Tuesday, December 2, 2008

The Warren Buffett Way: Chp 7 Part 2: Equity Marketable Securities

Gilette is a company known to be a global leader in the manufacturing and distribution of razor blades and toiletries. The company has been a market leader in the shaving market since 1923.

In early 1974, a competitor, Bic, introduced a disposable shaving blade that quickly took 50% of the shaving market. Gilette swiftly countered with their own disposable blade but in the process they found themselves cutting into their own profit margins. Eventually Gilette realized that they would be better off focusing on the higher-end shaving market and thus they abandoned the disposable shaving blade market.

During the period when Gilette was offering a "disposable blade", the company appeared to be a mature, slow growing company and a potential takeover target. During this time, Gilette's CEO fought off multiple takeover attempts. It was at this time that Warren Buffett solicited a friend on Gillette's board to see if Gillette would be interested in a capital injection from Berkshire Hathaway. The board agreed to do a deal with Berkshire.

In 1989, Berkshire made a deal with Gilette for convertible preferred shares and soon after, Buffett joined Gilette's board of directors. Berkshire bought $600 million of Gilette's convertible preferred shares. Within two years, Berkshire converted their Gilette preferred shares into Gilette common shares, which were then worth $875 million.

Buffett understood Gilette's business economics and felt he could make a reasonable estimate about its future. In 1991, Buffett compared Gilette to Coca-Cola and said "Coca-Cola and Gilette are two of the best companies in the world", and "we expect their earnings to grow at hefty rates in the future". For this reason, Buffett, along with Munger, decided that Berkshire should hold onto Gilette's common shares.

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