The Snowball

The Snowball (2008) offers a revealing look at the life and times of one of modern America’s most fascinating men: Warren Buffett. The book reveals how this shy and awkward man earned his first million dollars and how following a few fundamental rules enabled him to become the world’s wealthiest man.

Why should we be interested in Warren Buffett?

• Warren Buffett is probably the most famous [and successful] investor of all time
• At age 9 Buffett was already making money by selling packs of gum and bottles of Coke to his neighbours
• In 1944, at age 14, Buffett filed his first tax return. He cited both his watch and his bicycle as deductions, and paid $7.00 in total
• Buffett chose to study Accounting & Business at the University of Nebraska
• Buffett studied under the tutorship of Benjamin Graham [Intelligent Investor fame] at Columbia University
• After a brief stint working in Graham’s firm, Buffett set up his own company [Buffett Associates Ltd.] in 1956

It was at Columbia that Warren Buffett nurtured his value investing approach under the guidance of both Graham and David Dodd [author of Security Analysis]. The concepts of “intrinsic value” and margin of safety were taught. Benjamin Graham had a unique way of describing company’s who’s intrinsic value was far higher than its perceived value – “cigar butt’s”!

Snowball Analogy

• Buffett only invested in under-valued stocks and any earnings were reinvested in these same stocks
• It was like rolling a snowball down a hill: what starts as a small handful eventually grows bigger and bigger
• Buffet produced impressive early returns

1956: Buffett Associates Ltd. beat the market by 4%

1957: Buffett Associates Ltd. beat the market by 10%

1960: Buffett Associates Ltd. beat the market by 29%

“The snowball was rolling”

American Express

• In 1963, a subsidiary of American Express had certified that certain storage tanks contained soybean oil, but they were later revealed to be filled with seawater
• American Express stock sold off rapidly
• Classic Buffett reaction – he knew that American Express would bounce back so when the share price reached a floor in January 1964, he began gradually pouring money into American Express: $3m initially, rising to $13m by 1966
• The stock, as predicted, rebounded strongly providing huge returns for Buffett’s clients and paved the way for him to focus on the acquisition of entire businesses

Berkshire Hathaway

• Buffett had calculated that the intrinsic value of this small Massachusetts textile manufacturer was $22 million in 1965
• This meant that the stock should have been selling for $19.46/share. However the existing share price was just $7.50/share

Buffett’s Investment “rules”

• He would never purchase stock in a company that offered a product or service he didn’t fully understand
• No involvement with businesses that had potential or proven “human problems” such as impending layoffs, plant closings or a history of executive disputes with Labor unions
• Preferred stock purchases were those of the “easy, safe, profitable and pleasant” variety
• Buffett insisted on getting a close to company management to gain a feel for their ethics, ability and standards

Buffett’s reputation was continuously attacked in the 1990’s for his refusal to join the tech-investment boom. Buffett stood rigidly to the principles of investing in what you know. Between 1978 and 1991, his net worth jumped from $89m to $3.8bn. His predictions about internet companies materialised in the early 2000’s leading many of the publications that labelled him irrelevant in the early 1990’s to rebrand him as a prophet.

Lessons from Warren Buffett

1. Value matters. Stock purchases without appreciation of intrinsic value or margins of safety are inherently riskier prospects.
2. Do your homework and do it consistently

Buffett had a notorious reputation as a voracious reader, remarkable intellect and unmatched work-ethic. Success did not come easy or without casualties [most notably family relationships]

3. Compound interest is extremely powerful if you have the discipline to allow it to work
4. Patience is important. Investors should not be lured into a false sense of security by the “next best thing”.
5. Human capital is a key ingredient of any successful business