Alex Wong
Investment Thesis
A little over four years ago, just weeks before the COVID pandemic gripped the world, I wrote an article about Berkshire Hathaway (NYSE:BRK.A)(NYSE:BRK.B) inspired by Nassim Nicholas Taleb’s book Antifragile. This year’s Berkshire Hathaway shareholder letter touched on many of my points.
At the time, Berkshire had amassed a then-record $128B cash hoard, which amounted to 23% of the company’s $556B market capitalization. That pile of cash is now over $167B or about 18.5% of the now $903B market capitalization. As outlined in the Berkshire annual letter, the company has become too large to find meaningful uses for this cash other than earning interest on Treasuries and waiting patiently for better opportunities. However, it is hard to imagine these coming along except in an environment that simultaneously damages the company’s other holdings.
Four years ago, I concluded that Berkshire Hathaway was “robust” but not “antifragile” when considering the cash and portfolio of operating companies and investments. I reiterate that sentiment today while changing my rating at the current BRK stock price to Hold from Buy. I own the stock and will add to it if there is a meaningful correction.
Antifragile
I encourage readers to read Taleb’s book to understand the concept of antifragility. This is how I briefly explained it in my earlier article:
In Antifragile: Things That Gain From Disorder, Taleb explains that the opposite of fragile is not strong, robust, or unbreakable as most people seem to think. Rather, the exact reverse of fragile is that which benefits, i.e., is strengthened by stressors and shocks. This is such a foreign concept that Taleb needed to coin a new word for it – “antifragile.”
He gives examples of the benefits to humans from some stressors, such as the effect of exercise on the body, small doses of toxins, or post-traumatic growth. From Greek mythology, he cites the Hydra, which grows two heads every time one is cut off, as an illustration of antifragility. To be sure, a dose of stressors may become lethal, but the point is that at the proper levels, they can be beneficial.
Debt can magnify gains. However, it also exposes the borrower to potential harm or destruction. Excess cash has the opposite effect. Some companies feel the best course is to return excess cash to shareholders, and for those operating in an industry with limited reinvestment options, this makes sense. For firms such as Berkshire, excess cash reserves serve as a form of optionality. It is there to take advantage of an opportunity that suddenly presents itself. In this sense, excess cash can create antifragility for the holder in the case of a severe market correction.
Berkshire Hathaway Is A Cash Hoarder
As shown on the balance sheet, the level of cash and short-term investments at Berkshire has reached a new record. The good news is that the company can now generate a return on the Treasury bills.
From the 2023 annual letter:
Your company also holds a cash and U.S. Treasury bill position far in excess of what conventional wisdom deems necessary. During the 2008 panic, Berkshire generated cash from operations and did not rely in any manner on commercial paper, bank lines or debt markets. We did not predict the time of an economic paralysis but we were always prepared for one.
What I find interesting is that Berkshire did not take more significant advantage of the market correction of early 2020, as the COVID-19 pandemic created economic uncertainty. The S&P 500 fell from a high of around 3,380 points in February 2020 to a low of approximately 2,230 points in March, reflecting a drop of about 34%.
Instead, Buffett again references the 2008 crisis:
I believe Berkshire can handle financial disasters of a magnitude beyond any heretofore experienced. This ability is one we will not relinquish. When economic upsets occur, as they will, Berkshire’s goal will be to function as an asset to the country – just as it was in a very minor way in 2008-9 – and to help extinguish the financial fire rather than to be among the many companies that, inadvertently or otherwise, ignited the conflagration.
Perhaps he did not view the pandemic as a financial crisis.
The cash flow statement shows that very little has been used to buy companies or invest in marketable securities.
Author from SA Financials for BRK
In 2020 and 2021, share repurchases were significant at over $50B as the company considered them good value. Discretionary share buybacks have since slowed as the value of BRK shares has risen. Buying back its stock has been a good move as Berkshire stock has outperformed the broader stock market since the crisis. As Buffett points out, the 12.5% reduction in shares outstanding means remaining shareholders have a larger stake in the operating companies and investments that Berkshire owns.
Buffett spends a good portion of the letter pointing out that the company, at 6% of total S&P500 GAAP net worth, is too large to make acquisitions that would be meaningful to its overall value:
There remain only a handful of companies in this country capable of truly moving the needle at Berkshire, and they have been endlessly picked over by us and by others. Some we can value; some we can’t. And, if we can, they have to be attractively priced. Outside the U.S., there are essentially no candidates that are meaningful options for capital deployment at Berkshire. All in all, we have no possibility of eye-popping performance.
Conclusion
Berkshire Hathaway is a wonderful company with many highly profitable and durable subsidiaries and investments. However, its size has forced it to change its focus from making meaningfully significant acquisitions to stockpiling cash and buying short-term U.S. Treasuries. The BRK stock performance has even made repurchasing its own shares less attractive.
The company’s cash reserves can be viewed as “dry powder” in the case of another inevitable market dislocation. Unfortunately, in a scenario where a high-quality asset worth the $10’s of billions needed to move Berkshire’s needle becomes a bargain, the other assets in the portfolio would likely see significant declines in value.
As a result, I still consider the whole of Berkshire to be “robust.” I hold the stock myself but would not add to the position at these levels. If a significant correction does occur, I will likely buy a meaningful amount more. The Seeking Alpha Quant Rating is a Strong Buy, with the only unfavorable Factor being valuation.
