Berkshire Hathaway Posts Q3 Results: Book Value at Record High 15 comments
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Berkshire Hathaway (BRK.A) reported results for the third quarter following the close of trading Friday. Operating earnings per share were nearly flat at $1,325 per A share, down slightly from $1,335 in the third quarter of 2008. Operating earnings per share for the first nine months of 2009 declined 11.8% to $3,572 per A share, down from $4,048 per share for the first nine months of 2008.
Net income per share for the third quarter more was $2,087 per A share, more than triple the net income recorded in the third quarter of 2008. However, because net income includes the effects of investment and derivative gains and losses, it is more meaningful to focus on operating earnings per share rather than net income per share.
For a number of reasons, the “headline numbers” reported when Berkshire releases quarterly results are often misleading. For more introductory information regarding the nuances of Berkshire’s quarterly reporting, please refer to coverage of second quarter results.
Book Value Hits Record High
Book value per A share on September 30, 2009 was $81,247, which was up 10.1% for the quarter. Book value includes the impact of both realized and unrealized investment and derivative gains and losses. It must be noted that our estimate for Berkshire’s book value was far too conservative. The estimated range for book value was between $78,500 and $79,200 which is well below the reported results. It should be noted that Berkshire’s book value was at a record high on September 30. Whether book value has much meaning for valuation purposes was discussed in a previous article.
Insurance Results
Berkshire Hathaway management evaluates insurance underwriting and investment results separately. Underwriting results are the responsibility of each subsidiary’s management while investment results are handled by Berkshire’s corporate management under CEO Warren Buffett’s supervision.
Underwriting
Berkshire’s insurance subsidiaries posted after tax underwriting gains of $363 million in the third quarter and $665 million year to date compared to $81 million and $622 million of underwriting gains in the third quarter and first nine months of 2008 respectively. GEICO, General Re, Berkshire Hathaway Reinsurance Group, and Berkshire Hathaway Primary Group all posted underwriting gains for the third quarter and the first nine months of 2009.
GEICO’s underwriting profits continue to lag the results posted last year despite higher levels of premiums earned and an increase of 662,000 voluntary auto policies-in-force since the start of the year. This was due to a higher loss ratio for both the third quarter and first nine months of the year compared to prior year periods. In addition, underwriting expenses increased due to higher policy issuance costs and higher salary and employee benefit expenses.
Underwriting results at General Re improved for both the third quarter and year to date compared to the same periods in 2008 in large part due to a quiet Atlantic hurricane season which reduced catastrophe losses compared to the third quarter of 2008 which covered the period when Hurricanes Ike and Gustav made landfall.
In the section of the report covering Berkshire Hathaway Reinsurance Group, it is interesting to note that the company continues to constrain the volume of business written. Earlier in the year, this reduction in volume was partially due to Berkshire’s temporary decline in net worth. However, even though net worth has reached record highs, Berkshire plans to continue to constrain premium volume due to the impending acquisition of Burlington Northern Santa Fe (BNI). In addition, premium rates have not been attractive enough to warrant increasing volume, demonstrating Berkshire’s continued underwriting discipline. As noted recently, a “hard” insurance market is nowhere in sight.
Investment Income
Net investment income increased by 20.6% to $976 million compared to $809 million for the third quarter of 2008. The improvements continue to reflect Berkshire’s large investments in Goldman Sachs (GS), General Electric (GE), Wrigley, Swiss Re, and Dow Chemical (DOW) which were made at various points over the past year. This improvement has been partially offset by lower earnings on cash equivalents due to very low interest rates as well as lower cash balances.
Utilities and Energy
The Utility and Energy group posted net earnings attributable to Berkshire of $346 million for the third quarter which is 6.8% higher than the results for the prior year period. For the first nine months of 2009, the group posted net earnings of $802 million, a decline of 5.4% compared to the first nine months of 2008. The group was impacted by lower revenues due to the decline in average per-unit cost of natural gas sold along with declines in electricity demand at PacifiCorp due to the ongoing recession.
Few people realize that MidAmerican owns the second largest real estate brokerage in the United States. The real estate group’s revenues have declined in 2009 compared to 2008 levels. However, earnings have actually increased this year reflecting lower commission costs and other operating expenses. The real estate group has seen lower sales prices but this has been somewhat offset by higher transaction volume. Much of this is probably due to government stimulus efforts and particularly due to the $8,000 first time buyer tax credit which has recently been extended and expanded.
Manufacturing, Service, and Retailing
Berkshire Hathaway’s operating companies continue to be heavily impacted by the global economic recession. The group posted earnings of $336 million for the third quarter, a decline of 49.5% compared to the third quarter of 2008. For the first nine months of 2009, the group posted earnings of $833 million, a decline of 55.5% compared to the first nine months of 2008.
All business units with the exception of Retailing, which had flat results, posted declines in pre-tax earnings for the third quarter compared to the prior year. For the first nine months of 2009, all units except for McLane have reported declines in earnings as well. NetJets continues to depress the results of the “Other Service” group with a 41% decline in revenues for the third quarter compared to the prior year period. Additionally, NetJets has produced pre-tax losses in the third quarter of $183 million and $531 million for the first nine months of the year. However, “green shoots” may be emerging. Management is hoping for a modest profit at NetJets in 2010 barring further deterioration of the economy and an absence of punitive regulations aimed at private aviation.
From a high level perspective, it is encouraging to note that Marmon, Shaw, and the Other Manufacturing units have reported higher revenues and pre-tax earnings in the third quarter compared to the second quarter. To again use an overused expression, perhaps there are “green shoots” emerging in light of these quarter-to-quarter comparisons.
All Things Considered, A Solid Quarter
Many early articles on third quarter results are loudly stating that Berkshire Hathaway managed to triple earnings compared to the third quarter of 2008. Such loud proclamations of success are no more enlightening than the proclamations of doom earlier this year when year-over-year net income fell significantly. Operating earnings are a much better measure to focus on and by this measure, Berkshire Hathaway did indeed produce very solid results for the quarter under the circumstances. With book value per share at a record high, it appears clear that the company has navigated the worst economy since the Great Depression very well.
To gain insight into Berkshire Hathaway’s performance, it is critical to look behind the headline numbers and the consolidated financial statements. Examining segment revenues and profitability can reveal facts that aggregate statistics obscure. In the current environment, it is particularly useful to examine quarter to quarter results of the reporting segments in order to spot turning points in performance. To facilitate this review, we have prepared an Excel workbook with two spreadsheets. The first sheet shows Berkshire’s revenues over the past seven quarters and the second does the same for pre-tax earnings. This file can be found under the resources listed below.
Resources
- Berkshire Hathaway Q3 2009 Form 10-Q (Source: Berkshire Hathaway)
- Berkshire Hathaway Q3 2009 Press Release (Source: Berkshire Hathaway)
- Berkshire Quarterly Revenue and Pre-Tax Earnings: 2008-2009 (Rational Walk Analysis)
- Closer Look at Burlington Northern Acquisition (Rational Walk Analysis)
- Berkshire Hathaway 2008 Report Analysis & IV Estimate (Rational Walk Analysis)
Disclosure: The author owns shares of Berkshire Hathaway
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This article has 15 comments:
www.rationalwalk.com/?...
On Nov 08 12:26 PM BullnBear wrote:
> Great article and breakdown of segments within the holdings, any
> thoughts on the potential split of the B shares?
Is there a link to the above file? Thnx. Good review.
this stock is grossly underpriced I have owned this stock for almost 20 years and trust me its cheap
www.rationalwalk.com/w...
The other links in resources section can be found at the bottom of my original article on my blog:
www.rationalwalk.com/?...
Ravi
On Nov 08 11:35 PM theta wrote:
> RE: "This file can be found under the resources listed below." (quarterly
> revenue & pre-tax by segment)
>
> Is there a link to the above file? Thnx. Good review.
I suppose the new logo will be a bullseye with the word Walmart behind it.
Well, could be a good international branding play. Target is only domestic, except for the AU Target, which is an unrelated company, which bought it's brand from Tarjay years ago.
One of the great things about Berkshire is the diverse range of services which they offer and also the collaborative possibilities.
I heard an accusation recently that Berlington Northern will be shipping and supplying the whole of America with electric cars produced in China by BDY!
Good article.
I think book value is a nice metric to use, but it should be complemented by other metrics as well. Author does a nice job of pointing that out.
I have written in other articles that Berkshire Hathaway has evolved in to a great cash flow machine. Insurance, railroad, utilities, preferred investments, stakes in Coke, etc... the most solid company in the United States in terms of cash flow generation and safety.
For all investors, the tough assignment is placing a value on such a great company, and trying to buy well below that value. With Berkshire Hathaway, that is a challenge.
Nice article as usual. Perhaps you could speak to its cash flow machine [insurance] and how Buffett has used it to over the last couple of years to set the company up for the future. IMHO, much is made of the investments and the derivatives, but the real action is the companies he buys and the deals he makes.
What do you make of the premium he is paying for BNI? Did he need to offer this to get the deal done?
> to offer this to get the deal done?
This is a good question. I did not follow BNI in much detail prior to Berkshire's announcement last week. After the announcement, I reviewed BNI's 2008 10-K and the latest earnings release. I have not followed railroads in enough depth to comment specifically on BNI's intrinsic value, but if you look at valuations for comparable companies, it would be hard to argue that Berkshire is paying a "bargain price".
At the same time, I've read a number of comments on various boards regarding how Buffett "blew it" by not purchasing BNI in the low 50s back in March. Of course, he could never have pulled this off either through open market purchases of any size or through an offer to BNI's board. He could have likely purchased BNI for less than $100, but not anywhere near $55 or $60.
My take on the decision is that it accomplishes two goals: (1) BNI provides opportunities to profitably deploy cash flow generated by other Berkshire subsidiaries at reasonable rates of return. From this perspective, BNI is like MidAmerican and provides Berkshire with a mechanism to potentially redeploy cash from other businesses. (2) While I don't fully buy into the "This is Buffett's last act" thesis, there is an element of truth to the underlying sentiment given that Buffett will be 80 next year and the probability of him running Berkshire beyond another decade is low. I think Buffett is very confident that he has CEO candidates who can oversee the managers running the operating companies but he may be less sure about having CIO candidates who can deploy cash effectively. By deploying a big chunk of cash in a sensible acquisition, Buffett is removing some risk of poor acquisition choices once he's no longer running the company.
If I could change two thing about the deal, I would make it all cash and avoid the need to use stock or declare a split. I know that the debt required to do an all cash deal would increase Berkshire's overall leverage, but the company can handle it. I am concerned that many of the new Berkshire shareholders (post split) will be buying in for all the wrong reasons. Just a look at twitter streams regarding Berkshire shows that there are many people who will be buying *only* because of the split. That's not good in the long run, although it could create a pop in the shares moving them closer to intrinsic value (there's always a silver lining I suppose...)
Your point about the new breed of BRK shareholder post-split is a bit concerning. I'd sure like to know what they plan on doing for the shareholder meetings! The Qwest Center was packed enough this year; I can't imagine how bad it will get when people can buy a share for just over $60.
Any thoughts on intrinsic value based on the new book value they provided? Seems like traditionalists would say it's worth between $120,000 - $160,000.
To add to the BNI discussion, it should be noted that Berkshire will be unloading its other rail holdings. That will provide more cash for a cushion as well as prevent a potential "government overwatch" situation.