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The Unbearable Rightness of Buffett

Over the years, Warren Buffett’s Berkshire Hathaway has inspired US family offices by buying an enviable collection of stocks and businesses it likes to own forever. Since 1965 its value has risen 20% a year, double the S&P 500.

Over the last ten years, however, the company has lagged the index, after rising 230%, against 273%. Whitney Tilson of Empire Financial Research, a Buffett fan, reckons its stock stands on a discount to assets of 13%. 

They are carrying on, like the Queen of England, because they can…

The price, it seems, has less faith in the company’s future than its past. Berkshire has failed to invest a $145 billion cash mountain. It has failed to fully embrace our tech-driven future. Its deal record, over ten years, is uneven. It is ambivalent on climate change.

Berkshire’s next generation of management, led by Greg Abel, has been warming up on the sidelines for some while. But Warren Buffett, aged 90, and his lieutenant Charlie Munger, 97, show little appetite for stepping aside. 

They are carrying on, like the Queen of England, because they can. Buffett once remarked: “Chains of habit are too light to be felt, until they are too heavy to be broken.” He also has a third of Berkshire’s votes on his side.

At Berkshire’s five-hour virtual annual meeting on 1 May, we saw tough questions but the undertone was friendly, as Buffett’s supplied the mix of candour and charm which have turned him from the Sage of Omaha into a Messiah. 

His arguments are commonsense and have the unbearable habit of showing you he is right. He is frugal. His long-term record is excellent. He is no hypocrite. People believe in him and don’t want to believe otherwise. 

Investors salute Buffett for his wise decision to buy back Berkshire shares rather than asking why they were cheap in the first place. When he admits to a mistake, they thank him for his humility and candour. 

The latest batch of shareholder letters written by Buffett and Charlie Munger point to the future by dwelling on the past.  Munger’s latest letter sees the importance of Berkshire’s fan club: “The weirdly intense, contagious devotion of some shareholders and other admirers, including some in the press.”

He praises Buffett’s focus and compares him to tennis champion Roger Federer, basketball coach John Wooden and World War II chief George Marshall.

Even so, Berkshire’s share price doesn’t quite get the message after profoundly lagging the S&P 500 over three, five and ten years, despite improving a bit in 2021. 

The cash mountain climbs

Even after share buybacks, Berkshire Hathaway’s balance sheet is groaning with $145 billion in cash and equivalents. It could finance a mega-deal, or two mega-deals, with the help of low-coupon debt. 

And even Buffett doesn’t like cash: “The worst investment you can have is cash. Cash is going to become worthless over time. But good businesses are going to become worth more.”

It also looks like inflation is set to rise further diluting the impact of cash, as interest rates stay low. 

At his virtual meeting Buffett said: “We’re seeing substantial inflation. We’re raising prices, people are raising prices to us.”  He said the economy was becoming red hot: “And we weren’t expecting it.”

Deals and no deals

In his pomp, Buffett positioned Berkshire to buy companies in awe of his operating style. He rescued Salomon Brothers, and bankers showered him with deals that took him into energy, railroads and insurance, on his own terms.

But Berkshire hasn’t gone elephant shooting in years, setting aside a $9.7 billion purchase of gas interests from Dominion Energy in 2020. Some say he has lost the taste for risk-taking. And, maybe, at 90, you can’t blame him. Competition from private equity and SPACs has not helped.

There have also been setbacks. Berkshire’s 2018 attempt to reinvent the US healthcare system with JP Morgan and Amazon fell apart in January 2021.

He was forced to sell his newspaper interests in 2020 for $140 million after failing to compete with social media

In 2016, Berkshire paid $32.1 billion for industrial group Precision Castparts, but wrote off $9.8 billion in 2020. Buffett later admitted he had paid too much.  

In 2015, he teamed up with private equity firm 3G Capital to refinance Kraft Heinz only to see billions written off the deal in 2019, following a brand writedown. Buffett later said he had paid too much for Kraft, although dividend receipts have provided compensation.

Tech issues

Berkshire’s experiences in the stock market have lately been mixed, despite its strong long-term record. 

It refinanced Occidental Petroleum but suffered losses from the deal in 2020. Early in the pandemic, it dumped airline and bank stocks near the bottom. Earlier, it fell in, and out, of love with Wells Fargo after its management changed. 

But Buffett has done exceptionally well out of stocks like Bank of America and Coca Cola. A stake in Chinese electric car company BYD which has risen 24-fold to $5.9 billion over 13 years. It owns 5.2% of Apple, which has quadrupled in value to $120 billion since buying it in 2016.

Apple has become a well-established brand. Buffett really likes brands, and management, which have weathered the test of time. 

After the dotcom crash, he said he did not understand technology companies. After all, their balance sheets were weak and growth required intellectual capital and equity fundraising.  He failed to hire expertise to invest in the sector, even though he achieved this in insurance with Ajit Jain.

Buffett now accepts he was mistaken not to back some of the tech giants. On Alphabet: “We blew it.” Buffett told his virtual meeting. Munger said something stronger.  

In contrast to Berkshire, family offices have embraced the tech dream and find it hard to understand Berkshire’s reticence. That said, Berkshire’s investment team has lately been nibbling on tech, investing $735 million in the hot IPO of cloud data specialist Snowflake in November, which was most unlike Berkshire Hathaway.  

The S&P 500 has outperformed Berkshire because of its 27% weighting in technology. Or closer to 40% if you include the healthcare and consumer sectors which are using a great deal of the stuff.  

Without Apple, even Berkshire would have been in deep trouble with its investors. Buffett has suggested investors could do worse than invest in ETFs tracking the even though he has spurned many of its constituents.

Tech has led to cryptocurrencies, Robinhood trading and SPACs.  None of them impress Buffett who told his virtual meeting competition that deals between SPACs would spur their demise. 

At the virtual meeting, Munger called bitcoin: “disgusting and contrary to the interests of civilisation.” Crypto fans argue that bitcoin has hugely outperformed Berkshire of late.

It’s not easy, being green

This year Buffett defeated proxy resolutions from some of the world’s biggest investors calling for diversity and transparency on climate change. Analysts were disappointed not to get a greener view from a man of near-mythical status.

At the virtual meeting, however, Buffett said he would leave such policies to his operating businesses, saying it was “asinine” to expect each of them to file individual ESG reports. He defended oil company Chevron, one of his investments: “It’s not an evil company” 

Catastrophe insurance business is heavily exposed to climate risk, his energy business is involved in fossil fuels and the weather in Omaha hasn’t been good of late. 

It is only fair to add that Buffett has left most of his $88 billion fortune to the Bill and Melinda Gates Foundation, which is concerned by inequality and by climate change.

Buffett’s heir apparent, Greg Abel, has developed a renewables business for Berkshire’s energy division, and wants to maintain its momentum. He wants to phase out his coal-fired power stations by 2049.

But 2049 is a long way away. The green lobby is getting powerful, ESG stocks have outperformed and carbon emission prices have risen 50% this year. This would suggest that Berkshire’s performance is lagging in yet another sector. 

Putting loyalty to his portfolio, and his businesses ahead of the needs of the planet could amount to his biggest challenge yet.

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