Top Arguments Against Buffett's Berkshire Hathaway
March 20, 2013
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RELATED TICKERS: BRK-B
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Last week 16 Fool analysts revealed their top 2 holdings. Berkshire Hathaway came out as the most widely held stock. I am here to offer a contrary point of view.
Buffett has amassed an unbelievable record of growing a business into an Empire. From 1965-2012, Berkshire has a compound annual gain of 19.7% per year in book value compared to the S&P 500’s 9.4% gain per year. That’s a 586,817% gain compared to a 7,433% gain! This record of success might never be duplicated again and certainly not at Berkshire. Buffett can’t manage this company forever, he’s currently 82 and Charlie Munger is 89. The problem is that the average American male life expectancy is around 75 years depending on your source. If you are 25 to 35 and plan on holding for the long term, understand that the vast majority of Berkshire’s future will be in somebody other than Buffett’s hands. You aren’t betting on Buffett you are betting on Todd Combs, Ted Weschler and Ajit Jain. His hand-picked successors might very well turn out to be great managers but the odds say they won’t be anywhere near as good as Buffett.
Last year Bill Gross pointed out part of the secret sauce that made Berkshire so successful. If you’ve ever read a Buffett letter to shareholders he goes out of his way to positively highlight his float from GEICO and other insurance subsidiaries. Bill Gross called it “free float”. In layman’s terms customers pay their GEICO bill today and GEICO pays out claims tomorrow (if ever). In the meantime Buffett is investing the money and it isn’t chump change. In 2012 Berkshire’s float was over 73 billion dollars. His insurance float is the opposite of borrowing money and is more like getting paid free temporary money. In a zero interest rate environment this advantage is negated, in a 7% interest world Buffett has a huge advantage. Free float plus sound investment decisions have acted as a compounding machine making Buffett one of the world’s richest people. Maybe coincidence but so far Berkshire has trailed the market under a zero interest rate policy.
Size Matters. There are advantages and disadvantages to running a 250 billion dollar company. On the plus side Buffett gets to meet with the President and top CEOS. He gets to buy entire companies and run them autonomously without angry boards and angry shareholders complaining about short term performance. People call him directly and offer him sweetheart deals as Goldman Sachs did in 2009. Buffett also has immediate access to CNBC to promote his views. Some people will buy a stock just because Buffett bought it creating a Buffett put.
The big negative to running a huge conglomerate is that it limits his investment universe. Buffett is handcuffed in what he can and can’t buy. Berkshire is so large that smaller stocks and smaller positions won’t dent performance. In the past Buffett said that if he had less money he'd run Berkshire completely differently by owning smaller companies that were more undervalued than his current holdings. This makes the Berkshire successors’ jobs that much more difficult.
Buffett himself isn’t as optimistic about Berkshire’s future. On page 3 of most recent letter to shareholder he shares this prediction,
Charlie and I believe the gain in Berkshire’s intrinsic value will over time likely surpass the S&P returns by a small margin. We’re confident of that because we have some outstanding businesses, a cadre of terrific operating managers and a shareholder-oriented culture. Our relative performance, however, is almost certain to be better when the market is down or flat. In years when the market is particularly strong, expect us to fall short.
Whenever somebody has anything but praise for Buffett the Buffett-ites come out and smear the speaker. I am not a hater, I own small stake in Berkshire that I’d like to sell out of in an opportune time. I don’t have any other exposure to the financials so it might not hurt holding some BRK-B in the short term. I also have a personal preference to companies who pay dividends for a number of reasons but I am willing to make exceptions. If you needed income and owned Berkshire in a taxable account you would have to sell shares creating a taxable event. Some might point out the obvious cure to the problem - never sell shares - but that's not always a reality for working people that aren't millionaires and billionaires.
Berkshire has trailed the market in 3 out of the last 4 years. Buffett himself only expects to surpass the market by a small margin. Would a 25-35 year old Buffett invest in Berkshire? Of course not and he’s said in the past that if he had less money he’d manage his money completely differently.
With investing you want to invest for the future not the past. Buffett made his money and created his legacy. The people that invested with him early on made a lot of money. A 2013 long-term Berkshire investment is more of a bet on his successors than him. There is a decent chance that you’d be better off owning a low cost broad market index fund (that pays dividends) than owning the mega conglomerate Berkshire Hathaway.
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