Investment Spotlight: Berkshire Hathaway Class B

Portfolio weight: varies from ~2-3% of typical client portfolios

Annualized Total Return as of 11/30/2007

Over the past 10 years, Berkshire Hathaway Class B (“BRK.B”) returned 12.0%, outpacing the Russell 1000 Value index by 3.9% and the S&P 500 by 5.8%. Berkshire Hathaway is managed by Warren Buffett and Charlie Munger, independent thinkers with a proven ability to recognize value and pursue a disciplined investment strategy. They have built a diversified portfolio of public and private companies, spanning a multitude of sectors including insurance, energy, and manufacturing. In the aggregate, Berkshire Hathaway’s subsidiary companies generate annual revenues nearing $100 billion and employ over 200,000 workers.

Berkshire’s long term, value oriented investment approach is consistent with our firm’s core investment philosophy. But beyond the efforts of most value investors who look for securities that appear under priced by some form of fundamental analysis, Warren Buffett takes this approach to another level by seeking meaningful ownership in quality companies that are effective at generating earnings. Mr. Buffett measures his success through gains in shareholders’ equity rather than just increases in stock price. Berkshire’s recent purchase of a 60% stake in Marmon Holdings, from the Pritzker family, is an excellent example of this strategy. Marmon is an industrial conglomerate with business units that manufacture products like plumbing pipes and metal fasterners: it reflect Buffett’s fondness for businesses with high barriers to entry and steady cash flow streams.

Stock prices, of course, are affected by supply and demand characteristics in the market; Buffet believes that those prices may deviate significantly from the “true” value of the company.  Mr. Buffett is focused on building value for investors in the long run and believes that shareholders’ equity is a more useful and stable measure of such added value.  For example, in 2006, Berkshire Hathaway’s shareholders’ equity swelled by $16.9 billion, which increased the per-share book value* of Berkshire stock by 18.4%. Over the last 42 years, Berkshire Hathaway’s Class A shares’ book value has grown from $19 to over $70,000, a rate of 21.4% compounded annually.   So, in contrast to our general preference for passive investment approaches in the public equity markets, our use of Berkshire represents a nod to the indisputable success of this particular form of “active” strategy, operating mostly in the private equity space.  And, as we described in an earlier comment on Berkshire, it permits our clients to participate in the huge float advantages of its insurance company assets.

Many investors are concerned about leadership transition now that Mr. Buffet is 78 years old and Mr. Munger is even older: 83. Buffet has stated that two people will replace him. One will serve as Chief Investment Officer (CIO) and the other as CEO of the operating businesses. While their colleague, Lou Simpson, is a great candidate for the CIO role, with a successful investment record, he is only 6 years younger than Mr. Buffett. In the long-term, they will need to hire a younger person with the discipline and acumen to manage a very large and wide-ranging portfolio. We, like many other long term investors, will be attentive to this generational transition issue, but we have a good deal of confidence that the succession will be successful.

Currently, most of Berkshire Hathaway’s earnings are generated by its insurance businesses. In 2006, these companies benefited from Mother Nature taking a break after the hurricanes of 2004 and 2005. Insurance companies collected large premiums and paid out very few insurance claims, making 2006 a very profitable year.

As of September 30, 2007, the approximate allocation of Berkshire’s private holdings by sector is as indicated in the graph below:

¹% of Portfolio’s 3Q07 earnings before taxes and minority interests.

As of December 31, 2006, Berkshire Hathaway owned 73 businesses around the world. The largest public and private holdings in Berkshire are listed below:

Selected Investments

The following investments are some key private holdings in Berkshire Hathaway:

MidAmerican Energy Holdings, based in Des Moines, IA, owns a wide variety of utility operations in the U.S. and UK. It has 3 operations servicing over 2 million electric consumers in Iowa and six western states. In the UK, Yorkshire Electricity and Northern Electric serve 3.7 million electric customers. In terms of natural gas, the company owns 2 pipelines which transport about 8% of the natural gas consumed in the U.S. In 2006, MidAmerica Energy Holdings generated $348 million of earnings before tax and minority interests on $3.5 billion of revenue.

GEICO, with headquarters in Chevy Chase, MD, is the fourth largest passenger auto insurer in the United States. The company provides automobile coverages to drivers in 49 states (Massachusetts is the only exception) and the District of Columbia. GEICO has been able to attract many customers by being a low cost provider. Between year end 2003 and year end 2006, the number of GEICO policies increased from 5.7 million to 8.1 million, a jump of 42%. In 2006, GEICO generated $1.3 billion of earnings before tax and minority interests on $11.1 billion of revenue.

General RE Corporation in Stamford, CT provides property & casualty reinsurance and life & health reinsurance coverages to clients worldwide. Its clients are usually insurance companies seeking to protect against the risk of excessive losses. The firm is represented in all major reinsurance markets through a global network of 50 locations, with over 2300 employees. General RE receives the highest financial strength ratings from A.M. Best and Moody’s Financial. In 2006, General RE generated $526 million of earnings before tax and minority interests on $6.1 billion of revenue.

Monica Ma, San Francisco