The Big Changes In Berkshire's Equity Positions

  • The reduction of a large equity position and initiation of a new position in the near future.
  • Wholly owned Berkshire businesses are performing well with minimal long tail risks.
  • Future acquisitions, elephant or bolt.

Warren Buffett released his 2015 annual letter this past weekend and as always it was full of valuable information for all investors. For those who don't follow Buffett, his annual letter is widely anticipated every year. Bill Gates, a close friend of Buffett's, has read all 51 of his letters and stated "everyone who cares about business and finance can benefit from his wisdom".

Equity Positions 

Buffett is the world's best known stock picker and was an early investor in American Express (NYSE:AXP), Coca Cola (NYSE:KO), Wells Fargo (NYSE:WFC) and others. The total market value of Berkshire's equity positions was $112 Billion on December 31st and the Top 15 holdings account for 85% of this $112 Billion.

Berkshire Equity Positions

A few big changes occurred in Berkshire's equity holdings that investors should pay attention to.

  • Berkshire's position in Procter & Gamble (P&G) (NYSE:PG) will soon be exited as P&G will take ownership of the shares as part of Berkshire's acquisition of Duracell.
  • On December 31st, 2014, one of the Top 15 holdings was USG Corporation (NYSE:USG). Berkshire owned 30% of with it's 43.3 Million shares. According to Yahoo Finance, Berkshire's position has been cut to 39 million shares as of Dec 31st, 2015. Berkshire has sold off 4 million shares of USG in the past year; nearly 9% of its position. Buffett did not elaborate on this change but USG stock had dropped 25% in 2015.
  • Berkshire increased its ownership stake in each of it's Big Four Investments: American Express (NYSE:AXP), Coca Cola (NYSE:KO), IBM (NYSE:IBM) and Wells Fargo (NYSE:WFC). IBM is Berkshire's newest position and Berkshire is currently down $2.5 Billion on the holding.
  • On August 5th, 2011, Berkshire invested $5 Billion into Bank of America (NYSE:BAC) for preferred stock yielding 6% annual interest. Berkshire also received the option to purchase 700 million common shares at $7.14 per share before 2012. Berkshire has not exercised this option yet and Bank Of America is now trading around $12; an unrealized gain of $3.5 billion. Bank Of America would be Berkshire's 4th largest position today. Between now and 2021, Bank of America will be part of the Big Four (or Big Five).
  • Charter Communications is Buffett's newest position

Berkshire Businesses

In addition to it's large equity holdings, Berkshire also wholly owns numerous businesses including GEICO, BNSF, Dairy Queen, National Indemnity and others.

A few highlights that Buffett mentions:

  • BNSF railroad increased net income by 10% in 2015 to a record $6.8 Billion. This improvement occurred while railroad miles and earnings weakened in the overall rail industry. BNSF's turnaround in 2015 is a stark contrast to 2014 when Buffett called out its underperformance.
  • Berkshire's Powerhouse Five, the five most profitable non-insurance businesses (BNSF, Berkshire Energy, Marmon, Lubrizol and IMC) earned a combined $13.1 Billion in 2015.

The most interesting discussion on Berkshire businesses occurred when Buffet mentioned risk factors that are required to be disclosed by the SEC.

  • Driverless cars may negatively impact GECIO premiums but Buffett does not think that will happen for a long time.
  • BSNF volume will decline as coal consumption declines.
  • Berkshire Energy may be negatively impacted by the increase in renewables as well.

Buffett acknowledges all these risks are real but states that "none of these problems, however, is crucial to Berkshire’s long-term well-being." Similar to how Berkshire adapted to declining textile production in New England, Berkshire will also adapt to the long tail risk factors mentioned above.

Future Acquisitions

Berkshire has two types of acquisitions: elephants and bolt-ons. Elephant acquisitions are large and required to put Berkshire's massive cash pile to use. In 2015, Berkshire made its largest acquisition ever when it purchased Precision Castparts for $32 Billion in cash. Also during 2015, Berkshire made 29 bolt-on acquisitions for a total cost of $634 million.

The company has over $66 Billion in cash and equivalents and annual net income of nearly $20 Billion. The acquisition of Precision Castparts will consume less than half of Berkshire's current cash. Additionally, Berkshire currently owns preferred shares of Kraft Heinz that pay $720 million annual and can, and likely will, be redeemed for $8.32 Billion in June 2015.

The combination of Berkshire's current cash, it's annual net income and the redemption of its preferred shares in Kraft Heinz will likely leave the company with $50 billion in cash and equivalents in June even after accounting for the Precision Castparts deal. Berkshire is now likely hunting for an elephant.

What kind of acquisition may Berkshire make?

  • An oil company? Buffett recently increased his oil investment by purchasing more shares of Phillips 66. With oil prices in a drought, Buffett may scoop up a well run oil giant.
  • Another partnership with 3G Capital? Buffett praised 3G capital, the firm with which it invested in Heinz and Kraft with, for their management expertise. Working with 3G requires Berkshire to only provide financing and not management.

With the large cash position that Berkshire has, bolt-on acquisitions will not be sufficient. Buffett and Munger will have to go elephant hunting by themselves or with 3G Capital as tour guides.

Conclusion

As in years past, Warren Buffett's 2015 annual letter was full of immense business, financial and investing wisdom. Buffett proclaimed that contrary to many political beliefs, America is not on the decline but continuing to rise. Buffett is not worried about long tail risks with self-driving cars and less coal production. He says Berkshire will simply adapt as it always has.

I would like to have seen more information on why Berkshire reduced its stake in USG by 10%. Is this a reflection of the company or the industry the company operates in?

It will be interesting to see if Buffett continues to increase his position in IBM as Berkshire is currently down $2 Billion with its stake. Buffett famously stated "be greedy when others are fearful" and "let your winners run and cut your losses". Is Buffett being greedy when others are fearful or is he keeping a loser instead of cutting it?

If you want to learn more about investing and business from the likely the best ever, go and read the 2015 annual letter.

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