The Dodo Club (51st Edition)- Making Good Money (4) – Growth (and Art)

My Bi-Weekly Guide

Renewal was a strong theme in the last Newsletter’s personal note.  And it appears here again!  I am delighted to report that my wife’s arm seems to be healing a little faster than expected after she broke it badly and needed surgery after a fall.  She has already started physiotherapy, and this is bringing the arm back to life again.

I also pay attention to ways that I need to refresh and renew my own abilities.  After a somewhat technical treatment of the Value Ratio in the last Newsletter, the question I posed at the end was “Do you find this attention to the value ratio illuminating or confusing?”.   One of our Newsletter readers, Arinze Oduah, emailed me to say that he found it more illuminating after he asked an AI platform to take the material and put it into the form of a simple story told by a professor to students.  With a couple of small tweaks, I also found this an engaging form of communication.  In case you are interested, here is a link to a copy of that story: The Tale of the Value Ratio.

The importance of engaging people in ways that bring new insights to life in their minds is one of the key scenario crafts I’ve always emphasised (e.g., see Newsletter Edition 4).  So, in future, I will experiment with whether a generative AI platform can help express storylines I’ve helped develop in different ways that help engage different audiences with different backgrounds.  That would refresh an existing skill of mine through learning a new skill in using new technological capabilities.

This Newsletter may again feel like a bit of a harder slog than typical editions, with its inclusion of a few financial terms and charts, but I hope you find reading it a valuable experience.  As always, it continues to build on threads we have explored previously, aimed at helping you build a better life for yourself and the people around you, despite the current socio-political challenges and disruptions across the world and your own personal challenges.  

I hope you continue to find all these Newsletters valuable and that they help you enrich your own personal or organisational perspectives. 

Making Good Money – Growth (and Art)

As introduced in Newsletter 48, we have been exploring a number of factors relevant to making good money in the broader (and narrower) sense.  As you will probably already be aware, Rembrandt is one of my favourite artists, but he was very poor at managing money.  He led a turbulent financial life, starting successfully but ending in bankruptcy and poverty due to extravagant spending, collecting, and the changing tastes of patrons.

Rembrandt may have etched the print below (“The Goldweigher”) as a token of gratitude to Jan Uytenbogaert, Holland’s Receiver-General or chief tax collector, for a financial intervention on the artist’s behalf. In 1639, the year of this print, Rembrandt sought to purchase an expensive house in Amsterdam but lacked the necessary down payment, as he was still waiting to be paid for paintings he had completed for Frederick Henry, Prince of Orange.  Uytenbogaert’s appeal on the artist’s behalf was successful, and Rembrandt’s purchase of the house followed soon after.  Whether that was ultimately a smart financial move by the artist is a different question!

In this portrait, the artist depicts Uytenbogaert exercising his professional duties.  Technically,  this is one of Rembrandt’s first uses of drypoint (engraving) to supplement an etching deliberately rather than just using it as a corrective.   He uses the technique to create the velvety character of Uytenbogaert’s fur coat and hat.

Digging into these kinds of details can be very helpful in deepening our appreciation of a work of art, and, in that spirit, we will now dig a little deeper into growth and value!

5 Lessons about Growth and Value:

1. The value of future Growth expectations:
   One of the key components in financial valuations is the assessment of the future earnings expected from an asset or company.  The higher the expected earnings, the higher the current value.  So, if earnings are expected to grow from today, then the ratio of the asset value to the current earnings will be higher than if they are not expected to grow.  As outlined in the last Newsletter, this idea is captured in the Price/Earnings, or P/E, ratio. A company that is not expected to grow earnings may have a P/E ratio around 15, a typical company may have a ratio around 20, and if the growth is expected to be outstanding, this may rise to 30 or more.
   
   Of course, the growth may come from a very low starting base, possibly because of current poor performance, which is expected to improve.  As noted in the previous Newsletter, a high P/E ratio only tells half the story of a truly effective value-generating enterprise.
   

2. Growth “Tipping Points”:
   We usually think of economic growth starting from today and being “faster” or “slower”.  But in economic sectors where new technologies are being introduced and deployed, such as in Energy Transitions, which I’m particularly focused on, this is not the best way to think.  Our perceptions are often dulled by looking at historical or current data in the aggregate.
   
   Aggregating data and showing averages tends to obscure what is happening in any given geography or any given sector of the economy. It may take time for this to happen, but once the stars align (more on this below), tipping points occur around the deployment of particular technologies in particular sectors. Passenger electric vehicle sales took off first in California, then in places like Norway and the Netherlands, and now in places like Germany, France, the UK, and particularly China. A similar pattern of multiple developments at different times in different places can be seen, for example, with the take-off of renewable power. 
   
   So the question is less “faster or slower?” – this type of growth is almost always fast – but “when?” might the stars align to kick off such explosive industrial growth? 
   
   The stars aligning – pioneer investments, early customers, supportive policy, and supply-chain partners – create the tipping points. 
   

3. Explosive industry growth and/or change:
   As noted above, significant changes happen “fast” and are often disruptive.  That’s the nature of a tipping point.  In energy-related systems, you only have to look at what is happening currently with the sales of battery-electric passenger vehicles or the deployment of solar power (see chart below), or further back to the shale revolution in the noughties, or the growth of the LNG industry in the 1970s, or even further back to the introduction of the car itself. And because global systems are so large, this explosive pace of growth can last for decades before it begins to be moderated by saturation effects. 
   
   This is largely driven by competitive dynamics.  Once the stars align and an early mover demonstrates even the slightest prospect of success, fear of being left behind motivates others to jump in as well. 
   
   (For those interested in a more technical underpinning of this insight, a simplified “game theory” analysis is included at the end of this Newsletter.)
   

4. Energy Transition growth arenas:
   The five main technological building blocks in energy transitions are outlined in Newsletter 17.  These are:
   - Demand moderation infrastructures
   - Renewable energies deployment
   - Electrification of the economy
   - Substitution of liquid and gaseous fuels
   - Carbon removals
   
   Growth in these broad developments opens up multiple opportunities for individual enterprises to identify specific areas where they can establish competitively advantaged enterprise growth that generates value. 
   
   Various tipping points have already occurred in these arenas as illustrated below.

   

5. Potential tipping points triggering future growth opportunities:

   In these Newsletters, I have tried to emphasise that the key to generating financial value is a combination of both growth and establishing economic strongholds that are difficult to compete away.  Being in a growing industry obviously improves the prospects of the former but many companies stumble over the latter.  This is often because they are latecomers, and earlier movers have already secured the sweet spots.  Hence, it makes business sense to look ahead for what possible future tipping points may be on the horizon and to establish advantageous positions in advance of competition.  A leading think-tank has recently published an overview of realised and anticipated energy-related tipping points (see Systemiq Report).

In summary, this Newsletter has taken a deeper dive into lessons on growth and value generation.  Our next Newsletter will take a closer look at the next factor identified in our first edition on “Making Good Money”, and that is being an early bird.

Please note: 

The arguments presented in this Newsletter are not providing investment advice and suggesting that you will generally find good investments for your funds wherever you find a high value ratio (with underlying higher than average ROCE and/or higher than average P/E).  Such a high ratio, however, is a signal that a company has been able to generate competitive strongholds of some kind.  If you are able to identify the nature of these and subsequently conclude that they are sustainable and expandable, then that may become an indicator of a potentially attractive opportunity.  

Question of The Fortnight

Every fortnight, I’ll be asking a thought-provoking question in hopes of sparking interesting and enlightening discussion.

I’d love to hear your response! You can do so by simply responding to this email.

Today’s question is:

What growth areas are you looking forward to, and which are you most worried about?

The Dodo Club Online Course

If you would like to learn more about the kinds of topics covered in these Newsletters, then please consider signing up for the introductory online course.

This covers scenario/systems thinking for grappling with uncertainty, an introduction to energy transitions, and the development of strategic character in leadership.

In the interest of avoiding the fate of that unfortunate bird, the Dodo, this course aims to help us secure our own personal legacies within a changing world and the energy transition - and to leave a healthier planet for future generations.

You can access the course through Udemy using the link below!

A series of follow-up courses that treat the main topics in increasing depth and detail will be provided if there is sufficient interest.