Opinion

Felix Salmon

What’s Berkshire Hathaway’s expected life?

By Felix Salmon
November 17, 2009

Berkshire Hathaway has a lot of equity: its book value is about $125 billion. And since equity is forever, it makes sense for Berkshire to have a very long time horizon when it comes to buying assets. But still:

Berkshire Hathaway Inc.’s Warren Buffett, who agreed to buy Burlington Northern Santa Fe Corp. in his biggest takeover, said the railroad’s results in the next 100 years will justify a $26 billion bid that’s “not a bargain.”

“It’s a good asset for Berkshire to own over the next century,” Buffett said in an interview with Charlie Rose.

It’s refreshing to see the 79-year-old Buffett taking such a long view. But the fact is that Berkshire Hathaway is not going to exist in anything like its present form in 100 years’ time. It’ll probably last no more than 10 years after Buffett dies before it’s broken up into various component parts. And when he gives quotes like this to Charlie Rose, it seems as though he’s somewhat in denial about what his legacy is really going to be.

The minute that Buffett dies, Berkshire becomes a large conglomerate, and will trade, like all conglomerates, at a discount to its sum-of-the-parts valuation. Sooner or later, Berkshire’s CEO will be persuaded to monetize the difference, and the storied company will come to its natural end. That’s no bad thing: it’s intrinsic to the nature of capitalism, which Buffett loves. But it does mean that buying companies on a 100-year time horizon is somewhat unrealistic.

Comments
21 comments so far | RSS Comments RSS

The disturbing thing about Berkshire is that it’s an one man show. Something like Goldman is a lasting system and institution; something like Berkshire is just an ancillary prop for an superstar like Buffett.

Posted by Myles SG | Report as abusive
 

So true. Take away the singular genius of Warren Buffet–who is more an executive, and less a stock-picker, than is generally realized–and Berkshire is just another Consolidated Amalgamated: an awkward, unfocused conglomorate made up of parts that have no connection to each other, outside of the fact that Warren Buffet bought each of them at some point. For a while, they’ll try to pretend that nothing has changed, but soon enough the stock price will falter, they’ll have to start paying _dividends_, and then the great Spinning Off of Divisions, as they play out the last 20 years of corporate history in fast forward.

It may still end up being a good deal for shareholders. I don’t own individual equities, and couldn’t really say. But Berkshire Hathaway is Warren Buffet, Incorporated, and when comes such another?

Posted by Craig | Report as abusive
 

Hmm, Felix. I wonder. You know he has a secret hand-picked successor, right? You don’t think BRK holders will respect Buffett’s final gesture of grooming someone to specifically manage the company the way he would have, if he could live forever?

Regardless, any price change is going to have to come from volatility, and BRK.B today so far has a volume of around 14,000 shares. BRK.A? 300. It would be a shocker to see thousands of buy and hold value investors dump all their stock the day after Warren dies–hasn’t he spent a lifetime trying to convince people to do the exact opposite?

 

BRK is an insurance company, not a conglomerate. Unlike other insurance companies, which store their reserves in low-yielding bonds or the disaster that is commercial real-estate, BRK stores reserves in high-yielding equities. The equities don’t have to perform brilliantly. All they have to do is provide a cushion for massive insurance losses while returning more than bonds or real-estate. Unlike other insurance companies, which invest in equities solely as minority shareholders, BRK has total control of the boards of directors of the companies which it owns outright, and thus is in a position to step in when management seems to be screwing up or going rogue with stock options. That is a significant advantage in the long-run, and justifies paying more than market price to own a company outright rather than holding a minority interest.

Posted by fred | Report as abusive
 

Good post. I would also like to add that after the Gates Foundation liquidates its BRK position then that controlling stake will be drastically mitigated, making the company more susceptible to new shareholder demands (e.g., spinoffs, dividends, etc).

Posted by NegativeConvexity | Report as abusive
 

Thought about this too, Felix, but came to a different conclusion:

http://alephblog.com/2009/11/13/the-fore ver-fund/

 

You know, that “secret succession plan” is one of the things that really bothers me about Berk…to the extent that I think about it. Isn’t Warren Buffet the one who always teaches investors to _understand_ what they’re investing in–to know the company and the industry inside and out? With the Heir Apparent a big question mark, how can anyone claim to have that deep understaning of Berkshire Hathaway, except Buffet himself and this Prince Hal (whoever it may be)?

Posted by Craig | Report as abusive
 

I wonder if people said the same thing about GE when Albert Einstein was aging.

Posted by Justin | Report as abusive
 

Although the same age, Charlie Munger is also in the picture, and is not an insignificant part of Berk’s success.

 

Don’t you mean Thomas Edison Justin?

Posted by mark | Report as abusive
 

Why BRK.A doesn’t do a 10-1 “reverse split” and get those shares to 1M a piece I’ll never know.

Posted by VennData | Report as abusive
 

Craig: insurance companies (which is what BRK is, as I noted), like other financial institutions, are opaque by their very nature. No one way to know what sort of problems they might be hiding in their book of busiess unless you are an insider and even then it is easy to overlook some critical detail that could take down the whole business. All you can really evaluate is the corporate culture, and especially the incentive structure. That is where BRK shined compared to AIG, Lehman, etc. And it will continue to shine in that respect after Buffett leaves, at least until the Gates foundation no longer has a controlling interest, at which time BRK will be subject to the usual management-shareholder conflict.

Posted by fred | Report as abusive
 

I’m a small BRK investor because I think the current book of investments/businesses is undervalued even assuming not many more years of Buffett/Munger-added value.

The other consideration about Berkshire is that a guy like Buffett can’t run that big an insurance business single-handedly. Given that their underwriting has been consistently profitable for years, I choose to believe what Buffett writes about the quality of people working in the insurance division. Certainly if I were an insurance expert with ethics and the desire/ability to excel I would want to work at a company like Berkshire rather than AIG (even before the downfall of AIG).

The problem after Buffett/Munger leave is that the company will lose its go-to status for deals like GS preferred. The insurance business will still be a good one but the options for deploying capital will decline. Also, Berkshire has gotten away with a large stock allocation for years and years because they’ve been smart/lucky enough never to get simultaneously hit by both large market declines and large catastrope losses. Buffett constantly warns about the disaster risk and acknowledges that they have had a string of luck there. Imagine a situation where the stock market of this past March coincided with disastrous insurance losses – the wrong confluence of events could lead to forced selling of something like WFC at 10.

Posted by najdorf | Report as abusive
 

Buffett and Munger have been at this for decades.

There really is a possibility that their values have become institutionalized. It’s also likely that their shareholders now expect the behavior that Warren preaches.

I’ve often wondered whether Berkshire-Hathaway might take a mighty plunge when Warren Buffett dies, and whether that might be the ultimate value purchase.

Posted by Richard | Report as abusive
 

If you’ve read his annual report for any number of years, or read any of the excellent biographies on him (by Roger Lowenstein or Alice Schroeder to name just two) you will know the steps that he has taken to keep “The Buffett philosophy” viable for many years to come.

As a long-time Berkshire Hathaway shareholder, I will truly regret the day when he passes on, not because of any anxiety over the price of the stock, or the future of the company, but because it will be a very long time, if ever, before we encounter another person endowed with his ethics and his generosity.

Posted by Robert Cunningham | Report as abusive
 

ultimately, as long as Warren’s motivation for investing in the railroads is sound, then there should be no problem with the investment horizon’s possible mismatch.
the question’s whether Warren’s investing because it makes business sense or he’s investing solely with a Berkshire outlook. who knows, that stake maybe worth alot at the “break-up” date.

Posted by Darlington | Report as abusive
 

What will happen? Probably the same thing that happened to Australia’s Packer Empire when King Kerry went 10-toes up – they’ll be taken advantage of lose a lot of money.

Posted by apj | Report as abusive
 

How long is a coal train ?

Posted by Casper | Report as abusive
 

Long term investment horizon….

BNSF infrastructure has the right-of-ways that could connect the mid-west and plains population centers. If the roadbed and switching were improved to high speed rail, it could be a game changer. Could even seek some federal subsidy in terms of urban renewal land around terminals or other rural development economic programs.

Fast rail could move pax and UPS/FedEx sized cargo quickly independent of weather and airway and terminal congestion at hubs. With the right rolling stock configured for quick loading/unloading it would improve connectivity for rural and smaller midwestern cities with limited air service.

Improving the roadbed and switching would have to be done anyway. Doing so now would help add service flexibility if the nation experienced a shift from coal.

 

I think Will’s close to the mark on this one.

Warren Buffett’s been exceptional at finding value by looking at long-term macro trend shifts.

Like it or not, as oil prices rise, as they invariably will, BNSF is in the position to maximize its yield on the transportation of coal since they would have no effective competition at any given source.

Should the rail network need to shrink, as it probably will, given the trend away from manufacturing, Berkshire is in an enviable position of selling off short line pieces to local operators, along with equipment and/or property that has become excess. Value of the sale could be maximized because local governments would kick in to reduce harm to businesses suddenly disadvantaged due to the loss of rail service.

The core lines of the BNSF would be attractive as oil prices rise and government initiatives are created to shift people and freight away from a highway system with a failing infrastructure and increasing environmental concerns.

Quite possibly there’s a hidden future value in the amount of industrial property and rights of way still owned by BNSF. I don’t doubt that this aspect of the company’s book value has been carefully scrutinized by Berkshire and they know far more about that underlying value than most analysts do.

 

I am surprised so many people agrees with the post. Salmon has obviously not studied Berkshire in depth and therefore completely unaware of the synergy in Berkshire’s current structure which would be lost if the company is broken up.

Saying Berkshire will be just like any conglomorate after Buffett’s death and that ALL conglomorates trade at a discount is both untrue and exhibit faulty logic. He did not justify either of these statements. Could it be that he isn’t even aware that these statements bags major assumptions that may not be valid?

Posted by Win Ryder | Report as abusive
 

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