Berkshire Hathaway: Insurance Market Turmoil Impacting the Bottom Line

In a regulatory filing on Friday, Warren Buffett’s Berkshire Hathaway Inc. (BRK.A), said the company's 3Q’08 net income fell 77% to $1.06 billion, ($682/Class A share) from $4.55 billion $2,942/share, in last year’s first quarter.

Operating profit in Berkshire’s insurance underwriting business, which is the company’s core commercial activity, dropped 83% to $81 million from $486 million on a YoY basis. The company's operating earnings fell as well by registering a drop of 19.3% to $1,335/share from $1,655/share in the same period the year before.

Insurance-investment income earnings fell 12% to $809 million from $922 million, while income from non-insurance businesses slipped 7.9% to $1.08 billion from the year-earlier $1.17 billion.

Investment and derivative represented a loss too, posting $1.01 billion negative, compared to gains of $1.99 billion in last year’s quarter where the company got a boost from Berkshire’s profitable sale of PetroChina (PTR) stock. At the end of the third quarter fiscal ‘08, Berkshire had a liability of $6.72 billion for equity index put option contracts for which the company, as noted in its release, has received cash payments of $4.85 billion. This means Berkshire’s current recorded loss is $1.87 billion though the first payment that could be triggered would be in fiscal 2019, and the average maturity is 13.5 years. In the meantime, Berkshire can invest all of the $4.85 billion. Mr. Buffett has said the derivative contracts held by Berkshire will eventually be profitable, unless stock markets crumble over the next two decades.

During the first three quarters of fiscal ‘08, Berkshire said its net worth declined slightly from $120.73 billion to $120.15 billion. However, a combination during the month of October of price declines in the company's equity, fixed maturity investments and an increase in the liability calculated for Berkshire’s equity index put option contracts will account for a decline in net worth of nearly $9 billion.

This is the fourth straight quarterly decline for the Omaha-based conglomerate and longest streak of quarterly declines in at least 13 years. The company continues to get impacted by the escalating turmoil in the insurance market, which has clearly affected its bottom line.

Berkshire finished the third quarter with a trailing twelve of 15.20% in operating margin and $33.4 billion cash on hand. At the end of the second quarter, the company had $31.16 billion in total cash.

Since taking over Berkshire Hathaway in 1965, Mr. Buffett has transformed the once textile manufacturer into a very profitable investment vehicle. Berkshire’s current market cap stands at more than $175 billion. Its class A shares closed at $113,000, up $800.00 or 0.71% in Friday’s trading. Its 52-week range is $102,010.00 - $151,650.00.

Disclosure: None

Comments

[Sinoman:]

Seriously, what is the value of writing down news that is available anywhere - if you can't add something of value to the news, why waste your time (and ours).

2008 Nov 09 09:26 AM

[Jerlad:]

Not to be devil's advocate, but I do appreciate these kinds of articles.

That said - I find it refreshing that even Buffett is not perfect. I admire his conviction though, even if his "cash is trash" bottom call is a little pre-mature.

Or is it?

2008 Nov 09 11:04 AM

[Firedoctor:]

The "losses due to derivatives" will be the headline, but it's important to take a look at the 10-Q (www.berkshirehathaway...., pg.24) to see what is really going on.

The article explains that the derivative loss is due to marking to market of short positions in long term (avg of 13 year) equity index put options. The options are not exercisable prior to expiration, so Berkshire gets to hold onto 4.85B for 13 years. Remember that Berkshire's insurance business model is to take premiums in and invest the float. They typically don't pay out as much as they bring in (an underwriting gain), so they get paid to borrow money.

If the indices are exactly at the strike in 13 years, Berkshire would have received a 13 year interest free loan of 4.85B.

The strategy was explain on pg. 16 of the 2007 annual report (www.berkshirehathaway....).

It's nice to be able to take the long term view. This shouldn't be viewed as a bad call by Buffet, but rather being willing to take volatility in earnings from an accounting (i.e. noncash) standpoint in trade for cash.

2008 Nov 09 11:49 AM

[Pipo:]

Buffett is more concerned about helping Obama and buying stocks for his account then on managing Berkshire.

Visit his blog at and find what he is buying or selling.


warrenbuffettstocks.bl.../

2008 Nov 09 11:50 AM