WARREN BUFFETT and Berkshire Hathway are most known and applauded for their investing prowess – around the folklore of the phrase “Moat”. However, little attention is paid to a VERY BIG fact – Berkshire has MANY wholly owned subsidiaries and after investing the key skill that comes into play is managing these companies (quite different from investment analysis).
In that sense, Berkshire isn’t just an investment house, but a full-fledged conglomerate with Mr Buffett as the CEO. The incredible success of these wholly owned subsidiaries is a remarkable management achievement, one that does not get as much attention. This management feat is no small one. Even Buffett noted the success of his wholly owned subsidiaries as early as 1997 in a report (link). http://www.berkshirehathaway.com/1997ar/1997.html
I recently stumbled on a case study in the Harvard Business Review, highlighting this exact point – Berkshire’s management success.
The central idea, the case study notes, is quite straightforward, though I am sure executing it is incredibly hard – ally with great people and then give them full autonomy. Buffett follows this autonomy principle to the hilt. He had only two requirements from managers – monthly financial statements and sending operating cash to HQ, as HQ will take capital-allocation decisions. Beyond that, as Charles Thomas Munger (Vice-Chairman of Berkshire Hathaway Corporation) puts it, “It was delegation, just short of abdication.”
Two fundamental assumptions that make this management model possible are – (1) businesses that don’t need significant attention, and (2) working with people who don’t need much oversight in an organisation that thrives on a significant factor – trust.
The 1998 report notes that for managers, the instructions were pretty straight forward – “Just run your business as if: 1) you own 100% of it, 2) it is the only asset in the world that you and your family have or will ever have, and 3) you can’t sell or merge it for at least a century”.
I would think that’s quite a clean way to solve the agency problem though I am sure some more checks and balances must be in place, because if this problem was so easy to tackle, everyone could have done it.
Another strategy Berkshire followed was to minimise corporate overheads – no analytical staff to assess deals for example. This not only saved costs in rent, salaries, and benefits, but also reduced wasteful expenditure that might have happened because of a large staff. Additionally, guaranteed speed in decision-making.
I recall my own experience when I was trying to build a team for my start-up. One question I fiddled around with was should I also re-polish my decade-old coding skills (to meddle around)? Then I decided against it and delegated all tech to the lead engineer. My reasoning– (1) I am better off focusing, and (2) If I think I can learn in six months what people have learnt in 10 years, I am seriously over-estimating myself and insulting the intelligence of the team members.
I also thought of any typical President and Prime Minister and realised that they possibly can’t know everything and are yet expected to take decisions on anything. Their success lies in hiring a good cabinet and delegates.
All of this then boils down to the importance of promoters and CEOs of companies that one invests in — after all, every investor is delegating them with the job of managing their investments.
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