Berkshire Valuation using multiple methods

[vinod1]

I have put together some notes on Berkshire valuation using a couple of different methods.

 

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

 

Vinod

[shalab]

Extremely well thought out and thorough analysis - thank you for sharing.

[mpauls]

Quite good, but I'd rethink how you value float.

[el_chieh]

Thanks V!

 

Good work; lucid and concise.

 

I personally like to use 2 column method since it's quick and easy.  I do think that it does have strong basis on "theory"; assumptions: 1) that $1 float = at least $1 of intrinsic value, 2) that income tax liability has $0 NPV).

 

I also like to add value of u/w earnings to the 2 column method.  A more speculative valuation layer, if you will.

 

As an aside, anyone care to comment on Buffett's evolving BRK's valuation methodologies vs. BRK's own evolution?  I find it highly interesting how he's gone from look-through earnings, to 2-column method and now back to a renewed emphasis on changes in book value.

 

Also, I find it highly amusing to value Fairfax using Buffett's 2-column valuation methodology (adjusting for debt and different quality of float, etc).

 

 

[vinod1]

mpauls - Thanks! Schroeder's report went through the framework for valuing float in great detail and we have Buffett himself weighing on exactly how to value float as quoted in OID. The main point of contention between investors seem to be in how to value the growth in float on a conservative basis. Any thoughts/pointers would be most helpful.

 

Vinod

[vinod1]

 

Also, I find it highly amusing to value Fairfax using Buffett's 2-column valuation methodology (adjusting for debt and different quality of float, etc).

 

 

Thanks!

 

Fairfax has a 4% headwind compared to Berkshire in the cost of float. Investors accessing float via Fairfax also are paying this ~4% (2.6% cost of float + 1% tax drag). I do not think we can put a cap on the cost with any degree of confidence in Fairfax case. It requires super-human skill to overcome this when you are pretty much forced to do it with a predominantly bond portfolio (for the float portion). So float would not be worth as much as in Berkshire's case.

 

Vinod

 

Vinod

[mpauls]

That would be interesting if he explicitly told you how to value float by use of a formula.  I've never heard or seen him do such a thing, but I don't subscribe to OID and maybe he does describe it there, but it would surprise me a great deal. 

 

The flaw:

 

Within your report, notice that your rate of growth is always less than your discount rate.  Though convenient, in reality this is not always the case, which invalidates the calculation because the value would then become infinite.

 

[vinod1]

“If you could see our float for the next 20 years and

you could make an estimate as to the amount and

the cost of it, and you took the difference between

its cost and the returns available on governments,

you could discount it back to a net present value.”

—Warren Buffett, 1992 Annual Shareholders’

Meeting, as quoted in Outstanding Investor Digest.

 

 

“[if] I were offered $7 billion for [$7 billion of] float

and did not have to pay tax on the gain, but would

thereafter have to stay out of the insurance business

forever—a perpetual noncompete in any kind

of insurance—would I accept that? The answer is

no. That’s not because I’d rather have $7 billion of

float than have $7 billion of free money. It’s

because I expect the $7 billion to grow.”

—Warren Buffett, 1996 Annual Shareholders’

Meeting, as quoted in Outstanding Investor Digest.

 

 

 

[vinod1]

 

Within your report, notice that your rate of growth is always less than your discount rate.  Though convenient, in reality this is not always the case, which invalidates the calculation because the value would then become infinite.

 

 

Thanks!

 

I think you might have misunderstood, but the point I am making is that using that formula one can get any value one wants. Hence I am using the formula to make a point that it is better not to use it to value float.

 

Vinod

[beerbaron]

Good Job Vinod, it basically clearly explains what I already believed but with mathematical formulas. I personnally like the BV/Share 10Y growth as metric for IV.

 

I've always found that the more we analyze, the more we need to make complex predictions, and the wider the results can be. Focusing too much on details makes us forget that a business like BRK is a very complex organism and we can lose focus because of it.

 

BeerBaron

[mpauls]

Ok, I see, I didn't actually read through the entire report.  I now see you weren't advocating this method.  I didn't have a chance to read it completely, so please which method were you advocating? 

[vinod1]

I gave a conceptual example in the report that should better explain how to value float.

 

Vinod