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A Closer Look at Berkshire's New Equity Holdings

Buffett's firm only acquired two new positions last quarter

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Nov 18, 2021
Summary
  • Berkshire added two small positions last quarter.
  • Both of these stocks have attractive qualities.
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Two new positions appeared in Berkshire Hathaway's (

BRK.A, Financial) (BRK.B, Financial) giant equity portfolio last quarter.

The group acquired 13.1 million shares of Royalty Pharma PLC (

RPRX, Financial), giving it 0.16% weight. It also acquired 817,000 shares of Floor & Decor Holdings Inc. (FND, Financial), making it a 0.03% portfolio weight.

As both of these positions cost less than $500 million ($475 million for Royalty and $99 million for Floor & Decor), it is likely they were initiated by

Warren Buffett (Trades, Portfolio)'s investing lieutenants, Todd Combs and Ted Weschler. The Oracle of Omaha has stated previously that these former hedge fund managers have to get his clearance if a position is bigger than $1 billion. Anything below that, they have free rein in their section of the portfolio.

Interestingly, Berkshire isn't the only prominent investment firm to have an interest in these businesses.

Viking Global Investors owns just over four million shares of Royalty, while Maverick Capital holds 250,000 shares of Floor & Decor. These are both highly successful hedge funds, which could support the conclusion that these companies have significant potential.

Multi-channel specialty retailer

As its name suggests, Floor & Decor is a multi-channel specialty retailer and commercial flooring distributor of hard surface flooring and related accessories.

The company appears to manage a similar business model to Berkshire's Nebraska Furniture Mart. It operates big warehouse format stores across the country. Thanks to this business model, it has achieved a relatively high return on capital employed of 11.9% on average for the past six years.

The company has a successful track record of reinvesting cash flow from operations back into growth.

Book value has increased at a compound annual growth rate of 26% since 2016. The number of shares in issue has risen by just 3% per annum during this period, while the company has moved from a net debt position to a net cash position. The above demonstrates the company has been reinvesting cash to grow rather than issuing debt and equity to fund expansion.

Since 2015, net profit has grown at a compound annual growth rate of 49%, and sales have increased at a compound annual growth rate of 25%.

All in all, this looks to be a well-run growth business that has an excellent track record of reinvesting capital for growth.

Analyzing these metrics, I would not be surprised if Berkshire ends up making an offer for the business considering Floor & Decor's similarities to Nebraska Furniture Mart.

Royalty revenue streams

Royalty Pharma invests in late-stage pharmaceutical products and royalty revenue streams. The company was founded in 1996 and has a string of agreements with high-profile pharmaceutical companies.

Net profit is expected to come in at $1.7 billion this year and $1.9 billion in 2022.

With an operating profit margin of around 70%, this enterprise is incredibly profitable. It is also a way to build exposure to the pharmaceutical industry without taking on the risks associated with drug development and exploration.

Its track record is also impressive. Over the past two and a half decades, Royalty has curated an extensive portfolio of treatments and is also likely to have created an extensive list of contacts in the pharmaceutical industry. This could be a competitive edge for the business. With the right contacts in place, Royalty may be able to gain access to the best deals before competitors have a chance to review them.

This strategic advantage could be the main reason why Berkshire's portfolio managers bought the stock.

Shares in the royalty group are selling at a forward price-earnings multiple of just 14. For a company with a profit margin of 70%, this multiple does not seem to take into account Royalty's robust business model.

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Disclosures

I am/ we are currently short the stocks mentioned. Click for the complete disclosure
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