At the end of last week, I wrote an article highlighting three things investors should keep an eye out for in Warren Buffett (Trades, Portfolio)'s annual letter to shareholders of Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial).
One of these items was share repurchases. Ever since the conglomerate changed its share repurchase policy in 2018, the market has paid close attention to its buyback activity. Buffett has historically stayed away from using his conglomerate's cash to repurchase its equity. He's always believed there were better opportunities for the company to take advantage of in the market.
However, his view has changed over the past two years, slowly at first, but his inclination to buy back stock has increased rapidly over the past 12 months.
Buyback activity
Until the second half of last year, Berkshire had only repurchased modest amounts of stock, but that all changed in the second half. In the first half of 2020, Berkshire deployed $6 billion to buy back stock. It then spent a further $9 billion in the third quarter, taking the total for the first nine months of 2020 to $15.7 billion.
It seems as if Buffett continued to authorize share repurchases at a similar rate throughout the last three months of the year. As the Oracle of Omaha explained in his annual letter to investors:
"Last year we demonstrated our enthusiasm for Berkshire's spread of properties by repurchasing the equivalent of 80,998 "A" shares, spending $24.7 billion in the process. That action increased your ownership in all of Berkshire's businesses by 5.2% without requiring you to so much as touch your wallet."
In his annual letter, Buffett commented on the benefit of repurchases, particularly concerning high-quality businesses. He earmarked Apple (AAPL, Financial) as an example:
"Berkshire's investment in Apple vividly illustrates the power of repurchases. We began buying Apple stock late in 2016 and by early July 2018, owned slightly more than one billion Apple shares... Our cost for that stake was $36 billion. Since then, we have both enjoyed regular dividends, averaging about $775 million annually, and have also β in 2020 β pocketed an additional $11 billion by selling a small portion of our position. Despite that sale β voila! β Berkshire now owns 5.4% of Apple. That increase was costless to us, coming about because Apple has continuously repurchased its shares, thereby substantially shrinking the number it now has outstanding."
When combined with Berkshire's own buybacks, the conglomerate's shareholders had increased their indirect ownership by 10% in the two and a half years since Buffett finished buying the holding, the letter went on to add.
It also explained that Berkshire had continued to repurchase more shares since the end of 2020, which would not only increase shareholders' ownership of the conglomerate's core businesses, such as Berkshire Hathaway Energy and BNSF, but the indirect ownership of portfolio holdings like Apple as well.
The process of repurchasing shares, Buffett added, "offers a simple way for investors to own an ever-expanding portion of exceptional businesses."
High-quality buybacks
This is an approach the Oracle of Omaha has pursued in his investments for decades. Some of his favorite investments, which include American Express (AXP, Financial), Coca-Cola (KO, Financial) and Bank of America (BOA, Financial), are aggressive buyers of their own shares. As these companies have spent their own money to buy back stock, they have increased remaining shareholders' claims on the underlying businesses.
However, as Buffett has cautioned in the past, there are both positive and negatives to repurchases. If a company buys back stock at a high level, it can be a tremendous waste of shareholder funds if the money could have been better spent elsewhere.
Distinguishing between good and bad buybacks is incredibly important. Wasting shareholder funds to buy back stock at high levels can be a lousy capital allocation decision, indicating the poor quality of a management team.
Disclosure: The author owns no share mentioned.
Read more here:
- What We Can Learn From Warren Buffett's Latest Multi-Billion Dollar Mistake
- 3 Things to Look Out for in Warren Buffett's Annual Letter
- Charlie Munger's Thoughts From the Daily Journal Annual Meeting
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