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Growth Strong In Berkshire Hathaway’s Insurance Division

|Includes: Berkshire Hathaway B (BRK.B)

By Kristen Lidwell

Kristen Lidwell is an undergraduate student majoring in Actuarial Science in the Lyman Briggs College at Michigan State University.

At the end of 2016, Berkshire Hathaway (Symbol: BRK-B) saw a rise in underwriting revenues and earnings in their insurance division at the end of 4Q16 that seems to be carrying into 2017. The company's net income increased in 2016 from $5.5 billion in 4Q15 to $6.3 billion in 4Q16 which was widely influenced by the insurance division.

The Berkshire Hathaway insurance division consists of GEICO, Primary Group, and Reinsurance, and all of these companies have been improving their revenues, ending 2016 with higher revenues than 2015 as shown in Figure 1. Due to this, it makes sense for Berkshire Hathaway allocating capital to the insurance division, especially since much of their Berkshire Hathaway's capital is gained from insurance company premiums, according to journalist Robert Karr, writing at Market Realist.

Figure 1. Berkshire's Insurance Division's Revenue and EBT. Karr, Robert. "Oops, Berkshire Did It Again: Inside 4Q16 and 2016." Market Realist

GEICO's premiums written rose in fiscal 2016 from $23.4 billion in 2015 to $26.3 billion in 2016, making it a good asset to Berkshire Hathaway. GEICO is second-largest private passenger auto insurance. This growth was widely due to growth in voluntary auto policies and rates increases according to Robert Karr from Market Realist. In fact, GEICO as of March 2017 has just reached its 15 th million policy holder milestone. This helped GEICO increase its book value by 10.7% in 2016, which is a much greater increase than many of its competitors as shown in Figure 2.According to journalist Robert Karr, writing at Market Realist, GEICO's net income is expected to continue to increase in 2017 due to lower losses and adjustment expenses.

Figure 2. Book Value Growth of Insurance Companies in 2016. Karr, Robert. "Oops, Berkshire Did It Again: Inside 4Q16 and 2016." Market Realist

In a statement on GEICO, Berkshire Hathaway's CEO Warren Buffet said,

"GEICO's low costs create a moat-an enduring one-that competitors are unable to cross. As a result, the company gobbles up market share year after year, ending 2016 with about 12 percent of industry volume." (Sclafane)

The strong support from Buffet goes hand in hand with the numbers at the end of 2016. The company's underwriting decisions are undertaken by unit managers, but its investing decisions are undertaken mainly by Warren Buffett, according to Karr, so it makes sense Buffet would want to allocate more capital to a company that is bringing growth.

Reinsurance had a rather weak performance throughout the majority of 2016. Karr reports that this was likely due to competition, higher claims, and higher catastrophe losses which all hurt the sector's profitability. Still, Berkshire Hathaway allocates a decent amount of capital to the writing of reinsurance contracts,$136 billion at the end of 2016. This was initially just to be able to write the contracts for good premiums, but it also proved to be beneficial as the division improved greatly at the end of 2016 and into 2017.

This improvement was likely due to increased business from Insurance Australia Group partially offset by property and casualty and quota share businesses according to Karr. However, the net rise premium was on lower losses in retroactive reinsurance, which is shown in Figure 3.

Figure 3. Premiums and Property and Casualty Profit. Karr, Robert. "Oops, Berkshire Did It Again: Inside 4Q16 and 2016." Market Realist

The company's surplus for the insurance business was $136 billion at the end of 2016, and increased from the previous year (Karr). However, leaving a surplus of capital for the insurance business to write large-scale reinsurance contracts proved to be a more successful endeavor recently, even if the reinsurance performance was weak leading up to 4Q16.

A further success for Reinsurance was earlier in 2017 when American International Group Inc. (NYSE:AIG) paid $9.8 billion to Berkshire Hathaway to take on long-term risks from commercial policies written in prior years. The reinsurance deal covered long-tail policies, and brought premium revenue and reserves for Berkshire. The official value of the deal was not released by Hancock, AIG CEO at the time, but it was estimated to bring around $2.9 billion to Berkshire (Basak).

Figure 4. Analyst Ratings in Recent Months for Berkshire Hathaway. "Berkshire Hathaway Inc. Cl B." The Wall Street Journal

It is true that as a whole, Berkshire Hathaway has had some hits and some misses in the recent quarters. Still, although the energy and manufacturing segments are a bit shakier, their insurance division definitely a major asset. Overall, Berkshire Hathaway remains a good investment. In terms of analyst ratings, they've remained relatively stable in 2017 as shown in Figure 4. In February of 2017, three out of seven analysts that cover the company rated Berkshire Hathaway as a "buy" and the others "hold." The shifts from "buy" to hold were due to price rises though according to The Wall Street Journal data.

As shown in the ups and downs of the insurance division and company as a whole, Berkshire Hathaway stock is rather risky on the short-term. However, Berkshire Hathaway is a good stock to own in the long-term according to Matthew Frankel from The Motley Fool. In the last 50 years the stock has grown at an annualized rate of 20.8%. So, if the insurance division keeps growing that will only help to increase the worth of owning stock in Berkshire Hathaway.

Works Cited

"15-minute Call Propels GEICO to 15-million Policyholder Milestone." GEICO. GEICO, 18 Mar. 2017. Web.

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Basak, Sonali. "AIG to Pay Berkshire $9.8 Billion in Insurance Transfer Deal." Bloomberg. Bloomberg, n.d.

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"Berkshire Hathaway Inc. Cl B." The Wall Street Journal. The Wall Street Journal, n.d. Web. 7 Apr. 2017.

<quotes.wsj.com/BRKB/research-ratings&gt;.

"Berkshire Hathaway Inc." Google Finance. Google, n.d. Web. 7 Apr. 2017.

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2017. Web. 7 Apr. 2017. <www.fool.com/investing/2017/01/24/how-ri...;.

Karr, Robert. "Berkshire Hathaway's 4Q Results in the Wings." Market Realist. Market Realist, 16 Feb.

2017. Web. 7 Apr. 2017. <marketrealist.com/2017/02/these-likely-d...;.

Karr, Robert. "Berkshire Operating Profits Rise on Insurance, Retailing in 2Q16." Market Realist. Market

Realist, 10 Aug. 2016. Web. 7 Apr. 2017. <marketrealist.com/2016/08/berkshire-hath...;.

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Sclafane, Susanne. "Berkshire Hathaway's Insurance Keeps Growing and Hiring Despite Auto,

Reinsurance Blips." The Insurance Journal. The Insurance Journal, 27 Feb. 2017. Web. 7 Apr. 2017. <www.insurancejournal.com/news/national/2...;.