#365 Nick Sleep's Letters: The Full Collection of the Nomad Investment Partnership Letters to Partners

**David Senra** (0:00)
One of the most interesting things that Nick Sleep writes about is the importance of understanding the underlying reality of a company. He calls this the engine of its success. What actually found most interesting in these letters is Nick's analysis of the engine of success of Costco, Amazon, and Walmart, and how those three founders, Jim Sinegal, Jeff Bezos, and Sam Walton, designed their business in a way that ensure that they would survive over the long term. All three of them were what Nick Sleep calls honestly run compounding machines. This emphasis that all three founders placed on the long term success of their business allowed them to never make the fatal mistake of interrupting the compounding. And to do so, Bezos, Sinegal, and Walton all adopted a key trait. They were, in the words of Warren Buffett, a demon on costs. Having a lower cost structure than any of their competitors was a competitive advantage that compounded over the decades, and Nick is going to mention that several times, including one time, when he realizes back in 2006, that Amazon's costs are so low and they're so efficient that the game was already over. Everybody else just didn't know it yet. This is something that I was talking about with my friend Eric, who's the co-founder and CEO of Ramp. Ramp is now a partner of this podcast. I've gotten to know all the co-founders of Ramp and spent a bunch of time with them over the last year or two, and they all listen to the podcast, so they've picked up on the fact that the main theme from the podcast, one that recurs over and over again, is the importance of watching your costs and controlling your spend. The managers that are able to do so develop a massive competitive advantage, and that is the reason that Ramp exists. Ramp exists to give your business everything you need to control your spend and watch your cost. All of History's Greatest Entrepreneurs made cost control an obsession. Ramp helps you control costs all in a single platform. Ramp gives you easy to use corporate cards for your entire team, automated expense reporting, and cost control. In his Autobiography, Sam Walton said, our money was made by controlling expenses. You can make a lot of different mistakes and still recover if you run an efficient operation or you can be brilliant and still go out of business if you're too inefficient. Ramp helps you run an efficient organization and greatly enhances your company's engine of success. Ramp's website is incredible. Make History's Greatest Entrepreneurs proud by going to ramp.com to learn how they can help your business control costs today. That is ramp.com.
Dear Mr. Buffett, after 13 happy years of running the Nomad Investment Partnership, Zach and I have decided to close the fund. The process requires us to return cash to our investors, and so after many years as shareholders in Berkshire, we have recently sold our shares. It appears to all the world that the performance that Nomad has enjoyed over the years was created by Zach and me. That is not the case. As time goes by, the performance that our clients have received is the capitalization of the success of the firms in which we have invested. In other words, the real work is done by you and the good people at Berkshire. The purpose of this letter is to say a very big thank you and let you know that you have made a real difference. Nomad was not a particularly large fund, but over the years, it did make around $2 billion for its clients, which were predominately charities and educational endowments. Berkshire was a big part of that. That strikes us as capitalism working well. For our part, Zach and I are keen to leave the professional industry behind and spend our time in more caring pursuits. Zach has his various charitable causes, and I have in my mind to set up a center to provide respite care. Both of these activities will require long-term funding, and so while you'll lose us as professional investors, we will be able to repurchase our shares both privately and for the charities that we run. You don't get rid of us that easily. We will be keeping the office, and a new sign will be hung above our somewhat shabby front door. We look forward to seeing you at the next AGM and extend an invitation to visit us at Burnsall Street. With the warmest regards, Nick Sleep. And then Buffett writes back, Dear Nick, thanks for sending along the update. You and Zach have made the right choice. I predict you will find life is just beginning. Best regards, Warren E. Buffett. And so those letters appear at the very front of another homemade book that I have created. I read all 110,000 words. This is the full collection of the Nomad Investment Partnership Letters that were written to Partners between the years 2001 and 2014, and they're written by Nick Sleep. I printed Nick's letters out and put all 219 pages in a binder. And so I want to begin with something that Nick repeats, and something that he leaves at the end of a lot of his partnership letters. And so he writes, A final word on the need for patience. We are aware that several investors are new to the fund, and so it may be worth reiterating some ground rules so that you know where we stand. One of Nomad's key advantages will be the aggregate patience of its investor base. We are genuinely investing for the long term. Few are. If Nomad is to have a competitive advantage over our peers, this will come from the capital allocation skills of your manager, if any, and the patience of our investor base. Only by looking further out than the short term crowd can we expect to beat them. It is for this reason we named Nomad an investment partnership and not a fund. The relationship we seek is quite different. And so the note I left myself on this page is really two ideas of why I spent two weeks, why I did an episode last week that gives an overview of how Nick and Zach built their investment partnership and then why I would spend another week reading 110,000 words of Nick Sleep's Investment Partnership Letters. And so it's obvious from reading the book last week and then reading Nick Sleep's letters this week. They didn't copy their peers. Nick and Zach ran their business based on the outcome of their own thinking. And then they invest in founders that do too. And then I would argue that it's their willingness to do the work necessary to trust their own judgment that allowed them to arrive at a very valuable earned secret. And then the willingness to change their behavior to build their entire partnership around that earned secret. So that's really what I'm going to focus on and I want to talk to you about today. A lot of what I found interesting in the partnership letters has nothing to do with investing. It's their analysis of how Jim Sinegal ran Costco. It's their analysis of how Jeff Bezos ran Amazon. It's their analysis of way this is kind of strange. This business model keeps reappearing throughout history and gifted founders are able to use it and apply it to vastly different industries and keep having wild success. And so Nick writes about Charlie Munger's cancer surgery approach. He's analyzing this business that they made an investment in. I talked about it last week. It's called Stagecoach. The founder retires. New management kind of runs it into the ground. So the founder comes back out. And when you realize like there's this beautiful business under here, but you kind of layered all this crap on top of it. And so what Munger realizes is many times in business history where, well, you just need to do the cancer surgery approach. He says this often works because there's normally a jewel at the heart of most companies that has often been used to fund new ventures. That jewel has been taken for granted by inpatient management. As the jewel becomes diluted by less successful projects, aggregate performance declines. And so Nick talks about the fact that Munger and Buffett saw this in Coca-Cola in the mid-1980s because at that time, Coca-Cola had become a poorly defined conglomerate, including a shrimp farm, winery, and a film studio. As the poorer businesses were cut away to reveal the jewel that is syrup manufacturing and marketing operation, the shares of Coca-Cola rose over tenfold in the succeeding decade. There's a hilarious story that comes to mind when the Mark Parker, who's the former CEO of Nike, asked Steve Jobs if he had any advice for him. And Steve said, Nike makes some of the best products in the world, products that you lust after. They're absolutely beautiful, stunning products, but you also make a lot of crap. Just get rid of the crappy stuff and focus on the good stuff. Just get rid of the crappy stuff and focus on the good stuff. This idea that a jewel can become diluted by less successful projects and its aggregate performance declines. The reason I started here is because what's fascinating about reading these letters, but also, and I'm going to go through these in chronological order, so we can see the evolution of Nick Sleep's thinking. It's also the same phenomenon that you and I see when you go through a biography and you go through somebody's life chronologically. You see them slowly figure it out. They struggle and they're trying to really get to the idea. The main idea and the main focus of their life. And what's fascinating about reading this part, this is at the very beginning. Nick doesn't understand he's describing the cancer surgery approach, he's describing Coca-Cola, he's describing stage coach. At this point in his life, he doesn't understand he's going to also use this principle in building his business. He is going to take the advice of Steve Jobs even if he never heard it. He's going to get rid of the crap, which is these other investments, and just focus on the good stuff. And he's already stumbled onto a really great business, and this is the beginning of his understanding. He doesn't know how deep he's going to go on Costco. So this is 2002 And he's like, well, Costco, we just bought the stock. There's really no need to fix this business because it's performing well already. And so there's something that Nick will mention later on. He's like, well, we're trying to analyze businesses that are a mouse now but may turn into an elephant and try to reverse engineer how that happens. And so you start to see this at the very beginning when he starts talking about Costco. He's like, well, they operate on this everyday low pricing strategy, which he'll refer to moving forward as EDLP. The way I would describe that is if you have not listened to episode 360, listen to episode 360 after you listen to this episode, try to find that book. It is written by Bob Kierlin, who's the founder of Fastenal. That book and the way Bob ran Fastenal all centers around this one idea, that the leader of a company has to keep the entire organization committed to a common goal. Costco's common goal is that we are going to commit to this everyday low pricing strategy. And they commit to it every single minute of every single hour of every single day, as we're about to hear with this great Jim Sinegal story in a minute. But I gotta, before I leave this page, this is 2002 And he's just start talking about this scale economy shared. And he's just starting to try to think about and understand. It's going to take a long time to understand how powerful this idea is. But he starts talking about this new idea of scale economy shared, which is going to be their earned secret, the single best thought that they ever had, the one that they're going to let dominate everything that they do. And so Nick is like, okay, so Costco is committed to this strategy of EDLP. And by them sticking to the standard markup is a way that they, all the benefits that they get from scale as a company are returned to the customer in form of lower prices, which in turn encourages growth and then extends scale advantages. And it illustrates a level of commitment that the founder has to this idea. This is what he says, to understand how important EDLP is to Jim Sinegal, Costco's founder considered the following story. So Costco gets this incredible deal, a better deal than they normally get when they buy 2 million pairs of designer jeans. They went to getting them for $22, so $10 less than Costco has sold the jeans for in the past. So they offer this huge markup. You could essentially mark it up another 50%, and you'd still be half the cost of most other retailers. So one of Costco's buyers recommends taking a higher gross margin than usual, more than the normal 14% markup, since no one would know. So he says that to Jim Sinegal, and Sinegal insists on the standard markup, arguing that if I let you do it this one time, you'll do it again. The contract with the customer, which is very low prices, must not be broken. This is a really important point to consider. Think about this. What the buyer is trying to do is do what's better for the company, what he thought was better for the company, at least what was better for the company in the short term. What Jim Sinegal and other great founders do is they always do what's better for the customer, because if you do that over the long term, that is then what is better for the company. When I read this section, this entire paragraph, I just stared at the page. I was like, I've seen this before. This reminds me of Walt Disney. Then I go to Founders Notes. I type in the keyword search, Disney leather straps. What is remarkable is we see a very similar story play out when Walt Disney is building Disneyland. They are over budget. They don't have enough time. They have a specific date that they have to open by. You see this conversation that Walt Disney is having with one of his employees. His employee does the same thing. Let's cut a corner here. Let's compromise a principle because short term, it's better for the company, at least in their misunderstanding.