ElCount
02-28-2009, 04:08 PM
Berkshire Hathaway Reports Worst Year Ever
Insurance, Stock Holdings Are Hit; Buffett Warns of Bubble in Treasurys
Berkshire Hathaway Reports Worst Year Ever
Insurance, Stock Holdings Are Hit; Buffett Warns of Bubble in Treasurys
By SCOTT PATTERSON
Warren Buffett's Berkshire Hathaway Inc. reported Saturday that 2008 was the legendary investor's worst year ever. It also reported a grim fourth quarter, though it eked out a slight gain. (Berkshire's annual letter to shareholders.)
A common metric Berkshire uses to track performance, book value per share, fell 9.6% in 2008, its biggest decline since Mr. Buffett took over the company in 1965.
It was only the second year in more than 40 years that Berkshire posted negative results. In 2001, Berkshire's book value per share fell 6.2%. The company's performance in 2008 still far outpaced the Standard & Poor's 500-stock index, which fell 37% last year, including dividends.
Berkshire's fourth-quarter net income was $117 million, a whopping 96% decline from last year's $2.9 billion fourth-quarter income. The results mark Berkshire's fifth year-over-year quarterly decline in a row.
Annual net income fell to $4.99 billion in 2008 from $13.21 billion the previous year amid poor results from the firm's insurance holdings and big declines in stock holdings such as Coca-Cola Co. and American Express Co. Berkshire also owns See's Candy, Fruit of the Loom and Benjamin Moore paint, which are privately held, but its insurance businesses generate the bulk of the parent company's results. In 2008, Berkshire's Class A stock fell 32%. This year the shares are down about 19%, slightly better than the Dow Jones Industrial Average.
Berkshire's results "could have been a lot worse," given the extreme economic conditions, said Morningstar's analyst on the company, Bill Bergman. "It's the worst economic environment in recent history, and despite that they've performed well."
Some highlights of the report:
Economic Outlook
In his letter to shareholders, Mr. Buffett said that in the fourth quarter, a "series of life-threatening problems within many of the world's great financial institutions was unveiled." Credit markets turned "nonfunctional," Berkshire's chairman said.
Mr. Buffett predicted the economy "will be in shambles throughout 2009 -- and, for that matter, probably well beyond." Still, he struck an upbeat note in his letter to shareholders. He detailed the current woes of the financial system, saying we should "never forget that our country has faced far worse travails in the past. ... Without fail, however, we've overcome them."
He added that economic woes don't indicate "whether the stock market will rise or fall." And he contended that the "investment world has gone from underpricing risk to overpricing it." Future historians will comment on the Internet bubble of the 1990s and the housing bubble of the early 2000s, he said, adding, "But the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary."
Investments
Mr. Buffett conceded in his letter that he "did some dumb things" in the past year, such as boosting the company's holdings of the oil giant ConocoPhillips when oil prices were near their peak. Since then, oil prices have tumbled and shares of ConocoPhillips and many other energy outfits are down sharply. Mr. Buffett said he believes "odds are good that oil sells far higher in the future than the current $40 to $50 price. But so far I have been dead wrong."
He also said he made a $244 million investment in two Irish banks "that appeared cheap." At year-end, Berkshire wrote the holdings down to their market value of $27 million, an 89% loss on the investment.
The letter also provided new details on some moves Mr. Buffett made in late 2008 as the credit crisis worsened. Berkshire invested $14.5 billion in fixed-income securities from companies such as General Electric Co. and from Goldman Sachs Group Inc. To fund the purchases, the letter says, he sold part of his holdings in Johnson & Johnson and Procter & Gamble Co.--"holdings I would have preferred to keep," he said.
In late September, he agreed to buy $5 billion of perpetual preferred stock with a 10% yield from Goldman Sachs, which was reeling after the collapse of Lehman Brothers Holdings Inc. Berkshire also received warrants to purchase Goldman common stock at $115 a share. While the vote of confidence in Goldman by the savvy investor temporarily helped stabilize the bank's share price at around $120, since then Goldman's stock has wilted to well below $100.
In October, Mr. Buffett agreed to invest $3 billion, and potentially as much as $6 billion, in General Electric preferred shares, which also sport a 10% yield. Friday, GE said it would slash its quarterly stock dividend by more than two-thirds to 10 cents a share, letting the company salt away about $9 billion a year. The move doesn't have an impact on Mr. Buffett's preferred holdings, however.
Derivatives
A mark-to-market loss of $5.1 billion from several derivative deals Berkshire entered into in recent years also cut into Berkshire's bottom line, according to the letter. Berkshire sold what are essentially insurance policies against long-term declines in U.S. and foreign stocks in exchange for $4.9 billion. Mr. Buffett said the company sold contracts on the S&P 500, the FTSE 100 in the U.K., the Dow Jones Euro Stoxx 50 index in Europe and the Nikkei 225 Stock Average in Japan.
When the contracts expire in 15 or 20 years, Berkshire will have to pay out if the indexes are below where they stood when the deals were struck. Berkshire's liabilities on the contracts have soared as global markets tumbled in the fourth quarter. At year-end, Berkshire's liabilities -- a mathematical estimate of its exposure to its counterparties on the deals -- stood at $10 billion, up from $6.7 billion at the end of the third quarter. That figure was in line with some analysts' expectations.
Continuing weakness in global markets in 2009 has dinged the contracts further, Mr. Buffett said. Shareholders' equity, a measure of the company's assets minus its liabilities, declined by an additional $8 billion so far this year, according to the company's estimates, because of weakness in its stock holdings and increased liabilities from the derivatives contracts. At the end of 2008, shareholders' equity stood at $109.3 billion.
Mr. Buffett said a small percentage of Berkshire's derivatives contracts call for posting collateral if the market moves against the company. (Meeting costly collateral calls was one of the issues that felled American International Group Inc., the insurer bailed out last year by the federal government.)
Berkshire itself holds 251 derivatives contracts and expanded some of its positions last year, Mr. Buffett said, but most are of the type that don't expose the company to counterparty risk, he said. (This figure, he said, doesn't include those derivatives used for operational purposes at its utility outfit, MidAmerican Energy Holdings, and the few remaining at its reinsurer General Re.)
More broadly, he railed on derivatives as generally too complex and creating dangerous mutual dependence among financial institutions involved. "Auditors can't audit these contracts, and regulators can't regulate them," Mr. Buffett said. He cited Fannie Mae, Freddie Mac and Bear Stearns -- all of which suffered massive losses because of derivatives and last year either were sold or brought into government control -- as examples of what can go wrong. He specifically faulted the Office of Federal Housing Enterprise Oversight, or OFHEO, which had oversight of mortgage giants Fannie and Freddie. The firms' regulators didn't respond to requests for comment.
Insurance
Berkshire's powerful insurance business also struggled in 2008 along with the sector. Underwriting profits at Geico, its car-insurance unit, fell 18%, although Mr. Buffett said market share rose to 7.7% from 7.2%. Earnings at General Re, the company's international reinsurance unit, slid 38%.
Broadly, operating earnings in Berkshire's insurance-underwriting units fell 17% from a year ago to $2.79 billion, hurt by last year's heavy hurricane season. Hurricanes Gustav and Ike inflicted losses on Berkshire's property- and casualty-reinsurance operations of about $900 million, Mr. Buffett said. Reinsurance firms provide financial backstops to other insurance companies.
Mr. Buffett also commented on the municipal-bond insurance business he entered in early 2008, creating Berkshire Hathaway Assurance Co. as other, monoline, bond insurers such as Ambac Financial Group Inc. and MBIA Inc. struggled with huge losses amid the credit crisis.
Mr. Buffett seemed pleased with some of the deals the company has struck. It has written $15.6 billion of insurance, about 77% of it on bonds that were already insured, making Mr. Buffett's insurer the second, third or fourth to pay, at rates averaging 3.3%. Before he did those deals, he noted, he had offered to take over guarantees on $822 billion of bonds insured by the monolines for a lower rate -- 1.5%. They turned him down, he says, which ended up working out in Berkshire's favor because it later scored the better rates -- often for the preferable position of not being first in line to pay.
Still, Mr. Buffett sounded a warning for the municipal-bond insurance business: the risk that local governments running short of cash may decide to default on bond payments if they carry bond insurance. Shortfalls in many local cities' and states' pension funds at the end of the year were "staggering," he wrote, and could push some local governments to inflict pain on bond insurers.
"What mayor or city council is going to choose pain to local citizens in the form of major tax increases over pain to a far-away bond insurer?" Mr. Buffett said.
—Lavonne Kuykendall contributed to this article.
Write to Scott Patterson at scott.patterson@wsj.com
Insurance, Stock Holdings Are Hit; Buffett Warns of Bubble in Treasurys
Berkshire Hathaway Reports Worst Year Ever
Insurance, Stock Holdings Are Hit; Buffett Warns of Bubble in Treasurys
By SCOTT PATTERSON
Warren Buffett's Berkshire Hathaway Inc. reported Saturday that 2008 was the legendary investor's worst year ever. It also reported a grim fourth quarter, though it eked out a slight gain. (Berkshire's annual letter to shareholders.)
A common metric Berkshire uses to track performance, book value per share, fell 9.6% in 2008, its biggest decline since Mr. Buffett took over the company in 1965.
It was only the second year in more than 40 years that Berkshire posted negative results. In 2001, Berkshire's book value per share fell 6.2%. The company's performance in 2008 still far outpaced the Standard & Poor's 500-stock index, which fell 37% last year, including dividends.
Berkshire's fourth-quarter net income was $117 million, a whopping 96% decline from last year's $2.9 billion fourth-quarter income. The results mark Berkshire's fifth year-over-year quarterly decline in a row.
Annual net income fell to $4.99 billion in 2008 from $13.21 billion the previous year amid poor results from the firm's insurance holdings and big declines in stock holdings such as Coca-Cola Co. and American Express Co. Berkshire also owns See's Candy, Fruit of the Loom and Benjamin Moore paint, which are privately held, but its insurance businesses generate the bulk of the parent company's results. In 2008, Berkshire's Class A stock fell 32%. This year the shares are down about 19%, slightly better than the Dow Jones Industrial Average.
Berkshire's results "could have been a lot worse," given the extreme economic conditions, said Morningstar's analyst on the company, Bill Bergman. "It's the worst economic environment in recent history, and despite that they've performed well."
Some highlights of the report:
Economic Outlook
In his letter to shareholders, Mr. Buffett said that in the fourth quarter, a "series of life-threatening problems within many of the world's great financial institutions was unveiled." Credit markets turned "nonfunctional," Berkshire's chairman said.
Mr. Buffett predicted the economy "will be in shambles throughout 2009 -- and, for that matter, probably well beyond." Still, he struck an upbeat note in his letter to shareholders. He detailed the current woes of the financial system, saying we should "never forget that our country has faced far worse travails in the past. ... Without fail, however, we've overcome them."
He added that economic woes don't indicate "whether the stock market will rise or fall." And he contended that the "investment world has gone from underpricing risk to overpricing it." Future historians will comment on the Internet bubble of the 1990s and the housing bubble of the early 2000s, he said, adding, "But the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary."
Investments
Mr. Buffett conceded in his letter that he "did some dumb things" in the past year, such as boosting the company's holdings of the oil giant ConocoPhillips when oil prices were near their peak. Since then, oil prices have tumbled and shares of ConocoPhillips and many other energy outfits are down sharply. Mr. Buffett said he believes "odds are good that oil sells far higher in the future than the current $40 to $50 price. But so far I have been dead wrong."
He also said he made a $244 million investment in two Irish banks "that appeared cheap." At year-end, Berkshire wrote the holdings down to their market value of $27 million, an 89% loss on the investment.
The letter also provided new details on some moves Mr. Buffett made in late 2008 as the credit crisis worsened. Berkshire invested $14.5 billion in fixed-income securities from companies such as General Electric Co. and from Goldman Sachs Group Inc. To fund the purchases, the letter says, he sold part of his holdings in Johnson & Johnson and Procter & Gamble Co.--"holdings I would have preferred to keep," he said.
In late September, he agreed to buy $5 billion of perpetual preferred stock with a 10% yield from Goldman Sachs, which was reeling after the collapse of Lehman Brothers Holdings Inc. Berkshire also received warrants to purchase Goldman common stock at $115 a share. While the vote of confidence in Goldman by the savvy investor temporarily helped stabilize the bank's share price at around $120, since then Goldman's stock has wilted to well below $100.
In October, Mr. Buffett agreed to invest $3 billion, and potentially as much as $6 billion, in General Electric preferred shares, which also sport a 10% yield. Friday, GE said it would slash its quarterly stock dividend by more than two-thirds to 10 cents a share, letting the company salt away about $9 billion a year. The move doesn't have an impact on Mr. Buffett's preferred holdings, however.
Derivatives
A mark-to-market loss of $5.1 billion from several derivative deals Berkshire entered into in recent years also cut into Berkshire's bottom line, according to the letter. Berkshire sold what are essentially insurance policies against long-term declines in U.S. and foreign stocks in exchange for $4.9 billion. Mr. Buffett said the company sold contracts on the S&P 500, the FTSE 100 in the U.K., the Dow Jones Euro Stoxx 50 index in Europe and the Nikkei 225 Stock Average in Japan.
When the contracts expire in 15 or 20 years, Berkshire will have to pay out if the indexes are below where they stood when the deals were struck. Berkshire's liabilities on the contracts have soared as global markets tumbled in the fourth quarter. At year-end, Berkshire's liabilities -- a mathematical estimate of its exposure to its counterparties on the deals -- stood at $10 billion, up from $6.7 billion at the end of the third quarter. That figure was in line with some analysts' expectations.
Continuing weakness in global markets in 2009 has dinged the contracts further, Mr. Buffett said. Shareholders' equity, a measure of the company's assets minus its liabilities, declined by an additional $8 billion so far this year, according to the company's estimates, because of weakness in its stock holdings and increased liabilities from the derivatives contracts. At the end of 2008, shareholders' equity stood at $109.3 billion.
Mr. Buffett said a small percentage of Berkshire's derivatives contracts call for posting collateral if the market moves against the company. (Meeting costly collateral calls was one of the issues that felled American International Group Inc., the insurer bailed out last year by the federal government.)
Berkshire itself holds 251 derivatives contracts and expanded some of its positions last year, Mr. Buffett said, but most are of the type that don't expose the company to counterparty risk, he said. (This figure, he said, doesn't include those derivatives used for operational purposes at its utility outfit, MidAmerican Energy Holdings, and the few remaining at its reinsurer General Re.)
More broadly, he railed on derivatives as generally too complex and creating dangerous mutual dependence among financial institutions involved. "Auditors can't audit these contracts, and regulators can't regulate them," Mr. Buffett said. He cited Fannie Mae, Freddie Mac and Bear Stearns -- all of which suffered massive losses because of derivatives and last year either were sold or brought into government control -- as examples of what can go wrong. He specifically faulted the Office of Federal Housing Enterprise Oversight, or OFHEO, which had oversight of mortgage giants Fannie and Freddie. The firms' regulators didn't respond to requests for comment.
Insurance
Berkshire's powerful insurance business also struggled in 2008 along with the sector. Underwriting profits at Geico, its car-insurance unit, fell 18%, although Mr. Buffett said market share rose to 7.7% from 7.2%. Earnings at General Re, the company's international reinsurance unit, slid 38%.
Broadly, operating earnings in Berkshire's insurance-underwriting units fell 17% from a year ago to $2.79 billion, hurt by last year's heavy hurricane season. Hurricanes Gustav and Ike inflicted losses on Berkshire's property- and casualty-reinsurance operations of about $900 million, Mr. Buffett said. Reinsurance firms provide financial backstops to other insurance companies.
Mr. Buffett also commented on the municipal-bond insurance business he entered in early 2008, creating Berkshire Hathaway Assurance Co. as other, monoline, bond insurers such as Ambac Financial Group Inc. and MBIA Inc. struggled with huge losses amid the credit crisis.
Mr. Buffett seemed pleased with some of the deals the company has struck. It has written $15.6 billion of insurance, about 77% of it on bonds that were already insured, making Mr. Buffett's insurer the second, third or fourth to pay, at rates averaging 3.3%. Before he did those deals, he noted, he had offered to take over guarantees on $822 billion of bonds insured by the monolines for a lower rate -- 1.5%. They turned him down, he says, which ended up working out in Berkshire's favor because it later scored the better rates -- often for the preferable position of not being first in line to pay.
Still, Mr. Buffett sounded a warning for the municipal-bond insurance business: the risk that local governments running short of cash may decide to default on bond payments if they carry bond insurance. Shortfalls in many local cities' and states' pension funds at the end of the year were "staggering," he wrote, and could push some local governments to inflict pain on bond insurers.
"What mayor or city council is going to choose pain to local citizens in the form of major tax increases over pain to a far-away bond insurer?" Mr. Buffett said.
—Lavonne Kuykendall contributed to this article.
Write to Scott Patterson at scott.patterson@wsj.com