Here are some highlights extracted from the 2013 letter:
Over the stock market cycle between
yearends 2007 and 2013, we overperformed the S&P. Through full cycles in
future years, we expect to do that again. If we fail to do so, we will not have
earned our pay. After all, you could always own an index fund and be assured of
S&P results.
Though the
Heinz acquisition has some similarities to a “private equity” transaction,
there is a crucial difference: Berkshire never intends to sell a share of the
company. What we would like, rather, is to buy more, and that could happen:
Certain 3G investors may sell some or all of their shares in the future, and we
might increase our ownership at such times. Berkshire and 3G could also decide
at some point that it
would be
mutually beneficial if we were to exchange some of our preferred for common
shares (at an equity valuation appropriate to the time).
With Heinz, Berkshire now owns 81/2
companies that, were they stand-alone businesses, would be in the Fortune
500. Only 4911/2 to go.
Berkshire’s extensive insurance operation
again operated at an underwriting profit in 2013 – that makes 11years in a row
– and increased its float. During that 11-year stretch, our float – money that
doesn’t belong to us but that we can invest for Berkshire’s benefit – has grown
from $41 billion to $77 billion.
While Charlie and I search for elephants,
our many subsidiaries are regularly making bolt-on acquisitions.Last year, we contracted for 25 of these,
scheduled to cost $3.1 billion in aggregate. These transactions ranged from
$1.9 million to $1.1 billion in size.
Charlie and I encourage these deals. They deploy capital in activities that fit with our
existing businesses and that will be managed by our corps of expert managers.
The result is no more work for us and more earnings for you. Many more of these
bolt-on deals will be made in future years. In aggregate, they will be meaningful.
In a year in which most equity managers
found it impossible to outperform the S&P 500, both Todd Combs and Ted
Weschler handily did so. Each now runs a portfolio exceeding $7 billion.
They’ve earned it .I must again confess that their investments outperformed
mine. (Charlie says I should add “by a lot.”) If such humiliating comparisons
continue, I’ll have no choice but to cease talking about them.
Todd and Ted have also created significant
value for you in several matters unrelated to their portfolio activities. Their
contributions are just beginning: Both men have Berkshire blood in their veins.
And, if you think tenths of a percent
aren’t important, ponder this math: For the four companies in aggregate, each
increase of one-tenth of a percent in our share of their equity raises
Berkshire’s share of their annual earnings by $50 million.
The four companies possess excellent
businesses and are run by managers who are both talented and shareholder-oriented.
At Berkshire, we much prefer owning a non-controlling but substantial portion
of a wonderful company to owning 100% of a so-so business; it’s better to have a partial
interest in the Hope diamond than to own all of a rhinestone.
Our flexibility in capital allocation –
our willingness to invest large sums passively in non-controlled businesses –
gives us a significant advantage over companies that limit themselves to
acquisitions they can operate. Woody
Allen stated the general idea when he said: “The advantage of being bi-sexual
is that it doubles your chances for a date on Saturday night.” Similarly,
our appetite for either operating businesses or passive investments
doubles our chances of finding sensible uses for our endless gusher of cash.
Indeed, who has ever benefited during the
past 237 years by betting against America? If you compare our country’s present
condition to that existing in 1776, you have to rub your eyes in wonder. And
the dynamism embedded in our market economy will continue to work its magic.
America’s best days lie ahead.
With this tailwind working for us, Charlie and I hope to build
Berkshire’s per-share intrinsic value by:
(1) constantly improving the basic earning
power of our many subsidiaries;
(2) further increasing their earnings
through bolt-on acquisitions;
(3) benefiting from the growth of our
investees;
(4) repurchasing Berkshire shares when
they are available at a meaningful discount from intrinsic value; and (5)
making an occasional large acquisition. We will also try to maximize results
for you by rarely, if ever, issuing Berkshire shares.
Though individual policies and claims come
and go, the amount of float an insurer holds usually remains fairly stable in
relation to premium volume.
If our premiums exceed the total of our
expenses and eventual losses, we register an underwriting profit that adds to
the investment income our float produces. When such a profit is earned, we
enjoy the use of free money – and, better yet, get paid for holding it.
Looking ahead, I believe we will continue
to underwrite profitably in most years. Doing so is the daily focus of all of
our insurance managers who know that while float is valuable, it can be drowned
by poor underwriting results.
Just as surely, we each day write new
business and thereby generate new claims that add to float. If our revolving
float is both costless and long-enduring, which I believe it will be, the true
value of this liability is dramatically less than the accounting liability.
A counterpart to this overstated liability
is $15.5 billion of “goodwill” that is attributable to our insurance companies
and included in book value as an asset. In very large part, this goodwill
represents the price we paid for the float-generating capabilities of our
insurance operations. The cost of the goodwill, however, has no bearing on its
true value. For example, if an insurance business sustains large and prolonged
underwriting losses, any goodwill asset carried on the books should be deemed
valueless, whatever its original cost. Fortunately, that does not describe
Berkshire. Charlie and I believe the true economic value of our insurance
goodwill – what we would happily pay to purchase an insurance operation
possessing float of similar quality to that we have – to be far in excess of
its historic carrying value. The
value of our float is one reason – a huge reason – why we believe Berkshire’s
intrinsic business value substantially exceeds its book value.
I won’t explain all of the adjustments –
some are tiny and arcane – but serious investors should understand the
disparate nature of intangible assets: Some truly deplete over time while
others in no way lose value. With software, for example, amortization charges
are very real expenses. Charges against other intangibles such as the
amortization of customer relationships, however, arise through
purchase-accounting rules and are clearly not real costs. GAAP accounting draws
no distinction between the two types of charges. Both, that is, are recorded as
expenses when earnings are calculated – even though from an investor’s
viewpoint they could not be more different.
Every dime of depreciation expense we
report, however, is a real cost. And that’s true at almost all other companies
as well. When Wall
Streeters tout EBITDA as a valuation guide, button your wallet. Our public reports of earnings
will, of course, continue to conform to GAAP. To embrace reality, however,
remember to add back most of the amortization charges we report.
Charlie and I believe that all
shareholders should have access to new Berkshire information simultaneously and
should also have adequate time to analyze it. That’s why we try to issue
financial information late on Fridays or early on Saturdays and why our annual
meeting is held on Saturdays. We do not talk one-on-one to large institutional
investors or analysts, but rather treat all shareholders the same. Our hope is
that the journalists and analysts will ask questions that further educate our
owners about their investment.
ON NFM:
I think back to August 30, 1983 – my
birthday – when I went to see Mrs. B (Rose Blumkin), carrying a 11/4-page
purchase proposal for NFM that I had drafted. (It’s reproduced on pages 114 -
115.) Mrs. B accepted my offer without changing a word, and we completed the
deal without the involvement of investment bankers or lawyers (an experience
that can only be described as heavenly). Though the company’s financial
statements were unaudited, I had no worries. Mrs. B simply told me what was
what, and her word was good enough for me. Mrs. B was 89 at the time and worked
until 103 – definitely my kind of woman. Take a look at NFM’s financial
statements from 1946 on pages 116 - 117. Everything NFM now owns comes from (a)
that $72,264 of net worth and $50 – no zeros omitted – of cash the company then
possessed, and (b) the incredible talents of Mrs. B, her son, Louie, and his
sons Ron and Irv.
The punch line to this story is that Mrs.
B never spent a day in school. Moreover, she emigrated from Russia to America
knowing not a word of English. But she loved her adopted country: At Mrs. B’s
request, the family always sang God Bless America at its gatherings.
Aspiring business managers should look
hard at the plain, but rare, attributes that produced Mrs. B’s incredible
success. Students from 40 universities visit me every year, and I have them
start the day with a visit to NFM. If they absorb Mrs. B’s lessons, they need
none from me.
Most of you have never heard of Energy
Future Holdings. Consider yourselves lucky; I certainly wish I hadn’t. The
company was formed in 2007 to effect a giant leveraged buyout of electric
utility assets in Texas. The equity owners put up $8 billion and borrowed a
massive amount in addition. About $2 billion of the debt was purchased by
Berkshire, pursuant to a decision I made without consulting with Charlie. That
was a big mistake.
Unless natural gas prices soar, EFH will almost certainly file for
bankruptcy in 2014. Last year, we sold our holdings for $259 million. While
owning the bonds, we received $837 million in cash interest. Overall, therefore,
we suffered a pre-tax loss of $873 million. Next time I’ll call Charlie.
I tell these tales to illustrate certain
fundamentals of investing:
You don’t need to be an expert in order to
achieve satisfactory investment returns. But if you aren’t, you must recognize
your limitations and follow a course certain to work reasonably well. Keep
things simple and don’t swing for the fences. When
promised quick profits, respond with a quick “no.”
Focus on the future productivity of the
asset you are considering. If you don’t feel comfortable making a
rough estimate of the asset’s future earnings, just forget it and move on. No
one has the ability to evaluate every investment possibility. But omniscience isn’t necessary;
you only need to understand the actions you undertake
If you instead focus on the prospective
price change of a contemplated purchase, you are speculating. There is nothing
improper about that. I know, however, that I am unable to speculate
successfully, and I am skeptical of those who claim sustained success at doing
so. Half of all coin-flippers will win their first toss; none of those winners
has an expectation of profit if he continues to play the game. And the fact
that
a given asset has appreciated in the
recent past is never a reason to buy it.
With my two small investments, I thought
only of what the properties would produce and cared not at all about their
daily valuations. Games are
won by players who focus on the playing field – not by those whose eyes are
glued to the scoreboard. If you can enjoy Saturdays and Sundays without looking
at stock prices, give it a try on weekdays.
Forming macro opinions or listening to the
macro or market predictions of others is a waste of time. Indeed, it is dangerous because it may
blur your vision of the facts that are truly important.
...if a moody fellow with a farm bordering
my property yelled out a price every day to me at which he would either buy my
farm or sell me his – and those prices varied widely over short periods of time
depending on his mental state – how in the world could I be other than
benefited by his erratic behavior? If his daily shout-out was ridiculously low,
and I had some spare cash, I would buy his farm. If the number he yelled was
absurdly high, I could either sell to him or just go on farming.
Those people who can sit quietly for
decades when they own a farm or apartment house too often become frenetic when
they are exposed to a stream of stock quotations and accompanying commentators
delivering an implied message of “Don’t just sit there, do something.” For
these investors, liquidity is
transformed from the unqualified benefit it should be to a curse.
A “flash crash” or some other extreme
market fluctuation can’t hurt an investor any more than an erratic and
mouthy neighbor can hurt my farm investment. Indeed, tumbling markets can be helpful to
the true investor if he has cash available when prices get far out of line with
values. A climate of fear is
your friend when investing; a euphoric world is your enemy.
Most investors, of course, have not made
the study of business prospects a priority in their lives. If wise, they will
conclude that they do not know enough about specific businesses to predict
their future earning power.
I can’t remember what I paid for that
first copy of The Intelligent Investor. Whatever the cost, it would underscore
the truth of Ben’s adage:
Price is what you pay, value is what you get. Of
all the investments I ever made, buying Ben’s book was the best (except for my
purchase of two marriage licenses).
Full letter : BRK
