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Despite an avid early interest in newspapers, Buffett and Munger say they are no longer the bulletproof franchises they used to be, since technology such as television and the Internet has changed the way people get their information and has dimmed newspaper prospects. In fact, says Munger, the Internet will increase competition and make it hard for all companies to show a profit.
BEFORE SUCCESS CAME TO THE Buffalo News, Wendy Munger remembers her father as a good looking, well-dressed man with excellent vision. "I had this movie star father-I just want people to know he didn't always wear thick glasses. That was only after his surgery."
Though the problems of the Buffalo News were resolved in his favor, Charlie lost an eye and he lost his mother.
When it became obvious he would lose his vision to cataracts, in 1978, Munger underwent what he described as an old-fashioned cataract operation at the Good Samaritan Hospital in Los Angeles.
"This all happened 25 years ago," said Munger. "A new and better operation had been invented, but I didn't pay attention-I just went along with the doctor that recommended the old one that he knew how to do. The new type of surgery had a complication rate of no more than 2 percent while the (surgery) I had had a 5 percent complication rate. The man who did the first operation? I won't tell you his name. A perfectly nice guy. Our family eye doctor. I made the mistake-the fault was mine."
After the surgery, Munger fell victim to a rare and devastating complication.
"I developed an epithelial downgrowth," he explained. "A few cells of the outside of the eye got inside the eye, which is virtually impossible with the new operation. When that happens, the cells from the outside just proliferate. They take over the interior of the eye and raise the pressure, and that kills the optic nerve."
The condition is similar to cancer, except that the growth does not spread outside the eye. Munger was in such agony that he decided there was one thing worse than a blind eye, and that was a blind eye that hurt. In 1980 Munger had the doctors eviscerate, or scoop out, the innards of the left eye and cover the eyeball with a glass eye.
"You cannot believe the pain and suffering from an evisceration. I was like a wounded animal for several days. I was in so much pain and had so much nausea that when the nurse came in to give me a bath I couldn't stand for her to bathe me," said Munger.
While all this was going on with his left eye, a cataract was slowly growing on his right eye as well. Munger knew for sure he didn't want to repeat the experience he was now going through. Charlie decided to adopt a strategy with absolute minimum risk for the right eye.
"I told the doctor to just get the clouded lens out of there, and I'll use cataract spectacles. Don't put in a new manmade lens," said Munger. Cataract eyeglasses were commonly worn by older people when Munger was a child.
"You almost don't see cataract glasses anymore. I may have the last pair on earth," he said. Munger keeps a file folder on his desk full of medical reports, his own notes written on a yellow pad, and other details of the event.
Except for his new bottle-bottom glasses, Munger says, "Life didn't change a bit. I lack peripheral vision, my straight ahead vision is excellent." Charlie had the sight in his right eye tested in 1999, and with his glasses, he had 20/15 vision.
Despite his blind left eye, Munger drives, and has learned how to change into lanes on his blind side by counting the cars in the rearview mirror, and knowing after which one there will be a gap. He drives a Lexus with a powerful engine because it gives him the ability to move quickly when he needs to. He tends to make what out-of-state drivers call California stops-slowing down to a near-stop at a sign, then zooming out when the way seems clear. That may not have anything to do with his vision.
His former partner Al Marshall insists Munger was never a good driver even when he had excellent eyesight because Charlie usually was thinking about something other than driving.
"He used to carry a gallon of gas in the trunk, which wasn't safe at all," said Marshall, "because he could never remember to put gas in the thing."
When the Mungers and the Marshalls were vacationing in Hawaii, Charlie was driving a rental car down a small back road, talking, gesturing, and looking around at everything as he drove. Al looked up and saw that a bridge ahead of them was washed out. "Stop," he shouted to Charlie, who didn't slow down a bit. "Why?" Charlie asked. Marshall was so frightened he couldn't find the words to explain, but Munger finally noticed the problem and screeched to a halt just before going over the edge.
"When he lost his eyesight, he handled it in a pragmatic fashion," recalled Otis Booth. "He got some books on braille to see if that would work for him."
When he figured out he would have enough vision to read well, Charlie gave up all thoughts of braille.
Even so, said Hal Borthwick, "It's not pleasant for a man who loves to read. He's a voracious reader. In every one of our houses there will ibe three, four, five books stacked by his chair and three, four, or five more stacked by the bed. He has certain things he wants to read. He's not a fiction reader so it's either a business book or a biography or a history or science hook. It's always based on facts."
Though Munger plays golf, travels, and reads constantly, there are times when the glass eye becomes a real inconvenience. Booth says that when Charlie went to the Department of Motor Vehicles to get his driver's license renewed, he was required to take an eye exam.
"He told the person at the desk that he was blind in one eye," explained Booth. "The examiner said he'd have to have a doctor's letter on that. Charlie said, `Hell, I can prove it to you right here. It's a false eye. I'll take it out and lay it on the counter if you like.' The examiner still insisted on a doctor's note until Charlie demanded to speak to a supervisor. It took about a half hour to sort out."
DURING A TIME WHEN so much was happening, Charlie's mother passed away. Toody Munger lived on for fifteen years after her husband died. She and Dorothy Davis, Dr. Ed Davis' widow, spent much of their time together and especially enjoyed traveling.
"Mother and Toody went to France once," said Willa Davis Seemann. "By the time they got home they were rather sick. They took turns pushing each other around the airport in wheel chairs."
Molly said that her grandmother strove to maintain her intellectual edge and to keep up with times as they changed. "Grandma Toody and I went out to dinner with her other Omaha widow friends. One said, `This summer, I think it's time to reread Tolstoy.' She was not a grandmother that you remember for cookies or anything-you remember what she said. My cousin Rodger was a hippy. She was taking one of her widow-ladies tours of Europe, which she did a lot. She'd say to a new friend, `Does yours hake bread?' If the woman said yes, their eyes would light up and they knew they both had hippy grandsons."
At Toody's funeral, Charlie looked out on the faces of his Aunt Oofie, and Toody's good friends. He remembered his father and his grandparents, the Russells, and he realized that his mother's had been a "blessed life."
C H A P T E R F O U R T E E N
CHARLIE MUNGER
GOES TO WAR WITH
THE SAVINGS AND
LOAN INDUSTRY
If you mix raisins with turds, they are still turds.
Charlie Munger, Berkshire Hathaway annual meeting, May 2000
ESCo FINANCIAL, ONCE SIMPLY THE parent company of a small Pasadena-based savings and loan institution with the plain-wrap name of Mutual Savings, was a source of contention for Charlie Munger and Warren Buffett almost from the moment they bought it. Over time however, Wesco Financial, like its majority owner Berkshire Hathaway, was transformed into an entirely different business from what it was originally. Berkshire is the big canvas on which Buffett-with the help of Munger-paints his large masterpiece. Wesco is a smaller work on which Munger-with the help of Buffett-has made his own colorful imprint.
Shortly after Blue Chip Stamps bought a modest number of shares in Wesco in 1974, Buffett and Munger waged a battle to stave off an unacceptable acquisition by another California thrift.
That was followed by a Securities and Exchange Commission investigation into the way Buffett, Munger, and others were structuring business deals (see Chapter Ten). The SEC investigation was a hassle, but in the end, Berkshire Hathaway was transformed into a holding company of some substance, and that was good.
Then, following a deep rift between Munger, powerful members of a savings and loan trade organization and federal regulators, Wesco was completely remade into a holding company similar in structure to Berkshire.
Since 1976, Wesco and its owner Blue Chip Stamps, have been buried within the structure of Berkshire. Nevertheless, said Buffett, "Blue Chip Stamps still owns our Wesco stock. Because it came that way. We now have what we owned in the 1970s, 80.1 percent."
By following the ownership thread, it is clear that since Berkshire owns 100 percent of Blue Chip and because Buffett is Berkshire's largest shareholder, owning more than 35 percent, he controls Wesco. Yet, as is the case with the other Berkshire companies, Buffett does not participate directly in the management of Blue Chip or of Wesco, though he serves as a director of Wesco-Financial Insurance Company (Wes-FIC) and Precision Steel Warehouse, wholly-owned subsidiaries of Wesco.
It is Munger who is Wesco's chairman. He lives in the same area where the company is headquartered and even more important, he is well liked by Betty Peters, whose family founded the company. The Peters family still own about 1.3 percent of Wesco's outstanding stock.
The chairman's job pays Munger nothing, though he does earn $100,000 per year as vice chairman of Berkshire Hathaway and chairman of Blue Chip Stamps. In addition, Charlie now collects director's fees from Costco Wholesale Corporation. He once earned director's fees from Salomon Inc. and U.S. Airways Group, companies in which Berkshire Hathaway held large equity positions.'
In recent years, Wesco's annual meeting has become a royal court where Charlie holds forth on his own, beyond the wide and bright circle of light cast by Buffett at the Berkshire shareholders' event. For a long time, Wesco held its annual meeting in a tired, 1950s-style cafeteria at the seedier end of Pasadena's glamorous Colorado Boulevard. Each year the crowd at the meeting got larger and each year the long, narrow banquet room, with its fading floral wallpaper and dingy carpet, seemed more cramped.
The 1997 Wesco meeting, which takes place in May about two weeks after Berkshire Hathaway's, was attended by 100 or so people. "Typical group of gluttons (for punishment) and masochists-when you attract that crowd it gets bigger every year because nobody ever leaves," grumbled Munger.
Charlie was correct. In 1997, the cafeteria went out of business and Wesco's 1998 meeting was moved. The room at Pasadena's McCormick & Schmick's seafood restaurant was again too small to hold the crowd. In 1998, the crowd more than doubled and in 1999, 500 to 600 people attended the gathering. There are many faithful: Individual investors like Mr. and Mrs. Anwar, from Virginia; the Kilpatricks from Alabama; Jolene Crowley from El Cajon, California, and others who return again and again. Many analysts, investment advisors, and institutional investors also show up.
"I want to apologize for the elaborateness of this room," Munger told the shareholders at McCormick & Schmick's. "Many of you have come to our annual meeting when we held it in the cafeteria in the basement of the old Mutual Savings Building. And then we moved it to a rather modest room in a building we own which was leased to a cafeteria. But they gave up the ghost-and that building is now vacant."
Munger explained that it would have cost more to clean the building up and move furniture into the vacant restaurant than it cost to rent a room fora few hours.
"But I know that many of you are disappointed to see our annual meeting held in such an elaborate room-even if your heavy attendance has established a new record for occupancy per square foot," lie joked.
Charlie clearly is the star of the Wesco show, and at the 1999 meeting shareholders stayed in their chairs for three hours plying the 75-year-old capitalist with questions. But Munger didn't become a sensation overnight. He began to catch the attention of the business world-along with Berkshire and Wesco shareholders-in the 1980s.
While Warren wrote the famous chairman's message for the Berkshire Hathaway annual report, Charlie wrote Wesco's message. Wesco's report was published independently, then parts of it were reprinted in the back of the Berkshire document. Munger used the early chairman's letter to do two things. First, he described the evolution of Wesco after it was merged into Berkshire. At the same time, he began warning shareholders, and indeed any one else who was willing to listen, of an approaching tempest in the savings and loan industry. With the backing of Buffett, he eventually made it hold public statement that got the thrift industry's attention but did not influence its leaders to act differently.
The history of savings and loan associations (often called thrift institutions, thrifts, or S&Ls) goes back hundreds of years in the United States, but the thrifts became crucially important when returning World War II veterans rushed out to buy houses. From the post-war housing boom right up to the mid-1980s, the savings and loan business was a thriving industry, especially in California.
For most of their history, government regulators allowed thrifts to pay a higher rate of interest than banks were allowed to pay on passbook accounts, certificates of deposit, or other savings accounts. In return, the S&Ls were required to lend out most of their money as home mortgages. They were barred from making business loans or providing most other financial services. In the early 1980s, however, several things happened. Brokerage houses and mutual fund companies-called nonbank banksstarted offering money market accounts at an unregulated market interest rate, and the administration of President Ronald Reagan, with the intention of reducing government's role in business, started deregulating the thrift industry. The first step was enlarging the industry's lending and investment powers.
Though Munger is no champion of government regulation, he thought that the timing and the coordination of deregulation was dangerous. Charlie was irked over the increase in deposit insurance and some changes in rules for S&Ls, especially since the thrift's new competitors, the nonbank banks, operated under few regulations. There is no deposit insurance for their money market funds and fund owners, unlike thrifts, are not required to maintain branch offices. Costs to operate money market funds, Munger noted, were more than 50 percent lower than the annual costs of the most efficient thrifts. These nonbank banks were skimming the cream off what had once been the S&L's source of funds, forcing thrifts into a serious profits squeeze. At the same time, deposit insurance gave S&L operators the sense that they could take more risk in their attempts to ease the pressure.
In his 1983 letter to shareholders, Munger wrote that "an agency of the U.S. government (the Federal Savings and Loan Insurance Corporation) continues to insure savings accounts in the savings and loan industry, just as it did before. The result may [from expanded loan and investment powers] well be bolder and bolder conduct by many savings and loan associations. A sort of Gresham's law (had loan practice drives out good) may take effect at fully competitive but deposit-insured institutions. If . . . `bold conduct drives out conservative conduct,' there eventually could be widespread insolvencies caused by hold credit extensions come to grief."2
Munger and Buffett began to divert both Wesco and Mutual Savings away from the thrift business, preparing Wesco for what was to come. Wesco purchased 100,000 newly issued shares of Series A Cumulative convertible Preferred Stocks of Salomon Inc. on October 1, 1987, at a cost of $100 million. The investment was part of a $700 million transaction, in which Berkshire purchased $600 million and Wesco bought the remainder. In addition to the 9 percent dividend, each preferred share could be converted into 26.3 shares of Salomon common on or after October 31, 1990. The way the contract worked, Wesco and Berkshire would make a profit on the conversion if the shares traded at or above $38.'
As fate would have it, on October 19, 1987, the stock market experienced its worst day in recent history, Black Monday. Salomon was badly hurt
by the crash, and its shares fell to as low as $16.62. Fortunately, by the end of 1989 Salomon common had recovered to $23.38.
In 1988, Munger and Buffett moved Mutual Savings another step away from its traditional role as a thrift. After a three-hour discussion, the pair decided to beef up Mutual's small stake in the Federal Home Loan Mortgage Corporation, commonly called Freddie Mac.
Freddie Mac provides liquidity in the mortgage market by pooling and packaging home loans into securities that are sold to investors. The company thus earns fees and "spreads," while side-stepping most interestrate-change risk. Additionally, the company insures mortgages. Freddie Mac was created by the government in 1938 to make home ownership more affordable by creating a secondary market for home loans. Over the years, the character of Freddie Mac changed. Under a charter drafted by Congress in the midst of a 1970 credit crisis, ownership was limited to participating lenders, the S&Ls. Later Freddie Mac converted to private ownership largely held by institutional investors. It began trading on the New York Stock Exchange in 1988.
Freddie Mac is one of only two federally chartered companies that package and sell mortgage-backed securities. The other is the Federal National Mortgage Association, commonly called Fannie Mae. The implicit federal backing for Freddie Mac gave Munger and Buffett the competitive edge that they like.
Wesco-through Mutual Savings-bought 28.8 million shares of Freddie Mac for $72 million at a time when Freddie Mac shares could be lawfully owned only by an S&L. It was the maximum investment in Freddie Mac then allowed by law. It was an investment that built a castle wall around Wesco during the later collapse of the thrift industry. By the end of 1999, the Freddie Mac holding had a market value of $1.38 billion.'