Always Bet On Berkshire Hathaway (And Here's Why)

By Greg McFarlane AAA

The rich get richer, right? That bromide is of course only partially true, otherwise no one would ever squander a fortune. But is it true often enough that we can put it to use?

Berkshire Hathaway Inc. (BRK-A) is the definitive sustained corporate success, its name identified with wealth even among people who aren’t completely sure what the company does or where it invests. Its per-share book value has increased 6,952-fold since 1964, a rate of growth so immense that it offers no historical comparison. Berkshire Hathaway’s Class A stock is currently trading at over $200,000 a share, contrasting with such ostensibly expensive issues such as Google Inc. (GOOG), whose share price has yet to crack four digits, let alone six.

The Many Businesses of Berkshire

Berkshire Hathaway is named after a couple of 19th century New England cotton mills that merged operations in 1955. The company diversified beyond its textile origins a long time ago, and wholly owns an astonishingly diverse list of subsidiaries – GEICO, Fruit of the Loom, RC Willey, Dairy Queen, Burlington Northern Santa Fe, Johns Manville, on and on it goes. (For related reading, see: How Warren Buffett Made Berkshire Hathaway A World-Beater.)

It’s thus hard to identify one primary business from which Berkshire Hathaway derives most of its income, but insurance comes as close as any. The company owns General Re, National Indemnity, Applied Underwriters and at least a half-dozen other industry-leading insurers. What distinguishes Berkshire Hathaway from most every other component of the S&P 500 is intrinsic to Berkshire Hathaway’s status as an insurer (or more accurately, a meta-insurer). Berkshire Hathaway uses its available reserve – money it’s collected in premiums but has yet to pay out in claims – to finance its other operations. With cash on hand, its executive team began by buying up undervalued businesses in the late 1960s. It hasn’t stopped yet. (For related reading, see: Is It Time To Break Up Berkshire Hathaway?)

You can therefore make a convincing argument that Berkshire Hathaway’s foremost business is not insurance, but rather investing. In some respects the company operates almost as a mutual fund, taking positions in other blue chips and measuring its profitability by tracking theirs. Berkshire Hathaway even designates four such companies as its largest investments: these are Wells Fargo & Co. (WFC), Coca-Cola Co. (KO), International Business Machines Corp. (IBM) and American Express Co. (AXP), which Berkshire Hathaway owns 9%, 9%, 6% and 14% of, respectively, making Berkshire Hathaway the largest investor in each. If you prefer to look at it from the other angle, Berkshire Hathaway’s investments in each of those represent 23%, 16%, 12% and 13% of its total investments in other companies. By the way, American Express is by far the smallest of those four, yet is still a longstanding Dow Jones Industrial Average component with a market capitalization of $93 billion. Even small pieces of Berkshire Hathaway are gigantic. (For related reading, see this story from 2009: 4 Stocks Berkshire Hathaway Recently Bought.)

Buying Berkshire?

So is Berkshire Hathaway a good investment? Assuming you’ve got the $200,000 per share required to buy in, that is? (For related reading, see: Berkshire Hathaway For The Next Decade.)

(That first question is not a rhetorical one, despite what seems to be an obvious answer. Plenty of other entities have had half-century runs of success and then failed.)

First, you don’t need that much money. Berkshire Hathaway’s Class B stock (BRK-B) is priced at exactly 1/1,500 of the Class A stock. With Berkshire Hathaway’s price at an all-time zenith, it’s natural to assume or at least entertain the notion that whatever comes up must eventually go down. But following that logic throughout Berkshire Hathaway’s history means you’d have forgone countless opportunities. Berkshire Hathaway has almost always been at its lifetime peak, or close to it. Which makes it easy to understand why the company’s longtime chairman Warren Buffett is skeptical of technical analysis, the alchemic methodology that generally marks Berkshire Hathaway stock as overheated and ripe for selling. To quote Buffett, as financial writers are obligated to do, “I realized technical analysis didn’t work when I turned the charts upside down and didn’t get a different answer.” (For more, see: 3 Not-So-Obvious Reasons To Own Berkshire Hathaway.)

Throwing Its Weight Around

Fundamental analysis, the wearisome perusal of financial statements, paints a different picture. Berkshire Hathaway is trading at a mere 17 times annual earnings, which is less than the market as a whole, and the market as a whole is nowhere near as predictably profitable as Berkshire Hathaway is. The company’s net income increases year after year, and by consistent substantial margins. Berkshire Hathaway’s position in other companies is so vast and influential that it can cover various missteps. For instance, Coca-Cola management recently announced that it’d be giving its executives more and more lucrative stock options. The plan got the attention of various shareholders who wondered what the people who run a company with stale growth and static profits did to justify being rewarded so richly. Several other large shareholders expressed their distaste by vocally and publicly cashing out of Coca-Cola. Meanwhile, Buffett issued a tersely worded statement but ended up increasing Berkshire Hathaway’s position in Coke. Why, if the executives are unjustifiably paying themselves out of the shareholders’ pockets? Because Coca-Cola still makes money, and lots of it. So much that a management team making a controversial move to boost its own compensation isn’t enough to cause Berkshire Hathaway to sell.

The Bottom Line

Berkshire Hathaway isn’t done yet, either. It never is. It’s aggressively buying stock in – as usual – an eclectic array of established businesses. Recently, that’s included General Motors Co. (GM), Verizon Communications Inc. (VZ), Suncor Energy Inc. (SU) and more. All of them recently undervalued, and none of Berkshire’s investments in them so large as to risk the company’s future. The prudent investor can either attempt to beat the market on her own, or trust that Berkshire Hathaway’s executives know what they’re doing. We’ll leave it to you to determine which is the brighter idea. (For more, see: What Will Become Of Berkshire Hathaway Beyond Buffett?)

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