Succession Brings Delegation, Diluted Returns
By all counts, Buffett is a clear-thinking, spry 81-year-old. But, given actuarial tables, his life expectancy is 92 to 93 years of age. Buffett recognizes the need to delegate investment and operating responsibilities in the passage of time. David Sokol was a big mistake, and I (and many) gave him a mulligan.
Buffett has already hired two co-investment managers, Todd Combs and Ted Weschler, to help him with Berkshire's large portfolio. Will they do as well as Buffett? Probably not, as they are mere mortals, and with the benefit of hindsight and history, Buffett was a true investing immortal! What is almost certain is that Buffett's old black magic will not be easily duplicated by his appointees.Whitney Tilson expresses sensible reservations on Buffett's replacements:Being offered investment opportunities on terms/prices not available to anyone else also applies to buying companies outright. There's a high degree of prestige in selling one's business to Buffett. For example, the owners of Iscar could surely have gotten a higher price had they taken the business public or sold it to an LBO firm.... Buffett's Rolodex is unrivaled, so he gets calls (and can make calls that get returned) that his successors might not.In the next several years, a CEO will likely be named. Again, some more balanced views from Whitney:Most of the 75-plus managers of Berkshire's operating subsidiaries are wealthy and don't need to work, but nevertheless work extremely hard and almost never leave thanks to Buffett's "halo" and superb managerial skills. Will this remain the case under his successors...? Buffett's reputation is unrivaled, so he is offered deals (such at the recent $5 billion investment in BofA) on terms that are not offered to any other investor -- and might not be offered to his successors.Buyback Provides a Floor, but My Issue Is Potential UpsideIn late September, Berkshire announced a buyback "no higher than a 10% premium over the then-current book value of the shares. In the opinion of our Board and management, the underlying businesses of Berkshire are worth considerably more than this amount...." There is no time limit and cap in terms of amount of the buyback. Based on quarter-end book value, the company's buyback will be no higher than $107,000 a share, or about 5% less than the current price. It is important to note that there is no guarantee that when the shares reach that level that Berkshire will go all-in -- one would think that they would not, so the floor is lower than $107,000; let's call it $100,000 a share). Nevertheless, the buyback creates something of a floor to the shares (probably $100,000-$107,000 a share) but does little to provide upside to the share price.Size Constraints, Buffett's Age Limit UpsideIn a recent presentation, Whitney Tilson concluded that Berkshire Hathaway's intrinsic value was about $170,000 a share. Whitney concludes that against a closing yesterday of about $114,000 a share, Berkshire is dramatically undervalued and is at a "multi-decade low" relative to its intrinsic value calculation. In support of the $170,000-per-share figure, Whitney takes the investments per share of $95,500 and adds that amount to 10x the pretax and non-investment earnings of approximately $7.2 billion, which equates to nearly 15x non-investment after-tax profits. With its core business growing at about 5% in 2012 and with another $7 billion of cash buildup in 12 months, Whitney sees the intrinsic value rising to $187,000 a year out, representing a near-40% undervaluation based on Berkshire's price today.
« First ‹ Previous 1 2 3 Next › Last »My difference in intrinsic value calculations relative to Whitney's analytical exercise is that, given the company's size, succession issues (dilution of Buffett's contribution) and other factors (discussed earlier), the multiple of one attributed to the company's investments per share will, in the fullness of time (and as Buffett ages and delegates), become a discount as the Buffett premium evaporates -- just like any other closed-end stock fund that trades publicly. A more sizeable discount will reduce Whitney's intrinsic value. Moreover, when coupling the issues above with the still-important contribution of low-P/E-multiple insurance activities (about 40% of operating income), I would place a lower multiplier than Whitney's 10x to the non-investment earnings at Berkshire.
Bottom line: My calculation of intrinsic value, which is based on a 10% discount to Berkshire's investments per share -- Whitney used the full value -- and on a lower P/E to its non-investment income at 7x vs. Whitney's 10x, is closer to $135,000 a share, or $35,000 a share less than Whitney's calculation.
As Economic Crisis Diminishes, PIPE Opportunities Are ReducedWhile this is a relatively unimportant factor, the opportunities for favored private investments in public entities are likely to diminish for Berkshire Hathaway as Buffett ages and when (and if?) the U.S. recovery becomes self-sustaining. Berkshire may no longer be sought out as an investor of last resort.Bottom line: Based on my calculations, Berkshire's A shares have $10,000 to $15,000 per share of downside risk and about $15,000 to $20,000 per share of upside reward.I would be a buyer of Berkshire at around $100,000 a share, but, for now, I see better opportunities elsewhere.Doug Kass writes daily for Real Money Pro, a premium service from TheStreet. For a free trial to Real Money Pro and exclusive access to Mr. Kass's daily trades and market commentary, please click here.
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