1997: Is the concept of intellectual capital useful or merely academic?

AUDIENCE MEMBER: First, I’d like to thank you both for being so generous with your time and with your ideas for us today.

WARREN BUFFETT: Thank you. We get paid by the hour, so —

AUDIENCE MEMBER: Well, I’ll try and talk quickly then. My name is Bob Costa from Evansville, Indiana. I’ve been a shareholder for four years. This is my first visit to Omaha. I went to the mega mart and bought something there. I tried to pay for it with an American Express card.

WARREN BUFFETT: Uh huh.

AUDIENCE MEMBER: And they told me, just like the ad, you can’t use it here. I hope you’d both comment on that or at least one of you. But my real question is that I just stumbled across the idea of intellectual capital and how that might be useful in valuing a business. I was hoping that one or both of you could clarify that for me and whether that’s useful to us as investors or just another academic theory that we’d be better off ignoring.

WARREN BUFFETT: Yeah. Harvey Golub, who runs American Express and has done a terrific job of running it, has written me about the Furniture Mart as well as about See’s. We basically let our managers run their own businesses. The people at each entity — Borsheim’s takes American Express; others of our businesses do, too. We let every manager make his decisions. As soon as I start telling the managers that they ought to, say, take American Express or not take Visa or whatever it may be, at that point, they’ve lost some of the responsibility for their operations and, perhaps, even some of the pride that comes from running them.

Most of our managers do not need to work for a living. They run their businesses for the same reason Charlie and I run Berkshire. They love doing it. They jump out of bed in the morning because it’s exciting to do. The one thing that would keep the two of us, or drive the two of us away from Berkshire, is if we were getting second-guessed all the time or somebody else was telling us when to swing or not to swing. We would have no interest in running it. We’d go do something else then. And maybe our other managers aren’t as extreme as we are in that respect, but we feel they’ve built successful businesses. They know how to do it.

We do allocate the excess capital they generate, but aside from that, we really let them make their own decisions. So we have no companywide policy on virtually anything that I can think of, except send money to Omaha. But we’re delighted to have American Express give the Furniture Mart the reasons why the Furniture Mart will be better off using American Express. My guess is they have some very good reasons. But they’re going to have to sell them on that, just like any vendor of anything has to sell each operation. We wouldn’t tell the people at See’s who to buy the nuts from, or who to buy the container from, or anything of the sort, how to design the stores, or whatever it may be. That’s just the Berkshire philosophy on that.

Charlie, you want to comment?

CHARLIE MUNGER: Yeah. Let me shift to intellectual capital. Berkshire has a lot of intellectual capital in these very able executives in the various businesses. We hope we’ve got some intellectual capital in the few hundred square feet at headquarters. But we are not in the business of designing oil refineries with armies of engineers or developing software with armies doing complicated accounting work all over the world. We just haven’t drifted into that kind of a business. Intellectual capital has gotten to be a new buzzword because we’ve now developed huge businesses like Microsoft, which really didn’t exist on that scale not so very long ago. People have suddenly realized, my God, there’s really a lot of money in the aggregation effects and momentum effects when you get a bunch of really bright people working in the same direction. That’s what’s made the concept so fashionable. By and large, we’ve avoided the field. Again, it’s hard for us to understand.

WARREN BUFFETT: Yeah. We look for brains, energy, and integrity in people that we work with. If you get that combination and you’re in a decent business, you can own the world. Whether you call it intellectual capital or anything — you can stick the names on it. That’s who we try to associate with. It’s a lot easier than doing it yourself. When we get, in our own businesses — you saw that group there at the end of the movie — I mean, that’s a huge asset to Berkshire. They talk about getting into accounting for it. That’s nonsense in my view. You don’t need to do that. But you should pay for it. You should pay for it as shareholders. You should pay for it as managers. When we get people, whether it’s Tom Murphy, Al Zeien at Gillette, Roberto Goizueta, or Michael Eisner, those people have added billions of dollars of value. It’s just — you know, that’s who we want to be associated with. We don’t want to be associated with mediocre managers because the difference is huge. We don’t go through an elaborate exercise. We just recognize the people who have those qualities. And then, if they’re in a good business and they’ve got those qualities, we want to take a big bite.

CHARLIE MUNGER: But take intellectual capital. People think patents. They think copyrights. Patents and copyrights have gotten to be way more valuable as a percentage of the investment assets of the world. So people are very much more interested in intellectual capital. Think of the great drug companies and how small they were 20 years ago and how everything they have is basically intellectual capital. It’s the few products that really work that have the patents. But by and large, we’re not in drug companies.

WARREN BUFFETT: No. But there are different forms — as Charlie said, there are businesses you sort of think of that way as their whole being being intellectual capital. But I would argue that when Roberto Goizueta, 15 years ago, saw how to make the future of Coke — same product — dramatic — and basically the same system, although it required some changes — but saw how to make that dramatically more valuable by doing a lot of little things over a long period of time and doing them consistently and not getting his eye off the ball. Michael Eisner did the same thing. Disney hadn’t gone anyplace, you know, in the 15 years or so after Walt died. Now, you know, we all knew who Mickey Mouse was and everything. But Michael really saw what the future should be. He still does, you know. You say it’s easy when it’s all over. But how many people were doing something about it at the time? The place was languishing, basically, 15 years ago. They had the assets. To me, that’s different than what Bill Gates does or Andy Grove does. But it’s our form of intellectual capital. It’s what we can understand better.