Owner-related business principles cont'd
9. We feel noble intentions should be checked periodically against results. We test the wisdom of retaining earnings by assessing whether retention, over time, delivers shareholders at least $1 of market value for each $1 retained. To date, this test has been met. We will continue to apply it on a five-year rolling basis. As our net worth grows, it is more difficult to use retained earnings wisely.
This has been the reason why Berkshire has not and will not pay dividends. If they continue to find opportunities to effectively deploy capital, they will not issue the funds to shareholders in the form of dividends. They have continuously proven that retained earnings are being effectively used, therefore shareholders should appreciate the fact that they have one of the best capital allocators in the world investing for them.
10. We will issue common stock only when we receive as much in business value as we give. This rule applies to all forms of issuance — not only mergers or public stock offerings, but stock-for-debt swaps, stock options, and convertible securities as well. We will not sell small portions of your company — and that is what the issuance of shares amounts to — on a basis inconsistent with the value of the entire enterprise.
The important point to understand here is that Berkshire does not dilute the owners' common stock by issuing shares. The only time that issuing shares make sense is when there is an equitable trade in value. Also, pay attention to when companies you own issue stock and question whether or not the stock is undervalued; this is normally an indication that the managers are not wisely investing your money.
11. You should be fully aware of one attitude Charlie and I share that hurts our financial performance: Regardless of price, we have no interest at all in selling any good businesses that Berkshire owns. We are also very reluctant to sell sub-par businesses as long as we expect them to generate at least some cash and as long as we feel good about their managers and labor relations. We hope not to repeat the capital-allocation mistakes that led us into such sub-par businesses. And we react with great caution to suggestions that our poor businesses can be restored to satisfactory profitability by major capital expenditures. (The projections will be dazzling and the advocates sincere, but, in the end, major additional investment in a terrible industry usually is about as rewarding as struggling in quicksand.) Nevertheless, gin rummy managerial behavior (discard your least promising business at each turn) is not our style. We would rather have our overall results penalized a bit than engage in that kind of behavior.
This principle speaks to the competency of the management. They will not invest unnecessarily in a sub-par business and will not exit a business if it can still act as a cash cow and add to the float. They will however, take action if a company problem's can be cured.
12. We will be candid in our reporting to you, emphasizing the pluses and minuses important in appraising business value. Our guideline is to tell you the business facts that we would want to know if our positions were reversed. We owe you no less. Moreover, as a company with a major communications business, it would be inexcusable for us to apply lesser standards of accuracy, balance and incisiveness when reporting on ourselves than we would expect our news people to apply when reporting on others. We also believe candor benefits us as managers: The CEO who misleads others in public may eventually mislead himself in private.
This is one of the most important principles that investors should pay attention to. Buffett is as clear and honest as possible when he reports results to the owners of Berkshire Hathaway. His annual reports are seen as some of the most valuable investment documents in the value investing world. They are filled with precious information about his investing philosophy and decisions over the years and is considered a must read for all in the business. His reporting techniques should be used as a model for the industry.
13. Despite our policy of candor, we will discuss our activities in marketable securities only to the extent legally required. Good investment ideas are rare, valuable and subject to competitive appropriation just as good product or business acquisition ideas are. Therefore we normally will not talk about our investment ideas. This ban extends even to securities we have sold (because we may purchase them again) and to stocks we are incorrectly rumored to be buying. If we deny those reports but say “no comment” on other occasions, the no-comments become confirmation.
Buffett makes it clear that they do not discuss their investment ideas because these ideas are rare and may be subject to competitive appropriation. He fully believes in discussing his investment philosophy which he learned from Benjamin Graham.
For the detailed reading of The Owner's Manual, please refer to Berkshire's Hathaway's website.