During the interview, when discussing their early investments, the two investors noted that some of the early businesses, which formed the foundations of Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) as we know it today, have entirely died and disappeared. As Buffett explained:
"The three base businesses all ended up disappearing. They, you know, they went outta business. They did, they no longer fit into the society, in a sense."
Buffett went on to note that the first business he partnered with Munger on was "something called Diversified Retailing which was in Baltimore." The duo founded the enterprise to acquire retail properties, but it quickly became apparent this was a business they didn't want to be in, so they sold out. Since then, the retailer they acquired has gone out of business, and the sector as a whole has experienced substantial change.
Studying businesses that have failed, especially when they formed part of a larger group such as Berkshire, can be informative. Buffett and Munger have experienced their fair share of businesses in the past.
Alongside Diversified Retailing, two other examples are World Book and Blue Chip Stamps. World Book provided a door-to-door encyclopedia sales service, while Blue Chip offered shopping stamps.
When talking about World Book in Berkshire's 1997 annual shareholder meeting, Buffett noted:
"It is not the business it was five years ago. And I don't think it will be the business that it was five years ago because the world is changed in some ways on that."
Munger went on to add:
"We don't have any way of avoiding declines in some of our businesses some of the time. Blue Chip Stamps once sold stamps at the rate of $120 million year. Now, it's about $200,000 a year. So, we lose some."
Buffett continued noting that he'd owned shares in a windmill firm, anthracite coal mine and street railway business during his career. "I've seen them all," he said.
Change is part of business
What we can take away from these case studies is the fact that change is part of business. That does not mean it's impossible to navigate. Even though many of Berkshire's early divisions have fallen into obsolescence and collapsed, the group is bigger today than it has been at any other point in history.
So, how have Buffett and Munger been able to achieve this when so many businesses have disappeared along the way? The answer to that is capital allocation. The two business owners have never been under any obligation to invest or support any individual business. They can pick and choose which companies they support and which they want to invest in for the long run. They can avoid companies that are struggling and support companies that are prospering.
This is one of the most significant advantages any investor has. It's the ability to pick and choose companies. To rotate from bad firms into good ones, companies that are prospering rather than failing.
In the 1970s and 1980s, Buffett knew Berkshire's legacy textile business was struggling to compete with cheaper overseas competitors. As a result, he refused to put more money into the business. Instead, he took money out of the business and used it to buy other firms with brighter prospects. Buffett shifted the capital from the poorly performing enterprise into growth opportunities.
Berkshire's growth has continued year after year by following this strategy, even though the group has experienced multiple failures along the way. This approach is something any investor can learn from to enhance their long-term returns by focusing on growing businesses and cutting struggling ones out altogether.