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The Science of Hitting
The Science of Hitting
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A Look at Berkshire Hathaway's 2018 Results

Some thoughts on the conglomerate's recent performance

February 26, 2019 | About:

Berkshire Hathaway (BRK.A)(BRK.B) reported results for fiscal 2018 on Saturday morning.

For the year, Berkshire recorded $248 billion in revenues across its collection of businesses, an increase of 3%. GAAP earnings for the year were $4.0 billion, down from $44.9 billion in 2017. As such a large change suggests, this headline figure requires some adjustment (as an example, 2017 benefited from a nearly $30 billion reduction in Berkshire’s deferred income tax liability). Reported earnings are impacted by new accounting rules that require the company to book unrealized gains and losses from changes in the value of its $173 billion equity portfolio in the income statement.

As Warren Buffett (Trades, Portfolio) noted in his shareholder letter, this led to some wide swings in profitability:

“In the first and fourth quarters, we reported GAAP losses of $1.1 billion and $25.4 billion respectively. In the second and third quarters, we reported profits of $12 billion and $18.5 billion.”

Operating earnings were $24.8 billion, or more than $10 per “B” share (with significant help from a lower effective tax rate), compared to $14.5 billion in 2017 and $17.6 billion in 2016. For the year, Berkshire spent $43.2 billion on equity investments, offset by $18.8 billion in sales (on which they incurred $3.3 billion in gains). Capital expenditures and bolt-on acquisitions used $14.5 billion and $3.3 billion of cash, respectively.

As it relates to equity investments, it's worth noting that Berkshire has invested in financials in a big way: at year-end, Berkshire's investment in Bank of America, Wells Fargo, J.P. Morgan, and U.S. Bancorp totaled $55 billion (market value) - equal to nearly one-third of Berkshire's equity portfolio. Here's what Warren had to say on CNBC: "They're very good investments at sensible prices... and they're cheaper than other businesses that are also good businesses by some margin."

Float at year-end was $122.7 billion, an increase of 7%. Since 2010, float has increased at an 8% compounded annual growth rate (CAGR). As noted in the shareholder letter, any decline in float should be gradual (“at the outside no more than 3% in any year”). Berkshire has generated this growth while simultaneously reporting sizable underwriting gains: Over the past 16 years, the company’s pre-tax underwriting gain has totaled $27 billion ($1.7 billion per year). In 2018, the insurance businesses collectively recorded a pre-tax underwriting gain of $2.0 billion.

GEICO had another solid year, with earned premiums up 13% to $33.4 billion. The business reported an underwriting gain of $2.45 billion for a combined ratio of 93% (with underwriting expenses reaching a new low at 13.9% of earned premiums). Over the past five years, GEICO has seen a 35% cumulative increase in policies in force (PIFs). Based on management’s estimate, GEICO currently has 13.3% market share (compare that to a decade ago, when GEICO accounted for 7.7% of the U.S. auto insurance market). If recent results are maintained, it will account for a much larger percentage of the market when we look back five to 10 years from now.

Earned premiums for Berkshire Hathaway Reinsurance Group (BHRG) declined significantly in 2018 (down roughly one-third to $15.9 billion), primarily reflecting the lapping of the large retroactive reinsurance agreement BHRG signed with American International Group (AIG) in 2017. For the year, BHRG reported a pre-tax underwriting loss of $1.1 billion, compared to a $3.6 billion loss in 2017 (the difference reflects larger catastrophe losses, as well as growth in the retroactive reinsurance business, where Berkshire expects to incur pre-tax underwriting losses).

Revenues at Burlington Northern Santa Fe (BNSF) increased 12% in 2018 to $23.9 billion, with mid-single digit growth in both volumes and average revenue per car. Pre-tax earnings increased 9%, with after-tax earnings climbing more than 30% to $5.2 billion due to a lower tax rate.

Berkshire Hathaway Energy (BHE) reported a 6% increase in revenues to $20.0 billion. As noted in the release, BHE faced a headwind from lower retail rates (BHE’s regulated subsidiaries pass the benefits of lower income tax expense attributable to the TCJA to their customers). Pre-tax earnings were flat, with after-tax earnings attributable to Berkshire up nearly 30% to $2.6 billion (the tax rate continues to benefit from wind-powered electricity production tax credits).

Manufacturing, Service and Retailing (MSR) revenues increased 5% to $140.8 billion, driven by growth at subsidiaries like IMC, Precision Castparts (PCC), Clayton Homes and TTI (to name a few). Earnings growth primarily reflects improvements in the Industrial Products portion of the Manufacturing businesses (namely Lubrizol, which was lapping some one-time charges).

Berkshire ended the year with $112 billion in Treasuries and cash equivalents. In 2018, Berkshire repurchased $1.3 billion worth of stock, or less than 0.3% of the outstanding shares. As Buffett suggested during his Monday morning CNBC interview (video and transcript), repurchases and investments in the fourth quarter of 2018 were partially impacted by the possibility of a large deal that ultimately didn’t work out (based on what he has said in recent years, my guess is this deal would’ve been in excess of $10 billion).

I continue to be confident that Berkshire will eventually find a way to quickly and intelligently allocate tens of billions of dollars at an opportune time (as Buffett noted, Berkshire spent $16 billion during a three-week period in 2008). In addition, considering the interest rate environment and valuations, I do not think there’s a high opportunity cost associated with holding cash today. As a shareholder, I continue to be confident in the collection of businesses I own for the long term (as well as the people in charge of them). Berkshire will continue to be a large holding in my portfolio for a long time.

Disclosure: Long Berkshire Hathaway B-shares.

About the author:

The Science of Hitting
I'm a value investor with a long-term focus. My goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach is "patience followed by pretty aggressive conduct." I run a concentrated portfolio - a handful of equities account for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

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Comments

srkaria
Srkaria - 3 weeks ago    Report SPAM

Hello,

Is it OK if you can tabulate how the $24.8B of Y2018 are calculated?

Thanks,

SK

Please leave your comment:


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