Business Transactions: Justin Industries, Inc.

Justin Industries, Inc.
2821 West Seventh Street
Fort Worth, Texas 76107

Business Description
Justin Industries was a manufacturer of boots and bricks. This odd combination of unglamourous "old economy" consumer goods and construction materials gave Justin unusual valuation characteristics which may have confounded and bored most investors, but created an opportunity for the right buyer. On August 1, 2000, Warren Buffett's Berkshire Hathaway, Inc., a property-casualty insurance company with diversified holdings, purchased Justin Industries for $22 per share (cash), a 23% premium over the $17.88 closing price per share for Justin's Nasdaq-listed stock the day before the sale was announced.

Justin's building materials unit, Acme Building Brands, manufactures bricks and concrete blocks and also distributes glass block, tile and related items such as fireplace equipment and masonry cleaners. Acme Building Brands' market is primarily the south central United States and its sales accounted for 67.9% of Justin Industries' total sales. This unit's 1999 sales increased 19.9% over 1998's sales and its brick manufacturing capacity was barely sufficient to meet demand. In the first quarter of 2000, gross profit margins for the brick business improved over the same period a year earlier due to higher selling prices for bricks.

Justin's footwear unit, Justin Brands, manufactures, purchases and sells footwear products including boots with the brand names Justin, Nocona, Tony Lama and Chippewa. The recent performance of Justin's footwear business is very different from its building materials business. Three consecutive winters of generally mild weather left consumers unmotivated to replace old, worn-out boots and the boot industry found itself with large, unsold inventories. In addition, U.S. footwear manufacturers must contend with a mature market (which suffered declining overall sales during the 1990s), low priced imports from China and Mexico and the increasing competitive power of a handful of large retailers who have now gained a large share of the retail footwear market.

What was it about Justin Industries that led Berkshire Hathaway to pay approximately $566 million for the company? Mr. Buffett was quoted as saying, "It is an absolutely first-class business run by first-class people. The managers who have produced Justin's outstanding results will continue to run operations from Fort Worth just as they have in the past." Mr. Buffett stated that he is attracted to businesses which he believes are undervalued relative to their future cash flows, are well-managed, and enjoy a strong competitive advantage in the marketplace. Some of these attributes are not obvious to the casual observer of Justin Industries. However, one possible advantage for Berkshire Hathaway in acquiring Justin Industries is the ability to create footwear manufacturing synergies between Justin and Berkshire Hathaway's other footwear businesses, Dexter Shoe and H.H. Brown. Justin owns seven footwear plants, but four of these were not in operation at the end of 1999. Consolidation of underutilized footwear production properties and liquidation of surplus properties could improve asset utilization and financial performance for Justin's new owner, as well as increase the capital available for other uses.

In the brick manufacturing business, transportation costs generally restrict competition to local producers, and Justin is the largest brick company in the southwestern United States, operating 21 brick plants and eight concrete block plants. In a market restricted by transportation costs, the capacity and position of Justin's brick and block plants may give the company competitive advantages. In addition, Justin is creating bricks with unique decorative properties and is pursuing new market strategies to increase brand awareness.

Boots and bricks are not glamorous industries, and perhaps Justin was undervalued by the stock market for this reason, but would the business command an acquisition premium from any buyer other than Berkshire Hathaway? Commenting on the acquisition of Justin, Mr. Buffett said, "Berkshire has over 60,000 employees, but only 13 people work in our 4,000 square foot home office. We not only encourage extraordinary autonomy in our operating businesses, we depend on it. Justin will fit this pattern perfectly." If Justin continues to be operated as an autonomous entity in the manner of other Berkshire Hathaway subsidiaries, does the 23% acquisition premium represent the price of obtaining control?

Most business appraisal problems pivot on estimating the growth and riskiness of future cash flows. Mr. Buffett's investment record shows him to be a master at this difficult art. Although no one can know exactly why Berkshire Hathaway paid $22 per share for Justin Industries, Mr. Buffett's statements and the record suggest that he simply believed that Justin was undervalued. Given the fact that Berkshire Hathaway's subsidiaries operate as autonomous entities, it is probable that the 23% acquisition premium paid for Justin Industries is attributable to a difference of opinion between Mr. Buffett and the stock market rather than a premium paid for the right to control the company. Insight into what drives business value is a trait Mr. Buffett has demonstrated repeatedly. Business appraisers also need this trait, as well as the ability to explain their insight concisely to users of their reports.

Summary of Financial Data for Justin Industries, Inc.
(Figures in Thousands of Dollars)

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