Tuesday, July 26, 2011

Buffett on Absolute & Relative Performance: Berkshire Shareholder Letter Highlights

Warren Buffett wrote the following in the 2001 Berkshire Hathaway (BRKa) shareholder letter:

On Absolute and Relative Performance
Two years ago, reporting on 1999, I said that we had experienced both the worst absolute and relative performance in our history. I added that "relative results are what concern us," a viewpoint I've had since forming my first investment partnership on May 5, 1956. Meeting with my seven founding limited partners that evening, I gave them a short paper titled "The Ground Rules" that included this sentence: "Whether we do a good job or a poor job is to be measured against the general experience in securities." We initially used the Dow Jones Industrials as our benchmark, but shifted to the S&P 500 when that index became widely used. Our comparative record since 1965 is chronicled on the facing page; last year Berkshire’s advantage was 5.7 percentage points.

Some people disagree with our focus on relative figures, arguing that "you can’t eat relative performance." But if you expect - as Charlie Munger, Berkshire's Vice Chairman, and I do - that owning the S&P 500 will produce reasonably satisfactory results over time, it follows that, for long-term investors, gaining small advantages annually over that index must prove rewarding.

Buffett later added...

Though our corporate performance last year was satisfactory, my performance was anything but. I manage most of Berkshire's equity portfolio, and my results were poor, just as they have been for several years. 

On Alignment of Interests
Another of my 1956 Ground Rules remains applicable: "I cannot promise results to partners." But Charlie and I can promise that your economic result from Berkshire will parallel ours during the period of your ownership: We will not take cash compensation, restricted stock or option grants that would make our results superior to yours.
     
Additionally, I will keep well over 99% of my net worth in Berkshire. My wife and I have never sold a share nor do we intend to. Charlie and I are disgusted by the situation, so common in the last few years, in which shareholders have suffered billions in losses while the CEOs, promoters, and other higher-ups who fathered these disasters have walked away with extraordinary wealth. Indeed, many of these people were urging investors to buy shares while concurrently dumping their own, sometimes using methods that hid their actions. To their shame, these business leaders view shareholders as patsies, not partners.

Most compensation packages are still designed in a way that produces vastly different results for senior executives compared to the owners.

I'm realistic in that one cannot expect every senior executive to keep 99% of his wealth with no intent to sell in the business he/she runs. Yet, in too many public companies, senior managers have little skin in the game with compensation packages often structured such that effectively heads and tails is a win for them regardless of long run business performance and shareholder value creation.

Adam

Long position BRKb
---
This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
 
Site Meter