Phantom Stock, Shadow Stock, or Virtual Stock — Employee Ownership (a series)

August 14th, 2013

An employee who “thinks like an owner” is the Holy Grail — having employees for owners — as we have discussed in other posts.  Therefore, I have been writing a series of posts about tools that owners can use to assist employees to think like owners. Previously I have covered stock options and restricted stock. This post is about phantom stock or virtual stock. Later, I also want to cover Employee Stock Ownership Plans (ESOP, the Employee Stock OWNERSHIP variety, not the Option Plan variety), and profit-sharing.Phantom Stock

All of these ideas are tools available to business owners. I advise people to pick the plan that best fits their objectives for the business — so you first have to know your objectives. Then, what is “best” aligns your objectives with alignment for the employees.

Stock options are the most common, but they are best when the owner is attempting to aim the entire company at a single moon-shot exit sale.  If your plan is to earn ongoing financial returns from ongoing distributions from the business, a stock option plan is exactly counter to your long-term goals.

Other names for phantom stock may include: stock appreciation rights, non-qualified stock options, valuation rights and equity compensation.  These terms can also mean other things, so it is best to learn the fundamental, underlying dynamics of the tool rather than rely on the names which may mean different things to different people.  The name ‘non-qualified stock options’ are sometimes used for phantom stock because the vernacular of stock options is more commonly known by employees as they are similar to the more common version of non-qualified stock options.  However, phantom stock is technically not an actual option to buy stock.

Phantom Stock — How it Works

Phantom stock is essentially a cash bonus plan that is a contract with the employee. There are no actual legal ownership rights or voting rights that go along with phantom stock. Often, phantom stock is granted in units or shares along with an implied ownership percentage in the company. The value of the phantom stock can be aligned with the value creation metric chosen by the business owners, such as annual profits or a percentage of the sale of the company upon an exit.  Thus, it can be an extremely flexible tool. For example, the business owner could say that employees will get 10% of the annual profits of the company or 10% of the proceeds from a sale, or both. For the business owner, the cash payments are tax deductible.  For the employee, the cash payments are ordinary income (not capital gains) but the formula can be written to act like capital gains if desired. The phantom stock can have vesting features and other restrictions — such restrictions as the employee must continue to be an employee to receive the cash bonuses.

Phantom Stock — Influence on Behavior

As we have explored in the posts for stock options and restricted stock, each type of “incentive plan” (or maybe we should call them “alignment plans”) has different characteristics that make one better used in certain situations than in others. Below is a review of how phantom stock influences behavior if it is implemented in a company. Phantom stock can . . . . .

  • Incent an exit?  Usually yes, but it depends upon how it is written. Most often, phantom stock is used to give employees a percentage of the value in a sale. But, the phantom stock contract could be written around profit sharing and not include the proceeds of a sale, or vice versa. Most commonly, phantom stock is written to compensate employees upon a sale of the company.
  • Incent near-term profitability?  Yes, if the phantom stock is written to include a percentage of annual profits, dividends, or distributions.
  • Incent long-term employment?  Yes. Because the business owner can develop the plan with vesting or other ideas, it can clearly be used to incent long-term employment.
  • Incent meritocracy?  Yes. It is easy to adjust the units/shares of phantom stock over time to recognize performance and award the people who are creating value for the company.

Thus, the largest advantage of a phantom stock plan is flexibility. Phantom stock can be written to be aligned with the objectives of the owners and the company itself. And, phantom stock does not require actual ownership to change or does not bring the tax and other legal headaches that come along with other types of alignment plans. Therefore, I feel that phantom stock plans are among the very best ways for closely held companies to assist employees in thinking like owners.

The tax consequences vary case by case and the tax consequences fall differently for the companies and the employees and sometimes can be very complicated. These plans are subject to Internal Revenue Code Section 409A, like stock options.  Please speak with a tax adviser before implementing any of these to avoid tax issues.

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Categories:Business Financing & Funding, Culture Is Strategic, Employee Ownership (a series), Execution, Investment & Business Models
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Joys of Ice Cream, Apple Pie, and Recurring Revenue

August 11th, 2013

Charlie Munger, Vice Chairman of Berkshire Hathaway, once told a friend of mine that if Charlie were a young man, he would be “trying to find online recurring revenue businesses” — like many that are being built and growing today. The combination of recurring revenue and (sometimes) defensible moats makes an attractive formula for financial returns today. Recurring revenue and defensible moats can exist today because of network effects or two-sided markets.recurring revenue and cash flow persistence chart

Munger and Warren Buffett began believing in the 1970’s and 1980’s that consumer product companies and food and beverage companies had excellent economic characteristics that would repeat year after year. This was mostly because the recurring and repeating nature of their revenue would keep the companies growing in value consistently. Occasionally, they found opportunities to invest in these type of companies at reasonable prices such as their investments in Coca-Cola, Gillette, and See’s Candies. This year, Buffett invested in Heinz which also followed the pattern.

The “recurring” nature of that revenue is good, but still not quite as good as the subscription and SaaS models that exist today, sometimes online.

Recurring Revenue Drives Consistent Financial Performance

Some recent research by Credit Suisse supports this long-held view. The Credit Suisse research focused on “cash flow return on investment” and demonstrated that since 1985 consumer household and personal products led both in the most consistent performance and in the highest financial returns (13%). This was followed closely by food and beverage companies. There is a category for “software and service” on their scale, but I suspect that the scale may not include the younger companies developed in the last ten years or so.

If you are building your business and/or evolving your business model, one of the most powerful factors to build in is to build recurring revenue models if you can.  It makes it much easier to grow the business rather than having to replace your old revenue each year before you can grow.  It also provides to your business stability and predictability — stability and predictability that enables you to improve things over time.  If revenue is there, a company can usually adjust its cost structure over time if necessary.  If the revenue is faltering, that is the most difficult problem to fix.

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Business Buyers According to Warren Buffett: Competitors, Flippers, or Berkshire Hathaway!

August 7th, 2013

Warren Buffett and Rose Blumkin

Warren Buffett with Rose Blumkin announcing the sale of a majority of the Nebraska Furniture Mart to Berkshire Hathaway in the early 1980’s.

Whether to sell a business or accept outside equity capital is a high stakes decision for business owners.  Trade-offs are natural and necessary — we instinctively know that we cannot achieve every objective in every decision.  It is pretty easy to categorize the business buyers into three categories:

Business Buyer Types

  1. Strategic Buyers (or competitors of some sort).  They are buying your company for “strategic” reasons, or to morph your company into theirs.
  2. Financial Buyers.  Traditional private equity will need to force a disruptive sale again in 3-5 years.  If a smaller company is looking to sell equity to finance growth, they often think of traditional venture capital which will also require a disruptive exit in 3-5 years
  3. Other — Berkshire Hathaway and, I like to think, Greybull Stewardship.  Warren Buffett has done a masterful job of crafting Berkshire Hathaway to be a preferred home for business that don’t want option #1 or option #2.  Similarly, I have attempted to construct Greybull Stewardship to be a different type of buyer or investor that allows a company to continue its unique strategy and have more flexibility.

Warren Buffett Letter Describing Business Buyers

In the early 1980s, Warren Buffett wrote the letter below to the Blumkin family of the Nebraska Furniture Mart.  He displays his skill at presenting the options and using language to convey ideas in an engaging manner.

If  “you decide not to sell now, you are very likely to realize more money later on.  With that knowledge, you can deal from strength and take the time required to select the buyer you want.”

They could sell to another furniture company or somebody in a similar business.  But “such a buyer — no matter what promises are made — usually will have managers who feel they know how to run your business operations, and soon or later, will want to get into hands-on activity . . . They will have their own way of doing things and, even though your business record undoubtedly will be far better than theirs, human nature at some point will cause them to believe that their methods are superior.”  [Note from Mason: I also think that many financial buyers feel that they can operate a business better than the managers with a track record, and too often such financial managers get overly involved.]

Then there is “the financial maneuverer, usually operating on large amounts of borrowed money, who plans to resell either to the public or to another corporation as soon as the time is favorable.  If the sole motive of the owners is to cash their chips and put the business behind them, either of these types of buyers is satisfactory . . . But if the sellers’ business represents the creative work of a lifetime and remains an integral part of their personality and sense of being, both of these types of buyers have serious flaws.”

“Any buyer will tell you that he needs you and, if he has any brains, he most certainly does need you.  But a great many, for the reasons mentioned above, don’t subsequently behave in that manner.  We will behave exactly as promised, both because we have so promised, and because we need to.” [Note from Mason: Buffett is saying that he cannot operate the business because he doesn’t have any manager types at his headquarters and couldn’t manage  it himself.]

The letter was quoted in the book Snowball by Alice Schroeder.

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Great Tool for Business Decision Making in Uncertainty

July 29th, 2013

In business decision making, we never have as much information or certainty as we would like.  The best business and investment minds know how to focus on the factors in a decision that are the most relevant and ignore extraneous factors.  It is a real skill — one that can be learned over time and can be improved.

 

A tool to help in these circumstances is a tool developed by Harvard Business School professor Howard Stevenson and Eileen Shapiro in their book, “Make Your Own Luck.”  They call it a Gambler’s Prediction Map.  They use it to list and organize the potential factors that could have a major impact upon the objective you are trying to achieve with your decision.  Once you list the factors, then you organize them in the classic b-school 2X2 matrix with the impact on the vertical axis (low and hi) and the uncertainty on the horizontal axis (low and hi) as shown here.

Their gambler’s prediction map has four zones: (1) in the “wallpaper zone,” “factors are often ignored, but can be very powerful.”  For business owners and investors, this zone may be the most important.  (2) Their “wild card zone”  has “unpredictable factors that can work massively in your favor — or against it.”  The high drama here is often best left to the movies.  (3) Their “ant colony zone”  is where, like ants, “many of these factors put together can create substantial advantages.”  (4) Their “strategic rat hole” is a “place you’d rather not be.”

Focus on Factors with More Certainty to Help with Decision Making

The advice of Stevenson and Shapiro is to focus on the left-hand side of the matrix — the low uncertainty side.  Because these factors are more likely to impact your objectives, time spent understanding these factors can be more productive.  Regarding the right side (high uncertainty), “the job of the smart gambler is to lessen this uncertainty risk — sidestep it, avoid it, lessen it, or hedge it. The one thing you shouldn’t do is accept high risk with the same payoffs you could get with a less risky bet.”

Their book breaks the common cliche: “We believe that smart bettors reject the notion that higher returns always entail higher risk.”  For that reason, they’ve structured their maps specifically to highlight opportunities for breaking this cliche to your advantage.

I believe this same matrix could be used to organize a list of potential growth initiatives, or R&D projects, or other problems that need to be prioritized in a business.  A good decision-maker will focus upon the “wallpaper zone” of high impact and low uncertainty projects, Such projects move the organization “to get more of what will help us — with less uncertainty about the outcomes we will achieve.” For more, see the book written by Stevenson and Shapiro.

I have written about other frameworks and mental models that can be helpful for business owners in these posts below.

 

 

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New Twist on Venture Capital with Better Risk-Adjusted Investment Returns

July 14th, 2013

A higher return investment can have a broad distribution of potential outcomes, as conveyed by this graph from Howard Marks of Oaktree Capital Management (the graph is from his book The Most Important Things Illuminated).

This graph is a more helpful way to understand risk than the traditional graph (the traditional single line sloping up showing higher returns going along with higher risks) because risk doesn’t have a single relationship to reward.  Each risk gives a wide range of possible outcomes, a range of rewards.

Compared to traditional venture capital, I believe the investment strategy at my investment fund, Greybull Stewardship, is achieving returns on the higher end of the graph without as many potential negative outcomes as in traditional venture capital.  We believe this will be true because of three hypotheses: 1) more firms are making it through the start-up phase to EBITDA of $1-3m while still founder-controlled because today it is possible to build larger businesses with less capital than historically (there is also more education/knowledge about how to build businesses in the world), 2)  a growing sub-set of these businesses do not want to utilize the “invest/buy and flip” model of traditional venture capital or private equity, and 3) our selection criteria at Greybull Stewardship, we believe, helps eliminate some of the downside potential outcomes.

Model for Investment Returns with Greybull Stewardship

Some of our criteria that we believe help eliminate some of those potential downside outcomes while preserving many of the potential upside outcomes are:

  • Invest when the evidence demonstrates a proven model.  Usually, this means waiting until a company has profits and growth.  We are not interested in taking start-up risks like “product market fit” or risk that a technology may or may not work.  There are plenty of founder-controlled companies that make it to this stage.  Then, we are finding a growing sub-set of these firms are no longer interested in the buy and flip model of venture capital or flip equity.
  • Invest only when the management is in place and wants to stay.  We don’t invest when the management is selling out and bailing out — or there isn’t management in place with a track record with the specific business.  We see a higher likelihood that existing management can build on an already good track record and less likelihood that new management could do better. (Yes, this is different than traditional vc’s who believe a founder has a ceiling on his ability to manage the business. And, yes, we have examples in our fund proving management can improve over time.)
  • Don’t change the strategy or impose new constraints on the business.  Greybull’s evergreen fund model gives founders more flexibility than traditional venture capital or private equity models that require certain growth rates, certain exit timeframes, and other constraints — such as never having a flow-through tax entity.  With such constraints, the business ultimately gets twisted around the constraints of the investment firm/fund.  Unique strategies make all the difference in a business — its moat for example. When your investors do not allow you to pursue a unique strategy because of an investor’s constraints, the tail comes before the head.
  • Earn returns from cash flow or exits or both.  I believe it is dangerous for a company, particularly when it’s the largest financial asset of the founder, to aim everything toward an all-or-nothing moon shot exit.  The VC has the portfolio benefit of some home runs balancing out some strike outs, but the founder doesn’t have the benefit of a portfolio and doesn’t want to strike out with his or her main asset.  It is much more sensible in most scenarios to earn financial returns through a combination of current cash distributions and a potential exit.  Greybull’s investment fund is built to allow this, including investing in flow-through entities for tax purposes. (Such flow through tax entities cannot work in most traditional venture capital and private equity funds.)

The traditional venture capital strategy — having every investment strive to be a high risk win because the big winners need to offset some total losses and some middling results — has not been working lately.  VC returns have been low and problematic for over twenty years according to this report from the Kauffman Foundation.  (See their comments on evergreen funding as Greybull uses.)

I believe Greybull Stewardship’s model helps eliminate some downside outcomes while opening more upside outcomes and is a better model for today’s world than the old venture capital models.

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Binders Don’t Make Employees Safe

July 10th, 2013

I am all for employee safety, but paperwork in a binder doesn’t cushion any accident.  This story may be an example about how worker’s comp is broken.  I am not an expert on worker’s comp nor do I want to spend lots of time figuring it out, but it sure seems like there are lots of inefficiencies and some things don’t connect.Binders Do Not Improve Employee Safety

Here are some facts from an organization I know.  The company pays its worker’s comp insurance company nearly $50,000 per year.  For the last five years, the company has had zero claims.  For the five years before that, I think, there were two claims and the worst one was a sprained wrist.  Each year the insurance service sends an auditor to inspect payroll records; this auditor costs the company’s accounting department many hours while debating in which category each employee should be classified.  Over 10 years that is nearly $500,000 to cover a sprained wrist plus untold hours of bureaucratic talking.  Meanwhile, there continues to be nothing dangerous in this work environment.

Recent Visit from the Insurance Company About Employee Safety

Earlier this year, this company had another visit from the insurance company representative (the insurance company is Republic Indemnity) with demands on what needs to be done in addition to the privilege of paying them $50,000 per year.  Here are quotes from an internal memo after the visit describing the demands of the inspector.  (Anything that has a remote chance of helping an employee or customer in an emergency, this company would do in a heartbeat; yet I think maintaining a “binder” at each location will have zero impact on safety?)  Keep in mind that the most hazardous material at these locations is hot coffee.

We have a bit of work to do to be compliant with the suggestions for an acceptable safety program.

We need a Safety Binder AT EACH LOCATION with 6 tabs to include the following:

  1. Injury and Illness Prevention
    • Program Responsibility
    • Compliance Communication
    • Hazard Assessment
    • Accident/exposure Investigation
    • Hazard Correction
    • Training and Instruction
    • Record Keeping
  2. Emergency Preparedness Plan
    • Alarm System
    • Evacuation Plan
    • Emergency Lighting
    • Employee Training
  3. Hazardous Material Communication Program
    • Inventory of Hazardous Chemicals
    • Plans and Procedures for operations involving their use
    • Material Safety Data Sheets
    • Training – How to Read MSDS, How to use chemical, first aid
    • Records of the above items
  4. Record Keeping of at least annual safety inspection of site
    • 1x per year or more do a safety inspection and record it was done
  5. Record keeping of Safety Training for staff
    • Any time any safety training occurs in any department staff meeting, record it here
  6. Accident Investigation
    • Having Forms readily available for easy documenting any investigation after a report of an incidence

Additionally:

  • We need to keep above records for 5 years on site
  • We need to have an avenue for employees to submit safety suggestions without retaliation.
  • The front of the Safety Binder needs to include a list of hierarchy of managers, their names and titles.

Employee safety is important and setting up a fund to help workers who are hurt is obviously a good idea.  It is just frustrating when a good idea is taken so far and ends up creating costs and nonsense that are not helping anyone.

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BCG Growth Share Matrix of Cash Cows, Dogs, and Stars

July 7th, 2013

Growth share matrix from BCG, developed in 1968.

Older ideas, seen anew, can be helpful to business owners.  In that spirit, I have highlighted Economies of Scale and Michael Porter’s Five Forces previously.  Today, I highlight another older idea in the Boston Consulting Group (BCG) Growth Share Matrix that was developed by the global consulting group in 1968.  It is another simple, but helpful, framework for thinking about elements of your business.  It provides one lens on how to prioritize and manage a portfolio of projects, initiatives, businesses, or any other elements of a portfolio.  In other posts I have explored how helpful frameworks like this one can be used in “theories and frameworks” as with Clayton Christensen at the Harvard Business School and with “mental models” from Charlie Munger of Berkshire Hathaway.

BCG Growth Share Matrix

BCG’s Growth Share Matrix focuses on two concepts: market share and market growth.  Their classic 2 x 2 matrix creates four quadrants.

  • All Stars.  These are projects that have a high market share and high growth.  The idea is that you should keep investing in these stars to maximize your opportunities.
  • Question Marks.  With high growth but low market share, the question is to weigh carefully the risks and rewards of these projects or businesses: whether or not your project can survive in the long term with a low market share.
  • Cash Cows.  BCG suggests these should be milked for cash as they have high market share and low growth.  Often, I think these types of businesses are undervalued even though they could remain as solid contributors to your overall effort for a long time to come.
  • Dogs.  BCG advises to divest dogs that have low market share and low growth.

Developed with business conglomerates in mind, this framework can still be applied to other portfolios such as a portfolio of products or services.  If you own one business, this framework may also help you decide how to manage your business.  If it is a cash cow, maybe you are better off milking the cash cow and diversifying your investments into other assets.  Or if you own a dog, maybe it is time to sell it to a leader in the industry and focus your efforts elsewhere.

In my Greybull Stewardship investments I look for Stars who need some capital or some management bandwidth to ride the market growth opening for them, or occasionally I look for Cash Cows generating cash that can be used to invest in Stars.

In addition to the BCG Growth Share Matrix, below are some of my posts on other charts, graphs, and frameworks.

 

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Built to Last or Built to Flip?

June 19th, 2013

Is your business built to last or built to flip?  No question influences your business strategy more than this one.  There is no right answer — either strategy is fine.  However, making sure that you have alignment throughout your organization on this question is very important, particularly when taking on an investor.  Most private equity owners intend to only hold investments for three to five years.  In fact, Pitchbook is reporting that hold periods for private equity investments have reach an all-time high of 5.4 years in 2013.  This is most likely due to the difficulty in finding exits for companies bought in 2005 through 2008 which represent the bulk of the companies now owned by private equity, according to Pitchbook.

Median Hold Time (Years) for Private Equity Investments

Here are some high-level differences in strategy and structure between the two options: building your company to last or building your company to flip.  My investment fund, Greybull Stewardship, is built to finance companies that are built to last.  We have developed our structure and strategy to support companies that would prefer to be built to last.

Built to Last or Built to Flip?

 

Build to Last

Build to Flip
Customers & Revenue

Revenue always critical, but more willing to “fire” customers that are not aligned with the company

Any and all revenue is good revenue as long as it contributes margin; little consideration of any other factors
Costs

Willing to do what makes sense over a longer term time horizon

Shorter time horizon for payback
Growth Rate

Fast growth is good, but more willing to forego growth for long-term sustainability

Faster the better
Employee Equity

Will orient employee equity and profit-sharing to long-term value creation and balance near-term and long-term gains

Will focus employee attention on an exit with tools such as stock options that really only have value upon an exit
Ownership

Finding sources of long-term or permanent capital aligned with long-term value creation; Greybull Stewardship is one option

Private Equity or Venture Capital
Culture

Willing to establish more unique cultures that reinforce competitive advantages

Only what’s needed to attract new employees
Employee Development

Preference to promote from within b/c have time

Bring in outsiders who can contribute quickly
Tax Structure

More likely to earn financial returns from a combination of ongoing profits and maybe eventual exit; leads owners to select single tax of flow through entities (S Corps or LLC’s) for tax efficiency

C Corps are the usual choice to make gains be capital gains at a lower tax rate
Debt

Prudent use of debt to avoid debt-created problems

Tempted to maximize debt and minimize equity to maximize returns

Related Posts and Articles:

 

Categories:Business Financing & Funding, Competitive Advantage & Differentiation, Investment & Business Models
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Investment Wisdom Convergence from Clayton Christensen and Charlie Munger

May 20th, 2013

When two great thinkers come to a similar idea from different starting points and careers, I pay attention.  For business and investment wisdom, Clayton Christensen of the Harvard Business School teaches his students a collection of “theories and frameworks” to help them understand and deal with different situations they may face — the trick is to know which theory to apply when.  Charlie Munger of Berkshire Hathaway speaks of a “latticework of mental models” where a wise person is served by understanding 80-90 “mental models” from science, engineering, biology, and more.  The more cross-disciplinary are the models, the better. To him, that is the source of “worldly wisdom” rather than pure IQ.
Last week, Christensen gave a talk at Apple’s headquarters as part of a Duke in Silicon Valley event.  Talking with Christensen at the reception, the similarity struck me between Christensen’s frameworks and the ideas explained by Munger.  When I took Christensen’s class in 2001 or 2002, I remember being handed at the beginning of class a couple of summary papers with maybe 15-20 different hieroglyphic-like symbols representing different theories and models that are “true” in some circumstances.

Some of the Christensen frameworks from his class containing investment wisdom:

  • Disruptive innovation model — his classic model where “crummy” products get better over time and take over market segments the incumbents are happy to abandon
  • Intended vs. emergent strategies — I love this one as it throws out the idea of a CEO as the master strategist divining the best path forward and dictating from on-high.  In my experience, good strategy and competitive advantage more often emerges from the daily activities of the organization and evolves over time.  The CEO’s job is more to be a great observer of what’s already happening to find a way to encourage the activities that are building long-term competitive advantage and discourage bad habits in the organization.
  • Culture and capabilities framework — culture is a learned experience from solving problems.  Through those experiences, an organization develops a shared belief system on how to approach and solve problems.  Please see all these posts on culture.
  • Integration vs modularity — In some industries, the profits are in the integration and in others, the profits are in modules (Microsoft or Intel in the PC era versus IBM).
For Munger, his ideas of “worldly wisdom” have been circulated from talks he gave in the 1990’s.  The idea is that a wise person needs a “latticework of mental models” rather than the ability to crunch numbers in his head or regurgitate facts.  He explains that multiple models are better (shades of Christensen emphasizing a collection of frameworks rather than the singular focus of some academics), the models should be cross-disciplinary, and the best people can figure out which models are relevant to which situation.

Some Munger mental models related to investment success:

  • Compound interest —
  • Math of combinations and permutations — he mentions how our brains are not wired for our instincts to be accurate in these calculations
  • Accounting — “one hell of an invention” but everyone knows it is at best a crude approximation
  • Back-up systems — it is wise to build a bridge for more weight than expected
  • Ask ‘why’ multiple times — helps reveal true reasons and clear thinking
  • Impact of subconscious on human decision-making — he often examines a situation on two levels, on one level are the more obvious industry or market dynamics and on a secondary level are his attempts to understand the subconscious and psychological effects that may be at work
  • Experience curve and advantages of scale — please see this post and Munger makes the simple analogy that as the size of a tank increases, the steel only increases by the square but the volume increases by the cube
  • How human institutions and bureaucracies behave —
In fact, business school itself is a gathering of theories/mental models/frameworks to help one recognize situations and respond.  Of course, there is a risk that some of the models taught as gospel turn out to be more harmful than helpful (at the top of that list I would put ‘beta’ as a measure of risk and the efficient market theory).
Our brains are assisted by thinking in frameworks or models to help us remember important concepts, recognize the patterns where those concepts may apply, and provide ourselves a hint of what action to take.  To work on understanding and being able to apply many models is great advice from two great thinkers.
Categories:Investment & Business Models, Warren Buffett & Berkshire Hathaway
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Predict Stephen Burke as Warren Buffett Successor

May 3rd, 2013

I first predicted Warren Buffett’s successor last year, and I am reiterating it today.  I believe Stephen Burke, current Berkshire board member, will succeed Warren Buffett as the Berkshire Hathaway CEO as explained below.  Furthermore, here is another post that discusses how Berkshire is likely to make their selection.

The Berkshire Hathaway annual meeting is tomorrow and I will be there, so please let me know if you will be.

Published May 2, 2012:  First, a little extraneous caveat about this prediction.  I have not spoken to anyone at Berkshire about this.  Frankly, I do not know anyone who works at Berkshire.  And, I have no special knowledge about this at all.  It is just a pure guess (maybe a slightly educated guess) and an attempt to have some fun.

I predict that Berkshire Hathaway Board Member Stephen Burke, CEO of NBCUniversal and COO of Comcast, will succeed Warren Buffett as the Berkshire Hathaway CEO.  To me, it is a very straightforward prediction because:

  • He is a Board Member which means he has inside knowledge of Berkshire and would have less to learn.
  • He understands the Berkshire culture — he has knowledge and exposure to the company over several decades.  His family has been friendly with Warren Buffett since the 1980’s (1985 investment in Capital Cities Communications and the American Broadcasting Company) and probably since the 1970’s as Cap Cities was listed as a Berkshire investment in the 1977 annual letter.  Stephen Burke’s father, Dan Burke, was the long-time business partner of Thomas Murphy, a long-time friend of Buffett’s and Berkshire Board Member since 2003, who ran Cap Cities and ABC together.  Buffett has referred to Murphy and Burke glowingly numerous times throughout the years and he wrote in the 1985 annual letter, “Tom Murphy and Dan Burke are not only great managers, they are precisely the sort of fellows that you would want your daughter to marry.”
  • Burke understands the Berkshire way of being hands-off with the business unit managers.  Burke has the track record and business reputation that he will not feel like he has to prove himself by making big moves or getting overly involved in the business units.
  • Burke seems to be about the broader purpose or meaning of being in business — something he will find in spades at Berkshire.  He will appreciate and understand the nuance of the role, and revel in the fact that the Berkshire job is being part of a legacy.  Berkshire prides itself on having strong values, doing things differently than most companies, having deeply rooted norms and ethics — things that I suspect Burke would enjoy supporting because these things have always been important to him and his family.  Burke will not strain against that unique culture.
  • He has the stature to gain immediate respect.  Comcast has $55 billion in annual revenue and NBCUniversal has about $20 billion in revenue.  Burke is also on the Board of JPMorgan Chase & Co.  He has reportedly been offered the CEO role at Coca-Cola, Nike, DirectTV and others.

Anyone else want to make a guess that is not the usual suspects?

Related post about how Buffett will make his slection:  Berkshire CEO after Warren Buffett – May 2, 2012.

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