berkshire - cheap?

[racemize]

The issue here is that this would add one or two hundred billion to berkshire IV, but the market simply doesn't value Berkshire or any insurance this way. Or saying it another way, this boost in value now would likely come at an extreme cost in value growth in the future.

 

This would only add about $90 billion in float value which the float amount at end of 2016. Part of this float value shows up in the goodwill so you have to account for that. Part is always held in cash equivalents always. This part would not have full face value. If you make these adjustments, I think the market is valuing BRK in this manner, at least implicitly from the P/BV multiple.

 

When you estimate value of BRK from various methods they tend to cluster together closely. So float based valuation does not radically increase BRK valuation.

 

Vinod

 

Perhaps I'm being dense here, but if we take $90 billion in float liability and then call it $50 billion in asset (after your adjustments above), it would have well over $100 billion effect in value change from book value, wouldn't it?  In other words, it isn't just discounting it as a liability if you would be willing to pay someone to get it, so it seems like it would be a big swing.

[racemize]

The issue here is that this would add one or two hundred billion to berkshire IV, but the market simply doesn't value Berkshire or any insurance this way. Or saying it another way, this boost in value now would likely come at an extreme cost in value growth in the future.

 

This would only add about $90 billion in float value which the float amount at end of 2016. Part of this float value shows up in the goodwill so you have to account for that. Part is always held in cash equivalents always. This part would not have full face value. If you make these adjustments, I think the market is valuing BRK in this manner, at least implicitly from the P/BV multiple.

 

When you estimate value of BRK from various methods they tend to cluster together closely. So float based valuation does not radically increase BRK valuation.

 

Vinod

 

Which brings us full circle to the theme of this thread. All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value. The grossest error is the use of the near universal "let's put a 10x multiple on the Pre-tax earnings". Semperaugustus comes closer than most in properly valuing Berkshire. Being elegant in paper calculations doesn't preclude being ridiculously wrong. In a world where ridiculousness is rampant to unhinged on the other side. Think FANG.

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Buffett said in the last meeting that IV could compound at 10% if interest rates rise.  I don't think this is anything like FANG growth, but it is steady and obviously not priced like FANG is.

[Guest longinvestor]

The issue here is that this would add one or two hundred billion to berkshire IV, but the market simply doesn't value Berkshire or any insurance this way. Or saying it another way, this boost in value now would likely come at an extreme cost in value growth in the future.

 

This would only add about $90 billion in float value which the float amount at end of 2016. Part of this float value shows up in the goodwill so you have to account for that. Part is always held in cash equivalents always. This part would not have full face value. If you make these adjustments, I think the market is valuing BRK in this manner, at least implicitly from the P/BV multiple.

 

When you estimate value of BRK from various methods they tend to cluster together closely. So float based valuation does not radically increase BRK valuation.

 

Vinod

 

Which brings us full circle to the theme of this thread. All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value. The grossest error is the use of the near universal "let's put a 10x multiple on the Pre-tax earnings". Semperaugustus comes closer than most in properly valuing Berkshire. Being elegant in paper calculations doesn't preclude being ridiculously wrong. In a world where ridiculousness is rampant to unhinged on the other side. Think FANG.

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Buffett said in the last meeting that IV could compound at 10% if interest rates rise.  I don't think this is anything like FANG growth, but it is steady and obviously not priced like FANG is.

 

Let's first catch up to IV. From the discussion here we're off to way off.

[LC]

 

The other thing that is really nice about float as a form of financing is that it is uncorrelated to other sources of financing, is non recourse, and doesn't have covenants or knock outs associated (except in a big tail event) - all of which allows WEB to operate counter cyclically even more so than he would otherwise.

 

I essentially agree with the rest of your post, but I am not so sure about this. I don't know the insurance business that well, but I would think that the profitability of new insurance business is somehow correlated to the current interest rate environment. When cash is cheap, lots of people can write business, which pushes down profitability (I could be wrong here). Buffett notoriously does not want to write unprofitable business.

 

Here is the big assumption that Buffett makes:

 

Owing $1 that in effect will never leave the premises –because new business is almost certain to deliver a substitute – is worlds different from owing $1 that will go out the door tomorrow and not be replaced.

As long as new, profitable business can be written, for Buffett (or any other consistently profitable underwriter), this business is like having the ability to draw upon a negative-interest rate revolving loan.

 

 

[shalab]

IV: if we take 50% of float as being equal to equity at 50B, the book value is equal to the current market cap!

 

Regarding FAMG - Microsoft's pre-tax earnings have dropped in the last five years (even adjusting for restructuring costs) from  ~27B to ~23B this year but the stock has doubled. In the same time, the long term debt has gone up from ~20B to ~76B. If we put the pre-tax multiple of 10 to the earnings as some folks are saying, this is worth only 250B give or take. However, the market cap now is 575B.

 

Something has to give

[Guest longinvestor]

 

The other thing that is really nice about float as a form of financing is that it is uncorrelated to other sources of financing, is non recourse, and doesn't have covenants or knock outs associated (except in a big tail event) - all of which allows WEB to operate counter cyclically even more so than he would otherwise.

 

I essentially agree with the rest of your post, but I am not so sure about this. I don't know the insurance business that well, but I would think that the profitability of new insurance business is somehow correlated to the current interest rate environment. When cash is cheap, lots of people can write business, which pushes down profitability (I could be wrong here). Buffett notoriously does not want to write unprofitable business.

 

Here is the big assumption that Buffett makes:

 

Owing $1 that in effect will never leave the premises –because new business is almost certain to deliver a substitute – is worlds different from owing $1 that will go out the door tomorrow and not be replaced.

As long as new, profitable business can be written, for Buffett (or any other consistently profitable underwriter), this business is like having the ability to draw upon a negative-interest rate revolving loan.

What's the backup that Buffett have to make that statement,

1. Profitable growth has a long history at Berkshire.

2. Profitable growth doesn't have a long history elsewhere in the insurance industry.

3. The contrast between1&2 will drive the rest to idiot behavior. Think AIG.

4. The idiots have to get it off their books.

 

Where else but Berkshire will that float go to?

 

To top it off, Jain and Buffett are sitting out and likely waiting for all of the new idiot capital coming into the next decade of poor reinsurance market to blow up. They sold every bit of their MunichRe and SwissRe positions within the last few years. They'll be back.

[thelads]

Thanks LC - I take your point. I think though that float has grown pretty much continuously since he took control of it, even during the crisis. But I may be remembering that incorrectly. The cost consistently though has been close to or better than zero. He does float into other areas of insurance and I completely agree, focuses on profitability, but even with that, en masse I think the float has grown.

 

The comparison I make with other investors is probably poorly articulated. What I meant to do was to compare to a hedge fund, or other entity that levers its positions. Most often, these players borrow on margin or from facilities akin to margin debt, backed by the value of the securities owned. So in a high vol environment, initial margin must climb and the availability of financing goes down (as cost climbs). Berkshire has no such problem on his financing leg as far as I can see. So while his assets may be correlated, his liabilities aren't. This is a pet peeve of mine on the HF side. So much time and effort is spent on the asset side, the liability side is often an afterthought. Even with their "equity" capital, it is often monthly, or quarterly with some delay. Hardly permanent capital, and for a given expertise area/segment, the equity and debt flows tend to be correlated. Again, just not the case with WEB and Berkshire.

 

I hear you on the big assumption point. How can one be accurate? And this is huge for GEICO given autonomous driving. What will they be underwriting in 10 years? How much could float contract? If the real duration on this liability is a lot shorter than I assumed (say 30 years) then the value of the float vs the balance outstanding would be much lower than the 50% I mention. That to me is the biggest uncertainty. Indeed, on that point, you can stress the value of the float. From the GAAP treatment as 0% benefit, regardless of underwriting profit, assuming it must be or can be gone tomorrow. Or, it can be 30-40 years, etc, which gets you to the 50% (Depending on interest rate used) or more. So I don't think there is a simple answer. We have some assumptions to make on the opportunity cost of finding similar financing, and then how long this can be outstanding and what affects that.

[SlowAppreciation]

 

Which brings us full circle to the theme of this thread. All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value. The grossest error is the use of the near universal "let's put a 10x multiple on the Pre-tax earnings". Semperaugustus comes closer than most in properly valuing Berkshire. Being elegant in paper calculations doesn't preclude being ridiculously wrong. In a world where ridiculousness is rampant to unhinged on the other side. Think FANG.

 

 

Would you mind clarifying this a bit point a more? If memory serves me correctly, the Semper Augustus valuation was a sum-of-the-parts one, where they applied a multiple to each line of business. So are you saying that any "let's put a multiple on earnings" valuation is wrong, or only when doing it to BRK's overall GAAP # (which includes both realized cap gains/dividends and op earnings)?

[John Hjorth]

SlowAppreciation,

 

Semper Augustus February 2017 Client Letter, p. 35, top schedule. 4 methologies.

[SlowAppreciation]

SlowAppreciation,

 

Semper Augustus February 2017 Client Letter, p. 35, top schedule. 4 methologies.

 

Right, I remember then laying out all 4 but they say "sum of the Parts and GAAP Adjusted Financials are our most reliable methodologies". I think the basis of their sum of the parts valuation was applying a multiple to a slightly-adjusted earnings # per segment. For example, MSR gets 20x whereas insurance underwriting may get 10x. I was just hoping longinvestor could clarify his/her point re: applying multiples being incorrect.

[LC]

I think though that float has grown pretty much continuously since he took control of it, even during the crisis. But I may be remembering that incorrectly.

You think correct, here are insurance premiums received:

 

2005 - $21,997

2006 - $23,964

2007 - $31,783

2008 - 25,525

2009 - 27,884

2010 - 30,749

2011 - 32,075

..

2016 - 45,881

 

I personally think the assumption being made is a decent one to make. History certainly supports it, both from a premium growth side, and the fact that Buffett has created one of the best insurance machines out there. IMHO and as you mention, only drastic technological changes will alter this trajectory.

 

[Guest longinvestor]

SlowAppreciation,

 

Semper Augustus February 2017 Client Letter, p. 35, top schedule. 4 methologies.

 

Right, I remember then laying out all 4 but they say "sum of the Parts and GAAP Adjusted Financials are our most reliable methodologies". I think the basis of their sum of the parts valuation was applying a multiple to a slightly-adjusted earnings # per segment. For example, MSR gets 20x whereas insurance underwriting may get 10x. I was just hoping longinvestor could clarify his/her point re: applying multiples being incorrect.

 

Applying a 10x multiple is what I was talking about. Why 10x? Why not 9x or 11x or 15x? What assumptions go into that? Does the S&P at 26x square with BRK's 10x?

 

 

 

 

 

 

[SlowAppreciation]

SlowAppreciation,

 

Semper Augustus February 2017 Client Letter, p. 35, top schedule. 4 methologies.

 

Right, I remember then laying out all 4 but they say "sum of the Parts and GAAP Adjusted Financials are our most reliable methodologies". I think the basis of their sum of the parts valuation was applying a multiple to a slightly-adjusted earnings # per segment. For example, MSR gets 20x whereas insurance underwriting may get 10x. I was just hoping longinvestor could clarify his/her point re: applying multiples being incorrect.

 

Applying a 10x multiple is what I was talking about. Why 10x? Why not 9x or 11x or 15x? What assumptions go into that? Does the S&P at 26x square with BRK's 10x?

 

Ah gotcha, thanks for clarifying.

[cubsfan]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

[Guest longinvestor]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

 

May the analysts keep publishing wrong reports and Mr. Market continue to remain in the wrong until the day I retire. May BRK instantly trade above IV starting that day. The 10% growth in IV thereafter will be quite satisfactory.

[SlowAppreciation]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

 

May the analysts keep publishing wrong reports and Mr. Market continue to remain in the wrong until the day I retire. May BRK instantly trade above IV starting that day. The 10% growth in IV thereafter will be quite satisfactory.

 

Amen. How much of a discount to IV do you think BRK trades at currently? 15%?

[Guest longinvestor]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

 

May the analysts keep publishing wrong reports and Mr. Market continue to remain in the wrong until the day I retire. May BRK instantly trade above IV starting that day. The 10% growth in IV thereafter will be quite satisfactory.

 

Amen. How much of a discount to IV do you think BRK trades at currently? 15%?

 

At least as much as the SemperAugustus report had it as the most likely scenario at the end of 2016. Some 36% headroom to IV. Likely more since more value has been added to the coffers since. I like it that they used "as if BRK was trading at IV" numbers in the table to project out to 2026. Few others do that. And yet conservative.

 

You did not answer the question on how you came up with 10x.

[Guest longinvestor]

Berkshire's value fits Buffett's fat man joke perfectly right now.

 

You don't need to know if that man is 350 or 380 pounds to know that he is fat.

[SlowAppreciation]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

 

May the analysts keep publishing wrong reports and Mr. Market continue to remain in the wrong until the day I retire. May BRK instantly trade above IV starting that day. The 10% growth in IV thereafter will be quite satisfactory.

 

Amen. How much of a discount to IV do you think BRK trades at currently? 15%?

 

At least as much as the SemperAugustus report had it as the most likely scenario at the end of 2016. Some 36% headroom to IV. Likely more since more value has been added to the coffers since. I like it that they used "as if BRK was trading at IV" numbers in the table to project out to 2026. Few others do that. And yet conservative.

 

You did not answer the question on how you came up with 10x.

 

Oh sorry, I didn't know that was addressed to me haha. Don't get too hung up on the 10x pre-tax. It's just back of the napkin stuff, and based on Buffett and Charlie saying that's what they look to pay when buying a business (10x operating earnings / 15x net income). I personally think BRK's operating businesses are worth closer to 20x post-tax all things considered, and my valuation model puts a pre-tax multiple on each segment (ranging from 8x - 16x). We can quibble over what multiple to use, but I don't think it really detracts from our shared conclusion: BRK looks undervalued.

 

So we have a very conservative multiple estimate for a company which is conservatively run, employs conservative accounting, and has hidden value obfuscated by GAAP accounting (e.g., LT deferred tax liabilities, KHC not being marked to market, BAC warrants, etc). Using all these extremely conservative scenarios, BRK is still undervalued by 15-20%. And best case is maybe 2x that. Either way, it doesn't really matter to me as Berkshire is a large position of mine that I'm comfortable holding for a very long time.

 

Said more simply, we don't need to know a man's precise weight to know he's obese.

[Guest longinvestor]

From longinvestor - you hit the nail on the head.

 

All of the methods used to value BRK , as elegant and/or conservative have resulted in Mr. Market being wrong to grossly wrong about BRK's value.

 

This has been the case for years..

 

Being elegant in paper calculations doesn't preclude being ridiculously wrong.

 

So true in the case in the case of Berkshire!

 

Berkshire's float is invested neither in bonds nor securties but increasingly in long lived assets, whose earnings in turn are invested in other businesses (the real estate within BHE as an example), plus arguably their own kind of deferred tax float. Buffett calls this rabbits making more rabbits.

 

It all adds up to the 20% earnings growth we're seeing since 1999.

 

Thank heavens the market is wrong!

 

Berkshire - the gift that keeps on giving.

 

May the analysts keep publishing wrong reports and Mr. Market continue to remain in the wrong until the day I retire. May BRK instantly trade above IV starting that day. The 10% growth in IV thereafter will be quite satisfactory.

 

Amen. How much of a discount to IV do you think BRK trades at currently? 15%?

 

At least as much as the SemperAugustus report had it as the most likely scenario at the end of 2016. Some 36% headroom to IV. Likely more since more value has been added to the coffers since. I like it that they used "as if BRK was trading at IV" numbers in the table to project out to 2026. Few others do that. And yet conservative.

 

You did not answer the question on how you came up with 10x.

 

Oh sorry, I didn't know that was addressed to me haha. Don't get too hung up on the 10x pre-tax. It's just back of the napkin stuff, and based on Buffett and Charlie saying that's what they look to pay when buying a business (10x operating earnings / 15x net income). I personally think BRK's operating businesses are worth closer to 20x post-tax all things considered, and my valuation model puts a pre-tax multiple on each segment (ranging from 8x - 16x). We can quibble over what multiple to use, but I don't think it really detracts from our shared conclusion: BRK looks undervalued.

 

So we have a very conservative multiple estimate for a company which is conservatively run, employs conservative accounting, and has hidden value obfuscated by GAAP accounting (e.g., LT deferred tax liabilities, KHC not being marked to market, BAC warrants, etc). Using all these extremely conservative scenarios, BRK is still undervalued by 15-20%. And best case is maybe 2x that. Either way, it doesn't really matter to me as Berkshire is a large position of mine that I'm comfortable holding for a very long time.

 

Said more simply, we don't need to know a man's precise weight to know he's obese.

 

Peace! We're all going to enjoy this hell of a ride up.

[John Hjorth]

I hope your are right, longinvestor.

 

I think within the last almost five years, there has only been one day beside this, where I have been allocating more capital than today. That day was the day after the Brexit vote, buying SAN.

 

Today I added to BRK.B, because of the talk and discussion in this topic. No more fooling around with buying in drips.

 

USD relative to EUR has been down quite some today, also [important for me as an European investor], likely because of all the talk about the political gridlock in the US with the health care reform.

[cubsfan]

I hope your are right, longinvestor.

 

I think within the last almost five years, there has only been one day beside this, where I have been allocating more capital than today. That day was the day after the Brexit vote, buying SAN.

 

Today I added to BRK.B, because of the talk and discussion in this topic. No more fooling around with buying in drips.

 

USD relative to EUR has been down quite some today, also [important for me as an European investor], likely because of all the talk about the political gridlock in the US with the health care reform.

 

IF your holding period is long enough (3-5yrs), you will do quite well. Have some capital for bad market days, where you can

add - but if you are lucky enough to get BRK in the low 150's, maybe high 140's - then you're really lucky.

[Guest longinvestor]

I hope your are right, longinvestor.

 

I think within the last almost five years, there has only been one day beside this, where I have been allocating more capital than today. That day was the day after the Brexit vote, buying SAN.

 

Today I added to BRK.B, because of the talk and discussion in this topic. No more fooling around with buying in drips.

 

USD relative to EUR has been down quite some today, also [important for me as an European investor], likely because of all the talk about the political gridlock in the US with the health care reform.

 

IF your holding period is long enough (3-5yrs), you will do quite well. Have some capital for bad market days, where you can

add - but if you are lucky enough to get BRK in the low 150's, maybe high 140's - then you're really lucky.

Have buy orders in for those prices.

 

Just for bragging, bought down to $125 in 2015, down to $47 during the GFC. Bought some in between, but not as much as during 2009 and 2015.

[Jurgis]

To be a devil's advocate in this BRK love fest, I'll just note that Buffett has been buying AAPL, BK and LUV instead of buying BRK:

 

http://www.dataroma.com/m/holdings.php?m=brk

 

Maybe he knows better?  8)

 

 

 

 

Personally for me it's very hard to do relative valuations. If I was faced with firing squad and had to choose between AAPL, JPM, BRK and GOOGL (screw LUV), I'd probably choose... no wait... don't shoot me yet... let me think... wait... ::)

[John Hjorth]

Just hilarious, Jurgis! [ : - ) ]

 

- - - o 0 o - - -

 

On a more serious note:

 

I really want rb to chime in here, on:

 

1. His thoughts about the discounting of the float liability,

2. His further comments about the piece by SlowAppreciation.

 

- - - o 0 o - - -

 

I hope that rb is just having a good time off the board in the summer period up there in Toronto.