How Does Warren Buffett Run His CompaniesDecember 27, 2015
Warren Buffett is rightfully admired for his investment record as chairman and CEO of Berkshire Hathaway, which has outperformed the S&P 500 Index by more than 10% annually during his 50-year tenure.
Much less attention is paid, however, to the manner in which Buffett manages the company itself. This is somewhat surprising, given that his management system is very different from those of other publicly traded companies.
Berkshire Hathaway is known for its extreme decentralization. The company’s more than 80 operating subsidiaries have complete independence and minimal oversight from headquarters, which requires little else besides regular financial statements and the return of excess cash that is not needed to sustain and grow the business. The company does not ask for budgets, financial forecasts, or strategy documents. It has no central marketing, procurement, sales, HR, IT, or legal department. It does not even have a General Counsel. This is for a corporation greater in size than General Electric, General Motors, IBM, or Chevron.
How exactly does such a structure work, given that it defies almost every major tenet taught in business school regarding management and governance?
We surveyed the CEOs of Berkshire Hathaway operating subsidiaries — almost all of whom report directly to Buffett — during the summer of 2015 to learn what it is like to manage a business for him. They represent a diverse mix of insurance and noninsurance subsidiaries of various sizes. We found the following three things:
Managers are highly trusted and given considerable autonomy.
Subsidiary CEOs communicate very infrequently with Buffett — on a monthly or quarterly basis — even though he is their manager. And since they are not required to have regular calls or meetings with him, they tend to initiate any communication themselves.
This kind of independence is unparalleled. We found that CEOs strongly believe that no other corporate owner would offer them a comparable degree of autonomy in running their businesses. They reported that Berkshire Hathaway is highly unlikely to intervene in business decisions — even in the case of severely adverse events. Most said that Buffett is “not at all” likely to get involved in the event of unexpected senior management turnover, labor disruptions, supply chain interruptions, complaints by a large customer, a modest decline in sales, or regulatory matters. “No one else gives a company this kind of freedom,” one manager told us.
They did anticipate Buffett would become “somewhat” involved if their business experienced a major decline in sales, a modest financial restatement, or an event that impacts the subsidiary’s reputation. Buffett is only “very” likely to intervene in matters that impact the reputation of Berkshire Hathaway as a whole or in the case of a severe financial restatement.
A long-term investment horizon improves operating performance.
Managers reported that being owned by Berkshire Hathaway lets them manage their businesses with a much longer performance horizon than would be the case under different ownership. While they vary widely in terms of the time range they use to manage their business — some go by three years while others go by 20 — the median average is about five years, which is substantially longer than the median average at comparable companies, which typically use a one-year investment horizon.
All operating CEOs agreed that their financial performance is much better than it would be were their companies not owned by Berkshire Hathaway. Reasons for this vary, although respondents referred to the financial strength of the company, independent operation, brand value, and Buffett’s long-term investment horizon.
The ethical conduct of business is central to the company and its culture.
Finally, Berkshire Hathaway subsidiary CEOs uniformly agreed that the company has a common culture based on an ethical code that promotes honesty, integrity, a long-term orientation, and an emphasis on the customer. They strongly believed that this culture is influenced by the tone at the top. According to one respondent, the main messages conveyed by Buffett are: “1) Never lose reputation; 2) Run your business as if it is your family’s only asset for the next 50 years; and 3) Integrity comes first.”
While our study focuses exclusively on the management of Berkshire Hathaway, these findings raise questions that other managers should consider:
The Berkshire Hathaway system is built on the notion that managers will perform at a higher level if they are granted complete autonomy from headquarters and allowed to run their businesses with a long-term perspective. Would such a system work in more corporations? To answer this, executives need to first think about what procedural and cultural attributes would need to be in place in order for it to succeed.
Buffett takes a very hands-off approach to a wide range of business disruptions. Leaders of other companies should ask: When is it appropriate for corporate overseers to defer to the judgment of management in solving operational problems and when is greater involvement warranted? Where do you draw the line?
Berkshire Hathaway managers are consistent in their belief that their companies benefit from a long-term investment horizon. At the same time, prominent commentators bemoan the short-term orientation of publicly traded corporations. Managers would benefit from figuring out what they might gain from resisting short-term pressures. What actions can their companies take to extend the investment horizons of management?
Respondents are also consistent in their belief that integrity is a critical operating principle for the company. So the questions CEOs must ask are: How important is integrity to our business results? Is ethical behavior being influenced by the tone at the top? Or do other factors like monetary incentives, recruitment practices, and other organizational features have more influence?
Brian Tayan is a researcher at the Rock Center for Corporate Governance at Stanford University. Professor David Larcker is the James Irvin Miller Professor of Accounting and Senior Faculty at the Rock Center for Corporate Governance at Stanford University.