Why did Warren Buffett buy Berkshire Hathaway?

[SCMessina]

Was wanting to get some feedback on this question. I recently did some analysis based on my reading of some books and looking through the BRK 10-Ks from the late 60's. The full analysis (https://www.scmessina.com/2015/04/why-did-warren-buffett-buy-berkshire-hathaway/) which includes the below valuation figures and and further details is summarized as follows:

 

- My interpretation is that BRK was originally a cigar butt play that started in 1962 then turned into something else for emotional reasons.

 

- It seems like he could have sold it in the Graham cigar butt M.O. in 1964 at a healthy profit via a tender offer but decided to gain control in 1965 after being low-balled for 1/8th of a dollar per share by the then BRK CEO in the actual tender that came in the mail.

 

- He tried to sell the darn thing in 1968, but no takers.

 

- What made Berkshire an attractive investment in 1962 when shares were trading around $7.50?

 

- The investing opportunity for BPL in 1962 resided in the fact that the company’s shares in 1962 were trading around $7.50, significantly below, not only the value per share of the company’s book value or net assets as a whole, but also at a huge discount to the value per share of the most liquid asset items on the balance sheet other than cash: working capital.

 

- From the 1964 annual report, working capital of $16.4 million ($10.25/share) in 1962 made up about 50% of book value at $32.5 million

($20.20/share).

 

- So how much of a discount to working capital per share and fixed assets (plants and equipment) per share did the purchase price of $7.60 represent in 1962?

 

- Berkshire ended 1962 with $10.25 per share in working capital, meaning that BPL first started buying shares in 1962 at a 26% discount to working capital per share. This is even before attributing any value from plants and equipment.

 

- If stockholders’ equity per share or book value per share at the end of 1962 was $20.20, the purchase price of $7.60 per share represented a 62% discount to book value per share. That means $9.95 per share ($20.20 book value per share - $10.25 working capital per share = $9.95) is more or less attributable to the carrying value of plants and equipment on the balance sheet, net of liabilities. Note, the carrying values of the plants had also been periodically marked down to what accountants deemed as their impaired, fair values.

 

- As the fixed assets and inventory were being wound down and liquidated, the proceeds were being used to repurchase the shares aggressively. This value on the balance sheet was being RETURNED to shareholders. A major repurchase included the tender offer from BRK that Buffett turned down in 1964 at $11.375. Accepting the tender would have enabled BPL to exit its entire position with 40% annualized gains.

 

- Instead, BPL started to buy shares heavily in its ambition to gain control. Due to heavy share purchases in early 1965, prior to taking formal control in May, BPL’s ultimate average purchase price of Berkshire shares almost doubled from $7.60 to $14.86!

 

Would be great to hear any feedback.

[Munger_Disciple]

Warren says in the 2014 AR that buying control stake in Berkshire was the biggest mistake of his investing life.

[wescobrk]

What's your source for he tried to sell it in 1968?

THanks.

Damn brokerage firm changed my delivery options to electronic and I never got my hard copy Berkshire report. Ugh.

 

[SCMessina]

 

Re: the point about wanting to sell it in 1968:

https://www.scmessina.com/wp-content/uploads/2015/04/Prologue-Why-did-Warren-Buffett-buy-Berkshire-Hathaway-in-1965.pdf

 

 

"By the middle of 1968, Buffett even tried to sell Berkshire Hathaway. He attempted to “jettison the intractable Berkshire Hathaway” by attempting to sell it to Charlie Munger and David “Sandy” Gottesman, but after three days of discussion neither Munger nor Gottesman wanted it."[10]

 

[10] Alice Schroeder, The Snowball: Warren Buffett and the Business of Life (New York: Bantam Books, 2009), p. 274.

[Parsad]

I remember meeting this gentleman on a flight from Dallas to Omaha about five years back.  He was about 90-95 years old, half-blind, but very engaging. 

 

He was going to the Berkshire Hathaway meeting.  Lived in Dallas, but had a farm in Omaha and was a long-time shareholder.

 

I asked him about his farm..."Ohhh, I bought it many years ago...about 50,000 acres!"

 

I asked him how long he's been a shareholder..."Oh, I owned it before Buffett got involved.  My broker accidentally bought me 5,000 shares when I asked him to buy something else, but he thought this was a better investment." 

 

What happened...did you keep the shares?  "Yeah, I ended up keeping them.  I gave my idiot son 500 shares ten years ago, but he sold them, but I kept the rest of them!"

 

And the broker?  "Oh, I fired him right after he bought me the stock and told me what he did!"  Did you ever see him again or thank him years later?  "Nope!" as he chuckled.

 

So why did Buffett buy Berkshire?  Perhaps serendipity. 

 

Maybe it was a mistake for Buffett to buy Berkshire, but maybe he would not have turned Berkshire into what he did if he had sold it or bought something else.  Thank goodness he made the worst mistake of his life by buying Berkshire!  Cheers!

[Pelagic]

Thanks for sharing. I was always under the impression BRK was a poor investment when he bought it. I seem to remember Buffett mentioning somewhere how little he was able to get for the textile equipment compared to what it was on the books at and it's a lesson I've tried to keep in mind when looking at "cheap" companies. From your description though it seems it wasn't too bad of an investment and he certainly could have made money off it before he took BRK over. Funny how he tried to pawn it off on Munger and Gottesman, what are friends for right?

[jawn619]

Thanks for sharing. I was always under the impression BRK was a poor investment when he bought it. I seem to remember Buffett mentioning somewhere how little he was able to get for the textile equipment compared to what it was on the books at and it's a lesson I've tried to keep in mind when looking at "cheap" companies. From your description though it seems it wasn't too bad of an investment and he certainly could have made money off it before he took BRK over. Funny how he tried to pawn it off on Munger and Gottesman, what are friends for right?

 

He probably didn't even lose that much in it, if at all. It was a net net and it was one of those stocks that buffet should have sold when it got close to 1x book value. I think he said it was the biggest mistake of his investing career because berkshire wasn't going to compound like GEICO at 20% a year and the time lost with buffet trying to save the business or keep it running could have been spent in a better investment.

[wescobrk]

I remember meeting this gentleman on a flight from Dallas to Omaha about five years back.  He was about 90-95 years old, half-blind, but very engaging. 

 

He was going to the Berkshire Hathaway meeting.  Lived in Dallas, but had a farm in Omaha and was a long-time shareholder.

 

I asked him about his farm..."Ohhh, I bought it many years ago...about 50,000 acres!"

 

I asked him how long he's been a shareholder..."Oh, I owned it before Buffett got involved.  My broker accidentally bought me 5,000 shares when I asked him to buy something else, but he thought this was a better investment." 

 

What happened...did you keep the shares?  "Yeah, I ended up keeping them.  I gave my idiot son 500 shares ten years ago, but he sold them, but I kept the rest of them!"

 

And the broker?  "Oh, I fired him right after he bought me the stock and told me what he did!"  Did you ever see him again or thank him years later?  "Nope!" as he chuckled.

 

So why did Buffett buy Berkshire?  Perhaps serendipity. 

 

Maybe it was a mistake for Buffett to buy Berkshire, but maybe he would not have turned Berkshire into what he did if he had sold it or bought something else.  Thank goodness he made the worst mistake of his life by buying Berkshire!  Cheers!

 

Thanks for sharing, Sanjeev.

Great story!

[coc]

I think Buffett has clarified to say that if he'd bought Nat'l Indemnity outside of BRK and just sold off Berkshire, the result would have been a lot better. He could have done the same thing without the drag from textiles.