I think many value investors follow Berkshire Hathaway (BRK.A, Financial)(BKR.B) closely but don’t actually own very much of the company relative to the portfolios they manage. The reason simply being that Berkshire is a giant company that has a lot of eyes on it which means the likelihood of it selling for a significant discount to intrinsic value is small. Many value investors are looking to buy 50 cents on the dollar which usually requires hunting smaller-sized companies.
At least that is usually the case. This morning Berkshire is now trading at just over $109,000 per class A share. And that is starting to look awfully appealing to me.
I’m sure that if you follow Berkshire closely you have seen the Whitney Tilson valuation model that takes investments per share and assigns a multiple to the operating businesses to reach a total value for the company.
Rather than do that, I like to reverse engineer what the market is saying today. And it is pretty interesting.
Investments per share at the end of Q1 - $97,000
Stock price - $109,000
Implied value of the operating businesses - $12,000 per share
2010 pre tax earnings per share from the operating businesses - $7,200
Stock market implied multiple on the operating businesses $12,000/$7,200 = 1.66
That is pretty compelling considering these businesses were put together by the greatest investor the world has ever seen and are attached to a balance sheet made to withstand the most epic crisis.
The undervaluation almost feels too obvious when you consider how closely Berkshire is studied.
Too obvious I thought until I read this article:
http://www.businessweek.com/news/2011-08-04/buffett-can-t-get-analysts-to-say-buy-after-berkshire-s-decline.html
There are some valid concerns raised in the article about Berkshire. Those include:
- The age of Buffett (80) and Munger (87)
- The loss of Sokol who was a key manager and potential successor
- Weak American economy
But when you are almost getting a collection of fine businesses for free does the lack of a specific name of a successor really merit enough concern to not be interesting in buying Berkshire?
I think the succession issue is ridiculously overblown. Buffett has made it clear that succession is the number-one discussion at every single board of directors meeting that Berkshire has. They have their eye on the ball — it isn’t like Berkshire management is going to be turned over to a ham sandwich after Buffett is gone.
And the operating businesses are run completely independent of Buffett already. Buffett has created a company that can run itself because he didn’t want to be involved on a daily basis. The cash flow machine will continue running no matter who is in charge.
The one area that Buffett will need to be replaced is with respect to the allocation of all of that free cash flow that the operating businesses create. Buffett’s replacement won’t be as good as him for sure, but you can bet your last dollar that Mr. Replacement will be no slouch either. And that replacement will be will schooled in the art of capital preservation.
The best part of the linked article is the following quote:
“It’s the cheapest that I’ve seen it in a while,” said Tom Lewandowski, an analyst with Edward Jones & Co., who has a “hold” rating on Berkshire shares. “It’s hard for me to get really positive on that.”
Yes, why would you ever want to get positive when the shares are cheap? When I see things like this I’m encouraged that there is still plenty of opportunity for value investors. Stick to what Buffett has taught us for decades. Focus on the value of the business, buy if you understand it and it is cheap, and then act like an adult and have the patience to wait more than five minutes for the stock market to figure out what you know.
