1.2x P/BV entry point

[vinod1]

 

Also agree that 10% is a good conservative return estimate. I think that if Warren wanted to be more aggressive with the balance sheet, then low teens would be easy and he may even do better but it seems like the company isnt shooting for the stars anymore.

 

Over the last 5 years (2009 YE to 2014 YE), Berkshire did not achieve low teens growth, arguably with strong tailwinds (equity market recovery from crisis lows, benefiting from opportunities created by the crisis, etc) over the last 5 years. Assuming the balance sheet is managed in the same fashion as before, neither more conservatively nor more aggressively, what factors would drive higher returns than the past 5 five years?

 

BRK is my largest allocation, but not seeing the growth you guys are expecting.

 

Vinod

[thepupil]

It did achieve higher than teens growth in earnings power

 

1) converting cash and stocks to owned businesses, generally in a way that was immediately accretive

2) benefitting from a cyclical upwind in the economy from BNSF (bakken plus other) and lots of housing related businesses

 

vinod, you are looking at equity value which has grown at a lower rate because of the DTL (which decreases the growth from stock appreciation by 1/3 and also likely understates the growth in cash generation from BNSF and Berkshire Energy).

 

The guys that are jacked up saying mid teens returns are saying they expect earnings to keep growing at that clip. You are saying book value hasn't grown at that clip so why would it ramp up. They are different things.

 

I think you all are talking past each other.

 

I think you are correct with respect to the value of stocks and bonds and securities that berkshire owns. No way that grows at mid teens. It will grow at s&p +/- 3%.

 

But operating earnings can continue to grow at a rate that exceeds the growth rate of the securities portfolio. I don't think it would be wise to say "15% / year for 10 years" or something like that, but I think we all agree they'll do okay.

 

 

 

[jay21]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

[rb]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

Well the spread between IV and BV will widen. I don't know if it's right to think that it will be tougher to think of BV vs. IV. My view is that at some point maybe not too far away it will become wrong to think of BRK in terms of BV.

 

I'm a bit encouraged by the use of debt in the PCP acquisition. Maybe they're starting to use the balance sheet a bit. We'll see if that turns out to be true.

[jay21]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

Well the spread between IV and BV will widen. I don't know if it's right to think that it will be tougher to think of BV vs. IV. My view is that at some point maybe not too far away it will become wrong to think of BRK in terms of IV.*

 

I'm a bit encouraged by the use of debt in the PCP acquisition. Maybe they're starting to use the balance sheet a bit. We'll see if that turns out to be true.

 

I am usually too abbreviated on the internet. Obviously the link between IV and BV will be easy to think about b/c people have their estimate of IV and BV is a known number and they can compare the two. I was more thinking of the change in each. Will a 5% increase in BV be roughly equal to a 5% increase in IV etc.? It won't be a useful heuristic.

 

*You mean BV where the asterisk is above?

[vinod1]

It did achieve higher than teens growth in earnings power

 

1) converting cash and stocks to owned businesses, generally in a way that was immediately accretive

2) benefitting from a cyclical upwind in the economy from BNSF (bakken plus other) and lots of housing related businesses

 

vinod, you are looking at equity value which has grown at a lower rate because of the DTL (which decreases the growth from stock appreciation by 1/3 and also likely understates the growth in cash generation from BNSF and Berkshire Energy).

 

The guys that are jacked up saying mid teens returns are saying they expect earnings to keep growing at that clip. You are saying book value hasn't grown at that clip so why would it ramp up. They are different things.

 

I think you all are talking past each other.

 

I think you are correct with respect to the value of stocks and bonds and securities that berkshire owns. No way that grows at mid teens. It will grow at s&p +/- 3%.

 

But operating earnings can continue to grow at a rate that exceeds the growth rate of the securities portfolio. I don't think it would be wise to say "15% / year for 10 years" or something like that, but I think we all agree they'll do okay.

 

I used book value growth as a rough proxy for IV growth which incorporates both book value and earnings power growth. So I am really focusing on IV growth.

 

For my own estimates, I tried to model growth of various components that drive IV - float, investments, reinvestment rates, etc. I get a range of 9% to 10% and if I really stretch I can get to 11%. But beyond that I just cannot see how IV growth can be much higher.

 

As I said above, I was wrong before in underestimating growth rate and would be really happy to be wrong again!

 

Vinod

 

[bizaro86]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

 

If they spend a dollar on railroad growth capex, BV will increase by a dollar, it will be in the PP&E section.

 

You may think depreciation charges exceed maintenance capex, but growth capex does increase book.

[jay21]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

 

If they spend a dollar on railroad growth capex, BV will increase by a dollar, it will be in the PP&E section.

 

You may think depreciation charges exceed maintenance capex, but growth capex does increase book.

 

You have $1 in cash and turn it into $1 in PPE. Its just a transfer, not growth.

[no_free_lunch]

I have nothing material to add but have to comment.  This is fantastic analysis, I am following it all as best I can.  I would just say that I think that 10% return would be fantastic.  You need to weigh in the probability of the returns being in that range which is much higher than the probability of some company I can identify that might return 15%.  Or in other words, you can come up with a portfolio where the individual components can do 15-20% but full cycle you are likely to be dragged down close to BRK results so why not just put a meaningful (15% for me) amount into BRK? 

 

Also regarding the 10%, I just looked at the S&P earnings and peak earnings lately were 105 in 2014.  This compares to peak earnings of 85 in 07.  So S&P has only grown by about 25% over the last 7 years and that would include the impact of lower interest rates and the ability for companies to have cannibalized at much lower prices.  That is what 3% a year earnings growth?    I think 10% is a great result, if we get it, in a 2% inflation environment.

[rb]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

Well the spread between IV and BV will widen. I don't know if it's right to think that it will be tougher to think of BV vs. IV. My view is that at some point maybe not too far away it will become wrong to think of BRK in terms of IV.*

 

I'm a bit encouraged by the use of debt in the PCP acquisition. Maybe they're starting to use the balance sheet a bit. We'll see if that turns out to be true.

 

I am usually too abbreviated on the internet. Obviously the link between IV and BV will be easy to think about b/c people have their estimate of IV and BV is a known number and they can compare the two. I was more thinking of the change in each. Will a 5% increase in BV be roughly equal to a 5% increase in IV etc.? It won't be a useful heuristic.

 

*You mean BV where the asterisk is above?

Yes I did mean BV. Thanks for catching that. I modified the post.

 

Obviously it is nice to have a neat multiplier on BV to get to IV and that worked nicely in the past. What I'm getting at when I'm saying that the relationship between IV and BV is breaking down is the company has changed to much from the past. In the past it was mostly a financial company and a lot of the assets would be marked to market so BV would be tracking IV. That relationship is breaking down because so many of the assets aren't marked.

 

This gets to your thoughts about relative changes in BV and IV. For example if the investment portfolio goes up by $1 then IV goes up by $1. In this case IV will grow by less in % terms rather than BV. However if BV of BNSF or PCP goes up by $1 then IV may go up by $4. Looking at it in a different way, if earnings go up by 10% in a year at BNSF we can infer that BNSF's IV went up 10%. That's a lot of value created and added to Berkshire's IV but very little of that would show up in the BV. So I don't think that even changes in BV and IV are correlated that much anymore.

[Guest longinvestor]

It did achieve higher than teens growth in earnings power

 

1) converting cash and stocks to owned businesses, generally in a way that was immediately accretive

2) benefitting from a cyclical upwind in the economy from BNSF (bakken plus other) and lots of housing related businesses

 

vinod, you are looking at equity value which has grown at a lower rate because of the DTL (which decreases the growth from stock appreciation by 1/3 and also likely understates the growth in cash generation from BNSF and Berkshire Energy).

 

The guys that are jacked up saying mid teens returns are saying they expect earnings to keep growing at that clip. You are saying book value hasn't grown at that clip so why would it ramp up. They are different things.

 

I think you all are talking past each other.

 

I think you are correct with respect to the value of stocks and bonds and securities that berkshire owns. No way that grows at mid teens. It will grow at s&p +/- 3%.

 

But operating earnings can continue to grow at a rate that exceeds the growth rate of the securities portfolio. I don't think it would be wise to say "15% / year for 10 years" or something like that, but I think we all agree they'll do okay.

 

From the 10-K

 

Per-share pre-tax earnings (non-insurance, non-investment)growth rates

1970-1980:20.8%

1980-1990:18.4%

1990-2000: 24.5%

2000-2010: 20.5%

 

2011: 18%

2012: 15.7%

2013: 20.6%

2014: 19%

 

 

[rb]

Isn't that a pretty sight!  ;D

[Guest longinvestor]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

Well the spread between IV and BV will widen. I don't know if it's right to think that it will be tougher to think of BV vs. IV. My view is that at some point maybe not too far away it will become wrong to think of BRK in terms of IV.*

 

I'm a bit encouraged by the use of debt in the PCP acquisition. Maybe they're starting to use the balance sheet a bit. We'll see if that turns out to be true.

 

I am usually too abbreviated on the internet. Obviously the link between IV and BV will be easy to think about b/c people have their estimate of IV and BV is a known number and they can compare the two. I was more thinking of the change in each. Will a 5% increase in BV be roughly equal to a 5% increase in IV etc.? It won't be a useful heuristic.

 

*You mean BV where the asterisk is above?

 

 

The surest telegraph that BV becomes "too rough" of a proxy is the addition of the additional column in the performance vs S&P table starting this 51st year.

Who knows, they may one day remove the BV column, ha. All that is standing between would be KO, AXP, WFC, IBM, KHZ becoming wholly owned. I know, I know, I'm getting jacked up now!

[vinod1]

Good pt.

 

I guess it's a little tough though. If Warren retains a dollar and puts that dollar towards railroad growth CapEx, the BV didn't increase but assuredly the IV did. It's going to get tougher and tougher to think about IV relative to BV as time goes on.

Well the spread between IV and BV will widen. I don't know if it's right to think that it will be tougher to think of BV vs. IV. My view is that at some point maybe not too far away it will become wrong to think of BRK in terms of IV.*

 

I'm a bit encouraged by the use of debt in the PCP acquisition. Maybe they're starting to use the balance sheet a bit. We'll see if that turns out to be true.

 

I am usually too abbreviated on the internet. Obviously the link between IV and BV will be easy to think about b/c people have their estimate of IV and BV is a known number and they can compare the two. I was more thinking of the change in each. Will a 5% increase in BV be roughly equal to a 5% increase in IV etc.? It won't be a useful heuristic.

 

*You mean BV where the asterisk is above?

 

Obviously it is nice to have a neat multiplier on BV to get to IV and that worked nicely in the past. What I'm getting at when I'm saying that the relationship between IV and BV is breaking down is the company has changed to much from the past. In the past it was mostly a financial company and a lot of the assets would be marked to market so BV would be tracking IV. That relationship is breaking down because so many of the assets aren't marked.

 

This gets to your thoughts about relative changes in BV and IV. For example if the investment portfolio goes up by $1 then IV goes up by $1. In this case IV will grow by less in % terms rather than BV. However if BV of BNSF or PCP goes up by $1 then IV may go up by $4. Looking at it in a different way, if earnings go up by 10% in a year at BNSF we can infer that BNSF's IV went up 10%. That's a lot of value created and added to Berkshire's IV but very little of that would show up in the BV. So I don't think that even changes in BV and IV are correlated that much anymore.

 

Great points and I largely agree. A few minor quibbles:

 

As operating companies make a larger proportion of Berkshire compared to investments, the IV as measured by P/B multiple should creep up. But I think the P/B creep is very slow. If Berkshire fair value was say 1.5 P/B five years ago, it is probably 1.55 P/B now. So I think to a first approximation P/B is a pretty decent measure of estimating BRK's IV.

 

There are many different factors that are influencing P/B multiple

 

1. When Berkshire makes say investments in the stock market, those are worth pretty close to book value. They are worth a bit more than book value due to the strong possibility of beating the market, but again they face taxes on dividends which reduces some of the premium. If Berkshire consisted of nothing but $120 billion worth of stocks, then I do not think fair value would be anywhere as high as 1.5x Book value.

 

2. When Berkshire purchases operating companies, it typically pays a premium to the underlying companies book value and the total price paid becomes the new book value on Berkshire balance sheet. Sure they are worth more under Berkshire's umbrella but in aggregate, fair value for these would be closer to say 1.2x price paid or something around that.

 

PCP on which I think Berkshire got a particularly good deal is probably worth 1.3x at the high end to what Buffett paid for that company. But this is unusually attractive deal (much to my irritation as a PCP shareholder).

 

3. When Berkshire deploys capital internally say in BNSF or Energy or in any of its subs, that is where a larger premium of say something like P/B of 2 would be justified. So reinvested earnings are worth 2x book or maybe even higher. This is the part I disagree a bit with your comments. When BNSF increases its earnings by 10%, it is associated with a corresponding increase in equity or book value of BNSF. Othewise you are assuming that BNSF would have continuously increasing ROE - no growth in book value as earnings increase. While ROE might increase a bit, most of Berkshire's recent subs are likely to have a stable ROE, thus they would need growth in book value to increase earnings.

 

#1 and #2 pull P/B multiple down while #3 increases the multiple. So overall, if you do a point in time IV estimate and translate it into a P/B multiple, it is remarkably stable - although increasing by a very small amount each year.

 

There are a few other minor factors as well but for brevity let us ignore them.

 

Vinod

 

 

[rb]

 

Great points and I largely agree. A few minor quibbles:

 

As operating companies make a larger proportion of Berkshire compared to investments, the IV as measured by P/B multiple should creep up. But I think the P/B creep is very slow. If Berkshire fair value was say 1.5 P/B five years ago, it is probably 1.55 P/B now. So I think to a first approximation P/B is a pretty decent measure of estimating BRK's IV.

 

There are many different factors that are influencing P/B multiple

 

1. When Berkshire makes say investments in the stock market, those are worth pretty close to book value. They are worth a bit more than book value due to the strong possibility of beating the market, but again they face taxes on dividends which reduces some of the premium. If Berkshire consisted of nothing but $120 billion worth of stocks, then I do not think fair value would be anywhere as high as 1.5x Book value.

 

2. When Berkshire purchases operating companies, it typically pays a premium to the underlying companies book value and the total price paid becomes the new book value on Berkshire balance sheet. Sure they are worth more under Berkshire's umbrella but in aggregate, fair value for these would be closer to say 1.2x price paid or something around that.

 

PCP on which I think Berkshire got a particularly good deal is probably worth 1.3x at the high end to what Buffett paid for that company. But this is unusually attractive deal (much to my irritation as a PCP shareholder).

 

3. When Berkshire deploys capital internally say in BNSF or Energy or in any of its subs, that is where a larger premium of say something like P/B of 2 would be justified. So reinvested earnings are worth 2x book or maybe even higher. This is the part I disagree a bit with your comments. When BNSF increases its earnings by 10%, it is associated with a corresponding increase in equity or book value of BNSF. Othewise you are assuming that BNSF would have continuously increasing ROE - no growth in book value as earnings increase. While ROE might increase a bit, most of Berkshire's recent subs are likely to have a stable ROE, thus they would need growth in book value to increase earnings.

 

#1 and #2 pull P/B multiple down while #3 increases the multiple. So overall, if you do a point in time IV estimate and translate it into a P/B multiple, it is remarkably stable - although increasing by a very small amount each year.

 

There are a few other minor factors as well but for brevity let us ignore them.

 

Vinod

Vinod,

 

On point #1 I fully agree with you with shades of gray. That was kind of the point I was trying to make when I was talking about mark to market. I probably didn't express the point very well. Why BRKs market investments may be worth more than book is because they are leveraged with the float. But at this point the float is going into so many places that I would probably just mark the securities to market and leave it at that.

 

#2, and #3 I'll take them together. Yes the goodwill that BRK carries for the acquisitions shouldn't result in a large P/B attached to them. Especially in the near term. Now I'm going to get into a bit of murky conceptual valuation stuff so bear with me a bit.

 

The way I see it is that with certain big acquisitions: Mid-American, BNSF, and PCP Buffett actually acquired growth platforms. Companies which have a large opportunity set of projects that carry high rates of return by virtue of their economics or industry they are in. The kind of rates of return which are scarce outside of these companies. So instead of Buffett having to look for a stock to buy that will return 12% with the flip of a switch he can dump capital into MidAmerican and get 12%. This way he can reinvest the rivers of cash flowing into Omaha at high rates of return.

 

To see this change in strategy you can look at BRK investments up to the 2000s. They were mostly asset light companies that spit out a lot of cash. Coca Cola, P&G, Gillette, American Express. After 2000s you see asset heavy companies that can suck up a lot of cash: MidAmerican and BNSF. I think PCP will turn out to be some sort of roll-up like NOV was.

 

Now my question is. Since these growth platforms are acquired to reinvest Berkshire's cash at high rates of return for years into the future, and Berkshire is sure to make lots of cash in the future, when is the a lot of value actually created? When the cash is deployed or when the growth platform is acquired?

 

I'd love to hear your thoughts on this, especially since I may be getting a bit aggressive with mine. Thanks.

[Guest longinvestor]

The law of large numbers may actually be working in BRK's favor and the market is slow to realize this. While operating earnings has continued to grow close to the 20% clip, the $ amount retained is huge. The last 5 years has seen them retain well over 50% of all retained earnings over 50 years. History is being re-made! This brings WEB's third factor in the IV calculation squarely into the picture. That is, what will they do with each $ they retain. Those that love to calculate don't want to go to this hard to calculate aspect(dependent on present+future versus the past) but that's perhaps why BRK is a coiled spring. 

 

Two things need to continue: Ongoing captive capital investments (near certain) and shareholders willing to go along with the no-dividend scheme. WEB acknowledges this with gratitude in this year's letter. Long live the old shareholder base, ha.

[vinod1]

Vinod,

 

On point #1 I fully agree with you with shades of gray. That was kind of the point I was trying to make when I was talking about mark to market. I probably didn't express the point very well. Why BRKs market investments may be worth more than book is because they are leveraged with the float. But at this point the float is going into so many places that I would probably just mark the securities to market and leave it at that.

 

Good point. I did not think of it because I am not used to thinking of Berkshire in this way.

 

I try to value Berkshire segment by segment by segment as well as other methods. I use P/B more as a short cut from the values derived from each of these. So if segment by segment method comes to a value of $160 per share, then as a short cut I would use 1.6 P/B as fair value. This way I need go through the detailed calculations every quarter or year. Then after a couple of years, I refresh my estimates and again convert it into a P/B ratio. This is more for ease of use.

 

I did a detailed write up 5 years back that pretty much remains the model that I use for subsequent years.

 

http://vinodp.com/documents/investing/BerkshireHathaway.pdf

 

I have updated one for this year but it is not in a publishable state.

 

 

#2, and #3 I'll take them together. Yes the goodwill that BRK carries for the acquisitions shouldn't result in a large P/B attached to them. Especially in the near term. Now I'm going to get into a bit of murky conceptual valuation stuff so bear with me a bit.

 

The way I see it is that with certain big acquisitions: Mid-American, BNSF, and PCP Buffett actually acquired growth platforms. Companies which have a large opportunity set of projects that carry high rates of return by virtue of their economics or industry they are in. The kind of rates of return which are scarce outside of these companies. So instead of Buffett having to look for a stock to buy that will return 12% with the flip of a switch he can dump capital into MidAmerican and get 12%. This way he can reinvest the rivers of cash flowing into Omaha at high rates of return.

 

To see this change in strategy you can look at BRK investments up to the 2000s. They were mostly asset light companies that spit out a lot of cash. Coca Cola, P&G, Gillette, American Express. After 2000s you see asset heavy companies that can suck up a lot of cash: MidAmerican and BNSF. I think PCP will turn out to be some sort of roll-up like NOV was.

 

Now my question is. Since these growth platforms are acquired to reinvest Berkshire's cash at high rates of return for years into the future, and Berkshire is sure to make lots of cash in the future, when is the a lot of value actually created? When the cash is deployed or when the growth platform is acquired?

 

I'd love to hear your thoughts on this, especially since I may be getting a bit aggressive with mine. Thanks.

 

Agree completely. This is exactly the way I view this too. Buffett has made sure that his successors have the option of deploying huge amounts of capital at good to great rates of return. So one less problem for them and importantly growth with low risk.

 

I struggle too with this as the value of a truly exception business is going to be pretty high. It depends on how far you want to look into the future. 10 years? 30 years? I am inclined to look at 10 years, knowing fully well that IV is going to be higher that my estimate. This way I would not be so conservative as to miss out on the opportunity but also give myself some margin of safety.

 

Vinod

 

[scorpioncapital]

Here's a little humour(?) from Gurufocus:

 

"As of today, Berkshire Hathaway Inc's weighted average cost Of capital is 8.68%. Berkshire Hathaway Inc's return on invested capital is 7.11%. Berkshire Hathaway Inc earns returns that do not match up to its cost of capital. It will destroy value as it grows."

 

http://www.gurufocus.com/term/ROIC/NYSE:BRK.B/Return%2Bon%2BInvested%2BCapital/Berkshire%2BHathaway%2BInc

 

 

[rb]

Here's a little humour(?) from Gurufocus:

 

"As of today, Berkshire Hathaway Inc's weighted average cost Of capital is 8.68%. Berkshire Hathaway Inc's return on invested capital is 7.11%. Berkshire Hathaway Inc earns returns that do not match up to its cost of capital. It will destroy value as it grows."

 

http://www.gurufocus.com/term/ROIC/NYSE:BRK.B/Return%2Bon%2BInvested%2BCapital/Berkshire%2BHathaway%2BInc

 

Wow, these guys are smoking some pretty strong stuff.

[Jurgis]

Here's a little humour(?) from Gurufocus:

 

"As of today, Berkshire Hathaway Inc's weighted average cost Of capital is 8.68%. Berkshire Hathaway Inc's return on invested capital is 7.11%. Berkshire Hathaway Inc earns returns that do not match up to its cost of capital. It will destroy value as it grows."

 

http://www.gurufocus.com/term/ROIC/NYSE:BRK.B/Return%2Bon%2BInvested%2BCapital/Berkshire%2BHathaway%2BInc

 

Wow, these guys are smoking some pretty strong stuff.

 

Nope, it's just mechanically generated numbers and text.

Does not work with BRK.

[scorpioncapital]

Conglomerates and financials seem to have some problems with these filters I guess. It does better on DCF and projected DCF with a value range of $114 to $155/share. Kind of in the 1.2x P/BV ballpark where an investor would get close to the 8-10% annual return that has been calculated by several different methods, assuming no multiple expansion.

[Jurgis]

Right. BRK ROE has been low for long time, IIRC that's because of the investment side and maybe (re)insurance. WACC is rather artificial anyway, so garbage out.

 

Cash Flow calculations do now work straightforwardly for insurers and financials.

 

 

[rb]

Plus BRKs cash position is probably dragging it down. Part of that is solved now :).

 

I also don't know how these clowns get a WACC of 8.7%, I wonder what they are using for Ke and I'm pretty sure a) it's wrong and b) it's bullshit.

[scorpioncapital]

I'm actually thinking the figures are quite accurate except unknown what the cost of float is taken at.

Berkshire does have a return on invested capital to a new investor at current prices of no more than 15%.

It also has some debt, minus the almost "Free float", plus a premium to the assumed rate of the long bond for desired equity risk premium. The differential is positive if you assume this and that the quality of the earnings demand a discounting not much more than 4 or 5%. Still, I'm not entirely sure what this means. Looking at the big picture, it does seem we shouldn't expect a shareholder to earn more than 8-15% per year at current prices. That's a broad range, let's call it pessimistic to optimistic scenarios.

[rb]

I'm actually thinking the figures are quite accurate except unknown what the cost of float is taken at.

Berkshire does have a return on invested capital to a new investor at current prices of no more than 15%.

It also has some debt, minus the almost "Free float", plus a premium to the assumed rate of the long bond for desired equity risk premium. The differential is positive if you assume this and that the quality of the earnings demand a discounting not much more than 4 or 5%. Still, I'm not entirely sure what this means. Looking at the big picture, it does seem we shouldn't expect a shareholder to earn more than 8-15% per year at current prices. That's a broad range, let's call it pessimistic to optimistic scenarios.

Sorpion,

 

I'm a bit confused by your post. Why would Berkshire's ROIC depend on shareholders or when one bought the shares?

 

I also don't see how one can agree with the numbers. I was particularly questioning their WACC number. I did not think I'd engage in a discussion based on CAPM on a value investing board, but here we go.

 

Let's drop the decimals and assume for simplicity that inflation and 10-year yield are 2%. So let's look at the cost of equity (Ke) for Berkshire.

 

CAPM says something like Ke=10yr Yield + beta(BRK)*MRP. Now MRP is generally 5% and I'm not gonna go and check but I think it's a safe assumption that BRKs beta is less than 1 but let's say 1. That would imply Ke(BRK)=7%.

 

Another way to look at it is that long term the stock market returns about 6% real so that would imply a cost of equity of 8%.

 

So all this would imply that BRK's cost of equity is somewhere between 7% and 8%. Now besides equity BRK has a bunch of debt and float and all that and that's lower cost financing than equity. So if it's cost of equity is at most 8% how do these clowns get 8.7% WACC? How is that figure accurate?

 

As for your statement that BRK is to return a range of 8-15% going forward, based on the figures above that would mean that BRK is at best severely undervalued or at worst fairly valued. I fail to see the value destruction.