Capital Cities/ABC

Capital Cities/ABC was an American media conglomerate that has become legendary in investment circles, serving as a quintessential case study in superior management and intelligent capital allocation. The company was formed in 1985 when Capital Cities Communications, a highly profitable but much smaller media group, acquired the American Broadcasting Company (ABC), a media giant three times its size. This stunning transaction was masterminded by Capital Cities’ executives Tom Murphy and Dan Burke, with critical financing provided by Warren Buffett's Berkshire Hathaway. The deal and the subsequent management of the combined entity are frequently cited by Buffett as one of the finest demonstrations of managerial excellence he has ever witnessed. The story of Capital Cities/ABC is less about the glamour of television and more about how exceptional leadership can unlock immense value from underperforming assets, offering timeless lessons for any value investor.

In the mid-1980s, the idea of Capital Cities buying ABC seemed absurd. It was a minnow swallowing a whale. ABC was an iconic American institution, a “Big Three” television network, but it was also viewed as a bloated and inefficiently run organization. In contrast, Tom Murphy and Dan Burke had built Capital Cities into a lean, decentralized, and incredibly profitable operator of television stations and publications. They saw that ABC’s powerful media assets were generating subpar returns due to high overhead and a layered corporate bureaucracy. The $3.5 billion acquisition was a bold move that required significant financing. Murphy approached Warren Buffett, who, after a brief meeting, agreed to commit over $500 million from Berkshire Hathaway. Buffett’s decision wasn’t based on complex spreadsheets or industry forecasts. Instead, it was a bet on the people. He had long admired Murphy and Burke’s track record and knew that their disciplined, owner-oriented management style was precisely what the sprawling ABC needed. This act of trust underscored a core Buffett principle: it is often better to back an A+ management team in a B+ business than a B+ team in an A+ business.

The success that followed the acquisition was not due to luck or industry tailwinds; it was a direct result of the disciplined execution of the “Cap Cities” management playbook.

Immediately after the takeover, Murphy and Burke applied their time-tested principles to the newly acquired ABC assets, transforming the company's culture and profitability. Their approach was simple but radical.

• Radical Decentralization: They pushed authority and responsibility down to the general managers of individual stations and divisions. Instead of top-down commands from a lavish corporate headquarters, local leaders were empowered to make decisions, provided they hit their profitability targets.
• Extreme Cost-Consciousness: Corporate excess was eliminated. Executive limousines were sold, corporate dining rooms were closed, and layers of management were stripped away. The focus was on what created value for the business, not what stroked executive egos.
• Focus on Cash Flow and Margins: Murphy and Burke were relentless in their focus on profit margins and cash flow. They understood that revenue is vanity, profit is sanity, but cash is king. This financial discipline dramatically improved the performance of the ABC network and its owned-and-operated stations.
• Hire the Best and Get Out of the Way: They believed in hiring talented, autonomous managers and giving them the freedom to operate. This fostered a culture of ownership and accountability throughout the organization.

The spectacular success of Murphy and Burke’s turnaround culminated in 1995 when The Walt Disney Company, led by Michael Eisner, acquired Capital Cities/ABC for $19 billion. The deal was one of the largest Mergers and Acquisitions (M&A) in history at the time and generated a massive return for shareholders, including a multi-billion dollar profit for Berkshire Hathaway. For Buffett, his initial $517 million investment had grown to be worth over $2.5 billion, proving once again the incredible power of investing alongside brilliant operators.

The Capital Cities/ABC saga is more than just a business story; it's a rich source of practical wisdom for investors.

• Management Matters Most: The single most important factor in this investment's success was management quality. When analyzing a company, look beyond the numbers and assess the leaders. Are they rational? Do they have a history of intelligent capital allocation? Do they operate with an owner's mindset?
• Look for a Catalyst: ABC's assets were valuable, but it took the arrival of Murphy and Burke to unlock that value. When you find an underperforming company, ask yourself: what is the catalyst that will change things? It could be new management, an activist investor, or a corporate spin-off.
• Patience Pays: The full value of the investment took a decade to be realized with the Disney buyout. Truly great investments often require a long time horizon to allow the business and its managers to work their magic.
• Stick to Your Circle of Competence: Buffett understood the media business, but more importantly, he was an expert at judging the character and ability of managers. He invested in people he trusted, in a business he understood.