| The Billionaires Club |
Dateline: 7/13/98
Name the two richest men in North America! Easy, isn't it? Every one knows they are Bill Gates and Warren Buffett, worth $75 billion and $50 billion respectively. Two extremely wealthy men. Two very different styles and paths to riches.
Buffett made his billions by investing. True, he does take an active interest in the management of the companies he owns a stake in, both before and after investing, but essentially his company, Berkshire Hathaway, is a large holding company. It's almost like a mutual fund, holding interests in a number of diverse enterprises.
Buffett's success is due to his investment methodology. He uses a combination of principles inspired by investment gurus Benjamin Graham and Philip Fisher. Graham was the father of value investing. Fisher emphasized meeting the management of the companies you plan to invest in and learning how they operate. The synthesis of these two methodologies proved wildly successful for Buffett, making him a financial guru in his own right.
How successful has Berkshire Hathaway been? $10,000 invested in Berkshire Hathaway in 1956 would today be worth over $250 million! Incredibly, his company is returning an average compounded return of over 25% a year.
Then there's Bill Gates. His company, Microsoft, is one of the great success stories of this generation. But unlike Buffett, who invests in a myriad of different enterprises from Coca Cola to the Walt Disney Corporation, Gates is Microsoft, and it is not a conglomerate of different companies. It is essentially a software manufacturer.
Gates was one of the pioneers of the computer revolution and it made him fabulously wealthy. But he was not just lucky. Gates is without a doubt a genius, both in his field, computers, and as a businessman.
$10,000 invested in Microsoft in 1986 would today be worth around $2,500,000. That's an annual compounded growth rate of over 100% a year! This, of course, explains how Gates, a relatively young man, got to overtake Buffett in the richest man category, even though Buffett had a thirty year head start on him.
Now the thing I want you to think about is this. Buffett and Gates did not get to be multi-billionaires through dumb luck. They got there through a special genius they each have. Buffett is a genius at investing, at synthesizing two great investment philosophies into one brilliant new approach; at assessing a company's value and future prospects. And Gates as we noted, is a genius at software design, an innovative developer, and a keen businessman.
Now think about this. Can you imagine Gates losing his billions tomorrow? A year from now? Ten years from now? Not really, can you? It is as absurd to think that Gates will become an idiot and squander away his company and his billions as it is to imagine the sun not rising tomorrow.
In fact, it is reasonable to expect that Gates and Microsoft will continue to do well over the next ten, fifteen, twenty, or even thirty years. Not as well as in the past. A 100% a year growth rate is not likely to continue forever. But certainly it is reasonable to expect that Microsoft will grow at a good rate continuously for many years to come.
As we noted in our review of Geoffrey Moore et al's book The Gorilla Game, Microsoft is a gorilla in the high tech field. It was there at the beginning of a tornado market, established predominance (or rather, the market chose Microsoft Windows as the operating system of choice) and has continued to keep a finger on the pulse of the public, to develop new user friendly products, keep abreast of new trends, and maintain its power.
And as Moore points out, the thing that will kill Microsoft (or any high tech gorilla) is a new discontinuous innovation that supplants its primary product, just as the personal computer spelled doom for the typewriter. What such an innovation might be is hard to say.
With Warren Buffett, again, it is as improbable to imagine Buffett changing from the careful value oriented investor into a speculator in penny stocks. Berkshire Hathaway will always be governed by the principles of its leader, even after he passes on. (And Buffett is a young, active man in his sixties.) Buffett, himself, will likely be running things at Berkshire well into his eighties. He loves the game too much to ever want to retire.
And if he does retire, the people who take over will be hand picked by Buffett himself. They will be people who understand and can implement Buffett's methodology on into the future.
Which brings us to the Billion Dollar Retirement Plan. No, it won't net you a billion dollars at retirement. I'm talking about investing in billionaires. Specifically, investing in Microsoft and Berkshire Hathaway. Here's the theory and the plan.
The presumptions are
A person aged 50 making $64,200 today, would need $32,100 a year equivalent today if he were retired. Fifteen years from now he'll need $50,000. Here's a chart showing how much a person would need to generate at retirement to have the equivalent of $32,100 this year.
| Years to Retirement | 15 | 20 | 25 | 30 | 35 |
| Needed at Retirement (First year) | $50,000 | $58,000 | $67,250 | $78,000 | $90,250 |
Now to generate that amount of money would take a different amount of investment depending on how many years you are from retirement. The longer away from retirement, the fewer shares you'll need to generate the appropriate income. The chart below shows how much you need to invest in shares of Berkshire Hathaway or Microsoft today to be worth the required amount at retirement. It is the same as the first chart with one line added.
| Years to Retirement | 15 | 20 | 25 | 30 | 35 |
| Needed at Retirement (First year) | $50,000 | $58,000 | $67,250 | $78,000 | $90,250 |
| Needed to Invest Today | $3250 | $1515 | $ 705 | $ 330 | $ 155 |
The table shows that with a super stock like Microsoft or Berkshire Hathaway, returning at least 20% a year, the amount needed to be invested is halved for every extra five years to retirement.
So here's the plan. Decide how many years you expect to live after retirement. With today's longevity increasing, expect to live at least twenty years. Or to be on the safe side, count on living to be 100. Plan for 35 years of retirement. (By the time you're 100, you probably won't care how much money you have anyway!
If you're fifteen years away from retirement, invest $3250 for each of the first five years of retirement. For the next five invest $1515. For the next five invest $705 and so on. In other words, if you're fifteen years from retirement, invest $29,000 in one or both of these super stocks today, and chances are you'll have a comfortable retirement for 35 years!
In fact, it'll be more than comfortable because the amount invested for each year in each five year period is what is required to generate what is needed for the first year. You'll actually find that you will have to cash in fewer and fewer shares each year and that you will actually have your nest egg grow, even though you're retired and drawing from it. This means bigger and better vacations every year of your retirement. The ability to help out your children. The ability to support generously a favorite charity or cause.
Of course, we looked at the scenario for someone a scant fifteen years from retirement. If you're only 30, in other words 35 years from retirement, invest a mere $5425 in these stocks now and you could have your retirement paid for. Retire at 60 by investing $11,550 now.
Now I don't suggest you put all your eggs in one basket. I suggest that you should consider this as an investment in addition to your regular savings plans and RRSPs. You may want to consider borrowing the money to invest in these stocks outside your RRSP. The interest will be tax deductible. Berkshire Hathaway pays no dividends. Every cent of profit is retained earnings re-invested in the company. Therefore there is no tax liability until you cash in the shares.
Microsoft closed July 10 at $113.19 US or $164 Canadian. Berkshire Hathaway "B" closed at $ $2579 US or $3739 Canadian. You could buy one share of Berkshire Hathaway "B" for every year of retirement and sell one share a year. Each subsequent year of your retirement would generate more wealth that year. Of course that would cost you more than $130,000 Canadian. An easier way to do it would be to buy ten shares now ($37,390 Canadian) and perhaps one a year after that. Because of the size of Berkshire Hathaway "B" shares (B-H has a policy of not splitting stock.), it may be prudent to limit yourself to one share for each of your first five to ten years of retirement to avoid huge tax liabilities when you cash them in. Cover the remaining retirement years with Microsoft stock.
Or you could buy $29,000 worth of Microsoft (177 shares). You could add to it over time to ensure an even better retirement.
Garth Turner recommends turning equity in your home into stock. Taking out a $30,000 second mortgage on the house and investing in BRK.B or Microsoft could well be the key to a financially secure retirement, even if you never invest another dime!
What have Microsoft and Berkshire Hathaway been doing lately? Berkshire "B" shares were $1530 at the beginning of the year. They're now at $2579, an increase since Jan. 1 of 68.5%. Microsoft split last year at a price of around $83. It climbed a bit and then dropped all the way back to its split level on June 1st, bottoming at $83.63 (I recommended buying it in this column on May 25th). It has now climbed in six weeks to $113.19, an increase since then of 35.3%. If there's any sign of these stocks losing their magic touch, it has yet to manifest itself.
I'd be remiss without adding a few caveats. If investing in Microsoft, keep up with the technology and watch for signs of a new technology that may erode Microsoft's market power. With Berkshire Hathaway, watch for changes in management. If Buffett retires, monitor the stock closely and make sure it does not go awry.
If you're investing inside an RRSP, make sure you don't exceed your 20% foreign content requirements. But be aware that the 20% rule applies to the amount originally invested. If you convert 20% of your all Canadian holdings to foreign holdings and they grow faster than the Canadian content, swelling to 25% or 30%, don't worry about it. It was 20% when you bought it and that's what counts. No foreign content rules apply to investments outside your RRSP.
And remember the most important caveat of all - past returns are no guarantee of future returns! (But if you knew of a horse who consistently won every race it's been in, wouldn't you want to bet on it?)
Investing (Canada)'s Value
Investing Net links
Book Review: The Warren Buffett Way
Book Review: Value Investing Made Easy
Berkshire
Hathaway Vs. the Dow Industrials
- a truly mind-boggling chart!
Disclaimer: As with all my columns here, I should reiterate a precaution. I am not a professional financial advisor. I am a financial journalist and editorialist. The views in these columns are my personal opinions. The author owns shares in both Microsoft and Berkshire Hathaway "B".
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