Berkshire Hathaway 2015 Annual Meeting Notes By Ingrid R. Hendershot, CFA – Hendershot Investments
We attended the Golden Anniversary Berkshire Hathaway annual meeting held on May 2, 2015, in Omaha, along with a record crowd of more than 40,000 other folks from around the globe who gathered once again for the Woodstock for Capitalists. Warren Buffett, Chairman of Berkshire Hathaway, and Charlie Munger, Vice-Chairman, answered questions from shareholders, analysts and the media. The meeting opened once again with an entertaining movie produced by John Landis of Trading Places that included humorous clips with Buffett and Munger acting with celebrities in skits featuring their brands, and ended with Warren Buffett, as the Berkshire Bomber, in the ring with Floyd Mayweather, welterweight boxing champion, in a parody of Mayweather’s fight which was scheduled later that evening with Manny Pacquiao.
Here are my notes from the annual meeting.
First Quarter Results
Warren Buffett began the meeting with a brief recap of Berkshire Hathaway's first quarter financial results (see our detailed first quarter analysis for Berkshire Hathaway on our website). Book value increased .5% from year end to $146,963 per A share. Insurance float as of 3/31/15 was approximately $83.5 billion. Operating earnings increased 20% to $4.2 billion during the first quarter. Burlington Northern Santa Fe (BNSF) did dramatically better in many measures as Berkshire Hathaway spent more money on the railroad. BNSF gained market share during the quarter. The trains are running again the way they should with huge improvement over last year.
Business Practices Of Clayton Homes And 3G Capital
Warren Buffett responded to the long-term shareholder with heartburn over “predatory lending practices” described in The Seattle Times article on Clayton Homes and the moral practices of 3G Capital, which gutted jobs at Tim Horton and Heinz when they took over the companies in partnership with Berkshire. The shareholder wondered what happened to capitalism with compassion historically practiced by Berkshire Hathaway.
Buffett noted there were important mistakes in the Clayton Homes article. Clayton follows an exemplary pattern and is extraordinary in home building and the mortgage business. The greatest cause of the housing bubble of 2008 occurred when the mortgage holder became totally divorced from the mortgage originator. The mortgage originator sold mortgages around the world and suffered no loss if loans went bad. At Clayton, unlike other builders, mortgages are offered to all buyers of their homes. Berkshire retains roughly $12 billion of mortgages on 300,000 homes. When a mortgage goes bad, the person who bought it loses and the person that owns the mortgage loses. Since Berkshire Hathaway retains 100% of the mortgages, they have the same interest as the buyer. Berkshire has no interest in selling anyone a house where the mortgage will default. There has been much talk in terms of possible changes in mortgage rules - not making mortgage loans to people who will get in trouble on the loans. Most Clayton home buyers are lower income buyers who would not be able to have a home without Clayton financing. At Clayton, they lend intelligently to people who can make payments and keep the house. Clayton is exemplary in doing that. However, about 3% default, which may be due to death, divorce or the loss of a job. In those cases, Clayton loses money, and the person who bought the home loses money. However, 97% of Clayton homebuyers don’t default. Buffett advised folks to take a look at the 1200 square foot Clayton house on display at the meeting. For $69,500, the house, complete with appliances, will be transported and ready to go. The home buyer only needs land, which may cost another $25,000. This represents a decent value with Clayton putting their own money at risk to help the homeowner finance the home.
Buffett read The Seattle Times article, which said Berkshire Hathaway was making a 20% profit on the homes which he knew was “nonsense.” The statement in the affidavit mentioned in the article discussed a gross profit of 20%. The report confused the difference between gross profit and net profit. Net profit includes operating expenses and taxes. Clayton’s gross margin is 20%, however, the pre-tax margin is 3% and the net profit margin is just 2%. Clayton always provides buyers the lending terms available from a variety of lenders. Buffett displayed a copy of the one-page document with no small print on it with a list of four or five lenders. Buffett exclaimed that he makes no apologies about Clayton’s lending terms, noting that he has not received one call from any party in connection with a Clayton home complaint in the last three years.
Buffett noted that Clayton Homes is regulated in almost every state. During the last three years, they have had 91 examinations by various states to make sure they conform to state laws. The largest fine from all the exams has been $5,500 with $110,000 issued in refunds. Most borrowers have FICO scores below 620, with the average principal and interest payment approximating $600 a month. Buffett concluded that he is proud that Clayton Homes’ management has put 30,000 people into homes at a low cost. A high percentage of those folks will have their homes paid off probably in 20 years or less. Clayton Homes have been a real bargain.
Charlie added that he did not know much about the lending practices of Clayton Homes. He did acknowledge that they sold an enormous amount of homes and had 50% market share among manufactured homes, which is a very efficient way to create houses. He also noted that Clayton is a very productive part of the economy. He stated, “You can't make lending to poor people buying houses 100% successful.”
Buffett agreed as death, divorce, and loss of a job impacts the financial ability to make mortgage payments –noting it happens with high-priced houses, too. It happens to people living on the edge. During the 2008/2009 recession, the default rate on regular homes in all kinds of securitized deals was many times more than what happened at Clayton Homes.
Turning to 3G management practices, Buffett said 3G people are successful in building marvelous businesses. They entered into purchases where there were more people running the business than needed. After a reduction of people needed, the companies did well. Burger King outgrew its competitors by a significant margin. Buffett stated, “I don't know any company that has a policy that says we will have a lot more people than we need. I hope our Berkshire Hathaway companies are not being run with more people than we need.”
Charlie agreed that businesses need to be right-sized. He explained what happened in Russia. Some workers said, “They pretend to pay us, and we pretend to work.” With that approach, an economy does not work. Charlie concluded, “Of course, we want the right number of people in the right number of jobs.”
Buffett recounted that in the past, 1.6 million people worked in the railroad business which was a lousy business. Today, less than 200,000 folks work in the railroad business, which is now carrying more freight, covering more distance and doing it in dramatically safer conditions. Buffett concluded, “Efficiency is required over time in capitalism. I tip my hat to the 3G people.”
In another question