Franchise fortification is the focal point of strategic decisions and resource allocation.  Microsoft Office strikes me as a great positive example.  DOS/Windows was Microsoft’s franchise, and for decades they applied their resources on the protection of this franchise.  Microsoft Office was one of their major business expansions.  At the time of Office’s emergence, Lotus 123 was the dominent spreadsheet application and Wordperfect led word processing platforms.

DOS/Windows provided Microsoft with a competitive edge that could be leveraged in its Office aspiration, allowing Microsoft to overcome the headstart of 123 and Wordperfect.  Moreover, success would further strengthen its DOS/Windows franchise, as the prevalence of Office makes DOS/Windows platform harder to displace.  A sustainable advantage of Office was its preferential access to future DOS/Windows development.  The result: Office wins. 123 and Wordperfect lose.  Bill Gates becomes the world’s richest person.  Microsoft is sued for engaging in monopoly practices.

Microsoft successfully exploited and fortified its franchise.


The expression “sustainable competitive advantage” is commonly used in business. It is a section title somewhere in most business plans. It is talked about in the hallway of most large companies. I believe it has becomes so commonplace that it isn’t treated seriously enough. Not even close!

“Our advantage is our people.” I’ve heard this so many times. “Our people are better than their people.” Really? I’ll take Google’s search engine. You take their best dozen people. Let’s see who wins. It might be laudable to want to credit “our people” as a company’s key advantage but this strikes me as a feel-good distraction from zeroing in on true advantages and disadvantages.

“We are great at execution.” Slightly more specific words might substitute for execution, such as “marketing”, “operations”, “customer service”or “engineering”. There are certain companies who have developed a franchise in one of these areas, such as HP for technical innovation, but for the most part, these are generic expressions that speak to execution ability. Most companies believe they are good at execution. Most engineering departments believe they are exceptional at engineering. However “we execute well” is not a suitable franchise. Said slightly differently, strong execution, in a general sense, is not an adequate substitute for having a true franchise. If it is, your company has a potential problem. If competitors have a strong franchise, a company that relies primarily on execution has a much steeper hill to climb. Oakland A’s did very well in baseball for a number of years, despite having a payroll that was a fraction of the Yankees. At the end of the day, however, the Yank’s franchise proved too powerful to overcome.

Does your company have a strong franchise? What is it? How well does your company understand its franchise? On a relative basis, how well does it understand the strength and weaknesses of its franchise relative to those of its competitors? Does this understanding get shared with all employees? Is there a passion about what is special about the company?

I will emphasize the importance of not kidding oneself in this area. If your franchise is strong, you have a foundation to build on. Good business decisions are underpinned with a clear understanding of what specifically is the company’s pillar of strength. If your franchise is weak, it is extremely important to acknowledge this and use this understanding to make responsible decisions. Bad outcomes result when a company has a mis-understanding of either the nature of its franchise or its relative strength. Poor decisions are made. Years often go by before the implications are fully understood.

Know your franchise. Be honest about its strength. Use this information to improve your decision making.


In MBA lingo, consultants use the expression of “sustainable competitive advantage”. The less polished (like me) substitutes “unfair” for “sustainable”. Warren Buffett emphasizes the word “franchise”. When used in the context of Microsoft and Buffett’s billionaire best buddy, “monopoly” is used. The business expression “barriers to entry” conjures up a structural blockade, such as the walls of a castle, that keep the less advantaged from enjoying what the favored are trying to protect. The concept has many powerful descriptors because it is one of the most important keys to long term value creation.

Out of respect for Mr. Buffett (and because it is easier to write one word instead of three), franchise is the expression I will use. Franchise refers to the unique attributes and capabilities that a particular business enjoys which improves the likelihood it will generate better returns than its competitors. All things being equal, the company with a stronger franchise will prevail. They are more likely to find opportunities to earn excess returns for their investors. A strong franchise, Buffett stresses, also makes future cash flow streams more predictable. As we discussed in an earlier blog entry, predictable cash flows lead to making investment, rather than speculative, decisions.

A franchise can take many forms. A power brand identity, like Nike or Kraft, is one. Everyone know what a Kit Kat bar is and most people see it as a tasty treat. Feb Ex and UPS have vast distribution networks. ADT = security. Comcast has a coax cable attached to millions of homes. DOS/Windows made Gates a billionaire and earned his company the reputation of a monopolist. Wireless spectrum is a limited commodity—if you have a lot of it, you can pursue business opportunities that very few others can even contemplate. Warren Buffett places great importance in maintaining Berkshire’s reputation as a much better buyer of your business than a strategic buyer (who will gobble you up) or a private equity firm (who will chew you up alive).

Franchises provide an unfair edge. Nearly all businesses that do well for their investors over the long term have a strong franchise. It is much more likely that a business will have predictable cash flows if it has a franchise. In the next blog, we will continue the discussion of franchises.


Is the job of a CEO to make the stock price as high as possible?  Hmmm.  If that sounds like a trick question, that’s because it is.  The answer, according the the Oracle himself, is no.  Having lived through the Telecom Boom and subsequent meltdown, I appreciate the imporance of this issue.

Buffett is the CEO of Berkshire Hathaway.  He tells his shareholders that he aims to have his stock price reflect the intrinsic value of his company, not more and not less.  His reasoning is that he does not want one class of shareholders (those who own the stock today, for example) to make money at the expense of another class of shareholders (that is, those who buy the stock tomorrow).  He desires his shareholders to record a gain or loss in value during their period of ownership that is proportional to the gain or loss in per-share intrinsic value.   He calls this Berkshire’s its-as-bad-to-be-overvalued-as-undervalued approach.

When it comes to value creation, the job of the CEO is to maximize Intrinsic Value.  If the company does a good job at this, it will produce a growing stock price.  But this principle (beyond just its merits from a fairness perspective) emphasizes that the focus needs to be on intrinsic value, not stock price.  It also puts a spotlight on the CEO’s job to communicate what he or she believes the true Intrinsic Value of the firm.

How many times during the bubble did executives seem to focus more on hyping their performance?  If the group was committed to Buffet’s stock-price-reflects-Intrinsic-Value principle, would the bubble would have been nearly as pronounced?  Would shareholders who exited in 2000 have benefited at the expense of those who dived in during 2001?  We will discuss accounting issues in subsequent blogs–but might have their been less accounting shenanigans had this principle been fully embraced.

Answers to this enormously tough quiz:  Most of the time; Probably Not; Certainly Not; I Doubt It.


In this entry, I want to cover an all-important business concept. An enterprise is worth what its free cash flows, appropriately discounted, are really going to be; this is my definition of Intrinsic Value.

At first blush, this might seem obvious to some. Or, to others, it might seem wrong.

For example, isn’t a public business worth its “enterprise value”? For those who don’t know, enterprise value can be calculated by summing the the value of debt and equity a public company. Equity value is basically stock prices times the number of shares outstanding. Many people would say an enterprise is worth its “enterprise value”.

University of Chicago, of which I am an alumni, invented the “efficient market theory”, which states that the most accurate estimate of of the value of a public company is it’s enterprise value. Warren Buffett likes to point out that if the efficient market theory was correct, he would more likely be a pan handler than the world’s 2nd richest man. Said differently, enterprise value is sometimes out of sync with intrinsic value.

Berkshire Hathaway has done phenomenally well because it has an incredible record of determining intrinsic value. It invests when it identifies situations where intrinsic value is materially higher than enterprise value.

In the previous blog entry, we discussed how important it is for a company to develop a strong expertise in forecasting cash flows. This skill set ensures that a company is capable of accurately estimating its enterprise value as well as how day to day business decisions either enhance or detract from value. The better a company does at predicting cash flows and in tying cash flows to the true value (true = intrinsic) of their enterprise, the more valuable the enterprise will be.

Warren Buffett has a strong conviction about an executives’ responsibility in communicating intrinsic value to its investors. His opinion might surprise you as it is arguably in contrast to the behavior of most public company CEOs.


The previous blog described the difference between “investing” and “speculating”. Investing is only possible if free cash flows can be forecasted with reasonable level of accuracy. Warren Buffett is an investor, not a speculator, so he only makes investments in companies whose cash flows he can predict with confidence.

A corrollary to this pricinciple pertains to how companies should be run. Management should make it an extremely high priority to build a strong corporate compentence around how to reliably forecast cash flows. This capability should be an integral part of their culture. It should permeate the entire employee base. The goal should be to get better and better at both the thoroughness and accuracy of cash flow forecasting.

Further, management should involve the entire organization in this quest. The financial forecasts should be communicated often. They should be communicated in a way that makes it easy for executives and employees alike to understand. Every month, the actual results should be compared to the forecast. Was the forcast as accurate as it should have been? How could it have been more accurate?

Each month, management should update the forecast. The update should reflect that 30 days elasped and more is known than a month ago. Enabled by this new information, the revised forecast should be better than the old one. Moreover, if the company is getting better at projecting cash flows, this should be reflected in bettering the forward looking view.

I know what you are thinking: “your company already does this”. I doubt it, at least not anywhere close to the degree I believe it should. I am not talking about an annual budget process. I am not allowing for making loose approximations. If it feels like a bureaucratic waste of time, you can trust we are talking about two different things. If it is primarily an excercise for the finance organization, a warning bell should go off. If the balance sheet is excluded from the exercise, substantial peices of cash flow are largely ignored. Finally, if the relationship between revenue, expense, and capital is extremely hard to follow, know that your company is nowhere close to having a competency in this most critical area.

Buffett requires that he stay grounded in companies that he can reliably predict cash flows. Else, he is a speculator. Executives should require that their companies develop a core competency in accurately predicting cash flows. Else, the executive is taking on more risk than he or she is required to. It is hard to overeestimate the importance of this point. The executive cannot allow its employees to make decisions based on unnecessary speculation. The executive should not force investors to have to speculate on what should be knowable.

I feel so strongly about this point that I make it a centerpiece of every company I am involved with. We will be better at predicting cash flows than any company out there, whether in our industry or not. We will do this not just to be better than our competitors, as this is too low a bar in my mind. Our goal is to earn exceptional returns for our investors. Knowing everything we can know about our future cash flows is the foundation for doing this.

In subseqent blogs, I will discuss what management’s responsibility should be relative to its stock price. As a teaser, I will offer a provactive clue: the executive’s job should not be making the stock be as high as possible. This topic is very related to the one convered in this blog. After discussing it, I will further discuss the concept covered in this blog, especially in the context of the great Telecom Boom, Bust, and Resurgence.


Buffett (or more precisely his mentor Ben Graham) makes a notable distinction between an “investor” and a “speculator”. “Investing” requires that companies be in a situation where a projection of cash flow can be made with a reasonable level of accuracy. “Speculating” is unavoidable if the ability to reasonably project cash flows is highly uncertain. A company might be exciting, popular, undergoing dramatic revenue growth, fundamentally changing the world, etc. But if you can’t make a reasonable multi-year prediction of cash flow, you can only guess at what the company is worth—hence you are speculating, not investing.

New companies almost always are speculative. However, fairly well established and successful companies may fall in this category as well.

Take Google as an example of the latter. It has been around for many years and by any definition has been ridiculously successful. Shareholders have many reasons to be legitimately excited about their future prospects. However, even the cream of the crop financial analyst with world class expertise in the Internet cannot derive a reliable prediction of Google’s cash flow over the coming years. Even if the analyst was given complete access to the proprietary information, and that of all its competitors, the cash flow would be plus or minus a lot. Therefore the intrinsic value of Google is simply unknowable.

At the time of this writing, Google trades for $711 per share and has a market cap of $222 billion dollars and a price to earning ratio of 55. Could you come up with a projection of cash flow to justify this? Yes, but it would involve “tremendous” revenue and cash flow growth. My guess is that you’d have a tough time finding someone who doesn’t believe Google will see “tremendous” revenue and cash flow growth. The problem is the range of disagreement on what “tremendous” means is, well, tremendous.

Google’s nearly certain tremendous growth is just as likely to result in valuation of $350 a share as it is to result in $711 or, for that matter, over $1,000 per share. Any of these can be legitimately justified. The result: if you are buying a share of Google in 2007, you must view yourself as a speculator not an investor.

For Google, this won’t change in 2008. However, it might in 2009 or 2010. And it almost certainly will sometime before 2015. So sometime between 2009 and 2015, Google will be a candidate for Warren Buffet style investing.

Certain areas of telecom, in my opinion, are transitioning to an environment condusive for “investing”. Regulatory environment is stabling. Industry/competitive structure is settling. Technology change is becoming a less dramatic driver of unpredictable change. Demand is easier to predict. All and all, it is reasonable to base valuations on forecasting cash flows, not intuition.

In the next blog entry, I will discuss the implications on “investing” and “speculation” on how management should run their companies.