increase spending.
The Bonus of Cash Deployment
We are emphasizing the transition to operating company earnings as the driver of value. That said, we believe our EPS and book value estimates are conservative, as they give no credit to the deployment of $35bn of cash currently on hand. Given Berkshire’s reputation and financial strength, we believe there is a likelihood for additional deals with lucrative terms similar to those high-profile ones struck with Goldman Sachs Group, Inc. (NYSE:GS), Bank of America Corp (NYSE:BAC), or most recently, H.J. Heinz Company (NYSE:HNZ).
Additionally, we note the board has pledged to repurchase shares at 1.2x book value, essentially creating a downside floor to the share price given its current valuation of roughly 1.4x book value.
Undervalued Shares
We attempt to value Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) using a sum-of-the-parts valuation methodology that assumes completion of the pending Heinz purchase. We use average peer multiples for most of the operating companies, but we have assigned premium valuations to reflect the strength of the franchises, where warranted.
Our assumptions lead us to value the shares at $184,000 per share, representing 15% upside potential from current levels.
In addition, more than simply producing American brands or being U.S.-based, Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B)’s businesses are typically in industries that serve other American industries. From insurance to manufacturing to transportation, Berkshire’s businesses are often the “oil in the machine” that powers much of the American economy. As the American economy improves (we assume ~3% GDP growth), Berkshire’s fortunes will rise as well, we believe.
Insurance/Reinsurance
The insurance/reinsurance businesses have provided the “float” that has allowed the genius of the company’s founder to flourish. We employ our years of experience following the insurance sector to analyze the major businesses of GEICO and the company’s reinsurance business (although Berkshire includes smaller specialty insurers, too).
To Investors of Berkshire Hathaway Inc.
Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) is an enormous and complicated company, in a way that is often underappreciated. Perhaps it’s the chairman’s silver-tongued ability to describe an esoteric business such as loss portfolio transfer in a folksy, business-for-dummies manner. Perhaps it’s the company’s scant disclosure. Perhaps it’s the belief that too much attention to the details would leave one too focused on the trees and completely lost in the woods.
Nonetheless, we attempt to analyze some sections of the proverbial elephant and make our best estimation of Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) as a whole. To give context to our work, we stress that Berkshire is huge. Look at some of the company’s highlight bragging points:
- GEICO is the No. 3 auto writer in the U.S., ranked by 2012 net written premiums. With over 11 million policyholders, it has been growing premiums in the high single digits, with low 90s combined ratios.
- Combined to be the world’s No. 3 reinsurer, GenRe wrote nearly $6bn of premiums in 2012, while Berkshire Hathaway Reinsurance Group more than doubled that volume.
- BNSF Railway is a leading freight transporter with nearly 400 different railway lines, covering 32,500 route miles in the U.S. and Canada and growing revenue in the highsingle digits.
- MidAmerican Holdings has 7 million energy customers throughout the Midwest and the western U.S. and stable margins in the high teens.
- Berkshire owns hundreds of manufacturing and service businesses, such as building products (ACME, MiTek), leisure vehicles (Forest River), and chemicals (Lubrizol); it is a leading wholesale distributor for Wal-Mart and 7-Eleven.
- Major brands include Dairy Queen, See’s Candies, Brooks Sports, Fruit of the Loom, and Benjamin Moore.
- Berkshire also is a major participant in businesses such as real estate, furniture, jewelry, and newspaper publishing and has material positions in companies, such as Coke, Wells Fargo, IBM, and soon, Heinz.
Most of these companies were at one time stand-alone public companies with teams of analysts pouring over detailed quarterly reports and SEC filings. Berkshire also owns dozens and dozens of other businesses, nearly all of material size within their competitive marketplaces. Considering the company’s scope it’s no wonder that the details are often underappreciated.
As Mr. Buffett once said when discussing the problem of diversification back in Berkshire’s early days, “The problem with having a harem of women, is that you don’t get to know any of them very well” (Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) annual report, 1984). Given the immense scale and complex nature of this company, we focus on the key highlights and
