In Warren Buffett's 2009 Berkshire Hathaway
Over 45 years, Berkshire's book value increased at a compounded annual average of 20.3%, while his stock price growth averaged 22%. Those numbers may look like they're in the same neighborhood, but over time, that 1.7-percentage-point gap can yield dramatic results.
As Buffett explains: "We should note that had we instead chosen market prices as our yardstick, Berkshire's results would look better, showing a gain since the start of fiscal 1965 of 22% compounded annually. Surprisingly, this modest difference in annual compounding rate leads to an 801,516% market-value gain for the entire 45-year period compared to the book-value gain of 434,057%."
That's a difference in total performance of 367,459 percentage points. If you'd invested $1,000 in Berkshire 45 years ago, it would now be worth more than $8 million -- even though $1,000 in Berkshire's book value has only grown to $4.3 million.
Book value basics
As Buffett shows, book values can often diverge widely from companies' intrinsic values, making them extremely inaccurate measures of corporate value.
The following table reveals diverse variations in companies' book values per share as a percentage of their current stock price:
|
Company |
Recent Book Value Per Share |
Recent Share Price |
Book Value as % of Share Price |
|---|---|---|---|
|
Alcoa |
$12.69 |
$13.67 |
93% |
|
Intel |
$7.55 |
$20.94 |
36% |
|
Wal-Mart |
$18.59 |
$53.75 |
35% |
|
Adobe |
$9.36 |
$35.12 |
27% |
|
Nike |
$18.92 |
$68.93 |
27% |
|
MasterCard |
$27.00 |
$246.48 |
11% |
Data: Capital IQ, a division of Standard and Poor's. As of March 9.
Book value is an accounting concept, and it was more useful in an era of largely capital-intensive companies whose balance sheets brimmed with factories and land. Today, many modern corporations focus on services and other sectors devoid of tangible assets. Book value also excludes assets such as intellectual properties, brand values, or the talents of employees. In addition, book value records the initial value of land and other physical assets, and accounts for their depreciation, but ignores any real-world rise in value they may have subsequently enjoyed.
These points are worth pondering
Despite Buffett's success in widening the gap between book value and actual stock gains, we can't all expect to make millions earning 20% or more annually. Finding tomorrow's blockbusters isn't easy, and even Buffett has explicitly said that Berkshire won't be able to grow nearly as fast in the future as it has in the past.
Still, even if you average just 8% or 12% annual growth, you can accumulate considerable wealth -- and juice your returns -- without taking big risks. For example, you can score a quick 1.4-percentage-point improvement by switching from an underperforming mutual fund with a 1.6% expense ratio to a simple index fund that charges only 0.2%. You can also eke out extra percentage points by holding your gains for the long term, since most people pay fewer taxes on capital gains realized over periods of one year or more.
When you're shopping for companies to hold for the long term, focus on the growth of their stock price. And remember, numbers aren't everything -- sustainable competitive advantages, smart management, and other assets that will never show up in book value are no less important. If you don't believe us, ask Warren Buffett.
