Berkshire Hathaway is simple. Though among America’s largest public companies, it is almost entirely self sufficient. It rarely uses intermediaries – brokers, lenders, advisers, consultants and other staples of today’s corporate bureaucracies. It’s interesting to ponder how and why, but as important to ask why is it so unusual — and what people are doing about it.
While American companies borrow heavily, Berkshire shuns debt as costly and constraining, preferring to rely on itself and to use its own money. It generates abundant earnings and retains 100 percent, having not paid a dividend in more than 50 years. Berkshire earns some $30 billion annually — all available for reinvestment. In addition, thanks to its longtime horizon, Berkshire holds many assets acquired decades ago, resulting in deferred taxes now nearing $100 billion. These amount to interest-free government loans without conditions.
The following is our rough coverage of the 2021 Sohn Investment Conference, which is being held virtually and features Brad Gerstner, Bill Gurley, Octahedron's Ram Parameswaran, Glenernie's Andrew Nunneley, and Lux's Josh Wolfe. Q1 2021 hedge fund letters, conferences and more Keep checking back as we will be updating this post as the conference goes Read More
The principal leverage at Berkshire is insurance float. This refers to funds that arise because Berkshire receives premiums up front but need not pay claims until later, if it all. Provided insurance is underwritten with discipline, float is akin to borrowed money but cheaper. At Berkshire, float now runs another $100 billion, which it uses to buy businesses that continue to multiply Berkshire’s value.
American corporations tend to design acquisition programs using strategic plans administrated by an acquisitions department. They rely heavily on intermediaries such as business brokers and investment bankers, who charge fees and have incentives to get deals done; firms also use consultants, accountants and lawyers to conduct due diligence before closing.
Berkshire has never had any such plans or departments, rarely uses bankers or brokers, and does limited due diligence. In the early days, Berkshire took out a newspaper ad announcing its interest in acquisitions and stating its criteria — which it has reprinted in every annual report. Berkshire now relies on a network of relationships, including previous sellers of businesses.
Today, corporate America’s boards are intermediaries between shareholders and management. Directors are monitors involved in specific strategic decision-making. They meet monthly, using many committees, which in turn hire consultants, accountants and lawyers. American directors are well-paid — averaging $250,000 annually — including considerable stock compensation plus company-purchased liability insurance. Berkshire’s board, in contrast, follows the old-fashioned advisory model.
Composed of friends and family, they are directors because they are interested in Berkshire. They do not oversee management but provide support and advice. There are few committees, no hired advisers, and only two or three meetings a year. Berkshire pays its directors essentially nothing and provides no insurance. Berkshire’s directors are significant shareholders and bought the stock with their own cash — which is why they are there.
Most American corporate equity is owned by large financial institutions — mutual funds, hedge funds, pensions, money managers and other intermediaries. Stock trading is frequent and portfolios are rebalanced regularly to maintain diversification. All this action generates significant fees for intermediaries and frictional costs for investors.
Berkshire’s shareholders are mostly direct owners of the stock — individuals, families, family offices — or hold it through a family-oriented firm that concentrates in Berkshire stock. Berkshire’s share turnover is very low and, for many shareholders, Berkshire is their largest holding. All this inaction minimizes the role and costs of numerous intermediaries, from stockbrokers to stock exchanges.
Most sizable American corporations use centralized procedures and departments, middle managers meeting regularly, along with consultants, directives, supervision and second-guessing. Berkshire has none of that — no centralized accounting, personnel, legal or technology departments; no hierarchies for reporting or budgeting; no middle managers or consultants.
All such functions are handled in the individual units. In fact, Berkshire headquarters employs just 25 people. And while Warren Buffett is personally responsible for a great deal of this practice, it has been internalized across the institution and is likely to endure long after successors assume control.
The more interesting question is not whether such habits can endure at Berkshire but why they are not more widely practiced. The difference is attitude: Berkshire takes a partnership attitude toward its shareholders whereas most corporations are hierarchies, with shareholders seen to own a residual claim on firm assets, an equity stake after liabilities are covered by assets.
Boards and managers treat shareholders accordingly, as inputs in a production function. In that world, lenders, bankers, brokers, boards, and middle management help executives in the guise of helping shareholders but introduce agency costs that shareholders pay.
Buffett defined Berkshire as a partnership from the outset: “While our form is corporate, our attitude is partnership.” This views the corporation as a conduit through which shareholders own its assets, not merely an equity stake. Buffett and his shareholders are on the exact same page. I’m seeing many more managers striving for this attitude, seeking advice on how to develop the internal culture of simplicity and self reliance. It turns out to be easier than they think — and generates vastly greater profits. Consider it!
Lawrence Cunningham has been writing about and advising on Berkshire and Buffett since the 1996 publication of his classic annotated collection, The Essays of Warren Buffett: Lessons for Corporate America.
Article by Lawrence Cunningham, Concurring Opinions