Book Review: The Essays of Warren Buffett arranged by Lawrence Cunningham
Warren Buffett is a legend in the investing world. He's been called "The World's Most Successful Investor" for good reason. Currently the world's second richest man, with a net worth exceeding $40 billion dollars, his fortune has been built almost exclusively through business acquisition, both entire companies and equity positions. Buffett started as a disciple of value investing legend Ben Graham, the author of The Intelligent Investor, which Buffett has called the best book on investing ever written. He formed several partnerships in the late 1950's, and in the mid-1960's acquired New England textile manufacturer Berkshire Hathaway (BRK-B). Eventually, he and his partner Charlie Munger morphed Berkshire into an investment vehicle, acquiring excellent businesses like See's Candy and GEICO insurance as well as stock positions in large companies like Coca-Cola (KO) and Gillette (PG), among others.
Every year, Buffett personally pens an annual letter to shareholders in which he reviews Berkshire's results, opines on current events, and drops interesting stories and thoughts that expose his and Munger's incredibly successful investment strategies. Although one could certainly read each of these letters in their entirety, in many cases the individual business reviews are not of particular interest to those who don't hold Berkshire shares. The real gems in these annual letters are Buffett's thoughts on business and investing. Lawrence Cunningham recognized this, and has compiled Buffett's notes and organized parts of them by topic. The Essays of Warren Buffett is simply that - straight from the hand of Warren Buffett, but organized in a cohesive manner, with wisdom from several years put together by topic.
The result is outstanding. Here are just some nuggets of wisdom, nearly all with real-world examples:
On Choosing Businesses to Invest In: Buffett, in several examples, lays out Berkshire's investment criteria. The points are: one that can be easily understood, has good long-term prospects, is operated by honest and competent people, and is available at an attractive price. He then goes on to elaborate on an additional point: stocks must have a durable competitive advantage over competitors, allowing high rates of return on capital for years. To understand this, he talks about Coca-Cola, using the same basic formula and principles for over 100 years, raised syrup volumes form 116,492 gallons in 1896 to 3.2 billion in 1996!
On What Makes a Good CEO: This is especially interesting, as it is a point a lot of investors miss with the celebrity nature of CEOs in the business press. According to Buffett, a good CEO does not make lofty predictions about the future, does not trumpet misleading accounting numbers like EBITDA, does not hide transactions in pages and pages of notes to financial statements, does not focus on empire building while destroying shareholder capital with overpriced acquisitions, etc.
On When an Acquisition Makes Sense, and When it Does Not: In general, Buffett believes most acquisitions are for the wrong reasons - CEOs being bored, wanting acclaim, or trying to meet growth targets (without considering capital invested). He warns about the major danger when companies "diversify" too widely, losing focus on the excellent core business. Buffett makes no distinction between buying 100% of a business or shares of stock in that business... the same criteria applies, although he does note that it is often easier to buy stock at cheap prices than it is to buy entire businesses.
Of course, Buffett's famous witticisms are present in the book. Mary Buffett's The Tao of Warren Buffett is a good compilation of these, and you'll encounter most of them here. One additional example that sticks in my mind is him quoting a country singer when an unattractive acquisition candidate contacts Berkshire for possible sale: "when the phone don't ring, you'll know it's me".
There are also numerous educational pieces, where Buffett basically explains complex topics in business and investing. One example of this is an entire section explaining the the three variations of CEO and Board relationships: no controlling shareholder, controlling owner also the CEO, controlling owner not involved in running the business - as always providing examples of each and the resulting effects on corporate governance. Another example is a detailed breakdown of goodwill accounting and the offering of an alternative in the form of "economic goodwill". This is a fascinating read, where Buffett shows how acquired intangible assets (like a strong brand name) can actually increase in value over time - value that is not represented on a balance sheet. Plenty of other examples abound. Ever wanted to know about investment vehicles such as zero-coupon bonds or preferred stock? It's in the book.
Needless to say, MagicDiligence highly recommends The Essays of Warren Buffett to anybody interested in business or investing. Almost any investor or business manager will learn something from reading this book. Buffett's principles explained in this book are a core part of MagicDiligence's stock analysis used to find attractive Magic Formula stocks. And it is also one of the relatively few truly enjoyable reads in the investment book category.
Steve owns no position in any stocks discussed in this article.