvestable, Bob sees a rich hunting ground for businesses with valuable assets trading at a fraction of their replacement cost, where consolidation has the potential to unlock latent earning power.
Investment Theses Driven by “Grassroots Macro”
Land Companies (the ultimate bottleneck): Bob’s firm has invested in land development companies like Five Point Holdings (NYSE: FPH). His thesis is that the scarcest resource in the housing ecosystem is permitted, developable land. He views companies like Five Point as “value traps unchained.” After years of burning cash and being ignored by the market, they are now beginning to systematically monetize their irreplaceable land assets, generating enormous cash flows that are not yet reflected in their depressed stock prices.
Canadian Resources (unlocking global markets): Bob is bullish on Canadian natural gas and lumber producers. The thesis for gas producers is that new LNG export infrastructure connecting Canada’s west coast to Asia will be a game-changer. It will allow them to sell their vast, low-cost resources into the premium-priced Asian market, breaking their historical dependence on the discounted AECO hub price in North America. For lumber companies like Interfor (TSX: IFP), he sees a classic cyclical setup. Current low prices are forcing mill closures and reducing capacity. When housing demand normalizes, the lack of inventory and reduced supply will lead to a sharp spike in lumber prices and producer profitability.
Chemicals (follow the smart money): Bob highlighted the chlor-alkali sector, noting that Berkshire Hathaway’s recent acquisition of OxyChem signals deep value in the industry. He argued that publicly traded competitors like Olin (NYSE: OLN) and Westlake (NYSE: WLK) can be acquired in the public market for a fraction of the multiple Berkshire paid. The industry’s profitability is currently depressed due to China dumping excess product on the global market. However, this is a temporary headwind. The long-term, structural advantage for North American producers is their access to cheap natural gas feedstock, a cost advantage that will ultimately prevail and drive a powerful earnings recovery. This illustrates a clear causal chain: a durable macro advantage (cheap energy) creates a specific, actionable investment opportunity in an industry (chemicals) that is currently mispriced due to a temporary, cyclical headwind (Chinese dumping).
Let’s go deeper.
Transcript
The following transcript has been lightly edited for readability.
John Mihaljevic: Bob, where are you focusing on today?
Bob Robotti: One of our investment themes is in areas where I have core competency. One is conventional oil and gas; I’ve been an investor in it for 50 years. The opportunity set that I clearly see is that North America is competitively advantaged because it has low-cost energy. That is a sustainable advantage that will probably not last only for 10 years; it’s probably 20 years and longer. Energy in North America is cheaper than it is in most and every other developed market of the world. If you’re an energy-intensive business, therefore, you’re competitively advantaged being here, as opposed to when I got out of college 50 years ago, you were not competitively advantaged if you were in America.
Industry left North America, but things are changing. What’s confusing and delaying that process is the goddamn government. Whether it’s Biden with carrots, saying, “we’re going to give investment tax credits, but I don’t know when it’s going to come.” It’s going to come, but we have to do the approval and it never came. Or whether it’s sticks, and that’s tariffs, I don’t know what to do. I’m not going to invest money because I’m not really sure what to do. Eventually, that stuff goes away and it’s the underlying economics that will drive the situation. And that is we are competitively advantaged. So government, just stay out of the way.
That will manifest itself, and it already is. You see things like Nippon Steel wanting to buy US Steel. The steel business in North America is attractive because we’re going to need steel, we’re going to need cement, we’re going to need chemicals, because we’re going to build out a whole bunch of things including data centers and all this other stuff. The needs for demands for physical things have become obscured.
I hear Michael Green talk about, “Well, my friends who are in value and commodities say, ‘Hey, it’s only this tiny little piece,’” and he says, “It doesn’t matter anymore because it’s an irrelevancy.” I think that’s great because it’s not an irrelevancy. You’ve taken it for granted. You couldn’t care less about the fact that the price doubles and triples because it’s a small portion of your cost of goods sold, but that’s great. That means I double and triple the price of my product and make a lot more money.
What you’ve had in North America over an extended amount of time is huge consolidation. A lot of what we do is we look for cyclical businesses that have gone through dramatic consolidation which has potentially even transformed the business into something different than what it was in the past. A clear example of the success we got lucky on was Builders FirstSource, a distributor of lumber and lumber sheet goods to the home building business. We bought it when nobody wanted to own the business. The housing business had fallen out; there was no business. We weren’t building homes in America, but that’s not a persistent situation. I said, “In five years’ time we’re going to be back to building a million homes because that’s the 50-year average.” Of course, it didn’t take us five years to get there; it took us 10 years. That’s what also happens: things take longer to happen than you think they will.
As I said to Paul Levy, the chairman of Builders FirstSource a year, year and a half ago, “We were so fortunate that the business stayed bad as long as it did.” Because the longer it stays bad, the more cathartic, the more opportunities, the more consolidation. You wouldn’t have bought ProBuild if the business had recovered by 2015. Because the Johnson family would not have said, “I’m not writing another check for $100 million to keep the thing afloat.” Instead, they put it up for sale, you bought it, and that was the beginning of the consolidation. So you have five or six of the largest distributors consolidated. People don’t appreciate the market share that they have in the distribution of lumber and lumber sheet goods. It’s a different business than what it was in its entire life. It’s transformed. I think there’s a lot of repeating stories and opportunities to identify things. There are a whole bunch of opportunities everywhere.
John: How about a few names of companies where you think the story is yet to play out, where we can get in right now?
Bob: Continuing on this. We invested in Builders FirstSource in 2009. In 2010, one of the competitors had gone into bankruptcy. It was the Boise Cascade distribution business and it came out of bankruptcy. When it did, it never relisted, never did anything. That was great. We got the opportunity to buy and we accumulated 22% of the company. We bought out SunTrust, we bought out Raymond James, we bought out a bunch of the ag banks out West because the banks got stuck owning stock in a home building distribution business they had no interest in owning. We bought these things for a fraction of what they were worth.
In accumulating 22%, I went to Davidson Kempner who owned 28%, and I said, “We should have adult supervision on the board, because the board and the management don’t own any stock. You’re going to wake up tomorrow and they’re going to make an acquisition, grow the business 20%, and issue 45% of the outstanding stock. To them, they think that’s a great deal, and you and I are going to get diluted in that process.” So they put Gene Davis on and I joined the board.
Being on the board gave me insight into how that business works and the granularity of it. The business that we had in Boise Cascade and the business that we had in Salt Lake City and the business we had in Dallas, Fort Worth were totally different businesses with different customers selling different products. It was a different way to go to market. The array of products that we sold were things that have 2% margins on them and 15% margins on them. The mix was also something that you couldn’t appreciate and understand how that’s going to drive the profitability of this business. When people would say, “What’s the model look like, what did it earn in the past?” I said, “You can’t look at the model for the past. The past is not going to give you any insight into what this business is enabled to do on a go-forward basis.”
That’s what happens. There are a lot of things today that still haven’t recuperated, haven’t really seen the opportunity set come to play. You have to turn over a lot of rocks, you have to kiss a lot of frogs. When I spoke at Grant’s last year, my comment was that people say the Russell 2000 is a terrible index. The reason it’s a terrible index is because half the stocks in it don’t make any money and they’re terrible. They’re all these zombie companies. My talk was that the opportunity is in these zombie companies. There’s a whole plethora of zombie companies. By turning over the rocks and looking, you see businesses that you can buy for a fraction of what it would cost to build, in something that other people have left, where consolidation has potentially transformed the business.
The opportunity set is great and large and it’s ignored. People say, “Well, performance has been tough.” Of course, because these stocks are still cheap. That’s what we want to do. You want to own a business that is compounding and adding value. Forget about the public market; it’s a marker. The opportunity set is not, “Oh, all the money is in the Mag 7.” In my mind, the opportunity set is in private capital. To me, that’s unbelievable, because private capital is paying 12, 13, 14 times EBITDA for shitty businesses that have been owned for the last 20 years by four serial owners, each of whom only wanted to own it to take out whatever cash they could. What happens to a business where you don’t invest for the future because you don’t want to own the business in the future? And those businesses are trading at those kinds of values with those kinds of multiples on them.
In the meantime, you can go into the public market and you can buy a company with a multiple half of that, with a strong balance sheet that maybe has net cash. Maybe the earnings haven’t really manifested, but it gives you the opportunity to do something. The opportunity set between private equity, with all of its issues, and public markets in the same businesses, it’s unbelievably different. That’s a group that’s really going to be part of the disposition of capital over the next decade, with money moving out and the poor returns you’re going to get.
I pity the guy with the democratization of private equity. What that means is, “Let’s screw the little guy because the big guy doesn’t want in anymore.” He realizes this problem and he can’t get out. So how do I get somebody else in this thing? And when I do that, oh, I have to have an extra fee because I have an extra distribution layer on it. So you have the odd thing, if I’m in the public markets, I have to have an index fund and pay no fees. I don’t want to pay any fees. In this part of the market, I’ll pay fee on top of fee on top of fee on top of fee because you tell me the results are okay. Come on.
That business was LBOs. They bought businesses, probably in the public markets, that traded far below what they were worth. They identified the opportunity, they levered it up, they then manufactured and figured out the business and broke apart its pieces and made a lot of money. That business that used to be about returns on capital, today it’s all about asset accumulation. I saw a chart where KKR says, “This is our business, this is our growth in assets,” and today LBOs are 25% of the money that they manage. 75% are in other businesses. Put money into real estate, we’re putting money into private equity, we’re putting money into private credit—all these and we’re driving huge fees. It’s a fee business. It is not finding things that are cheap and making money. That’s what LBOs were when they started. It has totally transformed today. At best, it’s going to have no returns at all. At worst, there’s a whole bunch of bad things that could unravel, especially if now we’re putting pension money in. Now we’re doing evergreen funds. Therefore, there’s no exit for that. How does that work? It is clear there is a huge problem that is developing.
John: You call it democratization, I call it Chamath-ization. Same thing.
Audience Member: I’m curious about the small, mid-sized publicly traded companies that are zombies. For them to turn around, they need really great operators. It costs a lot more to start something from scratch than what you can buy it for, but you have to have good operators. How do you marry those two things together?
Bob: My experience tells me that all investing is a mosaic, and you look for different things. Of course, you want a better manager, because a better manager in a difficult situation has a phenomenal opportunity set to grow the business and be opportunistic. That’s what we look for. We look to buy businesses for a fraction of what they’re worth, but importantly, because of the situation, I can deploy capital and get really substantial incremental returns. We’re looking for growth companies. We happen to buy cheap companies, but it’s all about the growth opportunity.
Now, I will say sometimes the business itself, you don’t need a great manager. My experience with Builders FirstSource and BMC, I do not believe that the CEO who turned around BMC was anything to write home about. Yet that company did really well because its business had been so depressed. It’s a decentralized business. We had 25 locations where we did business across the country. Who ran that business in Seattle? Who ran that business in Denver? Who ran the business in Dallas? Those were the critical managers. Now corporate strategy and how you work things, it would be great to have a CEO who can intelligently do that and optimize the situation. But I don’t necessarily think you need that in some of these businesses. It’s great to get, but if there’s someone who’s not necessarily a great manager, the assets themselves and the situation can develop and the investment can turn out well. Not optimally, yeah.
Audience Member: I wanted to get your feedback on Tidewater, which is a very significant holding of yours. Can you talk us through what you are seeing as the latest developments in that business?
Bob: All my life I’ve always said, “We don’t care about the macro, it’s all about individual stock analysis, bottom-up.” The fact of the matter is that a lot of what we do is actually macro-based. There is this idea of grassroots macroeconomics. You look at an industry, you look at a business, and you get a certain understanding of a portion of the economic environment. The investments that I’m describing, North American industrial businesses, are competitively advantaged because they have a lower cost of energy than their competitors around the world. And they are in the best end market, so they have that natural advantage. That is a macro call.
The Canadian oil and gas companies that we think are phenomenally great investments have, yes, low valuations, and on a value bottom-up stock basis, they make sense. But there’s a huge amount of resource in a politically stable place that has now the advantage of being able to sell to some market other than the United States. Instead of selling it at the bottom of the market, they now have a gas pipeline that goes to the coast and they can sell to Japan. Instead of selling at a discounted price into North America, they sell to Japan. More and more of the volumes will move there. The price realization is going to substantially improve. The resource is there because why would I drill a gas well? I can’t; half the year it’s a negative price. I can’t get rid of this stuff. The resource opportunity in Canada is huge. That’s a macro call in many ways.
We’re in all the home builders too. Why do I look at the home builders? I’m thinking the same kind of macro thing. It is a demographic issue. The demographics say we need more homes. And we’re not putting them out there at the rate we need to put them. In addition to owning the home builders, we own the distributors, and then we also own the land companies, because the shortest asset there is today in the home building business is land. Developable land that you can get permitted to put a home on is a scarce resource. We’ve identified some of those companies that can really leverage that opportunity.
They’re great too, because what’s it worth? One of my talks was “Value Traps Unchained.” What’s a value trap? A value trap is a company that has extremely valuable assets with latent earnings potential that haven’t manifested. You own it because you think, “I see that asset. I know that that asset’s a fraction of what you can buy it for, and it should make good money.” And yet the economics don’t come to the point where it happens and it gets delayed. At some point, it happens. These things manifest. In the meantime, they’re considered value traps, but you can identify them.
So in Five Point, which we bought a year ago, in the two years prior to that, it had gone from burning $100 million a year to generating $200 million a year. The stock went from 14 to two. Makes sense. But in the last two years, they’re generating $200 million a year, and it’s from one asset that you could see is going to do that for the next five years. The balance sheet now is improved. You have no net debt. And the stock’s still depressed because there was someone who bought it and it was a value trap. He was in it, he was liquidating his fund, and he couldn’t get out of it.
Fortunately, I went to Bill Martin, of Raging Capital. Last year in September, he had an event and he said, as a throwaway comment, “Five Point’s interesting.” I went to him at the cocktail party and said, “I’m interested in Five Point. What do you know?” He said, “I know the guy’s selling it. I know he’s liquidating his fund.” I said, “You want to buy it?” He said, “Yeah.” He bought 2.6 million shares, we bought 6.9 million shares. We paid three and change and we got the seller out of the market. Therefore, the fundamentals that had been displaying themselves manifested. You could buy the company for what one asset alone is worth because you can identify the value, as it’s now selling that land on a repeatable basis in a place, Orange County, where the other guy who used to do it for decades didn’t have any land anymore. So land’s gone away.
Land appreciates at 5% a year? Not if you’re in California. The stuff they sold in ‘09 went for $5 million an acre. The stuff they sold last year went for $10 million an acre. The price of something in a market that has high demand and no supply, and if you’ve got permitted land that you can develop and sell to a home builder, it’s worth a whole lot of money. Those opportunities happen and value traps suddenly manifest new opportunities. Then the opportunity is substantially more than where the stock trades up to because there are all these other things that then come together.
But I didn’t answer the question because you asked me about Tidewater, and I didn’t say anything about it.
John: And you presented Five Point back in January at MOI’s Best Ideas conference and everybody in the room bought the stock, so congratulations.
Audience Member: Just following up on your comments on Canadian natural gas. AECO prices have been incredibly weak versus Henry Hub and the one concern that I have is just all the gas there is in Canada. There’s just so much of it. Would love your thoughts on how this may play out over the next few years. Thanks.
Bob: The world’s short of energy, and the demands for energy are growing. Natural gas is clearly a critical resource—half the CO2 when you burn it as coal and a whole bunch of other positive things. Therefore, the demand for natural gas is going to continue to increase. What has the United States done with natural gas production over the last 10 years? It’s more than doubled production. And we continue to sell more and more around the world. Clearly, we’re going to be selling most of the LNG to Europe; most of the gas they’re using is going to come from us. The demand for gas continues to grow. Even in the United States, there’s some limit to how much we can do.
Once the Canadian stuff gets access to the Asian markets, the Asian markets’ appetite is insatiable. I really do think that’s the opportunity. Yes, AECO prices are for shit. That means you can buy the stocks because the problem with the world today is there’s more and more information, and it comes faster and faster. What do you do with the information? You feel compelled to act on it, as opposed to doing nothing, because most of the information is irrelevant. Since everyone’s focus is shorter and shorter term because of more and more information, it’s like, what’s the effect on this quarter’s earnings? It could be negative on this quarter’s earnings, but that fact, in many ways, we look at and say, “Wow, that’s great because of what that means for the three- to five-year outlook in this business. That’s going to drive huge improvements.” But it’s not going to do it this quarter. Therefore, the stock goes down. I’d argue that there are plenty of cases where you could go through the economics of the business and say the earnings power of that business just got improved by that event.
There’s a phrase from Bernard Baruch: “Information is no substitute for thinking.” We are focused on thinking certain ways. He talked about behavioral bias and recency bias, about what the world has done since the financial crisis, what markets are doing, and what markets have evolved to. Markets are not about price discovery. Stock prices are not determined by someone who did an analysis and said, “I want to own that company” and is buying it, or “I don’t want to own it anymore, I want to sell it.” That’s not the analysis. It’s all about flows of funds and what index it is in. I want to be in housing-related things, so I’m in, I’m out, I’m in, I’m out. That’s great because the volatility, Mr. Market, has become more manic-depressive. That’s what you love. The opportunity set is growing because price disparity and price mispricing are increasing. For someone who understands that and looks at that, the world is evolving favorably. In the short term, it may hurt your performance because that month you may be down pretty significantly. But the opportunity set that that brings for the longer-term results, which is what we’re all in this for, gets better and better.
Audience Member: Could you comment on Interfor, the Canadian company that you’ve got a position in?
Bob: Sure. We think that all the Canadian publicly traded lumber companies today sell at a fraction of what it would cost to build those businesses. In the meantime, we think that the demand for lumber in the next number of years is going to be at or above the current level. Over the last couple of years, pricing came down significantly, we think in part because the distribution system is vastly different than it ever was before. When you have a consolidated distributed group, Builders FirstSource doesn’t need to carry inventory, because if they need a piece of lumber, there’s every lumber company dying to give them a piece of lumber. There’s been disintermediation, elimination of inventories, and that’s hurt demand in the short term.
The response is, since every mill—when we spoke to Interfor, they did a financing last week, a secondary, they raised some money to shore up the balance sheet—they pointed out that the price of lumber in every market, whether that’s Canada or the Southeast United States, is below break even. More and more mills, like last year, will go offline, and permanently close. Interfor has two plants down in the Carolinas; they’ve closed them down and they’re selling off the real estate because it’s worth more, so those plants are never coming back. Capacity continues to ratchet back to a lower level of demand, far below what the normalized level is.
What happens in the next year or two? If you had asked me a year or two ago, I would have said a year or two, and now it’s a year or two from now. As a value investor, I’m too soon. It takes longer to happen. Economics take longer than you think they will, but then can happen faster than you think they will. I think we’re set up for the same thing happening which happened in ‘22. When the business does turn, there is demand for lumber, there is no inventory, and the pricing will once again spike.
Builders FirstSource will love that because they make a margin on every piece of lumber they sell. If it’s at $300 a board foot, they make 10% on $300 a board foot. If it’s $600 a board foot, it’s 10% on $600 a board foot. And if it’s $1,200 a board foot, it’s 10%, but probably more because as prices start to move violently, they have a lot of opportunity to cherry-pick prices and capture part of that price increase. We think that in three to five years, with the demand for lumber going back to a normalized place and capacity being ratcheted back, Builders makes really good money in that environment. They’ll have fewer shares outstanding because they aggressively buy back stock. In the meantime, all the lumber companies will be minting money because you’re buying them for one or two times earnings today. In the meantime, business stays tough. They levered up, they made some acquisitions, they made a mistake, and that’s why they had to do this dilutive transaction. So that’s hurt them. I’ve been disappointed in how Interfor has played out. Sure.
Audience Member: You own a ton of Westlake, we own a bunch of Olin. Could you comment on Berkshire’s deal to buy Oxy’s chemical business and how you see that whole chlor-alkali landscape these days?
Bob: You should get rid of all your Olin and sell Westlake Chemical because Warren Buffett’s lost his marbles; he doesn’t know what the hell he’s doing. He’s paying $10 billion to buy OxyChem. OxyChem is mainly a chlor-alkali business. Olin is clearly number one, and Westlake is the other top player, and Westlake is fully integrated. You can buy the two public companies for much less than what he’s paying for OxyChem.
For him to be buying OxyChem, the chemical business in North America today, in spite of its huge advantage... to make a chemical, you have to start with a hydrocarbon. You have to start with naphtha, oil; you start with coal in China; you start with natural gas in North America. Therefore, you’re buying natural gas at three; 3 x 6 is 18. Your main input cost is $18. You do that in Europe and it costs you $70. You do it in China, it maybe costs a little bit less, but you create a huge amount of pollution because you’re using coal to make a petrochemical. American companies are competitively advantaged.
In spite of that, two things are clear. One is Volcker didn’t cure inflation. The Fed doesn’t control inflation. At the margin, it can do something. It doesn’t control inflation. What took inflation away was not Volcker, it was China. We all know that. For 40 years, we bought everything from China because they made it much cheaper than we did. There was a huge reduction in costs. That’s what took inflation away. It was not the Fed policy. In the last two years, that’s what’s happened. We were concerned about inflation, so the Fed did something. Two and a half years ago, it raised rates. That was supposed to slow the economy and therefore slow employment growth and slow wage growth. What happened? Employment growth continued to go up, wage growth continued to go up. The lever they pulled didn’t work. And what happened? Inflation came down. Why? Because China is in recession. That’s the recession that matters. China drives 50% of everything in the world. They make it all. And they’re not in it for profit.
Their steel mills continue to pump out steel even though they have no demand for it in-country. What do they do? They sell it as exports. The trade deficit of China with everybody, not just us, with the world was a record number last year because they’re dumping stuff all over. They make it, they lose money, they don’t care. They sell it around the world. That depresses prices. It’s China that once again took inflation out of the equation. That’s not a permanent situation. China’s not permanently going to overproduce. It’s going to right-size, it’s going to have demand, its economy is going to recover. When China recovers, that’s going to radically change.
In the meantime, that all the way goes back to OxyChem and chlor-alkali and Olin and Westlake Chemical because the products that they make, including epoxy, have been dumped out of China. China was an importer and now suddenly is an exporter of all those things and has been depressing prices around the world. That’s not a permanent situation. My guess is that’s the opportunity in Olin, which has taken it on the chin and reduced production to still make some money out of the business. But it is a product that is competing with Chinese product being dumped into this country. I do not think that is a sustainable situation.
Instead, what’s the number in a mid-cycle? Does Olin do 2 billion, 3 billion of cash flow? Does it have a two and a half billion dollar market cap today? Yeah. And it has 3 billion in debt, but when they minted money five years ago, the debt went to next to nothing and was clearly manageable. The same thing will happen. The debt goes away and you’ve only paid two and a half billion because balance sheets and enterprise values are transitory. They change over time. In a business that’s going to generate free cash and can potentially substantially change the debt equation, that has a huge impact on what you’re really paying for that business, to the extent that there is cash flow and the debt is manageable and doesn’t grab you and take you under.
John: And we saw that with the coal companies as well as the ocean shippers where they can flip from debt to net cash pretty quickly.
Bob: Zombie and asset plays stay that way until earnings come, because earnings are the thing that drive stocks. It’s not asset values, because nobody knows what the hell an asset value is, especially in certain assets that are harder to value. Like the land companies that we own, when you’re not selling land, the land’s worth 10, it’s worth 100, who the hell knows? And if I don’t know, 10 is all I’m going to pay for it. Therefore it’s given away, but until it actually generates cash, you don’t realize how much it’s really worth and you can’t put a value on it. That flip, when it happens, is the critical thing that you’re looking for. What are the industry fundamentals? You don’t necessarily need a good manager if the industry fundamentals radically change.
Earnings are the things that drive stock prices. That’s without a doubt. A couple of years ago, they decided to kick Exxon out of the Dow and they put Salesforce.com into the Dow. Since then, Salesforce.com has done nothing but go flat because it’s not being in an index that drives the stock price. The performance of the company was they made some bad acquisitions, the earnings really haven’t grown, the business really hasn’t done well, and so it’s been a flat line. In the meantime, they kept Chevron in because everybody hates Exxon; it’s the evil empire. Let’s kick Exxon out and we’ll keep Chevron in. Chevron’s done much better. In the meantime, the one they kicked out, Exxon, has done much better than both of them. It was the fundamentals of the business that drove the stock price over time. In the end, the market is a weighing machine. That is for sure true. It takes longer to go about doing its weighing and people could ignore it for an extended amount of time, but eventually, that manifests itself.
That’s what happened with Tidewater, because eventually, there were assets that were definitely worth a lot more money, but it wasn’t generating cash. Two or three years ago, suddenly the supply and demand came into balance, the rates went up dramatically, the utilization went up dramatically, and suddenly it was minting money. When people saw that, today’s market mechanisms gave you these great opportunities, because the market then added it to the S&P 600 small-cap index. That meant that on 52 million shares outstanding of Tidewater, the market had to buy 6 million shares because that’s how much money was indexed to that index. So there were buyers without regard to what was happening tomorrow. Then you get the momentum, and then some algorithm looks—AI is great to identify stocks that are going up and figuring which ones you want to buy. It’s not looking at fundamental data and doing an analysis and saying what the earnings potential of the business is. It’s probably looking at stock movements.
Then the stock goes from 15 to 30 to 60 to 100. At 100, insiders, including myself, sold some stock, because it was worth more than that, but it was ahead of itself. The next thing you know, the business slows down, and then someone woke up and said, “What the hell do I own? I own an oil service company? Get me out of that thing.” The next thing you know, the stock’s at 40. To have that kind of crazy movement is great. I bought more stock when it came back down. The company bought all it could, bought $90 million worth of stock for $39 a share. Thank you very much, Mr. Market. We’ll take advantage of it. We’ll increase the per-share earnings capacity of this business by buying pieces of it at far less than what it’s worth.
I do sit on the boards of a bunch of these companies, and we think that’s a critical thing. The insight it gives you, the understanding of the company, the understanding it gives you of the entire industry—you put in a lot more pieces of the puzzle by being on the board. The other advantage is you have a seat at the table. When management is thinking about deploying capital, you can be there to work with the other directors on how to do things that substantially increase the opportunity and the earnings power of the business. Our board service on companies is a critical thing in continuing to drive activities and decisions that further increase shareholder value.
John: Bob, you mentioned chemicals. Where are we in the trough of the cycle where earnings are not showing the normalized, mid-cycle earning power? Chemicals, steel, anything else we should look at?
Bob: John, go ahead, pull out the kryptonite and hang it out to me. Tell me when is the bottom in these things. I have a 40-year record of being wrong consistently on that topic. I don’t know the timing, but I know the inevitability. I do not know the timing.
The inevitability is all those things will be in higher demand and the supply will be limited and will have pricing power. Therefore, that will be strong free cash flows and earnings in chemicals in North America, and steel pretty much around the world but definitely in North America. Cement businesses, there’s a whole bunch of industrial businesses that are well-positioned to have extremely strong earnings on a go-forward basis.
The lumber business is one in which nobody wants to own the mills, especially since they’re also Canadian. And you have this whole tariff issue. The fact of the matter is, Trump can put a tariff on lumber. But he should speak to God, because God put that tree in Canada. Spruce, pine, and fir don’t grow in the Southeast. There is pine that grows quickly, but that pine is different from the spruce and fir that grow in the north. You’ve got some in the Northwest, but there’s a limited amount you can harvest out of Washington and Oregon. Most of it’s in Canada. God put the trees in Canada and those are the trees that you need as part of the complement. You’re going to use the trees you need because that’s where they are. And you can’t substitute them because it’s a different product.
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