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May 31, 2018, 11:41 a.m. EDT

This investor rivals Warren Buffett — and you probably haven’t heard of him

The Berkshire Hathaway CEO so admired Lou Simpson that he suggested the Geico CIO could step in for him if needed

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By Glen Arnold

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Think independently

Be skeptical of conventional wisdom. Obtain your own information and do your own analysis. Don’t get caught up in waves of irrational behavior and emotion. Be willing to consider unpopular and unloved companies as they often offer the greatest opportunities.

Make few investments. Hold them for a long time.

Simpson continues to invest through SQ Advisors, where he is chairman. Good investment ideas — companies that meet his investment criteria — are hard to find. So when he finds one, he makes a large commitment.

Typically, SQ Advisors adds just one or two investments a year to a portfolio of 10 to 15 stocks and drops one or two, he told that Northwestern audience. And sometimes the best plan is to do nothing.

SQ Advisors’ holdings

Company Ticker Industry Shares held as of March 31 (thousands) Value as of March 31 ($millions) Total return - 2018 through May 25
Allison Transmission Holdings Inc. /zigman2/quotes/209813260/composite ALSN Trucks/Construction/Farm Machinery 8,899 $347.6 0%
Brookfield Asset Management Inc. Class A /zigman2/quotes/202267951/delayed CA:BAM.A Investment Managers 8,839 $344.7 -4%
Charles Schwab Corp. /zigman2/quotes/201281754/composite SCHW Investment Banks/Brokers 5,960 $311.2 12%
CarMax, Inc. /zigman2/quotes/204412041/composite KMX Specialty Stores 4,948 $306.5 5%
Liberty Global PLC Class C /zigman2/quotes/205064666/composite LBTYK Cable/Satellite TV 9,573 $291.3 -18%
Cable One Inc. /zigman2/quotes/207363308/composite CABO Cable/Satellite TV 365 $250.7 -6%
Apple Inc. /zigman2/quotes/202934861/composite AAPL Telecommunications Equipment 1,209 $202.8 12%
Sensata Technologies Holding PLC /zigman2/quotes/205854600/composite ST Electronic Equipment/Instruments 3,880 $201.0 2%
Tyler Technologies Inc. /zigman2/quotes/208092302/composite TYL Data Processing Services 878 $185.3 29%
Charter Communications Inc. Class A /zigman2/quotes/201656355/composite CHTR Cable/Satellite TV 625 $194.4 -20%
Berkshire Hathaway Inc. Class B /zigman2/quotes/200060694/composite BRK.B Multi-Line Insurance 798 $159.1 -2%
Liberty Broadband Corp. Class C /zigman2/quotes/207995235/composite LBRDK Specialty Telecommunications 1,596 $136.8 -16%
Axalta Coating Systems Ltd. /zigman2/quotes/204422049/composite AXTA Industrial Specialties 32 $0.971 0%
SBA Communications Corp. Class A /zigman2/quotes/208397406/composite SBAC Real Estate Investment Trusts 5 $0.876 -3%
Hexcel Corp. /zigman2/quotes/209574944/composite HXL Aerospace & Defense 5 $0.339 16%
Source: SEC 13-F filing for March 31, 2018 ; FactSet

Simpson admits that mastering inactivity is difficult to do because it “is very boring”, but it is often the right thing to do.

“Warren used to say you should think of investing as somebody giving you a fare card with 20 punches. Each time you make a change, punch a hole in the card. Once you have made your 20th change, you have to stick with what you own. The point is just to be very careful with each decision you make. The more decisions you make, the higher the chances are that you will make a poor decision,” he said at Northwestern.

Buy at a reasonable price

Look at the rate of return on shareholders’ money used within the business. If it is high and sustainable given the strategic position of the company and the quality of management, then there is a good chance of long-run appreciation in the share price. Cash-flow return, rather than profit return, can be a useful additional metric given that it is more difficult to manipulate than profit.

Once a superior business has been identified then its shares should only be bought if the price is not excessive relative to its prospects. Simpson uses indicators such as earnings yield. He also uses the ratio of price to free cash flow.

Sell your mistakes and hold the successes

Investors have a tendency to hold on to losing shares — they might come back, and who wants to crystallize a loss? — while selling early those that are performing well.

Simpson summed up his opposition to these notions this way during his talk at Northwestern: “One thing a lot of investors do is they cut their flowers and water their weeds. They sell their winners and keep their losers, hoping the losers will come back even. Generally, it’s more effective to cut your weeds and water your flowers. Sell the things that didn’t work out, and let the things that are working out run…If I’ve made one mistake in the course of managing investments it was selling really good companies too soon. Because generally, if you’ve made good investments, they will last for a long time.”

Glen Arnold is an investor and the author of “The Deals of Warren Buffett Vol 1: The First $100 Million.”

Also from Glen Arnold: 4 Warren Buffett mistakes that can make you a better investor

/zigman2/quotes/209813260/composite
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$ 34.06
-0.25 -0.73%
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9.64
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2.00%
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$935,517
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CA : Canada: Toronto
$ 44.25
-0.44 -0.98%
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1.42%
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$ 35.81
+0.08 +0.22%
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P/E Ratio
15.02
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2.01%
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$46.04 billion
Rev. per Employee
$563,538
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$714,405
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$13.11 billion
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$ 1,771.24
-54.88 -3.01%
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0.56%
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$482,147
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$ 110.34
-1.79 -1.60%
Volume: 178.01M
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/zigman2/quotes/205854600/composite
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$ 44.26
+0.15 +0.34%
Volume: 1.24M
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79.56
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N/A
Market Cap
$6.93 billion
Rev. per Employee
$161,827
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/zigman2/quotes/208092302/composite
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$ 333.68
+2.60 +0.79%
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$13.32 billion
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$206,692
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$ 620.31
-9.76 -1.55%
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$129.10 billion
Rev. per Employee
$445,245
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/zigman2/quotes/200060694/composite
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$ 218.05
-1.54 -0.70%
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Market Cap
$524.70 billion
Rev. per Employee
$637,113
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/zigman2/quotes/207995235/composite
US : U.S.: Nasdaq
$ 140.81
-3.48 -2.41%
Volume: 876,965
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P/E Ratio
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$26.24 billion
Rev. per Employee
$428,000
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/zigman2/quotes/204422049/composite
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$ 24.64
-0.05 -0.20%
Volume: 3.24M
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Market Cap
$5.81 billion
Rev. per Employee
$335,429
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/zigman2/quotes/208397406/composite
US : U.S.: Nasdaq
$ 312.35
-9.80 -3.04%
Volume: 483,775
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N/A
Dividend Yield
0.60%
Market Cap
$36.06 billion
Rev. per Employee
$1.39M
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/zigman2/quotes/209574944/composite
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-0.87 -2.16%
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Market Cap
$3.37 billion
Rev. per Employee
$330,516
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