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Warren Buffett And The Curious Case Of Tesco Shares

By Rupert Hargreaves. Originally published at ValueWalk.

The Oracle Of Omaha and the story of his Tesco shares

Warren Buffett is known for making a fortune in the stock market, catapulting himself into a position as one of the richest men in the world. Everyone knows he’s made tens of billions of dollars from the likes of Coca-Cola and American Express and for the most part, he’s rarely lost money. However, Buffett is only human, and he has had losing bets. Investments that turn sour are only a natural part of investing. No investor has ever been able to achieve a 100% success rate, and if they tell you they have, it’s likely they are lying.

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Warren Buffett

Tesco Shares

Buffett likes to joke that his worst ever investment was Berkshire Hathaway. His decision to plow additional capital into the failing textile retailer when he first acquired the business may have cost billions in lost income over the next few decades thanks to the power of compounding. an excellent might be Buffett’s biggest potential loss, but as it’s difficult to quantify how much Buffett lost as a result of his decision to buy Berkshire, it does not seem right to count this as an actual loss for the billionaire.

Buffett has made a loss on several of his high profile investments over the years but one of the largest in UK retailer Tesco. Berkshire’s ill-fated Tesco acquisition ultimately cost the firm $444 million, which turned out to be one of the largest in the firm’s history.

Warren Buffett And His Tesco Shares

The Buffett-Tesco scenario is interesting because the retailer does not seem like a traditional Buffett investment. The group is the largest retail firm in the UK, but it lacks pricing power, which Buffett found out to his detriment. Also, when Buffett initially invested the company was under the stewardship of Philip Clark, a CEO who championed aggressive expansion. Clark followed long time CEO Sir Terry Leahy, who stepped down in 2011 when cracks started to show in the retailer’s façade.

Buffett bought his first Tesco shares in 2006 and continued to buy all the way up to 2012 after the company issued a shock profit warning. He eventually owned around 5% of the outstanding shares.

By 2013, Buffett had apparently “soured on the company’s then-management,” and he decided to sell 114 million of his 450 million Tesco shares. The big question is, why didn’t he sell more? The warning signs were all there. Tesco had issued a dire profit warning the year before and looking at the group’s return on capital employed, it was clear the business was no longer as productive as it once was. Tesco’s ROCE during the Leahy years fell from a very good 19% (1998) to a less than adequate 10%. During the same period and earnings per share rose more than 350% but it was clear the business was sacrificing efficiency for profitability. More startling is the fact that during the years where the return on capital was sliding, Tesco changed its definition for this metric eight times! Surely this is something the Oracle of Omaha wouldn’t ignore?

Buffett eventually paid for his uncharacteristic ignorance of the figures. Berkshire began to offload its stake in the retailer during 2014 at the same time, Tesco issued a wave of profit warnings and became embroiled in an accounting scandal, a result of aggressive accounting tactics used to bolster growth. It is unclear why Buffett didn’t see the warning signs to begin with but it is clear that his lack of attention cost Berkshire investors $444 million (granted this is only 1% of Berkshire’s net book value at the time, but Buffett’s lack of action is more concerning). Ultimately, the billionaire blamed his slow sales on “thumb-sucking”. He wrote in his 50th annual letter to investors:

“An attentive investor, I’m embarrassed to report, would have sold Tesco shares earlier. I made a big mistake with this investment by dawdling… My leisurely pace in making sales would prove expensive. Charlie calls this sort of behavior ‘thumb-sucking’. Considering what my delay cost us, he is being kind.”

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