BARRONS: Buffett's Berkshire Could Have a Boffo Year

SATURDAY, MARCH 5, 2011

A cash-rich Berkshire Hathaway is on course for record yearly earnings that could lift the stock to a new high.

Berkshire's strengths were highlighted in CEO Warren Buffett's eagerly awaited annual shareholder letter, released Feb. 26. Long critical of CEOs who issue profit projections, a confident Buffett ventured an unprecedented earnings prediction of his own, saying that Berkshire's "normal" annual profits are running at about $12 billion, or $7,300 per class-A share, up from $11 billion in operating profits in 2010.

After a sharp jump Monday, Berkshire's A shares (ticker: BRKA) finished the week with a gain of $650, to 128,200, while the class B was up 63 cents, to 85.50.

"Berkshire is an earnings and cash-flow juggernaut," says David Rolfe, chief investment officer at Wedgewood Partners in Ladue, Mo., which owns the stock. He pegs Berkshire's intrinsic value at $142,000 to $166,000 a share.

He analyzes Berkshire by valuing its noninsurance operations and adding the company's investments. The noninsurance arm, including Burlington Northern railroad, could be worth $60,000 per share, or 10 times projected 2011 pretax profits, and Berkshire has almost $95,000 a share of investments, for a total of $155,000. Berkshire peaked in late 2007, at $149,000 a share.

Mr. Moneybags has even more money than we thought, according to Berkshire Hathaway's upbeat annual letter.

The annual letter confirmed the bullish argument we made in a cover story earlier this year ("Mr. Moneybags," Jan. 24, 2011) that Berkshire was piling up cash at a record rate, due in part to attractive acquisitions such as Burlington. We forecast that the company could be sitting on $50 billion of cash by the end of 2011.

Our projection could even prove conservative. Berkshire ended 2010 with $35 billion of cash at its insurance units, and is generating profits of $1 billion per month. It probably will get almost $9 billion this year as Goldman Sachs (GS) and General Electric (GE) repay lucrative preferred-stock investments made by Berkshire during the financial crisis. Berkshire already has received about $4 billion this year from Swiss Re (SWCEY), in which it also invested. Cash could hit $55 billion by year's end if Buffett doesn't make any major investments.

We suggested that Berkshire might start paying a dividend in the next year, to hold down the cash buildup and lay the groundwork for what likely will be more generous cash distributions to holders when Buffett, now 80, ultimately steps aside. Yet Buffett seems reluctant to pay a dividend, preferring to keep his "elephant gun" loaded for a large deal.

It is going to be tough for Buffett to land the big game, as he acknowledged last week in a CNBC interview, because he won't participate in corporate auctions and is price-sensitive. Speaking of large public companies, Buffett said most "sell at prices where if we were to pay a 20% premium to market, I would not want to buy them."

Buffett now has much more competition for deals than when he snared Burlington Northern in late 2009. He has preferred buying private companies in recent years, partly because public corporate boards are reluctant to cut deals with him without auctioning their companies. But there aren't a lot of large, private businesses around that would interest Buffett.

Berkshire now trades for 1.3 times year-end 2010 book value of $95,453, and for about 1.2 times projected year-end 2011 book of $105,000 a share. The stock has commanded an average of about 1.6 times book in the past decade, although the ratio has been lower in recent years. Put a valuation of 1.4 times on projected 2011 book, and the stock could near a record high.

There are reasons for today's lower valuation. Berkshire's enormous market value of $210 billion and equity base of $157 billion make it hard for Buffett to generate high returns. And there is Buffett's age. While he is in good health and professes to love every minute he spends on the job, investors recognize that few CEOs serve well into their 80s. Buffett's likely successor, David Sokol, chairman of Berkshire's utility operations, is well regarded, but has enormous shoes to fill.

Buffett told CNBC that dollar-denominated bonds are now a bad investment. He also lacks enthusiasm for commodities, including gold, saying he much prefers to buy income-producing investments, stocks, farmland and businesses. Buffett noted all the world's gold would fit into a cube with 67-foot sides and now is worth about $7 trillion. That is about a third of the value of all U.S. stocks. He also observed that U.S. farmland is worth about $2.5 trillion.

"The real test of an investment is whether you would be happy if it never got quoted again," he said.

Many investors feel that way about Berkshire.
-- Andrew Bary

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Read the full transcript of the March 2 Squawk Box Interview with Warren Buffett
Download the 2010 Berkshire Hathaway Annual Report
Download the 1977 - 2010 Warren Buffett Letter's to Berkshire Hathaway Shareholders

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