The David Sokol Scandal and Recency Bias

The recent discussions about how the David Sokol matter reflects on Warren Buffett and Berkshire Hathaway have been largely impacted by the recency effect. Wikipedia defines this as, “The tendency to weigh initial events more than earlier events.”

Because of the scandal, Berkshire has been the subject of a lot of criticism that it is operated too loosely and that it lacks the corporate governance structure of other large corporations.

Does running Berkshire Hathaway in a fashion that is light on rules and regulations provide cover for those who wish to get away with something? Probably. Does running a company with tons of rules and regulations stop people of mal-intent from carrying out their malfeasance? Sometimes, but not always. And although the desired outcome of extra rules and regulations is less than guaranteed, that it will have unintended consequences and impact productivity is virtually assured.

People quickly forget the enormous benefits that Berkshire has enjoyed by Buffett running it in a decentralized, lean fashion. This unleashes human potential in the same way that it has driven unprecedented productivity and wealth in the United States. If you have smart, talented people, the best thing you can do is to get out of their way.

This lack of structure has provided a platform to fuel the entrepreneurial drive of Berkshire’s scores of talented, proven managers and has provided Buffett with the time to do what he does best: allocate capital. Shareholders are far richer for it.

Is Berkshire perfect? No. But, its many virtues should not be obscured by this most recent incident. Lessons will be learned from it and necessary corrections made. This isn’t Buffett or Munger’s first rodeo.

One lesson for us is to once again observe how the media is driven by recency bias. The good news is we don’t have to go there. We are free to ask better questions and seek a broader perspective. It is wise to be on guard against the many cognitive biases that can negatively impact our judgments and actions.

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