Weekend reading: Buffett’s new shareholder letter

Thanks for the mention, and thanks for pointing out the new BH letter; I always end up missing that. I have been working through the back catalogue but I’m only up to 1985 or so I think, back when I was listening to Paul Hardcastle’s excellent n-n-n-n-ninteen track. Those were the days.

my god – its Tim Ferris for CEO of berkshire hathaway

PS awesome weekend for rugby, is stuart hogg the blue and white reincarnation of shane williams? Cymru am byth -the dragons march on to a grand-slam, Strettle was nowhere near and Flood would have missed the conversion anyway 😉

Buffett is spot-on regarding share repurchases.

1. “We have witnessed many bouts of repurchasing that failed our second test. Sometimes, of course, infractions – even serious ones – are innocent; many CEOs never stop believing their stock is cheap. In other instances, a less benign conclusion seems warranted. It doesn’t suffice to say that repurchases are being made to offset the dilution from stock issuances or simply because a company has excess cash. Continuing shareholders are hurt unless shares are purchased below intrinsic value. The first law of capital allocation – whether the money is slated for acquisitions or share repurchases – is that what is smart at one price is dumb at another. (One CEO who always stresses the price/value factor in repurchase decisions is Jamie Dimon at J.P. Morgan; I recommend that you read his annual letter.)”

2. “This discussion of repurchases offers me the chance to address the irrational reaction of many investors to changes in stock prices. When Berkshire buys stock in a company that is repurchasing shares, we hope for two events: First, we have the normal hope that earnings of the business will increase at a good clip for a long time to come; and second, we also hope that the stock underperforms in the market for a long time as well. A corollary to this second point: “Talking our book” about a stock we own – were that to be effective – would actually be harmful to Berkshire, not helpful as commentators customarily assume.

Some additional thoughts:

— I loved Buffett’s point about wanting a company’s share price to languish when it is in the process of repurchasing shares. I admit that I never thought about it that way, but it makes complete sense. Problem is, in today’s market so many investors are excited about share buybacks that they often lead to a boost in a company’s share price. Fewer shares and flat-to-increasing net income equals higher EPS, which equals lower P/E (all else equal), which leads investors to think the share is now relatively undervalued and worth buying.

— Companies that prefer buybacks to dividends are telling you something about which of their investors they value more — and perhaps something about how they think about corporate planning. Buybacks reward former shareholders, which can attract short-term investors looking to make a quick profit. Dividends, on the other hand, reward long-term minded investors. Therefore, companies that have huge buyback programmes and relatively low dividend payouts might be catering to short-term minded investors or care more about short-term profit maximisation rather than long-term value creation. Does this mean that Buffett is catering to short-term investors by spending some money on buybacks but not dividends? No. And the reason for that is his buyback strategy is disciplined in that he only buys back shares when they are at a deep discount to intrinsic value. This is likely a long-term value enhancement.

— Companies whose earnings yield (1/PE ratio) are greater than their after-tax cost of borrowing can fuel their EPS growth by repurchasing shares. This has become a widespread practice in today’s low rate environment and will likely be value destructive to long-term shareholders unless the shares were also repurchased below their intrinsic value.

Could write more, but must get back to my real job. 🙂

T