Yesterday’s shareholder letter from Warren Buffett, CEO of Berkshire Hathaway, which accompanied the firm’s annual report, is an eagerly awaited annual event. Berkshire Hathaway which is headquartered in Omaha, Nebraska, is formally an insurance operator, but its investments in a variety of subsidiary companies make it much more than just that and have produced steady flows of returns to its shareholders. These financial gains have enabled the company consistently to outperform stock market averages.
Motley Fool has produced a handy digest of Buffett’s annual letter and some key points caught my eye:
When our In the News blog reported on Buffett’s purchase of railway company, Burlington North Santa Fe (BNSF), back in late 2009, it raised concerns that perhaps this was Buffett’s biggest business gamble yet. $26bn rising to $44bn when the rail company’s debts are paid off, seemed a steep price tag for an example of ‘old’ transport infrastructure. Surely, Berkshire Hathaway would have been better advised to invest in cutting-edge transport like aviation. It already owned fractional jet ownership company, Netjets, after all. But here, it appears, the Sage of Omaha once again proved his critics wrong.
BNSF’s earning power is proving to be stronger even than Buffett thought likely, with revenue up from $1.7bn in 2009 to $2.5bn last year. The future prospects for BNSF look good, considering the cost advantages enjoyed by rail over its main competing mode of transport. Berkshire Hathaway’s CEO says that rail is three times as efficient as road, measured in tons of freight carried per gallon of diesel. This effect is magnified the more that the oil price increases.
The second eye-catching aspect concerns Berkshire Hathaway’s core activity: its insurance business. In insurance, firms collect money up front in the form of premiums; they then pay out money on claims later. The money an insurer holds is known as ‘float’ and at Berkshire this totals $66bn. This is the capital that insurance companies use to sustain their business model. They invest it in a portfolio of bets on different businesses, stocks, shares and other assets. Berkshire has managed to meet all claims and expenses out of premiums alone, without having to touch its investment income for eight consecutive years. This, apparently, is almost unheard of in the insurance business.
The final highlight of the letter in my view neither Buffett’s upbeat prognosis of the health of the US economy, nor his contention that the housing sector will recover in a year or so. It is the fact that, compared to some leading business organisations, Berkshire Hathaway is famously careful with its money. The firm’s world headquarters only cost just over $250,000 per year and the total spent on office furnishings, art, and refreshment facilities and so on, is only just over $300,000. This figure is dwarfed by the sums paid by many other big companies, giving just one clue as to how Buffett has been so successful for so long.