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"It is comforting to be in a business where some mistakes can be made and yet a quite satisfactory overall performance can be achieved… One of the lessons your management has learned — and, unfortunately, sometimes re-learned — is the importance of being in businesses where tailwinds prevail rather than headwinds."
— Warren Buffett, 1977 Letter to Shareholders
Key Takeaways
In 1977, Buffett was running two businesses — one well-managed and losing money, one imperfectly-run and making a fortune
The difference wasn't the manager. It was the industry.
Buffett called it the tailwinds vs headwinds rule — and it's the single most under-appreciated idea in his letters
Learn the five questions to ask about any industry before you look at the CEO
Two businesses, one CEO, opposite outcomes
Hey Compounders,
In our last issue, we looked at the number Buffett refused to celebrate — the 19% return on equity that his 37% earnings growth was hiding. Today we're back inside the same 1977 letter, but in a completely different section, learning what may be the most quietly important idea Buffett would ever teach.
By 1977, Warren Buffett was running two very different businesses under one roof.
The first was a textile mill in New Bedford, Massachusetts. It had a good manager — a man named Ken Chace who ran it with real discipline. It had cooperative unions. Costs were controlled. And it lost money. Again. For the second year running, Buffett had predicted a rebound. For the second year running, he'd been wrong.
The second was an insurance company. By Buffett's own admission in the letter, he'd made real mistakes running it — a bad surety operation in 1969, a botched Miami expansion in 1973, a failed aviation venture, a mess in California. And insurance was thriving. Premium volume had grown nearly 7x in a decade with no new shares issued to fund it.
Same year. Same CEO. Opposite outcomes.
Buffett drew the only reasonable conclusion. And in one paragraph, he gave the investment world a rule that most people are still ignoring 49 years later.
The tailwinds vs headwinds rule
Here's the passage, word for word:
"It is comforting to be in a business where some mistakes can be made and yet a quite satisfactory overall performance can be achieved. In a sense, this is the opposite case from our textile business where even very good management probably can average only modest results. One of the lessons your management has learned — and, unfortunately, sometimes re-learned — is the importance of being in businesses where tailwinds prevail rather than headwinds."
Read that again slowly.
Buffett is not talking about optimism versus pessimism. He's talking about structural forces. Some industries have wind at their backs — even mediocre operators get pushed forward. Some industries have wind in their face — even great operators can barely stand still. And the direction of that wind matters more than who's steering.
What made textiles a headwind business
"Headwinds" isn't a mood. It's a checklist. Textiles in 1977 had every item on it:
Commodity product. A yard of Berkshire's cloth was indistinguishable from a competitor's. Price was the only weapon.
Capital-intensive. Every dollar of profit had to be reinvested in new machinery just to stay competitive.
Overseas competition. Foreign producers with cheaper labor were undercutting US mills on price.
Overcapacity. Whenever demand rose, idle mills fired back up and crushed prices again.
Powerful buyers. Retailers and clothing manufacturers held all the leverage.
Any one of these makes a business hard. All five together make it uninvestable. No manager could beat that math over time. Not Ken Chace. Not Warren Buffett. Not anyone.
What made insurance a tailwind — with a warning
Insurance in 1977 was in what the industry calls a hard market. Rates were rising after years of underpricing. Berkshire, disciplined about only writing profitable business, benefited enormously.
But here's the part most people miss — Buffett explicitly warned this tailwind wouldn't last. It was a cyclical tailwind, not a structural one. There are two very different kinds:
Cyclical tailwinds feel wonderful while they last, then reverse. Insurance rates. Commodity prices. Real estate cycles.
Structural tailwinds last for decades. Network effects. Scale economies. Aging populations. Brand loyalty. Switching costs.
The businesses Buffett would spend the next forty years buying — See's Candies, Coca-Cola, GEICO, Apple — were structural tailwind businesses. In 1977, he was already learning the difference.
Why he kept the mill anyway
Given everything he understood, why didn't Buffett shut down textiles in 1977? He gives three reasons in the letter:
Employment. Hundreds of families in New Bedford and Manchester depended on those mills. Workers had specialized skills that wouldn't transfer easily.
Cash. Even a bad textile operation was throwing off enough money to fund Buffett's early insurance acquisitions.
Hope. He still thought modest profits were possible.
Read the first one twice. This is Buffett, the sharpest capital allocator in America, keeping a losing business partly because of what he owed the people working there. That's not spreadsheet math. That's what thinking like an owner actually means.
(He would finally shut down textiles in 1985 — eight years later — and write one of his most famous lines about it. We'll get there in Season 2.)
The five questions you should ask before any investment
Before you spend three hours reading about a CEO, spend twenty minutes on the industry. Ask:
Is the product differentiated, or a commodity?
Does the business need constant capital reinvestment just to stand still?
Are there structural cost advantages the competition can't match?
Do the buyers have all the leverage, or does the seller?
If there's a tailwind — is it structural or cyclical?
If the answers point to headwinds, don't get excited about a great CEO. The industry will drown them eventually. If the answers point to structural tailwinds, even an average operator will look brilliant over time.
That's the whole lesson. In one paragraph from 1977, Buffett taught you to look at the industry before the individual. Almost nobody actually does it.
Coming next
Issue #3 — The Four Words That Explain Every Buffett Investment
The four criteria Buffett laid out in the same 1977 letter for every stock he'd ever buy — and why the fourth one is the reason most retail investors underperform.
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Disclaimer: The information provided on this website is for educational and informational purposes only and does not constitute financial, investment, or trading advice. Investing in securities involves risk, including the potential loss of principal; always conduct your own research and consult a qualified financial professional before making investment decisions.
