In the 1980’s Warren Buffett made an investment in his personal account. He bought a 6% stake in Bayuk Cigars. He bought the stock at $13.50 and expected it was worth about $15 per share.
Why buy 6% of this cigar company in his personal account in order to make $1.50 per share?
Bayuk was under contract to sell a portion of their business. Buffett knew he would be receiving a special dividend of $8 per share within weeks of his purchase. He would also be receiving an additional $4 in dividend a few months later.
His money would be returned to him quickly. His underwriting risk for the investment would be reduced almost immediately. He was in essence investing $13.50 but getting $12 back quickly. So he was investing $1.50 to make $1.50, or possibly more.
Buffett ended up receiving a total of $16.13 or 19% on his $13.50 investment. However, due to the front loaded nature of the payouts his IRR was 50%.
When we identify an acquisition for our HoldCo we are focused on cash flow production. Post-transaction we are immediately sweeping excess cash into the HoldCo. Reducing our underwriting risk.
If we can buy a business earning $1m for $4m, and sweep out $2m within the first two years, our IRR has gone through the roof, just like Buffet’s did with Bayuk Cigars.
The focus on cash flow and ability to effectively return it to the HoldCo is one of our foundations. This is why we focus on cash flow when looking for companies, implement cash sweeps post acquisition, and incentivize our CEOs by paying their bonuses based on how much cash they send to the HoldCo.