Lessons from Buffett’s 2019 shareholder letter

Prologue

It is a well-established fact that to become good at anything, you have to learn from the successes and failures of your own and others. Having played around with the stock market without much thought about the underlying principles, It was time for me to learn from the best. So, this post is a quick summary of the lessons I learned from Buffett’s 2019 shareholder letter. Mr.Buffet’s shareholders’ letters are amusing, witty & full of wisdom. Not just about investing but about life in general. I plan to summarize lessons from Buffett’s shareholders’ letters ever written. I will be summarizing each letter every week.

• Focus on Operating Earnings: This means a focus on what the company is earning purely from its operations. This metric shows how profitable a company is before accounting for taxes and interest related expenses.

Operating Earnings = Revenue-Cost of Goods Sold-General & administrative expenses-Sales & Marketing expenses- other operating costs that are involved in running the company.

The Power of Retained Earnings:

• Retained Earnings are Earnings retained by the company. Usually, companies deploy a part of their earnings back into the business. This can be for investing in more infrastructure or to improve sales network or invest in R&D facilities and so on. Companies may also choose to share the rest of the earnings among the shareholders in the form of Dividends.
• This method of investing a part of profits back into the business creates a compounding effect. For example, having a diverse sales network brings in more revenue and an expected increase in profits as well.
• Thus the value of earnings retained will be much more valuable in the future than the ones given out as dividends, because of the compounding effect.
• This process has been followed by industrialists such as Carnegie, Rockefeller & Ford.

Suggested Read from the Letter: “Common Stocks as Long Term Investments”, Published in 1924 by Edgar Lawrence Smith.

Buffett & Charlie’s strategy of Investing in companies:

• Investment in the companies they already own. Quoting him “Reinvestment in productive operational assets will forever remain our top priority.”
• Their criteria to invest/buy new companies:
  • First, they must earn good returns on the net tangible capital required in their operation. [Ratio to look out for ROCE=EBIT/Capital Employed]
  • Second, management should be able & honest.
  • Finally, they must be available at a sensible price.
• “In reviewing my uneven record, I’ve concluded that acquisitions are similar to marriage: They start, of course, with a joyful wedding – but then reality tends to diverge from pre-nuptial expectations. Sometimes, wonderfully, the new union delivers bliss beyond either party’s hopes. In other cases, disillusionment is swift. Applying those images to corporate acquisitions, I’d have to say it is usually the buyer who encounters unpleasant surprises. It’s easy to get dreamy-eyed during corporate courtships. Talk about wittiness 😉

Signs Of Good Companies To Invest

• The companies they invest/own have low debt and earn returns upwards of 20% on the capital employed. [Low debt+>20% ROCE]
• They base their optimism on five factors
  • First, look at the assets as a whole instead of standalone entities. The assets of Berkshire Hathaway, on an average basis, make good returns while the standalone entities may make losses.
  • Second, Berkshire’s positioning of its “controlled” businesses within a single entity endows it with some important and enduring economic advantages.
  • Third, Capable management that enables the company to withstand external shocks of an extreme nature.
  • Fourth, skilled and devoted top managers for whom running Berkshire is far more than simply having a high-paying and/or prestigious job.
  • Finally, Look for the company with a board of directors who have the capability to advise the organization and help it grow.

Concluding Note

• Calculations of intrinsic value are far from precise.
• Consequently, neither of us feels any urgency to buy an estimated $1 of value for a very real 95 cents.
• In 2019, the Berkshire price/value equation was modestly favorable at times, and we spent $5 billion in repurchasing about 1% of the company.
• On Circle of competence. Over and over again. When it comes to investing, Buffett suggests everyone be within their circle of competence.
• This means we must invest in those companies that you understand well.

That’s all for today folks.

In case we haven’t met, I am Inju, a resident of the small planet called trailsofinju.com in the internet universe.

Apart from thinking about money, I play with words, my feet, my eyes, and my phone. That’s just me saying, I write stories, poems, travel a lot, read a lot and click pictures with my phone.

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Asta La Vista

Until Next Time, Cheers!

Inju.