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2016: Why does Berkshire now invest in capital-heavy, not capital-light, businesses?
CAROL LOOMIS: This question comes from Eli Moises.
“In your 1987 letter to shareholders, you commented on the kind of companies Berkshire likes to buy, those that required only small amounts of capital. You said, quote, ‘Because so little capital is required to run these businesses, they can grow, while concurrently making almost all of their earnings available for deployment in new opportunities.’
“Today the company has changed its strategy. It now invests in companies that need tons of capital expenditures, are overregulated, and earn lower returns on equity capital. Why did this happen?”
WARREN BUFFETT: Yeah. Well, it’s one of the problems of prosperity.
The ideal business is one that takes no capital, but yet grows, and there are a few businesses like that, and we own some.
But we are not able — we’d love to find one that we could buy for $10 or $20 or $30 billion that was not capital intensive and we may, but it’s harder.
And that does — that does hurt us, in terms of compounding earnings growth, because, obviously, if you have a business that grows and gives you a lot of money every year and doesn’t take it — it isn’t required in its growth — you know, you get a double-barreled effect from the earnings growth that occurs internally without the use of capital, and then you get the capital it produces to go and buy other businesses. And See’s Candy was a good example of that. I’ve used that.
Back when the newspaper business was good, our Buffalo newspaper was, for example, was a good example of that. The Buffalo newspaper was making, at one time, $40 million a year and had no capital requirement, so we could take that whole $40 million and go and do — go buy something else with it.
But capital — increasing capital — acts as an anchor on returns in many ways. And one of the ways is that it drives us into — just in terms of availability — it drives us into businesses that are much more capital intensive.
You just saw a slide, for example, on Berkshire Hathaway Energy, where we just announced, just in the last couple of weeks, we announced a $3.6 billion investment coming up in wind generation. And we pledged overall to have $30 billion in renewables.
Anything that Berkshire Hathaway Energy does, anything that BNSF does, takes lots of money. We get decent returns on capital, but we don’t get the extraordinary returns on capital that we’ve been able to get in some of the businesses we acquire that are not capital intensive.
As I mentioned in the annual report, we have a few businesses that actually earn 100 percent a year on true invested capital. And clearly, that’s a different sort of operation than something like Berkshire Hathaway Energy, which may earn 11 or 12 percent on capital — and that’s a very decent return — but it’s a different sort of animal than the business that’s very low capital intensive — intensity.
CHARLIE MUNGER: Well, when our circumstances changed, we changed our minds.
WARREN BUFFETT: Slowly and reluctantly. (Laughs)
CHARLIE MUNGER: In the early days, quite a few times we bought a business that was soon producing 100 percent per annum on what we paid for it and didn’t require much reinvestment.
If we’d been able to continue doing that, we would have loved to do it, but when we couldn’t, we got to plan B. And plan B is working pretty well. In many ways, I’ve gotten so I sort of prefer it. How about you, Warren?
WARREN BUFFETT: Yeah, that’s true. When something’s forced on you, you might as well prefer it. (Laughter)
But, I mean, we knew that was going to happen. And the question is, does it lead you from what looks like a sensational result to a satisfactory result.
And we don’t — we’re quite happy with a satisfactory result. The alternative would be to go back to working with very tiny sums of money, and that really hasn’t gotten a lot of serious discussion between Charlie and me. (Laughs)