50 Years at Berkshire Hathaway – Warren Buffett’s Annual Report

Warren Buffett is widely viewed as the most successful investor in modern times, primarily because of his consistent record in outperforming market indices. His Berkshire Hathaway investment vehicle is the largest conglomerate in the world as he holds not just stakes in publicly quoted companies but a wide range of wholly owned operating companies. He has recently published the latest edition of his annual letter to investors and as usual there are some pithy comments in there from which everyone can learn. Here are some of the highlights:

He is very open about his past mistakes and never fails to recount the original history of Berkshire Hathaway which was a US cloth manufacturer. Despite putting more money into it to try and compete with low cost foreign producers, Buffett eventually closed it down. He says in his newsletter that “I’ve mentioned in the past that my experience in business helps me as an investor and that my experience has made me a better businessman” and “Some truths can only be learned through experience“. The message is that if you want to be a really good stock market investor, it helps to have some experience of running companies as a manager.

Another failure he mentions is his former investment in Tesco – he held 415 million shares at a cost of $2.3 billion at the end of 2012. He sold some shares in 2013 having “soured somewhat on the company’s then management” making a small profit, but he admits that his “leisurely pace in making sales would prove expensive”. He sold shares throughout 2014 and has now exited completely but ended up losing $444 million. Do you think that is a large amount? It was only one fifth of one percent of Berkshire’s net worth.

He comments on the issue of depreciation and amortization of balance sheet items under US GAAP but he emphasises that depreciation charges are different – they are a real cost and that’s true of most companies. He says “When CEO’s tout EBITDA as a valuation guide, wire them up to a polygraph test“.

Another comment he makes is on the volatility of investments which might encourage investors into cash equivalent holdings such as Government bonds. Although stock prices can be far more volatile in the short term, over the longer term they are less risky. He bemoans the teaching of business schools that volatility can be used as a proxy for risk and says “Volatility is far from synonymous with risk” and “Popular formulas that equate the two terms leads students, investors and CEOs astray“.

But he warns that investors by their own behaviour can make stock ownership highly risky. Active trading, attempting to time market movements, inadequate diversification, high fees and borrowing money can destroy returns.

He makes some interesting arguments for the merits of the conglomerate business form and signs off by saying he has chosen the “right” CEO to succeed him, but does not announce the name. However his son Howard is to become the non-executive Chairman. Warren Buffett is 87 and his partner Charlie Munger is 91, so succession is clearly on Warren’s mind of late.

But as always the Berkshire newsletter is worth reading for investment wisdom from the founder even after 50 years.

Roger Lawson

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