Berkshire Hathaway: Intrinsic Value (Part 3)

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The two-bucket approach to valuing Berkshire

In his 2008 letter to shareholders Buffett discussed the yardsticks for measuring the value of Berkshire as follows.

“Berkshire has two major areas of value. The first is our investments: stocks, bonds and cash equivalents. At year-end those totaled $122 billion (not counting the investments held by our finance and utility operations, which we assign to our second bucket of value). About $58.5 billion of that total is funded by our insurance float.

Berkshire’s second component of value is earnings that come from sources other than investments and insurance. These earnings are delivered by our 67 non-insurance companies, itemized on page 96. We exclude our insurance earnings from this calculation because the value of our insurance operation comes from the investable funds it generates, and we have already included this factor in our first bucket.”

The two-bucket approach: Intrinsic value per share

In the table below I have taken the pre-tax earnings per A-share (EPS) together with an earnings multiplier of 10. Assuming a 35% tax rate, this equals an after-tax earnings multiplier of approximately 15 times (10/(1-0,35)=15.4), which seems reasonable.

To the 10 times earnings per share I have added per-share investments, to arrive at an estimate of intrinsic value per A-share. This is what Warren refers to as the so-called two-bucket approach.

From these calculations, see table, we get an intrinsic value in 2003 of $90,033 compared to $220,413 in 2013, an increase of 144.8%, equal to a compounded annual growth rate of 9.4%.

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Intrinsic value has grown steadily, only decreasing year over year in 2008.

The highest margin of safety seems to have existed in 2011 and 2012, after the financial crisis.  Even if there still seems to be some margin left, calculated from the intrinsic value of 2013 ($220,413) compared to the share price at the end of March 2014 ($187,350), the margin today has decreased to approximately 18%.

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In the next post I will summarize the main points from the three post so far about the different ways to value Berkshire. 

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. This article is informational and is in my own personal opinion. Always do your own due diligence and contact a financial professional before executing any trades or investments.

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