SportsCenter is full of the amazing: half court buzzer beaters, circus catches in the end zone, diving outfield catches, and on and on. I can’t remember many layups that make the highlight reel.
There will be no highflying heroics in my idea. Just standing under the bucket consistently and reliably hitting three point layups. Yes, three point layups. Buying a great company at a fair price that will grow over time is a two point layup and a reliable and consistent path to investment success. Buying a world class company run by one of best investors of all time at a significant discount to fair value is hitting a three point layup.
Berkshire Hathaway is a collection of great businesses held both as fully owned operating businesses and as investments in publicly traded companies. The management at Berkshire carries a superb reputation for honest, reliably consistent and shareholder focused actions. Most importantly, Berkshire is available for investment today at historically low valuations.
When we can invest in a great business run by world class managers at low valuations, we invest aggressively and believe doing so is akin to hitting three point layups. Such opportunities are rare but, interestingly, are often associated with great simplicity in the thesis. Investing in a great business available at a significant discount to instrinsic value is our goal, and can be as simple as hitting layups.
Elements of Value:
1. High quality investment portfolio
2. Stable of owned businesses that continue to generate cash and grow in value
3. Insurance business that, while I have valued at zero for purposes of conservative analysis, have a long history of profitable operations that generate cash flow for new investments
4. Corporate capital allocation from consistent cash generation deployed to most optimal uses by supreme capital allocators: Warren Buffett, Charlie Munger and the investment team they have assembled
5. Consistently increasing intrinsic value through the acquisition and ownership world class companies
Warren Buffett is transparent in how he thinks about the value of his own company. In other words, one of the best investors of all time nearly walks us through how to arrive at his company’s intrinsic value.
A conservative current estimate of intrinsic value comprises the combined value of Berkshire’s investments and operating businesses per the playbook laid out by Buffett himself.
• Berkshire has roughly $107,000 of per share investments at the end of Q2 2012
• Berkshire has a per share earnings run rate from its operating businesses of roughly $7,600 and this run rate is increasing on a year to year basis including in 2012
• Buffet has historically implied (through discussions and annual reports) a fair value multiple for such earnings of 11x to 13x
• I have used a 10x multiple to further the conservative nature of the calculation ascribing roughly $76,000 per share for the operating businesses
• I have conservatively ascribed no value to the insurance business even though it historically averages profitable operations
* Current estimate of intrinsic value is $183,000 per share which should continue to increase over time
* Cash levels continue to build quarter to quarter increasing the base of investments and/or dollars available for future full business acquisitions
* Existing businesses continue to grow in value
The current conservatively estimated intrinsic value of Berkshire Hathaway is significantly less than where Berkshire is available for investment today (roughly $127,000 per A share). In addition to the current significant value gap, intrinsic value will continue to increase as time progresses. The insurance businesses will continue to add cash available to grow the base of investments and fully owned operating businesses. The existing investments and businesses will continue to grow in value.
To put valuation in another perspective, let’s assume the investments are valued on a dollar for dollar basis. So, of the roughly $127,000 in today’s Class A share price, there is $107,000 in per share investments. The remaining operating businesses can then be acquired for well under 3x earnings (paying $20,000 for roughly $7,600 in per share pre tax operating earnings).