Shane
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Posts posted by Shane
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just some thoughts:
-Was it equity or equity+ float?
I would assume just equity, but does it matter? Float is becoming less important for Berkshire and any dollar invested at such a low ROE is destroying value
-Case of skate where the puck will be or where it's at?
Looking back, BNSF has never been a high ROE business while Union Pacific has consistently earned higher returns
-Will the competitor's ROE go down while Berkshire's go up?
Maybe? Doesn't look like BNSF ever really had a high ROE
-Replacement cost?
What about it? Not sure I follow?
I owned a stock with 5% ROE, it did NOT do well :)
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Just did some quick calculations:
In the 2015 annual report, the combined companies (BHE + BNSF) earned net income of about $6.38B. I can look at the consolidated balance sheet and see that the equity invested in this business is about $92.3B ($165B - $72.7B). This results in an ROE of 5%! This seems much too low.
Does anyone have an idea of how to explain this? Union Pacific earns an ROE of >20% right now and has averaged in the high teens over the past 10 years. WAS BNSF able to earn a high ROE before it was acquired? Debt levels are comparable between the two companies. If this math is correct, we don't want any incremental capital invested in this business. I am referring to BNSF as it makes up the bulk of this business, please feel free to dissect things further.
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I disagree with this. Perception by the investment community can change. Right now it might attract value investors, but who knows if growth investors will hop on later.
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I tend to agree with Munger_Disciple. You need to meet the qualification for the job which you want, if that is to work for a hedge fund... a top MBA can certainly help a lot. Don't necessarily expect the returns from your stock picks to improve after the MBA though.
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Yes I think we can all agree my thinking on the total return was flawed. I'll go back and edit the post to make things cleaner (and remove an embarrassing error ha).
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I think the cash flow stream can reasonably be expected to grow 5-7% for a total return of maybe 13-15% at today's price. I include acquisitions in my expectation for 5-7% as I basically consider acquired earnings normal growth as if a business had reinvested in itself (ie added another manufacturing facility).
Is this the right way to think about it?
All earnings at Berkshire are used to keep growing earnings (they are retained, not dividended or share repurchased out) so won't total return be equal to (earnings growth + return from change in multiples) instead of (earnings yield + earnings growth + return from change in multiples).
The cash flow stream would not grow without capex, particularly the utility and railroad and the industrials. I think the only types of businesses where you can say total return = earnings yield + growth in earnings are See's Candy types of things where almost no capex is needed for growth. If berkshire triples earnings over the next 10 yrs and the multiple doesn't change, shouldn't the stock price triple. But it should not triple + give you even more for earnings over that time period.
You can do this type of calculation with dividend yield or truly free cash flow yield (after growth capex), but earnings yield seems too generous right?
For example, the S&P 500 trades at 18X (5.5% earnings yield) and a 1.9% dividend yield.
If earnings per share grow by 6% per year for the next ten years and there is no multiple change, what is the total return? By the earnings yield + growth formula you use for berkshire it would be 11.5% (a cumulative 196% return over 10 yrs). But that's not what it would be, instead it would be dividend yield + earnings growth, right? Because the non dividended earnings are what is used to grow the EPS (either through investment or share repurchase).
Growth isn't free.
Hi thepupil. My understanding of what you are saying is that because the company would have to invest cash to grow, it is incorrect to use Earnings yield + growth to approximate total return?
I have to be honest that I am having a hard time at the moment trying to disprove your point here. I have seen the earnings yield + growth method used by other investors and maybe have not given it enough thought. Thanks for bringing this up. Am at work now without much time, will need to have a bit of a think.
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Thanks Shane!
Did you factor in the cost to do the PCP deal? I don't know the terms if they are issuing stock or paying cash but there is a small amount of dilution in either case.
It is all cash, so I don't see why there would be dilution. It is basically cash converted to an operating business.
I am actually starting to think Berkshire will grow the cash flow stream more quickly now. Consider this, (Net Income of $23.167B)/(Equity of $249B) = 9.3% ROE for last year. I am using the most recent equity figure and an adjusted TTM earnings figure so let's say normalized 10%. They retain all cash (Either via dividend from equity positions that aren't invested by the business) or as operating cash flow from subsidiaries. This means the company should grow at 10% going forward.
I must admit I am a bit surprised this is only yielding an ROE of 10%... I think it must be because the float is held at fair value and high P/E's penalize this figure? It might be worth adjusted equity for the cost basis of the float.
If you look back historically, the cash flow growth has been closer to 10%+ than the 5-7% figure. Original Mungerville - can you confirm this with your prior look-through analysis?
Thoughts? What is confusing me is this is looking cheaper and cheaper to me at today's price... However we are still above Warren's 1.2x BV level where only last year he said he used that level because it would be buying shares from shareholders for "90 cents on the dollar"... this is looking like much less than 90 cents on the dollar. Worried I am missing some costs, this is an unusual way to value a company.
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Did some quick work tonight, mostly from 2014 AR. All after tax and interest.
Operating businesses (Including PCP) = 13,758
Look-through equity portfolio (proportionate, including KHC) = 9409
Totals $23.167B. 7.3% earnings yield. 13.68x P/E.
Am I missing something here? Should I be backing out any corporate expenses? I essentially assume the insurance always operates at a 100 combined ratio.
A lot of the big equity positions are not expected to grow earnings... however, the operating businesses will probably grow decently within the next 5 years.
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Good points - I don't think it is safe to assume they have something extra up their sleeves. They have already locked in extraordinary returns.
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Hope your right!
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Their cost basis is way below today's price. They will earn higher returns than KRFT shareholders.
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Sure management is worth a premium and over time they would likely do another combination - but this would not occur for a couple years, but a 22x-24x multiple should already include that.
In terms of low-balling. They are stating $1.5 billion in cost savings, plus I estimated 200-300 million interest savings on the refi of $9 debt to investment grade, plus redeeming the Berkshire preferred of $8 billion (about $500 million).
That's a total cash flow/EBITDA savings of $2.2 billion or roughly a quarter of the forecast $10 billion in EBITDA (although the preferred redemption doesn't fit nicely into EBITDA savings more EPS, but anyway). So even if 3G gets cost savings of $2.5 billion instead of $1.5 billion (which I think every analyst would agree would be very aggressive), that would only move the needle on the $10 billion by 10% which may translate into EPS of 15% more.
Its just really hard to move the needle unless they 1) do another merger, or 2) begin a very significant international expansion in relatively short order.
Having said all this, relative to the average stock in the S&P 500 which is at very elevated levels, I agree that the less cyclical nature of Kraft-Heinz earnings combined with the potential for future growth should lead to outperformance. But to be clear, that isn't saying that much because the S&P 500 probably will grow less than 5% annually over the next 10 years.
IMO this is a stock with a muted downside and potential for positive upside surprises. Not in a hurry to sell, but would if a better idea came along. Why go to cash when you could earn 7-10% a year in a stock that will likely be a buffer in a down market?
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I like that blog a lot, but do disagree with some of his analysis. He leaves out cash saved by some of the refinancing (admittedly to his credit). Taking the EBITDA on down approach misses quite a bit if you ask me. For instance, he uses 5% for refinancing (too high IMO) and uses D&A as a proxy for maintenance capex (overestimates IMO). Also - yesterday's price was what I was referring to when discussing 16x.
Anyways - I feel like I am getting nit picky at this point. I'm happy to have built a position at $83, time will tell if I'm correct!
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We know the combined company's earnings will be 49% owned by KRFT shareholders. So they own that proportion of the combined earnings power + the special dividend. I feel safe hanging my hat on that. Terms of the deal are already out there. What am I missing?
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The market would assign the multiple it thinks is fair regardless of whether Heinz is public or not.
I think what you're saying is that Heinz's current multiple would influence the multiple applied today by the market, yes?
This is a transformative acquisition. I don't think that's the case! Regardless, at $83 yesterday the market gave almost zero value to the announced cost savings! That spelled opportunity. $83-$16.5=$66.5. KRFT had traded at that price earlier this year with no positive news. Do you see my point?
Note: this deal should be Earnings power accretive to KRFT shareholders (by my calculations). That's a factor in my comment above.
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I'd agree! And I'd adjust for true earnings of Heinz and back out the dividend if acquiring KRFT. Then adding in the finance savings/synergies (if you believe it) and voila. Multiply by .49 and your close to a good estimate of KRFT shareholder's share of earnings post merger. At least that's how I think of it.
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KCLarkin - that question can only be answered in retrospect. Without being facetious... It is easy to estimate the current going rate using comps, no?
Or you can at least ascribe the Kraft without sales growth multiple to the Kraft/Heinz with growth and better liquidity ratios combined company.
The answer is... The fair multiple is just as hard to land on with or without Heinz being public.
Regardless the company is worth more today with the synergies announced and better growth platform.
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Why will the market have a hard time valuing the business? Heinz's annual reports are current (Hawk Acquisition Intermediate Corp II)... everything is there that we need.
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I think the market is just assigning the value of the cost savings to KRFT. I bought a ton yesterday morning. The stock had barely moved if you back out the $16.5 from the share price... seemed like a no-brainer that it would continue to climb for the next few days.
Adding Heinz's adjusted earnings and KRFT's adjusted earnings and multiplying by 49%... it was trading at maybe 16x earnings yesterday ex-dividend!
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Really kind of perplexed by this. Does anyone have insight?
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This is exciting news! I hope his popularity doesn't cause the stock price to trade at a premium. I would love to learn more about the specifics of the insurer!
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Forgive me if this has already been asked, but have you owned this name before?
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The rational might be weak, however, the rigor of the research I think is very in-depth. As was mentioned above, they are incentivized to change their recommendations frequently. Also, the majority of their clients want to be in and out of stocks, not long-term holders. So a buy could probably be read "trading buy", rarely are they thinking more than a year out.
I meet with sell side analysts all the time and am consistently impressed with their depth of knowledge. I am also baffled by their inability to translate that into an 'investment' recommendation that I can use. The mindset is different.
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He doesn't even do special situations now... haha.
Though I think that John Malone's LMCA is vaguely Greenblatt-like. See the thread in the investment ideas forum. Though Malone has made most of his money from investing in wonderful businesses (e.g. the TCI cable business, cable networks, etc.)... more so than creating complicated situations and wheeling and dealing.
I know he doesn't. Thanks for the suggestions, I'll check them both out.
Regulated or Capital-Intensive Business ROE at Berkshire
in Berkshire Hathaway
Posted
Fair points being made looking at ROTE. Some more calculations below:
Total segment assets of $165m - $24.2m goodwill - $3.4m cash - $73m in liabilities = $64M in tangible equity = ~10% ROTE. I take out cash just to see if it would match up with the 'identifiable assets' number listed elsewhere. Similar to the results achieved by benjamin1978. I'm a little too detail oriented to take any company (even Berkshire) at their word on identifiable assets and am still not sure what they omit.
My conclusion, Warren's thesis is to overpay slightly today for a lifetime of 9-11% returns on incremental capital going forward. Additionally, there might be some arbitrage because cost of capital for BNSF under BRK might be lower than when it was independent. Maybe one day they can strive to achieve the much higher returns that peers are making. I understand the rational, but I was hoping for something a little more impressive when I embarked on the analysis. Glad I posted on the board. Thanks for the input. Let me know if you disagree.