Buffett Stranded on Pier 1

Some weak showings in retail look bad for the investor, but it's still hard to challenge his record.
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Warren Buffett remains one of the most highly respected figures in American business, but there's no question that his good name has acquired a few pockmarks in 2005.

Shares of his holding company,

Berkshire Hathaway

(BRK.A) - Get Report

, have declined close to 4% so far this year. Investors have taken to wondering about Buffett's longevity -- he turns 75 this month -- and regulators continue to probe business practices in the insurance industry, where some questionable dealings between

AIG

(AIG) - Get Report

and Berkshire's General Re unit famously came to light earlier this year.

As for his investments, Buffett's widely publicized wager against the dollar was a winner last year but has backfired in 2005. The greenback has rallied 8% against the euro. So Buffett's shareholders have lost money, and some pundits have even called his stance unpatriotic.

"In no way does our thinking about currencies rest on doubts about America," he wrote in Berkshire's 2004 annual report, responding to the critics. "Our economy is far and away the strongest in the world and will continue to be. We are lucky to live here."

In the latest sign of trouble at Berkshire, two of its publicly traded holdings have now revealed major disappointments in their second-quarter results, leading to the obligatory questioning of Buffett's legendary stock-picking prowess.

On Tuesday,

Pier 1 Imports

(PIR) - Get Report

cut its forecast for the second quarter, saying it had to offer promotions and discounts to fight a decline in customer traffic. The seller of trendy home decor, in which Berkshire first reported buying a 9% stake one year ago, now expects to post a stark 13%-15% same-store sales drop. The company is planning to post a loss of 12 cents to 14 cents a share, double the Wall Street estimate.

Pier 1 shares closed down 50 cents, or 3.7%, to $13.36 Tuesday. That selloff only added to the stock's two-year slide, which was just temporarily abated by last summer's news of Berkshire's turnaround call. Pier 1 has now lost 36% since the start of 2004, and while it's looking cheaper by the day, analysts are still skeptical.

"I was surprised to hear that Berkshire was buying up Pier 1 in the first place," said Morningstar analyst Anthony Chukumba. "I mean, this is the Oracle of Omaha, and Pier 1 hasn't shown me any indication of living up to those standards."

Elsewhere in specialty retailing,

Gap

(GPS) - Get Report

posted miserable second-quarter results. While the apparel giant delivered a 39% jump in net income that beat expectations, sales disappointed and the Gap warned that August results are getting hit by falling customer traffic in its stores.

The company cut its full-year guidance to a range of $1.30 to $1.34 a share from its old estimate of $1.44 to $1.48 a share, saying this month's results so far have been "significantly below expectations."

By now, Gap has posted negative same-store sales results in nine out of the last 10 months, and while it does a good job of financial management, analysts are questioning whether the company is in danger of being torn to shreds by smaller rivals like

Abercrombie & Fitch

(ANF) - Get Report

,

American Eagle Outfitters

(AEOS)

and

Pacific Sunwear

(PSUN)

.

Since Berkshire paid $204 million for a 0.9% stake in Gap as first reported in April 2001, the stock has shed 16%.

Whatever becomes of Berkshire's wagers on these companies, it appears that the responsibility probably does not belong to Buffett himself. In fact, these investments have all the fingerprints of the man who has been widely viewed as Buffett's successor, Lou Simpson. Simpson is president and CEO of capital operations at Geico, a Berkshire subsidiary.

In the company's annual report, Buffett disclosed that Simpson, who manages about $2.5 billion in equities for Berkshire, makes most of the moves in public companies that are reported in the media and often incorrectly attributed to Buffett. Buffett said he is usually unaware of these investments until after the fact.

"Customarily his purchases are in the $200-$300 million range and are in companies that are typically smaller than the ones I focus on," he wrote.

Before investors write off Simpson on account of the recent disappointments in specialty retailing, they would do well to look at his long-term track record. Over the last 25 years, Simpson's portfolio has lost money in just three. In that span, he averaged an annual return of 20.3%, compared to the

S&P's

average of 13.5%.

Other stocks reported in Berkshire's holdings that look like Simpson's handiwork include

Nike

(NKE) - Get Report

,

Costco

(COST) - Get Report

,

Dean Foods

(DF) - Get Report

,

Mueller Industries

(MLI) - Get Report

and

Procter & Gamble

(PG) - Get Report

.

"You cannot replicate Buffett's portfolio because so much of it is in private companies," said Mohnish Pabrai, managing partner with Pabrai Investment Funds. "But Lou's holdings are not only smaller. Virtually everything he does is in public companies, so investors can track him better and mimic him."

As results at Gap and Pier 1 seem to attest, investors should use Simpson's ideas only as a starting point and then do their own research.

"Sometimes, it should be added, I silently disagree with his decisions," wrote Buffett in his report. "But he's usually right."