Buffett's Investment Best Practices: Lessons from the 2018 Annual Letter
Focus on Business Fundamentals
Look for companies with favorable and durable economic characteristics: Seek businesses that generate substantial earnings relative to tangible equity capital (approximately 20% returns for Berkshire's major stock holdings).
Seek businesses that operate without excessive debt: Evaluate a company's balance sheet strength, as excessive leverage can be fatal during economic downturns.
View stocks as ownership in businesses, not ticker symbols: "What we see in our holdings is an assembly of companies that we partly own and that earn about 20% on the net tangible equity capital required to run their businesses."
Valuation Discipline
Buy at sensible prices: "Our prime goal in deployment of your capital: to buy ably-managed businesses, in whole or part, that possess favorable and durable economic characteristics. We also need to make these purchases at sensible prices."
Focus on calculating whether a portion of an attractive business is worth more than its market price: This approach is different from making market predictions or timing.
Be patient and wait for the right opportunities: "Prices are sky-high for businesses possessing decent long-term prospects."
Long-Term Perspective
Hold onto good businesses: "Truly good businesses are exceptionally hard to find. Selling any you are lucky enough to own makes no sense at all."
Appreciate the power of retained earnings: Companies that retain and effectively reinvest their earnings can deliver substantial value over time. "Over the years, earnings retained by our investees have eventually delivered capital gains to Berkshire that totaled more than one dollar for each dollar these companies reinvested for us."
Value company repurchases of underpriced shares: "If Charlie and I think an investee's stock is underpriced, we rejoice when management employs some of its earnings to increase Berkshire's ownership percentage."
Risk Management
Never risk getting caught short of cash: Maintain adequate liquidity to weather market downturns and capitalize on opportunities when they arise.
Use debt sparingly: "Rational people don't risk what they have and need for what they don't have and don't need."
Be prepared for occasional large losses: But be positioned to add business the next day when catastrophes strike.
Accurate Financial Assessment
Focus on operating earnings, not accounting gimmicks: Pay "little attention to gains or losses of any variety" that don't reflect the underlying economics of the business.
Be skeptical of metrics like "adjusted EBITDA": Such measures often redefine earnings to exclude real costs.
Consider maintenance capital expenditures: Recognize that accounting depreciation may actually understate true economic costs in many businesses.
The American Tailwind
Recognize the extraordinary power of the American economic system: A simple investment in American business through the S&P 500 index would have grown 5,288-fold from 1942 to 2019 (Buffett's 77-year investment timeframe).
Ignore doom predictions: History has shown that American businesses have thrived despite wars, inflation, financial panics, and political changes.
Understand that prosperity comes from saving and investing, not consuming: National wealth accumulates through the same mechanism as Berkshire's - retained earnings that compound over time.
