Warren Buffett was already a Wall Street legend when I entered the stock market in 1978.
Two things made him already famous back then:
–he formed an early investment partnership that was highly successful for a time. But he returned the partners’ money at the point where he thought he had, for the moment at least, run out of good ideas. No one does that, or almost no one. Instead, the general partner continues to collect management fees while spinning his/her wheels.
–a value-style investor trained under Benjamin Graham, Buffett was among the first professional investors in the US to understand the value of a company’s intangible assets. Intangibles are things like brand names and distribution networks. Both are key to a company’s success, for brand recognition and defense against competitors. Nevertheless, all the advertising and a lot of the distribution costs only appear on the financial statements as expenses. In other words, even though they are extremely important in establishing barriers to competition in any retail business, they don’t appear on the balance sheet at all (except sometimes in acquisitions).
Take Coca Cola, a key Buffett holding or many years, as an example. The market cap of KO is about $300 billion. Annual advertising expense is about $4 billion. If we take advertising as the only element in brand recognition (ignoring completely the ubiquity of distribution and the quality of the product), my the company has probably spent about $100 billion in today’s dollars on advertising so far this century. If you and I decided to launch a Coke competitor, that’s probably much less than the minimum we’d have to spend to be a viable alternative. If we subtract this intangible asset from the market cap, the stock isn’t trading at 24x this year’s earnings but 16x. Just making up a number, if we subtract the value of the distribution network, the stock is maybe at 12x.
The succeeding years haven’t been especially kind to Buffett’s value-style approach. Charlie Munger was, to my mind, a much more important influence on Berkshire Hathaway’s investing in recent years.
Nevertheless, the folksy Sage of Omaha persona of Buffett’s and his reputation for savvy investing built over half a century have given him the almost magic ability to expand the PEs of the stocks in his portfolio simply by his having bought them. His recent link with the Japanese trading companies is an important case in point.
It will be very interesting to see whether and, if so, how long the Buffett aura will last after he departs at yearend.