My hands-down favorite book on investing in general and Wall Street in particular is a classic that was written decades ago by someone who was relatively unknown in the business.  In Where Are the Customers’ Yachts?, Fred Schwed, Jr. paints a portrait of Wall Street during the Great Depression that really hasn’t changed much in the ensuing decades and is perhaps even more poignant than ever in understanding today’s weakened financial markets and economy.  Furthermore, in my opinion, this book should be read by almost anyone involved in the business.

The book basically states what so many people today are finally realizing.  In essence it says that the way to build wealth over time is to be an owner of an investment company, or a broker, or anyone else involved in the buying, selling, or managing of securities rather than a customer.  The natural implication of this is that many practitioners of the investment business don’t really create anything, but rather slowly siphon other people’s money to themselves via high—or hidden—fees or by selling other products with esoteric terminology that their clients could not even come close to understanding.

In fact, sometimes when you speak with an “investment professional” they often use so many esoteric or academic words that even as someone with my experience and business degrees, I haven’t a clue what they are talking about.  But, if you think about it, that is just the point.  How many of these folks make a sale is by confusing rather than explaining.  In effect, their clients don’t want to appear unknowledgeable about the business, so rather than speak up and ask for an explanation in plain English, they often just buy the product.  Even more troubling, though, is that I would bet that many of these “investment professionals” don’t even understand the terminology that they are promulgating, though they make it sound as if they have the secret to cure cancer via investment nomenclature (if only it were so easy).

Schwed also delves into the concept of “conflicts of interests” on Wall Street, which were clearly pervasive then and are even more pervasive now. Schwed uses the example of a broker having the temptation to sell securities that his firm underwrote—and likely has in inventory—rather than other securities that may be a better fit for the client.  The implication is that the broker in the said example is tempted to respond to his own incentive of increasing the profits of the firm, rather than solely focusing on increasing the profits of his client.  And today, given all the proprietary trading going on at investment banks, these mixed incentives continue to be a problem.  In actuality, the banks have to constantly manage their own incentives against their clients’ incentives, and when push comes to shove—as it has over the last few years—whose incentive do you think they are more likely to respond to?

But like any good author, Schwed also offers a solution for the proverbial customer of Wall Street to make money.  On page 180 and 181 of his book he offers this seminal advice:

“For no fee at all I am prepared to offer any wealthy person an investment program which will last a lifetime and will not only preserve the estate but greatly increase it.  Like other great ideas, this one is simple:

When there is a stock-market boom, and everyone is scrambling for common stocks, take all your common stocks and sell them.  Take the proceeds and buy conservative bonds.  No doubt the stocks you sold will go higher.  Pay no attention to this—just wait for the depression that will come sooner or later.  When this depression—or panic—becomes a national catastrophe, sell out the bonds (perhaps at a loss) and buy back the stocks.  No doubt the stocks will go still lower.  Again pay no attention.  Wait for the next boom.  Continue to repeat this operation as long as you live, and you’ll have the pleasure of dying rich.

A glance at financial history will show that there never was a generation for whom this advice would have worked splendidly.  But it distresses me to report that I have never enjoyed the social acquaintance of anyone who managed do to it.  It looks as easy as rolling off a log, but it isn’t.  The chief difficulties, of course, are psychological.  It requires buying bonds when bonds are generally unpopular, and buying stocks when stocks are universally detested.”

It occurs to me that this basic philosophy is almost exactly what Warren Buffett and his partner Charlie Munger have done.  They generally do—and also have the ability to do--the opposite of what the crowd is doing, and they also have the ability and patience to wait.  This ability to wait might be the trait that truly differentiates them, as most other people are always in a hurry and worried about what the other guy is doing.  Not surprisingly, in my opinion, they are the modern practitioners of what Schwed illuminated for the public so many years ago.

So the next time you hear someone on Wall Street extolling the virtues of the next greatest thing—that neither of you probably really understand—I hope that you’ll think of Schwed (or even Buffett or Munger) and really try to think about what is best for you, the customer, rather than for Wall Street.

As always, please do send me any questions or comments you may have.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

Last week, Berkshire Hathaway (BRK-B) reported first quarter earnings that showed a marked improvement from the prior year’s results.  Generally speaking, as Berkshire has evolved from a leveraged investment vehicle to a conglomerate, the company’s results have become more tied to the overall fate of the US economy.  As such, given the signs of improvement in many of Berkshire’s businesses, some investors could take this as a proxy that the overall economy may be starting to show some improvement relative to the dark days of 2009.

Despite the varied businesses under the Berkshire umbrella, insurance continues to be the segment that carries the flag.  And within the insurance segment, auto-insurer Geico continues to turn out the profits, growing earnings by almost 6% during the first quarter.  This growth is a mix of an increase in policies-in-force plus a slight improvement in pricing.  That said, new policy growth in the voluntary auto channel was down compared to the first quarter of 2009.  Berkshire Hathaway Reinsurance Group also continued to do well, which is evident after stripping out the amortization charges (non-cash) from their retroactive reinsurance policies. However, earnings were still lower than they were in the prior year, as the segment curtailed some of its exposures.

The first quarter of 2010 marked the first reporting period that Burlington Northern Santa Fe was included in Berkshire’s earnings.  Prior to this it had been accounted for via the equity method, which for you non-accounting professionals, means only booking a portion of the Burlington’s earnings into Berkshire’s results. Burlington’s results this year were also positive compared to 2009, as overall revenue grew 13%.  This was due primarily to an increase in revenue per car, which was driven by higher yields and additional fuel surcharges.  Berkshire’s utility earnings via Mid-American energy and PacifiCorp were relatively flat from the prior year period.  In each subsidiary the mix of business moved away from wholesale electricity (buying and selling electricity on the open market) where demand continued to be down, to retail energy, where the companies had both customer growth and favorable weather conditions for its business.

In the operating businesses, Marmon has started to rebound quite nicely with overall revenue up 11% and earnings were up 17%, as management continues to aggressively manage costs.  Food service distributor, McLane, which has held up well during the recessionary period of the last couple years, continued to do alright with revenue up 6%.  Profits were down compared to 2009, as in the prior year McLane benefited from an inventory valuation adjustment due to higher cigarette taxes.  Many of the other businesses, while not running at full throttle by any means, saw rebounds versus the first quarter of 2009, which is consistent with some of the improvement in the overall economy.  One weak spot remains Berkshire’s building products group, which continues to struggle given the slack demand in the commercial and residential construction areas of the economy.

Running through the income statement this quarter were gains related to derivative contracts, which are non-cash, but impact recorded earnings.  Last year these contracts produced hefty losses on Berkshire’s recorded earnings.  These periodic accounting gains and losses are meaningless until the contracts are settled at some point in the distant future.  In the meanwhile, their existence will continue to make Berkshire’s reported results much more volatile than they historically have been.  Berkshire also booked a gain related to its investment in Burlington Northern when the conglomerate acquired the remaining shares earlier this year.

Given the unprecedented low interest rates that now exist globally, Berkshire’s move into higher yielding securities during 2008 and 2009 has proven to be very prescient.  The conglomerate’s investment income while down from the prior year period continues to hold up reasonably well especially compared to other insurance companies.  This is due in part to the higher yielding investments in preferred securities of Dow Chemical (DOW), Goldman Sachs (GS), General Electric (GE), Swiss Re, and Wrigley among others.  In addition, Berkshire’s financial position is healthy, as the conglomerate still has over $22 billion of cash on its balance sheet.

All in all, Berkshire’s earnings showed a lot of signs of improvement.  Should the economy continue to recovery more quickly, so likely will Berkshire’s businesses. And should the recovery stall, I’d expect Berkshire’s earnings to also grow more slowly.

As always, please do send me any questions or comments you may have.

You also might be interested to know that this site was mentioned in a Wall Street Journal article linked here, as well as an article from the Associated Press linked here.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

About a week ago over 40,000 people descended upon Omaha, Nebraska to listen to Berkshire Hathaway (BRK-B) Chairman Warren Buffett and his partner, Charlie Munger, answer questions about Berkshire, the economy, investing, in addition to several other topics.  And, generally speaking, it was a very informative session.  Here is a selected run-down of the day and some of my thoughts on it.

Not surprisingly, the first question for Buffett and Munger was about their views on Goldman Sachs (GS), given that Goldman is presently in the cross hairs of a Securities and Exchange Commission (SEC) investigation, as well as a negative media spotlight.  Buffett quickly came to Goldman’s defense, correcting what he referred to as mis-reporting of the SEC’s complaint against the company.  He accompanied this defense with several pre-prepared slides, including a tangentially similar bond insurance deal of Berkshire’s that Buffett said was somewhat analogous to the Goldman transaction.  In addition, he spoke about he and Berkshire’s long association with Goldman and its various leaders over the years, all the way back to the mid-1970’s when Goldman helped Diversified Retailing, a company controlled by Buffett and Munger, raise $5 million in debt.  He also said that he thinks that the current investigation into Goldman’s business practices will make it likely that Goldman will not call Berkshire’s preferred investment in the company anytime soon.  Later in the day, both Buffett and Munger stood behind Goldman CEO Lloyd Blankfein, indicating that they would rather see many other corporate CEO’s dismissed rather than see Blankfein be forced to step aside.

While I understand Buffett’s defense of Goldman, I was still a little surprised by the voracity of the defense he mounted for the company.  Just a few minutes before the Goldman question was asked, shareholders had just finished watching the movie, a mix of parodies and advertising, which always kicks-off the start of each annual meeting.  In it, a clip is always played which re-visits Buffett’s Solomon Brothers episode in the late 1980’s where he is very critical of the bank and the overall Wall Street culture.  So, given this reference point--though admittedly the situations then and now are totally different--the strength of his defense of Goldman seemed a tad incongruous.  That said, Munger did indicate that just because it was possible to do some business or transactions, it didn’t necessarily mean that people should engage in these activities.

Another topic that continually came up in questions for both Buffett and Munger was the role derivatives have played in the financial meltdown of the prior couple years, and in particular the impact new regulations surrounding derivative contracts could have on Berkshire.  On the former, Munger said it is only slightly beneficial to have derivatives so that some people can hedge their risks.  He went on to say that the world would be a better place if we went back to only hedging currencies and commodities.  Both Munger and Buffett indicated that to get an idea of what happened in the derivatives market, attendees should read Chapter 12 of Keynes’ General Theory.  As to Berkshire, Buffett said that under current regulations the conglomerate’s collateral posting requirements are ostensibly zero.  He also said that if Berkshire was deemed to be a threat to the financial system under the new proposed regulation, then the conglomerate could be required to post collateral on retroactive contracts.  He went on to say that Berkshire has only 250 derivative contracts, and that its position is only 1% the size of the derivatives positions of several other institutions.  And finally, he said that if Berkshire were forced to post collateral under new rules, it would naturally comply, but that he would also look to renegotiate the contracts, as there is one price he would charge for collateralized contracts and one price he would charge for non-collateralized contracts.

Inflation was another topic on the minds of several attendees, and Buffett told the audience that there has always been a lot of inflation, and that the prospects for inflation around the world have increased in recent years.  He went on to say that the easy money provided by the government might well have been the correct response to dealing with the crisis of the last couple of years, but that it might be harder to wean ourselves from this medicine than many think, as the medicine was massive amounts of debt.  Later in the meeting, an attendee asked about the key metrics that Buffett uses for inflation, and he responded that once inflation gets going it takes on a dynamic of its own, which was demonstrated 30 years ago when people got a little fearful about money.   The only way that this was cured is when Paul Volcker—then Federal Reserve Chairman—took a sledgehammer to the economy.  He further said that based on the current policies countries are pursuing, another experience like the one 30 years ago could be possible.  He said currencies were a poor bet against inflation, and that the best way to combat inflation is through the development of your own merits and talents.  The direct quote was “money can be inflated, talent cannot be.”

There were also a few topical questions about Greece and the Euro.  While Munger said he was generally agnostic about currencies, Buffett made a distinction between countries that borrow in their own currency and those that are forced to borrow in other countries currencies.  He further said that Greece is a test case of a country not using its own currency, as it borrows in Euros.  Buffett indicated that he didn’t know how this event would end, but that the events over the last few years makes him feel more bearish about all currencies. He said that if countries could run 10% budget deficits for long periods of time, the world would have done it a long time ago.  He then stated that as long as the United States borrows in dollars there would be no risk of default, because it can print its own currency.

Buffett and Munger were also asked a smattering of questions about Berkshire, with many directed towards Berkshire’s move to investing in capital intensive businesses—think Berkshire’s utility and railroad operations.  Buffett said that his universe of potential elephants has gotten smaller, that there are fewer Coca-Cola’s available, and that the push into capital-intensive businesses has worked well so far.  Succession was another question that came up repeatedly, and Buffett said that the potential investment officers could change, but that it was less likely that the CEO candidate would change. It has long been rumored that current NetJets CEO David Sokol would be in line to eventually step into Berkshire’s CEO role.  Buffett also said that one of the potential investment candidates was up around 200% last year, without employing any leverage.

All in all, it was another informative session out in Omaha last weekend.  There was a fair amount of discussion about current topics and new ideas, in addition to the reinforcement of concepts touched on at virtually every annual meeting.  Please check back at buffettologist.com soon for an analysis of Berkshire’s first quarter earnings.

You also might be interested to know that I was mentioned in a recent Wall Street Journal article, linked here.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

In about a week, thousands and thousands of investors and financial professionals will descend upon a mid-sized Midwestern town to listen to two older gentlemen answer questions about the economy, finance, investing, and life.  When it is described this way it seems eerily surreal that people would travel from far and wide to cram themselves into a basketball arena for six hours to eagerly listen to a question and answer session from what an outside observer would call a couple of ornery granddads.  But in the world of finance, this is, in fact, Mecca.  So yes, it’s that time of the year again as the Great Plains emerge from winter and begin to turn green that so many of us make our annual pilgrimage out to Omaha for the Berkshire Hathaway Annual Meeting, fondly known as “Woodstock for Capitalists”.

The past year has again been an active one for Berkshire and Chairman Warren Buffett.  Last fall, Berkshire inked its biggest deal yet, reaching an agreement to purchase the Burlington Northern Santa Fe railroad.  In order to complete the deal Berkshire did a couple of curious things, one of which was paying for the business partially with stock, and the other was facilitating a stock split at the time the acquisition closed.  With the latter, Berkshire’s stock also became included in Standard & Poor’s index of the five hundred leading companies in the country.  As such, Berkshire has received even more notoriety, and also now has many more shareholders, possibly making this the most highly attended annual meeting yet.

I suspect that with this inflow of new shareholders there will be a fair amount of questions and discussion about Berkshire’s business, how it has evolved over time, and how it functions given management’s core operating principles.  This will probably be not unlike Buffett’s annual letter this year, which was basically a review course for long time shareholders, and an introduction to the company for new owners.  In my view, this is probably prudent too, as the company has changed dramatically over the last couple of decades.  Berkshire, under current management, began as your classic leveraged investment vehicle, writing insurance and then investing the premiums into various securities which taken together amounted to a multiple of equity.  Now, Berkshire is a more traditional conglomerate with operations ranging from consumer goods and insurance to railroads and utilities. This evolution has changed the company’s business and its investment characteristics and getting an update on this would probably be a benefit to all shareholders.

As Berkshire has grown, it has also become much more sensitive and tied to the fate of the US economy.  In fact, Berkshire reaches so many parts of the economy, that Buffett can see up ticks and downticks in economic activity almost daily from the data he receives from Berkshire’s various operating subsidiaries.  As such, I suspect many shareholders will be curious to get his take on how and if the economy is emerging from the dark days of late 2008 and 2009.  What’s more, given his long history and unique understanding of human behavior, I think that many shareholders would like to glean his perspective on how to improve the economy, and to get a better understanding of what stage the economy is in the business cycle compared to other times in history.

Investment questions are always part of the meeting as attendees regularly try to pick-up stock tips from Buffett or Munger, or to glean some type of advice on what to do with their money.  Last year Buffett remarked, both at the meeting and publicly, about what he viewed as a bubble in certain classes of bonds, and he also said that just because the economy wasn’t doing well, didn’t mean it wasn’t a good time be investing in stocks.  Given the stock market rally of 2009, his viewpoints from last year seem to be very prescient.  In prior years, he has remarked that given Berkshire’s large size, he is doing different things with Berkshire’s cash than he would have done either when he was younger or when Berkshire was much smaller.  In fact, he had said that for newer or younger investors, investing in smaller companies would allow them to compound money at faster rates than if they only had the small universe of elephants that are available to Berkshire.  This also brings up an interesting point, in that a fair question about investing would be about Berkshire itself.  Given the conglomerate’s large size, is an investment in Berkshire not as appropriate or compelling for the majority of investors as it has been in the past?

There are also a great deal of philosophical questions about investing and finance.  Given the amount of noise and mis-information that often exists in the marketplace, I think many investors come to Omaha each year to, as Charlie Munger has coined the phrase, “get religion.” In fact, last year an attendee who had just started an investment firm asked about the potential to lock in some gains by selling some stocks and neither Buffett nor Munger told him if this was the right or wrong thing to do, but rather said that he needed to adjust his way about thinking about businesses and investing, which would help to inform the ultimate decision.  In addition, when these philosophical questions generally come up, Buffett often refers attendees to read or re-read a couple of chapters in his mentor Ben Graham’s seminal book, The Intelligent Investor.

Politically motivated questions are always part of the meeting, though less so now that some of the questions are being filtered through the three journalists also on the stage.  That said, neither Buffett nor Munger tend to shy away from these questions even though they are of different political persuasions.  Last year, however, they both voiced support for the government officials who were in the cross hairs of the financial crisis of late 2008 and 2009.  I suspect that this year, there will be more than a few questions about elements of the recently passed healthcare legislation, the proposed financial reform legislation, as well as Berkshire’s Goldman Sachs (GS) investment given that Goldman is presently engaged in a civil case with the Securities and Exchange Commission.

I am frequently asked why I attend the meeting each year, after already having made the pilgrimage for several years in a row.  And it’s true, that at each meeting some of the questions—and some of the answers—are repeated.  It’s also true that one can learn about Berkshire, Buffett, and his models of the world, through his public appearances, op-ed’s, and some of the various biographies written about him.  Despite all this, though, there is still something unique about making the trip each year to Omaha, and meeting and sharing ideas with other like-minded individuals and investors.  The main reason that I continue to attend each year, though, is that I believe that if I can learn just one new thing about investing, finance, life, or frankly any other topic, the trip is more than worthwhile.  So, as usual, I’ll be out in Omaha this next weekend, hoping to learn as much if not more than I have learned in prior years, and I’ll also be there to provide some of my insights about the meeting here on buffettologist.com.  And if you’re planning to attend “Woodstock for Capitalists” as well, perhaps our paths will cross either at the Qwest Center or in downtown Omaha.  I’ll see you there.

As always, please do send me any questions or comments you may have.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

Berkshire Hathaway (BRK-B) Chairman and CEO Warren Buffett has often written and said, “I am a better investor because I am a businessman and I am a better businessman because I am an investor.”  This is not unlike Buffett’s mentor Ben Graham’s remark in The Intelligent Investor (and I am paraphrasing here) that all investing will be successful to the extent that it is business-like.  And while I couldn’t agree more with either of these statements, it is true that Buffett is probably better known now more as a businessman than he is as an investor.  This obviously begs the questions, if you had to pick one of these traits, would you conclude that Buffett is a better businessman or is he a better investor?

Let’s first examine Buffett as an investor.  For some time now Buffett and the phrase value investing have become synonymous.  He studied under the father of value investing Ben Graham at Columbia University, worked for Graham at the Graham-Newman firm, and then after leaving Graham’s partnership, formed his own firm, which ultimately became the foundation for Berkshire Hathaway. 

Buffett’s partnership was not unlike most modern day hedge funds.  He pooled money from various individuals, and invested their money in what he deemed to be undervalued securities and special situations.  In his partnership letters Buffett referred to the latter as “work-outs.”  Similar to many hedge fund managers of today, Buffett also didn’t take any of the profits for himself until he had earned a certain return on his investors’ capital each year.  This is now known as a hurdle rate.  Buffett’s compensation structure, though, was slightly different from most of today’s hedge fund managers.  Most of today’s managers charge a management fee (1 to 2 percent of assets) and then a performance fee (typically 20 percent of the profits) over the specified hurdle rate.  Buffett, on the other hand, charged 0 percent management fee, but took 25 percent of the profits over his specified hurdle rate.

And Buffett’s partnership results were fantastic, handily trouncing most widely accepted benchmarks (Dow, S&P, etc), and tending to do much better in down markets than in up markets.  This success meant that when most other money managers were busy trying to recoup losses, Buffett was able to further pull away from the pack.  He put fresh capital to work during down markets, thereby giving an even bigger boost to his long-term returns.  Not surprisingly, these results made Buffett fabulously wealthy by most standards.

Yet, by the late 1960’s amid a massive bull market, Buffett began to have trouble putting capital to work with new ideas—and was also likely tired of the money management business in practice—so he eventually closed down his partnership, and returned capital to his investors.

This action set the stage for the building blocks of what today is known as the investment conglomerate, Berkshire Hathaway.  While running Berkshire, an old New England textile manufacturer, was certainly more of an entree into running a business, Berkshire’s early results were fueled by its acquisition of insurance company National Indemnity.  And insurance became Berkshire’s compounding machine, as Buffett became able to source capital and low to negative costs, and invest it in undervalued securities—and eventually wholly owned business—with the benefit of insurance leverage (investable assets as a multiple of equity).

Thus, one would rightly argue, that in the first decade of Buffett’s control of Berkshire, the company’s growth was driven more by his prowess as an investor than his abilities as a businessman.  In fact, it wasn’t probably until the mid-1980’s, as more and more of Berkshire’s earnings were attributable to its wholly owned businesses that Buffett became known more as a businessman.

Over the ensuing years, this earnings stream has become a bigger and bigger component of Berkshire’s net worth, as the conglomerate now owns everything from utilities to insurance to retailers to railroads.  With this expansion, not only has Buffett’s reputation as a businessman grown, but he has become a go to source for commentary on the state of American—and in some cases global—businesses.

And while I generally agree with his reputation as a source of economic insights—and certainly follow his commentary myself—given his more than 60 years of studying businesses, economies, and human behavior, as well as the fact that he is seeing data almost daily on all of Berkshire’s businesses, I for one, still think his success is derived more from his abilities as an investor than as a businessman.

At Berkshire, Buffett doesn’t run any of the businesses on a day-to-day basis.  Nor does he individually manage the thousands of employees that work in all of the Berkshire subsidiaries.  In addition, I do not suspect that he regularly meets with individual clients face to face, nor does he likely regularly meet with regulators or suppliers or any number of other constituencies that most people running businesses (either large or small) have to deal with on a daily basis.           

What Buffett does do--and he has repeatedly said this himself--is to make major capital allocation decisions either in business acquisitions or in securities purchases.  In addition, his schedule is relatively open, which allows him to read a lot and to study other potential businesses that might fit under the Berkshire umbrella.  Throughout his career, he has worked through other managers by encouraging them and by giving them resources, and then sharing in their successes and failures.

And most likely, that is Buffett’s strong suit, staying back and making decisions, rather than having to get his hands deep in the mud like so many other businessman and leaders must do.  To that end, if you were to write a job description for him, it would probably sound more like a securities analyst than a typical CEO.

Given his track record and his job description, I tend to think of Buffett as a better investor than a businessman, though his investing is very much as Graham said, “business-like.”  And in a way, he selects investments for Berkshire in the same way as he ran the Buffett partnership.  The main difference, however, is that Berkshire exists in the public domain, which in my mind has made people more aware of him as a businessman, even though he seems to still be an investor at heart.

I’d love to hear your thoughts on Buffett as a businessman or Buffett as an investor, so please do send me any comments or suggestions you may have.

Justin 

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

This morning, Berkshire Hathaway (BRK-B) released its annual report detailing the conglomerate’s 2009 earnings, as well as Chairman Warren Buffett’s 2009 letter to shareholders.  There wasn’t anything completely unexpected in either of these, though there were some subtle changes in the letter.

Earnings

Let’s first do a brief review of Berkshire’s 2009 earnings, which by and large, were fine.  In aggregate, Berkshire’s book value per share climbed 19.8% this year after declining 9.6% last year, though this rebound was less than the 26.5% increase in the S&P 500 total return index last year.  Berkshire’s book value now stands at $84,487 per class A share.

Insurance continues to be the engine that drives most of Berkshire’s earnings, and all of Berkshire’s insurance businesses produced underwriting profits this year.  Auto-insurer Geico and multi-line reinsurer General Re were the biggest contributors to this segment’s profitability, with the Berkshire Hathaway Reinsurance Group also pumping in about $350 million in profit, which is good, but down from the $1.3 and $1.4 billion of the prior two years, respectively.  After a strong start in 2008, Berkshire’s municipal bond insurance arm’s growth was essentially non-existent, which is likely consistent with Berkshire being stripped of its AAA rating in the last year. 

All of Berkshire’s insurance businesses provide float—insurance premiums collected but not yet paid as claims—to invest over time, and the float from these operations now amounts to $62 billion.  Berkshire’s investment income of $4 billion was up from 2008 thanks to Berkshire’s investments in the higher yielding preferred stocks of Goldman Sachs (GS), General Electric (GE), Dow Chemical (DOW), Swiss Re, and Wrigley.  These preferred stock investments are surely better than the effective zero percent interest this capital would be earning if it were still in cash.

Berkshire’s other big area, utilities, also performed satisfactorily, though thanks to lower demand from a weak economy, this group’s earnings were down from the prior year.  That said, Berkshire’s utility earnings are fairly consistent given that these businesses are guaranteed a certain return on capital by regulators.  In addition, since Berkshire’s new purchase of the Burlington Northern Santa Fe railroad is also a business that is guaranteed returns on capital by regulators, it will also be included in this segment.  In some ways the railroad business is very akin to the utilities business in that it is highly regulated, returns are regulated, and each of the businesses also requires large amounts of capital expenditures.  That said--and as Buffett pointed out in the letter--the railroad business tends to be more cyclical, thanks in part to its more direct ties to the economy, than the utilities businesses.

Berkshire’s operating businesses produced the weakest results of any of the segments.  This wasn’t unexpected at all, given that many of them are tied directly to the consumer and the housing industry, in particular.  In fact, Berkshire’s Clayton Homes unit, Acme Brick, Shaw (carpet manufacturer), Home Services of America (real estate brokerage), Berkadia Commercial Mortgage (mortgage originator), and Johns Manville, to name a few, have their fate tied to the residential housing market in the US.  And until this segment of the economy recovers, these businesses will continue to face headwinds.  One bright spot in this segment was food distributor McLane, where profit continued to growth despite the weak economic environment.  It also appears that after suffering more than a $700 million loss in 2008, NetJets might break-even or turn a profit in 2010.

Shareholder Letter

One change in Chairman Warren Buffett’s shareholder letter was that it was more of a review of Berkshire’s vast array of businesses—and the praising of certain managers—rather than an opportunity for him to lecture or inform his readers of his thoughts on a particular part of the economy or aspect of business.  In fact, over the last couple of years he seems to have reserved his thought pieces more for New York Times op-ed articles or television appearances, rather than the shareholder letter, preferring to have that more focused on Berkshire.  In my opinion, this was probably tacitly done to ease the transition to an eventual successor, making the letter more about Berkshire’s businesses than Buffett’s viewpoints, thereby helping to solidify the Berkshire brand.

While that seemed to be the overriding theme I took away from the letter, there were also a couple items of note, in my opinion.  Buffett spent time discussing the disadvantages of size for investing and Berkshire, as well as for companies in general.  Buffett continued to inform his readers that given the copious amounts of capital that Berkshire generates and the conglomerate’s already large size, it will be impossible for Berkshire to deliver the rates of return over the next several years that it generated for shareholders during the last 45 years.  This is nothing new, but just another gentle reminder that size is inversely correlated to returns when thinking about investments.  What’s more, he more deeply explained that despite Berkshire’s large size, it’s decentralized operating structure should continue to allow the conglomerate to operate more efficiently and nimbly than its other large company peers.  The reasoning for this of course is not new, but that pushing decision-making down to the folks on the ground, generally makes for better decisions and gives these managers a more owner-oriented focus, which is vastly different from the layers of bureaucracy that plague most large organizations.

In the one or two areas that Buffett did deviate from talking about Berkshire, he took aim at CEOs who were able to walk away and profit in spite of their companies failing and costing shareholders and the government billions of dollars.  He explicitly stated that while CEOs have had the opportunity for many rewards as part of their employment, they certainly need some “meaningful sticks” to keep their behavior in check.  Buffett also took aim at those CEOs and directors who use stock as a currency for making an acquisition.  I think this comment was in part to further explain his thinking in using some of Berkshire stock to complete the Burlington Northern deal, as well as possibly taking a tacit jab at Berkshire holding Kraft (KFT), which issued in Buffett’s view undervalued stock to purchase Cadbury earlier this year.

You might also be interested to that I recently made an appearance on Fox Business News, which I have linked here.  This blog was also recently mentioned in a New York Times article linked here, and an Associated Press article linked here.

Please do send me any questions or comments you may have.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

A colleague of mine, Matt Nellans, and I have been discussing Berkshire Hathaway’s (BRK-B) proposed acquisition of Burlington Northern Santa Fe (BNI).  And to put it mildly, the Burlington purchase is very different from most other acquisitions Berkshire Chairman Warren Buffett has ever completed.  In order to complete the deal, Buffett is issuing debt, giving up some of Berkshire stock, splitting Berkshire stock, and paying top dollar to acquire the railroad company—all of which are actions that are very uncharacteristic of the Berkshire Chairman.

Let’s first look at Burlington and ask why would Buffett want the railroad company.  To begin, the competitive dynamics of the railroad business have improved over the last several decades.  Consolidation in the industry, improved efficiencies in transporting via rail, and higher fuel prices have all made railroads a more efficient means of transporting goods compared to using trucking companies.  Furthermore, Burlington’s footprint is over the western states of the country.  In simple terms, goods and materials are shipped via boat from Asia and arrive into the country in Long Beach or Oakland, and then need to be transported long distances to Dallas, Chicago, New York or elsewhere.  Who better to transport these goods than Burlington?  My colleague Matt puts it even more succinctly, when he refers to the United States as a human body, and posits that Burlington is the proverbial circulatory system of the western states of the country.  The body simply can’t function without its circulatory system running at full steam.

Buffett is also noted for wanting to acquire or make investments in businesses that are shielded from competition.  He has typically used the moat and castle analogy to illustrate this concept, preferring businesses that have a wide moat around their franchises.  In Burlington, if someone wanted to install a new railroad in the western states, not only would they need billions and billions and billions of dollars for the labor and materials, but they would also need government approval, rights of way agreements, and significant land holdings on which to place their rail.  Furthermore, they would then need to build additional infrastructure around their rail, acquire shipping contracts, purchase equipment, purchase fuel, and the list goes on.  Thus, Burlington is shielded from competition by not only the high fixed costs of starting a new railroad, but also by government.  And as Matt points out, Burlington is guaranteed a decent return on capital by law, making it even more difficult for someone to penetrate its business.  To be sure, the moat around Burlington is wide.

If we then examine the way Berkshire is financing the deal, it perhaps illuminates other factors in Buffett’s thinking.  While Berkshire has issued debt in the past, it has typically been done to finance loan portfolios, and as Matt points out, the durations have been matched.  In Buffett’s New York Times op-ed pieces he has further warned about the risks of price increases, or inflation, coming at some point in the future. And if he truly believes that inflation is a major risk, it would make sense to issue debt—some of it fixed rate--to finance the deal, as the burden of those debt payments would decline over time if inflation were to heat-up.  In addition, any capital expenditures that Burlington makes today will be cheaper than they would in the future if inflation were to heat-up.  Finally, as Matt pointed out to me, since Burlington is guaranteed a decent return on capital, it may be shielded from future inflationary pressures since it would be able to pass on price increases to keep earning its return.  Think of this as utility type earnings.

All of these characteristics--including the inflationary ones--may explain why Berkshire was willing to pay-up so much to buy Burlington.  Not only could one argue that the absolute price of the acquisition was on the higher side, but Buffett himself indicated that in his view he was using modestly undervalued stock as currency to complete the deal.  Furthermore, given Buffett’s historical views on stock splits, it seems odd that he would agree to one now unless he really wanted to bring Burlington into the Berkshire umbrella.  Given all of this, Matt probably put it best, when he said that not only is Buffett’s purchase of Burlington an all-in bet on the United States, but so is it an all-in bet on future inflation.

Please do send me any questions or comments you may have, and my thanks to Matt Nellans for his contributions to this article.

You might also be interested to know that this blog was featured in a Crain’s article, which I have linked here.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

On Tuesday Standard & Poor’s (S&P) indicated that it plans to include Berkshire Hathaway’s class B shares in both the S&P 100 and S&P 500 indices once the investment conglomerate completes its acquisition of Burlington Northern Santa Fe (BNI) next month.  In actuality, Berkshire will be replacing Burlington Northern in each of the indices.

As I’ve written previously, this decision came about because of Berkshire’s recent 50 for 1 stock split of its class B shares.  Not only will this split allow Berkshire to complete its acquisition of Burlington, but also since it will also increase the trading volume in Berkshire’s shares, the conglomerate has finally met all of S&P’s criteria to be included in its published indices.  This should—and has—created demand for Berkshire’s shares, as the myriad of large funds that mirror the S&P 500 index will now be forced to purchase a block of stock equal to Berkshire’s proposed weight in the index.  This demand for the shares will and has benefited Berkshire’s existing shareholders, and also given the long-term orientation of the index funds, should add a bevy of long-term and stable owners to Berkshire’s registry.

This addition to the index is also somewhat unique in that Berkshire already owns substantial interests in many existing and large S&P 500 constituents—think Coca-Cola (KO), Kraft (KFT), etc.  What this effectively amounts to is sort of cross-ownership in a subset of some of the stronger businesses already in the S&P 500.  What is more, some of Berkshire’s wholly owned businesses—think the proposed acquisition of Burlington—would also be included in the S&P 500 index had they not already be purchased by Berkshire.  So in effect, Berkshire could be thought of as a partial subset of the S&P 500, which is then included—or owned—by the S&P 500 index itself.

Please do send me any comments or questions you may have.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

In what was probably a foregone conclusion, Berkshire Hathaway (BRK-B) shareholders today voted to approve Berkshire’s proposed 50-for-1 spilt of its class B shares, which will ultimately allow the conglomerate to complete its proposed purchase of Burlington Northern Santa Fe (BNI).  Given that Berkshire didn’t want to disadvantage small versus large shareholders of Burlington in being able to take a mix of stock and cash when the deal closes, it decided to split its shares.

While splits are generally un-economic events, this split could have an impact on Berkshire’s existing shareholders.  For some time, Berkshire—despite being on of the largest companies in the country—has not been included in the S&P 500 stock index.  Now with the split, as well as Chairman Warren Buffett continuing to gift his class A shares (which each will now convert into 1500 class B shares) to the Bill and Melinda Gates Foundation, Berkshire’s trading volume is sure to increase, and it could someday potentially be included in the index.

Should this eventuate—which it probably will at some point—there could be a huge demand for Berkshire shares given that all the funds that replicate the S&P 500 index would be forced to purchase Berkshire’s shares.  This will also be sure to change Berkshire’s long-term shareholder base, which has been slowly cultivated over the last several decades.  That said, it’s not as if the new shareholders will all become very short-term oriented, and even the eventual index fund buyers would be stable holders of the stock, as well as many of the already existing long-term owners.  In fact, the split could actually benefit those folks too.  Since many are probably in the spending years of their life, it could allow them to slowly liquidate part of their Berkshire holdings.

Other Berkshire News

One of Berkshire’s other stock holdings, Kraft (KFT), recently inked a deal to purchase British confection maker Cadbury PLC.  Just over a fortnight ago, Berkshire publicly indicated that it was opposed to Kraft issuing more shares to complete the acquisition given that Berkshire believed Kraft to be undervalued, which would have made the purchase even more expensive for Kraft.  And today, despite Kraft paying more in cash, Berkshire also said in public comments that it wasn’t overly excited that the deal was consummated.

I don’t think anyone would dispute the strength of the brands owned by both Kraft and Cadbury, but what is being called into question is the price being paid to combine the brands of these two companies.  One would think that there would have to be a lot of growth from the combined entity or a lot of cost reducing synergies (consultant speak) combing these two businesses to come close to justifying the price.  It is further strange that Kraft’s management went ahead with the deal even thought its largest owner wasn’t very hot on it.

Please do send me any comments or questions you may have.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

Swiss Re indicated today that it has inked yet another deal with Berkshire Hathaway (BRK-B), this time entering into a reinsurance transaction whereby Berkshire would assume some of the liabilities of Swiss Re’s U.S. life-reinsurance business.

The deal is probably good for both parties, as it will allow Swiss Re to free-up capital to be deployed in other areas.  Given the intense capital requirements in the U.S. life insurance business and Swiss Re’s financial difficulties last year, this is a prudent move for its overall business, and will potentially allow it to expand into more profitable areas in the insurance markets.

For Berkshire, this deal further deepens its relationship with Swiss Re.  Berkshire already owns both common stock and convertible debt in Swiss Re, as well as already having existing reinsurance contracts with Swiss Re, which primarily give Berkshire exposure to the European property and casualty markets.  This deal really won’t move the needle much for Berkshire, but it does give it additional exposure to the life insurance market as well as more premiums to invest over time.

On other matters, Berkshire’s shareholder meeting is set for Wednesday, where shareholders will vote to approve Berkshire’s proposed 50-for-1 stock split, which will help Berkshire to complete its proposed acquisition of Burlington Northern Santa Fe (BNI).  Check back here later this week for any updates on the shareholder meeting.

You also might be interested to know that this blog was mentioned in a Reuters article, which I have linked here.

Justin

Copyright © 2010 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

 

On the side of a country road a few months ago stood a young farmer with a sign advertising apples he had grown that were for sale for a mere five dollars a bushel.  To the casual passer-by this young farmer might have gone un-noticed, just another person trying to make his way through the turbulent economic times of the last few years, but—in my mind at least—what this farmer really represents is a businessman at the most basic level.  This young farmer is a person who created (grew) something that people want, and is now directly selling the fruits of his labors—at a great price too—directly to his customers.  Not only is this what the exchange of goods is really about, but, in my opinion, this farmer should also be viewed as a classic entrepreneur.

Ironically, when the great majority of people—or more poignantly the popular media--refer to the essence of business, they are often referring to what is known to many as “Corporate America.”  Large organizations with layers and layers of people, most of which are simply pushing reams and reams of papers back and forth between each other, are put forth as role models for what folks who want to be viewed as “successful” should strive to become.  Never mind that very few of these people have ever even produced the actual good or service their companies purport to create, nor have any of them ever even looked their end customers in the eye while booking a sale.  They are simply caught up in all the frictional costs of running a business, and for many of them, they are able to accumulate a large fortune by just siphoning off some of these costs for themselves. 

And now, many of these folks are finding that their old way of existing in Corporate America just doesn’t work any more.  The large organizations that they work—or used to work—for are in chaos, as they recalibrate their businesses and look for new ways to rein in costs and to gain revenue.  In fact, because many of these large corporations employ so many people that have always just pushed paper back and forth, these companies are finding it increasingly difficult to find ways to create new products and services.  Their culture just doesn’t support it.  Amid all of this, many folks previously employed in “Corporate America” now find themselves facing a crossroads. 

In Ayn Rand’s great novel, The Fountainhead, two of the central characters, Howard Roark and Peter Keating, pursue careers in utter and complete contrast to each other.  Roark, the hero of the novel, an uncompromising entrepreneur, has a vision for his life’s work and relentlessly pursues making it a reality.  Roark loves what he does, and has made his passion his profession.  Keating, on the other hand, is in the same profession as Roark (architecture), but molds himself and his work in a way that he thinks others would like to view him, and strives for accumulating material wealth over the enjoyment of what he does.  In so doing, Keating uses backroom dealings, bribes, and other chicanery to win assignments and accumulate wealth.  Roark, on the other hand, lets his work—and his passion for his work—speak for itself, with each building serving as his calling card.  Even though it was a more difficult and long road for Roark to win some of his initial projects, his adherence to his core principles--in both architecture and business—ultimately allow him to flourish.  Roark’s wealth is doing what he loves.  Keating was just the opposite.  The fact that his view of success was dependent on others, that he didn’t actually enjoy his work, and that he used conniving ways to win projects, left him a hollow, desolate, and unhappy man.

As individuals and companies recalibrate and try to emerge from the economic downturn of the last few years, many folks’ view of what they previously thought was successful must change.  And in my mind, it can change for the better.  Now that so many others are busy retrenching, it finally offers a choice--and an opportunity--for many individuals to strike out on their own, and to create businesses around their passions.  In effect, if many folks are wired correctly, they can finally eschew the Peter Keating’s of the world in Corporate America—those who really don’t do much and create little of value---and pursue a more Roark-like existence---where success is defined by truly loving what one does and creating something of value for customers.  After all, if one does, riches—in one form or another—are sure to follow.

What got me thinking about all this again was the recent town hall meeting Berkshire Hathaway Chairman Warren Buffett and Microsoft founder Bill Gates had at Columbia University in New York, where they encouraged students—and the public at large, really—to not go for the highest paying job, but to rather to do work for which they are passionate about for either themselves or for someone they admire.  Now, you might say that this is easy for them to say all this because after all, they are already both billionaires.  I, however, would disagree, and argue that the reason that they are both billionaires is because they followed their passion and were able to create a business out of it.  Their wealth is simply the outcome of their work and their passion.

In some way both Buffett and Gates were wired to pursue life and business much more like Rand’s hero Howard Roark than Corporate America’s Peter Keating.  Now, perhaps, many others may have the chance to do or create something new in business too.  The only question is whose path will they choose to emulate.

I hope that 2009 has treated each of you well, and my best wishes to you and your families for a happy and safe 2010.

 

Justin

Copyright © 2009 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

There is a lot of discussion these days about firms that get so large that their failure—or bankruptcy, more poignantly--could have the potential to destroy the entire financial system.  To wit, this is likely why there were so many government interventions and nationalizations of large financial firms over the last year.  AIG, Fannie Mae, Freddie Mac, the list goes on, were all deemed to be “too big to fail.”

But by the time the government decided to step in and rescue these companies from a formal bankruptcy process, it was evident that they had already failed.  These companies failed their customers, their shareholders, their employees, as well as the business community at large.  Perhaps the question that should be asked is not whether such and such firm is too big to fail, but rather, why is it that big firms fail?

What one generally hears in the post-mortem analysis of a business failure is that the firm’s business had changed, or that it couldn’t expand, or that it had too much leverage.  And each of these reasons may be an easily describable symptom of a business failure, but in my opinion, the real reasons are of a more human nature.

As companies grow, more and more people are added to the particular organization, often creating layers and layers of managers to “help” run the business. In my opinion, what these layers are really doing is trying to corral the growing number people, rather than focusing on running the business.  The resultant bureaucracy causes, in my opinion, most people in the organization to pursue a perverse set of incentives, often at complete odds with good business decisions and sound practices.

I would argue that most managers—even the senior ones—in large organizations spend at least forty percent of their time on trying to insulate themselves from political attacks from their peers, or even worse engaging in un-productive activities to make themselves appear to be intelligent, or to look like a good manager.  In other words, that is almost half of the workday spent on what I would call “political nonsense” rather than taking care of new or existing customers.  In this case, wouldn’t time simply be better spent being a good manager rather than trying to look like you’re a good manager?

While some of the self-preservation activities described above are in direct opposition to running a good business, they can create even more insidious behavior.  Often when other managers observe this behavior they are compelled to engage in similar behavior for fear of being passed over in the promotion ranks or earning less compensation.  Furthermore, this type of behavior often compels certain managers to refrain from sharing bad news or problems with their superiors for fear of them blaming the messenger, rather than appreciating the honesty, and helping to craft solutions to the problem.  This type of behavior is a disease that once an organization becomes infected with, it is almost impossible to eradicate.

And even worse, when solutions are somehow crafted among all this mess, most managers—especially the senior ones—are often apt to engage in groupthink.  What this means to me, is that they make decisions or look for solutions that are least offensive to the group of individuals making the decision, rather than doing what is best for clients or shareholders.  In other words they make decisions out of fear.

As a result of all this, you begin to have organizations that are completely dysfunctional, and at times—like last year for example—non-functional.  And over time, as many of the behaviors described above become more prevalent, these companies begin to implode from within.  And all of a sudden, folks realize that customers are fleeing, their cash is dwindling, and as a result their debt burden becomes an outward symptom of an already bigger problem.  By the time the outside world—or even some folks in senior management—begin to realize it, it is often too late, as these firms have spiraled out of control.  Perhaps it should be said that these firms aren’t too big to fail, but rather, that they are too big to manage.

There are, of course, exceptions to these types of companies.  Some large organizations, for example, are run on a de-centralized basis, which typically pushes decision making down to the people who actually interact with customers on a daily basis, and furthermore makes these managers feel like they have a more vested stake in the business.  In my opinion, this ownership mentality forces folks to quash any politically motivated behavior, and also compels them to show employees who engage in these non-productive activities the door.  So while the large bureaucracies are spending their time infighting, the de-centralized firms are focusing on stealing their customers.

Another exception is smaller businesses, where the owners spend time getting to better know their customers, and can also be much more flexible for their customers than can larger organizations. In fact, de-centralized firms are, in effect, a collection of smaller businesses owned by a larger parent.  Berkshire Hathaway (BRK-B) is a good example of this.  Furthermore, I suspect that now as more and more folks begin to realize that large companies are more focused on themselves rather than their clients, many clients will turn to smaller businesses—or decentralized ones--where they know and trust the decision maker. 

You might also be interested to know that I recently appeared on Fox Business News, which I have linked here.

I always welcome dialogue with my readers, so please feel free to send me any comments or questions you may have.

Justin

Copyright © 2009 Buffettologist.com

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.

In what has seemed like an incredibly busy year for Berkshire Hathaway (BRK-B), the investment conglomerate continued to remain very active during the third quarter, re-positioning some of the holdings in its equity portfolio.  Berkshire, today, released its Form-13F, which details its equity holdings as of September 30, 2009.  And while typically Berkshire only makes one or two moves during a particular quarter, during this period there were a number of changes to note.

New Positions and Additions

Berkshire almost doubled its position in low-cost retailer Wal-Mart (WMT) during the third quarter, adding almost 18 million shares to its position.  As becoming more frugal has recently come into vogue (wasn't it always cool?), Wal-Mart's low prices have attracted more and more customers. Yet, despite its business improving, Wal-Mart's stock has almost entirely missed out on the rally since the market made its lows in March 2009.  As such, for a larger buyer like Berkshire, Wal-Mart is big enough to soak up a bunch of capital, in addition to the possibility that the stock's price/value proposition has also likely improved.  Hence, its not too surprising-in hindsight, of course-that Berkshire made this move.

Berkshire also established a new position in European consumer products company Nestle (NSRGY).  Nestle is--in many ways--a classic Berkshire investment, given that it is a large conglomerate with a stable of world-class brands that it would be almost impossible for a competitor to replicate.  It is also notable because Nestle competes with Kraft (KFT), another Berkshire holding.  Kraft is currently in a hostile takeover bid for Cadbury PLC (CBY), and while strategically this deal could benefit Kraft, it is much more difficult to justify the price that Kraft may have to potentially pay for Cadbury to consummate the deal.  As such, by initiating a position in Nestle, Berkshire may be hedging its bet to some extent.

Exxon Mobil (XOM) is another new position for Berkshire.  In my opinion, this seems to fit with a lot of Berkshire's moves over the last few years.  Through its utility businesses, its investment in ConocoPhillips (COP)-which, I might add Berkshire has been selling to create tax losses-as well as Berkshire's recent purchase of railroad Burlington Northern  (BNI), there seems to be an implicit bet on higher energy prices through many of Berkshire investments.  Perhaps Exxon Mobil is another investment made with this in mind, or perhaps it has simply done to avoid wash sales-thereby eliminating the tax benefit-of re-buying Conoco shares at current prices.

There were a number of other purchases that Berkshire made during the third quarter.  Berkshire continued to increase its holdings of Wells Fargo (WFC), which isn't too surprising given that Wells has issued new shares over the last year.  Berkshire also initiated a small stake in Republic Services (RSG), a waste disposal company.  Finally Berkshire also initiated a very small stake in Travelers (TRV), a large domestic insurance company.

Eliminations and Subtractions

As I have already mentioned, Berkshire continued to sell some of its stake in integrated oil company ConocoPhillips, which Berkshire has indicated will create tax losses for the conglomerate to use to shield future taxes.  Berkshire also trimmed its position in NRG Energy (NRG).  Berkshire also reduced it stakes in SunTrust Banks (STI) and health insurer Wellpoint (WLP).  I'll also note that Berkshire has been trimming its positions in the health insurance companies for some time now.  Earlier in the third quarter, Berkshire also indicated that it has continued to sell its position in bond rating firm Moody's (MCO), whose brand and business has likely been dramatically impacted in the aftermath of the credit crisis.

Berkshire fully eliminated one position during the quarter, selling its entire position in Wabco Holdings (WBC), which Berkshire received when Wabco was spun-off by old Berkshire holding American Standard Companies.  American Standard then changed its name to Trane, and was later acquired by Ingersoll-Rand Company (IR), a current Berkshire holding.  Berkshire also sold its entire position in Eaton (ETN) during the second quarter.

Given Berkshire's pending acquisition of Burlington Northern, it has also been indicated that Berkshire will sell its stakes in Norfolk Southern (NSC) and Union Pacific (UNP), the conglomerate's other railroad holdings.

Unchanged Positions

--American Express (AXP)

--Bank of America (BAC)

--Beckton Dickinson (BDX)

--Carmax (KMX)

--Coca-Cola (KO)

--Comcast (CMCSA)

--Comdisco (CDCOR)

--Costco (COST)

--Gannett (GCI)

--General Electric (GE)

--GlaxoSmithKline (GSK)

--Home Depot (HD)

--Ingersoll-Rand

--Iron Mountain (IRM)

--Johnson & Johnson (JNJ)

--Kraft (KFT)

--Lowes (LOW)

--M&T Bank (MTB)

--Nalco Holding (NLC)

--Nike (NKE)

--Procter & Gamble (PG)

--Sanofi Aventis (SNY)

--Torchmark Corp (TMK)

--US Bancorp (USB)

--USG Corporation (USG)

--United Parcel Service (UPS)

--United Health Group (UNH)

--Washington Post (WPO)

--Wesco Financial (WSC)

You might also be interested to know that this blog was mentioned in a Reuters article, which I have linked here.

As always, I welcome dialogue with my readers, so please do email me if you have any comments or questions you may have.

Justin

Copyright © 2009 Buffettologist.com

 

The content contained in this blog represents the opinions of Mr. Fuller. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business.  This content is intended solely for the entertainment of the reader, and the author.