What I learnt in Dec 2017

From reading

• Listened to King Ichan the biography on Audiobook (https://www.amazon.com/King-Icahn-Biography-Renegade-Capitalist/dp/1494348926). I had to fight my bias to listen given i think he is a p****k.  The book turned out OK.  Ichan is a value investor but took the provocative way to realise the hidden value him and Kingsley identified.  TWS the Airline was a mistake to him.  But there's something to learn from his negotiation skills.  He probably enjoyed outsmarting management on negotiation (for his greenmail offer).  But in the end, working alongside the right management rather than trying to outsmart management is probably a better way for my personality
• Read the book Common Stock - Common Sense by Edgar Wachenheim who is the founder of $6.6bn Greenhaven Capital (https://www.amazon.com/Common-Stocks-Sense-Strategies-Particularly/dp/1119259606).  There are many examples in how he bet correctly in housing and housing related sector (such as Lowe).  There was a case on IBM as well as his mistake in AIG.  
• Listened to a summary of the Mindset, by Carol Dweck (https://mindsetonline.com/whatisit/about/).  Being concious about having a growth mindset is important (for me and for the kids).  

From work

• Further research into the CPG sector.  Unilever this time.  Thinking more about what is a brand, is it the channel and distribution?  Personal Care has higher margin than Foods.  Is having a higher purpose (like Unilever) really going to be more advantageous than maximising shareholder value?  Here, i used Euromonitor more to see how competent management is by looking at how they nurture brands acquired. 
• Watched a couple of YouTube where Brito (CEO of AB InBev) gave talks to biz schools.  Dream / People / Culture.  Ownership alignment differentiates them.  And they are being portrayed as more evil than warranted. They just execute the spirit of Capitalism better than others but unfairly evilised.

From Conference/Seminar

• Attended the RICS valuation conference (got a free ticket from HKSFA).  Given IFRS 13, there's more requirement on valuation work and it almost become a profession in it's own right.  This is a good thing, as financial reporting will have higher standard.  Suffice to say though, i wasn't particularly impressed with the pros in this regards.  I consider myself an amateur in valuation, and these pros didn't give me anything ground breaking.
• The SFC presentation on how they're filtering and suspending companies is a good one though.  And that China may be more advanced than HK on financial reporting valuation standard

Others

• See my note on Nagomi, a case study on my attempt to become a businessman but unsuccessful.  

Buffett said, I am a better investor because i am a businessman, and i am a better businessman because i am an investor.  So with that, I'm planning to carry out the following experiment.  

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A small Japanese restaurant in Happy Valley (Nagomi)

The biz is for sale after operating by the same owner(s) for 12 years.  Currently, there are 3 pay staff, Jacky (10 yrs) and Chef Kan (9 years) ($20k per month), and boss Kalina $25k per month.  Revenue is around $200k per month.  Rental with 1 year open contract to run, is $54k per month.  The biz is roughly breaking even but definitely not making money.  Peter/Kalina are selling out due to financial difficulty according to Jacky.  Currently, they close every Thursday to satisfy labor law for a day off per week for staff.  Their famous dishes include Katsu-don, Unadon, and sushi.  Chef-Kan was ex-Shangrila.  However, Competition is intense in Happy Valley, with about 6 Japanese joints, but just two in the the mid-lower price tier.  Population is increasing though in HV, given more newly completed high-rise apartments.

My Proposal:

• I'll be 51% owner, we find another owner-partner (japanese speaking will be great) and the 4 operators (I am not an operator) will together own 49%.  This gives better incentive to all (maybe except Kalina)
• We'll pay Kalina $200k for the biz collectively, with $100k upfront, balance by instalment over 5 months for $20k a month subject to $200k revenue threshold.  If revenue reaches $250k, we'll pay her $30k per month.  If no one takes over the biz, the whole biz will be written down to 0 and shop front return to landlord
• The biz has no debt.  The $200k deal price was nominal, P/S=0.08, P/E~2 (assuming monthly profit after all cost is $10k).  Apparently someone is offering $250k, but my $200k is more attractive as i offer more ownership to staff.  But ultimately, my indifference (whether i get to buy it or not) mindset is important.  I should approach public equity with the same.
• Pay rise for all 4 staff to $23k immediately.  Admittedly, at $23k is still under market, but given profit sharing as owners, it should compensate for it.
• We'll nominate a shop manager, Assuming it's Kalina, she will get paid $25k (her old pay)
• If any of us want to sell, exisiting shareholder will get first right to buy given same price.  Ie I am happy to sell incentive shares to any existing staff if performance is good as a reward.

New Drivers

• Ownership incentive for Jacky / Chef Kan and the 4th staff-owner
• Given 1 extra staff, they will take turn for day off and we'll open for 7 days.  That should boast revenue from $200k a month to $233k per month, that will pay for the extra head count
• Given the awkward location, I'll help with more take away biz.  UberEats, Panda Foods and Deliveroo come to mind as established channels and good marketing.  Only cooked food (lower margin) will be targeted for take-away biz.
• Targeted FB Ads $2k per month, and flyers targeted to the Sanitorium Hosp staff
• Rejig Menu a bit (eg adding ice-cream and coffee, and cut down on less-frequent food items to save on COGS items)
• Add electronic payment to make customer experience easier

Other Operational arrangements

• Chef Kan will take charge of the Food Licence since he makes sushi, which is the most stringent from a food safety perspective (Peter is the license holder right now.  Apparently, to transfer license, there's a lot of work to the kitchen and the entrance which will render shop close for 2 months)
• We'll need to get (urgently) an alcohol license under Jackey since he serves alcohol the most;
• Will add a web-cam so the non-operator (me) can easily check biz, and also free Wifi for customers;
• Three signatories for bank account, Jackey and Kalina (and forth person) Two required to sign Chq and run bank account together (cross check mechanism)
• I'll oversee the accounts (the book)
• The toilet will need to be absolutely spotless
• Chef unform for Kan-sir

Consideration and Risk

• My upfront payment is the 51% of the upfront 100k, and my 51% share of the rental bond.  Subsequent payment is subject to revenue threshold. 
• Given the rental contract has passed the lock-up period, i can pull the pin by 1 month notice if i smell anything fishy
• Contingent liability (unpaid tax, suppliers etc) depends whether we operate under new vehicle or existing (new vehicle will need to open new bank account which is not trivial).  New management will need to be indemnified.
• Potential Unlicensed alcohol-supply panelty
• Rental increment which limits the life of the business beyond Nov 2018
• HR issue with if any license holder withdrew or conflict with each other.  This is mitigated by common shareholding interest
• Food safety issue.  This is mitigated by Food License to be held by the person who prepares the riskiest foods, namely sushi
• Peter is current license holder until we renovate and transfer the license.  If he sees biz pick up and ask for a share, then what?
• Turns out the license is expiring in Dec 2017 anyway, so we need Peter to renew.  And even if Peter is willing, and then transfer the license across to Chef Kan, given the Food Factory license, sushi is probably out of bound.  And alcohol is definitely out of bound.  And we're prob not qualified for a full license.  With so many operations operating on the edges, i doubt if it's worth it.

Outcome:

• I pull the plug on the deal after speaking to Mark, who ran a restaurant business before.  The food license Nagomi has is a Factory Canteen license.  Given 30m2 being the minimum for a Full Restaurant License, Nagomi probably won't qualify.  Which means they will not be able to get a Alcohol license either (high margin biz) and can only do BYO.  Even If we are able to upgrade to a full license, it requires re-submitting a Floor Plan and highly likely to also require 3 months of renovation to comply with regulations.
• The other concern also relates to license.  Peter the behind-the-scene owner is the license holder.  Carlina is suggesting keep the license status quo rather than doing a transfer as it requires compliance to new regulation.  But having someone not part of the biz to hold the license doesn't make sense.  If biz improves, Peter can come back and extract license rent from us.
• I am however indifferent in my mindset in this failed attempt.  That should be the attitude towards public investing too.  And this indifferent attitude is the foundation to being patient.  If i was eager or having a strong desire to own it, then i might give-in on my purchase criteria and making compromises, at the expense of long term return or even permanent capital loss.
• The experience gained in this exercise is definitely worthwhile.  I should attempt all public investing with a Nagomi mindset.