Notes from Berkshire Hathaway Annual Shareholders Meeting

Notes on Berkshire Hathaway Annual Shareholders Meeting From Reuters and GuruFocus

Q1 Operating Results and Book Value
Buffett told a record crowd at a somber annual meeting of his Berkshire Hathaway Inc that first-quarter operating profit fell and the company's book value declined 6 percent, as the recession weighed on many of the company's businesses and investments.
Operating profit fell about 12 percent from a year earlier to $1.7 billion, as most of Berkshire's businesses were "basically down," Buffett told an estimated 35,000 people at the meeting in downtown Omaha.

The decline in book value results in part from falling stock prices and higher losses on derivatives contracts, and comes on top of a 9.6 percent decline last year, the biggest drop since Buffett began running the company in 1965.

Predict Gloomy Economy but Stimulate Activity Working
Buffett offered a gloomy forecast for parts of the U.S. economy and Berkshire itself, though he said massive federal efforts to stimulate activity could pay off at a possible cost of higher inflation.

"It has been a very extraordinary year," Buffett said. "When the American public pulls back the way they have, the government does need to step in.... It is the right thing to do, but it won't be a free ride."

Housing Prices, Retailers and Newspapers
Buffett said housing prices have yet to stabilize broadly, that retailers may be under pressure for a "considerable period of time," and that he would not buy most U.S. newspaper companies "at any price."

Insurance not as good
He also said that in insurance, which comprises about half of Berkshire's operations, the earnings power "was not as good last year as normal" and "won't be as good this year."

Succession
Buffett also said the four candidates to replace him as Berkshire's chief investment officer failed to outperform the Standard & Poor's 500 last year, but remained confident they could perform well over time. Berkshire still has three internal candidates to replace Buffett as chief executive.

Buffett declined to name the candidates to replace him as chief executive officer and chief investment officer, but said Ajit Jain, who runs much of his insurance businesses and whom investors believe is a CEO contender, is irreplaceable.

"It would be impossible to replace Ajit," he said. "We wouldn't give the latitude to size or risk that we would give to Ajit.... We won't find a substitute for him."

Buffett said that for any CEO candidate, "the biggest job they have will be to develop relationships with potential sellers of businesses."

But he added that while Berkshire is much less nimble than it was when it was smaller, "our sustainable competitive advantage is we have a culture and business model that people would find very, very difficult to copy."

Munger added: "The stupidity in the management practices of the rest of the corporate world will likely be ample enough to give this company some comparative advantage in the future."

No stock buyback
Berkshire 's stock has fallen 39 percent since December 2007, and profit last year fell 62 percent from a year earlier. Buffett said he would not buy back Berkshire stock now, because its share price is not "demonstrably below" the company's intrinsic value.

Derivatives
Much of the worry about Berkshire has focused on Buffett's use of derivatives in making long-term bets on the direction of stocks and junk bonds, and which have so far resulted in billions of dollars of paper losses.

While Buffett still expects the contracts tied to equity stock indexes to make money, he said "we have run into far more bankruptcies in the last year than is normal." He said he now expects the contracts tied to credit defaults will show a loss before investment income, and perhaps after as well.

Buffett still distinguishes his derivatives from others such as credit default swaps, given that he collects billions of dollars of premiums upfront to invest and posts little collateral. He called other derivatives "a danger to the system. There is no question about that."

Wells Fargo & US Bancorp
Buffett expressed confidence in Wells Fargo & Co, one of Berkshire's biggest investments, saying it has "by far the best competitive position" of any large U.S. bank.
He also said some banks will weather the credit crisis well, saying that if he wanted to turn Berkshire into a bank holding company, "I would love to buy all of US Bancorp, or I would love to buy all of Wells."

Moody’s
He also defended Berkshire's roughly 20 percent stake in Moody's Corp, a credit rating agency faulted for failing to predict the housing crisis and assigning high ratings to risky debt for too long.

"They made a huge mistake" but were not alone, Buffett said. "The rating agency business is probably still a good business, (but) it won't be doing the volume probably for a long time in certain areas of the capital markets."

Investing like Warren Buffett | Part 2

Part 2 of our Investing like Warren Buffett series discusses his 1978 Chairman’s letter to the shareholders of Berkshire Hathaway Inc. Since I am in the process of typing this and have not read it myself yet, I am excited to see what knowledge he had to impart on us at that stage of his life and investment career. This not only serves as great investment advice, but we are also able to learn how he analyzes businesses and what thought-processing went into picking the companies that became part of his investment portfolio.

I know we will also learn from his mistakes, which he is not shy about discussing in his letters as well. Let’s see what he has to share with us.

1978 Chairman’s letter to shareholders

Warren Buffett talks about investing in equity and his inability to predict stock market movements. What’s important is that he eludes to the fact that the equity holdings of his company will be worth a lot more than they paid, meaning that they were purchased with a significant margin of safety.

“We make no attempt to predict how security markets will behave; successfully forecasting short term stock price movements is something we think neither we nor anyone else can do. In the longer run, however, we feel that many of our major equity holdings are going to be worth considerably more money than we paid, and that investment gains will add significantly to the operating returns of the insurance group.”

Warren Buffett on textiles:

“Slow capital turnover, coupled with low profit margins on sales, inevitably produces inadequate returns on capital. Obvious approaches to improved profit margins involve differentiation of product, lowered manufacturing costs through more efficient equipment or better utilization of people, redirection toward fabrics enjoying stronger market trends, etc. Our management is diligently pursuing such objectives. The problem, of course, is that our competitors are just as diligently doing the same thing”

“The textile industry illustrates in textbook style how producers of relatively undifferentiated goods in capital intensive businesses must earn inadequate returns except under conditions of tight supply or real shortage.”

Warren Buffett again reiterates the criteria for selecting stocks for ownership. However, it is apparent that there are times where market prices do not offer great bargains.

”We get excited enough to commit a big percentage of insurance company net work to equities only when we find (1) businesses we can understand, (2) with favorable long-term prospects , (3) operated by honest and competent people, and (4) priced very attractively. We usually can identify a small number of potential investments meeting requirements (1), (2), (3), but (4) often prevents action.”

 

Buffett emphasizes that they will be net buyers of stocks in most years, therefore, as with any type of purchase, if you are the buyer, you would prefer to prices to be lower than higher. Therefore, this major principle is applied to stocks as well. The time to be buying is when prices are going down, not increasing.

“We are not concerned with whether the market quickly revalues upward securities that we believe are selling at bargain prices. In fact, we prefer just the opposite since, in most years, we expect to have funds available to be a net buyer of securities. And consistent attractive purchasing is likely to prove to be of more eventual benefit to us than any selling opportunities provided by a short-term run up in stock prices to levels at which we are unwilling to continue buying.”

 

Buffett on diversification. If you believe that a company has excellent future economics, he prefers to buy large quantities of that company, than allocating capital to many different companies.

“Our policy is to concentrate holdings. We try to avoid buying a little of this or that when we are only lukewarm about the business or its price. When we are convinced as to attractiveness, we believe in buying worthwhile amounts.”

 

Buffett talks about buying companies where management is already established.

“Of course, with a minor interest we do not have the right to direct or even influence management policies of SAFECO. But why should we wish to do this? The record would indicate that they do a better job of managing their operations than we could do ourselves. While there may be less excitement and prestige in sitting back and letting others do the work, we think that is all one loses by accepting a passive participation in excellent management. Because, quite clearly, if one controlled a company run as well as SAFECO, the proper policy also would be to sit back and let management do its job.”

 

Buffett on use of retained earnings, dividend payments and share repurchases.

“We are not at all unhappy when our wholly-owned businesses retain all of their earnings if they can utilize internally those funds at attractive rates. Why should we feel differently about retention of earnings by companies in which we hold small equity interests, but where the record indicates even better prospects for profitable employment of capital? (This proposition cuts the other way, of course, in industries with low capital requirements, or if management has a record of plowing capital into projects of low profitability; then earnings should be paid out or used to repurchase shares – often by far the most attractive option for capital utilization.)”

 

Another great report with some key points.
These are some points I learned from this report.

1. Do not attempt to forecast stock market movements. Focus on the underlying business.
2. Businesses with low capital turnover and low profit margins should be avoided as long-term investments.
3. Investments could fit all your criteria upon analysis, however, if the price is not right, it does not make a good investment. Be patient.
4. Management is very important when selecting businesses.

What have you gotten from this report.
Leave a comment.

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