Buffett’s second great decision was to maximize, at great financial cost to himself, the interest that the public might take in his business affairs. In 1986, Congress passed a tax reform that changed how Berkshire Hathaway’s capital gains were taxed. Previously, those gains had been taxed only once, when a shareholder sold his shares. Now, so long as Berkshire remained a public corporation, Buffett would need also to pay tax on any gains from the sale of stocks inside his portfolio. There was an obvious solution, and it was seized upon by public fund managers everywhere in Buffett’s position: shutter the corporation and become a private equity fund. At the time Berkshire had $1.2 billion of unrealized capital gains. Buffett might have doled these out, and then restarted as a partnership free of corporate double tax. Instead, at a cost to himself that Schroeder puts at $185 million, he kept Berkshire intact.
A man who cares so deeply about money reveals himself most wholly in his decisions to part with it. Buffett had exchanged cash for an audience.”
Would Buffett really have gained from going private? I doubt it, somehow: having sought-after equity with which to pay for acquisitions was extremely valuable to Berkshire Hathaway. What’s more, Buffett prides himself on (to a first approximation) never selling anything; he doesn’t even pay a dividend. As a private-equity fund manager, he would have to give his investors back their money at some point, and that would mean selling assets he loved.
What’s more, there’s something fundamentally unegalitarian about private equity funds: they’re for millionaires only, while a large part of Buffett’s dream was always to take ordinary middle-class Americans and make them millionaires. (On paper, at least, since they never got any dividends from their stock, and he encouraged them regularly never to sell their BRK stock.)
So I’m not sure that it really makes a lot of sense to say that Buffett took a decision which personally cost him $185 million. It doesn’t make sense with hindsight, since Buffett went on to make untold billions more and become even wealthier than he would have become had he gone private. And it doesn’t make sense in terms of opportunity cost either, since while going private might have saved Buffett $185 million in taxes, it would also have cost him a number of golden opportunities down the road. Indeed, Lewis himself explains that Buffett is a master at monetizing his reputation:
By 1986, Buffett’s every move was being watched, and usually cheered. His fame became not only a pleasure but an asset. His capital became unlike anyone else’s, because it came with his name attached to it. Warren Buffett saw deals that no one else saw, and had access that no one else had. If the stock market was a roulette table, he had his hand on the wheel.
Later – much later – a handful of private-equity groups (TPG, KKR) started to get some small measure of the kind of access that Buffett had enjoyed for years. Even then, however, that access was entirely a function of their ability to borrow money, and it disappeared the minute that the market in leveraged loans dried up.
Finally, as Lewis says, “as rich as Buffett became, he never stopped measuring himself by how much money he had”. When Berkshire Hathaway was trading at a significant multiple of book value – as it nearly always was – Buffett could judge how much money he had just by taking the number of shares he owned in Berkshire Hathaway and multiplying them by the share price.
If Berkshire went private, however, Buffett could do that no longer: he would have to measure his own wealth on book value alone. Which, while surely a large number, wouldn’t be quite as large as the market value of his stake in Berkshire Hathaway. And that might well make the difference between him being the richest man in the world and, well, not being the richest man in the world.
Given that choice, it’s quite easy to see how he chose the former course of action.
Felix Salmon is a financial blogger for Reuters Blogs.
Previously: The Oracle has kind words about private equity firms.