The Importance of Ownership Perspective Investing
William is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The other day I bought a bookshelf to house my huge library of business books. As I was shelving books I came across one that I have had since 1997: Buffetology by Mary Buffett and David Clark. In this book it talks about ownership perspective investing which the authors describe as one of the philosophical underpinnings of Warren Buffett’s investment approach. Ownership perspective investing quite simply involves thinking like an owner and looking at a stock as a “title” to a business instead of merely a piece of paper that is tied to a financial quote that may or may not go up. After all when one owns shares of a company they are part owner of a business. Gearing yourself towards that type of thinking changes your whole mindset and is one of the fundamental keys of being a successful investor.
When one thinks from the standpoint of an owner one begins to ask certain questions such as, “Will my business be able to continue generating cash and will it be able to expand that cash flow? Will my competitors take my market share away from me? And most importantly “If I want to acquire a larger interest in my enterprise will the price be cheap enough to allow for a superior return on my investment when it comes time for me to sell, if I ever sell?”
Warren Buffett, Chairman and CEO of Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) has built a fortune acquiring excellent businesses below intrinsic value. The book value of Berkshire Hathaway, the metric that Mr. Buffett uses to gauge his performance, has increased by 19.8% per annum between 1965 when he took over and year end 2011. This compares to 9.2% per annum for the S&P 500 for the same period.
Looking at Berkshire Hathaway’s Dec. 31, 2011 list of companies that are worth more than $1 billion dollars one can see that the list is filled with companies that would be guaranteed cash flow for a variety of reasons, and if an investor bought at low enough prices would reap superior return on investment. The companies he owns sell products and services that people need and/or other businesses can’t function without. Of course the vast majority of these businesses trade at a high valuation, but I think for the patient investor these companies could be had for a cheaper price during a correction.
I think the most famous example from this list is Coca-Cola (NYSE: KO). Warren Buffett started investing in Coca-Cola during the stock market correction in 1987. When other people thought the financial world was coming to an end he was quietly buying these shares at an unusually low price. In the annual report he discloses the cost basis of these shares as $1.3 billion. As of market close on Aug. 14, 2012 Berkshire Hathaway’s 400 million shares of Coca-Cola would be worth $15.8 billion.
The cash flow from a business like Coca-Cola can be assured for a number of reasons. All of the grocery stores have to carry it due to overwhelming demand. There aren’t that many players in the soda industry. Coca-Cola is a low cost producer because of the sheer volume of beverage it produces and Coca-Cola’s vast and expansive distribution network provides a huge barrier to entry. The company’s logo is recognized throughout the world. This company has experienced a run up of late and trades at a P/E ratio of around 20. The patient investor who could wait a while for a correction could be vastly rewarded if they bought shares at that time.
This leads to the next business on Berkshire Hathaway’s list that I would like to discuss: Wal-Mart Stores, Inc.(NYSE: WMT). In many local areas Wal-Mart is the only game in town. In places where they aren’t the only game in town the sheer size and vast distribution network allows Wal-Mart to sell products cheaper than their competitors and still be profitable. They also carry things that people need such as perishable groceries and clothing. Berkshire Hathaway lists the cost basis for Wal-Mart as $1.9 billion and the approximately 39 million shares that Berkshire owns would be worth $2.9 billion dollars as of close on Aug. 14, 2012. This stock has had a huge run up over the past few months and still has a P/E ratio of 16.
Another business on Berkshire’s 2011 list of holdings exceeding $1 billion is Kraft Foods, Inc.* (NASDAQ: KRFT). They also provide things that people need like cheese and mayonnaise. Kraft’s cash flow guarantee stems from being a low cost producer, selling needed items and a well recognized brand. They also have few competitors and would probably prefer having none. Berkshire Hathaway lists the cost basis in this company as $2.6 billion. As of close on Aug. 14, 2012, 79 million shares of Kraft would be worth $3.2 billion. They also experienced a run up as of late. I own shares in this company, but I don’t think I’d buy more until a correction comes along.
The companies I discussed above are a business owner’s dream. They have little or no competition and sell products that people and businesses need. They can set prices of their products when they deem necessary. The only bad thing about these companies is that they have experienced a huge run up in their stock prices in recent months. This is a huge disappointment to this value investor. If one is patient then the prices of these companies could become cheaper in the event of a correction and the investor will be vastly rewarded. Ownership perspective investing leads people to pursue excellent businesses at excellent prices and are rewarded with superior returns.
As of this writing Warren Buffett has been reducing his holdings in Kraft proving that there comes a time to sell even for Warren Buffett.
stockdissector has positions in Berkshire Hathaway Class B and Kraft mentioned above. The Motley Fool owns shares of Berkshire Hathaway and The Coca-Cola Company. Motley Fool newsletter services recommend Berkshire Hathaway and The Coca-Cola Company. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.