I am hugely indebted to Jim Fink’s Investing Daily newsletter for picking up on an absolutely daft confrontation between Warren Buffett’s Berkshire Hathaway (NYSE:BRK.A) and SEC accounting branch chief Gus Rodriguez. The nub of the matter concerns an obscure Financial Accounting Standards Board (FASB) ruling; namely Accounting Standards Codification (ASC) Section 320-10-35-33. Here I quote Fink:
“This arcane rule states that under U.S. generally accepted accounting principles (GAAP), a company must take a charge against earnings if it determines that one of its stocks has suffered an “other-than-temporary” impairment of value". Furthermore:
"An impairment of value means that the current market price of the stock is less than the original price that the investor paid for it.”
The reason why it is so much easier to write rules than it is to follow them is that the rule writer can paper over elephant traps with a phrase, leaving it to everyone else to either fall into or tiptoe round the trap. The black hole in question here, of course, concerns the “common sense” definition to be applied to “other-than-temporary”. One of the sad facts about living in a contingent universe is that much can happen and probably will, so deciding whether a particular stock price, at a particular moment, represents a temporary fall from a previous high, or a new high that is unlikely to be exceeded again until hell freezes over, is a tough call.
The way in which a value investor with a proven pedigree, such as Buffett, makes this call is by analysing the company and its management and its strategy and markets and deciding, perhaps, that the company is currently undervalued, because it will go on to do better things and that its potential to do these astonishing things has not yet been grasped by the market and written in to the current stock price. Occasionally, or not so occasionally, given the vagaries of markets, even a world class investor like Buffett places a bet without foreseeing that the stock is going to tank a bit, and that if they’d waited a while longer, they could have bought that same stock more cheaply. When this happens the investor, be it Buffett or anyone else, faces a choice: dump the stock and take the hit, or reanalyse the company, convince themselves that it was a sound investment after all, and then sit tight…
