Tilson bullish on Berkshire

[redskin]

I think Tilson overvalues Berkshire.  He double counts the insurance business by counting the value of investments and the operating income from the insurance businesses.  Also, he acts like a 10x multiple is conservative...but its a multiple on pre-tax income.  That is the equivalent of a 15x P/E multiple.

 

I will never be the first to defend Tilson, but in this situation he is right - pre tax earnings do NOT include insurance earnings. Look at any of Buffett's letters - he tracks non-insurance EBT and investments both on a per share basis. Tilson adds zero originality to the analysis, he just copies Buffett.

 

Actually if you look at Tilson's slides he does use a portion of the insurance earnings (see note on slide 15).  He includes "half of the $2 billion of annual profit over the past nine years."

 

Tilson actually asked Buffett about not including the underwriting profit in his calculation of value at last years annual meeting.  Tilson noted that the insurance business had averaged $2 billion annually in underwriting profit over a number of years.  He wondered why he didn't include a portion of that.  Buffett said he didn't disagree with Tilson and he would expect BRK to have an underwriting profit over time, but he was just being conservative with his valuation since insurance underwriting can be lumpy.

[matjone]

so if this isn't the way to value berkshire, what is?

 

(1) In the past, Buffett himself has said that an insurance business that shows an underwriting profit on average, over time is worth its investments. Add to that a multiple of 10 of the pre-tax operating earnings (outside of insurance) and you have intrinsic value.

 

The multiple of 10 pre-tax is like 15 post-tax, the average of the S&P 500 over time. Tilson adds underwriting profit to the pre-tax operating earnings in method (1). Probably too liberal.

 

(2) He has also said that value can be gotten by using the right side of the balance sheet. All capital that is costless is akin to equity and therefore of value. So, Berkshire's float, its deferred tax liabilities associated with its investments, and its common equity are all costless over time and therefore considered a measure of intrinsic value.

 

Either way, you come up with the same number at the end of 2011. Under (1) 168,266 and under (2) 168,003

 

That's a 70 cent dollar.

 

Would it be better to take berkshire's share of the operating earnings of its common stock investments, plus the interest on its fixed maturity securities, and add the operating earnings of the wholly owned non-insurance businesses, to get the earning power of the whole company?  This way you aren't letting the market decide the value of the investments for you.  I assume you would also add up the cash and try to come up with some value for the "other" category of investments.  And I guess you would want to include the insurance somehow too.

 

I am probably not smart enough to pick through their 10-k and do this though, is anyone else? (if  this has been done here or somewhere else please let me know)

[twacowfca]

(2) He has also said that value can be gotten by using the right side of the balance sheet. All capital that is costless is akin to equity and therefore of value. So, Berkshire's float, its deferred tax liabilities associated with its investments, and its common equity are all costless over time and therefore considered a measure of intrinsic value.

 

Either way, you come up with the same number at the end of 2011. Under (1) 168,266 and under (2) 168,003

 

That's a 70 cent dollar.

 

I would argue the liabilities are not completely costless.  On average, yes, they are.  But if someone told you if you to take a bet, where if you roll dice and get snake eyes twice in a row, you owe $1 million; but if you don't row snake eyes twice in a row, you receive $772, would you do it?  The offer has an expected value of 0 (same concept as an insurer with average CR of 100), but that doesn't mean the payout will be 0 on any given roll.

 

Insurers face large tail liability.  Do not take that risk on for free.  By adding in the full value of float liabilities (or taking the full value of investments), you are taking the risk on for free.

 

 

EDIT

For the record, I would think the value of berkshire is somewhere near 150k, similarly to tombgrt.  This would imply about a 10x multiple on op-earnings (calculated by buffett, not tilson, and a 20% haircut to investments (to account for tail risk & tax inefficiency).

 

That's reasonable.  But BRK is worth much more than any of these estimates of IV because the companies in its stock portfolio and its key non insurance operating businesses are very high quality with extraordinary, long term competitive advantages.  :)

[onyx1]

These contracts do have fundamental value and they are frequently traded as such because collateral is posted daily and the contracts are liquid enough to be assigned to many other counterparties.

 

??? What relevancy does that have?  Berkshire does not post collateral daily to its shareholders. 

 

 

None, I wasn't responding to your point about BRK.  I was responding to your misguided assertion that a CDS contract offering default protection on a name with the same counterparty has no fundamental value. 

[Viking]

Last year Buffett also gave one more input when valuing stock of a company: how well management does with retained earnings. BRK has excelled at this in the past and this is why the company commanded such as large price to book premium valuation. My read is today Mr. Market is not giving BRK a premium at all for this skill. Should BRK continue to make wise decisions with retained earnings in the coming years the stock will likely appreciate nicely from current levels.

[shalab]

Lot of good discussion.

 

BRK book value at the moment - roughly $71 is my calculation at end of trading today.

 

Why BRK is interesting, as twacowfca mentioned, BRK is an appreciating asset going for a discount. A very solid asset at that. There is no life without risk and every asset has a risk associated with it. This includes your house, car and even the bank deposit. But compared to an average SP500 company, BRK is less risky.

 

Let us say BRK grows at 8% a year for the next ten years and retains all earnings with no dividends. Let us also assume that it doesnt pay a dividend and the retained earnings don't earn a cent.  At 12B/year on the average cash flow after tax; we are looking at 174 B in retained earnings. If the retained earnings yield some returns; we are looking at doubling of market cap without considering buy backs.

 

BRK mentioned the big-four - AXP, KO, IBM and WFC as going to appreciate roughly 8% per year for the next decade in the annual report.

 

Let us look at how good KO has been for BRK as an example.

 

KO new dividend for 2012 is $2.04.

$2.04 x 200M = $408,000,000 - the amount of dividend Berk will receive in 2012.

Basically, Berkshire will receive a 31% dividend on the ORIGINAL investment of $1.3B.

$408M/$1300B = 31% - all the impact of years of internally compounded growth.

 

From the annual letter:

 

Finally, we made two major investments in marketable securities: (1) a $5 billion 6% preferred stock of Bank of America that came with warrants allowing us to buy 700 million common shares at $7.14 per share any time before September 2, 2021; and (2) 63.9 million shares of IBM that cost us $10.9 billion.

 

Counting IBM, we now have large ownership interests in four exceptional companies: 13.0% of

American Express, 8.8% of Coca-Cola, 5.5% of IBM and 7.6% of Wells Fargo. (We also, of course,

have many smaller, but important, positions.)

 

We view these holdings as partnership interests in wonderful businesses, not as marketable securities to be bought or sold based on their near-term prospects. Our share of their earnings, however, are far from fully reflected in our earnings; only the dividends we receive from these businesses show up in our financial reports. Over time, though, the undistributed earnings of these companies that are attributable to our ownership are of huge importance to us. That’s because they will be used in a variety of ways to increase future earnings and dividends of the investee. They may also be devoted to stock repurchases, which will increase our share of the company’s future earnings.

 

Had we owned our present positions throughout last year, our dividends from the “Big Four” would

have been $862 million. That’s all that would have been reported in Berkshire’s income statement. Our share of this quartet’s earnings, however, would have been far greater: $3.3 billion. Charlie and I believe that the $2.4 billion that goes unreported on our books creates at least that amount of value for Berkshire as it fuels earnings gains in future years. We expect the combined earnings of the four – and their dividends as well – to increase in 2012 and, for that matter, almost every year for a long time to come. A decade from now, our current holdings of the four companies might well account for earnings of $7 billion, of which $2 billion in dividends would come to us.

 

[watsa_is_a_randian_hero]

These contracts do have fundamental value and they are frequently traded as such because collateral is posted daily and the contracts are liquid enough to be assigned to many other counterparties.

 

??? What relevancy does that have?  Berkshire does not post collateral daily to its shareholders. 

 

 

None, I wasn't responding to your point about BRK.  I was responding to your misguided assertion that a CDS contract offering default protection on a name with the same counterparty has no fundamental value.

 

well, i wouldn't say that was "misguided."  may be the case now that contracts are mark-to-market with collateral; pre-2007 that wasn't necessarily the case for most contracts. 

[onyx1]

These contracts do have fundamental value and they are frequently traded as such because collateral is posted daily and the contracts are liquid enough to be assigned to many other counterparties.

 

??? What relevancy does that have?  Berkshire does not post collateral daily to its shareholders. 

 

 

None, I wasn't responding to your point about BRK.  I was responding to your misguided assertion that a CDS contract offering default protection on a name with the same counterparty has no fundamental value.

 

well, i wouldn't say that was "misguided."  may be the case now that contracts are mark-to-market with collateral; pre-2007 that wasn't necessarily the case for most contracts.

 

Sorry if I am belaboring the point, but CDS contracts and other OTC derivatives are executed through the broker dealer community and governed by master ISDA agreements that require daily MTM and posting of collateral.  This has been standard market practice since the 1980's. 

[Charlie]

more insider buying :-)

 

http://www.sec.gov/Archives/edgar/data/1067983/000118143112015000/xslF345X03/rrd337310.xml

 

 

Cheers!

[watsa_is_a_randian_hero]

These contracts do have fundamental value and they are frequently traded as such because collateral is posted daily and the contracts are liquid enough to be assigned to many other counterparties.

 

??? What relevancy does that have?  Berkshire does not post collateral daily to its shareholders. 

 

 

None, I wasn't responding to your point about BRK.  I was responding to your misguided assertion that a CDS contract offering default protection on a name with the same counterparty has no fundamental value.

 

well, i wouldn't say that was "misguided."  may be the case now that contracts are mark-to-market with collateral; pre-2007 that wasn't necessarily the case for most contracts.

 

Sorry if I am belaboring the point, but CDS contracts and other OTC derivatives are executed through the broker dealer community and governed by master ISDA agreements that require daily MTM and posting of collateral.  This has been standard market practice since the 1980's.

 

Prior to 2007 though, many of the largest dealers in space operated without mark-to-market, unless certain downgrades occurred.  This is what killed ACA, what almost killed AIG, and many others.  Further, CDPC or Monoline providing credit protection on LSS's (which often included themselves within underlying baskets) did not post a dime of collateral. 

[ragu]

Also, Fairfax's cost of float is nowhere near costless.

 

I didn't say it was.

 

Since the discussion centered around Buffett's assertion of "float = equity" while valuing Berkshire's insurance operations, I'd presumed the post I was responding to was considering a similar, albeit hypothetical, situation at Fairfax (i.e. costless float forever). The reason why Fairfax's investments/share work out to 3.6 times book is because of the additional interest bearing debt component. You could make the argument that investments/share would represent an upper bound (i.e. aggressive estimate) on the IV of Fairfax's insurance operations if there were no debt and costless float forever was highly probable. 

 

Best,

Ragu

[twacowfca]

more insider buying :-)

 

http://www.sec.gov/Archives/edgar/data/1067983/000118143112015000/xslF345X03/rrd337310.xml

 

 

Cheers!

 

I think Ron may have also bought shares a few months ago. 

 

BRK is the ultimate stock for passive investors.  Buy it.  Request actual share certificates.  Put the certificates in a safe deposit box.

 

Then, many years later, your surviving children will open the box and scream, "We're rich!"

[nodnub]

BRK is the ultimate stock for passive investors.  Buy it.  Request actual share certificates.  Put the certificates in a safe deposit box.

 

Then, many years later, your surviving children will open the box and scream, "We're rich!"

 

I ran into a problem with this approach recently.  My grandfather had purchased shares in Cominco for my mother when she was a young girl.  I recently found the original share certificate in my mother's safe deposit box when I added a copy of my will.  My mother had no idea that she should be doing anything with the certificate.

 

I contacted Teck Cominco Investor Relations about this share certificate and received the following reply: 

 

Thank you for your inquiry to our website.  Consolidated Mining and Smelting Company of Canada became Cominco Ltd. which merged with Teck Corporation to form Teck Cominco Limited in July 2001.  Unfortunately shares of Cominco needed to be submitted for exchange prior to the 6th anniversary of the merger (July 20, 2007) or the shares were deemed surrendered.  Following is the excerpt from the Plan of Arrangement.

 

“Pursuant to the terms of the Arrangement, any certificates formerly representing Cominco Common Shares that are not properly deposited with the Depository together with a duly completed and executed Letter of Transmittal and any other documents the Depository reasonably requires, on or before the sixth anniversary of the Effective Date, shall cease to represent a right or claim of any kind or nature and the right of the holder of such Cominco Common Shares to receive Teck Subordinate Voting Shares or any cash consideration shall be deemed to be surrendered for no consideration to Teck, together with all dividends or distributions thereon held for such holder.”

 

It doesn't seem right that the company can forfeit your shares and about 30 years worth of unpaid dividends, but there you have it.

 

file it under: "the dangers of leaving share certificates as a gift for the financially illiterate"

[onyx1]

These contracts do have fundamental value and they are frequently traded as such because collateral is posted daily and the contracts are liquid enough to be assigned to many other counterparties.

 

??? What relevancy does that have?  Berkshire does not post collateral daily to its shareholders. 

 

 

None, I wasn't responding to your point about BRK.  I was responding to your misguided assertion that a CDS contract offering default protection on a name with the same counterparty has no fundamental value.

 

well, i wouldn't say that was "misguided."  may be the case now that contracts are mark-to-market with collateral; pre-2007 that wasn't necessarily the case for most contracts.

 

Sorry if I am belaboring the point, but CDS contracts and other OTC derivatives are executed through the broker dealer community and governed by master ISDA agreements that require daily MTM and posting of collateral.  This has been standard market practice since the 1980's.

 

Prior to 2007 though, many of the largest dealers in space operated without mark-to-market, unless certain downgrades occurred.  This is what killed ACA, what almost killed AIG, and many others.  Further, CDPC or Monoline providing credit protection on LSS's (which often included themselves within underlying baskets) did not post a dime of collateral.

 

There is a confusion of terms here.  ACA, AIG, MBIA are not dealers.  Dealers are market-to-market institutions, like GS, ML, DB, UBS, CS, MS.  They are governed by agreements where collateral is posted daily.  They have been operating as such for decades with standard ISDA master agreements.  Because of the requirement to post collateral, you can safely buy default protection on GS from GS.  There is fundamental value in this type of contract.

 

Insurance companies like ACA, AIG, MBIA, FGIC, FSA provided third-party guarantees of structured transactions (sometimes with their own credit as a line item risk).  Prior to the crisis, the market relied on the soundness of their ratings and reserves and did not require upfront cash collateral.  There is no standardized master agreement in these negotiated transactions for the posting of collateral in the event of credit deterioration of the insurance company’s credit, so no one can generalize.  Prior to 2007, I saw many of these transactions.  Most had ratings triggers.  For those that did not and at the same time provided default protection on their own corporate credit (insurance payables receive priority) then I agree the circular nature does damage the value of these contracts. 

 

[twacowfca]

BRK is the ultimate stock for passive investors.  Buy it.  Request actual share certificates.  Put the certificates in a safe deposit box.

 

Then, many years later, your surviving children will open the box and scream, "We're rich!"

 

I ran into a problem with this approach recently.  My grandfather had purchased shares in Cominco for my mother when she was a young girl.  I recently found the original share certificate in my mother's safe deposit box when I added a copy of my will.  My mother had no idea that she should be doing anything with the certificate.

 

I contacted Teck Cominco Investor Relations about this share certificate and received the following reply: 

 

Thank you for your inquiry to our website.  Consolidated Mining and Smelting Company of Canada became Cominco Ltd. which merged with Teck Corporation to form Teck Cominco Limited in July 2001.  Unfortunately shares of Cominco needed to be submitted for exchange prior to the 6th anniversary of the merger (July 20, 2007) or the shares were deemed surrendered.  Following is the excerpt from the Plan of Arrangement.

 

“Pursuant to the terms of the Arrangement, any certificates formerly representing Cominco Common Shares that are not properly deposited with the Depository together with a duly completed and executed Letter of Transmittal and any other documents the Depository reasonably requires, on or before the sixth anniversary of the Effective Date, shall cease to represent a right or claim of any kind or nature and the right of the holder of such Cominco Common Shares to receive Teck Subordinate Voting Shares or any cash consideration shall be deemed to be surrendered for no consideration to Teck, together with all dividends or distributions thereon held for such holder.”

 

It doesn't seem right that the company can forfeit your shares and about 30 years worth of unpaid dividends, but there you have it.

 

file it under: "the dangers of leaving share certificates as a gift for the financially illiterate"

 

Yes there are dangers like this in the safe deposit box strategy, but there may be more protection in the US against such loss than in Canada. 

 

Warren relates how Blue Chip Stamps acquired a company that once gave away penny stock to gas station owners that agreed to distribute their stamps.  These shares were considered near worthless and were soon forgotten by many station owners.  When Blue Chip merged with BRK decades ago, shares held by each of those station owners were entitled to receive one share of BRK.  Many of the shareholders, however, could not be located.

 

Warren tells how every so often they get a letter from someone who has found those old shares in a box belonging to a relative who just passed away.  Upon verification, the heirs are issued one share of BRK that they are still entitled to.

 

That's one A share.  :)

[WarrenWatsa]

BRK is the ultimate stock for passive investors.  Buy it.  Request actual share certificates.  Put the certificates in a safe deposit box.

 

Then, many years later, your surviving children will open the box and scream, "We're rich!"

 

I ran into a problem with this approach recently.  My grandfather had purchased shares in Cominco for my mother when she was a young girl.  I recently found the original share certificate in my mother's safe deposit box when I added a copy of my will.  My mother had no idea that she should be doing anything with the certificate.

 

I contacted Teck Cominco Investor Relations about this share certificate and received the following reply: 

 

Thank you for your inquiry to our website.  Consolidated Mining and Smelting Company of Canada became Cominco Ltd. which merged with Teck Corporation to form Teck Cominco Limited in July 2001.  Unfortunately shares of Cominco needed to be submitted for exchange prior to the 6th anniversary of the merger (July 20, 2007) or the shares were deemed surrendered.  Following is the excerpt from the Plan of Arrangement.

 

“Pursuant to the terms of the Arrangement, any certificates formerly representing Cominco Common Shares that are not properly deposited with the Depository together with a duly completed and executed Letter of Transmittal and any other documents the Depository reasonably requires, on or before the sixth anniversary of the Effective Date, shall cease to represent a right or claim of any kind or nature and the right of the holder of such Cominco Common Shares to receive Teck Subordinate Voting Shares or any cash consideration shall be deemed to be surrendered for no consideration to Teck, together with all dividends or distributions thereon held for such holder.”

 

It doesn't seem right that the company can forfeit your shares and about 30 years worth of unpaid dividends, but there you have it.

 

file it under: "the dangers of leaving share certificates as a gift for the financially illiterate"

 

That is so unfair. Perhaps there is some legal avenue to pursue that could aid you and your mother.

 

Just not right.