{"id":257,"date":"2017-01-22T08:55:55","date_gmt":"2017-01-22T08:55:55","guid":{"rendered":"http:\/\/charliemungersays.com\/?p=257"},"modified":"2017-10-25T00:40:41","modified_gmt":"2017-10-25T00:40:41","slug":"22-what-can-you-learn-from-warren-buffett-and-charlie-munger-in-the-letter-2014-to-the-shareholders-of-berkshire-hathaway","status":"publish","type":"post","link":"https:\/\/charliemungersays.com\/index.php\/2017\/01\/22\/22-what-can-you-learn-from-warren-buffett-and-charlie-munger-in-the-letter-2014-to-the-shareholders-of-berkshire-hathaway\/","title":{"rendered":"22. What Can You Learn from Warren Buffett and Charlie Munger in the 2014 Letter To the Shareholders of Berkshire Hathaway?"},"content":{"rendered":"

\"\"Excellent Book: Charlie Munger For All Seasons<\/a><\/p>\n

This is such a great letter from the two respected intellectual and investment giants that it\u2019s worth a repeat reading again and again twice over. (The double-counting language is deliberated.) To some, I think it\u2019s equivalent to an MBA or more.<\/p>\n

Please join us on Facebook. https:\/\/www.facebook.com\/groups\/charliemungersays\/<\/a><\/p>\n

Here\u2019s a summary of very valuable, instructive lessons to be learned and absorbed:<\/p>\n

Warren Buffett
\n1. <\/strong><\/b>Use Book Value As A Useful Estimate For Intrinsic Business Value. (This makes sense but make sure they are objective. Double check on those preparing them and the motives.)<\/strong><\/p>\n

During our tenure, we have consistently compared the yearly performance of the S&P 500 to the change in Berkshire\u2019s per-share book value. We\u2019ve done that because book value has been a crude, but useful, tracking device for the number that really counts: intrinsic business value. In our early decades, the relationship between book value and intrinsic value was much closer than it is now. That was true because Berkshire\u2019s assets were then largely securities whose values were continuously restated to reflect their current market prices. In Wall Street parlance, most of the assets involved in the calculation of book value were \u201cmarked to market.\u201d Today, our emphasis has shifted in a major way to owning and operating large businesses. <\/em>Many of these are worth far more than their cost-based carrying value.<\/u><\/em><\/a> But that amount is never revalued upward no matter how much the value of these companies has increased. Consequently, the gap between Berkshire\u2019s intrinsic value and its book value has materially widened.
\n<\/em>
\n2. Warren Buffett and Charlie Munger do look at small businesses too. (For the whole year, Berkshire Hathaway made many bolt-ons acquisitions but they are sensibly-priced. But surprise, surprise. The smallest acquisition is US$400,000. So, if you are a small business, do not despair, Warren and Charlie do look at you.<\/strong><\/p>\n

While Charlie and I search for new businesses to buy, our many subsidiaries are regularly making bolt-on acquisitions. Last year was particularly fruitful: We contracted for 31 bolt-ons, scheduled to cost $7.8 billion in aggregate. The size of these transactions ranged from <\/em>$400,000<\/u><\/em><\/a> to $2.9 billion.<\/em><\/p>\n

Charlie and I encourage bolt-ons, if they are sensibly-priced. (Most deals offered us aren\u2019t.) They deploy capital in activities that fit with our existing businesses and that will be managed by our corps of expert managers. This means no more work for us, yet more earnings, a combination we find particularly appealing. We will make many more of these bolt-on deals in future years.<\/em><\/p>\n

3. Small is beautiful when it comes to Berkshire Hathaway headquarters operations. They employ only 25 people. (Does the number include Warren Buffet and Charlie Munger?)<\/strong> For the answer, please look for * below.<\/p>\n

Berkshire\u2019s year end employees \u2014 including those at Heinz \u2014 totaled a record 340,499, up 9,754 from last year. The increase, I am proud to say, included no gain at headquarters (where 25 people work). No sense going crazy. <\/em><\/p>\n

    \n
  1. They Pay Attention To The Big Four. And So Should You.<\/strong><\/li>\n<\/ol>\n

    Berkshire increased its ownership interest last year in each of its \u201cBig Four\u201d investments \u2014 American Express, Coca-Cola, IBM and Wells Fargo. We purchased additional shares of IBM (increasing our ownership to 7.8% versus 6.3% at yearend 2013). Meanwhile, stock repurchases at Coca-Cola, American Express and Wells Fargo raised our percentage ownership of each. Our equity in Coca-Cola grew from 9.1% to 9.2%, our interest in American Express increased from 14.2% to 14.8% and our ownership of Wells Fargo grew from 9.2% to 9.4%. And, if you think tenths of a percent aren\u2019t important, ponder this math: For the four companies in aggregate, each increase of one-tenth of a percent in our ownership raises Berkshire\u2019s portion of their annual earnings by $50 million. These four investees possess excellent businesses and are run by managers who are both talented and shareholder-oriented. At Berkshire, we much prefer owning a non-controlling but substantial portion of a wonderful company to owning 100% of a so-so business. It\u2019s better to have a partial interest in the Hope Diamond than to own all of a rhinestone.<\/em><\/p>\n

    5. Flexibility In Capital Allocation In The Hands of Someone Knowledgeable With Great Experience Is Very Valuable. And Some Truths Can Only Be Truly Learned By Experience. Quote:\u00a0 \u201cThere are certain things that cannot be adequately explained to a virgin either by words or pictures.\u201d Or by imagination for that matter.<\/strong><\/p>\n

    Our flexibility in capital allocation \u2014 our willingness to invest large sums passively in non-controlled businesses \u2014 gives us a significant advantage over companies that limit themselves to acquisitions they can operate. Our appetite for either operating businesses or passive investments doubles our chances of finding sensible uses for Berkshire\u2019s endless gusher of cash.<\/p>\n

    I\u2019ve mentioned in the past that my experience in business helps me as an investor and that my investment experience has made me a better businessman. Each pursuit teaches lessons that are applicable to the other. And some truths can only be fully learned through experience. (In Fred Schwed\u2019s wonderful book, Where Are the Customers\u2019 Yachts?, a Peter Arno cartoon depicts a puzzled Adam looking at an eager Eve, while a caption says, \u201cThere are certain things that cannot be adequately explained to a virgin either by words or pictures.\u201d If you haven\u2019t read Schwed\u2019s book, buy a copy at our annual meeting. Its wisdom and humor are truly priceless.)<\/p>\n

    6. Warren Buffett and Charlie Munger Build Value Thought Five Key Aspects<\/strong><\/p>\n

    With this tailwind working for us, Charlie and I hope to build Berkshire\u2019s per-share intrinsic value by (1) constantly improving the basic earning power of our many subsidiaries; (2) further increasing their earnings through bolt-on acquisitions; (3) benefiting from the growth of our investees; (4) repurchasing Berkshire shares when they are available at a meaningful discount from intrinsic value; and (5) making an occasional large acquisition. We will also try to maximize results for you by rarely, if ever, issuing Berkshire shares.<\/p>\n

    7. What Are The Four Key Major Sectors of Berkshire Hathaway?<\/strong><\/p>\n

    Insurance<\/p>\n

    Regulated, Capital-Intensive Businesses<\/p>\n

    Manufacturing, Service and Retailing Operations<\/p>\n

    Investments<\/p>\n

    8. If You Want To Sell Your Company To Berkshire Hathaway, What Do You Think Are The Criteria? The last one is a surprise. (i) US$75m Pre-Tax (ii) Earning Power (iii) ROE with little or zero debt (iv) Management (v) \u201cSimple Business\u201d, Non-High Tech (vi) Price (vii) Preferably Big (viii) No Unfriendly Acquisitions (ix) No auctions please. (x) \u201cWhen the phone don\u2019t ring, you\u2019ll know it\u2019s me.\u201d<\/strong><\/p>\n

    ACQUISITION CRITERIA<\/p>\n

    We are eager to hear from principals or their representatives about businesses that meet all of the following criteria:<\/p>\n

    Large purchases (at least $75 million of pre-tax earnings unless the business will fit into one of our existing units),<\/p>\n

    Demonstrated consistent earning power (future projections are of no interest to us, nor are \u201cturnaround\u201d situations),<\/p>\n

    Businesses earning good returns on equity while employing little or no debt,<\/p>\n

    Management in place (we can\u2019t supply it),<\/p>\n

    Simple businesses (if there\u2019s lots of technology, we won\u2019t understand it),<\/p>\n

    An offering price (we don\u2019t want to waste our time or that of the seller by talking, even preliminarily, about a transaction when price is unknown).<\/p>\n

    The larger the company, the greater will be our interest: We would like to make an acquisition in the $5-20 billion range. We are not interested, however, in receiving suggestions about purchases we might make in the general stock market. We will not engage in unfriendly takeovers. We can promise complete confidentiality and a very fast answer \u2014 customarily within five minutes \u2014 as to whether we\u2019re interested. We prefer to buy for cash, but will consider issuing stock when we receive as much in intrinsic business value as we give. We don\u2019t participate in auctions.<\/p>\n

    9. Do You Regularly Extol The Successes Of Your Managers? If not, please do.<\/strong><\/p>\n

    For good reason, I regularly extol the accomplishments of our operating managers. They are truly All-Stars who run their businesses as if they were the only asset owned by their families. I believe the mindset of our managers also to be as shareholder-oriented as can be found in the universe of large publicly-owned companies. Most of our managers have no financial need to work. The joy of hitting business \u201chome runs\u201d means as much to them as their paycheck.
    \n* Equally important, however, are the 24 men and women who work with me at our corporate office. This group efficiently deals with a multitude of SEC and other regulatory requirements, files a 24,100-page Federal income tax return and oversees the filing of 3,400 state tax returns, responds to countless shareholder and media inquiries, gets out the annual report, prepares for the country\u2019s largest annual meeting, coordinates the Board\u2019s activities \u2014 and the list goes on and on. They handle all of these business tasks cheerfully and with unbelievable efficiency, making my life easy and pleasant. Their efforts go beyond activities strictly related to Berkshire: Last year they dealt with the 40 universities (selected from 200 applicants) who sent students to Omaha for a Q&A day with me. They also handle all kinds of requests that I receive, arrange my travel, and even get me hamburgers and french fries (smothered in Heinz ketchup, of course) for lunch. No CEO has it better; I truly do feel like tap dancing to work every day.<\/p>\n

    10. You Can Be Many Things But Do You Want To Be The Dog Who Caught The Car?<\/strong><\/p>\n

    By April 1965, BPL owned 392,633 shares (out of 1,017,547 then outstanding) and at an early-May board meeting we formally took control of the company. Through Seabury\u2019s and my childish behavior \u2014 after all, what was an eighth of a point to either of us? \u2014 he lost his job, and I found myself with more than 25% of BPL\u2019s capital invested in a terrible business about which I knew very little. I became the dog who caught the car.<\/p>\n

    11. What About Cigar Butt Investing? Once that momentary pleasure was enjoyed, however, no more could be expected. <\/strong> I purchased BPL\u2019s first shares of Berkshire in December 1962, anticipating more closings and more repurchases. The stock was then selling for $7.50, a wide discount from per-share working capital of $10.25 and book value of $20.20. Buying the stock at that price was like picking up a discarded cigar butt that had one puff remaining in it. Though the stub might be ugly and soggy, the puff would be free. Once that momentary pleasure was enjoyed, however, no more could be expected. Charlie Straightens Me Out<\/p>\n

    My cigar-butt strategy worked very well while I was managing small sums. Indeed, the many dozens of free puffs I obtained in the 1950s made that decade by far the best of my life for both relative and absolute investment performance. Even then, however, I made a few exceptions to cigar butts, the most important being GEICO. Thanks to a 1951 conversation I had with Lorimer Davidson, a wonderful man who later became CEO of the company, I learned that GEICO was a terrific business and promptly put 65% of my $9,800 net worth into its shares. Most of my gains in those early years, though, came from investments in mediocre companies that traded at bargain prices. Ben Graham had taught me that technique, and it worked. But a major weakness in this approach gradually became apparent: Cigar-butt investing was scalable only to a point. With large sums, it would never work well. In addition, though marginal businesses purchased at cheap prices may be attractive as short-term investments, they are the wrong foundation on which to build a large and enduring enterprise. Selecting a marriage partner clearly requires more demanding criteria than does dating. (Berkshire, it should be noted, would have been a highly satisfactory \u201cdate\u201d: If we had taken Seabury Stanton\u2019s $11.375 offer for our shares, BPL\u2019s weighted annual return on its Berkshire investment would have been about 40%.) It took Charlie Munger to break my cigar-butt habits and set the course for building a business that could combine huge size with satisfactory profits. Charlie had grown up a few hundred feet from where I now live and as a youth had worked, as did I, in my grandfather\u2019s grocery store. Nevertheless, it was 1959 before I met Charlie, long after he had left Omaha to make Los Angeles his home. I was then 28 and he was 35. The Omaha doctor who introduced us predicted that we would hit it off \u2014 and we did. If you\u2019ve attended our annual meetings, you know Charlie has a wide-ranging brilliance, a prodigious memory, and some firm opinions. I\u2019m not exactly wishy-washy myself, and we sometimes don\u2019t agree. In 56 years, however, we\u2019ve never had an argument. When we differ, Charlie usually ends the conversation by saying: \u201cWarren, think it over and you\u2019ll agree with me because you\u2019re smart and I\u2019m right.\u201d What most of you do not know about Charlie is that architecture is among his passions. Though he began his career as a practicing lawyer (with his time billed at $15 per hour), Charlie made his first real money in his 30s by designing and building five apartment projects near Los Angeles. Concurrently, he designed the house that he lives in today \u2014 some 55 years later. (Like me, Charlie can\u2019t be budged if he is happy in his surroundings.) In recent years, Charlie has designed large dorm complexes at Stanford and the University of Michigan and today, at age 91, is working on another major project. From my perspective, though, Charlie\u2019s most important architectural feat was the design of today\u2019s Berkshire. The blueprint he gave me was simple: Forget what you know about buying fair businesses at wonderful prices; instead, buy wonderful businesses at fair prices.<\/p>\n

    12. Should You Listen To Charlie Munger? If it\u2019s good enough for Warren Buffett, it\u2019s good enough for me.<\/strong><\/p>\n

    \u00a0Warren Buffett: Listening to Charlie has paid off.<\/em><\/p>\n","protected":false},"excerpt":{"rendered":"

    Excellent Book: Charlie Munger For All Seasons This is such a great letter from the two respected intellectual and investment<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"om_disable_all_campaigns":false,"footnotes":""},"categories":[3,4],"tags":[],"class_list":["post-257","post","type-post","status-publish","format-standard","hentry","category-investment","category-wisdom"],"jetpack_featured_media_url":"","_links":{"self":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/257","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/comments?post=257"}],"version-history":[{"count":5,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/257\/revisions"}],"predecessor-version":[{"id":914,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/posts\/257\/revisions\/914"}],"wp:attachment":[{"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/media?parent=257"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/categories?post=257"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/charliemungersays.com\/index.php\/wp-json\/wp\/v2\/tags?post=257"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}