“Berkshire is often labeled a conglomerate, a negative term applied to holding companies that own a hodge-podge of unrelated businesses. And, yes, that describes Berkshire – but only in part,” Buffett wrote in his widely-read annual letter.
The 90-year-old investor pointed out that historically conglomerates limited themselves to buying businesses in their entirety, a strategy with “two major problems.”
“One was unsolvable: Most of the truly great businesses had no interest in having anyone take them over. Consequently, deal-hungry conglomerateurs had to focus on so-so companies that lacked important and durable competitive strengths. That was not a great pond in which to fish. Beyond that, as conglomerateurs dipped into this universe of mediocre businesses, they often found themselves required to pay staggering ‘control’ premiums to snare their quarry,” Buffett wrote.
What's more, to fund these overpriced deals, conglomerates would use “promotional techniques and ‘imaginative’ accounting maneuvers that were, at best, deceptive and that sometimes crossed the line into fraud” to boost their own overvalued stock for the transaction.
Buffett added that this “investing illusion” could continue for a long time as Wall Street banks collected fees and the press shared stories of the “colorful promoters” and the soaring stock price that reinforced the narrative.
“Eventually, of course, the party ends, and many business ‘emperors’ are found to have no clothes," he said. "Financial history is replete with the names of famous conglomerateurs who were initially lionized as business geniuses by journalists, analysts and investment bankers, but whose creations ended up as business junkyards. Conglomerates earned their terrible reputation.”
Buffett and Munger's vision for Berkshire is to "own all or part of a diverse group of businesses with good economic characteristics and good managers."
"Whether Berkshire controls these businesses, however, is unimportant to us,” Buffett added.
More enjoyable and profitable, but with far less work
Berkshire Hathaway today looks vastly different from the New England textile company Buffett took over in May 1965. In fact, Berkshire Hathaway (BRK-B, BRK-A) was built on Munger's blueprint of moving beyond so-called "cigar-butt" investing to buying "wonderful businesses" at fair prices, both controlling and non-controlling stakes.
“It took me a while to wise up. But Charlie – and also my 20-year struggle with the textile operation I inherited at Berkshire – finally convinced me that owning a non-controlling portion of a wonderful business is more profitable, more enjoyable and far less work than struggling with 100% of a marginal enterprise. For those reasons, our conglomerate will remain a collection of controlled and non-controlled businesses," Buffett wrote.
Buffett said the pair will put capital to work where it makes the most sense “based on a company’s durable competitive strengths, the capabilities and character of its management, and price.”
“If that strategy requires little or no effort on our part, so much the better. In contrast to the scoring system utilized in diving competitions, you are awarded no points in business endeavors for ‘degree of difficulty.’ Furthermore, as Ronald Reagan cautioned: ‘It’s said that hard work never killed anyone, but I say why take the chance?’”
In its stock portfolio, Berkshire owns large stakes in companies like Apple (AAPL), Bank of America (BAC), Coca-Cola (KO), American Express (AXP), Kraft-Heinz (KHC), Verizon (VZ), Moodys Corp (MCO), U.S. Bancorp (USB), Chevron (CVX), and DaVita (DVA). In addition to the equity portfolio, Berkshire Hathaway owns businesses across industries and sectors, including railroads, insurance, energy, services, retail, food, and manufacturing. Among the businesses Berkshire owns include See’s Candies, BNSF Railway, Fruit of The Loom, GEICO, and Benjamin Moore Paints, to name a few.
Read more from the Daily Journal Meeting: