***Update: Separated this post into Part I & Part II. The bottom half of the original version of this post is now in Part II.***
In an interesting exchange at the 2013 Berkshire Hathaway (BRKa) shareholder meeting, Warren Buffett and Charlie Munger made it clear that, for them, the numbers play a lesser role than some might otherwise think when it comes to picking stocks.
Their focus is on how a business (whether buying an entire business or shares of the business) will be doing in ten years or so. For Buffett and Munger, it's about what the competitive advantages will look like many years from now.
Here's part of the exchange as summarized by the Wall Street Journal's live blog of this year's meeting:
"We are looking at businesses exactly like we are looking at them if somebody came in and asked us to buy the whole business," Buffett said. He said they then want to know how it will do in ten years.
Munger was even more forceful: "We don't know how to buy stocks by metrics ... We know that Burlington Northern will have a competitive advantage in years ... we don't know what the heck Apple [AAPL] will have. ... You really have to understand the company and its competitive positions. ... That's not disclosed by the math.
Buffett: "I don't know how I would manage money if I had to do it just on the numbers."
Munger, interupting, "You'd do it badly."
It's mostly not about the numbers but I'm guessing at least some who hear or read this don't completely believe it. There's got to be more of a heavy numerical emphasis in their analysis, right?
Maybe those who don't quite buy this are picturing instead something like these huge proprietary Berkshire spreadsheets, other complex analytical tools and methods, that they just aren't willing to reveal.
That's simply not the case. Most of what matters whether buying pieces of businesses (in the case of marketable stocks) or buying entire businesses can't be seen in the numbers. Consider this Wall Street Journal article from a while back on how Buffett likes to operate:
He keeps no calculator on his desk, preferring to do most calculations in his head. "I deplore false precision in math," he says, explaining that he does not need exact numbers for most investment decisions.
There's also the following comment from Charlie Munger during his 2003 UC Santa Barbara speech that I've referenced before:
"You've got a complex system and it spews out a lot of wonderful numbers that enable you to measure some factors. But there are other factors that are terribly important, [yet] there's no precise numbering you can put to these factors. You know they're important, but you don't have the numbers. Well practically (1) everybody overweighs the stuff that can be numbered, because it yields to the statistical techniques they're taught in academia, and (2) doesn't mix in the hard-to-measure stuff that may be more important. That is a mistake I've tried all my life to avoid, and I have no regrets for having done that."
Understanding competitive advantages and whether they will remain in place for a very long time matters a whole lot. Yet much of what's important in this regard just isn't quantifiable or, at least, can't be measured very well.
Naturally the numbers matter to an extent. It's just that some assume that valuations need to be estimated with precision via complex methods. That's just not the case. In fact, with investing it is the simple methods that are often more useful. Approximate value does have to be estimated in a meaningful way but doesn't require a bunch of complex calculations and higher forms of math. Additional unneeded complexity often just leads to precisely the wrong answers.
A good understanding of accounting is, of course, rather very important. Unfortunately, the accounting numbers are only a starting point and have to be translated into something economically meaningful. That's not necessarily an easy thing to do consistently well.
There are many ways to misjudge a business if an investor doesn't know how to read and interpret what's in a 10-K, 10-Q, and other SEC filings.
So understanding financial statements is important yet much of what matters in investment analysis is not going to be found in the numbers.
I'll get to more from the meeting in a follow up.
Long positions in Berkshire (BRKb) and Apple (AAPL) established at much lower than recent prices
2013 Berkshire Shareholder Meeting - Part II (follow up)
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