On January 3rd, 1972, Warren Buffett made his largest investment ever at that time. An investment that would go on to teach him lots of things and make lots of cash in the years that followed.
I am talking about the acquisition of a little candy company named See’s Candies in California.
Before I tell you how it helped Buffett build a $100 billion fortune, we need to go back 100 years to understand why Buffett regards it as his ‘dream’ investment.
Mary See – The One Who Started It All
Born in 1954 as Mary Wiseman, she married Alexander See at the age of 20. The See family used to run a hotel in Ontario, Canada where Mary See came up with her own recipes of delicious candies. Her son, Charles, used to run drugstores that got destroyed in fire incidents. He later became a salesman for Merckens chocolate manufacturer.
After the death of his father, Charles moved to sunny California in 1919 along with his wife and widowed mother. He had a strong desire to own a chain of candy shops, so in November 1921 he opened the first See’s Candies shop in Los Angeles, California. The candies were all based on Mary’s recipes.
The candies were a hit from the beginning and the major reason was Charles’ emphasis on using only top-quality ingredients. They even adopted the slogan, “Quality Without Compromise”.
Even during The Great Depression and World War II, See’s Candies did not flinch and compromise on its quality. The candies were consistently great, come what may. In fact, when ingredients were in short supply during WWII, See’s Candies decided not to use inferior quality ingredients to maintain the sales volume. Instead, they continued using the same recipe and the same top-quality ingredients, even if it meant producing less candies.
This turned out to be a masterstroke. The stores would shut once the candies got over, which created scarcity. People would queue up outside the stores just so that they can get a hand on their candies.
This relentless focus on quality made See’s Candies a brand to reckon with in California. By 1972, it had more than 160 stores.
Buffett Almost Blew The Purchase
After the demise of Laurance See (Charles’ son), the See family decided to put up the company for sale in the spring of 1970. There were several interested buyers but all of them decided against buying See’s Candies for one reason or another.
Robert Flaherty, who was the investment advisor to Blue Chip (a subsidiary of Berkshire Hathaway), soon got the wind that See’s Candies was looking for a buyer and thought it would be a great acquisition for Buffett. He informed William Ramsey, an executive at Blue Chip, and together they called up Warren Buffett in Omaha, Nebraska. Buffett’s initial reply:
Gee, Bob. The candy business. I don’t think we want to be in the candy business.
For some reason, the line got disconnected and Robert & William tried everything they could to get Buffett on the line and convince him. After several attempts, the secretary was able to reconnect the call. By this time, Buffett had already examined See’s financials and said:
I was taking a look at the numbers. Yeah, I’d be willing to buy See’s at a price.
At that time, See’s Candies was pulling in:
- $30M annual revenue
- Around $4M pre-tax earnings
- $8M in tangible assets
The See family was adamant about selling at a valuation of $30M but Buffett & Munger were willing to offer $25M and not a cent more. It was a steep premium to pay – more than 6X earnings and 3X the book value was against the tenets of Graham-ian value investing.
The deal didn’t go through that day.
But soon, the See family caved and accepted the offer of $25M. On 3rd January 1972, Buffett & Munger purchased See’s Candies.
Their first step: hire long-term See’s Candies veteran Chuck Huggins as the president & CEO.
The Cash Cow That Has Gifted Billions To Buffett
Buffett bought See’s Candies for 3 major reasons:
Brand Moat: Customers of See’s Candies loved their products and customer service. He saw an untapped potential here that could be exploited for better returns.
No Accounts Receivables: Because the product is sold for cash, it eliminated accounts receivable.
Low Inventory: The production and distribution cycle was short, which minimized the inventory.
Soon after the acquisition, Buffet & Munger made it clear to Chuck Huggins that they won’t get into the operations. The only thing Buffett wanted control over was the pricing. Because See’s Candies had a strong brand moat, thanks to its legacy, Buffett decided to increase the cost of the candies at the start of every year.
While the competitors would try to keep up with the rising costs of ingredients by compromising on their quality and selling at the same price, Buffett decided to pass on the inflation to the customers.
Brand loyalty ensured that people didn’t flinch before shelling extra to gift someone a box of See’s Candies.
Buffett’s astute pricing strategy and Huggins’ leadership at the top led to a rapid increase in revenue and earnings. According to Berkshire Hathaway’s 1984 annual report:
- Price per pound increased at 10% per year
- Revenue increased at 13% per year
- Profits increased at 19% per year
As of 2018, annual revenues for See’s Candies stood at $430 million with operating profits of more than $80 million.
This spectacular growth made Buffett realize the power of brand moat and how it can compound returns at phenomenal rates when exploited wisely.
It was this learning that led him to invest in Coca-Cola later in 1988. At a cost of $1.3 billion, his investment in Coca-Cola is worth $21.5 billion today, an increase of 1550%. This doesn’t include the $8.6 billion he has received as dividends over the years.
Buffett & Munger did try to come up with lots of ideas to make See’s Candies as big as Mars or Hersheys. But they didn’t work. In Munger’s words:
We failed in turning our little candy company into Mars or Hershey’s for the same reason you failed to get the Nobel Prize in physics and achieve immortality. It’s too tough for us.
This gave them their 2nd learning: if you have a business that spits money at unbelievable rates but the return on incremental invested capital is not ideal, it’s best to deploy the capital in pursuit of other quality investments.
Since 1972, See’s Candies has generated more than $2 billion in pre-tax income for Berkshire Hathaway – which they have invested in other high-quality companies and the results are for everyone to see.
In his 2007 shareholder letter, Buffett famously quipped:
Price is what you give. Value is what you get.
Well, at a price of $25 Million, the value is certainly phenomenal when you count the returns of the businesses Buffett invested in or acquired using the $2 billion of cash flow.
- See’s Timeline: https://www.sees.com/timeline/
- See’s Family: https://www.sees.com/about-us/sees-family/
- Wikipedia: https://en.wikipedia.org/wiki/See’s_Candies
- Inc.com: https://www.inc.com/jeff-haden/warren-buffetts-dream-investment-reveals-money-habit-that-built-a-100-billion-fortune.html
- 1984 Shareholder Letter: https://www.berkshirehathaway.com/letters/1984.html
- 2007 Shareholder Letter: https://www.berkshirehathaway.com/letters/2007ltr.pdf
- Business Insider: https://www.businessinsider.in/slideshows/miscellaneous/warren-buffetts-favorite-business-is-a-little-chocolate-maker-with-an-8000-return-here-are-5-reasons-why-he-loves-sees-candies-/slidelist/70192411.cms#slideid=70192416
- The Hustle: https://thehustle.co/how-a-small-candy-company-became-warren-buffetts-dream-investment/
- Quality Without Compromise: http://stuff.maxolson.com/personal/Quality.Without.Compromise.pdf
- Damn Right: https://books.google.co.in/books?id=LhMGSDiQghEC&pg=PA127&lpg=PA127