05 Jun Question In 1965, Warren Buffett acquired control of a New England textile business called Berkshire Hathaway for about $10 a share. Today the stock sells for
Question
In 1965, Warren Buffett acquired control of a New England textile business called Berkshire Hathaway for about $10 a share. Today the stock sells for around $120,000 a share and Mr. Buffett is the wealthiest person in the United States. The stock has never paid a dividend and as long as Mr. Buffett is in charge it probably never will. How does this fit the theory that the value of a stock is based on the present value of the expected future stream of dividends? Visit ww.berkshirehathaway.com and get familiar with the company. Tell me what you think the future holds for the company. Read his letters to his shareholders (accessible through the link provided in the “Assignments” topic of the Content Area) and what he calls the Berkshire Hathaway “owner’s manual” (also in the “Assignments” topic of the Content Area). In an age of hi-tech why did he recently buy the Burlington Northern Railroad for $44 billion? How will the company fare after his inevitable departure?
What is the right price for a stock? Is it book value,departure? Is it book value, liquidation value or simply its market price at a given moment in time? Would you value a privately-owned company where there is no quoted market value differently than a publicly owned company where there is a market price every day? Is there a difference between “price” and “value”? This is a deeper question than you think, so think deep. It will get even deeper in Week Eight if you are really curious.
• A frequent criticism of the management of publicly-owned American companies is that they are too short-term oriented, too focused on fast returns, and that this negatively impacts their long term capital budgeting. Can you suggest a company, or industry, where this appears to be true. Why? How? Do the recent problems at Toyota suggest that the problem is spreading to other countries? How do we keep an emphasis on the “long term” from becoming an excuse for continued poor results is This will be a real challenge, but it should bethe “short term.” .
•This will be a real challenge but it should be an interesting challenge. Much of the way we measure risk relies on probability distribution (the Bell Curve as shown on page 413). For many things in life, and business, this is perfectly valid, but for others it is not. Can you come up with some illustrations of business risk measurement where the Bell Curve is inappropriate? This will take a little research on the internet. Why may the Bell Curve be an inappropriate tool for looking at market risk? Find out what Mandelbrot (The Mis Behavior of Markets) and Taleb (The Black Swan) have to say.
Regarding EVA. Some major companies live and die by EVA. For example, at General Electric, more capital is allotted only to divisions that pass the EVA threshold, and divisions that regularly flunk are sold off. It’s a simple, but powerful, approach that looks at a company’s numbers from an economist’s point of view and factors in not just explicit costs but also implicit costs in measuring a firm’s profitability. Read “EVA Breathes New Life into the Concept of the Cost of Capital” on page 345. Tell us what you think.
• Should we care about Executive Compensation or how much hedge fund managers earn? How should incentive compensation be changed? Should it be changed? Who can change it? Southwest Airline’s CFO hedged fuel prices and saved the company hundreds of millions of dollars. Why was he alone in the industry in doing so? John Paulsen (admittedly controversial) made his partners $20 billion dollars over the past few years mostly by correctly forecasting the housing market and the problems in the banking industry. They paid him over $4 billion for his work. Too much, or none of our business?
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