Lessons from Berkshire Hathaway

By Morningstar |  29-10-20 | 

A few selected insights from Warren Buffett’s writings over the past few years.

2013: How to view dividends

Investors looking for income are better off selling a portion of stock every year for cash than receiving a dividend directly from the company. Take for example a firm that is able to grow its tangible net worth by 12% a year and that it is possible to sell shares at 125% of book value. Under these conditions, an investor ends up better off by selling shares every year instead of taking an equivalent dividend.

2014: Think like a business owner

Buffett purchased a Nebraska farm in 1986. When penning his thoughts, he admitted that he had visited the farm only twice! Nonetheless, he was able to easily calculate average bushels produced and average costs of production, and hence a normalized return for the farm.

Think like a business owner; understand the fundamental value of what you're buying. Focus on the future productivity of the asset you are considering. If you don't feel comfortable making a rough estimate of the asset's future earnings, just forget it and move on.

A farm is a particularly astute example of how easy it should be to think like a business owner. Even if you only visit the property twice, you can close your eyes and imagine smelling the fertilizer, counting the silos, seeing the rows of corn waving on a warm September day. It's tangible, and when you hear Buffett's rationale for the purchase, it makes all the sense in the world.

Imagine if the ownership of that farm is divided up into thousands of small pieces and dispersed among many owners. Imagine those pieces are bought and sold, and continuously "valued" on an exchange, where you can look any time of day and get a current quote. Mind you, it's still the same farm, still the same productivity profile. Nothing about its intrinsic value has changed. Good weather will still be good weather, storms will be storms. The soil is just as fertile. But owners now have something else to latch on to: the price other people are willing to pay for pieces of that farm at any given moment.

If buyers seem increasingly willing to pay more and more, how tempting it becomes to buy more shares for yourself with the hope of enjoying that ride up. If buyers turn sour and the quotes sink, how difficult to stay the course, focus on the fundamentals, and resist jumping ship. If you focus on the prospective price change of a contemplated purchase, you are speculating.

Buffett’s changing stance on the airline industry

2015: Your strategy must evolve

The cigar-butt strategy worked well while managing small sums but was scalable only to a point; the wrong foundation on which to build a large and enduring enterprise.

Munger's blueprint for Berkshire was: "Forget what you know about buying fair businesses at wonderful prices; instead, buy wonderful businesses at fair prices."

These tend to hold up better in downturns and provide meaningful long-term returns for investors to fund retirement or other big personal goals.

In 1972, Berkshire acquired See's Candy, which had a huge asset that did not appear on its balance sheet: a broad and durable competitive advantage that gave it significant pricing power. That strength was virtually certain to give See's major gains in earnings over time. Better yet, these would materialize with only minor amounts of incremental investment. In other words, See's could be expected to gush cash for decades to come.

The "value of powerful brands" continued to permeate Berkshire's investments over the years, with wide-moat companies such as Coca-Cola, American Express, and  Wal-Mart dominating its investment portfolio.

The gold mining stock that Berkshire Hathaway invested in

2016: Never bet against America

American GDP per capita is now about $56,000. American innovation and productivity gains are major ingredients in the secret sauce. For 240 years it's been a terrible mistake to bet against America. America's golden goose of commerce and innovation will continue to lay more and larger eggs.

(In the depths of the 2008 financial crisis, in a now-famous letter to The New York Times, he wrote, "In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.")

Why Warren Buffet has not made any big investments

2017: Indexing is smart

Buffett's argument for indexing boils down to what he calls a simple equation. If Group A (active investors) and Group B (do-nothing investors) comprise the total investing universe, and B is destined to achieve average results before costs, so, too, must A. Whichever group has the lower costs will win.

Beyond costs, identifying a manager who can beat the market over time is also a challenging feat. Buffett writes he's only managed to do that "ten or so" times and that it is hard to know if a manager is just lucky or good. And the personal desire of managers to take on more money to boost their fees can "cause investing success to breed failure."

2018: 3 ways to keep it simple

Keep an eye on costs. Even as the hedge funds posted middling returns, the managers earned staggering sums from their fixed fees. Performance comes, performance goes. Fees never falter.

The market can sometimes present unusual opportunities, and that you don't have to be a genius or have an insider knowledge of Wall Street to seize them. What investors need is an ability to both disregard mob fears or enthusiasm and to focus on a few simple fundamentals. A willingness to look unimaginative for a sustained period--or even to look foolish--is also essential.

Investors should stick with big, easy decisions and eschew activity. Buffett contrasts his "kindergarten-like" analysis to the amount of research and trading that the hedge fund managers did. Doing more doesn't mean getting more.

Has Warren Buffett lost his touch?

2019: Focus on the forest

Buffett notes that investors too often focus on the details of Berkshire's individual business, which he calls their economic trees. Given that Berkshire owns a variety of businesses--ranging from twigs to redwoods--he argues for looking at the entire forest.

A few of our trees will be diseased and unlikely to be around a decade from now. Many others, though, are destined to grow in size and beauty.

Good advice when evaluating your own portfolio.

2020: Equities are the place to be

Berkshire doesn't view its investments as stock market wagers, but as businesses it partly owns. While anything can happen to stock prices tomorrow, over the long term, there's no better place for investors to be than equities.

"What we can say is that if something close to current rates should prevail over the coming decades and if corporate tax rates also remain near the low level businesses now enjoy, it is almost certain that equities will over time perform far better than long-term, fixed-rate debt instruments," he writes.

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