Errors of Commission
1. Origin
Errors of Commission are a foundational part of Buffett's transparent reporting style, discussed throughout the Berkshire letters but brought into sharp psychological focus during the mid-1990s as he documented massive missed upside and capital impairments.
2. The Core Argument
- The Premise: In investing, there are two types of mistakes: Errors of Omission (failing to buy something you understand) and Errors of Commission (actively making a poor investment or selling a great one too early).
- The Mechanism: Errors of Commission destroy capital directly or cap exponential upside. They often stem from violating the circle of competence, seeking yield in commodity industries, or failing to hold structurally superior businesses (common stock) in favor of safer, capped-upside instruments (preferred stock).
- The Conclusion: A transparent culture that openly analyzes Errors of Commission prevents the organizational "thumb-sucking" that dooms most corporations. By publicly admitting mistakes, Berkshire reinforces a culture of intellectual honesty.
3. Chronological Evolution
- 1967 (Revealed in 1995 Letter): The Disney Sale. Buffett reveals he sold Berkshire's original 5% stake in Disney for $4 million in 1967. By 1995, that stake would have been worth $2 billion. A massive error of commission (selling a compounder prematurely).
- 1989 (Revealed in 1995 Letter): The Gillette Preferred. While the preferred stock was profitable, the structure prevented Berkshire from capturing the immense upside of the common stock, costing the firm $500 million in foregone gains.
- 1994 Letter: The USAir "Mistake Du Jour." Buffett bought into a commodity airline in a deregulating environment, blinded by the yield. The preferred stock was written down by 75%.
- 1996 Letter: The McDonald's sale. Buffett sold a 4.3% stake prematurely, calling it a "huge mistake of commission" that cost billions in potential gains, violating his own rule of Inactivity as an Advantage.
4. Primary Source Quotes
"The worst part is, I should have known better. The economics of a commodity carrier in a deregulating environment were clear. I got seduced by the yield." — Warren Buffett (On USAir)
🔗 Connections Block
- Related Concepts: Errors of Omission, Making It Back The Way You Lost It, Inactivity as an Advantage, Thumb-Sucking
- Related Entities: USAir, The Walt Disney Company, Gillette, McDonald's
- Key Sources: 1994 Letter, 1995 Letter, 1996 Letter
- Index: index
🌱 Idea Evolution & Maturity
How this concept developed over time, tracking its transformation from an early practice to a formalized Berkshire pillar.
Early Mistakes
Buffett begins acknowledging that taking action and buying bad businesses destroys capital.
Capital allocation mistakes are permanent. Buying a terrible business is the worst thing you can do.
We have made plenty of mistakes... mostly by buying businesses that had terrible economics.
The Dexter Shoe Disaster
Buffett formalizes the concept of 'Errors of Commission'—doing something you shouldn't have done.
Errors of commission are highly visible because they show up on the balance sheet and destroy book value directly.
Dexter Shoe was a terrible mistake of commission. I bought a business with no competitive advantage.
The Compounding Cost
Buffett highlights that the cost of an error of commission is magnified exponentially if you use your own undervalued stock to make the purchase.
The true cost of Dexter was not the $433 million purchase price, but the billions that the Berkshire stock used for the purchase eventually became worth.
By using Berkshire shares, I compounded the error exponentially. It was a multi-billion dollar mistake.
The Accountability Standard
Buffett uses errors of commission as a standard of accountability, refusing to practice 'Darwinian record-keeping'.
Acknowledging errors of commission builds trust and reminds management of the extreme difficulty of capital allocation.
We will make more mistakes of commission, but we will always tell you about them.