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Warren Buffett’s Scott Fetzer purchase is remarkable firstly because it was a conglomerate. Until that point Buffett and Munger focused on companies engaged in one line of business and which were expected to continue in that line for decades to come. See’s Candies stuck to manufacturing and retailing its goodies; the Illinois National Bank only undertook banking in a small geographical area; National indemnity and GEICO were insurers. Even Capital Cities/ABC’s various businesses were related to entertainment.
But Scott Fetzer had over 20 businesses with few commonalities. Its biggest subsidiary sold encyclopaedias door-to-door ($600 per set). Its vacuum cleaner division also sold door-to-door at up to $900 per machine, but otherwise was totally different. Scott Fetzer had subsidiaries making and selling products as wide-ranging as air compressors, electric motors and trailer hitches.
This investment is also remarkable because the leader of the company pursued a leveraged managerial buyout only a few months before, which would have made him undisputed boss of his own company, a corporation big enough to be a member of the Fortune 500. And here he was, accepting Buffett and Munger as overlords.
Thirdly, the managerial team must have been incredibly enthusiastic after selling out to Berkshire Hathaway because they went on to achieve outlandishly good returns on capital employed. Returns of over 50% per year were the norm. And because Scott Fetzer did not need much additional investment in capital items and working capital amazingly high dividends flowed to Buffett and Munger to invest in other companies. In the first 15 years alone £1.03bn was sent to head office in Omaha. And this from a company bought for only £315.2m.
This case study is very useful in illustrating Buffett’s method of calculating owner earnings. In his 1986 letter to shareholders (in an Appendix) he sets out the components required to estimate Scott Fetzer’s owner earnings, explaining the underlying rationale for regarding this method as the best for obtaining annual flows to shareholders which can then be discounted to value a company. This is the only public example of Buffett illustrating this most important technique.
Summary of the deal
| Scott Fetzer | |||||||||||
| Time | 1986 – today | ||||||||||
| Price paid | $315.2m | ||||||||||
| Quantity | 100% of the equity | ||||||||||
| Sale price | Still held | ||||||||||
| Profit | $2bn, and counting | ||||||||||
Berkshire Hathaway in 1986
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A little history
George Scott and Carl Fetzer started a machine shop in Cleveland Ohio in 1914. A fellow Clevelander, Jim Kirby, invented a new type of vacuum cleaner, and he chose to partner with Scott and Fetzer to build a very successful business focused almost exclusively in that product area from 1922 until the 1960s. Flush with cash, in the 1960s it went on an acquisition splurge ending up with 31 businesses by 1973.
In the mid-1970s Ralph Schey was appointed chairman and CEO and set about reducing the sprawling conglomerate to a mere 20 divisions, but held onto those with good brands in consumer markets. After the experience of the 1973-5 recession he figured consumer brands would have more resilience in any future downturn. Also, this approach matched the skill-set of the senior managers who were less manufacturers and more marketers.
Schey set about broadening the consumer product offering with the acquisition of Wayne Home Equipment, producing oil and gas burners and pumps for space heaters and boilers and water pumps, in 1978. The bigger deal of 1978 was the $50m World Book purchase, the market-leading direct seller of encyclopaedias – it operated in an oligopoly, with E
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