Biglari Holding's (NYSE:BH-OLD) annual meeting was held on April 19, 2012. Approximately 50-75 people attended and it lasted about five hours. I wonder if the early Berkshire Hathaway (BRK.A, BRK.B) meetings looked like this. Like Berkshire Hathaway's Q&A segment, some questions are always repetitious. For example, one person questioned Sardar Biglari about the succession plans if an unfortunate event happened to the jockey of the horse. Granted no one's mortality is guaranteed but the question seems quite preposterous considering Sardar Biglari is only 34 years old.
The meeting started with the standard formalities and then Sardar Biglari spent about 20 minutes with opening statements. He showed a 5-10 minute clip displaying the grand opening of Steak 'n Shake in New York City. There was a humorous segment with David Letterman reminiscing about Steak 'n Shake during his childhood days. David Letterman was salivating on screen at the thought of a steakburger and milkshake. The new Steak 'n Shake opened right next door to the Late Show theater. In the next clip, David Letterman orders two steakburgers, fries, and milkshakes. It gets delivered to the studio so David Letterman and Paul Shaffer devour the food.
Sardar Biglari spoke about his business strategy of seeking deep value investments; seeking one dollar worth of value when it is selling for 50 cents. Then Biglari Holdings seeks a control stake in order to effectively change the business so the $1 grows to $2. Assuming it takes 5 years, this increases the rate of return from 15% to 32% annualized. This is a large challenge at hand that Sardar Biglari is willing to tackle. However, I am very confident in his abilities.
Sardar Biglari seems to be an emotionless individual who is passionate about the financial game. Money does not seem to be a motivating factor for him as his net worth is just a scorecard. He aims to halt the egregious destruction of corporate wealth and thus increase shareholder value. As a shareholder, I am confident and ecstatic that Sardar Biglari is a ruthless, intelligent, and persistent leader who I believe will generate much higher returns than his own conservative estimates. If you purchased Biglari Holdings exactly 4 years ago, your investment would have returned 28% annualized. I personally own stock and will continue to increase my stake.
There are clearly direct comparisons with Warren Buffett. Sardar Biglari and Warren Buffett coincidentally share the same birthday (August 30). However, in my opinion, Sardar Biglari reminds me more of Charlie Munger, and I state that as a compliment. I believe Charlie Munger is understated by the media, and could be the investing brains behind the massive compounding machine at Berkshire Hathaway. Charlie Munger and Sardar Biglari (in addition to Warren Buffett) are both emotionless, disciplined and wise individuals who are unaffected by the media. I hope Biglari Holdings will consistently be a great compounding machine.
Here are my notes for the 2012 annual meeting. Since it was hand-typed, there may be omissions or errors, which are purely unintentional. These are NOT verbatim quotes. I have summarized the answers to keep it concise. I have omitted some questions and answers that I felt you may not find interesting. I hope you enjoy them.
1. Do you think you should open new restaurants in new areas?
Sardar Biglari: The average unit is producing 65% more than the previous system. It looks attractive but we look at every investment on the best method to allocate capital. We prefer the franchise system since we already own 414 units. We want to use other people's money to generate a royalty stream. When we enter a new area with high population and high density, the marketing prowess and recognition in those areas are much higher. We rather have someone else's capital so it's less volatile and less risky. We opt for growing the franchising business as a strategic choice. We want to leverage the brand and the franchising side.
2. You showed a graph displaying how you plan to grow 50 cents to $2. You pledged that you will not sell Cracker Barrel (NASDAQ:CBRL). The problem with activism is the poison pill. You seem to be encouraging other shareholders to buy the stock and participate with you. You stated you will continue the process until you see the results. Is this your plan?
Sardar Biglari: We want like minded investors in the stock. I find poison pills and other entrenchment schemes to be strategies that protect deadwood. In the near term, it can work. Our modus operandi is geared towards seeing these businesses become successful. I like Rumble in the Jungle, the rope-a-dope strategy, where Foreman punched himself out. We want to employ the same tactic. Ultimately, we will prevail. We have a board member from Fremont Michigan Insuracorp (OTC:FMMH) who is no longer there. There was another board member in Fremont Insurance who had political connections and created a bill with the idea to slow down or have Biglari Holdings exit from the stock. In Fremont's case, they were hopeful we would go away. We did not and eventually we profited from the investment. We equate success in making money. Other people felt we lost but we made money. No situation should be so naively extrapolated. We are not going away because we are truly long term. We are going to outlast the Cracker Barrel board. We have not met with most of them. Once we get involved, it will be a productive situation. In Tennessee, once you are a 20% shareholder, you can't vote your shares. Thus, once we are over 20%, we can't vote our shares but now there is a poison pill. There is quite a bit of misinformation at Cracker Barrel. They want to divert you away from their dismal performance. Sam Walton said "High expectations are everything" but Cracker Barrel has very low expectations. They complain about everything such as high gas prices. Their dismal performance is being blamed for external factors. For example, they have about $2.5 billion in sales, and spend 2% in marketing. Half of it goes towards billboards. They have 1600 billboards. They are spending $14,000 per billboard. They are overpaying. There is no reason for paying that price. I know the prices for billboards. They pay too much.
In their employee break area, they have an employee restroom. Every time they increase the size of their restaurant, they increase the cost. There is no reason to have this. These are ideas we can share once we are in the inside. We need to have access to internal data to understand Cracker Barrel. It's difficult to do it from the outside but we have some ideas. We want rational management. The average operating unit has been declining. It's a discredit to capitalism. They should stop opening new units and increase the operating profit per unit. We don't have that kind of time. I know Phil doesn't. (Considering Phil's age, people laugh at this comment. Phil chuckles too.)
Phil Cooley: We are not short term investors. We don't flip flop. People accuse us of being short term but we are not.
Sardar Biglari: A lot of analysts don't know what they are talking about. Some of the Cracker Barrel's shareholders don't make any sense. They are siding with management. There have been two employee layoffs at Cracker Barrel. This is not good for morale. When I took over Steak 'n Shake, I was never in the restaurant business. In the first 90 days, I didn't move too quickly. I ensured we would make one big cut that would make sense at Steak 'n Shake. Don't think about downsizing unless you know it's the only one. Management should admit the business is declining and shareholders will appreciate that. It's time to set high expectations.
3. What kind of pace are you rolling out the franchise units?
Sardar Biglari: There are 130 franchise units contracted out. It is a slow process. In 2012, we will open 10. We are aiming for 12. For the next fiscal year, I'll let you predict. We have deposits of $2.6 million to open up new units. We hope to open internationally. It is going to take a while. We are spending $6 million more on franchising. We hope for a good return on the money. We cannot be overly optimistic about the growth. We are slow and methodical in designing a place. We are going to keep redesigning until we get to a place where we make the competition irrelevant. Any restaurant can open new units. We can't compromise. Everything has to be top notch.
Phil Cooley: Internationally, we will have large franchise agreements. We are looking at joint ventures. We like to use other people's money to grow our business. We want to maximize long term value of the brand. If it takes a few more years, we can wait. Most CEOs don't hold a position for more than 3 years. This industry is a great place to create value because most companies have a myopic view of the world.
4. What should Cracker Barrel do?
Sardar Biglari: Own the stock. (There was laughter and a pause.) That would cure quite a bit because their financial incentives are aligned. Why don't they own stock? Ask them. People get on boards to collect fees, not to create value. We put in nearly $190 million into the stock. Most of my liquid net worth is in Biglari Holdings so my net worth is predicated on the success of Biglari Holdings and thus, Cracker Barrel. We want to see returns and performance. One of the directors of Cracker Barrel said I would be impatient if I got on the board. I am patient on creating value but not patient on wasting money. There is too much ruinous behavior in corporate America.
Phil Cooley: Cracker Barrel should not be afraid of new ideas for the board. It may help solve their problems. They seem to be afraid of our ideas.
Sardar Biglari: At Steak 'n Shake, there was so much value created because we took an entrepreneurial approach.
5. What is your perspective on share buybacks at Biglari Holdings? The stock is either cheap or really cheap today. It would seem you have a great concept with Cracker Barrel. How do you evaluate that tradeoff?
Sardar Biglari: I outlined in my opening remarks about our approach to how we allocate our capital. Buybacks are one of the options. If we were to go forward, you would know.
6. Since you are putting all the capital into Cracker Barrel, are you all in or do you have the capacity to extract it out to put it into other investments?
Sardar Biglari: We explore all opportunities. We look at dozens of investments. We can look at creative ways to raise capital. We don't comment about investment portfolios. The only reason I comment about Cracker Barrel is because I created a website and have written 4 letters to them. We don't mind owning 17% of a larger company.
Phil Cooley: We own 1 out of 6 stores, 1 out of 6 of everything at Cracker Barrel. Whether it's 17% or all of it, we are owners of the company.
Sardar Biglari: There are a lot of possibilities. We like flexibilities and options. We are in Cracker Barrel with the mindset that we will own it for decades. Our goal is to make money and we are willing to wait it out. It doesn't matter how long it takes. It's only when you have a short term focus, you make decisions that don't make sense. Cracker Barrel has underperformed and has been undermanaged. We haven't even owned the stock for a year. This may take a long time. We are going to do what's best for the shareholders. I outlined this in the shareholders letter. We have the most flexible organization in the country. We are nimble. I feel pretty damn good where we sit today.
7. Going back to the Western Sizzlin transaction, when you purchased it for $23 million, did the Lion Fund purchase it?
Sardar Biglari: The Lion Fund initially owned 1/3 of Western Sizzling and had partial ownership in Steak 'n Shake. Western also owned Steak 'n Shake. This is what ultimately occurred. We founded Biglari Holdings and owned Steak 'n Shake and then bought Western Sizzlin with debentures. Today the parent has no debt and owns 100% of Steak 'n Shake and Western Sizzlin. In 2010, I sold Biglari Capital to Biglari Holdings for $1. Lion Fund initially owned the stock of Western Sizzlin and then it got converted to debentures. It was essentially a fully leveraged buyout. I didn't like the 14% debentures but it got refinanced.
8. Where is your cash today and your capital expenditures?
Sardar Biglari: I am not going to talk about our current cash position and where it could end up at the end of the year. Capital expenditures were higher because we purchased real estate. Maintenance capital expenditures have been relatively unchanged. I don't anticipate significant capital expenditures. We had $6 million in maintenance capital expenditures. It may be higher this year.
9. It's been a year since breakfast has been rolled out. What's the progress? Do you see significant increases in sales? What's causing the increase?
Sardar Biglari: Breakfast was a success and was up 66%. Breakfast is from 6am-11am. It was launched in February 2011 and it impacted same store sales by 1.1%. If growth becomes double digits, that is a very good outcome. We should be on track to get double digit same store sales. Incrementally, it has done quite well in terms of the new units. Some of the new products have higher velocity such as the guacamole burger and steak franks. 24% of our sales are based on new products and limited time offers. The new units have been getting a disproportionate number of newer products. New markets are easier to test out because the customers aren't loyal yet. We make everything the old fashioned way. We make everything fresh. What would our customers want? They want an authentic meal that is made from scratch. We need to continue to innovate so it's well received. Our innovation pipeline is the best in class.
Phil Cooley: I like the late night business because people spend more money at night. You can try to guess why. (People laugh at this comment.)
10. When will there be another meeting regarding splitting the stock into dual classes?
Sardar Biglari: It has been postponed. We want shareholders who are long term investors. When we issue a stock as a dividend, nothing will change. I look at every shareholder as a partner. As we make acquisitions, voting power will not decrease. Economic interest may change. If you own 10% of the company and we purchased another company and I used stock, you will maintain your voting power but your economic interest may decrease to 5%. There are institutions who don't like dual class structures because companies abuse it or the founders control the company. Sometimes the founders are bad managers who make egregious decisions. We founded Biglari Holdings. We didn't simply get into this position because someone hired me. This is a jockey stock. You are betting on me. If you don't like me, don't own the stock. Holding companies and well managed ones should have dual class structures. A lot of things in finance make sense in one situation but not in another. We need a dual class structure because I don't want to lose shareholders who understand our process. We don't want to risk our position if the market is not recognizing it. Phil?
Phil Cooley: I think you explained it well.
11. Could you elaborate on the $6 million on franchising?
Sardar Biglari: As we continue to develop the franchising programs, we hope the franchisees have the potential to grow with us. It is an annuity stream. Subway has zero company owned locations. He did quite well in gaining franchisees and has a wonderful growth trajectory. We are starting from scratch. Even though Steak 'n Shake is 75 years old, we are starting new. We plan to dominate the burger and milkshake industry. Our mission statement is simple; we plan to serve the finest burgers and shakes in the business. We are always looking to improve quality. We don't charge the highest price. What's the maximum value we can deliver to the customer? It's easy to lead. It's hard to dominate. That is what we are looking to do. We have 20 million more patrons since 2008 going to the same 414 stores. Steakburgers make up 50% of our business. We want the franchisees to create a following. As the business grows, it will snowball.
12. Shake Shack only carries organic products. Are the burgers at Steak 'n Shake organic and will you introduce organic products to the menu?
Sardar Biglari: It's difficult to get organic and it costs a lot. You can get organic at the Broadway location but it costs more. Shake Shack is great but we are the pioneer. Danny Meyer has done a great job. However, I don't think all their ingredients are organic. We have him behind the curb in getting rapid. We have fresh cut fries, milkshakes, and fresh bananas. We are unmatched when it comes to shakes. Ours are handmade. Other places use machines. The value proposition is great for the price. NYC prices are the same as elsewhere. Consumers are looking for natural products. We are the first national chain to have an organic product. It is only in one unit but I want to see it rolled out. We take a position that we don't know our customer. If we know our customer, we stop innovating. In New York City, we are selling more organic steakburgers than the regular steakburger.
13. How are you going to modify the tastes for expanding internationally?
Sardar Biglari: The burgers and shakes are loved almost worldwide. Some places won't eat beef. Most places want the organic products.
Phil Cooley: The percentage of our sales from new products is 24%. It is important for menu change and innovation. Who is in charge of menu strategy at Cracker Barrel? That person is not good at menu strategy.
Sardar Biglari: There are supply chain issues especially internationally. They will have the same great quality and same burger. Specifications will not change. We want the same experience no matter where you go.
14. Steak 'n Shake recently issued debt. Why did it take on short term debt versus long term debt?
Sardar Biglari: We could have issued any type of bond or various debentures. We did not cosign it with the parent. Companies are worth more when they are properly capitalized. There is no risk at the holding company. I recommend the chapter on capital allocation in Ben Graham's 1951 edition.
15. Could you comment on the last month's numbers on Steak 'n Shake at the Broadway location?
Sardar Biglari: I know it but I won't comment on it.
16. Do you think Cracker Barrel will be smart in franchising its restaurants?
Sardar Biglari: Nobody said that was smart. Next question.
17. What is the intrinsic price of Biglari Holdings?
Sardar Biglari: I think I lay out the information needed to determine the approximation of the intrinsic value of the company. You can use discount cash flow calculation for the intrinsic value. We do not want our stock to be irrationally priced. I have no comment on what the price is. Why did intrinsic value grow faster at Steak 'n Shake? It's because earnings went up slightly. Then intrinsic value increases. The franchisee investment is increasing value. We don't have much in capital expenditures.
18. Can you talk about our investment in CCA Industries and your relationship with the board?
Sardar Biglari: We don't talk about specific investments.
19. Capital expenditures at Steak 'n Shake are very low. Do you have to spend more money in the future?
Sardar Biglari: It sounds counterintuitive but we grew the business and capital expenditures have stayed low. We have invested more money in the units than before. The maintenance capital expenditure is higher. We want to take care of our customer. We spare no expenses but we want to maintain efficiency. The awnings you see cost $20,000 and we have to change them every few years. We look at other options before we change it. We compare the prototype with the old Steak 'n Shake sign.
20. Can you give more color on the asset management side of the business?
Sardar Biglari: With regard to asset management, we will only accept partners into the Lion Fund who will commit capital and lock it up for 5 years. The capital we have is sticky and should generate good returns. We have $100 million in the Lion Fund. We want Biglari Holdings to grow at 15%. We also want a 15% return in the Lion Fund so we need to create $300 million in growth in 10 years?? How will we do that? (He runs the calculations very quickly out loud and determines he needs to make $1 per second.) We will do that with value investing. We want to attract more in AUM. However, we are not aggressive in getting capital because we want the right partners.