Berkshire received the warrants at the time when it helped tiny White Mountains take over an ailing insurance company called CGU. It certainly didn't hurt that Jack Byrne, who worked his turnaround magic in righting the ship of Berkshire subsidiary GEICO in the 1970s, was at the helm at White Mountains. Byrne and Warren Buffett share a great affinity for the insurance business and the need for underwriting and financial conservatism.
White Mountains bet the farm that it could turn around CGU, and Buffett provided some of the financing to do it. In return he received warrants to buy 1.7 million shares of White Mountains at $170 apiece at any point through 2008. White Mountains had a call option on the warrants that would go into effect in May 2005. White Mountains shares currently exceed $500 apiece. White Mountains granted Berkshire a 2% discount on its exercise price to give it further enticement to pay for the shares early.
Warren Buffett, a billionaire who still will bend down to pick up a nickel in a parking lot, agreed. Berkshire paid White Mountains $294 million and now owns shares with a market value of $741 million. Not a bad return.
Still, Buffett isn't one who puts much credence into quoted prices, nor is he one to part with cash a second before he needs to if there isn't some advantage for Berkshire shareholders. The 2% savings, though it's likely a higher one-year return than he'd get on cash lying fallow, isn't likely to have been the driving force -- Berkshire received a higher yield on its convertible preferred shares. It certainly isn't the fact that he's missing out on White Mountains' dividend payments: At a .2% yield they stand just north of "why bother." What's more likely is that White Mountains has a need for more cash, and Buffett considered that potential need a net positive relative to waiting out the string on the warrants.
Whenever White Mountains needs cash, its shareholders have become accustomed to getting excited. The CGU transaction nearly doubled White Mountains' book value overnight. In the interim, the company has purchased several other insurance operations from motivated sellers, including Safeco
Bill Mann owns shares in White Mountains Insurance and Berkshire Hathaway. The Motley Fool's Berkshire Hathaway discussion board is, in Bill's opinion, one of the smartest on the Web. Take a trial membership in the Motley Fool Community and see!