Buffett letter?

[mankap]

I thoroughly enjoyed reading is as always.

 

I did not know that both Ted and Todd Combs are great runners.

Ted has done marathon in 3.01 hrs.That is a really good time.

[OracleofCarolina]

I thoroughly enjoyed reading is as always.

 

I did not know that both Ted and Todd Combs are great runners.

Ted has done marathon in 3.01 hrs.That is a really good time.

 

Not bad..almost as good as Paul Ryan..lol

[Parsad]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

[redskin]

What do you think he thinks about when he says:

 

If float is both costless and long-enduring, which I believe Berkshire’s will be, the true value of this liability is

dramatically less than the accounting liability

 

My logic tells me that an endless revolving load is worth 100%. What do you guys think?

 

BeerBaron

 

 

 

My logic disagrees a bit with with yours.  Would you rather have $100,000 or use the $100,000 to purchase a loan of $100,000 with no interest that is long enduring?  The answer for me is I would rather have the $100,000 and not have to ever worry about the $100,000 loan.  Thus it is worth less than 100%.  Having said that, I do think the value is closer to $100% than say 50%. 

 

You also want to make sure not to double count the insurance operations and the float.  If you value the float separately (whether or not at 100%) you then should only put a very conservative multiple on underwriting profits of the insurance operations since it may incur sizable catastrophe losses from time to time.

 

Buffett is conservative in his valuation by putting no value on the underwriting profits.

[bablu]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

 

Hey Sanjeev,

Is the reservation for Saturday or Sunday night ?

[giofranchi]

Charlie and I believe in operating with many redundant layers of liquidity, and we avoid any sort of obligation that could drain our cash in a material way. That reduces our returns in 99 years out of 100. But we will survive in the 100th while many others fail. And we will sleep well in all 100.

WEB

 

 

giofranchi

 

“As time goes on I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes. It is a mistake to think that one limits one’s risk by spreading too much between enterprises about which one knows little and has no reason for special confidence.” - John Maynard Keynes

 

 

[Parsad]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

 

Hey Sanjeev,

Is the reservation for Saturday or Sunday night ?

 

Sunday.  Buffett shows up at Piccolos on Sunday around 7:30-8:30pm.  He's usually at Gorat's on Sunday around 6-6:30pm, but Gorat's is broken up into three rooms, so you don't know where you will be seated.  Piccolos is really one big massive room for the most part, so it's likely you will get to see him.  Cheers!

[argonaut]

WEB is very discreet in listing the 1B positions...yes, he added DTV...with a disclaimer about some investments not shown because of pension funds....

 

 

So DVA which I believe is over the 1B mark (and others too?) are not shown..keeping them more out of the limelight...

 

There are quite a few pension funds that are used by web and Ted/Todd for the purchases...

 

I still ponder if we are seeing a slow run at DVA...thoughts?

[LC]

WEB is very discreet in listing the 1B positions...yes, he added DTV...with a disclaimer about some investments not shown because of pension funds....

 

 

So DVA which I believe is over the 1B mark (and others too?) are not shown..keeping them more out of the limelight...

 

There are quite a few pension funds that are used by web and Ted/Todd for the purchases...

 

I still ponder if we are seeing a slow run at DVA...thoughts?

i still think it's brilliant business to own the company that creates diabetes (KO) and the company that treats it (DVA)

[Liberty]

i still think it's brilliant business to own the company that creates diabetes (KO) and the company that treats it (DVA)

 

Ha! Thought by that reasoning if KO starts running into trouble, DVA could start doing worse too :)

[Mephistopheles]

WEB is very discreet in listing the 1B positions...yes, he added DTV...with a disclaimer about some investments not shown because of pension funds....

 

 

So DVA which I believe is over the 1B mark (and others too?) are not shown..keeping them more out of the limelight...

 

There are quite a few pension funds that are used by web and Ted/Todd for the purchases...

 

I still ponder if we are seeing a slow run at DVA...thoughts?

i still think it's brilliant business to own the company that creates diabetes (KO) and the company that treats it (DVA)

 

Sugar isn't a direct cause of diabetes. Binging on cola or other forms of sugar may cause obesity and/or insulin resistance which in turn may result in the development of diabetes, but in general sugar is not a cause.

[Kiltacular]

The annual report was great! I have a question regaring one of Buffett's calculations (return on unlevered net tangible assets). On page 13 he says:

 

“Viewed as a single entity, therefore, the companies in this group are an excellent business. They employ $22.6 billion of net tangible assets and, on that base, earned 16.3% after-tax.”

 

Based upon the balance sheet for the Manufacturing, Service and Retailing Operations (pg. 12), how does Buffett calculate the $22.6 billion of net tangible assets??

 

If you look at the balance sheet for MSR that Buffett posts there on p. 12, you will see "Berkshire equity" of $48,657 on the right hand side.  On the left hand side, you will see "Goodwill and other intangibles" of $26,017.  If you subtract the "Goodwill and other" from the "Berk equity", you'll see that you get $22.64. 

 

Close enough for this game.

 

By the way, Buffett's long discussion about the amortization of goodwill and other intangibles was awesome.  There is little discussion of this issue anywhere.

 

Frankly, I mentioned this the other day in the Leucadia thread w/r/t the amortization of intangibles at National Beef.  National Beef is throwing of enormous cash to Leucadia and the business had a "bad" year according to the 10k.

 

Also, Buffett mentioned (as he has previously) that Wells Fargo is taking HUGE completely non-cash and meaningless charges to amortize the intangibles it bought in the Wachovia acquistion -- $1.6 billion in 2012.  Wells Fargo's earnings are WAY higher than they appear based on this number.

 

I love how Buffett mentions that "no analyst report he's seen mentions this". 

 

Interesting in that (1) he takes a shot at the "analysts and (2) he read EVERYTHING, including their reports.

 

Disclosure: Long WFC warrants

[Kiltacular]

My logic disagrees a bit with with yours.  Would you rather have $100,000 or use the $100,000 to purchase a loan of $100,000 with no interest that is long enduring?  The answer for me is I would rather have the $100,000 and not have to ever worry about the $100,000 loan.  Thus it is worth less than 100%.  Having said that, I do think the value is closer to $100% than say 50%. 

 

You also want to make sure not to double count the insurance operations and the float.  If you value the float separately (whether or not at 100%) you then should only put a very conservative multiple on underwriting profits of the insurance operations since it may incur sizable catastrophe losses from time to time.

 

Here is (part) of what Buffett notes in the letter (my emphasis added):

 

"Looking ahead, I believe we will continue to underwrite profitably in most years. If we do, our float will be better than free money."

 

So, there you have it.  If Berkshire can perform with cumulative underwriting profits, Buffett right there says, he'd rather have Berkshire's float liability than an equivalent amount of equity.

 

I have spent about 5 or 10 years bringing this issue up with people in all kinds of forums and I have NEVER gotten anywhere with getting people to agree that this is what Buffett thinks. 

 

First, it seems they can't even get past the issue of Buffett's important caveats.  You have to have long-term undewriting profits for float to be better than "free" money.  You have to be certain that the float won't shrink quickly.  You have to agree that you want to have the money called "float" invested in something for a long time (and NOT otherwise immediately spent).

 

But, IF those conditions can be met, insurance 'float liability' that delivers underwriting profits IS BETTER than having the same amount of money in equity.

 

That Buffett believes this is not particularly useful to us analysts because, as Buffett takes pains to highlight, these conditions ARE NOT MET by the insurance industry as a whole.  And, when they're not met, the dream scenario he describes simply doesn't apply.

 

It isn't true for AIG.  It isn't true for Fairfax.  Etc.

 

That doesn't make their float useless.

 

Still, what Buffett says here -- well, I haven't found (m)any people that can accept what he is saying is true EVEN IF they agree Berkshire (or some other insurance company) can produce sustained underwriting profits on a float pool that doesn't shrink or doesn't shrink quickly.

 

So, if you can understand what Buffett is saying here, you might be able to write an interesting book or produce a document that ends up getting forwarded around the value investor community.

 

Be prepared, though, people will say you're an idiot and mock you.  Later, they'll pretend you never said it -- when Buffett finally confirms you were correct about what he is saying in plain English.

 

;D

 

--

edited for clarity, if that's even possible on this subject

[bennycx]

Quite weird that he says that it is better than free money. Wouldn't it be the same as free money given consistently then? It's like saying a profitable business (like coke) is better than free money......

[maxthetrade]

Here is (part) of what Buffett notes in the letter (my emphasis added):

 

"Looking ahead, I believe we will continue to underwrite profitably in most years. If we do, our float will be better than free money."

 

So, there you have it.  If Berkshire can perform with cumulative underwriting profits, Buffett right there says, he'd rather have Berkshire's float liability than an equivalent amount of equity.

 

I have spent about 5 or 10 years bringing this issue up with people in all kinds of forums and I have NEVER gotten anywhere with getting people to agree that this is what Buffett thinks. 

 

I understand all this and in general I agree with the reasoning but float comes with two major restrictions that do not apply to equity: you always have to hold some cash for cat payouts ($20bn in Berkshire's case) and regulators won't let you invest float as you want, i.e. you have to invest in fixed income securities.

So yes float is like free money (or even better) in Berkshire's case but that free money must be invested in cash and fixed income securities. Would you really put the same value on equity and on money that comes with these restrictions?

 

 

 

[link01]

<<But, IF those conditions can be met, insurance 'float liability' that delivers underwriting profits IS BETTER than having the same amount of money in equity.>>

 

I agree with most of what you’re saying but I wouldn’t go that far. Lets remember that an insurance co’s equity that affects its claims paying ability, after all. Float is still ultimately a liability, although its one that comes with benefits, like deposits do for a bank. It’s a prime source of earnings, along with equity via investments, & underwriting. If you think about it, it’s a lucky thing for consumers of insurance too. If it were ever mandated by regulatory govt agencies for instance that insurance co’s could only invest the float portion of their investments portfolio in 30 day treasuries then premiums would have to be jacked up pretty substantially in order for insurance co’s to just earn their cost of capital.

 

[bablu]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

 

Hey Sanjeev,

Is the reservation for Saturday or Sunday night ?

 

I guess i am out of luck.. My flight is for sunday noon..

 

 

Sunday.  Buffett shows up at Piccolos on Sunday around 7:30-8:30pm.  He's usually at Gorat's on Sunday around 6-6:30pm, but Gorat's is broken up into three rooms, so you don't know where you will be seated.  Piccolos is really one big massive room for the most part, so it's likely you will get to see him.  Cheers!

[bablu]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

 

Hey Sanjeev,

Is the reservation for Saturday or Sunday night ?

 

I guess i am out of luck.. My flight is for sunday noon..

 

 

Sunday.  Buffett shows up at Piccolos on Sunday around 7:30-8:30pm.  He's usually at Gorat's on Sunday around 6-6:30pm, but Gorat's is broken up into three rooms, so you don't know where you will be seated.  Piccolos is really one big massive room for the most part, so it's likely you will get to see him.  Cheers!

 

I guess i am out of luck.. My flight is for sunday noon..

[redskin]

What are thoughts on MidAmerican?  Buffett seems upbeat about the business and he boasts about the huge amount of capex invested, but I don't see the results.  After huge amounts of capital invested, net earnings attributable to Berkshire has increased from approximately $1.1 billion in 2007 to $1.3 in 2012.  I would like to hear Buffett expand on this at the annual meeting in May. 

[twacowfca]

<<But, IF those conditions can be met, insurance 'float liability' that delivers underwriting profits IS BETTER than having the same amount of money in equity.>>

 

I agree with most of what you’re saying but I wouldn’t go that far. Lets remember that an insurance co’s equity that affects its claims paying ability, after all. Float is still ultimately a liability, although its one that comes with benefits, like deposits do for a bank. It’s a prime source of earnings, along with equity via investments, & underwriting. If you think about it, it’s a lucky thing for consumers of insurance too. If it were ever mandated by regulatory govt agencies for instance that insurance co’s could only invest the float portion of their investments portfolio in 30 day treasuries then premiums would have to be jacked up pretty substantially in order for insurance co’s to just earn their cost of capital.

 

 

BRK's float under the conditions Warren listed is better than free money if it grows over the years as it should.  The growth of invested free money is reduced by income taxes or deferred tax liability.  The growth of float doesn't have this drag.

 

Imagine that you had a perpetual source of funds that is a liability that increased in principal amount by 10% each year. You also are able to invest those funds in stocks that increase in value by about the same amount each year.  Then, you'll never have to pay taxes on those capital gains because the increasing liability for the increasing float matches the increasing value of your portfolio.  Therefore your portfolio will grow at a much higher rate than if you had to pay taxes on its growth in value. 

 

The growth in that value over decades will be many times more than the value of the free money if you earned 10% per annum on it and had to pay taxes on the capital gains.  :)

[val740]

In the Investments section, Buffett shows 22,999,600 shares of DTV. He also states that pension fund holdings are not included. The 13-F shows an additional 11,037,900 shares for a total of 34,037,500 shares. That would be a total of $1.7 billion, or 17% of Weschler's and Comb's combined portfolios.

 

Is the difference because of the difference in pension fund disclosures or something else? Can someone shed light on this? Thanks.

[jay21]

I don't think its that hard to come up with the value of float.  The way I look at it is you have the ability to borrow at below market rates, which is an asset.  For example,  let's say BRK can borrow 100m at 7% for 10 years.  Instead, BRK underwrites a 100m liability with a 0% cost.  If we assume the float is bond-like, the NPV at the market rate of 7% is around 50m.  If the liability is stated as 100m on the balance sheet, there is an offsetting asset of 50m on the balance sheet.  That's a very simplistic way of looking at it and you may want to play with a lot of the assumptions, the biggest being that the borrowings can fund nearly anything whereas the float can only fund certain things.

[philassor]

Web on float:

 

So how does our attractive float affect the calculations of intrinsic value? When Berkshire’s book value is calculated, the full amount of our float is deducted as a liability, just as if we had to pay it out tomorrow and were unable to replenish it. But that’s an incorrect way to look at float, which should instead be viewed as a revolving fund. If float is both costless and long-enduring, which I believe Berkshire’s will be, the true value of this liability is dramatically less than the accounting liability.

 

A partial offset to this overstated liability is $15.5 billion of “goodwill” that is attributable to our insurance companies and included in book value as an asset. In effect, this goodwill represents the price we paid for the float- generating capabilities of our insurance operations. The cost of the goodwill, however, has no bearing on its true value. For example, if an insurance business sustains large and prolonged underwriting losses, any goodwill asset carried on the books should be deemed valueless, whatever its original cost.

 

Fortunately, that’s not the case at Berkshire. Charlie and I believe the true economic value of our insurance goodwill – what we would happily pay to purchase an insurance operation producing float of similar quality – to be far in excess of its historic carrying value. The value of our float is one reason – a huge reason – why we believe Berkshire’s intrinsic business value substantially exceeds its book value.

 

So if you believe like I do that overtime that Berkshire's float is costless (or better) over time due to their proven obsessive underwriting discipline, one can be bold and look at valuation statically and modify the book value as follows.

 

Book value on 12/31/2012:  187.6  B

Float                                :      73.1

Insurance Goodwill            :  -  15.5

                                        --------------

Net adjusted BV                      245.2        (1.3 x stated book value)

 

 

Then of course you have to add X amount for the understated goodwill (think Sees Candy) of the wholly owned companies. and you obtain perhaps 1.5 to 1.6 times stated book which incidentally was how the market was  traditionally valuing Berkshire ;

 

No wonder Buffett buys back at 1.2 of book.

 

 

[Kiltacular]

philassor,

 

Good points.  And, the funny part is that, for example, he tells you to subtract the goodwill for the insurance business -- as you have. 

 

But then, you can find something -- like the 2010 report -- where he says that GEICO is on the books for only $1.4 billion of "goodwill" but really you could easily say that it should be on the books for more than $14 billion over carrying value...if you marked it up to what he thinks it's worth. (And, that was two years ago.)

 

Or, this year, he says Marmon is worth more than $4 billion more than it's on the books for. 

 

God knows what he thinks BNSF's value is over Berkshire's carrying value.  Whatever it currently is, the spread widens by the day if Buffett is to be believed. 

 

Anyway, good comments.

[racemize]

Incidentally, if you are booking for dinner at Gorat's or Piccolos during Berkshire weekend, Piccolos is taking reservations now, whereas Gorat's only starts taking them from April 1st.  I've got my table booked at Piccolos already!  Cheers!

 

Hey Sanjeev,

Is the reservation for Saturday or Sunday night ?

 

Sunday.  Buffett shows up at Piccolos on Sunday around 7:30-8:30pm.  He's usually at Gorat's on Sunday around 6-6:30pm, but Gorat's is broken up into three rooms, so you don't know where you will be seated.  Piccolos is really one big massive room for the most part, so it's likely you will get to see him.  Cheers!

 

Wait, he goes to both of them on Sunday?--does he do anything on Saturday night?