“The goal is not to have the longest train, but to arrive at the station first using the the least fuel.” – Tom Murphy

In William Thorndike’s The Outsiders, he takes you down the history of wonderful capital allocators from Singleton to Malone to Buffett. A name that often doesn’t get mentioned today is Thomas (Tom) Murphy, CEO of Capital Cities/ABC. Tom Murphy in my opinion is the best case study in capital allocation. He exhibited what I regard to be the most quintessential traits of a manager – he was bold, pragmatic, and thought independently. The combination of these traits led Cap Cities to be a 200-bagger (19.9% CAGR in 29 years) under Tom’s stewardship and proves the importance of capital allocation in stock price returns.

Background

Tom Murphy began his journey in media broadcasting working for his father’s friend, Frank Smith. He started at WTEN, a struggling TV station in Albany, New York with no experience in broadcasting. He was able to turn the previously bankrupt station into a cash generator through relentless focus on cost management & improving programming. In 1961, he hired Dan Burke to join in the company’s lean operating philosophy. Short after in 1966, Frank Smith passed away leaving Tom the CEO seat to occupy. He immediately made Dan Burke his COO and President.

“My job is to create free cash flow and his to spend it.” – Dan Burke

Upon taking the reigns as CEO, Tom began allocating the capital in opportunities he determined were attractive. In 1967 he bought KTRK (Houston ABC affiliate) the largest broadcast acquisition of the time. He followed up with acquisitions of Fairchild Communications (trade magazine publisher) and Triangle Communications. By the end of the initial spree Cap Cities owned 5 VHF TV stations, the maximum allowed by the FCC.

After hitting the FCC’s maximum threshold, Tom looked at adjacent industries for opportunities to allocate capital, ultimately, deciding on newspaper publishing. He became more active buying the Kansas City Star & Forth Worth Telegram (in ’74 and ’77). During the period of the mid-70s to early 80s Tom also noticed opportunities closer to home and began repurchasing shares of Cap Cities. During the protracted bear market he bought ~50% of shares in Cap Cities – mostly at single-digit multiples on earnings.

In the mid to late 80s, Tom Murphy cemented his name in history with the monstrous acquisition of ABC for $3.5bn in 1986. Like a true opportunist, this acquisition came as the FCC relaxed their ruling on station ownership. Afterwards, Burke went straight to working improving operations which resulted in a 2,000 bps increase in EBIT margins. This was Cap Cities last major acquisition as Tom refocused the company back to repurchasing & smaller sized acquisition integrations.

In 1995, Cap Cities/ABC was sold to Disney at a multiple of 13.5x cash flow or 28x earnings with the assistance of Warren Buffett (a key financier of the ABC deal in ’86).

“We just kept opportunistically buying assets, intelligently, leveraging the company, improving operations and then we’d take a bite of something else.” – Tom Murphy

Lessons of the Tale:

Pragmatism

It is too easy to be bound by strategy or ideology. What separates average managers from outsider CEOs is their ability to depart from strategy when an opportunity is too good to pass on. For example, the share repurchases under Murphy totaled to $1.8B+. This would’ve been Tom’s 2nd largest acquisition, behind ABC. His pragmatism is best showed around his acquisition based on FCC rulings. Once he had hit the maximum 5 stations in the 70s he bought elsewhere (his stock included). Once those rulings were relaxed he didn’t hesitate to go right back to the stations with the ABC purchase as he had conviction his lieutenant, Burke, was capable of turning the business around.

Independence

Unlike peers, Tom adopted what he thought to be the best strategy to increase the long-term value per share of Cap Cities. He did not follow the playbook of paying dividends, diversifying the business, or issuing shares. Instead, he decided to use leverage (which he paid down in advance), repurchased shares opportunistically, and bet big. He had kept himself solely responsible for acquisition decisions – no bankers whatsoever. When you consider research that claims ~70% of all acquisition destroy value and 1/2 of all acquisitions are reversed within 10 years. Tom Murphy’s skill at acquiring companies had become one of Cap Cities competitive advantages. He realized early on that TV stations placed #1 in local news got the lion’s share of advertising revenue. As such, he dismissed his frugality to procure the best talent in news, ensuring nearly all stations led in their local markets.

Boldness

Murphy’s boldness is best portrayed by some of the biggest capital allocation decisions he made. Under his stewardship Cap Cities acquired 3 businesses for 25%+ of their market cap – in the ABC acquisition, he used 100% of Cap Cities enterprise value. His boldness coupled with patience proved to be the asset for Cap Cities. He remarked that his pay was not on making deals, but to make good deals. The standard CEO does not always have this level of patience, instead looking to grow the size of the company at all costs. It takes boldness to stand alone idle, but, it is in these moments you can separate above-average allocators from the pack.

Takeaways

Tom Murphy & Dan Burke were able to generate returns far in excess of the market over a period of ~30 years. This was done using the combination of appropriately sized high conviction bets and the cultivation of a decentralized culture at Cap Cities. Despite their lack of experience coming into the broadcast industry they realized very early on what really mattered to achieve success. It is a common mistake to equate management’s capabilities with experience but like other outsider CEOs we see with Tom Murphy that is not really the case.