Gambler Buffett scores big with stock option bets

Berkshire 4Q profit up nearly 50% -- thanks in large part to chairman's wagers

Mar 3, 2013 @ 11:21 am

Berkshire Hathaway Inc. (BRK/A) said fourth-quarter profit rose 49 percent on gains tied to derivatives wagers made by billionaire Chairman and Chief Executive Officer Warren Buffett.

Net income rose to $4.55 billion, or $2,757 a share, from $3.05 billion, or $1,846, a year earlier, Omaha, Nebraska-based Berkshire said today in a statement. Gains on derivatives surged to $1.4 billion from $163 million.

Buffett, 82, uses index put options to speculate on long- term gains in stock-market indexes in the U.S., Europe and Japan. Those bets added $2 billion to profit in the fourth quarter before taxes as Japan's Nikkei 225 (NKY) Stock Average rallied.

“The probability of Berkshire ever having to take a loss on these contracts is very low” because they won't be settled for years, said David Kass, a professor at the University of Maryland's Robert H. Smith School of Business, who has taken groups of students to visit Buffett in Omaha.

Berkshire Class A shares gained 29 percent in the last year as Buffett struck deals to buy back stock and take ketchup maker HJ Heinz Co. (HNZ) private. That compares with the Standard & Poor's 500 Index's 10 percent advance.

The equity index contracts are tied to four stock indexes including the S&P 500, which fell 1 percent in the period, and the Nikkei 225, which gained 17 percent. Liabilities narrow when equity benchmarks rise, and the fluctuations are recorded each quarter in Berkshire's income statement. Gains on credit-default contracts, in which Buffett bets on the ability of borrowers to repay debt, were $67 million.

Buffett's Letter

“These derivatives have provided a more-than-satisfactory result, especially considering the fact that we were guaranteeing corporate credits -– mostly of the high-yield variety -– throughout the financial panic and subsequent recession,” Buffett wrote in his annual letter to shareholders.

Buffett built Berkshire over almost five decades through takeovers and stock picks into a firm valued at about $253 billion. Its more than 70 operating units haul freight, generate electricity, make building supplies and sell products from insurance to chocolate.

Book value, a measure of assets minus liabilities, rose to $114,214 a Class A share at the end of December from $111,718 three months earlier. Buffett's stock picks and takeovers have helped boost the figure more than 5,000-fold since he took control of Berkshire in 1965.

'Subpar' Year

Growth in book value failed to keep pace with the S&P 500 (SPX), including dividends, last year. Buffett has failed to measure up to that yardstick only nine times since he took control of the company in 1965.

Buffett called the 2012 performance “subpar” in his letter. Berkshire's Class B shares fell 1.2 percent to $100.85 at 4:59 p.m. in New York.

The insurance businesses had a fourth-quarter underwriting loss of $19 million as superstorm Sandy fueled claims costs. That compares with a loss of $107 million a year earlier. Insurance investment income fell to $805 million from $825 million in 2011's fourth quarter.

Property insurers including Travelers Cos., Allstate Corp. (ALL) and American International Group Inc. faced a surge in claims from Sandy. The October storm killed more than 100 people and damaged homes, businesses and infrastructure in New York and New Jersey. Total insurance losses may reach $25 billion, catastrophe modeler Risk Management Solutions Inc. said.

Largest Holdings

Buffett relies on managers of the businesses to handle day- to-day operating decisions, leaving him time to invest. That's allowed him to amass the largest equity holdings in companies such as Wells Fargo & Co. and Coca-Cola Co., and International Business Machines Corp. Berkshire's cash pile declined to about $47 billion at year-end from $47.8 billion three months earlier.

Buffett's biggest takeover, railroad Burlington Northern Santa Fe, was completed in 2010 in a $26.5 billion transaction. The business contributed $932 million to quarterly earnings, compared with $909 million a year earlier. An increase in shipments of construction products and petroleum helped mitigate the impact of fewer coal shipments.

Profit from utility unit MidAmerican Energy Holdings Co. fell to $294 million from $316 million a year earlier. The business, which sells electricity to homes in the U.S. and U.K., has been expanding its renewable-energy portfolio by buying solar and wind projects.

Manufacturing Unit

The manufacturing, service and retailing segment, which includes toolmaker Iscar and chemical company Lubrizol, added $829 million to earnings, down from profit of $856 million in the fourth quarter a year earlier.

Some fourth-quarter results were calculated by subtracting figures for the first nine months from the full-year data provided today.

Berkshire spent $922 million on equities and $1.57 billion on fixed-maturity securities in the quarter. It sold $1.08 billion in stocks and $375 million in bonds.

Berkshire increased its headcount by about 17,604 in the year to 288,462 as Buffett's managers completed a number of smaller acquisitions. Buffett listed employment at BH Media Group, which houses most of Berkshire's media operations. The unit had 3,660 employees.

Geico added 988 workers and McLane Co., the trucking unit, picked up 5,205. McLane reached a deal in July to acquire Meadowbrook Meat Co., which delivers groceries and alcoholic beverages to stores.

--Bloomberg News--

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