Focused Investing

By May 7, 2008blog

Last weekend I flew to Omaha, Nebraska to meet with Warren Buffett (along with 32,000 other shareholders of Berkshire Hathaway). I attended the annual shareholders meeting last year and even though this year’s set up was the same (with Buffett answering questions for five hours) and a lot of the questions were the same, I learned different things this year because I’m in a different situation now.

When we sold RegOnline last October, I went from having all of my net worth concentrated in one company (something I grew familiar and comfortable with) to having it all liquid and searching for places where it can generate solid returns (something I don’t have as much confidence in). To help better understand the investment world of things, I interviewed a half dozen investment managers and read a dozen books on the topic. I found that 99% of the world believes in a diversified asset portfolio theory, which means buying a bunch of mutual fund-like instruments that have hundreds of stock positions and let them “ride” the market over the long haul. Something about that didn’t set well with me since up until now I’ve built all of my wealth by being confident in being highly concentrated in one company at a time.

So, even though I’ve owned Warren Buffett’s company, Berkshire Hathaway, for many years now and have had a respect for Buffett’s track record and no-nonsense approach to business and the world, it wasn’t until I sold my company last November that I rolled up my sleeves to really figure out HOW and WHY he chooses his investments and his core principles for investing. This year’s shareholders meeting shed a lot of light on that.

What I’ve learned, and continue learning, is that Buffett is one of the most sound investors I know. He is exceptional in his approach because of the disciplined principles by which he invests. In a nutshell, he’s made his fortunes by investing in companies with

1. >10% return on equity for more than 10 years
2. A durable competitive advantage
3. A stock price that is well below intrinsic value

He’ll only consider something when his confidence is high enough and the price of the stock is discounted enough. For example, he invested 40% of his partnership into The Washington Post in the early 70’s when its stock price was trading at 1/5 what he thought it was worth. He did the same thing in the 80’s with both Coke and American Express. He is probably one of the few people who gets excited when the stock market is crashing, because it means that great companies will be undervalued.

Two secrets to all of this:

1. Knowing the VALUE of a company based on the predictability of its future cash flows. 99% of people I talk to, including investment advisers, can’t tell me the intrinsic value of what they are invested in. Buffett CAN & DOES… and gains great confidence and strength in knowing the intrinsic value of every investment.

2. Having patience to wait for the perfect opportunities. Buffett is sitting on $35 billion in cash right now, with the discipline to hold until the right moment presents itself to go big.

It’s very similar to what happened when I invested in RegOnline 4.5 years ago. I had looked at almost a hundred companies to buy, invest in, or start. Nothing grabbed me. I wondered if I was being too selective and should just jump into something and “make things happen”. When RegOnline hit my radar I knew instantly that I wanted to plow everything I had into it (and even borrowed some). Why? Great growth rate, diversified fragmented client base, profitable, price of investing was far less than what I perceived it’s intrinsic value to be, and I liked the founder/CEO. It was a no-brainer then as it is now. That’s my plan going forward too. Wait for the big fat pitches and then focus my energy on hitting them out of the park when they appear.

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