Besides news about tariffs, one of the bigger storylines in the financial world as of late has to do with Warren Buffett stepping down as CEO of Berkshire Hathaway at the end of the year.
While his resignation came as a shocker for most, tapping Greg Abel as his successor wasn't much of a surprise. Still, the big question on everyone's mind right now revolves around what Berkshire may look like in a post-Buffett era.
With a mind-boggling $348 billion of cash and short-term investments on Berkshire's balance sheet, Abel and his team will have a profound level of financial flexibility. I'll break down why I think SoFi Technologies (SOFI -2.99%) could be the first major purchase Berkshire makes once Abel takes over as CEO.
Financial services are a cornerstone of Berkshire's portfolio
Two of Buffett's top investment criteria include steady, predictable growth and positive cash flow. The financial services industry is perhaps one of the best ways to achieve both of these parameters. For this reason, Buffett loves investing in banks and insurance. Some of Berkshire's notable positions in the financial sector include American Express, Bank of America, Moody's, Chubb, Visa, and Mastercard.
Admittedly, the majority of these companies are much larger compared to where SoFi is today. Moreover, most of these companies have brand moats -- providing them with strong customer loyalty and positions of dominance in their respective pocket of the broader financial services realm.
Nevertheless, I see SoFi as a strong candidate as a potential Berkshire investment. Similar to many of the companies referenced above, SoFi offers a variety of lending, investing, and insurance products. This model has helped SoFi build a one-stop-shop ecosystem supporting a variety of financial needs. And if there's one thing Buffett loves in addition to predictable cash flow, it's diversification.
Image source: Getty Images.
Won't SoFi's valuation be a problem for Berkshire?
Another one of Buffett's investment philosophies is rooted in not paying a premium, even for a quality business. Over the last couple of years, the S&P 500 and Nasdaq Composite have experienced unprecedented runs -- thanks primarily to the artificial intelligence (AI) revolution. But while many of Buffett's cohorts were hitting the buy button repeatedly, Berkshire was actually selling stock in droves -- trimming many of its core positions, including Apple. The reason was simple: Buffett doesn't chase lofty valuations, even in quality growth stocks.
While that strategy has clearly paid off for Buffett, I think Abel and top Berkshire lieutenants Todd Combs and Ted Weschler will be more open-minded when it comes to valuation. When you look at the price-to-earnings (P/E) ratio and price-to-book (P/B) value for SoFi, it's clear the stock is far from cheap -- especially for a bank stock.
SOFI PE Ratio data by YCharts
With that said, more mature banks such as Bank of America or Wells Fargo boast lower P/B multiples compared to SoFi, given their maturity as a business. In other words, it's normal for growth stocks to command premiums earlier in their life cycle and then witness normalization in valuation multiples over time as the business matures.
SoFi's tech-enabled model will be more accepted in the post-Buffett era. Here's why.
One of Berkshire's smaller positions includes Amazon. SoFi CEO Anthony Noto has previously explained that his vision is to build the banking platform into the "AWS of fintech." AWS is Amazon's cloud infrastructure business, which generates over $100 billion in annual revenue and is responsible for a majority of the company's operating profits.
Unlike traditional executives, Noto brings a unique combination of investment banking and operational expertise to SoFi. Prior to SoFi, Noto was a partner at Goldman Sachs and previously served as CFO for the National Football League (NFL) and Twitter. I think this experience will sit particularly well with Abel, who himself is more of an operator as opposed to a typical stock-picking money manager.
Noto has helped transform SoFi into an end-to-end financial services platform through both acquisitions and building an ecosystem that keeps customers loyal and sticky. Over time, these positive unit economics have turned SoFi into a consistently profitable business.
In addition to Amazon, Berkshire also previously held a small position in fintech company Nu Holdings. Nu is a comparable business to that of SoFi -- with the primary difference being that it focuses primarily on the banking sector in Latin America.
While Berkshire has exited its position Nu Holdings and Amazon is less a prominent position in the portfolio, I think the post-Buffett era will feature more flexibility when it comes to high-quality businesses disrupting industries that Buffett himself may have been less comfortable exploring. Another way of looking at it is that I think Berkshire will be less dialed in over traditional earnings-based multiples in select circumstances and be more willing to consider pricier growth stocks.
In a way, investors have already gotten a glimpse of this when Berkshire decided to take a position in high-flying AI stock Snowflake prior to its IPO. Notably, Berkshire exited its position in Snowflake after a couple of years -- as the company was late to the game in capitalizing on AI tailwinds.
I see SoFi as an interesting combination of what Nu Holdings represents in banking and what AWS has achieved in the world of tech-enabled services. For these reasons, I predict that Berkshire will make a splash and broaden its traditional strategy in financial services by initiating a position in SoFi stock.
