Have you ever looked at the stock price of Berkshire Hathaway's Class A shares (BRK.A) and thought, "How on Earth does anyone even value a company that costs over $700,000 per share?" You're not alone. Valuing Berkshire Hathaway is one of the most intriguing and complex puzzles in the world of finance, a true test of a value investor's mettle. It's not a typical company; it's a conglomerate, a holding company that owns a vast collection of businesses and a massive portfolio of public stocks. This post will walk you through a step-by-step guide on how to approach this valuation, drawing upon the wisdom of Warren Buffett himself.
Step 1: Understanding the Two-Headed Beast
Let's begin with the very foundation of Berkshire's structure. Before we even pull out a calculator, we need to understand what you are trying to value. Think of Berkshire Hathaway as a two-headed beast. One head is the collection of operating businesses, and the other is the investment portfolio.
The Operating Businesses: These are the companies that Berkshire Hathaway owns outright, ranging from insurance giants like GEICO and General Re to a railroad (BNSF), energy utilities (Berkshire Hathaway Energy), and a diverse array of manufacturing, retail, and service businesses like See's Candies, Dairy Queen, and Duracell. These businesses generate their own earnings and cash flow.
The Investment Portfolio: This is the famous collection of publicly traded stocks, bonds, and cash that Warren Buffett and his team meticulously manage. The value of this portfolio fluctuates with the market and is a significant part of Berkshire's total value.
Engage with this idea: Imagine you own a giant toolbox. One half of the toolbox is full of working power tools (the operating businesses) that you use to build things and earn money. The other half is filled with valuable, high-quality gold coins and gems (the investment portfolio) that you can sell or trade. To value the whole toolbox, you need to value both the tools and the treasure inside. Ready to dive in?
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| How To Value Berkshire Hathaway |
Step 2: The Sum-of-the-Parts (SOTP) Valuation Method
This is the most widely accepted and logical approach for a conglomerate like Berkshire. The idea is to value each major component of the company separately and then add them all up.
Sub-heading 2.1: Valuing the Investment Portfolio
This is the easiest part of the valuation. Berkshire Hathaway's annual reports and quarterly filings (10-K and 10-Q) with the SEC provide a detailed list of their equity holdings, bonds, and cash.
Identify and List: Go through the latest 10-Q or 10-K report and create a list of all their publicly traded stocks, noting the number of shares held and the current market price of each.
Calculate the Market Value: Multiply the number of shares of each stock by its current market price.
Sum It Up: Add the value of all the stock holdings, along with the cash and cash equivalents, and bond holdings. This gives you the total value of their publicly traded investments. This number can be surprisingly large and is a critical component of the total value.
QuickTip: Go back if you lost the thread.
Sub-heading 2.2: Valuing the Operating Businesses
This is where the valuation becomes more subjective and requires more work. Since these are private companies, they don't have a stock price. You need to use valuation multiples from comparable public companies.
Group the Businesses: Berkshire's operating businesses are often grouped into categories like manufacturing, services, retail, and utilities. You should look at their financial statements to see how they are categorized.
Find Comparable Companies: For each business group, identify publicly traded companies that operate in the same industry. For example, for BNSF, you could look at other major railroads. For their energy business, you could look at other utilities.
Choose the Right Multiple: Select an appropriate valuation multiple for each industry. Common multiples include:
EV/EBITDA (Enterprise Value to Earnings Before Interest, Taxes, Depreciation, and Amortization): Often used for capital-intensive businesses.
P/E (Price-to-Earnings): A common metric, but can be less useful for companies with inconsistent earnings.
P/B (Price-to-Book): Relevant for financial companies like banks or insurance.
Calculate the Operating Value: Apply the chosen multiple to the relevant financial metric (EBITDA, earnings, etc.) of each business group. For example, if you find that a peer group of utilities trades at 10x EBITDA, and Berkshire Hathaway Energy has an EBITDA of $X, its estimated value is $X * 10. Be conservative in your assumptions and use a range of multiples to create a margin of safety.
Add Them Up: Sum the calculated values of all the operating businesses to get the total estimated value of the non-insurance segment.
Sub-heading 2.3: Valuing the "Float" and Insurance Operations
The "float" is a truly unique and powerful aspect of Berkshire Hathaway. Float is the money that insurance companies hold from collected premiums before they pay out claims. This money belongs to the policyholders, but Berkshire gets to hold and invest it in the meantime. Warren Buffett has famously called this a "cost-free" source of capital.
Identify the Float: The total float is listed in the company's financial statements, usually in the liabilities section of the balance sheet.
Assign a Value: Valuing the float is more of an art than a science. Some analysts value it at its face value, while others apply a multiple based on the investment income it generates. Since this is essentially a free loan, you can argue that it should be valued as a percentage of the cash flow it generates for the investment portfolio. A common approach is to value it as a percentage of its face value or to calculate the present value of the future cash flows generated from investing it. This is a crucial and often debated part of the valuation.
Step 3: Putting It All Together and Calculating Intrinsic Value Per Share
Now, it's time to bring all the pieces together.
Total Intrinsic Value: Add the value of the Investment Portfolio, the value of the Operating Businesses, and the value you've assigned to the Float.
Total Intrinsic Value = Value of Investment Portfolio + Value of Operating Businesses + Value of Float
Adjust for Debt: Subtract Berkshire's total debt from the total intrinsic value. This is a critical step, as debt reduces the value available to shareholders.
Divide by Shares Outstanding: Now, divide this final value by the total number of Class A and Class B shares outstanding. Remember that one Class A share is equivalent to 1,500 Class B shares. You need to convert the total shares into a single equivalent class (e.g., Class B equivalent shares) before dividing.
Intrinsic Value per Share = (Total Intrinsic Value - Total Debt) / Total Class A Equivalent Shares Outstanding
Step 4: Applying the Margin of Safety
Warren Buffett's philosophy is rooted in buying a business for less than its intrinsic value. The difference between the intrinsic value and the market price is your margin of safety.
QuickTip: Repeat difficult lines until they’re clear.
If your calculated intrinsic value per share is significantly higher than the current market price of BRK.A or BRK.B, you may have found a buying opportunity.
If your calculated intrinsic value is lower than the market price, it suggests the stock is currently overvalued based on your analysis.
Remember, valuation is not a precise science. It is an estimate. Your assumptions are key. Be conservative, be disciplined, and always do your own due diligence.
10 Related FAQ Subheadings:
How to Calculate the Value of Berkshire Hathaway's Insurance Float?
The float is typically valued by calculating the present value of the investment income it is expected to generate. A common approach is to use a growing perpetuity model, where you estimate the future investment income generated by the float, a growth rate for the float, and a discount rate. A conservative estimate is often made to account for the subjectivity of these assumptions.
How to Account for the Different Share Classes (BRK.A and BRK.B) in Valuation?
To get a per-share value, you must convert all outstanding shares to a single class equivalent. The conversion ratio is 1 Class A share = 1,500 Class B shares. You can either convert all Class A shares to Class B equivalents or vice versa, and then divide the total intrinsic value by that total equivalent share count.
How to Find Berkshire Hathaway's Latest Financial Reports?
Tip: Read aloud to improve understanding.
You can find Berkshire Hathaway's latest annual reports (10-K) and quarterly reports (10-Q) on the official website of the Securities and Exchange Commission (SEC) by searching for their ticker symbols, BRK.A or BRK.B, in the EDGAR database. Their own website also provides links to these filings.
How to Use Warren Buffett's "Two-Column Valuation Method"?
Warren Buffett's simplified valuation method involves two columns: the first for investments (stocks, bonds, and cash), and the second for the earnings power of their operating businesses. You calculate the per-share value of the investments and then apply a reasonable multiple to the earnings of the operating businesses, adding the two figures to arrive at a total intrinsic value per share.
How to Value Private Companies Owned by Berkshire Hathaway?
You can't use market prices for private companies. Instead, you must use a valuation method like comparable company analysis. This involves finding publicly traded companies in the same industry, calculating their valuation multiples (e.g., EV/EBITDA, P/S), and applying the average or median multiple to the corresponding financial metrics of the Berkshire subsidiary.
How to Handle Berkshire Hathaway's Massive Cash Pile in a Valuation?
Berkshire's cash and short-term investments are a direct asset. In a sum-of-the-parts valuation, you simply add the current value of this cash and cash equivalents to the total value of the company's other assets. It's a key component of their balance sheet and a major contributor to their intrinsic value.
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How to Understand the "Economic Moat" When Valuing a Company?
An economic moat is a sustainable competitive advantage that protects a company from competitors and allows it to earn high returns for a long time. When valuing a company, you should consider the strength of its moat. A wider moat justifies a higher valuation multiple or a lower discount rate in your calculations. For Berkshire's subsidiaries like GEICO or BNSF, you can evaluate their brand power, cost advantages, and network effects as sources of their moat.
How to Determine a Fair P/E Ratio for Berkshire Hathaway's Operating Businesses?
To determine a fair P/E ratio, you should look at the P/E ratios of comparable companies in the same industry. You can calculate the median or average P/E of a peer group to get a benchmark. It's important to adjust this multiple based on factors like the company's growth rate, profitability, and risk profile.
How to Adjust for Berkshire Hathaway's Share Buybacks in a Valuation?
Berkshire Hathaway frequently repurchases its own shares when management believes they are trading below intrinsic value. These buybacks reduce the number of outstanding shares, which in turn increases the intrinsic value per share for the remaining shareholders. When performing your valuation, you must use the most recent, accurate number of shares outstanding.
How to Apply a "Margin of Safety" to Your Valuation?
A margin of safety is a discount you apply to your calculated intrinsic value to account for potential errors in your assumptions and unforeseen events. A common approach is to require a certain percentage discount from your estimated intrinsic value before considering a purchase. For instance, if you estimate the intrinsic value at $1,000, you might only consider buying if the market price is $700, providing a 30% margin of safety.
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