Buffett’s sweetest acquisition: A financial teardown of See’s Candies

See's Candies: A financial teardown

When it comes to investing, Warren Buffett is the GOAT – but of all his moves, it’s a Californian candy company that he rates as the “perfect business”. 

See’s Candies holds a special place in Buffett’s heart because it was one of the most transformational investments of his career.

This sentiment stems from a few key reasons:

  • It was one of the first wholly-owned private acquisitions made by Buffett’s investment firm, Berkshire Hathaway, bought outright from the multi-generational See family.
  • It was the first time his business partner, Charlie Munger, successfully persuaded Buffett to prioritise quality businesses over bargains, a shift from Buffett’s earlier strategy which had been heavily influenced by his mentor, Benjamin Graham.
  • See’s Candies proved to be one of Berkshire’s best investments. The company’s incremental investment of $32 million over its lifespan produced an additional $1.35 billion in aggregate profits during that period.

With superior management, sustainable competitive advantages, the ability to raise prices without losing customers, high profits, low capital investment, and extraordinary returns, See’s Candies ticks all the boxes for what Buffett looks for in an investment.

It’s the perfect business case study for any students of the game.

So, just as professional athletes and coaches review game film to analyse playbooks and strategies, let’s take a close look at Buffett’s greatest hits.

Here’s a financial teardown of See’s Candies.

The story of See’s

See’s Candies is a manufacturer and distributor of candy, especially chocolates. It was founded by Charles See, his wife Florence, and his mother Mary in Los Angeles, California in 1921. The company differentiated itself by focusing on small-batch production and using only the highest quality ingredients.

The company featured Mary’s face on every box, and embraced the phrase ‘Quality without Compromise’ as not just a slogan, but a mission statement.

Even during the hardships of the Great Depression and WWII, See’s stayed true to its principles.

During times of severe rationing of butter, sugar, and cream, See’s faced a dilemma: substitute with inferior ingredients to maintain sales volume, or stick to their high-quality standards and produce significantly fewer products. They chose the latter, closing their stores daily once they sold out of inventory.

After Mary’s death in 1939, Charles – and later his son, Laurance – expanded the business to more than 160 stores.

But by 1970, See’s leadership was looking for an exit strategy.

Following Charles See’s death, his family – needing to settle a substantial amount in death taxes – found themselves with no choice but to sell the company to manage the financial burden.

In 1972, Robert Flaherty, an investor at Blue Chip Stamps, was tipped off that See’s was on the market. At this point, Blue Chip was already part of Buffett’s portfolio through his holding company, Berkshire Hathaway.

Flaherty called his boss, William Ramsey, who then contacted Buffett to pitch an investment.

“Gee, Bob, the candy business?” Buffett initially responded skeptically. “I don’t think we want to be in the candy business.”

But after taking a look at the financials, Buffett changed his tone. “Yeah, I’d be willing to buy See’s at a price.”

On paper, See’s didn’t initially look too exciting:

Revenue was $31.3 million and EBITA was $4 million. The See family was asking $30 million, which represented over 4x the net tangible assets. This price was extraordinarily high for Buffett at the time.

At that point, Buffett’s investment philosophy favoured acquiring ‘cigar butt’ companies – struggling businesses available at prices well below the book value of their assets. Buying companies at rock bottom prices provided a margin of safety, as the assets could be liquidated to generate a healthy return.

A prime example of Buffett’s cigar butt strategy was his investment in Dempster Mill, a manufacturer of farming equipment and windmills. Buffett acquired the stock at a steep discount – paying around $28 for a stock with $50 of working capital and $75 of book value, meaning he paid about 25% of book value. He later sold the business for approximately a 3x return.

Buffett has since noted that while he profited from Dempster Mill, “there is no repetitive money to be made on it. There is a one-time profit in cigar butt investments.”

Anyway, back to See’s Candies.

Munger and Buffett ultimately purchased See’s Candies in 1972 for $25 million, paying 300% of book value, a move that was absolutely unprecedented for them.

Whilst the price was expensive for Buffett at the time, he and Munger developed insights that solidified their conviction in the business. This conviction hinged on the concept of pricing power.

At the time, See’s Candies was selling its products for $1.96 per pound. They needed to determine if there was untapped pricing power – could that $1.96 box of candy sell for $2 to $2.25? If they could increase the price to $2.25, a mere $0.30 per pound hike, profits would rise to $4.8 million on 16 million pounds, which would justify the $25 million purchase price.

Another factor Buffett considered was the power of the brand. See’s Candies enjoyed a significant “share of mind” in California, its largest market.

Speaking to students at the University of Florida in 1998, Buffett said:

“There was something special. Every person in California has something in mind about See’s Candies and overwhelmingly it was favorable. They had taken a box on Valentine’s Day to some girl and she had kissed him. If she slapped him, we would have no business. As long as she kisses him, that is what we want in their minds. See’s Candies means getting kissed. If we can get that in the minds of people, we can raise prices.”

Pricing power

The textbook definition of pricing power is a business’ ability to raise prices without losing customers or market share. It’s one of the most important features of an enduring business.

A business with strong pricing power can increase prices while maintaining, or even growing, its sales volume. For investors and finance dorks like me, pricing power is an important aspect to consider when evaluating a business’ investment potential. Companies with strong pricing power are generally more attractive because they have greater control over their pricing strategies, and are less vulnerable to cost fluctuations or competitive pressures.

Increasing prices is, hands down, the best lever to pull to boost profits. If you can raise prices without reducing demand, all that additional revenue flows straight to your bottom line.

This insight into pricing power was a driving factor behind the acquisition of See’s Candies, financed using the float from Blue Chip Stamps. See’s Candies represented Buffett’s largest purchase at that point in time, and was one of the first companies Berkshire Hathaway acquired outright.

Brand and positioning: A key to pricing power

As part of the acquisition agreement, it was stipulated that no member of the See’s family would remain in operational control of the company. Leadership was transferred to Charles Huggins, a longtime See’s employee.

Upon taking ownership, Buffett penned this (awesome!) letter to Huggins, offering his general advice on the distribution, merchandising, and marketing of the chocolates. In his letter, Buffett cautioned Huggins never to sacrifice quality for profit. He advised Huggins against rapid scaling, recommending that the company continue to produce chocolates locally and in “limited quantities”.

“There is a certain mystique attached to products with geographical uniqueness,” Buffett wrote, harping on the value of branding. “Maybe grapes from one little 80-acre vineyard in France are really the best in the whole world, but I have always had a suspicion that 99% of it is in the telling and about 1% of it is in the drinking.”

Buffett was deeply committed to protecting the See’s Candies brand, and understood that the key to this was telling a compelling story.

Rather than aggressively scaling See’s, Buffett preferred to keep the operations small and charge a premium for quality. He recognised three distinct advantages in See’s:

  • A strong, built-in customer loyalty moat
  • Exceptional product quality that customers would accept price increases for
  • Minimal need for reinvestment in operational capital

Over the next decade, See’s grew from 167 to 207 stores – an extremely modest annual growth rate of about 2%. Similarly, the total volume of candy sold increased from 16.9 million to 24.7 million pounds, averaging a 4% annual growth rate.

Despite this modest growth in volume, overall sales and profitability saw significant increases, growing by 16% and 21% per year, respectively!

This stellar performance was primarily driven by regular price increases. Buffett learned that customers remained loyal despite annual price hikes. While the number of stores and volume grew by only 2% and 4% respectively, See’s raised its effective price per pound by 11% per year – far above the rate of inflation.

The annual breakdown of revenue growth drivers highlights this compelling story. See’s Candies consistently raised prices every year, with increases sometimes reaching as high as 17%!

“See’s is a slow grower, but its growth is steady and reliable,” Munger later said. “Warren and I raised the prices of See’s Candies a little faster than others might have. There are actually people out there who don’t price everything as high as the market will easily stand. And once you figure that out, it’s like finding money in the street.”

Maintaining this slow and steady growth, See’s sales gradually increased to $383 million with $82 million in pretax profits by 2007.

“In the meantime,” Buffett said in a letter to shareholders, “pre-tax earnings have totaled $1.35 billion. All of that, except for the $32 million, has been sent to Berkshire (or, in the early years, to Blue Chip). After paying corporate taxes on the profits, we have used the rest to buy other attractive businesses.

“Just as Adam and Eve kick-started an activity that led to six billion humans, See’s has given birth to multiple new streams of cash for us.”

Key takeaways

So, aside from an overwhelming desire to sample See’s Candies for ourselves, what can we take away from this?

The primary takeaway is the importance of investing in and developing companies with durable competitive advantages. Even as a niche product, maintaining a strong competitive position and customer loyalty is invaluable. Having the capacity to raise prices can significantly increase financial returns.

Another important lesson is that slow growth isn’t necessarily a problem. Personally, I would prefer slow, incremental growth over rapid and erratic expansion. If you can allow compounding to take effect over a 20 or 30-year hold period, you’ll do just fine.

That’s one hell of an everlasting gobstopper…

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