Author Topic: Berkshire Hathaway Structure Choice  (Read 1441 times)

The Investor

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Berkshire Hathaway Structure Choice
« on: May 02, 2018, 10:37:21 AM »
I'm trying to figure out why it made sense to for Warren Buffet / Charlie Munger to have Berkshire Hathaway as their investment vehicle.

Buying Berkshire instead of a high quality insurance operation was itself a mistake according to Buffett, but that's beside the point.

When Buffett closed his partnership and decided to make Berkshire his vehicle of choice, he had a lot investors in the company who have gotten a free ride of sorts up to this day, as top management is not extracting any kind of fee, other than a nominal salary. Tod Combs and Ted Weschler receive substantial bonuses, when Buffet and Munger do not. I'd be interested to understand the rationale behind that.

If it's harder to make a 20% return on $4b than it is on $1b, then it even comes at a personal cost to have a 25% stake in a $4b "investment corporation" vs a 100% stake in a $1b "investment corporation".

On the other end of the spectrum you have the practices by management of Biglari Holdings, extracting massive fees for management. Somewhere in between are Greenlight Capital/Greenlight Re, setting itself up to profit from investment of insurance float, but taking a cut for management, and Fairfax India, which also extracts management fees.

So back to the original point...
1) Why no fees? Why does it make sense for Fairfax India to charge fees, but not for Berkshire (if this is even the case!).
2) Berkshire and some other companies were merged. Technically speaking, what was the reason it didn't make more sense to have an investment vehicle owned 100% by Buffett, Munger & Co.
 
Interested to hear your thoughts!


 


Jurgis

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Re: Berkshire Hathaway Structure Choice
« Reply #1 on: May 02, 2018, 11:31:39 AM »
Berkshire structure - a company holding investments - makes very little sense from tax standpoint. It started to make more sense when it became (re)insurance company and started holding operating businesses. Munger (and Buffett?) has said this repeatedly. And yet there are still people doing this...

Everyone apart Buffett charges fees, since everyone likes to get paid - the more the better. Buffett is one of very few people who believes that he's paid enough through his stockholdings and does not need to charge extra salary/fees/etc.
"Before you can be rich, you must be poor." - Nef Anyo

John Hjorth

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Re: Berkshire Hathaway Structure Choice
« Reply #2 on: May 02, 2018, 11:37:59 AM »
Mr. Buffett has been an opportunistic cameleon all his life. He has mastered several investing techniques during his life with absolutely stunning grade of success, all based on his AUM and his market assessment at a given point in time. He wasen't excatly working for a nominal fee in the early days, but everybody involved were happy - to the extremes.

Reading the Snowball uncovers a lot of his approach and investment angle at a certain point in time.
« Last Edit: May 02, 2018, 11:41:21 AM by John Hjorth »
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longinvestor

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Re: Berkshire Hathaway Structure Choice
« Reply #3 on: May 02, 2018, 11:42:14 AM »
Great post. One worth asking the man himself.

My sense is that it has to do with a deep down attitude of wanting to please and positively surprise. And never get fired for failure. With a gravity defying performance until 1969, anything less would be failure. In the late 1960’s he started to the see the mathematical improbability  that fees brings along with it. So he chose a vehicle that meant his partners couldn’t fire him. That also meant that they could leave anytime. It’s Kinda like his advice to choose a spouse who has low expectations versus looks or money.He simply chose fun.
« Last Edit: May 02, 2018, 11:47:50 AM by longinvestor »

globalfinancepartners

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Re: Berkshire Hathaway Structure Choice
« Reply #4 on: May 02, 2018, 12:20:39 PM »
How is Greenlight Re any better than Biglari Holdings' comp structure?  Or fairfax india for that matter?

John Hjorth

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Re: Berkshire Hathaway Structure Choice
« Reply #5 on: May 02, 2018, 12:30:11 PM »
Great post. One worth asking the man himself.

My sense is that it has to do with a deep down attitude of wanting to please and positively surprise. And never get fired for failure. With a gravity defying performance until 1969, anything less would be failure. In the late 1960’s he started to the see the mathematical improbability  that fees brings along with it. So he chose a vehicle that meant his partners couldn’t fire him. That also meant that they could leave anytime. It’s Kinda like his advice to choose a spouse who has low expectations versus looks or money.He simply chose fun.

A great post by longinvestor here. If you confer some of the latest BPL letters from Mr. Buffett with the contents of the 50th anniversary letter from Mr. Buffet, I think you'll get what I mean.
”In the race of excellence … there is no finish line.”
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globalfinancepartners

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Re: Berkshire Hathaway Structure Choice
« Reply #6 on: May 02, 2018, 01:16:06 PM »
The structure was an accident of history.  No fees because he was already wealthy and truly wanted to get wealthier alongside his investors, rather than "off of them."  A lot of people say that line, but Warren is the only one I've seen actually do it.  I personally manage large sums for a few people for no fee - it actually costs me money - but I can't do that for everyone.

So much of what they do - the $50,000 reimbursements for "postage" and personal use of secretarial services, etc - is just to set a good example.  They can afford to do that.  The ridiculously low salary is to set an example by using an extreme.  He doesn't think Jaime Dimon should get $100k, he is using an extreme to set an example.

Berkshire is an accident of history, but the track record and communications record are all in one place.  It's his painting, as he says.  It is valuable for his legacy to have a single long term repository of his life's work and the scorecard.

To answer my own question a few posts ago: Fairfax India, Greenlight Capital Re, Third Point Re, etc, ALL have more egregious and costly fee structures than the one shareholders of Biglari Holdings are paying.  The only difference is that investors put up their money with that fee schedule fully disclosed ahead of time.  It was their money and they chose to pay the fees.  Biglari chose to add fees (however competitive with the above examples) on other people's money, after the fact.  And that is - one of the many things - that rubs people the wrong way.


Quote
So back to the original point...
1) Why no fees? Why does it make sense for Fairfax India to charge fees, but not for Berkshire (if this is even the case!).
2) Berkshire and some other companies were merged. Technically speaking, what was the reason it didn't make more sense to have an investment vehicle owned 100% by Buffett, Munger & Co.
 
Interested to hear your thoughts!

Cigarbutt

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Re: Berkshire Hathaway Structure Choice
« Reply #7 on: May 02, 2018, 01:39:49 PM »
The above comments are all interesting and relevant.
Would like to add:

In the 1965-75 period, Mr. Buffett was entering a transition characterized by:
-size getting larger
-not finding value
-moving from cigar butt plays to opportunistically paying reasonably for quality growth
-concerned that his results would disappoint

The following link contains some relevant info that helps to understand why Mr. Buffett put money in Berkshire Hathaway first as a temporary play and then decided to use it as a runoff vehicle that eventually formed the basis of his investment structure while overseeing different operating entities. In the early 1970's the corporate structure was quite complex but eventually the structure was simplified.

http://static1.squarespace.com/static/56e34fd9e707eb512223f372/56e89b00fd211959539d959d/56e89b02fd211959539d964d/1458084610570/Prologue-Why-did-Warren-Buffett-buy-Berkshire-Hathaway-in-1965.pdf?format=original

It seems that the priority was not setting a fee structure. Mr. Buffett's goal was to put in place the most efficient structure to grow, with him at the helm and with "permanent" capital.


« Last Edit: May 02, 2018, 01:41:49 PM by Cigarbutt »

John Hjorth

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Re: Berkshire Hathaway Structure Choice
« Reply #8 on: May 02, 2018, 01:56:09 PM »
...I personally manage large sums for a few people for no fee - it actually costs me money - ...

Off topic: H/T to you, globalfinancepartners. Those like you are seldom - very seldom. I just upped my "seldom number" from 2 to 3 with regard to CoBF members!
”In the race of excellence … there is no finish line.”
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The Investor

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Re: Berkshire Hathaway Structure Choice
« Reply #9 on: May 03, 2018, 03:33:54 PM »
Thanks everyone for your input.


Regarding this:

Berkshire structure - a company holding investments - makes very little sense from tax standpoint. It started to make more sense when it became (re)insurance company and started holding operating businesses. Munger (and Buffett?) has said this repeatedly. And yet there are still people doing this...

Everyone apart Buffett charges fees, since everyone likes to get paid - the more the better. Buffett is one of very few people who believes that he's paid enough through his stockholdings and does not need to charge extra salary/fees/etc.

I haven't seen it explained why this is the case though. In the UK it does make sense to own shares through a company rather than directly, as you can defer tax on dividends until you pay them out to yourself. So if you personally receive dividends, you pay tax immediately, but if you receive them within your company, you can reinvest them rather than paying them through to yourself, thus deferring the tax. I presume it must work differently in the US.

https://www.taxation.co.uk/Articles/2015/02/24/332718/all-wrapped

As an aside, I believe it's also the case in the UK that insurance companies pay tax annually on mark to market increase in value in their share portfolio, so tax on gains can't be deferred by choosing not to sell.