Amid growing cash pile, Warren Buffett upbeat about Berkshire's long-term outlook

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Posted: Saturday, March 1, 2014 12:00 am


Notable excerpts from the letter

A PDF version of Buffett's letter

In the short term, Warren Buffett wants to put Berkshire Hathaway Inc.'s excess billions to work.

But he's also aiming for the long term, looking for businesses that are successful today and will be flourishing a century from now.

Doing both is the challenge and the strength of Berkshire, he said Saturday in his annual letter to shareholders of the Omaha-based conglomerate he heads.

“I like your company's prospects,” he told shareholders in the letter, which included financial results as well as Buffett's plain-language discussion about a range of topics. The letter is considered by many to be a highlight of the annual report season.

He said the biggest and best Berkshire-owned companies are destined to prosper well into the next century, reinforcing his consistently optimistic view of the American economy and Berkshire's future.

Ever-rising U.S. prosperity is “very close to a sure thing,” Buffett said.

“... The dynamism embedded in our market economy will continue to work its magic. America's best days lie ahead.”


Berkshire's cash on hand is growing by $2 billion a month and reached a year-end record of $42.6 billion on Dec. 31. Idle cash can lose value to inflation and, more important, miss out on profits from lost opportunities.

Even after $18 billion in acquisitions last year, and even if a major catastrophe brought huge claims to its insurance division, Buffett said, Berkshire would remain “awash in cash” and a strong player in the business world.

He praised Berkshire's investments in BNSF Railway, MidAmerican Energy, H.J. Heinz and others as businesses that will prosper “a century hence.” He even promised that in next year's letter to shareholders, marking his 50th year in charge of Berkshire, he will “speculate a bit about the next 50.”

That seems to be a new “100-year test,” said Tom Russo, a partner in Gardner Russo & Gardner of Lancaster, Pa., a $9 billion investment fund with about 11 percent of its holdings in Berkshire.

“The measure of our patience is now denominated in a century,” Russo said. “The test seems to be, will it be around 100 years from now?” If you believe something can last 100 years, he said, “it gives you a margin of safety that it will carry you comfortably through the next 20.”

Berkshire's cash hoard also means it can invest billions in existing businesses, such as its railroad, to generate future profits, Russo said, and the latest report shows an “undiminished” capacity to reinvest in the company.

While some believe that the growing cash pile may pressure Buffett to make investments, Russo said that's not necessarily true. “There is nothing wrong in doing nothing when it's called for.”

“Stuff comes along,” Russo said. “And the unique profile in Berkshire is limitless capital and your word is your bond,” so that when a high-dollar deal comes along, Berkshire has the money to invest in the right situations.

Buffett has pledged to keep at least $20 billion in cash on hand. “Financial strength and redundant liquidity will always be of paramount importance at Berkshire,” Buffett said earlier, adding, “However slow the economy, or chaotic the markets, our checks will clear.”

That leaves more than $20 billion for acquisitions or new investments.

“Just because you're in a mall doesn't mean you have to buy something,” said George Morgan, an investment instructor at the University of Nebraska at Omaha. “Having $20 billion in cash for a year or two, in the context of Berkshire, that's not a big deal,” especially at a time when acquisition prices seem high.

In the letter to shareholders, Buffett said Berkshire subsidiaries made 25 “bolt-on” acquisitions, or additions of related businesses to existing operations, in 2013 for a total of $3.1 billion.

The company spent $18 billion to buy NV Energy, a Las Vegas Utility, and the 50 percent interest in H.J. Heinz. Buffett said he may take part in other investment partnerships such as the Heinz purchase with 3G Capital, a Brazilian hedge fund.

Full coverage: Buffett's letter to shareholders

For all our stories on Buffett's letter, bookmark Warren Watch.

Overall, Buffett stressed, company operations turned out well — “in certain cases very well” — in 2013.

He said Berkshire's “powerhouse five” businesses — MidAmerican Energy, BNSF, Iscar, Lubrizol and Marmon — had $10.8 billion in pre-tax earnings, a record, in 2013.

He said Berkshire's financial strength lets it invest its “endless gusher of cash” in businesses it doesn't control, such as IBM or Wells Fargo & Co., as well as in acquiring companies outright, rather than one or the other. “Woody Allen stated the general idea when he said: 'The advantage of being bisexual is that it doubles your chances for a date on Saturday night,' ” Buffett wrote.

Buffett noted that Berkshire added to its investments in American Express, Coca-Cola, IBM and Wells Fargo. Although Berkshire doesn't own all of their stock, he said, “it's better to have a partial interest in the Hope diamond than to own all of a rhinestone.”

James Shanahan, an analyst who follows Berkshire for Edward Jones Co. of St. Louis, said the letter was “a little bit lacking in anything fresh or new or exciting, but it does give us some confidence that the things we understand are unchanged.”

Shanahan said Buffett's comment that he may take part in more acquisitions like the one with 3G Capital in the Heinz deal indicates an important willingness to be a “financing partner” with other acquirers. That could put more of Berkshire's excess capital to work.

“I think that speaks to the difficulty for a company of this size to identify and acquire investments that can really move the needle,” Shanahan said.

The letter's emphasis on the long-term view might be because Buffett has been running the company for nearly 50 years. “It does sort of sound a little bit like someone thinking about his legacy,” Shanahan said, “when he talks about companies having value 100 years from now.”

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Excerpts from Warren Buffett's annual letter released Saturday:

 » H.J. Heinz as template

The acquisition of H.J. Heinz, with Berkshire as the financing partner and investors at 3G Capitol led by Jorge Paulo Lemann responsible for operations, has similarities to a “private equity” transaction, but with a crucial difference, Buffett wrote: Berkshire never intends to sell a share of the company.

“With the Heinz purchase, we created a partnership template that may be used by Berkshire in future acquisitions of size,” Buffett wrote.

He also noted: With Heinz, Berkshire now owns 8½ companies that, if they were stand-alone businesses, would be in the Fortune 500. “Only 491½ to go.”

 » Investment track records

Buffett confesses that the investments of his deputies, Todd Combs and Ted Weschler, outperformed Buffett's own. “(Charlie says I should add 'by a lot.')” In a year when most equity managers found it impossible to outperform the S&P 500, Combs and Weschler “handily did so.”

Each now runs a portfolio exceeding $7 billion and adds shareholder value in other ways. “Their contributions are just beginning: Both men have Berkshire blood in their veins.”

 » Stock buybacks?

Buffett long has told shareholders that Berkshire's intrinsic value far exceeds its book value, and the difference has widened in recent years. That led to a decision in 2012 to authorize the repurchase of shares at 120 percent of book value, a level Buffett believes benefits continuing shareholders. No shares were purchased in 2013 because the stock price didn't descend to the 120 percent level. “If it does, we will be aggressive.”

 » A limit on Buffett's tenure?

Buffett explains in his letter that operating expense data is reported in two ways: once conforming to generally accepted accounting principles, and once in a manner preferred by Buffett and partner Charlie Munger. The adjusted numbers, they say, more accurately reflect the true economic expenses and profits of the aggregated businesses.

For example, for one group of businesses, amortization charges of $648 million are deducted as expenses. Buffett and Munger consider only about 20 percent of those “real.”

“Eventually, of course, the non-real charges disappear when the assets to which they're related become fully amortized. But this usually takes 15 years and — alas — it will be my successor whose reported earnings get the benefit of their expiration,” the 83-year-old Buffett wrote.

 » Powering the economy

Berkshire subsidiaries help power the American economy in many ways, having spent a record $11 billion on plant and equipment during 2013.

When MidAmerican's current projects are complete, its renewables portfolio will have cost $15 billion. “From a standing start nine years ago, MidAmerican now accounts for 7 percent of the country's wind generation capacity, with more on the way. Our share in solar — most of which is still in construction — is even larger.”

BNSF spent $4 billion on the railroad in 2013, a single-year record for any railroad. “And, we will spend considerably more in 2014. Like Noah, who foresaw early on the need for dependable transportation, we know it's our job to plan ahead.” Industrywide, huge investments have been made, and “America's rail system has never been in better shape.”

 » Acquisitions continue

As Buffett and Charlie Munger, Berkshire vice president, continue their search for “elephants,” or major businesses to acquire, many Berkshire subsidiaries regularly are making “bolt-on” acquisitions — 25 of them in 2013, costing a total of $3.1 billion. The transactions ranged from $1.9 million to $1.1 billion in size. Berkshire also invested $3.5 billion to purchase additional shares in two businesses already controlled: Marmon and Iscar.

“Charlie and I encourage these deals. ... The result is no more work for us and more earnings for you.”

 » The 'Powerhouse Five'

“This sainted group,” Buffett wrote, is made up of MidAmerican, BNSF Railway, Iscar, Lubrizol and Marmon. The collection of five large, non-insurance businesses in aggregate had a record $10.9 billion of pre-tax earnings in 2013, up $758 million from 2012. Buffett said he expected earnings of this group to improve again in 2014, perhaps by $1 billion or so pre-tax.

 » The 'Big Four'

Berkshire increased its ownership interest last year in each of its “Big Four” investments: American Express, Coca-Cola, IBM and Wells Fargo. The increases might seem small (for example, IBM ownership increased from 6 percent to 6.3 percent), but Buffett says, “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.”

 » Public pension problems

Buffett again, as he first wrote in 1975, urges “prompt remedial action” where problems exist with public pension plans. He reproduced in his 2014 letter a 1975 memo he wrote to Katharine Graham, then chairwoman of the Washington Post Co., about “the pitfalls of pension promises and the importance of investment policy.”

Local and state financial problems are accelerating, he wrote, in large part because public entities promised pensions they couldn't afford, not appreciating the “gigantic financial tapeworm” created.

Buffett said to expect “a lot of news — bad news — about public pension plans” in the next decade.

 » Advice for nonprofessionals

The goal of a nonprofessional should not be to pick winners in the stock market but to own a cross-section of businesses that, in aggregate, are bound to do well. “A low-cost S&P index fund will achieve this goal.”

Buffett notes that he is putting his money where his mouth is. His will provides that cash will be delivered to a trustee for his wife's benefit (all Berkshire shares are destined for philanthropies), and his advice to the trustee is simply: “Put 10 percent of the cash in short-term government bonds and 90 percent in a very low-cost S&P 500 index fund. (I suggest Vanguard's.)”

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Berkshire Hathaway's Annual Report, 2013 (PDF)

Berkshire Hathaway's Annual Report, 2013 (Text)

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