Warren Buffett released his annual letter to Berkshire Hathaway shareholders this weekend. Dating back to 1977, Buffet has released an annual letter discussing the past year for Berkshire Hathaway and gives some commentary on the overall marketplace. This has become a holy scripture to many of those in the financial community. You can find all of the previous versions of his letters here.
I used to own shares of Berkshire, but I sold them a couple of years ago when I was transferring brokerage accounts. After reading this letter, I feel like I’m doing a disservice by not holding at least a couple of shares. Buffett, and his long-time partner in crime, Charlie Munger, are the grandfathers to many of the financial concepts that have shaped my investing behavior. Their thesis consists of buying great companies and just waiting. Everything else will shake out in time as long as you have your money in companies that will continue to steadily grow into the future. You’ll do better than most if you buy a boring company that will still exist 50 years into the future compared to the hottest tech stock trying to recreate the world, just to flame out several years later.
Berkshire Hathaway makes their money in two ways. The first way they make money is from the profits of the companies they fully own and sit under the Berkshire umbrella. They also make money by buying shares of publicly traded stocks and building a portfolio just like you or me. The only difference is that they are working with billions of dollars. At the end of 2020, Berkshire’s portfolio of public companies they invested in was a whopping $281 billion. Over a third of the $280 billion is tied up in Apple, which is by far their largest holding.
One of the key concepts Buffet discusses in this letter he is totally fine with not being the majority owner in all of his investments. He discusses how the money made from their minority investments doesn’t appear on Berkshire’s financial statements. They do recognize the money they receive from the dividends paid out from their investments, but he made a point that he doesn’t need/want direct cash payouts from his investments. He is a believer that these companies will take their earnings and reinvest in the company, which will then increase the total worth of the company. Instead of taking $1 now from a company, he would rather have a company invest that $1 to create another $3 in the future.
Being able to successfully reinvest in a business is a trait that I still need to learn how to better identify. This goes along with identifying great leadership teams. Great companies are able to take their current profits and reinvest them into their business to grow even further. Berkshire Hathaway is notorious for not paying out dividends. Buffett and Munger have a belief that money is better spent reinvesting to create greater returns in the future.
Buffett also writes in this letter how “Berkshire is often labeled a conglomerate, a negative term applied to holding companies that own a hodge-podge of unrelated businesses.” He writes how great businesses are usually not for sale, so the pool of companies to buy is generally poor for a conglomerate. He also adds that conglomerates usually overpay to get a half-decent company under their umbrella. I think the best line of his whole letter comes while he is discussing conglomerates when he writes, “owning a non-controlling portion of a wonderful business is more profitable, more enjoyable and far less work than struggling with 100% of a marginal enterprise.”
That quote really hit home to me. This is the message that I try to spread to anyone I meet. You can do very well for yourself if you invest in stocks, but you’ll do even better if you can identify the companies that will continue to grow for the decades to come. Even easier, we all should just be buying index funds and forgetting about them for 30+ years. I think investing in a low-cost total market index fund is probably the best investment in terms of total return compared to the effort. You won’t achieve billionaire status by owning an index fund, but you’ll be a millionaire for doing next to nothing. All you have to do is be consistent with your purchases and the rest will play itself with time.
Another topic that also has to be discussed with Buffett and Munger is their age. Their age and wisdom have done wonders for the whole world, but that time will come to an end eventually. Warren Buffett is 90 and Charlie Munger is 97 years old. Their time as the leaders of Berkshire Hathaway can’t last forever and will be passed along to their successors, Greg Abel and Ajit Jain. This is something that has been known for a while. It is remarkable that they are both going strong as they have been into their 90’s.
I think the most beautiful thing about Berkshire Hathaway can be summarized by the adage, “You are what you eat.” Buffett and Munger looked to invest in great businesses that should stand the test of time, which in turn created a business in Berkshire Hathaway that should also stand the test of time. Do you know how long the pyramids should stand before erosion gets the best of them? One million years. I feel what Buffett and Munger have created is the business equivalent of the great Egyptian pyramids. Of course, it wasn’t just the two of them who created what Berkshire Hathaway has become today. For example, Jain leads the Insurance business and Abel leads the Energy business.
To carry forward the pyramid analogy, Buffett and Munger created the pyramids. Jain and Abel will continue to tend to the pyramids to make sure that they aren’t degrading at a quick pace. From the ticket sales of people wanting to visit what Buffett and Munger built, the equivalent of the cash flows from the underlying businesses, Jain and Abel can start building their own structures on the outskirts. The best thing about being a shareholder of this enterprise is, you don’t have to do anything. As long as people want to continue to see the pyramids, you’ll continue to generate wealth from the operation.
In the letter, Buffett calls out how “Most of Berkshire’s value, however, resides in four businesses, three controlled and one in which we have only a 5.4% interest. All four are jewels.” It just so happens that the Insurance and Energy businesses are a member of these four jewels. The Insurance business is the real key success for Berkshire. Berkshire is able to use the float from the insurance business, which is the excess capital not paid out in claims, in different investments. Berkshire gets the boost of having some of the best capital allocators in the business to get the most bang for their buck.
Speaking of capital allocation, Buffett speaks about how they have committed $24.7 billion to repurchase their own stock. It should say something that they were willing to repurchase their own stock and their belief on the current valuation of the company. “In no way do we think that Berkshire shares should be repurchased at simply any price. I emphasize that point because American CEOs have an embarrassing record of devoting more company funds to repurchases when prices have risen than when they have tanked. Our approach is exactly the reverse.”
Another great line from this letter is actually a line from their 1983 annual report discussing how Berkshire is set up, “Although our form is corporate, our attitude is partnership.” I’m not sure how many times that line has been ripped off, but I know I’m filing that one away for future use. This is a perfect way to sum up how Berkshire operates. They want to find partners to grow together with and it’s even better if the partner continues running their own operation. They are the ones that are the real experts in their field. There is also the underlying current of humble modesty, despite both Buffett and Munger being billionaires. Buffett still lives in the same house that he purchased in Omaha back in 1958.
During this past year when growth stocks have become the rulers of the universe, I know I’ve turned my eyes away from a company like Berkshire Hathaway. This is the perfect time to look at them. They make the core of their money from insurance, railways, and energy. They aren’t reinventing the wheel with their business, which is the beauty of it.
We all know how important time is in the equation of investing and compounding. There is the famous line that circulates the internet saying Buffett has made 99% of his wealth after the age of 50. This is by no accident. The more money you have, the more money you can make. Buffett has instilled the long-term investment horizon which I try to share with others. It has become a foundational part of my personality that has grown outside of my investing behavior into my general attitude. I wonder who will outlast each other, Berkshire Hathaway or the Egyptian pyramids? If Berkshire Hathaway wins that battle, I hope that I could be along for the ride and pass on my shares to future generations.
Peace and Love.