Monday, November 16, 2015

Berkshire Hathaway 3rd Quarter 2015 13F-HR

The Berkshire Hathaway (BRKa3rd Quarter 13F-HR was released yesterday. Below is a summary of the changes that were made to the Berkshire equity portfolio during that quarter.
(For a convenient comparison, here's a post from last quarter that summarizes Berkshire's 2nd Quarter 13F-HR.)

There was plenty of buying and selling during the quarter. Here's a quick summary of the changes:*

Added to Existing Positions
IBM (IBM): 1.47 million shares (1% incr.); tot. stake $ 11.7 bil.
Phillips 66 (PSX): 31.8 mil. shares (107%); tot. stake $ 4.72 bil.
Charter (CHTR): 1.77 mil. shares (20%); tot. stake $ 1.81 bil.
General Motors (GM): 9.0 mil. shares (21%); tot. stake $ 1.50 bil.

I've included above only those positions worth at least $ 1 billion at the end of the 3rd quarter. In a portfolio this size -- more than $ 246 billion (equities, fixed income, cash, and other investments) as of the latest available filing with roughly half made up of common stocks** -- a position that's less than $ 1 billion doesn't really move the needle much.

Shares that were bought among positions worth less than $ 1 billion include Suncor (SU), Liberty Media (LMCK and LMCA), Axalta (AXTA), Liberty Global (LBTYA), and Twenty-First Century Fox (FOXA).

New Positions
Kraft Heinz (KHC): 326 mil. shares; total stake $ 23.0 bil.
AT&T (T): 59.3 mil. shares; total stake $ 1.93 bil.

A deal to combine Kraft and Heinz was announced earlier this year and closed on July 2nd, 2015. So, as a result, Berkshire now owns nearly 27% of the common stock in the combined Kraft Heinz Company. The stake is being accounted for using the equity method. See Note 7 in Berkshire's latest 10-Q for additional details. The investment now represents one of Berkshire's largest positions.

The new AT&T shares are a result of the deal to acquire DirecTV (DTV).

Berkshire also has very small new positions in Liberty LiLAC (LILA and LILAK) as a result of a distribution from Liberty Global (LBTYA and LBTYK).

It turns out that some Phillips 66 shares were actually purchased during the 2nd quarter but not disclosed until later.

Berkshire's 2nd Quarter 13F-HR filing had indicated some activity was being kept confidential. That filing said: "Confidential information has been omitted from the public Form 13F report and filed separately with the U.S. Securities and Exchange Commission."

We now know it was the Phillips 66 position that was omitted.
(Last quarter's 13F-HR made it appear as if Berkshire had sold its stake in Phillips 66. In fact, they were quietly adding to the position with SEC approval.)

This separate 13F-HR/A filing reveals the specific number of shares of Phillips 66 that were bought during that time.

Berkshire's latest 13F-HR filing did not indicate any activity was kept confidential.

Occasionally, the SEC allows Berkshire to keep certain moves in the portfolio confidential. The permission is granted by the SEC when a case can be made that the disclosure may cause buyers to drive up the price before Berkshire makes its additional purchases.

Reduced Positions
Wal-Mart (WMT): 4.20 million shares (6% decr.); tot. stake $ 3.64 bil.
Goldman Sachs (GS): 1.67 million shares (13%); tot. stake $ 1.90 bil.
Deere & Co. (DE): 258 thousand shares (1%); tot. stake $ 1.26 bil.

Warren Buffett told CNBC he sold the shares of Wal-Mart and Goldman Sachs to help fund the acquisition of Precision Castparts (PCP) deal, not because his of the two companies has become negative.

Shares that were sold among positions worth less than $ 1 billion include Bank of New York Mellon (BK), WABCO (WBC), Chicago Bridge & Iron (CBI), and Media General (MEG).

Sold Positions
Positions that show as sold outright include Viacom (VIAB), DirecTV (DTV), and Kraft (KRFT). DirecTV is, once again, the result of the deal with AT&T while the Kraft share are related to the deal to combine Kraft and Heinz.

Todd Combs and Ted Weschler are responsible for an increasingly large number of the moves in the Berkshire equity portfolio. These days, any changes involving smaller positions will generally be the work of the two portfolio managers.
(Though some of the holdings they're responsible for have become more substantial over time.)

Top Five Holdings
After the changes, Berkshire Hathaway's portfolio of equity securities remains mostly made up of financial, consumer and, to a lesser extent, technology stocks (mostly IBM).

1. Wells Fargo (WFC) = $ 24.1 bil.
2. Kraft Heinz (KHC) = $ 23.0 bil.
3. Coca-Cola (KO) = $ 16.0 bil.
4. IBM (IBM) = $ 11.7 bil.
5. American Express (AXP) = $ 11.2 bil.

As is almost always the case it's a very concentrated portfolio. The top five often represent 60-70 percent and, at times, even more of the equity portfolio. The large stake in Kraft Heinz has, in fact, simply made the portfolio even more concentrated. In addition, Berkshire owns equity securities listed on exchanges outside the U.S., plus fixed maturity securities, cash and cash equivalents, and other investments.

The portfolio excludes all the operating businesses that Berkshire owns outright with ~ 340,000 employees (25 being at headquarters) according to the latest letter.

Here are some examples of Berkshire's non-insurance businesses:

MidAmerican Energy, Burlington Northern Santa Fe, McLane Company, The Marmon Group, Shaw Industries, Benjamin Moore, Johns Manville, Acme Building, MiTek, Fruit of the Loom, Russell Athletic Apparel, NetJets, Nebraska Furniture Mart, See's Candies, Dairy Queen, The Pampered Chef, Business Wire, Iscar, Lubrizol, and Oriental Trading Company.
(Among others.)

In addition, the insurance businesses (BH Reinsurance, General Re, GEICO etc.) owned by Berkshire have naturally provided plenty of "float" for their investments over time and continue to do so.

See page 125 of the 2014 annual report for a full list of Berkshire's businesses.

Adam

Long positions in BRKb, KO, WFC, AXP, and PSX established at much lower than recent market prices. Also, long positions in WMT established at slightly lower than recent market prices and IBM established at higher than recent prices. (In each case compared to average cost basis.)

* All values shown are based upon the last trading day of the 3rd quarter.
** Berkshire Hathaway's holdings of ADRs are included in the 13F. What is not included are shares listed on exchanges outside the United States. The status of those shares, if a large enough position, are updated in the annual letter. So the only way any of the stocks listed on exchanges outside the U.S. will show up in the 13F is if Berkshire buys the ADR. Investments in things like preferred shares (and valuable warrants, where applicable, as explained in the recent letters) are also not included in the 13F.
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This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.

Tuesday, November 10, 2015

Corporate Hocus-Pocus

Warren Buffett, earlier this year in his 2014 Berkshire Hathaway (BRKa) special letter*, offered the following perspective on conglomerates:

"Berkshire is now a sprawling conglomerate, constantly trying to sprawl further.

Conglomerates, it should be acknowledged, have a terrible reputation with investors. And they richly deserve it. Let me first explain why they are in the doghouse, and then I will go on to describe why the conglomerate form brings huge and enduring advantages to Berkshire.

Since I entered the business world, conglomerates have enjoyed several periods of extreme popularity, the silliest of which occurred in the late 1960s. The drill for conglomerate CEOs then was simple: By personality, promotion or dubious accounting – and often by all three – these managers drove a fledgling conglomerate's stock to, say, 20 times earnings and then issued shares as fast as possible to acquire another business selling at ten-or-so times earnings. They immediately applied 'pooling' accounting to the acquisition, which – with not a dime's worth of change in the underlying businesses – automatically increased per-share earnings, and used the rise as proof of managerial genius. They next explained to investors that this sort of talent justified the maintenance, or even the enhancement, of the acquirer's p/e multiple. And, finally, they promised to endlessly repeat this procedure and thereby create ever-increasing per-share earnings.

Wall Street's love affair with this hocus-pocus intensified as the 1960s rolled by. The Street's denizens are always ready to suspend disbelief when dubious maneuvers are used to manufacture rising per-share earnings, particularly if these acrobatics produce mergers that generate huge fees for investment bankers. Auditors willingly sprinkled their holy water on the conglomerates' accounting and sometimes even made suggestions as to how to further juice the numbers."

Why does this sort behavior happen in the first place? According to Buffett it's because, at least for some, "gushers of easy money washed away ethical sensitivities."

Buffett on Bold & Imaginative Accounting

Keep in mind that these earnings gains on a per share basis arose from "exploiting p/e differences" instead of any real value creation. Well, it's the quality of earnings increases over a long time horizon that should be the focus of investors.
(Speculators will no doubt look at this somewhat -- or, in fact, a whole lot -- differently.)

Efforts to inflate per-share earnings will be seen for what they are in the long run and valued accordingly. Those who get caught up in such things are exposed to more risk of permanent loss than they might otherwise realize.

The way that some choose to mostly ignore stock compensation expense seems a relevant example.

Learning how to separate the real thing from the questionable is an essential part of the investment process.

"The resulting firestorm of merger activity was fanned by an adoring press. Companies such as ITT, Litton Industries, Gulf & Western, and LTV were lionized, and their CEOs became celebrities. (These once-famous conglomerates are now long gone. As Yogi Berra said, 'Every Napoleon meets his Watergate.')"

Charlie Munger, earlier this year and even more recently, has compared one particular public company to ITT.

Here's how this Fortune article described ITT:

"Over a period of nine years, Harold Geneen used his company [ITT]...to make more than 350 acquisitions in over 80 countries around the world. Sales exploded from $765 million in 1961 to over $17 billion in 1970, before the wheels started to come off. The empire was eventually revealed to be little more than a giant accounting trick that covered up the losses from one acquisition with the paper profits of the next one."

Munger describes it the following way:

"It wasn't moral the first time. And the second time, it's not better. And people are enthusiastic about it. I'm holding my nose."

Accounting rules will naturally change** over time, but this won't end attempts to be less than conservative (or worse) with how the numbers are presented and even, somewhat strangely, how they're interpreted by those who ought to know better.

"It is difficult to get a man to understand something, when his salary depends upon his not understanding it!" - Upton Sinclair

Some of this behavior might also be explained, at least in part, by "career risk" and "the institutional imperative".

So why does the conglomerate structure work for Berkshire but not necessarily for others?

I'll cover that in a separate post and, at some point after that, look more closely at one of the conglomerates mentioned above.

Adam

Long position in BRKb established at much lower than recent market prices

Related posts:
Berkshire's Structure: Why It Works (follow-up)
Grantham & Buffett: "Career Risk" & "The Institutional Imperative"
Buffett on "The Institutional Imperative"
Buffett: A Portrait of Business Discipline
Buffett on Bold & Imaginative Accounting

* This is Buffett's special letter that was written for the 50th Anniversary of Berkshire. Munger also wrote a separate letter to recognize this Golden Anniversary. These can also be found at the end of the regular letter (page 24 and 39 respectively).
** The fact that 'pooling' is no longer allowed is but one example. 
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This site does not provide investing recommendations as that comes down to individual circumstances. Instead, it is for generalized informational, educational, and entertainment purposes. Visitors should always do their own research and consult, as needed, with a financial adviser that's familiar with the individual circumstances before making any investment decisions. Bottom line: The opinions found here should never be considered specific individualized investment advice and never a recommendation to buy or sell anything.
 
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