Thoughts on Berkshire's Annual Letter

by: Alan Schram

My thoughts on Berkshire’s (NYSE:BRK.A) annual letter and some actionable investments emanating from it:

Most obvious: Buffett’s optimism about the U.S. If you didn't already know the U.S. economy was going in the right direction, Buffett’s enthusiasm is unmistakable. He is reiterating his previously stated view that America’s best days are ahead. But it’s not just talk. Berkshire is making very large investments in its businesses, most of which are doing very well.

Most significant: Buffett is predicting a housing recovery will probably begin within a year or so - that’s news, he’s never said that before.

Most interesting: Berkshire spent over $15 billion in the 25 days following Lehman’s bankruptcy - a huge sum, and those investments are now paying off.

Another remarkable tidbit: Berkshire never had a five year period where growth in book value lagged the S&P 500.

Berkshire’s Intrinsic Value: Berkshire had a great year. It is now earning about $1 billion a month from operations, excluding investment income. It has large utility businesses that enjoy guaranteed pricing power and inflation will be a tremendous power builder for them.

Buffett walks you through Berkshire’s intrinsic value. The non insurance businesses are earning $5,900 per share, pre tax. Put a 10 multiple on that, and add the $94,700 of investments per share, and you get $153,700 per share. The shares closed at $127,550 Friday, an upside of more that 20%.

The 10x is my number, but it seems very reasonable given the impenetrable balance sheet, high quality, diversified and growing businesses, conservative accounting and world class management. One could easily argue the multiple should be higher. Either way, one of the world’s best companies is trading at a discount of at least 20% and perhaps much more.

Most actionable: other than Berkshire’s shares, there are six large positions Berkshire owns that are trading at or below what Buffett paid for them (I have been following Berkshire since I attended my first annual meeting in 1993, and that is unusual). They are ConocoPhillips (NYSE:COP), Johnson & Johnson (NYSE:JNJ), Kraft (KFT), Munich RE, US Bank (NYSE:USB) and Sanoffi Aventis (NYSE:SNY) (Sanoffi is the largest unrealized loss in percentage terms). So you get a chance to buy shares at or below Berkshire’s cost basis - that has the tendency of working out very well.

Disclosure: I am long BRK.A, SNY.