Ticker: BRK.B BERKSHIRE HATHAWAY, INC.
Sector: Financial
Industry: Property and Casualty
Insurance I. Berkshire Overview
Description:
Recommendation: HOLD Berkshire Hathaway, Inc. and its subsidiaries primarily engage
in the insurance and reinsurance of property and casualty risks
business. It provides automobile, multi line, and credit and
Pricing
income protection insurance; excess-of-loss reinsurance and
Closing Price $3,948.50 (9/11/07)
52-wk High $4,000.00 (9/6/07) quota-share coverage; and reinsurance for life, accident, and
52-wk Low $3,120.00 (9/26/06) health risks. The company also manufactures and distributes
clothing, including uniforms for police, fire, postal, and military
Stop-Loss $3,450.00 (rec.) markets; and footwear, as well as manufactures and distributes
clay bricks, concrete blocks, and cut limestone; building
products of other manufacturers, including glass block and other
Market Data masonry products; and sells ceramic floor, and marble and
Market Cap $183.73B granite stones. In addition, Berkshire Hathaway produces
Total assets $248.44B general purpose coatings; fiber glass wool insulation products
Trading vol 1.41M (3mon avg) and pipe and duct insulation products; roofing systems and
components; and non woven mats, fabrics, and fibers. Further, it
Valuation
engages in the provision of manufactured homes, commercial
EPS (ttm) $260.68 real estate and consumer receivable financing, and annuity
P/E (ttm) 15.19 contracts; and ownership and management of manufactured
Div Yield N/A housing communities, as well as provision of training to
operators of aircraft and ships. Additionally, the company
provides rental furniture and accessories; leases transportation
Profitability & Effectiveness (ttm) equipment; offers wholesale distribution and logistics services;
ROA 4.65% and retails household appliances, electronics, computers, and
ROE 11.34% other home furnishings. Further, it provides tufted and woven
Profit Margin 10.79% carpets, and laminated flooring; home cleaning systems;
Oper Margin 16.66%
confectionery products; and wood and metal moulding,
Gross Margin 42.80%
matboard, foamboard, glass, equipment, and other framing
1 Class B share is worth 1/30 of a supplies, as well as publishes news editions and sells kitchen
Class A share and has 1/200 of the tools. The company was founded in 1889 and is headquartered
voting power. in Omaha, Nebraska. Berkshire Hathaway, Inc. acquired
Business Wire in March 2006.
A full list of Berkshire subsidiaries is attached (Exhibit A)
Nathan Jones
nathan.jones@mizzou.edu
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II. The Competitive and Economic Environment
Competition
DIRECT COMPETITOR COMPARISON
BRK-A BX Pvt1 Pvt2 Industry
Market Cap: 183.78B 5.96B N/A N/A 1.35B
Employees: 217,000 770 2,5001 3992 610
Qtrly Rev Growth (yoy): 13.10% 200.50% N/A N/A 4.70%
Revenue (ttm): 111.86B 2.44B 245.90M1 4.41B2 910.45M
Gross Margin (ttm): 22.49% 70.55% N/A N/A 30.05%
EBITDA (ttm): 21.24B 1.62B N/A N/A 167.41M
Oper Margins (ttm): 16.66% 65.87% N/A N/A 19.97%
Net Income (ttm): 12.07B 3.46B N/A 1.11B2 117.55M
EPS (ttm): 7820.276 13.304 N/A N/A 3.43
P/E (ttm): 15.19 1.72 N/A N/A 9.00
PEG (5 yr expected): N/A 0.8 N/A N/A 0.91
P/S (ttm): 1.64 2.33 N/A N/A 1.22
BX = The Blackstone Group
Pvt1 = HM Capital Partners LLC (privately held)
Pvt2 = KKR & Co. L.P. (privately held)
Industry = Property & Casualty Insurance
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= As of 2007 2 = As of 2006
Because one of Berkshire’s main business functions is buying other companies, its main
competitors are private equity firms. The only publicly traded company that can be considered a
competitor of Berkshire’s non-insurance practices is The Blackstone Group. When compared to
Blackstone and the industry, BRK lags behind Blackstone in most categories and is generally on
par for the industry. These results are skewed, however, because BRK is not a pure play private
equity firm and does not use debt to acquire companies, as Blackstone does. Also, BRK acquires
a company with the intentions of improving and holding that company. Private equity firms
intend to buy a company and then sell it to the public again in a few years.
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BRK-A VS. INDUSTRY LEADERS
BRK-
Statistic Industry Leader BRK-A A
Rank
Market Capitalization BRK-A 183.78B - 1 / 97
P/E Ratio (ttm) AFFM 93.00 15.19 11 / 97
PEG Ratio (ttm, 5 yr expected) PMACA 3.53 N/A N/A
Revenue Growth (Qtrly YoY) UVE 490.40% 13.10% 29 / 97
EPS Growth (Qtrly YoY) UVE 712.10% 32.50% 31 / 97
Long-Term Growth Rate (5 yr) DR 26.67% N/A N/A
Return on Equity (ttm) UVE 128.92% 11.34% 75 / 97
Long-Term Debt/Equity (mrq) AZ 6.263 0.291 26 / 97
Dividend Yield (annual) UVE 5.80% N/A N/A
Berkshire’s statistics are somewhat above average when compared with competitors in the
insurance industry.
Risks
Insurance subsidiaries’ investments are unusually concentrated. Compared to other
insurers, Berkshire’s insurance subsidiaries keep an unusually high percentage of their
assets in common stocks and diversify their portfolios far less than is conventional. A
significant decline in the general stock market or in the price of major investments may
produce a large decrease in Berkshire’s shareholders’ equity, and may precipitate
recognition of such losses in the statement of earnings. Decreases in values of equity
investments could have a material adverse effect on Berkshire’s book value per share.
Berkshire is dependent for its investment and capital allocation decisions on a few key
people. Investment decisions and all major capital allocation decisions are made for
Berkshire’s businesses by Warren E. Buffett, chairman of the board of directors and
CEO, age 76, in consultation with Charles T. Munger, vice chairman of the board of
directors, age 83. If for any reason the services of Berkshire’s key personnel, particularly
Mr. Buffett, were to become unavailable to Berkshire, there could be a material adverse
effect on the Company. However, Berkshire’s Board of Directors has identified three
current Berkshire subsidiary managers who are capable of being CEO. Berkshire’s Board
has agreed on a replacement for Mr. Buffett should a replacement be needed currently.
The Board continually monitors this matter and could alter its current view in the future.
Management believes that the Board’s succession plan, together with the outstanding
managers running Berkshire’s numerous and highly diversified operating units helps to
mitigate this risk.
Unfavorable economic and political conditions in international markets could hurt
Berkshire’s businesses. Historically, Berkshire has derived a relatively small amount of
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its revenues and earnings from international markets. In recent years, international
business was concentrated in the insurance businesses, which are conducted primarily in
Western Europe, United Kingdom, Japan, Australia and other regions where relatively
stable political and economic conditions have prevailed. As a result of Berkshire’s recent
business acquisitions including 80% of IMC on July 5, 2006, Berkshire may be subject to
increased risks from unstable political conditions and civil unrest in international
markets. IMC’s headquarters are located in Israel and substantial business operations are
conducted in Israel and Korea.
As with any insurance company, Berkshire has significant risks associated with natural
disasters. BRK is one of the main reinsurers in Louisiana and is very susceptible to
losses resulting from hurricanes.
III. Valuation of Berkshire
Because of Berkshire’s unique business model (i.e. financing the acquisition of entire companies
through the float from their insurance business), the company is very hard to valuate. I valued
Berkshire using every valuation method I know, but could not get anything even remotely
appropriate. One reason for this is Berkshire reinvests the earnings of the companies it owns.
Buffett uses a term “look through earnings” to describe part of the value of Berkshire.
The prior couple of analysts discovered this same valuation problem and used a valuating engine
called Berkshire Hathaway Intrinsivaluator to value the company. The engine uses four preset
methods with the following assumptions:
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Optimistic - these assumptions are designed to project realistic growth rates discounted
at the long term treasury rate. The investments are valued at the market and the float is
assumed to return a historical mix of 50% equities (historical return 11%) and 50% fixed
income (historical return 6%). One half of the deferred taxes are considered liabilities.
Realize though, in using the current long bond as a discount rate, that this value reflects a
comparison to that of a risk free alternative.
Cost of Capital - this assumption set is the same as the optimistic set except that the
growth is discounted based on the weighted cost of capital. The float pool is assumed to
be using a policy of 50% equity and 50% fixed income so the discount rate for the float is
a 50/50 blend of historical equity return and current treasury rates.
Conservative - these settings configure the calculator to approximate the method
suggested by the table of investments and earnings in the chairman's letter of the annual
report. It values the investments at the market, the float as equity (by setting float return
to discount rate and assuming no growth), and the subsidiary earnings discounted at the
current treasury rate. The deferred tax liability is ignored.
Liquidation - like the conservative assumptions, the investments are valued at the
market, but assumed converted to cash. This means that the entire deferred tax liability is
subtracted from the value. The float is valued as equity and the subsidiary earnings are
valued at 10x after tax earnings.
The intrinsic value of BRK.B per share is:
Optimistic: $6,493
Cost of Capital: $5,104
Conservative: $4,842
Liquidation: $3,402
All scenarios, except total liquidation, suggest that Berkshire is undervalued. Even the
conservative estimates imply BRK is 22.6% undervalued. This provides a large margin of
safety.
IV. Firm Financials
Financial Statement Analysis
Exhibit B & C: Income Statement and Balance Sheet
Income Statement:
Revenues grew by 19.51% in 2006 and 10.85% in 2005
Net income grew by 29.16% in 2006 and 16.69 in 2005
Balance Sheet:
The debt to equity ratio is 0.291, which is low relative to other firms in the industry
The book value per Class B share is $2,483.37, meaning BRK.B trades at only 1.59 times
book value
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Financial Condition
Ratio 2006 2005
Return on Equity 10.16 9.32
Return on Assets 4.43 4.30
Recommendation
Berkshire Hathaway is undervalued according to the valuation method utilized in this
report. As long as Warren Buffett continues to pick winners, Berkshire will be a great stock to
own. Two of his most recent acquisitions, Burlington Northern and Iscar Metalworking
Companies, have yet to prove whether they were good investments.
While Berkshire is seemingly underpriced, several threats are undeniable. First,
Berkshire is strongly exposed to downside risk along the southern coast as they are the lead
reinsurer in the post-Katrina areas. Second, IMC is located in Israel and does a substantial
amount of business in Korea; two of the most unstable areas in the world. Finally, Berkshire was
resurrected by Warren Buffett, who built it into the company it is today. When Mr. Buffett is no
longer able to make the investment decisions he has made over the past 45 years, the company’s
enormous success may go with him. The board of directors assures investors they have prepared
for this inevitable event, but it is still a very real risk.
Berkshire Hathaway is a very fundamentally sound company that is undervalued. I
recommend HOLD.
Stop Loss = $3,450.00
Value at Risk = ($3,948.50 - $3,450.00) * 15 / $1,389,279.80 = 0.54%
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Exhibit A:
Acme Brick Company International Dairy Queen, Inc.
Applied Underwriters Iscar Metalworking Companies
Ben Bridge Jeweler Johns Manville
Benjamin Moore & Co. Jordan's Furniture
Berkshire Hathaway Group Justin Brands
Berkshire Hathaway Homestates Companies Larson-Juhl
Borsheims Fine Jewelry McLane Company
Buffalo NEWS, Buffalo NY Medical Protective
Business Wire MidAmerican Energy Holdings Company
Central States Indemnity Company MiTek Inc.
Clayton Homes National Indemnity Company
CORT Business Services Nebraska Furniture Mart
CTB Inc. NetJets®
Fechheimer Brothers Company The Pampered Chef®
FlightSafety Precision Steel Warehouse, Inc.
Forest River RC Willey Home Furnishings
Fruit of the Loom® Scott Fetzer Companies
Garan Incorporated See's Candies
Gateway Underwriters Agency Shaw Industries
GEICO Auto Insurance Star Furniture
General Re TTI, Inc.
Helzberg Diamonds United States Liability Insurance Group
H.H. Brown Shoe Group Wesco Financial Corporation
HomeServices of America, a subsidiary of
XTRA Corporation
MidAmerican Energy Holdings Company
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Exhibit B: Income Statement
Financial data in U.S. Dollars
Values in Millions (Except for per share items)
2006 2005 2004 2003 2002
Period End Date 12/31/200612/31/200512/31/200412/31/200312/31/2002
Total Premiums Earned 23,964.0 21,997.0 21,085.0 21,493.0 19,182.0
Net Investment Income 1,811.0 6,196.0 1,636.0 3,304.0 918.0
Realized Gains (Losses) 0.0 0.0 0.0 0.0 0.0
Other Revenue, Total 72,764.0 53,470.0 51,661.0 39,062.0 22,135.0
Total Revenue 98,539.0 81,663.0 74,382.0 63,859.0 42,235.0
Losses, Benefits, and
20,126.0 21,944.0 19,534.0 19,775.0 19,580.0
Adjustments, Total
Amort. Of Policy Acquisition
0.0 0.0 0.0 0.0 0.0
Costs
Gross Profit 78,413.0 59,719.0 54,848.0 44,084.0 22,655.0
Selling/General/Administrative
5,932.0 5,328.0 4,989.0 4,228.0 3,033.0
Expenses, Total
Depreciation/Amortization 0.0 0.0 0.0 0.0 0.0
Interest Expense (Income), Net
1,724.0 723.0 721.0 472.0 725.0
Operating
Unusual Expense (Income) 0.0 0.0 0.0 0.0 0.0
Other Operating Expenses, Total 53,979.0 41,400.0 38,439.0 27,793.0 12,897.0
Operating Income 16,778.0 12,268.0 10,699.0 11,591.0 6,000.0
Interest Income (Expense), Net
0.0 523.0 237.0 429.0 359.0
Non-Operating
Gain (Loss) on Sale of Assets 0.0 0.0 0.0 0.0 0.0
Other, Net 0.0 0.0 0.0 0.0 0.0
Income Before Tax 16,778.0 12,791.0 10,936.0 12,020.0 6,359.0
Income Tax - Total 5,505.0 4,159.0 3,569.0 3,805.0 2,059.0
Income After Tax 11,273.0 8,632.0 7,367.0 8,215.0 4,300.0
Minority Interest -258.0 -104.0 -59.0 -64.0 -14.0
Equity In Affiliates 0.0 0.0 0.0 0.0 0.0
U.S. GAAP Adjustment 0.0 0.0 0.0 0.0 0.0
Net Income Before Extra.
11,015.0 8,528.0 7,308.0 8,151.0 4,286.0
Items
Total Extraordinary Items 0.0 0.0 0.0 0.0 0.0
Net Income 11,015.0 8,528.0 7,308.0 8,151.0 4,286.0
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Exhibit C: Balance Sheet
Financial data in U.S. Dollars
Values in Millions (Except for per
share items)
2006 2005 2004 2003 2002
Period End Date 12/31/200612/31/2005 12/31/2004 12/31/2003 12/31/2002
Assets
Cash and Short Term
43,743.0 44,660.0 43,427.0 35,957.0 12,748.0
Investments
Cash & Equivalents
Total Receivables, Net 0.0 0.0 0.0 0.0 0.0
Prepaid Expenses 0.0 0.0 0.0 0.0 0.0
Property/Plant/Equipment,
33,342.0 7,500.0 6,516.0 6,260.0 5,368.0
Total - Net
Goodwill, Net 32,238.0 23,644.0 23,012.0 22,948.0 22,298.0
Intangibles, Net 0.0 0.0 0.0 0.0 0.0
Long Term Investments 90,750.0 83,505.0 79,569.0 82,548.0 97,589.0
Insurance Receivables 12,881.0 12,397.0 11,291.0 12,314.0 13,153.0
Note Receivable - Long Term 11,498.0 11,087.0 9,175.0 4,951.0 3,863.0
Other Long Term Assets,
1,964.0 2,875.0 4,376.0 4,152.0 3,379.0
Total
Other Assets, Total 22,021.0 12,657.0 11,508.0 11,429.0 11,146.0
Total Assets 248,437.0 198,325.0 188,874.0 180,559.0 169,544.0
Liabilities and Shareholders'
Equity
Accounts Payable 0.0 0.0 0.0 0.0 0.0
Payable/Accrued 20,600.0 8,699.0 7,500.0 6,871.0 4,995.0
Accrued Expenses 0.0 0.0 0.0 0.0 0.0
Policy Liabilities 62,208.0 62,371.0 64,384.0 66,139.0 71,114.0
Notes Payable/Short Term
3,698.0 3,583.0 3,450.0 4,182.0 4,775.0
Debt
Current Port. of LT
0.0 0.0 0.0 0.0 0.0
Debt/Capital Leases
Other Current Liabilities,
18,460.0 12,252.0 12,247.0 10,994.0 8,051.0
Total
Total Long Term Debt 28,907.0 10,868.0 5,387.0 4,937.0 4,513.0
Long Term Debt
Deferred Income Tax 0.0 0.0 0.0 0.0 0.0
Minority Interest 2,262.0 816.0 758.0 745.0 1,391.0
Other Liabilities, Total 3,883.0 8,252.0 9,248.0 9,095.0 10,668.0
Total Liabilities 140,018.0 106,841.0 102,974.0 102,963.0 105,507.0
Redeemable Preferred Stock 0.0 0.0 0.0 0.0 0.0
Preferred Stock - Non 0.0 0.0 0.0 0.0 0.0
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Redeemable, Net
Common Stock 8.0 8.0 8.0 8.0 8.0
Additional Paid-In Capital 26,522.0 26,399.0 26,268.0 26,151.0 26,028.0
Retained Earnings
58,912.0 47,717.0 39,189.0 31,881.0 23,730.0
(Accumulated Deficit)
Other Equity, Total 22,977.0 17,360.0 20,435.0 19,556.0 14,271.0
Total Equity 108,419.0 91,484.0 85,900.0 77,596.0 64,037.0
Total Liabilities &
248,437.0 198,325.0 188,874.0 180,559.0 169,544.0
Shareholders’ Equity
Total Common Shares
1.54 1.54 1.54 1.54 1.53
Outstanding
Total Preferred Shares
0.0 0.0 0.0 0.0 0.0
Outstanding
Sources:
Yahoo! Finance
MSN Money
Berkshire Hathaway 2006 10K
Berkshire Hathaway 2007 1Q 10Q
Berkshire Hathaway Intrinsivaluator- http://www.creativeacademics.com/finance/IV.html
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