Sanjay Bakshi on Checklists

“Knowledge is power.” —Francis Bacon

Knowledge is Power, and Farnam Street is the Street where Warren Buffett Lives

Farnam Street’s The Knowledge Project is Shane Parrish’s podcast where he “interview[s] people from across the globe to deconstruct how they think, live, and connect ideas. The core themes will seem familiar to Farnam Street readers: Decision Making, Leadership, and Innovation.”

In the third episode of the Knowledge, Shane Parrish talks to Professor Sanjay Bakshi on reading, mental models, worldly wisdom, checklists and investing.

To listen to the interview, click here.

To read the transcript, click on the image below or here.

Transcripts are provided for all podcast interviews, and available via signing up for a membership over at Farnam Street.

Checklists: Sanjay Bakshi’s Wisdom

One of the subjects discussed by Shane and Sanjay in the interview is checklists. In his answer to Shane’s question Sanjay elaborates on how to think about checklists.

Sanjay_Bakshi_FS[Shane Parrish] And for Charlie, and for you, you can probably just mentally go through this list. How do you feel about checklists, or how do you make sure you have thought about things from— it seems like ever since Atul Gawande’s book The Checklist Manifesto there’s been a movement not only in the value investing community, but a movement in hospitals, a movement to go back to—maybe the airlines are doing something right: maybe the low fatalities and the very methodical approach to things has an advantage. How do you make sure that you’re capturing all the mental models that you have? And bringing them to bear on a particular problem?

[Sanjay Bakshi] When you think about checklists, I think what you’re trying to do is to reduce your rate of error. And there’s a trade-off here. I think what Atul Gawande has done – he’s done a marvellous service to civilisation by giving us a framework for how to reduce error. And it doesn’t have to be domainspecific. It could be flying a plane, as he talks about in Chapter 1 in that book. It could be about running a hospital operation. It could be also be about running an investment operation.

But all of that is focussing on how to reduce error. But that’s just one aspect of it. Because reducing error is not always the most optimal thing to do. You also have to be creative. If you’re going to be creative, you’re going to make mistakes. If you look at any business which has been innovative, you’ll find that they have made mistakes. So there are two things here: you need to have the framework to create insights, which means you need to have a creative mind-set, which means that you should be willing to experiment, and sometimes make mistakes. At the same time, when you’re actually making big decisions, you also need to have a framework to reduce error. I think Atul Gawande’s work, and the movement that he has created that you are referring to, deals very well with that aspect. It doesn’t deal at all with the idea that you want to be creative. You need both. You need to have the ability to have unique insights. And you also need to have the ability to reduce your error rate.

Relevant Links

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.


Think Twice: Checklists

“Before I enumerate those actions, let’s start with what you need not do. You needn’t think twice before every decision. Since most decisions will be straightforward, with clear-cut repercussions, the mistakes in this book will not be relevant. We all make lots of decisions every day, and the stakes are generally low. Even when they are not low, the best course is often obvious enough.

Think Twice’s value comes in situations where the stakes are sufficiently high and where your natural decision-making process leads you to a suboptimal choice.

So you must learn about the potential mistakes (prepare), identify them in context (recognize), and sharpen your ultimate decisions when the time comes (apply). Here are some thoughts on what you should do differently tomorrow.”

—Michael Mauboussin, Think Twice

Mauboussin on Creating a Checklist

Think Twice by Michael Mauboussin is a great book for everyone who wants to gain a deeper understanding and learn more about the different kinds of heuristics, i.e., mental shortcuts that allows people to solve problems and make judgments quickly and efficiently. These rule-of-thumb strategies shorten decision-making time and allow people to function without constantly stopping to think about their next course of action. Heuristics are helpful in many situations, but they can also lead to cognitive biases.

Mauboussin wraps up by offering some very concrete actions based on the discussion in the book. The actions are: 1) Get Feedback, 2) Create a Checklist, 3) Perform a Premortem, and 4) Know What You Can’t Know.

Since the subject of checklists has been up for discussion on this blog before, I thought I’d save the part from Mauboussin’s concluding thoughts and discussion about the second action point: Create a Checklist.

Below is an excerpt from Think Twice: Harnessing the Power of Counterintuition, written by Michael Mauboussin. I encourage you all to read it. Every page is full of insights and advice that you will benefit from in your day-to-day operations and decision-making.

Create a Checklist. When you face a tough decision, you want to be able to think clearly about what you might inadvertently overlook. That’s where a decision checklist can be beneficial.

For example, in 2009 the New England Journal of Medicine published the results of a study tracking the rate of complications from surgery before and after the introduction of a checklist. The study was based on data from more than seventy-six hundred operations in eight cities around the world. The researchers found that rate of death dropped almost by half when the doctors used the checklist, and that other complications fell by one-third. [7] Pilots, of course, also find great value in checklists to ensure safety. But the question is whether you can develop a checklist for all activities.

People underutilize checklists. But a checklist’s applicability is largely a function of a domain’s stability. In stable environments, where cause and effect is pretty clear and things don’t change much, checklists are great. But in rapidly changing environments that are heavily circumstantial, creating a checklist is a lot more difficult. In those environments, checklists can help with certain aspects of the decision. For instance, an investor evaluating a stock may use a checklist to make sure that she builds her financial model properly.

A good checklist balances two opposing objectives. It should be general enough to allow for varying conditions, yet specific enough to guide action. Finding this balance means a checklist should not be too long; ideally, you should be able to fit it on one or two pages.

If you have yet to create a checklist, try it and see which issues surface. Concentrate on steps or procedures, and ask where decisions have gone off track before. And recognize that errors are often the result of neglecting a step, not from executing the other steps poorly.

[7] Atul A. Gawande, MD, et al., “A Surgical Checklist to Reduce Morbidity and Mortality in a Global Population,” New England Journal of medicine 360, no. 5 (20009): 491-499. See also Peter Bevelin, Seeking Wisdom: From Darwin to Munger, 3rd ed. (Malmö. Sweden: Post Scriptum AB, 2007), 287-296.

Checklists come with pros and cons. Handle with care, and hopefully, your checklist will help you in your attempt to make smarter and more insightful decisions.

See here for earlier blog posts in the category: Checklists. Here you’ll find more to read about Atul Gawande, among other things.

Further Reading: Mauboussin

Check out the official homepage of Michael Mauboussin here. Below are a list of other great books from Mauboussin worth reading.

Further Reading: Atul Gawande

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.

Checklist for Evaluating Generals

“We’re generally overconfident in our opinions and our impressions and judgments.”

—Daniel Kahneman

Different Weather Requires Different Clothing…

In his Partnership Letters Warren Buffett discusses four different investment methods used by him in order to best act in accordance with his investment principles. The methods are: (1) Generals-Private Owner, (2) Generals-Relatively Undervalued, (3) Workouts, and (4) Controls.

In Buffett’s Ground Rules, written by Jeremy Miller, the author provides the following checklist as a tool for evaluating a potential investment in a General, i.e., both Generals-Private Owner and Generals-Relatively Undervalued.

Here is a checklist for evaluating a potential investment in a General: (1) Orient: What tools or special knowledge is required to understand the situation? Do I have them? (2) Analyze: What are the economics inherent to the business and the industry? How do they relate to my long-term expectations for earnings and cash flows? (3) Invert: What are the likely ways I’ll be wrong? If I’m wrong, how much can I lose? (4) What is the current intrinsic value of the business? How fast is it growing or shrinking? And finally, (5) Compare: does the discount to intrinsic value, properly weighted for both the downside risk and upside reward, compare favorably to all the other options available to me? 

I enjoy reading Buffett’s Ground Rules, and one third into it I can highly recommend it. In this book the author provides a compilation of the old Buffett Partnership letters, and discusses different investment principles, methods, and digs into some of the investments made by Buffett during the 1956-1969 era.

The author then goes on to provide some insight about what to do when you’re not able to clear each paragraph in the checklist.

If you find yourself unable to make it all the way through the checklist, then write down in a single paragraph the metrics of the investment. If you get caught up along the way, either do more work or simply forget the idea as “too hard” and move on to something else.


New Mauboussin Paper: Total Addressable Market (incl. Checklist)

Title: Total Addressable Market – Methods to Estimate a Company’s Potential Sales
Authors: Michael J. Mauboussin & Dan Callahan, CFA
Date: September 1, 2015

“TAM is an area where overconfidence and optimism are rife. We have provided some analytical approaches to check these biases and to come up with a reasonable assessment of whether the market’s expectations are reasonable.” —Mauboussin & Callahan, Total Addressable Market – Methods to Estimate a Company’s Potential Sales

The concept of total addressable market (TTM) is the subject of Mauboussin and Callahan’s most recent paper.

“The ability to calibrate the total addressable market (TAM) is a major part of anticipating value creation. Since 1960, about one-third of the value of the S&P 500 Index has been attributable to the anticipated payoff from future investment. Assessing value creation requires understanding how much a company can invest and the returns those investments will earn.

We define TAM as the revenue a company would realize if it had 100 percent share of a market it could serve while creating shareholder value. TAM is a concept that executives and investors use frequently, but that few define properly or thoughtfully. You should recognize up front that TAM is not about how large a firm can grow to be but rather how much it can expand while adding value”

Click on the image below to read the paper.


Included in this paper is an checklist addressing certain important questions to consider when performing an analysis of TAM.

Checklist for Estimating a Total Addressable Market

Categorizing New Products

  • Is the product technology new or current?
  • Are the customers new or current?

Market Size

  • Are the users and payers of the good or service the same?
  • How much money do the buyers have?
  • Are the resources of buyers growing or shrinking?
  • Are there physical limitations, such as how much one can eat or use a product, that can curb demand?
  • What is the elasticity of demand?
  • How cyclical is demand?
  • How do consumers allocate their time and money now and how might that change?
  • Are the suppliers and sellers of the good or service the same?
  • What is the business’s production capacity?
  • Is there a reliable infrastructure to get the goods or services to market?
  • How broad is the geographical footprint?
  • Where is the industry in its life cycle?
  • What does that imply about the growth rate and pricing flexibility?
  • Does manufacturing capacity match the rate of growth in demand?
  • Is the company using pricing as a lever to drive scale or to increase profitability?
  • Are there existing or potential economic or social regulations that could limit TAM?
  • What are management’s incentives and are they aligned with shareholders?
  • Are there economies of scale? Local? National? International?
  • Are there two or more competitors, which could push each company into a separate niche?

TAM and the Bass Model

  • Which stage of the life cycle is the company’s industry in?
  • What analogous products can inform your estimates for the Bass Model parameters?
  • Limitations of the Bass Model When a consumer buys something once, how frequently does he or she replace it (repurchase rate)?
  • Has the company’s good or service overshot the market?
  • Might that happen soon?
  • Does the company have a competitive advantage that will allow for value creation over time?
  • Do network effects exist?
  • Consider Base Rates What happened to other companies when they were in a situation similar to the one you are examining?
  • Are your TAM estimates plausible when considering these base rates?

TAM and Ecosystems

  • Does the company operate primarily a physical, service, or knowledge business?
  • What is the company’s source of advantage?
  • What are the investment triggers?
  • Does the company sell rival or nonrival goods?
  • Are there opportunities to extend into new business categories?

Want More?

See here for a collection of links to other Mauboussin papers.

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.

Guy Spier on Checklists for Investors

“A checklist is a way of managing your own mind and guarding against your own proclivities, so it needs to be based on this kind of self-awareness.” ―Guy Spier, The Education of a Value Investor

TEOAVI1Investment Checklists and Surgeons

In The Education of a Value Investor Guy Spier discusses the subject of checklists, and how to develop and use them in investing. This is the main subject of chapter 11―An Investor’s Checklist: Survival Strategies from a Surgeon. Spier shares some of his own insights and his view of checklists as a tool to prevent investors from making mistakes.

What’s the Use in Using an Investment Checklist?

Let’s consider a few points before moving on, to get a quick refresher on the subject of investment checklists, and why a checklist could serve you as an investor good in your investing process.

All quotes below are taken from Guy Spier’s book as referred to above.

Who? An investment checklist for you yourself as an investor.

“…it’s important to recognize that my checklist should not be your checklist.”

What? An investment checklist containing broader categories (“including themes such as leverage and corporate management”) made up of individual checklist items (such as “has this management team previously done anything self-serving that appears dumb?”).

“…design checklist items that would help to prevent us from repeating […] mistakes.”

When? As a tool to be used before we make a final decision to buy or not buy into a certain business.

“Before pulling the trigger on any investment, I pull out the checklist from my computer or the filing cabinet near my desk to see what I might be missing.”

Where? As an integral part of your ongoing investment process, and as a tool in your business analysis and investing.

“The checklist is invaluable because it redirects and challenges the investor’s wandering attention in a systematic manner. I sometimes use my checklist in the middle of the investing process to deepen my understanding of a company, but it’s most useful right at the end as a way of backstopping myself.”

Why? Minimize the probability of permanent loss of capital. Our mind sometimes plays tricks on us and we better watch out and do our best to mitigate these so-called biases (or heuristics) that affects our decision making. As Warren Buffett once said: “Rule No. 1: Never loose money. Rule No. 2: Never forget rule number one.”

“The brain is simply not designed to work with meticulous logic through all of the possible outcomes of our investment decisions.” 

“The goal in creating a checklist is to avoid obvious and predictable errors.”

“…the items on [pilots’] checklists are designed to help them avoid mistakes that have previously led to plane crashes. In investing too, the real purpose of a checklist is to serve as a survival tool based on the haunting remembrance of things past.”

An Investment Checklist as a Way to Avoid “Cocaine Brain”

Spier talks about a certain problem, a mental state that he refers to as the “cocaine brain” and explains as…

“…the intoxicating prospect of making money can arouse the same reward circuits in the brain that are stimulated by drugs, making the rational mind ignore supposedly extraneous details that are actually very relevant. Needless to say, this mental state is not the best condition in which to conduct a cool and dispassionate analysis of investment risk.”

To keep it simple. Each checklist item you chose to put up on your checklist, you include for one reason, and one reason only. That is, to avoid the cocaine brain mental state, and to make your best effort in trying to make sure not to break the two rules mentioned above by Buffett.

Checklist Items: The Warren Buffett Way

The Oxford Dictionaries defines the word “Checklist” as:

A list of items required, things to be done, or points to be considered, used as a reminder. (Source: Oxford Dictionaries

As any checklist, an investment checklist is often made up of individual checklist items, that together constitute broader categories, that in turn form the checklist as a whole. Let’s look at an example to see what these broader categories may look like, by looking at a well-known quote from Warren Buffett taken from his 1977 letter to shareholders, where he lays out four things that he looks for in a business (emphasis added).

“We select our marketable equity securities in much the same way we would evaluate a business for acquisition in its entirety. We want the business to be (1) one that we can understand, (2) with favorable long-term prospects, (3) operated by honest and competent people, and (4) available at a very attractive priceWe ordinarily make no attempt to buy equities for anticipated favorable stock price behavior in the short term.  In fact, if their business experience continues to satisfy us, we welcome lower market prices of stocks we own as an opportunity to acquire even more of a good thing at a better price.”

The quote above contains four points (or broader categories): 1) an understandable business, 2) favorable long-term prospect, 3) honest and competent people, and 4) an attractive price. For each one of these points one needs to determine what factors (individual checklist items) to consider to be able to reach a conclusion. Another quote from Buffett could give some advice on what to look for when evaluating management (emphasis added).

Passion is the number one thing that I look for in a manager. IQ is not really that important. They need to be able to work well with others and the ability to get people to do what you want them to do. I’d say intelligence, energy, integrity. If you don’t have the last one, the first two will kill you. All you have is a crook who works hard. If a person doesn’t have integrity, you want them dumb and lazy.” (Source: Buffett FAQ)

And how could you find the information you need to make a judgement call like this? Again, let’s turn to Buffett for some advice (emphasis added).

“Almost everything we learn is from public documents. I read Jim Clayton’s book, for example. There is adequate information out there to evaluate businesses. We do not find it particularly helpful to talk to managements. Often managements want to come to Omaha to talk, and they come up with all sorts of reasons, but what they really hope is that we become interested in their stock. That never works. The numbers tell us a lot more than the managements. We don’t give a hoot about anyone’s projections. We don’t want even want to hear about it.” (Source: Buffett FAQ)

Checklist Items: A Few Examples from Guy Spier

In the book Spier gives a few examples of different kinds of checklist items in connection to different case studies that he goes though to show the reader the reasoning behind how he derived the items in question.

To put each checklist item below in the proper context, I urge everyone to check out Spier’s book and to read each of the case studies. In this post I will just briefly quote the questions as examples of what a checklist item could look like.

The first case study called “The Man Who Lost His Cool” is about the author’s investments in different for-profit education companies. Here the reader gets two checklist items that seem to belong in the corporate management category.


“Are any of the key members of the company’s management team going through a difficult personal experience that might radically affect their ability to act for the benefit of their shareholders?”

“Also, has this management team previously done anything self-serving that appears dumb?”

The second case study is called “A Tortuous Tale of Tupperware,” and it’s about the Tupperware Plastics Company. This investment turned out to be a failure, and a failure that failed slowly. The reason? Because “…there was too much competition, and the high price of its products had become a serious obstacle to growth.” In this case, Spier concludes that he “…failed to ask the most obvious question: does this product offer good value for money?” Spier further concludes that “This misadventure taught me an invaluable lesson: I want to invest only in companies that are a win-win for their entire ecosystem.” With ecosystem Spier refers to “the value chains.”


“Is this company providing a win-win for its entire ecosystem?”

In case study number three “What Lies Beneath?” Spier goes on to discuss his investment in CarMax―“the Wal-Mart or Cotsco of secondhand cars.” CarMax business is heavily dependent on the company being able to provide its customers with financing, since without financing customers won’t be able to buy a car. In other words, debt markets was (and is) of utmost importance for CarMax’s business model. So, what happened? The financial crisis happened, and customers were not able to obtain the credit needed to buy a car, and as a result sales dropped and the stock price dropped too.

Spier’s greatest insight from his CarMax investment was that the “…situation taught [him] how critical it is to discern whether a business is overly exposed to parts of the value chain that it can’t control.” 


“How could this business be affected by changes in other parts of the value chain that lie beyond the company’s control? For example, are its revenues perilously dependent on the credit markets or the price of a particular commodity?”

The fourth, and the last, case study is “How I Lost My Balance.” This case study is about a food company called Smart Balance (since renamed Boulder Brands), and about the author’s “narcissistic hubris” that led him to pay too high a price for the business.


“Is this stock cheap enough (not just in relative terms)?”

“Am I sure that I’m paying for the business as it is today—not for an excessively rosy expectation of where it might be in the future? Does this investment satisfy me psychologically by meeting some unmet personal need? For example, am I keen to buy it because it makes me feel smart?”

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.

Pabrai’s Dhandho Checklist: Seven Questions to Ask Before Buying

“Good checklists, on the other hand are precise. They are efficient, to the point, and easy to use even in the most difficult situations. They do not try to spell out everything–a checklist cannot fly a plane. Instead, they provide reminders of only the most critical and important steps–the ones that even the highly skilled professional using them could miss. Good checklists are, above all, practical.” ―Atul Gawande, The Checklist Manifesto: How to Get Things Right

The Dhandho Investor: The Low-Risk Value Method to High Returns, written by Mohnish Pabrai, was released in 2007. Over at Amazon the book is described as “A comprehensive value investing framework for the individual investor. In a straightforward and accessible manner, The Dhandho Investor lays out the powerful framework of value investing.” I read the book back when it was released, and it’s a decent book.

But anyways, except for that, I scrolled though the book yesterday, and in the end Pabrai sums up a few questions for the investor to ask before consider buying into a business. These seven questions could be compared to Warren Buffett’s own four checklist questions that he wrote about in his 1977 letter to shareholders―see end of post.


Much of this book has fixated on the various nuances of buying stocks. This is by no means a summary, but here are seven questions that an investor ought to be thinking about before entering any stock market chakravyuh:

1. Is it a business I understand very well—squarely within my circle of competence?

2. Do I know the intrinsic value of the business today and, with a high degree of confidence, how it is likely to change over the next few years?

3. Is the business priced at a large discount to its intrinsic value today and in two to three years? Over 50 percent?

4. Would I be willing to invest a large part of my net worth into this business?

5. Is the downside minimal?

6. Does the business have a moat?

7. Is it run by able and honest managers?

One should only consider buying if the answer to all seven is a resounding yes. If a well-understood business is offered to you at half or less than its underlying intrinsic value two to three years from now, with minimal downside risk, take it. If not, take a pass on entering this chakravyuh. There will be better chances in the future.

In essence, the questions above from Pabrai’s book are pretty much another way of saying the same thing as Warren Buffett did back in 1977 in his letter to shareholders:

“We select our marketable equity securities in much the same way we would evaluate a business for acquisition in its entirety. We want the business to be (1) one that we can understand, (2) with favorable long-term prospects, (3) operated by honest and competent people, and (4) available at a very attractive price. We ordinarily make no attempt to buy equities for anticipated favorable stock price behavior in the short term.  In fact, if their business experience continues to satisfy us, we welcome lower market prices of stocks we own as an opportunity to acquire even more of a good thing at a better price.”

As Pabrai, you should keep learning from the ones before you that you look up to as role modes. Bring to you all their wisdom and thinking that’s worth carrying on your own journey. Be it about life itself, value investing or any other endeavor. The most important thing is to never stop learning.

“A man may die, nations may rise and fall, but an idea lives on. Ideas have endurance without death.” ―John F. Kennedy

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.

5GQ: Michael Shearn – The Investment Checklist [TRANSCRIPT]

“…the number of questions is not so much the important, but it’s just that the quality of the questions and then come to having that analytical judgement on which questions are important for a particular company.” —Michael Shearn

In this post you find the most recent interview from 5GQ with Michael Shearn, the author of The Investment Checklist: The Art of In-Depth Research.

I have transcribed the first two questions, question number one beeing about what part in a 10k to look at and the second question about how many checklist items there are in Michael’s own investment checklist.

For questions number three to five I have transcribed only the question, so you can see what they’re about and go to the video interview to hear Michael’s answers to these questions.


  • 5GQ1Q1: What part of the 10k do you spend the most time with? There’s so much information in there, what section do you think that investors maybe aren’t paying enough attention to you?
  • A1: When I look at a 10-K, my goal is I wanna understand what the business does. I also want to know how how does it make money. So one of the first thing we look at is, we go to the income tax footnote, and what we wanna see is: Do they make money? Because under the income tax footnote, that’s usually about note 12 or around there, they have a line item called “Current taxes” and that’s the money that they send to the IRS. So if a company is not making money, they’re not gonna be, on a cash basis, they’re not gonna be sending any money to the IRS. So that’s kind of the first stop in the 10-K, to see if there even making money.Just to give you a historical example I remember looking at Enron, and looking at that footnote and it was negative. They were not making any money.

    But after that you know the other section, this is something I’ve learned recently, is the risk section, because it’s really, if you think about pharmaceutical drugs, there’s funny commercials where they’re always talking about all the risks, the things that can happen to you. They are pretty much disclosing a full amount of things that can happen. The same thing happens in the 10k under the risk section, and what happens is that it’s very easy to gloss over those risks because they are written in very plain language, and so it’s very important that kind of spend a lot of time there because every company that has failed or had a problem, the problem has been in the risk section, it’s always in there. But what happen is that the language is written in such a way where it’s not alarming and it’s kind of innocuous language. So what we do is that we look at the risks and we read it and we try to understand; Has this company encountered any of these risks before, is there an historical example that we can look to, to see kind of how that risk affects the company or is this something we don’t know how it’s gonna affect the company?

    So we where recently looking at a company called FXCM, it kind of hit our screen so to speak and as we were reading articles about what was going on at the company the stock dropped quite a bit. They talked about exactly an article reference one of the risks that they had to make up their clients equity accounts if they ever got negative. But when we went to go read the footnote it was very innocuous, it kind of was written in such a way that it was very difficult to catch. So I think, you know for me, how it works, I really pay attention to the risk section because it really gives you a good insight into what could go wrong and you can do your worst case scenarios and things like that. … The lawyers make sure you cover all of them. … So you kind of really have to weigh those things and what’s real real big risks and what’s not. But I take the first part not the second part about stock fluctuations or clustering and things like that. It’s more the business risk section.”

  • Q2: How many checklist items do you have for your personal investment checklist?
  • A2: I look at a checklist more as a research process. What it allows us to do is a series of questions that allows us to examine the business from a lot of different perspectives. So we’re not looking at in, you know, in the past I spent a lot of time just focusing on whether the company had a competitive advantage and I’d ignore things like the customer side or the management side. And just kind of on that one thing. So the questions really help you get a holistic view of a business. But really the goal of it and the goal of the questions is, you kind of want to understand the distribution of the cash flows for a business. Are they narrow? Or are they wide? So there’s questions in there like fixed cost base that would tell you that they had a wide range, so you would know the earnings would fluctuate quite a bit. So it’s kind of a far as a number of questions and it really becomes kind of a judgement call. So for certain companies for example, let’s think of FactSet, a service that I subscribe to. I’m not gonna be really asking a lot of questions about their suppliers. But if I was looking at a metals recycler, well suppliers are very important ’cause they’re recycling metals, so the supply of the metal is very important or where they can get aluminum and to turn into steel so the questions kind of way depending on the company. But I will say there’s two questions I think must be answered for every company, and I think they carry a lot of the weigh. And the first question is: How dependent are the customers on the product or the service? That let you know, let’s say a restaurant, we’re not all dependent up on it. But it allows you to understand the degree to which those cash flows are gonna vary. Because if the customers are stuck to your product the more narrow distribution cash flow and the less surprises. But if your customers are not as dependent, they could use other areas, and you know there’s gonna be a lot more variation so you can prepare in advance for that. Second question, we always like to know who we’re partners with. Is management that we’ve evolved in our investment strategy we have learned to us it’s really the most important component so we spend a lot of time answering that question as well. But, you know, the number of questions is not so much the important, but it’s just that the quality of the questions and then come to having that analytical judgement on which questions are important for a particular company. So if you’re worried about the CEO and that they’re very aggressive in their accounting, well you will spend a lot of time on the accounting side. We just generally pass on those kind of companies. But say you’re a value investor and look at all different kinds of companies, you would have to spend a lot of time on adjusting the financial statements to make sure, to see what they’re really earning, because you know they’ve been aggressive in their accounting. So it’s really, it kind of depends on the company.

The remaining questions (not transcribed in this post) are:

  • A3: The subtitle of your book is the art of in-dept research and it really struck me while I was reading your book that the real art involved is a lot of these little adjustments that you can make to the numbers that you’re looking at when you’re performing you’re analysis to normalize things to get some kind of an idea of like how to approach what is happening in the real world, like economically versus the accounting. Other than just the obvious, you know, be conservative or find a margin of safety. Do you have any tips for us on have to make analytical adjustments?
  • A4: I think this is one of the greatest problems to solve as an investor, in a person doing research. There’s forty thousand stocks roughly in the world. You don’t have the time to be an expert on every single one of them. How do you go about narrowing down your universe to screening for the ones we think they’re gonna give you the best bang for your research buck so to speak? 
  • A5: If you think about investing like a horse race, where it’s a para-mutual betting basically, so you don’t always have to know who’s the fastest horse necessarily, but it’s the odds of winning versus the payout. I feel like your book gave an amazing insight into picking the fastest horse, a great checklist of all the different things that make up for a great business to buy, but I’d like to hear a little about how the price factors in in that context of horse-betting where it’s not all about the fastest horse. 

From having looked at the first two questions, let’s turn to the last one outside of the five ordinarily questions.

  • Q6: What book would you like to recommend? 


Whitney Tilson Talks at Google [SLIDES] + Checklist


Here’s and excerpt from the Google talk where Whitney Tilson discusses his four steps that he looks at when looking at a potential business to invest in (emphasis added):

WHITNEY TILSON: Well, I use a four-step—I actually have it taped to the wall next to my desk. My four-step process is first, when I look at any new stock is circle of competence. Do I know something about this industry? Is it knowable? Is the future predictable here? It’s almost like a yes or no thing. There is some gray area where maybe I don’t know it very well, but I think I can do some research and get some. So circle of competence. Then it’s: Do I like the company? And I look at financial characteristics, cash flows, return on equity, et cetera. So I evaluate the company. And by the way, I’ll invest in sort of crummy companies if it’s cheap enough. But ideally I’m looking for higher quality businesses that I can compound over time. Then I look at the industry, because a good company in a crummy industry, is going to struggle. So it’s a company and industry analysis, then management. And that’s really important. Both, do they run the business well? Do they allocate capital well? And do they treat shareholders well? And here’s the thing. I can find, right now I can find hundreds of companies that I understand really well, great industry and company dynamics, wonderful management, treats shareholders great. So what’s the problem? The stock’s not cheap. Everybody else on earth can understand it and likes the company and the industry and the management, and therefore, the stock price reflects it. The real key is to then just sit there and sit there and sit there and sit there and be super patient until I can find a situation where the stock price is well below what I think it should be, based on my analysis. And usually what that requires is for there to be some—the market thinks one thing, the variant perception that John talked about. To make money investing you only need to do two things. You need to bet against the crowd—that’s the easy part. And then you just have to be right. That’s the hard part. (Source: Talks at Google)


  1. Circle of competence
    1. Do I know something about this industry?
    2. Is it knowable?
    3. Is the future predictable here?
  2. Company & Industry Analysis 
    1. Do I like the company?
    2. Financial characteristics, cash flows, return on equity, et cetera?
    3. Higher quality business able to compound over time?
    4. Good or a bad industry?
  3. Management
    1. Do they run the business well?
    2. Do they allocate capital well?
    3. Do they treat shareholders well?
  4. Price
    1. Is the stock cheap?

Click image below for full PDF of slides from Tilson’s Google talk.



Tilson on Google (emphasis added):

And when you think about Google, by the way, if Google were to separate itself out and spin off Google Fiber and the self-driving car stuff, like Google is—a lot of those expenses are investing in things that are currently not generating any revenue. It’s just straight out losses. Like if you actually, I think a reasonable way to think about Google would be to sort of take out all the money losing stuff where—these pie in the sky thing—where Google actually has a pretty darn good track record of developing really valuable things down the road. And I might give Google credit for that, and say, how much is their core business really earning, x-ing out all these expenses. And it might be quite a bit of expenses, and you might actually say Google’s core business trading for 15 times earnings or something like a market multiple, and then you’re getting a free call option on stuff that—self-driving cars. If you guys nail that, that could change the world. That’s a worldwide game changer, and you guys will own it. I’m not sure I’d give Microsoft much credit for that. They have a horrible track record of just pissing money away over the years, and projects and acquisitions that just create no value. And Microsoft shareholders are sort of rebelling. But you guys seem to be a lot better at that. So again, that would be the argument for owning Google stock is that it’s really not as expensive as it appears because they’re expensing a lot of their expenses, their core business is even much more profitable than it appears. One of the world’s greatest businesses. And then they’re investing in a lot of new stuff where their’s likelihood to pay off. (Source: Talks at Google) 


Checklist: Step-by-Step Analysis of Competing Hypotheses

Below is an excerpt from Psychology of Intelligence Analysis in which the author discusses how to analyze competing hypotheses (emphasis added).

I have only included the introductory text of the chapter. To read the discussions for each step in the process for Analysis of Competing Hypotheses (ACH), please refer to the book in link above.

Chapter 8: Analysis of Competing Hypotheses

POIA2Analysis of competing hypotheses, sometimes abbreviated ACH, is a tool to aid judgment on important issues requiring careful weighing of alternative explanations or conclusions. It helps an analyst overcome, or at least minimize, some of the cognitive limitations that make prescient intelligence analysis so difficult to achieve.

ACH is an eight-step procedure grounded in basic insights from cognitive psychology, decision analysis, and the scientific method. It is a surprisingly effective, proven process that helps analysts avoid common analytic pitfalls. Because of its thoroughness, it is particularly appropriate for controversial issues when analysts want to leave an audit trail to show what they considered and how they arrived at their judgment.

* * * * * * * * * * * * * * * * * * *

When working on difficult intelligence issues, analysts are, in effect, choosing among several alternative hypotheses. Which of several possible explanations is the correct one? Which of several possible outcomes is the most likely one? As previously noted, this book uses the term “hypothesis” in its broadest sense as a potential explanation or conclusion that is to be tested by collecting and presenting evidence.

Analysis of competing hypotheses (ACH) requires an analyst to explicitly identify all the reasonable alternatives and have them compete against each other for the analyst’s favor, rather than evaluating their plausibility one at a time.

The way most analysts go about their business is to pick out what they suspect intuitively is the most likely answer, then look at the available information from the point of view of whether or not it supports this answer. If the evidence seems to support the favorite hypothesis, analysts pat themselves on the back (“See, I knew it all along!”) and look no further. If it does not, they either reject the evidence as misleading or develop another hypothesis and go through the same procedure again.

Decision analysts call this a satisficing strategy. (See Chapter 4, Strategies for Analytical Judgment.) Satisficing means picking the first solution that seems satisfactory, rather than going through all the possibilities to identify the very best solution. There may be several seemingly satisfactory solutions, but there is only one best solution.

Chapter 4 discussed the weaknesses in this approach. The principal concern is that if analysts focus mainly on trying to confirm one hypothesis they think is probably true, they can easily be led astray by the fact that there is so much evidence to support their point of view. They fail to recognize that most of this evidence is also consistent with other explanations or conclusions, and that these other alternatives have not been refuted. Simultaneous evaluation of multiple, competing hypotheses is very difficult to do. To retain three to five or even seven hypotheses in working memory and note how each item of information fits into each hypothesis is beyond the mental capabilities of most people. It takes far greater mental agility than listing evidence supporting a single hypothesis that was pre-judged as the most likely answer. It can be accomplished, though, with the help of the simple procedures discussed here. The box below contains a step-by-step outline of the ACH process.

So, the analysis of competing hypotheses consists of eight steps in total, as shown in the image below. To read about each individual step, please refer to chapter eight in the book.


Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.

Mohnish Pabrai, Guy Spier & Michael Shearn on Investment Checklists

Let’s start with a few words from Mohnish Pabrai on the use of an investment checklist from the Value Conferences session (see links below).

“For example, typically when I run the checklist the first time when I’m looking at an investment — it’s actually the last thing I do before making an investment — it usually takes no more than 15-20 minutes, maybe 30 minutes max to run it, but the first time I run it, it actually pops up all sorts of questions to which I don’t know the answer. That’s like been the biggest value addition, which is there are these blind spots that I have completely ignored. Then I go back and research the business some more to get answers to those questions and sometimes that can take a week or longer. Then I rerun a second time. Now the second time when I rerun it, we’ve got all the questions answered and we can see the failure or possible failure points.”

—Mohnish Pabrai

Go here for full transcript of the session.

See here for original post at Value Conferences.

Disclosure: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company or individual mentioned in this article. I have no positions in any stocks mentioned.