How an $885 billion financial behemoth continues to grow : a review of Berkshire Hathaway’s 2023 annual results and shareholder letter
Author: Jeremy Gorven, CFA
Senior Investment Analyst
About Berkshire Hathaway
Berkshire Hathaway (“Berkshire”) is a multinational conglomerate led by Warren Buffett, one of the most successful investors of all time. Buffett continues to serve as CEO and Chairman, with his late counterpart, Charlie Munger having served as Vice Chairman from 1978, until Munger’s death in November 2023. Greg Abel is Buffett’s named successor, and serves as Vice Chair of Non-Insurance Business Operations and Ajit Jain is the Vice Chair of Insurance Operations. Berkshire Hathaway is structured as a set of cash producing operating businesses including both insurance and non-insurance, coupled with an investment portfolio and cash pile, overseen by sound capital allocation practices to support good returns on capital, and therefore growth in the value of capital, over time. The group is a conservatively run financial fortress for shareholder capital.
Berkshire has delivered a market-beating 10-year return
Berkshire’s share price has delivered 13.5% over the past decade, marginally outperforming the S&P 500, of which the MAG7¹ makes up 25%, which has returned 12.6% per annum [Figure 1]. This demonstrates that even during a time when disruption has been deemed to be the winning trade, this “old world” but unique business can keep pace with the rapid growth of the S&P 500 which has benefited more recently from the tailwind in AI related stocks. Cumulatively, Berkshire’s total return has been more than double that of the world index over the past decade – a remarkable achievement.
Following close fundamental analysis, we historically identified both the value creation prospects of the group as well as the share price discount to fundamental value. We have also viewed the business to be lower-than-average risk due to the fortress balance sheet and strong diversified cash flows. For these reasons, we have been invested in Berkshire on behalf of global equity and multi-asset class clients, earning ahead-of-market returns at lower-than-average risk.
¹ MAG7 refers to the “magnificent 7” stocks, the 7 largest technology stocks in the S&P 500 which were responsible for 110% of the S&P 500’s performance in 2023.
The highs and lows from the 2023 shareholder letter and results
Berkshire released its 2023 annual report a few days ago which included Buffett’s annual letter to shareholders. Given the recent death of Vice-Chairman, Charlie Munger, Buffett included a tribute to Munger’s role at Berkshire. In the foreword to the annual letter, Buffet hailed Charlie Munger as the “architect” of Berkshire Hathaway and described himself as the “general contractor”.
With a staggering GAAP net worth of $561 billion in 2023, a notable 19% increase, Berkshire stands as the American business with the largest net worth by a considerable margin. The year 2023 saw operating earnings surge to $37 billion, marking a substantial 24% rise.
The most notable company developments for the year were
- Berkshire’s insurance business performed “exceptionally well” in 2023 with records in sales, float, and underwriting profits. Geico’s underwriting margin improved by a whopping 14% from -5% in 2022 to 9% in 2023 resulting in a profit before tax contribution of $3.6 billion compared to last year’s -$1.9 billion. Insurance float grew by $5 billion to $169 billion, increasing the value of the group through additional assets owned, however not reflected in the income statement or operating earnings. Higher interest rates boosted interest income from $1.7bn in 2022 to $6bn in 2023.
- The noninsurance business operating profit was down 7% to $22 billion. The railway and utility businesses underperformed due to wage pressure and lower volumes in rail and climate-linked fires at the utility.
- Buffett noted that some US states have broken the “fixed-but-satisfactory-return (on capital)” pact, in favour of a system that punishes companies for things like forest fires which are caused by weather events; calling out California and Hawaii specifically. In 2023, Berkshire’s energy utility PacifiCorp was held responsible for 2020 fires in Oregon and California, for which Berkshire has taken a $1.6bn after tax provision and guided that it would be years before the full costs were known. Buffett stated that Berkshire would seek to grow its energy assets in states that remain committed to a fixed-but-satisfactory-return on capital but “will not knowingly throw good money after bad”.
- The investment portfolio benefited from a strong rebound in the market value of Apple, with Berkshire’s stake increasing in value by $55 billion to $174 billion.
- The equity stakes in five Japanese trading houses and Occidental Petroleum are seen as core long term holdings.
- Berkshire affirmed our view that it is a much lower risk business than average. The large and diversified stream of free cash flow from operating businesses reached $35 billion, and cash and equivalents rose by $40 billion to $168 billion. These attributes enable Berkshire to withstand extraordinary shocks.
- Berkshire operates as a national asset that provides liquidity (selectively) when capital markets are under duress.
- Buffett believes that Berkshire’s businesses are both better than average in terms their prospects, as well as having materially lower risk of permanent capital loss.
- He also guided shareholders to hold grounded expectations about the future, with anything beyond “slightly better” being wishful thinking.,
Berkshire’s compounding model has delivered an 11% p.a. fundamental growth
According to our analysis, we estimate that Berkshire has grown in fundamental value by approximately 11% pa since 2010, trading at a discount to that value over time . The share price has grown by a compound 13% over the same period. [Figure 2]
The 11% compound fundamental growth has come from an average total return on equity of 11% [Figure 3].
Multiple sources of growth [Figure 4] in net asset value have contributed to the afore-mentioned Return on Equity (ROE%) [Figure 3].
- Investment gains from the equity portfolio
- Insurance operating earnings from underwriting profits and investment income (dividends and interest income)
- Non-insurance business profits
Berkshire has diverse sources of value
We estimate Berkshire’s value at approximately $895bn today and is made up of non-insurance operating businesses, capitalised insurance underwriting earnings, equity and fixed income investments and cash [Figure 5].
Berkshire’s investment portfolio has grown to $407 billion
Berkshire’s strategic investments have yielded substantial returns, exemplified by the remarkable growth of its stake in Apple, now valued at an impressive $174 billion compared to the initial investment of $31 billion made between 2016 and 2018. Similarly, the holdings in five Japanese trading houses have surged to $22 billion from the initial 2020 investment of $6.7 billion through a combination of strong share price performance and Berkshire upping their stake from 5% to 9% in each of the 5, showcasing Berkshire’s adeptness in long-term value creation. Berkshire has been building its exposure to US Oil and Gas majors, with an investments in Chevron, $19 billion and Occidental Petroleum, $15 billion built between 2021 and 2023, indicating that Berkshire sees long term value in these businesses, and further diversifying Berkshire’s portfolio [Figure 6].
Berkshire’s operating businesses are worth approximately $361 billion [Figure 7]
In terms of its key operating businesses,
- Burlington Northern Sante Fe experienced a challenging environment in 2023, with lower freight volumes, extreme weather events and higher wages due to the challenging nature of the work, “Railroading is an outdoor activity”. The asset will remain an essential component of US infrastructure as the most efficient means of long-haul transport.
- Berkshire Hathaway Energy earnings were impacted by fire-related costs during the year. Buffett expects climate change related events such as these to repeat. BHE is now the largest US investor-owned utility with clean power in operation (over 14 000 MW). BHE will deploy over $9bn in capex in 2024, as the buildout of transmission and generation assets continues, focusing on renewable generation and the transmission lines to deliver the renewable energy from where it is produced to where it is consumed.
- Pilot Travel Centers was consolidated, and the final 20% acquired at a more favorable valuation in January 2024.
Cash and cash-equivalents reached a new peak of $168 billion [Figure 8]
Berkshire has accumulated significant cash reserves, increasing by 50% in the past 5 years alone. Given the increase in interest rates during 2023, these cash balances which are largely holdings of US treasury bills earned approx. 4% p.a. ($6bn). Apart from being a source of return, the cash in Berkshire considerably reduces the risk of the group, as well as providing optionality should an attractive investment or stock repurchase opportunity arise.
Berkshire’s compounding model remains intact
Our assessment of the 2023 annual results confirmed that Berkshire’s core asset categories are continuing to grow and contribute to value creation over time. Given our appreciation for the business model and underlying assets, our view is that the group is likely to continue to compound at a respectable rate, albeit more moderate to that of the past 10 years given the present scale and base.
Importantly, the risk of the business remains low relative to most businesses due to its diverse and substantial free cash flows from operations; the $168bn cash pile; and its proven superior capital allocation approach which creates opportunity to enhance shareholder value when markets or Berkshire stock itself sells off due to market conditions.
As such, we remain convicted to the belief that Berkshire remains fundamentally a superior asset from a risk-return perspective, and thus the business remains a holding in our global funds. We do recognise, however, that given the stock’s price appreciation the discount to intrinsic value has recently narrowed substantially, providing less of an attractive entry point than in prior years, when we established the holding in our portfolios.