EP 3 | WARREN BUFFETTS SECRET TO SUCCESS

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ANDREW LANOIE

My fellow investors. Welcome back to another episode of the impatient investor. Did you know that in the second quarter of 2017 Warren buffet made $6,731 per minute in dividend income? For the entire quarter, Berkshires holdings will pay out a combined total of over $882 million in dividend income.

There are 91 days in the quarter, so this translates to $9,692,000 per day or just under $6,731 per minute in dividend income and dividend payments usually stay consistent from quarter to quarter. In reality, the dividend income received by Berkshire is likely to be even higher year to year. Since most of his stocks have a consistent record of increasing dividends, Berkshire collects nearly a billion dollars of dividend income per quarter. That is a lot of money, but why is that relevant to us? The short answer is if we want to get to warren Buffett’s level, his investing habits might prove invaluable. Before diving deeper into what makes Mr. buffet tick, we should first look at Berkshires investment model.

To be clear, Berkshire is not a mutual fund. It’s principle businesses not to trade insecurities. It’s true that addition to its dozens of businesses. Berkshire also owns a portfolio of 47 common stocks, but the ownership of these stocks fulfills a very specific objective and that is not to speculate on stocks and hope 1 in 10 pans out. He’s more interested in the underlying business of a stock.

In addition to the direct ownership and operation of businesses, another key distinction between Berkshire and a mutual fund focused exclusively on trading securities is that Berkshire approaches stock ownership like the ownership of a business.

Warren buffet thinks of stocks as ownership stakes in a business, not as pieces of paper. This is why he loves dividend stocks and it’s the same reason he loves most of the businesses that he’s acquired over the years. Dividend stocks generate a steady stream of cash just like his successful, productive businesses. Because Berkshire owns dozens of businesses, regularly acquires companies and buys individual stocks. He can this cash to continually grow his holdings in productive assets or acquire productive stocks, fully embracing exponential growth, and buffet knows something about exponential growth. Since in its roughly 50-year history, Berkshires stocks have grown over 1 million, 800000%.

Let’s talk about a few investment examples. A $10,000 investment in Berkshire in 1965 would be worth over $180 million today. The same investment in the S&P 500 would be worth about 1.5 million and just accounting for inflation, $10,000 in 1965 would be worth just over $81,000 today. Buffett’s investing philosophy can be boiled down to one funny quote. I try to buy stock in businesses that are so wonderful that an idiot can run them because sooner or later, one will. The assumption is that a great business will always produce, and production means consistent dividends and dividends means cash for acquiring other businesses to grow income to fuel exponential wealth. Warren Buffet’s investment philosophy can be traced back to Benjamin Graham, a former employer and mentor. Graham is considered the father of value investing. He wrote a fantastic book called the intelligent investor, the definitive book on value investing. Value investing, in its simplest terms is evaluating a stock purchase based on the business’s future financial performance.

What is the strength of the underlying business, exclusive of the price or the projected price of the stock? The value of the stock is based exclusively on the value of the projected production of the business. Buffet is not a speculator. He never buys stock with the hopes that some fool down the road will pay 10 times what he paid for it. The business must stand on its own. And that’s why you’ll never see Warren buffet investing in a Facebook or Snapchat in the startup phase. Even with a company like Apple with a strong track record of earnings, buffet didn’t warm up to the Apple stock until the company had started paying dividends. Like a business a stock must produce income to be valuable, whether by directly acquiring a business or buying stock in one buffet loves to invest for income and that income alone should pay back his initial investment to be worth acquiring and holding.

So why is investing for income so important? Buffett said it best in his 2013 shareholder meeting. The ideal business is one that generates a very high return capital and can invest that capital back into the business at equally high rates. Imagine a hundred-million-dollar business that earns 20% in one year, than reinvest the $20 million profit in the next year, earns 20% of 120 million and so forth. He gave an example of his love for income producing assets in the form of one of his real estate ventures. In an article from 2014 he recounted his experience with the acquisition of a commercial property in New York city in 1993. This is buffet in his own words. “In 1993 I made another small

investment, Larry Silverstein, Solomon’s landlord, when I was the company CEO, told me about a New York retail property adjacent to the New York university that resolution trust Corp was selling. The analysis was simple. The unleveraged current yield from the property was about 10%, but the property had been mismanaged and its income would increase when several vacant stores were leased. Even more important, the largest tenant who occupied about 20% of the project space was paying rent of about $5 per foot where other tenants were averaging $70 per foot. The exploration of this bargain lease in nine years was certain to provide a major boost to earnings. The property’s location was also superb. NYU wasn’t going anywhere. As old leases expired earnings tripled. Annual distributions now exceed 35% of our initial equity investment. At the time of the acquisition, the NYU property was already producing annual yields of about 10%, if nothing changed, Warren buffet would have made his money back in 10 years, but he saw room for improvement and even more potential for income. Annual yields now exceed 35%.” In the article he declares “income from both the farm and the NYU real estate will probably increase in decades to come. Though the games won’t be dramatic. The two investments will be solid and satisfactory holdings from my lifetime and subsequently for my children and grandchildren.” Not once did buffet mentioned the appreciation of the property or its future price. He was only focused on the income and the income more than justified his initial investment, and that is one of the greatest takeaways from Warren buffet. Invest for value. Invest for income because only with income producing assets that can grow exponentially. Why would you roll the dice hoping to cash in on the next Facebook? Invest for income using common sense business analysis and grow wealth like Warren buffet.

At the yearend take a look at your portfolio. Do your investments generate consistent above average income and grow in value?

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