Warren Buffett: Why Real Estate is a Lousy Investment

We don't have any competitive advantage over experienced real estate investors in the field, and we wouldn't have if we were operating with our own money as a partnership. If you operate as a corporation, such as ours, which is taxable under chapter C of the Internal Revenue Code, you've got a whole layer of corporate taxes between the real estate income and the use of the income by the people who own the real estate in that particular industry.

I wonder if you could use real estate as an example. I know real estate hasn't been a big huge part of Berkshire's portfolio over the years, and I wonder if that's because you view real estate as a commodity business, or if maybe the cash flows from real estate tend to be more predictable than perhaps from some other industries, and thus, it tends to be less likely to be mispriced and therefore less likely to find terrific bargains in real estate.

So go ahead. Just wondering if we could, um, if we were watching a discussion between you and Charlie hashing out the merits of real estate, how it would go.

Well, it would go like all our other conversations. He would say no for about 15 minutes, and I would gauge by the degree to which he emotionally put into his no's whether he really liked the deal or not. But we both had a fair amount of experience in real estate, and Charlie made early money in real estate.

The second point is the more important point: real estate is not a commodity. I think it tends to be more accurately priced, particularly developed real estate, more accurately priced most of the time. Now, during the RTC period, when you had huge amounts of transactions and you had an owner that didn't want to be an owner in a very big way, and they didn't know what the hell they owned and all of that sort of thing, I mean, you had a lot of mispricing then. I know a few people in this room that made a lot of money off of that.

But under most conditions, it's hard to find real estate that's really mispriced. I mean, when I look at the transactions that leagues engage in currently, and you get a lot of information on that sort of thing, you know, they're very similar. But it's a competitive world, and you know they all know about what a class A office building, you know, in Chicago or wherever it may be, is going to produce. So at least they have— they may all be wrong, as it turns out, because of some unusual events— but it's hard to argue with the current conventional wisdom most of the time in the real estate world.

But occasionally, there have been some, you know, there could be big opportunities in the field. But if they exist, it will certainly be because there's probably a lot of chaos in real estate financing for one reason. We've done some real estate financing, and you have to have the money shut off to quite a degree probably to get any big mispricing across the board.

Charlie?

Yeah, we don't have any competitive advantage over experienced real estate investors in the field, and we wouldn't have if we were operating with our own money as a partnership. If you operate as a corporation, such as ours, which is taxable under chapter C of the Internal Revenue Code, you've got a whole layer of corporate taxes between the real estate income and the use of the income by the people who own the real estate.

So by its nature, real estate tends to be a very lousy investment for people who are taxed under sub-chapter C of the code relating to corporations. So the combination of having it generally allows the activity for people with our tax structure, and having no special competence in the field, means that we spend almost no time thinking about anything in real estate.

And then such real estate as we've actually done, like holding surplus real estate and trying to sell it off, I'd say we have a poor record.

Yeah, C-corps really, it doesn't make any sense. I mean, I know there are C-corps around that are in real estate, but there are other structures that are more attractive.

There really aren't other structures. I mean, Lloyd's is an attempt at it to some degree, but there aren't other structures that work well for big insurance companies. I mean, you can't have a Walmart very well that does not exist in a C-corp. So they are not subject to S-corp or partnership competition that determines the returns on capital in the discounts to our field.

But if you're competing with the equivalent of S-corps, REITs, or partnerships or individuals, you've just got an economic disadvantage as a CC-corp, which is for those of you who don't love reading the Internal Revenue Code, it's just a standard vanilla corporation that you think of— all of the Dow Jones companies, all of the S&P companies, and so on.

As Charlie says, it's unlikely that the disadvantage of our structure, combined with the competitive nature of people with better structures buying those kinds of assets, will ever lead to anything really interesting.

Although I would say that we missed the boat to some extent during the RTC days. I mean, it was a sufficiently inefficient market at that time and there was a lack of financing that we could have made a lot of money if we had been geared up for it at that time.

We actually had a few transactions that were pretty interesting, but nothing that was significant in relation to our total capital. We thought significantly about buying the Irvine Corporation when it became available. But that's the only big one I can remember that we seriously thought about.

Yeah, that was in 1977 or so.

Yeah, Mobil Oil was interested in, you know, Don Brent ended up putting together a report, but...