Insurance Underwriting Losses Drag Down Berkshire's 1Q Results
A string of catastrophes weighed on the insurance business, while non-insurance operations were a source of strength.
Market Update
Having released preliminary first-quarter results last week during its annual meeting, there weren't too many surprises in Berkshire Hathaway's (BRK.A) (BRK.B) first-quarter earnings (which were released after the markets closed on Friday). Operating earnings--which exclude the firm's investment and derivative gains and losses--decreased 28% year-over-year to $1.6 billion, as Berkshire booked more than $1.7 billion in underwriting losses at Berkshire Hathaway Reinsurance Group ($1.4 billion) and General Re ($300 million). These estimated losses were a direct result of the Australian floods, Cyclone Yasi, the New Zealand earthquake, and the earthquake and tsunami in Japan, all of which occurred during the first quarter. According to Warren Buffett, the quarter will go down as the second-highest period of losses for the reinsurance industry--trailing only the third quarter of 2005, which included a number of large hurricanes, including Katrina.
Looking at the firm's bottom-line results, net earnings attributable to Berkshire shareholders declined 58% year-over-year, as the company was impacted by several other one-time items, including a $1 billion gain that was booked during the first quarter of last year on investments made in Burlington Northern common stock prior to the acquisition, as well as other-than-temporary impairment losses on investments of more than $300 million recorded during the first quarter of 2011. Buffett dedicated some time during his remarks at the annual meeting last week to talk about the latter event, which resulted from the company identifying gains and losses on its Wells Fargo (WFC) stake using the specific-identification method rather than on an average-cost basis (which would not have required Berkshire to book the other-than-temporary loss during the quarter). Even with these hurdles, the company's book value (attributable to Berkshire shareholders) increased 8% year-over-year and 2% sequentially.
Unlike its insurance operations, Berkshire's non-insurance businesses were a source of strength during the quarter, reporting a nearly 50% increase in operating earnings year-over-year. While these results are distorted somewhat by the timing of the Burlington Northern acquisition (which closed in February 2010), that should not detract from the positive things going on in these operations. Despite the sluggish pace of the economic recovery, McLane posted mid-single-digit gains in revenue (and a low-single-digit gain in operating income), while Marmon posted a more than 5% increase year-over-year in both revenue and operating earnings. The company's "other businesses," which are composed of a wide host of firms (many of which are economically sensitive)--including Shaw Industries, Benjamin Moore, Fruit of the Loom, Dairy Queen, and See's Candies--reported strong results as well, with both revenue and operating earnings up double digits.
As for Burlington Northern, the railroad contributed more than $4 billion to revenue during the first quarter (compared with just $2 billion in the year-ago period). It also generated close to $1 billion of operating income for Berkshire Hathaway, compared with less than $500 million in the first quarter of 2010. This should not detract from the strong results that Burlington Northern is posting on its own, as increased rail volumes led to a more than 15% increase in unadjusted revenues (and a 13% increase in operating earnings) year-over-year. While there was some reason to pause on MidAmerican's top-line results, which were down 3% when compared with the first quarter of 2010, the energy subsidiary posted a double-digit gain in operating earnings year-over-year. Absent the positive results from Berkshire's non-insurance businesses, the company's first-quarter results would have been far worse than they were.
On a separate note, the company closed out the quarter with more than $40 billion in cash on its books (and that's before it received close to $6 billion from Goldman Sachs (GS) in April as part of that firm's repayment of the 10% cumulative perpetual preferred stock it had sold to Berkshire during the financial crisis). We continue to believe that this growing cash hoard will be a point of contention for many shareholders, some of which would like to see the firm institute a dividend (or, at the very least, pay out a special one-time dividend) if more lucrative investment opportunities are not available. With Lubrizol expected to take $9 billion out of the kitty during the second half of the year, we believe that Berkshire could still have more than $40 billion on the books at the end of 2011 (assuming that no other large deals are announced).
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