Risks and Rewards of Berkshire Hathaway

Warren Buffett built Berkshire Hathaway, Inc. (BRK.A, BRK.B) into one of the most recognizable companies in the world. Despite Berkshire’s phenomenal success, the company carries risks for investors. These risks include the choice of a successor who will take over the management of the company after warren buffet no longer holds the positions of Chairman and Chief Executive Officer.

There is also the danger of a credit demote and the possibility that government regulators will designate this juggernaut as a systemically important company for the US economy.

Key points to remember

  • Berkshire Hathaway is a massive holding company, still headed by famed investor Warren Buffett.
  • He owns a variety of well-known private companies, such as GEICO, and also holds minority stakes in public companies, such as Apple.
  • The risks of being an investor in Berkshire include issues of regulatory challenges and being a conglomerate, as well as the performance of successors when Warren Buffett retires or dies.

How Warren Buffett made Berkshire a winner

Berkshire’s beginnings

Berkshire Hathaway was once a failing textile company when Buffett bought it in 1964 and began to grow it into the lucrative behemoth it is today, with a market capitalization of around $660 billion as of August 2022 and ranks among the Top 10 of all US companies by cap market. Great conglomerate is involved in a wide range of businesses. Its subsidiaries are as varied as Dairy Queen, BNSF Railway and Helzberg Diamonds.

Yet the heart of the Berkshire empire is insurance. The company has ranges of property, accident and reinsurance. Its brand names in the space include Geico, National Indemnity and Applied Underwriters.

From this foundation of insurance, Buffett built Berkshire over the years with small and large acquisitions. The company now has interests in everything from railroads and energy to cowboy boots and furniture.

Those who risked investing in Berkshire early on have reaped huge rewards. Berkshire Class A shares sold for a mere $9,500 in mid-August 1992. Twenty years later, they were trading around $450,000. Buffett doesn’t believe in Inventory breakdownsaying he don’t want a short term speculators jump to enjoy the action. Yet small investors can afford Class B shares which were trading at around $300 per share in early August 2022.

The issue of succession

One of the main risks for Berkshire is the likelihood that anyone can match Buffett’s success. Buffett is still going strong at 90 as of this writing, having led the company for more than 50 years. Yet he and his 97-year-old lieutenant Charlie Munger, vice-president of Berkshire, are not immortal. Buffett and Munger discussed the succession plan in their famous letters to shareholders.

Several names have circulated over the years. But on May 1, 2021, at the annual shareholder meeting, Charlie Munger made an offhand remark that Warren Buffett would be successful as CEO by Greg Abel when Buffett eventually quit. Abel is CEO of Berkshire Hathaway Energy and vice president of non-insurance operations.

In an interview with CNBC published on Monday, May 3, 2021, Buffett confirmed the news, “The directors agree that if anything were to happen to me tonight, it would be Greg who would take over tomorrow morning.” Buffett also revealed that 69-year-old vice president of insurance operations Ajit Jain is next behind Abel.

Munger’s 2015 letter noted that Greg Abel and Ajit Jain were both world-class CEOs. But Abel is younger and perhaps more used to being in the spotlight, which is probably why he’s the heir apparent.

Two other executives who are likely to play an important role in the management of Berkshire: Ted Westchler and Todd Combs, portfolio managers who share responsibility for Berkshire’s vast portfolio. Westchler met Buffett while winning charity auction for lunch with Oracle of Omaha for $5 million. He previously led the hedge fund Peninsula Capital Advisors. Buffett and Weschler became friends over the next few years, and Buffett eventually brought Weschler to Berkshire. Combs was also a hedge fund manager when he joined Berkshire in 2010. Weschler and Combs changed Buffett’s perspective to some degree. Buffett has never invested in technology stocks until 2011, when he spent about $10 billion on IBM stock.

Credit deterioration risk

A more pressing issue is Berkshire’s debt downgrade risks. In August 2015, S&P, the major credit rating agency, reported that it was placing Berkshire on the negative watch list due to uncertainty surrounding its acquisition of Precision Castparts Corp. As of December 2016, Berkshire held an AA credit rating after formally acquiring the company earlier that year. In late 2017, S&P announced that Berkshire no longer faced downgrade risk.

The agency has also already downgraded Berkshire twice. He downgraded the company in 2010 when Berkshire bought BNSF Railway, and then again in 2013 as it changed its standards for rating insurance companies.

Berkshire Hathaway recent performance

Berkshire recorded total revenue of $276 billion in 2021 (compared to $245.5 billion in 2020), with net income of $89.8 billion (up significantly from 2020).

The large shortfall in 2020 was primarily due to lower earnings across most of Berkshire’s business segments, which were impacted by the global COVID19 pandemic. This was partially offset by a $40.7 billion pre-tax and non-controlling interest gain in the company’s large equity portfolio. As changes made to GAAP in 2018, the company is required to include unrealized gains and losses from changes in its investment portfolio in its reported results. This accounting change contributes to making earnings much more volatile than they otherwise would be.

Regulatory challenges

It doesn’t pay to be too important to the US economy. Another risk is whether government regulators will define Berkshire as systemically important. The designation requires companies to submit to Federal Reserve oversight. It is accompanied by reinforced capital restrictions and liquidity terms.

These onerous requirements could make future growth and profitability more difficult and could harm the company’s prospects. It is not out of the question in this case. The bank of england asked US regulators why Berkshire was not on this list in 2015.

Buffett argued that Berkshire shouldn’t be slapped with that designation. He said he’s committed to keeping a $20 billion cash cushion at Berkshire.

Significantly, Berkshire was able to stay strong during the 2008 financial crisis. The company has even provided short-term aid and cash to other businesses, including Goldman SachsGeneral Electric and Harley Davidson, during the crisis. Thus, history has proven Berkshire’s ability to weather financial storms.

Nonetheless, the government has placed the systemically important designation on other major insurance companies, including AIG, Prudential and MetLife. Berkshire is undoubtedly one of the largest insurance companies in the world and is exposed to major catastrophic events. The 9/11 terrorist attacks and Hurricane Katrina cost Berkshire billions.

Berkshire Hathaway could be exposed to significant climate risk, as it has not performed well on various ESG measures. Warren Buffett has also pushed back against investors who want to force Berkshire Hathaway to do more to reduce greenhouse gas emissions.

What is Berkshire Hathaway’s largest holding?

Berkshire Hathaway’s largest stake is held by Apple, Inc. The company owned over $161 billion of AAPL in 2021 (or 5.6% of the company).

Why isn’t Berkshire Hathaway paying dividends?

Although a large, mature and stable company, Berkshire Hathaway does not pay dividends to its investors. Instead, the company chooses to reinvest retained earnings in new projects, investments and acquisitions. In fact, the company only paid out one dividend, in 1967, and Buffett later joked that he must have been in the bathroom when the decision was made.

Who is Warren Buffet?

Warren Buffett is a well-known business owner and investor. He is renowned not only for the stunning success of Berkshire Hathaway, the holding company he has headed since 1964. Buffett is also famous for his winning approach to investing, which has created great wealth for many shareholders. His frugal lifestyle, despite being one of the wealthiest individuals in the world, and laid-back manner won him fans across the globe.

The essential

Berkshire is different from those other companies that primarily operate in the insurance business. It is much more broadly diversified in its trades. The official standard is that the company must have 85% or more of its consolidated assets coming from financial activities. Many of Berkshire’s recent acquisitions have come from outside the financial realm. Thus, it is questionable whether Berkshire meets this requirement.

Yet the threat of this designation is very real, as it could damage Berkshire’s future. share price and its ability to grow.

Berkshire is clearly considering the issue of succession, which should allay some investor fears. The big question is whether the portfolio managers and CEO will be able to match Buffett’s performance.

Buffett is undoubtedly a business genius on many levels. There “Premium buffet“is the idea that Buffett’s reputation and business acumen add value to Berkshire and the companies in which it invests. Only time will tell what will happen with the Berkshire Empire after Buffett and Munger are gone.

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