Sunday, March 23, 2008

Chris Browne On L&S

In "The Little Book of Value Investing" Christopher H. Browne has a small section with remarks about L&S. Well, with L&S he means the Swiss company Lindt and Sprüngli. While the Lindt chocolate bars (and right now the easter bunny) are exported to or produced in many countries and especially popular in Germany, their Sprüngli stores are local and mainly centered in and around Zurich.

Their reason to stay local was that in order to keep the quality high the products had to be fresh and produced locally and therefore they did not want to expand further away. Nevertheless their stores are all over the place in town and when it comes to chocolate in Switzerland, they are the number one brand here (well, not that they have no competition, you can go in other stores here and pay up to USD 10 for a 100g bar). Their main store with a big Caffee shop is at the heart of the city, at Paradeplatz, accross the two big Swiss bank main buildings, where Credit Suisse has its head quarter and UBS sees to its rich private banking clients.

Now let's see what Christopher H. Browne from Tweedy, Browne fame has to say about "L&S":
Another example from about the same time was Lindt and Sprungli (L&S), a Swiss candy company. Lindt makes expensive chocolates and has a great brand name. It was and is highly profitable. When we ran across Lindt and Sprungli, it was selling for 10 times reported earnings. That was pretty cheap especially since U.S. companies had recently bought another Swiss candy company and one in Norway for more than 20 times earnings. L&S was cheap for two reasons. The Swiss stock market was down because inflation had risen to an unheard of rate of 3.5 percent. The Swiss are buggo on inflation, which may help explain why they have one of the strongest currencies in the world. And Herr Sprungli had recently divorced his wife and remarried a Scientologist follower of L. Ron Hubbard. This had spooked the Swiss stock market for fear that the new Frau Sprungli might be appointed to the board of the company. A Swiss banker friend of ours told us that the former Frau Sprungli and her children had more stock in the company than her former husband, and she had told him that if he put his new wife on the board of directors, she would fire him. The Swiss are very pragmatic.
Apart from the gossip, he gives some insight into the financial numbers from a point in time that I guess is located more on the left site of this chart then the right one:

LISN.SWX chart
As we pursued our due diligence of the company, we saw that in addition to selling at 10 times earnings, L&S was selling at only 3.5 times cash flow. Cash flow is pre-tax, pre-interest expense earnings plus noncash charges for depreciation of fixed assets like factories and machinery. This is the money a company throws off before the tax man takes his share. Something did not compute. This was too cheap. Companies are allowed to depreciate their investments in fixed assets like factories and machinery on the theory that they wear out and the company will have to build new factories and buy new machinery over time. The number of years you can use to depreciate factories and machinery is usually dictated by government tax authorities. Switzerland is different. The companies choose their depreciation schedule. By dividing the depreciation of L&S into its fixed assets, the value of its factories and machinery, it looked like its depreciation schedule was about 26 months. Now, Switzerland is not Burma. The factories are not built of bamboo. More likely, a Swiss factory could withstand anything short of a direct nuclear hit. When we asked about this, we were told that Herr Sprungli was a very conservative man. When we made an adjustment to the rate of depreciation, L&S was selling for only 7.5 times earnings. When similar companies were bought for 20 times earnings or more, L&S looked pretty cheap.
Just for the record, official 2007 income numbers let Lindt & Srpüngli trade with a P/E of 30. At the moment, Google looks slightly cheaper.

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