For the first time in about 20 years, we skipped being in the crowd of more than 40,000 folks who gathered in Omaha for the Woodstock for Capitalists.
Instead, we tuned into Berkshire Hathaway’s first webcast of the annual meeting from our comfy chair in Virginia. Warren Buffett, Chairman of Berkshire Hathaway, and Charlie Munger, Vice-Chairman, answered questions from shareholders, analysts and the media.
Problems of prosperity
When asked why Berkshire has shifted its acquisition strategy from capital-light businesses to capital-intensive businesses, Buffett explained: “It’s one of the problems of prosperity.
he ideal business is one that takes no capital, but yet grows. Increasing capital acts as an anchor on returns in many ways.
One is it drives us into businesses that are much more capital intensive. We have a $3.6 billion investment coming up in wind generation. We pledged, overall, to have $30 billion in renewables. Anything that Berkshire Hathaway Energy does, anything that BNSF does takes lots of money.
We get decent returns on capital, but we don’t get the extraordinary returns on capital that we’ve been able to get in the businesses that are not capital intensive. We have a few businesses that earn actually 100% a year on true invested capital.
Clearly, that’s a different sort of operation. Berkshire Hathaway Energy may earn 11% or 12% on capital, and that’s a very decent return, but it’s a different animal than the businesses that are very low capital intensity.” Charlie concluded, “When our circumstances changed, we changed our minds.”
Look at stocks as businesses
When you buy a stock, get yourself in a mental frame of mind that you’re buying a busi- ness. Don’t get a quote on it for five years. You don’t get a quote every day on your farm or apartment house or McDonald’s franchise. You want to look at stocks as businesses and think about performance as a business. Think about what you pay as if buying a business.
Silver bullet
Asked which competitor Berkshire would take out if it had a silver bullet, Warren Buffett responded, “We have lots of tough competitors. In many areas we are a pretty tough competitor ourselves. We want our managers to think every day about how to achieve a stronger competitive position; we call it widening the moat.
We want better products, costs to a minimum, and to know what our customers want from us a month or year or ten years from now. If you take care of the customer, the customer will take care of you. There are cases where a force comes along and you may not have the answers for it, and you need to get out of the business.
We had the department store in Baltimore. If we kept it, we would have gone out of business. Recognizing the reality is also important. Don’t try to fix something that is unfixable. We really hope to be the ones that the other guy wants to use the silver bullet on.”
Maintaining Berkshire's culture
A competitive advantage of Berkshire Hathaway is the corporate culture. Buffett explained how the culture will be maintained in the future, “The main, by far, factor in keeping Berkshire culture is you will have a board, successor board members, managers and successor managers, and you have shareholders that clearly recognize the special nature of the culture and have embraced the culture.
When managers sold their business to us, they wanted to join the culture. It embraces those who enjoy and appreciate it. I think to some extent we don’t have a lot of competition on it. It works. I think the main problem Berkshire will have will be size. Size is the enemy to performance to a significant degree.
I do think that the culture of Berkshire adds significantly to the value of the individual components viewed. I don’t see any evidence of any board member or managers that will move away from what we have now for many, many decades.” Charlie added, “I’m even more optimistic than you are.”
Share repurchases
Berkshire has a stated policy to only repurchase shares if they trade for 1.2 times book value or less. Warren Buffett explained, “Clearly in my view and Charlie’s view and the board, the stock is worth significantly more than 1.2 times book value.
"If you can buy dollar bills for anything less than a dollar, there’s no more certain way of making money. The odds are extremely high that we would buy a lot of stock at 1.2 times book value or less, but we would do it in the manner where we were not propping the stock at any given level.
"If it happens, it will be very good for the continuing stockholders. If we run out of ideas, and it really becomes apparent that we can’t use capital effectively within the company in quantities in which it is being generated, then at some point the threshold might be moved up a little.
"You don’t want to keep accumulating so much money that it burns a hole in your pocket. It’s been said actually that a full wallet is like a full bladder. You may get an urge very quickly to pee it away. We don’t want that to happen. If we have $100-$120 billion in cash, we may consider increasing the multiple we pay for share repurchases.”
Free cash flow
Berkshire is generating about $10- $12 billion in free cash flow. What is the outlook for free cash flow going forward? Buffett stated, “Overall, I think primarily of the cash flow of Berkshire relating to our net income plus our increase in float, assuming we have an increase.
"Over the years, float has added $80 billion plus to make available for investment beyond what our earnings allowed for. Our earnings, not counting capital gains, of around $17 billion, plus our change in float is the net new available cash for Berkshire to invest.
"But, of course, we can always sell securities and create additional cash or we can borrow money. People didn’t appreciate the value of float. We want to add every year something to the normalized earning power per share of the company. Sometimes it doesn’t look like we have accomplished much and in other years something big happens. It will be lumpy.”
Charlie noted, “There are very few companies who have ever been similarly advantaged. In the whole history of Berkshire Hathaway, we lived with a torrent of money and constantly deployed it. We were rising up as we went along. That’s a pretty good system. We are not going to change it. “
Won fairly, used wisely
When asked how he thinks ahead of the crowd, Buffett remarked, “I owe a great deal to Ben Graham in terms of investing, and I owe a great deal to Charlie in terms of learning a lot about business. I spent a lifetime looking at businesses and why some work and why some don’t work...pattern recognition.
As Yogi Berra said, ‘You can see a lot just by observing.’ That’s pretty much what Charlie and I have been doing for a long time. It is important to recognize what you can’t do. We’ve generally tried only to swing at things in our particular strike zone.
It’s really not much more complicated than that. You don’t need the IQ in the investment business that you need at certain activities in life. You do have to have emotional control. We’ve seen very smart people do very stupid things with unnecessary risks.
Charlie explained, “There are a few simple tricks that work well. Temperament that has a combination of patience and opportunism in it is one. I think it’s largely inherited, but it can be learned to some extent.
"Another factor that Berkshire has done so well is we really try to behave well. I had a great-grandfather that when he died, the preacher said, ‘None envy the man’s success won fairly and used wisely.’ It’s exactly what Berkshire is trying to do. It works!”
Negative interest rates
Asked about negative interest rates in other parts of the world, Buffett said, “What’s dramatic is the low interest environment generally. We have been with a low interest rate situation for a long time and longer than I would have anticipated.
"You will pay more for a business when interest rates are zero than when they are 15% when Volcker was around. We had a rule for 2600 years – Aesop– and it was that a bird in the hand is worth two in the bush. A bird in the hand now is worth about 9/10ths of a bird in the bush in Europe. These are very unusual times.”
Charlie retorted, “If you are not confused by negative interest rates, you did not think about it correctly.”
Low oil prices
Asked about low oil prices, Buffett said, “It’s an important industry. The decline in the price of oil is very good for the consumer but very bad for some businesses like the one we bought in Lubrizol. It should be good for the United States overall.
"We are an importer. Oil extends into so many areas that it also hurts plenty when the price of oil falls. It particularly hurts capital investments. Our economy has continued to make progress despite the oil price decline.”
Humor
Asked about his sense of humor, Charlie chuckled, “I think if you see the world accurately, it’s bound to be humorous because it’s ridiculous!”
