#25 - CTS.TO, CSU.TO, and good businesses

This reflection was inspired by the following clip of Bruce Greenwald called “How To Differentiate A Good Business From A Bad One”:

Here’s the core idea in his argument (I’m paraphrasing):

Good businesses have two characteristics:

• they dominate local markets

• they understand that to make money and grow, they have to grow either within those markets or at the edges of them where their local competitive advantages carry over

Note that “local” can refer to a geography or a segment/product (e.g. CPU chips for Intel, operating systems for Microsoft, search for Google, etc).

Now back to Converge Technology Solutions $CTS.TO and Constellation Software $CSU.TO.

CTS.TO

$CTS.TO was a great investment for me, where I tripled my money on a decent size position. But I exited last year, I believe not long after they announced their plans to expand into Germany.

I could understand their competitive advantage in North America, how they were able to draw in customers and increase their profitability through synergies and economies of scale.

These advantages translated immediately into great per-share financials.

But I have no idea whether they’ll be able to dominate Germany as well. I don’t know how that market works, I don’t who the players are, and I don’t know whether there will be any synergies to be gained between the two geographies. And since the expansion, the per-share metrics are not nearly as exciting.

What was an easy and proven business model has now become a gamble, as far as I’m concerned. It could work out. But I can’t predict it

CSU.TO

This is Constellation Software:

We all know that Mark Leonard is a genius and that all the business metrics are off the chart. But is it just because of one man’s genius? That would be deeply unsatisfying.

I’ve been deeply unsatisfied by most write-ups on Constellation, mainly because they were too complex. I’d like to understand why this business is so amazing with one or just a few simple insights. An “AH HA!” moment, like Mohnish Pabrai on why he likes Tencent.

And I think Bruce Greenwald gave me that insight.

At first, you might say: “Hey, isn’t Constellation a successful global company, the antithesis to Greenwald’s argument?”

Quite the contrary. I think Constellation is the archetypal Greenwald business. In fact, it is not one business. It is a myriad of global but locally dominant businesses. That’s the secret.

Each of Constellation’s acquisitions is a niche business with high switching costs. Competition? What competition. Those businesses do one thing and they do it well.

So what is Constellation? It is an implementation of Greenwald’s recipe, cloned to infinity.

That’s where the genius is. The low acquisitions prices and high return on investment, that’s just the discipline.

Links

M&A Science Podcast, Interview with Jeff Bender, CEO at Harris

Constellation Software’s Mark Leonard