We review the best small business and investing books
Buffett: The Making Of An American Capitalist
by Roger Lowenstein
Buffett: The Making Of An American Capitalist by Roger Lowenstein is a detailed, authoritative, well-researched biography of Warren Buffett.
The book covers Buffett's personal and financial life in great detail. It should tell you nearly everything you might ever want to know about the Oracle of Omaha. Many consider Buffett to be the greatest investor who ever lived. In fact, this historical book will probably tell the average investor far more than he or she cares to know about the life and times of Warren Buffett. There are far more interesting individuals to study than Warren Buffett.
So why read about Warren Buffett? Investors and business people can benefit greatly from reading Buffett: The Making Of An American Capitalist, despite its not being a treatise on investing. You will gain tremendous insight into Warren Buffett's thoughts about business and his method of investing. The book shows the moves Buffett made to become successful and the times and conditions which allowed for his amazing success.
Like many entrepreneurs, Buffett knew enough to team up with great people who had complementary talents. In particular, the bright young kid who repaired the broken pinball machines was indispensable to Buffett's pinball-barbershop operation.
Never one to take chances and fearing the gaming business might be Mafia-controlled, imaginary bosses, whom young Buffett and his friend claimed owned the business, were also indispensable to the operation. Plus, they limited their pinball placement to small, out-of-the way barbershops the larger operators wouldn't care about.
This was partly-fun child play, but Buffett was serious about building wealth. He dreamed about it. He talked about it. Buffett was very ambitious. He was also very frugal. He didn't like spending money. He considered a dollar spent to represent far more than one dollar. It represented a dollar which could be invested and compounded into many, many future dollars. He liked the idea of watching his money grow.
Lowenstein tells us the young Buffett was very interested in math. He and his friend would sit around calculating probabilities and odds of various events. For example, in a room full of a dozen people, what is the chance that two people would have the same birthdate?
In 1950, with a grubstake of $9,800 from his ventures, Buffet was ready to enter college. Rejected by Harvard, he went to Columbia and became a disciple of Ben Graham, who had authored a book on securities analysis and the new book, The Intelligent Investor.
Graham taught Buffett to ignore the markets and focus upon buying the underlying worth of the stock. Buying stocks below their book value and having a margin of safety were key Graham investing themes. Graham taught Buffett to look beyond the current stock price to the "intrinsic value" of the stock. And, then, to only buy the stock if it could be purchased at a steep discount to its intrinsic value, giving a large margin of safety. Graham counseled Buffett to seek to buy stocks which represented little risk. This became one cornerstone of Buffett's investing philosophy.
However, that was a different time. For example, in 1926, Graham found Northern Pipe Line, which traded for $65 a share, had a bond portfolio worth $95 a share. Graham invested and tried to get the company to give the bond money directly to the investors. The company refused. Graham started a proxy fight, and eventually, the company sold the bonds and declared a $70 a share cash dividend. Not bad for a $65 a share stock! Buying stocks for less then their cash in the bank was a solid strategy. Buying stocks of industrial companies below book value was a solid strategy.
In addition to learning the tenets of conservative investing, the young Buffett also managed to build a strong network of friends and business associates, many of whom would invest in his first investment partnership.
Buffett's partnership portfolio over ten years grew by a modest 1,156% compared to the Dow's 122.9%. Largely, this early success was due to investing a la Graham. But, Buffett exceeded Graham in understanding business. Buffett realized the value in franchise businesses and businesses having a significant competitive advantage over the average business.
Buffett invested in companies such as Disney and GEICO, companies in which Graham would never have invested. Lowenstein does an excellent job showing us Buffett's reasoning and exactly what kind of long-term holdings appealed to Buffett.
Buffett's later investments (the ones that made him really successful as an investor. Never mind the modest 1,156% gain!) were more heavily influenced by the philosophy of Philip Fisher and Buffett's close personal friend, Charlie Munger. Munger would rather invest in a good business bought at a fair price, than in a really cheap, crappy company that could never really grow.
Buffett started thinking far more about a company's long-term sustainable advantages and the possible return on capital which the business could generate. He studied industries like insurance and newspapers. While Graham looked for worth of a stock, measured in assets or cash, Buffett understood that value applied to businesses with powerful franchises. Buffett knew how to estimate the intrinsic value of a business such as a newspaper company. Yet, Buffett always paid attention to value. He never paid too dear for a company. Buffett, the student, had exceeded Graham, the master, in understanding.
Buffett realized that some businesses are just plain bad. Lowenstein tells the story of how Buffett came to control Berkshire Hathaway, a textile company Buffett bought cheap.
The careful reader of Buffett: The Making Of An American Capitalist will learn many business lessons. For example, Buffett selected excellent and honest people to run his companies, and then he stayed out of their way. He did offer his vast financial knowledge, but understood the crucial importance of needing to work with the talented company CEO's.
A sense of duty, loyalty to employees, and tradition kept the downsized textile company Berkshire Hathaway operational. But, Buffett refused to upgrade the textile mills to any extent. He knew the apparel industry was an undesirable commodity industry where consumer prices would be low and investor's return on investment (ROI) would always be low. Berkshire Hathaway would become a holding company for Buffett's high-return investments.
Lowenstein writes, "In 1970, Berkshire's profits from textiles were a laughable $45,000. Meanwhile, it earned $2.1 million from insurance and $2.6 million from banking, both of which, at the start of the year, were working with roughly the same amount of capital as textiles."
Buffett: The Making Of An American Capitalist goes on to show Buffett was probably the first investor to understand the value of an insurance float, i.e., that insurance companies collected payments before claims were paid. Having this money to invest and the time value of money made these businesses especially desirable investments for Buffett, who would aggressively grow the float, giving the business a tremendous ROI. It was a powerful form of leverage for Buffett.
Lowenstein also tells us how Buffett invested over his career. For example, when stocks were too highly valued, Buffett felt unoptimistic and wasn't heavily invested in stocks (Buffett's philosophy of being fearful when others are greedy).
In 1972, for example, Buffett's insurance company only had $17 million of $101 million invested in stocks. Buffett did not invest unless he saw value. Then stocks tanked and Buffett was like a kid-at-play investing heavily in many different, undervalued stocks. Buffett even borrowed $20 million to help buy more shares in The Washington Post (Buffett's philosophy of being greedy when others are fearful). Buffett had confidence in his ability to select great companies and he knew the market would eventually reward his holdings with good valuations. By 1983, Buffett's portfolio was worth $1.3 billion.
Buffett became far more active in working with the management of several of his companies. But, I'll let you read about that in the book. I have only touched upon some of the business and investing lessons which guided Warren Buffett and which are demonstrated in Buffett: The Making Of An American Capitalist.
Will you become the next Warren Buffett by reading Buffett: The Making Of An American Capitalist? No. But, I'll leave you with this: History repeats itself, and we can learn a great deal from history. And, hopefully, not repeat the mistakes of others. Maybe, even, in some limited way, we can repeat some of the successes others before us have achieved, if we understand their methodology at the time and absorb some of the lessons they have learned in the past. Buffett: The Making Of An American Capitalist is an excellent and thorough biography of Warren Buffett, one of the world's greatest investors. For serious investors that might be a bit of history worth reading.