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Jacob McDonough

lines on the record: 63
first: 2023-09-01
most recent: 2023-09-01
sittings or episodes: 1
sources: podcast

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“Yeah, thank you. It's been a lot of fun. Thanks for having me on here. Easiest place people can find me is on Twitter at mcd underscore investments. I'm on Twitter there. I recently started doing a podcast myself, the 10K podcast, where I try to cover some of the early annual reports of businesses. So far I've done GEICO, some of the very early reports of General Motors and National Cash Register. Next, I'm going to try working on Teledyne. I'm in the middle of putting together some stuff on the reports of them. So that's on most places. You can find your podcasts, Spotify and Apple. But Twitter's probably the best place. But again, this was a lot of fun. It's an honor to be on your guys' podcast. This is a legendary one in the value investing community.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Stocks went down a value in the portfolio, but the businesses were earning money and compounding and stuff. Blue chip stamp itself, though, their stock price went down 77%, I believe, more than 75%. And it was a really tough period. And the valuation of Blue Chip got close to a third of book value and close to three times earnings, which is incredible because Blue Chip's book value was mostly made up of a stock portfolio controlled by Buffett and Munger in their prime. And then their earnings came from Seize Candy, which we talked about how great a business that is. So if you were sitting in 1974 and if you happen to have some excess cash on hand, you could have bought blue chip stock. You could have got a discount on Buffin Mugger managing your portfolio for you without having to pay any management fees or performance fees could have owned C's candy at a reasonable valuation. So you can pay high prices.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Crazy things can happen in the market for sure. I mentioned the stock did really well in the 60s. In the 70s, 73 and 74, the stock market went down in a major way, I think. I think like the Dow Jones was down 45%. It was a major hit. And Berkshire stock and blue chip stock were no exceptions. They went down quite a bit too. So from 1969 to 1974, five-year period, Berkshire stock went nowhere. In the meantime, it went up and then it crashed back down. But when the dust settled in 1974, it was at the same level as five years earlier. And Buffett's someone who's used to compounding money at high rates. So, I mean, five years of no stock price changes, a long time. And when you do read history, you might gloss over five years. But when you're sitting every single day, if you're checking your stock prices every day or maybe even minute by minute or something, I mean, five years is a long time, especially if you have investors to answer to. The business of Berkshire itself did really well over the time period. I mean, some of their”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Not really part of his purchase price, just the goodwill, even if it was maybe a hundred thousand dollars a goodwill he paid, that's all he really considered his purchase price in the acquisition. Just call it $100,000. It wasn't exactly that, but close. On that $100,000, you just got to make sure you earn an attractive return on that $100,000 from either bonds or from underwriting profits. And so that really changed my perspective on how to think as an investor. You know, if you're a minority investor, a passive investor, you don't have a chance to really grab those assets like Buffett did, but you can see what management does with it. And really, it made me think more from a business owner perspective. What are you actually buying? What is the capital of this business? How is it invested in? What is management going to do with it? Do they tell you what they're going to do or you can see their track record of what they've done? And it really changed my perspective. And I think that's what I learned the most about it. Maybe one more thing is reading history, studying history really hammers home.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, I really learned a lot. I learned a lot about specific industries like insurance and banking, just forcing yourself to write or talk about it helps you learn a lot too. Even if you don't write a book, just even note taking and forcing yourself to sit and think about what you're reading. I know me personally, sometimes I get in a groove of more passively reading things and not note taking. Then later you realize you don't retain quite as much. So doing the book helped me become a lot more active with my reading and notaking and all that coming on here helps as well being active with information. But the biggest thing I learned, I already talked about a little bit, but I'm going to repeat it just because for me, it was a major change of perspective. It might sound kind of simple, but the National Indemnity Purchase Price just how Buffett kind of threw, ignored the book value in terms of its purchase price because, again, just using round numbers, if he was going to have $10 million in a personal account of stocks or $10 million with an insurance company, that was a wash. It didn't matter. So that was basically like.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Leverage and liabilities. I met you earlier, the textile operation didn't really have much liability, so their return on assets was pretty close to their return on equity, which is also kind of rare. And so it's a business by business situation. I don't really go around too often like really paying much attention to return on assets, but it just really caught my eye like, wow, double digit return on assets are some of these cases more than 20% return on assets for this company that's got way too much cash on hand, it was it was very impressive, very unique”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Without any of that leverage, they still would earn really good returns on assets. And these businesses had a lot of cash on hand because I already mentioned C's, but the bridge is another good example. They weren't able to go build another bridge. So they just had all this cash piling up, nowhere to put it. It would have made for a great situation to join the Berkshire family. But still, even with all this cash piling up for all three of these businesses, their capital light, cash piling up, and return on assets was still great. So it just shows how good the economics were for these three businesses. And it just shows you how unique they were. Return on assets. A lot of people talk about for banks, but for a bank like 1 to 2% return on asset is pretty good because a bank has to rely on leverage through deposits. An insurance company has to rely on leverage through float like policyholder liabilities or else they wouldn't be good businesses. They'd probably be worse than the textile operation if they didn't have.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Return on assets was a very unique situation for maybe three, at least three of the businesses I studied seize candy, Detroit International Bridge Company, which was a toll bridge in Detroit, Michigan, Detroit to Canada that they tried to acquire. They bought the stock of it and they tried to fully own it, which we would have made for a great story in the Berkshire history. But someone outbid them and did really well with that asset over time. And then Pinkerton's a detective agency that gained a lot of infamy throughout the decades and going back even more than a century. And there was a lot of fictional detective novels written about the Pinkerton detectives and security guards and stuff like that. So those are three businesses I studied that just had really unique, very high return on assets. And that's just pretty rare to see that. So what that tells you is without any leverage, without any debt, without any benefits from accounts payable, again, from suppliers or deferred revenue from customers.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Still, it was still a high purchase price, even factoring that cost savings in. That was kind of minor. It was still a high purchase price besides that. But Buffalo Evening News was the leading newspaper in Buffalo at the time, but they did not have a Sunday paper. And Sunday was the time most people read newspapers. So it was a unique circumstance where just historically there was two newspapers in the town, weekdays, Buffalo evening news dominated. And then on Sunday, they didn't have a paper. So another paper kind of gained a large readership on Sunday. And so the first thing they did, they launched a Sunday paper when they bought the newspaper. And unfortunately, they had a couple tough years of losses because there were legal troubles, some lawsuits, some antitrust things about them opening a Sunday paper and some people worried that they were going to drive out the competition in town and maybe be a monopoly in town. But basically all across America, that's what was happening. Every town, most”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Early days, it was minor. And then as Berkshire grew, the sun newspaper didn't grow. So it very quickly was pretty irrelevant economically. But I think it's interesting that Buffett had experience as a business owner of a newspaper. I'm sure that helps in your knowledge as an investor there. So when Buffalo Evening News came along, he was an expert in the newspaper business. And a few things. Number one, Buffett, being a business owner of newspapers and kind of being an expert, he quickly realized that Buffalo Evening News was a private business for many, many decades family-run business. And he noticed they were paying too high a prices on newsprint raw material. Apparently they were sourcing it from a ton of different suppliers to make sure they always had it on hand in case if supplier went down on a strike or something. They wanted to make sure they were always safe. Buffett Munger, I guess they didn't weren't worried about that. So they took all their newsprint from one supplier and got a big discount on that. That was pretty standard how the business operated, industry operated back then. So they were able to save some money on that right away.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“You're absolutely right that this was unique, an outlier kind of valuation. And I think it's a good lesson that you can pay high prices, you can pay high valuations, but you have to, your confidence in the quality and durability of that business has to match that. So the higher price you pay, the more you better be sure that actually is a quality business and a durable business. There's plenty of businesses that seem strong but die out pretty quick. Or maybe you realize it really wasn't quite as strong as you thought. Or maybe some that you just kind of judge wrong. So the higher price you pay, the less marginal safety you have of whether you get that right or wrong. In this case, Buffett was, I think, another expert in the newspaper business. He'd own newspaper stocks for a while, but also Berkshire itself acquired a small newspaper in Omaha, the sun news sun newspaper. It always was a pretty minor piece of Berkshire from a earning standpoint and a capital amount of capital it took up standpoint, even in the very early”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Increases to customers as well. And so a big reason they grew was through price increases. And like I said, that really powered their growth for Berkshire in the 70s, really gave them consistent cash flow to go along with some of their cyclical insurance kind of businesses. And it was perfect for the Berkshire structure.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Competitors can't really grow into the West Coast, too. So it had a very strong competitive advantage and a strong brand known for quality on the West Coast. And they didn't take much capital to operate the business and had a ton of cash on the balance sheet. I think over half, I think half their assets on the balance sheet were cash and each year they're just spinning out more and more cash. So it was a perfect situation for a Berkshire structure company where that cash can move to Omaha, Buffett could reinvest it elsewhere. And they didn't have to physically grow locations of candy stores to really grow. And so I believe in the decade plus 10, 12 years that followed the acquisition, C's grew the revenue by about 13% per year, while their volume of candy sold only grew maybe 3%. And so that difference, three verse 13, the real difference there is price increases on the candy. Buffet Munger maybe thought there was untapped pricing power. And when inflation hits, they could kind of raise prices, pass along cost.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, you're right. To me, it doesn't look like that high of a valuation. You know, like you said, 11 times earnings and I had a lot of cash and it was a very strong growing business. So I know Buffett said it. It taught him to pay up for quality. But at the same time, especially compared to some valuations today, it doesn't seem like that lofty of a valuation. You're right. And what's interesting is C's struggled to grow. They were very, very strong on the west coast of the US, but they struggled to grow elsewhere. I don't know exactly why, but candy and chocolate seems to be one that different brands dominate different geographies in different countries, as opposed to maybe Coca-Cola or some other brands that Coca-Cola seems to do pretty well in a lot of different countries and geographies and all that. So C's was unable to really grow locations geographically. But on the flip side, that meant that their west coast position was pretty protected and pretty strong because if seas can't grow elsewhere,”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“They had to merge eventually. They were a little too intertwined and overlapping in terms of Berkshire owning, blue chip stock, and diversified owning, Berkshire stock and all that kind of thing. But all this story started from three failed businesses, basically. Diversified retailing, blue chip stamps in Berkshire, and they all kind of failed in this time period in my book cover. So I already mentioned blue chip trading stamps failed in this time period. The textile mill closed in 85. And then diversified retailing was actually a company that Munger.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, so Buffett and Munger met a number of years before this, but they really started collaborating with Blue Chip stamps and diversified retailing, and so I should give a little more background on that. And I'll do that. But Munger didn't really, I don't believe joined Berkshire officially until 1978 a number of years after Berkshire was already on its way. He became vice president in 1978. And the reason was diversified retailing merged into Berkshire in 78. And Blue Chip didn't merge into Berkshire until 1983. basically Munger owned some of diversified retailing along with Buffett and Munger owned some Blue Chip along with Buffett. So his blue chip stock became Berkshire stock. Same with diversified. And so through those mergers, that's how he obtained his holding in Berkshire. And that's when once those merged together officially, that's when he was officially vice president or on the board of Berkshire. They were very intertwined for a number of years, though. And that's kind of why.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Just leave and go to another insurance company. And if companies are price gouging, I mean, that's just an opportunity for a new company to kind of rise up and charge a more fair price. But even I think New Jersey was a little slow to grant price increases even on the normal voluntary policies. And so some of the annual reports of GEICO even mentioned regulators were thinking costs would go down some years because of changes in, say, I think they mentioned the 55 mile an hour speed limit rule changes in some states and gas shortages during this time period was a major difficult piece of that economic scene. They thought maybe that'd leave too less driving and therefore less accidents and maybe people would carpool more. So some people were predicting maybe like cost dropping lower in insurance and that was not the case. That didn't end up happening, but kind of highlights how underwriting can be a pretty tricky business guessing how cost will change over time.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Investments in the state, and just to leave it completely was a tough pill to swallow, but it really helped them get back to profitability. And it just kind of shows you how much leeway different states had in terms of regulator decisions. But I can see it being difficult from a regulator standpoint of maybe they got surprised or caught flat-footed from inflation. When you're living through it, it's tough to tell if it's like a temporary phenomenon or if inflation is going to keep running rampant for a few more years. It can be tough to forecast that, I guess. And so I can see why maybe regulators would be a little slow sometimes to react to high inflation in terms of the assign risk because you're dealing with drivers who have no other options really. But some states like New Jersey were slow to approve price increases even for voluntary normal drivers, which was rare because usually in regulators, I think we're pretty quick to approve those price increases because those kind of drivers could just leave if the prices are too high.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Help out those drivers obtain insurance by kind of forcing insurance companies to take that on through assigned risk or involuntary risk. So for GEIGO during this period, I want to say maybe five or six percent of their premiums, their revenue was from this assigned risk, this involuntary portion that regulators just sent to them on a state-by-state basis. Even though it was small, the five or six percent GEICO had was a major portion of their losses during this time period as well. And so one state in particular, New Jersey, was pretty strict and pretty tough on the fact raising rates and how much assigned risk they spread out. And so one of the first things Jack Byrne did actually when he took over Geico, he exited the state of New Jersey. They completely left New Jersey and that got rid of a major portion of their assigned risked policies. It was a tough decision because they spent decades trying to build up that business. They spent a lot on advertising.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, you're exactly right. 70s were a tough period. Inflation was a big reason. And there are some tricky ways that relates to the regulatory issues. And so in one sense, while I don't think I've talked about this yet, car insurance in particular has a few different types of policies they would take on. So voluntary insurance business is your standard type of business. It's like customers you choose to take on. That's pretty normal in business, but car insurance also had involuntary policies or assigned risk. And that meant regulators would assign policies to your company. And it was based, it was spread out to all companies based on how much revenue you had, how much size your company was, is kind of how those would get spread out to you. And basically that meant that bad drivers, drivers where insurance companies would think they're too risky to insure or at least too risky where they would have to charge very, very high rates, too high of rates to those kind of drivers. The government or regulators would.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“To partner with him to buy it, or maybe he could have taken on some reinsurance himself, too. So maybe there would be a way, but he definitely had some ways to kind of hedge it, at least in terms he wanted to put more capital in. But I'm not sure if at that point in time, if they're big enough to acquire Geico quite yet.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Just because one dude to size, but two doo, Berkshire's insurance companies were going through a difficult period as well. The whole insurance industry was going through some struggles then. And so you never know how long that kind of tough period is going to last as well. And maybe if it's going to get worse from there too, maybe like the Great Depression lasted 10 years. And I think that's why it sticks in people's mind so much compared to maybe there were some tougher periods that people forget about that were just quicker and people bounce back a little quicker so it gets forgotten about in history a little bit there and when you're living through it you don't really know if it's going to be something that maybe could bounce back quicker it's going to be a 10 year tough period where you got to really buckle in but with that being said maybe buffet's a creative smart guy maybe he could have figured out a way to acquire geico in terms of maybe he could erase capital he never really wanted to dilute his stake in Berkshire and raise capital but maybe he could have done that for a Geico maybe he could have found some creative financing or a partner to”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Capital he wanted to put into Geico. So, yes, that does. I mean, if the company needed more capital, Berkshire Buffett wanted to do that. He also Berkshire also took some of the reinsurance that Geico needed. So reinsurance is when a separate insurance company takes on some of the insurance policies of another insurance company. Basically, one insurer is taking out a policy from another insurance company. It's a way that GEICO, when they're in trouble and don't have enough capital, they can get rid of some of their risk. give it to other firms who have plenty of capital that want to take on some of that risk. So Berkshire was one of the many, there's many, many firms that did some of the reinsurance deal with GEICO at that time. And Berkshire was”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, you're right. It was a tough period, and two of Buffett's heroes had a major stake in Geico, Ben Graham made a fortune on the stock, and Lorimer Davidson, someone who he met with and taught Lormer Davidson taught Buffett a lot about an insurance in one faithful meeting. They had a major portion of their net worth in the business and a declined of 96% after making a fortune in it. It's tough to swallow. I mean, it was hanging by a thread and almost went into bankruptcy, so it was a tough period. But you're right. There was in terms of hedging, it is pretty interesting. In some ways, I would say yes, he definitely had some sort of hedge there, but maybe not fully because I think Geico had a public offering they raised capital and Berkshire did participate in that. They bought some of their steak through the offering of a convertible preferred stock. And Buffett wanted to buy more. He wanted to, he was willing to purchase the whole offering, I believe, but other investors wanted it too. So he wasn't able to get as much as he wanted in that offering. So in a sense, he had more.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, I'd say the biggest driver of expansion in the 70s was Sease Candy. Seize Candy itself kept growing, but it also didn't really need any capital even when it was growing. So all that, not only was it growing, but the cash it was producing was able to be sent elsewhere to be invested elsewhere. So C's Candy was definitely a very stable, important part of the growth story, especially in the 70s. Besides that, they made some really great stock investments. Some of their legendary investments and equity securities happen in the 70s.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“From that aspect, it was very long term debt. And then also, like I said, they had plenty of liquidity. So maybe like a blue chip stamps when they made an acquisition of Buffalo Evening News, they had enough stocks on hand, stocks and cash to make the acquisition, but they didn't sell those stocks. Maybe they would have to pay some taxes on the stocks that went up in value, and then they would have had less liquidity. They didn't sell their stocks. They didn't get rid of their cash to make the acquisition. They'd take out some debt and either over time they could feel confident either from cash flow from the businesses, the diverse group of businesses could pay off that debt, or they could sell some stocks over time if they needed to. They had some flexibility. But they valued the liquidity. They valued they didn't want to get rid of the stocks they had that where businesses that they liked, so they were willing to take on a little debt in those early days especially.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“One thing I noticed, it was pretty clear that Buffett and Munger really valued liquidity and flexibility over maybe being debt-free. They felt much more comfortable having a little debt with plenty of liquidity versus maybe drying up some liquidity but being debt-free. And so they did have more debt than I would have assumed. They had more debt than just I would have assumed from listening to the more recent annual meetings or reading some of the more recent letters. It was never too crazy of debt compared to maybe average corporations or some conglomerates out there that maybe get more aggressive with leverage or private equity or leverage buyout firms. They were never quite, they were still pretty conservative overall in terms of their debt, but they just had a little more than I would have assumed just from listening to the more recent times. But they always structured the debt to be very long term. So usually the debt wasn't due until 10 to 20 years out. So that gave them some flexibility.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Much better return on capital and much better growth prospects by 1969 and more diverse definitely than the early period too. So it was growing, but it was getting better and better over that time period as well. And the stock did pretty well through 1969.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, it did pretty well in the 60s. The 70s were a little more, there were some tougher times and a little more interesting to talk about, which we could talk about in a minute here. But in the 60s, it did pretty well. And so it had an evaluation around $12 million when he first invested. By the end of 1969, by the end of that period, it was over $40 million. So $12 million to over $40 million in valuation. The stock did a little better though because there was some shares being repurchased in the early days before Buffett took over those first couple years and maybe even a little bit of shares repurchased once you did take over the company there too. And so I believe maybe 27, 28% compound return from 60 to when he first invested all the way until 1969. So very good returns. And the business also was growing at a nice rate, like book value was compounding at a nice rate and was in roughly the same ballpark as how the stock performed. But the company has invested in much better businesses in terms of”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“So over time, it became less and less meaningful as a percentage of earnings or capital invested even. So it was pretty irrelevant. So on one sense, for a while, maybe you were thinking, well, it's not dragging us down too much over time, like once the years went on. So maybe you could kind of just let it continue on for the sake of some of those employees there. Where it finally became where they had to shut it down was Berkshire allowed it to continue operating, but they did not invest heavy in capital expenditures. They didn't throw more good money at this textile mill, good money after a bad. And by 1985, I believe it would have required some major capital investment to keep it going, a lot more equipment and maybe new factories and stuff like that. Eventually, it was going to need more money plowed into it to keep it going. And at that point, it finally was, they weren't going to put any more capital into, so that's when it finally closed down.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, that's definitely an interesting question. And I think mostly I assume has to come down to the personal side. It's difficult to not only fire employees, but completely shut down a business. And maybe my speculation on the very early days before he took it over, or maybe the first two years he took over Berkshire, maybe he thought he could turn it around slightly. I don't think he ever thought it'd be a great business by any means, but maybe, especially after the first couple years, it was pretty profitable. I just wonder if he thought maybe I could turn this around to make it achieve okay returns on capital or decent returns on capital, acceptable levels where they wouldn't have to shut it down potentially. Over time, more and more it became clear that that was not going to be the case and it was not going to earn acceptable returns on capital. But the other thing too is over time it became more and more irrelevant in terms of the size of the operation. Berkshire was growing and growing and growing, but that original textile mill was kind of shrinking and not definitely not growing.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“The original trading stamp business. By 1982, I believe revenue was down 93%, almost zero by that point. But it was still a That was because they actually bought C's Candy through a blue chip and they bought Buffalo Evening News through Blue Chip. And some of their stock investments did really well. And eventually Berkshire owned Blue Chip stock and then Blue Chip merged into Berkshire later on. And so even though this business declined and ended up being really well just because of what they did with the float.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Because there was no unlike insurance, the trading stamp industry was not really regulated too much. There was a few antitrust issues with some of the big companies, but it was a pretty interesting business. And so what they're able to do with that, really from day one, there were many years in the early days even once Buff and Munger took over where stocks, they were able to use the flow to buy stocks right away. They didn't have to wait till they got a massive scale in size. There were plenty of years in the early days where you could see the equity securities, the investments on the balance sheet far exceeded the book value of the company, the equity, which means that liabilities must have been funding some of those assets, some of those stocks. In this case, it was float. And so Blue Chip actually, pretty quickly, the original trading stamp business declined. And in the period my book covers, my book goes from 1955 to 85, 10 years before. Well, if it took over Berkshire all the way until 85 when the textile mill closed down. In that same time frame, Blue Chip basically went extinct.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Blue chips are a really interesting business. So, Buffett and Munger both bought stock of blue chip stamps of publicly traded company back when they were running their fun operations BPL, and Munger ran Wheeler Munger, I believe it was called. He had his own partnership or fun set up. So they each kind of separately were buying stock, although you could say they were collaborating on that position. But basically what Blue Chip was, was a rewards program, a loyalty program for retailers. So say grocery stores or something like that would hand out some trading stamps to customers and they could collect them over time and eventually if they got enough stamps they could redeem them for merchandise. And so Blue Chip, kind of like insurance float, they'd get paid right away by sending the stamps out. And then once merchandise was redeemed, then Blue Chip would have some of their costs come in. So much like insurance float, get cash first, and pay some claims or expenses later. It was a form of deferred revenue or flow for Blue Chip. It happened to be unregulated.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“The culture to say no to it, Buffin never put pressure on that for companies for sales goals or growth and insurance all the time. But the Berkshire structure was a big reason why the culture was in place, but the structure really made it make sense where they could go through long periods of big decreases in sales and it still was okay from a corporation standpoint.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, they prove time and time again that over the decades there were plenty of periods where insurance revenue in particular dropped by a very large amount and a standalone insurance company, especially one that had to answer to Wall Street and large shareholders. If that was a standalone company, they might take some heat, especially if they didn't have a large shareholder like Buffett kind of in charge in running the show. So they had the culture in place to allow revenue to decline when it made sense because in insurance, you have to say no to bad sales, which sounds easy, but it's tough when you have a quota you have to hit for the month or a sales goal and you just talk yourself into maybe lowering your price just a little bit. And the next time you lower it a little more and you can really fall prey to that. And in insurance, you get cash right away and you deal with problems later in terms of claims being paid out later. So it is tempting for some people to kind of make some excuses or talk yourself into lowering your prices to have cash come in the door right away. Berkshire proved that.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“And maybe it looks slightly aggressive if you only looked at that one subsidiary level. But if you zoom out to all of Berkshire, how much more capital Berkshire had, it was very, very safe, very conservative from a leverage standpoint. And so each subsidiary maybe could keep less cash on hand, could be more aggressive with their underwriting leverage or their leverage within the Berkshire system than without it. And maybe last but not least, the during the period my book covers, there's tons of examples of overcapitalized firms that have a ton of cash on the balance sheet that just have nowhere to put it. They might be great businesses in a niche or in one geography, but they just ran out of room to grow, ran out of room to reinvest. And so that's okay within the Berkshire system. They can get rid of that cash, send it to Omaha, buffet, can reinvest it elsewhere. And it's a perfect home for a Berkshire type company.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Within Berkshire versus as a standalone company. Maybe one example would be sees candy if it was a standalone company, it might keep a lot more cash on hand than when it's within Berkshire. And when COVID hit in a company like C has had to close down for a while, it would really want some cash if it was a standalone company for situations like that that might be rare. But it really doesn't need any cash or very little if it's within Berkshire because Berkshire, the parent company, has plenty of cash and the ability to borrow since it's so large as well that it could help seize candy out when it's within the parent company there. National indemnity, I talked about underwriting leverage before. I think as a standalone entity, they may be, they didn't have too aggressive of leverage, but maybe a little more leverage than someone like Warren Buffett would have if that was the only business he was ever going to own. But once they joined Berkshire, National Indemnity could keep being as aggressive as they wanted with their capital as a subsidiary.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, so I'm a big fan of the Berkshire structure itself. Warren Buff, the person because he's such a genius. But the Berkshire structure has a lot of advantages, and the national indemnity is a great example of some of those advantages. Number one, Berkshire really retained all their earnings since Buffett got involved. They really haven't paid any dividends. They've repurchased some shares in recent years and stuff like that. But for the most part, for many, many decades, they retained all their earnings and their capital grows and grows. So in a way, having more capital, you become a safer corporation versus a company that's always paying out other dividends if you kind of run into a tough time or hiccup, you might wish you had some of that capital back that you paid out as a dividend. So that's number one. Number two, they had a diverse earnings streams from many different industries. And that's really helped to in tough times insurance is cyclical. And if there's ever a difficult period in one industry, they have some profits coming in from some others. So those are two main ones. But I think the most important to me is how aggressive subsidiaries could be.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Of revenue as their capital. And Berkshire was actually pretty safe over its history. There was plenty of times where they had far less revenue than capital. Their capital might have been even maybe 10 times as much as their revenue in some years of their insurance company. So they are much more safe in terms of like leverage modern writing aspect. But that's one thing I didn't realize in the 60s when they first acquired national indemnity. Buffet was much more limited on what he could do with the float. And today they're just so unique in terms of their size that there's much more, much more things they can do with it in that aspect.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Leverage. A way to explain it is when an insurance company makes a sale, they're taking on risk because it's an insurance policy that they might have to pay out claims on later. And so each sale you're taking on more and more risk. And so what a regulator usually looks for is how much revenue or premiums written you have compared to your capital, statutory surplus or your equity capital because your capital is your cushion. You can fall back on in tough times. So you would be considered pretty leveraged if you had a high amount of revenue compared to that capital. And regulators will limit how high certain companies can go with that. A high quality underwriter that maybe is pretty safe on the balance sheet side of things could maybe in an extreme case write four or five times as much revenue, as much premiums as like the capital it has on hand. Geico actually was one who did that before Buffett got involved. But a lot of companies just have one or two times as much.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Few, if no limits on what it can do, even in the 2000s, it bought Burlington Northern BNSF through the insurance company, through National Indemnity. They acquired a railroad, a private business, which really no one else could really do that. And I think it might have been the 90s, really, when this started to change where they got big enough to really maybe not have quite so much limits on what it could do. And again, that was just due to its size. In the early days, though, when Berkshire first bought National Indemnity, it looked much more like a normal insurance company. And if I tried to acquire an insurance company today, I would have to operate much like natural indemnity did in the very early days. And in that case, in the first few decades, Berkshire was heavily invested in stocks, but just related to its equity capital. And then the float was more so invested in bonds. But it was still very attractive for a person like Buffett based on the purchase price he paid. And I mentioned regulators, what they look for. One thing in terms of revenue, you could call it under.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, that's right. Insurance is regulated heavily in its state by state. So there are state regulators that you have to deal with. And regulators look at a few different things, but mainly how it affects insurance companies, at least from an investor standpoint, is how aggressive a company can be in terms of its revenue and also how aggressive it can be with the assets that it has. And so Berkshire today looks very different than it did when he first bought National Indemnity. Berkshire's insurance companies today. Berkshire's size is so massive that it has very few limits on what it can do. There's no one who matches Berkshire's size in the insurance industry and very few companies that match its size in terms of maybe not sales exactly, but equity capital and its balance sheet and stuff. There's very few companies that have retained as much earnings over the years and just compounded over such a long time. Berkshire is in a league of its own. So due to its size mainly, but also because of some of its diverse earning streams outside of insurance, it has very”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Finding a high quality insurance underwriter. Like I said, he was leveraging additional income streams, but he was taking on risk from potential underwriting losses. So he was willing to pay some goodwill, willing to pay above book value for an insurance underwriter that he could trust that would be a”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Our return on stocks just like you would in his personal account. But then he'd have the opportunity to potentially have underwriting income. You're also taking risk on in terms of maybe having underwriting losses as well. And then you'd have potential to earn interest income on bonds or a fixed income portfolio if you invest your float, your policyholders liabilities into bonds. And so the additional income streams will be underwriting profits and interest income on a fixed income portfolio would be two ways he was able to leverage his stock portfolio into additional income streams. So that's pretty interesting. So national indemnity, though, he paid above book value and some people might wonder why he did that because some insurance companies, I think plenty of insurance companies would sell below book value back then. And even today, I mean, valuations change constantly. Like I said, it's a cyclical business, but even in modern times, there's plenty of insurance companies that will dip below book value from time to time. And really what it comes down to is Buffett was laser focused on”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“I mentioned Berkshire was selling for a third of book value when he first invested in that company. And national indemnity, he actually had some goodwill in the purchase, which means he paid above book value for that company. And so what's really interesting is that he talked about his purchase price in later years that he paid for national indemnity. And one thing that was interesting was he knew that the book value, the equity capital of national indemnity, could be invested in stocks. So just using round numbers, if he made a $10 million acquisition for paying book value for an insurance company, it didn't really matter if he had $10 million of stocks in his personal account or $10 million in an insurance company. That was kind of a wash. So if he paid book value, he didn't really consider much of a purchase price because, like I said, he was going to have that $10 million invested in stocks either way. But what it could do, it would leverage his stock portfolio into additional income streams, which means he'd have the potential with an insurance company, one, to earn.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Is a big part of the story, and it definitely changed over the years how he could use float. But an insurance company, again, you have your equity capital, your book value. That's your shareholders funds. And then you have your liabilities, which mostly were policyholders funds kind of known as float, what you owe policyholders in the future. And so unlike Berkshire, I had a lot of liabilities that leveraged the business, a lot of liabilities that finance those assets at Berkshire of National Indemnity, excuse me, the insurance company. And it made for a very different business than Berkshire in a way, though, there is a few similarities. Insurance can be pretty cyclical. It's not many barriers to entry in insurance. So when times are good, more and more firms kind of rush in or maybe lower prices and then when times are bad, some firms exit and prices can go up. So it is a little cyclical, kind of like the textile mail too. So it's not a perfect business by any means, but it was much better than the textile mail.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Yeah, the insurance business was a better business. And part of the reason is how much capital needed to be invested in the business and how you could invest that capital, how you could use the assets. So an insurance company doesn't technically require any capital to operate. There's no real inventory needs and you don't really need much equipment or plants or anything like that, not much real estate. But what you do need is some capital to fall back on in case there's losses, in case there's tough times and you owe a lot of money on the policies you've promised to policyholders. And so since you need capital to kind of cushion yourself, it can be in cash. The capital can be invested in cash, bonds or stocks or other types of investments. And so it made it for a perfect situation for someone like Buffett who is going to have stocks anyway. It didn't quite matter if the stocks were in his personal account or in an insurance company. Someone like that could put the capital work in a much better way. I could talk about float in a minute here too, which”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Cutting the cost, they definitely were much more profitable than they would have been with the previous management team. But it's still by any means wasn't a great business. It was just one way he was able to generate capital. And the previous manager, some books write that he had a penthouse office and his secretary had a secretary. So that might be the type of CEO where Buffett, if he got to know him or see anything as an investor before he took over the company, maybe he could have spied some ways he could have reduced costs a little bit. And later report, they mentioned that overhead was reduced. And so there's not too much more information besides that, but clearly he was able to run a much more lean operation once he was in charge.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT
“Here at the bottom, American Express and Disney some people consider part of the Nifty 50. So these were quality names he wasn't just only investing in the Berkshire Net Current asset cheap stocks. He also had some quality names even in his younger days that, you know, I feel like I personally didn't know about before researching for my book. So he did have some quality in the portfolio, which is interesting. The other thing I want to mention too, though, with that time period is he did have some really nice profits those first two years. There might be a little luck involved or at least a little cyclicality involved there because in future years, even when Buffett was in charge and running Berkshire, there's plenty of years of losses or poor returns on capital for the textile mill. It was a cyclical business. So maybe Buffett knew someday soon they would have some profits in the site when the cycle turned good. But I don't think just because his first two years that he took over, they had some solid profits, it didn't mean that he turned around the business for good. I mean, with him in charge and him.”
2023-09-01 · We Study Billionaires · TIP573: Berkshire's Beginnings w/ Jacob McDonough · IDENTIFIED FROM THE TRANSCRIPT