Source: Smart Investors
Author: Lawrence Cunningham

At the 2024 Berkshire Shareholders' Meeting on May 4, Buffett, who was not present at Munger, gave much of his time to his successor — Vice Chairman Greg Abell.

Through on-site responses, we can see that now many business communication reports go directly to Abel and Ajit Jahn.

Everything is in transition.

Maybe this is exactly what everyone wants to see.

Buffett, 94, will sooner or later face the reality of finally handing over full control of the helm to his successor on August 30.

Buffett was speechless. He gave the most direct answer to the future responsibilities of leading the company's small executive team so far, including the allocation of 100 billion US dollars of responsibilities.

“I think Greg is solely responsible,” Buffett said on the podium at the CHI Health Center in Omaha. “I used to have different ideas about how to handle this, but I think the responsibility lies with the CEO.”

He said Berkshire's board of directors will eventually make a decision when he dies, but he added in a consistent humorous tone, “If they take a different approach, I might try to come back and bother them.”

Investors had anticipated that Abel would lead the company's operating subsidiary and become Berkshire's candidate to hunt big games — Buffett described his fame as a multi-billion dollar acquisition.

Obviously, Buffett is talking about a much larger space of authority.

Buffett said that Abell should have the final say on Berkshire's investment. It also made it clear that this successor not only has the right to acquire, but also to manage Berkshire's huge stock portfolio.

But many still expect Berkshire's $336 billion equity portfolio to fall into the hands of two investment deputies, Todd Combs and Ted Wechler, who could play an important role in deploying the company's $189 billion cash reserve.

In any case, there are concerns about Berkshire's heritage, but it doesn't seem that impressive compared to its huge size.

There are plenty of books and interviews that can help us understand this. But Laurence Cunningham's long-term observations and answers are more persuasive.

Cunningham is a professor of commercial law at George Washington University, studies corporate governance and culture, and has some authority in studying Berkshire and Warren Buffett.

He is the author of the book “Buffett's Letter to Shareholders: A Course for Investors and Company Executives”, was personally authorized by Buffett, and claimed that “this book is better than any biography about me.”

There is also “Berkshire Beyond Buffett,” which Cunningham collaborated with dozens of executives from Berkshire subsidiaries to complete.

Below are Laurence Cunningham's answers to five questions, including Berkshire's moat, how its reputation reflects its economic value, and the inspiration brought by the successful succession of the Marmon Group. I hope it will inspire and resonate.

Q According to your definition of a moat, what is Berkshire's moat?

The Lawrence Moat is an enduring competitive advantage that protects a business's long-term profitability.

Moats come in many forms. People have classified them in many different ways.

I love Bruce Greenwald's approach, and he really tried to summarize it into a relatively limited set of simple steps. However, they still include elements such as the ability to sell various products, product brands, entry costs, etc.

And the Berkshir-owned company apparently has all kinds of moats. Does Berkshire need a moat then? Does it have a moat?

I'll use the exclusion method first.

One possibility is Warren Buffett himself.

He is the founder, leader, and builder of this company, and is the company's image ambassador. He definitely has a set of skills that are hard to compete with or match.

But the reason I'm not going to put it there is that one element of the moat definition is that it must be long-lasting.

A person who has contributed greatly to competitive position and competitive advantage is not a moat in this definition.

The second is capital resources, particularly through insurance companies.

Also, I think these are all very strong competitive advantages, and it is difficult for anyone to match them in terms of capital strength, balance sheet size, etc.

When I talk about Berkshire's relative competitive advantage, the market I'm really talking about is the acquisition market of competitors, including private equity firms, LBO operators, other corporate groups, and even insurance companies or strategic buyers.

Therefore, capital strength is very important. It's part of the “heart” of Berkshire.

But it's more about enabling moats than defining moats.

I eventually discovered that Berkshire and all of its operating subsidiaries shared a set of core values. It is these core values that define Berkshire and give it a corporate culture, a path, and a characteristic that is hard to replicate.

I believe these core values will continue if managed properly.

All moats need to be protected and expanded, as long as people within the company recognize that this culture and corporate characteristics are part of the moat.

I think in my definition it would be sustainable and long-lasting.

As Buffett famously said, “It takes 20 years to build a reputation, it only takes 5 minutes to lose it, and you should act accordingly.” Is there a way to measure how this reputation translates into financial benefits?

Lawrence, I think this is a great example.

Reputation is one of the nine values I put forward in my book. It is part of the Berkshire Moat and what makes Berkshire unique.

This uniqueness is also a characteristic of its subsidiaries.

Almost all of the subsidiaries are reputable in their respective fields, and the leaders and managers of these companies have invested heavily in their reputation. They were surprisingly in agreement about Warren's reputation.

In Berkshire, reputation can be converted into financial gain. Because sellers of businesses are often happy to sell to Berkshire for less than market prices.

Because the reputation provided by Berkshire is multifaceted, including honesty itself, as well as the reputation that gives managers flexible authorization.

As a result, many entrepreneurs want to find a home for their business in Berkshire or are particularly happy to partner with Berkshire. Because they know that the business can still decide for itself without wasting time on detailed management processes.

This is also an important reason why entrepreneurs may sell to Berkshire at prices lower than competitors' bids or below fair market prices.

Similarly, Berkshire is famous for permanently owning the acquired subsidiary. It has almost never sold subsidiaries in 40 years (probably not including common stock companies).

It has very lax standards for selling subsidiaries. Only if this company is doomed to failure... will Berkshire sell it.

For struggling companies, Berkshire will keep it at a minimum position level, and as long as it doesn't take up a lot of capital, it will continue to run with it.

Therefore, people value this sense of persistence and autonomy, especially family businesses.

But there are other companies that have given some value to this commitment to persistence and autonomy.

I gave the example of Clayton Homes (Clayton Homes) in my book, which best illustrates the question of how reputation translates into financial benefits for subsidiaries.

It's a trailer house manufacturer based in Tennessee. It is also the main lender for those who buy trailers, who are often low- or fixed-income earners.

Jim Clayton (Jim Clayton) is the founder of this company. When I met him, he had a very unusual approach to construction and loans.

He'll sit down with clients, understand their income and asset status, then build homes and provide loans based on their budgets.

As we saw during the 2008 financial crisis, this approach is so unique that many of our competitors haven't done it.

Instead, they're just trying to build the biggest “tunnel” to provide maximum loans to people who really can't afford it.

So when the crisis hit, these people were unable to repay their loans, and their houses were confiscated.

Many lenders have gone out of business. As a result, Jim Clayton's company went from fourth to number one in the industry.

Jim is a down-to-earth, serious, and simple person. He just thought that was a way of doing business in itself. I mean, he cares a lot about his reputation, and he always considers issues from the perspective of how to deal with customers.

This is exactly the right thing to do. Being direct, straightforward, and kind is not only ethical, but also the right thing for humans to do.

As a result, at Berkshire, we have seen time and time again that a passion for caring for reputation always translates into financial benefits without exception.

I think this might come from a longer term approach. For example, are you optimizing for the short term or for the long term? If it's a short-term one, then you're probably more focused on a deal than a long-term relationship.

I quoted Warren's “instructions” to his CEOs every two years in my book.

This is an amazingly humble instruction. There are only six things on it, only half a page, really.

One of them is protecting the company's reputation.

The other is to consider your business over a 50-year time span.

So Berkshire is unusual.

I don't mean to criticize people. It's easy to just think about tomorrow or next year, and even private equity firms will think, “Oops, I know what's wrong with this company. I can fix it in two or three years.”

This kind of thinking may have a place in the economy, but the theme I really wanted to express in the book “Beyond Berkshire” is that being able to look forward to 50 years and eventually become an industry leader is really valuable.

Even in my book, I hope we can continue to have this kind of environment to make this kind of company possible.

Ask Buffett that he has a very extreme capital allocation obsession. For example, make sure every dollar is spent where it makes the most money. But on the other hand, the trust that Berkshire has implemented has reached the point of giving up, and basically allows the subsidiary to operate truly independently.

It feels like Buffett probably just let capital flow vaguely there, without really knowing what's going on, rather than allocating every penny in the best way. What's your opinion on this?

Lawrence thinks he's demanding of himself; he cares about every penny, every dime.

And in an organizational model where subsidiary managers lead and make decisions, he is willing to spend a few cents more. He gave them freedom because in the long run, these people might do a better job than him in allocating capital per unit.

That being said, managers do have to generate returns on capital within a few years.

If a company simply fails to prove and actually do that, Berkshire's capital allocation to them could drop to zero.

There are good examples of companies. They may also be companies that are excellent in other areas, but they just haven't developed and are unable to bring high returns on excess capital.

Examples include Hishi Confectionery and Scott Fetzer (Scott Fetzer, an American manufacturer and seller of diverse household, household, and industrial products). They don't generate high returns on capital like other companies, but they are highly profitable.

Hishi Confectionery can generate around 80 million profits every year. But it had no chance to reinvest that money like BNSF Railways or Berkshire Energy.

As a result, Brad Kinsler (Brad Kinsler) of Hishi sent a large check (interest) to Omaha. So did Scott Feitzer.

Warren's trust-based authorization model for CEOs only needs to do a few things.

CEOs will regularly report on their work. As to how to do it, there are no rules; everyone acts in their own way.

Some people can call often to report. Some would rather report once a month. Some people report once a year.

It was a very laid-back approach, but Buffett's eyes were bright.

What you see is a pretty effective capital allocation mechanism.

For example, if James Hambrick (James Hambrick) of Lubrizol was keenly aware that he might need a billion dollars in capital, or even an injection of 2 or 3 billion dollars, he would provide Buffett with enough updated information.

When such an opportunity presented itself, he said, “Look, this is an opportunity.” Like the pipeline lubricants business that Phillips bought in late 2013. James called Warren and the deal was completed.

Greg Abell did the same in Berkshire. He made a very large investment in acquisitions, about 5 billion or 7 billion dollars, and similar loans, 500 million or 800 million, for renewable energy, such as wind and solar energy.

Abel has done a lot of these things himself. He checks regularly, sometimes once a week.

These ways of working don't seem like a formal process, but they're definitely based on a great deal of trust.

Therefore, I think Warren's attitude towards his deputies and managers is definitely better than his attitude towards his own money bag and checkbook.

He believes that over a period of time, this model will be more valuable. This model is more likely to produce excellent returns on capital than the model where he insists that everyone provide accounting records in specific reports.

Of course, I also gave about 6 or 8 examples in my book where CEOs were somewhat disappointing. He wasn't fired, and he wasn't embarrassed.

I mean, this is a very subtle observation, and you can feel it during communication and counseling (Buffett mostly just said, thinking this person or thing is inappropriate).

I have no data to base it on. I'm just deducing that (Buffett) he doesn't like big conflicts.

This is probably a great culture. It started at the top of Berkshire, but what's interesting is that subsidiaries also often bring this culture. Then they strengthened each other.

Ask Berkshire if they're worried; if they change new people, they won't have this sense of urgency anymore. Will there be a situation like this: OK, this isn't Warren; I'll try to do it well, but I'm not going to work as hard as trying to impress Warren?

Lawrence, I've also heard many people express this kind of concern.

The research I wrote included interviewing CEOs of many of our subsidiaries and asking questions about their specific motivations: Are you driven by Buffett's personal reasons or your own?

You know, these people tend to be very humble. But I do feel that Warren is an important part of it. He's a charismatic leader, and people love to work for him.

But I do think the character of Berkshire employees is an important part of it; they didn't work there by accident.

They work in Berkshire because they have the same values as Berkshire, and then Berkshire attracted them.

I think that makes sense. But that's far from all.

Look, if the successor alienates people, if Warren's successor is a jerk, you know, it really makes you not want to work, it really makes you feel mediocre or something. This will have negative and opposite effects.

Find the wrong person and you'll destroy Berkshire.

I mean, the company's leadership is clearly very important.

Fortunately, Warren's successor (Abel) was selected from the CEO of the subsidiary. He has these qualities, understands the importance of trust, reputation, and integrity, and has been inspired by Berkshire culture for a long time.

(Note: So Buffett said at this shareholders' meeting, “The most important task of our system is to select the right CEO, because the right CEO can make a great company.”)

Does the transformation of Pritzker Marmon mentioned in your book indicate what we might see at Berkshire when that dreadful day finally arrives?

Lawrence Yes, I do think the Marmon Group is a good example for Berkshire and its future.

The Marmon Group was founded by Jay Pritzker (Jay Pritzker) and Bob Pritzker (Bob Pritzker). They are famous Chicago businessmen and have a lot in common with Buffett.

In fact, Warren has known Jay since he was young. Warren is probably 20 years younger than Jay, and he really appreciates Jay's business strategy.

Jay and Bob did something similar in the process of establishing the Marmon Group. They are opportunists, acquirers, and believers in autonomy.

They bought the company and managed it as a whole.

Bob is an industrial engineer, so he occasionally does some work to optimize transaction turnover or acquisition companies. Despite this, he is a big fan of autonomy and gives managers as much room for autonomy as possible.

Since the company was founded in the 1960s, its business scope has spread across 100 different fields and more than a dozen different industries. It is the most diverse enterprise group you can imagine.

Bob and Jay sit at the top of the company, and they themselves distribute large amounts of capital in their subsidiaries. The subsidiary is also an active acquirer. It looks a lot like Berkshire, just a little smaller.

Jay passed away in 2008. Bob stepped down and died within a few years. Before leaving office, he handed over leadership to a man named John Nichols (John Nichols), a Chicago businessman who was the CEO of the Illinois Tool Works.

The Illinois Tool Works itself is a huge corporate group, even more diversified than Berkshire or Marmon Group, with hundreds of different business lines.

However, its principles of autonomy, long-term planning, and acquisitions are very similar to those of Berkshire and the Marmon Group.

When Bob invited John to join the Marmon Group, John said, “This is a difficult task.”

He agreed with Bob and Buffett's management style, which is long-term, autonomous, etc., but John believes that Bob established this company little by little over 30 to 40 years, just like Warren established Berkshire little by little over 30 to 40 years.

John said it's impossible for me to know as many details as Bob. Just like no successor to Warren could have known as much as Warren, even if this person had a higher IQ or other aspect.

John knows this well. His “way to improve” to maintain these management principles and play a role is to set up 10 divisions within the group.

Each department has an independent president who has autonomy and can issue his own orders. Then report back to John.

In this way, there is a mechanism that is both centralized and has decentralized management. That's the improvement John made.

Frank Ptak later succeeded John and followed the same path. Mammon is still a huge conglomerate.

If Warren's successor decides to do something similar, it makes perfect sense to me.

As a result, I spent an entire chapter in my book introducing the Marmon Group because I found it very similar to the Berkshire situation.

The difference is that the reason the company has to keep looking for new owners is mainly due to differences of opinion between the Pritzker family, Jay, and Bob's descendants.

This huge family group, you know, are all great, brilliant, and very successful business people. Many of them own the company but have many differences about the future development of the company.

There is no such family in Berkshire. That's a big difference.

Warren owns the company and owns a large share. His will stipulates that it can basically be distributed to the market through a foundation.

So, who's going to buy Berkshire Hathaway?

That's not really an issue. What is important is whether the successor (Abel) can have a management model that can guarantee its continuity without affecting the particular course of history.

Editor/Somer