.220 Hitters & Aging Racehorses

"What [a] stock sells for today, tomorrow, next week, [or] next year doesn’t make any difference," said Warren Buffett in 1990. "What counts is how the company does over a five- or ten-year period."

Back in November 1990, Warren Buffett dropped in at Emory Business School during a trip to Atlanta, Georgia, for a Coca-Cola board meeting.

He relished opportunities like this to engage with young minds and share his hard-won wisdom on investing, business, and life with the next generation.

Buffett made similar stops at universities like Notre Dame, Georgia, and North Carolina — among many others — always leaving a lasting impression on those fortunate enough to hear him speak.

Unfortunately, in an era before smartphones and widespread digital archiving, too many of Buffett’s college speeches have been lost to memory. When documentation does exist, it’s often incomplete or anecdotal — making any surviving direct accounts all the more valuable.

One such happy example is Buffett’s visit to Emory.

The following year, his hometown Omaha World-Herald newspaper published a “slightly edited excerpt” of Buffett’s remarks that day. While not a comprehensive transcript, this remains — to the best of my knowledge — the only account we have of this particular speech. Though it’s likely only a fraction of the entire wide-ranging discussion, it nevertheless serves as a fascinating artifact for students of the Oracle.

Below, I have faithfully reproduced every word attributed to Buffett in the Omaha World-Herald article. I’m pretty sure this is all that’s left from his Emory talk. In a few places, I also interspersed a few observations and thoughts of my own.

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Invert, Always Invert

Warren Buffett kicked off his speech in a distinctly Munger-esque way:

I’ve often felt there might be more to be gained by studying business failures than business successes. It’s customary in business schools to study business successes. But my partner, Charlie Munger, says all he wants to know is where he’s going to die — so he won’t ever go there.

In our business, we try to study where people go astray — and why things don’t work. We try to avoid mistakes. If my job was to pick a group of ten stocks in the Dow Jones average that would outperform the average itself, I probably would not start by trying to pick the ten best. First, I would probably try to pick the ten or fifteen worst performers and take them out of the sample — and work with the residual. It’s an inversion process. Albert Einstein said, “Invert, always invert, in mathematics and physics,” and it’s a very good idea in business, too.

Start out with failure — and then work it out.

With Berkshire Hathaway’s annual shareholders meeting just over a week away, this comment suggests an interesting question for Buffett: “Which business failures have you learned the most from?” From his own career, I imagine that Dempster Mill Manufacturing Co., the Hochschild-Kohn department store, and Berkshire’s erstwhile textile operations rank pretty high on the list.

Beyond any of his own missteps, though, it’s usually preferable to learn vicariously from the failure of others. I wonder which business collapses or tailspins from history most profoundly shaped Buffett’s mindset and approach.

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Think For Yourself

In Berkshire Hathaway’s 1989 annual report, I wrote about something I called the institutional imperative. I didn’t learn about it in business school, but it tends to have an enormous impact on how businesses are actually run. One of its main tenets is the copycat mechanism that decrees that any craving of the leader — however foolish — will be quickly supported by detailed rate-of-return and strategic studies prepared by his troops.

Every time it becomes fashionable to expand into something, some companies will expand into it. Then they get out of it about five years later, licking their wounds. It’s very human. People do the same things with their stocks.

To illustrate, let me tell you the story of the oil prospector who met St. Peter at the Pearly Gates. St. Peter said, “Oh, I’m really sorry. You seem to meet all the tests to get into heaven — we’re kind of lenient on oil prospectors — but we’ve got a terrible problem. See that pen over there? That’s where we keep the oil prospectors, but it’s filled. We haven’t got room for even one more.”

The oil prospector thought for a minute and said, “Would you mind if I just said four words to those folks?”

“I can’t see any harm in that,” said St. Pete.

So the old-timer cupped his hands and yelled out, “Oil discovered in Hell!”

At that instant, the lock came off the door of the pen and all the oil prospectors flew out, flapping their wings as hard as they could for the lower regions. “You know, that’s a pretty good trick,” St. Pete said. “Move in. The place is yours. You’ve got plenty of room.”

The old fellow scratched his head and said, “No, if you don’t mind, I think I’ll go along with the rest of ‘em. There may be some truth to that rumor after all.”

That, unfortunately, is what happens in business and investments. People know better, but when they hear a rumor — particularly when they hear it from a high place — they just can’t resist the temptation to go along.

It happens in Wall Street periodically and then you get what are, in effect, manias. You look back on it and you can’t really understand how it could have happened. A group of lemmings looks like a pack of individualists compared to what happens on Wall Street when it gets a concept in its teeth.

It’s one of the advantages of being out in Omaha, frankly. I worked in New York for a couple of years and people kept whispering to me on street corners. And I kept listening to them, which was even worse. So I got back to Omaha where there’s less chance you’ll go way off the track.

I give you one piece of advice that I got at Columbia from Ben Graham that I’ve never forgotten, which is: You’re neither right nor wrong because other people agree with you. You’re right because your facts are right and your reasoning is right — and that’s the only thing that makes you right. And if your facts and your reasoning is right, you don’t have to worry about anybody else.

This week, the Coca-Cola Company celebrates the 40th anniversary of a rather ignominious moment in its history — the debut of New Coke.

It was the culmination of a wider loss of focus and discipline — as the soft drink maker pursued diversification into shrimp farms, movie studios, and other non-core business lines that only served to dilute the brand power of “the real thing”.

And it was only when Coca-Cola reversed course — “licking their wounds” so to speak — that Buffett started buying KO 0.00%↑ stock for Berkshire.

The institutional imperative or corporate groupthink or a herd mentality or peer pressure — whatever you want to call it — can erode even the very best moats.

So does short-term thinking, like when Coke panicked over losing some market share to Pepsi and threw the baby out with the bathwater by changing its time-tested formula to a sweeter one. Chasing fads is almost always the wrong choice.

(And I say that as someone who prefers the taste of Pepsi to Coke.)

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Watch That Track Record

The best judgment we can make about competence is not what other people thought at the time, but simply the record. When we buy a business, we usually keep the fellow that’s been running it — so we already have a batting average.

In the case of Mrs. B, who ran our Furniture Mart, we’d seen her over a 50-year period take $500 and turn it into a business that made $18 million pre-tax. She’s competent. She’s bloody competent. She’s 97 years old and she’s competing with us now. She started a new business two years ago. Who would think you’d have to get a non-compete agreement with a 95-year-old?

The past record is the best single guide.

Then you run into the problem of: What do you do with a 14-year-old horse? Let’s say you buy the Daily Racing Form and it shows he won the Kentucky Derby and he did this as a four-year-old and that as a five-year-old. You know this was one hell of a horse based on past performance, but now he’s 14 and can barely move. So you have to ask yourself, “Is there anything about the past record that makes it a poor guideline as a forecaster for the future?”

If I’m going to bring a fellow up from AAA baseball to the Major Leagues, I want one who’s been a top batter in AAA. I don’t want someone who’s batting .220 and he says, “I’m saving myself for the Majors.”

It’s much easier to predict the future based on performance, isn’t it? You all know each other, for example. You’ve been in school together for a year or two. Let’s say that when you left Emory they gave you a little bonus — that you got to pick out anybody in the class and you’d get 10% of his or her future earnings. And one of your classmates was going to get 10% of your earnings. So, all of a sudden, you look around at this whole group in a different way. You’ve seen them in class. You know their grades. You know their leadership capabilities. So you say, “Which one do I pick up?” How good of a job do you think you could do?

It would be a lot easier if you could make that decision at your 10th reunion, wouldn’t it? It’s interesting because that’s the decision we’re making about management all the time. We try to find companies or businesses that we really feel good about owning.

Buffett’s example of AAA baseball players and 14-year-old racehorses is one of my favorites. In it, he distills two critical considerations that must be made when evaluating any investment opportunity.

• First, a company’s historical track record matters — a lot. Buffett likened this to a AAA baseball player slugging his way to the big leagues with a proven record of success, not being promoted on a hope and a prayer. Past performance, built on consistent results and competitive advantages, provides confidence in future returns.

  • Moneyball really hammered this point. Oakland A’s general manager Billy Beane lamented how many of his scouts fell in love with baseball prospects — based on athletic physiques or rare flashes of incredible talent — and sort of ignored how they actually performed on the field day in and day out.

• But Buffett also warned that past success can be deceptive. Particularly in aging companies, industries, or institutions. Like an athlete or racehorse well past its prime, a once-stellar track record may no longer reflect current realities. Ask yourself: Are the conditions that drove this historical success still in place? Or is this thoroughbred ready for the glue factory?

Buffett finished up by elaborating a bit on what makes a business one that “we really feel good about owning”.

We own 7% of the Coca-Cola Company. If the Coca-Cola Company does well, we’re going to do well. The Coca-Cola Company, in my opinion, has outstanding management. It did when Mr. Woodruff was alive and it still does. There are companies that have solved the problem of continuing superb management in to the future — and then there are those that haven’t.

The Coca-Cola Company is one that has.

And what its stock sells for today, tomorrow, next week, [or] next year doesn’t make any difference. What counts is how the company does over a five- or ten-year period. It has nothing to do with charts or numbers. It has to do with business and management.

Another thing I learned in business school was that you can’t be smarter than your dumbest competitor. The trick is to have no competitors. That means having something that distinguishes itself. Say you go into the drugstore and ask for a Hershey bar. The clerk says, “We don’t have it, but why don’t you take this unmarked chocolate bar instead? It’s a nickel cheaper.” And you say, “[No], I’ll go across the street [to another store that carries Hershey bars].”

It’s when the customer will go across the street that you’ve got a great business.