AET's latest guidance was significantly downward, yet the e"bull"ience of the market has been so strong that its stock price has not been affected. Founded in 1853 as a fire insurance company and named after Mt. Etna, the Sicilian volcano, AET continues to forge on, with Value Line describing their ratios as "exceptable"[sic].
Sunday, August 30, 2009
Aetna (AET)
AET's latest guidance was significantly downward, yet the e"bull"ience of the market has been so strong that its stock price has not been affected. Founded in 1853 as a fire insurance company and named after Mt. Etna, the Sicilian volcano, AET continues to forge on, with Value Line describing their ratios as "exceptable"[sic].
Hartford (HIG): Green Shoots or Green Weeds?
After the price of HIG made the harrowing 2008 journey from $87 per share to $4, I have been studying it more closely. Given the current environment, no growth is no surprise, but portfolio changes are significant. I noted the dramatic improvement in corporates and financials, while there was no change in subprime.
Valuation of Berkshire Hathaway (BRK)
In the 2008 BRK annual report, CEO Buffett writes "BRK has two major areas of value" (pg.5). The first area of value is the investments of stocks, bonds and cash - where my calculations confirm the $122 billion he reports. To arrive at net value, one should subtract any debt which provided the funds.
Here BRK is unusual. The "debt" which provides $58.5 billion or nearly half of these funds is generated as float ("money held, but not owned") by the insurance operations. In computing the debt's cost, the CEO states, "I expect us to average an underwriting profit" (pg. 9), meaning that the cost of debt will average less than zero.
Not only is the "debt" expected to lack long-term cost, there is no date for repayment, as long as the insurance operations of BRK are active, profitable and consistent with today's "float" arrangements. Since this seems likely, there is no reason to subtract the debt from the investment funds.
Although such exclusion of "debt" sounds aggressive, it may be conservative. In this upside down world of no-cost debt, any debt costing less than zero is really an asset. For example, if the $122 billion were growing at an average of 8% and the "float" of $58.5 billion were averaging a combined ratio of 96% (meaning a profit of 4%), then the float would be worth about $29 billion as an "asset."
The second area of value - the "67 non-insurance companies" are measured by their pre-tax earnings. CEO Buffett informs his readers that these earnings were $4,093 per Class A share for 2007 and $3,921 per Class A share for 2008. Deriving these earnings does not come simply from the income statements, but also requires excluding various financial transactions, purchase-accounting adjustments and minority interests. Because I have made many unsuccessful attempts to get this precise number, I continue to use his number.
Because BRK has a "return on average carrying value of 8.1%" (pg.10), it seems as if a valuation of roughly 12.5 times earnings would be appropriate, if not low, providing a valuation of $50 billion on this "private equity" portfolio.
Combining these two "areas of value" provides a general valuation on the closed-end mutual fund method of valuation. As to whether this is a high or low number depends on one's view of the underlying assets. The CEO was careful to declare that the decrease in the first area of value was due to a "decline in market prices, not by net sales of stocks or bonds." The second area of value, of course, has been subject to a dramatic downturn in the economy.
Here BRK is unusual. The "debt" which provides $58.5 billion or nearly half of these funds is generated as float ("money held, but not owned") by the insurance operations. In computing the debt's cost, the CEO states, "I expect us to average an underwriting profit" (pg. 9), meaning that the cost of debt will average less than zero.
Not only is the "debt" expected to lack long-term cost, there is no date for repayment, as long as the insurance operations of BRK are active, profitable and consistent with today's "float" arrangements. Since this seems likely, there is no reason to subtract the debt from the investment funds.
Although such exclusion of "debt" sounds aggressive, it may be conservative. In this upside down world of no-cost debt, any debt costing less than zero is really an asset. For example, if the $122 billion were growing at an average of 8% and the "float" of $58.5 billion were averaging a combined ratio of 96% (meaning a profit of 4%), then the float would be worth about $29 billion as an "asset."
The second area of value - the "67 non-insurance companies" are measured by their pre-tax earnings. CEO Buffett informs his readers that these earnings were $4,093 per Class A share for 2007 and $3,921 per Class A share for 2008. Deriving these earnings does not come simply from the income statements, but also requires excluding various financial transactions, purchase-accounting adjustments and minority interests. Because I have made many unsuccessful attempts to get this precise number, I continue to use his number.
Because BRK has a "return on average carrying value of 8.1%" (pg.10), it seems as if a valuation of roughly 12.5 times earnings would be appropriate, if not low, providing a valuation of $50 billion on this "private equity" portfolio.
Combining these two "areas of value" provides a general valuation on the closed-end mutual fund method of valuation. As to whether this is a high or low number depends on one's view of the underlying assets. The CEO was careful to declare that the decrease in the first area of value was due to a "decline in market prices, not by net sales of stocks or bonds." The second area of value, of course, has been subject to a dramatic downturn in the economy.
The Nature of Berkshire Hathaway (BRK)
I recently had a conversation with a friend of mine who invests client funds in BRK as a "private equity" investment for clients whose net worths do not qualify for the big "private equity" funds available. I had to chuckle at first, because the CEO of BRK holds "private equity" funds in such low estimation, but it did cause me to revisit the question of what kind of company is BRK?
Given the size of the insurance operations and its increasing importance as BRK expands into municipal bond insurance and various derivative operations, I could make an argument that BRK is trully a diversified insurance company with an unusually wide breadth of investments and excess capital capacity. Within this viewpoint, BRK's balance sheet is the means of service.
On the other hand, BRK could be considered a vast closed end mutual fund which invests in public and private investments and is leveraged through the generally low cost of borrowing in the insurance operations as well as various derivative operations. Within this viewpoint, BRK's balance sheet is the service. So the question can be posed "is BRK's balance sheet the means of service or the service?"
BRK's 2008 annual report supports the latter interpretation. The CEO states "Berkshire has two major areas of value" (pg.5). He goes on to describe these two areas. The first is the investments in stocks, bonds and cash which are partially made available by the insurance operations. So it might be appropriate to simply value these assets and then subtract the debt, if the debt has cost, from these assets. The second area is the 67 "non-insurance," thus as my friend noted, "private equity" companies. He describes these companies not by value, but by earnings.
Given the size of the insurance operations and its increasing importance as BRK expands into municipal bond insurance and various derivative operations, I could make an argument that BRK is trully a diversified insurance company with an unusually wide breadth of investments and excess capital capacity. Within this viewpoint, BRK's balance sheet is the means of service.
On the other hand, BRK could be considered a vast closed end mutual fund which invests in public and private investments and is leveraged through the generally low cost of borrowing in the insurance operations as well as various derivative operations. Within this viewpoint, BRK's balance sheet is the service. So the question can be posed "is BRK's balance sheet the means of service or the service?"
BRK's 2008 annual report supports the latter interpretation. The CEO states "Berkshire has two major areas of value" (pg.5). He goes on to describe these two areas. The first is the investments in stocks, bonds and cash which are partially made available by the insurance operations. So it might be appropriate to simply value these assets and then subtract the debt, if the debt has cost, from these assets. The second area is the 67 "non-insurance," thus as my friend noted, "private equity" companies. He describes these companies not by value, but by earnings.
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