Earlier this week, I took a look at five stocks that got either an explicit or implicit nod from super-investor Warren Buffett in his annual letter to Berkshire Hathaway (NYSE: BRK-A)(NYSE: BRK-B) shareholders.
But there's a stock that I left off that list that Buffett provides his biggest vote of confidence on. It's a stock so obvious that it's easy to overlook when reading Buffett's annual letter, and yet it's a stock that Buffett heaps praise on year after year.
What is this mystery stock? It's Berkshire Hathaway.
It seems so obvious that it should hardly be worth saying, but so much attention is put on all of the letter's non-Berkshire commentary every year that the fact that the letter is mostly about Berkshire Hathaway often seems to get lost in the shuffle. But I believe this year's letter in particular highlights some of the key reasons Berkshire Hathaway remains a very worthwhile investment.
Management
The two men at the very top of Berkshire may be about as good as it comes -- at the very least, they should be the model for shareholder-friendly management. As such, there is value in Berkshire Hathaway shares simply because of the presence of Warren Buffett and Charlie Munger.
Of course neither Buffett nor Munger is a spring chicken, and many investors are concerned about what will happen when they are no longer at the helm of Berkshire. As a result, it's hard to say that there's any premium in the stock today to reflect the presence of these outstanding managers. That may be prudent, or it may be overly hasty. Buffett, the younger of the two, is 81 and has no plans of retiring. The U.S. has the largest number of centenarians of any nation (70,490 as of late 2010), and if Buffett were to join this group, we could have a Buffett-run Berkshire for another two decades.
That said, Buffett and Berkshire's board have been working hard to make sure there is a solid transition plan in place. On the investing side, Buffett has hand-picked two managers so far -- Todd Combs and Ted Weschler. These two have already been cutting their teeth investing for Berkshire, and we've seen buys such as Intel (Nasdaq: INTC), DIRECTV, and CVS Caremark (NYSE: CVS) over the past couple of quarters that can clearly be attributed to these new managers. These are stocks that we'd be surprised to see Buffett pick himself, but with Buffett's imprimatur behind the stock pickers, I'm inclined to think that these were smartly purchased in a very value-meets-quality type of approach.
At the same time, Buffett is confident in the plan that the board has for succession when it comes to the CEO that will run Berkshire's operations. In the annual letter, he wrote:
Your Board is equally enthusiastic about my successor as CEO, an individual to whom they have had a great deal of exposure and whose managerial and human qualities they admire. (We have two superb back-up candidates as well.) When a transfer of responsibility is required, it will be seamless, and Berkshire's prospects will remain bright.
The Berkshire businesses
Though "Berkshire Hathaway" and "Warren Buffett" often seem synonymous -- and in some ways very much are -- the company is about a whole lot more than just Warren Buffett. Berkshire owns an incredible number of operating businesses, most of which are very high-quality businesses. As Buffett pointed out in the letter, Berkshire has "eight subsidiaries that would each be included in the Fortune 500 were they stand-alone companies."
As I mentioned above, though it often gets overlooked, the majority of Buffett's annual letter deals with the performance of these companies, and rather than rehash it all here, I encourage investors and potential investors to read what Buffett has to say (PDF file, Adobe Acrobat required) about these great subsidiaries. The digest version, however, is that the conglomerate has a cornerstone of conservative, extremely well-managed insurance operations; a pair of steady and reliable capital-intensive businesses; and a wide collection of other companies that -- on balance -- have shown impressive resilience following the recession.
The Berkshire portfolio
There's always a lot of focus on Berkshire Hathaway's portfolio of publicly held stocks because many investors like to follow along with what Buffett's buying. And Buffett makes no bones about cheering on his favorite holdings. In the letter, he highlights four companies in particular -- IBM (NYSE: IBM), American Express, Coca-Cola, and Wells Fargo -- as not only companies that Berkshire has a large stake in, but also "exceptional companies" that Buffett views as "partnership interests in wonderful businesses, not as marketable securities to be bought or sold based on their near-term prospects."
Certainly investors can go out and buy the specific stocks that Berkshire owns, but if you're going to do that, why not simply own Berkshire and let Buffett do the buying for you? As Buffett points out, Berkshire isn't even credited fully with the profits from the interests that it owns:
Our share of their earnings, however, are far from fully reflected in our earnings; only the dividends we receive from these businesses show up in our financial reports. Over time, though, the undistributed earnings of these companies that are attributable to our ownership are of huge importance to us. [emphasis original]
The stock's valuation
Of course, all of this -- great management, an impressive collection of operating businesses, and a valuable investment portfolio -- isn't attractive at any price. As Buffett would almost certainly agree, investing is in part finding great businesses, but also knowing a reasonable price to pay for them.
In his letter, Buffett reminded investors that Berkshire announced a share-repurchase program that would buy back Berkshire shares as long as the price was at or below 110% of book value and the purchases didn't take the company's cash position below $20 billion. That's a considerable move from a company that's never bought back shares before.
Today, Berkshire shares trade comfortably above the buyback trigger price -- closer to 125% of book value -- but they're still trading well below where they have historically. I'd argue that Buffett's 110%-book-value buyback target represents an outstanding price, and today's valuation still offers a darn good price.
Not only do I own Berkshire Hathaway shares personally, I have also rated the stock an outperformer in my Motley Fool CAPS portfolio as part of my commitment to provide transparent tracking of my stock picks.
Go where Buffett's going
Despite what I think is an overwhelming combination of quality and value at Berkshire, there are still plenty of investors who would rather try to buy what Buffett's buying rather than just buying Buffett (so to speak). If you're bold enough to do the former, my fellow Fools have your back. They've highlighted a sector of the market where Buffett's been buying, and share some stocks to put on your radar. You can get a free copy of that report by clicking here.
