During the late 1980s and early 1990s, Warren Buffett built Berkshire Hathaway’s famous 400,000,000 share position in the largest beverage provider in the entire world, Coca-Cola (KO). At the time, he spent a little more than $1 billion of Berkshire Hathaway’s funds to make the initial investment, which has the same purchasing power as $1.8 billion today.
During this 30+ year time horizon, Berkshire Hathaway shareholders have seen the value of the $1 billion holding increase in value to $21.8 billion, but more subtly, they have collected $3.1 billion in total dividends during this time. In some respects, the dividend figures are understated in multiple ways.
First, they are understated to the extent that, say, collecting $30 million in cold, hard cash deposits in 1990 meant far more in terms of purchasing power than they do today, but they are also understated to the account that no opportunity cost is included in such a calculation. For instance, we speak of the $3.1 billion in cash that Coca-Cola generated, the calculation assumes that the dividends are pooled together in an account yielding 0% for 30+ years. Second, the extent that those Coca-Cola dividends were redeployed into any asset that produced capital gains, dividends, rents, or interest, the underlying economic reality of “what could have been” is further understated.
When you look at the capital gains from Coca-Cola during the past thirty years, you can see that the value of the shares have grown by 10.68% annualized over the past thirty years, and even adjusting the purchase price for inflation, have delivered purchasing power gains of 8.53% per year.
But what if you recognized that Coca-Cola had the best beverage distribution network in the world, an array of intellectual property in the form of 500+ brands that perpetually ensure strong sales, and operated in an industry with a perpetual demand, and decided to take the cash profits that were paid out to you as dividends and reinvest them into the company so that your ownership of the business was increasing in connection with the business itself growing profits per share over time?
If Warren Buffett made that decision with Berkshire Hathaway’s Coca-Cola investment, he would have picked up an additional 197 million shares of KO stock to bring Berkshire’s total to 597 million shares of the soft-drink giant. In other words, Berkshire’s Coca-Cola stake would now be valued at $32 billion rather than just under $22 billion. It would have increased the compounded annual returns to 12.2% and, adjusting the for inflation, would have increased the purchasing power of his initial investment by 10% annualized.
Put another way, the value of Coca-Cola reinvestment is that $1 invested thirty years ago would be $32 today nominally, or the equivalent of $18 when adjusted for inflation to approximate the purchasing power gains by half a lifetime of delayed gratification.
Anyone can look at this company and see the sheer amount of beverages that Coca-Cola transmits across the globe and the lucrative profit margins that have been earned by the firm for over a century now.
I took several lessons from it:
- Don’t underestimate those businesses that pay out 3% dividends and grow profits 6-8% per year. The reinvested dividends get used to expand your ownership position in a firm that will simultaneously grow profits. This leads to a wealth point where higher profits translate into higher dividends per share commingles with the product of reinvestment where the share count increases (i.e. you go from owning 100 shares paying out $0.37 every quarter to 103 shares paying out $0.40 per quarter in the span of a year).
- There is more to a dividend-paying business than what you can see in the stock chart. Coca-Cola is one of several dozen businesses that appear to triple in stock price of a given 10, 15, or 20 year stretch, but the actual results for the business owner are more like a quintuple or sextuple when the effect of dividend reinvestment is included.
- Individual Retirement Accounts (IRAs), especially Roth IRAs, are your friend if you are eligible. There is a reason why the United States government places income restrictions governing eligibility for these retirement vehicles. It is because the benefits of tax deferral and/or avoidance are enormous. If a Roth IRA existed in 1990, and the present limits of $6,000 were in force, someone could have actually put in $6,000 in Coca-Cola stock and actually have $192,000 sitting in the account today pumping out $5,760 in annual dividends. Try to plant a dozen saplings like that in your life.
- Even though it was a wonderful company, there were still two separate 5+ periods where shareholders had almost no gains. Investing requires patience. You can be patient by diversifying–while Coca-Cola is stagnating, maybe your Visa or Nike shares are outperforming. Then, Coca-Cola will have its time. It is a proverb: “To everything, there is a season.”
- Also, there should be appreciation for bad things that could have happened but did not materialize. Coca-Cola paid out dividends during the Great Depression and the deep recessions of 1973-1974 and 2008-2010. Not many businesses can say that. If the 2010-2020 period had those types of rougher patches, Coca-Cola would have continued to mint money on behalf of its shareholders. The jewels assets are those that can pump out prodigious amounts of cash in good times and bad. Be the rare person who accumulates jewel assets when they are neglected by the world. You will get a better price for an umbrella in 100 degree heat than a torrential rainfall.
Coca-Cola is as strong right now as it has ever been. It is ramping up its distribution networks and has agreements with Monster Beverage, Dr. Pepper, and Anheuser-Busch to deliver their beverages for a fee. For those who have accumulated shares in the company, the rewards of their past decision continue to compound as the ownership position will continue to distribute ever-growing amounts of cash while the overall profits grow and the business value should correspondingly rise over time. It is the rare instance where a moment in time decision (acquiring shares) will continue to produce rewards for you year after year without requiring you to expend any additional effort.