Summary
I spent a considerable amount of time reviewing Berkshire Hathaway’s annual letters (from 1977 to 2020) questing for empirical data on Sir Warren and Charlie Munger’s philosophy on dividend investing.
Remarkably, only the 1984 and 2012 annual letters discuss dividends at any great depth or length. Moreover, most annual letters barely even mention the subject of dividends.
I synthesize and discuss why the Buffett way has been so successful and why Sir Warren is the best of all time.
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Justin Sullivan/Getty Images News Let me be crystal clear, I am a big fan of Sir Warren Buffett. His 56-year track record (and counting) is utterly amazing and he is arguably the greatest allocator of capital of all time. Yes, there are a handful of rockstar hedge fund managers that have surpassed Warren’s record, albeit over shorter periods of time, say five- to ten-year stretches, but again, no one has anywhere close to the longevity nor has anyone compounded shareholders’ capital so well. It is hard not be a fan.
Given Warren Buffett’s strong following, both domestically and outside of the U.S., his folksy charm, and humility in the face of such success, the financial media loves to ride his coattails. Sadly, it is far too common to read articles purporting to discuss the Buffett Way. Far too often I read superficial explanations arguing that anyone can easily emulate him, and yet far too often these articles, at best, misquote him, and at worst, badly misinterpret the origins of his success.
I would argue that one of the biggest misinterpretations of the Buffett Way is to somehow attribute his stellar success to dividend investing (high yielding dividend stocks, REITs ( VNQ ), and other securities with seemingly attractive income prospects, at least in the short term).
In order to set the record straight, I took the time to review Berkshire Hathaway’s (NYSE: BRK.A ) (NYSE: BRK.B ) annual letter archives from 1977-2020 and isolated every time the word dividend was written in each of those letters, again over that 44-year timespan. Lo and behold, if you actually spend the time you will learn that only the 1984 and 2012 annual letters discuss Berkshire’s philosophy on the topic of dividends, at least in any depth and length. Moreover, the topic of dividends is rarely mentioned throughout these annual letters, outside of reporting dividend income or tangentially references to the S&P 500’s average returns inclusive of dividends.
In other words, there is very little empirical evidence that Berkshire’s success and remarkable outperformance compared to the S&P 500 over this 56-year time period is associated with embracing high dividend stock, REITs, or other securities with juicy current yields. To the contrary, if people spent the time to actually review all of Warren’s commentary surrounding dividends, over this 44-year stretch of publishing an annual letter, it is crystal clear that he would greatly prefer that this portfolio companies reinvest their free cash flow back into the businesses under the Berkshire umbrella, that offer the highest risk-adjusted returns on asset and return on capital, which invariably are well above Berkshire’s cost of capital. In other words, Einstein’s 8th wonder of the world, compounding, has been put on display by Berkshire Hathaway as its annual free cash flow has been so efficiently and routinely redeployed back into its portfolio companies in order to gain efficiencies, solidify its business moats, and ultimately generate outsized economics results.
The fact that Berkshire Hathaway has earned billions of dollars in dividend income is more a function (or byproduct) of its large percentage ownership (and exceptional low cost bases after owning these stocks for decades) in a number of spectacular Blue Chip companies that generated so much free cash flow, given their sheer size and slower organic growth rates at this stage of their lifecycles, that their capital reinvestment opportunities were limited and therefore paying out a quarterly dividend was the only responsible way to return capital back to shareholders.
In other words, what attracted Buffett and Munger to the big four (Coca Cola ( KO ), American Express ( AXP ), International Business Machines ( IBM ), and Wells Fargo & Co. ( WFC ) (Berkshire no longer owns IBM and has reduced its stake in WFC)) was their exceptional return on capital metrics, their strong business moats, and highly capable management teams. Again, the fact that they paid […]
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