Buffett
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When Susie was onstage, Buffett would watch with a beatific expression, as if overcome by rapture. He told a friend, “When Susie sings, it is so beautiful I can’t breathe.”26
Buffett would make similar doe-eyed remarks about their offstage lives. He often commented that he had been unhappy until he had met Susie, or that he wouldn’t have turned out well without her.27 As a couple, they did not fit a normal pattern. Though their interests, and increasingly their schedules, were separate, Buffett remained extremely attached to her. Even now, she would nestle next to him and take his hand in public as though they were teenagers. Knowing that she was his muse, she seemed incapable of saying no to him.28
Buffett’s companionship with Kay Graham contrasted markedly. She depended on him, owing to her lack of financial experience, and also to her insecurity. And Buffett was helpful to her, as he was, if on a lesser scale, with other colleagues. He was intent on making a profit in the Post Co., of course, but that hardly diminishes the fact that he was animated by Graham, and that he was personally quite generous with her.
Stan Lipsey, the publisher, observed Buffett and Graham together on a trip to Niagara Falls. “I don’t know the answer,” Lipsey said, “but I didn’t get the vibes you get from people who are sleeping together. Kay is very powerful, and also very shy. Nine hundred and ninety-nine out of one thousand people would think twice about what they are saying to her. Warren didn’t. And they became confidants.”
It is doubtful that either “answer” would explain why Buffett thrived in the relationship. The annual reports that he brought her probably had more to do with it. Buffett delighted in playing the teacher, as he had in his letters to his partners, and Graham was a very intriguing, very receptive student. A Post director said, “It was kind of goofy. She would have these pre-meeting dinners. And we’d all leave. And Warren wouldn’t go. I never saw anything sexual about it.”
What executives did see was that the Buffett-Graham alliance had a far-reaching impact on the business, and ultimately on Buffett’s investment. It was impossible to get Graham to open her checkbook, a fact that they blamed, quite rightly, on Buffett. Joel Chaseman, the head of broadcasting, had a chance to buy a television station in Orlando, before the city’s full explosion as a mecca for tourists, for $120 million. “It was a hell of a buy,” he noted. “You could already tell it would be a great market. But somewhere in the murk and mist of the upper levels of the corporation it got turned down.”
Murk and mist? Graham had called Buffett, who said it was overpriced.29
The litany of such forgone chances drove Post executives to despair. Buffett was cool to cellular and to cable TV because they required a lot of capital.30 (The reason he had invested in the Post was that its publishing and television properties—as distinct from, say, an airline—produced free cash flow. The profits were not sucked back into the business.) He was skeptical of start-ups and of new technology because they were, well, new. They’d be like switching from hamburgers to foreign foods.
If Buffett couldn’t see a business, he wasn’t comfortable with it. It wasn’t enough for him to get an expert’s assurance on a new project, which is what the typical executive relies on. If he didn’t understand a venture—he, personally—he felt that he’d be speculating. And Buffett wouldn’t do that.
Graham’s dependence on Buffett caused the Post to miss some opportunities. Tom Murphy, the self-assured CEO of Cap Cities, also conferred with Buffett, but adopted his suggestions selectively. But Graham, who presided over a revolving door in the executive suite, went to Buffett even on matters that were outside his expertise. And Buffett’s conservatism came to permeate the board.
Chaseman, who before joining the Post had launched the all-news format at WINS radio in New York, proposed in the late seventies that the Post start an all-news cable program. Ted Turner was developing the same idea. At the Post it never got past the first board meeting. “I don’t think they were prepared to buy anything. It was the antithesis of an entrepreneurial company,” Chaseman said. He was so frustrated that he tried to spin off the Post’s broadcasting unit into a separate company. Mark Meagher, the Post’s president, wrote a long letter when he resigned, urging that the Post go private—since, as he saw it, there was no point in such a stodgy company holding public capital. Richard Simmons, who replaced Meagher, dryly remarked after yet another proposal had been killed, “The sage of Omaha has spoken again.”31
The funny thing was, the Post executives didn’t really dispute Buffett’s reasoning. Meagher, in a comment that is typical of the bunch, says, “I didn’t disagree. Prices were high.” Also, on a personal level, the executives found Buffett impossible to dislike. Simmons, like some of the others, made a pilgrimage to Omaha, a trip that invariably included a steak dinner, a leisurely tour of Buffett’s childhood haunts, and an earful of his wisdom.
Buffett didn’t say much during the Post’s board meetings. But occasionally a comment would spark him. At one meeting, Jeffrey Epstein, a young M.B.A. who was scouting for new fields of investment, gave an overview of what consumers were spending in each part of the media and entertainment industry. His figure for home entertainment was $5 billion.
Buffett’s bushy eyebrows went up about three feet. “That $5 billion is a pretty interesting number,” he noted. “That means if there are twenty million teenagers in the United States they are all spending $20 every month on video.” That was how his mind worked: numbers, numbers. It was suddenly clear that Epstein’s figure, if true, was unsustainable. Needless to say, the Post did not go into video.‡
It is striking how little the Post did do during Buffett’s tenure on the board. Over eleven years, it started and folded a sports magazine; it bought a newspaper in Washington state and sold one in Trenton; and it acquired small interests in cellular phones and other areas, some of which were subsequently sold. But 98 percent of the profits derived, as before, from the Washington Post, Newsweek, and four television stations.
Meanwhile, its revenue grew at a solid but unspectacular rate of 12 percent a year. The only dramatic change was in the level of profitability. In 1974, the company earned an operating profit of ten cents for each dollar of sales; in 1985, the figure was nineteen cents. Similarly, the return on equity doubled.
Of course, the Post would have won the newspaper war in Washington without Buffett. And he had little to do with the doubling of profit margins at its television stations.
His main contribution came after the profits had been earned. Buffett gave the Grahams a way of thinking about the business that was oriented to the shareholders, and at a time when media companies were devoted to acquiring empires. He insistently reminded them—as he had Ken Chace, so many years earlier, outside the textile mill—that size was not the goal; the return to shareholders was. Opportunities were missed, but he saved the Post from the business error that is truly a tragic error—throwing the profits from a good business into a bad one.
Instead, at Buffett’s urging, the Post used its excess cash to retire 7.5 million of its own shares, or about 40 percent of the total. Net profits grew seven times over, but the earnings per share—the cheese on each slice—grew by a factor of ten.
Of course, media companies in general were prospering in those years. But by the single yardstick that mattered to Buffett—translating the profits into rewards for the investors—the Post outclassed the field.
Consider that over those eleven years, 1974 to 1985, the Post earned an extraordinary average of twenty-three cents for each dollar of the shareholders’ capital. Cap Cities and Times Mirror each earned a none too shabby, but inferior, nineteen cents.
The Post’s stock rose at the astounding compound rate of 35 percent a year. With dividends, the total return was 37 percent a year. Cap Cities did a heroic 32 percent, and Times Mirror a still-impressive 24 percent. But the Post was better. And by the end of 1985, when Buffett would leave the board, Berkshire’s $10 million investment would be worth $205 million.
However, by the early seventies, Davidson had retired and GEICO had new management, led by Ralph C. Peck. The climate had also changed; insurers were being battered by new no-fault laws and rising inflation. Peck, trying to grow his way out of such problems, relaxed the company’s historic policy of accepting only the lowest-risk drivers—even while maintaining its generally low prices.32 Inevitably, premium volume soared and the cash poured in.
For a while, all seemed rosy. Alas, GEICO’s higher-risk drivers, not surprisingly, were filing more claims. Moreover, inflation was raising the cost of fixing the bodies and cars that GEICO was insuring.
To compound the problem, GEICO’s management didn’t adequately reserve for losses. For a critical fifteen months in 1974 and 1975, the company denied, belittled, or lied about the problem—both to Wall Street and to itself.33 Lorimer Davidson, still on the board, bitterly complained as the company was wrecked. But even he did not suspect how bad it was.
We found out when the board retained an independent actuarial firm. We got the report the day before Christmas, 1975. It was some Christmas present. We had $50 million to make up—to our horror—and we didn’t have the money.
Early in 1976, GEICO announced a staggering $126 million loss for the previous year. As recently as 1974, the stock had hit a high of 42. Now it was quoted at 4⅞.
Buffett had long since sold his small holding in GEICO, but he had harbored a secret desire to revisit the company in a big way, just as he had the Washington Post.34 For someone so rational, Buffett was sentimental about his past (though not so misty-eyed as to invest in GEICO when the stock was dear). But now, GEICO was cheap. What’s more, it was in deep trouble. And Ben Graham, who had been chairman of GEICO when Buffett had been at Columbia, still had his savings in it. Helping to salvage the company would be a sort of double fantasy: following in Graham’s footsteps and rescuing his company.
Graham was then living quietly and modestly with his mistress, Malou, part of the year in La Jolla and part in Aix-en-Provence. At his eightieth-birthday party, when his family gathered in La Jolla, he movingly looked back on his life, without mentioning his career on Wall Street. He spoke of the pleasure he had gotten from beauty, literature, and art, and also from varied female companions, and recalled, as a boy, seeing Mark Twain in his later years, “resplendent in his white suit and curly white hair.”35 However, Graham had not lost interest in stocks. He had an account in La Jolla, and though he rarely traded, the father of security analysis would go to his broker’s and sit unobtrusively at a corner desk, reading his beloved Standard & Poor’s. A broker who visited Graham found a book of Greek on his desk and a Rodin sculpture in the living room.36
At about the time of GEICO’s troubles, Graham asked Buffett to coauthor a revised edition of The Intelligent Investor. They corresponded, but Buffett found that he and his teacher had some basic disagreements. Buffett wanted a section on how to identify “great businesses” (such as See’s Candy); Graham didn’t think the average reader could do it. Also, Graham recommended a ceiling of 75 percent of one’s assets in stocks; the gamer Buffett was willing to invest his whole kitty if prices were right.37 Buffett felt so strongly that he gave up being Graham’s coauthor and instead was simply acknowledged inside the book as a “collaborator.”
Ironically, no stock was as suggestive of their philosophical rift as GEICO. Graham would have said that it lacked a margin for safety—which, given that the company was on the verge of failure, it certainly did. Buffett sensed an opportunity if the management could be righted, and he was following its drama closely.
In April 1976, when GEICO held its annual meeting, four hundred shareholders jammed into the Washington Statler Hilton, where they all but hooted the officers off the premises.38 Within a month, Peck was booted out, and John J. Byrne, Jr., a forty-three-year-old veteran of Travelers, was tapped to succeed him. Byrne moved with exceptional force. In New Jersey, he visited James J. Sheeran, the state insurance commissioner, to demand a rate increase. When it was clear that Byrne was getting nowhere, he pulled a paper from his pocket, slammed it on Sheeran’s desk, and said, “Here’s your fucking license. We are no longer a citizen of the state of New Jersey.” Then he summarily fired seven hundred employees and notified 300,000 policyholders in the state to find another insurer.
Nationwide, Byrne closed one hundred offices and cut the workforce nearly in half.39 But it wasn’t enough. The insurance superintendent in Washington, D.C., was threatening to shut him down unless GEICO could get other insurers to pick up a portion of its policies (providing what is known as reinsurance). Byrne appeared to have gotten their okay, but early in July, State Farm, the industry leader, backed out on him, as did Travelers.40
GEICO’s fortunes were now at a low. Buffett was acutely interested in getting involved—though, as usual, he had someone else smooth his entree. Kay Graham, doing his bidding, called Byrne and said, “I have a houseguest I’d like you to meet.” Byrne said some other time. Then Byrne got a call from Lorimer Davidson, GEICO’s elder statesman, who asked if it was true that Byrne had snubbed Warren Buffett. Hearing that he had, Davidson snapped, “How can you be so dumb? Get your ass down there.”
Byrne showed up at the Graham mansion in July, the night before a Post board meeting. GEICO’s stock was at 2.§ This once seemingly invincible company was on the brink of becoming the biggest failed insurer ever—in Buffett’s words, “the Titanic of the insurance world.”41
As Buffett led Byrne to the stately, high-ceilinged library, he had an eerie recollection of when he had banged on GEICO’s door twenty-five years earlier and been led by a janitor to Lorimer Davidson. Though his circumstances were vastly changed, his modus operandi was not. Once more, he was eager to learn all he could about GEICO. As the ruddy-faced Byrne recalled, Buffett pumped him for hours.
We talked to maybe 2:00, 3:00 A.M. He wanted to know the things I would do. What did I think of our ability to survive? I remember we talked late at night about families, other stuff. But mostly the conversation was GEICO. I’m sure I did 80 percent of the talking.
There was little Byrne could tell Buffett that he didn’t already know. GEICO had the same low-cost method of operation (based on not having sales agents) that had always given it an edge. In rough terms, GEICO spent fifteen cents of each premium dollar on expenses, whereas other insurers spent an average of twenty-four cents.42 This enabled GEICO to charge less, and thus be more selective about choosing customers. In recent years, of course, GEICO had abandoned this surefire formula. But its underlying cost advantage was intact. Buffett figured that if it survived the present crisis, its profitability would return.
Buffett’s genius was to see this even when GEICO was in total chaos and on the verge of bankruptcy. Like American Express in the sixties, it was “a magnificent business going through a time of trouble.”43 And even in that troubled time, he could envision the storm’s passing.
On this evening, Buffett wanted to take the measure of Byrne personally. And Byrne impressed him. He spoke like an owner as distinct from a manager or bureaucrat. He was decisive and energetic, as the crisis required. Perhaps he was too volatile to lead the troops in peace. But as a wartime general, Buffett thought him a brilliant choice.
I didn’t ask, “How long is it going to take, Jack?” In the end, you can’t predict. [But] Jack clearly understood the dimensions of the problem.44
Somehow, Byrne would get it done. And if he did, the stock could prove to be a tremendous bargain—maybe even better than that.
Byrne said later, “That night at Kay’s was the turning point.” But GEICO was far from out of the woods. It needed, first, to convince the regulators to give it time, and second, to persuade competitors to provide it with reinsurance and thus limit GEICO’s exposure to losses.
Buffett took a piece of the reinsurance for Berkshire, and also paid a call on Maximilian Wallach, the D.C. insurance superintendent.46 In essence, Buffett argued that if Berkshire thought enough of GEICO’s future to stake a few million bucks on it, maybe Wallach shouldn’t be so quick to close it down.
Byrne, meanwhile, got other insurers to agree to take the reinsurance—but only with a big “if.” As part of the deal, GEICO had to raise new capital. Byrne went to eight firms on Wall Street and was bounced out of every one. In desperation, he turned to Salomon Brothers, a still-smallish trading firm.
John Gutfreund, Salomon’s blunt-spoken second-in-command, had already rejected GEICO. However, a junior research analyst named Michael Frinquelli had invited Byrne to give a presentation to Salomon over lunch. Since Byrne was going to be in the building anyway, Gutfreund agreed to let him come by his office when he was done.
When Byrne sat down, Gutfreund removed his cigar and gave him a pouting sneer. “I don’t know who’d ever buy that fucking reinsurance treaty you’re trying to sell,” Gutfreund said.
Byrne, answering in kind, replied, “You don’t know any fucking thing you’re talking about.”47