2018 Valuation

[SHDL]

I think 10%-11% from Berkshire from current prices is a reasonable expectation and more importantly the range of outcomes if narrower than for the average firm. There is no chance of it shooting the lights out but also the safety factor makes it a reasonable candidate for a chunk of the portfolio that will survive adverse periods from a position of strength.

I agree, and taking this line of thought one step further, I actually think that buying BRK with leverage may be a sensible strategy for some.  The idea is that if you really think BRK is a low risk moderate return investment, then by applying some leverage you should be able to “convert” that into, say, a moderate risk high return investment.  It goes without saying that you need to be careful about what type of leverage you use and how much, but I can see it working quite well for the type of people who hang out around here.  Personally I do something like this by allocating a chunk of money that otherwise would be in my bond buffer to BRK, meaning that I’m effectively buying BRK with money “borrowed” from my bond buffer. 

[Swedish_Compounder]

When discussing that Berkshire has not performed that well compared to S&P since 1998, I also think it is important to keep in mind that Berkshires valuation has come down tremendously since then.

In 1998, the look-through earnings were 2 BUSD or so. In 2018, it was at least 35 BUSD (operating earnings + earnings from investees). There has not been much dilution since end of 1998 (around 10%). Look through EPS has grown almost 15% compounded during those 20 years.

My point is that EPS has increased 15-fold, but the stock has increased less than six-fold during the last twenty years. Berkshires valuation multiples have contracted significantly compared to the market valuation.

[Lemsip]

Actually if you use portfoliovisualizer and compare an investment in Berkshire vs the Vanguard S&P 500 benchmark, Berkshire is significantly ahead starting 1998,1999,2000 and so on even as you say the valuation has compressed.

https://www.portfoliovisualizer.com/backtest-portfolio

[vinod1]

AdjustedEarnings, SwedishValue, khturbo, Jurgis & Lemsip - Great points.

Most reasonable people estimate future growth in total earnings power at Berkshire to grow at between 8% to 11% (my own range is 8-10% with 9% as my central expectation). To avoid confusion, I say total earnings power instead of IV, because IV is dependent on the growth rate.

When you take a growth rate of 10% or below, the only way it would be worth 1.5x BV or more is if we use a discount rate that is lower than that. Banal observation. But without specifying one's discount rate the justified BV multiple does not convey the full picture. I like how khturbo made it explicit.

Vinod

[shalab]

khturbo - can you find any utility selling for book value in the market? If yes, I would like to know the names.


You value Geico as follows:

I value Geico by taking TTM premiums of $34.1 billion, multiplying them by a 5% profit margin (being a bit conservative relative to the 94.1% CR historically), subtracting a 21% tax rate, and giving that income stream a 25x multiple. That gets a value of $33.7 billion.

Progressive which is smaller than Geico has a market cap of 42 B and P/B of 4.0.

Overall, I feel you are undervaluing a lot of assets significantly compared to the market.  However, I hope there will be more selling and the prices drop as I and my family will be net buyers for the next 2-3 decades atleast

[shalab]

vinod1, I am curious if you use book value multiple for other stocks in your portfolio, if not why not?

I am curious to know as I see many people put an anchor with book value on BRK stock. However, they have no problems issuing buy recommendations for MSFT or AMZN which has lower earning yield and much higher P/B rations.

AdjustedEarnings, SwedishValue, khturbo, Jurgis & Lemsip - Great points.

Most reasonable people estimate future growth in total earnings power at Berkshire to grow at between 8% to 11% (my own range is 8-10% with 9% as my central expectation). To avoid confusion, I say total earnings power instead of IV, because IV is dependent on the growth rate.

When you take a growth rate of 10% or below, the only way it would be worth 1.5x BV or more is if we use a discount rate that is lower than that. Banal observation. But without specifying one's discount rate the justified BV multiple does not convey the full picture. I like how khturbo made it explicit.

Vinod

[wachtwoord]

Actually if you use portfoliovisualizer and compare an investment in Berkshire vs the Vanguard S&P 500 benchmark, Berkshire is significantly ahead starting 1998,1999,2000 and so on even as you say the valuation has compressed.

https://www.portfoliovisualizer.com/backtest-portfolio

Thanks for the link. Do you know of any such resource to backtest European stocks as well? (The available stocks seem to be restricted to N. American companies)

[vinod1]

vinod1, I am curious if you use book value multiple for other stocks in your portfolio, if not why not?

I am curious to know as I see many people put an anchor with book value on BRK stock. However, they have no problems issuing buy recommendations for MSFT or AMZN which has lower earning yield and much higher P/B rations.

AdjustedEarnings, SwedishValue, khturbo, Jurgis & Lemsip - Great points.

Most reasonable people estimate future growth in total earnings power at Berkshire to grow at between 8% to 11% (my own range is 8-10% with 9% as my central expectation). To avoid confusion, I say total earnings power instead of IV, because IV is dependent on the growth rate.

When you take a growth rate of 10% or below, the only way it would be worth 1.5x BV or more is if we use a discount rate that is lower than that. Banal observation. But without specifying one's discount rate the justified BV multiple does not convey the full picture. I like how khturbo made it explicit.

Vinod

shalab,

I do not use Book Value much if at all. To me a business is worth some multiple of owners earnings. 

The multiple is based on how fast and how long owners earnings grow which is a function of its competitive advantage and total addressable market size.

If I cannot estimate owner earnings, it is an automatic pass for me. I find it very difficult to wrap by head around valuation without owners earnings. 

If I use book value, it is mostly as a shortcut once I estimated the IV using the owners earnings x multiple. So if I estimate BRK IV to be $200 and book value is $160, to keep track of it more easily in my head, I use the derived value of 1.25 BV multiple.

Vinod

[DooDiligence]

vinod1, I am curious if you use book value multiple for other stocks in your portfolio, if not why not?

I am curious to know as I see many people put an anchor with book value on BRK stock. However, they have no problems issuing buy recommendations for MSFT or AMZN which has lower earning yield and much higher P/B rations.

AdjustedEarnings, SwedishValue, khturbo, Jurgis & Lemsip - Great points.

Most reasonable people estimate future growth in total earnings power at Berkshire to grow at between 8% to 11% (my own range is 8-10% with 9% as my central expectation). To avoid confusion, I say total earnings power instead of IV, because IV is dependent on the growth rate.

When you take a growth rate of 10% or below, the only way it would be worth 1.5x BV or more is if we use a discount rate that is lower than that. Banal observation. But without specifying one's discount rate the justified BV multiple does not convey the full picture. I like how khturbo made it explicit.

Vinod

shalab,

I do not use Book Value much if at all. To me a business is worth some multiple of owners earnings. 

The multiple is based on how fast and how long owners earnings grow which is a function of its competitive advantage and total addressable market size.

If I cannot estimate owner earnings, it is an automatic pass for me. I find it very difficult to wrap by head around valuation without owners earnings. 

If I use book value, it is mostly as a shortcut once I estimated the IV using the owners earnings x multiple. So if I estimate BRK IV to be $200 and book value is $160, to keep track of it more easily in my head, I use the derived value of 1.25 BV multiple.

Vinod

Book value becomes an analog?

[khturbo]

Shalab - the purpose of the article was explicitly to not use industry comps but to value the various pieces based on cash flows. You are correct that in almost every case the values are lower than publicly traded comps. I've mentioned to a couple of others, that's because I discounted things back to 10%. I don't think that's necessarily what they're worth, but it's a function of my own personal opportunity cost. If you would have used a market return of 8% or so the value would be above $250. On that note, in the first couple of paragraphs there's a link to my model. You can open it up and change the assumptions to your liking.

One quick note on Geico, that was the value of just the underwriting profit stream. You'd have large value for fixed income investment income and the equity portfolio if it was separate. The value of all that combined would be well over $42bb.

Thanks for the thoughts,

Kyler