When Milton Friedman met Billy Connolly

Baillie Gifford’s Scott Nisbet addresses the instant profitability vs long-term growth theme by way of Sting and Billy Connolly.

BBC chat show host Michael Parkinson has conducted some unforgettable interviews. Among the most memorable guests were Scottish comedian Billy Connolly, and songwriter Sting. Parky asked both of them when they first thought they were going to be rich.

Connolly had been a welder in the Glasgow shipyards. He entertained his pals during breaks, playing the banjo and telling jokes. “The jokes got longer and the banjo a bit shorter and before I knew it I was being booked to do comedy gigs,” he recalled. A few years later he was the world’s most successful stand-up. Yet becoming wealthy never registered. “I couldn’t believe – I still can’t – that people pay me all this money to do what I love doing.”

Over to Sting. A similar reflection from a man who also grew up in the shadow of a shipyard. Then, as an English teacher, he wrote songs at home. One day he got his break and the songwriting took over. The idea that he would eventually receive royalties on 100 million Police albums never really occurred to him: “I mean, I’m glad to be well-off, but the way I got there strikes me as absurd.”

Some companies in our Long Term Global Growth (LTGG) portfolio and their founder-leaders have a lot in common with Billy Connolly and Sting. They are what Professor Abraham Maslow called “self-actualisers”, who are simply doing what they love. 

And therein lies the essence of what is different about how these companies are run, and how investors differ from most market participants on urgency of profitability. The American economist Milton Friedman said: “The only purpose of a company is to make profits.” Almost half a century later, most CEOs – and many shareholders – continue to think like Friedman. In recent years, our second most common question from clients has probably been “When will XYZ be profitable? How will it get there?”. Having no answer makes them anxious. Most investors yearn for profitability. We are more relaxed.

The best way to create a valuable company is by investing for the long term, creating a moat for competitors to cross, taking some chances along the way, and generally not focusing on profits for many years, if ever. One of our favourite companies, Alibaba, explicitly puts shareholders third in the pecking order, behind its customers and its employees. This has created huge amounts of value for shareholders, but many investors, especially in the US, struggle with the counter-intuitiveness of doing better oneself by putting others first.

The LTGG paradox is that, as shareholders, we probably demand the greatest upside for a company to be in our portfolio. We’re the least prescriptive, the least impatient, and the most laid back on duration and directness. But the ultimate upside must be huge and remaining patient to get there takes considerable nerve.

This is not to say that there is no downside risk to our approach. Companies can’t invest for the greater good and run at a loss forever. In 2019, Tesla cut it fine – the ramping up of the Model 3 required more funding than we expected. Nio, our Chinese EV/lifestyle start up, has fallen substantially since purchase and will soon need to sell more and generate fewer costs. Delivery Hero, Pinduoduo and Peloton have longish runways of investing ahead, but one day their business models will have to prove themselves. For us, that means five years, rather than one or two.

We are also relaxed when companies reduce near-term profitability. Continuing to innovate with a longer-term view is more important than worrying about the knee-jerk reaction of the market on learning of that increased investment.

That said, LTGG holdings are probably more profitable than many clients might guess. Two-thirds of the portfolio by weight, and nine of our top 10 holdings, are currently profitable (Tesla is the exception). Several were loss-making when we first owned them.

In Russians, Sting sang “regardless of ideology, we all share the same biology”. We question whether we share the same biology as other investors. We believe demands for profits now destroy value.

Let’s return to the Parkinson show. Imagine a third guest has joined Sting and Billy Connolly on Parky’s sofa. It’s Milton Friedman who expounds his theory on profit primordiality. His fellow guests look unimpressed. Sting replies with a lyrical flourish:

“Mr Friedman saidGo for profits or you’re deadI don’t subscribe to his point of viewBelieve me when I say to you I hope other shareholders awaken too”

Then Billy Connolly delivers his fabled Glaswegian put-down with a smile and a shake of his shaggy mane: “Milton Friedman – Ya Bass!”

This imaginary cultural clash is how to think of the central investment debate of 2020 and beyond. Most financial firms are still with Friedman. We’re with Sting, and Billy Connolly.

Scott Nisbet is a partner at Baillie Gifford.