adesigar Posted October 13, 2015 Share Posted October 13, 2015 All this talk about float, deferred taxes etc is useless. You wont get any more than 1.5x-1.6xBook for Berkshire. Which people are interested in buying shares of Berkshire? - Value investors like the people on this board will buy Berkshire. How much will these people pay for the shares? - They will pay a little bit more than the share buyback price. When Buffett set share buybacks to 1.2xBook. He put a floor under the stock but HE ALSO PUT A CELING. How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. How will you get more than 1.5x-1.6xBook? - It will happen when Warren Buffett increases the buyback price to 1.3x Book. Link to comment Share on other sites More sharing options...
Shane Posted October 13, 2015 Share Posted October 13, 2015 I disagree with this. Perception by the investment community can change. Right now it might attract value investors, but who knows if growth investors will hop on later. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 13, 2015 Author Share Posted October 13, 2015 All this talk about float, deferred taxes etc is useless. You wont get any more than 1.5x-1.6xBook for Berkshire. Which people are interested in buying shares of Berkshire? - Value investors like the people on this board will buy Berkshire. How much will these people pay for the shares? - They will pay a little bit more than the share buyback price. When Buffett set share buybacks to 1.2xBook. He put a floor under the stock but HE ALSO PUT A CELING. How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. How will you get more than 1.5x-1.6xBook? - It will happen when Warren Buffett increases the buyback price to 1.3x Book. Have you considered the possibility that the buyback level will march upward? What if it marches to 1.5x in 10 years? Berkshire paid close to 3x b/v for Precision castparts. A few more deals like that and I'd be willing to pay up to "only" 1.5x. Link to comment Share on other sites More sharing options...
thepupil Posted October 13, 2015 Share Posted October 13, 2015 How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. I will pay more than 1.5X when the earnings power dictates that 1.5X is substantially below fair value across a range of scenarios. One could argue that time is now. I would personally be in the "not quite as big as I am now but still have a decent position" at 1.5X. Every day you hold a stock, you are buying it net of tax consequences, so given that I would still own some Berkshire if it went to 1.5X (or 1.7X), I would be a buyer at more than 1.5X. The buyback level honestly plays no real part in my decision making. I simply look at the SOTP and the earnings power like I would any other company. Link to comment Share on other sites More sharing options...
adesigar Posted October 13, 2015 Share Posted October 13, 2015 All this talk about float, deferred taxes etc is useless. You wont get any more than 1.5x-1.6xBook for Berkshire. Which people are interested in buying shares of Berkshire? - Value investors like the people on this board will buy Berkshire. How much will these people pay for the shares? - They will pay a little bit more than the share buyback price. When Buffett set share buybacks to 1.2xBook. He put a floor under the stock but HE ALSO PUT A CELING. How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. How will you get more than 1.5x-1.6xBook? - It will happen when Warren Buffett increases the buyback price to 1.3x Book. Have you considered the possibility that the buyback level will march upward? What if it marches to 1.5x in 10 years? Berkshire paid close to 3x b/v for Precision castparts. A few more deals like that and I'd be willing to pay up to "only" 1.5x. I know it will. But while it is at 1.2 - people will pay upto 1.5, When its 1.5 people will pay maybe 1.9, when its 2.0 people will pay upto 2.5x. So basically its share buyback price * 1.25. Link to comment Share on other sites More sharing options...
adesigar Posted October 13, 2015 Share Posted October 13, 2015 How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. I will pay more than 1.5X when the earnings power dictates that 1.5X is substantially below fair value across a range of scenarios. One could argue that time is now. I would personally be in the "not quite as big as I am now but still have a decent position" at 1.5X. Every day you hold a stock, you are buying it net of tax consequences, so given that I would still own some Berkshire if it went to 1.5X (or 1.7X), I would be a buyer at more than 1.5X. The buyback level honestly plays no real part in my decision making. I simply look at the SOTP and the earnings power like I would any other company. You can buy it at whatever. It wont change the fact that most value investors (and Buffett has made sure that Berkshire investors are long term value guys) are influenced by the share buyback price Buffett has set. Link to comment Share on other sites More sharing options...
thepupil Posted October 13, 2015 Share Posted October 13, 2015 How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. I will pay more than 1.5X when the earnings power dictates that 1.5X is substantially below fair value across a range of scenarios. One could argue that time is now. I would personally be in the "not quite as big as I am now but still have a decent position" at 1.5X. Every day you hold a stock, you are buying it net of tax consequences, so given that I would still own some Berkshire if it went to 1.5X (or 1.7X), I would be a buyer at more than 1.5X. The buyback level honestly plays no real part in my decision making. I simply look at the SOTP and the earnings power like I would any other company. You can buy it at whatever. It wont change the fact that most value investors (and Buffett has made sure that Berkshire investors are long term value guys) are influenced by the share buyback price Buffett has set. I would think most value investors would value the company based on its earnings power and fundamental value. The buyback may "influence" their thoughts, but the buyback not met even existed that long and people had to value Berkshire before it existed. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 14, 2015 Author Share Posted October 14, 2015 Also it's not likely that value investors can control the price. In euphoria, all the wisdom that was said will be forgotten, likewise in a time of fear. Link to comment Share on other sites More sharing options...
Guest longinvestor Posted October 14, 2015 Share Posted October 14, 2015 Earnings will catch up with mkt value Or Mkt value will catch up with earnings BRK is in the latter, has been there for a while yet. Link to comment Share on other sites More sharing options...
kevin4u2 Posted October 14, 2015 Share Posted October 14, 2015 All this talk about float, deferred taxes etc is useless. You wont get any more than 1.5x-1.6xBook for Berkshire. Which people are interested in buying shares of Berkshire? - Value investors like the people on this board will buy Berkshire. How much will these people pay for the shares? - They will pay a little bit more than the share buyback price. When Buffett set share buybacks to 1.2xBook. He put a floor under the stock but HE ALSO PUT A CELING. How many of you will pay more than 1.5xBook for Berkshire when the buybacks are at 1.2x? - NONE. How will you get more than 1.5x-1.6xBook? - It will happen when Warren Buffett increases the buyback price to 1.3x Book. Have you considered the possibility that the buyback level will march upward? What if it marches to 1.5x in 10 years? Berkshire paid close to 3x b/v for Precision castparts. A few more deals like that and I'd be willing to pay up to "only" 1.5x. The accounting doesn't work that way. Book values are not accretive. You don't "average up". While Berkshire paid 3x BV for precision castparts, that transaction will be carried on Berkshire's books at 1x book value, so in a sense it brings down the premium of how much you would be willing to pay for BRK in excess of book value, not the other way around. It will take years and billions in reinvestment for precision castparts to every be worth a multiple to what Berkshire paid for it. BRK's book value will only march upward to the extent that existing businesses retain earnings and earn a return in excess of the cost of capital on incremental capital employed. Link to comment Share on other sites More sharing options...
netnet Posted October 14, 2015 Share Posted October 14, 2015 The accounting doesn't work that way. Book values are not accretive. You don't "average up". While Berkshire paid 3x BV for precision castparts, that transaction will be carried on Berkshire's books at 1x book value, so in a sense it brings down the premium of how much you would be willing to pay for BRK in excess of book value, not the other way around. It will take years and billions in reinvestment for precision castparts to every be worth a multiple to what Berkshire paid for it. BRK's book value will only march upward to the extent that existing businesses retain earnings and earn a return in excess of the cost of capital on incremental capital employed. I may be misunderstanding your meaning, but book value is "averaged up" in that the purchase price of the acquisition is added to the book value of BRK. Your point may be that you view the purchase as an inflated value on the balance sheet. That may or may not be true, see Buffett's discussion of Scott Fetzer. Furthermore, assuming that Buffett is rational (if he isn't who is?) that the purchase price is not only below intrinsic value but ( a reasonable probability) that it is a better deal than BRK's shares are today. Plus the economic goodwill is compounding while the accounting goodwill is being amortized. So logically then we would have the book value of the acquisition equal to something on the order of 1.2 x the purchase price. I would have a 95% confidence of that, given Buffett. Link to comment Share on other sites More sharing options...
racemize Posted October 14, 2015 Share Posted October 14, 2015 I think Kevin was just saying that the purchase at 3x book doesn't go onto the balance sheet at 1x book, but instead, still at 3x book, with goodwill included. In the first case, we could make an argument that a purchase above book would mean Berkshire's P/B should inflate the more of those acquisitions are made, which I believe was what Kevin was criticizing. In contrast, when it enters with goodwill, we only have the argument you just made (it was worth more) or what Kevin said, that applies to many acquisitions (such as Geico), that the corresponding value of the company is worth multiples of the original purchase price because of internal growth (i.e., creation of additional goodwill not found on the balance sheet). Link to comment Share on other sites More sharing options...
bizaro86 Posted October 15, 2015 Share Posted October 15, 2015 I'm pretty sure the acquisitions don't change the book value of BRK. If he spends $100 in cash on an acquisition, he trades that cash for a new business. The $100 in cash will come off the current assets line, and new assets will be added elsewhere. Maybe $10 net working capital, $20 PPE, $70 goodwill, or something like that. Wherever they sit, there should be $100 in new assets replacing the cash. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 15, 2015 Author Share Posted October 15, 2015 So it sounds like the only way to justify a price > 1x book are: 1. Buffett premium - for a limited time only. 2. Goodwill worth more than amount on the books - there was something in the a/r about goodwill never marked up, not sure why it would be unless it was a windfall of some sort. 3. Organically grown businesses worth more than book - such as superior insurance underwriting. 4. Investments with a higher market value than carrying cost - e.g. BAC warrants ..Most investments are usually marked to market though. Link to comment Share on other sites More sharing options...
Munger_Disciple Posted October 15, 2015 Share Posted October 15, 2015 scorpioncapital, I would add a fifth item to your list: 5. Any additional capital expenditures that earn good returns on invested capital. For instance, $1 of capex in utilities or BNSF are worth more than 1 x book. Link to comment Share on other sites More sharing options...
jay21 Posted October 15, 2015 Share Posted October 15, 2015 6. Deferred tax adjustments Probably some others as well Link to comment Share on other sites More sharing options...
marazul Posted October 15, 2015 Share Posted October 15, 2015 I think the most important factors that make BRK woth more than book are: 1) Operating businesses bought at attractive prices years ago (like See´s, Geico, Iscar, BNSF) are worth much more than carrying value because GAAP won´t let you revalue goodwill upward. 2) Deferred tax liabilities of more than $60 billion (or ~25% of book value) will most likely never be paid back and continue to increase over time. 3) Float liability of $80 billion has no cost and should not be considered a liability as it will lilely continue to increase. 4) the ability to move cash flows from "cash cows" to businesses that can invest capital at reasonable returns in a tax-advantaged way has great value. Few people discuss this, but overtime saving ~30% of cash flow in taxes and reinvesting the full amount adds a lot of speed to the compounding effect. Other businesses would pay a dividend with the excess cash and investors would lose 1/3 of the cash flow. Berkshire is a very efficient machine, run by the greatest capital allocator of all time. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 15, 2015 Author Share Posted October 15, 2015 Does anyone think any of these >1x b/v reasons are a bit flimsy? Okay, maybe except Buffett himself. I mean, all the reasons we could think of seem to be a margin of safety of 20-30% right? So buying at 1x book if it ever gets there gets you the safety margin. Perhaps there is something else to it. I can really see how goodwill may be undervalued if Buffett made good acquisitions at the right time, but he'd have to some degree be 'stealing it' from the sellers with the sellers not being fully aware. This is fine with me, after all, asymmetry of information creates opportunity. Link to comment Share on other sites More sharing options...
rb Posted October 15, 2015 Share Posted October 15, 2015 Does anyone think any of these >1x b/v reasons are a bit flimsy? Okay, maybe except Buffett himself. I mean, all the reasons we could think of seem to be a margin of safety of 20-30% right? So buying at 1x book if it ever gets there gets you the safety margin. Perhaps there is something else to it. I can really see how goodwill may be undervalued if Buffett made good acquisitions at the right time, but he'd have to some degree be 'stealing it' from the sellers with the sellers not being fully aware. This is fine with me, after all, asymmetry of information creates opportunity. Dude seriously, what are you on about? For stealing goodwill, how can it be stealing if the other party willingly gives it over. If I get a great deal when buying a car by no means did I steal that car. How are the reasons of Berkshire being worth >BV are flimsy? Several posters here just detailed many very good reasons why that is. Firstly, to argue that Berkshire is worth BV fails the common sense test given the operational and growth characteristics of the business. Secondly, there are many instances where Berkshire got great deals on their acquisitions and yes that creates value in excess of BV. I don't see why that's so hard to believe since businesses (and securities) at times transact at stupid prices sometimes too high, sometimes too low. Thirdly, good businesses generate goodwill by themselves. That's why they transact at BV multiples >1. Let's use an example, say GEICO, but it works with any other business. When Berkshire purchased GEICO they paid 3x BV for it. Let's assume that it was the fair price. Then at the moment right after the purchase GEICO's IV is worth 1x BV inside of Berkshire because of the marked up goodwill. However due to the business characteristics of GEICO, it generates $3 of value for every $1 of retained earnings. So GEICO's IV starts to exceed BV inside of Berkshire as soon as it starts to retain earnings inside Berkshire. Now GEICO was acquired in 1996 I believe. Since then it retained a lot of earnings and wrote off a bunch of the initial goodwill, so GEICO's IV greatly exceeds it's BV on Berkshire's books. Now you see how you can have IV in excess of BV without "stealing" goodwill? By the way, Berkshire has a lot of these companies bought at both cheap and fair prices. That's why its IV is well in excess of BV. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 15, 2015 Author Share Posted October 15, 2015 "If I get a great deal when buying a car by no means did I steal that car." I would argue you didn't get a good deal then. A good deal really does feel like stealing something. I've come to the conclusion great deals are only due to the seller not being fully aware what they are giving up to the buyer. Otherwise we might call it a "fair" deal, but in no case would we call it a "great" deal. Over a long time, it may turn out either the seller or buyer was right or wrong or neither. Well, it seems all the reasons we have for Berkshire are good ones. Hence we pay more than book. But how can it be quantified? I would argue that 20-30% above book gives one a good margin of safety. After all, that is the price Berkshire will buy back, so if Berkshire demands a margin of safety of 20% shouldn't we do the same? Ok, it probably is a range. But there's no doubt that buying below what is considered fair value is going to boost your return. Berkshire was 1x book several times. I wonder if it's worth waiting for that or at least 1.2x instead of stretching to justify the current valuation as being cheap. Fair, maybe. Cheap I'm not so sure....(Oh and I hope I'm proven wrong as I own some Berkshire bought in the dips in late August. I had a large stack in 2009 and sold it at around ~$80 - that was a big mistake, so I guess one might come out ahead even if there is a compression back to 1.2x b/v or even 1x b/v for a short period of time). Link to comment Share on other sites More sharing options...
thepupil Posted October 15, 2015 Share Posted October 15, 2015 but how can it be quantified? here's my feeble and very rough attempt that feeds in real time stock prices and earnings estimates for the stock portfolio as well as earnings multiples for UNP (to mark BNSF) DUK (to mark BE) and S&P (to mark Manufacturing Service and PCP). In the bear case, the common stock portfolio (and BNSF and BE) are marked down an additional 30% and MS&R are de-rated by 4 multiple points and visa versa for the bull case. In the bear case, insurance is at book value. In the base case and bull case, insurance is allocated its working capital requirement of $20B cash plus all the fixed income and it is assumed those make $0 over time (this is pretty darn conservative given the track record). So if I am pretty conservative with the insurance (I'm basically saying it has $0 long term earnings power which is not the case), I get that Berkshire is trading at 85% of its "NAV" using market multiples. What if the market is wrong to the downside? Well stressing everything (the bear case) gets you to 23% downside (when the market goes down 30%). What if the market is wrong to the upside? Increasing everything by 30% gets you to 49% upside, meaning Berkshire has lower downside capture and higher upside capture than the general market (if that makes sense). Berkshire at current price = alpha to s&p over long term, in my opinion and a reasonable absolute return. It does not = a 50 cent dollar, margin of safety even if market goes down 40% and earnings go to hell you won't lose money type of thing Now all this is a bit of hocus pocus and frankly I think Berkshire is worth more than my base case. Longinvestor and rb are probably salivating to point out why I shouldn't be using an S&P multiple because of the superior growth or point out that my insurance valuation is way off or this or that, but my point is to try to come up with a quick and dirty way of monitoring Berkshire's earnings power, price to conservative NAV, upside / downside ratio etc. It is not a definitive valuation. It's rough as hell. Note how morningstar's valuation of the operating companies is much significantly higher than my base case. If you go with my base case, it's only an 85 cent dollar. You can easily get into the 70's with some more bullish assumptions about the growth at the operating companies or the franchise value of the insurance operation (the insurance is where I really need to make this better). So you can think of it as a 60-90 cent dollar (wide range of assumptions) paying you a a decent earnings yield ( even before insurance) and where the capital is being invested by the best allocator of our time. This snapshot of value does not at all capture value creation over a multi-year time frame which is obviously what's most important to investing. Link to comment Share on other sites More sharing options...
Guest longinvestor Posted October 15, 2015 Share Posted October 15, 2015 "If I get a great deal when buying a car by no means did I steal that car." I would argue you didn't get a good deal then. A good deal really does feel like stealing something. I've come to the conclusion great deals are only due to the seller not being fully aware what they are giving up to the buyer. Otherwise we might call it a "fair" deal, but in no case would we call it a "great" deal. Over a long time, it may turn out either the seller or buyer was right or wrong or neither. Well, it seems all the reasons we have for Berkshire are good ones. Hence we pay more than book. But how can it be quantified? I would argue that 20-30% above book gives one a good margin of safety. After all, that is the price Berkshire will buy back, so if Berkshire demands a margin of safety of 20% shouldn't we do the same? Ok, it probably is a range. But there's no doubt that buying below what is considered fair value is going to boost your return. Berkshire was 1x book several times. I wonder if it's worth waiting for that or at least 1.2x instead of stretching to justify the current valuation as being cheap. Fair, maybe. Cheap I'm not so sure....(Oh and I hope I'm proven wrong as I own some Berkshire bought in the dips in late August. I had a large stack in 2009 and sold it at around ~$80 - that was a big mistake, so I guess one might come out ahead even if there is a compression back to 1.2x b/v or even 1x b/v for a short period of time). The difference between Warren Buffett wanting to buy at 1.2x BV versus the rest of the world doing so is this..He has been in the business of taking capital from others rather than returning it. That's been going on for 50 years. "Over my dead body" (sorry to use this idiom) comes close to describing him being averse to buying stock back or issuing dividends. The fact that he is even expressing a willingness to do so is out of character. Perhaps a sign that BRK is or will likely be a 50 cent dollar. As stated in the letter this is for 10-20 years from now! It would be stupid if they bought back stock and then a $100B acquisition opportunity shows up right after. Link to comment Share on other sites More sharing options...
scorpioncapital Posted October 15, 2015 Author Share Posted October 15, 2015 Thanks for the analysis, thepupil. Looks great. My instinct is to say that if compounding is fast enough before the next dislocation, you won't lose much at current prices. I wish it was at 1.2x book though! I've always seen the buyback as a "contingent tax efficient non-dividend equivalent". And an admission that range of outperformance options are narrowing. Link to comment Share on other sites More sharing options...
kevin4u2 Posted October 16, 2015 Share Posted October 16, 2015 I think Kevin was just saying that the purchase at 3x book doesn't go onto the balance sheet at 1x book, but instead, still at 3x book, with goodwill included. In the first case, we could make an argument that a purchase above book would mean Berkshire's P/B should inflate the more of those acquisitions are made, which I believe was what Kevin was criticizing. In contrast, when it enters with goodwill, we only have the argument you just made (it was worth more) or what Kevin said, that applies to many acquisitions (such as Geico), that the corresponding value of the company is worth multiples of the original purchase price because of internal growth (i.e., creation of additional goodwill not found on the balance sheet). You are exactly right. Link to comment Share on other sites More sharing options...
Guest notorious546 Posted January 6, 2016 Share Posted January 6, 2016 http://www.theglobeandmail.com/globe-investor/investment-ideas/buffett-nears-buyback-threshold-as-berkshire-shares-extend-slump/article28033774/ Link to comment Share on other sites More sharing options...
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