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Warren Edward Buffett (born August 30, 1930), is an American investor, businessman and philanthropist. Nicknamed the “Oracle of Omaha” or the “Sage of Omaba,” Buffett has amassed an enormous fortune from astute investments, particularly through his company Berkshire Hathaway in which he holds a greater than 38 percent stake. In June 2006, he made the commitment to give away 85 per cent of his fortune, most of which would be going to the Bill and Melinda Gates Foundation. Buffett’s donation was the largest act of charitable giving in the history of the United States.
Despite his immense wealth, Buffett is famous for his unpretentious and frugal lifestyle. He continues to live in the same house in Omaha he bought in 1958 for $31,500, although he also owns a summer house in Laguna Beach, California.
Overview:
Buffett was born in Omaha, Nebraska to Howard Buffett, a stockbroker and United States Representative, and Laila Buffett. Buffett has two sisters, Doris and Bertie.
Buffett has had an entrepreneurial spirit since his early years. He began working at his father’s brokerage at the age of 11, and that same year, made his first stock purchase, buying Cities Services preferred shares for $38 each. He sold them when the price reached $40, only to see them rocket to $200 a few years later. This taught him the importance of investing in good companies for the long term. At the age of 14, he spent $1,200 he had saved up from two paper routes to buy 40 acres of farmland which he then rented to tenant farmers.
He initially attended the Wharton School at the University of Pennsylvania, then transferred to the University of Nebraska. There, he began his interest in investing after reading Benjamin Graham’s The Intelligent Investor. He obtained a Master’s degree in economics in 1951 at Columbia Business School, studying under Benjamin Graham, alongside other future value investors, including Walter Schloss and Irving Kahn. Another influence on Buffett’s investment philosophy was the well known investor and writer Philip Fisher. After receiving the only A+ Benjamin Graham ever handed out to a student in his security analysis class, Buffett wanted to work at Graham-Newman, but was initially turned down. He went to work at his father’s brokerage as a salesman until Graham offered him a position in 1954. Buffett returned to Omaha two years later when Graham retired.
Buffett established Buffett Associates Ltd., his first investment partnership, in 1956. It was financed with $100 from Buffett, the general partner, and $105,000 from seven limited partners, consisting of Buffett’s family and friends. Buffett created several additional partnerships which were later consolidated as Buffett Partnership Limited. He ran the partnerships out of his bedroom, adhering closely to Graham’s investment approach and compensation structure. These investments made approximately 30 per cent gains year-over-year between 1956 to 1969 in a market where 7 per cent to 11 per cent was the norm. Buffett employed a three-pronged approach:
1. Generals: Undervalued securities that possess margin of safety and meet expected return-to-risk characteristics
2. Arbitrages: Company events that are not related to broader market changes, such as mergers and acquisitions, liquidation, etc.
3. Controls: Build sizeable holdings and ally with other shareholders or employ proxies to effect changes in companies.
Buffett’s partnerships established in 1962 a position in Berkshire Hathaway, a large manufacturing company in the declining textile industry that was selling below its working capital. Buffett would dissolve all partnerships to focus on running Berkshire Hathaway. Charlie Munger at the time remarked that purchasing the company was a mistake due to the failure of the textile industry.
Berkshire, however, became one of the largest holding companies in the world. The company kept the Berkshire name as a reminder that buying companies based on value alone does not guarantee a good investment. Buffett redirected the cash not required to maintain the textile business to acquire private businesses and stocks of public companies.
At the core of his strategy was to purchase or build insurance or reinsurance companies and use them as super margin accounts to buy equities. Berkshire chooses managers who demonstrated unwavering underwriting discipline and cost consciousness throughout their careers. To align the interest with Berkshire shareholders, insurance managers are compensated for underwriting profit and not for meeting revenue growth targets.
Philanthropy:
In June of 2006, Warren Buffett announced plans to contribute approximately 10 million Berkshire Hathaway Class B shares to the Bill & Melinda Gates Foundation (worth approximately US$30.7 billion as of June 23, 2006), making it the largest charitable donation in history. The foundation will receive 5 per cent of the total donation on an annual basis each July, beginning in 2006. Buffett also announced plans to contribute additional Berkshire stock valued at approximately. $6.7 billion to the Susan Thompson Buffett Foundation and to other foundations headed by his three children. This is a significant shift from previous statements Buffett has made, having stated that most of his fortune would pass to his Buffett Foundation. The bulk of the estate of his wife, valued at $2.6 billion, went to that foundation when she died in 2004. His children will not inherit a significant proportion of his wealth. These actions are consistent with statements he has made in the past, indicating his opposition to the transfer of great fortunes from one generation to the next. Buffett once commented, “I want to give my kids enough so that they could feel that they could do anything, but not so much that they could do nothing.”
Since 2000, Buffett has raised money for the Glide Foundation through on-line auctions. Bidders have donated up to $620,100 for the chance to have one meal with him.
Management Style:
Buffett views himself as a capital allocator above anything else. His primary responsibility is to allocate capital to businesses with good economics and keep their existing management to lead the company.
When Buffett acquires a controlling interest in a business, he makes clear to the owner that:
•he will not interfere with the running of the company;
•he will make the hiring and compensation decision of the top executive; and capital allocated to the business will have a price tag (a hurdle rate) attached; this process is to motivate owners to send excess capital that does not return more than its cost to Berkshire headquarters rather than investing it at low returns. This cash is then free to be invested in opportunities that offer higher returns.
Buffett’s hands-off approach has held strong appeal and created room for his managers to perform at owners and ultimate decision makers of their businesses. This acquisition strategy enabled Buffett to buy companies at fair prices because the sellers wanted room to operate independently after selling.
Besides his skills in managing Berkshire’s cash flow, Buffett is skilled in managing the company’s balance sheet. Since taking over Berkshire Hathaway, Buffett has weighted every decision against their impact on the balance sheet. He has succeeded in building Berkshire into one of the seven companies today that are still rated by Moody’s as Aaa, the highest credit rating achievable and thus with the lowest cost of debt. Buffett takes comfort in the knowledge that, for the foreseeable future, his company will not be one of those shaken by economic or natural catastrophes. He said many times over the years that his catastrophe insurance operation was the only one he knew that could keep the cheques clearing during financial turmoil.
Investment Approach:
Buffett’s philosophy on business investing is a modification of the value investing approach of his mentor Benjamin Graham. Graham bought companies because they were cheap compared to their intrinsic value. He was of the belief that as long as the market undervalued them relative to their intrinsic value, he was making a solid investment. He reasoned that the market would eventually realize it had undervalued the company and would correct its course regardless of what type of business the company was in. In addition, he believed that the business had to have solid economics behind it.
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