Lessons from Berkshire Hathaway's AGM

Charlie Huggins (CFA) - Fund Manager

26 May 2017

Earlier this month Berkshire Hathaway, the US investment vehicle run by Warren Buffett and Charlie Munger, held its annual general meeting. Every year at these meetings the pair spend several hours fielding questions on a range of investment topics. They are always thought provoking, and this year’s was no exception (you can find it on YouTube – it’s worth watching just for Charlie Munger’s one liners!).

Below I pick out some of the highlights and draw parallels with our own investment approach on the HL Select Funds. As in any profession, it can be invaluable to learn from the experiences of others, and in my mind there are no other investors as experienced as Buffett and Munger.

What to look for in a business

Warren Buffett and Charlie Munger have a simple aim - to find companies that will be earning more profit in 5, 10 or 20 years’ time than they are today. This means they favour high quality businesses that are relatively easy to understand, and once they have found one they like, they tend to hold for the long term (Coca-Cola has been held since 1988). They focus entirely on the performance of companies themselves, and although he was regularly asked to comment on politics and economics during the meeting, Buffett said he never makes investment decisions based on such factors.

Our approach on the HL Select Funds is the same. We seek to own companies that we believe will be generating higher profits (and paying higher dividends) in the future than they are today, and then aim to hold them for the long term.

Avoid lousy businesses

"There’s nothing like the pain of being in a lousy business to make you appreciate a good one", according to Munger. In the early days of the Partnership they would often look to invest in cheap businesses. These businesses were usually cheap for a reason and were very hard to put right. Buffett commented: "We soon learned that we couldn’t make a silk purse out of a sow’s ear, so we went out looking for silk after that".

These early experiences taught them that it is better to buy a great business at a fair price, than a so-so one with a bargain basement price tag. It’s a stance we share. Great companies compound their earnings, far out into the future, whilst the one that climbs out of the basement will probably find its way back in soon enough.

Preference for capital light businesses

During the meeting, Buffett contrasted today’s most valuable companies with those of the past. He noted that the top five companies in the US are all tech businesses:

• Apple
• Google
• Microsoft
• Amazon
• Facebook

Collectively, these companies are worth over $2.5 trillion, and yet, with the possible exception of Amazon, they require virtually no capital expenditure to grow (most of Amazon's businesses are actually very capital light, but it chooses to spend a lot on seeding new ventures).

Compare the above businesses to the steel plants, chemical companies and oil refineries that dominated a century ago. It took decades and huge sums of money to expand these businesses. It took Mark Zuckerberg just eight years to build Facebook into a $100 billion business, and four more to reach $300 billion.

Steve and I agree with Buffett’s view that owning a capital light business "beats the hell out of owning a business that requires a lot of capital to grow", which is why we have a preference towards capital light industries, such as consumer goods, media and software. Companies in these sectors tend to demand little in the way of more money to stay in business, meaning the cash they earn, can be returned to investors in dividends, or reinvested in acquisitions to accelerate growth.

Summary

Warren Buffett and Charlie Munger prove that you don’t need a complicated investment strategy to become a successful investor. Their success has been built on simplicity, patience and discipline. The lesson about buying good businesses and avoiding those that appear cheap, but have problems, is especially relevant to our investment approach on the HL Select Funds. Overall we think our investors will be better served by being invested in good businesses that can compound their value far into the future, but of course we won’t get it right every time.

Find out which companies fit our approach for HL Select UK Shares

Find out which companies fit our approach for HL Select UK Income Shares