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Summary

  • The company's insurance operations are growing rapidly and growing premiums as well as driving huge underwriting profits..
  • Record amounts of insurance float will lead to a much bigger pool for making equity investments...
  • Berkshire's insurance operations make up 77% of total revenue, and 60% of pre-tax earnings, and thus will drive incremental upside..

Berkshire Hathaway (NYSE: BRK.A) is pretty much firing on all cylinders. The company's revenues are increasing, its margins are expanding, and as a result its book value per share is growing steadily. Berkshire's insurance businesses have been rocket fuel behind its stellar growth in book value, and these insurance subsidiaries are delivering robust results which will drive future upside for the company.

Insurance lines are delivering
In 2013, Berkshire Hathaway's insurance businesses saw accelerating revenue growth. The company's various insurance companies propelled its insurance revenues to grow 14% in 2013 to $140 billion. The company's insurance and other related businesses make up 77% of its total revenues, and thus are the key drivers of the company.

Berkshire's subsidiary, GEICO became the second largest auto-insurance company in the U.S. in 2013, overtaking Allstate (NYSE: ALL). GEICO has been flirting with the second position in the auto insurance market for a while, and has finally managed to surpass Allstate last year. However, Allstate has seen its auto policy growth to continue to get better. In the last quarter, policies in place increased by 1.5%. Due to its low operating costs, GEICO should be able to gain more ground over time on the largest auto-insurer, StateFarm.

In addition, Berkshire's insurance franchises include two of the biggest reinsurance company's in the world: General Re and Berkshire Hathaway Reinsurance Group. These two companies provides their parent company with substantial amounts of float as well as underwriting profits. Pre-tax operating margins of Berkshire's insurance and other related businesses stood at 9.1% in 2011, which experienced a healthy increase to 12.3% in 2013.

Float and underwriting profit
Berkshire's insurance companies have delivered underwriting profits for 11 years straight, and should be able to continue its track record by underwriting profitably in most years.

Berkshire's float from all its insurance segments grew 6% year-over-year to $77.2 billion at the end of 2013. Almost 50% of Berkshire's insurance float comes in from the BH Reinsurance Group, run by Warren Buffett's close aide, Ajit Jain.

The underwriting profit from these insurance subsidiaries of the company grew 90% year-over-year to $3.1 billion. These stellar numbers are likely to continue going forward.

Insurance is the firepower behind Berkshire's rise

Berkshire Hathaway's (NYSE:BRK.B) various insurance subsidiaries have grown their floats substantially over the years. Total float was $27.9 billion at the end of 2000, which has grown to $77.2 billion at the end of 2013, a mammoth increase.

In his 2013 annual letter to shareholders, Warren Buffett stated the following, and essentially "tipped off" investors about why he thinks Berkshire Hathaway is undervalued, and should trade at a much higher multiple than 1x book value:

Charlie and I believe the true economic value of our insurance goodwill - what we would happily pay to purchase an insurance operation possessing float of similar quality to that we have - to be far in excess of its historic carrying value. The value of our float is one reason - a huge reason - why we believe Berkshire's intrinsic business value substantially exceeds its book value.

Buffett and his associates have consistently used this float to take big ownership stakes in large public and private companies. Since Berkshire's insurance operations make up more than 60% of the company's pre-tax earnings, the growth in insurance earnings are by far the most instrumental factor in the company's future upside.

The takeaway

Since more than three-fourths of the company's revenues are coming from its massive and extremely well-managed businesses, the company's future potential lies largely in the hands of its insurance businesses. And considering the company's substantial public securities portfolio of $118 billion, it has been powered by its insurance float.

Berkshire's Class A stock has a book value per share of $134,973 at year-end 2013 and trades at roughly $190,000. Further, increases in the company's insurance float and underwriting profits will drive up the book value of the company higher. And its Price-to-Book multiple should move up from 1.4x to north of 1.6x, driving incremental upside for the company's stockholders. Even the Oracle of Omaha thinks that his company's intrinsic value substantially exceeds the book value.

Source: Berkshire's Insurance Lines Will Drive Further Upside