From the Chuck Akre episode of the ILTB podcast. A reminder that categories are an abstraction which may conceal competition, customer criteria, and the job to be done.
Patrick: [00:10:15] I’m a quant, but I recognize the art in each of those three legs of the stool and I’d love to spend a few minutes on each. So I came across a really interesting story in preparing for our conversation about a company called Bandag and I’d love to hear that as an example of trying to identify the essence of an underlying business’ value creation, and why it’s ROE can be above nine or 10 for a long period of time.
Chuck: [00:10:36] So this was actually in the days when I was at a firm called Johnston Lemon in Washington, DC. It was a brokerage firm and I was a principal in the firm and we had some interns around and I took an inbox that was full of things I’d tear out of magazines and papers and put in a box and gave them to this intern and said, “Look through there and see if you find anything interesting.”
A week later he came back and he said, “Well, here’s a really interesting company called Bandag.” Why is it interesting? Well, it had very high returns on capital and had done well for a long period of time. And I said, “Great, what business is it?” And he said, “It’s the tire business.” And I looked at the returns and the capital and said, “Well, it’s clearly not in the tire business.”
“What do you mean?”
I said, “Well, take a look at the returns and then take a look at the returns of all the other tire businesses you find and see how they relate to each other.” And Bandag’s was three or four times what they were. I said, “Obviously, it’s not in the tire business. It’s in another business. Our goal is to figure out what business it’s in.”
So we went out to see them and a fellow by the name of Marty [Carver] was running the business. It had been founded by his father, it was in Muskatine, Iowa, and I got to the meeting and Marty had his feet up on the desk and was eating an apple during our interview. So you got a different feel right off the bat, and their business was retreating truck and bus tires. It’s something I really knew nothing about before then.
And we had been through the oil embargo in the United States in the early ’70s, where prices of gasoline went through the roof and one of the principal components of tire molding and recapping is, of course, petroleum based. So it had caused all of their dealers to have a huge increase in the cost of doing business and when prices began to come back down, Bandag took those savings and distributed them to dealers on the basis that they had to use the money in the business.
They couldn’t go buy new Cadillac’s, but they could build a new store. So their principal competition were the major tire companies, all of whom had company-owned stores. All the Bandag stores were franchised. So they were dealing with independent dealers who, as they say, got there at six in the morning and closed at nine at night, as opposed to the employee-dealers, who got there at nine in the morning and left at six at night.
And these people were motivated by their own profits and whatnot, so Bandag, very wisely shared the wealth, as it were, with their dealers, instead of passing it all onto their shareholders, at that time. And it created a huge dealer loyalty and the dealers were able to… They did very sophisticated things about identifying the cost of fuel to a trucking operation if they had a Bandag tread on their tire as opposed to some other kind of tread. And truck tires and bus tires are built and designed to be retreaded two or three times. Most people don’t know that. Automobile tires are not. Bus and truck tires are constructed that way.
At any rate, so they had built this huge loyalty network of independent dealers who continued to use the Bandag name and product in their business, instead of national tire companies and as a result of that, the company had much higher returns on capital than other tire companies
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