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Buffett's Transition From a Value to a GARP Investor

Warren Buffett is today what we would call a "GARP" (growth at a reasonable price) investor, albeit one with a strong value bent. This transition occurred during the early years of his "new" (post Buffett partnership) incarnation.

What happened in the early 1970s was that certifiable growth companies got not only into value, but deep value territory. One of them was Washington Post  That company had publishing and broadcasting assets worth perhaps $400 million in 1970, but which sold in the market for $80-$100 million. Buffett bought some 18% of the company, which not only closed the gap between market value and asset value, but also grew earnings per share in excess of 15% over the next decade.

GEICO had represented one of Buffett's first investments as a boy. Started with $100,000 in seed capital in 1936, it was worth about $3 million when Ben Graham bought a controlling stake in 1948. From there, it advanced in spectacular fashion to a peak of over $500 million, over 100 times, in two and half decades, before falling onto hard times in the early 1970s. By 1976, it was near bankruptcy when Buffett had Salomon Brothers organize a rescue via a $76million capital infusion. Berkshire provided $19 million of it, and basically co-underwrote the convertible preferred offering with Salomon. Adding this to an earlier $4 million investment in common gave Buffett a 33% stake in a company that would grow per-share earnings at about 15% a year for the next two decades.

Other, less celebrated long term holdings from the period include Affiliated Publications, the Interpublic Group, Media General, and Ogilvy and Mather.
Buffett also experimented with cheaply priced leaders of their respective industries: Safeco for insurance, General Foods in food, and the former Exxon in energy. There was a group of inflation hedges in the form of Alcoa, Cleveland Cliffs Iron, GATX, Handy and Harman, and later Reyolds Aluminum. Finally, there were arbitrage operations in Arcata Corporation and Beatrice Foods.

Buffett also dabbled in larger media companies such as ABC, Capital Cities, and Time Inc. He made a proposal to the management of the latter company that he take a large blocking position, to prevent a takeover, which Time rejected, to its later regret. (A takeover attempt by Paramount forced it into an ill-advised merger with Paramount.)

Both ABC and Capital Cities came back onto Buffett's radar screen when the chairman of the former retired, and the chairman of the latter, Buffett's good friend Tom Murphy, wanted to acquire the former, a move that had the blessing of the outgoing chairman. On its own, Capital Cities had no chance to acquire ABC, but an over $500 million investment from Berkshire provided the "equity" slice that made leveraged the deal possible. It also had the effect of making Berkshire a nearly 20% shareholder in the combined company, discouraging a takeover. At 16 times earnings, it was not a Graham investment, and had no margin of safety on the balance sheet. But Tom Murphy reduced the combined companies' debt by over $1 billion (nearly half) within a year, while growing earnings at a mid-teens rate. (The stock grew at nearly 20% a year for a decade, because of multiple expansion, before the company was taken over by Disney.

His next moves were the most controversial of his career (and foreshadowed his recent purchases of General Electric and Goldman Sachs preferred). Not finding any cheap common stocks around the run-up to Black Monday, Buffett bought converitble preferred stocks in Champion International, Gillette, Salomon Brothers and US Airways. Champion was a mediocre, and U.S. Air was a money-losing investment. Salomon fell onto hard times and had to be personally rescued by Buffett. Gillette was a fundamentally strong company that paid out essentially all of its net worth in a special dividend to avoid a takeover (before Buffett's investment recapitalized it). In this regard, it was much like American Express of the 1960s. Buffett returned to American Express in the mid 1990s with a similar $300 million investment in convertible preferred.

During this time, Buffett completed his transformation as a GARP investment buy buying Coke.  This was not a classic Graham and Dodd investment, but the company was selling at "only" 1.25 times the market multiple, a ratio that expanded to 3 times in a decade, tripling the absolute multiple. Earnings more than tripled during this time, making Coke a huge winner for Berkshire.

In recent years, Buffett has added "international" to his repertoire, investing in Guinness (drinks) and Tesco (retail) of Britain, Posco, the South Korean steel company, PetroChina and the Brazilian real.