Recently in the media there has been a reported health scare to Warren Buffett, the CEO of Berkshire Hathaway (BRK.B), and the stock has reacted negatively to the downside. Long-term shareholders have known for some time that Buffett will be passing the reins over to someone else. Most investors familiar with Berkshire Hathaway know that Berkshire Hathaway's success comes from its superior management team and Buffett is just one piece to the puzzle.
Warren Buffett's health scare in a way is almost similar to when Steve Jobs was diagnosed with cancer. At first Apple (AAPL) stock negatively reacted, but then investors put this issue to the side and started to focus on the future of the company without Steve Jobs. I believe the same premise can be applied to Berkshire Hathaway and in time the sellers will realize that they are making a mistake. I believe investors who already have a position or want to initiate a position should consider the recent news and buy on a pullback for the following reasons:
Management Team: One thing that Berkshire Hathaway's management team is used to is winning. In fact the team at Berkshire Hathaway has a compounded (pdf) annual gain from 1965-2011 of 19.8% compared with the S&P 500 (SPY) of 9.2% Warren Buffett also handpicked Todd Combs and Ted Weschler who can be described as two of the best investors in the market. Both Todd Combs and Ted Weschler get 80% of their compensation from their own results and both Todd Combs and Ted Weschler can be described as the next Warren Buffett and Charlie Munger. Even though Berkshire Hathaway's board of directors is getting older they have already stated that they will be buying back shares until they are higher than 10% above the then-current book value of the Class A and Class B shares.
Buy When The Market Is Fearful: One of Warren Buffett's famous quotes, "Be greedy when others are fearful" and in the previous paragraph I briefly described how Steve Jobs' health affected the stock even though the fundamentals of the company had not changed. In fact this was a great buying opportunity on the future of Apple. Warren Buffett has had plenty of time to analyze and go over a succession plan and be able to slowly put this in place over time, in the same way that Steve Jobs was able to slowly hand over more power to other key individuals. In my opinion the best companies in the marketplace are those that are able to have changes in leadership while their companies can continue to prosper. There will probably be more speculation and rumors on who will be the next CEO of Berkshire Hathaway, but these rumors and speculation will probably amount to nothing since Berkshire Hathaway continues to outperform.
Long-Term Value: Berkshire Hathaway has more than 50 subsidiary companies and sometimes for investors it can be complicated to understand all the layers that make up Berkshire Hathaway. Berkshire Hathaway is a holding company that makes investments and its primary operations come from insurance. Besides the more than 50 subsidiary companies, Berkshire Hathaway also has investments in American Express (AXP), Coca Cola (KO) and International Business Machines (IBM), just to name a few, and at times with the many companies and many different investments this can make it hard to put an exact valuation on Berkshire Hathaway. In reality, Berkshire Hathaway invests in companies that are simple, can be easily understood and are constantly generating tons of cash. Even with the many subsidiary companies and investments, I believe that sometimes we tend to over-analyze Berkshire Hathaway and should instead focus on the fundamentals, since Berkshire Hathaway keeps outperforming the S&P 500.
With the recent news about Warren Buffett's health there is potential for more volatility in the stock. If investors want to buy Berkshire Hathaway, but want to buy for a cheaper price, one way investors can do that is through options. The cash secured put strategy is where an investor will sell a put and collect a premium. If the stock price drops below the put sold, then investors will have to purchase 100 shares equal to every contract sold. I would only use this strategy if one wants to purchase stock, but wants to wait for a better price and get paid to wait. For an example of this strategy that is currently successful, please click here.
Trade Idea = Sell June 16 2012 77.50 put for 1.75 or (1.75 x 100 = 175)
Premium Received = $175
Amount of Cash Required = 77.50 x 100 = $7,750
Breakeven = (77.50 - 1.75= 75.75) below this price and investors will realize a loss.
In conclusion, the succession plan is already in place and will slowly be implemented over time. I believe investors should use the recent news and volatility to take advantage of a pullback in Berkshire Hathaway. Berkshire Hathaway has been a slow mover, but one has to take a long-term investment approach when wanting to buy shares to realize their full value. Berkshire Hathaway is one of the few companies that investors should have a long-term approach and where investors can go to sleep safely at night knowing the company will continue to produce solid results.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.