December 13, 2024 • 1hr 15min
TIP682: Buffett's Early Investments by Brett Gardner w/ Clay Finck
We Study Billionaires - The Investor’s Podcast Network
Key Takeaways
- During Buffett's early partnership years (1957-1969), he achieved remarkable returns of 23.8% net of fees compared to the Dow Jones' 7.4%
- Four main factors contributed to Buffett's outperformance:
- Activism - Taking significant positions to influence management and close price-value gaps
- Concentrated portfolio - Willing to bet over 20% on single positions
- Tenacious research - Extensive travel and deep company analysis
- Effective filtering - Quickly identifying best opportunities
- Buffett evolved from purely quantitative analysis to incorporating qualitative factors in evaluating businesses
- Key investments discussed showcase Buffett's evolution:
- Philadelphia & Reading (1954) - Classic Graham-style value play
- Disney (1966) - Quality business despite industry headwinds
- American Express (1964) - Strong franchise weathering scandal
Introduction
This episode reviews Brett Gardner's new book "Buffett's Early Investments" which analyzes 10 key investments made by Warren Buffett in the 1950s and 1960s. The discussion focuses on three particularly fascinating case studies that demonstrate Buffett's evolution as an investor: Philadelphia & Reading, Disney, and American Express.
Topics Discussed
Philadelphia & Reading Investment Case Study (6:01)
In 1954, Buffett made a significant investment in Philadelphia & Reading, an anthracite coal company facing industry decline. Despite poor financials, Buffett saw value in the company's assets:
- Stock traded at $13/share while net current asset value was $9/share plus $8/share in off-balance sheet assets
- Ben Graham sat on the board with an 11% position through his investment partnership
- New management under Mickey Newman transformed the company through acquisitions:
- Union Underwear - Purchased for $15M, earning $3M pre-tax
- Acme Boots - Acquired at 4x earnings
- Fruit of the Loom - Added through subsequent deals
Blueprint for Berkshire (18:23)
Philadelphia & Reading served as an important template for Buffett's later transformation of Berkshire Hathaway:
- Common elements included:
- 19th century industrial origins
- Secular decline in core business
- Initial cheap valuation
- Fight for control
- Reallocation of capital to better businesses
- Creative management compensation
- Tax-efficient strategies
- Both Fruit of the Loom and Acme Boots were later acquired by Berkshire Hathaway
Disney Investment Analysis (27:15)
In 1966, Buffett made an unconventional investment in Disney, demonstrating his evolution beyond pure value metrics:
- Company background:
- Three key segments: Films, Disneyland, and Other
- Superior 39% EBIT margins vs industry average of 10%
- Strong family-friendly brand
- Governance concerns:
- Heavy reliance on Walt Disney's creative genius
- History of cost overruns on projects
- Complex related-party transactions
- Investment thesis:
- Valued at $80M but worth $300-400M privately
- Trading at 7x earnings vs industry 11x
- Valuable content library and recurring revenue
American Express Salad Oil Scandal (43:55)
Buffett's investment in American Express during the 1963 salad oil scandal demonstrated his ability to look past temporary problems:
- Scandal details:
- Fraudulent scheme involving non-existent soybean oil inventory
- American Express subsidiary faced $210M in claims
- Stock dropped 40% on concerns over liability
- Buffett's analysis:
- Core business (travelers checks, charge cards) unaffected
- Strong competitive position and brand value
- Trading at 8x EBIT vs market at 19x
- Investment outcome:
- Became partnership's largest position
- Earnings tripled in five years
- Generated 30%+ annual returns
Conclusion
These three investments demonstrate Buffett's evolution from a pure Graham-style value investor to one who increasingly appreciated qualitative factors and strong franchises. His ability to identify opportunities in times of distress (American Express), recognize quality despite industry headwinds (Disney), and learn from others' success (Philadelphia & Reading) helped shape his approach to building Berkshire Hathaway.
As Buffett noted in 1967: "The really sensational ideas I've had over the years have been heavily weighted towards the qualitative side where I have a high-probability insight... The really big money tends to be made by investors who are right on qualitative decisions."
