Buffet message is 'do as I say, not as I do'
The last few years have been a struggle for investors in Berkshire Hathaway. Since the March 2009 market low, the Standard & Poor’s 500 Index has risen 80 percent compared with 44 percent for Berkshire, even though crashing stock prices and unprecedented volatility perfectly suited Warren Buffett’s investing style.
Now Berkshire stock hovers at about a 10 percent premium to the company’s estimated $110,000 per-share book value at March 31, 2012, (assuming the overall book value increases in a rising stock market by about $10 billion this quarter) and perhaps below a liquidation price. In essence, the market is placing no value on Berkshire’s prospects.
I believe two basic problems have brought Berkshire to this pass. First, Buffett’s investing record has been underwhelming for the past few years, except for special opportunities linked to his own reputation and relationships. Second, Buffett has lost stature because of the way he uses his role as a public figure. And both of these situations will be difficult to reverse.
As he has for years, Buffett wrote in his most recent shareholders’ letter, covering 2011 results, that he’s not going anywhere any time soon. This used to give investors comfort; now it has them disconcerted. Buffett also wrote that his unnamed successor will take over “when a transfer of responsibilities is required.” Unless Buffett dies suddenly, this begs the question, “required by whom?” to which the answer is: Berkshire’s board. If the board handles its responsibilities well, then Berkshire stock, already cheap at $122,115, will turn out to be an even bigger bargain with hindsight.
During the financial crisis, Buffett cut some very sweet deals that made billions for Berkshire. He bought preferred stock from Goldman Sachs, General Electric, Dow Chemical, Wrigley (to finance its sale to Mars), Swiss Reinsurance and later, Bank of America. He also made a deal to reinsure 20 percent of capital-starved Swiss Re’s business. He bought Burlington Northern Santa Fe, which investors applauded as a savvy move.
These, unlike stock purchases, were classic “only Buffett” maneuvers, which arose partly from his relationships and reputation — bringing home how dependent Berkshire was on Buffett’s deal-making ability at this crucial time.
Meanwhile, many of Buffett’s major stock picks for the past five years, such as Johnson & Johnson, Kraft Foods, ConocoPhillips and Wal-Mart, have been lackluster.
It used to be an “aha” moment when a Buffett stock pick was revealed — his 1980s buy of Coca-Cola caused such a sensation that trading in the stock had to be stopped. But the recent $10.8 billion IBM purchase got only a yawn. The impression is that Buffett no longer buys based on the brilliant insights of yore, but rather, chooses conservative mega-cap stocks when they appear to be moderately priced bets.
Chances are that most of the stocks will work out OK, and that Buffett’s new asset managers — Todd Combs and Ted Weschler — will gradually take on more responsibility and add value. For several years, though, it would have been better to passively invest your money in an index fund than to buy Berkshire shares, which has restrained investors from wanting to pay much more than book value for the stock.
Berkshire’s poor performance has meant something else — that Buffett’s worst investing decision was to not repurchase Berkshire’s own stock sooner than September 2011, when he finally agreed to buy back company shares. Since then, the pace of repurchases has been a crawl. Yet Buffett has been table- pounding investors to buy Berkshire because, he says, it is significantly undervalued. He praised Jamie Dimon for buying back JPMorgan Chase stock. And he criticized the late Steve Jobs for not having taken his advice to buy back Apple stock when it was undervalued.
Overhanging Buffett’s public role in the past few years is the way Berkshire’s financial interests shaped his public statements. At a time of crisis, Buffett had the opportunity to put a capstone on his career as one of the greatest business statesmen in history. Instead, his stature is diminished. To wit: Buffett struggled to reconcile Berkshire’s sale of derivatives linked to market indices with his longtime criticism of leverage from derivatives, which was perceived as hairsplitting.
He often criticizes Wall Street yet defended Berkshire investments in Goldman Sachs and Moody’s before the Financial Crisis Inquiry Commission. He praised other banks that made bad mortgage bets, such as Bank of America and Wells Fargo. He attacked Irene Rosenfeld, the chief executive officer of Kraft, for, in his view, overpaying for Cadbury, literally at the same time that Berkshire, by his own admission, was paying a high price for Burlington Northern. Recently, Buffett took his audience aback by criticizing those who have lost homes to foreclosure, saying they victimized banks (that Berkshire has invested in) by profiting from earlier refinancing at cheap rates.
Another example of the statesman missing the mark took place on Oct. 17, 2008, when Buffett wrote a New York Times op- ed urging investors to buy American stocks, as he was. For decades, Buffett had avoided making market calls that required short-term timing of the market. This one was especially risky, coming only a month after Lehman Brothers had filed for bankruptcy and while the global economy was in a frightening tailspin.
To his credit, Buffett was trying to boost public confidence in the markets. At the time, though, Berkshire was selling far more equities from its portfolio than it was buying, including large stakes in Johnson & Johnson, ConocoPhillips and Procter & Gamble Co.
Buffett later wrote that he would have preferred to keep those shares, which were sold to fund the GE, Goldman and other special deals. But investors who jumped into the market on his advice would have waited another nine months just to break even. They would have missed the market’s bottom in March 2009 — the greatest buying opportunity in decades. Nor did investors have a way to participate directly in the special “buy American” deals Berkshire was getting.
The 2008 Berkshire stock sales were the beginning of a $10 billion-plus selling streak that continued through the end of 2010, when Buffett announced his “all-in bet on America” through the purchase of Burlington Northern. Because of the contrast between Buffett’s bullishness on stocks and the way he was putting Berkshire’s own money to work, Buffett appeared to be “talking his book” to pump up Berkshire’s value and his patriotic persona.
Now, Buffett is stumping for President Obama and has made himself the poster boy for higher taxes on corporations and the wealthy, even while Berkshire has lobbied for tax breaks and is battling the IRS on tax assessments at its NetJets Inc. operation.
Buffett’s opinion on taxes is not new — many people agree with it — and he has every right to express it. Yet he is a huge beneficiary of low tax rates, which has spurred a torrent of hypocrisy charges. Buffett’s ubiquitous presence and inclination toward stunts hasn’t helped. It made international news when his secretary sat with Michelle Obama at the State of the Union address. Lately, he has switched to using his housekeeper’s taxes as his foil.
Senior business leaders are so incensed about Buffett’s visibility on taxes that it appears he is losing the support of a key constituency that was receptive to his broader and, arguably more important, ideas on capital management, philanthropy and corporate governance. Presumably, the Republicans are sharpening arrows to let fly at Buffett come this fall, which may further damage his credibility.
If Buffett wants to be a player in politics, he’s got every right. But it would be a shame if he forgot that his main legacy is Berkshire Hathaway. His lasting impact will come from focusing on the company and ensuring that the succession process takes places gracefully. That requires more than simply choosing a person. The transition of responsibilities also must be wisely managed.
There are many ways to execute this, and changes may be taking place already that aren’t visible. The stock price is sending a quiet signal that shareholders will welcome any news that lets them put a higher value on Berkshire’s future. Some shareholders are growing publicly restive. The AFL-CIO Reserve Fund submitted a proposal for a shareholder vote in May seeking more transparency about Buffett’s successors and regular updates to ensure the process will be board-driven.
Ultimately, it is Berkshire’s board that bears the fiduciary responsibility. For its members, this transition requires navigating one of the greatest governance challenges in business. The board holds Berkshire’s value — and Buffett’s legacy — in its hands.
Schroeder, the author of “The Snowball: Warren Buffett and the Business of Life” and formerly a top-ranked insurance analyst on Wall Street, is a Bloomberg View columnist.