Buffett's Early Investments

Buffett's Early Investments Plot Summary

Introduction

In the winter of 1950, a young investor named Warren Buffett traveled across the Hudson River to attend the annual meeting of Marshall-Wells, a hardware wholesaler he had invested in. This seemingly routine corporate gathering would become one of many pivotal moments in the formation of an investing philosophy that would eventually create the world's greatest fortune. The journey from these early days to legendary status reveals fascinating patterns that contradict many popular misconceptions about how Buffett achieved his remarkable success. Far from merely flipping through financial manuals and picking obvious bargains, Buffett's path involved intensive research, strategic activism, and the development of a unique investment methodology that evolved significantly over time. This historical exploration illuminates how Buffett's approach differed dramatically from his mentor Ben Graham, despite starting with similar principles. Through examining his investments from 1950-1969, we can trace how Buffett developed from a strict quantitative investor into someone who recognized the immense value of qualitative factors. The transformation wasn't sudden but evolved through specific investments that taught crucial lessons about the limits of pure statistical bargain hunting and the potential of high-quality businesses. These lessons would be valuable for any serious investor seeking to understand not just what Buffett bought, but why he bought it, and how his thinking evolved across different economic environments and investment opportunities.

Chapter 1: The Foundation: Value Investing Principles in Buffett's Early Career (1950-1956)

The period from 1950 to 1956 marked the foundation of Warren Buffett's investment journey, a time when he was heavily influenced by Benjamin Graham's value investing principles while beginning to develop his own unique approach. In these formative years, Buffett was a young man in his twenties, studying under Graham at Columbia University before working briefly at his father's brokerage firm and then joining Graham-Newman. The post-war economic boom provided a favorable backdrop, with the S&P 500 nearly quadrupling over these six years and only experiencing one minor down year. During this period, Buffett religiously applied Graham's approach of buying securities trading below their intrinsic value, particularly focusing on companies selling below their net current asset value (NCAV) - what Graham called "net-nets." These were essentially companies trading for less than the value of their current assets minus all liabilities. While this approach sounds straightforward, Buffett's application was far more nuanced than simply buying statistically cheap stocks. Even in these early days, he showed remarkable dedication to research, once skipping classes to attend a Marshall-Wells annual meeting and traveling extensively to investigate companies firsthand. What distinguished Buffett from other Graham disciples was his concentration and intensity. While Graham-Newman typically held around 100 securities with small positions in each, Buffett held only a few stocks and made significant bets when he found opportunities. For example, in 1951, GEICO represented over half of his portfolio. This willingness to concentrate contrasted sharply with Graham's diversification philosophy and would become a hallmark of Buffett's approach throughout his career. The companies Buffett invested in during this period, such as Marshall-Wells, Greif Bros. Cooperage, and Cleveland Worsted Mills, were rarely exceptional businesses. They were mediocre enterprises trading at cheap prices, often in declining industries. Yet these investments taught Buffett critical lessons about the limits of the pure Graham approach. He began to recognize that buying a statistically cheap business in a dying industry might provide a temporary bargain but rarely led to spectacular returns unless there was a catalyst for value realization. These early years were essential in shaping Buffett's future philosophy. While he achieved good results, with his net worth growing to $127,000 by the end of 1955, he was already beginning to see that the greatest investment opportunities came not just from statistical cheapness but from businesses where he could influence outcomes or from companies with superior economics. This understanding would lead to his evolution from a pure Grahamite into the investment master who would eventually build Berkshire Hathaway into one of the world's most valuable companies.

Chapter 2: From Bargain Hunting to Activism: Pre-Partnership Investments (1950-1954)

Between 1950 and 1954, Buffett's investment approach began evolving beyond simple bargain hunting toward a more activist stance. After graduating from Columbia University, where he was the only student to earn an A+ in Graham's security analysis course, Buffett faced his first professional disappointment when Graham initially rejected his offer to work at Graham-Newman for free. Consequently, he joined his father's brokerage firm, Buffett-Falk, where he worked as a stockbroker while honing his investment skills through personal investments. During this period, Buffett made several notable investments including Marshall-Wells, Greif Bros., Cleveland Worsted Mills, and Union Street Railway. These companies shared common characteristics - they were all trading below their net current asset value and at extremely low earnings multiples. Marshall-Wells, for instance, sold at a 40% discount to net current asset value and at less than 2x enterprise value to EBIT. However, what distinguished these early investments wasn't merely their statistical cheapness but the lessons they taught the young investor about business quality and capital allocation. The investment in Union Street Railway represented a significant shift in Buffett's approach. This small bus company in New Bedford, Massachusetts was trading below the cash on its balance sheet. After accumulating a meaningful stake, Buffett traveled to meet the company's president, Mark Duff. Shortly after this visit, the company distributed $50 per share to shareholders - on a stock Buffett had purchased for around $35. While Buffett was unsure whether his visit precipitated the distribution, this experience demonstrated how engaging with management could accelerate value realization rather than passively waiting for the market to recognize the discount. Similarly illuminating was his investment in Philadelphia and Reading Coal and Iron Company (P&R), where Buffett's mentor Ben Graham gained board representation and ultimately took control. Under Graham's influence, the company transformed from a declining coal producer into a diversified conglomerate through strategic acquisitions and tax minimization strategies. Watching this transformation firsthand provided Buffett with a blueprint for what would later become Berkshire Hathaway - a struggling business with valuable assets that could be redirected toward more profitable ventures under the right leadership. These pre-partnership investments revealed that merely identifying statistical bargains was insufficient for generating exceptional returns. The most successful investments involved either businesses where management was already committed to shareholder value (as with Greif Bros.) or situations where outside influence could change corporate policies (as with Union Street Railway and P&R). This realization would drive Buffett's increasing emphasis on activism and control in the coming years, setting the stage for the spectacular returns he would achieve through the Buffett Partnership beginning in 1956.

Chapter 3: The Rise of Buffett Partnership: Concentration and Control (1956-1962)

When Warren Buffett returned to Omaha in 1956 after Graham-Newman wound down, he founded Buffett Associates, Ltd. with just $105,000 from seven investors, mostly friends and family. This modest beginning would lead to one of the most extraordinary investment vehicles in history. From 1957 to 1962, the partnership achieved a compound annual return of 29.5% compared to the Dow's 7.4%, laying the groundwork for Buffett's legendary investment career. The economic backdrop during this period was favorable, with steady economic growth punctuated by only mild recessions in 1957 and 1960. Interest rates and inflation remained low, creating an environment conducive to stock market investment. However, Buffett's outperformance cannot be attributed merely to favorable market conditions, as evidenced by his consistent ability to trounce the market averages even during down years. Buffett articulated his investment strategy in his 1961 letter to partners, classifying investments into three categories: "generals," "workouts," and "controls." Generals were undervalued securities where Buffett had no influence over corporate policies. Workouts were special situations like mergers and liquidations. Controls were positions where the partnership took a significant stake to change corporate policy. This third category represented a dramatic evolution from the passive Graham approach and became increasingly important to Buffett's strategy. The partnership's investment in Sanborn Map Company exemplifies this shift toward control investing. By 1958, Buffett had accumulated a 23% position in this mapping business, which was trading at a significant discount to the value of its investment portfolio alone. Rather than waiting for the market to recognize this disparity, Buffett joined the board and advocated for distributing the investment portfolio to shareholders. After initial resistance, management acquiesced, resulting in a substantial profit for the partnership. An even more dramatic example was Dempster Mill, where Buffett acquired 73% of this farm equipment manufacturer in 1961. Finding the business underperforming, he installed new management and focused on converting assets to cash, which was then redeployed into securities. At times, Dempster constituted over 20% of the partnership's assets, demonstrating Buffett's willingness to concentrate capital when he found compelling opportunities. This period established the pattern that would define the partnership years: identifying undervalued situations, taking significant positions, and actively working to unlock value rather than passively waiting for market recognition. The success of this approach fundamentally altered Buffett's investment philosophy. While he maintained Graham's emphasis on margin of safety, he had discovered that creating catalysts through control and influence could accelerate returns dramatically. This shift toward activism and concentration, rather than mere bargain hunting, was the true secret to his phenomenal outperformance during these years.

Chapter 4: Beyond Balance Sheets: Quality Businesses and Qualitative Analysis (1962-1966)

By the early 1960s, Buffett's investment approach was undergoing a subtle but profound transformation. While still guided by Graham's value principles, he began looking beyond balance sheet figures to incorporate qualitative analysis of businesses. This evolution was evident in several key investments between 1962 and 1966, including British Columbia Power, Studebaker, and Walt Disney Productions. The investment in British Columbia Power in 1962 demonstrated Buffett's ability to analyze complex situations beyond simple financial ratios. This opportunity arose when the provincial government of British Columbia expropriated BC Power's principal asset, British Columbia Electric Company. While the company was trading below its net cash position, the investment required analyzing litigation outcomes and regulatory decisions rather than just financial statements. Charlie Munger, who had recently befriended Buffett, was so convinced of this opportunity's merits that he invested his entire partnership in it and even used leverage to increase his position. Buffett made it an 11.2% position - his second-largest at the time. When the case was ultimately settled in BC Power's favor, the investment produced spectacular returns. Buffett's 1965 investment in Studebaker further illustrated his evolving methodology. The automotive company had successfully diversified away from its declining car business into multiple divisions including STP motor oil additives. Rather than simply relying on Studebaker's consolidated financial statements, which showed the company trading at a seemingly cheap 6.4x P/E ratio, Buffett conducted remarkable primary research. He traveled to Kansas City to count tank cars in railroad yards, methodically tracking shipments of raw materials to estimate STP's true sales growth, which was accelerating dramatically. This proprietary insight allowed him to value STP alone at more than Studebaker's entire market capitalization. Perhaps most revealing was Buffett's 1966 investment in Walt Disney Productions. Unlike his earlier investments in net-nets, Disney wasn't trading below its tangible book value. Instead, Buffett recognized the enduring value of Disney's film library and the potential of its theme park business. He visited Disneyland, met with Walt Disney himself, and even watched Mary Poppins in theaters to evaluate its lasting appeal. Buffett determined that while the company traded at just $80 million, its film library alone was worth approximately that amount, with the theme park business and real estate representing additional value. These investments revealed a critical evolution in Buffett's thinking - he was becoming less reliant on pure statistical bargains and more comfortable with business quality assessment. While still maintaining Graham's margin of safety principle, Buffett increasingly recognized that qualitative factors like brand value, management quality, and competitive position could provide as much protection as balance sheet assets. This period laid the groundwork for his famous later shift toward "wonderful companies at fair prices" rather than "fair companies at wonderful prices," though he was still primarily focused on paying demonstrably cheap prices for his investments.

Chapter 5: Crisis and Opportunity: The American Express Transformation (1964)

The American Express salad oil scandal of 1963 presented Buffett with one of history's greatest investment opportunities and marked a defining moment in his evolution as an investor. This crisis began when Anthony "Tino" De Angelis orchestrated an elaborate fraud through his company, Allied Crude Vegetable Oil. De Angelis had borrowed millions against oil inventory that didn't exist, with American Express Field Warehousing Corporation issuing receipts guaranteeing these nonexistent commodities. When the fraud was exposed in November 1963, American Express's stock plummeted by nearly 40%, erasing over $100 million of market value. Most investors focused on calculating the potential liability American Express faced from the scandal, which appeared devastating. The company's consolidated equity at the end of 1963 was only $78.7 million, while claims against the warehousing subsidiary approached $210 million. Even more concerning was that American Express shareholders did not possess limited liability, as the company had never incorporated. This meant that creditors could theoretically go after individual shareholders if the company couldn't pay its debts. Buffett, however, approached the situation differently. While he monitored the scandal closely, he waited months before investing, allowing time for the initial panic to subside and for legal developments to clarify the company's exposure. More importantly, he recognized that American Express's most valuable asset—its brand reputation as a trusted financial intermediary—did not appear on its balance sheet. To assess whether this asset had been impaired, Buffett conducted extensive "scuttlebutt" research, visiting restaurants and other establishments in Omaha to see if they still accepted American Express cards and travelers cheques. He also deployed his associate Henry Brandt to research bank tellers, bank officers, and credit card holders, confirming that the company's core business remained unaffected. In April 1964, Buffett began building what would become the Partnership's largest and most profitable investment. He purchased 5% of American Express at around $40 per share, investing approximately $13 million. Rather than pressuring the company to minimize its liability, Buffett took the opposite approach. He wrote to CEO Howard Clark expressing support for American Express taking responsibility for the warehouse subsidiary's obligations, recognizing that the company's long-term value depended on maintaining its reputation for integrity. The investment exemplified Buffett's evolving philosophy. While technically still undervalued at around 15.8x earnings, American Express wasn't the obvious statistical bargain of his earlier investments. Instead, its value lay in its dominant franchise in travelers cheques and the rapidly growing credit card business, both of which possessed remarkable economics due to the float they generated. This understanding required qualitative analysis beyond mere number-crunching. American Express vindicated Buffett's judgment spectacularly. The company quickly recovered from the scandal, with EBIT more than tripling from 1963 to 1967. By the time Buffett began selling in 1967, the stock had more than quadrupled, generating approximately $15 million in profits for the Partnership. But beyond the financial return, the American Express investment represented the most important turning point in Buffett's career—his clearest recognition yet that qualitative factors could provide a more durable competitive advantage than quantitative metrics alone.

Chapter 6: From Quantitative to Qualitative: Evolving Investment Philosophy (1965-1969)

The final years of Buffett's partnership era witnessed the full flowering of his transition from purely quantitative analysis toward a more nuanced qualitative approach. By 1965, Buffett was increasingly focused on business quality rather than mere statistical cheapness, though he still maintained the value investor's insistence on paying reasonable prices. This evolution is best illustrated through his investments in Hochschild, Kohn & Co. and Walt Disney Productions, which represented both the challenges and opportunities of this new approach. In January 1966, Buffett, together with Charlie Munger and Sandy Gottesman, acquired the Baltimore department store chain Hochschild Kohn for $12 million through their newly formed Diversified Retailing Company. On paper, the acquisition appeared reasonable at 0.77x tangible book value and 10.1x earnings. Buffett also believed there was hidden value in real estate and LIFO inventory reserves. Moreover, he respected the Kohn family management and thought the business had good prospects despite the challenges facing downtown department stores. However, this investment proved disappointing. While revenue grew in 1966 and 1967, operating income stagnated despite increased capital investment. By December 1969, Buffett sold Hochschild Kohn to Supermarkets General for approximately $11 million. Though he received dividends that made the investment modestly profitable, Hochschild Kohn became what Buffett later described as one of his significant mistakes. The error wasn't in the quantitative analysis but in failing to recognize the fundamental challenges facing department stores - what Buffett and Munger would later call "standing on tiptoe at a parade," where competitors constantly matched each other's improvements, making sustainable advantages impossible. In contrast, Buffett's investment in Walt Disney Productions in 1966 demonstrated a more successful application of his evolving approach. Disney didn't trade below tangible book value like his traditional investments. Instead, Buffett recognized that Disney's most valuable assets - its film library, brand, and theme park expertise - were either undervalued or not reflected on the balance sheet at all. At an $80 million market capitalization, investors were getting Disneyland (which had just installed the $17 million Pirates of the Caribbean ride), the valuable film library, and Walt Disney's creative genius at a bargain price. Buffett's analysis of Disney showed his increasingly sophisticated understanding of franchise value. He watched Mary Poppins in theaters to evaluate its lasting appeal, recognizing that Disney films could be re-released every seven years to a new generation of children. He understood that Disneyland's economics would improve as it matured and that Disney's brand allowed it to command premium pricing. After Walt Disney's death in December 1966, Buffett sold his Disney stake for a 55% profit in 1967 - a decision he would later humorously regret as the company grew enormously in subsequent decades. By 1969, Buffett had become disenchanted with the market environment, finding fewer opportunities that met his evolving criteria. The quantitative bargains that had fueled his early success had largely disappeared, while the market's increasing speculation and short-term focus made his analytical techniques less effective. In May 1969, he announced his intention to close the partnership by the end of the year. The Buffett Partnership returned a remarkable 29.5% annually during its thirteen-year existence, compared to the Dow's 7.4%. More importantly, this period saw Buffett complete his transformation from a pure Graham-style investor into someone who recognized that qualitative factors could provide both greater upside and more durable protection than balance sheet assets alone.

Summary

Throughout Warren Buffett's remarkable journey from an eager Graham disciple to a revolutionary investment thinker, one persistent thread emerges: his ability to evolve while maintaining core principles. The transformation from buying statistical bargains to recognizing franchise value wasn't a rejection of his foundational beliefs but rather an expansion of them. Buffett's genius lay not in developing a rigid formula but in adapting his approach to changing circumstances while always maintaining his insistence on margin of safety, albeit in increasingly sophisticated forms. The historical lessons from Buffett's early years remain profoundly relevant today. First, sustainable competitive advantage matters far more than temporary statistical cheapness. The companies that created lasting wealth for Buffett weren't the deepest bargains but those with enduring economic characteristics, like American Express with its trusted brand and high-return businesses. Second, concentration creates wealth while activism accelerates returns. Buffett's willingness to make significant bets on his best ideas and actively influence outcomes through control positions was perhaps the most underappreciated factor in his extraordinary results. Finally, information advantages come from creative, persistent research rather than simply reading public documents. Whether counting tank cars in Kansas City for Studebaker or visiting restaurants to assess American Express's standing, Buffett's edge came from his willingness to dig deeper than others. These timeless principles - focus on quality, concentrate on your best ideas, and develop informational advantages through diligent research - remain as powerful today as they were in Buffett's formative years.

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Brett Gardner

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