Monday, September 26, 2011

Berkshire Hathaway's New Share Repurchase Program - And What It Means - By Whitney Tilson

This morning Berkshire Hathaway issued a press release announcing an open-ended share repurchase program. This is a bold statement by the world’s savviest investor, Warren Buffett, who is saying a number of important things, not only to Berkshire shareholders, but to investors in general. Overall, it makes us even more bullish on the stock and, though it was already our largest position, we added to it this morning as we think this effectively puts a floor on the stock price slightly above the current level, while the upside remains large.

Interestingly, this is only the second time that Buffett has offered to buy back stock. The first was in his 1999 Letter to Berkshire Hathaway Shareholders (pages 16-17), which was released on Saturday, March 11, 2000 (not coincidentally, the very moment that the Nasdaq peaked). At the time, the stock was at $41,300, but it popped 8% on the following Monday and continued rising all week, closing the following Friday at $51,300, up 24.2%, so Buffett didn’t end up buying back any stock.


Warren Buffett undoubtedly wrote this press release and, as all long-time Buffett-watchers know, he careful chooses every word so let’s closely examine what he writes and what it means.

Most importantly, Buffett is saying that the stock is deeply undervalued. He wouldn’t be buying it back at a 10% premium to book value if he thought its intrinsic value was, say, 20% or even 30% above book. How undervalued? Well, the press release says: “the underlying businesses of Berkshire are worth considerably more than” a 10% premium to book value. The word “considerably” is critical because it’s not necessary – it’s Buffett’s way of saying the stock isn’t just cheap, but is screaming cheap. We peg intrinsic value at close to $170,000 ($113/B share) – as we outline in our slide deck here – and we think that the announcement today indicates that Buffett thinks it’s in this range as well.

So up to what price is Buffett willing to buy? (Note that of course it’s actually Berkshire that’s buying back the stock, not Buffett himself, but he is setting the policy and is the largest shareholder, with a 23% economic ownership, so it’s effectively him.) The press release says a 10% premium to “then-current book value.” The latest filing is the end of Q2 (June 30), when Berkshire’s book value was $98,716 ($65.81/B share). But this isn’t the current value, so one needs to consider what book value has done since then. There are a lot of moving pieces, but the main factors are that the stock portfolio has done down a bit, but Berkshire has earned nearly three months of profits, so we’d guess that current book value hasn’t moved materially. Thus, a 10% premium means that Buffett is willing to buy back stock up to $108,588 ($72.39/B share), just above today’s closing price of $108,449 ($72.09/B share).

In other words, you can buy the stock at a price lower than what the world’s greatest investor is willing to pay – quite an opportunity we think.

We also believe that the share repurchase program likely puts a floor on the stock for a number of reasons.