Stephen Foley: Is this the last chapter of the Buffett story?
Saturday 13 February 2010
Outlook: Are we entering the endgame for Warren Buffett's Berkshire Hathaway?
It might seem a strange thing to ask, since the Oracle of Omaha has never seemed so wise, or so desperately important for our times. The core of his homespun investment strategy – don't invest in anything you don't understand – is just the anti-venom needed for a financial system where untold dangers lurk within its complexity. If only, in 2002, we had heeded Mr Buffett's warning that the real weapons of mass destruction were credit derivatives.
He has never seemed so sprightly, either, by the way, even as he prepares to celebrate his 80th birthday this summer. Thousands of the faithful have already booked their hotels in Omaha for Berkshire's annual shareholder meeting, an event like nothing else in the corporate calendar, where they can again expect Mr Buffett to dispense his philosophical nuggets, coated in good humour.
But what of the extraordinary hydra that he has created, Berkshire Hathaway? Part industrial conglomerate, part investment vehicle, and one of the biggest insurance groups in the world, it really is only held together by the force of Mr Buffett's personality and the faith in him that leads investors to pay $115,000 (£73,000) a pop for a single share.
Except that something changed last night: Berkshire Hathaway became a constituent of the S&P 500, and now goes into the portfolios of more than $1,000bn (£640bn) of investment funds that track the US index. For years, despite Berkshire growing to be one of the 20 largest companies on the stock market, S&P has not added its shares to the index because they were too illiquid. Not just the A shares with that jaw-dropping price tag, but also a second class of B shares, which were one-thirtieth of the value. As a side-effect of Berkshire's biggest acquisition ever – of the US railway company Burlington Northern – the company split those B shares into 50 pieces, so it could pay Burlington shareholders in a currency that was more flexible.
Mr Buffett never liked having to create B shares in the first place. Illiquidity is his friend, since it makes it harder for short-term speculators to play about with his share price. It follows that the greater liquidity of these B shares could become a nuisance, especially if a lot of A shareholders are tempted to convert, in order to sell some of their stake.
I love attending Berkshire's annual meeting in Omaha. It is a festival of financial literacy and education and, because Mr Buffett and his deputy, Charlie Munger, are the Bird and Fortune of investing, it is full of good jokes. But it is laced with intimations of the company's ultimate end.
Referring to the sheer size of the company, Mr Buffett is always clear about how its rate of growth will inevitably slow. One thing has magnified that recently: where Berkshire had been one of only a handful of global corporations with a gold-plated AAA credit rating, it has lost that status, making financing that bit more expensive.
Leaving aside that shareholders would get more short-term value from breaking the company apart, since that would instantly put takeover premiums into the value of constituents from Fruit of the Loom clothing to the MidAmerican Energy utility, its companies separately could find longer-term growth opportunities by retooling their businesses independently.
Mr Buffett is also honest about the investments that sit inside Berkshire, with substantial minority holdings of American Express, Coca-Cola and Kraft, among others. He always tells shareholders that the most tax-efficient way for them to get access to these stocks is to buy them themselves, raising the question of why they should be part of a publicly traded conglomerate at all.
I have always assumed that Berkshire will fall apart under the weight of these contradictions if ill-health forces Mr Buffett to stand aside. With the stock split and the entry to the S&P 500, his options for running Berkshire as a quasi-private company might become more limited and speculators will be able to get a toehold. I wonder if the endgame may come sooner than anyone expects.
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