Sunday, 3rd May 2015

Who will succeed Warren Buffett?

Written by George Traganidas Topics: Stock Investing

Warren Buffett

This is the question that many shareholders are asking every year. Berkshire Hathaway has grown from a small textile company to the 4th largest US company under the leadership of Warren Buffett and his partner Charlie Munger. Now, a lot of people fear that when the two great leaders are not running the company any more, this great story will come to end, because in many people’s eyes Berkshire Hathaway is Warren Buffett. This is a valid concern. Or is it not?

As Charlie once said, when asked about the future of Berkshire, “If your main concern in life is who will succeed Warren then you have any easy life”. Before we try to answer the question of succession, we should get a better understanding of what Warren really does and why he is so critical to the company. Warren’s contribution to the company to the company is three-fold. He is responsible for overlooking all the subsidiaries that Berkshire owns (operational role), he is responsible to invest the excess cash of the company (investment role) and he sets the culture of the firm.

On the operations side, Warren is responsible for running Berkshire and all the subsidiaries. But what does this mean in practice? Berkshire itself is a very small company (24 employees as of start 2015) and as Warren has said many times the company almost runs itself. It is very little that he does, because he is surrounded by employees that he trusts and are very capable of doing the job. For the subsidiaries, his main role is to be there for the CEOs when they need to talk to him, set the compensation of the CEOs but mainly stay out of their way and let them run their companies the way that they know. He does not get involved in the daily operations of the businesses, but he is always available for advice. When one of the subsidiaries is in trouble Warren sometimes steps in to appoint a new CEO to help with the company, but again he does not do that himself, because he delegates to people he trusts.

On the investments side, Warren is responsible to invest the excess cash that the subsidiaries generate. This is what he spends the majority of his time on. Berkshire generates a lot of excess cash every month and this cash needs to be invested back in the subsidiaries themselves or in the acquisition of companies (whole companies or part of companies through the purchase of stock).

On the culture side, Warren sets the example for the whole of the firm. He has built around him a group of people that he can trust and are brilliant in their job. He has built a seamless web of trust. This allows him to delegate almost everything in a great degree. This culture starts at the top with him and Charlie and it goes down through the whole company. It has taken years to build, but now it is part of the company identity. His daily activities reinforce and strengthen the culture.

Everyone knows that Warren is unique and he cannot be replaced. But, as people have trusted him for years to make smart and common sense decisions for the company, they should trust him on this as well. True to his character, he has been communicating about the future of Berkshire a lot and he has let everyone know his plan. He knows that no one can do everything he does, so he proceeded to split his role in three parts and get different people to perform them. The sum of the parts should be greater than the whole.

For the investment part, he has chosen Ted Weschler and Todd Combs so far, who have been working along him for about 5 years now. He has said that they are capable to replace him as investment managers and in the future he might add a third person. Of course, these managers cannot replicate his brilliance and they do not have his reputation in the markets, so a lot of deals that were available to Warren will not be available to them. But at the same time, they have their own strengths and in some areas they can add more value than Warren (e.g. different sectors and geographies). Therefore, the future returns from the investments of Berkshire should be adequate. In addition, the investment managers are given the extra responsibility to run some of the subsidiaries, because been company managers themselves will make them better investors. Moreover, they will work closely with the future Berkshire CEO to identify new acquisition targets.

For the operational part, he has already chosen a CEO who will succeed him and take the role of overseeing all the subsidiaries of Berkshire. He has chosen to keep the name of the person a secret, but he has not kept a secret that this person is from within Berkshire, knows the structure and that they are a brilliant manager. They are capable to provide advice to the CEOs of the subsidiaries if they need it, but their main role will be to let them run the companies as they have been doing for so many years. The CEO can keep the existing companies running smoothly and that the same time look for more companies to add. This person will work closely with Ted and Todd in deciding if buying a company is a good investment.

To oversee the culture of the company, he has chosen his son Howard to be an non-executive chairman. His role will be to make sure that the unique culture of Berkshire continues to be unique and make sure that the board does not chose a CEO who might destroy the culture.

Based on the above, it is time to return to the original question. Who will replace Warren Buffett? On one hand he is irreplaceable, but on the other hand his current role can be split and shared among capable people who work closely to continue his work. The moment Warren and Charlie stop running Berkshire the company will not stop functioning. The subsidiaries will continue to be great companies that are operating in their areas, his existing stock investment will continue to be great companies and the culture will continue to be the glue that makes Berkshire what it is. His successors will look into preserving what he has built and expand it while at the same time stay true to the principles that Warren instilled in the company.

If the shareholders have trusted Warren for years to operate the business and invest their money, why should they stop trusting him now? Why should he do a bad job of the succession planning?

If all else fails, the board still has the ouija board Warren gave them and they can contact him. Talking about thinking outside the box!

Follow the practical way,
George

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