Capital Cities was a broadcasting company that had only five TV stations and four radio stations when Murphy became CEO in 1966. One of its competitors was CBS, which had 16 times Capital Cities' market cap and was the top-rated broadcast network. Thirty years later, Capital Cities was three times more valuable than CBS. The difference in the success of these companies lies in the management approach.
CBS:
Used generated cash flow to fund new acquisitions in new fields.
Purchased a toy business and the New York Yankees baseball team.
Issued stock to fund some of these acquisitions.
Built a landmark office building in midtown Manhattan at enormous expense.
Developed a corporate structure with forty-two presidents and vice presidents.
Justified acquisitions in unrelated areas with "diversification."
Aiming to make CBS larger.
Capital Cities:
Making the company more valuable.
Embracing the philosophy: 'The goal is not to have the longest train, but to arrive at the station first using the least fuel.'
Rejecting diversification and focusing solely on the media business, a new well-adopted mental model.
Acquiring more radio and TV stations, operating them superbly well.
Regularly repurchasing its shares.
Acquiring CBS's rival broadcast network ABC.
The strategy can be summarized as 'focusing on industries with attractive economic characteristics, selectively using leverage to buy occasional large properties, improving operations, paying down debt, and repeating.'"
Roll-UP
In a typical roll-up, a company acquires a series of businesses, attempts to improve operations, and then continues acquiring, benefiting over time from scale advantages and best management practices. However, this strategy came into turmoil in 2000 as many companies collapsed under the burden of debt. They typically failed due to acquiring too fast and underestimating the importance of improving operations. One needs to move slowly, develop real operational expertise, and focus on a small number of large acquisitions that are high-probability bets.
Tom Murphy started to work for Frank Smith in a radio station Smith acquired. After several further acquisitions of radio stations and with Dan Burke joining the firm, following Smith's death in 1966, Murphy became CEO at the age of 40 for Capital Cities. Burke was responsible for the daily management of operations, while Murphy focused on acquisitions, capital allocation, and occasional interactions with Wall Street.
"Our relationship was built on a foundation of mutual respect. I had an appetite for and a willingness to do things that Murphy was not interested in doing."
Burke generated the cash flow, and Murphy spent it. At that time, Capital Cities had a revenue of $22 million. They started to acquire:
KTRK ($22M)
Fairchild Communications ($42M)
Triangle Communications ($120M)
Fort Worth Telegram ($75M)
Kansas City Star ($95M)
Cablecom ($139M)
All within the span between 1967 and 1977. In the bear market in the 1980s, he started to use the cash on hand to repurchase his own shares at low P/E multiples.
ABC Network ($3.5B)
He brought ABC Network with the help of Warren Buffett. This transaction represented the entire value of Capital Cities. He reasoned the purchase by aiming to fix margins to Capital Cities standards of 50%+, up from 30%. They made several improvements, including:
Removing the executive elevator
Eliminating the private dining room
Cutting redundant positions
Laying off fifteen hundred employees
Consolidating offices
Selling off unnecessary real estate (earning $175M for the HQ)
Bob Zelnick, ABC CEO, mentioned, 'After the mid-80s, we stopped flying first class.'
After several smaller acquisitions, he sold the company for $19B to Disney in 1995 and retired.
19.9% IRR in 29 Years vs 13.2 in the S&P500
Not only does financial capital need to be reallocated properly, but human capital as well. These are the approaches:
Decentralization
Autonomy for operating managers
Promotion of independent, entrepreneurial general managers
No vice presidents in functional areas like marketing, strategic planning, or human resources
No corporate counsel and no public relations department
'Hire the best people you can and leave them alone.'
Frugality, the best defense against revenue swings is cost-cutting
'I’ve worked at a lot of corporate events over the years, but Capital Cities was the only company where you couldn’t tell who the bosses were.'"
>Investments
Investing in its businesses for long-term growth.
Investing to maintain leadership in markets.
The company was careful, not just cheap.
>Hiring
Preference for intelligence, ability, and drive over direct industry experience.
Looking for talented, younger foxes with fresh perspectives.
Low turnover: "We always see lots of résumés but we never see any from Capital Cities."
>Finance
No diversification.
Small dividends, close to non-issued stock.
Use of leverage.
Share repurchases.
Sometimes asymmetric large acquisitions.
Main sources of capital were operating cash flow and debt. He sometimes used debt to fund acquisitions, paid off the debt with cash flow (most of the time ahead of schedule), and leveraged them again.
>Acquisition
Acquisitions only created value due to decentralization and his conviction that Burke would make them more profitable.
Sometimes represented 25% or more of the whole company's value.
Did not stretch for acquisitions and had strict return requirements.
Simple but powerful rules in evaluating transactions.
His benchmark was a double-digit after-tax return over ten years without leverage.
>Negotiating
He would ask the seller for a price. If he thought it was fair, he took it. If it was too high, he made a counteroffer. If the seller would not take it, he would leave.
The success of some companies copying this management style can be seen in companies like TDG 0.00%↑ Like i said all of the information if from the book The Outsiders i would recommend you to read it.
