WARREN BUFFETT’S LETTER – 2013 – 2014

Warren Buffett’s Letter 2013

Mr.Buffett has mentioned that they have made a repurchase of Berkshire shares during the year 2012 which enhance intrinsic value per share and that provides a benefit to the shareholders who are continuing with the company.

Examples of Buyback – SIMPLE IS BETTER – ISSUE -13 – BUYBACK

Mr.Buffett on the Heinz investment –

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I learn investment to fixed income instrument from my Guru. ZEE Entertainment has issued preference shares to the equity shareholder of the company with the condition to pay 6% interest payment and redemption of principle starts from FY18.ZEENCPS 01

Preference share was available at Re.0.80 and face value of that is Re.1.00. If we consider total cash inflow to us in form of interest payment + principle repayment then we can able to earn ~10.75% IRR for the FY14-22. Here, the present value of all future cash inflow @ 10.75% is Re.0.80 which is also higher than our purchase price which indicates safety also.

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NTPC has issued debenture to the equity shareholder of the company as a bonus with the condition to pay 8.49% interest payment and redemption of principle starts from FY23.

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Debenture was given as a bonus and ex-date of debenture was 20th March 2018. If NTPC was purchased on 18th March 2015 then price of NTPC was ~Rs.153.74 (with brokerage + other charges) and if we sell NTPC on Ex-date then price of NTPC was ~Rs.144.70 (with brokerage + other charges) so that cost for getting bonus was Rs.9.05 and the face value of that is Rs.12.50. If we consider total cash inflow to us in form of interest payment + principle repayment then we can able to earn ~14.02% IRR for the FY15-25. Here, the present value of all future cash inflow @ 10.75% is Rs.10.90 which is also higher than our purchase price which indicates safety also.

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In both the cases, the interest rate on risk-free investment was ~8-9% and we are getting higher return compared to it.

Mr. Buffett on investing –

During, the year 1973 to 1981, farm prices had a bubble situation. When the bubble burst, then leverage farmer and lender both had a troublesome time. And after that Mr. Buffett had made an investment into the farm.

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Mr. Buffett also made an investment into the other commercial property.

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Mr. Buffett has explained investing lessons –

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In our investment to stocks, we are get affected with the stock price fluctuation and listen to the pundits for their comments. Due to such habits, we cannot sit quietly with our investment and we end up with little or no return. Mr. Charlie and Mr. Buffett always made an investment as they are buying an entire business. They check whether they can estimate future five years of earnings or not. If they can estimate earnings then check whether available at a reasonable price or not. If either of the condition does not match then they move on to the other prospects.

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For non-professional investors, they can make an investment into the index fund and accumulate it over a period of time.

Warren Buffett’s Letter 2014

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Mr. Buffett mentioned Investors behavior which affects the investment return –

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Unexpected behavior from Stanton in the year 1964 –

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Why Mr. Buffett has bought Berkshire Hathway at the year 1962 –

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Example of Indian companies

One of the air-cooler manufacturing company of India was available below the book in the year 2009

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Chart Symphony

One of the two-wheelers and commercial vehicle manufacturing company was available below book value in the year 2008 and below cash in the year 2008 and 2009

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Chart Eicher

Charlie Straightens Me Out

The initial period of years, Mr. Buffett engage in the buying bargains (cigar-butt) strategy which he learns from Mr. Graham. The major weakness of the concept mentioned by Mr. Buffett is “Cigar-butt investing was scalable only to a point. With large sums, it would never work well.”

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Here, I have also made a blunder but luck by chance got saved.

Mr.Munger has an impact on Mr. Buffett which has helped to Mr. Buffett to evolve cigar butt strategy to wonderful businesses at favorable prices. Many times, Mr. Buffett and Mr.Munger do not get agree but they never ever have made any arguments. When such scenario arises then Mr. Charlie end up a conversation with saying “Warren, think it over and you’ll agree with me because you’re smart and I’m right.” Mr. Buffett has accepted that transformation was not easy but he has done it.

Warren Buffett’s Letters

WARREN BUFFETT’S LETTER – 1992

WB Letter 1992

Mr. Buffett has written that they own a collection of business which is exceptional and also a run by an exceptional manager which has resulted in the higher returns.

Nowadays I have experience that everyone is becoming a market expert and providing their view on the short-term direction of the market. For such people, Mr. Buffett has given a good quote –

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The Salomon Interlude

In 1991, Salomon Brothers caught for bond trading scandal and Mr. Buffett has performed as a chairman of Salomon for the ten months to resolve a problem at Saloman. At Salomon, they have been submitting false bids in an attempt to purchase more Treasury bonds than permitted by one buyer during the period between December 1990 and May 1991.

Five authorities – the SEC, the Federal Reserve Bank of New York, the U.S. Treasury, the U.S. Attorney for the Southern District of New York, and the Antitrust Division of the Department of Justice – had important concerns about Salomon.

Acquisitions

Many acquisition-hungry managers made an acquisition with the hope that they will transform business which will provide them with a good opportunity to earn. When a manager gets failed, they learn a lesson but shareholders pay fees for selecting them as an investment candidate. Mr. Buffett has accepted that during his earlier career, he also has made an acquisition but he able to achieve success due to cheapness into acquisitions and some of the acquisition got failed also. And due to such mistakes to get a failure, he revised his strategy to make an investment.

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Berkshire has made an investment into the Central States Indemnity which is an insurance company provides an insurance to the credit-card holders who are unable themselves to pay because they have become disabled or unemployed.

H.H.Brown, a Subsidiary of a Berkshire has made an acquisition of Lowell Shoe Company which is into the manufacturing of the shoes for nurses, and other kinds of shoes as well.

Mr. Buffett has initial thought of purchase General Dynamics for the tendering stocks to the buyback and earns a small profit in short term. But Mr. Buffett began to study the company and he found that Bill Anders, CEO of the company has performed a decent job to run a business. Mr. Buffett has dropped the idea of buyback opportunity and decided to become a long-term investor of the company.

Investing strategy of Berkshire has been little change and also Mr. Buffett has made some compromise on the price to purchase a business’s due to market condition and their increased size.

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Now, how to know an attractive price? Mr. Buffett has explained that we look attractive price with the framework of value or a growth investor – what we consider to ourselves. He explained that growth is always a component of the calculation of the value of any company. He mentioned that people using value investing term everywhere with the paying higher price then calculated the value in the hope that someone pays higher to purchase an asset from them. But such activities do not consider as an investment, it is a speculation.

People consider value investing where attribute such as low Price – to – Earnings ratio, low Price to Book Value ratio or high dividend yield or combination from mentioned and not consider value investing where reverse attributes are available. Many a time, business growth also tell us little about the value but it is also true that often growth has a positive impact on the value. We have to analyze that whether a business can able to generate a good return on the incremental invested capital or business generating a low return on incremental capital. Former one provides the benefit of growth to the investors and latter one hurts to the investment.

Ex – Value Trap

Taken from Thoughts on Thoughts blog

MTNL

The company looks very cheap on the basis of the financial metrics, but if someone who does not have paid attention to the business of the company then—

MTNL Chart

An investor has lost his capital also. So, that in value investing also, we cannot escape from the future. (For detail article, Kindly visit – http://neerajmarathe.blogspot.in/2010/04/mtnl-value-trap.html)

Value Trap – One of the educational providing company which fall under the criteria of value investing

Jetking

The company is not able to generate good growth in sales and in the profitability but investment and cash have grown well. Also currently the company is available below cash + investment which fall under the criteria of the value investing. But what about the growth into the business or on the survival of the business. Will be cash & investment remain with the company in the future? Lower sales, higher expenses, lower profitability and for last 3 years the company has stopped paying a dividend. Should we consider such investment as value investing or value trap?

Ex – Growth at the low return on capital companies

The company which is generating a good sales growth but they is not able to generate a higher return on capital they employed then those companies require to take debt or dilute an equity (in-short they need external funding). Investors in such companies will face difficult to create wealth or sustain wealth.

High growth with low return

We can see that companies having a higher sales growth but cannot able to generate a higher return on capital then they require to bring external finance to fund the growth. The growth of such companies will extend for the long period but investors face difficult to create wealth.

High growth with low return chart

Ex – Growth at the higher return on capital companies

Reverse to above if company having a good growth with having a higher return on employed capital then company does not require to bring external financing (if they having a borrowing or a dilution of capital then the size of it is very small in proportion) to fund the growth of a company and also investors of such a company can create a good wealth.

High growth with high return

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Ex – Higher growth but no value

If we just focus on the growth of the company and not on the quality of the growth then we need to lose our capital also.

High growth but no value

A company having good growth but does it have a quality of growth?

High growth but no value C 2

More dangerous balance-sheet quality after FY2010 –

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Every time does not value investing or growth investing provides a better investment opportunity but a rational combination of the both can be good investment opportunities.

Mr. Buffett has explained valuation matrix given by Mr. John Burr Williams which is determined by the cash inflows and outflows – discounted at an appropriate interest rate – that can be expected to occur during the remaining life of the asset. He has given matrix which similarly uses for bond and stocks. But bond involves fixed future cash inflow in-terms of coupon received by us and in equities such coupon is not fixed, we cannot say with surety about future cash inflow and outflow for business. Cash inflow and outflow into equities are highly dependence on the nature of a business, quality of management. For overcoming such problem Mr. Buffett uses two rules at Berkshire –

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According to Mr. Buffett, new issue market is controlling by the stockholders and institution; also new issues come during favorable market conditions and we need to pay a higher multiple. Here, we are not going to get any bargain whereas in the secondary market, many a time, we get x value business at the 1/2x.

Warren Buffett’s Letters 1957 – 2012

WARREN BUFFETT’S LETTER – 1962 – 1963

I am really grateful to Riddhi for helping me with editing work.

WB Letter 1962

Mr.Buffett has a target to an approximately 0.5% decline for each 1% decline in the market. He has always made an emphasis on the falling less compared to the market. Also, he has never tried to predict the market direction.

WB Letter 1963

Mr. Buffett has mentioned few points which we require to keep in mind –

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Mr. Buffett puts emphasis on benefits of compounding and mentions that if we want to enjoy the benefits of compounding then either we have to live long (which is impossible to assume) or compound our money at a higher rate (practical to focus on).

Dempster Mill Manufacturing Company

Mr. Buffett had acquired 73% ownership of the Dempster Mill by August 1961 at an average price of $28.

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Mr. Buffett had valued Dempster by providing an appropriate discount to various assets and he concluded the value of those assets at $35 on the Fiscal year ending 30th November 1961.

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Mr. Buffett has provided a different discount on various assets. The discount applied on various assets is mentioned in the 3rd column and discount adjusted in the value of assets is shown in the 4th column. The total value of assets after discount was $4438000 and total liabilities of the company was $2318000. If he liquidates all the assets after applying discount then he will receive $4438000. Now, if he repays all the outstanding liabilities from adjusted value then the remaining balance with the company would be $2120000 ($4438 – $2318). Per share value of Dempster was $35.25 ($2120/60146 (no. of outstanding shares)).

On 17th April 1962, Mr. Buffett met Mr. Harry Bottle and appointed him as the president on 23rd April 1962 for the better utilization of capital and reduction of overheads. Mr. Harry had achieved all goals set by Mr. Buffett and the result achieved is shown below in the form of balance sheet –

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They had to sell off the non-productive assets to reduce the liabilities of the company. Also, Mr. Buffett had started investing the excess cash into the marketable securities in which he is an expert. Once again, he gave an appropriate discount to various assets & after deducting the liabilities and adding fund (which he got through shares) and resulted at the value of $3185000 (3471000 – 346000 + 60000). We can see that value of the company had been increased from $2120000 in the year 1961 to $3185000 in the year 1962. Mr. Buffett’s and Mr. Harry’s decision of capital allocation resulted in the enhancement of the value of the Dempster. And the value of the company grew in the year 1963 as compared to in 1962.

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Making a controlling stake becomes difficult for us as retail investors. So that we should try identifying companies which are involved in the restructuring decision and also correcting their capital allocation decisions. There is an Indian listed company which has gone through the process of restructuring in the year 2007-08. The company has been experiencing a tough time due to some inappropriate capital allocation decision and hence the management decided to correct their mistakes.

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Symphony

Price of the company was Rs.4.28 in Sept’08 and the current price (as on 5th February 2018) of the company is Rs.1775. We can see in the financial highlights that the company has sold off nonproductive assets and paid off liabilities which enhances the value of the company.

Mr. Buffett’s investment philosophy says –

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In the above example of the Indian company, sales growth has contributed multifold returns, but even if their sales did not show growth then their investors won’t lose their capital.

Warren Buffett’s Letters 1957 – 2012

Pat Dorsey Moats

On 17th January 2016, I got an opportunity to address one group of investors. I am so thankful to all my friends who provided me such an opportunity.

Investor Philosophy – Pat Dorsey

This presentation (Click here Pat Dorsey) based on what I learned from Pat Dorsey and about his philosophy.

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Company A earns High profit / High Return on Capital that attracts many players to the same industry; which resulted in a higher level of competitions. Higher competitions affect to the margins of the company A and continuously increasing competition affects to the earnings of the company A. and if company A doesn’t have any Competitive Advantage then the business of company A can be in problem.

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So the question is what is the competitive advantage?

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Now, let me explain with a simple example that how USP helps.

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Above all are benefits of having a strong USP of Rajinikanth. Now, compare these benefits to the business class.

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So before understanding, what is the competitive advantage? I explain what can not be a competitive advantage?

If a company cannot able to raise the price of the products/services then we should understand that there is an absence of competitive advantage. (Eg.: – ITC Ltd. – Budget imposes the duty on cigarette but company easily able to pass those costs to the customers and that’s the reason for the survival of the company in adverse situations.)

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We can easily able to recall brands. Meggie is becoming synonyms for noodles, Fevicol becomes synonyms for adhesive, and Colgate is becoming synonyms for toothpaste.

Also, the company which has the ability to change consumer behavior that Amazon has done (From traditional bookstore to online bookstore).

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Patents & Licenses can be useful for protecting the interest of business (not considering strong moats because after the expiry of patents other companies also can able to register it and licenses can fall in the compliance risk).

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Any psychological barrier or any cost associated with a switch from using current product/service to other product/service.

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As the addition of new users make the network more and more strong and replicating such model becomes very difficult.

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Low-cost producer compares to other players in the same industry.

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Wide and strong moat resulted in the long-term Return on Capital generation and if absent of moat not able to provide long-term Return on Capital to the business.

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Bad managers destroy business for own enjoyment and ambitions.

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Now, what to select and what to avoid is up to us. If we able to select good business with the good manager then wealth creation become more effective. That is like the good horse with the good jockey that can able to win a race.

For more details, Kindly check — Part 1 , Part 2

Inspired by — Pat Dorsey Moats

Disclaimer: This is not a recommendation to Buy-Sell-Hold. And I am not a SEBI registered analyst.

I am really grateful to – Mr. Neeraj Marathe Sir, Prof. Sanjay Bakshi Sir, and Mr. Vishal Khandelwal Sir.

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