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David Kass
David Kass
Articles (9)  | Author's Website |

Berkshire Hathaway's $5 Billion Investment in Goldman Sachs in 2008 Has Resulted in a 50% Return

February 01, 2012 | About:

On Sept. 24, 2008, Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B) and Goldman Sachs (NYSE:GS) entered into an agreement in which Berkshire Hathaway purchased $5 billion of Goldman's preferred shares paying a 10% dividend. Berkshire also received warrants granting it the right to buy $5 billion of Goldman Sachs common stock at $115 per share (or 43.5 million shares) through Oct. 1, 2013.

Goldman Sachs called the preferred stock for redemption on April 18, 2011 at a premium of 10% over par value, plus accrued and unpaid dividends. As a result, Berkshire Hathaway earned approximately $1.75 billion ($1.25 billion in dividends plus a redemption premium of $500 million) in two and a half years on its investment of $5 billion. This represents a return of 35% over this time period from the preferred stock alone.

At Goldman Sachs' closing price of $109.73 per share on Jan. 30, 2012, what are its warrants worth? Although these warrants are currently "out of the money" since the underlying common shares are selling below the strike price of $115, they have considerable value which can be estimated using a Black Scholes calculator.

When applying a strike price of $115, stock price of $109.73, time remaining of 605 days, historical volatility of 38.8% (source: TD Ameritrade), and a risk-free interest rate of 0.2% (2-Year U.S. Treasury), each warrant is valued at $19.76. Therefore, Berkshire's 43.5 million warrants have a total current value of $860 million.

When adding the current value of $860 million from its Goldman Sachs warrants to its return of $1.75 billion from Goldman's preferred stock, Berkshire's total return can be valued at approximately $2.6 billion, or more than 50% of its $5 billion investment.

This provides further evidence of how Warren Buffett has recently created shareholder value for Berkshire Hathaway. Furthermore, his willingness to invest $5 billion in Goldman Sachs at the peak of the financial crisis in September 2008, and his previously stated intention of not exercising Berkshire's warrants in Goldman Sachs until their expiration on Oct. 1, 2013, are providing an indication of Buffett's confidence in the outlook for Goldman's common stock. Since shares of both Berkshire Hathaway and Goldman Sachs are currently selling at reasonable valuations, investors might wish to consider investing in them.

About the author:

David Kass
David I Kass
Tyser Teaching Fellow, Department of Finance
Ph.D., Harvard University

Robert H. Smith School of Business
4412 Van Munching Hall
University of Maryland
College Park, MD 20742-1815
Phone: 301-405-9683
Email: [email protected]

Dr. David Kass has published articles in corporate finance, industrial organization, and health economics. He currently teaches Advanced Financial Management and Business Finance. Prior to joining the faculty of the Smith School in 2004, he held senior positions with the Federal Government (Federal Trade Commission, General Accounting Office, Department of Defense, and the Bureau of Economic Analysis). Dr. Kass has recently appeared on Bloomberg TV, CNBC, Maryland Public Television, Business News Network TV (Canada), and WYPR Radio (Baltimore), and has been quoted on numerous occasions by Bloomberg News, where he has primarily discussed Warren Buffett and Berkshire Hathaway. He has also launched a Smith School “Warren Buffett” blog. Dr. Kass has accompanied MBA students on trips to Omaha for private meetings with Warren Buffett, and Finance Fellows to Berkshire Hathaway’s annual meetings. He is an officer of the Harvard Business School Club of Washington, DC, and is a member of the investment and budget committees of a local nonprofit organization. Dr. Kass received a Smith School “Top 15% Teaching Award” for the 2009-2010 academic year.

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