Plenty of value investors want to find the next Berkshire Hathaway. The company taken over by legendary investor Warren Buffett 60 years ago has put up phenomenal returns for shareholders since he bought shares of the textile mill at a price of $7.50 and turned it into a sprawling investing conglomerate. Today, the company's publicly traded Class A shares go for about $462,000, roughly 62,000 times his original purchase price. This means if you put just $100 into Berkshire Hathaway at the same time as Buffett it would be worth $6.2 million today. That is some life-changing wealth creation for people who held shares for the long haul.
There are plenty of businesses that claim to be the next Berkshire Hathaway. My best candidate is small-cap conglomerate in Nebraska (as is Berkshire) called Nelnet (NNI -1.19%), a business with a consistent track record of creating value for shareholders. Here's why the stock belongs in your portfolio today.
Nelnet: A Berkshire Hathaway clone going its own way
Founded in the 1990s, Nelnet is a diversified company focused on the financial and lending sector. It went public in 2004 when it was still mainly an originator of student loans. Since then, it has expanded and become a full-fledged conglomerate and has a great track record to show for it. Book value per share, including dividends (a standard metric for valuing a financial stock), compounded by 17.2% a year from 2004 to 2021, outpacing the 10.6% total return for the S&P 500 over that same time frame. This isn't quite as good as the 20.1% compound growth Berkshire Hathaway put up, but it's close.
The management and ownership structure at Nelnet is similar to Berkshire Hathaway's. Nelnet founder Michael Dunlap is still the chairman of the board and is an active participant in the company's vision and direction. He owns 42% of Nelnet's share outstanding and has majority voting power, giving him firm control of the stock, similar to Buffett. With the track record of book-value-per-share growth since 2004, investors should hope that Dunlap and the rest of the executive team stay at Nelnet for many more years.
The loan book provides reliable cash flow
Nelnet's largest asset today is its student loan portfolio, which is estimated to generate $1.66 billion in government-protected cash flow over the next decade or longer, including more than $200 million in each of the next three years.
This loan book provides the cash flow that Nelnet uses to invest in other assets. Given the reliability of student loan payments and the government's protection from defaults, the cash flow from these student loans is highly predictable. However, one thing shareholders should note is that Nelnet and other private lenders were barred from originating new student loans after the government decided to take the process in-house in 2011. This does not affect the value of Nelnet's existing loan book, but means it is a slowly melting ice cube that will disappear eventually.
Luckily, Nelnet has been investing in other valuable assets and businesses to replace the cash flow from these student loans.
Other assets provide optionality
There are a few important segments of this business that will drive value for shareholders after the student loan book disappears. First, it operates a software and payments processing business for private school and college administration departments. This segment has grown steadily over the last decade, generating $107 million in revenue and $18.6 million in operating income last quarter. If it keeps up its long-term growth rate, the unit will be producing more than $100 million in annual profit within a few years.
Second, Nelnet has started up a private bank, Nelnet Bank, that does student loan refinancing and private student loans. The bank was only chartered in late 2020, so it is still in its early days, but all signs show this growing into a sizable portion of Nelnet's business within a few years. Last quarter, net interest income after loan losses (a standard profitability metric for a bank) was $3.8 million, up from $1.75 million a year prior.
Lastly, Nelnet has made numerous investments in real estate, venture capital, and solar energy over the past 10 years -- $1.45 billion since 2013 to be exact, and a whopping $726 million in 2021 alone. These are mainly early-stage investments held at cost and are valued at $2.06 billion on Nelnet's balance sheet.
As of this writing, Nelnet has a market cap of $3.6 billion, which almost exactly equals the book value of its investments and the cash that will be generated by its student loan portfolio. From where I stand, this means at today's prices you get Nelnet's education software and payments processing business and Nelnet Bank for free. For a company that has a history of increasing book value at an above-market rate, Nelnet stock looks like an easy buy at these levels.
