Today's book features the key lessons from the book "The Essays of Warren Buffett: Lessons for Corporate America. This is a summary of the various letters that Warren Buffett has written to the shareholders of Berkshire Hathaway (His company). The editor then arranged the different letters into components that show us how Mr. Buffett views investing as a whole.
This book was an interesting read, as it offered me a glimpse into the mind of the greatest investor alive on earth; Especially how he evaluates businesses (including finding businesses to buy and how he runs his own business). If you are interested in the principles of value investing, I would encourage you to have a look at it.
What I did not enjoy so much about the book was that as it was a reorganization of the letters that Mr. Buffett has written in the past, it was hard to understand the context that he wrote the sentences in and the thoughts that he went through (Even though he tries to make it as clear as possible, some things are still lost as some context is taken out) Furthermore, for those of us who wish to learn some magic formula from Warren Buffett to pick the right stocks, we would be disappointed. Mr. Buffett spoke about the principles in finding the right companies, but not the exact numbers that he looks at.
Without further ado, here are the 7 principles that I have learned from the book (Yes, there are a lot of principles that I derived. I am pretty sure that there are more. But this is as much as I can absorb from the book at my current level of knowledge):
1. There are ways to evaluate a company's value:
- Long term economic characteristic of the business (How the industry will do in the future)
- The ability of management (To realise the full potential and to effectively deploy capital)'
- The alignment of management (So that they can channel business growth to their shareholders)
- Purchase price of the company (Pay too much and it won't be a good purchase)
- Tax and inflation (These will eat into our returns especially in a company that is taxed really badly in the future)
2. Being invested would mean being a partial owner of a business. If you are not comfortable in owning that company for 15 years, don't own it for 15 mins:
Businesses should be measured in terms of their profitability (how much earnings they can bring in for their owners - shareholders), the capabilities of their managers (whether they are able to deploy the capitals/money of the company to increase the business' profitability). Earnings should also be retained only when it can generate a business growth of the same or more amount.
Hence, investing, we want to own profitable businesses, with high certainty that it can do well/better in the future, that is competently managed by competent managers who can think like a shareholder
3. Prices should not matter after you invested if the underlying business increase in value:
If the company's underlying business is not affected (like productions are still high, sales are steady or increasing), a low price should entice us to buy more into the business if we still find that it is undervalued.
4. The market is efficient most of the time, not all the time:
What Mr. Buffett described is as follow: Professors that studied the efficient market hypothesis or portfolio theory is so caught up with the theory that they are unable to understand the reality - Markets' efficiency can change in different periods of time and it is during times of inefficiency that we can take advantage of.
5. Just as how you won't sell the business that brings you the highest profits, you should not sell the stocks that brings you the highest profits:
Essentially, for companies in our portfolio that still possess good prospect in the coming future, there should not be a need for us to sell (especially when we have purchased them at an attractive price)
6. Risk is the measurement of how much money you can lose when you are forced to sell the business:
This can be in the form of being forced to sell "financially" or "psychologically" (When we suffer a loss in income or when we are so afraid that we pull out of the market). Risk in the academic sense of volatility is something that an investor wants as it provides him opportunities for great businesses to be bought at good prices.
In a stable market where everything is constantly going up, there would not be good opportunities as even mediocre companies would also be expensive.
7. Business growth should be passed onto the shareholders:
This can be in the form of A) Share price increase (particularly when in tandem to an increase intrinsic value of the company), B) Dividends (profits are given out), C) Shares buybacks (lesser outstanding shares would mean larger ownership of the business)
The underlying reason to allow for A, B, and C is that the business must be profitable such that they can have the cash to do these operations to bring value to their shareholders.
Comments:
To be honest, I know about my limitations as a writer. A lot of my friends have said that I should not be writing, but instead, I should be doing a video or a podcast so that it is easier for me to convey my ideas. But I do not have the time and I have this desire to improve my writing ability through this blog as well. So too bad. You guys are stuck in this way.
If you really wish to learn the principles of being a value investor, I urge you to read this book, to understand some of the thought processes of the greatest value investor on earth. Of course, Warren Buffett has also said that for those of us that do not have the time or effort to be actively scrutinizing every company to find the right conditions, just invest in an index fund.
Till then,
Stay vested, stay frugal my friends.
Dionysius
Source:
The Essays of Warren Buffett: Lessons for Corporate America
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