Li Lu Warren Buffett’s Chinese Car Bet: A Lesson In Long-Term InvestingRupert Hargreaves
Of all the companies that Berkshire Hathaway has an interest in, there is one that has attracted more attention than most over the past decade. Chinese automaker BYD is one of the conglomerate's larger positions, but it does not feature in Berkshire's quarterly 13F SEC filings. Berkshire’s MidAmerican Energy Holdings unit bought a 10% stake in BYD for about $230 million in September 2008 for around HK$8. At the end of last year, the holding was worth ten times that amount.
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But it hasn't been plain sailing for Buffett and team. As Bloomberg notes, BYD has a habit of “whipsawing investors” with Hong Kong quoted shares “either oversold or overbought” every year since its 2002 initial public offering.
This isn't an investment for the faint-hearted then, but over the years BYD has built a reputation for itself as a business that is working hard to transform the world of energy and transport.
It is said the Warren Buffett was first pitched BYD by Chinese investor Li Lu, who reportedly owns 2% of the company. In a lecture at the Columbia Business School just before the financial crisis. Lu told his audience that he first entered the position in 2002, and has been holding ever since as the company has gone from strength to strength. Even though it took some time for him to fully research the company, one of the things that initially struck the Chinese value investor, is BYD's culture. As he explained:
“When you get into situations like BYD, you see lots of good surprises. Chuanfu and his team have this fabulous culture, everything people thought they knew turned out to be a few years late. He got into battery manufacturing in that particular way because he really had no other option. He had no money, he only had $300,000 in venture capital funding before IPO and that was it. He raised money in an IPO and Buffett gave him $200M, now they have 160,000 employees. $6-7B in revenues, $500M in net profit. It is amazing. So he has this ability to adapt to a competitive environment. He has demonstrated that ability again and again. The way he does automation is far cheaper than anyone else and more reliable. He continues to surprise me with his ingenuity, to figure out ways to do something better than everyone else. What he is currently doing is very different than what everyone else has done. At the end of the day, you might look at what he has done.” — Source
Over the years, Li Lu has cultivated a strong relationship with Warren Buffett and his right-hand man Charlie Munger, and it is this relationship that eventually lead Berkshire into BYD.
However, it has not been plain sailing for the group since 2009. Volatile profitability, concerns about its outlook and even concerns about Berkshire's intentions to trade in and out of the stock have thrown investors around.
The latest rout has wiped nearly $9 billion from BYD's market capitalization over a few days as analysts have become more cautious on the outlook for the business.
According to Bloomberg, investors and analysts are losing faith in BYD's ability to be able to continue to grow with fewer government subsidies and growing competition. It is predicted that due to these headwinds, first-half profit may fall as much as 83%. According to data compiled by Bloomberg, BYD's recommendation consensus — a gauge of analyst confidence in a stock on a scale of 1 to 5 — stands at 3.7, the lowest in almost three years.
Still, these concerns are unlikely to be causing Buffett to lose sleep at night. In the middle of last year, the stock popped by around 50% in the space of a few weeks after a China announced plans to get rid of all fossil-fuelled cars, a move that would undoubtedly lead to a spike in demand for BYD's battery technology.
Seven years ago, when sentiment towards the business was cooling for the same reason, both Buffett and Munger came out to defend the business.
According to Reuters, which reported on the story at the time, Munger acknowledged BYD had challenges but said he intended to keep supporting the company stating, “The stuff they’re doing is difficult. They have 20,000 engineers working on it.” He went on to say “I think I will hold my BYD stocks while it works out. All the way till the end.”
The long-term trends certainly look favorable for BYD and its electric vehicles. Even though, as part of its drive to get more consumers to buy electric and reduce the industry's dependence on subsidies, Beijing cut subsidies for electric vehicle makers by as much as 40% last year, electric vehicle sales jumped by more than 80%. Demand only seems to be accelerating. A total of 102,000 new passenger electric vehicles were registered during December of 2017, up 130% on the year and by 2019, China requires electric cars to make up at least 10% of each automaker's output. The minimum percentage increases to 12% in 2020. As long as BYD can keep innovating, the company should be able to benefit from these tailwinds.
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