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Thursday, May 10, 2007

Business: Warren Buffet & Charlie Munger


I never thought that one day would get excited about going to Omaha, Nebraska. However, I was ecstatic to attend the “Woodstock of capitalism"-Berkshire Hathaway annual shareholder meeting-last weekend in Omaha. Thanks to my friend, Shriniwas, who owns a few shares of Berkshire Hathaway.

There were 27,000 attendees from all over the world. Most of the crowd was very unassuming. I met people with net worth of $100M+, managers of $100B funds, mechanics, farmers, etc. All admirers of Warrant Buffet and Charlie Munger!

We started with a cocktail party on Friday evening which was hosted at the jewelry store, Borsheims, owned by Berkshire Hathaway. Very unique party-millionaires standing in line for a long time to get free food Next morning around 6:30AM, we stood in line to get in the stadium where the meeting was being held and it was supposed to begin at 8:30AM. We learned that people had been in line since 4:00AM to get good seats. We did get OK seats and managed to shake hands with Warren Buffet. The meeting began with a one hour movie about how Berkshire Hathaway got started. And then, there was Q&A for 6+ hours. No pre-screening, anyone could ask anything.

Notes from Berkshire Hathaway 2007 shareholder meeting

Q&A with Warren Buffet and Charlie Munger (9:30AM to 4:00PM)

1. Envy is the worst of the seven sins. There is no upside to it. If you commit to gluttony or lust, there is clear short term upside i.e. you enjoy while doing it. However, with envy you “kill yourself” without any pleasure.

2. Never abuse power. It always comes back to bite you.

3. History does not repeat itself but it rhymes-Mark Twain. Learn from the past.

4. Currently US corporate profits are 8+% of GDP. It is not sustainable. Since the US GDP has not grown 8%, increase is corporate profits, most likely, means that the labor’s share of GDP is going down. In the long run, the corporate profits will go back to classical 4-5%.

5. Gambling is a tax on ignorance. The odds are always against the gambler. Government should not encourage it.

6. Do as much reading as you can. Fill your mind with various schools of thoughts. Then, try to get real world experience on what you have learned. There is nothing like real experience.

7. Before you take any investment decision (or any other decision), write a paragraph on why it makes sense to you. If you can not write a paragraph to justify the decision, you should not move forward.

8. If you see a fat man enter the room, you may think that he is 300 lb. He may be 325lb or 275lb. You can’t be sure. However, you can be sure that he is fat. In business, it is fine to be in the ballpark, you usually don’t have to be accurate.

9. Past is only useful to you to the extent that it makes you aware of the known mistakes. It does not tell you anything about the future.

10. Gaussian distribution is not applicable to the stock market.

11. Sometimes, human behavior is irrational in masses. Intelligent person shows strength and character by not following the masses.

12. A bird in hand is worth two in the bush. One should focus on targeting the right bush after having a bird in the hand to acquire two more right birds.

13. Running $100M fund (budget) is very different than running a $100B fund. Scale creates different types of challenges and risks.

14. A young man, around 25 years old, goes to Mozart asks him for advice on writing symphonies. Mozart suggests to him that he was too young to write symphonies. The young man gets confused and reminds Mozart that Mozart himself had been writing symphonies since he was 10 years old. Mozart says, “yes, but I wasn’t asking anyone for advice.” The lesson is being that when you believe in something, just do it!

15. Having fun is the most important thing in life. If you have money, success, etc, and you are not having fun, what is the point of having anything?

16. The management should be paid for things that are under their control. E.g. if the price of oil goes from $30/barrel to $60/barrel then the executive compensation should not go up. On the other hand, if the company develops a new low cost method to extract oil then they deserve increase in compensation. Currently, the US executive compensation structure is not rational. Both Warren and Charlie get paid an annual salary of $100,000.

17. When you think of buying a stock, think as if you were buying the ownership of the company. There is very simple way to figure out if a single share or the entire company is worth buying. Multiply the current stock price with the number of shares outstanding. It will give you the market value of the company. Given what you know about the company’s financials and competitive advantage. Would you buy the entire company at the current market value with intent of not doing anything with the purchase for ten years? If the answer is yes then it is worth buying a single share and the entire company.

18. Beta is useless measure of risk. It only measures past volatility and does not tell you anything about the future. The reason it is prominently used is that the teachers in business schools like teaching it.

19. Sometimes very smart people do very dumb things. Zero times anything is zero. If you did 99 things right and made one mistake it might wipe out everything you have.

20. When you have options, choose the easy problems to solve and ignore the hard ones. However, if the hard problems come your way and you don’t have an option to ignore them then do your best with patience, integrity, and strength. Health care in the US is a “too hard” problem.

21. Always consider the opportunity cost in your decision making. It is appalling that in most corporate decisions, it is not considered.

22. In corporate America, all the research and analysis is done to support the decision the “boss” has already made. Once Munger asked someone in a board meeting why that person chose the IRR of 20%, the response was that any other number won’t get approved. Business cases are done to gain approvals.

23. Choosing your heroes is very important. People tend to imitate the behavior of their heroes. Also, chose very wisely who is around you. Your behavior tends to gravitate towards the people around you. That is why always marry up since you will be spending most of your time with your life partner. The trick is to find someone who is willing to marry down.

24. The businesses with low CapEx requirements are the best investment.

25. To be successful, stay reliable throughout your life and faithfully engage in every task you do. Eventually, success will come out of it.

26. Don’t get into a business where competitive position of the company will erode over time.

27. You should learn not to pee at the electrified fence without trying it.

28. US$ will continue to decline in the coming years. However, there is no reason to worry for consumers. Costco has shown 0% inflation in the last 4 years with 30% decline in US$.

29. CEOs spend 20-25 years in getting to the top and when they are there they don’t like anyone to tell them what to do. When CEOs want their job to get bigger, they pursue mergers and acquisitions which is always bad news for shareholders.

30. For a company board to be effective, its members should have their significant personal net worth invested in the company.

31. Invest in businesses and not in commodities

32. Value the window view and not the rear mirror view. Imagine if Guttenberg had invented the printing press today instead of centuries ago. How would you feel about investing in a newspaper business today if someone told you that the business will deliver the news from the day before with huge printing and distribution costs? This explains why current low newspaper market valuations are justified.

33. Invest in business good enough that it will sustain a bad CEO. Good business with bad CEO is much better investment than marginal business with excellent CEO.

My question to Buffet and Munger was how to learn who to trust and who not to trust in business. Their response:

• Look for things too good to be true. Most likely they would not be true.
• Be suspicious of everyone at first. Take time to establish trust.
• If you sense someone is not worried about his people and only thinking about “what is in it for me”. These people are not trustworthy.
• Be very careful about who you let in even it means that some good people get weeded out.