Warren Buffett of Berkshire Hathaway and Prem Watsa of Fairfax Financial Holdings are two of the most skillful investors living today. Both invest the float of the large insurance companies that they own into stocks, bonds, other security instruments, and acquisitions. Watsa’s company has been able to grow faster in recent years as his company is smaller than the mammoth Berkshire Hathaway. Book value per share compounded by 25% per year to $379 per share. Its return on common equity averaged 24% since 1985. Buffett has managed to grow book value of Berkshire Hathaway (BRK.A)(BRK.B) from $19 per share to $95,453, a rate of 20.2% compounded annually.
The two gurus have these stocks in common: Wells Fargo (WFC, Financial), Kraft (KFT, Financial), Johnson & Johnson (JNJ, Financial), Walmart (WMT, Financial).
Wells Fargo (WFC)
Wells Fargo dodged most of the pain other banks experienced during the financial crisis by steering clear of some of their problematic practices. Its balance sheet is rather strong. Its book value per share has more than doubled in the last five years, and its return on assets also rose from .2% to 1% in 2009 and 2010.
In a 2009 interview with CNN Money regarding Wells Fargo, in response to the question, “What is your metric for valuing a bank?” Warren Buffett said, “It's earnings on assets, as long as they're being achieved in a conservative way. But you can't say earnings on assets, because you'll get some guy who's taking all kinds of risks and will look terrific for a while. And you can have off-balance sheet stuff that contributes to earnings but doesn't show up in the assets denominator. So it has to be an intelligent view of the quality of the earnings on assets as well as the quantity of the earnings on assets. But if you're doing it in a sound way, that's what I look at.”
It can be deduced that Buffett believes Wells Fargo is achieving both quality and quantity of returns on assets. He bought approximately 61 million shares of the company since the first quarter of 2009, including 6,215,080 shares in the fourth quarter of 2010 at $27.70 per share and 9,703,683 shares in the second quarter of 2011 at $28.41 per share, for a grand total of 352,327,608. He could have gotten the shares cheaper today – the price has fallen to $24.40.
Prem Watsa also discussed his Wells Fargo investment in his most recent shareholder letter:
Wells Fargo, as you know, is a wonderful bank in the U.S. with an outstanding long term track record. In the financial crisis of 2008/2009, it seized the opportunity to double its size (without much overlap) through the purchase of Wachovia Corporation, while increasing its shares outstanding by only about a quarter. Today it has more than 70 million customers in the U.S. with a net interest margin of 4.3%, the highest among the major U.S. banks. With
80+ separate businesses, cross selling at least six products per customer and a funding base of $800 billion in deposits at a cost of 40 basis points – all embedded in a risk averse culture under John Stumpf’s leadership –Wells Fargo is well positioned for strong growth over the next decade and we expect to be a major beneficiary.
Watsa has reduced his stake from 20,043,700 million shares in the fourth quarter of 2009 to 4,511,530 shares in the second quarter of 2011. He last sold shares in the fourth quarter of 2010 – 29,000 at an average price of $27.70 per share.
The bank’s most pressing issue for investors today is its falling revenue. It came back in 2009 with $98.6 billion, then $93 billion in 2010. Revenue in the second quarter of 2011 fell 4.7% to $20.4 billion from the previous quarter and flat from the year-earlier quarter. Second quarter earnings, however, were the highest in a year, at $7.2 billion, from $6.7 billion in the prior quarter and $6 billion in the prior year.
Wells successfully increased its loans by $766 million and deposits by 6%, lowered operating costs, and saw improved credit quality. It also strengthened its capital position – increasing its Basel III Tier 1 common equity ratio to 9.2% from 7.6% a year earlier and redeeming $3.4 billion of trust preferred securities. It benefitted shareholders by repurchasing 35 million shares of its stock and paying a quarterly common stock dividend of $0.12 per share.
The second quarter marked its sixth consecutive quarter of declining loan losses and the third consecutive quarter of declining nonperforming assets.
Kraft (KFT)
Kraft Foods is the maker of such universally recognized brands as Oreo, Oscar Mayer and Cadbury. On August 4, the company announced a plan to split into two independent, publicly traded companies: a high-growth snacks business with estimated revenue of approximately $32 billion, and a high-margin North American grocery business with estimated revenue of approximately $16 billion.
CEO Irene Rosenfeld outlined the company’s rationale for the split on September 7. “The economic returns of the North American Grocery business will come from sustained growth of its high-margin iconic brands, capital efficiency and the return of free cash flow in the form of a highly competitive dividend payout and a growing dividend over time,” she said.
She went on to discuss the Global Snacks business: “[It] will focus on industry-leading growth by extending its global product platforms, taking advantage of its significant scale in emerging markets, expanding in instant consumption channels and aggressively entering white-space markets. This business will drive margins higher by leveraging its cost structure through volume growth and improved product mix. Global Snacks will redeploy capital to support future growth through investments in sales, distribution and manufacturing.
Kraft’s second quarter net revenue increased 13.3% to $13.3 billion driven mainly by higher prices and volume/mix. It has been able to grow its annual revenue from $40.5 billion in 2008 to $49.2 billion in 2010 even in a challenging economic environment.
Prem Watsa commented on Kraft in his most recent shareholder letter.
We believe that Kraft Foods will, over time, benefit greatly from its purchase of Cadbury’s (one example – Cadbury’s has a distribution network of over 1 million stores in India!). All these are very high quality companies selling at modest multiples compared to their past and relative to the S&P500! We expect to hold these investments for a long period and if we are right, unrealized gains will become a significant portion of our equity base (at year-end 2009 it was already significant at $747 million after tax). A side benefit will be a smaller tax bill (until we sell), since gains generally compound tax free while we hold the investments.
Though Buffett has expressed his support for the split, he has been reducing his holdings rather than adding in his last several transactions. In 2010 he sold 31,537,745 shares at an average price of $29.06; in the second quarter of 2010 he sold 1,520,161 shares at an average price of $29.68; and in the second quarter of 2011 sold 5,746,960 shares at an average price of $33.92. He now owns 99,467,624 shares.
Prem Watsa sold 4,784,120 shares of Kraft in the third quarter of 2010 at an average price of $29.92 and has not touched his 5,365,751-share holding since. The stock price has risen to $34.78 currently.
Johnson & Johnson (JNJ)
Johnson and Johnson has been generating increasing cash flow for the past decade, reaching $14.5 billion in 2010. Revenues have declined over the past three years to $61.6 billion in 2010. Prem Watsa discussed Johnson & Johnson in a talk he gave at Richard Ivey School of Business in April:
And people look at Johnson & Johnson at 60 and say it hasn’t done a thing, it’s not worth buying. Now if you look back at the track record of Johnson & Johnson, you can there’ll be maybe like five times you have a P/E of 12 times, in about 60 years. It’s such a quality company, lots of cash, huge market shares all over the world. But if you think for a second, can this experience be repeated? Meaning 2 1/4 quarter to 4 1/2, P/E ratio from 25 to 12, for the next 5 or 6 or 7 years to have that same experience, you’ll have to have the P/E ratio go from 12 times to 6. And it might happen, but on a highly unlikely. So if you buy it you will likely get the earnings growth of this company, which will probably be in the 10 to 15% area over the next 5, 6, 7 years. But if it by chance to the P/E ratio it’s been selling at over the year then of course you get the double whammy, it goes from 12 to 24 25 then of course you get a pe plus the earnings, and that’s when the cash register really sings. You get the P/E and the earnings going in your favor. But most people don’t like Johnson & Johnson or Coca-Cola because in the last 5, 6 years they haven’t done well, so they extrapolate that into the future.
Johnson & Johnson has recently had approval of its would-be blockbuster drug Xarelto pushed back. The anti-clotting drug has been approved for other uses, but not for what could be its biggest market, patients with atrial fibrillation. A Wells Fargo analyst Larry Biegelsen estimates Johnson & Johnson could earn $1.2 billion in U.S. sales by 2015.
The stock bolted upward in the second quarter of this year when the company announced it would acquire Synthes Inc., but it is now down to $64.95 from its 52-week high of $68.05 last month.
Johnson & Johnson is 5.42% of Warren Buffett’s portfolio. His most recent trades were a purchase of 17,428,115 shares at an average price of $62.15 in the second quarter of 2010 and 1,305,000 shares at an average price of $59.52.
The company is 11.41% of Prem Watsa’s portfolio. He last sold 807,500 shares at an average price of $54.65 in the first quarter of 2009, then sold 1,700,000 shares at an average price of $60.67 in the first quarter of 2011.
Walmart (WMT)
Buffett began buying Walmart shares in the second quarter of 2005 and by the end of the third quarter, he owned almost 19 million shares valued at $832 million. During those quarters, the stock had dropped to a multi-year low of $42. Over the last five years, the stock price has risen only 11.75% to $52.21. However, over the same span of time its free cash flow has increased 134%, and revenue has increased every year for the last decade.
Prem Watsa owns 220,000 shares of WMT, valued as $12 million as of June 30, 2011, which accounts for 0.3869% of his equity portfolio.
Walmart is intently focused right now on pricing to help customers who are experiencing economic hardship. In their most recent quarterly conference call, Mike Duke, president and CEO, said, “I've recently observed several consumer focus groups, and it's clear that many consumers are still struggling. They're trading down to stretch their budgets, buying a lower-priced brand of detergent, moving from branded canned goods to private label and purchasing half gallons of milk instead of gallons.”
The weak economy has not necessarily translated into higher sales at the discount store in the U.S. Traffic improved sequentially each month of the quarter, driven in part by a 90-day gas savings program. U.S. comp sales, without fuel, for the period ended July 29 were flat. Consolidated net sales increased 5.5% or $5.6 billion to $108.6 billion for the second quarter, driven primarily by Walmart International and Sam’s Club. Sam’s Club sales growth also improved.
Walmart’s return on investment ended at 18.4%, negatively impacted by several major acquisitions and currency. On June 3, it announced a $15 billion share repurchase authorization, but acquisitions also prevented the company from dedicating much cash toward it during the quarter.
The two gurus have these stocks in common: Wells Fargo (WFC, Financial), Kraft (KFT, Financial), Johnson & Johnson (JNJ, Financial), Walmart (WMT, Financial).
Wells Fargo (WFC)
Wells Fargo dodged most of the pain other banks experienced during the financial crisis by steering clear of some of their problematic practices. Its balance sheet is rather strong. Its book value per share has more than doubled in the last five years, and its return on assets also rose from .2% to 1% in 2009 and 2010.
In a 2009 interview with CNN Money regarding Wells Fargo, in response to the question, “What is your metric for valuing a bank?” Warren Buffett said, “It's earnings on assets, as long as they're being achieved in a conservative way. But you can't say earnings on assets, because you'll get some guy who's taking all kinds of risks and will look terrific for a while. And you can have off-balance sheet stuff that contributes to earnings but doesn't show up in the assets denominator. So it has to be an intelligent view of the quality of the earnings on assets as well as the quantity of the earnings on assets. But if you're doing it in a sound way, that's what I look at.”
It can be deduced that Buffett believes Wells Fargo is achieving both quality and quantity of returns on assets. He bought approximately 61 million shares of the company since the first quarter of 2009, including 6,215,080 shares in the fourth quarter of 2010 at $27.70 per share and 9,703,683 shares in the second quarter of 2011 at $28.41 per share, for a grand total of 352,327,608. He could have gotten the shares cheaper today – the price has fallen to $24.40.
Prem Watsa also discussed his Wells Fargo investment in his most recent shareholder letter:
Wells Fargo, as you know, is a wonderful bank in the U.S. with an outstanding long term track record. In the financial crisis of 2008/2009, it seized the opportunity to double its size (without much overlap) through the purchase of Wachovia Corporation, while increasing its shares outstanding by only about a quarter. Today it has more than 70 million customers in the U.S. with a net interest margin of 4.3%, the highest among the major U.S. banks. With
80+ separate businesses, cross selling at least six products per customer and a funding base of $800 billion in deposits at a cost of 40 basis points – all embedded in a risk averse culture under John Stumpf’s leadership –Wells Fargo is well positioned for strong growth over the next decade and we expect to be a major beneficiary.
Watsa has reduced his stake from 20,043,700 million shares in the fourth quarter of 2009 to 4,511,530 shares in the second quarter of 2011. He last sold shares in the fourth quarter of 2010 – 29,000 at an average price of $27.70 per share.
The bank’s most pressing issue for investors today is its falling revenue. It came back in 2009 with $98.6 billion, then $93 billion in 2010. Revenue in the second quarter of 2011 fell 4.7% to $20.4 billion from the previous quarter and flat from the year-earlier quarter. Second quarter earnings, however, were the highest in a year, at $7.2 billion, from $6.7 billion in the prior quarter and $6 billion in the prior year.
Wells successfully increased its loans by $766 million and deposits by 6%, lowered operating costs, and saw improved credit quality. It also strengthened its capital position – increasing its Basel III Tier 1 common equity ratio to 9.2% from 7.6% a year earlier and redeeming $3.4 billion of trust preferred securities. It benefitted shareholders by repurchasing 35 million shares of its stock and paying a quarterly common stock dividend of $0.12 per share.
The second quarter marked its sixth consecutive quarter of declining loan losses and the third consecutive quarter of declining nonperforming assets.
Kraft (KFT)
Kraft Foods is the maker of such universally recognized brands as Oreo, Oscar Mayer and Cadbury. On August 4, the company announced a plan to split into two independent, publicly traded companies: a high-growth snacks business with estimated revenue of approximately $32 billion, and a high-margin North American grocery business with estimated revenue of approximately $16 billion.
CEO Irene Rosenfeld outlined the company’s rationale for the split on September 7. “The economic returns of the North American Grocery business will come from sustained growth of its high-margin iconic brands, capital efficiency and the return of free cash flow in the form of a highly competitive dividend payout and a growing dividend over time,” she said.
She went on to discuss the Global Snacks business: “[It] will focus on industry-leading growth by extending its global product platforms, taking advantage of its significant scale in emerging markets, expanding in instant consumption channels and aggressively entering white-space markets. This business will drive margins higher by leveraging its cost structure through volume growth and improved product mix. Global Snacks will redeploy capital to support future growth through investments in sales, distribution and manufacturing.
Kraft’s second quarter net revenue increased 13.3% to $13.3 billion driven mainly by higher prices and volume/mix. It has been able to grow its annual revenue from $40.5 billion in 2008 to $49.2 billion in 2010 even in a challenging economic environment.
Prem Watsa commented on Kraft in his most recent shareholder letter.
We believe that Kraft Foods will, over time, benefit greatly from its purchase of Cadbury’s (one example – Cadbury’s has a distribution network of over 1 million stores in India!). All these are very high quality companies selling at modest multiples compared to their past and relative to the S&P500! We expect to hold these investments for a long period and if we are right, unrealized gains will become a significant portion of our equity base (at year-end 2009 it was already significant at $747 million after tax). A side benefit will be a smaller tax bill (until we sell), since gains generally compound tax free while we hold the investments.
Though Buffett has expressed his support for the split, he has been reducing his holdings rather than adding in his last several transactions. In 2010 he sold 31,537,745 shares at an average price of $29.06; in the second quarter of 2010 he sold 1,520,161 shares at an average price of $29.68; and in the second quarter of 2011 sold 5,746,960 shares at an average price of $33.92. He now owns 99,467,624 shares.
Prem Watsa sold 4,784,120 shares of Kraft in the third quarter of 2010 at an average price of $29.92 and has not touched his 5,365,751-share holding since. The stock price has risen to $34.78 currently.
Johnson & Johnson (JNJ)
Johnson and Johnson has been generating increasing cash flow for the past decade, reaching $14.5 billion in 2010. Revenues have declined over the past three years to $61.6 billion in 2010. Prem Watsa discussed Johnson & Johnson in a talk he gave at Richard Ivey School of Business in April:
And people look at Johnson & Johnson at 60 and say it hasn’t done a thing, it’s not worth buying. Now if you look back at the track record of Johnson & Johnson, you can there’ll be maybe like five times you have a P/E of 12 times, in about 60 years. It’s such a quality company, lots of cash, huge market shares all over the world. But if you think for a second, can this experience be repeated? Meaning 2 1/4 quarter to 4 1/2, P/E ratio from 25 to 12, for the next 5 or 6 or 7 years to have that same experience, you’ll have to have the P/E ratio go from 12 times to 6. And it might happen, but on a highly unlikely. So if you buy it you will likely get the earnings growth of this company, which will probably be in the 10 to 15% area over the next 5, 6, 7 years. But if it by chance to the P/E ratio it’s been selling at over the year then of course you get the double whammy, it goes from 12 to 24 25 then of course you get a pe plus the earnings, and that’s when the cash register really sings. You get the P/E and the earnings going in your favor. But most people don’t like Johnson & Johnson or Coca-Cola because in the last 5, 6 years they haven’t done well, so they extrapolate that into the future.
Johnson & Johnson has recently had approval of its would-be blockbuster drug Xarelto pushed back. The anti-clotting drug has been approved for other uses, but not for what could be its biggest market, patients with atrial fibrillation. A Wells Fargo analyst Larry Biegelsen estimates Johnson & Johnson could earn $1.2 billion in U.S. sales by 2015.
The stock bolted upward in the second quarter of this year when the company announced it would acquire Synthes Inc., but it is now down to $64.95 from its 52-week high of $68.05 last month.
Johnson & Johnson is 5.42% of Warren Buffett’s portfolio. His most recent trades were a purchase of 17,428,115 shares at an average price of $62.15 in the second quarter of 2010 and 1,305,000 shares at an average price of $59.52.
The company is 11.41% of Prem Watsa’s portfolio. He last sold 807,500 shares at an average price of $54.65 in the first quarter of 2009, then sold 1,700,000 shares at an average price of $60.67 in the first quarter of 2011.
Walmart (WMT)
Buffett began buying Walmart shares in the second quarter of 2005 and by the end of the third quarter, he owned almost 19 million shares valued at $832 million. During those quarters, the stock had dropped to a multi-year low of $42. Over the last five years, the stock price has risen only 11.75% to $52.21. However, over the same span of time its free cash flow has increased 134%, and revenue has increased every year for the last decade.
Prem Watsa owns 220,000 shares of WMT, valued as $12 million as of June 30, 2011, which accounts for 0.3869% of his equity portfolio.
Walmart is intently focused right now on pricing to help customers who are experiencing economic hardship. In their most recent quarterly conference call, Mike Duke, president and CEO, said, “I've recently observed several consumer focus groups, and it's clear that many consumers are still struggling. They're trading down to stretch their budgets, buying a lower-priced brand of detergent, moving from branded canned goods to private label and purchasing half gallons of milk instead of gallons.”
The weak economy has not necessarily translated into higher sales at the discount store in the U.S. Traffic improved sequentially each month of the quarter, driven in part by a 90-day gas savings program. U.S. comp sales, without fuel, for the period ended July 29 were flat. Consolidated net sales increased 5.5% or $5.6 billion to $108.6 billion for the second quarter, driven primarily by Walmart International and Sam’s Club. Sam’s Club sales growth also improved.
Walmart’s return on investment ended at 18.4%, negatively impacted by several major acquisitions and currency. On June 3, it announced a $15 billion share repurchase authorization, but acquisitions also prevented the company from dedicating much cash toward it during the quarter.
