Warren Buffett outlines 15 owner-related business principles in Berkshire Hathaway's annual reports. These 15 principles outline how Berkshire Hathaway conducts its business. Analyzing and applying these principles toother businesses creates a good framework for identifying businesses worthy of long-term investing. This article analyzes and interprets each of Warren Buffett's 15 Owner Related Business Principles.
Principle 1: The Shareholders Own the Business
“We (Warren Buffett & Charlie Munger) do not view the company itself as the ultimate owner of our business assets but instead view the company as a conduit through which our shareholders own the assets.”
– Berkshire Hathaway 2013 Annual Report, page 103
The first principle is arguably the most important. Instead of seeing Berkshire Hathaway as a company that has taken investment money from shareholders, Warren Buffett and Charlie Munger view Berkshire Hathaway as a conduit for holding shareholder assets. Instead of viewing the corporation as the owner of business assets, they view shareholders as the ultimate owner. This means they will attempt to maximize shareholder value rather than maximizing corporate size.
A business that follows this principle will do what is best for shareholdersrather than what is best for increasing company size. An example would be repurchasing shares (when below intrinsic value) or paying dividends instead of pursuing acquisitions of overvalued businesses that only serve to grow company size without expanding shareholder value.
Principle 2: Managers Own Stake In Business
“Most of our directors have a major portion of their net worth invested in the company. We eat our own cooking.”
– Berkshire Hathaway 2013 Annual Report, page 103
The second principle aligns shareholder returns with management returns. If the managers of a company have a large stake in the company, they are more likely to maximize shareholder value (since they are major shareholders) rather than pay egregious salaries that benefit only themselves.
Businesses where management has a large stake in the outcome of what happens better align shareholder interests with management interests. It forces managers to think like shareholders. The higher the percentage of ownership management has in a business, the less likely they are to destroy shareholder value by making selfish decisions.
Principle 3: Goal Is to Maximize Long-Term Growth In Intrinsic Value Per Share
“We do not measure the economic significance or performance of Berkshire by its size; we measure by per-share progress”
– Berkshire Hathaway 2013 Annual Report, page 103
The goal of any manager should be to maximize long-term shareholder value on a per share basis. Growing a business by issuing shares does little for shareholders. Owning 10% of a $1,00,000 business is exactly the same as owning 1% of a $10,000,000 business. When companies do not show per share numbers but instead focus on overall business growth, they are likely raising money by issuing shares which dilutes shareholder value. I have noticed this is especially prevalent in the investor presentations of REITs.
Principle 4: Own Cash Generating Businesses with Above Average Returns on Capital
