Why Apple Is Missing From Berkshire Hathaway's Permanent Holdings List

Earlier this month, I discussed some key takeaways from Warren Buffett (Trades, Portfolio)'s 2023 letter to shareholders. One of the main points covered was that the guru added Occidental Petroleum (NYSE:OXY) and the five Japanese conglomerates to Berkshire Hathaway's (NYSE:BRK.A) (NYSE:BRK.B) permanent holding list. However, he did not express his intention to indefinitely hold Apple (NASDAQ:AAPL), which is currrently the conglomerate's largest holding.

Since then, I have been pondering why the tech giant is not a permanent holding for Berkshire Hathaway. In this discussion, I will share my preliminary thoughts on the subject.

Berkshire's permanent holdings are extremely rare

First of all, if we look at Berkshire Hathaway's history, it is not hard to tell that while Buffett has bought many stocks, he only held a handful of them for more than 10 years. According to Markets Insider, his holding period for the 10 longest-held stocks range from 15 years to 35 years (I added 1 year to the holding period as the article was written in 2023). Of these 10 stocks, Buffett still held some such as BYD (SZSE:002594). However, there are only two stocks that he has explicitly said Berkshire will hold indefinitely, namely Coca-Cola (NYSE:KO) and American Express (NYSE:AXP).

Buffett's steadfast commitment to these two companies says a lot about his confidence in the resilience of their business models and growth prospects. This observation raises the question of the distinction between Berkshire's permanent holdings and non-permanent holdings. In order to answer this question, I revisited Buffett and Charlie Munger's four criteria and came up with a similar list for permanent holdings.

Berkshire's permanent holding criteria

We all know Buffett and Munger's four criteria for making an investment decision:

• an understandable business

• favorable long-term economics

• able and trustworthy management

• a sensible price tag

However, it's important to clarify that these four filters serve as guidelines for making initial purchase decisions, not for permanent holdings. Obviously, the criteria for permanent holdings are different.

In my view, the fundamental distinction between a permanent holding and a non-permanent holding is whether the business requires an able and trustworthy management to maintain its moat. In fact, both Munger and Buffett have often said that it is best to "invest in a business any fool can run, because someday a fool will." Compared to understandability and favorable long-term economics, idiot-proof is a much higher standard.

As for American Express and Coca-Cola, I am not sure whether the former qualifies as an "idiot-proof" business. In my view, the card company is quite complex, which make it more vulnerable to mismanagement. On the other hand, Coca-Cola, with its iconic brands and a widespread distribution network, seems to possess the characteristics of an idiot-proof business.

Another possible criterion for a permanent holding is a track record of dividend increases and share repurchases. Coca-Cola has raised its annual cash dividend for 62 consecutive years and its initial share repurchase program began in 1984.

Now we can attempt to list Berkshire's criteria for permanent holdings:

• an understandable business

• favorable long-term economics

• idiot-proof

• a track record of dividend increases and share repurchases

Does Apple fit the permanent holding criteria?

With the above four criteria, we can evaluate whether Apple qualifies as a permanent holding.

First, Apple's products are widely popular and have a loyal customer base. However, it still operates in the tech industry, which is notorious for the constant need for innovation. The dynamic nature of the industry makes it very hard to assess the long-term understandability and moat of the company's business as it must continuously adapt to evolving technologies and consumer preferences to maintain its competitive edge.

Second, Apple is most likely not idiot-proof. We can gain valuable insights into this aspect from the company's own history. When Steve Jobs was forced out in the 1980s, then-CEO John Sculley almost led to the company's demise. Apple was reborn after Jobs came back and reinvigorated the business. However, it is noteworthy that Berkshire Hathaway did not invest in the stock during his tenure as CEO. Buffett made the decision to purchase Apple shares years after Jobs' passing, following his observation of Tim Cook's exceptional operational capabilities and astute capital allocation decisions. This clearly indicates that Buffett does not consider Apple's business to be idiot-proof.

In terms of capital allocation, according to Apple's investor relation website, the company has been paying out a cash dividend since 1987 and has increased payments in most years. However, its share repurchase program is relatively new as the company only started to repurchase shares in 2012, after Cook's succession to the role of CEO. Interestingly, Buffett said that Jobs refused to buy back shares after consulting with him. This suggests his inability to effectively deploy capital was one of the key reasons why the guru did not invest in Apple during Jobs' tenure. At this point, it is unclear whether Apple can sustain its smart capital allocation strategy after Cook's eventual retirement.

Conclusion

The rapid pace of technological advancement and the potential change in capital allocation decisions after Cook's tenure are two major potential hurdles for Apple to remain in Berkshire's portfolio for the very long term. Therefore, while Apple possesses many of the characteristics of a very high-quality business, it is still an unlikely candidate for Berkshire's permanent holdings list.

This article first appeared on GuruFocus.