BRK's most impactful decisions & principles behind those decisions

[LearningMachine]

I think Munger said sometime that if it were not for top X decisions, BRK's returns would have been less than mediocre. 

 

To learn from those best decisions, and how Buffett made them, it will be great to go through those decisions.

 

How would folks rank the following, starting with most impactful?

• #1. Purchase of General RE with stock
• #2. Purchase of BNSF partially with stock
• #3. AAPL
• #4. BAC
• #5. AXP
• #6. KO
• #7. WFC
• #8. Geico
• #9. National Indemnity Company
• #10. OXY & CVX - remains to be seen
• #11. Gillette 
• #12. Washington Post 

 

Any big ones I missed?  

What are the time-tested principles behind those decisions?

Edited September 21, 2022 by LearningMachine

[nwoodman]

Great start, but why no Mid American/BHE?

[LearningMachine]

9 minutes ago, nwoodman said:

Great start, but why no Mid American/BHE?

Thanks @nwoodman for catching that. 

[MarioP]

See's Candy. A turning point in Buffett strategy

[Buckeye]

26 minutes ago, MarioP said:

See's Candy. A turning point in Buffett strategy

This is what I thought as well Mario. Could be wrong though. 

[HeadOfLeverage]

Selling the index put options. Blue Chip Stamps. Buffalo News. Illinois National Bank.

However, I wouldn't really view BRK as just a series of investments. I think his decisions in the operating companies are underrated. In insurance, where they historically had some very impressive result streaks, when the growth/decline in volume was almost perfectly timed to the combined ratio. Also, milking the stagnant businesses and redirecting the cash instead of investing in something stupid like most public companies do.

[yesman182]

I think somewhere in the top 10 would be the idea of spending energy switching boats when you find yourself in a leaking ship. They would not be the company they are today if they did not walk away from the textile business. 

[LearningMachine]

Thanks everyone for highlighting most impactful decisions.  

 

Buffett's world:
Now, starting to summarize principles behind those decisions in Buffett's world:

• #1. Low-cost leverage using float/deposits to buy high-quality income-generating assets
  • General RE
  • National Indemnity 
  • Geico
  • BAC
  • AXP
  • Illinois National Bank
  • Blue chip stamps
• #2. Leverage through fixed-rate low-interest long-term bonds
  • Mid American/BHE
  • BNSF
• #3. Pricing power through acquiring or building a monopoly in a region or a customer-segment
  • BNSF
  • Washington Post
  • Buffalo news
• #4. Pricing power through conspicuous consumption
  • See's Candy
  • AAPL
  • AXP
• #5. Pricing power of low-priced items through premium branding, story telling & hard-to-change consumer preferences
  • See's Candy
  • Gillette
  • KO
• #6. Guaranteed regulated returns
  • Mid American/BHE
• #7. Predicted Growth across the world or nation
  • KO
  • Geico

 

Any big principles I missed? 

 

Looks like broadly speaking just two principles meticulously followed can give double-digit returns with high certainty:

• Legacy Principle 1: Use Low-cost leverage that cannot be called or need refinancing
• Legacy Principle 2: Be highly certain that you can raise prices by 5-10% each year without losing customers

Now, to achieve both, other than 30-year mortgages, you need to be inside an insurance company or a bank. 

 

Now, beyond BRK, which insurance company is incorporating Principal #2 in most of its investments? 

 

In Buffett's world, he had to use financial leverage in his world to achieve outsized returns.

 

Today's world:

In today's world, businesses that can create new income streams from over a billion customers with low marginal cost might be another way that Buffett didn't have available.  So, maybe in today's world we could follow these principles:

• Modern Principle 1: Leverage: Ability to reach a billion customers with low marginal cost
• Modern Principle 2: More money from same customers: Be highly certain and have history of creating new income streams from those billion customers and/or raise prices on them without losing customers

 

Which companies can achieve and have history of achieving both Modern Principle 1 and Modern Principle 2?

Thoughts?

Edited September 22, 2022 by LearningMachine

[Spekulatius]

So we list only the success ? No PCP, Dexter Shoe, IBM, Lubrizol as well as the O&G adventures XOM and COP?

[IceCreamMan]

1 hour ago, LearningMachine said:

Thanks everyone for highlighting most impactful decisions.  

 

Buffett's world:
Now, starting to summarize principles behind those decisions in Buffett's world:

• #1. Low-cost leverage using float/deposits to buy high-quality income-generating assets
  • General RE
  • National Indemnity 
  • Geico
  • BAC
  • AXP
  • Illinois National Bank
  • Blue chip stamps
• #2. Leverage through fixed-rate low-interest long-term bonds
  • Mid American/BHE
  • BNSF
• #3. Pricing power through acquiring or building a monopoly in a region or a customer-segment
  • BNSF
  • Washington Post
  • Buffalo news
• #4. Pricing power through conspicuous consumption
  • See's Candy
  • AAPL
  • AXP
• #5. Pricing power of low-priced items through premium branding, story telling & hard-to-change consumer preferences
  • See's Candy
  • Gillette
  • KO
• #6. Guaranteed regulated returns
  • Mid American/BHE
• #7. Predicted Growth across the world or nation
  • KO
  • Geico

 

Any big principles I missed? 

 

Looks like broadly speaking just two principles meticulously followed can give double-digit returns with high certainty:

• Legacy Principle 1: Use Low-cost leverage that cannot be called or need refinancing
• Legacy Principle 2: Be highly certain that you can raise prices by 5-10% each year without losing customers

Now, to achieve both, other than 30-year mortgages, you need to be inside an insurance company or a bank. 

 

Now, beyond BRK, which insurance company is incorporating Principal #2 in most of its investments? 

 

In Buffett's world, he had to use financial leverage in his world to achieve outsized returns.

 

Today's world:

In today's world, businesses that can create new income streams from over a billion customers with low marginal cost might be another way that Buffett didn't have available.  So, maybe in today's world we could follow these principles:

• Modern Principle 1: Leverage: Ability to reach a billion customers with low marginal cost
• Modern Principle 2: More money from same customers: Be highly certain and have history of creating new income streams from those billion customers and/or raise prices on them without losing customers

 

Which companies can achieve and have history of achieving both Modern Principle 1 and Modern Principle 2?

Thoughts?

 

Add:

• Low cost provider of a commoditized product
  • Geico
  • WFC   

 

On the last question:

GOOG

MSFT

AMZN

[LearningMachine]

44 minutes ago, Spekulatius said:

So we list only the success ? No PCP, Dexter Shoe, IBM, Lubrizol as well as the O&G adventures XOM and COP?

 

Thanks @Spekulatius, you're right, often best lessons are from failures:

• PCP: Don't overpay, especially when you don't have certainty
• Dexter Shoe: Stay away from commodity products without premium branding
• IBM: Do your homework to be certain customers won't pick another competitor also
• XOM, COP: Don't overpay for oil stocks.  Hold oil stocks only when you are certain dollar has devalued already, and oil stocks are generating significant FCF with oil priced at a level that merely preserves OPEC's buying power with devalued dollars. 

What was the lesson from Lubrizol? Any lessons I missed above? 

[LearningMachine]

1 hour ago, IceCreamMan said:

On the last question:

GOOG

MSFT

AMZN

 

Thanks @IceCreamMan. 

 

On the last question, another dimension we could add is "how entrenched are your customers with you, i.e. what is your risk of losing your customers". 

• MSFT: Very entrenched enterprise customers
• AMZN: Very entrenched consumers
• GOOG: Very entrenched Android users (higher customer retention rate than iOS), no alternative for search, Workspace could become entrenched; however, losing some search revenue to Amazon and others; could have hiccups from advertising slowdown.

 

Now, what about the following also for last question?

• AAPL: has both pricing power and ability to create new income streams with existing customers, albeit can't roll out as fast as GOOG and META.   Customers are almost as entrenched as Android customers.
• META: ability to create new income streams with existing 3+ B customers, e.g. just created a new "*" button next to "like" button to create a new economy.  Can roll out new features for new income streams quickly.  Some customers entrenched with groups and friends, but might have issues with continuing to grow to new generation; could have some hiccups from advertising slowdown.
• BABA: Yes, will have to share some of the value created with merchants, customers and society for common prosperity
• TCEHY: Yes, will have to share some of the value created with customers and society for common prosperity

Any publicly traded company we missed that comes close to these seven companies that have the leverage to create new income streams from > 1 billion people with low marginal cost?

Edited September 22, 2022 by LearningMachine

[LearningMachine]

Just ran into https://finance.yahoo.com/news/p-500-buybacks-decline-21-130000766.html, and realized the top 4 buybacks in the U.S. this quarter are from the companies we discussed above that satisfy the two modern principles. 

 

AMZN bought back only $3.334 B for a total of exactly $6.000B this year, and this year is the only year they have bought back in the last 10 years.  However, because of their high PP&E, I think they will continue to not have as much FCF as AAPL, GOOGL, MSFT and META, especially with inflation.

 

Edited September 22, 2022 by LearningMachine

[Spekulatius]

13 hours ago, LearningMachine said:

 

Thanks @Spekulatius, you're right, often best lessons are from failures:

• PCP: Don't overpay, especially when you don't have certainty
• Dexter Shoe: Stay away from commodity products without premium branding
• IBM: Do your homework to be certain customers won't pick another competitor also
• XOM, COP: Don't overpay for oil stocks.  Hold oil stocks only when you are certain dollar has devalued already, and oil stocks are generating significant FCF with oil priced at a level that merely preserves OPEC's buying power with devalued dollars. 

What was the lesson from Lubrizol? Any lessons I missed above? 

I think with PCP, IBM and particularly Dexter Shoe, Buffett misjudged the business quality. I don't think he obviously overpaid but he didn't own what he thought he bought. it even happens to people as good as Buffett.

 

XOM was bought as a cash substitute and I think pretty much everything that Buffett bought as a cash substitute didn't work out well. VZ is another one in this bucket.

 

Lubrizol seems like an OK business, when he bought it, but it didn't work out well under Berkshires ownership? Maybe management issues? This one was pitched by Sokol to him before he was fired for "insider trading". I don't think it was a total disaster, but it definitely didn't work out all that well.

Edited September 22, 2022 by Spekulatius

[IceCreamMan]

23 hours ago, LearningMachine said:

that have the leverage to create new income streams from > 1 billion people with low marginal cost?

 

I'm not sure we need to limit ourselves with this 1 billion threshold. It seems like there are probably companies with negligible variable costs that can achieve the similar effective leverage, relative to their enterprise value, with smaller customer counts-- 10 million, 1 million, etc.

 

A tiny software company with a large addressable market has just as much of this magic modern leverage, right? Assuming it has a moat, of course.

[LearningMachine]

34 minutes ago, IceCreamMan said:

 

I'm not sure we need to limit ourselves with this 1 billion threshold. It seems like there are probably companies with negligible variable costs that can achieve the similar effective leverage, relative to their enterprise value, with smaller customer counts-- 10 million, 1 million, etc.

 

A tiny software company with a large addressable market has just as much of this magic modern leverage, right? Assuming it has a moat, of course.

 

@IceCreamMan, good point. 

 

The benefit of having bigger customer-base is that you can have multiple customer segments within the bigger customer base for new different services in the future.  With a smaller customer base, you may not have access to customer segments outside your customer base for different future services.

 

Also, if you have one of the biggest customer bases, you can afford to spend the most and still have the lowest amortized cost per customer. 

 

Also, customers want an integrated smooth experience with what they already work with, which gives an edge to companies with biggest customer bases already to introduce new services integrated with what they provide already.

 

For example, lot easier for Apple, Google, Microsoft, and Amazon to win over DropBox.  Storage then just becomes a sticky crowbar to get into other services for types of files stored, etc.   Similarly, lot easier for one of Microsoft, Google or Apple to win over Zoom, and videoconferencing becomes a crowbar into other services, etc.  Another example: lot easier for Google to do street view on Google Maps and build different services integrated with that for different customer segments than it would be for a smaller company working on something else. 

Edited September 23, 2022 by LearningMachine

[Spekulatius]

regarding Dropbox - you can get a subscription for MS365/ office and the free OneDrive storage cheaper than a Dropbox storage subscription, if you look around.

 

Now MS OneDrive may not be quite a feature rich than Dropbox storage but still. it does show the power of bundles and MS integrated business model (they own their cloud business which probably lowers cost to provide storage to near zero).

[jbwent63]

I agree with other posters, See's was the most impactful from a strategic perspective, if not the largest financially. Thanks, Charlie!

[MCR]

15 hours ago, LearningMachine said:

 

@IceCreamMan, good point. 

 

The benefit of having bigger customer-base is that you can have multiple customer segments within the bigger customer base for new different services in the future.  With a smaller customer base, you may not have access to customer segments outside your customer base for different future services.

 

Also, if you have one of the biggest customer bases, you can afford to spend the most and still have the lowest amortized cost per customer. 

 

Also, customers want an integrated smooth experience with what they already work with, which gives an edge to companies with biggest customer bases already to introduce new services integrated with what they provide already.

 

For example, lot easier for Apple, Google, Microsoft, and Amazon to win over DropBox.  Storage then just becomes a sticky crowbar to get into other services for types of files stored, etc.   Similarly, lot easier for one of Microsoft, Google or Apple to win over Zoom, and videoconferencing becomes a crowbar into other services, etc.  Another example: lot easier for Google to do street view on Google Maps and build different services integrated with that for different customer segments than it would be for a smaller company working on something else. 

 

I understand this argument with regards to "adjacent possible" markets, but remain puzzled (bordering on skeptical) about long-term moats (competitive advantage) for companies operating in multiple markets/verticals like Amazon (cloud service, grocery store, online retail, movie/TV streaming, music streaming, etc.). This is a lot of competition with companies that can expend energy in fewer verticals because they don't operate in so many (sub-) industries at the same time. Bruce Greenwald and Judd Kahn's 2005 HBR article, "All Strategy Is Local" (and their book, Competition Demystified) has been my touchstone for how to think about this. [I can share full article with anyone interested.]

 

By contrast (or is it wishful thinking/confirmation bias on my part?), Berkshire appears to be constructed of companies that individually have strong competitive advantages, which in some instances (at least) are amplified by being part of the mother ship. (One example might be the amount of cash BHE can throw at renewables these days in part because it doesn't have to pay a dividend and how the energy tax credits in turn helps the mother ship.) 

 

Greenwald and Kahn's argument is that it's hard to create enduring advantages because they get competed away. But I wonder if discerning between "different services integrated for different customer segments" versus competing in multiple markets/verticals at one time with multiple sets of competitors is clearest in hindsight?

 

In any case, Greenwald and Kahn's thesis (if correct) make Berkshire's success over so many years just that more outstanding IMO (acknowledging my bias and personal investment in its continued success).

Edited September 23, 2022 by MCR

[LearningMachine]

1 hour ago, MCR said:

 

I understand this argument with regards to "adjacent possible" markets, but remain puzzled (bordering on skeptical) about long-term moats (competitive advantage) for companies operating in multiple markets/verticals like Amazon (cloud service, grocery store, online retail, movie/TV streaming, music streaming, etc.). This is a lot of competition with companies that can expend energy in fewer verticals because they don't operate in so many (sub-) industries at the same time. Bruce Greenwald and Judd Kahn's 2005 HBR article, "All Strategy Is Local" (and their book, Competition Demystified) has been my touchstone for how to think about this. [I can share full article with anyone interested.]

 

By contrast (or is it wishful thinking/confirmation bias on my part?), Berkshire appears to be constructed of companies that individually have strong competitive advantages, which in some instances (at least) are amplified by being part of the mother ship. (One example might be the amount of cash BHE can throw at renewables these days in part because it doesn't have to pay a dividend and how the energy tax credits in turn helps the mother ship.) 

 

Greenwald and Kahn's argument is that it's hard to create enduring advantages because they get competed away. But I wonder if discerning between "different services integrated for different customer segments" versus competing in multiple markets/verticals at one time with multiple sets of competitors is clearest in hindsight?

 

In any case, Greenwald and Kahn's thesis (if correct) make Berkshire's success over so many years just that more outstanding IMO (acknowledging my bias and personal investment in its continued success).

 

Thanks @MCR for sharing your thoughts. 

 

Kudos to Buffett for eventually realizing and sharing at the 2021 Annual meeting: "We've always known that the dream business is the one that takes very little capital and grows a lot. Apple and Google and Microsoft and Facebook are terrific examples of that."

 

Interesting, he left Amazon out because of their PP&E expenditure.

 

I think you hit it right on the nail about integrated experience vs. competing in multiple markets.   Apple, Google, Microsoft and Facebook have the opportunity of offering new services integrated with their existing services to a billion plus users without user making any purchase decision at a very low marginal cost, and then getting their share of value added over time. 

 

I know Meta stock is under doldrums, but I actually think they are doing the best job of all by doing it with speed and monetizing it quickly, albeit while having highest risk of losing customers.  Overall, I think there is still a good probability one day world is going to wake up and realize wow, how did Meta just create a new economy worth billions and billions and billions of dollars by just letting people click on the added "star" button on reels.  So much so, that regulators may not let them take a big cut of that economy.

 

Who else in the world has the leverage to be able just introduce a feature like that to 3+ billion people without customers' choice?

 

Overall, I'm saying you need leverage to get outsized returns.  In Buffett's world, he figured out a way to use financial leverage safely.   

 

In today's world of internet, where you can give a new service to billion plus users without their choice, and then monetize effectively using today's technology, that free access to giving new services to billion plus users without their choice is a big source of leverage!  

 

No wonder FCF growth of AAPL, GOOGL, MSFT and META has been off the charts, way more than BRK's, MKL's or any other company I can find so far.  Can anyone please help find any other companies with FCF growth over long periods of time off the charts like theirs?  Now, what is the source of that FCF growth.  If you have tried to start a new startup, you will realize these companies have it made with the leverage they have with free access to their billion plus customers. 

 

All that said, underlying businesses being great doesn't mean it is a good buy at any price.  Best would be to get the opportunity to buy AAPL and GOOGLE at P/E <10 as they both have good FCF growth and entrenched customers.  Would that opportunity come?  Maybe?

 

 

Edited September 23, 2022 by LearningMachine

[IceCreamMan]

On 9/23/2022 at 2:48 PM, MCR said:

discerning between "different services integrated for different customer segments" versus competing in multiple markets/verticals at one time with multiple sets of competitors

 

This makes me think of Microsoft vs. Constellation Software.

 

On 9/23/2022 at 3:13 PM, LearningMachine said:

No wonder FCF growth of AAPL, GOOGL, MSFT and META has been off the charts, way more than BRK's, MKL's or any other company I can find so far.  Can anyone please help find any other companies with FCF growth over long periods of time off the charts like theirs?

 

Constellation Software, Home Depot ?

 

More ideas here, including Amgen, Nike, UnitedHealth:

https://graphics.wsj.com/table/INVESTOR_0129

(The 30 best-performing U.S. stocks of the past 30 years, as of 2016)

[LearningMachine]

11 hours ago, IceCreamMan said:

 

This makes me think of Microsoft vs. Constellation Software.

 

 

Constellation Software, Home Depot ?

 

More ideas here, including Amgen, Nike, UnitedHealth:

https://graphics.wsj.com/table/INVESTOR_0129

(The 30 best-performing U.S. stocks of the past 30 years, as of 2016)

 

Thanks for sharing.  I took a look and did some quick math. 

 

FCF CAGR since 2009:

• HD: 9.7%, while debt went from $23B to $75B, & op margin 6.56% to 15.30% (probably hard to continue for a long time)
• AMGN: 2.9%
• NKE: 9.1%
• UNH: 11.4%, where debt went from $34B to $154B

 

FCF/share CAGR since 2009 is a little better, thanks to share repurchases

• HD: 13.4%
• AMGN: 7.5%
• NKE: 10.6%
• UNH: 13.2%

 

Almost all Companies with > 1 billion users are still doing better without growing debt much as a multiple of FCF. I've the numbers handy for (FCF-SBC)/share CAGR since 2009:

• AAPL: 25.6%
• GOOGL: 16.4%
• META: 60.9%
• MSFT: 12.6%
• AMZN: 20.3%

 

That said, big chunk of the FCF growth for at least some was from user growth itself.  MSFT had the lowest CAGR and also the one that had the lowest user growth.  Remains to be seen how some do with getting more money from non-growing user base, or in same cases, potentially shrinking user base at some point, and on top of that, advertising headwinds.

 

Edited September 28, 2022 by LearningMachine