Semper Augustus: Warren Buffett Is Mr. Repo Man

Johnny HopkinsSemper AugustusLeave a Comment

In his latest 2020 Letter To Clients, Chris Bloomstran discusses the path from deflation to hyperinflation, Expedition Everest, and Berkshire: The Goat goes full repo. Here’s an excerpt from the letter:

Mr. Repo Man

My score awards the gold medal. Capital allocation over 56 years rarely involved decisions intentionally shrinking the left side of the balance sheet. Berkshire’s history of retaining profit and finding attractive assets producing better than average earning power is incredible. The duration of Berkshire’s history is largely devoid of dividends, dispositions and devaluations (in the accounting sense), all of which diminish some type of asset.

Dividends are a parting of cash. Dispositions are sales of any number of assets – property or securities, for example, and always come with some other form of asset being introduced back to the left side of the ledger, some worth more, some worth less. Devaluations are undertaken with an eraser, the reconciliation and confession of past sins, never to be spoken of again.

At Berkshire, you see very little of these activities, particularly when compared to “everybody else.” Outside of sales of common stock, always for cash or in a swap of assets and always with the expectation of getting more than that given, there is no history of Berkshire not profitably expanding the asset base with new and incremental capital. Berkshire paid a single 10 cent per share dividend in 1967, but beyond that retained and reinvested all profit. No complaints here. The performance record speaks for itself. You don’t see wholesale sales or closures of subsidiaries unless out of necessity. The record on this front is spartan.

The extraordinary capital allocator knows the value of things and understands opportunity cost. How many CEO’s leading public companies have no concept of the worth of what is often the most important arrow in the capital allocation quiver? The arrow is the value of their own company’s shares. Mr. Buffett’s record using Berkshire’s shares as currency is masterful. Know when an asset is cheap and when it’s dear. The record is seen in the history of using Berkshire’s expensive shares in acquisitions on one hand and repurchasing them when cheap on the other.

On the acquisition front, Berkshire acquired twelve companies using its shares entirely or combined with cash. Eleven of those deals were done with Berkshire’s shares trading for more than its book value (only Diversified Retailing bought in 1977 was below – and disappointingly used not an insignificant number).

The most profligate use of the Berkshire’s shares as currency took place from 1993 to 2002 at times when the stock traded for more than 150% of book value. Five of those deals saw Berkshire spend stock north of twice book. The largest use of Berkshire’s shares in an acquisition took place in 1998 when Berkshire bought General Reinsurance. Berkshire’s shares in that seminal transaction fetched almost 300% of book value. The acquisition allowed Berkshire to pivot away from an expensive stock portfolio into what are now its vast utility, energy and railroad holdings.

The last time Berkshire used shares to finance an acquisition was in the purchase of BNSF, a deal done with cash and a lesser amount of shares trading for close to 140% of book value. It also issued its B shares to the public in in 1996 at nearly twice book value. The motivation behind the B share issuance was not to sell expensive shares but to head off an attempt by promoters proposing selling fractional Berkshire unit trust shares to the public for a large annual fee. They did happen to trade for nearly twice book value at the time, but came with the sober warning on page one of the offering document:

WARREN BUFFETT, AS BERKSHIRE’S CHAIRMAN, AND CHARLES MUNGER, AS BERKSHIRE’S VICE CHAIRMAN, WANT YOU TO KNOW THE FOLLOWING (AND URGE YOU TO IGNORE ANYONE TELLING YOU THAT THESE STATEMENTS ARE “BOILERPLATE” OR UNIMPORTANT):

1. Mr. Buffett and Mr. Munger believe that Berkshire’s Class A Common Stock is not undervalued at the market price stated above. Neither Mr. Buffett nor Mr. Munger would currently buy Berkshire shares at that price, nor would they recommend that their families or friends do so.

2. Berkshire’s historical rate of growth in per-share book value is NOT indicative of possible future growth. Because of the large size of Berkshire’s capital base (approximately $17 billion at December 31, 1995), Berkshire’s book value per share cannot increase in the future at a rate even close to its past rate.

3. In recent years the market price of Berkshire shares has increased at a rate exceeding the growth in per-sha intrinsic value. Market overperformance of that kind cannot persist indefinitely. Inevitably, there will also occur periods of underperformance, perhaps substantial in degree.

4. Berkshire has attempted to assess the current demand for Class B shares and has tailored the size of this offering to fully satisfy that demand. Therefore, buyers hoping to capture quick profits are almost certain to be disappointed. Shares should be purchased only by investors who expect to remain holders for many years.

This is not the language of the SPAC S-1 or the offering document for “at-the-money” Tesla equity sales (oh wait, there is no document).

You can read the entire letter here:

Semper Augustus 2020 Letter To Clients

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