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  Though it seems completely out of character for Wesco, since 1979 it has owned Precision Steel, a steel products supplier with locations in Franklin Park, Illinois, and Charlotte, North Carolina.

  Wesco acquired Cort Business Services, owner of Cort Furniture Rental, in February 2000, for $467 million cash.

  In 1999, Wesco had a 5-year-revenue growth rate of 11.8 percent, and an earnings per share growth rate of 27.64 percent. Total return for 1999 was 19.6 percent; the total return for the previous three years was 58.7 percent; and the 5-year total return was 27.5 percent. Berkshire Hathaway itself doesn't pay dividends, but Wesco Financial, like most of the companies partially owned by Berkshire, does pay them.

  "Wesco's dividend policy is that which the minority shareholders prefer," explained Munger, referring to Betty Peters. "At least the ones we know who invited us in. So, we are just deferring to the wishes of the very much minority shareholders. Now you can say, `that's eccentric,' and you're right.""

  Buffett explained further, "At Berkshire, incidentally, we have about three or four 80 percent-plus owned subsidiaries where the balance is owned by a few people, as opposed to Wesco, where the minority interest is owned by a great many people. In each case, we tell the owners of the 20 percent or less interest that they set the dividend policy. It's up to them. We have no tax consequences to us in terms of dividend policy, they have the tax consequences. They have a lot of other considerations within families and all of that, and they set the dividend policy."'"

  Since Berkshire owns such a large percentage of the shares and the founding family owns a fairly substantial block, Wesco is thinly tradedaveraging 1,300 shares per day on the American Exchange. There are about 5,000 shareholders.

  Though Munger does not approve of the practice, many investors pore over Wesco's Form 10-Q filing for insight into Buffett's investing style at Berkshire Hathaway. To investors trying to mimic Buffett this seems to be logical, since Berkshire owns many of the same stocks that Wesco holds.'

  Analysts sometimes call Wesco a miniature, or "tourist class" version of Berkshire Hathaway, much the same, but cheaper, since Wesco's price tends to fluctuate between $220 and $350 per share, compared to $40,000 to $90,000 per share for Berkshire A. Blue Chip bought its first Wesco stock at about $6 per share and paid around $17 for stock it bought later.

  Munger does not like the comparison of Wesco to Berkshire and warned: "Wesco is not an equally-good-but-smaller version of Berkshire Hathaway, better because its small size makes growth easier. Instead, each dollar of book value at Wesco continues to provide much less intrinsic value than a similar dollar of book value at Berkshire Hathaway. Moreover, the quality disparity in book value's intrinsic merits has, in recent years, been widening in favor of Berkshire Hathaway."

  Though it was never their intention to do so said Munger, "what we have created at Berkshire and Wesco is, to some extent, a cult. And you can say it's a nice cult and you like the people who join-and we do feel that way. But to some extent, we have followers who are unusually interested in what we do and feel comfortable about investing with us. I think it's had effects on the stock prices of Wesco and Berkshire."22

  Just to keep everyone's thinking straight, Munger departs from the philosophy of Berkshire Hathaway and in the annual report he calculates Wesco's intrinsic value for shareholders. At the end of 1998, Munger said Wesco's intrinsic value was $342 per share. At that time, Wesco was selling for $354, about 4 percent above intrinsic value.23

  Munger has no compunction about telling shareholders when the stock is overpriced. Back in 1993, he said, "An orangutan could figure out that the stock is selling miles above the value of the company if it were liquidated. I keep telling people this, but they keep buying the stock."24

  In June 1999, Munger told shareholders that their equity was worth $294 per share, a decline from the year earlier. The change was based on the fluctuating price of the publicly-traded equities that Wesco owns, which in turn affects Wesco's unrealized gains from these holdings. At the close of 1999, Wesco was trading near its 52-week low of $253, disappointing for investors who during the year saw the stock price soar as high as $353. Part of Wesco's decline could be attributed to its Freddie Mac holdings. After two consecutive years of stock price increases of greater than 50 percent, Freddie Mac's share price was driven back down by higher interest rates. The stock fell 30 percent over a 14-month period between December 1999 and February 2000.

  The price dip didn't disturb Munger's equanimity. "I'm 76 years of age," he said. "I've been through a number of down periods. If you live a long time, you're going to be out of investment fashion some of the time."

  Munger said it is appropriate to calculate Wesco's intrinsic value for shareholders, and not to do it for Berkshire shareholders, because the companies are quite different.

  "Wesco is so liquid and its operating businesses so moderate in size that it's rather easy to make a computation as to its asset value. You can figure out what would happen if you just closed the place and mailed checks back to all the shareholders."

  Partly because of the reflected glory of Berkshire, partly because Wesco has many of the same investment holdings that Berkshire does, and partly because of Munger's unusual personality, Wesco attracts its own cult following.

  Munger protests at the silliness of it all, but he is willing to sit for hours answering questions posed to him by shareholders and the media. The audience seems to enjoy the discourse, staying until Munger is out of time and must leave for the board meeting that is scheduled directly after the annual meeting.

  At the 1999 meeting, when the share price was fluctuating wildly, Charlie explained to Wesco shareholders that some corporate problems seem large at the moment, but in time, they will seem trivial. That is why long-term investing pays off. "Wesco once moved its account from Security Pacific to Bank of America where we had the account get out of balance and nobody at the bank could get it back in balance. We closed our account and let it run out and made some accounting adjustments. In five years, nobody will remember...."

  C H A P T E R F I F T E E N

  THE BLOSSOMING OF

  BERKSHIRE HATHAWAY

  If you're going to learn to drive a car, it doesn't do any good just to know how to use the accelerator. There are four or five things you have to know before you understand the system correctly. I do think some things are way more important than others, and in the game we're in, understanding the advantages of scale, scale of experience, efficiency in the plant, scale of experience in leasing, other advantages of scale. [Take] Adam Smith's pin factory, I think that's a very important basic concept, but it's just one.'

  Charlie Munger

  HARLIE MUNGER WAS CALLED UPON to testify in court when a small Los Angeles legal publication sued the Daily Journal Corporation for unfair trade practices. To demonstrate Munger's experience in evaluating the worth of a business, attorney Ron Olson first established that Munger was vice chairman of Berkshire Hathaway, chairman of Wesco Financial, and former chairman of Blue Chip Stamps. His testimony provided a thumbnail sketch of how Berkshire grew into a twenty-first century company.

  WHEN CHARLIE MUNGER AND WARREN BUFFETT MET, they were young, Munger in his mid-30s and Buffett in his late-20s and as Nancy Munger noted, they were men in a hurry. After they started working in tandem, success came much faster to both. Buffett handled the East Coast clients he inherited when Ben Graham and Jerome Newman closed their partnership and continued to recruit new investors, mostly from Nebraska. At the same time, Munger started steering California investors in Buffett's direction.

  "Charlie recognized Warren's genius before anybody. If I had totally listened to Charlie about Warren I'd be a lot richer now," said Munger's former real estate and investment partner Al Marshall.

  One person who did "totally" listen to Munger was Otis Booth, the man who came to his law office seeking help in buying a printing plant and ended up Munger's partner in two lucrative condominium construction deals. I
n 1963, Munger suggested to Booth that he go see Buffett.

  "After I'd been in Charlie's partnership a year or two, he told me about Warren and showed me the record from 1957 on," recalled Booth. "In 1963 or 1964, I went back to Omaha, spent a night there and spoke to him about investments."

  The two men sat up all night talking. "I wrote a check shortly after that. The partnership was open once a year. I think I wrote half that year and half the next-$1 million. I wrote $500,000 on the first check, but I had earnings on that, so the next year it was less than $500,000. I also had a million in Charlie's partnership," Booth said.

  Buffett's partnership only lasted about five more years. In the late 1950s and early 1960s, Buffett began accumulating shares of a struggling old New England manufacturer of textiles, handkerchiefs, and suit linings. Contrary to popular belief, Berkshire Hathaway never did make shirts. Buffett bought his first shares from Tweedy, Browne, a New York investment firm with links to Ben Graham and a reputation for its strict value approach. Tweedy, Browne's offices near Grand Central Station, said Munger, is a place Buffett "used to hang out when he was young and poor."'

  Buffett disbanded his partnership in 1969, explaining that the stock market had become overblown and it was too difficult to find bargain stocks. Shareholders received several recommendations as to what to do with their money. Buffett suggested that investors might want to participate in his friend William Ruane's well-respected Sequoia Fund (now closed to new investment), or they could do what Buffett was doing with his own money.

  By the time he disbanded the partnership, Buffett had accumulated enough shares of Berkshire Hathaway to take control of the company, and he would be transferring the fund's prized assets and most of his personal money in Berkshire's corporate structure. It would be a leap of faith for investors, since it wasn't clear what Buffett intended to do with the company. For 20 years he tried to run it as a manufacturing plant while making other investments simultaneously. But Munger described Berkshire as "a small, doomed New England textile enterprise" and he was correct.'

  Calling the purchase of Berkshire one of his worst financial mistakes, Buffett gave up trying to make it profitable as a manufacturer. In 1985, he liquidated the business and concentrated entirely on buying and holding other companies. Even the loyal early investors were surprised at how well the reconfigured Berkshire would do.

  Otis Booth, Al Marshall, and Rick Guerin are just three of the people, most of them from the West Coast, whom Charlie brought into the Buffett family of investors. Booth lives today in a gated Tudor home in the Bel Air section of Los Angeles next door to Disney Chairman Michael Eisner. Booth's net worth is estimated at $1.4 billion. Guerin and his family live in a large Spanish colonial-style estate in Beverly Hills, with a sweeping view of mountains, tree tops, and Los Angeles. Marshall and his wife Martha are spending their retirement years in a golf course home in Palm Springs.

  Between 1976 and 1986, a number of events transpired. Both Munger and Buffett had closed their partnerships, Blue Chip and its subsidiaries were merged into Berkshire, and life became simpler. Asa holding company for insurance and other subsidiaries, Berkshire would not be subject to the same regulatory pressures to diversify as the typical mutual fund or pension fund. The company owned several cash-laden companies outright and its stock portfolio was heavily concentrated in it small group of select companies. Munger and Buffett had laid their groundwork and Berkshire Hathaway as we know it today was taking shape.

  Even with simplification, so much was happening at once and so many deals overlapped, the pace of acquisitions was dizzying. Within two years after Munger and Buffett began consolidating, Berkshire's major stock holdings included American Broadcasting Companies Inc. (ABC), Government Employees Insurance Company (GEICO) common and preferred, and SAFECO Corporation. They soon bought outright the Nebraska Furniture Mart and Omaha's premier jewelry emporium, Borsheim's. There were stakes in the advertising agencies Interpublic and Ogilvy & Mather, and in the Boston Globe, all three of which were later sold.

  Buffett had owned GEICO shares when he was in college, but later sold them. When he bought into the company again in 1976, GEICO had been mismanaged, one of its top executives had committed suicide, and the company was near bankruptcy. Despite Buffett's wish not to buy into companies that needed to be rescued, he saw fundamental advantages to GEICO's business and believed that with discipline and direction, it could survive and prosper. A similar decision had been made in 1963 with American Express, and that worked out well.

  Between 1976 and 1981, Berkshire invested $45 million in GEICO, which by 1995 was worth more than $1.9 billion. Eventually Berkshire bought the whole company. Munger said there was no particular strategy involved, except to wait and watch for opportunities.

  Our rule is pure opportunism," said Charlie. "We do not have a master plan. If there is a master plan somewhere in Berkshire, they're hiding it from me. Not only do we not have a master plan, we don't have a master planner."

  In 1985, Munger and Buffett snatched Scott & Fetzer from the grasp of hostile suitor Ivan Boesky for $315 million. Scott & Fetzer is the parent of World Book Encyclopedia and Kirby vacuum cleaners.

  In the second half of 1989, Berkshire cut three big deals that signaled once and for all that Berkshire was a sophisticated contender in the world of finance. A $1.3 billion investment was made in Gillette, USAir, and Champion International. Buffett and Munger negotiated together with Gillette Chairman Coleman Mockler. In July 1989, Berkshire invested $600 million in Gillette's preferred stock, all of which later was converted into common shares. Gillette has the sort of folksy history that appeals to both Munger and Buffett. It was founded in 1901 as the American Safety Razor Co. by King C. Gillette. The company's first office was located over a fish market on the Boston waterfront. The company changed its name to Gillette Safety Razor Co. in 1904. Gillette dominates the worldwide market for razors with a 40 percent market share. In addition to the razor blade business, Gillette owns Liquid Paper, Paper Mate and Waterman pens, and Oral-B toothbrushes. In 1996 Gillette acquire Duracell batteries for $7.8 billion, the largest purchase Gillette ever made.

  Gillette's earnings grew at an impressive 15.9 percent between 1985, but in the late 1990s it invested huge amounts of research and development funds in a new razor that sold well, but not quite as well as hoped. Its earnings eventually slumped and Gillette's subsequent poor stock performance was one contributor to a decline in Berkshire Hathaway's share price.

  CONTRARY To WHAT SOME ANALYSTS CLAIM, Berkshire Hathaway is not a closed-end fund. "No, it never was," said Munger. "We always preferred operating companies to marketable securities. We used float to buy other stocks. Berkshire has a lot of marketable securities-and big operating companies. We like that system. We generate all this cash. We started out that way, buying companies that throw off cash. Why should we change?"

  Buffett had learned the basics of insurance when he was in graduate school studying under Graham, who at the time was chairman of GEICO. Buffett has used that expertise at Berkshire. Way back when Munger and Buffett were acquiring Blue Chip Stamps shares, Berkshire made its first substantial foray into insurance, purchasing National Indemnity Company in Omaha for approximately $8.6 million. Many of Berkshire's very large investments are made through National Indemnity.

  During this activity, Munger kept agitating to buy better quality companies, ones with strong earnings potential for the long-term and ones he believed would be less troublesome to own.

  "There are huge advantages for an individual to get into a position where you make a few great investments and just sit back," said Munger. "You're paying less to brokers. You're listening to less nonsense.... If it works, the governmental tax system gives you an extra one, two, or three percentage points per annum with compound effects."

  Warren Buffett, Charlie and Nancy Munger arrive at a Buffett Group gathering.

  Starting with See's Candy, Munger nudged Buffett in the direction of paying up fo
r quality. "Charlie was very instrumental in pushing Warren toward Coca Cola type investments-a franchise that will have carrying value for generations," observed Ron Olson. "That is consistent with how Charlie conducts his own life. He's not looking for a quick victory, but to long-term success."

  In 1988, Berkshire started acquiring Coca Cola stock, and within about six months purchased 7 percent of the company. At an average price of $5.46 a share, it was a total investment of $1.02 billion. Buffett, an addict of caffeinated soft drinks, felt confident that Coca Cola was a quality company with superior long-term prospects. In fact, Buffett himself gave up Pepsi Cola in favor of Coke.-

  "Many times, Charlie elevates Warren's thinking-such as going for a stronger franchise. They can converse on any level," said Buffalo News publisher Stan Lipsey. "When you have people that are thinking and living at that level, you not only get the intellectual exchange, you get ideas that are complementary."

  Apparently Munger hasn't always agreed with Buffett when it came to personal investing, which at times worked to his advantage. When Buffett sold Berkshire's Capital Cities Communications stock in 1978 to 1980, he later regretted the sale. Munger, however, kept some personal holdings of Cap Cities, which performed exceptionally well'

  Despite their blazing success, Buffett and Munger tried numerous ideas that didn't pan out. Before they bought their Washington Post shares, Buffett and Munger called on Katharine Graham and asked her to participate in purchasing the Neu' Yorker magazine. Graham didn't even know who these two guys from west of the Potomac River were, and she didn't think twice before turning down their proposal.