Source: Barron's
Author: Andrew Barry

As always, Warren Buffett (Warren Buffett) will$Berkshire Hathaway-A (BRK.A.US)$/$Berkshire Hathaway-B (BRK.B.US)$He became a central figure at the annual shareholders' meeting. However, more and more investors are looking for clues about what Berkshire will become after this long-time CEO and chairman no longer heads the company.

When the world's most acclaimed investor exits the stage, Berkshire could face pressure to split. It may decide to pay dividends instead of accumulating cash waiting for investment opportunities like Buffett, 93. Buffett is likely to face all of these issues and more at the May 4 Annual Shareholders' Meeting in Omaha, Nebraska.

Buffett's old friend, business partner and Berkshire vice chairman Charlie Munger (Charlie Munger), died last year at the age of 99. Munger's absence only reinforces an obvious fact: Buffett's time at the helm of the corporate group he built over 60 years may be over in the next few years. Even Buffett himself acknowledged this. He wrote in November of last year that he felt “great” but was “playing in extra innings” (playing in extra innings).

For the approximately 30,000 Berkshire shareholders attending this year's shareholders' meeting, the future will be the focus, as Buffett will answer questions for more than five hours at the meeting, which is probably his only public appearance this year. Vice Chairman Greg Abel (Greg Abel), 61, and Vice Chairman Ajit Jain (Ajit Jain), 72, will attend the conference with Buffett. Abell may succeed Buffett as CEO, and Jain is responsible for the company's insurance business. Together they'll answer questions big and small: Can the stock outperform the S&P 500? Why have share repurchases declined since 2021? Can the company's new management prove they are as competent as Buffett? Should Berkshire split?

But in reality, everyone will focus on the same thing.

Cathy Seifert (Cathy Seifert), an analyst at CFRA Research Institute, said: “Whether acknowledged or not, succession is an investor's biggest concern.”

Pass the torch

Here are Berkshire's key managers and where they might go in the future.

Berkshire is unique. Since Buffett took over the struggling textile manufacturer in 1965 and turned it into the world's largest conglomerate, the company has performed excellently, with nearly 400,000 employees and a US-based business that is one of the best interpretations of the health of the economy. Some of its largest subsidiaries are Burlington Northern Santa Fe Railroad (Burlington Northern Santa Fe Railroad); Berkshire Hathaway Energy (Berkshire Hathaway Energy), which operates an interstate electric utility company and is one of the largest green energy producers in the US; and the world's largest property and accident insurance companies, including Geico, the third-largest auto insurance company.

There are also smaller subsidiaries, such as NetJets, a leader in private jet travel; top housing developer Clayton Homes (Clayton Homes); Benjamin Moore paints (Benjamin Moore paints); DQ Ice Cream (Dairy Queen); and one of the largest real estate brokerage agencies in the US. In addition, it also has a stock portfolio of 360 billion US dollars.$Apple (AAPL.US)$It is the largest stock, accounting for about 40% of Berkshire Hathaway's total holdings. There's also what Buffett called a strong balance sheet (balance sheet) like Fort Knox (Fort Knox, America's largest treasury), which has nearly 170 billion US dollars in cash and equivalents.

Berkshire does business differently from other corporate groups. Buffett handed over the key decision-making power of the subsidiaries to the managers of each company, which was an unusual form of decentralization. “We have almost given up our power,” he wrote in a 2017 Berkshire letter to shareholders. The Berkshire headquarters has only 26 employees and no legal advisors, investor relations, or public relations personnel.

Berkshire's unusual business strategy has worked. The company expects to generate $40 billion in after-tax operating profit this year, with a market capitalization of $880 billion, ranking 7th in total market capitalization. Since Buffett took over in 1965, the company's Class A shares have risen from $20 to over $600,000 per share (there was no stock split in the process), and shareholders who bought Class B shares in 1996 have also seen the stock price increase 20 times. Berkshire Class B shares are one of the most widely held stocks by individual investors, with a total of about 3 million investors. There is probably no other company that can inspire the enthusiasm and loyalty of investors as much as Berkshire, and large institutional investors have never enjoyed Berkshire shares as much as individual investors.

Outperforming the market is getting harder

Berkshire's stock price has outperformed the S&P 500 since 1965, but has remained roughly the same as the index for the past 20 years.

But once Buffett is no longer in charge of Berkshire, will these investors continue to support Berkshire in this way? Buffett is so important in Berkshire that four or five people will jointly take over the role he played until 2018. He entrusted Berkshire's non-insurance business to Abell and the insurance business to Jahn.

Abell will be CEO, overseeing Berkshire's many businesses and possibly deciding capital allocation. This is a key role Buffett has performed well in Berkshire for nearly 60 years. This means deciding whether to use the proceeds to buy back shares, pay dividends, accumulate cash, or make acquisitions. Jahn is likely to continue as head of the insurance business, while Buffett's oldest son, Howard, a 69-year-old farmer and philanthropist, may serve as non-executive chairman.

There are also 53-year-old Todd Combs (Todd Combs) and 61-year-old Ted Weschler (Ted Weschler), who currently manage about 10% of Berkshire's stock investment and will likely manage the entire Berkshire portfolio. Berkshire did not disclose which stocks in the portfolio are managed by Todd Coombs and Ted Wechler, but Berkshire observers believe that many stocks with smaller holdings (less than $4 billion) are invested by both of them.

These companies include$Charter Communications (CHTR.US)$,$DaVita (DVA.US)$,$Liberty SiriusXM Series A (LSXMA.US)$,$Amazon (AMZN.US)$,$Snowflake (SNOW.US)$,$Visa (V.US)$und$MasterCard (MA.US)$. Buffett hasn't commented on their performance compared to the market since 2019. In 2019, Buffett said that Todd and Ted's performance has lagged slightly behind the market since they joined Berkshire for more than 10 years. Given recent rumors that some of their stocks have not performed well, we estimate that both of them may have lagged behind the market since they took office.

Bill Smead (Bill Smead), head of Smead Value Fund (Smead Value Fund) and investment manager, wanted to hear Todd and Ted's response. He said, “Never introducing Todd and Ted was an unforgivable mistake. If Buffett dies tomorrow, they will be Berkshire stock selectors, but they have never answered or been asked any questions at the shareholders' meeting.”

Todd Coombs is a key member of Berkshire and may be Abel's replacement candidate as Buffett's successor, or Abell's potential successor as CEO. Todd Combs has a good relationship with Buffett. He has experience outside of investing. He has been the CEO of insurance company Geico for the past four years and a board member of JPMorgan Chase (JPMorgan Chase). One of the candidates to replace Jahn as head of the insurance business is Joe Brandon (Joe Brandon), who runs Alleghany, an insurance company acquired by Berkshire in 2022.

A company like no other

Berkshire is active in everything from insurance to railroads, not to mention investing.

Buffett's three children, Howard, Susan, and Peter, will become heirs after Buffett's death because they will oversee a charitable trust fund that will hold 15% of Buffett's current shares in Berkshire and have more than 30% of voting rights, because almost all of them are Class A shares with super voting rights. Buffett's shares will enable the children to exercise considerable power for at least a few years, as the trust fund will be liquidated in about 10 years.

Although Buffett acknowledged that his pace has slowed in recent years, his performance at the 2023 shareholders' meeting was still very agile. He spoke for five hours and had a drink$Coca-Cola (KO.US)$, I ate a piece of peanut candy from Happy Sweets. Both past and present, he has shown strong accusatory power over Berkshire, the economy, and financial markets. He's the last one. Three years ago, Berkshire had four directors who were over 90 — all old friends of Buffett — but they all died: Munger, David “Sandy” Gottesman (David “Sandy” Gottesman), Tom Murphy (Tom Murphy), and Walter Scott (Walter Scott). Smid said that without the outspoken Munger by his side, Buffett might be more restrained at this year's shareholders' meeting.

But that doesn't stop investors from asking him all kinds of questions — how long can you expect to manage Berkshire? Does the slowdown in Berkshire share repurchases indicate what you think about this stock? Lags behind rival insurers in terms of auto insurance market share and technology$Progressive (PGR.US)$Can Geico catch up? Will Berkshire abandon its utility companies in the western US and let them go bankrupt in the face of wildfire debt? Do you think it makes sense to pay dividends after you've left?

Buffett said he expected to run into difficult problems. “It's the way we like it,” he wrote earlier this year.

Ted Bridges (Ted Bridges), CEO of Omaha Investment Management Company Bridges Trust, said: “At some point in time, there will be more discussions about the possibility of paying dividends.” Buffett acknowledged that considering higher valuations, it is now difficult to buy publicly traded and privately owned businesses. At the same time, Berkshire's refusal to participate in corporate bidding also caused difficulties for itself. The dividend issue has aroused the enthusiasm of many individual Berkshire shareholders, who don't want dividends partly for tax reasons.

Mentioned or not, an important question is what will happen to Berkshire's stock when Buffett steps down or dies? The stock price may suffer a loss of 5% to 10% due to long-term investors cashing out and worrying that Buffett's magic will disappear. However, Buffett once said that he believes Berkshire's stock price will rise immediately the day after his death because investors expect the company to be spun off to increase value.

The split is certainly justifiable. In recent years, with the spin-off of enterprise groups such as General Electric (General Electric) and United Technologies (United Technologies), enterprise groups have fallen out of favor, and in this context, Berkshire has become the largest enterprise group in the world.

Bloomberg statistics show that although Buffett has a keen investment mentality and business wisdom, judging from the total return over the past 10 and 20 years, Berkshire shares are basically the same as the S&P 500 index. Over the past 10 years, Berkshire's annualized return was 12.4%, while the S&P 500 had an annualized return of 12.5%. Buffett once said that Berkshire needs to continue to outperform the S&P 500 over time, otherwise investors should consider looking elsewhere.

All of these outstanding performances occurred in the first 40 years that Buffett took the helm. At the time, Berkshire company was still small. Buffett had a particularly strong sense of investment and bought it at a low price$Coca-Cola (KO.US)$und$American Express (AXP.US)$A large number of shares in other companies. And the scale of management is also an important obstacle to achieving huge returns.

Buffett hasn't had many new successful investment stories in the past ten years. The company's biggest acquisition — a $33 billion investment in 2016 to acquire aircraft and industrial parts manufacturer Precision Castparts — has failed. Buffett also made some mistakes in the stock market. In 2020 and 2021, he sold a number of financial stocks, including Wells Fargo and J.P. Morgan Chase, at about half the current price. Of course, Berkshire's Apple shares are a huge success. They are now worth more than 150 billion US dollars, and the original cost of buying Apple was about 30 billion US dollars. But the tech giant didn't have a good time in 2024, and its stock price has dropped more than 10% so far this year.

Even after Buffett's departure, Berkshire's stock looks likely to catch up with or surpass the S&P 500. The stock now looks very attractive. The current valuation is 1.5 times its estimated book value of nearly $400,000 per Class A share on March 31, and 22 times its expected earnings for 2024 (Berkshire will announce first-quarter results on May 4). Compared to the average valuation of 1.4 times book value over the past 5 years, Berkshire's current stock price is slightly more expensive. The stock has outperformed the market this year and the past five years.

Book value is an old-fashioned valuation measure, but it's still important for Berkshire because it has a huge insurance business — insurance companies still value according to book value, and book value has been the company's historical measure since Buffett took charge of Berkshire.

Buffett paid more attention to intrinsic value, but did not reveal his estimate of Berkshire's intrinsic value. Buffett once said that Berkshire's book value is an indicator that is greatly undervalued compared to its intrinsic value, although buying back stocks at current prices will actually reduce book value, thereby weakening the effectiveness of the use of this valuation method to a certain extent.

After Buffett's departure, Berkshire's share price is likely to be supported by a steady increase in earnings and shareholder equity over time. Based on $40 billion in after-tax revenue and earnings from a $360 billion stock portfolio, the company's book value appears capable of achieving high single-digit annual growth rates. If the stock's performance keeps pace with the increase in book value, it could show similar share price growth.

Key data

A good option is to pay dividends within a few years after Buffett's death. why? This will help his successor distribute part of the annual operating profit. Another reason is that without Buffett at the helm, investors wouldn't have tolerated Berkshire holding this much cash (reaching a record $168 billion by the end of 2023).

Christopher Bloomstran (Christopher Bloomstran), chief investment strategist at Semper Augustus Investment Group, wrote earlier this year that Berkshire shares may generate an annualized return of 10% to 11% in the next 10 years, and the annual share repurchases will be in the range of 2% to 3%, higher than the current level of 1% to 1.5%. He believes that the intrinsic value of the stock is about $720,000 per share.

UBS (UBS) analyst Brian Meredith (Brian Meredith) is one of the few Wall Street analysts who are optimistic about Berkshire. He recently raised the target price for Berkshire Class A shares from $715,000 per share to around $722,000. He saw improvements to the Geico and Burlington North Santa Fe Railroad. Given its balance sheet and profitability, Berkshire is one of the most defensive large-cap stocks in the market, and the market sell-off may provide an opportunity for Buffett.

Buffett is adamantly opposed to the spin-off of companies. He believes that the corporate group structure has various characteristics, including being able to quickly take advantage of tax benefits from any major disaster loss from Berkshire's insurance companies. Buffett is confident about the company's future, and he wrote last year: “Berkshire is a growing company.” The company's 14 friendly board members, including Buffett's two children, know Buffett's views very well.

“Berkshire has always operated on a high level of transparency, integrity, long-term value orientation, and management culture. It's managed by the greatest investors in history, and this is it now. As for Berkshire's future, every active investor and investment banker would say that in a world without Warren and Charlie, Berkshire's unconventional corporate structure should not continue, but I think this structure is worth defending.” Investment manager and Berkshire board member Chris Davis (Chris Davis) told Barron's last year.

Regardless of the issues, Berkshire shareholders will enjoy this shareholders' meeting because they know that under Buffett's leadership, there may not be many such opportunities in the future. As for Berkshire shares, many are likely to follow Munger's advice: “You should keep the faith” rather than sell it after he and Buffett have left.

Editor/Somer