- Berkshire retains a small 1.8% outperformance versus the S&P 500 at the end of Q3.
- Berkshire's equity book gained 1% to $297.7 billion.
- Price/book value improved to 1.29x due to a flat stock price and continued equity and operating earnings.
- Share repurchases were $6 billion in Q2, down from $9 billion in Q4 2020, but with inflation running hotter and the stock flat, I believe we could see a reacceleration back to the $9 billion/quarter or higher level.
Berkshire Hathaway's (NYSE:BRK.A) (NYSE:BRK.B) Q3 quarter was likely a "steady as she goes" type of quarter, with the stock rangebound, equity book flattish, and the operating business facing some headwinds for the first time in a while.
Berkshire closed Q3 down 7.5% from its 52-week high of $295 on May 10th.
Q3 Holdings Update
The value of Berkshire's investments in equity securities excluding Kraft Heinz (KHC) was up 1% to $297.7 billion from $294.5 billion last quarter.
From the $3.2 billion gain, after increasing the liability for future income taxes on the balance sheet as "income taxes, principally deferred" and subtracting 21%, we see a net book value gain of $2.5 billion for Q3.
Q3 Operating Earnings
Q3 results should be solid, although I expect impacts from both Hurricane Ida and supply chain disruptions.
Insurance underwriting should produce an underwriting loss courtesy of Hurricane Ida. Current insurance estimates have Ida causing $30 billion in damage, similar to hurricanes Ida and Harvey that both hit in Q3 2017. In that quarter, Berkshire had a $1.4 billion underwriting loss.
I'll estimate a $800 million underwriting loss for this quarter.
Insurance investment income should come in around $1.2 billion, driven by increased investment in dividend-paying equity securities. The billion dollar drag from lower interest rates on short-term debt is almost fully annualized at this point, and investment income should slowly turn higher in future quarters.
Railroad, utilities, and energy should show small gains from last year. Railway volumes at BNSF are up 4% compared to the same week in Q2 and up 5% from last year. For BHE, Q3 is the strongest seasonal period, and the added income from the Dominion deal should result in reasonable year-over-year gains. While the Dominion deal was small, around $6 billion after Berkshire and Dominion abandoned part of the deal on antitrust concerns, it certainly looks like a winner considering the strength in the natural gas market.
I estimate $3 billion in earnings from this group.
Other businesses containing dozens of companies like Precision Castparts, Lubrizol, Marmon, and other industrial businesses, should show year-over-year gains, although I expect supply chain disruptions and higher commodity prices will impact profitability from Q2.
I'll estimate $2.7 billion in earnings from this group, down 10% from last quarter.
Other should produce a $300 million gain as equity earnings from Kraft Heinz and Pilot, plus strength in the US Dollar, offset the usual expenses (mostly amortization from past acquisitions.)
In total, I expect Q3 operating earnings around $6.4 billion.
Current Book Value
As reported in Berkshire's 2021 Q2 10-Q book value as of June 30, 2021 was $470 billion.
Adding the net gain of $2.5 billion from the equity investments to $6.4 billion in operating earnings, I project Q2-21 book value at $479 billion.
Berkshire's market cap as of September 30th was $619 billion. Dividing this by $479 billion yields a Price/Book Value of 1.29x for Q3.
2021 Outlook and Recommendations
Berkshire Hathaway is trading slightly ahead of the S&P 500 for the year and roughly flat with last quarter.
I'm still fine with this, as I believe the key driver in Berkshire's future returns is the ability to repurchase shares at a fair valuation. Berkshire repurchased $6 billion worth of shares in Q2, a deceleration from late last year.
Berkshire repurchased $3.4 billion worth of shares in June at $280/share. Berkshire traded under this level for most of September, so I'm hopeful repurchases accelerated back to the $9 billion/quarter level from late last year, especially with cash levels virtually unchanged since then.
Speaking of cash, Buffett has said the following about it:
The one thing I will tell you is the worst investment you can have is cash. Everybody is talking about cash being king and all that sort of thing. Cash is going to become worth less over time... Cash is a bad investment over time.
With CPI up 5.3% over the last year and short-term treasuries yielding under 1%, Berkshire's $144 billion of cash and short-term investments has lost roughly $6 billion in real purchasing power in the last 12 months. I hope this drives Berkshire to become even more aggressive with share repurchases going forward.
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