Every investment manager will tell you that they buy exceptional companies that have competitive advantages. Even we say it. But without additional context, that statement has become almost meaningless. In today’s fast-changing environment, what seemed a competitive advantage for decades can quickly become a burden. Think of every retailer that believed enormous department stores were an advantage—until those stores stopped drawing in crowds. Enduring competitive advantages are most driven by the business model a company uses, working symbiotically with the unique attributes of its particular products.
Big picture, we believe the strongest sign of a competitive advantage is the ability to draw more and more revenue from the same customers, without having to spend more and more on marketing. At the strongest companies, this can occur through various avenues. The business can successfully expand its offerings, of course; or, it can increase prices regularly without losing sales; or, the company sells a service that becomes more vital the more a customer uses it, and customers pay based on usage. Best of all is when a company enjoys all three traits.
To judge this, we are increasingly measuring the Annual Contract Value (ACV, or barring contracts, just annual revenue dollars) earned per average customer at the companies we consider for investment. This is simply the average annualized revenue earned per customer, and we want to see it steadily increase by a factor greater than inflation. This measure is becoming more prevalent as more companies move to subscription-based sales, which is a business model attribute we favor. We are sector and industry agnostic, so we invest wherever we believe we see an attractive opportunity—whether it’s in healthcare, energy, industrials—but we are most drawn to businesses that enjoy organically recurring revenue coupled with growing ACV.
We prefer those exceptional attributes, but we demand much more from our companies. We know that concentrated investing—owning 50 or fewer stocks, say, rather than hundreds—means the big winners you keep will be more meaningful to your results. In fact, having such winners, and keeping them, is what sets many of the best investors apart. Just one or two large long-term winners can change your financial situation permanently. We are seeking to own several and keep finding more. To increase our odds, we want to see:
These advantages matter, along with other traits we’ll discuss in future articles.
—Jeff Fischer, Chief Investment Officer, 1623 Capital