This is why Buffett characterizes them as “moats” and why they are such an integral part of his long term investment decisions. Much in the same way, a durable competitive advantage can protect a business and its returns on invested capital from the threat of competition and lessen the impact of other outside forces that can cripple average businesses. Buffett encourages “moat-widening” actions from his operating managers and actively seeks to invest in businesses possessing a durable competitive advantage, such as Coca-Cola and Gillette. Indeed, it is not uncommon for Berkshire’s managers to work well into old age simply because of their love for their business. If these two criteria are satisfied, Buffett feels that his managers are doing their jobs and will praise them for it in the annual letter.
- Readers gain a framework for how to view risk, markets, and investing, as well as an understanding of how truly great businesses should operate.
- Buffett not only discloses his investment mistakes, but he puts them right up front.
- I think activism is a version of George Soros’ theory of reflexivity, where positive feedback loops exist in markets, so if you have the power to influence something in your favor this could be a very profitable strategy.
- That conviction gives him the ability to buy even bigger portions of the companies in which he invests when the overall market goes into a downturn.
- They became the two biggest shareholders in one of their common investments, trading stamp maker Blue Chip Stamp Co., and through that acquired See’s Candy, the Buffalo News and Wesco.
To solve this problem, conglomerates often manufactured the overvaluation of their stocks. Buffett concedes that those who invest in companies on the speculation that they may one day be worthwhile could reap returns — he just has no interest in that kind of investment. He prefers to invest in companies that are already successful (even if that success is undervalued by the market) and that have a strong chance of continuing success over the long term. Because of all the uncertainties, Buffett decides to hold various financial investments within Berkshire’s working capital as these are more liquid than plant, inventories and receivables. Buffett believes this strategy has a better return potential than textiles and provides the liquidity in case other acquisition opportunities arise. Buffett’s early successes were based on what he learned from former Columbia University professor Ben Graham.
How does Berkshire Hathaway Create Value?
In his characteristic self-deprecating manner, Munger summed up the secret to Berkshire’s success as avoiding mistakes and continuing to work well into his and Buffett’s 90s. OMAHA, Neb. (AP) — Charlie Munger, who helped Warren Buffett build Berkshire Hathaway into an investment powerhouse, has died at a California hospital. During the entire time they worked together, Buffett and Munger lived more than 1,500 miles apart, but Buffett said he would call Munger in Los Angeles or Pasadena to consult on every major decision he made. “Charlie has taught me a lot about valuing businesses and about human nature,” Buffett said in 2008. “Berkshire Hathaway could not have been built to its present status without Charlie’s inspiration, wisdom and participation,” Buffett said in a written statement.
- Graham had his own list of various criteria that had to be met in order to ensure a company’s financial strength, and one of them was consistent strong earning power in the past.
- That said, he’s happy to (potentially) invest in the Home Fabrics Division because of the fast growth it has seen in recent years.
- Additionally, in Buffett’s early letters, readers are able to see firsthand how he operates as a manager of a small company himself.
- Plus, it really does make sense to start at the beginning and get the whole narrative.
Then there’s the corporate malfeasance possible when executives with a better understanding of their company’s value (or lack thereof) can leverage their own options into undeserved wealth. Across the world, companies shuttered their doors and investors lost thousands or even millions on their holdings. At Berkshire Hathaway, Buffett enforces an individualized system of compensation that rewards managers for their personal actions — even if that means, counterintuitively, rewarding managers of individual units when the wider business doesn’t do well. In between accounts of Berkshire’s current holdings, he tells jokes, shares anecdotes, and relates quippy aphorisms to help illuminate his core points. At the age of 26, a Nebraska stockbroker and school teacher named Warren Buffett took his “retirement fund” of $174,000 and decided to start his own investment business. I’m a value investor but, I use swing trading techniques to manage my position sizes and risk.
Charlie Munger first met Warren Buffett in 1959. Here’s how the lawyer became an investing legend.
Buffett identifies the problem in the comparative data the committees use to determine a CEO’s compensation package. This has led to a rapid inflation in which the offers get bigger and more loaded with perks and payments. But Buffett believes part of the answer lies with the compensation committees that determine the CEO’s pay package. Prior to World War I, the average annual salary of an executive at a large corporation was $9,958, or $220,000 in today’s dollars.
Britt always taught us Titans that Wisdom is Cheap, and principal can find treasure troves of the good stuff in books. We hope only will also express their thanks to the Titans if the book review brought wisdom into their lives. In medieval times, moats were constructed around castles as a defense system against outside threats and forces. The wider the moat was, the more effective it was for repelling attacks and protecting those inside the walls of the castle. Chinese language edition of Poor Charlie’s Almanack, the ever popular book about my partner.
“Not long ago, I looked at the proxy material of a large American company and found that eight directors had never purchased a share of the company’s stock using their own money. (They, of course, had received grants of stock as a supplement to their generous cash compensation.) This particular company had long been a laggard… But the directors were doing wonderfully,” Buffett writes. That action “increased your ownership berkshire hathaway letters to shareholders in all of Berkshire’s businesses by 5.2% without requiring you to so much as touch your wallet,” wrote Buffett to shareholders in his 2020 letter. And as Berkshire keeps repurchasing more of its shares, its shareholders will indirectly increase their ownership in Apple, BNSF, BHE, and other Berkshire-owned businesses. However, he argues that defining Berkshire as a conglomerate is only partially correct.
Berkshire Hathaway’s Letters to Shareholders 1965-2012
Finally, a small dividend is declared in the letter because of the restoration of the company’s financial position, but Buffett warns of the importance of preserving the strength of Berkshire’s financial position. Buffett discusses the commodity features in the textile market in that different divisions faced overproduction in the sector. Together with increased imports, this led to greater competition and decreased prices.
He identifies several recent promising changes in the culture around boards of directors, including the profusion of women on boards and the mandating of “CEO-free” sessions where executives can speak frankly. While Buffett believes that other countries, particularly China, have very strong economic growth ahead of them, he is still bullish, above all, for his home turf of the United States. “Today, I would rather prep for a colonoscopy than issue Berkshire shares,” he later wrote. What made this deal even worse for Buffett was the fact that he had conducted the deal not in cash — as he would virtually every other acquisition made through Berkshire Hathaway — but in Berkshire stock. But despite the appealing nature of the deal, the acquisition still turned out to be a mistake for Berkshire Hathaway.
Within a few years, the relatively high priced Dexter shoes were driven out of the market by a flood of cheap, imported versions. “What I had assessed as durable competitive advantage vanished within a few years,” he would write in his 2007 letter. This was one of Berkshire Hathaway’s first major acquisitions in its transition to earning most of its revenue by acquiring other companies. Before this, Berkshire Hathaway had mostly made money from investing in stocks. BHE, however, has been paying no dividends on its common stock for the past 21 years.
Management
Market” concept illustrated in chapter eight of Graham’s The Intelligent Investor. Following this discussion, Buffett spends the majority of each letter detailing the operations of Berkshire’s subsidiary companies as well as the results of its major non-controlling investments. Occasionally, Buffett will choose to include special topics in his letters on whatever topic he feels that his shareholders should be aware. Debt also forces shareholders into a Russian roulette equation, according to Buffett in his 2018 letter. And “a Russian roulette equation — usually win, occasionally die — may make financial sense for someone who gets a piece of a company’s upside but does not share in its downside.
On Stock Issuance, Splits, and Repurchases
And a company that is in the habit of overpaying for anything — be it stock buybacks or new acquisitions — is not a good hold for a careful shareholder. In his 1996 letter to shareholders, Buffett recounts Coca-Cola’s 1896 shareholder report, admiring how the company had set — and closely followed — its 100-year growth plan, while the core product of the company had not changed at all. When Buffett invests, he is not looking at the innovative potential of the company or, in a vacuum, its growth potential. The company’s operations and underlying value are the only things that matters, to Buffett. That’s because the price of a stock, on any given day, is mostly dictated by the whims of “Mr. Market” (Buffett’s metaphor for the mercurial movements of the broader stock market).
Buffett’s Ideal Company
During 2011, the company had net income of $10.3 billion on revenues of $143 billion. Though the company’s earnings were down from 2010 (when the company earned $13 billion), the company’s book value, a measure of assets minus liabilities, rose during the year to $164.9 billion from $157.3 billion at the end of 2010. The 4.6 percent increase in book value outpaced the S&P 500’s 2.1 percent return. At year end the company had $37.3 billion cash on hand, despite several multi-billion dollar investments during the year.
The standard of durability has served Buffett well over the years, keeping him out of the tech bubble in the late 1990s because the standard inherently eliminates companies in industries prone to rapid change. This is because an enlarged capital base from retaining earnings can produce “record” earnings yearly even if management does not employ capital any more effectively than it did in the past. Buffett relates this point nicely in his 1977 letter, when he states that he finds “nothing particularly noteworthy in a management performance combining, say, a 10% increase in equity capital and a 5% increase in earnings per share. Graham had his own list of various criteria that had to be met in order to ensure a company’s financial strength, and one of them was consistent strong earning power in the past. Neither Graham nor Buffett place any sort of value on market forecasts, and while past performance is no indication of future success, it is still a far better indicator than any market forecast previously produced.