Boring Portfolio


Announcing a Buy
Costco Joins Bore

By Dale Wettlaufer (TMF Ralegh)

ALEXANDRIA, VA (Sept. 10, 1999) -- The Boring Portfolio today announces its intention to add Costco Wholesale (Nasdaq: COST) to the portfolio. The company has been on the portfolio's radar since its inception last year, but I feel that the price of the company being offered by the market finally meets my assessment of the company's intrinsic value. Therefore, within the next five market days, I will add approximately $7,000 in Costco shares to the portfolio.

These articles will offer a good review of my thoughts on the company:

Stocks for Mom: Costco
Shopping Costco, Part 1
Shopping Costco, Part 2

My one word of advice to understand this investment -- drop in on a Costco and test it out. Or better yet, try this test: If you happen to live in a market served by Costco and don't know anything about it, ask your friends if they've shopped there. If they have, the likelihood that they will not only report good things, but rave about the shopping experience, is extremely high. In the above buy notice, which gets sent out by e-mail before any Fool portfolio engages in a transaction, you'll notice two links to the "Shopping Costco" pieces I did last year. In those, I quoted a Forbes magazine article in which Charlie Munger, the Vice-Chairman of Boring Port holding Berkshire Hathaway, said this about the company:

"It's hard to think of people who've done more in my lifetime to change the world of retailing for good, for added human happiness for the customer." "Including Sam Walton?" the magazine asked. "Munger nods."

That's a pretty typical reaction to what goes on at Costco. (Nasdaq: AMZN) CEO Jeff Bezos talks about his company's goal of being the world's "most customer-centric company." If it wants to get there, I think it would have to dethrone Costco for the title, because this company lives and breathes the credo of delivering the highest quality merchandise at the lowest price to its members every day of the year. In what turns out to be a virtuous circle, the low prices and high quality merchandise retains and attracts customers, allowing the company to turn merchandise faster, which in turn allows the company to maintain or lower prices and still get the return on capital it needs to build shareholder value.

Whereas the Rule Maker portfolio looks for companies that generate high margins and good working capital dynamics (both of which I can certainly appreciate), the Boring Portfolio takes as its primary measure of profitability "return on capital" (pdf file). This means that neither margins nor capital turnover has primacy in my thinking -- we own a collection of businesses that span from high-turnover, low-margin approaches to low-turnover, high-margin approaches.

The companies we own, directly and through Berkshire Hathaway, include Coca-Cola, Gillette, GEICO, General Re, Gateway, American Power Conversion, Nebraska Furniture Mart, Kirby vacuums, and now Costco (this list was far from exhaustive). That pretty much spans the spectrum of financial models. I'm not biased as to what sort of model is producing the returns as long as I'm paying a price that reflects my estimation of the present value of the cash the company can generate over its lifetime.

I grant that if I were a company acquiring Costco right now, paying up nearly $13 billion for goodwill (I would argue you'd have to mark up some of the real estate assets, but whatever, I'd still be paying over $16 billion for equity value) seems somewhat steep. However, I think the goodwill is entirely worth it, in terms of the present value of the net cash to investors the company can create and in terms of looking at it on a per-member basis. I am paying up for quality here, no doubt, but I think the price is more than fair. We'll get into it more next week.

Have a good weekend, and go Bills.

Call Your Boss a Fool.

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