Equity Research United States of America Financial Services Insurance/Non-Life
April 12, 2010
Berkshire Hathaway Inc.
(BRK.B - US$ 80.49) 2-Equal Weight
Initiation of Coverage
Jay Gelb, CFA 1.212.526.1561
[email protected] BCI, New York
BRK.B: Initiating Coverage With 2-EW
Investment Conclusion
We are initiating coverage of BRK.B with a 2-EW rating and $88 price target, which is 1.30x YE11 estimated book value of $68. Led by Warren Warren Buffett, we expect Berkshire to generate stable operating EPS, slowing book value growth, and reduced return on equity through 2011.
Summary We expect earnings to decline in Insurance (50% of earnings), and recover slowly in MidAmerican (utility), as well as the cyclical Manufacturing, Service & Retail segment. The addition of Burlington Northern (railroad) should be an important contributor to BRK's earnings. We do not expect any large acquisitions near term. BRK's operations appear strong, although we doubt the stock will benefit from valuation multiple expansion in a weakening P&C (re)insurance market, and CEO succession issues persist. BRK shares are up 21% YTD versus a 6% increase in the S&P 500, and appear to already reflect being added to the S&P 500 Index and expectations of improved results as the economy recovers. Conference call is April 12 at 11ET.
EPS (US$) (FY Dec) 2009 1Q 2Q 3Q 4Q Year
Actual 0.73A 0.76A 0.88A 0.87A 3.25A
2010 Old N/A N/A N/A N/A N/A
New 0.71E 0.83E 0.88E 0.92E 3.34E
2011 St. Est. N/A N/A N/A N/A N/A
Old N/A N/A N/A N/A N/A
New N/A N/A N/A N/A 3.47E
24.1
P/E
% Change St. Est. N/A N/A N/A N/A N/A
2010 -3% 9% 0% 6% 3%
2011 N/A N/A N/A N/A 4%
23.2
Market Data
Financial Summary
Market Cap (Mil.)
196767
Dividend Yield
Revenue TTM (Mil.)
112493.0
N/A
52 Week Range
83.57 - 54.66
Stock Overview Reuters Bloomberg
BRK.B BRK.B
Berkshire Hathaway Inc. Inc. - 04/ 09/ 2010 85
ADR 75
65
Stock Rating
Target Price
New: 2-Equal Weight Old: 0-Not Rated
New: Old:
Sector View:
2-Neutral
US$ 88.00 N/A
55 Volume 300M
100M May
Ju n
Ju l
Au g
Sep
Oct
No v
Dec
Jan
Feb
Mar
Ap r
Source: Barclays Capital Live
Note: This report is a summary of our forthcoming full report on Berkshire Hathaway. Hathaway. A conference call for Barclays Capital clients is being held Monday, April 12, 2010 at 11:00AM ET. Dial in details: U.S. (800) 706-8249, International (706) 634-5881, Passcode: 67690752.
Barclays Capital does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.
PLEASE SEE ANALYST(S) CERTIFICATION(S) ON PAGE 60 AND IMPORTANT DISCLOSURES BEGINNING ON PAGE 61 1
Equity Research
INITIATING COVERAGE ON BERKSHIRE HATHAWAY WITH A 2-EW RATING
We are initiating coverage on Berkshire Hathaway with a 2-Equal Weight rating and $88 price target ($132,000 per Class A share) based on 1.30x YE11 estimated book value per Class B share of approximately $68 ($101,500 per Class A share). Berkshire Hathaway, led by Warren Buffett, is a holding company with significant operations in investments, insurance, railroads, utilities, manufacturing, manufacturing, services, retail, and homebuilding. We estimate the company’s annual earning power to be $8-$9 billion including the recently completed Burlington Northern Santa Fe (BNSF) railroad acquisition, and investment results recovered in 2009 after a disappointing outcome in 2008. Warren Buffett anticipates that business conditions will improve improve at a slow place and currently are nowhere near 2007 levels. Based on our projections, Berkshire’s operating EPS growth will likely be constrained through 2011, reflecting declining earnings in Insurance, a strong contribution from BNSF, and a slow recovery in the other major units including MidAmerican (utilities and energy), Manufacturing, Service, and Retail, and Finance and Financial Products (Clayton Homes). We Recommend Waiting For A More Attractive Entry Point Before Adding To Positions
Berkshire Hathaway shares rose 21% (versus a 6% increase in the S&P 500) year-to-date 2010 in part, we believe, because of increased demand and liquidity in BRK shares resulting from being added to the S&P 500 Index and the Class B share split, as well as anticipated anticipated benefits from an economic recovery. The stock’s current valuation valuation of 1.41x book value per share probably already reflects anticipated anticipated benefits of an economic recovery. Plus, our 2010 and 2011 operating EPS estimates estimates are 8%-10% below consensus expectations, reflecting our outlook for a modest earnings recovery including contributions from the BNSF acquisition. As a result, we recommend investors wait for a more attractive entry point before adding to positions. Berkshire Hathaway’s Operating Business Is Diversified
The largest contributors to Berkshire’s operating earnings are the Insurance, BNSF, and the Manufacturing, Service, and Retail segments. We expect BNSF (railway (railway operator) to generate the strongest earnings growth growth among the operating segments. Meanwhile, we anticipate earnings earnings could decline in Insurance (accounts for one-half of Berkshire’s operating earnings), and recover slowly in MidAmerican (utilities and energy), a s well as in the economically sensitive Manufacturing, Service, and Retail, and Finance and Financial Services units. Figure 1. Berkshire Hathaway’s Hathaway’s Business Mix Mix - 2009 Pre-tax Earnings
Revenues BNSF 11%
Insurance 27%
Finance and Financial Financial Products 4%
Manufacturing, Service, and Retail 49%
BNSF 19%
Finance and Financial Financial Products 6%
Insurance 49% Manufacturing, Service, and Retail 15% MidAmerican 9% MidAmerican 11%
Total 2009 Revenues Proforma for BNSF Acquisition: $124.8 billion
Total 2009 Pre-tax Earnings Earnings Proforma f or BNSF BNSF Acquisition: $13.7 billion
Note: Revenues and pre-tax earnings are pro forma for BNSF acquisition. Source: Barclays Capital research.
Book Value per Share Growth Has Resumed
Berkshire Hathaway has a successful long-term track record of increasing book value per share (a key valuation metric). Berkshire’s book value per share increased 20% to an all-time high of $56 per Class B share ($84,487 per Class A share) in 2009 helped by a recovery in investment and derivative valuations after declining 10% to $47 per Class B share ($70,530 per Class A share) in 2008 due to the financial crisis. crisis. By year-end 2011, we anticipate Berkshire’s Berkshire’s book value per Class B share could increase to roughly $68 ($101,500 per Class A share) driven in part by estimated operating EPS of $3.34 per B Class share ($5,015 per Class A share) in 2010 and $3.47 per Class B share ($5,200 per Class A share) in 2011 and assuming ongoing 8% annualized equity investment returns. returns. Despite losing its AAA ratings from the rating agencies, the company’s company’s th balance sheet and liquidity position position remain strong, in our view. As a point of reference, Class B shares shares are valued at 1/1,500 of Class A shares.
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Figure 2. Berkshire Hathaway’s Hathaway’s Book Value Per Class B Share $80
25%
$70
20%
e r $60 a h S B $50 s s a l C r e $40 P e u l a $30 V k o o B $20
15% 10% V 5% 0%
B n i e g n a h C %
-5%
$10
-10%
$0
-15% 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010E 20 2011E Book ook Va Value lue Per Cla Clas ss B Share hare
% Cha Chang nge e in BV
Source: Company data, Barclays Capital research.
Operating Earnings Appear Stalled
Berkshire’s operating earnings per share could be mostly unchanged, and we expect return on equity to decline through 2011 reflecting our outlook of reduced earnings in property-casualty (P&C) Insurance, the new contribution to earnings from BNSF, and a slow recovery in earnings elsewhere in in the enterprise. Berkshire’s annual earning power is is roughly $8-$9 billion, we believe. Accurately estimating the company’s future operating EPS and book value per share present significant challenges because Berkshire Hathaway is highly diversified, with volatile earnings in its reinsurance business, and it offers limited transparency into business and investment operations operations for modeling purposes, in our view. Berkshire’s excess cash appears to be largely largely deployed in the early 2010 acquisition of the remainder remainder of BNSF not already owned by Berkshire. Berkshire. As a result, opportunities opportunities to generate earnings growth from additional large acquisitions appear curtailed. Figure 3. Berkshire Hathaway Hathaway Operating EPS Per Class B Share and ROE Operating Earnings Per Class B Share $5
Book Value Per Class B Share and ROE
$4.16 $4.15
$4.02 $4
$3.25
$3.34
$3.47
$80
10%
$70
9% 8%
$60
$3 $2.16 $2
7%
$50
6%
$40
5%
$30
4% 3%
$20
$1 $0 2005
2006
2007
2008
2009
2010E
2011E
E O R g n i t a r e p O
2%
$10
1%
$0
0% 2005
2006 2007 2008 2009 Book ook Va Value lue Pe Per Cla Clas ss B Share hare
2010E 2011E Opera peratin ting g RO ROE
Source: Company data, Barclays Capital Research
We expect Berkshire’s Insurance business to generate reduced operating income through 2011 due to declining underwriting profits and reduced investment income. These underwriting results should should be driven by: GEICO’s underwriting margins are compressing and growth is expected to slow in 2010. We expect General Re to be disciplined, which could result in flat premium volume, and catastrophe losses could increase from low levels. • •
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Equity Research •
Berkshire Hathaway Reinsurance Group’s results will likely reflect modest underwriting profits if catastrophe losses increase to normal levels.
Figure 4. Berkshire Hathaway’s Insurance Business in $ bil $35
Total Insurance Premiums Earned
$30 $25
in $ bil $9
$31.8
$22.0
$27.9
$25.5
$24.0
$28.5
$29.4
Tot al Insurance Pre- t ax Earnings $8.1
$8.2
$7.5
$8
$6.7
$7
$5.8
$6
$20
$5
$15
$4
$5.4
$3.5
$3
$10
$2 $5
$1
$0
$0 2005
2006
2007
2008
2009
2010E
2011E
2005
2006
2007
2008
2009
2010E
2011E
Source: Company data, Barclays Capital Research
Our outlook for Berkshire’s non-insurance businesses is for a boost to earnings through 2011 from the addition of BNSF and a modest recovery in the other units. After suffering a sharp decline in earnings in 2009 due to the weak weak economy, we anticipate a slow recovery in earnings (albeit from depressed levels) for the Manufacturing Service & Retail segment, and stable earnings in the Finance and Financial Financial Products unit. The MidAmerican utility utility business is expected to generate modest normalized annual earnings growth driven by PacifiCorp’s rate cases and a drop in some expenses partially offset by continued investment in the platform. platform. Overall, we estimate that that annual pre-tax earnings power is about $7 bn from Berkshire’s Berkshire’s non-insurance businesses including BNSF. Figure 5. Berkshire Hathaway’s Non-Insurance Businesses Non Insur ance Revenues Revenues
Non Insurance Total Pre-tax Operating Margin
BNSF acquisition $120 $100 $76.8
$80
l i b $ $60 n i
$58.7
$94.0
$85.0
$77.7
2008
2009
$98.4
$68.4
$40 $20 $0
BNSF acquisition
10% 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% 2005
2005
2006
2007
2010E
2006
Non Insurance Pre-tax Earnings
$9 $8 $7 $6 l i b$5 $ n$4 i $3 $2 $1 $0
$8.2 $7.2 $5.9
2008
2009
2010E
2011E
Non Insurance Pre-t ax Earnings Per Class A Share
BNSF acquisition
BNSF acquisition
$6,000
$5,004
$5,000
$7.2
$6.4
2007
2011E
e r a h $4,000 S A s $3,000 s a l C $2,000 r e P
$4.0 $3.3
$3,828
$4,123
$4,630
$4,408 $2,566
$2,168
$1,000 $0
2005
2006
2007
2008
2009
2010E
2011E
2005
2006
2007
2008
2009
2010E
2011E
Source: Company data, Barclays Capital Research
CEO Succession Questions
The quality of Berkshire’s management team is very strong, in our view, although management succession concerns are warranted. Berkshire Hathaway is synonymous with its chairman and CEO Warren Buffett (age 79), whom we believe is in the twilight of his career. Mr. Buffett’s current succession plan is to split his operating duties between a new CEO (all three leading candidates are internal according to him), who would be responsible for the oversight of business operations, and three or so external people reporting to the CEO CEO to manage the investment portfolio. Clearly, the “Buffett “Buffett premium” embedded within Berkshire’s Berkshire’s share price appears to be at risk of eroding once he retires. Warren Buffett probably has enough time to set his succession plan in motion to minimize disruption, although other complex companies with iconic CEOs faced challenges during the leadership transition phase.
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Equity Research
According to press reports, Warren Buffett’s successor as CEO is presumed to be David Sokol, chairman of MidAmercan Energy (Berkshire’s utility business)1. Mr. Sokol (age 53) has been involved in in the energy industry industry for 30 years. He successfully improved results at Berkshire’s NetJets operation and was instrumental in the MidAmerican’s $5 bn acquisition of PacifiCorp. Based on Mr. Sokol’s strong track record, record, we believe he would be successful as the next CEO of Berkshire Berkshire Hathaway. Berkshire Hathaway’s Key Metrics
Berkshire Hathaway is a challenging challenging company to analyze as a result of its disparate businesses. The main metrics we focus on in terms of tracking business fundamentals include revenue and profit trends in the major business segments, as well as trends in book value per share, investments, float, and free cash flow. Figure 6. Berkshire’s Key Key Metrics KEY METRICS
AREAS OF FOCUS OPERATING SEGMENTS
Insurance
Premium growth and underwriting income trends, especially for GEICO and GenRe. This segment’s investment income is an important contributor to operating earnings.
Burlington Northern Santa Fe
Railcar loadings, revenue/revenue ton-mile (a proxy for rail rates), operating margins, CAPEX needs, and general economic conditions.
MidAmerican
Regulated utility rate changes, economic conditions in the Midwest, free cash flow position, CAPEX needs, as well as inflation and interest rate trends.
Manufacturing, Service, and Retail
Monitor for signs of stabilizing revenues and earnings as the lingering impact of the global recession eases.
Finance & Financial Products
Focus on signs of stabilizing revenues at Clayton Homes, and housing starts data. BALANCE SHEET & CASH FLOW
Book value per share
Critical valuation metric for Berkshire shares.
Investments
Growth in investments (currently $146 bn) would likely increase Berkshire’s intrinsic value.
Float
Increased float (currently $62 bn) from P&C insurance operations offers opportunities for investments and acquisitions.
Unrealized investment gains/losses
Market value changes in Berkshire’s $57 bn equity investment portfolio are reflected in book value, not operating earnings.
Derivative gains/losses
Non-cash mark-to-market changes in Berkshire’s $38 bn of notional derivative contacts affect book value but not operating earnings.
Free cash flow
Free cash flow (approximately $11 bn in 2009) can be deployed in investments or acquisitions. CAPEX are significant for the MidAmerican and BNSF businesses.
1
“The Next Oracle of Omaha: Mr. Sokol?”, The Wall Street Journal, Journal, Feb., 28, 2010. “NetJets Pick More Likely to Succeed Buffett”, Buffett”, Barron’s, August 5, 2009. “For Buffett Fans, the Price Is Right”, Barron’s, July 13, 2009.
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Equity Research Source: Barclays Capital research.
Financial Outlook
Berkshire’s operating EPS declined 22% in 2009 to $3.25 per Class B share ($4,879 per Class A share), reflecting reduced earnings in all major segments. We anticipate earnings growth and return on equity should should stall through 2011 owing to declining earnings in Insurance, the addition addition of BNSF, and a slow recovery for the other Non-Insurance units. We expect operating earnings per class B share to rise 3% year-over-year to $3.34 ($5,015 per Class A share) in 2010, and advance 4% to $3.47 ($5,200 per Class A share) in 2011, although we recognize limitations in accurately forecasting the company’s earnings. We estimate Berkshire’s Berkshire’s annual after-tax after-tax earnings power is is roughly $8-$9 billion billion inclusive of BNSF. BNSF. Outstanding shares after the BNSF acquisition are approximately 2.45 billion Class B equivalent shares and 1.65 million Class A equivalent shares. Following is our earnings outlook for Berkshire’s business segments: •
•
•
•
•
Insurance (49% of total pre-tax segment income income pro forma for BNSF). We expect pre-tax income to decline in 2010 & 2011 driven by increased competition, slack demand, rising loss cost inflation, and reduced investment income. BNSF (19% of pre-tax income) could show the most robust earnings growth driven by the anticipated benefits of an economic recovery on freight rail volume as well as positive operating leverage. MidAmerican (11% of pre-tax income) could generate modestly increased normalized earnings reflecting stabilizing economic conditions, continued solid regulatory treatment, and the lingering benefit of several PacifiCorp rate cases (a regulatory proceeding to establish customer rates). Manufacturing, Service & Retail (15% of pre-tax earnings) cou ld generate slightly increased earnings in the second half of 2010 & 2011 as the economy recovers. Finance & Financial Products (6% of pre-tax income) ear nings could stabilize despite housing market weakness due to cost cutting.
Berkshire’s book value per share growth is expected to rise, although the company’s return on equity is e xpected to decline as the increase in book value per share outpaces earnings growth. growth. Typically, price-to-book price-to-book valuations tend not to increase if ROEs decline. Also, free cash flow is expected to decline decline in part from BNSF’s BNSF’s CAPEX needs. By year-end 2011, we estimate Berkshire’s book value per Class B share could increase 20% versus YE09 to approximately $68 ($101,500 per Class A share) based on our operating EPS outlook of $3.34 per Class B share ($5,015 per Class share) in 2010 and $3.47 per Class B share ($5,200 per Class A share) in 2011 and assuming ongoing 8% annualized equity investment returns returns from current levels. As a point of reference, each 2 percentage point change in equity investment valuations equates to roughly $0.30 per Class B share ($450 per Class A share), or 0.5% of book value per share. Berkshire’s total operating return on equity (ROE) could decline to 5.7% in 2010 and 5.3% in 2011 from 6.3% in 2009 reflecting reduced in Insurance earnings and a slow recovery in businesses outside Insurance, partially offset by the acquisition of BNSF. Berkshire’s operating ROE is normally normally depressed because of its significant capital position, as well as low asset and financial leverage. Berkshire’s comprehensive ROE, which includes contributions from realized and unrealized investment, and derivative gains/losses, could fall to 8.9% in 2010 and 7.6% in 2011 from 18% in 2009, which benefitted from robust investment returns. Total free cash flow could decline to roughly roughly $8 bn both in 2010 and 2011 versus $11 bn in 2009. Berkshire expects capital expenditures at MidAmerican to be $2.6 bn in 2010 down from $3.4 bn in 2009, and BNSF’s capital expenditures are anticipated to be $2.4 bn in 2010. •
•
•
•
Our Price Target Is $88 Per Class B Share ($132,000 per Class A share)
We determine our price target for Berkshire Hathaway of $88 per Class B share ($132,000 per Class A share) primarily by applying a price-to-book multiple of 1.30x (versus 1.41x currently and a historical average since 2000 of 1.59x) to our YE 2011 book value estimate of around $68 per Class B share ($101,500 per Class Class A share). As a point of reference, our price target valuation implies a price-to-tangible book multiple of 1.86x, versus 1.91x currently and a historical average since 2000 of 2.26x. Our $132,000 price target on BRK.A shares is 1.30x YE11 estimated book value of $101,500.
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Equity Research
Figure 7. Berkshire Hathaway Price-To-Book & Price-to-Tangible Book 2.1
3.3
Trailing Price-to-Stated Book Multiple
2.0
3.1
1.9
2.9
1.8
2.7
1.7
2.5
1.6
2.3
1.5 1.4
2.1
1.3
1.9
1.2
1.7
1.1
Trailing Price-to-Tangible Book Multiple
9 9 c e D
0 0 c e D
1 0 c e D
2 0 c e D
3 0 c e D
4 0 c e D
5 0 c e D
6 0 c e D
7 0 c e D
8 0 c e D
1.5
9 0 c e D
9 9 c e D
0 0 c e D
1 0 c e D
2 0 c e D
3 0 c e D
4 0 c e D
5 0 c e D
6 0 c e D
7 0 c e D
8 0 c e D
9 0 c e D
Source: FactSet, Barclays Capital research.
Berkshire’s operating business remains strong, in our view. However, we believe that Berkshire shares are unlikely to benefit from valuation multiple expansion over the next year because Berkshire’s operating EPS appear constrained, return on equity is likely to decline, and book value growth growth is expected to slow. As a result, we are applying a price target price-to-book price-to-book multiple below its historical average level. We also estimate Berkshire’s fair value using sum-of-the-parts and intrinsic value methods, which generate an ou tlook of approximately $87 per Class B share ($130,000 per Class A) and $73 per Class B share ($110,000 per Class A share), respectively (see our detailed valuation work on page 45). What Could Improve Our Outlook?
All else being equal, we would likely need to see a pullback in Berkshire’s share price to around $72 per Class B share ($108,000 per Class A share, and a trailing price-to-book multiple of around 1.3x) before we could potentially view its valuation as attractive. Alternatively, our outlook outlook could improve if we see upside to our estimates for Berkshire’s Berkshire’s book value per share (our YE11 estimate is $68 per Class B share and $101,500 per Class A share) and operating EPS (our 2011 estimate is $3.47 per Class B share and $5,200 per Class Class A share). We view growth in book value per share as being more sustainable if it is driven by operating earnings rather than by mark-to-market gains in investment and derivative valuations. A tight property-casualty reinsurance market or improvement in GEICO’s underwriting margins would also b e favorable for the stock, in our view, but neither appears likely. likely. A positive inflection inflection point in Berkshire’s earning power could become evident evident if a recovery occurs faster than we anticipate in BNSF or the economically sensitive Manufacturing, Service and Retail segment. MidAmerican could generate better than modeled revenues and earnings if economic conditions improve faster than anticipated, particularly in the Midwest, and if its expenses are lower than modeled. Note: Class B shares trade at 1/1,500th the price of Class A shares, and Class B shares have 1/10,000th the voting power of Class A shares. BERKSHIRE HATHAWAY IS A DISTINCTIVE BUSINESS
Berkshire Hathaway Inc., led by the legendary Warren Buffett (age 79), is a holding company owning approximately 80 entire companies and others partially across across various industries. Berkshire’s annual operating earning earning power is $8-$9 billion based on its current business profile, we believe. Berkshire’s most significant businesses are P&C insurance and reinsurance, which account for one-half of operating earnings and generate substantial funds available for investment known as float ($62 billion as of year-end 2009). Among Berkshire’s most important important insurance and reinsurance units are GEICO, GEICO, the third largest auto insurer in the United States, and two of the largest global reinsurers—General Re and the Berkshire Hathaway Reinsurance Group. Berkshire’s non-insurance businesses, some of which are economically sensitive, also account for one-half of the company’s earnings. These businesses include rail transportation, utilities utilities and energy, finance, manufacturing, services, retailing, and manufactured housing. In early 2010, Berkshire Hathaway completed completed its $26 billion acquisition acquisition of BNSF, one of the largest railroad freight operators in the U.S. Berkshire is also the majority owner of MidAmerican Energy Holdings Company, Company, a global provider of the generation, transmission, and distribution of energy.
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Intrinsic Value Per Share Growth
Berkshire Hathaway’s long-term long-term economic goal is to maximize its average annual rate of gain in intrinsic business value per share. Intrinsic value, which is the discounted discounted value of the cash that can be taken out of a business during its remaining life, life, is a subjective metric since it involves estimates of future earnings and a discount rate. Warren Buffett views Berkshire’s book value per share growth as a conservative, but reasonably adequate proxy, for growth in the intrinsic value of the company. This conservatism arises because the carrying carrying value of businesses controlled by Berkshire Berkshire is typically much lower than their intrinsic value (according to him, book value tells you what was put in, while intrinsic value tells you what can be taken out). For instance, the carrying values for many of Berkshire’s Berkshire’s acquired businesses are significantly below their economic economic value, in management’s view. However, we doubt that Warren Buffett would sell any of Berkshire’s operating businesses, businesses, which means value is unlikely to be unlocked immediately. immediately. Annual book value per share growth is expected to generally move in lockstep with intrinsic value per share growth, although non-cash mark-to-market effects from Berkshire’s derivatives portfolio could increase volatility in book value. Berkshire Hathaway’s book value per Class A share, a key valuation metric, climbed from $19.46 in 1964, the year Warren Buffett assumed management responsibilities, responsibilities, to $84,487 as of 4Q09 (the Class Class A shares have never split). This result translates into a 20.3% compound annual gain since 1964 – substantially more than the 9.3% return of the S&P 500 Index including dividends. Berkshire’s long-term long-term track record is consistent, with with the company reporting annual declines in book value per share in only two years – 2001 and 2008 (book value recovered 19.8% in 2009). Meanwhile, the S&P 500 Index including dividends declined in 11 years since since 1964. Berkshire’s compound annual book value growth exceeded that of of the S&P in four of the past five years and seven of the past ten years. The average compound annual gain has slowed compared to the early years but is robust nonetheless. Berkshire Hathaway’s Business Model
Berkshire’s impressive impressive long term track record of book value and intrinsic value per share growth is all the more interesting because management maintains a consistent perspective on how its diversified business should be run. Berkshire Hathaway has a differentiated and highly successful business model, with operations spanning from insurance and energy to furniture and confections. Warren Buffett controls controls voting power over 29.5% of Berkshire’s Berkshire’s Class A shares. shares. He and his partner Charlie Munger (age 86) have built a collection of companies, both wholly and partially-owned, partially-owned, with attractive economic characteristics characteristics and run by their own managers. Mr. Buffett and Mr. Munger’s Munger’s operating plan is simple: identify identify talented managers and provide an environment in which they can perform at a high level. Berkshire Hathaway’s Hathaway’s core operating businesses are diversified diversified across many industries. A challenge facing Berkshire, in in our view, is finding significant significant acquisitions large enough to have a notable effect on earnings earnings power. As a point of reference, Berkshire generated roughly $9 billion of after-tax income in 2009 if BNSF is included. Insurance is the company’s largest business and includes GEICO (motor vehicle insurer), General Reinsurance (one of the largest global reinsurers), and Berkshire Hathaway Reinsurance Group, which writes large and unusual risks. GEICO’s growth is expected to slow, and reinsurance pricing should weaken due to excess capacity and slack demand. The Utilities, Energy, and Railroads unit consists of MidAmerican (utility and energy) and the recently-acquired BNSF (one of the largest operators operators of railroad systems in North America). America). Together, these businesses account for about 30% of Berkshire’s earnings. MidAmerican and BNSF are capital intensive operations and represent represent opportunities for Berkshire to reinvest excess cash at reasonable returns, in our view. The Manufacturing, Service, and Retail unit , a collection of companies ranging from manufacturers of building products and paint, to apparel makers, to retailers retailers of home furnishings and jewelry. jewelry. This unit likely exhibits the the highest sensitivity to economic conditions. The Finance and Financial Products unit consists mostly of Clayton Homes, which is the largest company in the manufactured housing industry. The weak housing market has impacted sales, although although Clayton’s finance operation has held up well compared to the other lenders. •
•
•
•
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Equity Research
Figure 8. Berkshire Hathaway Revenue and Earnings By Segment, 2009 Pre-tax Earnings
Revenues BNSF 11%
Insurance 27%
Finance and Financial Financial Products 4%
Manufacturing, Service, and Retail 49%
BNSF 19%
Finance and Financial Financial Products 6%
Insurance 49% Manufacturing, Service, and Retail 15% MidAmerican 9% MidAmerican 11%
Total 2009 Revenues Proforma for BNSF Acquisition: $124.8 billion
Total 2009 Pre-tax Earnings Earnings Proforma f or BNSF BNSF Acquisition: $13.7 billion
Note: Revenues and pre-tax earnings are proforma for BNSF acquisition. Source: Company data, Barclays Capital Research
Berkshire operates a decentralized management structure with only 21 employees located at the Omaha, Nebraska headquarters. This arrangement means the operating managers run their their businesses as they see fit with little little interference as long as goals are met. Meanwhile, Warren Buffett Buffett deploys excess cash generated by Berkshire’s subsidiaries subsidiaries (especially the insurance operations), and focuses on capital allocation allocation decisions. Excess cash from the operating businesses is used to acquire other businesses that are expected to consistently earn above average returns on capital, as well as for buying marketable securities. Mr. Buffett typically prefers prefers using cash for acquisitions rather than than stock because he wants to receive as much value in a transaction as he gives up by issuing shares. Warren Buffett says he would like to buy large businesses in any industry with the right management, an attractive economic future, and at a reasonable price. However, we anticipate anticipate Berkshire will not be involved in major acquisitions acquisitions anytime soon because the company deployed the majority of its excess cash in the BNSF transaction. Book Value Growth Recovers
Berkshire Hathaway’s book value value per share growth is an important valuation metric. metric. The company’s book value per share increased substantially over the years, reflecting reflecting excess cash being deployed into new businesses and investments. investments. With the exception of the BNSF and GenRe deals, most of Berkshire’s large acquisitions are for all cash, meaning existing shareholders are not diluted. After a 10% decline in Berkshire’s Berkshire’s book value per share in 2008 (the largest in its history), history), the company’s book value per share recovered 20% in 2009 to a record level of $84,487 per Class A share. The primary factors contributing to changes in Berkshire’s book value per share are earnings from the operating businesses, derivative gains/losses, realized investment gains/losses, and unrealized investment gains/losses (reflected in accumulated comprehensive other income). Berkshire does not, nor does it anticipate, paying paying a shareholder dividend or repurchasing its shares. In most years, net earnings are expected to be larger than other comprehensive comprehensive income (OCI). (OCI). However, in 2008, net earnings of $5.0 bn were more than offset by OCI of $(17) bn due to net unrealized investment losses generated during the financial crisis. In 2009, net earnings were $8.1 billion and OCI was $13.7 billion, billion, reflecting a strong recovery recovery in investment valuations. Berkshire’s compound annual growth growth rate of book value per share is 20.3% from 1965-2009. Growth averaged 9.2% annually over the past five years, and recovered 19.8% in 2009 after a 9.6% decline decline in 2008. Berkshire’s book value per share growth growth exceeded the S&P 500’s total return including dividends by: 11.1% since 1965, 6.1% on average over the past five years, 27.4% in 2008, and (6.7)% in 2009. Notably, Berkshire’s Berkshire’s growth is inclusive of taxes while while the S&P results are pre-tax. We anticipate Berkshire’s book value per Class B share could grow from $56.32 ($84,487 per Class A share) in 2009, to approximately $62.76 ($94,000 per Class Class A share) in 2010, and to $67.70 ($101,500 per Class A share) in 2011. Our outlook takes into account our projections of Berkshire’s future earnings, modeled valuation changes in the investment portfolio, and the addition of BNSF along with a modestly increased share count.
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Figure 9. Berkshire Hathaway Hathaway Book Value Per Share Growth Growth Book Value Per Class A Share
Annual Change in Book Value Per Class A Share
$120,000 $100,000 60% 50% 40% 30% 20% 10% 0% -10% -20%
$80,000 $60,000 $40,000 $20,000 $0
1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 E E 9 9 9 9 9 9 9 9 9 0 0 0 0 0 0 0 0 0 0 0 1 9 9 9 9 9 9 9 9 9 0 0 0 0 0 0 0 0 0 0 1 1 1 1 1 1 1 1 1 1 1 2 2 2 2 2 2 2 2 2 2 0 0 2 2
E 1 E 2 9 3 9 4 9 5 9 6 9 7 9 8 9 9 0 0 0 1 0 2 0 3 0 4 0 5 0 6 0 7 0 8 0 9 0 9 9 9 1 9 1 9 1 9 1 9 1 9 1 9 2 0 2 0 2 0 2 0 2 0 2 0 2 0 2 0 2 0 2 0 0 1 0 1 1 1 2 2
Source: Company data, Barclays Capital research.
Float Is the Fuel for Investments
Berkshire’s float from its its insurance businesses is a critical driver driver of new cash available for Warren Buffett Buffett to invest. The 2 economic benefits from float float are reflected in investment income. income. Float is the money Berkshire holds and invests for its benefit but does not own, and is generated by insurance insurance premiums being received before claims are paid. Most P&C insurers generate float, but not to Berkshire’s extent on either an absolute basis or relative to premium volume. Both the growth and cost of float are are important. The growth of float float means more cash is is available for investment. investment. Berkshire’s cost of float, as measured by the percentage of P&C underwriting losses to premium volume, is negative in most years because the insurance operations generate underwriting profits. Negative cost float is a meaningful benefit for Berkshire because it means the company is being paid to hold other people’s money. In the years when float has a positive cost for Berkshire resulting from underwriting underwriting losses, we believe it is useful to compare its cost of funds to the yield on long-term U.S. Treasuries. Berkshire’s float as of year end 2009 is $62 billion, up from $58 billion in 2008 and $46 billion in 2004 as a result of internal growth, acquisitions, and writing retroactive retroactive reinsurance contracts. About three-quarters of the company’s float is generated by GenRe and Berkshire Hathaway Reinsurance Group, with smaller contributions from GEICO (auto insurance is short-tail) and Berkshire Hathaway Primary Group. Berkshire’s float is largely responsible for generating $5.2 bn of pre-tax insurance investment income in 2009, up 5.6% from 2008, despite low interest rates. rates. The growth in investment income in 2009 was was largely due to increased investments in debt and convertible securities partially partially offset by low earnings on cash balances. These investments include Goldman Goldman Sachs, General Electric, Swiss Re, Wrigley, and Dow Chemical, which together generate $2.1 billion in annualized dividends and interest before potential gains from from attached warrants. We anticipate investment income could decline decline as a result of reduced portfolio yields, and the Swiss Re convert investment likely being redeemed in 2011. (continued on next page)
2
Float is an approximation of the amount of net policyholder funds available for investment. That term denotes the sum of unpaid losses and loss adjustment expenses, unearned premiums and other policyholder liabilities, less the aggregate amount of premium balances receivable, losses recoverable from reinsurance ceded, deferred policy acquisition costs, deferred charges on reinsurance contracts and related deferred income taxes.
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Figure 10. Berkshire Hathaway Insurance Float & Pre-tax Investment Income Insurance Float
Insurance Float By Segment, YE2009 $62 billion at year-end 2009
Berkshire Hathaway Primary Insurance Group, 8%
$70 $60 $50
Gen Re, 34%
Acquired General Re
l i $40 b $ n $30 i
GEICO, 16 %
$20 $10
Berkshire Hathaway Reinsurance Group, 42%
$0 1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
Note: Average Insurance float is presented for 1990-1996 . Ending Insurance float is presented for 1997 thr u 2009.
Cost of Float
Total Float YE2009 $62 billion
Pre-tax Insurance Investment Income
$6
30%
$5.2
25%
$5 $4
s n o i l l i b $3 $ n i
10% 5% 0%
$4.7
2007
2008
$4.9
$4.8
2010E
2011E
$4.3
20% 15%
$4.8
$3.5
$2
-5% -10%
$1
-15% -20% 1993
1995
1997
1999
2001
2003
2005
2007
2009
2011E
$0 2005
2006
2009
Note: General Re, which was acquired in December 1998, eliminated a one-quarter reporting lag reporting in 2000. Cost of float data for 2000 is adjusted to show 12 months. Source: Company data, Barclays Capital Research
BERKSHIRE’S SOURCES OF VALUE
Berkshire Hathaway has two major sources of value—invested assets primarily in its insurance operations, and the value of earnings from sources other than investments investments and insurance. The company’s investments and cash in the insurance insurance and other business are $146 bn as of YE09 and are expected to generate recurring income as well as unrealized gains or losses. Berkshire’s roughly 70 other businesses than insurance are mostly economically sensitive and suffered declining returns on equity over the past several years. Pre-tax earnings from the non-insurance non-insurance businesses were $4 bn in 2009, down 35% vs 2008 excluding unusual items, reflecting the impact o f the recession. Investments—A Key Source of Berkshire’s Value
Berkshire’s investments investments mostly from Insurance operations are one of the company’s company’s primary sources of value. Berkshire’s investments and cash at year-end 2009 were $146 bn, excluding excluding investments in the finance and utility operations. operations. About half of these investments are funded by Berkshire’s Berkshire’s insurance float. The company made roughly $20 billion of new investments investments during the financial crisis beginning in 2008, which have paid off attractively so far. •
•
•
Equities: As of YE09, Berkshire’s equity investments of $57 billion include large stakes in Coca-Cola, Wells Fargo, Procter & Gamble, American Express, and Kraft Foods (five largest investments account for about 60% of equities holdings). In early 2009, Berkshire Berkshire suffered a $3 bn pre-tax pre-tax loss from its equity stake in ConocoPhillips. In addition to owning General Re, Berkshire Hathaway is the largest shareholder of Munich Re with 8% ownership, and owns a 3% stake in Swiss Re. We view Berkshire’s stakes in two of GenRe’s major competitors as financial investments rather than potential paths to an outright acquisition. Fixed maturity investments: These total $33 billion as of YE09, with corporate bonds (both investment-grade and below investment-grade) and foreign foreign government bonds accounting for the largest proportion. proportion. U.S. Treasuries, municipal bonds, and mortgage backed securities account for the remainder. Other investments: These total $29 billion as of YE09, and include investments made during the financial crisis in Goldman Sachs, General Electric, Wrigley, Wrigley, Dow Chemical, and Swiss Re. In total, these investments are expected to 11
Equity Research
generate $2 bn of annual investment income, and provide evidence of Berkshire’s ability to deploy large amounts of cash quickly at attractive rates of return. In 2008, Berkshire purchased convertible preferred and warrant investments with 10% dividends in Goldman Sachs ($5 bn) and General Electric ($3 bn) at the height of the financial crisis, as well as $4.4 bn of Wrigley subordinated notes (11.45% coupon) due in 2018 and $2.1 bn of 5% preferred stock. The Goldman and GE warrants issued to Berkshire Berkshire expire in 2013. The strike price for the Goldman warrants warrants is $115 (versus a current share price of $179.50), and the strike price for the GE warrants is $22.24 (versus a current share price of $18.56). These deals provide evidence of Berkshire’s ability ability to deploy large amounts of cash quickly quickly at attractive rates of return. In 2009, Berkshire invested CHF 3 bn ($2.7 bn) in a Swiss Re perpetual convertible preferred security carrying carrying a 12% coupon to support Swiss Re’s financial financial condition. Swiss Re intends to redeem its convert issued issued to Berkshire now that Swiss Re’s financial financial condition has improved and to avoid dilution to its its existing common shareholders. This convert can be redeemed by Swiss Re at 120% of face value beginning March 2011 (140% before then), meaning about $325 mn of annual investment income would be lost lost upon redemption. Warren Buffett’s investment investment in Swiss Re (CH:RUKN) was shrewd in hindsight since the conversion price is CHF 25—substantially below Swiss Re’s current share price of CHF 52.35. Berkshire also purchased a $3 bn investment in Dow Chemical convertible preferreds with a 8.5% coupon. •
Cash: As of YE09, Berkshire’s cash balance was $31 billion (with $8 billion b illion committed to finance the BNSF acquisition), down from $44 $44 billion in 2006. Warren Buffett intends to hold at least $20 billion billion in cash, and the rating agencies expect Berkshire to maintain at least $10 bn of cash on hand.
Figure 11. Investments & Pre-tax Insurance Investment Income Investments Investment Investment Mix Fixed Fixed In come, 22.3%
Cash, 19.1% Investments in $ bil $180 $160 $140 $120 $100 $80 $60 $40 $20 $0 1997
per A share $120,000 $100,000 $80,000
Other, 19.9%
$60,000 $40,000 Equit y, 38.7%
$20,000 $0 1999
2001
2003
2005
2007
2009 2011E Total Investments at fair value: $146 billion as of YE09
Invest me ment s
Invest me ment s Per Class A Share
$6 Other, 28.7%
AXP, 11.3%
KO, 20.9%
COP, 3.5%
$5 $4
s n o i l l i $3 b $ n i
$4.9
$4.8
2010E
2011E
$4.3 $3.5
$2
WFC, 16.5%
$1
JNJ, 3.4% PG, 9.2%
Pre-tax Insurance Investment Income $5.2 $4.8 $4.7
KFT, 6.5%
$0
Total Equity Investments YE09 $57 billion
2005
2006
2007
Note: Investments are in the Insurance & other business only, not including the finance and utility businesses. Source: Company data, Barclays Capital Research
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2009
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Non-Insurance Businesses Accounts for One-Half of Operating Earnings
Berkshire’s roughly 70 non-insurance businesses account for about half of the company’s pre-tax segment earnings (inclusive of BNSF), generate roughly $7bn in annual pre-tax earnings, and enhance the company’s sensitivity to economic conditions: The Utilities, Energy, and Railroads segment includes MidAmerican, MidAmerican, and BNSF. Earnings are expected to grow through 2011 although these businesses require substantial capital investments. The Manufacturing, Service, and Retail unit is Berkshire’s most economically sensitive segment an d is expected to generate modest earnings growth by 2011 from a low low base. The largest businesses in this unit include include Marmon (a group of 130 manufacturing and service businesses), McLane (wholesale distribution and logistics services), and Shaw (carpet manufacturer). The Finance and Financial Products Products unit is mostly Clayton Homes Homes (manufactured housing). This business has been hurt by housing market weakness and we anticipate profits could recover slowly. •
•
•
In 2009, Berkshire’s non-insurance operating segment revenues (not including BNSF) declined 9% to $78 billion and pre-tax earnings fell 35% (excluding the one-time benefit from Constellation in 2008) to $4 billion because of weakness in the Manufacturing, Service, Service, and Retail segment. Pre-tax earnings for the Non-Insurance businesses businesses per Class B share were $1.71 ($2,566 per Class A share) in 2009, $3.09 ($4,629 pe r Class A share including a $705 per share benefit from Constellation) in 2008, and $2.75 ($4,123 per Class Class A share) in 2007. Including BNSF, we estimate estimate Non-Insurance pre-tax earnings per B share could increase to roughly $2.93 ($4,400 per Class A share) in 2010 and $3.33 ($5,000 per Class A share) in 2011. Our outlook for Berkshire’s non-insurance businesses is for earnings to increase through 2011 from the addition of BNSF and a modest recovery in the other units. After suffering a sharp decline in in earnings in 2009 due to the weak global economy, we anticipate a slow recovery in earnings (albeit from depressed levels) by 2011 for the Manufacturing Service & Retail segment as well as the Finance and Financial Products unit. The MidAmerican utility utility business is expected to generate modest normalized earnings growth driven by PacifiCorp’s rate cases, coupled with a drop in some expenses and continued investment in the platform. Figure 12. Non Insurance Business Metrics Pre-tax Pre-tax Operating Margin
Non Insurance Revenues $120,000
30% 25%
$100,000
20%
$80,000 l i m $ $60,000 n i
15%
$40,000
5%
10%
0%
$20,000
2005
2006
20 07
2008
2009
2010E
2011E
$0 2005 MidAmerica MidAmerican n
2006
2007
Burlington Burlington Northern
2008
2009
Manufacturing Manufacturing,, Service ervice,, Retailing l ing
2010E
2011E
Finance n ance & Financi Financial a l Products
Manufa Manufactur cturing ing,,Servi Service, c e,Retai Retailing l ing
MidAmer MidAmerica ican
Bu rlrlingt o on n No No rtrt h he ern
Finance & Fin anci al Pr Pr od odu ct ct s
Non Insurance Pre-tax Earnings
Non Insuran ce Pre-tax Earning s Per ClassA Share
$10,000
$6,000
$8,000
$5,000
$6,000
$4,000
l i m $ $4,000 n i
$3,000 $2,000
$2,000
$1,000
$0
$0
-$2,000 2005
2006
2007
2008
2009
2010E
2011E
-$1,000 2005
M idAmer ican
Const ellat ion ( 2008 )
Bu rling t on Nort hern
M anu fact ur ing, Ser vice, Ret ailin g
Fi na nan ce ce & Fi na nan ci ci al al Pr Pr od od uc uc ts ts
Ear ni ni ng ng sat tr tr ib ib ut ut ab ab le to to n on on co co nt nt ro ro l in g i nt nt er er es est s
200 6
M idAm erican
2007
2008
200 9
2010E
2011E
Const ellat ion ( 200 8)
Bu rlin gt on Nort her n
M anuf act ur ing, Service, Ret ai lin g
Fi na nan ce ce & Fi na na nc nc ia l Pr od od uc uc ts ts
Ear ni ni ng ng s at tr tr ib ib ut ut ab ab le to to no no nc nc on on tr tr ol ol li ng ng in in te ter es est s
Source: Company data, Barclays Capital research
BERKSHIRE’S INSURANCE INSURANCE PROFITS EXPECTED EXP ECTED TO DECLINE
Insurance is the core of Berkshire Hathaway’s business, contributing about half of segment pre-tax proforma operating earnings in 2009. Warren Buffett extols the benefits of of Berkshire’s insurance because it usually usually generates low or negative cost funds available for investment. Berkshire’s insurance ratings were recently cut to the AA level from AAA, but this change 13
Equity Research
is not expected to have a meaningful impact on its business or borrowing borrowing costs. Berkshire’s major insurance operations operations include: GEICO, the third largest automobile insurer in the U.S., General Re, one of the world’s largest reinsurers, Berkshire Hathaway Reinsurance Group, which uses Berkshire’s substantial capital position to write large and unusual risks such as property catastrophe or retroactive reinsurance , and Berkshire Hathaway Primary Group is smaller than the other insurance units and consistently contributes float at negative cost. • • •
•
Berkshire is one of the largest writers writers of motor vehicle insurance in the U.S. U.S. and reinsurance globally. However, it has a less significant presence in U.S. primary commercial property-casualty insurance as the 13 th largest writer. writer. Other publicly-traded publicly-traded U.S. commercial P&C insurers with a similar or larger market share than Berkshire include Chartis (AIG), Travelers, Zurich, CNA, ACE, Chubb, The Hartford, and XL Capital. Figure 13. Insurance Segment Contribution - 2009 Revenues
Pre-t Pre-t ax Earnings Earnings Insurance Revenue $33.1 billion Non-Insurance Pre-tax Pre-tax Income $7.0 billion
Insurance PrePretax Income $6,7 billion
Non-Insurance Revenue $91.7 billion
Note: Non-Insurance revenues and pre-tax earnings are proforma for BNSF acquisition. Source: Company Data, Barclays Capital Research
GEICO’s premiums and underwriting earnings profile tends to be smooth because auto insurance is a frequency-driven business. Meanwhile, GenRe’s GenRe’s and BH Reinsurance Group’s premium premium volume and underwriting results can be volatile volatile because they specialize in high-severity high-severity exposures. In fact, Berkshire has said it is willing willing to lose $7 billion in a single insured event if properly paid for assuming the risk. Auto insurance rates are rising modestly, although policies-in-force (PIF) growth could slow due to the weak economy, and underwriting margins have compressed due to rising loss cost trends. Traditional reinsurance pricing is flat-to-down flat-to-down 10% reflecting stable demand and increased capacity now that the industry’s balance sheet has recovered from the financial crisis and catastrophe losses in 2009 were low.
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Equity Research
Figure 14. Berkshire’s Insurance Businesses Metrics Metrics Premiums Earned
Underwriting Profits in $ bil $5 $4 $3 $2 $1 $0 -$1 -$2
in $ bil $35 $30 $25 $20 $15 $10 $5 $0 2005
2006
2007 GEICO
2008
GenRe
2009
BHRG
2010E
2011E
2006
BHPG
2007 GEICO
Insurance Float
in $ bil
2005
GenRe
BHRG
2009
2010E
2011E
BHPG
Pre-tax Pre-tax Investment In come
in $ bil
$70
2008
$6
$60
$5
$50 $40
$4
$30
$3
$20
$2
$10
$1
$0 2005
2006
2007
2008
2009
$0 2005
GEICO
GenRe
BHRG
2006
2007
2008
2009
2010E
2011E
BHPG
Source: Company Data, Barclays Capital Research
GEICO—Among Berkshire’s Strongest Operations
GEICO is a pure-play motor motor vehicle insurer focused on the U.S. private private passenger market. It is among Berkshire Hathaway’s Hathaway’s most well-known businesses, providing a steady stream of underwriting profits as well as negative cost float for investments. GEICO’s market share gains reflect consumers’ increasing comfort with buying low-cost automobile insurance over the telephone and internet. However, reflecting industry trends, we expect GEICO’s GEICO’s growth to slow and underwriting margins to decline due to rising loss cost trends. GEICO’s results tend to be less volatile volatile that Berkshire’s other other insurance businesses because of its low catastrophe exposure and the outsourcing of homeowner’s insurance coverage. GEICO, based in Chevy Chase, Maryland, is the third largest private passenger motor vehicle insurer in the U.S. with $14 billion of annual premium volume (up from $3 bn when Berkshire acquired full ownership of the company in 1996), and accounts for roughly half of Berkshire’s Berkshire’s Insurance premium volume. Once the economy recovers, GEICO’s GEICO’s modest commercial auto insurance business could contribute to growth. GEICO’s chairman, president president and CEO is Tony Nicely, age 66, who joined the company in 1960 and assumed leadership in 1992. Since becoming CEO, Mr. Mr. Nicely aggressively expanded GEICO’s GEICO’s market share to 8.1% in 2009 up from 1.9% in in 1993, a level the company had long maintained. GEICO’s performance performance is judged on 1) its percentage growth in policyholders, policyholders, and 2) the earnings of its “seasoned” business, meaning meaning policies that have been in-force for more than a year. GEICO keeps its operating expenses low compared to premium volume, which means the company has strong positive operating leverage. GEICO’s chief investment officer officer is Lou Simpson. He joined GEICO in 1979 and has been GEICO’s chief investment officer for over 20 years. His investment performance, which which reflects in part a $6.6 billion billion allocation to equities, is often praised praised by Warren Buffett. GEICO consistently gains market share and reports best-in-class premium volume growth owing to its low-cost strategy and strong brand awareness. GEICO is the largest advertising advertising spender in the auto insurance sector with an annual budget of $800 million, nearly double the advertising advertising budget of the second largest auto insurance advertiser. advertiser. GEICO contributes contributes 16% ($9.6 billion) of Berkshire’s $62 billion float, reflecting reflecting the short-tail nature of this insurance business. GEICO’s statutory (accounting method used by state insurance regulators) operating income excluding after-tax net realized investment gains/losses was $790 million in 2009, down from $974 million in 2008.
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Figure 15. GEICO Metrics Pr i vat e Passen ger Aut o In su r ance M ar k et Sh ar e
In su r ance Fl oat
9% 8% 7%
6.2%
6% 4.6%
5%
4.7%
6.7%
7.1%
7.6%
16% 14%
$10.0
12%
5.5%
5.0%
$12.0
8.1%
s n o i l l i b $ n I
4% 3%
$8.0
10%
$6.0
8% 6%
$4.0
2%
g h c %
4% $2.0
1% 0% 2001
2002
2003
2004
2005
2006
2007
2008
2009
2%
$0.0
0% 1998 1998 1999 1999 2000 2000 2001 2001 2002 2002 2003 2003 2004 2004 2005 2005 2006 2006 2007 2007 2008 2008 2009 2009 Insurance Float
St at u t o r y Net In come
St at u t or y Oper at i n g In come
In $Millions
In $Millions
$1,600 $1,400
% ch chg
$1,385
$1,400
$1,429
$1,238
$1,200
$1,200
$1,259
$1,229
$1,058
$974
$1,000
$1,000 $715
$800
$790
$800 $600
$600
$400
$400
$205
$200
$200 $0
$0 2005
2006
2007
2008
2009
2005
2006
2007
2008
2009
Note: Operating income excludes after-tax net realized investment gains and losses. Source: Company data, SNL Insurance, Barclays Capital research.
GEICO was founded in 1936 and initially initially sold auto insurance to U.S. government government employees. The company is now the fastest growing major major auto insurer in the United States. States. Berkshire Hathaway acquired GEICO in two stages. From 19761980, Berkshire bought about one-third of GEICO’s GEICO’s shares for $47 million. million. GEICO made large repurchases of its its stock in subsequent years causing Berkshire’s ownership ownership stake to grow to 50%. In 1996, Berkshire acquired the remaining 50% of GEICO it did not already own for $2.3 billion. GEICO’s statutory capital is currently currently $8.3 bn, meaning the company is probably now worth vastly more than when Berkshire acquired full control. GEICO’s Advantages. GEICO’s key competitive strengths are its low-cost operating model and strong brand awareness generated through aggressive marketing, which translates into profitable growth. GEICO sells its policies primarily primarily through the direct response channel—a cost-efficient method where applications for insurance are submitted directly to the company via the Internet, telephone or mail.
Approximately one-quarter of U.S. personal auto insurance is sold through the direct channel (including GEICO) GEICO).. Direct writers are gaining market share mostly from the exclusive agency channel, which still controls about 40% of the market (major writers include State Farm and Allstate). Allstate). Consumers show increasing comfort with buying auto insurance without an agent and GEICO often offers coverage for lower lower prices than competitors. competitors. In the independent agency channel (agents who sell insurance on behalf of multiple insurers, such as TRV), market share has been mostly stable at roughly one-third. Importantly, we believe the direct direct channel’s capacity to gain market market share is restricted at some point. This is because many customers prefer to purchase their auto, homeowner’s and umbrella insurance through the same insurer (such as State Farm or Allstate) rather than buy these policies through separate insurers, and multi-policy discounts can result in competitive pricing.
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Equity Research
Figure 16. Direct Insurers Gaining Gaining Market Share In Personal Auto Direct, 5%
Direct insurers gaining market share
1997
1989
2007
Direct, 17% Direct, 24% Independent Agency, 32%
Captive Agency, 41%
Captive Agency, 47% Independent Agency, 36%
Captive Agency, 63%
Independent Agency, 35%
Source: A.M. Best, Travelers, Barclays Capital research.
U.S. private passenger auto insurance market share is highly concentrated among the top ten insurers, with State Farm and Allstate having the first and second largest largest market share, respectively. GEICO’s market share share increased to 8.1% in 2009 from 7.6% in 2008 and PGR’s market share (includes direct and agency) increased to 7.5% in 2009 from 7.1% in 2008, while Allstate’s market share fell slightly and State Farm’s Farm’s increased modestly. As a point of reference, each 1 point gain in U.S. personal auto insurance market share is equivalent to approximately $1.6 bn of premiums. Figure 17. Private Passenger Auto Auto Insurance Market Share 20%
18.6%
16%
12%
10.5% 8.2%
8%
7.5% 6.4% 4.5%
4.4%
4.1%
4% 2.1%
2.0%
Travelers
Am er erican Family
0% St at at e Farm
Allst at at e
GEICO
Progressi ve ve Z ur urich/ Fa Farm er ers N at at io ionw id ide Libert y M ut ut ua ual
USAA
Source: Company data, SNL Financial, Barclays Capital research.
GEICO Results & Outlook. We expect GEICO to continue to deliver industry leading premium and policies-in-force policies-in-force growth, albeit at a slowing pace. Warren Buffett expects GEICO’s GEICO’s growth to slow in in 2010 due in part to reduced U.S. vehicle registrations, and high unemployment unemployment causing drivers to buy less coverage. We expect GEICO’s pre-tax underwriting underwriting income to decline in 2010 and 2011 reflecting an increased combined ratio. Premiums written written at GEICO increased 5% to $13.4 bn in 2009. We expect growth to slow to 3% in 2010 and 2% in 2011. GEICO’s combined ratio rose over the past several years reflecting an increasingly competitive auto insurance market. We expect this result to deteriorate further from 95% in 2009 to 98% in 2010 and 100% in 2011 as loss cost inflation rises. Pre-tax underwriting income income at GEICO fell 29% to to $649 mn in 2009 due to deteriorating underwriting margins. margins. We expect pre-tax underwriting income to continue to fall to $340 mn in 2010 and $65 mn in 2011. •
•
•
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Equity Research
Figure 18. GEICO Financial Projections, 2005-2011E Net Written Premiums Premiums
Pr em iu m s
$16 $14 $12 n $10 b $ $8 n $6 I $4 $2 $0
$10.3
$11.3
$11.9
$12.7
$13.4
$13.8
14%
$14.1
12% 8%
8%
6%
6%
0% 2007
2008
2 009
201 0E
2011E
12.4%
12% 10%
2% 2 006
14%
10%
4%
200 5
Policies-In-Force Growth
Gr ow t h Rat e
10.7% 8.8%
20 06
93.5%
200 7
Pre-tax Pre-tax Underwriting Income 99.7%
$1,400
$1,221
$1,314 $1,113
$1,200
96.0%
95%
2009
0%
Gr ow ow t h Ra te te
98.2%
100%
2008
2%
Combined Ratio
105%
7.8%
4%
2 005 Ne t Wr Wr itit te te n Pr em em iu iu ms ms
8.2%
93.6%
$916
$1,000
91.3%
n $800 m $ n $600 I
90% 85.7% 85%
$649 $340
$400 80%
$200
75%
$65
$0 2005
2006
2007
200 8
2009
20 10E
201 1E
2 005
200 6
2 007
2008
20 09
2010E
201 1E
Source: Company data, Barclays Capital estimates.
General Re’s Results Are Strong
General Re (GenRe) is one of the world’s largest reinsurers with $10 billion of U.S. statutory surplus, and contributes $21 bn of Berkshire’s $62 billion of total float. Berkshire acquired GenRe in 1998 for $22 billion billion in stock, and at the time was Berkshire’s largest acquisition. acquisition. Subsequently, GenRe suffered reserve inadequacy and underwriting discipline issues in the years 1998-2002. The unit was referred referred to as a “problem child” in Mr. Buffett’s 2003 annual letter to shareholders. shareholders. GenRe’s management successfully turned the company around and it has delivered strong underwriting results since 2003 (with the exception of 2005 due to hurricane losses). GenRe’s U.S. P&C P&C statutory operating income, which which excludes after-tax net realized investment gains/losses was $1.3 billion in 2009 reflecting few catastrophe losses, up from $406 million in 2008 in a year impacted by catastrophe losses. (continued on next page)
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Equity Research
Figure 19. GenRe Key Metrics $35 $30
in $ bil
Gross Written Premiums, 2008 $29 $29
$25
$13
$15
$11 $9
$10
$6
e e R R y h a c i w n a u h M t a H e r i h s k r e B
e R r e v o n n a H
s ' d y o l L
$5
R O C S
e R A G R
e R r e n t r a P
$4
c i t n a l t a s n a r T
$4
$4
$3
$3
$3
e R n o d n o L
e R t s e r e v E
l a t i p a C L X
e R n a e r o K
e e r R f p y a e s M s y d O
$23 $21
$21
$15
$16
$2
1998
1999
2000
2008
2009
$10
$5
$0 2001
2002
2003
2004
2005
2006
2007
Statutory Operating Income
$1,400
$1,400
$1,281 $1,164
$1,200
$1,200
$1,000
$1,000
$800
$15
In $Millions
Statutory Net Income
In $Millions
$23
$8
$5 e R s s i w S
$23
$19
$20
l i$20 b $ n$15 i
$0
General Re Float $24 $23 $22
$25
$763
$721
$800
$727
$705
$631
$594 $600
$600
$406 $400
$400
$300
$200
$200
$0
$0 2005
2006
2007
2008
2009
2005
2006
2007
2008
2009
Note: (1) Partner Re's 2008 premiums are presented proforma for the purchase of Paris Re in 4Q09; (2) Berkshire Hathaway Re includes General Reinsurance and Berkshire Hathaway Reinsurance Group; (3) Operating income excludes after-tax realized investment gains and losses; (4) Statutory net and operating income is U.S. P&C operations only. Source: A.M. Best, Company data, Barclays Capital Research
GenRe’s CEO is Tad Tad Montross, who assumed leadership from Joe Brandon Brandon in 2007 after Mr. Brandon stepped down. Mr. Montross has done a good job in improving GenRe’s results results in our view. GenRe’s management performance is is judged solely on underwriting profitability profitability without regard to premium volume trends. This factor is important because it emphasizes profitability over growth. GenRe’s Advantages. One of GenRe’s strengths is its strong ratings from the rating agencies (A++ rating from A.M. Best, and AA from the other key rating agencies). Although GenRe is no longer rated AAA, AAA, none of its competitors have AAA ratings either. Backed by Berkshire’s strong balance sheet, sheet, GenRe has the ability to write substantial substantial amounts of business if capacity shortfalls emerge and market market conditions become attractive. GenRe has the advantage of being able to write business that competitors might otherwise decline due to concerns of some reinsurance contracts causing increased earnings volatility or generating optically unattractive accounting results (even though the economic results could be quite favorable).
GenRe’s major P&C reinsurance competitors include Munich Re, Swiss Re (the two largest reinsurers globally), Hannover Re, and Lloyd’s of London as well as Bermuda reinsurers including RenaissanceRe, PartnerRe, XL Capital, and ACE Limited. Competitive Reinsurance Market Conditions. P&C reinsurance pricing is weakening, driven by increased capacity and stable demand for coverage, we believe. In 2009, reinsurers benefited from a sharp recovery in capital capital positions due to recovering investment portfolio valuations, robust profits from light catastrophe losses (2009 was the lightest Atlantic hurricane season in 12 years without a single major hurricane), and favorable prior year loss reserve development.
For the important January 2010 renewal season, property catastrophe reinsurance pricing was down 5%-10%, and casualty reinsurance pricing is down 0%-5%, 0%-5%, according to market sources. Barring substantial losses, we we anticipate rate erosion could continue at the current current pace. The reinsurance industry industry is expected to incur most of the roughly $10 bn of insured losses associated with the 1Q10 Chilean earthquake, although most of Berkshire’s earthquake exposure is in California. GenRe’s Results & Outlook. GenRe’s reinsurance business mix is roughly evenly split between P&C and life/health.
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Equity Research •
•
GenRe’s largest P&C market is North America, where 56% of premiums are property reinsurance, 28% are casualty reinsurance, and 16% is specialty insurance (mostly liability and workers’ compensation coverage on an excess and surplus basis and excess insurance for self-insured programs). GenRe’s life/health reinsurance business is provided through a subsidiary of Cologne Re subsidiary (the world’s oldest reinsurer). In 2009, 42% of life/health net premiums premiums were written in the United States, States, 29% in Western Europe, and 29% throughout the rest of the world.
Figure 20. GenRe Business Mix - 2009 Total Gen Re Business Business Mix
Life/Health, 46% P&C, 54%
Total 2009 premiums: $5.7 billion
Life/ Health Business Business Mix
North America P&C Business Mix Specialty Insurance 16%
All other 29% United States 42%
Property Reinsurance 56%
Casualty Reinsurance 28%
Western Europe 29%
Source: Company Data, Barclays Capital Research
GenRe’s P&C results reflect declining premium volume and reduced underwriting profitability profitability driven by an increasingly competitive reinsurance market. P&C earned premiums increased 3% in 2009, fell 8% in 2008, and decreased 10% in 2007 (excluding one-time items and FX for all years) driven by continued underwriting discipline in an increasingly competitive environment. Growth in 2009 was due to increased volume in European treaty and Lloyd’s market property business, but premium volume in 2010 is expected to decline due to increased competition. P&C underwriting profits in 2009 were $300 million (90.6% combined ratio), reflecting underwriting profits of $478 million from property business business and losses of $178 million from casualty/workers’ casualty/workers’ compensation business. business. The underwriting profits in in property business reflected low catastrophe catastrophe losses and reserve releases. Underwriting losses from casualty/workers’ compensation business were primarily the result of establishing higher loss reserves for 2009 accident year occurrences to reflect higher loss trends as well as $118 million of workers’ compensation loss reserve discount accretion and deferred charge amortization, offset in part by reserve releases. •
•
GenRe’s life/health recent results reflect modest underlying underlying growth due to increased international business. It offers life, health, long-term care, and disability disability reinsurance coverage on an individual and group group basis. Primary life/health life/health insurers use reinsurance to manage capital and mortality mortality risk. Life reinsurance growth is driven largely largely by demand for underlying insurance products, and underwriting underwriting results depend largely on mortality (the (the rate at which people die). As Solvency II moves closer to adoption in Europe, demand for life reinsurance could increase due to rising capital requirements for primary insurers. Life/health earned premiums excluding the effects of foreign currency increased 5% in 2009, and rose 2% in 2008. The increase in 2009 was primarily due to international business. Underwriting results for the global life/health operations produced underwriting gains of $177 million in 2009, $179 million in 2008 and $80 million in 2007 driven by gains due primarily to favorable mortality mortality experience in all three years. •
•
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Figure 21. General Re Key Metrics Gen Re Earned Earned Premium s
Gen Re P&C Combined Ratio
$10 $9 $8 $7 n $6 b $ $5 n $4 I $3 $2 $1 $0
30% 160%
25% 20%
140%
15%
120%
g 10% h
5%
c %
0% -5% -10% -15% 1999
2001
2003
2005
2007
2009
100% Combined Ratio
100% 80% 60% 40% 20% 0%
2011E
1998 1998 1999 1999 2000 2000 2001 2001 2002 2002 2003 2003 2004 2004 2005 2005 2006 2006 2007 2007 2008 2008 2009201 20092010E 0E20 2011 11E E Premium remiums s Ear Earne ned d
% Chan Change ge in in Premi Premiums u ms Earne arned d
in $ bil
Gen Reinsurance Pre-tax Underw riti ng Gain (Loss)
Gen Re Float
$25
in $ mil $1,000 $500 $0 ($500) ($1,000) ($1,500) ($2,000) ($2,500) ($3,000) ($3,500) ($4,000)
$20 $15 $10 $5 $0 1999
2001
2003
2005
2007
2009
2011E
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Source: Company Data, Barclays Capital Research
GenRe – Loss Reserves Analysis. Gen Re’s P&C gross loss reserves are $18 billion billion as of YE09. Reserves are roughly evenly split between reported case reserves (reserves established for reported claims), and incurred but not reported (IBNR) claims. The substantial level of IBNR reserves likely means GenRe is being conservative in accounting for ultimate claim liabilities.
Analyzing GenRe’s loss reserves another way, 68% are for long-tail lines including workers’ compensation, professional liability, and asbestos/environmental. asbestos/environmental. These reserves generate significant significant float for investment because claims claims may are not expected to be paid out for many years. However, setting long-tail loss loss reserves accurately is a challenging process process with the potential for significant divergence versus the correct level of reserves especially over a long time frame. GenRe’s remaining 32% of reserves are for short-tail lines such as automobile insurance liability or property claims, which are typically quickly paid. Figure 22. GenRe’s Loss Reserves – 2009 Gen Re Gross Loss Reserves
Gen Re Loss Reserves by Line of Business Workers' compensation, 17%
Property, 14%
Professional Liability, 7%
Other general liability, 16%
IBNR reserves, 47%
Report ed case reserves, 53%
Mass tortasbestos asbestos// enviro nmental, 10% Other casualty, 17%
Total: $18 bn
Auto liability, 17%
Total: $18 bn
Note: Based on gross loss reserves. Source: Company Data, Barclays Capital Research
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Berkshire Hathaway Reinsurance Group Generates Significant Float
Berkshire Hathaway Reinsurance Reinsurance Group (BHRG) is is known for writing large and unusual risks. This business is based in Stamford, Connecticut and is led by Ajit Jain, who often receives praise from Warren Buffett as one of Berkshire’s most valued leaders. This unit’s front office office is staffed by only 30 employees and is among the world’s world’s largest writers of super-cat and retroactive reinsurance coverage. Also, BHRG is a major contributor to Berkshire Hathaway’s Hathaway’s float as a result of writing longtail liability contracts. contracts. As of YE09, BHRG generated generated $26 billion of float out of a total of $62 billion. billion. BHRG has written challenging retroactive reinsurance (past loss event) risks such as adverse loss reserve development coverage for ACE’s asbestos and environmental liability reserves, reserves, and Equitas (Lloyd’s of London’s legacy liability entity). In 2009, Berkshire entered into a life reinsurance deal that could generate $50 billion of premiums over the next roughly 50 years. BHRG’s lead insurance entity is National Indemnity Indemnity Company (NICO), which is among Berkshire Hathaway’s largest insurance units with $38 bn of statutory capital. Figure 23. Berkshire Hathaway Hathaway Reinsurance Group Group Float $30 $26 $24
$25 $20 s n o i l l i
$15
b
$13
$14
2002
2003
$15
$16
$17
2005
2006
$24
$11
$ n i
$10
$8
$6 $5
$4
$4
1997
1998
$0 1999
2000
2001
2004
2007
2008
2009
Source: Company Data, Barclays Capital Research
BH Reinsurance’s annual and quarterly premium volume as well as underwriting results can generate volatility because significant portions of premium premium volume can be driven by a small number of large risks. risks. Catastrophe underwriting underwriting profits are expected to be robust in years with no large catastrophe losses, but are likely to show losses in years with heavy cat activity. Figure 24. Berkshire Hathaway Reinsurance Group Premiums & Underwriting Profits Profits BHRG Underwriting Profit (Losses) By Unit
BHRG BHRG Premiums Earned Earned By Unit in $ billions
in $ millions
$14
$2,000
$12
$1,500 $1,000
$10
$500 $8
$0
$6
-$500
$4
-$1,000 -$1,500
$2
-$2,000 $0
2000 2000
2001
2002
2003
2004
2005
2006
2007
2008
2001
2002
2003
2004
Catastro Catastrophe phe & indivi ndividual dual risk risk Catas Catastrophe trophe & indivi ndividual dual risk
Retroactive troactive reinsura reinsurance nce
2005
2006
2007
2008
2009 2010E 2011E
2009 2010E 2011E Retroactive troactive reinsura reinsurance nce
Other Other multi-line ti-line
Other Other multi-line multi-line
Source: Company Data, Barclays Capital Research
BHRG has three reporting lines: Catastrophe and individual risk, retroactive retroactive reinsurance, and other multi-line. Premiums and underwriting results can be volatile in catastrophe and individual risk, as well as retroactive reinsurance. This situation reflects high-severity exposure in the catastrophe line, and attractive economic results from retroactive reinsurance contracts typically not being evident under GAAP accounting treatment. BHRG Catastrophe and Individual Risk . These contracts may provide exceptionally exceptionally large limits of indemnification, indemnification, often several hundred million dollars and occasionally in excess of $1 billion, and cover catastrophe risks (such as hurricanes, 22
Equity Research
earthquakes or other natural disasters) or other property and liability risks (such as aviation and aerospace, commercial multiperil or terrorism). The timing and magnitude of losses can produce e xtraordinary volatility in interim or annual underwriting results. BHRG’s catastrophe and individual risk premiums written were $725 million in 2009, $1.1 billion in 2008, $1.2 billion in 2007. Keep in mind, Berkshire’s premium volume can expand significantly in periods of reinsurance market dislocation and contract when rates are unattractive. For example, catastrophe catastrophe risk premium volume was $2.4 billion in 2006 in the year following following Hurricanes Katrina, Wilma, and Rita. We expect catastrophe premium volume volume to decline for at least the first half of 2010 based on soft market market conditions. In early 2009, Berkshire constrained the volume of catastrophe business written in response to the decline in shareholder’s equity that occurred in 1Q09. Berkshire’s net worth recovered significantly significantly since then, but the volume of business business written declined in light light of the BNSF acquisition. acquisition. Also, catastrophe rates were not attractive attractive enough in 2009 to warrant increasing increasing volume. Underwriting results over the past three years reflected no significant catastrophe losses in 2009 and moderate claims expenses in 2008 from Hurricanes Gustav and Ike. BHRG Retroactive Reinsurance. Retroactive reinsurance is a key differentiating factor for Ajit Jain’s BHRG operation because few companies are willing willing to reinsure these risks. From an accounting standpoint, retroactive retroactive insurance contacts are expected to produce underwriting losses, but the economics should be attractive over the life of the contract taking into account the benefit of investment income generated from the upfront cash (float).
Retroactive reinsurance premiums earned declined from $7.7 billion in 2007 (reflecting the Equitas transaction) to $204 million in 2008, and rose to $2 billion in 2009 due to a transaction with with Swiss Re. Underwriting losses, losses, which are expected under GAAP accounting treatment for these contracts, were $375 mn in 2007, $414 mn in 2008, and $448 mn n 2009. In 2009, retroactive reinsurance premiums earned included 2 billion Swiss Francs (approximately $1.7 billion) from a contract with Swiss Re. This contract covers substantially all of Swiss Re’s non-life insurance losses for adverse development on loss events occurring prior to January 1, 2009. The Swiss Re reserve cover provides aggregate limits limits of indemnification indemnification of 5 billion CHF (about $4.7 bn) in excess of a retention of Swiss Re’s reported loss reserves at December 31, 2008 (59 billion CHF) less 2 billion CHF. The impact on underwriting results results from this contract in 2009 was negligible negligible because the premiums earned were offset by a corresponding amount of established established loss reserves. In January 2010, Swiss Re separately reinsured reinsured a $1.5 billion book of closed block of U.S. life insurance business with Berkshire. BHRG Other Multi-Line. Other multi-line mostly reflects the results in BHRG other than property catastrophe and retroactive reinsurance. Other multi-line multi-line premiums earned in 2009 of $3.9 billion billion were relatively unchanged from 2008. Premiums earned in 2009 and 2008 included $2.8 billion and $1.8 billion, respectively, from a 20% quota-share contract with Swiss Re covering substantially all of Swiss Re’s property/casualty risks for five years from January 1, 2008 through December 31, 2012. Excluding the Swiss Re quota-share quota-share contract, which Swiss Re needed to to support its balance sheet, other multi-line multi-line business premiums earned in 2009 declined $969 million (46%) compared to 2008, primarily due to significant reductions in aviation, property, workers’ compensation, and Lloyd’s market volume.
Other multi-line premiums earned in 2008 increased $1.3 billion (50%) over 2007 reflecting premiums earned from the Swiss Re quota-share contract partially offset by lower premium volume from workers’ compensation programs. Other multi-line underwriting underwriting profits declined to $15 mn in 2009 from $962 million in 2008 largely due to FX. Excluding FX, other multi-line business produced a pre-tax underwriting gain of $295 million in 2009, $32 million in 2008 and $435 million in 2007. Pre-tax underwriting results results in 2008 included approximately $435 million million of estimated catastrophe losses losses from Hurricanes Gustav and Ike. There were no significant catastrophe losses in 2009 or 2007, which also benefited from low property loss ratios and favorable loss experience on workers’ compensation business. In late 2007, BHRG formed a monoline financial guaranty insurance company, Berkshire Hathaway Assurance Corp (BHAC). This business is small in the scope of Berkshire Hathaway, although it provides a good example of Berkshire addressing market dislocations where he believes believes reasonable risk-adjusted returns can be generated. BHAC targets the municipal municipal bond market after the fallout from dislocation suffered by Ambac and MBIA resulting from the financial crisis. BHAC began writing business in 1Q08. In its first year of operation, BHAC BHAC produced $595 million of premiums. premiums. In 2009, as a result of rising risk and reduced prices, BHAC wrote wrote about $40 million in premiums, most most of which was in the first half of the the year. The recent rating agency downgrades of Berkshire’s insurance operations to the AA level could impact demand for coverage, in our view.
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Equity Research
BH Reinsurance Group’s Loss Reserves Mix. BHRG’s gross loss reserves were were $28 billion as of YE09. Of this amount, $18 billion were for retroactive (known) losses including $9 billion for asbestos, environmental, and other latent injury reserves. BHRG’s maximum maximum payable losses under long-tail retroactive retroactive policies are $29 billion, although although management believes it is unlikely current reserves would develop upward or downward by more than 15% of the $18 bn of established reserves. Importantly, Berkshire Berkshire Hathaway is able to invest these funds funds for years before the claims will be paid. As a result, these retroactive contracts are likely to generate substantial returns on investment even after paying the claims.
Long-tail loss reserves generate significant float for investing because claims may not be paid out for years to come. However, setting long-tail loss reserves accurately is a challenging process with the potential for the correct level of reserving to diverge from established reserves, reserves, especially as time goes on. The remaining reserves are for short-tail short-tail lines such as automobile insurance liability or property claims, which typically are paid quickly. Figure 25. Berkshire Hathaway Reinsurance Reinsurance Group’s Loss Reserves Reserves - 2009
(in $ millions) Type Property Casualty Reported case reserves……………………… $1,524 $2,669 IBNR re reserves………………………………… 1,889 4,054 Retroactive……………………………………… 17,973 Gross r es eserves………………………………… $3,413 $24,696 Deferred charges and ceded reserves……………… Net Net rese reserv rves es…… ………… ………… ………… ………… ………… ………… ………… ………… ………… ………… …….. ..
Total $4,193 5,943 17,973 28,109 (4,964) $23, $23,14 145 5
Source: Company Data, Barclays Capital Research
Berkshire Hathaway Primary Group Generates Lost-Cost Float
Berkshire Hathaway Primary Group (BHPG) consists of independently managed insurance businesses generating $1.8 bn in annual premiums (a 9% decline vs. 2008) that that mostly write liability liability coverages for commercial accounts. Other lines of coverage offered include healthcare malpractice malpractice and recreational watercraft. watercraft. Overall, BHPG accounts accounts for about 6% of the Insurance segment’s earned premiums and contributes contributes negative cost float. BHPG’s year-end 2009 float is $5.1 billion billion and accounts for 8% of Berkshire’s overall float. BHPG’s underwriting underwriting results are deteriorating due to increased competition in most business lines. This segment’s largest business line is medical professional liability, liability, which accounts for about one-third of BHPG annual premiums. Other P&C lines include commercial auto and general liability provided by National Indemnity Company’s (NICO) primary group, recreational watercraft, workers’ compensation, credit and income protection for credit and debit card holders, as well as professional liability and financial fidelity coverage for small and medium sized banks in the Midwest U.S. (continued on next page)
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Equity Research
Figure 26. Berkshire Hathaway Primary Group Key Metrics Metrics BH Primary Primary Group Premium s Earned Earned
BH Primary Group: Pre-t Pre-t ax Underwrit ing Gains/ Losses
$2,500 $1,858
$2,000 s n o $1,500 i l l i m $ $1,000 n i
$1,999
$1,950
$1,773
$1,720
$1,750
$1,498
$500 $0 2005
2006
2007
2008
2009
2010E
$400 $350 $300 s $250 n o i l l i $200 m$150 $ n $100 i $50 $0 -$50
$340 $279 $235
$84 $27
2005
2011E
$210
2006
2007
2008
2009
2010E
$(12)
2011E
BH Primar Primar y Group: Float $6,000 $4,739
$5,000 s $4,000 n o i l l i $3,000 m $ n $2,000 i
$4,029
$4,229
2006
2007
$5,061
$3,442
$1,000 $0 2005
2008
2009
Source: Company Data, Barclays Capital Research
BURLINGTON NORTHERN SANTA FE—POSITIONED FOR GROWTH
Burlington Northern Santa Fe (BNSF), based in Forth Worth, Texas, is one of the largest railroad systems in the US with a network spanning over 30,000 miles primarily west of the Mississippi River. The company, which is positioned for growth in our view, was acquired in February February 2010 by Berkshire Hathaway in a transaction transaction valued at $34 billion. Warren Buffett views BNSF as an attractive business with the prospect of significantly increasing earnings over time, although it requires substantial capital expenditures (currently $2.2 billion billion annually). Mr. Buffett believes BNSF benefits from a strong management team led by CEO Matthew Rose (age 50), and increases Berkshire’s exposure to the long-term economic growth of the United States. The acquisition of BNSF is expected to provide Warren Buffett with opportunities to redeploy cash at reasonable rates of return, similar to its MidAmerican utility business. Berkshire Hathaway completed the acquisition of the remaining 77.4% of BNSF it did not already own in February 2010, which is its largest deal to date, for $26 billion (60% in cash and 40% in Berkshire shares). BNSF has $10 billion of existing debt and the company is expected to issue additional debt as needed, which will not be guaranteed by Berkshire. The following analysis of Burlington Northern Santa Fe is provided by Gary Chase, who is Barclays Capital’s Airfreight & Ground Transportation senior equity analyst. Add title an d date of note.
Berkshire’s acquisition price for BNSF BNSF was not a bargain in the view of Warren Buffett. Berkshire’s purchase valued BNSF at roughly 7.5x EV/EBITDA EV/EBITDA and a P/E ratio of 15.7x, based on BarCap’s BarCap’s 2010 estimates at that time. Based on 2010 consensus estimates, the valuation appears closer to 8x EV/EBITDA and 18x P/E ratio. In terms of valuing the BNSF franchise going forward, the railroads (UNP, NSC, and CSX) are currently trading at approximately 7x EV/EBITDA & 13x-15x forward P/E.
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Equity Research
Figure 27. Railroad Operator Valuation Comparisons CSX
NSC
UNP
2011E
2 0 1 1E
2011E
2.5x 2.0x 41.6% 49.4%
2.2x 1.7x 34.6% 42.4%
2.2x 1.3x 27.7% 44.2%
2.8x 7.1x 7.1x 9.5x 14.1x 1.9x
3.0x 7.1x 7.2x 9.4x 13.7x 1.8x
3.1x 7.3x 7.4x 9.9x 15.2x 1.9x
Credit Metrics Adjusted Debt / EBITDAR Debt / EBITDA Debt / Capitalization Adjusted Debt / Capitalization Valuation Ratios Adjusted EV / Revenue Adjusted EV / EBITDAR EV / EBITDA EV / EBIT P / E Ratio Price to Book Source: Barclays Capital estimates.
BNSF is expected to generate the strongest earnings growth of Berkshire Hathaway’s major businesses reflecting the potential for rising revenues due to an economic economic recovery, and positive operating leverage. BNSF performed well well in the recent recession; the company maintained operating profitability of ~23% in 2009, similar to levels achieved in the prior five years despite revenues declining more than than 20% as freight demand deteriorated and fuel surcharge revenue declined. declined. We anticipate BNSF could deliver net income of approximately $2.1 billion in 2010 (up 21% year-over-year) and $2.4 billion in 2011 (up 15%), which would be consistent with average modeled earning increases for UNP (the most relevant comparable company for BNSF in our view), NSC, and CSX. BNSF transports a range of products and commodities derived from manufacturing, agricultural and natural resource industries in serving the Midwest, Pacific Northwest, and the Western, Southwestern and Southeastern regions and ports of the U.S. BNSF’s share of the western United States rail traffic in 2009 was approximately 49% according to the Association of American Railroads (AAR). Figure 28. BNSF Railway Railway Operations
Source: BNSF .
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Equity Research
US Railroads, a Brief Introduction
The US railroads provide transportation for a wide variety of commodities that touch nearly all economic segments from lowvalue basic materials to high-value high-value finished consumer & capital goods. In 2009, the major US railroads (defined (defined as BNSF, CSX, NSC & UNP) UNP) had consolidated revenue generation of $44bn. Roughly 44% of this revenue was tied to bulk commodities such as agricultural or coal shipments; industrial and auto shipments represented 35% of the revenue base; and 21% of revenue generation g eneration came from the intermodal segment, which comprises the multi-modal transport of shipping containers, the vast majority of which facilitate the movement of finished consumer goods (Figure 29). Intermodal transport comprises the movement of shipping containers via multi-modes (marine, rail, truck, etc.) facilitating the transport of many finished capital & consumer goods. Figure 29: In 2009, the Major US Railroads Generated ~$44bn in Revenue 2009 2009 Major US Railroad Railroad Segme nt Revenue /1
Auto 5% Agricultural 18%
Intermodal 21%
Industrial 30%
Coal 27%
Note: Major US railroads include BNSF, CSX, NSC & UNP; total revenue for these carriers totaled ~$44bn in 2009. Source: Company reports, Barclays Capital Research.
Railroad Volume Trends Encouraging
The improvements in weekly railroad industry volumes from 4Q09 combined with easier comparisons should have rail volumes up near double-digit levels levels year-over-year in 2Q10. On a sequential basis, railroad volumes volumes have shown significant strength, though admittedly off depressed levels. Figure 30. Weekly Railroad Railroad Volume Absolute Levels Weekly Rail Volume
s d n a s u o h t n I
North American Weekly Rail Volume (total units 000s /1)
700
700
650
650
1Q10 Forecast +6%
2Q10 Forecast +15%
s d 600 n a s u o h t 550 n I
600 550 500
500
450
450
W W W W W W W W W W W W W W W W k 1 k 6 k 1 k 1 k 2 k 2 k 3 k 3 k 4 k 4 k 5 k 4 k 9 k 1 k 1 k 2 - 0 - 0 1 - 6 - 1 - 6 - 1 - 6 - 1 - 6 - 1 - - 1 - 1 4 - 9 - 4 - 9 9 0 9 0 9 0 9 0 9 0 9 0 9 0 9 0 9 0 9 0 0 1 0 1 0 1 0 Source: American Association of Railroads, Barclays Capital estimates .
27
1 3 5 7 9 1 3 5 7 9 1 3 5 k k k k k 1 1 1 1 1 2 2 2 W W W W W k k k k k k k k W W W W W W W W
2009
2010
Forecast
Equity Research
Revenue per revenue ton-mile (a proxy for rail rates) is expected to increase 8% in 2010 and 4% in 2011, compared to a 13% decline in 2009. This improvement reflects rising fuel costs, increased demand, demand, and potential inflation. inflation. Notably, rising fuel revenues are offset by increased fuel costs, which are passed along to customers. Figure 31. BNSF Revenue/RTM $0.028
25% 20%
$0.026
15% $0.024
10%
M T R / $0.022 v e R
5%
g h c %
0%
$0.020
-5% $0.018
-10%
$0.016
-15% 2002 2003 2004 2005 2006 2007 2008 2009 2010E 20 2011E Rev/ RT RTM
% chg
Source: Company reports, Barclays Barclays Capital estimates. estimates.
Burlington Northern: Performing Through the Cycle
BNSF operates a vast rail network in the Western US that generated over $14bn of revenue in 2009 and earnings before interest expense and taxes (EBIT) (EBIT) of $3.3bn (Figure 32). As the economy slowed dramatically dramatically in 2009, BNSF’s revenues declined over 20% as both freight demand deteriorated deteriorated and lower fuel prices drove reduced fuel surcharge revenue. Despite the dramatic drop in revenue, BNSF was able to maintain operating profitability of ~23%, similar to levels achieved in the prior five years. BNSF is expected to generate generate about $1.5-$2 billion of annual free cash flow assuming assuming annual after-tax operating earnings of $2.0-2.5 bn, capex of $2.2 bn, and depreciation expense of $1.7bn. Figure 32: Burlington Northern Generating Consistent Relative Profitability through Economic Cycle BN Summary P&L 2005
2006
2007
2008
2009
2010E
2011E
Total Re R evenue
12,987
14,984
15,802
18,018
14,082
15,374
16,537
Expense Labor Related Fuel D&A Rentals All Other Total Op Expense
3,515 1,959 1,075 886 2,559 9,994
3,816 2,734 1,130 930 2,880 11,490
3,773 3,327 1,293 942 2,900 12,235
3,884 4,640 1,397 901 3,094 13,916
3,481 2,372 1,537 777 2,587 10,754
3,501 2,807 1,696 788 2,663 11,456
3,747 2,953 1,736 844 2,851 12,131
EBIT
2,993
3,494
3,567
4,102
3,328
3,918
4,406
EBIT Margin
23.0%
23.3%
22.6%
22.8%
23.6%
25.5%
26.6%
EBITDA
4,068
4,624
4,860
5,499
4,865
5,614
6,142
EBITDA Margin
31.3%
30.9%
30.8%
30.5%
34.5%
36.5%
37.1%
Interest Expense Other (Expense) Pre-Tax Income
437 (37) 2,519
485 (40) 2,969
511 (18) 3,038
533 (11) 3,558
561 (8) 2,759
588 (4) 3,326
589 (6) 3,811
Income Taxes Net Income
437 2,082
485 2,484
511 2,527
533 3,025
561 2,198
1,254 2,072
1,429 2,382
Net Margin
16.0%
16.6%
16.0%
16.8%
15.6%
13.5%
14.4%
Source: Company reports, Barclays Capital research.
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Equity Research
BNSF maintains a well diversified transportation network with end market exposure to numerous segments of the US economy. In 2009 the intermodal segment led revenue generation generation for BNSF representing 29% of revenue, coal coal was 27%, industrial 21%, agricultural agricultural 21% and autos were 5% (Figure 33). The intermodal segment comprises comprises the movement of shipping containers via multi-modes (marine, rail, truck, etc.) facilitating the transport of many finished capital & consumer goods. Excluding intermodal, intermodal, coal, and by extension the power generation segment, is the single single largest market for BNSF. BNSF. On a volume basis, intermodal maintains a larger share of traffic due to the relatively low weight and numerous container shipments compared to the denser bulk commodity & industrial shipments (Figure 34). Figure 33: BNSF Revenue Mix
Figure 34: BNSF Volume Mix
Burlington Northern Revenue Mix ($bn)
20 18
CAGR 95-05 +4.5%
16
Burlington Northern Volume Mix (mm of carloadings / units)
2009 Mix
05-09 +2%
12 11
Auto 2%
14
10 9 8 7
Ag 21%
12 10
Coal 27%
6 4 0
Auto 1%
Industrial 14% 05-09 (4.3%)
2 1 0
Intermodal 29%
2
2009 Mix
Ag 11%
6 5 4 3
Industrial 21%
8
CAGR 95-05 +3.5%
Coal 28% Intermodal 45%
1995 1997 1999 2001 2003 2005 2007 2009
1995 1997 1999 2001 2003 2005 2007 2009
Source: Company reports, Barclays Capital research
Source: Company reports, Barclays Capital research
Despite the significant decline in traffic & revenue in 2009, BNSF was able to produce consistent operating profitability owing to the carrier’s ability to quickly resize network capacity to commensurate volume levels (Figure 35). Intuitively, railroads are expected to have significantly high fixed fixed costs (asset-heavy networks). Even so, the US railroads are able to quickly quickly scale resources to meet demand demand levels due to a lack lack of material time-definite time-definite shipment agreements. Therefore, we view pricing to be the most critical earnings driver driver for the group outside of volume growth. BNSF achieved rate increases increases through the last cycle and it was able to improve operating profitability to near 24% from a low of ~17% in 2003. Figure 35: BNSF Profitability Intact Despite Recessionary Impact Burlington Northe rn Profitability (EBIT margin)
30% 25% 20% 15% 10% 5% 0% 1995
1997
1999
2001
2003
2005
2007
2009
Source: Company reports, Barclays Capital research
MIDAMERICAN MIDAMERICAN ENERGY IS A STEADY PERFORMER P ERFORMER The following analysis of MidAmerican is provided by Daniel Ford, who is Barclays Capital’s Power & Utilities senior equity analyst. 29
Equity Research
Berkshire Hathaway’s utility and energy business is anchored by MidAmerican Energy Holdings Company (MEHC), which owns the largest utility in in Iowa and is strategically located in the middle middle of several major markets in the Midwest. Midwest. Its PacifiCorp operation is a regulated utility based on Portland, Oregon serving 1.7 million customers in six Western states. MECH accounts for 9% of Berkshire’s revenues and 11% of pre-tax segment earnings. MEHC’s domestic regulated energy businesses have about 3 million retail customers and a 17,000 mile gas pipeline network with a capacity of 7 billion cubic feet feet (bcf) per day. We think MEHC’s MEHC’s businesses, particularly particularly the PacifiCorp PacifiCorp and MidAmerican operations (which comprise nearly 75% of MEHC’s revenues), are a bove average regulated utilities in above abo ve average jurisdictions, in our view, that should generate a stable earnings stream. MEHC could generate low single-digit normalized normalized annual earnings growth over the next several years and free cash flow could improve as the effect of PacifiCorp’s rate cases (a regulatory proceeding to establish customer rates), coupled with a drop in some expenses and continued investment in the platform platform should continue to drive growth. Notably, our outlook does not reflect any material improvement in economic condition or sales, and we would expect a bias to the upside if economic conditions improve. David Sokol is MEHC’s Chairman, and Gregory Abel is its president and CEO. Mr. Sokol was CEO of the company from 1993-2008, and is now chairman and CEO of NetJets. Mr Abel has been with with MEHC since 1992. 1992. He took over the role of CEO in 2008, and has been president since 1998. Both individuals are well regarded in the utilities utilities industry and thought of as solid managers. The principal MEHC businesses are the PacifiCorp and MidAmerican Energy Company (MEC) utilities, which comprise close to 75% of revenues and 60% of EBIT for the segment. Figure 36. MidAmerican Energy Holdings Holdings Company Revenues & Earnings MEHC Revenues Real estate brokerage 9% U.K. U.K. utiliti uti lities es 7%
Other 2% MidAmerican Energy nerg y Co 32%
Real estate brokerage 2%
MEHC PrePre-Tax Tax Earnings
Other 1% MidAmerican Energy Co 15%
U.K. utilit ut ilities ies 13%
Natural gas pipelines 9%
PacifiCorp 41%
Natural gas pipelines 25%
MEHC Total 2009 Revenues: $11.4 Billion
PacifiCorp 44% MEHC Total 2009 P/T Earnings: $1.5 Billion
Note: 2009 pre-tax earnings include $125 million of stock-based compensation expense. Source: Company data, Barclays Capital research.
Generating Capacity & Energy Production Driven By Coal and Natural Gas
Combined, PacifiCorp and MidAmerican Energy Company own about 18,000 MW of electric generating capacity (the MW value on the nameplate of a plant), of which coal and natural natural gas account for 75%. Based on the higher capacity factors for coal assets in general, generation by fuel type (MW value of o utput for each asset) skews more heavily toward coal. MEHC’s large coal exposure bears monitoring due to the ongoing possibility of new environmental regulations from the EPA or Congress. The EPA appears poised to update its regulations regulations on SOx (sulfur dioxide) and NOx (nitrogen (nitrogen oxide) emissions, and new standards could emerge as soon as 2Q10. Earlier in 2009, Congress appeared ready to pass carbon cap-and-trade cap-and-trade legislation that would regulate carbon dioxide emissions. It remains unknown whether there will be time before the mid-term elections to deal with climate legislation, but it ap pears unlikely that there will be Congressional action before 2011. Regardless of the regulating entity – whether EPA or Congress – MEHC’s regulated businesses should see any increase in costs be passed along in its fuel costs and borne by its ratepayers. Direct economic impact should should be limited, in our view, although the second-order effects of continuing to increase customer bills during a shaky economic environment raise legitimate concerns. 30
Equity Research
Large Wind Generating Capacity
MECH is a world leader in renewable energy, with approximately 24% of its generating capacity coming from renewable or noncarbon fuel sources. The company's worldwide renewable power sources are wind, geothermal, hydroelectric and biomass. By 2030, the DOE hopes to increase wind energy’s contribution to the U.S. electricity electricity supply by 20%. MEHC’s wind generating generating capacity is 12% of the company’s total. This factor is notable because this is a high high growth industry and generates significant tax credits. credits. The company is the largest owner of wind-powered wind-powered electric generation among raterateregulated utilities and has more than 1,393 megawatts of wind generating facilities in operation, under construction, and under contract in Iowa. PacifiCorp added approximately approximately 380 megawatts of new wind generation generation in 2008 and plans to have 2,000 megawatts of renewable resources in its portfolio by 2013. Figure 37. Generating Capacity & Energy Production, By Fuel Type
Energy Production, By Fuel Type
Generating Capacity, by Fuel Type Hydro 7%
Nuclear 2%
Geothermal 1%
Hydroelectric 6%
Wind 12%
Other 5%
Natural Gas Gas 14% Coal 54%
Coal 75%
Natural Gas Gas 24%
Source: Company filings, Barclays Capital estimates.
MEHC also owns two electricity distribution distribution companies in the United Kingdom that serve 3.8 million customers. Additionally, MEHC owns a merchant generation subsidiary that owns about 1,000 MW domestically, and internationally in the Philippines. Its final energy segment is an interstate electric transmission company within which MEHC operates two joint ventures. MEHC also owns the second largest real real estate brokerage firm in the US, known known as HomeServices of America. America. Warren Buffett expects HomeServices to acquire other brokers and for this business to be much larger a decade from now. Berkshire acquired an initial majority equity interest (ultimately increased to 89.5%) in MidAmerican Energy in 2000 for $2 billion in cash. In 2006, Berkshire acquired acquired PacifiCorp PacifiCorp for $5 billion in cash. In early days, Berkshire Berkshire avoided investments investments in capital intensive businesses, such such as utilities. However, as the company generated excess cash it became more willing willing to enter capital-intensive businesses as long as those businesses earned decent returns on their incremental investments. Unlike most of Berkshire’s businesses, MidAmerican MidAmerican has never paid a dividend, but has instead used its earnings to improve and expand its properties. We view regulated utilities XEL, AEP, DUK, DUK, WEC, LNT as MidAmerican’s best comps. (continued on next page)
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Equity Research
Figure 38. Regulated Utility Utility Valuation Comparisons Comparisons REGULATED COMP SHEET - RATED 2-NEUTRAL
Investment Opinion 1-OW 1-OW 2-EW 1-OW 2-EW Average
Ticker
Company
LNT AEP DUK W EC XEL
Alliant Energy American Electric Po Power Duke Energy Corp W isconsin En Energy Co Corp Xcel Energy
Current Price 04/08/10 $33.63 $33.96 $16.24 $50.18 $21.49
Expected Indicated Annual Annual Dividend Current Earnings Per Share Dividend Growth Yield 2009E 2010E 2011E $1.58 $1.56 $0.94 $1.60 $0.98
UTILITIES (28) S&P 500 Index
1,186.4
5.0% 3.0% 3.0% 10.0% 3.0%
4.7% 4.6% 5.8% 3.2% 4.6%
3.8%
4.7%
$22.11
1.9%
$1.96 $2.97 $1.23 $3.20 $1.50
$57.98
$2.55 $3.03 $1.25 $3.80 $1.62
$72.93
$2.85 $3.20 $1.30 $4.05 $1.72
$84.33
5 Year Est. EPS Growth
2009E Price/ Earnings
2010E Price/ Earnings
2011E Price/ Earnings
4% 3% 2% 8% 6%
17.2x 11.4x 13.2x 15.7x 14.3x 14.4x
13.2x 11.2x 13.0x 13.2x 13.3x 12.8x
11.8x 10.6x 12.5x 12.4x 12.5x 12.0x
3.4%
13.9x
13.2x
12.4x
15.6%
20.5x
16.3x
14.1x
Source: Company data, Barclays Capital research .
PacifiCorp
PacifiCorp is a vertically integrated electric utility that owns generation plants, and the system for transmitting and distributing the electricity. It is headquartered in Portland, Oregon Oregon and operates in six states: Utah, Oregon, Wyoming, Wyoming, Washington, Idaho, and California. PacifiCorp has 1.7 million retail electric customers and sold 65 million Megawatt-hours Megawatt-hours (MMWh) in 2009 through its retail and wholesale wholesale channels. Its retail operations are fully regulated, regulated, and its wholesale operations are subject to some degree of market pricing for sales. PacifiCorp operates 74 generating plants across the West, including coal, hydroelectric, wind-powered and geothermal facilities. Combined, PacifiCorp’s PacifiCorp’s generating plants have a net capacity of 10,188 megawatts. PacifiCorp has more than 61,000 miles of distribution line and approximately 15,800 miles of transmission line – more than any other single entity in the West. The company’s Energy Gateway initiative, initiative, which was announced in 2007, has been expanded to develop more than 2,000 new miles of high-voltage high-voltage transmission lines at a cost of more than than $6 billion. The plan includes projects that will address customer load growth, improve system reliability and deliver energy from new windpowered and other renewable generating resources. MidAmerican Energy (MEC)
MEC is likewise a vertically integrated electric and gas utility that owns generation plants and the system for transmitting and distributing the electricity. It is headquartered in Des Moines, Iowa, and operates its electric business in three states: Iowa (its largest market), Illinois, and South Dakota, and operates its gas distribution business in those three states as well as Nebraska. MEC has about 700,000 retail electric electric and 700,000 retail gas customers, and sold 33 MMWh and 121 thousand decatherms (Dth) of natural gas in 2009. MEC’s service territory territory encompasses 10,600 square miles and has a total population of approximately 2 million people. In Iowa, which represents about 90% of MEC’s sales, the company has operated under an agreement with the Iowa Utilities Board under which MEC agrees not to seek a general increase in base rates effective prior to January 1, 2014 as long as its ROE for any 12-month period stays above 10%. This stable, long-term, risk-reducing risk-reducing relationship relationship that covers the vast majority of MEC’s business is a positive for the company, in our view. Production costs at MEC’s coal-fueled generation stations are lower than regional and national averages. The company has majority ownership in five of the six jointly owned coal-fueled generating stations in Iowa. Interstate Gas Pipelines
Northern Natural Gas and Kern River are MECH’s two pipeline companies, which carry about 8% of the natural gas consumed in the U.S. These pipelines represent about 17,000 miles of transmission, transmission, 3 underground natural gas storage storage facilities, and 2 liquefied natural natural gas (LNG) storage peaking units. The storage units have a capacity of 73 Bcf (billion (billion cubic
32
Equity Research
feet), with over 2 Bcf/day of delivery delivery capacity. The pipelines businesses contribute contribute about 25% of MEHC’s EBIT, EBIT, and management continues to invest in this business and grow capacity and throughput. Northern Natural Gas is based in Omaha and operates a network of interstate natural gas pipelines extending from the Permian Basin in Texas to the upper Midwest. Midwest. Northern Natural Gas provides provides transportation and storage services services to approximately 77 utilities utilities and numerous end-use customers in the upper Midwest. The Kern River pipeline system system transports natural gas for delivery into Utah, Nevada and California. CE Electric
CE Electric is MEHC’s UK electric distribution holdings company, and is the owner of Northern Electric and Yorkshire Electricity, which between between them serve 3.8 million electric customers in Northeast England. CE Electric is the second largest electricity distribution distribution business in the U.K. These are distribution businesses, and not vertically integrated utilities similar to PacifiCorp and MEC in the US. These businesses are regulated in the UK by the Office Office of Gas and Electricity Markets Markets (Ofgem). CE Electric contributes contributes about 12% of MEHC’s EBIT. EBIT. CalEnergy
CalEnergy is MEHC’s merchant generation platform, consisting of 927 MW of primarily natural gas and hydroelectric h ydroelectric plants in the US, and 128 MW of hydroelectric assets assets in the Philippines. The majority of the U.S. U.S. plants use renewable geothermal energy to generate electricity. HomeServices
HomeServices, based in Minneapolis, Minnesota, is the second largest full service real estate brokerage firm in the US, with over 17,000 agents operating in close to 400 branch offices in in 19 states under 21 different brand names. HomeServices is also the largest brokerage-owned settlement services (mortgage, title, escrow and insurance) provider in the United States. HomeServices represents about 9-10% of MEHC’s revenues, but only 2-4% of EBIT. Warren Buffett anticipates that this operation is likely to be much larger a decade from now. Other Investments
MEHC participates in 2 electric transmission joint ventures: Electric Transmission Texas (ETT) and Electric Transmission America (ETA). (ETA). ETT invests in Texas transmission transmission projects, while while ETA participates in projects projects located outside of Texas. All of its projects are long-dated, with with current allowed ROEs on its projects projects ranging from 9.96% to 12.3%. On balance, we believe this could become a multi-billion dollar investment platform over the next 10-20 years, but the near-term earnings impact (i.e. 2-3 years) should be minimal. MidAmerican Financial Results & Outlook
MEHC recorded revenues of $11.4 billion and $1.5 billion of pre-tax earnings in 2009 including a one-time stock-based compensation expense of $125 million. million. Pre-tax earnings in 2009 declined 12% excluding the $1.1 billion billion Constellation gain in 2008 and stock-based compensation expense in 2009. We show MEHC running about $1 billion billion of free cash deficits in 2009, but expect that condition to moderate significantly in 2010 as CAPEX comes down from $3.4 to $2.6 billion, and the impacts of several rate cases in PacifiCorp’s jurisdictions jurisdictions are felt. Looking ahead, we think MEHC’s businesses – particularly the PacifiCorp and MidAmerican businesses – are above average regulated utilities in in above average jurisdictions. The long-term deal that MidAmerican MidAmerican has in Iowa is attractive, as long as MidAmerican is able to restrain restrain costs well enough to earn better than a 10% ROE. ROE. That said, because of the Iowa deal, we don’t expect any outsized earnings growth from MidAmerican (which has 90% of its sales from Iowa), although we believe investors often prefer stability and certainty over growth in their utility investments. At PacifiCorp, all of its jurisdictions are average or better, and recent treatment in late 2009 and early 2010 suggests that regulation around the industry average can be expected going forward. forward. Utah, in particular, which which represents about 45% of the regulated utility rate base, just recently allowed a 10.6% ROE in its case, which we find to be constructive. All in, we are expecting 2-5% normalized annual pre-tax earnings growth at MEHC over the next 2 years, as the effect of PacifiCorp’s rate cases, coupled with a drop in some expenses and continued investment in the platform should continue to 33
Equity Research
drive growth. We are not modeling any material improvement improvement in economic condition or sales, and would would expect a bias to the upside if economic conditions improve. improve. MEHC’s after-tax ROE ROE could fall to 8% in 2010 and 2011 from 9% in 2009, which is below the allowed ROE as the company invests in the business. business. Free cash flow could could improve to roughly break-even by 2011, which is better than peers, reflecting a reduction in capital expenditures and modest growth in after-tax earnings. Figure 39. MidAmerican Energy Holdings Holdings Corp Results & Outlook MEHC Revenues
MEHC Pre-Tax Earnings
$16,000
$4,000
$14,000
$3,500 $3,000
$12,000 n m $ n I
Includes $1.1 bn gain from investment in Constellation Energy
$2,500
$10,000
n m $ n I
$8,000 $6,000
$2,000 $1,500 $1,000
$4,000
$500 $0
$2,000
($500)
$0 2005
MidAme MidAmeric rican an Energy nergy Co
2006
2007
PacifiC cifiCorp orp
2008
Natural gas pipeline p elines
2009
U.K. K . utilit utilitie ies s
2010E
Real estate estate brok broker erag age e
2005
2011E
Other Other
2006
MidAmer MidAmerica ican Ener Energy gy Co Co
PacifiCorp
Return On Equity
2008
Natural gas pipelin p elines es
2009
U.K. U.K. utili utilities t ies
2010E
Real eal estate estate brok broker erag age e
$1,000 16.6%
Other Other
$563
$500
16.0%
$4
$0
12.7% 11.4%
($98)
-$500
9.0%
8.4%
7.2%
8.0%
2011E
Free Cash Flow
20.0%
12.0%
2007
7.9%
n m $ -$1,000 n I
($558) ($1,010)
($1,167)
-$1,500 -$2,000
4.0%
($2,050)
-$2,500 -$3,000
0.0% 2005
2006
2007
2008
2009
2010E
2005
2011E
2006
2007
2008
2009
2010E
2011E
Source: Company data, Barclays Capital estimates.
MANUFACTURING, MANUFACTURING, SERVICE, AND RETAIL UNIT—ECONOMICALLY SENSITIVE
Berkshire Hathaway’s Manufacturing, Service and Retail segment generated $62 million of revenue and $2 billion of pre-tax income in 2009, representing 15% of Berkshire’s Berkshire’s segment earnings. This group of businesses appears to be Berkshire Hathaway’s most economically economically sensitive operation. In 2009, this segment’s revenues declined 7%, and earnings earnings fell by half due to the challenging economic environment. The segment’s return on tangible equity equity (a performance metric tracked by Warren Buffett) deteriorated from 18% in 2008 to 8% in 2009, and we expect it could remain at depressed levels through 2011. We anticipate revenues and earnings results stabilizing stabilizing through 2011 assuming a modest economic economic recovery. The Manufacturing, Service, and Retail operation was severely impacted by the global recession in 2009 with about one-half of the segment (based on revenues) seeing sharp declines in operating operating results. Meanwhile, McLane (wholesale (wholesale distributor of groceries and nonfood items) and Marmon (diversified manufacturing and service businesses) held up reasonably well. Despite contracting sales in 2009, several businesses were able to expand margins and grow profits, including: Benjamin Moore (paint), Borsheims (jewelry retailing), H.H. Brown (manufacturing and retailing of shoes), CTB (agricultural equipment), Dairy Queen (ice cream/food restaurant), Nebraska Furniture Mart (furniture retailing), Pampered Chef (direct sales of kitchen tools), See’s Candies (manufacturing and retailing of candy), and Star Furniture (furniture retailing). Total segment revenues fell 7% to $62 billion in 2009 (with McLane being the only unit to report increased revenues), compared to a 12% increase in 2008 due to the Marmon acquisition (revenues increased 2.5% in 2008 excluding Marmon).
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Equity Research
Figure 40. Manufacturing, Service, and Retail Segment Change in Revenue Revenue Change, Revenue Change, Y-o-Y, 2008 Y-o-Y, 2009 Marmon NA -8% McLane 6% 5% Shaw -6% -21% Other Manufacturing -2% -16% Other Service 8% -22% Retailing -9% -8% Total Segment 12% -7% Note: Excluding Berkshire’s acquisition of Marmon in 2008, total segment growth would have been 2.5% instead of 12%. Source: Company data, Barclays Capital Research Reporting Line
This segment’s revenues could stabilize stabilize in 2010 as the lingering effects of the recession recession ease. Earnings could trough by midyear 2010 after declining by half in 2009 as a result of the the recession. Revenues and earnings could recover modestly modestly in 2011 as the business environment improves. improves. Of note, this segment’s pre-tax operating operating margin fell nearly three hundred basis basis points reflecting significant deterioration deterioration in the Other Manufacturing, Other Service, and Shaw reporting lines. Meanwhile, pre-tax income dropped 49% to $2.1 billion in 2009 driven by businesses leveraged to residential and non-residential construction as well as highly discretionary spending such as NetJets. The McLane and the Other Manufacturing reporting line (includes a variety of commercial and consumer manufacturing companies) are the biggest contributors to this segment’s revenues, although McLane’s operating margin is structurally low at 1%. Other Manufacturing and Marmon Marmon are the two largest earnings drivers in this segment. segment. Figure 41. Manufacturing, Service, Service, and Retail Segment Results Manufacturing, Service, and Retail Earnings Mix
Manufacturing, Service, and Retail Revenue Mix
Retailing, 7%
Marmon, 8%
Retailing, 5% Other Service, Service, 11%
Marmon, 32%
Other Manufacturing, 19%
Other Manufacturing, 38% McLane, 51% McLane, 16%
Shaw, 7% Shaw, 7% Total FY09 Revenue: Revenue: $61.7 billio n
Revenues in $ billions $70 $60 $50
$47
$66 $59
Total FY09 Pre-Tax E Earnings: arnings: $2.1 bi llion
Purchase Purchase of Marmon
$62
$63
$66
$53
$40 $30 $20 $10 $0 2005
2006
2007
2008
2009
2010E
Pre-tax Income s $4,500 n $4,000 o i l l i $3,500 m $ $3,000 n i , $2,500 e m$2,000 o c n $1,500 i x a $1,000 t $500 e r P $0
2011E
8.0% Impact of Recession
7.0% n 6.0% i g r 5.0% a
M
4.0% g n i t
3.0% a r e
p 2.0% O
1.0% 0.0% 2005 005 2006 006 2007 2008 008 200 2009 2010E2 0E2011E 11E Prre e-ta -tax x Inc Income
Opera per ati ting ng Ma Marrg gin in
Note: Earnings mix excludes $91 million pre-tax loss in Other Service. Source: Company data, Barclays Capital Research
The Manufacturing, Service, and Retail segment is composed of six reporting lines including McLane (food distribution), Marmon (a variety of industrial manufacturing and service companies), Shaw (flooring company), Other Manufacturing (manufacturers of building products and other commercial products, and consumer products including apparel), Other service (flight training, jet fractional ownership, media outlets), and Retailing (furniture, jewelry, candy).
35
Equity Research
Manufacturing, Service, and Retail Financial Outlook: Modest Recovery Expected
Berkshire’s Manufacturing, Service, and Retail segment is expected to suffer from the lingering effects of the global recession. This segment’s revenues could recover modestly in the back half of 2010 and improve in full-year 2011, although we suspect earnings could remain depressed for several years. •
•
•
•
Total revenues for the Manufacturing, Service, and Retail segment fell 7% year-over-year in 2009 to $61.7 billion (vs. a 2.5% year-over-year increase in 2008 excluding the purchase of Marmon). Marmon). We anticipate revenues could grow +1% year-over-year in 2010 (mostly due to growth in 2H10) reflecting McLane’s growth being mostly offset by declines in the other units. We expect segment revenues could grow 5% in 2011 as the economy recovers. recovers. This segment’s operating margin fell significantly significantly in 2009 to 3.3% from 6.1% in 2008 largely due to reduced earnings in the Shaw, Other Manufacturing, Manufacturing, and Other Service reporting lines. lines. We forecast margins could remain remain mostly stable at 3-4% in both 2010 and 2011. 2 011. As a point of reference, 1-point change in pre-tax margin equates to approximately $600 million annually. Pre-tax earnings in this segment could improve modestly to $2.1 billion (+4% year-over-year) and $2.3 billion (+6% year-over-year) in 2010 and 2011, respectively, reflecting our outlook for slight revenue growth and positive operating leverage. Pre-tax earnings fell 49% in 2009 reflecting reflecting a weak economic environment. The Manufacturing, Service, and Retail segment could achieve an 8% return on tangible equity in 2010 and 2011, consistent with 2009, and far below the 18% return on tangible equity achieved in 2008.
Figure 42. Manufacturing, Service, and Retail - Return on Tangible Equity 30%
Purchase of Marmon
25.1% 25%
22.8%
22.2%
17.9%
20%
Impact of recession
15% 10%
7.9%
8.1%
7.9%
2009
2010E
2011E
5% 0% 2005
2006
2007
2008
Source: Company data, Barclays Capital Research
FINANCE & FINANCIAL PRODUCTS UNIT TIED TO THE HOUSING MARKET
Berkshire’s Finance & Financial Products segment is mainly comprised of Clayton Homes, which is the largest company in the manufactured housing industry and includes a financing financing business. This segment accounted for 4% of Berkshire’s Berkshire’s revenues and 6% of pre-tax earnings in 2009. We expect Clayton’s revenues and earnings to stabilize stabilize in 2010 and 2011 after declining in 2009 reflecting housing market weakness. Barclays Capital’s U.S. Economist Economist Michelle Meyer believes the sharp drop in home prices has ended, b ut prices are bouncing around the bottom with little little upside expected over the next few years. Manufactured housing typically provides provides a low entry price point for consumers into the housing housing market. However, we anticipate soft demand demand for manufactured homes due to increased affordability of homes, and higher mortgage rates for manufactured home buyers versus agency-insured mortgages. Manufactured/modular homes represented represented 14% of new homes built in 2008, according to data from the Harvard Harvard Joint Center For Housing Studies. (continued on next page)
36
Equity Research
Figure 43. Finance & Financial Products Revenues Revenues & Pre-tax Earnings Pre-tax Earnings
Revenues $6,000
1,400
$5,000
1,200
s $4,000 n o i l l i $3,000 M $ n $2,000 I
s n o 800 i l l i M 600 $ n I
$1,000
200
1,000
400
0
$0 2005
2006
2007
Manufacture Manufactured d housing housing & finance
2008
2009
2010E
Furniture Furniture/t /t ransportation o n equipme equipment nt leasin leasing g
2011E Other Other
2005
2006
2007
Manufactured ctured housing housing & finance finance
2008
2009
2010E
Furniture Furniture/transporta /transportation equipme equipment nt leasin leasing g
2011E Other Other
Note: Other earnings include earnings associated with Clayton Homes’ Homes’ installment lending activities. Interest income associated with Clayton Clayton Homes’ installment lending activities is included in Clayton revenues with a corresponding charge reflected in Clayton Homes’s earnings. Source: Company data, Barclays Capital estimates.
Clayton Homes—A Leader In Manufactured Housing
Clayton Homes, headquartered near Knoxville, Tennessee, is the largest company in the manufactured home industry, delivering 27,499 units in 2008, which which represents about 34% of the manufactured housing industry industry total. Clayton is a vertically integrated manufactured manufactured housing company. As of 2009, Clayton operates 36 manufacturing plants plants in 12 states. Clayton’s homes are sold in 48 states through a network of 1,503 retailers, including 385 company-owned sales centers. Clayton is also developing 24 housing subdivisions subdivisions in eight states. states. Berkshire acquired Clayton Clayton in 2003 for $1.7 bn in cash. Clayton’s results have been hurt by housing market turmoil turmoil along with the rest of the industry. industry. Manufactured housing demand has been declining for years, with output falling to 60,000 units in 2009 from 382,000 in 1999, reflecting in part reduced new home construction as well as higher mortgage rates for manufactured home buyers versus agency-insured mortgages for sitebuilt homes. While the cost of a manufactured home is usually less than site-built site-built homes, mortgage rates rates for a manufactured home are currently higher versus agency-insured mortgages because very few manufactured homes qualify for agencyinsured mortgages. For example, the average rate for an agency-insured agency-insured mortgage is significantly below the roughly 9% for a mortgage for a manufactured home. On a positive note, Clayton has not experienced dramatic increases in delinquencies and foreclosures during the housing crisis due to its disciplined lending practices, even though its customers tend to have credit scores below nationwide averages. As a result, we do not expect meaningful loan losses in this business. For example, the latest latest data available show delinquency rates at Clayton were 3.6% in 2008 (versus 7% for the residential housing industry), up from 2.9% in 2006 and 2.4% in 2004. Clayton’s foreclosure rate in 2008 was was 3.0% (in line with the residential housing housing industry) compared to 3.8% in 2006 and 5.3% in 2004. Clayton Homes manufactures and sells sells both manufactured homes and modular homes. Manufactured homes (formerly (formerly known as mobile homes) are built in a factory factory and transported to the building site. Modular homes are typically built built in sections at a factory and assembled at the site site by local contractors. Both manufactured and modular homes are less less expensive to purchase than site-built homes (also (also know as stick-built houses). The advantages of manufactured and modular homes include low construction costs, fast building times (manufactured homes can be constructed in 1-2 days vs 3-6 months for site-built homes), and they are built under controlled conditions in a factory. Finance & Financial Products Segment Earnings Likely To Remain Depressed
Reduced demand for manufactured homes and lower rental income at the furniture and transportation equipment leasing business could depress Finance & Financial Financial Product segment’s revenues and earnings through through 2010. A modest improvement in results is expected in 2011 as the housing market and economy recover. •
•
•
The Finance & Financial Products segment’s revenues fell 7% in 2009 to $4.6 bn due to a decline in home unit sales at Clayton and lower rental income income at the furniture and transportation equipment leasing business. We expect revenues to decline 1% in 2010 to $4.6 bn, and rise 2% in 2011 to $4.7 bn as both the housing hou sing market and the economy recover. Pre-tax earnings for the total segment fell 1% in 2009 to $781 mn due to a $79 mn increase in loan loss provisions at Clayton, partially offset offset by cost reduction efforts. We expect pre-tax earnings to decline 1% in 2010 to $774 mn and rise 2% in 2011 to $795 mn driven by a modest increase in Clayton home sales as the housing market bottoms. The pre-tax margin for the total segment rose to 17.0% in 2009 from 1 5.9% due to reduced expenses and higher net investment income. We expect the pre-tax margin be stable at 17.0% in 2010 and 201 1. 37
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BERKSHIRE’S BALANCE SHEET & LIQUIDITY REMAIN STRONG
Berkshire Hathaway’s strong balance sheet and liquidity are among its most enduring competitive advantages, we believe, even though the company is no longer rated AAA by the rating agencies. agencies. These factors are important for Berkshire’s Berkshire’s reinsurance customers, as well well as partners for mergers or investments. During the financial crisis, crisis, Berkshire was able to quickly deploy $20 bn of capital in deals with attractive financial terms for Berkshire including convertible preferred stock investments with attached warrants in Goldman Sachs, GE, and Swiss Re. In addition, Berkshire’s reinsurance customers at GenRe and Berkshire Hathaway Reinsurance Group demand high financial security and the ability a bility to pay multi-billion dollar claims quickly. Berkshire has not repurchased its stock or paid a shareholder dividend dividend historically, and we do not expect this this strategy to change. Instead, Berkshire deploys excess capital into investments or acquisitions. acquisitions. The rating agencies stripped Berkshire Hathaway of its coveted AAA ratings owing to the impact of the financial crisis and weak economic conditions on Berkshire’s Berkshire’s investments and earnings (particularly (particularly from its non-insurance non-insurance businesses). The most recent downgrade was in response to Berkshire’s acquisition of BNSF in early 2010, based on the rating agencies’ view of Berkshire’s lowered lowered excess capital and liquidity positions. positions. Even so, Berkshire’s cost on $8 bn of debt it issued to partially partially finance the BNSF deal was likely likely only several bps higher versus previous spreads when Berkshire Berkshire was rated AAA. We note that Berkshire’s 5-year CDS is currently at 104 basis points, which is a lower level than when it was rated AAA during the global financial crisis. Also, we doubt Berkshire intends to regain the AAA due to the significant additional capital required. In terms of sensitivity to changes in interest rates and equity markets as of YE09, a 100 bps increase in interest rates would have an estimated impact of $1.9 billion billion on Berkshire’s investment valuations valuations and shareholders’ equity. A 5% change in equity in the value of Berkshire’s equity securities would potentially have a $3 bn impact. Figure 44. Berkshire Hathaway Hathaway 5-Year CDS CDS Spread
500
400
300
200
100
0
N U G G
E T T A G : u s e r N a m e = n u l &pl l&pl o t N a m
e = n ul l
20 06
20 07
20 08
20 09
20 10
Source: Barclays Capital Live
Despite the rating agency downgrades, we believe Berkshire remains among the best-capitalized b est-capitalized and most liquid insurers globally, with U.S. and European customers focusing mostly on the ratings from A.M. Best and S&P, respectively. All of Berkshire’s major insurance subsidiaries are rated AA+ by S&P and nearly all are rated A++ by A.M. Best. As of year-end 2009, Berkshire Hathaway has $136 billion in shareholders’ equity, and $146 billion in cash and investments, of which $8 billion has been earmarked for the BNSF BNSF acquisition. Separately, the aggregate statutory surplus surplus (important for rating agency needs) for Berkshire’s U.S. P&C insurance operations is approximately approximately $64 bn as of YE09 and is the largest in the U.S.
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Figure 45. Berkshire Hathaway’s Ratings from the Rating Rating Agencies Long-term issuer Senior unsecured Insurer financial strength Short-term / Commercial paper
Standard & Poor’s AA+ (stable) AA+ (stable) AA+ (stable)
Moody’s
Fitch
A.M. Best
Aa2 (stable) Aa2 (stable) Aa1 (stable)
AA- (stable) A+ (stable) AA+ (stable)
A-1+
P-1 (stable)
F1
Aa+ (negative) -A++ (under review, negative implications) --
Source: S&P, Moody’s, Fitch, A.M. Best, Barclays Capital research.
Capitalization and Financial Leverage Both Rising
Berkshire Hathaway balance sheet risk increased as a result of the BNSF acquisition, although it appears manageable barring another shock to the financial system. system. As of year-end 2009, Berkshire’s capital base not adjusted adjusted for the BNSF acquisition acquisition stood at $169 billion. Importantly, 78% of capitalization is from shareholders’ equity, equity, of which the vast majority is retained earnings. As of YE09, Berkshire’s tangible equity is $97 billion excluding $34 billion goodwill generated from acquisitions, acquisitions, up from $75 billion at year-end 2008. Figure 46. Berkshire Hathaway Capital Structure Berkshire Berkshire Tot al Capit Capit al
Berkshire Berkshire T angible Capital
BNI Acquisition $200
$200
$150
$150 l i b $ $100 n i
l i b $ $100 n i
$50
$50
$0
$0 2005
2006
2007
Berks rkshire ire Total tal De Debt
2008
2009
2010E
2011E
2005
2006
2007
2008
Berkshi erkshire re Total Total Debt Debt
Berks rkshire hire Total tal Equity uity
2009
2010E
2011E
Berkshi erkshire re Tangible Tangible Equity
Source: Company data, Barclays Capital Research 3
Berkshire’s financial leverage increased over the past several years, with adjusted debt-to-total capital rising from 6% in 2005 to 18% in 2006, reflecting the acquisition acquisition of MidAmerican. Adjusted debt-to-total capital declined to 16% in 2009 driven by a recovery in investment marks. We anticipate financial leverage leverage could rise to 22% in 2010 driven by the additional $18 bn of debt related to the BNSF acquisition. acquisition. As of year-end 2009, total debt (excluding $12 bn from Berkshire Berkshire Hathaway Finance Corp. used for operating leverage) was $26 billion, of which about $20 billion is from MidAmerican. Neither the MidAmerican debt nor the $10 billion of existing BNSF debt is guaranteed by Berkshire. Berkshire Hathaway completed the acquisition of the remaining 77.4% of BNSF it did not already own in February 2010, which is its largest largest deal to date. Berkshire paid $26 billion billion and assumed $10 billion billion of existing BNSF debt. Berkshire funded this $26 billion deal with $10.1 billion in newly issued stock and $15.9 billion in cash – the cash portion was funded with $8 billion of externally raised raised debt raised at low rates, and $8 billion of existing existing cash. As a result of the BNSF acquisition, acquisition, Berkshire’s goodwill is expected to increase $16.5 bn. (continued on next page)
3
Adjusted debt-to-total debt-to-total capital includes all debt, except debt issued for Berkshire Hathaway Finance Corporation (BHFC). BHFC’s debt, which is guaranteed by Berkshire Hathaway Inc., is used as operating leverage for Clayton Homes. We include the debt of both MidAmerican and BNSF in our adjusted debt-to-total capital calculation, although their debt is not guaranteed by Berkshire Hathaway Inc.
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Figure 47. Berkshire Hathaway Adjusted Debt-to-Capital $18 billion of debt related to BNS BNSF acquisitio acqui sition n
25% 20%
22%
19%
18%
17%
2006
2007
21%
16%
15% 10%
6%
5% 0% 2005
2008
2009
2010E
2011E
Source: Company data, Barclays Capital Research
Berkshire generates strong liquidity from its operations, and maintains significant cash balances of $30.6 billion as of year-end 2009, down from $25.5 billion a year earlier. earlier. Including the use of existing cash for the BNSF acquisition, acquisition, Berkshire’s Berkshire’s cash is estimated to be down to about $22.6 billion currently, which would be the lowest level in many years and approaches Berkshire’s internal minimum minimum requirement of $20 billion. Notably, Moody’s said in February 2010 that a decline in Berkshire’s cash approaching $10 bn or less could trigger another downgrade. Figure 48. Berkshire Cash and Cash Equivalents Marmon Acquisition and investments investments in Goldman Goldman and others
$50
$45
$44
$44
BNSF Acquisit ion
$40 $31
l i $30 b $ n $20 i
$26
$23
$10 $0 2005
2006
2007
2008
2009
1Q10E
Note: Cash and Cash Equivalents for 2005 is presented proforma for the MidAmerican acquisition Source: Company data, Barclays Capital research.
Strong Free Cash Flow
Berkshire’s free cash flow was robust at $11 billion in 2009, and we expect it to ease to approximately the $8 billion-range in both 2010 and 2011 driven by less cash flow from operations and increased capital capital expenditures. Berkshire intends to deploy a meaningful portion of future cash flow into capital intensive businesses, including MidAmerican MidAmerican and BNSF. Capital expenditures at MidAmerican MidAmerican are expected by Berkshire to be $2.6 bn in 2010, down from $3.4 bn in 2009. BNSF’s capital capital expenditures are expected by the company to be $2.4 bn in 2010.
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Figure 49. Berkshire Hathaway Hathaway Free Cash Flow $12
$10.9
$10 $8 l i b $
$7.3
$7.2 $5.6
$6
$7.9
$8.5
$5.1
n i
$4 $2 $0 2 005
200 6
2 007
20 08
2009
201 0E
2 011E
Note: Free cash flow is net cash flow from operations, less purchases of property, plant, and equipment. Source: Company data, Barclays Capital research.
Clayton’s Lending Portfolio Appears Stable
Clayton Homes, Berkshire’s manufactured manufactured housing operation, offers home mortgage originations. This operation risks losses from non-performing loans, although Clayton’s conservative lending practices practices should help keep these losses contained. For example, the average down payment for Clayton’s borrowers above the industry average and loans are all fixed rate and fixed term. The ability for for Clayton to fund these loans, however, depends on access to the capital markets. As of early 2010, Clayton had about $11.5 billion of notes issued by BHFC BHFC for the funding of Clayton’s loans. loans. Loan loss provisions were $380 million in 2009 up from $305 million in 2008, and loan charge-offs were $335 million in 2009 up from $ 215 million in 2008. Clayton’s allowance for loan loss reserves was $348 million 2009, up from $298 million in 2008. Insurance Reserves Showing No Problems Currently
Berkshire Hathaway’s property-casualty loss reserves have generated favorable development over the past few years although the benefit is slowing, consistent with industry trends. The company’s incurred loss development development trends appear benign currently, and we anticipate this this trend should continue over the next few years. Although no problems appear to be on the horizon, we closely monitor the reserve development trends of Berkshire Hathaway Reinsurance Group (BHRG) and GenRe. This is because these operations contain the largest largest concentration of the company’s long-tail long-tail liability exposures and have the potential to generate the most volatility in reserving over the course of a cycle. Berkshire Hathaway Reinsurance Group (BHRG) and GenRe account for the majority of net unpaid loss reserves, which generate float. Although GenRe has not suffered reserving reserving problems for more than five years, this this risk still exists because tort cost and general economic inflation could increase from currently low levels. Figure 50. Net Insurance Unpaid Loss Reserves Berkshire Hathaway Primary Group, 9%
BHRG, 44%
GEICO, 16%
General Re, 31%
Total Net Unpaid Losses $52 billion at YE09 Note: Unpaid losses are net of reinsurance recoverable and deferred charges on reinsurance assumed and before foreign currency translation effects. Source: Company data, Barclays Capital Research
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Berkshire’s P&C operations have released reserves over the past several years, which boosted pre-tax earnings by $905 million in 2009, $1.1 billion billion in 2008, and $1.5 billion in 2007. We expect this benefit to slow in 2010 and 2011 because pricing has eroded and loss cost inflation could increase. Figure 51. Total P&C Prior Prior Year Loss Reserve Reserve Development $0
0%
($200) ($400)
-1% ($225)
($357)
P o i t a -3% R d e n i b -4% m o C
($600)
l i m $ ($800) n i
s t
n -2% i o
($612) ($775)
($1,000)
($905)
($1,200)
($1,140)
-5%
($1,400) ($1,478)
($1,600) 2005
2006
2007
Prior Ye Year Deve Develop lopme ment nt
-6% 2008
2009
2010E
2011E
Prior Ye Year Dev Devel elopme opment nt Combi Combine ned d Rati Ratio o Impact Impact
Source: Company data, Barclays Capital Research
DERIVATIVES EXPOSURE REQUIRES MONITORING
Berkshire Hathaway attracted attracted unwanted attention in 2008 and early 2009 due to its growing growing derivatives exposure. The company increased its exposure to fluctuating investment valuations by selling long-dated put options on equity indexes and high yield indexes as well as credit default protection for states/municipalities and individual corporations with a total notional value of $63 bn. On a positive note, these contracts provided Berkshire Berkshire with $6 bn of float for investment, the contracts contracts cannot be settled prior to expiration, and the marks reversed to positive territory after 1Q09. Economic risk from Berkshire’s Berkshire’s derivatives appears manageable, in in our view. This is because the equity put options are European style (only exercisable just prior to expiration), and require payment by Berkshire in about 11.5 years if the index price is lower than the level when the contract contract was written. Notably, in 2009 Berkshire reduced the strike strike prices and shortened the maturities of about 10% of its equity put options. That being said, Berkshire’s Berkshire’s derivative contracts enhance its exposure to equity markets as well as to the debt service capabilities of states and municipalities in a challenging fiscal environment. Berkshire’s derivatives contracts produce meaningful accounting swings in net income due to marking these securities to market each quarter. As a point of reference, Berkshire Berkshire estimates a 30% increase in equity markets could result result in about a $2 bn accounting gain in its equity put options, and a 30% decrease could result in about a $3 $ 3 bn accounting loss (1.5% of shareholder’s equity). Figure 52. Notional Value of Berkshire Berkshire Hathaway Derivative Derivative Contracts, YE09 Individual corporate, $3.6 bn Credit Credit default obligationsStates/ tates/ municipali ties, $16.0 bn
Equity quit y index put options, $38.0 bn
Credit Credit default obligationsobligations- High yield in dexes, dexes, $5.5 bn
Total Notional Value=$63.1 Bn
Source: Company data, Barclays Capital research.
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Berkshire’s Derivatives Risk Appears Manageable
Berkshire’s derivatives exposure present low liquidity risk, in our view, because only a small number of Berkshire’s contracts require posting of collateral. This means Berkshire is unlikely to suffer a liquidity squeeze even if contracts are substantially out of the money prior to expiration. Berkshire posted collateral of roughly roughly $35 million related to its its equity put options as of year end 2009. Berkshire’s peak collateral requirement requirement was $1.7 bn in early 2009 during the heart of the the financial crisis. Berkshire’s derivative exposures appear to present reasonable economic risk over the life of the contract, in our view. Twothirds of Berkshire’s derivatives are equity puts written on the S&P 500 and 3 foreign equity indices, and all of the contracts are European-style options with an average life of about 11.5 years. We view the probability of economic losses on these contracts occurring as low, because it would mean equity market indexes decline over 11.5 years compared to the index values at the inception of the contract. In a pessimistic scenario, a 25% decline in equity markets at expiration (11.5 years on average) could ca use Berkshire a $9.5 bn loss (25% of $38 bn notional value). Importantly, this modeled potential potential loss should be viewed in light of the float generated by $4.9 bn in upfront premiums. Figure 53. Potential Payout Of Of Berkshire’s Equity Puts $10 n b $ n i , t u o y a P l a i t n e t o P
$4.9 bn premium
$0 ($10) ($20) ($30) ($40) - 100%
- 80%
- 60%
- 40%
- 20%
0%
20%
40%
60%
80%
100%
% chg equities over 15-2 0 yrs
Note: Does not include expected benefit of investment income over 11.5 years from about $4.9 bn in premium. Source: Barclays Capital estimates.
Berkshire is exposed to economic risk from derivative contracts on credit losses from states/municipalities, high yield indices, and individual corporate corporate bonds. The total notional value of these contracts is $25 bn. Warren Buffett “feels “feels good” about its exposure to states/municipalities, which represents $16 bn of notional exposure. Berkshire’s high yield credit derivatives ($5.5 bn of notional exposure) could experience losses due to significant bankruptcy activity in 2008. The potential maximum loss on these contracts is $5.5 billion (fair value for Berkshire at 3Q09 is a loss of $781 mn), although potential losses should be considered in light of premiums received at inception of $3.4 bn as of year end 2008 and investment income generated on these premiums over the 5 year life of the contract. Importantly, Warren Buffett expects its derivatives contracts in aggregate to deliver a profit over their lifetime, even excluding investment income earned on the $6 billion of float. Furthermore, Berkshire’s Berkshire’s derivatives have low counterparty risk, in our view, because the company requires cash payments at initiation of the derivatives derivatives contracts. This means Berkshire always always holds the money and assumes no meaningful counterparty risk. These payments to Berkshire amounted to $6 bn at year end 2009, and represents represents Berkshire’s derivatives float. Derivative Accounting Swings Can Be Meaningful
We view Berkshire’s economic economic risk from derivatives as manageable. However, accounting swings in Berkshire’s Berkshire’s income statement from derivatives can be meaningful because the company is required to mark-to-market its derivatives exposure. This GAAP accounting treatment led Berkshire to recognize a $6.8 bn of loss in 2008 when equity and credit markets 43
Equity Research
plunged. In 2009, Berkshire recognized recognized an accounting gain of $3.6 bn due to a recovery recovery in financial markets. markets. A sensitivity analysis of Berkshire’s equity puts and potential impact to net income and shareholder’s equity from a 30% increase or decrease in equity markets is shown below. below. Berkshire uses Black-Scholes Black-Scholes to mark its equity put portfolio, although although we cannot accurately replicate this sensitivity analysis because the strike prices are not disclosed. Figure 54. Equity Put Sensitivity Analysis Analysis Est. Est. Income Stmt Accounting Gain/ Loss Loss
Est. Fair Value Equity Put Options (Balance Sheet liability) $3,000 $0 ($2,000) s n o i l l i m $ n I
s $1,000 n o i $0 l l i m($1,000) $ n ($2,000) I
($4,000) ($6,000) ($8,000)
$2,018
$2,000
($5,291) ($7,309)
($3,000)
($10,000) ($10,428)
($12,000) Fair Va Value, 3Q 3Q09
Optim Optimis istic tic Scena cenari rio: o: 30% increase equities
1.5%
($3,119)
($4,000) Optimistic Scenario: cenario: 30% 30% increase increase equities
Pessimistic Pessimistic Secnario: Secnario: 30% decrease equities
Pessimis Pessimistic tic Secnario: Secnario: 30% decreas decrease e equities
Est. Est. Accounting Gain/ Loss Loss As A Pct Pct Of Shareholder's Equity Equity Under Stressed Scenarios 1.0%
1.0% 0.5% 0.0% -0.5% -1.0% -1.5% -1.5%
-2.0%
Optimistic Scenario: Scenario: 30% increase equities Pessimistic Pessimistic Secnario: Secnario: 30% decrease decrease equities
Source: Company data, Barclays Capital research.
Berkshire’s Derivatives Contracts Background
Berkshire Hathaway is party to approximately 250 derivative contracts with a total notional value (the nominal exposure to a derivative’s underlying securities) of $63 billion at YE09 and an average contract life of 11.5 years (details provided in Figure 55). These contracts generate substantial float float for Berkshire of $6.3 billion billion as of year end 2009 since Berkshire collects premiums at the inception of the contract. contract. Similar to insurance float, float, if Berkshire breaks even on the underlying contract, contract, it has enjoyed the use of free money for years (although the company expects to perform perform better than breakeven). Warren Buffett considers himself the chief risk officer at Berkshire and is in charge of monitoring derivatives positions. (continued on next page)
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Equity Research
Figure 55. Berkshire Hathaway’s Hathaway’s Derivative Exposures, As As of YE09 Derivative
Notional Value, YE ‘09, in $ millions $37,990
Fair Value, YE ‘09, in $ millions $(7,309)
Weighted Average Duration
Maturity
Premium as of YE ‘08
Reference Index
Explanation
11.5 yrs
20182028
$4.9 bn upfront
S&P 500, FTSE 100 in the U.K., Euro Stoxx 50, Nikkei 225 in Japan
Credit Default Obligation, state/ municipalities
$16,042
$(853)
11 yrs
20192054
NA
Over 500 states & municipalities
Credit Default Obligation, high yield indices
$5,533
$(781)
2 yrs
20102013
$3.4 bn upfront
Contracts typically cover 100 high yield issuers
Credit Default Swaps on individual companies
$3,565
$81
5 yrs
2013
$93 mn received annually
42 individual corporations
Berkshire pays its counterparty at maturity if the reference index is below what it was at inception. Options are European-style European-style and neither party can settle settle early. In 2009, Berkshire shortened the maturities and reduced the strike prices on about 10% of its equity put contracts. Berkshire pays when credit losses occur at covered states and municipalities. Warren Buffett said he “feels good” about these exposures. No counterparty risk exists. Berkshire pays when credit losses occur at companies that are included in various highyield indices. Warren Buffett said the possibility of a loss on these contracts is high due t o the recession and significant bankruptcy activity. No counterparty risk exists. Credit insurance covering individual corporate issuers. Berkshire receives receives premium annually, annually, therefore, these are the only derivative contracts written by Berkshire with counterparty risk- that is, risk the counterparty will not pay the quarterly premium over the 5 year life of the contract. Notably, Berkshire is unlikely to expand this business because most buyers now insist the seller post collateral, which Berkshire will not agree to.
Equity Put Portfolio
Source: Company data, Barclays Capital research.
VALUATION – BERKSHIRE SHARES APPEAR FULLY VALUED
Estimating the fair value of Berkshire Hathaway’s shares is a challenging exercise because the company is a conglomerate of insurance, railroads, utilities, manufacturing, finance, service, and homebuilding businesses, meaning it has no directly comparable peers. Instead, we valued the stock using three approaches: Price-to-book (our favored favored metric because book value is a conservative starting point in our view), view), sum-of-the-parts, sum-of-the-parts, and intrinsic value. We are using a price target of $88 per Class B share ($132,000 per Class A share) based on a multiple of 1.30x (below the average historical multiple of 1.59x since 2000) our YE11 book value estimate of $68 per Class B share share ($101,500 per A share). We also estimate Berkshire’s Berkshire’s fair value using sum-of-the-parts and intrinsic value methods, which generate an outlook of approximately $87 per Class B share ($130,000 per Class A share) and $73 per Class Class B share ($110,000 per Class A share), respectively. As a point of reference, Class B shares are valued at 1/1,500th of Class A shares. (continued on next page)
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Figure 56. Berkshire Hathaway Hathaway Valuation Methods Methods Valuation Method
Price-to-stated book
Approximate estimated fair value per share
Sum-of-the-parts
$88 per Class B share $132,000 per Class A share
Strengths of this method
Easy to calculate. Historical basis for valuation.
• •
Intrinsic value
$87 per Class B share $130,000 per Class A share •
Applies separate valuation for each business.
$73 per Class B share $110,000 per Class A share •
•
Drawbacks of this method
Book value is believed to be lower than intrinsic value. BNSF is newly acquired, so historical valuation is not highly relevant.
•
•
•
•
Valuation based on comprehensive income (incl. est. investment gains). Determining the right valuation for each segment can be a challenge.
•
Warren Buffett uses a modified version. Separately values investments and operating units. Many estimated inputs, including WACC and terminal value of future earnings.
Source: Barclays Capital research.
Price-To-Book Valuation
We tend to give our price-to-book valuation method the most emphasis because book value per share is a critical valuation metric for the company, although it likely understates the economic value of many acquired acquired businesses. Also, the comparability of Berkshire’s historical price/book valuation to current levels is somewhat limited since historical valuation data does not include the recently completed acquisition of BNSF. We apply a 1.30 price-to-book multiple on our year-end 2011 book value per Class B share estimate of $68 ($101,500 per Class A share) to develop our price target of $88 per Class Class B share ($132,000 per Class A share). Berkshire currently trades at 1.41x stated YE09 book value per Class B share of $56. Since 2000, the stock has traded at an average of 1.59x, a high of 1.99x, a low of 1.11x, and one standard deviation from the mean equal to 0.19x. Berkshire currently trades at 1.91x tangible YE09 book value per Class B share of $42 ($62,594 per Class A share). Since 2000, the price-to-tangible book multiple average is 2.26x, with a high of 3.17x, a low of 1.58x, and one standard deviation from the mean equal to 0.36x. Our $88 price target per Class B share implies implies a price-to-tangible book multiple multiple of 1.86x on our year-end 2011 tangible book value per Class B share estimate of $47. We believe it is reasonable to expect that in 12-18 months BRK shares could be trading at a lower stated price-to-book valuation than currently because we anticipate weakness in the Insurance segment, a modest improvement in Non-Insurance earnings except BNSF, slowing book value per share growth, and declining ROE. In addition, Berkshire’s current valuation likely already takes into account the benefit of improving economic conditions. Figure 57. Berkshire Hathaway Price-To-Book & Price-to-Tangible Book 2.1
3.3
Trailing Price-to-Stated Book Multiple
2.0
3.1
1.9
2.9
1.8
2.7
1.7
2.5
1.6
2.3
1.5 1.4
2.1
1.3
1.9
1.2
1.7
1.1
Trailing Price-to-Tangible Book Multiple
9 9 c e D
0 0 c e D
1 0 c e D
2 0 c e D
3 0 c e D
4 0 c e D
5 0 c e D
6 0 c e D
7 0 c e D
8 0 c e D
1.5
9 0 c e D
9 9 c e D
0 0 c e D
1 0 c e D
2 0 c e D
3 0 c e D
4 0 c e D
5 0 c e D
6 0 c e D
7 0 c e D
8 0 c e D
9 0 c e D
Source: FactSet, Barclays Capital research.
Sum-Of-The-Parts- $87 Per Class B Share
Our sum-of-the-parts valuation analysis is a useful check for our price-to-book methodology, and estimates Berkshire’s fair value to be approximately $87 per Class B share ($130,000 per Class A share). We assume an ongoing annualized unrealized equities return of 8%. As a point of reference, each 2-percentage point change in annual equity equity returns could 46
Equity Research
adjust our estimate of Berkshire’s book value per share by roughly $0.30 per Class B share ($450 per Class A share, 0.5% of book value per share). Step 1: Estimate the value of the Insurance business
Our starting point for valuing the Insurance operation is Berkshire Hathaway’s $65 billion of U.S. P&C statutory capital as of YE09. We are using statutory capital, which which we normally view as a conservative measure measure of tangible equity, because GAAP equity for the entire Insurance business is not readily available and it includes substantial goodwill. We apply a multiple of 1.3x to current statutory capital to develop a rough estimate of about $85 bn of the value of the Insurance business. The multiple we are using is above the P&C P&C sector average of 0.90x reflecting the strong franchise franchise value of GEICO, GenRe, and National Indemnity. GEICO’s closest peer is probably PGR, which trades at 2.1 times book value, although PGR has much higher ROEs ROEs than GEICO because of its elevated operating operating and financial leverage. Most of the publicly-traded reinsurers trade at or below 1x book value, although we view National Indemnity as having few peers. Figure 58. Berkshire’s Insurance Unit Valuation (in $bn) YE09 Statutory Ca ap pi ta l N ationalIndem nity C o. C olum bia Insura nce C o. G eneralRe G EIC O Total M ultiple applied Insurance valuation
$38 8
Estim a ted
Est.
Va al luation
Va al lue
1.25 1.25
$4 8 11
10
1.20
12
8
1.75
15
65
1.31
85
1.31 x 85
Source: SNL, Barclays Capital research.
Step 2: Estimate the value of the Non-Insurance businesses:
The contributions from the Non-Insurance businesses include BNSF, the Manufacturing, Service & Retail segment, MidAmerican, the Finance Finance and Financial Products unit, and unrealized investment gains. In total, we value these operations at about $129 bn based on an implied P/E of 14x-15x estimated 2011 earnings. Figure 59. Berkshire’s Non-Insurance Non-Insurance Operations Valuation Valuation (In $bn) BN SF M a nufacturing, service & retail
Pre-tax ear earni ngs
Pct.2011E
201 1E
Earnings
3 .8 2 .3
2 8% 1 7%
M idA m erican
1 .8
Finance and financialprod ucts
0 .8
Total U nr nrealized appreciation ofinvestm en ents
8 .6 5 .0 13 .6
G rand to tal
A fter-tax P/E
valuation,(a)
15 .0 15 .0
37 22
1 3%
12 .0
14
6%
15 .0
8
3 7%
15 .0
81 49
10 0%
14 .6
129
(a) Assumes 34% effective tax rate. Source: Barclays Capital research.
Our weighted average estimated fair value 2011 P/E of 14x-15x for the Non-Insurance businesses and unrealized investments operations is based on applying a: P/E of 15x for BNSF, BNSF, which was acquired by Berkshire Berkshire Hathaway for 16x 2010 est. EPS. Peer railroad operator stocks are UNP, CSX, and NSC, which are currently trading at 14x-15x 2011 estimated EPS, according to Gary Chase, Barclays Capital’s senior airfreight & ground transportation equity research analyst. 15x for Manufacturing, service, and retail, as well as Finance and Financial Products based on a expected earnings recovery over the next several years. 12x for MidAmerican. The best comparable stocks are XEL, EAP, DUK, WEC, and LNT (regulated utilities currently trade at an average of 12x 2011 estimated EPS) according to Daniel Ford, Barclays Capital’s senior Utilities equity research analyst. 15x for unrealized investment gains, which which reflects the value added by Warren Buffett’s Buffett’s management. The most relevant asset manager comparables are BEN (currently trading at 16x estimated 2011 EPS), BLK (16x), TROW •
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(19x), and LM (20x), according to Barclays Capital’s Senior Broker and Asset Manager equity research analyst Roger Freeman. Step 3: Add the valuations of the Insurance and Non-Insurance businesses.
We add the estimated value of the Insurance business of $85 bn to the value of o f the Non-Insurance businesses (including unrealized investment gains) of $129 billion to develop our sum-of- the-parts valuation for Berkshire Hathaway of $214 billion, or about $87 per Class B share ($130,000 per Class A share). Intrinsic Value- $73 Per Class B Share
The intrinsic value method estimates Berkshire’s fair value to be approximately $73 per Class B share ($110,000 per Class A share). This method is the most complex of the three since we need to make various assumptions including the company’s long-term earnings power, and its weighted average cost of capital (WACC). Similar to our other valuation estimates, the intrinsic value method assumes Berkshire does not acquire any companies in the future that would add to earnings power and is likely an overly conservative stance. Our method of estimating Berkshire’s intrinsic value differs slightly from Warren Buffett’s approach—Mr. Buffett’s Buffett’s methodology is to sum the 1) per-share value of cash and investments of the insurance business, and 2) the present value of pre-tax future earnings from businesses other than insurance and investments. We take a slightly different, and perhaps more conservative, approach by taking the sum of 1) the value of cash and investments of the insurance business, and 2) the present value of expected after-tax earnings of the non-insurance businesses to value the company. We then take the additional step of subtracting the value of all all Berkshire’s debt to estimate estimate the value of the equity. Our approach adjusts for the impact of taxes as well well as focusing on the value of the company from an equity holder’s perspective. Our major assumptions and results of our intrinsic value analysis: Value of investments and cash of the insurance and other business: $138 bn based on $146 bn (actual amount as of 4Q09), less $8bn of internal cash for the BNSF acquisition. Present value of future non-insurance after-tax income: estimated at $99 bn, based on our assumptions of earnings growth of 2.5% from 2013-2020 and a perpetual earnings earnings growth rate of 1.5%. Our estimates are for WACC of 7.2% 7.2% and a discounted terminal value multiple of 18 times. Adding these two components provides an estimate estimate of intrinsic value of $237 billion. billion. We then subtract the value of all debt (including assumed debt from BNSF and operating debt in the finance operations) of $56 billion to estimate an intrinsic value of the equity of $181 billion, or approximately $73 per Class B share ($110,000 per Class A share). •
•
•
Following is our scenario analysis summary for our intrinsic value estimates per Class B share using different assumptions for Berkshire’s weighted average cost of capital, and the company’s perpetual growth rate. Figure 60. Intrinsic Value Scenario Analysis Summary –Per Class B share V aluat ua tion Scen Scenario A nalysis (Per Per Class B Sha Share)
W td.avg. g.cos ostofcap apital -2%
Perpetual Perpet ual G row th Rate (g)
-1% 0% 1% 2%
6%
7%
8%
9%
$70 $73 $76 $81 $89
$65 $67 $69 $73 $77
$61 $63 $65 $67 $70
$59 $59 $61 $63 $65
Source: Barclays Capital research.
48
10%
$56 $57 $58 $59 $61
Equity Research
Figure 61. Berkshire Hathaway Hathaway Intrinsic Value Analysis (In $m $ m illions, excep exceptper share) share)
W eight ghted a vg. costof capital(W A CC)
M ktvalue ofequity D ebt Total
V aluation Sum m ary
(In $m $ m n except exceptper per shar hare) Value ofinvestm ents & cash (a) PV of ofnon-insurance A /T /T incom e C om pany value Less:debt(b) V al alue ofshareholders'equity Class A and equi quival entshares out.(c) Value ofequity per C lass A equiv.share Value ofequity per C lass B equiv.share
$137,982 99,179 237,161 (55,909) 181,252 1.65 $109,850 $73
201,896 55,909 257,805
Beta 10 Yr Yr U S Treasury yield Risk prem ium M arketreturn C ostofequity
0.89 3.9% 5.0% 8.9% 8.4%
C ostofdebt,pre-tax 1-Tax rate Cos Costofdebt,after-tax
4.7% 0.66 3.1%
W A CC
7.2%
Perpetualgrowth rat e (g)
1.5%
78% 22% 100%
2010E
2011E
2012E
2013E
2014E
2015E
2016E
2017E
2018E
2019E
2020E
Term inal V alue
2,949 1,746 746 2,138 773 (400) 7,206 34% 4,756 1 4,436
3,811 81 1 1,785 78 5 2,260 26 0 783 (400) 40 0) 8,239 23 9 34% 5,438 43 8 2 4,731 73 1
4,002 00 2 1,874 87 4 2,373 37 3 822 (420) 42 0) 8,651 65 1 34% 5,710 71 0 3 4,633 63 3
4,102 10 2 1,921 92 1 2,432 43 2 843 (431) 43 1) 8,867 86 7 34% 5,852 85 2 4 4,430 43 0
4,204 20 4 1,969 96 9 2,493 49 3 864 (441) 44 1) 9,089 08 9 34% 5,999 99 9 5 4,235 23 5
4,309 30 9 2,018 01 8 2,555 55 5 885 (452) 45 2) 9,316 31 6 34% 6,149 14 9 6 4,049 04 9
4,417 41 7 2,069 06 9 2,619 61 9 907 (464) 46 4) 9,549 54 9 34% 6,302 30 2 7 3,871 87 1
4,527 52 7 2,121 12 1 2,685 68 5 930 (475) 47 5) 9,788 78 8 34% 6,460 46 0 8 3,701 70 1
4,641 64 1 2,174 17 4 2,752 75 2 953 (487) 48 7) 10, 10 ,032 03 2 34% 6,621 62 1 9 3,538 53 8
4,757 75 7 2,228 22 8 2,821 82 1 977 (499) 49 9) 10, 10 ,283 28 3 34% 6,787 78 7 10 3,383 38 3
4,876 87 6 2,284 28 4 2,891 89 1 1,002 00 2 (512) 51 2) 10, 10 ,540 54 0 34% 6,957 95 7 11 3,234 23 4
4,997 99 7 2,341 34 1 2,964 96 4 1,027 02 7 (525) 52 5) 10, 10 ,804 80 4 34% 7,131 13 1 12 54, 54 ,940 94 0
N on-Insurance i ncom e
Burlington N or orthern Santa Fe Utilities & En Energy (M idAmerican) M anufacturing,Service & Re Retail Finance & FinancialProducts Less:M inority interest TotalSegm en entpre-tax incom e Effective tax rate TotalSegm en entafter-tax incom e D iscountperiod PV after-tax income + term inal nalvalue W A CC
7.2%
Term inalm ult. 17 17.8 (1+g)/(W A CC -g)
(a) As of YE09, adjusted for $8bn earmarked for BNSF acquisition. (b) Includes $18 bn of debt related to BNSF acquisition. (c) Includes shares issued for BNSF acquisition. Source: Barclays Capital research .
Berkshire Hathaway Share Price Performance
Berkshire Hathaway shares significantly outperformed the S&P 500 Index including dividends year-to-date in 2010, as well as over the trailing 3, 5, and 10 year periods driven by Warren Buffett’s success in generating strong book value growth, earnings, and investment returns. However, the stock underperformed the S&P S&P 500 over the past 12 months reflecting the company’s increased volatility volatility in both earnings and book value growth. The 21% advance in BRK shares so far in 2010 versus a 7% increase in the S&P 500 Index (including dividends) has been driven in part by the stock being added to the S&P 500 Index, we believe. Going forward, we expect BRK shares to perform mostly in line with with the S&P 500 driven by book value per share growth although operating earnings appear stalled through 2011. Figure 62. Berkshire Stock Performance Performance Vs. S&P S&P 500 140%
116%
120% 100% 80% 49%
60% 40% 20%
37%
36% 21%
11%
10%
7%
0% -20% Year- t o- dat e
Past 1 Yr BRK.B
-12% Past 3 Yr s
-6% Past 5 Yrs
past 10 Yrs
S&P 500 incl incl divide dividends nds
Source: SNL Insurance, Barclays Capital research. 49
Equity Research
BERKSHIRE HATHAWAY RISKS
There are several risks that could impede the achievement of our price target for Berkshire Hathaway. •
•
•
•
•
•
•
•
Executive Management Risk. Warren Buffett, Buffett, age 79, in consultation with Charles Charles Munger, age 86, is responsible for all major capital allocation decisions for Berkshire Hathaway. It is not known currently when Mr. Buffett plans to retire, although the board of directors has a succession plan in place. Large and concentrated stock investments. Berkshire Hathaway has large ownership stakes in equities substantially concentrated in in seven companies. If the value of these stocks decline, it could result in in reduced shareholders’ equity. Derivatives losses. Berkshire has exposure to losses from its credit default and equity index put option contracts although it has received significant compensation compensation for assuming risks. The equity index put option contracts ($38 bn notional value) do not expire before 2019, and it would appear to require massive declines in the equity indexes as of expiration for Berkshire to suffer suffer economic losses. There is no cash settlement before expiration, expiration, although mark-tomarket effects will be reflected in Berkshire’s income statement on an ongoing basis. Volatile earnings. Berkshire Hathaway’s quarterly and annual earnings can be more volatile than many other large publicly traded companies, reflecting a focus on long-term economic returns, as well as exposures to shock insurance losses, derivatives, utility and energy markets, railroads, and economically sensitive manufacturing and services businesses. Insurance Risks. These include natural and man-made catastrophe losses including hurricanes and terrorism, large individual underwriting transactions, potential loss reserve inadequacies, and further deterioration in reinsurance market conditions. Berkshire estimates it could could incur a probable maximum loss of roughly $7 bn from a single single catastrophe loss event, although it believes believes it is being paid properly to assume this risk. risk. Berkshire has $59 billion in loss reserves for insurance operations, which means if adverse loss reserve development occurred it could have a material impact on reported earnings. Credit Ratings. Berkshire Hathaway’s counterparty credit and insurer financial strength ratings have been reduced by S&P, Moody’s, and Fitch to the AA level from AAA after the close of the BNSF acquisition. Moody’s cited potential additional downgrade thresholds such as losses from insurance underwriting, investments and/or derivatives causing a 20% decline in shareholders’ equity in a given year, or a decline in cash balances to levels approaching $10 billion (cash as of year-end 2009 is $23 billion, adjusted for $8 bn earmarked earmarked for the BNSF acquisition ). Berkshire’s utilities utilities and manufactured housing finance operations depend on access to borrowed funds through the capital markets. Mergers and acquisitions. Berkshire Hathaway has completed significant acquisitions over time to enhance and diversify its earnings, which which presents both execution and, sometimes, financing financing risk. It’s most recent acquisition of railroad operation Burlington Northern Santa Fe for $26 billion is Berkshire’s largest ever. Regulatory Risk. If the U.S. federal government decided to nationalize catastrophic insurance risk from hurricanes, which we believe is highly unlikely to occur, it could lead to reduced demand for property reinsurance coverage offered by Berkshire. Berkshire’s utility, utility, energy, and railroad operations are also in in highly regulated industries.
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Equity Research
Figure 63. Berkshire Hathaway Hathaway Annual Summary Financial Model Model (In $millions, except per share) Insurance: Tot al P& C insurance net premiums earned Lif e/ healt h net premiums earned Tot al insurance premiums earned P& C incurred losses & claims ex pense Loss reserv e change Paid claims P& C pre-t ax underw rit ing gain/ (loss) Lif e/ healt h pre-t ax underw rit ing gain/ (loss) Tot al Insurance underw rit ing income Insurance Inv est ment Income Insurance pre-tax income Utilities, Energy, & Railroad: M idA merican pre-t ax income Burlingt on Nort hern Sant a Fe pre-t ax income Utilities, Energy & Railroad pre-tax income M anufacturing Service & Ret ail pre-t ax income Finance & Financial Products pre-tax income Tot al segment pre-t ax income Inv est ment gains/ losses Ot her-t han-t emporary losses on inv est ment s Deriv at iv e gains/losses Int erest ex pense, ex. int erest allocat ed t o op businesses Eliminat ions & ot her Earnings before t axes & equit y met hod Income t ax ex pense Earnings f rom equit y met hod invest ment s Net earnings Less earnings at t ribut able t o non-cont rolling int erest s Net earnings att ributable To Berkshire Hathaw ay Inv est ment & deriv at iv e gains/ (losses) Operat ing income, A/ T Net earnings at t ribut able To Berkshire Hat haw ay Net chg in unrealized appreciat ion of invest ment s A pplicable income t ax es Foreign currency t ranslat ion & ot her A pplicable income t ax es Ot her comprehensive income, net Comprehensive income attributable to Berkshire Per share Operat ing earnings per Class A equivalent share Operat ing earnings per Class B share Net income per Class A equiv alent share Comprehensiv e earnings per Class A equiv alent share Class A shares out st anding Class B shares out st anding Class B shrs on equiv alent class A basis Class A equiv alent shrs out st anding A v g. Class A equivalent shrs out st anding Book value per Class A equivalent share Book value per Class B equivalent share Linked-qt r grow t h Book v alue per share, ex A OCI per A share Tangible book v alue per Class A share Tangible book v alue per Class B share Operat ing ret urn on equity Operat ing ROE, ex . A OCI Ret urn on t angible equit y Comprehensive ROE Comprehensiv e t angible ROE Cash div idends per share P&C Insurance combined ratio Pret ax cat ast rophe losses Cat ast rophe comb. rat io impact Prior y ear reserv e dev elopment Prior y ear development comb. rat io impact P&C Insurance combined ratio ex cats P&C Insurance CR ex cats & PY devel. Year-over-year percentage change Insurance: P& C net premiums earned Inv est ment income Operat ing income M idA merican pre-t ax income BNSF pre-t ax income Tot al Ut ilit ies & Energy pre-t ax income M anuf act uring Service & Ret ail pre-t ax income Finance & Financial Product s pre-t ax income Tot al pre-t ax segment income Operat ing EPS Book v alue per share Ef f ect iv e t ax rat e A djust ed t ot al debt / capit al Tot al insurance f loat A v g Insurance inv est ment s (excl cash, f ix ed income at co cost ) A v erage Insurance pre-t ax y ield Insurance inv est ed asset s (at f air value) per A share Non Insurance pre-t ax earnings Non-Insurance earnings per A share Free cash f low
2005
20 0 6
200 7
2 008
20 09
$ 1 9 ,7 0 2 2 ,2 9 5 21,99 7 19,76 0 6 , 45 3 1 3 , 30 7 (5 8 ) 11 1 53 3 , 48 0 3,53 3
$ 21,600 2,364 23,964 17,915 3,060 14,855 3,685 153 3 ,8 3 8 4,316 8,154
$29,3 21 2,4 62 31,7 83 28,4 09 1 2 ,9 5 0 1 5 ,4 5 9 3,2 94 80 3,37 4 4 ,7 5 8 8,1 32
$22,94 5 2,58 0 2 5,52 5 2 2,73 3 7,34 2 15,39 1 2,61 3 17 9 2,792 4,72 2 7,514
$ 2 5 ,2 5 8 2 ,626 27 ,884 26 ,325 10 ,803 15 ,522 1 ,382 177 1,5 59 5 ,173 6 , 73 2
2010E $ 25,850 2 , 6 84 28,534 27,603 1 2 , 1 03 1 5 , 5 00 742 189 931 4 , 8 50 5,781
2 011E $2 6,620 2,745 2 9,365 2 6,192 1 0,692 1 5,500 428 245 673 4,75 2 5,425
2,62 3 82 2 6,97 8 6 , 31 0 (1 1 4 ) (7 0 2 ) 72 (1 3 2 ) 12,26 8 4 , 15 9 52 3 8 , 63 2 104 8,52 8 3 ,5 3 0 4,99 8 8 ,5 2 8 2 ,0 8 1 72 8 (6 , 63 1 ) (2 , 2 0 3 ) (3 , 07 5 ) 5,45 3
1,476 1,476 3,526 1,157 1 4,313 1,953 (1 4 2 ) 824 76 (9 4 ) 1 6,778 5,505 11,273 2 58 1 1,015 1,709 9,306 11,015 9,278 3,246 (4 9 3 ) (3 8 1 ) 5,920 1 6,935
1,774 1,774 3,9 47 1 ,0 0 6 14,8 59 5 ,5 9 9 (1 ) (8 9 ) 52 (1 5 5 ) 20,1 61 6 ,5 9 4 13,5 67 35 4 13,2 13 3,5 79 9 ,6 3 4 13,2 13 2,5 23 8 72 (4 , 8 0 3 ) (1 , 7 9 5 ) (1 , 3 5 7 ) 1 1 ,8 5 6
2,963 2,963 4,023 787 1 5,287 91 8 (1 , 5 5 8 ) (6 , 8 2 1 ) 35 (2 1 7 ) 7,574 1,97 8 5,59 6 602 4,994 (4 , 6 4 5 ) 9,639 4,994 (2 3 , 3 4 2 ) (8 , 2 5 7 ) (2 , 3 7 6 ) (1 9 4 ) (1 7 , 2 6 7 ) (1 2 , 2 7 3 )
1,528 1,528 2 , 05 8 781 11 ,099 387 (3 , 2 2 4 ) 3 ,624 42 (2 9 2 ) 11 ,552 3 ,538 427 8 ,441 3 86 8 , 05 5 486 7 , 56 9 8 ,055 1 7 ,6 0 7 6 ,263 3 ,372 987 13 ,729 21 ,784
1,746 2,949 4,695 2,138 773 13,387 1 , 1 00 149 (3 2 0 ) 14,018 4 , 7 47 60 9 , 3 30 400 8,930 7 32 8,199 8,930 5,919 2 , 0 72 3 , 8 47 12,778
1,785 3,811 5,597 2,260 783 1 4,064 559 -
$3,24 4 $ 2 .1 6 $5,53 5 $3,539 1 . 26 4 1 9. 7 0 0. 2 8 1.54 1 . 54 $59,37 7 $ 3 9 .5 8 NM $ 48,11 0 $ 4 4 , 03 1 $ 2 9 .3 5 5.6% 7.2% 7.6% 6.1% 8.3% $ 0 . 00 1 00.3% 3 , 31 2 16.8% (3 5 7 ) -1 . 8 % 83.5% 85.3%
$ 6,036 $4.02 $7,145 $ 1 0 ,9 8 5 1.12 637.62 0.43 1.54 1.54 $7 0,281 $ 46.85 NM $ 55,387 $ 49,383 $32.92 9. 3 % 1 1.7% 1 2.9% 1 6. 9 % 2 3.5% $0.00 8 2. 9 % 254 1.2% (6 1 2 ) -2 . 8 % 8 1. 8 % 8 4. 6 %
$ 6 ,2 3 2 $ 4.16 $8,5 48 $7,67 0 1 .0 8 7 0 0 .0 0 0 .4 7 1 .5 5 1 .5 5 $78,0 08 $52 .01 NM $64,0 39 $ 5 6 ,7 7 5 $3 7.85 8.4% 10.4% 11.7% 10.3% 14.5% $ 0 .0 0 88.8% 2 26 0 .8 % (1 , 4 7 8 ) -5 . 0 % 88.0% 93.0%
$6,223 $4.15 $ 3,22 4 ($ 7 , 9 2 4 ) 1.06 735.35 0.49 1.55 1.55 $7 0,530 $ 47.02 NM $67,97 7 $48,72 5 $ 3 2 .4 8 8 .4% 9.4% 1 1 .8 % -1 0 . 7 % -1 5 . 0 % $0.00 88 .6% 1,02 2 4.5% (1 , 1 4 0 ) -5 . 0 % 8 4 .2 % 8 9 .1 %
$4 ,879 $ 3 .2 5 $5 ,192 $ 1 4 ,0 4 1 1.06 74 4.70 0.50 1.55 1.55 $ 8 4 , 48 7 $5 6.32 NM $73 ,020 $62 ,594 $ 41.73 6.3 % 6.9 % 8.8% 18.1% 25.2% $ 0.00 94.5% 131 0.5% (9 0 5 ) -3 . 6 % 94.0% 97.6%
$5,015 $3.34 $ 5 , 4 63 $7,816 1 .1 4 765.7 0 0 .5 1 1 .6 5 1 .6 3 $ 94,147 $62.76 NM $ 8 1 , 0 05 $ 63,607 $ 4 2 . 40 5.7% 6.6% 8.1% 8.9% 1 2.7% $0.0 0 9 7.1% 5 42 2.1% (7 7 5 ) -3 . 0 % 9 5.0% 9 8.0%
$ 5,200 $3.47 $ 5,42 4 $ 7,397 1.14 765.70 0.51 1.65 1.65 $101 ,544 $ 67.70 NM $8 6 , 4 2 9 $7 1 , 0 0 5 $47.3 4 5 .3% 6.2% 7 .7 % 7 .6 % 1 1 .0 % $0.00 9 8 .4 % 31 7 1 .2 % (2 2 5 ) -0 . 8 % 9 7 .2 % 9 8 .0 %
9.6% 2 4.0% 13 0.8% NM NM NM 3 4.4% 4 0.8% 10 5.1% 8 6.1% 1 8.4%
35.7% 10.2% -0 . 3 % 20.2% NM 20.2% 11.9% -1 3 . 1 % 3 .8 % 3 .3 % 11.0%
-2 1 . 7 % -0 . 8 % -7 . 6 % 67.0% NM 67.0% 1 .9 % -2 1 .8 % 2.9% -0 . 2 % -9 . 6 %
10.1% 9.6 % -1 0 . 4 % -4 8 . 4 % NM -4 8 . 4 % -4 8 . 8 % -0 . 8 % -2 7 . 4 % -2 1 . 6 % 19.8 %
2.3% -6 . 2 % -1 4 . 1 % 1 4.3% NM 2 07.3% 3.9% -1 . 0 % 2 0.6% 2.8% 1 1.4%
3 .0 % -2 . 0 % -6 . 2 % 2 .2 % 29.3% 1 9 .2 % 5 .7 % 1 .2 % 5.1% 3.7% 7.9%
3 2.8% 1 8.0% $ 50,887 $ 79,855 5.4% $ 80,636 $5,901 $3,828 $5,624
32.7% 17.1% $58,6 98 $94,1 83 5 .1 % $90,3 43 $6,3 73 $4,1 23 $ 7 ,1 7 7
26.1% 19.3% $58,48 8 $98,04 6 4.8% $77,79 3 $ 7,17 1 $ 4,63 0 $5,11 4
30.6 % 16.5% $61 ,911 $102 ,386 5.1% $96 ,409 $3 ,981 $2 ,566 $10 ,909
3 3.9% 2 2.2%
3 4 .0 % 2 0 .9 %
$1 18,373 4.1% $ 91,177 $7,206 $4,408 $ 7 , 8 85
$13 2,724 3 .6 % $9 9,756 $ 8,239 $ 5,004 $ 8,529
33.9% 5.8% $ 4 9 , 28 7 $ 6 7 ,0 6 9 5.2% $ 7 4 ,1 2 9 $3,34 1 $2,16 8 $ 7 , 25 1
Source: Company data, Barclays Capital estimates.
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164 (3 2 0 ) 1 4,139 4,80 7 9,332 400 8,932 369 8,563 8,932 4,998 1,749 3,249 1 2,181
Equity Research
Figure 64. Berkshire Hathaway Hathaway Quarterly Summary Financial Financial Model (In $millions, except per share) 1Q Insurance: Tot al P& C insurance net premiums earned Lif e/ healt h net premiums earned Tot al insurance premiums earned P& C incurred losses & claims expense Loss reserv e change Paid claims P& C pre-t ax underw rit ing gain/ (loss) Lif e/ healt h pre-t ax underw rit ing gain/ (loss) Tot al Insurance underw rit ing income Insurance Inv est ment Income Insurance pre-tax income Utilities, Energy, & Railroad: M idA merican pre-t ax income Burlington Northern Santa Fe pre-tax income Utilities, Energy & Railroad pre-t ax income M anufacturing Service & Retail pre-tax income Finance & Financial Products pre-tax income Total segment pre-t ax income Invest ment gains/ losses Ot her-t han-t em porary losses on invest m ent s Derivat ive gains/ losses Int erest ex pense, ex. int erest allocat ed t o op businesses Eliminat ions & ot her Earnings before taxes & equity method Incom e t ax ex pense Earnings f rom equit y met hod inv est ment s Net earnings Less earnings at t ribut able t o non-cont rolling int erest s Net earnings attributable To Berkshire Hathaw ay Invest ment & derivat iv e gains/(losses) Operating income, A/T Net earnings at t ribut able To Berkshire Hat haw ay Net chg in unrealized appreciat ion of inv est ment s A pplicable income t ax es Foreign currency t ranslat ion & ot her A pplicable income t ax es Ot her comprehensiv e incom e, net Comprehensive income at tributable to Berkshire Per share Operating earnings per Class A equivalent share Operating earnings per Class B share Net incom e per Class A equiv alent share Com prehensive earnings per Class A equiv alent share Class A shares out st anding Class B shares out st anding Class B shrs on equiv alent class A basis Class A equiv alent shrs out st anding A vg. Class A equivalent shrs out st anding Book value per Class A equivalent share Book value per Class B equivalent share Linked-qt r grow t h Book value per share, ex A OCI per A share Tangible book v alue per Class A share Tangible book v alue per Class B share Operating return on equity Operat ing ROE, ex . A OCI Ret urn on t angible equit y Comprehensive ROE Com prehensive t angible ROE Cash div idends per share P&C Insurance combined ratio Pret ax cat ast rophe losses Cat ast rophe com b. rat io impact Prior year reserve development Prior year development comb. ratio impact P&C Insurance combined ratio ex cat s P&C Insurance CR ex cats & PY devel. Year-over-year percentage change Insurance: P& C net prem ium s earned Invest ment income Operat ing incom e M idA merican pre-t ax income BNSF pre-t ax income Tot al Ut ilit ies & Energy pre-t ax incom e M anuf act uring Service & Ret ail pre-t ax income Finance & Financial Product s pre-t ax incom e Tot al pre-t ax segment income Operat ing EPS Book value per share Ef f ect ive t ax rat e A djust ed t ot al debt / capit al Tot al insurance f loat A vg In Insurance in invest ment s (e (ex cl ca cash, f ix ed in incom e at at co c ost ) A v erage Insurance pre-t ax yield Insurance inv est ed asset s (at f air value) per A share Non Insuranc e pre-t ax earnings Non-Insurance earnings per A share Free cash f low
$5,543 6 66 6 2 09 5 2 88 NA NA 2 55 27 2 82 1 , 0 89 1 , 3 71
2008 2Q $ 5 ,5 6 4 667 6231 5051 NA NA 513 47 560 1, 2 0 4 1,764
3Q
4Q
1Q
$ 5 , 82 6 639 6465 5767 NA NA 59 67 126 1 ,0 7 4 1 ,2 0 0
$ 6 , 0 12 60 8 6 62 0 4 22 6 NA NA 1 78 6 38 1 , 82 4 1 , 35 5 3 ,1 7 9
$ 7 ,5 6 7 616 8 ,1 8 3 7 ,2 3 5 NA NA 332 7 339 1 ,2 9 8 1,637
1 , 5 92
2009 2Q
3Q
$5,873 612 6,485 5,810 NA NA 63 62 125 1 ,4 2 2 1 ,5 47
$ 5 , 9 39 6 56 6 , 59 5 5 , 45 8 NA NA 4 81 79 5 60 1 , 34 8 1 ,9 0 8
303 511 127 2,578 (3 7 0 ) (3 , 0 9 6 ) (1 , 5 1 7 ) 8 (1 3 0 ) (2 , 5 4 3 ) (1 , 0 1 4 ) 83 (1 , 4 4 6 ) 88 (1 , 5 3 4 ) (3 , 2 3 9 ) 1,705 (1 , 5 3 4 ) (7 ,0 3 4 ) (2 ,4 6 0 ) (5 0 6 ) (8 7 ) (4 , 9 9 3 ) (6 , 5 2 7 )
402 402 4 37 1 35 2 ,5 21 3 (3 0 ) 2,357 15 (4 5 ) 4 ,7 91 1 ,5 2 0 113 3 ,3 8 4 89 3 ,2 95 1 ,5 1 5 1 ,7 80 3,295 11,594 4,062 909 6 8 ,4 3 5 1 1 ,7 3 0
441 441 608 142 3,099 1 10 (2 5 ) 1 , 73 2 11 (6 6 ) 4 ,8 3 9 1 , 60 1 1 11 3 , 34 9 111 3 ,2 3 8 1 , 18 3 2 ,0 5 5 3 , 23 8 1 2 , 7 23 4 , 53 4 2 21 99 8 , 31 1 11 , 5 4 9
$ 1, 1 4 7 $0 .7 6 $ 2 ,1 2 3 $ 7 ,5 5 9 1.06 741.62 0.49 1.55 1.55 $ 7 3, 8 0 6 $ 49 . 2 0 1 1 .4 % $ 6 8 ,9 7 0 $ 5 1 ,9 4 5 $34.63 6. 1 % 6.8% 8.6% 4 0. 4 % 5 6 .8 % $0.00 9 8. 9 % 11 0.2%
303
4Q $5,879 74 2 6 62 1 5 37 3 NA NA 50 6 29 53 5 1 , 10 5 1 ,6 4 0
1Q
2010E 2Q
3Q
4Q
$ 6 , 90 0 628 7 , 52 8 6,763 NA NA 137 8 145 1,205 1 ,3 5 0
$6,243 624 6,867 5,943 NA NA 300 69 369 1,210 1 ,5 7 9
$6,403 672 7,075 6,266 NA NA 137 77 214 1,215 1 , 42 9
$6,303 760 7,063 6,136 NA NA 167 35 202 1,220 1 ,4 2 2
382 502 377 2 ,9 0 1 644 (7 3 ) 1,052 8 (5 1 ) 4 , 46 5 1,431 120 3,154 98 3 ,0 5 6 1,027 2 , 02 9 3,056 324 127 2,748 969 1,976 5, 0 3 2
405 378 783 474 121 2 ,7 2 8 1,100 26 (8 0 ) 3 ,7 2 2 1,247 60 2,535 100 2 ,4 3 5 732 1 ,7 0 4 2 , 43 5 2 , 31 5 81 0 1,505 3 ,9 4 0
344 819 1,163 490 134 3, 3 6 6 41 (8 0 ) 3 ,2 4 5 1,103 2,142 100 2, 0 4 2 2 ,0 4 2 2,042 1,178 412 765 2, 8 0 7
490 901 1,391 60 6 13 9 3 , 56 5 41 (8 0 ) 3 , 44 4 1,171 2,273 10 0 2 , 17 3 2 , 17 3 2,173 1,201 420 781 2 ,9 5 4
507 851 1,358 5 68 3 79 3 ,7 2 7 41 (8 0 ) 3 ,6 0 6 1,226 2,380 1 00 2 ,2 8 0 2 ,2 8 0 2,280 1,225 429 796 3 ,0 7 6
$ 1 ,3 2 4 $0.88 $2 , 0 8 7 $7 , 4 4 3 1 .0 6 74 2 .0 2 0 .4 9 1 .5 5 1 .5 5 $81,247 $54.16 10 . 1 % $ 71 , 0 5 4 $ 59 , 3 5 3 $ 3 9 .5 7 6.7% 7 .7 % 9 .2 % 37.5% 51 .7 % $ 0 .0 0 9 1 . 9% 153 2.6%
$1,308 $0.87 $ 1 ,9 6 9 $ 3, 2 4 3 1 .0 6 7 4 4 .7 0 0 .5 0 1 .5 5 1 .5 5 $8 4 , 4 8 7 $56.32 4. 0 % $ 7 3, 0 2 0 $ 6 2, 5 9 4 $ 4 1 .7 3 6.8% 7 . 4% 9 . 4% 16.7% 2 3 . 3% $ 0 .0 0 91.4% -1 0 4 -1 . 8 %
$1,065 $0.71 $ 1 ,5 2 3 $ 2 ,4 6 4 1 . 14 7 6 5. 7 0 0 . 51 1 .6 5 1 . 60 $88,780 $59.19 5 .1 % $ 7 7 ,0 6 1 $ 5 8 ,2 4 1 $ 3 8 . 83 5.5% 5 .9 % 8 .3 % 12.7% 1 9 .1 % $ 0 .0 0 98.0% 225 3 .3 %
$1,240 $0.83 $ 1, 2 4 0 $ 1, 7 0 5 1 .1 4 7 6 5 .7 0 0 .5 1 1 .6 5 1 .6 5 $90,485 $60.32 1. 9 % $ 7 8, 3 0 1 $ 5 9, 9 4 5 $ 3 9 .9 6 6.2% 6 . 9% 9 . 1% 8.5% 1 2 .5 % $ 0 .0 0 95.2% 40 0. 6 %
$1,320 $ 0. 8 8 $ 1 , 32 0 $ 1 ,7 9 4 1 .1 4 7 6 5 .7 0 0 .5 1 1 .6 5 1 .6 5 $9 2 , 2 7 9 $61.52 2 . 0% $ 7 9 ,6 2 0 $ 6 1, 7 3 9 $41.16 6.3% 7 . 2% 9 . 0% 8.5% 1 2 . 2% $ 0 .0 0 97.9% 20 2 3 . 2%
$1 , 3 8 5 $0.92 $ 1 ,3 85 $ 1 ,8 68 1 . 14 7 6 5 . 70 0 . 51 1 . 65 1 . 65 $ 94 , 1 4 7 $6 2 . 7 6 2 .0 % $ 8 1 ,0 05 $ 6 3 ,6 0 7 $42.40 6.4% 7.4% 9.0% 8.6% 1 2 .2 % $ 0 . 00 97 . 3 % 75 1 .2 %
94.7%
96 . 2 %
516
329
52 6
-
-
-
-
516 8 45 2 41 2 ,9 73 115 0 (1 , 6 4 1 ) 8 14 1 , 4 53 408 0 1, 0 4 5 1 05 9 40 (9 9 1 ) 1 , 9 31 940 (3 , 9 9 8 ) (1 , 4 0 8 ) 103 (3 8 ) (2 , 4 4 9 ) (1 , 5 0 9 )
329 1 ,2 8 5 254 3,632 675 (4 2 9 ) 689 9 (8 7 ) 4,471 1 ,4 4 3 0 3 ,0 2 8 148 2,880 610 2,270 2 ,8 8 0 (6 ,6 9 0 ) (2 ,3 3 1 ) 72 3 (4 , 2 9 0 ) (1 , 4 1 0 )
526 1,113 163 3 ,0 0 2 (4 6 ) (2 5 0 ) (1 , 2 6 1 ) 9 66 1 ,5 0 2 29 4 0 1 , 20 8 151 1 ,0 5 7 (1 , 0 1 2 ) 2 ,0 6 9 1 , 05 7 3 , 18 4 1 , 11 3 (1 , 0 3 9 ) (7 1 ) 1 , 10 3 2 ,1 6 0
1,592 780 129 5 ,6 8 0 1 74 (8 7 9 ) (4 , 6 08 ) 9 (2 1 0 ) 148 (1 6 7 ) 0 3 15 19 8 117 (3 , 2 52 ) 3 ,3 6 9 1 17 (1 5 , 8 3 8 ) (5 , 6 3 1 ) (1 , 5 12 ) (8 8 ) (1 1 , 6 3 1 ) (1 1 , 5 1 4 )
$1 , 2 4 7 $ 0 .8 3 $6 07 -$ 9 7 5 1 . 08 7 0 2 . 11 0 . 47 1 . 55 1 . 55 $ 77 , 0 7 2 $5 1 .3 8 -1 . 2 % $ 6 4 ,6 9 5 $ 5 5 ,4 15 $ 3 6 . 94
$ 1 ,4 6 5 $ 0 .9 8 $1,859 -$ 9 1 0 1.07 714.30 0.48 1.55 1.55 $ 7 6 ,1 6 3 $ 5 0 .7 8 -1 . 2 % $66,558 $54,524 $ 36 . 3 5
$1,336 $ 0 . 89 $682 $1,394 1. 0 7 7 2 4. 7 9 0. 4 8 1. 5 5 1. 5 5 $ 7 7 ,5 58 $51.71 1.8% $ 67 , 2 4 1 $ 55 , 9 1 4 $ 3 7. 2 8
$2,175 $1.45 $76 -$ 7 , 4 3 2 1 .0 6 7 3 5 .3 5 0 .4 9 1 .5 5 1 .5 5 $7 0 , 5 3 0 $47.02 -9 . 1 % $ 6 7, 9 7 7 $ 4 8, 7 2 5 $ 3 2 .4 8
$ 0 . 00 95 . 4 % 32 0 .6 %
$0.00 9 0. 8 % 78 1.4%
$ 0. 0 0 9 9 .0 % 1 ,0 4 9 18 . 0 %
$ 0 .0 0 70.3% -1 3 7 -2 . 3 %
$ 1 ,1 0 0 $ 0 .7 3 -$ 9 8 9 -$ 4 , 2 1 0 1.06 741.32 0.49 1.55 1.55 $ 6 6, 2 4 8 $ 4 4 .1 7 -6 . 1 % $66,847 $44,479 $ 29 . 6 5 6. 1 % 6.7% 8.8% -2 3 . 5 % -3 3 . 7 % $0.00 9 5. 6 % 71 0.9%
94 . 8 %
8 9. 4 %
8 1 .0 %
72.6%
9 4. 7 %
9 8. 7 %
8 9 . 3%
93.2%
94.8%
94.5%
-5 7 . 1 % 1 .0 % -3 1 . 6 % 0 .6 % NA 0 .6 % 8 .2 % -0 . 4 % -1 6 . 0 % -1 3 . 0 % 8 .2 %
4.4% -2 . 6 % -2 0 . 2 % -1 1 . 6% NA -1 1 . 6 % 1 8 . 2% -8 . 3 % -8 . 0 % -9 . 8 % 2.2%
7.6% -1 1 . 8 % -3 9 . 1 % 9.4% NA 9.4% 4.0% -4 0 . 3 % -2 0 . 9 % -1 9 . 3 % 0.1%
6 .0 % 1 0 .4 % 6 3 .2 % 2 9 0. 2 % NA 2 9 0. 2 % -2 2 . 7 % -3 9 . 7 % 5 8 .7 % 4 3 .2 % -9 . 6 %
36.5% 19.2% 19.4% -4 1 . 3% NM -4 1 . 3 % -3 9 . 5% -4 7 . 3 % -1 3 . 3 % -1 1 . 8 % -1 4 . 0 %
5.6% 1 8 .1 % -1 2 . 3% 2 2 .2 % NM 2 2 .2 % -6 6 . 0 % -4 6 . 9% -3 0 . 6 % -2 1 . 7 % -3 . 1 %
1.9% 25 . 5 % 59 . 0 % -1 6 . 2 % NM -1 6 . 2 % -4 5 . 4 % -1 2 . 9 % 3.2% -0 . 8 % 4.8%
-2 . 2 % -1 8 . 5 % -4 8 . 4 % -7 6. 0 % NM -7 6 . 0 % -3 5. 6 % 1 9 2. 2 % -4 8 . 9 % -3 9 . 9 % 1 9 .8 %
-8 . 8 % -7 . 2 % -1 7 . 5 % 33 . 8 % NM 1 5 8 .4 % -7 . 3 % -4 . 7 % 5 .8 % -3 . 1 % 3 4 .0 %
6. 3 % -1 4 . 9 % 2. 1 % -1 4 . 3 % NM 1 8 9. 3 % 12.1% -0 . 7 % 3 3. 5 % 8 .1 % 2 2. 6 %
7 . 8% -9 . 9 % -2 5 . 1 % 1 1. 1 % NM 2 1 5 .4 % -0 . 3 % -2 . 1 % 1 5 . 0% -0 . 3 % 1 3 . 6%
7 .2 % 1 0 .4 % -1 3 . 3 % 32 .6 % NM 2 5 5 .5 % 13 .1 % 0 .5 % 2 8 .5 % 5 .9 % 1 1 .4 %
28.1% 1 8 .2 %
32.3% 17.7%
19 .6 % 17 . 6 %
NM 1 9 .3 %
3 3 .5 % 2 3 .2 %
3 4 .0 % 2 2. 9 %
3 4 . 0% 2 2 . 5%
3 4 .0 % 2 2 .2 %
$ 10 2 , 4 9 4 4 .3 % $8 7 , 4 4 1 $1,497 $967 $ 2, 6 4 3
$ 1 02 ,0 2 1 4.7% $ 8 3 ,9 7 8 $ 1 ,7 2 0 $1 ,1 1 0 $7 4 8
$ 1 0 3 , 38 6 4.2% $ 8 6 , 18 8 $ 1 , 65 1 $ 1 , 06 6 $ 2 , 33 7
$ 9 9 , 7 74 5 .4 % $ 7 4 , 3 37 $ 2 , 3 03 $ 1 , 4 87 $ 1 , 5 88
39.9% 20.7% $ 6 0, 0 0 0 $ 92 ,3 1 9 5.6% $ 7 3 ,9 9 7 $853 $550 $ 3 ,8 3 0
Source: Company data, Barclays Capital estimates.
52
3 1 .7 % 1 8 .9 % $61,000 $ 97 , 0 8 6 5.9% $ 83 , 5 3 0 $885 $570 $ 1 ,9 6 7
33 .1 % 17 . 1 % $ 6 2 ,0 0 0 $ 1 0 7 ,6 6 6 5.0% $ 9 2 , 4 37 $ 1 , 0 80 $ 6 96 $ 3 , 6 29
382
-
3 2 .0 % 1 6 .5 % $ 6 1 , 91 1 $111,325 4 .0 % $96,409 $1,163 $749 $3,007
$ 1 1 3 , 17 8 $1 1 7 , 2 7 6 4 .3 % 4. 1 % $ 8 5 , 37 4 $ 8 7 ,2 9 4 $ 1 , 27 8 $1,687 $ 79 9 $1,024 $1,971 $1,971
$1 20 , 7 4 0 $1 2 4, 2 0 3 4 . 0% 3 .9 % $89,228 $ 9 1, 1 7 7 $2,036 $2,205 $1,236 $1,339 $1,971 $1,971
Equity Research
Figure 65. Berkshire Hathaway Hathaway Insurance Segment Model (In $ Mil) 20 05
20 06
2 00 7
2 00 8
20 09
$2 0, 37 0 73 9 9 6. 4% 1 9,6 31 19 ,7 02 2,2 9 5 21 ,9 97 1 9,7 60 6,4 53 1 3,3 07 (5 8 ) 111 53 3,4 80 3 ,5 3 3 26 27 3,5 0 7
$ 22 ,9 53 5 44 97. 6 % 2 2,4 0 9 2 1,6 0 0 2, 36 4 2 3,9 6 4 1 7,9 1 5 3,0 6 0 1 4,8 5 5 3, 68 5 1 53 3,8 3 8 4,3 1 6 8 ,1 5 4 1,3 5 3 2, 48 5 6,8 0 1
$29 , 372 5 54 98 . 1% 28, 8 18 29, 3 21 2 ,4 62 31, 7 83 26, 0 27 10, 5 68 15, 4 59 3 ,2 94 80 3 ,3 74 4, 7 58 8 ,1 3 2 1 ,1 90 2 ,1 84 6 ,9 42
$2 4 ,91 3 70 4 9 7 .2% 24 , 209 22 , 945 2, 58 0 25 , 525 20 , 33 2 4 , 941 15 , 391 2, 61 3 17 9 2 , 79 2 4 , 722 7,51 4 987 1, 80 5 6 , 52 7
$ 25 ,8 05 55 2 97 .9% 2 5, 25 3 2 5, 25 8 2, 6 26 2 7, 88 4 2 3, 87 6 8, 35 4 1 5, 52 2 1, 3 82 17 7 1, 5 59 5, 17 3 6,7 32 54 6 1, 0 13 6, 18 6
T ot al P& C Combined Rat io 10 0.3 % Cat ast rophe l osses 3,3 1 2 Cat . lo sses C/ R pt s. 1 6. 8% Pri or y ear d ev elo pment (3 5 7 ) PY dev elopment C/ R pt s. -1 . 6 % T ot al P& C Combined Rat io ex cat s and prior year developm 85.1% Year-Over-Year Percentage Change P& C gross w ri t t en premiums P& C net w rit t en premiums P& C net earned premi ums Lif e net earned premi ums Net i nv est ment i nc ome Tot al pr p re-t ax i ncome Tot al insurance f l oat $ 4 9,2 87
8 2 .9 % 254 1. 2 % (6 1 2 ) -2 . 6 % 8 4 .3 %
8 8.8% 2 26 0 . 8% (1 , 4 7 8 ) -4 . 7 % 9 2.6%
8 8.6% 1 , 02 2 4 .5% (1 , 1 4 0 ) -4 . 5 % 88.6 %
9 4 .5 % 13 1 0.5 % (9 0 5 ) -3 . 2 % 9 7 .3 %
12. 7 % 14. 2 % 9. 6 % 3. 0 % NA 1 30. 8 % $5 0,8 8 7
28 . 0% 28 . 6% 35 .7 % 4 . 1% 10 .2 % -0 . 3 % $ 58, 6 98
-1 5 . 2 % -1 6 . 0 % -2 1 . 7 % 4 .8% -0 . 8 % -7 . 6 % $ 58 , 488
3 .6% 4 .3% 1 0 .1% 1 .8% 9 .6% -1 0 . 4 % $6 1, 91 1
$1 1,3 0 3 1 1,0 5 5 7,7 4 9 1,9 9 2 9,7 4 1 1,3 1 4
$ 11, 9 31 11, 8 06 8, 5 23 2 ,1 70 10, 6 93 1 ,1 13
$ 12 ,7 41 12 , 479 9 , 332 2 , 23 1 11 , 563 916
$1 3, 37 8 1 3, 57 6 1 0, 45 7 2, 47 0 1 2, 92 7 64 9
2 01 0E
20 11 E
1Q
2 00 9 2Q
3Q
4Q
1Q
2 0 10 E 2Q
3Q
4Q
Total Insurance
P& C gross w ri t t en premiums Ceded premiums Ret ent ion rat io P& C net w rit t en premiums P& C i nsuranc e net premiums earned Lif e/ healt h net premiu ms earned Tot al insurance premi ums earned P& C Inc ur red losses & c l ai ms ex pense P& C reserv e c hange P& C paid cl ai ms P& C pre-t ax underw rit i ng gai n/ (l oss) Lif e/ healt h pre-t ax underw ri t i ng gai n/ loss Tot al pre-t ax under w ri t i ng gai n/ lo ss Pre-t ax i nv est ment i nc ome T ot al pre-t ax operat ing income Inc ome t ax es and nonc ont rol ling int erest s Net underw ri t i ng gai n Net i nc ome
25 ,8 50 2 ,6 84 28 ,5 34 25 ,1 08 9 ,6 08 15 ,5 00 7 42 1 89 9 31 4 ,8 50 5 ,781
26 ,6 20 2 ,74 5 29 ,3 65 26 ,1 92 10 , 692 15 ,5 00 42 8 2 45 673 4 , 752 5,42 5
9 31 5, 7 81
67 3 5 , 425
9 7.1% 5 42 2.1 % (7 7 5 ) -2 . 7 % 9 7 .7 %
9 8 .4 % 3 17 1. 2 % (2 2 5 ) -0 . 8 % 9 8 .0 %
2.3 % 2.2 % -6 . 2 % -1 4 . 1 %
3. 0% 2. 3% -2 . 0 % -6 . 2 %
$1 3, 7 80 14 ,4 50 11 ,4 90 2 ,6 20 14 ,1 10 3 40
$ 1 4,0 55 15 ,1 00 12 ,2 85 2 ,75 0 15 ,0 35 65
7 ,5 67 61 6 8 ,1 83 7, 2 35 NA NA 33 2 7 33 9 1, 298 1,63 7 1 20 21 9 1 , 517
5 ,8 73 6 12 6 ,4 85 5 , 810 NA NA 63 62 1 25 1 ,4 22 1 ,5 4 7 42 83 1 ,5 05
5, 93 9 6 56 6, 59 5 5 ,4 58 NA NA 48 1 79 56 0 1, 34 8 1 ,9 0 8 19 7 3 63 1, 71 1
5,8 79 742 6,6 21 5, 3 73 NA NA 506 29 535 1, 105 1,64 0 1 87 34 8 1, 453
6 , 90 0 62 8 7, 52 8 6 ,76 3 NA NA 13 7 8 14 5 1, 20 5 1,3 50
6,2 4 3 624 6,8 6 7 5, 9 43 NA NA 300 69 369 1,2 1 0 1 ,5 7 9
6 ,4 03 6 72 7 , 075 6, 26 6 NA NA 1 37 77 2 14 1 , 215 1,42 9
6 ,30 3 76 0 7,0 63 6, 13 6 NA NA 16 7 35 20 2 1,2 2 0 1 ,4 2 2
9 5 .6 % 71 0. 9 %
98 .9% 11 0 . 2%
9 1 .9 % 15 3 2 .6%
9 1 .4 % (1 0 4 ) -1 . 8 %
9 8.0 % 22 5 3 .3%
95.2 % 40 0. 6%
9 7.9% 2 02 3. 2%
9 7 .3 % 75 1. 2%
9 4 .7 %
9 8.7%
8 9 .3 %
9 3 .2 %
94.8 %
9 4 .5 %
9 4.7%
9 6 .2 %
36. 5 % -7 . 5 % 19. 2 % 19. 4% $60 , 000
5 .6 % -8 . 2 % 18 .1 % -1 2 . 3 % $ 61 ,0 00
1 .9% 2 .7% 25 .5% 59 .0% $6 2, 00 0
-2 . 2 % 22. 0 % -1 8 . 5 % -4 8 . 4 % $ 6 1,9 11
-8 . 8 % 1 .9% -7 . 2 % -1 7 . 5 %
6. 3% 2. 0% -1 4 . 9 % 2. 1%
7. 8% 2. 4% -9 . 9 % -2 5 . 1 %
7. 2% 2. 4% 1 0. 4% -1 3 . 3 %
3 ,2 61 2 ,5 14 59 9 3 ,1 13 1 48
3 ,3 94 2 ,6 48 6 35 3 ,2 83 1 11
3, 44 8 2, 63 6 6 12 3, 24 8 20 0
3,4 73 2,6 59 62 4 3,2 83 1 90
3, 50 0 2, 76 5 64 5 3, 41 0 90
3,6 0 0 2,8 6 3 675 3,5 3 8 62
3 , 650 2 , 906 6 50 3 , 556 94
3,7 0 0 2,9 56 6 50 3,6 06 94
GEICO
Premiums w rit t en Premiums earned Loss & LA E ex penses Underw r it ing ex penses Tot al losses & ex pen ses Pre-t ax underw rit i ng gain Underwriting Ratios: Loss & LA E rat io Ex pense rat i o Combined Rat io Cat ast rophe l osses Cat . lo sses C/ R pt s. Pri or y ear d ev elo pment PY dev elopment C/ R pt s. Combined Rat io ex cat s and prior year development Year-ov er-y ear inc rease in NW P Year-ov er-y ear inc rease i n NPE Pol ic ies-in-f orce grow t h New business sal es g row t h (y ear-t o-dat e) Insuranc e f l oat
$ 1 0,2 85 1 0,1 01 7,1 28 1,7 52 8,8 8 0 1,2 21 7 0. 6% 1 7. 3% 87.9 % 227 2. 2%
1 1. 6% NA 1 2. 4% 1 4. 0% $ 6,6 92
70. 1 % 18. 0 % 8 8 .1 % 54 0 .5 % (4 1 0 ) -3 . 7 % 9 1 .3 % 9. 9% 9. 4 % 10. 7 % 8. 8 % $ 7,1 7 1
72 . 2% 18 . 4% 9 0.6% 34 0 . 3% (3 7 5 ) -3 . 2 % 9 3.5% 5 .6 % 6 . 8% 8 . 8% 5 . 0% $7, 7 68
7 4 .8% 1 7 .9% 92.7 % 87 0 .7% (2 0 5 ) -1 . 6 % 93.6 % 6 .8% 5 .7% 8 .2% 2 .0% $8 , 454
77 .0% 1 8.2 % 9 5 .2 % 83 0.6 % (1 9 4 ) -1 . 4 % 9 6 .0 % 5 .0% 8.8 % 7.8 % 9 .0% $ 9, 61 3
$ 3,8 52 4,1 40 2,2 9 5 6,4 35 6,7 69
$ 3,5 8 1 3,7 1 1 2, 36 4 6,0 7 5 5,5 4 9
$3, 4 78 3 ,6 14 2 ,4 62 6, 0 76 3 ,1 39 2 ,3 82 4 75 80 5 55
$3 , 383 3 , 43 4 2, 58 0 6 , 014 3 , 271 2, 40 1 163 17 9 3 42
$ 3, 09 1 3, 2 03 2, 6 26 5, 82 9 2, 90 3 2, 44 9 30 0 17 7 47 7
95.3 % 2 30 6 .7% 8 8.6% 6.9% -2 . 7 % -5 . 0 % 4 .8% $ 21 , 074
9 0 .6 % 48 1.5 % 8 9 .1 % 6 .7 % -8 . 6 % -6 . 7 % 1.8 % $2 1, 01 4
7 9.5 % 1 8.1 % 9 7.6% 25 0.2 % (1 0 0 ) -0 . 7 % 9 8 .2 % 3.0 % 6.4 % 7.5 %
81. 4% 18. 2% 9 9 .6 % 25 0. 2% (5 0 ) -0 . 3 % 9 9 .7 % 2.0 % 4 .5 % 7. 0 %
77. 1% 18. 4 % 9 5 .5 % 0. 0 %
78 .0 % 18 .7 % 96 .7% 0 .0 %
7 6 .5% 17 .7% 9 4 .2 % 73 2 .1%
76. 6 % 18. 0 % 9 4 .5 % 10 0. 3 %
7 9 .0% 1 8 .4% 9 7.4 % 0 .0%
7 9. 5% 1 8. 8% 9 8 .3 % 0. 0%
7 9. 6% 1 7. 8% 9 7.4% 25 0. 7%
7 9. 9% 1 7. 6% 9 7 .5 % 0. 0%
9 5 .5 % NA 7 .6 % 10 .3 % 32. 0 %
9 6.7% NA 10 . 0% 10 . 8% 25 .6 %
9 2 .1 % NA 9 .5 % 10 .1 % 18 .2%
9 4 .2 % NA 8. 2 % 7 .8 % 9. 0 %
9 7.4 % NA 7 .3%
9 8 .3 % NA 6. 1%
9 6.7% NA 5. 9%
9 7 .5 % NA 6. 5%
3 ,0 55 2 , 684 5, 7 39 2 ,9 15 2 ,4 95 1 40 1 89 32 9
3 ,07 5 2 ,74 5 5 ,8 20 3, 000 2, 50 0 75 2 45 3 20
76 3 61 6 1 ,3 79 78 6 60 9 (2 3 ) 7 (1 6 )
8 14 6 12 1 ,4 26 6 00 5 50 2 14 62 2 76
8 20 6 56 1, 47 6 71 3 57 7 10 7 79 18 6
9 5.4% 1 52 5.0 % 9 0.4% 7.0% NA -4 . 6 % 2.2 %
9 7 .6 % 1 55 5. 0% 9 2 .5 % 8 .9 % NA 0.7 % 2. 3 %
General Re
P& C premiums w rit t en P& C premiums earned Lif e/ healt h premiums earned Tot al pr premiums earned P& C i ncurred losses & c laims ex pense Lif e operat i ng cost s & ex pense P& C pre-t ax underw rit i ng gai n/ (l oss) Lif e/ healt h pre-t ax underw ri t i ng gai n/ (l oss) Tot al pre-t ax under w ri t i ng gai n/ (loss) Underwriting Ratios: P& C combined rat io Cat ast rophe l osses Cat . Losses C/ R pt s. P& C combined rat io ex cat s Lif e/ Healt h underw rit ing margin Year-ov er -y ear inc rease in P& C NPW Year-ov er-y ear inc rease in P& C NPE Year-ov er-y ear inc rease i n Li f e NPE Insuranc e f l oat
(4 4 5 ) 111 (3 3 4 )
37 3 1 53 526
1 0 3 .0 % 71 9. 3 % 9 3 .7 % 1 .1 % NA -2 6 . 5 % -7 . 5 %
73 .7% 11 1 .4 % 72 .4% 10 .1% NA -0 . 9 % -8 . 2 %
8 7 .0 % 80 9 .8% 7 7 .2 % 1 2 .0 % NA 0 .1% 2.7 %
80 6 74 2 1,5 48 804 713 2 29 31 9 9 .8 % (1 1 4 ) -1 4 . 1 % 1 1 3 .9 % 3 .9 % NA 6.6 % 22. 0 %
72 5 62 8 1, 35 3 725 620 0 8 8
770 624 1,3 9 4 650 555 1 20 69 1 89
7 80 6 72 1 , 452 7 25 5 95 55 77 1 32
7 80 76 0 1,5 40 81 5 72 5 (3 5 ) 35 0
10 0.0 % 50 6 .9% 9 3.1 % 1.3 % NA -5 . 0 % 1 .9%
84.4 % 15 1. 9% 82.5 % 1 1 .1 % NA -5 . 4 % 2. 0%
9 2.9% 62 7. 9% 8 5.0% 1 1.5% NA -4 . 9 % 2. 4%
1 0 4 .5 % 25 3. 2% 1 0 1 .3 % 4.6% NA -3 . 2 % 2. 4%
$2 20 1, 00 0 1, 02 5 2, 24 5 2, 20 0 3 00 1, 00 0 900
$ 21 0 333 895 1,4 3 8 1,3 4 0 45 52 5 770
$ 17 5 3 33 1 , 030 1 , 538 1 , 545 75 56 5 9 05
$1 20 33 3 950 1,4 03 1,3 05 20 460 82 5
16 5 (1 9 2 ) 1 25 98
1 00 (2 3 2 ) 1 25 (7 )
10 0 (1 2 7 ) 12 5 98
11 0.7 % 685 1 6. 5% 94.2% 4 .8 % NA NA NA $ 2 2,9 20
8 9 .9 % 0 0. 0 % 8 9 .9 % 6 .5 % -7 . 0 % -1 0 . 4 % 3. 0 % $2 2,8 2 7
8 6.9% 1 92 5 . 3% 8 1.5% 3.2% -2 . 9 % -2 . 6 % 4 . 1% $ 23, 0 09
$1 ,6 63 10 2,2 90 3,9 63 5,0 32 2 ,8 41 224 1,9 67
$ 2,1 9 6 146 2,6 3 4 4,9 7 6 3,3 1 8 608 31 9 2,3 9 1
$1, 5 77 7 ,7 08 2, 6 17 11, 9 02 10, 4 75 1 00 8 ,0 83 2, 2 92
$9 55 204 3 , 92 3 5 , 082 3 , 758 1 79 61 8 2 , 961
$ 82 3 1, 98 9 3, 89 4 6, 70 6 6, 35 7 41 2, 4 37 3, 87 9
$72 5 2 ,0 00 3 ,9 00 6, 6 25 6 ,3 90 44 0 2 , 550 3 ,4 00
$7 35 2 , 000 3, 960 6 ,6 95 6 , 395 2 35 2 ,60 0 3, 560
$2 54 1, 809 1, 02 4 3 ,0 87 2 , 884 1 01 1 ,91 6 867
$ 24 1 77 8 92 1 ,2 10 1 ,5 01 72 1 72 1 ,2 57
$ 197 0 1, 03 2 1, 22 9 1, 06 2 (7 4 ) 1 37 99 9
$1 31 1 03 946 1,1 80 9 10 (5 8 ) 21 2 7 56
(1 , 1 7 8 ) (2 1 4 ) 3 23 (1 , 0 6 9 )
1,5 8 8 (1 7 3 ) 243 1,6 5 8
1, 4 77 (3 7 5 ) 3 25 1 ,4 27
776 (4 1 4 ) 9 62 1, 32 4
78 2 (4 4 8 ) 15 34 9
28 5 (5 5 0 ) 50 0 2 35
5 00 (6 0 0 ) 4 00 300
1 53 (1 0 7 ) 1 57 203
1 69 (9 5 ) (3 6 5 ) (2 9 1 )
27 1 (1 3 7 ) 33 16 7
1 89 (1 0 9 ) 1 90 2 70
17 0. 8% NM 8 5. 9% 1 27.0 % 2,4 0 0 14 4. 3% -1 7 . 3 %
27. 7 % 2 18. 5 % 90 .8 % 6 6 .7 % 200 4. 0% 6 2 .7 %
6 . 3% 1 04 . 9% 87 . 6% 8 8.0% 0 0 .0 % 88 .0%
1 8 .7% 30 2 .9% 7 5 .5% 73.9 % 7 05 1 3. 9% 6 0.1%
5.0 % 1 22 .5 % 9 9.6 % 9 4 .8 % 0 0 .0% 9 4 .8 %
6 0.7 % 1 2 7.5 % 8 7.2 % 9 6.5% 3 65 5.5 % 9 0.9%
NM NM 96 .8 % 8 6 .4 % 0 0 .0% 8 6 .4 %
NM 2 05 .8 % 79. 9 % 7 7 .1 % 0 0. 0% 7 7 .1 %
13 6 .4% 10 0 .0% 8 7 .8% 9 8.0 % 175 7 .8% 9 0.2 %
2 1. 4% 15 7. 5% 8 6. 0% 93.2 % 25 1. 7% 9 1 .4 %
4 2. 9% 16 9. 5% 8 7. 9% 10 0.4% 1 15 7 . 5% 9 3.0%
1 6. 7% 13 8. 0% 8 6. 8% 9 3 .0 % 50 3. 6% 8 9.4%
-2 8 . 2 % NM -0 . 6 % 13 9.2% $ 23, 6 92
-3 9 . 4 % -9 7 . 4 % 4 9 .9% -5 7 . 3 % $ 24 , 221
-1 3 . 8 % NM -0 . 7 % 3 2 .0 % $2 6, 22 3
-1 1 . 9 % 0.6 % 0.2 % -1 .2 %
-4 1 . 5 % 5 1. 2 % -1 6 . 6 % -2 4 .3 %
-1 3 . 4 % 5 5 .3% 0 .1% -2 7 . 3 %
-1 2 . 9 % NM 0. 3% 1 8 .9 %
-1 1 . 2 % NM -0 . 2 % 2 5.2%
-8 . 4 % NM 0. 4% 1 8.9%
$ 1 6,2 33
3 2. 1% NM 15. 0 % 2 5 .6 % $1 6,8 6 0
$ 1,4 98 1,2 63 2 35 84.3 % NA 3,4 4 2
$ 1,8 5 8 1,5 1 8 340 8 1 .7 % 2 4 .0 % 4,0 2 9
$1, 9 99 1 ,7 20 2 79 8 6.0% 7.6% 4 ,2 29
$1 , 95 0 1 , 74 0 2 10 89.2 % -2 . 5 % 4 , 739
$ 1, 77 3 1, 68 9 84 9 5 .3 % -9 . 1 % 5, 06 1
$1 ,7 20 1 ,6 93 27 9 8.4% -3 . 0 %
Berkshire Hat hway Reinsurance Group
Cat ast rophe & i ndiv idual risk premi ums earned Ret ro ac t i v e rei nsuranc e premi ums ear ned Ot her mult i-l ine premiums earned Tot al premiums earned Inc urred losses & c laims ex pen se Cat & indi v idual ri sk i nc urred losses & c laims ex pense Ret ro ac t i v e rei ns. in curred l osses & cl aims ex pense Ot her mult i-l ine inc urred losses & c l ai ms ex pense Pre-tax underwriting gain/(loss): Cat ast rophe & i ndiv idual risk P/ T underw ri t i ng gai n/ (loss) Ret ro ac t i v e rei nsuranc e P/ T u nderw ri t i ng gai n/ (loss) Ot her mult i-l ine P/ T underw ri t i ng gai n/ (l oss) Tot al pre-t ax under w ri t i ng gai n/ (loss) Underwriting ratios: Catastrophe & individual risk combined ratio Retroactive reinsurance combined ratio Other multi-line combined ratio Combined rat io Cat ast rophe l osses Cat . Losses C/ R pt s. Combined rat io ex cat s Year-over-year pct change: Y-o-y inc rease in c at ast rophe & indi v idual ri sk NPE Y-o-y inc rease i n ret roac t iv e reinsu rance NPE Y-o-y inc rease in ot her mult i-li ne NPE Year- over- year increase in NPE Insuranc e f l oat
32 .0 % 1 30. 0% 89. 9 % 9 5 .5 % 2 70 4.0 % 9 1 .5 %
39 .8 % 1 05. 9 % 84 .7 % 9 3 .4 % 0 0. 0% 9 3 .4 %
29 . 9% 2 23 . 4% 1 40 . 9% 124 .0% 0 0 .0 % 124 .0%
1.4 % 0. 0% 1. 5 % 1 .1 %
1 7.1 % NM 33. 5 % 2 1 3 .7 %
8. 6 % NM -4 . 2 % 4.7%
$1 , 750 1, 76 2 (1 2 ) 1 0 0 .7 % 1 .7 %
$ 456 45 2 4 9 9 .1 % -6 . 7 %
$ 4 55 4 26 29 9 3.6% -9 . 2 %
-3 2 . 5 % NM -5 . 4 % -1 1 . 1 %
(8 0 ) 0 1 25 45
Berkshire Hathw ay Primary Insurance Group
Premiums earned Inc urred losses & c laims ex pen se Pre-t ax underw rit i ng gain / (l oss) Combined rat io Year- over-year increase in P& C NPE Insuranc e f l oat
Source: Company data, Barclays Capital estimates.
53
$ 44 2 43 5 7 9 8 .4 % -6 . 8 %
$4 20 376 44 8 9 .5 % -1 3 .6 %
$ 430 42 8 2 9 9.5 % -5 . 7 %
$4 35 415 20 9 5 .4 % -4 . 4 %
$4 35 4 40 (5 ) 10 1.1% -1 . 6 %
$ 42 0 41 0 10 9 7 .6 % 0 .0 %
Equity Research
Figure 66. Berkshire Hathaway Burlington Northern Santa Fe Model (In $ Mil)
Freight rev enue Fuel surc harge rev enue (memo only )
Ot her Tot al operating revenues Compensat ion & benef it s Purchased se serv ices Depreciat ion & amort izat ion Equipment rent s Fuel M at erials & ot her One t ime charges (memo only ) Tot al Operating Expenses Pre-t ax operat ing Income Int erest ex pense Ot her ex pense, net Income before income taxes Income t ax ex pense Net income One t ime it ems Net income as report ed
2009 2Q
2006
20 07
20 08
2009
201 0E
2 011 E
1Q
$12,60 6
$14 ,545
$ 15,349
$17 ,503
$1 3,654
$14,92 4
$1 6,082
$3,40 8
1 ,103
1,697
1 ,8 5 1
3,241
1,20 2
38 1 12 ,987 3,51 5 1,71 3 1,11 1 88 6 1,95 9 87 6 10 ,060
440 14,985 3 ,816 1 ,906 1 ,176 930 2 ,856 780 11,464
453 1 5,802 3,773 2,023 1,293 942 3,327 877 1 2,235
515 1 8,018 3 ,884 2,136 1 ,397 901 4,640 958 1 3,916
428 14,08 2 3,481 1,874 1,537 777 2,372 713 10,75 4
45 0 1 5,374 3,50 1 1,92 5 1,69 6 78 8 2,80 7 73 9 1 1,456
455 16,53 7 3,747 2,060 1,736 844 2,953 791 12,13 1
11 2 3,520 86 8 47 8 37 0 20 1 61 4 22 4 2,755 76 5 14 6 3 616 230 386 (93) 29 3
797 137 1 65 9 255 40 4 404
87 1 12 7 1 7 43 274 4 69 19 48 8
8 95 1 51 3 741 29 1 450 86 5 36
9 04 1 47 1 756 2 85 471 4 71
967 147 1 819 309 510 510
1,04 9 14 7 1 901 340 561 56 1
999 147 1 85 1 321 53 0 530
1,13 5 1,33 6
1,176 1,372
1,25 7 1,45 1
1 ,2 9 7 1 ,4 8 3
1 ,326 1 ,514
1,39 1 1,58 6
1,47 3 1,67 6
1,425 1,626
1,67 5
1,839
316
$ 3,217 21 6
99 3,31 6 824 466 379 196 509 145 2,51 9
3Q
$ 3,45 9 309
10 6 3,5 65 87 2 45 3 38 6 19 4 60 6 18 3 2,6 94
4Q
$3,57 0 36 2
1 11 3,681 9 17 4 77 4 02 1 86 6 43 1 61 2,786
1Q
2010E 2Q
20 05
$3,58 3 384
1 10 3,693 8 62 4 69 4 22 1 89 6 72 1 76 2,790
$ 3,689 404
115 3,80 4 861 476 424 195 700 182 2,83 8
3Q
$3,82 8 444
11 5 3,943 88 5 48 6 42 4 20 3 70 6 19 0 2,894
4Q
$ 3,824 442
110 3,93 4 893 494 426 201 730 190 2,93 5
2,92 7 43 7 37 2 ,453 91 9 1 ,534 1,53 4
3 ,521 485 40 2,996 11 07 1,889 1 ,889
3,567 511 18 3,038 1,158 1,880 (51) 1,829
4,102 533 11 3,558 1,325 2,233 (118) 2,115
3,328 561 8 2,75 9 1,050 1,70 9 12 1,721
3,91 8 58 8 4 3,326 1,25 4 2,072 2,07 2
4,406 589 6 3,81 1 1,429 2,38 2 2,382
4,03 8 4,92 4
4 ,697 5 ,627
4,860 5,802
5,499 6,400
4,865 5,642
5,6 14 6,4 02
6,142 6,986
Revenues, YoY change Freight re rev enue Fuel surcharge component (memo only ) Ot her % chg. revenue
1 5.4% 53 .9% 1 5.5% 1 5.4%
5.5% 9.1% 3.0% 5.5%
14.0% 75.1% 13.7% 1 4.0%
-2 2 . 0 % -6 2 . 9 % -1 6 . 9 % -2 1 . 8 %
9.3% NM 5.1% 9.2%
7.8% NM 1.1% 7.6%
-1 7 . 7 % -5 0 . 7 % -5 . 1 % -1 7 . 4 %
-2 6 . 0 % -7 3 . 6 % -2 3 . 3 % -2 5 . 9 %
-2 7 . 4 % -7 0 . 1 % -2 4 . 3 % -2 7 . 3 %
-1 5 . 9 % -5 1 . 8 % -1 3 . 3 % -1 5 . 8 %
5.1% NM -1 . 8 % 4.9%
1 4.7% NM 1 6.2% 14.7%
10.7% NM 8.5% 1 0 .6 %
7 .1% NM -0 . 9 % 6.9%
Operating expense, YoY change Compensat ion & benef it s Purchased serv ices Depreciat ion & amort izat ion Equipment rent s Fuel M at erials & ot her % chg in total operat ing expenses
8 .6% 1 1.3% 5 .9% 5.0% 4 5.8% -1 1 . 0 % 1 4.0%
-1 . 1 % 6.1% 9.9% 1.3% 1 6.5% 1 2.4% 6.7 %
2.9% 5.6% 8.0% -4 . 4 % 39.5% 9.2% 1 3.7%
-1 0 . 4 % -1 2 . 3 % 1 0.0% -1 3 . 8 % -4 8 . 9 % -2 5 . 6 % -2 2 . 7 %
0.6% 2.7% 10.3% 1.4% 18.4% 3.6% 6.5%
7.0% 7.0% 2.4% 7.0% 5.2% 7.0% 5.9%
-1 1 . 7 % -9 . 0 % 8.5% -1 2 . 6 % -4 1 . 2 % -1 4 . 5 % -1 8 . 6 %
-1 3 . 4 % -1 3 . 7 % 8.6 % -1 2 . 1 % -6 0 . 6 % -3 4 . 1 % -2 9 . 5 %
-1 3 . 9 % -1 5 . 6 % 10.6% -1 5 . 7 % -5 5 . 1 % -1 7 . 2 % -2 7 . 2 %
-2 . 1 % -1 0 . 7 % 12.3% -1 4 . 7 % -3 2 . 7 % -3 6 . 9 % -1 4 . 5 %
-0 . 7 % -2 . 0 % 14.1% -6 . 1 % 9.5% -2 1 . 3 % 1.3%
4.5% 2.1% 1 1.9% -0 . 5 % 3 7.5% 2 5.6% 12.7%
1.5% 7.3% 9.8% 4.8% 16.4% 3.9% 7.4%
-2 . 6 % 3 .6% 6 .0 % 8 .1% 13 .5% 18 .1% 5.3%
23 .5% 3 1.3% 3 7.6% 20 .0% 12 .6%
2 2.6% 3 0.8% 3 6.7% 1 9.2% 1 1.9%
22.8% 30.5% 35.5% 19.7% 12.4%
2 3.6% 3 4.5% 4 0.1% 1 9.6% 1 2.1%
25.5% 36.5% 41.6% 21.6% 13.5%
26 .6% 3 7.1% 4 2.2% 2 3.0% 1 4.4%
2 1.7% 3 2.2% 3 8.0% 1 7.5% 1 1.0%
24.0 % 35.5 % 41.4 % 19.9 % 12.2 %
24.4% 35.3% 40.7% 20.8% 13.2%
24.3% 35.2% 40.3% 20.1% 12.2%
24.5% 35.9% 41.0% 20.5% 12.7%
2 5.4% 3 6.5% 4 1.7% 2 1.5% 1 3.4%
2 6.6% 3 7.4% 4 2.5% 2 2.9% 1 4.2%
2 5 .4 % 3 6 .2 % 4 1 .3 % 2 1 .6 % 1 3 .5 %
EBITDA EBITDA R
Margins Operat ing margin EBITDA EBITDA R Pre-t ax income Net income
22.5% 31.1% 37.9% 18.9% 11.8%
Source: Company data, Barclays Capital estimates.
54
Equity Research
Figure 67. Berkshire Hathaway Annual MidAmerican Segment Model (In $ Mil) 20 06
2 0 07
2 00 8
20 09
Revenues: M idA m erican Energy Co Pacif iCorp Nat ural gas pipelines U. K. ut ilit ies Real est at e brokerage Ot her Tot al rev enues
$ 3,2 00 9 09 9 21 1 ,8 9 4 356 7 ,280
$ 3,5 19 2,9 71 9 72 9 61 1,7 24 4 97 1 0,6 44
$4 ,32 5 4 ,31 9 1 ,08 8 1 ,11 4 1 ,51 1 27 1 12 ,62 8
$ 4,7 42 4,5 58 1,2 21 1,0 01 1,1 47 1,3 02 1 3,9 71
$3 ,71 1 4,5 43 1 ,07 3 82 9 1 ,07 1 21 6 11 ,44 3
$ 3,7 3 1 4 ,68 1 1 ,1 1 6 85 0 1 ,1 0 3 21 6 1 1 ,6 9 7
$ 3,7 51 4,7 32 1,1 61 8 71 1,1 36 2 16 1 1,8 66
$ 1,1 38 1,1 3 1 3 40 1 93 1 78 (3 1 ) 2,9 49
Expenses: M idA m erican Energy Co Pacif iCorp Nat ural gas pipelines U. K. ut ilit ies Real est at e brokerage Ot her Tot al ex penses
2 ,9 1 2 0 6 00 6 13 1 ,7 4 6 232 6 ,103
3,1 71 2,6 15 5 96 6 23 1,6 50 2 52 8,9 07
3 ,91 3 3 ,62 7 61 5 77 7 1 ,46 9 14 1 10 ,54 2
4,3 17 3,8 55 6 26 6 62 1,1 92 24 1 0,6 76
3 ,42 6 3 ,75 5 61 6 58 1 1 ,02 8 19 1 9 ,59 7
3 ,4 6 0 3 ,8 1 1 641 59 6 1 ,0 5 9 66 9 ,6 3 3
3,4 95 3,8 68 6 66 6 10 1,0 91 66 9,7 97
1,0 30 9 47 1 48 1 25 1 91 1 25 2,5 66
Pre-tax earnings: M idA m erican Energy Co Pacif iCorp Nat ural gas pipelines U. K. ut ilit ies Real est at e brokerage Ot her Tot al Int erest , ot her t han t o Berkshire Tot al pre-t ax income Const ellat ion Tot al pre-t ax income ex unusual items Int erest on Berkshire junior debt Income t ax es and noncont rolling int erest s Net earnings Earnings at t ribut able t o Berkshire (a)
2 88 0 3 09 3 08 1 48 124 1 ,177 2 00 977 977 1 57 2 57 563 5 23
3 48 3 56 3 76 3 38 74 2 45 1,7 37 2 61 1 ,4 7 6 1 ,4 7 6 1 34 4 26 9 16 8 85
41 2 69 2 47 3 33 7 42 13 0 2 ,08 6 31 2 1,7 74 1,7 74 10 8 47 7 1 ,18 9 1 ,11 4
4 25 7 03 5 95 3 39 (4 5 ) 1,2 78 3,2 95 3 32 2 ,96 3 1,092 1 ,87 1 1 11 1,0 02 7 58 1,7 04
28 5 78 8 45 7 24 8 43 25 1 ,84 6 31 8 1,5 28 1,5 28 58 31 3 1 ,15 7 1 ,07 1
Capit al ex pendit ures
-
2,4 23
3 ,51 3
3,9 36
3,4 13
271 86 9 475 25 4 44 15 0 2 ,06 4 31 8 1 ,74 6 1 ,74 6 58 506 1 ,18 2 1 ,0 9 9 3 0% 9 3% 2 ,60 0
2 56 8 63 4 94 2 61 46 1 50 2,0 69 2 84 1 ,7 8 5 1 ,7 8 5 58 5 18 1,2 09 1,1 25 30 % 93 % 2,6 00
% Chg. Revenue M idA m erican Energy Co Pacif iCorp Nat ural gas pipelines U. K. ut ilit ies Real est at e brokerage Ot her Total
NA NA NA NA NA NA NA
10 .0% NM 6 .9% 4 .3% -9 . 0 % 39 .6% 4 6.2 %
22 .9% 45 .4% 11. 9% 15 .9% -1 2 . 4 % -4 5 . 5 % 18 .6%
9 .6 % 5 .5% 1 2 .2 % -1 0 . 1 % -2 4 . 1 % 3 80 .4% 10 .6%
-2 1 . 7 % -0 . 3 % -1 2 . 1 % -1 7 . 2 % -6 . 6 % -8 3 . 4 % -1 8 . 1 %
0 .5% 3 .0% 4 .0% 2 .5% 3 .0% 0 .0% 2.2 %
0.5 % 1.1 % 4.0 % 2.5 % 3.0 % 0.0 % 1 .4%
-1 7 . 4 % 2 .2% -1 . 2 % -3 3 . 2 % -2 7 . 3 % NM -1 3 . 1 %
-2 9 . 7 % -2 . 6 % -9 . 8 % -1 8 . 4 % -1 6 . 4 % NM -1 2 . 5 %
-2 6 . 6 % -7 . 1 % -2 4 . 7 % -1 2 . 6 % -3 . 3 % 17 .5% -1 4 . 7 %
9.0 % NA 3 4.0 % 3 3.4 % 7.8 % 3 4.8 % 16 .2%
9 .9% 12 .0% 38 .7% 35 .2% 4 .3% 49 .3% 1 6.3 %
9 .5% 16 .0% 43. 5% 30 .3% 2 .8% 48 .0% 16 .5%
9 .0% 1 5 .4% 4 8 .7 % 3 3 .9% -3 . 9 % 9 8 .2% 23 .6%
7.7 % 1 7.3 % 4 2.6 % 2 9.9 % 4.0 % 1 1.6 % 16. 1%
7 .3% 18 .6% 42 .6% 29 .9% 4 .0% 69 .4% 1 7.6 %
6.8 % 1 8.2 % 4 2.6 % 2 9.9 % 4.0 % 6 9.4 % 17 .4%
9 .5% 16 .3% 5 6 .5 % 35 .2% -7 . 3 % NM 13 .0 %
5.2 % 1 5.4 % 3 5.5 % 3 1.2 % 9.0 % 8 3.9 % 18 .1%
% Chg. Operating Income M idA m erican Energy Co NA 20 .8% 18 .4% 3 .2 % -3 2 . 9 % Pacif iCorp NA NM 94 .4% 1 .6% 1 2.1 % Nat ural gas pipelines NA 21 .7% 25. 8% 2 5 .8 % -2 3 . 2 % U. K. ut ilit ies NA 9 .7% -0 . 3 % 0 .6% -2 6 . 8 % Real est at e brokerage NA -5 0 . 0 % -4 3 . 2 % -2 0 7 . 1 % -1 9 5 . 6 % Ot her NA 97 .6% -4 6 . 9 % 8 83 .1% -9 8 . 0 % Total NA 4 7.6 % 20 .1% 58 .0% -4 4 . 0 % (a) Net of noncontrolling interest and includes interest earned by Berkshire Berkshire (net of related income taxes).
-4 . 9 % 10 .3% 4 .0% 2 .5% 3 .0% 5 00 .0% 1 1.8 %
-5 . 7 % -0 . 7 % 4.0 % 2.5 % 3.0 % 0.0 % 0 .2%
-1 9 . 4 % 9 .5% 0 .0% -4 3 . 3 % -3 1 . 6 % NM -3 6 . 1 %
-4 0 . 3 % 0.6 % -1 4 . 3 % -1 5 . 1 % 7 3.3 % NM 15 .1%
Operating Margin M idA m erican Energy Co Pacif iCorp Nat ural gas pipelines U. K. ut ilit ies Real est at e brokerage Ot her Total op operating ma margin
20 10 E
Source: Company data, Barclays Capital estimates.
55
2 0 11E
1Q
2009 2Q
2 005
3Q
4Q
1Q
$ 76 8 1,0 41 22 0 19 9 29 0 1 37 2 ,65 5
$8 1 8 1 ,17 1 210 21 6 32 3 74 2 ,81 2
$9 87 1, 200 303 221 280 36 3, 027
$ 1,1 14 1,1 51 3 34 2 22 2 09 (1 3 ) 3,0 17
72 8 88 1 14 2 13 7 26 4 22 2 ,17 4
73 7 94 0 14 3 14 4 29 4 34 2 ,29 2
931 987 183 175 279 10 2, 565
1,0 19 9 45 1 55 1 40 2 16 59 2,5 33
1 08 1 84 1 92 68 (1 3 ) (1 5 6 ) 3 83 80 30 3 30 3 18 68 2 17 2 03
40 16 0 78 62 26 1 15 48 1 79 4 02 4 02 16 11 5 2 71 25 3
81 23 1 67 72 29 40 52 0 79 44 1 44 1 13 52 37 6 34 6
56 213 120 46 1 26 462 80 38 2 38 2 11 78 293 269
812
8 88
90 0
813
2010E 2Q
3Q
4Q
$ 81 6 1 ,08 5 22 6 20 6 31 6 72 2 ,72 1
$8 50 1 ,25 0 237 216 327 42 2,9 2 2
$95 1 1, 194 3 19 207 2 50 115 3,0 37
77 9 89 7 15 2 14 7 28 3 38 2 ,29 7
771 1 ,0 0 1 145 155 297 (1 8 ) 2 ,3 5 2
8 91 969 1 88 154 2 63 (1 3 ) 2,4 51
96 2 06 1 79 81 (6 ) (7 2 ) 4 85 80 40 5 40 5 15 1 17 27 4 2 54
37 18 8 74 58 33 33 42 4 80 3 44 3 44 15 99 231 21 5
79 249 91 61 30 60 569 80 49 0 49 0 15 143 3 33 309
60 226 1 31 54 (1 2 ) 128 586 80 507 507 15 1 48 34 5 3 20
7 76
5 69
59 2
663
-1 4 . 6 % 7.0 % -1 4 . 4 % 0.0 % 2 6.7 % -9 6 . 9 % -2 8 . 7 %
-2 . 1 % 1 .8% -1 . 8 % 1 4 .8% 1 7 .7 % NM 2 .3%
6.3 % 4.2 % 2.7 % 3.3 % 9.0 % NM 2 .5%
3 .9% 6 .8% 12 .7% -0 . 2 % 1 .2% -4 2 . 9 % 3.9 %
-3 . 6 % -0 . 5 % 5.4 % -6 . 3 % -1 0 . 5 % 21 9.6 % 0 .3%
9 .9% 19 .7% 31 .9% 33 .3% 9 .0% 54 .1% 1 8.5 %
5.7 % 1 7.8 % 3 9.6 % 2 0.8 % 0.4 % 7 2.2 % 15 .3%
8 .6% 1 7 .9 % 5 3.7 % 3 6 .8 % -2 . 9 % NM 16 .1%
4.6 % 1 7.3 % 3 2.7 % 2 8.4 % 1 0.4 % 4 6.7 % 1 5 .6 %
9 .2% 19 .9% 38 .5% 28 .2% 9 .1% 1 41 .4% 1 9.5 %
6.3 % 1 8.9 % 4 1.0 % 2 5.8 % -4 . 9 % 11 1.6 % 19 .3%
-3 1 . 9 % 15 .5% -5 2 . 1 % 7 .5% NM -5 0 . 0 % -1 5 . 0 %
-4 6 . 7 % 2 1.0 % -3 0 . 2 % -4 1 . 8 % NM -9 7 . 8 % -7 2 . 3 %
-1 1 . 5 % 1 2 .1% -6 . 6 % 1 9 .8% -5 2 .8 % NM 26 .6%
-6 . 7 % 1 7.6 % -5 . 4 % -5 . 8 % 2 6.1 % NM -1 1 .9 %
-3 . 0 % 7 .9% 36 .1% -1 5 . 6 % NM 49 .3% 9.5 %
6.5 % 6.0 % 9.2 % 1 6.3 % NM 39 4.0 % 26 .9%
Equity Research
Figure 68. Berkshire Hathaway Manufacturing, Service & Retail Segment Model (In $ Mil) 200 5 Revenues: M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al rev enues Expenses: M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al ex penses Pre-tax earnings: M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al Pre-t ax income Income t ax and minorit y int erest s Net Income
$
2 4,074 5,723 9,260 4,728 3 ,1 1 1 $4 6,896
% Chg. Pre-tax Earnings M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al
$
2 5,693 5,83 4 1 1,988 5,81 1 3,334 $5 2,660
200 7
20 08
20 09
201 0E
201 1E
1Q
28,079 5,373 14,459 7,792 3,397 $ 59,100
$ 5 ,5 2 9 29,852 5 ,0 5 2 14,127 8 ,4 3 5 3,104 $ 66,099
$5,06 7 31,207 4,011 11,926 6,585 2,869 $ 61,665
$4,80 5 32,66 0 3,79 5 11,81 5 6,52 5 2,90 0 $ 62,500
$ 4 ,8 0 5 34,60 0 3,80 0 12,42 0 6,85 0 3,07 5 $65,55 0
$ 1 ,2 5 4 6 ,9 9 3 1 ,0 0 3 2 ,6 3 2 1 ,5 0 6 65 7 $ 1 4 ,0 4 5
4,38 1 30,863 3,867 11,112 6,676 2,708 59,607
4,13 5 32,31 6 3,65 9 11,01 0 6,51 5 2,72 7 60,36 2
4 ,1 2 0 34,23 5 3,66 0 11,56 5 6,83 0 2,88 0 63,29 0
$
200 9 2Q
1Q
20 10E 2Q
3Q
4Q
3Q
4Q
$ 1 ,2 8 6 7 ,8 6 4 1 ,0 2 9 2 ,9 7 5 1 ,5 7 2 6 57 $ 1 5 ,3 8 3
$ 1 ,3 0 6 8 ,1 7 0 1 ,0 5 6 3 ,2 4 4 1 ,5 3 8 6 41 $ 1 5 ,9 5 5
$ 1 ,2 2 1 8 ,1 8 0 9 23 3 ,0 7 5 1 ,9 6 9 9 14 $ 1 6 ,2 8 2
$ 1 ,1 2 5 7 ,3 1 0 9 15 2 ,5 5 0 1 ,4 6 0 6 60 $ 1 4 ,0 2 0
$ 1 ,2 0 0 8 ,2 2 0 9 65 2 ,8 9 0 1 ,5 5 0 6 60 $ 1 5 ,4 8 5
$ 1,260 8 ,5 6 0 1 ,0 1 0 3 ,3 0 0 1 ,5 4 0 6 50 $ 1 6 ,3 2 0
$ 1,22 0 8,570 905 3,075 1,975 930 $ 1 6 ,6 7 5
1 ,0 9 2 6 ,8 5 0 94 8 2 ,5 1 1 1 ,4 9 2 64 1 1 3 ,5 3 4
1 ,1 1 6 7 ,7 9 8 9 99 2 ,7 4 9 1 ,6 4 8 6 36 1 4 ,9 4 6
1 ,1 1 2 8 ,1 0 6 1 ,0 0 5 2 ,9 5 1 1 ,5 4 3 6 30 1 5 ,3 4 7
1,061 8 ,1 0 9 9 15 2 ,9 0 1 1 ,9 9 3 8 01 1 5 ,7 8 0
9 73 7 ,1 7 0 8 66 2 ,4 3 5 1 ,4 6 0 6 42 1 3 ,5 4 6
1 ,0 3 8 8 ,1 5 2 9 37 2 ,6 8 0 1 ,5 5 0 6 38 1 4 ,9 9 5
1,082 8 ,4 9 2 9 63 3 ,0 0 5 1 ,5 3 5 6 37 1 5 ,7 1 4
1,04 2 8,502 893 2,890 1,970 810 1 6,107
2 3,857 5,238 7,925 4,399 2 ,8 5 4 4 4,273
2 5,464 5,240 1 0,232 5,15 3 3,045 4 9,13 4
2 7,847 4,937 12,422 6,824 3,123 55,153
4 ,7 9 6 29,576 4,847 12,452 7 ,4 6 4 2,941 62,076
217 485 1,335 329 2 57 2,6 23 977 1,6 46
229 594 1,756 65 8 289 3, 526 1,395 2, 131
232 436 2,037 968 274 3, 94 7 1,594 2, 35 3
733 276 205 1,675 971 163 4, 02 3 1,740 2, 28 3
68 6 344 144 814 (9 1 ) 161 2 ,058 945 1 ,113
67 0 34 4 13 6 80 5 10 17 3 2 ,1 38 96 2 1 ,176
68 5 36 5 14 0 85 5 20 19 5 2 ,26 0 1,01 7 1 ,24 3
1 62 14 3 55 12 1 14 16 51 1 25 3 25 8
1 70 66 30 2 26 (7 6 ) 21 4 37 1 98 23 9
1 94 64 51 2 93 (5 ) 11 6 08 2 72 3 36
160 71 8 1 74 (2 4 ) 1 13 5 02 2 22 2 80
1 52 1 40 49 1 15 0 18 474 2 13 261
1 62 68 28 2 10 0 22 490 2 21 270
178 68 47 2 95 5 13 6 06 2 73 3 33
17 8 68 12 185 5 120 568 256 312
6 .7 % 1 .9 % 2 9 .5 % 2 2 .9 % 7 .2 % 12. 3%
9 .3 % -7 . 9 % 2 0 .6 % 3 4 .1 % 1 .9 % 12. 2%
6.3% -6 . 0 % -2 . 3 % 8.3% -8 . 6 % 11. 8%
-8 . 4 % 4.5% -2 0 . 6 % -1 5 . 6 % -2 1 . 9 % -7 . 6 % -6 . 7 %
-5 . 2 % 4.7% -5 . 4 % -0 . 9 % -0 . 9 % 1.1% 1. 4%
0 .0 % 5 .9 % 0 .1 % 5 .1 % 5 .0 % 6 .0 % 4 .9%
3 7 3 .2 % 0 .1 % -1 8 .1 % -2 4 .9 % -2 9 .2 % -1 3 .8 % -5 . 5 %
-3 2 .4 % 8 .2 % -2 3 .0 % -2 5 .1 % -3 0 .9 % -1 1 .0 % -1 2 . 1 %
-3 0 .5 % 7 .0 % -2 2 .2 % -1 2 .9 % -2 6 .6 % -8 . 9 % -8 . 3 %
-1 7 .8 % 2 .8 % -1 8 .6 % 5 .0 % 1 .5 % 1 .6 % -0 . 4%
-1 0 .3 % 4 .5 % -8 . 8 % -3 . 1 % -3 . 1 % 0 .5 % -0 . 2 %
-6 . 7 % 4.5% -6 . 2 % -2 . 9 % -1 . 4 % 0 .5 % 0.7 %
-3 . 5 % 4.8% -4 . 4 % 1.7% 0.1% 1.4% 2. 3%
-0 . 1 % 4 .8 % -2 . 0 % 0 .0 % 0 .3 % 1 .8 % 2. 4%
0 .9 % 1 0 .2 % 1 4 .6 % 1 1 .3 % 8 .7 % 6. 7%
0 .8 % 8 .1 % 1 4 .1 % 1 2 .4 % 8 .1 % 6. 7%
1 3.3% 0.9% 4.1% 1 1.9% 1 1.5% 5.3% 6. 1%
1 3.5% 1.1% 3.6% 6.8% -1 . 4 % 5.6% 3. 3%
13.9% 1.1% 3.6% 6.8% 0.2% 6.0% 3. 4%
1 4 .3 % 1 .1 % 3 .7 % 6 .9 % 0 .3 % 6 .3 % 3 .4%
1 2 .9 % 2 .0 % 5 .5 % 4 .6 % 0 .9 % 2 .4 % 3 .6 %
1 3 .2 % 0 .8 % 2 .9 % 7 .6 % -4 .8 % 3 .2 % 2 .8 %
1 4 .9 % 0 .8 % 4 .8 % 9 .0 % -0 . 3 % 1 .7 % 3.8 %
1 3 .1 % 0 .9 % 0 .9 % 5 .7 % -1 .2 % 1 2 .4 % 3. 1%
1 3 .5 % 1 .9 % 5 .4 % 4 .5 % 0 .0 % 2 .7 % 3.4 %
1 3.5% 0 . 8% 2 . 9% 7 .3 % 0 .0 % 3 .3 % 3. 2%
1 4.1% 0.8% 4.7% 8.9% 0.3% 2.0% 3. 7%
1 4 .6 % 0 .8 % 1 .3 % 6 .0 % 0 .3 % 1 2 .9 % 3. 4%
5 .5 % 2 2 .5 % 3 1 .5 % 1 0 0 .0 % 1 2 .5 % 34. 4%
1 .3 % -2 6 . 6 % 1 6 .0 % 47.1% -5 . 2 % 11. 9%
1 9.0% -5 3 . 0 % -1 7 . 8 % 0.3% -4 0 . 5 % 1. 9%
-6 . 4 % 2 4.6% -2 9 . 8 % -5 1 . 4 % NM -1 . 2 % -4 8 . 8 %
-2 .3 % 0.0% -5 . 6 % -1 . 1 % NM 7.5% 3. 9%
2 .2 % 6 .1 % 2 .9 % 6 .2 % NM 1 2 .7 % 5 .7%
4 7 8 .6 % 9 5 .9 % 7 .8 % -7 3 .2 % NM -5 0 .0 % -3 9 . 5 %
-3 4 .9 % -2 .9 % -6 3 .4 % -5 7 .2 % NM -2 7 .6 % -6 6 . 0 %
-2 1 .5 % -5 . 9 % 4 .1 % -3 8 .7 % NM 0 .0 % -4 5 . 4 %
NM 6 .0 % -6 5 .2 % -1 9 .8 % NM 2 4 .2 % -3 5 . 6 %
-6 . 2 % -2 . 1 % -1 0 .9 % -5 . 0 % NM 1 2 .5 % -7 . 3 %
-4 . 7 % 3.0% -6 . 7 % -7 . 1 % NM 4 .8 % 1 2.1 %
-8 . 2 % 6.3% -7 . 8 % 0.7% NM 1 8.2% -0 . 3 %
1 1 .3 % -4 . 2 % 5 0 .0 % 6 .3 % NM 6 .2 % 1 3. 1%
% Chg. Revenue M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al Pre-tax Margin M armon M cLane Shaw Ot her M anuf act uring Ot her Serv ice Ret ailing Tot al operat ing margin
200 6
0.9% 8.5% 1 4.4% 7.0% 8.3% 5. 6%
Source: Company data, Barclays Capital estimates.
56
Equity Research
Figure 69. Berkshire Hathaway Finance & Financial Products Segment Segment Model (In $ Mil) 2005
2006
20 0 7
2008
2009
2 0 1 0E
2011E
1Q
Revenues: Manufactured housing & finance Furniture/transportation equipment leasing Other Total revenues
$3,175 856 528 4,559
$3,570 880 674 5,124
$3,665 810 644 5,119
$3,560 773 614 4,947
$3,257 661 669 4,587
$3,160 595 680 4,435
$3,160 565 690 4,415
727 173 109 1009
Expenses: Manufactured housing & finance Furniture/transportation equipment leasing Other Total expenses
2,759 683 295 3,737
3,057 698 212 3,967
3,139 699 275 4,113
3,354 686 120 4,160
3,070 647 89 3,806
2,980 582 100 3,662
2,980 553 100 3,633
Pre-tax earnings: Manufactured housing & finance Furniture/transportation equipment leasing Other Total pre-tax income Income taxes and minority interest Net income
416 173 233 822 308 5 14
513 182 462 1,157 425 732
526 111 369 1,006 374 63 2
206 87 494 787 308 479
187 14 580 78 1 287 494
180 13 580 7 73 271 502
12.4% 2.8% 27.7% 12 . 4 %
2.7% -8.0% -4.5% -0.1%
-2.9% -4.6% -4.7% -3 . 4 %
-8.5% -14.5% 9.0% - 7 .3 %
14.4% 20.7% 68.5% 22.6%
14.4% 13.7% 57.3% 1 9 .7 %
5.8% 11.3% 80.5% 15.9%
23.3% 5.2% 98.3% 40 . 8 %
2.5% -39.0% -20.1% -13.1%
-60.8% -21.6% 33.9% -21 . 8%
% chg. revenue Manufactured housing & finance Furniture/transportation equipment leasing Other Total Pre-tax margin Manufactured housing & finance Furniture/transportation equipment leasing Other Total operating margin % chg. pre-tax earnings Manufactured housing & finance Furniture/transportation equipment leasing Other Total
13.1% 20.2% 44.1% 18.0%
2 00 9 2Q
3Q
4Q
821 167 111 1099
$872 164 107 1,143
$837 157 342 1,336
$705 150 111 966
685 170 27 882
774 165 25 964
819 159 23 1,001
792 153 14 959
180 13 590 783 274 509
42 3 82 127 49 78
47 2 86 135 53 82
53 5 84 14 2 50 92
45 4 328 377 135 242
-3.0% -10.0% 1.6% -3 . 3 %
0.0% -5.0% 1.5% - 0 .5 %
-11.0% -8.9% -27.8% -12 . 9%
-12.4% -14.8% -34.7% - 1 5 .7 %
-3.5% -17.2% -31.4% -9 . 1 %
-7.2% -16.9% 149.6% 8 .8 %
5.7% 2.1% 86.7% 17 .0 %
5.7% 2.2% 85.3% 17.4%
5.7% 2.2% 85.5% 17.7%
5.8% 1.7% 75.2% 1 2 .6 %
5.7% 1.2% 77.5% 12.3%
6.1% 3.0% 78.5% 12.4%
-9.2% -83.9% 17.4% - 0 .8 %
-3.7% -7.1% 0.0% -1 . 0%
0.0% -3.8% 1.7% 1 .2 %
-63.5% -83.3% -24.1% -47 . 3 %
-45.3% -90.9% -41.1% - 4 6 .9 %
NM -80.0% -35.9% -12. 9 %
Source: Company data, Barclays Capital estimates.
57
1Q
2 0 1 0E 2Q
3Q
4Q
$795 150 113 1,058
$845 150 109 1,104
$815 145 347 1,307
665 147 33 845
750 147 27 924
795 147 23 965
770 141 17 928
40 3 78 121 42 79
45 3 86 134 47 87
50 3 86 139 49 90
45 4 330 379 133 246
-3.0% -13.3% 1.8% - 4 .3 %
-3.2% -10.2% 1.8% - 3. 7%
-3.1% -8.5% 1.9% - 3 .4 %
-2.6% -7.6% 1.5% -2. 2%
5.4% 2.5% 95.9% 28.2%
5.7% 2.0% 70.3% 12 . 5 %
5.7% 2.0% 76.1% 12.7%
5.9% 2.0% 78.9% 12.6%
5.5% 2.8% 95.1% 29.0%
-2350.0% -81.8% 200.9% 1 9 2 .2 %
-4.8% 0.0% -4.9% - 4 .7 %
-4.3% 50.0% 0.0% -0 . 7 %
-5.7% -40.0% 2.4% - 2 .1 %
0.0% 0.0% 0.6% 0. 5%
Equity Research
Figure 70. Berkshire Hathaway Hathaway Consolidated Balance Balance Sheet In $ millions ASSETS Insurance & Other: Cash & cash equivalents Investments: Fixed Maturity Securities Equity Securities Other Receivables Inventories Property, plant & equipment Goodwill Other
December 31, 2009 2008 $27,917 $24,302 32,523 56,562 28,980 14,792 6,147 15,720 27,614 13,070 223,325
27,115 49,073 18,419 14,925 7,500 16,703 27,477 13,257 198,771
429 30,936 5,334 8,072 44,771
280 28,454 5,280 7,556 41,570
2,212 4,608 3,620 13,989 1,024 3,570 29,023 297,119
957 4,517 3,116 13,942 1,024 3,502 27,058 267,399
59,416 7,925 3,802 15,379 3,719 90,241
56,620 7,861 3,619 14,987 4,349 87,436
5,895 19,579 25,474
6,175 19,145 25,320
2,514 9,269 14,611 26,394 19,225 161,334
2,656 14,612 13,388 30,656 10,280 153,692
8 27,074 17,793 86,227 131,102 4,683 135,785 297,119
8 27,133 3,954 78,172 109,267 4,440 113,707 267,399
Utilities & Energy:
Cash & cash equivalents Property, plant & equipment Goodwill Other Finance & Financial Products:
Cash & cash equivalents Investments in fixed maturity securities Other investments Loans & finance receivables Goodwill Other Total Assets LIABILITIES & SHAREHOLDERS' EQUITY Insurance & Other:
Losses & loss adjustm ent expenses Unearned premium s Life & health insurance benefits Accounts pa payable, ac accruals & other liliabilities Notes payable and other borrowings Utilities & Energy Accounts payable, accruals & other liabilities Notes payable & other borrowings Finance & Financial Products Accounts payable, accruals & other liabilities Derivative contract liabilities Notes payable & other borrowings Income taxes, principally deferred Total Liabilities Shareholders' Equity: Common stock Capital in excess of par value Accum ulated ot other co comprehensive in income Retained earnings Berkshire Ha Hathaway shareholders' eq equity Noncontrolling interests Total Shareholders' Equity Source: Company data, Barclays Capital estimates.
58
Equity Research
Figure 71. Berkshire Hathaway Consolidated Statements of Earnings In $ millions Revenues: Insurance & Other: Insurance earned premiums Sales and service revenues Interest, dividend and other income Investment gains/losses Other-than-temporary impairment losses on investments Utilities & Energy: Operating revenues Other Finance & Financial Products: Interest, dividend and other investment income Investment gains/losses Derivative gains/losses Other
Costs & Expenses Insurance & Other: Insurance losses and loss adjustment expenses Life & health insurance benefits Insurance underwriting expenses Cost of sales and services Selling, general and administrative expenses Interest expense Utilities & Energy: Cost of sales & operating expenses Interest expense Finance & Financial Products: Interest expense Other
Earnings before income taxes and equity method earnings Income tax expense Earnings from equity method investments Net Earnings Less; Earnings attributable to noncontrolling interests Net earnings attributable to Berkshire Hathaway Average common shares outstanding Net ea earnin rning gs pe per sh share attri ttrib butable to to Be Berks rkshire Hathaway sh shareh reholders Source: Company data, Barclays Capital estimates.
59
December 31, 2009 2008
$27,884 62,555 5,245 251 (3,155) 92,780
$25,525 65,854 4,966 1,166 (1,813) 95,698
11,204 239 11,443
12,668 1, 1,303 13,971
1,886 67 3,624 2,693 8,270 112,493
1,790 7 (6,821) 3,141 (1,883) 107,786
18,251 1,838 6,236 52,647 8,117 130 87,219
16,259 1,840 4,634 54,103 8,052 156 85,044
8,739 1,176 9,915
9,840 1,168 11,008
686 639 3,121 3,521 3,807 4,160 100,941 100,212 11,552 7,574 3,538 1,978 427 0 8,441 5,596 386 602 8,055 4,994 1,551,174 1,548,960 $5,193 $3,22 ,224
Equity Research
Figure 72. Non-Life Insurance Insurance Universe Universe NON-LIFE INSURANCE SECTOR RATING: 2-NEUTRAL
Company
Ticker
Rat ing
Price 4 /8 / 2 0 1 0
5 2 - Wk Price Range
$ 5 2 .2 6 5 3 .3 0 7 4 .6 8 8 0 .5 1 8 1 .5 1 7 9 .6 8 5 1 .6 7 1 6 .5 8 4 4 .5 3 2 8 .6 7 1 9 .3 1 1 6 .7 5 1 1 .1 2 5 7 .0 1
55 - 3 7 56 - 4 0 77 - 5 3 82 - 6 1 93 - 6 5 84 - 5 5 54 - 3 8 18 - 1 0 50 - 3 5 29 - 2 0 20 - 6 18 - 1 2 12 - 8 58 - 4 3
Mkt Cap
(Bil)
Operat ing EPS 09A 10E 11E
% Ch Change EPS 10/09 1 1 / 10
Consensus EPS 10E 1 1E
Div Yield
Price/ Tang BV 4Q09
Price/ Stated BV 09A 10E 11E
09E
0 .9 9 0 .9 1 1 .0 2 0 .9 5 0 .7 9 1.41 1 .1 0 1 .1 0 0 .7 5 0 .8 4 0 .7 8 0 .7 9 0 .8 0 1 .1 0
8.3 6.5 7.1 5.5 6.5 2 4 .5 8.4 8.7 4.3 5.6 7.2 5.3 4.8 4.7
P/ E 1 0E
11E
ROE 1 0E 11E
Commercial Lines & Reinsurance T ravelers ACE Limit ed Arch Arch Capi Capital t al Grou Group p Pa rt ne ner Re Everest Re Berkshire Ha Hat ha haw ay ay Chubb OneBeacon A lie d W or orld As Assurance Aspen Holdings X L Capit al al M ont pelier Re Flagst one Re RenaissanceRe
TRV ACE ACGL ACGL PRE RE BRK. B CB OB AW H AHL XL M RH FSR RNR
1 -Overw eight 1 -Overw eight 1-Over 1-Overwei weigh ghtt 1 -O -O ve verw ei eight 1 -O -Overw ei eight 2 -E -Equal We Weight 2 -Equal W eight 2 -Equal W eight 2 -E -Equal We Weight 2 -Equal W eight 2 -E -Equal W ei eight 2 -Equal W eight 2 -Equal W eight 2 -Equal We Weight
$30.6 18.0 3.9 6.5 4.8 196.8 17.0 1.6 2.7 2.3 6.6 1.2 0.9 3.4
$ 6 .2 9 8 .1 7 1 0 .5 3 1 4 .5 9 1 2 .5 1 3 .2 5 6 .1 4 1 .9 0 1 0 .3 4 5 .1 6 2 .6 9 3 .1 3 2 .3 0 1 2 .2 5
$ 6 .2 5 7 .2 5 9 .0 0 6 .7 0 7 .7 5 3.34 4 .7 0 1 .4 0 7 .4 5 2 .8 0 2 .0 5 1 .2 5 1 .2 5 5 .8 0
$ 6 .0 0 7 .0 0 8 .5 0 8 .0 0 1 0 .5 0 3.47 5 .0 0 1 .0 0 7 .5 0 3 .5 0 2 .2 5 2 .0 0 1 .5 5 7 .2 5
Median
-1 % -1 1 % -1 4 % -5 4 % -3 8 % 3% -2 4 % -2 6 % -2 8 % -4 6 % -2 4 % -6 0 % -4 6 % -5 3 %
-2 7 %
-4 % -4 % -6 % 19% 4% 4% 6% -2 9 % 1% 25% 10% 60% 24% 25%
$ 5 .7 5 7 .1 0 7 .8 7 6 .8 2 8 .1 6 3 .6 4 5 .0 6 1 .5 0 7 .0 7 3 .2 1 2 .2 1 1 .4 3 1 .5 2 6 .9 5
$ 5 .8 0 7 .4 1 8 .9 1 1 0 .0 1 1 1 .2 0 3.86 5 .5 1 1 .3 4 7 .4 9 3 .5 9 2 .4 9 2 .3 0 1 .7 6 8 .2 4
5%
2 .5 % 2 .3 % 0 .0 % 2 .3 % 2 .4 % 0 .0 % 2 .7 % 5 .1 % 1 .8 % 2 .1 % 2 .1 % 2 .1 % 1 .4 % 1 .7 %
2.1%
1.16 1.14 1.02 1.02 0.79 1 .9 1 1.13 1.10 0.83 0.84 0.87 0.79 0.83 1.15
1. 1. 0 2
0 .9 3
0 .8 9 0 .8 3 0 .8 9 0 .8 9 0 .7 5 1 .2 7 1 .0 3 1 .0 6 0 .6 7 0 .7 6 0 .7 3 0 .7 4 0 .7 4 1 .0 0
0 .8 6
0 .8 1 0 .7 6 0 .7 8 0 .8 3 0 .6 9 1 .1 8 0 .9 6 1 .0 6 0 .6 1 0 .6 9 0 .6 8 0 .6 7 0 .6 8 0 .9 0
0 .7 7
6 6..5
8 .4 7 .3 8 .3 1 2 .0 1 0 .5 2 3 .8 1 1 .0 1 1 .8 6 .0 1 0 .2 9 .4 1 3 .4 8 .9 9 .8
1 0 .0
8 .7 7.6 8.8 1 0 .1 7 .8 23.0 10.3 16.6 5.9 8.2 8.6 8.4 7.2 7.9
11% 12% 12% 8% 7% 6% 10% 9% 11% 8% 8% 5% 8% 11%
10 % 10 % 10 % 9% 5% 5% 10 % 6% 10 % 9% 8% 8% 10 % 13 %
8.5
9%
9%
12.0 13.8 10.6 16.4 15.1
17% 13% 19% 16% 11%
17 % 15 % 20 % 18 % 11 %
Insurance Brokers Aon Corp. M arsh & M cLennan Will Willis i s Grou Group p Art hur J. Ga Gallagher Brow n & Brow n
AON MM C WSH WSH AJG BRO
4 3 .1 8 2 4 .2 1 3 1 .9 2 2 4 .5 8 1 8 .1 0
2 -Equal W eight 3 -Underw eight 3-Und 3-Under erwei weight g ht 3 -Underw eight 3 -Underw eight
43 25 32 26 20
-
35 18 22 17 16
11.5 13.1 5.4 2.5 2.6
3 .1 1 1 .5 8 2 .6 7 1 .3 2 1 .0 8
3 .2 5 1 .5 0 2 .6 5 1 .4 0 1 .1 0
3 .6 0 1 .7 5 3 .0 0 1 .5 0 1 .2 0
4% -5 % -1 % 6% 2%
Median
0%
11% 17% 13% 7% 9%
3 .3 1 1 .7 3 2 .6 6 1 .4 9 1 .0 9
3 .6 7 1 .9 6 3 .0 0 1 .6 8 1 .1 9
1 4%
1 .4 % 3 .3 % 3 .3 % 5 .2 % 1 .7 %
NM NM NM NM NM
2.3%
2 .1 3 2 .1 8 2 .4 6 2 .8 3 1.88
2 .1 6
1 .9 9 2 .0 6 2 .2 0 2 .8 9 1 .7 4
2 .0 2
1 .8 6 1 .9 1 1 .9 8 2 .9 2 1 .6 2
1 .8 9
13.9 15.3 11.9 18.6 1 6 .8
1 4 .6
1 3 .3 1 6 .2 1 2 .1 1 7 .5 1 6 .4
1 4 .7
12.9
15%
16 %
Personal Lines T he Hanover Group Progr rogressi essive ve Allst at e Corp.
THG PGR ALL
4 3 .5 1 1 9 .3 6 3 3 .1 0
1 -Overw eight 2-Equal qual Weig Weight ht 2 -Equal W eight
45 - 2 9 20 - 1 4 33 - 2 1
2.1 13.0 17.8
3 .0 9 1 .5 5 3 .4 8
3 .7 5 1 .4 0 3 .7 5
4 .0 0 1 .4 0 3 .5 0
21% -1 0 % 8%
Median
8%
7% 0% -7 %
3 .8 9 1 .4 5 3 .9 1
4 .4 4 1 .5 5 4 .2 6
0%
1 .7 % 0 .0 % 2 .4 %
1.7%
0.94 2.26 1 .1 3
1. 1 .13
0 .8 7 2 .2 6 1.07
1 .0 7
0 .8 2 2 .0 0 0 .9 8
0 .9 8
0 .7 7 1 .8 4 0 .9 1
0 .9 1
14.1 12.5 9 .5
1 2 .5
1 1 .6 1 3 .9 8 .8
1 1 .6
10.9 1 3 .9 9.5
10.9
7% 15% 12%
12%
7% 14 % 10 %
10 %
Multiline (a) T he he H ar ar tf tf or ord
HI G
2 8 .5 5
2 -E -Eq ua ua l W ei eig ht ht
30 - 9
12.5
1 .8 5
3 .8 2
3 .9 0
NA
Median S&P 500 10 Yr Treasury Treasury
SPX US1 0 YR
1 ,1 8 6 .4 4 3 .8 6
1192 - 815 3 . 9 9 - 2 .7 6
$ 6 3 .2 1
$ 6 0 .1 8
$ 7 7 .6 4
2%
NA
2%
-4 .8 %
2 9 .0 %
3 .0 3
3 .9 0
0 .7 %
0.7% $ 6 0 .1 8
$ 7 7 .6 4
0 .0 %
1.13
1.13
0.73
0 .7 3
0 .6 8
0 .6 8
0 .6 3
0 .6 3
15.4
1 5 .4 18.8
7 .5
7.3
7 .5
7.3
1 9 .7
1 5 .3
8%
8% NM
8%
8% NM
Note: S&P 500 EPS estimates are a bottom-up calculation of consensus earnings forecasts. (a) Eric Berg Berg is the lead analyst on HIG. The Life Insurance sector rating is 2-Neutral.
Source: Factset, Barclays Capital estimates.
Analyst Certification: We, Jay Gelb, CFA, Daniel Ford, CFA and Gary Chase, hereby certify (1) that the views expressed in this research report accurately reflect our personal views about any or all of the subject securities or issuers referred to in this research report and (2) no part of our compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this research report.
Other Team Members: Schaul, Erica (BCI, New York)
1.212.526.8190
[email protected]
DeWitt, Sarah (BCI, New York)
1.212.526.9947
[email protected]
Company Description:
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Equity Research On September 20, 2008, Barclays Capital acquired Lehman Brothers' North American investment banking, capital markets, and private investment management businesses. businesses. All ratings and price targets prior to this date relate to coverage under Lehman Brothers Inc.
Important Disclosures: Berkshire Hathaway Inc. (BRK.B)
US$ 80.49 (09-Apr-2010)
2-Equal Weight / 2-Neutral
Rating and Price Target Chart: CHART IS NOT APPLICABLE
Barclays Bank PLC and/or an affiliate has been lead manager or co-lead manager of a publicly disclosed offer of securities of Berkshire Hathaway Inc. in the previous 12 months. Barclays Bank PLC and/or an affiliate is a market-maker and/or liquidity provider in securities issued by Berkshire Hathaway Inc. or one of its affiliates. Barclays Bank PLC and/or an affiliate has received compensation for investment banking services from Berkshire Hathaway Inc. in the past 12 months. Barclays Bank PLC and/or an affiliate expects to receive or intends to seek compensation for investment banking services from Berkshire Hathaway Inc. within the next 3 months. Barclays Bank PLC and/or an affiliate trades regularly in the shares of Berkshire Hathaway Inc.. Barclays Bank PLC and/or an affiliate has received non-investment banking related compensation from Berkshire Hathaway Inc. within the past 12 months. Berkshire Hathaway Inc. is or during the past 12 months has been an investment banking client of Barclays Bank PLC and/or an affiliate. Berkshire Hathaway Inc. is or during the last 12 months has been a non-investment banking client (securities related services) of Barclays Bank PLC and/or an affiliate. Barclays Bank PLC is associated with specialist firm Barclays Capital Market Makers, which makes a market in Berkshire Hathaway Inc. stock. At any given time, the associated specialist may have "long" or "short" inventory position in the stock; and the associated specialist may be on the opposite side of orders executed on the Floor of the Exchange in the stock. Valuation Methodology: We determine our price target for Berkshire Hathaway of $88 primarily by applying a price-to-book multiple of 1.30x (versus a historical average since 2000 of 1.59x) 1.59x) to our YE 2011 book value estimate of around $68. As a point of reference, our price target valuation implies a price-to-tangible book multiple of 1.86x, versus a historical average since 2000 of 2.30x. Risks Which May Impede the Achievement of the Price Target: There are several risks that could impede the achievement of our price target for Berkshire Hathaway including managment succession, large and concentrated stock investments, derivative losses, earnings volatility, catastrophe losses, M&A risk and regulatory risk.
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Equity Research FOR CURRENT IMPORTANT DISCLOSURES REGARDING COMPANIES THAT ARE THE SUBJECT OF THIS RESEARCH REPORT, PLEASE SEND A WRITTEN REQUEST TO: BARCLAYS CAPITAL RESEARCH COMPLIANCE 745 SEVENTH AVENUE, 17TH FLOOR, NEW YORK, NY 10019 OR REFER TO publicresearch.barcap.com or call 1-212-526-1072 Important Disclosures Continued: The analysts responsible for preparing this report have received compensation based upon various factors including the firm's total revenues, a portion of which is generated by investment banking activities.
Company Name Berkshire Hathaway Inc.
Ticker BRK.B
Price US$ 80.49
Price Date 09-Apr-2010
Stock / Sector Rating 2-Equal Weight / 2-Neutral
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Allied World Assurance Co. (AWH) Aon Corporation (AOC) Arthur J. Gallagher & Co. (AJG) Brown & Brown, Inc. (BRO) Everest Re Group (RE) Marsh & McLennan Cos. (MMC) OneBeacon Insurance Group (OB) Progressive Corp. (PGR) The Hanover Insurance Group (THG) Willis Group Holdings Ltd. (WSH)
In addition to the stock rating, we provide sector views which rate the outlook for the sector coverage universe as 1-Positive, 2-Neutral or 3-Negative (see definitions below). A rating system using terms such as buy, hold and sell is not the equivalent of our rating system. Investors should carefully read the entire research report including the definitions of all ratings and not infer its contents from ratings alone. Stock Rating 1-Overweight - The stock is expected to outperform the unweighted expected total return of the sector coverage universe over a 12-month investment horizon. 2-Equal Weight - The stock is expected to perform in line with the unweighted expected total return of the sector coverage universe over a 12- month investment horizon. 3-Underweight - The stock is expected to underperform the unweighted expected total return of the sector coverage universe over a 12- month investment horizon. RS-Rating Suspended - The rating and target price have been suspended temporarily due to market events that made coverage impracticable or to comply with applicable regulations and/or firm policies in certain circumstances including when Barclays Capital is acting in an advisory capacity in a merger or strategic transaction involving the company.
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Equity Research Sector View 1-Positive - sector coverage universe fundamentals/valuations are improving. 2-Neutral - sector coverage universe fundamentals/valuations are steady, neither improving nor deteriorating. 3-Negative - sector coverage universe fundamentals/valuations are deteriorating. Distribution of Ratings: Barclays Capital Equity Research has 1453 companies under coverage. 42% have been assigned a 1-Overweight rating which, for purposes of mandatory regulatory disclosures, is classified as a Buy rating; 47% of companies with this rating are investment banking clients of the Firm. 44% have been assigned a 2-Equal Weight rating which, for purposes of mandatory regulatory disclosures, is classified as a Hold rating; 43% of companies with this rating are investment banking clients of the Firm. 12% have been assigned a 3-Underweight rating which, for purposes of mandatory regulatory disclosures, is classified as a Sell rating; 33% of companies with this rating are investment banking clients of the Firm. Barclays Capital offices involved in the production of Equity Research: London Barclays Capital, the investment banking division of Barclays Bank PLC (Barclays Capital, London) New York Barclays Capital Inc. (BCI, New York) Tokyo Barclays Capital Japan Limited (BCJL, Tokyo) São Paulo Banco Barclays S.A. (BBSA, São Paulo) Hong Kong Barclays Bank PLC, Hong Kong branch (BB, Hong Kong) Toronto Barclays Capital Canada Inc. (BCC, Toronto)
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