During first half of 1963, Dow delivered plus 10% return including dividends. Buffett views the short term performance (less than three years) have no meaning, because he has control position, that’s the reason the Buffett performance is better in declining market.
Buffett performance excluding Dempster Mill was plus 14%
At plus 14% versus plus 10% for the Dow, this six months has been a less satisfactory period than the first half of 1962 when we were minus 7.5% versus minus 21.7% for the Dow. You should completely understand our thinking in this regard which has been emphasized in previous letters.
Buffett was not satisfied with 14% versus 10% of Dow, compare to first half of 1962, when Buffett minus 7.5% versus minus 21.7% of Dow, The thinking behind this, was Buffett outperform the Dow 14.2% (21.7%-7.5%) in first half of 1962 where as in first half 1963 he had 4% advantage. Buffett prefers 10% advantage over Dow, that’s why he was not satisfied.
Buffett has net investment $5275000 in generals, overall gain from generals was about %1100000, in percentage term its 21%. In 1962 the generals affects the short term performance, where as work-outs and Controls gave favourable results.
In 1963, Work-outs done poorer than Dow, that drag the performance.
While it would be very nice to be 100% in generals in advancing markets and 100% in work-outs in declining markets, I make no attempt to guess the course of the stock market in such a manner. We consider all three of our categories to be good businesses on a long-term basis, although their short-term price behaviour characteristics differ substantially in various types of markets.
We consider attempting to gauge stock market fluctuations to be a very poor business on a long-term basis and are not going to be in it, either directly or indirectly through the process of trying to guess which of our categories is likely to do best in the near future.
In advancing market the generals are better, while in declining market work-outs are better option, but Buffett don’t want to make such guess, because all three categories yields good results in long term basis. There short term price behaviour differ substantially in various market. Buffett consider, attempting to guess the stock market movement is a poor business, Buffett don’t want to do that, either directly or indirectly, through the categories Buffett invest in, which category will do best or worst in near future.
Investment Companies
The above performance against the Dow and two open ended and two closed ended fund, The real difference you can see in Annual compounded rate, its due to small percentage of advantage over the period of times, compounded, yields outstanding results. Its compounding. Its more than 10% point difference.
Our partnership’s fundamental reason for existence is to compound funds at a better-than-average rate with less exposure to long-term loss of capital than the above investment media. We certainly cannot represent that we will achieve this goal. We can and do say that if we don’t achieve this goal over any reasonable period excluding an extensive speculative boom, we will cease operation.
The fundamental reason of partnership was, compounded funds at a better than average rate with less exposure to long term loss of capital, if Buffett did not achieve this goal over any period, Buffett will cease the operation.
I think the fundamental reason of any Investor will be same as Buffett, otherwise, invest in good quality index fund or Mutual fund.
Dempster Mill Manufacturing Company
Last year Buffett called Harry Bottle is “A man of the year” Harry, did extraordinary job, by converting unproductive assets into cash, which used in buying undervalued securities, This year turned under-utilized assets in to cash, and made remaining assets productive. (Cash increases from $60 to $144)
Few points to note
- Cash increases from $60 to $144 than previous year
- Marketable securities bought more from $758 to $1772 than previous year
- Inventory reduces (by selling it) from $1634 to $977
- Net worth per book increase from $4077 to $4582
- Value per share increases from $51.25 to $64.81
- Net plant equipment reduces from $945 to $872, by selling unproductive equipment.
If you compare 30 November 1963 figure to 30 November 1961 figure, there was a huge change, In terms of marketable securities, Inventory ($4023 in 1961 to $977 in 1963) Total liabilities decrease from $2318 to $519 and the most important value per share increases from $ 35.25 to $64.81 it’s an 83.58% increase in three years. It’s an outstanding change, it’s a complete turnaround of the business, that’s why, Harry Bottle was “Man of the year”
One sidelight for the fundamentalists in our group: B.P.L. owns 71.7% of Dempster acquired at a cost of $1,262,577.27. On June 30, 1963 Dempster had a small safe deposit box at the Omaha National Bank containing securities worth $2,028,415.25. Our 71.7% share of $2,028,415.25 amounts to $1,454,373.70. Thus, everything above ground (and part of it underground) is profit. My security analyst friends may find this a rather primitive method of accounting, but I must confess that I find a bit more substance in this fingers and toes method than in any prayerful reliance that someone will pay me 35 times next year’s earnings.
BPL owns 71.7% of Dempster at cost of $1262577.27, Now on 30 June 1963, Dempster Mills has securities worth $2028415.25 BPL 71.7% share of $2028415.25 amounts to $1454373.70 thus, everything above purchase cost is profit.
Buffett friends thinks it’s a primary method of accounting, But Buffett confess that I find a bit more substance in this fingers and toes method than in any prayerful reliance that someone will pay me 35 times next year’s earnings.
This is the simple thinking that you don’t need to over calculate the numbers in investing, your own simple calculation can give better results.
Advance Payments and Advance Withdrawals
Similarly, we allow partners to withdraw up to 20% of their partnership account prior to yearend and charge them 6% from date of withdrawal until yearend when it is charged against their capital account. Again, it is not intended that partners use US like a bank, but that they use the withdrawal right for unanticipated need for funds.
The willingness to both borrow and lend at 6% may seem “Un-Buffett-like” We look at the withdrawal right as a means of giving some liquidity for unexpected needs and, as a practical matter, are reasonably sure it will be far more than covered by advance payments.
Why then the willingness to pay 6% for advance payment money when we can borrow from commercial banks at substantially lower rates? For example, in the first half we obtained a substantial six-month bank loan at 4%. The answer is that we expect on a long-term basis to earn better than 6% (the general partner’s allocation is zero unless we do although it is largely a matter of chance whether we achieve the 6% figure in any short period. Moreover, I can adopt a different attitude in the investment of money that can be expected to soon be a part of our equity capital than I can on short-term borrowed money. The advance payments have the added advantage to us of spreading the investment of new money over the year, rather than having it hit us all at once in January. On the other hand, 6% is more than can be obtained in short-term dollar secure investments by our partners, so I consider it mutually profitable. On June 30, 1963 we had advance withdrawals of $21,832.00 and advance payments of $562,437.11
November 6, 1963
At the end of October, the overall result from the Dow for 1963 was plus 18.8%. We have had a good year in all three categories, generals, work-outs and controls. A satisfactory sale on a going concern basis of Dempster Mill Manufacturing operating assets was made about a month ago. I will give the full treatment to the Dempster story in the annual letter, perhaps climaxed by some lyrical burst such as Ode to Harry Bottle. While we always had a built-in profit in Dempster because of our bargain purchase price, Harry accounted for several extra servings of dessert by his extraordinary job. Harry, incidentally, has made an advance payment toward becoming a limited partner in 1964– we consider this the beginning, not the end.
However, 1963 has not been all Dempster. While a great deal can happen the last two months and therefore interim results should not be taken too seriously, at the end of October the overall gain for the partnership was about 32%. Based on the allocation embodied in our agreement, this works out to plus 25 1/2% for the limited partners before monthly payments to those who take them. Of our approximate $3 million gain, something over $2 million came from marketable securities and a little less than $1 million from Dempster operating assets. The combined gain from our single best general and best work-out situation approximated the gain on the Dempster operating assets.
Buffett explains great points.
- Short term results (less than three years) have little meaning.
- BPL results will be better in declining market. (downside protected)
- Generals yielded 21% returns
- It’s better to be 100% in Generals in advancing market & 100% in Work-outs in declining market
- Attempting to gauge stock market fluctuations to be a very poor business on a long term basis.
- Compound money better than average with less exposure to long term loss or else don’t invest
- Read “Ground Rules” once in a year, it’s better for individual investor also.
- The Dempster Mill example is great learning for every investor.
(Disclaimer: All figures and data used from Buffett Partnership Letter (Dated, 10 July 1963 & 6 November 1963), all are my opinions, and this is for educational purpose only. I am not genius or clever to understand all things, I may be wrong in interpreting the data and letter, take your decision on your own)
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Harish S Kawalkar
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