Berkshire Hathaway looks like being a continuing big buyer of its own stock, as well as continuing to invest in the stock market as the boom in private equity and other deals pushed the valuation of possible target companies beyond what Warren Buffett believes reasonable.
And that will expose the company to more and more market volatility as we saw at the end of 2018.
Berkshire had cash on hand of $US112.7 billion and a total ‘float’ of $123 billion at the end of 2018 and it is finding it harder to invest that in big deals (the last one was in 2016 when it paid $US32 billion for Precision Castparts).
As well the 2018 report and shareholder letter reveals a massive change in the way Berkshire measures its performance – book value is out and from now on it will be the movement in the share price….as Buffett declared
“Over time, however, Berkshire’s stock price will provide the best measure of business performance.”
Berkshire ended 2018 with $172.8 billion of equities. That was down from $US207.3 billion at the end of September, and a touch higher than the $US170.5 billion at the end of December 2017.
Many of these suffered double-digit price declines in the 4th quarter, including a 30% slide in its largest holding, iPhone maker Apple Inc.
But most have rebounded to a degree – Apple shares, for instance, are up 9.6% since the start of 2019 while the S&P 500 is up more than 11% at the same time.
As suspected by many analysts the death of deals saw Buffett and Munger plough some of the company’s operating earnings into its own shares, buying back roughly $US418 million of shares in the fourth quarter.
That took the total amount of buybacks in 2018 to $US1.3 billion. More look like being bought back this year.
And at the start of his shareholder letter, Buffett let slip that over time, Berkshire “will be a significant repurchaser of its own shares” on top of buying more listed stocks.
Because of this and the lack of any big deals, Berkshire faces more earnings volatility in the future, as Mr. Buffett explained in his shareholder letter:
“Wide swings in our quarterly GAAP earnings will inevitably continue. That’s because our huge equity portfolio – valued at nearly $173 billion at the end of 2018 – will often experience one-day price fluctuations of $2 billion or more, all of which the new rule says must be dropped immediately to our bottom line.
“Indeed, in the fourth quarter, a period of high volatility in stock prices, we experienced several days with a “profit” or “loss” of more than $4 billion,” He wrote at the weekend.
The book value of Berkshire shares rose 0.4% in 2018 from the year prior, which it said compared to a 4.4% decline in the benchmark S&P 500 when including dividend payouts.
The company’s class A stock has not outperformed the S&P 500 over the past year, and at $US302,000 each, are down 1.3% year to date. The S&P 500 is up 11.4%.
In his letter, Mr. Buffett explained to stockholders why it was time to abandon book-value as a key metric for measuring the company’s performance.
Instead, he said it was time for stockholders to look to the company’s stock price as the best gauge of its performance.
In fact, it will be the 2018 letter will be the final time the metric will appear:
“…the annual change in Berkshire’s book value – which makes its farewell appearance on page 2 – is a metric that has lost the relevance it once had,” Buffett wrote. he said there were three reasons for the change:
“First, Berkshire has gradually morphed from a company whose assets are concentrated in marketable stocks into one whose major value resides in operating businesses… Second, while our equity holdings are valued at market prices, accounting rules require our collection of operating companies to be included in book value at an amount far below their current value, a mismark that has grown in recent years. … third, it is likely that – over time – Berkshire will be a significant repurchaser of its shares, transactions that will take place at prices above book value but below our estimate of intrinsic value. The math of such purchases is simple: Each transaction makes per-share intrinsic value go up, while per-share book value goes down. That combination causes the book-value scorecard to become increasingly out of touch with economic reality,” Buffett wrote to Berkshire shareholders.