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Despite Buffett’s standard non-interventionist stance when it comes to interacting with his managers he can sometimes become so excited by an idea that he encourages his managers to implement it. Such was the case with credit cards for GEICO customers. After all, the company already had contact with millions of car owners, data on the behaviour of these people and an efficient distribution method. Why not just sell a credit card alongside insurance? Thus the Geico Platinum MasterCard was born.
The problem is that the credit card business is notoriously treacherous for new entrants. There is a behavioural phenomenon called adverse selection assisted by asymmetric information: the customer knows more about their creditworthiness and reliability than the credit card company, and so, given the chance, the least credit-worthy people will accept an offer from a new entrant that they wouldn’t be offered by the old-hands of the credit card industry. Thus the new entrant ends up with a portfolio of customers who are, on average, a poor risk. I’ll let Buffett acknowledge his business sin:
“And now a painful confession: Last year your chairman closed the book on a very expensive business fiasco entirely of his own making. For many years I had struggled to think of side products that we could offer our millions of loyal GEICO customers. Unfortunately, I finally succeeded, coming up with a brilliant insight that we should market our own credit card. I reasoned that GEICO policyholders were likely to be good credit risks and, assuming we offered an attractive card, would likely favor us with their business. We got business all right – but of the wrong type. Our pre-tax losses from credit-card operations came to about $6.3 million before I finally woke up. We then sold our $98 million portfolio of troubled receivables for 55¢ on the dollar, losing an additional $44 million. GEICO’s managers, it should be emphasized, were never enthusiastic about my idea. They warned me that instead of getting the cream of GEICO’s customers we would get the ––––– well, let’s call it the non-cream. I subtly………..
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