It seems that all of the great investors have a ‘eureka moment’ during their investing careers. A ‘eureka moment’ refers to the common human experience of suddenly understanding a previously incomprehensible problem or concept. Sometimes referred to as an ‘Aha’ moment.
And so it was two of the world’s greatest investors, Charles Munger and Warren Buffett. Their eureka moment is best described in the book – Damn Right: Behind the Scenes with Berkshire Hathaway Billionaire Charlie Munger, written by Janet Lowe. Here’s an excerpt from the book which includes some great insights for Munger and Buffett:
“SEE’S CANDY,” REMINISCES MUNGER. “It was acquired at a premium over book [value] and it worked. Hochschild, Kohn, the department store chain, was bought at a discount from book and liquidating value. It didn’t work. Those two things together helped shift our thinking to the idea of paying higher prices for better businesses.”’
When they bought See’s, Charlie and Warren still were bottom fishers. But as they learned and as the business grew, change was necessary. “You could once find value by just rooting around in the less traveled parts of the world-the pink sheets-you’d find a lot of opportunity,” said Charlie.
It was only luck that Blue Chip was able to buy See’s at the price they paid. Munger credits Al Marshall for giving the final push toward the correct decision. “If they had wanted just $100,000 more for See’s, we wouldn’t have bought it,” said Munger. “We were that dumb back then.”
Even so, “When we bought the business, almost nobody was having much success selling boxed chocolates except See’s, and we wanted to know why that was, and if the success was sustainable,” said Buffett.
When See’s turned out to be an excellent, ongoing business, Munger and Buffett realized how much easier and pleasanter it was to buy a good business and just let it roll along, than to buy a deeply discounted but struggling business and spend time, energy, and sometimes more money setting it straight.
“If we hadn’t bought See’s, we wouldn’t have bought Coke,” said Buffett. “So thank See’s for the $12 billion. We had the luck to buy the whole business and that taught us a whole lot. We’ve had windmills, well, I’ve had windmills. Charlie was never in the windmill business. I’ve had second rate department stores, pumps, and textile mills …” which he decided were nearly as problematic as the windmills.
Munger says he and Buffett should have seen the advantages of paying for quality much earlier. “I don’t think it’s necessary to be as dumb as we were.”
See’s is a slow grower, but its growth is steady and reliable-and best of all, it doesn’t take additional infusions of capital.
“We’ve tried 50 different ways to put money into See’s,” explained Buffett. “If we knew a way to put additional money into See’s and produce returns a quarter of what we’re getting out of the existing business, we would do it in a second. We love it. We play around with different ideas, but we don’t know how to do it.” Munger added, “By the way, we really shouldn’t complain about this because we’ve carefully selected a bunch of businesses that just drown in money every year.”
Munger told Berkshire shareholders that there are a large number of businesses in America that throw off lots of cash, but which cannot be expanded very much. “To try to expand would be throwing money down a rat hole”, he said. Such businesses don’t stir acquisition desires in most corporations, but they are welcome at Berkshire because he and Buffett can take the capital and invest it profitably elsewhere.
Incidentally, that is the same reason Berkshire pays no dividends. Berkshire holds on to cash when Buffett believes retained earnings can produce more in market value for shareholders than would likely be possible if the earnings were not reinvested within the company.
From Sees, said Munger, “We’ve learned that the ways you think and operate must involve time-tested values. Those lessons have made us buy more wisely elsewhere and make many decisions a lot better. So we’ve gained enormously from our relationship with Sees.”
Despite See’s place of honor in the Berkshire crown, it now represents only a tiny portion of Berkshire’s value to its owners. Even if See’s were now worth $1 billion, which is conceivable in light of its sales, that is less than 2 percent of Berkshire’s market capitalization.