Suboptimal Outcomes (and the Personal Portfolio)

Any future for Berkshire Hathaway without Warren Buffett will likely be a suboptimal one. Also, our non-finance lives will inevitably create suboptimal finance outcomes.

Entrée du port de la Rochelle, Paul Signac, 1921, oil on canvas (Musee D’Orsay)

The recent announcement that Warren Buffett will be stepping down as CEO has sent a wave of content discussing his legacy and impact on investing as well as speculating what will happen with Berkshire in a post-Buffett world. There have been so many words written on Buffett that I’m not sure anything I can say hasn’t been repeated.

My hope as a Berkshire shareholder and an admirer of the business is that Buffett’s successors, and I don’t just mean Greg Abel, will continue to treat its shareholders like Buffett has over the years.

I don’t mean Abel and Co. maintain Berkshire’s annualized returns. Rather, I hope they continue to engage with investors with the same honest and transparent candor Buffett has. Even today, Berkshire’s annual letters seem to come from a bygone era when management remembered it was there to serve the investors. This mindset is lacking in corporate boardrooms these days, and the investing world needs the Berkshire beacon to remind the world that companies can admit their mistakes alongside their successes.

At this point, everyone has made their “bold prediction” for what will happen to Berkshire when Buffett is gone. My take on the situation is probably considered bold or a drastic turn in how Berkshire has done business, but the reasoning behind my prediction is the most benign.

Within a couple of years of Buffett’s passing, Berkshire will pay a dividend.

My reasoning behind the dividend call isn’t a slight against the next generation of leadership and their ability to put all that cash to work at market-beating rates. Instead, it comes down to ownership and their incentives.

After his passing, nearly all of Warren Buffett’s holdings were pledged to charitable foundations, either in the name of his family members or the Gates Foundation. These foundations will receive a substantial injection of wealth and de facto voting control in the company.

Unlike Warren, who can seemingly subsist on Cherry Coke and peanut brittle, charitable foundations can’t just sit on mountains of stock and watch it go up. They will have to turn that ownership into cash one way or another to cover expenses. The last time I checked, foundation vendors, contractors, and beneficiaries don’t take Class A Berkshire shares as legal tender (my wife ran a pharmaceutical supply chain in Malawi that moved HIV drugs for the Gates Foundation. I can assure you they didn’t get paid in Microsoft shares).

The challenge with charitable organizations owning significant stakes in non-dividend-paying stocks is that they must sell shares to meet their financial obligations. Now, I know plenty of investing theory people will tell you that the source of cash is irrelevant (rising stock prices offset the decline of shares owned).

For individuals that may one day be lucky enough to own 0.000001% of Berkshire (about $1 million worth of shares at today’s price), giving up ownership to meet 15-20 years of expenses and leave some for someone else may not be a big deal. Charitable organizations that may desire to operate for several more decades will likely exhaust their holdings before their mission is done.

Equally crucial for these charities is their ties to Buffett’s family, who will likely want to maintain significant voting control. Berkshire shares paying a dividend would allow the recipients of Warren Buffett’s shares to maintain long-term control of the company while turning their ownership into cash flows.

If you’re looking for a market simile for this ownership structure, look at Hershey. The company’s majority shareholder is the Hershey Trust, which has used that ownership to ensure the company pays a dividend for decades.

As a shareholder, I see no issue with this direction. For those of us who don’t need the cash right away, we can all set our brokerages to automatically reinvest dividends these days (if your broker doesn’t do that, then find another broker).

It may not be the Warren Buffett way or the ideal way to allocate capital, but it is the approach that will most likely preserve his legacy while giving the inheritors of Warren’s fortune a way to use it without losing it.

On to the personal portfolio