What You Need to Learn from Warren Buffett
You’ve heard of Warren Buffett. You’ve even read a few Bloomberg articles about the Oracle of Omaha. You may know he is a disciple of Ben Graham’s school of value investing and partners with Charlie Munger.
But, have you gone straight to the source?
I ask because I was asking myself the same question less than a year ago. In a world full of gurus without substance, I decided it was time to learn from one of the most accomplished businessmen of the last century.
Source Material
I picked up The Essays of Warren Buffett, arranged by Lawrence Cunningham. It is a collection of letters to Berkshire Hathaway shareholders over the company’s history, all written by Buffett.
It’s dense stuff. Luckily, an economics undergraduate degree equipped me with the basic vocabulary to grasp the concepts Buffett has written about.
The process is slow and deliberate. This post will cover the first 80 pages.
Lesson #1?—?Incentives are Everything
Buffett and his business partner Charlie Munger know incentives are a very big deal.
“I think I’ve been in the top 5% of my age cohort all my life in understanding the power of incentives, and all my life I’ve underestimated it. And never a year passes but I get some surprise that pushes my limit a little farther.” ~ Charlie Munger
As investors who are solely focused on long-term outcomes, they incentivize their teams to align with the same outlook.
Their conglomerate, Berkshire Hathaway, is made up of numerous companies that all contribute to the total $360 billion market value. These include familiar names like GEICO, Dairy Queen, Fruit of the Loom, Helzberg Diamonds, Kraft Heinz Company, American Express, The Coca-Cola Company, Wells Fargo, and IBM.
Buffett and Munger push the CEOs of all their companies to imagine themselves as lifetime owners. When leaders are not worried about hitting quarterly numbers, and being pressured by Wall Street, they can make meaningful investments in the future.
This is possible because manager bonuses are not dependent upon the day-to-day fluctuations of the market or the overall performance of Berkshire Hathaway. They also generally refrain from offering stock options to anyone other than managers responsible for the entire business.
Buffett is also not a fan of CEOs who get bonuses for being fired. Why incentivize tanking?
This is a serious competitive advantage when the competition is worried about the short-term and incentivize the wrong things.
Lesson #2?—?Reputation is Everything
“We can afford to lose money?—?even a lot of money. But we can’t afford to lose reputation?—?even a shred of reputation.”
Every bad behavior needs to be nipped in the bud as soon as it is found before it can fester into something worse. This is a great analogy for both personal habits and leading organizations of any size.
Buffett even acknowledges that in such a large company, there is inevitably going to be some bad behavior going on. This acknowledgment is the first step towards correcting it.
The greatest risk is that small bad behaviors will become accepted and commonplace, opening the door for worse behavior. Culture is based on momentum, not a value statement that no one reads.
Buffett is not shy, nor hesitant, to fire the offending party if necessary, but he prefers leaders police their own organization. He does, however, want to be reported to on such matters.
“A reluctance to face up immediately to bad news is what turned a problem a Salomon from one that could have easily been disposed of into one that almost caused the demise of a firm with 8,000 employees.”
Get out ahead of bad news and protect your reputation at all costs.
Lesson #3?—?Relationships Matter
Buffett has worked to cultivate a very specific type of investor to hold shares of Berkshire Hathaway. He wants partners who are also in it for the long-term and with whom trust is built and embedded. For approximately 90% of shareholders, Berkshire is by far their largest security holding.
Annually, the company sees ~2% turnover in owners. This is unheard of in the world of finance.
By comparison, over the last two decades, the average turnover ratio of public company shares is about 140%. That means the entire quantity of the company’s shares is traded more than once a year.
These long-standing relationships are cultivated through transparent communication and honest feedback. The Berkshire Hathaway annual meeting has become a cultural event and investors have context on every major decision.
Many investors have passed their shares on to their family through inheritance.
Quick Hits
- “Audit committees can’t audit,” says Buffett. Internal auditors feel beholden to the CEO and, therefore, cannot act without bias. The only way to really audit is from the outside.
- Warren Buffett is 86 and Charlie Munger is 93. Both are still actively running the company and, by all accounts, are mentally still with it. This is a testament to the vivacious effects of doing interesting work and staying mentally stimulated. (being uber-wealthy probably helps, too)
- “We use debt sparingly and, when we do borrow, we attempt to structure our loans on a long-term fixed-rate basis.” Once again, practical advice for your business and your life.
I suggest you pick up the book yourself. But, if you don’t, connect with me so you'll get future updates.