The Master Speaks

Warren Buffett's annual letter to shareholders is one of the most interesting investment reads out there. Having read every letter since 1977,  you come away with a very good education in business and investing from the greatest investor of all time. You can find the letters here http://www.berkshirehathaway.com/letters/letters.html
Over the years Buffett has been reluctant to comment on what he thinks the intrinsic value of his company - Berkshire Hathaway (BRK) is. He and his partner, Charlie Munger, admit they would both come up with different numbers. That's ok, because intrinsic value is a moving target and difficult to calculate precisely. The good news is that you don't have to be too precise, you just have to be sure you in the correct "range" of intrinsic values. Then you can buy at a discount to this value and sleep at night. Buffett likes to say " it's better to be mostly right, than precisely wrong" - how true.

In this years annual letter, Mr. Buffett dropped a rare pearl of data for shareholders. He disclosed what he thinks (conservatively of course) BRK's normal earning power of their assets are. Here is what he said,

I can estimate that the normal earning power of the assets we currently own is about $17 billion pre-tax and $12 billion after-tax, excluding any capital gains or losses. Every day Charlie and I think about how we can build on this base.

(W. Buffett, 2010 Berkshire Hathaway Annual Letter)

Knowing this, we can value BRK (conservatively) and be confident in the value we derive, using Buffett's data as a pillar of support for our appraisal. So using a two-prong back-of-the-envelope approach to value BRK we can see it's roughly worth $100-$110 per share ( B shares). However, it's important to recognize that the $100 valuation is not static. With Buffett at the helm, it is not unreasonable to assume BRK's value will grow at 7%-10% over the next few years. So BRK could be worth $122 in 3 years. So how did I come up with $100? Here's the quick answer.

Investments (stocks/bonds) per share..................... $94,370
Pre-tax earnings per share X 10 multiple*............... $59,260...........using a 12 multiple $71,112
Plus net cash**.......................................................    N/A
Total Value per "A" share........................................ $153,630.....................................$165,482
Value per "B" share ( 1/1500 of an A share )...........  $102.......................................... $110

* I used a 10 multiple on pre-tax earnings as a conservative measure, you could easily argure that BRK's earnings stream, due to it's stability and growth, could be worth a 12X multiple. That's where valuations can be an art as opposed to a science.
** Net cash = Cash - Debt, BRK's cash basically cancels out it's debt. It's also important to note that BRK takes in 1 billion of cash per month (yes, per month, not a typo) that is added to the balance sheet. So debt is not an issue at BRK. That cash rate is also likely to increase over the next while as business conditions continue to improve.

So BRK is not dirt cheap right now, but looking out 3 years, you could be buying BRK at 0.70 cents on the dollar. I won't be adding here, but will continue to hold.