Why Warren Buffett is wrong about management teams

| Last Updated June 6, 2022

investors discussing an investment strategy

Warren Buffett has famously said, “I try to invest in businesses that are so wonderful that an idiot can run them. Because sooner or later, one will”. At first glance, it makes a lot of sense. The idea is based on the notion of buying high-quality companies at a discount. And in the case of Warren Buffet, a high-quality business is defined by its economic moat or the barriers to entry.

But, in today’s market, creating high barriers to entry is exceptionally difficult. And with new companies entering industries at record-breaking rates, the importance of a talented management team has become paramount to me when picking stocks. Let’s take a closer look why.

Quality companies do not last forever

If you look at recent history, the average lifespan of companies on the S&P 500 (the biggest 500 companies in the US) is actually shrinking. A study by Mckinsey in 2016 showed that in 1958 a firm would typically remain a member of the S&P 500 for 61 years. But as of 2016, that average lifespan has shrunk to only 18 years. And by 2027, 75% of the current constituents of the index are expected to disappear!

There are undoubtedly several factors behind this phenomenon. But one which I think is most responsible is the rapid rate of technological advancement and innovation. With new discoveries constantly making things cheaper and more readily available, smaller businesses with smaller budgets can now take on industry giants. And the barriers to entry that has protected these massive corporations for decades are becoming more obsolete with time. As a consequence, Warren Buffett’s stance on the low importance of leadership may be wrong in today’s market.

The importance of a talented management team

With competitive pressures ramping up, the effectiveness of barriers to entry as a competitive advantage is wavering. And companies whose management teams have grown complacent relying on this archaic advantage have suffered as a result. The British telecoms giant, BT Group, is a perfect example of what poor leadership can do to a once-thriving business.

That’s why I believe Warren Buffett’s opinion on finding companies that even an idiot can run is no longer a valid strategy. With the rate of innovation only accelerating and disruptions occurring across all industries, the ability of a management team to adapt and take advantage of opportunities has become critical in my mind. Even if that disrupts their own business model

Take the example of Apple. It launched the iPhone in 2007 and consequently cannibalised its own iPod business. But today, iPhone sales make up 48.6% of Apple’s revenue. Steeve Jobs saw a new opportunity and had the foresight to act despite knowing the potential damage it would cause to the company. This decision is one of the leading factors that exploded Apple’s market capitalisation from $158bn in 2007 to over $2.45tr today.

Is Warren Buffett wrong?

Apple is a clear example of where strong leadership resulted in success. And it’s far from the only business to do so. Amazon, The Trade Desk, Shopify, and Zoom Video Communications have all found incredible success thanks to their management team’s ability to find opportunities in the disruptions caused by innovation.

That’s why, despite Warren Buffett’s advice, the management team is one of the first things I look at before investing in any company.

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Imran Dean does not own shares in any of the companies mentioned. The Money Cog has no position in any of the companies mentioned. Views expressed on the companies and assets mentioned in this article are those of the writer and therefore may differ from the opinions of analysts in The Money Cog Premium services.