While Warren Buffett deservedly receives much attention for his investing acumen, Berkshire Hathaway receives a lot less publicity for the performance of its operating subsidiaries. Berkshire gets a lot of headlines for its latest portfolio additions, potential hurricane liabilities, and building material exposure, but not that many people talk about the genius of the “grinders” in Berkshire’s business portfolio.
GEICO: Poised to Dominate
E-commerce companies like Dell, Amazon and Ebay steal the media spotlight, but GEICO could be the poster child for low cost distribution and effective use of the internet’s distribution capability.
Through the first half of 2007, GEICO added nearly 10% to its policies in force, and achieved almost $6 billion in premium revenue. Operating income for the half exceeded $600 M, but the GAAP profits of GEICO are well understated in terms of intrinsic value, because use of float and the extended benefits of the double-whammy gecko/caveman advertising blitz will accrue to GEICO for many years.
As GEICO gets bigger, its cost advantages over entrenched agency operators like State Farm grow even larger, allowing GEICO to offer pricing leadership and to increasingly leverage its fixed distribution costs. This is a virtuous circle for GEICO, allowing them more room for marketing (through pricing or advertising) over time, which allows them to further their market share gains.
All the while, Berkshire can invest the increasing float. Not bad for a boring car insurance subsidiary. GEICO is poised to dominate the industry over the coming decade, in my opinion.
ClaytonHomes: Biggest U.S. homebuilder next decade?
The downturn in U.S. homebuilding is well known by now. Many homebuilders appear to be on the very brink of survival.
Clayton Homes is the Berkshire subsidiary focused on manufactured housing and finance. At the end of the first half of 2007, Berkshire held $10 billion in installment loans in this subsidiary. Although manufactured home unit sales declined 8% in the first half, revenues were higher thanks to higher average selling prices, and overall profits for the business were up slightly.
As the U.S. population continues to grow by almost 3 million per year, the need for additional housing will require new housing units. However, due to financing and affordability concerns, I expect the next generation of housing buyers will gravitate toward the lowest cost housing providers.
Manufactured housing has a huge cost advantage over traditional builders, as much as $100,000 per home. This cost advantage is more pronounced in Clayton’s case, because they get to borrow money from AAA-rated Berkshire at a 1% premium to Berkshire’s low rates.
So Clayton will have two important advantages in the next decade, low building cost and low financing costs. The biggest hurdle in my mind to Clayton becoming America’s biggest homebuilder is marketing; convincing people that these homes offer high quality. If that hurdle can be crossed, there is no reason Clayton, with its enormous cost advantages, cannot grow exponentially.
NetJets: Classic first mover and network effect
As recently as 2005, NetJets was losing significant money. However the first half of 2007 saw NetJets profits quadruple over the 2006 levels.
Commercial flying has become a very wearing experience and NetJets offers an exceptional, though expensive, alternative. For an individual or even a corporation to own and operate their own private plane or fleet of planes is very challenging and expensive.
The corporate jet service industry is begging for a dominant “gorilla”, one that can provide exceptional service and global, one-stop shopping. Berkshire has been very aggressive in adding capacity to NetJets, to seize upon the first mover and network advantage coming from establishing leading market share early in the game.
Once this leadership is established, new entrants to the market have significant barriers to entry. Not only are planes expensive, but customers have no incentive to switch providers…they actually own fractional shares in the planes.
While there is a risk of a downturn in this business, because of the ever-increasing global nature of business, I expect NetJets to maintain its lead, and possibly grow it substantially, over time.
So while commentators focus on how much Wells Fargo Warren Buffett bought last quarter, investors in the company can take heart in the exceptional performance of these operating subsidiaries. And the future only looks brighter as these businesses are staged for tremendous growth.
Mike Rubsam is President of Liberty Steward Capital, LLC (www.libertystewardcapital.com), and is long shares of Berkshire Hathaway B (BRKB). Liberty Steward Capital is a Registered Investment Adviser in the State of Colorado.
GEICO: Poised to Dominate
E-commerce companies like Dell, Amazon and Ebay steal the media spotlight, but GEICO could be the poster child for low cost distribution and effective use of the internet’s distribution capability.
Through the first half of 2007, GEICO added nearly 10% to its policies in force, and achieved almost $6 billion in premium revenue. Operating income for the half exceeded $600 M, but the GAAP profits of GEICO are well understated in terms of intrinsic value, because use of float and the extended benefits of the double-whammy gecko/caveman advertising blitz will accrue to GEICO for many years.
As GEICO gets bigger, its cost advantages over entrenched agency operators like State Farm grow even larger, allowing GEICO to offer pricing leadership and to increasingly leverage its fixed distribution costs. This is a virtuous circle for GEICO, allowing them more room for marketing (through pricing or advertising) over time, which allows them to further their market share gains.
All the while, Berkshire can invest the increasing float. Not bad for a boring car insurance subsidiary. GEICO is poised to dominate the industry over the coming decade, in my opinion.
ClaytonHomes: Biggest U.S. homebuilder next decade?
The downturn in U.S. homebuilding is well known by now. Many homebuilders appear to be on the very brink of survival.
Clayton Homes is the Berkshire subsidiary focused on manufactured housing and finance. At the end of the first half of 2007, Berkshire held $10 billion in installment loans in this subsidiary. Although manufactured home unit sales declined 8% in the first half, revenues were higher thanks to higher average selling prices, and overall profits for the business were up slightly.
As the U.S. population continues to grow by almost 3 million per year, the need for additional housing will require new housing units. However, due to financing and affordability concerns, I expect the next generation of housing buyers will gravitate toward the lowest cost housing providers.
Manufactured housing has a huge cost advantage over traditional builders, as much as $100,000 per home. This cost advantage is more pronounced in Clayton’s case, because they get to borrow money from AAA-rated Berkshire at a 1% premium to Berkshire’s low rates.
So Clayton will have two important advantages in the next decade, low building cost and low financing costs. The biggest hurdle in my mind to Clayton becoming America’s biggest homebuilder is marketing; convincing people that these homes offer high quality. If that hurdle can be crossed, there is no reason Clayton, with its enormous cost advantages, cannot grow exponentially.
NetJets: Classic first mover and network effect
As recently as 2005, NetJets was losing significant money. However the first half of 2007 saw NetJets profits quadruple over the 2006 levels.
Commercial flying has become a very wearing experience and NetJets offers an exceptional, though expensive, alternative. For an individual or even a corporation to own and operate their own private plane or fleet of planes is very challenging and expensive.
The corporate jet service industry is begging for a dominant “gorilla”, one that can provide exceptional service and global, one-stop shopping. Berkshire has been very aggressive in adding capacity to NetJets, to seize upon the first mover and network advantage coming from establishing leading market share early in the game.
Once this leadership is established, new entrants to the market have significant barriers to entry. Not only are planes expensive, but customers have no incentive to switch providers…they actually own fractional shares in the planes.
While there is a risk of a downturn in this business, because of the ever-increasing global nature of business, I expect NetJets to maintain its lead, and possibly grow it substantially, over time.
So while commentators focus on how much Wells Fargo Warren Buffett bought last quarter, investors in the company can take heart in the exceptional performance of these operating subsidiaries. And the future only looks brighter as these businesses are staged for tremendous growth.
Mike Rubsam is President of Liberty Steward Capital, LLC (www.libertystewardcapital.com), and is long shares of Berkshire Hathaway B (BRKB). Liberty Steward Capital is a Registered Investment Adviser in the State of Colorado.
