The Power of Being Cheap
- By Rupert Hargreaves
A common trait among successful businesses is that they tend to be extremely frugal. The best companies do not waste money on vanity projects or fleets of private jets; they save money where they can and reinvest any excess capital into value-creating opportunities.
The most extreme (and best-known) example of this is Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B).
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The intrinsic value of BRK.A
Ever since Warren Buffett (Trades, Portfolio) has owned the business, Berkshire Hathaway has been an extremely frugal enterprise, only deploying capital where it sees the best opportunities for growth and not wasting money on unneeded corporate perks. The same can be said for the best investors. Most wealthy individuals are incredibly cautious with money and do not throw it away on expensive vanity projects.
The benefits of being cheap
On the topic of cheapness, I recently stumbled across this article from 1997 on the then-CEO (now chairman) of Fastenal (FAST), Bob Kierlin. The author had set out to find the cheapest CEO in America, and after interviewing several candidates, settled on Fastenal's leader.
The article is interesting because it looks at the benefits of being cheap, particularly in a competitive business environment. The cost-cutting CEO was an owner-manager. According to the article, at the time he owned 12% of the stock worth a total of $248 million. But yet despite this massive wealth, Kierlin took home only $120,000 a year, drove a beat-up old auto and spent around $200 a piece on suits.
According to the article his office contained "used furniture, a few photos of loved ones, and a PC, which he uses to type his own correspondence. He has no personal secretary."
The CEO's frugality did not hold the company back. As the article describes, "Fastenal has grown from a fragile start-up run out of a 20-foot-wide Winona storefront to a national powerhouse that operates 560 stores in 48 states, Canada and Puerto Rico."
Since going public in 1987, 10 years before the article was published, the company posted a compound annual earnings growth rate of around 35%. "Net earnings in 1996 hit 11.3%, compared with 5.9% for industry heavyweight W.W. Grainger Inc., a distributor of maintenance, repair, and operating supplies based in Lincolnshire, Ill.," the article read.
Cost-cutting helped the business earn better margins than its competitors and made shareholders millions. "'Fastenal throws away little. Cheapness reigns supreme; it probably always will. The company's penny-pinching has created more than a few millionaires in Winona. Stock prices, when adjusted for splits, have soared more than 6,800%. "Frugality has helped make us profitable,' Kierlin says, 'and profitability is what you need to continue to grow,'" the article said.
In an article full of interesting information on this CEO and his cost-cutting efforts, I believe the quote above offers the most insight into why keeping costs as low as possible works in business.
What's more, Fastenal wasn't just cutting costs for the sake of reducing costs. The company was more than happy to invest money in its operations where it needed to. Specifically, the article noted, "The company will shell out about $8 million over the next year and a half on a computer system to increase efficiencies. Fastenal's fleet of trucks is mostly new; it doesn't want to see vehicles break down and customers fail to receive deliveries."
However, while it was happy to invest millions in IT, spending a few hundred dollars on an airline ticket seemed like an unneeded expense:
"In May, Kierlin and chief financial officer Dan Florness could easily have taken a flight to a conference in Chicago, a little more than an hour away by plane. Instead, they drove five and a half hours in a van, saving Fastenal hundreds of dollars. They lunched at A&W, feasting on burgers and root beers. (Cost: $5 a person.) They spent the night at a motel in Rockford, a Chicago suburb, to avoid the high city prices. The pair even shared a room."
These are just a few takeaways from the article. If interested, I highly recommend reading the whole piece.
Disclosure: The author owns shares in Berkshire Hathaway.
This article first appeared on GuruFocus.
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The intrinsic value of BRK.A
