Warren Buffett Arrives in Europe
When it comes time to sell a company, owners who care about its continuity and prosperity consider Warren Buffett of Berkshire Hathaway, now open for business in Europe to provide a permanent home for sizable high-quality businesses under existing management.
Warren Buffett has arrived in Europe. The American who built Berkshire Hathaway, history s most successful conglomerate, is seeking well-managed, conservatively-financed businesses boasting durable competitive advantages. Selling companies will find a permanent home at Berkshire where incumbent managers enjoy autonomy to run their businesses without disruption. Buffett, who has been acquiring and preserving such companies in America for decades, in 2015 reeled in Berkshire s first wholly-owned European business, Detlev Louis Motorradvertriebs GmbH, the German motorcycle accessories and apparel purveyor.
Buffett called Berkshire s first outright European acquisition a door opener , said the Financial Times, signaling interest in more.1 The Louis deal is Berkshire s calling card, important because of its passive acquisition strategy: Buffett does not solicit opportunities but awaits deal proposals to be submitted to him. That approach requires a network of associates knowledgeable about Berkshire s philosophy, plentiful in the United States but sparse in Europe. The Louis deal is the beginning of a change, one good for Berkshire and for the many European companies offering what Berkshire admires and protects.
Since 1985, Berkshire has stated what it looks for in acquisition candidates: consistent earning power, solid returns on equity while using little or no debt, quality management in place, and business simplicity that doesn t depend heavily on technology.2 Many are multi-generational family businesses. The sixty companies Berkshire has acquired during those three decades are diverse by industry, business, and structure, but all met such general criteria, and share common values: frugality, ethics, entrepreneurship, autonomy, and patience.
Since 1985, Berkshire has stated what it looks for in acquisition candidates: consistent earning power, solid returns on equity while using little or no debt, quality management in place, and business simplicity that doesn t depend heavily on technology.
The bigger the better: the minimum size is usually $75 million in annual earnings. But Berkshire would prefer companies vastly larger than that called elephants in the Berkshire lexicon and made an exception for its first foray into Europe, as Louis is about half the usual minimum size.
But Louis met all the other criteria. Founded in 1938 by Detlev Louis, an entrepreneurial motorcycle racer, the company began as a motorcycle sales and repair shop then grew by the 1960s into Germany s largest motorcycle business.3 Stoked by the period s popular biking culture, romanticised in such films as Easy Rider, starring Dennis Hopper and Peter Fonda, Detlev broadened his customer base and merchandising reach through a mail order catalogue and by adding products such as belts, boots, gloves, helmets, and visors. With new business partner, G nther Albrecht, in the 1970s, the company drove forward on both fronts: enlarging physical store size while simultaneously growing the mail order business.
During the 1980s, now joined in the business by son Stephan Louis and wife Ute Louis, the team catapulted Louis to the next level: building a network of shops across Germany. Starting in Hanover in 1981, they built stores in Berlin, Dusseldorf, and Regensburg, owning and operating 18 shops by 1989. In 1986, the mail order business grew to a prodigious 357-page catalogue of accessories and clothing, some designed in-house with help from Ute. In order to coordinate operations for such scale, in 1991 Louis constructed a vast new logistics center in Hamburg, gleaming with automation and conveyors.
To build on its strengths, in 1996 Louis split off the motorcycle sales business and focused all company resources into marketing apparel and accessories. By then, the mail order catalog ran 600 pages as the company added CD-ROM merchandising. In 1997, Louis went online, drawing a pan-European customer base to its website where an expanding product line now includes 30,000 products encompassing repair parts like brake pads and mirrors as well as motor oil.
Louis sustained steady sales growth, and sprinted to double its volume in a six-year period in the early 2000s, adding capacity to its logistics facility in tandem with growth. Sales in today s chain of 70 stores, which now include a half dozen in Austria, continue to grow even as its internet business counts for more than 2/3 of orders. Since 2002, the company has operated the Louis Academy, where it trains employees, now numbering 1,500.
Simply put, the company generates substantial cash with scant debt to post impressive financial metrics:4 stable revenue in the range of ‘ 240 to ‘ 270 in recent years, even amid a recessionary Europe post-2008; solid operating margins steadily ranging close to 20 percent; and strong returns on equity of more than 30 percent. The available historical numbers reflect distinctive qualitative attributes that augur well for a durable competitive future.5
Louis s sustained sales growth and successful move into e-tailing signal impressive brand strength. Such brand strength suggests the capacity to penetrate further: beyond Germany and Austria by strategic store openings in selected European cities and toward greater online penetration into American and Japanese markets.
Louis sustained steady sales growth, and sprinted to double its volume in a six-year period in the early 2000s, adding capacity to its logistics facility in tandem with growth.
Louis s record reflects a degree of insulation from adversity. For one, Louis s products are low-tech, making the business easy to understand and reducing the risk of technological disruption or obsolescence. Louis also appears to be less cyclical than typical consumer products companies, particularly since it left motorcycle sales to concentrate on accessories, where demand falls less during recessions.
Louis succeeded in the strategy of forward integration designing and manufacturing some products, especially clothing, and marketing all of its products successively through physical stores, mail order, CD-ROM, and the internet. Its demonstrated scalability implies low incremental capital costs of continued revenue growth, enhancing returns on equity. Its favourable treatment of customers and employees creates valuable loyalty: an employee focus is evident in its training academy, and a customer focus is inferable from its steadily expanding product line.
A final competitive edge is the security of obscurity : Louis operates in a small niche market where large strong rivals are unlikely to be lured into competing. The primary candidates would be motorcycle manufacturers such as Harley Davidson or Yamaha, but their most attractive opportunities are in selling new motorcycles, not aggressively competing in the specialty accessories business. In fact, they benefit from Louis s independent presence, which reinforces the biker culture.
In 2012, Detlev Louis died, leaving the prosperous company to his wife Ute. In considering the sale of a family business such as Louis, there were several options, starting with the motorcycle manufacturers as strategic buyers. But during the two years after Detlev s death, no such deal was struck, suggesting a lack of mutual interest. 6 Another alternative was financial buyers, led by the private equity industry. But while Louis would have made a salivating target for their typical approach, it likely would have been repellant to Ute Louis.
What might a private equity firm have done if it acquired Louis? First, cut costs, perhaps closing the training academy, trimming the workforce, and cutting inventory of slower-moving products. Second, monetise real property tied up in the physical stores, maybe arranging sale-leasebacks, distributing cash proceeds as dividends while committing to a fixed long-term cost structure. Third, borrow heavily a radical change from Louis s pristine balance sheet to pursue rapid expansion, putting new stores throughout Europe. Fourth, move headquarters from Germany to a tax haven such as Lichtenstein or Luxembourg. To do all this, of course, would mean installing new top management, despite Louis s team being seasoned veterans, and then selling within a few years to cash in.
Berkshire offered the opposite on all counts.7 After Ute s financial advisor, Zypora Kupferberg, contacted a US counterpart whose father has known Buffett for many years, Buffett offered Berkshire s standard and unbroken pledge to Ute Louis: maintain the company s existing operations, workforce, strategy and capital structure in-tact; keep headquarters where they are; retain the existing management team; and commit to holding the company indefinitely Berkshire has not sold an acquired business in forty years. They remain stand-alone companies within Berkshire, with no more oversight than an informal board of directors comprised of a few other Berkshire executives
What might a private equity firm have done if it acquired Louis? First, cut costs, perhaps closing the training academy, trimming the workforce, and cutting inventory of slower-moving products.
Companies selling to Berkshire often accept a lower cash price to compensate for such commitments, and Berkshire requires that the seller make an offer, which Berkshire accepts or rejects. In the case of Louis, the price was ‘ 400 all paid in cash, customary for Berkshire acquisitions given the high quality of its stock. At about 1.5 time sales, 4 times book value and 10 times earnings, the price is below comparable public company valuations. Given Louis s impressive returns on equity and potential sales growth, Berkshire paid a fair price but hardly a premium.8
Berkshire is less concerned about a company s exact lines of business than whether it possesses the criteria of quality that meet the Berkshire philosophy. In Louis s case, it was an insignificant coincidence that Berkshire s venerable GEICO subsidiary sells motorcycle insurance, that Berkshire made a substantial investment in Harley Davidson during the global financial crisis, or that Berkshire recently acquired a large automobile dealership in the US. Potential sellers should be concerned about overlaps with Berkshire s business that would give competition authorities pause for Louis, Berkshire s ownership of apparel companies such as Brooks and Fruit of the Loom were pertinent, though European authorities found no anti-competitive problems.9
Why has the acquisitive conglomerate only just recently crossed the Atlantic in the hunt for wholly owned businesses? The two primary reasons for the historical US bias are circle of competence and passive acquisition strategy. Buffett only buys what he knows, and simply knows less about business outside the US But there are some antecedents, such as Gen Re, an international insurance company with a strong presence in both Germany and the UK; sizeable minority stakes in Germany s Munich Re and the French drug maker Sanofi SA; and ownership for nearly a decade of Iscar Metalworking of Israel, which has some European operations.
Berkshire is less concerned about a company s exact lines of business than whether it possesses the criteria of quality that meet the Berkshire philosophy.
More to the point is Berkshire s acquisition practice of awaiting proposals rather than seeking them. Such a strategy requires a network of referrals that must be grown abroad. Fortunately for the Louis deal, Kupferberg knew of Berkshire s reputation and how to make a connection. Buffett says she knows what Berkshire is looking for, earning her a newfound reputation as Berkshire s scout in Germany.10
While Buffett is leading Berkshire s entry into Europe, expect the 85-year old s younger successors, native internationalists, to push the door he has opened far wider. Berkshire s record demonstrates both what they seek and the distinctive package they have to offer. Buffett reports receiving an increasing number of overtures from European companies, and having discussions with some Italian ones.11 But, he explains, You can t force it: the people that own the business have to have a reason they re thinking about selling. 12
After Buffett completed Berkshire s acquisition of Louis, Ute shipped him a small motorcycle she and Detlev owned as a token of her gratitude and expression of their special connection. More such special connections are destined on the horizon.
About the Author
Lawrence A. Cunningham, a distinguished professor at George Washington University in Washington D.C., has written many acclaimed books, including The Essays of Warren Buffett (with Warren Buffett); Berkshire Beyond Buffett and Quality Investing. He consults and lectures widelyon such topics and on corporate culture, values, and governance. Reach him via [email protected]
1. Stephen Foley, Buffett Dons Biker Gear with German Deal, Financial Times (February 20, 2015).
2. For elaboration of Berkshire and its philosophy, see Lawrence A. Cunningham, Berkshire Beyond Buffett: The Enduring Value of Values (2014) and Warren E. Buffett & Lawrence A. Cunningham, The Essays of Warren Buffett: Lessons for Corporate America (4th ed. 2016).
3. References to historical facts about Louis are drawn from the company s website, www.louis.eu.
4. References to financial information about Louis are drawn from Bloomberg data.
5. For elaboration of the principles of quality investing presented here, see Lawrence A. Cunningham, Torkell T. Eide & Patrick Hargreaves, Quality Investing: Owning the Best Companies for the Long Term (2016).
6. Mani, Warren Buffett to Acquire Detlev Louis Motorradvertriebs In Europe Push, Value Walk (February 20, 2015).
7. Beiten Burkhard Company Statement, Advises Ute Louis on the Sale of Detlev Louis Motorradvertriebs GmbH (February 20, 2015).
8. What Do You Get When You Cross Warren Buffett With a Motorcycle?, Motley Fool (February 21, 2015).
9. European Union Press Release, Commission Clears Acquisition of Detlev Louis Motorradvertriebs by Berkshire Hathaway (April 27, 2015).
10. Steve Jordan, Warren Watch Buffett s German Scout on the Hunt, Omaha World-Herald (March 22, 2015).
11. The Berkshire Q&A, Omaha World-Herald (May 3, 2015).
12. Alexander M the & Astrid D rner, Warren Buffet s German To-Do-List, Handelsblatt (February 25, 2015).
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