Pilgrimage to Omaha - 2012

A Great articel I read from Henno Vermark from PSG Asset Managment about his Pilgrimage to Omaha to hear from the "Sage" Warren Buffet regarding his view ahead.

Enjoy it as much as I enjoyed reading this !!

"I had the absolute privilege earlier this month to attend my second Berkshire Hathaway shareholders meeting in Omaha, Nebraska. I have to thank my team, for allowing me to attend, as well as Kokkie Kooyman and Nora Geldenhuys for organising an unforgettable weekend for the group of South African travellers.

As you are no doubt aware, the main reason why 35,000 people make their way to the meeting is the six hour question and answer session with Warren Buffett and Charlie Munger, the leaders of the company. To listen to the Oracle of Omaha and his vice chairman speak their minds is simply a treat!

Succession and health

A few weeks before the meeting, Warren Buffett announced that he has been diagnosed with stage one prostate cancer and the health of the world’s greatest investors was high on the agenda. According to Buffett, he feels terrific. He loves his job and he doesn’t expect the treatment to affect his ability to continue with his work. It is quite telling that Buffett knows that some of his doctors own Berkshire stock – always have your interests aligned!

As I remarked in a previous Angle, if a sense of humour is any indication of mental capacity, then these two men have not lost anything to old age. I maintain this view and think that Charlie Munger showed even better form this year. Munger specifically resented the fact that Buffett is receiving so much attention due to his illness and Charlie added that he doesn’t even know if he has the same condition - doesn’t allow doctors to test for it! In his opinion, Buffett’s illness is a non-event.

Without Buffett, Berkshire would still have the balance sheet and culture to attract deals from people and organisations looking to join the fray. The company will have the ability to commit large amounts of capital in quick response to opportunities and while Buffett’s successor might not have the network to attract some of the deals done recently, he or she might very well be more energetic in finding deals. It is worth noting that the main source of investment return at the company was generated from large purchases over periods (Coca-Cola, IBM, Wells Fargo, IBM, Geico, BNSF) and not from ad hoc deals. In essence, Berkshire has a moat even without Buffett or Munger around.



My key messages
Below I have summarised some of the main ideas that I found interesting at the meeting. For those interested in a more complete account, I recommend following this link to Peter Boodell’s notes. His notes are more comprehensive than my own shorthand.



What you should know in investments

Keep learning. Learn from other people’s mistakes. Learn from history.

Some of the investment courses taught at business schools do more harm than good. If these two men designed an investment course it would cover three topics:

How to value businesses

How to think about markets

Knowing the difference between the businesses you can value and the ones you can’t


The great advice is to keep things simple: If you continue to buy businesses for less than they are worth, you will make money. They do not spend time considering macro issues when deciding on investment opportunities.

Stay away from new issues and don’t read any proposal that is sold with high commission structures! It is, however, wise to look where people you admire are investing. It makes sense to utilise smart people to generate research ideas.

It struck me that a significant part of their investment decision revolves around assessing the people involved. Both Buffett and Munger have over the years made a study of understanding people and feel that they are now better judges of character as a result. They accept that they are never going to agree with everything management does, but Berkshire rarely vote against management’s proposals. Some exceptions might be egregious stock issues or stupid purchases.

Buffett is more interested in how someone’s track record was earned, rather than what the record was. This was my most important quote of the meeting.

Lastly, it is crucial to focus on the worst case scenario to ensure that you are able to be in the game tomorrow, no matter what happens today.



Risk

A significant part of this year’s meeting was allocated to a discussion on risk. In Buffett’s view, the management of risk in any organisation is not a role that can be delegated; the chief executive officer should also be the chief risk officer. Controlling risk cannot be done by selecting a committee or by performing complex measurements. Rather, there should be a focus on a deep understanding of the business, on evaluating the worst case scenario and considering the potential aggregation of exposure to unexpected events.

Related to risk, they feel that there are more risks in the European banks compared to their American counterparts. US banks are in a much stronger position than a few years ago and the Federal Reserve/Treasury were able to deliver when they say that they will “do whatever it takes”. As the EU doesn’t have a full federal union, it is difficult to deliver the same response in a quick fashion. Berkshire is more comfortable with the risk profile of banks in the US.

Remuneration
It seems to me that Berkshire has been designed to attract people who are not incentivised by money alone. They pay their managers well (no-one wants to feel that they are being ripped off) but more importantly they allow them to paint their own canvas and rid them of issues they don’t like. Many of them (including Buffett and Munger) do not need to work and would be able to earn substantially larger compensation at other firms. However, they choose to spend their time doing what they love at Berkshire and from management’s side, they try not to mess up that what is already good! This is a very strong competitive advantage. When designing incentive schemes, realise that you can’t put passion into anyone with a salary cheque.



Reinsurance rates
Catastrophic reinsurance rates have picked up and Berkshire is writing more business, especially in Australasia. As an example, the second quake in Christchurch in 2011 caused damages of $12bn which is enormous for a country of their size. Many businesses in the region (Australia, New Zealand, Japan, Thailand etc) realised that they had insufficient insurance coverage and there is currently an increased demand for cat cover in the region. Berkshire has proposal for around $10bn of coverage and they are willing to write the business if they are able to negotiate acceptable premium rates. One of the benefits of an insurance operation the size of Berkshire is that because of its scale and scope, it might be able to take on large, individual risks that other insurers might not be interested in. Interestingly, the more of these individual large risks they accept around the world, the more diversified they become.



Share price and buy-backs
A number of the questions concerned the current (depressed) share price, the recent (uninspiring) share price performance and the announced willingness to buy back shares at a 1.1x price-to-book valuation. In my opinion, it is not part of management’s responsibility to manage share prices or expectations. One of the questions suggested that the company should increase the price it is willing to pay to buy back its own shares. Buffett seemed to agree with the idea as it would immediately increase the true value per share, the only justification for share buy-backs. However, he stressed that they want all offering shareholders to know that he thinks the shares are selling too cheaply. The company is willing and able to commit significant amounts of capital to repurchases if and when the share price falls below the advertised buying level.

At the current share price, Berkshire does not intend issuing more stock and this would limit the size of the deals they can accommodate at the moment. For $20bn deals, they would still be able to fund it by using cash and selling securities out of their portfolio, but larger deals would be more difficult without issuing shares.

If there is anything to take away from the share price discussions, it is to remember that there will always be periods during which Mr Market offers you opportunities. In Buffett’s view the intrinsic value of a Berkshire Hathaway share is significantly higher than the current price."




"The PSG Angle is an electronic newsletter of PSG Asset Management.