Mental models are a hallmark of Charlie Munger’s approach to life, learning and decision making. These mental models serve as a framework for gathering, processing, and acting on information. They are also the key building blocks of successful investing, as demonstrated by Warren Buffett and Charlie Munger at Berkshire Hathaway.
When it comes to investing in emerging markets, and particularly in Asia, we’ve often wondered how to improve upon our existing mental models in order to avoid value traps and identify the compounders of the future. Recently, we came across the “Bamboo Innovator” as one of the mental models specifically designed for investing in Asia. Its creator Koon Boon (KB) Kee, who is based in Singapore, is a Buffett and Munger disciple and a practitioner of value investing across Asia. KB will be presenting his favorite current Asian investment idea at Emerging Value Summit 2013 on April 9-10. Not surprisingly, KB Kee’s investment idea is an undiscovered compounder that originates from the Bamboo Innovator mental model.
KB Kee Previews Emerging Value Summit 2013
Mental Models Explained: Bamboo Innovator
Bamboos bend. They do not break. Even in the most terrifying storm that snaps the mighty resisting oak tree, bamboos survive. They survive and, therefore, they conquer. In a world full of disruptive events and crises, the bamboo symbolizes the resilient companies that survive and prosper while many others fall by the wayside. Resilience, however, is rare in companies, even among the successful ones. So, how can an investor, using mental models, identify resilient compounders – the Bamboo Innovators? As KB Kee explains:
“A checklist approach in examining ‘successful’ companies might overlook the resilient Bamboo Innovators. After all, there are much larger impressive trees in the forest. By comparison a bamboo looks smaller, thinner, and fragile. The list of Bamboo Innovators is a surprising one; many of them are not the typical ones that one would come across. While the details are always different, I find that certain features of the Bamboo Innovators are remarkably similar to those that resulted in the astonishing vitality in bamboo.”
According to KB Kee, there are three distinct characteristics in both a bamboo and the Bamboo Innovators. KB calls this the R-E-S framework that features his mental models:
R stands for “Rootedness” in cultivating a culture of kindness, trust and cooperation to contend with and heal creative dissent and incentivize innovation.
E stands for “Emptiness” in business model, a simple yet elegant “core-periphery” business model that imbues the periphery with distributed intelligence to sense its own state, sense its environment for new opportunities, anticipate disruptions, and respond locally to dynamically modulate its scale. This is similar to the hollow center of the bamboo, which paradoxically is exactly the reason that gives the bamboo its resilience.
S stands for “Sheath” in leadership to protect emerging ideas, to create the context, adaptive-govern, coordinate, synthesize and weave diverse networks and groups who might otherwise be excluded into a coherent whole, rather than the typical command-and-control “positional/title-based” leadership. This is similar to a bamboo sheath serving to protect the bamboo shoot from harm.
McDonald’s (MCD): A U.S. Bamboo Innovator
One of the most successful U.S.-based compounders is McDonald’s. There are many mental models that come to mind with McDonald’s. KB Kee’s Bamboo Innovator model emphasizes that McDonald’s rootedness manifests itself, for example, in that it has no upfront franchisee fees in the initial years. Such sacrificing of quick franchising profits reflects that McDonald’s truly cares about the subsequent performance of the operators. McDonald’s emptiness and sheath manifest themselves in a culture and system that cultivates and acts upon ideas from the periphery: Big Mac, Apple Pie, Fillet O Fish, McNuggets were all ideas from the franchisee, the independent operators that form three-quarters of its fast food restaurant business. Interestingly, flops such as pizza and pasta were ideas introduced by HQ.
Some other, but lesser well-known, U.S.-based Bamboo Innovators highlighted by KB Kee’s mental models include: Balchem (BCPC), Old Dominion Freight Line (ODFL), O’Reilly Automotive (ORLY), Rock Tenn (RKT) and Sherwin-Williams (SHW).
Yunnan Baiyao (Shenzhen: 538): A Chinese Bamboo Innovator
Yunnan Baiyao is a well-known Chinese compounder with a recent market capitalization of nearly $10 billion. The company has scaled through intangible know-how in hemostasis (blood clot and circulation) to drugs, to pain-relief aerosols, to toothpaste, and so on. Based on his mental models approach to investing, KB Kee explains:
“Yunnan Baiyao is a drug invented by a herb collector called Qu Huanzhang. This drug carries the seemingly contradictory effects of helping blood to clot and promoting blood circulation through the body. During the Vietnam war, American soldiers found Vietcong soldiers survive gunshot wounds when they ate the Baiyao pills. Qu discovered the herb when he observed how animals who suffered terrible wounds and cuts would go into this certain herb bush and when they emerge after staying in the bush, they appear much better. The secrecy surrounding the Baiyao drug and its ingredients carries a similar mystique to the Coca-Cola formula. And Qu’s wife donated the secret recipe to Mao’s government in 1956.”
“Yunnan Baiyao survived the death of its founder and the turbulence of the civil war. It is indestructible because of its intangible know-how in hemostasis that scaled from drugs to pain-relief aerosols and toothpaste. The Baiyao toothpaste is supposed to help to prevent gum bleeding which is common amongst the elderly and even working adults. From RMB 3 million in accumulated sales during the first two years of its launch in 2005, sales of the toothpaste is now RMB 1.6 billion. Experts who called Baiyao stupid were dumbfounded by the success. Especially when the toothpaste is selling at RMB 20 a tube, five to ten times more expensive than toothpaste of its peers. Who would be out of their mind to buy RMB 20 toothpaste? And there’s pricing power: each tube is now RMB 28.
“Baiyao now has eight billion-RMB brand products developed from its intangible know-how in hemostasis. It also has an “open innovation” business model whereby MNCs from Germany’s Beiersdorf and 3M partners with Baiyao to co-develop new products because they are attracted by the emptiness, the intangible know-how in hemostasis.”
Using mental models such as the Bamboo Innovator, KB Kee has identified other Asian companies that he believes are resilient compounders, similar to Yunnan Baiyao, but in even earlier stages of their development. KB Kee will present his favorite current Asian Bamboo Innovator at Emerging Value Summit 2013 on April 9-10.
Watch the below 68-minute exclusive video to learn more about KB Kee’s original Bamboo Innovator framework, one of the most helpful mental models you will discover to help you navigate through the Asian investment universe.