In 2018, CNBC launched the Warren Buffett (Trades, Portfolio) Archive, “the digital home to the world’s largest video collection of Warren Buffett (Trades, Portfolio)”. The website includes complete video footage from every Berkshire Hathaway (BRK.A, Financial)(BRK.B, Financial) shareholder meeting since 1994, in addition to video clips from Buffett’s appearances on CNBC dating back to 2005.
My goal in this series is to share key takeaways from the meetings. I will select a handful of quotes that I think are most interesting and insightful for investors. With that, let’s look at the 1995 afternoon session.
When to pay dividends
At the beginning of the meeting, Buffett was asked whether companies like Coca-Cola (KO, Financial) and Gillette were making suboptimal decisions by paying dividends as opposed to retaining the capital. In his explanation, Buffett touched on why different capital allocation strategies can make sense for different companies – as well as for different management teams:
“It depends how they would use utilize the cash and what they could use it for. Those are more focused enterprises than Berkshire, at least in terms of products. I commend managements that have a wonderful business for utilizing cash in those wonderful businesses, or in businesses that they understand and that will also have wonderful economics, and for getting the rest of the money back to the shareholders. So, Coca-Cola, in my book, is doing exactly the right thing with its cash when it uses all the cash that it can, effectively, in the business to expand in new markets, but then beyond that, it pays a dividend which distributes cash to shareholders, and then it repurchases shares in a big way, which returns cash on a selective basis to shareholders, but in a way that benefits all of them.”
As Buffett goes onto explain, the yardstick to determine whether it was intelligent to keep a dollar of cash in a business, as opposed to distributing to shareholders, depends upon the ability of the company to produce more than a dollar of value from its retention over time. For “focused enterprises” like Coca-Cola or Gillette, it makes sense to spend as much as needed to expand within their core, advantaged market – but that’s it. A company like Coca-Cola should resist the urge to expand into unrelated areas like the movie business (as Coca-Cola did in 1982 when they purchased Columbia Pictures). For focused companies, investors will be better off over the long run if management is honest with itself and recognizes the limited scope of the business – the areas where it truly has sustainable competitive advantages.
Later in the meeting, Buffett and Charlie Munger (Trades, Portfolio) were asked about Berkshire’s growing cash balances. As the shareholder inquired, was this purposely being done – a market call of sorts - in hopes of executing opportunistic buys down the road? Buffett answered:
“Cash at Berkshire is a residual. We would like to have no cash at all times. We also don’t want to owe a lot of money at any time. If we have cash around, it’s simply because we haven’t found anything we like to do, and we always hope to deploy it as soon as possible. We never think about whether the market’s going to go down or whether we might buy something even cheaper. If we like something, we’ll buy it. And when you see cash on our balance sheet of any size, that’s an acknowledgement by Charlie and me that we have not found anything, in size anyway, attractive at that point. It’s never a policy of ours to hold a lot of cash.”
It's interesting to think about that answer in relation to how Buffett has acted in recent years. At the end of 1995, Berkshire held roughly $3 billion in cash and equivalents on its balance sheet. Today, Berkshire has over $100 billion in excess cash (and that’s after accounting for the $20 billion that Buffett believes the company needs to have on hand at all times). Given what Buffett said in 1995, I guess one would have to conclude that he and Munger have found very few things that they thought were attractive in the past few years (at least above a certain size). To be completely honest, it’s hard for me to circle the square on that one.
Balancing Fisher and Graham
During an interview, Buffett once told Forbes editor James Michaels that his investment style was as 15% Phil Fisher and 85% Benjamin Graham. During the 1995 afternoon session, a shareholder asked Buffett if that split was still accurate. Here was his response:
Buffett: “I don’t know what the percentage would be… I was very influenced by Phil Fisher when I first read his two books, back around 1960 or thereabouts. And I think that they’re terrific books, and I think Phil is a terrific guy… I probably gave that percentage, it was one of those things, I just named a number. But I’d rather think of myself as being 100% Ben Graham and 100% Phil Fisher. And they really don’t contradict each other. It’s just that they had a vastly different emphasis. Ben would not have disagreed with the proposition that if you can find a business with a high rate of return on capital that can keep using more capital, that that’s the best business in the world. And of course, he made most of his money out of GEICO, which was precisely that sort of business. So, he recognized it, it’s just that he felt that the other system of buying things that were statistically very cheap, and buying a large number of them, was an easier policy to apply…”
Munger: “What was interesting to me about the Phil Fisher businesses is that a very great many of them didn’t last as wonderful businesses. One was Title Insurance and Trust Company… it just dominated a lucrative field. And along came the computer, and now you could create, for a few million dollars, a title plant and keep it up without an army of clerks. And pretty soon, we had 20 different title companies, and they would go to great, big customers like big lenders and big real estate brokers, and pay them outlandish commissions by the standards of yore, and bid away huge blocks of business. And in due course, in the State of California, the aggregate earnings of all the title insurance companies combined went below zero - starting with a virtual monopoly. Very few companies are so safe that you can just look ahead 20 years. Technology is sometimes your friend and it’s sometimes your bitter enemy. If Title Insurance and Trust Company had been smart, they would’ve looked on that computer, which they saw as a cost reducer, as one of the worst curses that ever came to man.”
Buffett: “It probably takes more business experience and insights to some degree to apply Fisher’s approach than it does Graham’s approach. The only problem is, you may be shut out of doing anything for a long time with Ben’s approach, and you may have a lot of difficulty in doing it with big money. But if you strictly applied, for example, his working capital test to securities, it will work. It just may not work on a very big scale, and there may be periods when you’re not doing much…”
I’m intrigued by Munger’s comment here, particularly when considered in the context of one of his most well-known quotes:
“Over the long term, it's hard for a stock to earn a much better return than the business which underlies it earns. If the business earns 6% on capital over 40 years and you hold it for that 40 years, you're not going to make much different than a 6% return - even if you originally buy it at a huge discount. Conversely, if a business earns 18% on capital over 20 or 30 years, even if you pay an expensive looking price, you'll end up with a fine result.”
Here's the problem: if there are “very few companies” that are so safe that you can just look ahead 15 or 20 years, how can an investor go about finding a business that’s likely to earn outsized returns on capital – with any degree of reliability – over three decades? If you asked Munger that question, I think he would tell you that you’re right - that it’s obviously a difficult thing to do with any certainty. But he would also probably ask you, why wouldn’t it be? Said differently, “It’s not supposed to be easy. If it were easy, anyone could do it.”
He also might add that on that rare occasion when you do find a business that has the potential to achieve meaningfully outsized result over decades, but it’s priced as if its some run of the mill opportunity, you should size your position accordingly. In those few instances where you stumble across once in a lifetime opportunities, bet big.
As he said in a recent interview, "The opportunities in life are going to be rare... The best and wisest are only going to get a few big opportunities. And you really have to step up to the pie counter and take a big helping when you get your small share. And I've been very good at that."
Disclosure: Long Berkshire Hathaway.
Read more here:
- Berkshire Hathaway Meeting: 1995 Morning Session
- Berkshire Hathaway Meeting: 1994 Afternoon Session
- Berkshire Hathaway Meeting: 1994 Morning Session
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