Wonderful Companies at Fair Prices — 1989

In the 1989 letter, Warren Buffett used a section he titled "Mistakes of the First Twenty-Five Years" to publicly reassess how he had been investing — and to explain a shift in philosophy that had been building for years, largely under Charlie Munger's influence.

The Concept

Buffett's early investing style, inherited directly from Benjamin Graham, was to look for statistically cheap stocks regardless of how good the underlying business actually was — companies trading for less than the value of their assets, even if their operations were mediocre or declining. Buffett called this the "cigar butt" approach: a discarded cigar with one puff left in it is free, and that single puff is pure profit, even though the cigar itself is worthless. Applied to investing, this meant buying troubled or unglamorous businesses purely because they were statistically cheap, and planning to sell once the price gap closed.

In the letter's own retelling, Buffett walked through a string of early missteps that grew out of this cigar-butt habit. Buying control of Berkshire itself, he admitted, was the first — he knew textile manufacturing was an unpromising business, but the price looked cheap enough to buy anyway. A Baltimore department store bought soon after at a discount to book value, with good people and hidden real-estate value to boot, still had to be sold a few years later for roughly what he'd paid, because the underlying business simply wasn't good enough to compound. The pattern he drew from these and other examples was that time works for a wonderful business and against a mediocre one, and that even talented managers can't rescue a company with poor underlying economics — a business with a bad reputation, he wrote, is the one that usually comes out with its reputation intact, not the manager who took it on. He also pointed to what he called the "institutional imperative" — the tendency of companies to imitate their peers and resist changing direction regardless of whether either makes rational sense — as a force he'd underestimated when starting out, and one he tried deliberately to organize Berkshire against. Taken together, he wrote, these lessons pushed him and Charlie Munger toward a simple standard: look for first-class businesses run by first-class people, and be willing to pay a fair price to own them, rather than chase a statistical bargain wrapped around a weak business.

That review is where the letter's central, oft-repeated lesson comes from:

"It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price."

This marked a real change in approach for Berkshire, one already visible in purchases like See's Candies and, later, Coca-Cola: rather than hunting for statistical bargains, Buffett increasingly prioritized identifying businesses with a durable economic moat — pricing power, brand strength, or some other lasting advantage — and was willing to pay a reasonable, non-bargain price to own them for a long time.

Why It Matters

This shift reframes what "cheap" should mean to an investor. A statistically low price on a low-quality business is not actually a bargain if the business's value keeps eroding; the "discount" can vanish entirely, or worse, before it's ever captured. A business with real staying power, on the other hand, keeps growing its underlying intrinsic value over time, meaning a fair price paid today can still work out well years down the road even without needing a cheap entry point.

For today's investors, this argues against reflexively chasing the statistically lowest price-to-book or price-to-earnings ratios in a screen and calling it value investing. It instead points toward spending real effort assessing business quality — competitive position, growth durability, management — and treating price discipline as a check on paying too much for that quality, not as the only criterion that matters. The two ideas work together rather than in opposition: quality determines whether a business is worth owning at all, and a reasonable price determines whether now is a good time to own it. Buffett's own record after 1989 is, in effect, a decades-long argument that getting the first question right matters more than squeezing the last discount out of the second.