A Tale of Two 'Oracles'

 | May 05, 2014 | 12:00 PM EDT
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As I return to the real world after my annual steak-sauce soaked sojourn to Omaha, Neb., my opinion of the investment merits of Berkshire Hathaway (BRK.A, BRK. B) are running as chilly as the cold northerly wind whipping across the open prairie, which spins the thousands of turbines that BH Energy (formerly  Mid-American Energy) uses to sell tax-subsidized electricity to the world.

The weekend is never not fun, and Warren Buffett and Charlie Munger are to be commended for accumulating tremendous wealth for themselves and their shareholders, something we all aspire to -- at least, presumably, if you are a Real Money Pro subscriber.

Our goal here is not to have fun nor offer commendations but to find good investment ideas, and I just cannot get enthusiastic about BRK anymore. (For the record, I have been unenthusiastic for some time, even though I will continue to go to the meetings until "the end.") My reasons were reinforced by what I saw and heard at the meeting.

1) Berkshire is not a "company," it is one man's portfolio. It is an impressive portfolio that performed exceptionally well in earlier times, but it is still just a "PA" (personal account) nonetheless. Walking through the Exhibit Hall adjacent to the arena in which the meeting was held reinforced this view. The Hall was a chaotic mixture of completely unrelated businesses: clothing, ice cream, candy, railroads, mobile homes, and so on.

Study the names of the businesses listed in the hall directory -- if this was any other gathering, you would be perplexed as to why those companies were gathered in one place. As much as Buffett tries to create synergy by renaming some of the businesses, the Berkshire name will only carry so far and will not create more than a superficial connection between unrelated businesses.

2) The men who built the portfolio will die soon. The meeting has been permeated by a joking denial of Warren and Charlie's ages, but rational investors cannot deny it. They joked about Charlie Munger "being in middle-age," or the stock compounding for another 50 years under Warren's supervision, but the reality is far grimmer. Munger is 90 and Buffett is 84; their days are limited. No amount of joking changes the fact that in a few years, BRK shareholders will own a massive, unwieldy and disjointed conglomerate that will be managed by new smart managers, but people completely untested in running a business of that magnitude. Buffett still sounds sharp at 84, but he was audibly winded simply walking onto the stage, and his dietary habits are notorious.

3) Berkshire has become so large that not even a supernaturally talented person like Buffett can outperform. Both Buffett and Munger readily admitted that size is a problem, and that Berkshire will only outperform in down markets. In strong rallies or tepid conditions, they expect nothing better than market returns for BRK. Their honesty is refreshing, but it also leaves shareholders rooting for recessions or panics in order to get some excess return. Considering that even Buffett believes America's "best days are ahead of it," owning BRK is really at best a hedge. Munger noted that Buffett is "insane" in comparing the retained earnings (gain in book value) of Berkshire against the S&P 500, because it is an unfair comparison; Berkshire earnings are taxed, and you are comparing change in earnings to change in capitalization. Munger is right: Shareholders should compare BRK's stock performance to the S&P 500. In either case, BRK has only been a market-performer. The albatross of size seems to be too much now for BRK.

My final knock on Berkshire was driven home during a chat-debate with a good friend who works at Amazon (AMZN). We were debating who was a better wealth creator, Jeff Bezos or Warren Buffett. My argument was that there is no comparison, because Buffett is not a wealth creator, he is a wealth accumulator. He has spent his life accumulating the wealth initially created by others. Everything that Berkshire does would be happening anyway, whether Buffett had bought the companies or not. We would still be eating See's candy, cooking with Pampered Chef, and living in a doublewide made by Clayton Homes. In contrast, Bezos created something that did not exist before. This is critical. If you buy Amazon, you are betting that incredibly innovative people will continue to innovate and create new things that change the world, as Steve Jobs liked to say.

If you buy Berkshire, you are betting that a master accumulator can continue to accumulate the wealth of others for the benefit of shareholders. When the master is gone, can the understudies accumulate at an equally impressive rate? Think about it.

Let's close with a comparison of two Oracles, one a wealth creator (at least until the last few years), the other an accumulator. The charts below show Oracle Corp. (ORCL) vs. Berkshire Hathaway.

Berkshire v. Oracle -- 1-Year Chart

Source: Yahoo!

Berkshire v. Oracle -- 5-Year Chart

Source: Yahoo!

Berkshire v. Oracle -- 10-Year Chart

Source: Yahoo!

Berkshire v. Oracle -- 15-Year Chart

Source: Yahoo!

Berkshire v. Oracle -- 20-Year Chart

Source: Yahoo!

If you are tempted to own Berkshire after this discussion, consider instead doing what Buffett has specified for his future widow: a mixture of cash and low-fee S&P 500 mutual funds. Even Buffett knows in his heart that outperforming will be close to impossible for Berkshire after he is gone.

Keep in mind that I am not making a short case here; I do not believe BRK will decline over the long-term. I just believe it cannot be more than a market-performer, and your research effort is better directed elsewhere.

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