The yearly dissection of Berkshire Hathaway’s (US:BRK.B) annual report is now under way. The release of the Form 10-K provides investors with a window into significant portfolio changes during the year. These are normally few and far between, thus in keeping with the underlying investment philosophy. More saliently, it provides the head of the conglomerate holding company with a platform to express his views on the market and related themes. He may be in his 93rd year, but those views are still widely sought, even by those without a direct stake in the group.
In a year in which nearly every asset class came under the cosh, Berkshire Hathaway easily outperformed the S&P 500 by gaining nearly 4 per cent in 2022, against the latter’s 18.1 per cent decline. Given the febrile state of the global economy last year, it’s not difficult to appreciate why a value-based investing model proved resilient. Warren Buffett, a notable disciple of Benjamin Graham, generally restricts his investments to businesses he can easily analyse, with no or minimal net debt, and solid cash margins. In other words, exactly the sort of outfits that aren’t tipped off balance when interest rates take off. It also helps if they are in the habit of returning cash to shareholders.
If nothing else, Buffett and his long-term business partner, the sprightly 99-year-old Charlie Munger, can draw on unrivalled experience; he makes the remarkable point that he has been investing throughout one-third of US history. Yet the chairman’s statement was hardly valedictory in nature, even if he stressed the point that the conglomerate will still follow his “value” tenets whenever he and Munger decide to call it a day, or when a higher authority intervenes.
Still, Buffett did provide some interesting insights that could help you achieve a comfortable retirement, even if he appears determined to remain in harness until the end. Unless you held stock in Berkshire Hathaway, or perhaps a FTSE 100 tracker, it would be easy to cast doubt on global equities after a woeful run in 2022. After all, there must be innumerable instances where new entrants to the market bought into blue-sky opportunities when markets were awash with liquidity, only to crystallise losses as soon as the bottom dropped out. Yet, as Buffett reminds us, “episodically – it becomes easy to buy pieces of wonderful businesses at wonderful prices… efficient markets exist only in textbooks”.
He goes on to highlight the fact that just a handful of long-term decisions can have an outsized effect on an investment portfolio: “Our satisfactory results have been the product of about a dozen truly good decisions – that would be about one every five years – and a sometimes-forgotten advantage that favours long-term investors such as Berkshire”.
Executives who manipulate their companies’ earnings came in for criticism, an all-too-common practice that he deems “disgusting”. That’s strong language for someone who isn’t given to hyperbole, but it’s the reason why persistent restatements to accounts can serve as a red flag. Unfortunately, there is a great deal of leeway where management is looking to use merger-related adjustments and restructuring charges to obfuscate underlying performance.
He admitted that the preferred profitability metric employed by Berkshire Hathaway – operating income calculated using generally accepted accounting principles (GAAP) exclusive of capital gains or losses from equity holdings – is still open to sharp practice, but he urged shareholders to focus on this measurement because GAAP can fluctuate “wildly and capriciously at every reporting date” without the adjustment. With asset values in retreat through much of 2022, it may pay to keep this advice in mind, as we have already witnessed the dramatic impact of revaluations on certain asset managers and Reits in the early part of the main reporting season.
There were also some well-reported comments linked to share buybacks, as they followed on from Joe Biden’s State of the Union address, in which the US president called for a quadrupling of the US tax rate on the returns. There are now calls for another windfall tax on profit transfers on this side of the pond, especially given that the UK’s largest companies are returning profits to their shareholders at record rates.
Buffett dismisses critics of buybacks in particular, stating that “if you are told that all repurchases are harmful to shareholders or to the country, or particularly beneficial to chief executives, you are listening to either an economic illiterate or a silver-tongued demagogue”.
