Berkshire Hathaway 2016 Annual Letter & Report - Notes

The Book Value (BV) of Berkshire Hathaway per 2015 AR (released 2/2017) is $172,108 per BRK.A share or $114.74 per BRK.B share compared to $155,501 per BRK.A share or $103.67 per BRK.B share in the last AR. The stock currently trades at $254,702 or 148% of BV - the premium over book value has gone up significantly over the last year as that percentage was at 127% ($198,190 share price) this time last year. Buffett’s repurchase criterion is 120% of BV or $206,530. The premium to book value widened as the stock rose 19.4% over the last year compared to book value growth of 10.7%. Net earnings are at $14,645 per BRK.A share for a ttm-PE of 17.39. This is compared to a ttm-PE of 13.25 last year and 18.29 the year before.

Historical Book Value (BV) and Market Value Growth:

Book Value CAGR 1965-2016 is at 19% and for 2016 it is 10.7%.

Market Value CAGR 1965-2016 is at 20.8% vs 9.7% for S&P 500. For 2016, it is 23.4% vs 12% for S&P 500.

Earnings per Share (EPS):

$14645 in 2016 vs $14,656 in 2015 vs $12,092 in 2014 vs $11,850 in 2013 and $8,977 in 2012 per BRK.A share.  Marginal decrease compared to 21% YOY increase last year and 2% YOY the year before. Roughly a third of Berkshire earnings are realized gains (after tax) historically. For 2016, that figure was $6.5B.

Intrinsic Business Value: 

Plans to continue building Berkshire’s per-share intrinsic value by:

• Focusing on increasing earning power at subsidiaries both organically and through bolt-on acquisitions,
• Growth of equity investments,
• Repurchasing when there is meaningful discount to intrinsic value,
• Making acquisitions while rarely issuing new shares. 

Co-Managers:

• 2016: Together, they now manage $21B. Apple & American Airlines were first established by one of them.
• 2015: Precision Castparts acquisition partly credited to Todd Combs. In their investment management roles, Todd Combs and Ted Weschler are each managing $9B each.
• 2014: their roles were expanded to also include running businesses - they took over as Chairman of one business each - combined, those businesses are very small earning around $100M annually - Buffett’s way of developing a deep-bench!
•  2013: Todd Combs and Ted Weschler invested $7B each and they outperformed Buffett in 2013.

Long-term economic goal:

Maximize average rate of gain in intrinsic business value on a per share basis. Preference is to own a diversified group of businesses with consistent above-average ROC and second choice is to own parts of such businesses (security ownership of Berkshire’s insurance subsidiaries).

Look-through earnings relevance:

“Undistributed earnings of our investees, in aggregate, have been fully as beneficial to Berkshire as if they had been distributed to us”. So,

1. It is preferable to purchase $2 of earnings that are not reportable rather than $1 of reportable earnings for the same acquisition cost, and
2. Look-through earnings realistically portray yearly gain from operations.

Use of leverage:

“We use debt sparingly and, when we do borrow, we attempt to structure our loans on a long-term fixed-rate basis”

Selling businesses:

No interest in selling good businesses Berkshire owns. Sub-par businesses are also not sold as long as they are able to generate at-least some cash and managers/labor relations are good. Capex decisions for the latter are made in a much more cautious fashion compared to the former - it is unlikely that sub-par businesses will see increased profitability with increased spending.

BV growth vs S&P 500 Performance Comparison:

While this comparison is shown in the first page of the Annual Letter, it has become less meaningful over time. The reasoning has to do with how Berkshire’s business structure has evolved: equity holdings tend to move with S&P 500 and that is now a much smaller portion of overall value. Also S&P 500 gains are reported at 100% while Berkshire’s realized gains get reported at 65% because of taxes.

Also, there is another major shortcoming with this comparison: The carrying value of the businesses that are controlled by Berkshire is much more than their carrying value and so the BV far understates Berkshire’s Intrinsic Value (IV). But, IV by definition (discounted value of cash that can be taken out during the remaining lifetime) is an estimate and so is not quoted in any of the releases.

Below is a YoY comparison of Berkshire Hathaway’s largest equity investments:

  

• Delta Airlines, Southwest Airlines, and United Continental Holdings are large new stakes in 2016. Berkshire also has a stake in American Airlines but that did not make the list as it is not a top stake. USG made the list this time as it has become a large stake because of price increase. AT&T & Deere & Co. are no longer in the list as they were dropped. Procter & Gamble and Wal-Mart Stores are also not in the list as they have become very small stakes.  

Below is a comparison of Berkshire Hathaway's asset distribution in the "Insurance and Other" area for the last three years: 

The equity exposure is at ~53%. It is ~10% below the highs reached in 2013. On the other hand, cash has gone up by two-thirds over that same period. It is probable that Berkshire would look to allocate some of that cash this year.

Warren Buffett's writings (pdfs) are a treasure trove of information and are a very good option for anyone starting out on individual investing. Books that Warren Buffett recommended in this year’s letter follow:

• Shoe Dog by Nike’s Phil Knight,
• Investment Classics of Jack Bogle.

To learn more about how to profit from a strategy of cloning super-investors, check out our book Profiting from Hedge Funds: Winning Strategies for the Little Guy.

Related Posts:

1. Berkshire Hathaway 2017 Annual Report - Notes. 
2. Berkshire Hathaway 2016 Annual Report - Notes (this post).
3. Berkshire Hathaway 2015 Annual Report - Notes. 
4. Berkshire Hathaway 2014 Annual Report - Notes. 
5. Berkshire Hathaway 2013 Annual Report - Notes .  

Last Updated: 02/2018.