Like the sparrows returning to Capistrano, or geese flying south for the winter, some things are annual events. Such, is the case with the seemingly annual articles calling for Berkshire Hathaway to pay a dividend or do share buybacks. After all, Berkshire builds up free cash at the rate of roughly $1.5 billion a month, and Omaha being the small place that it is must be running out of places to put it.
It’s a situation that just seems to be getting bigger and bigger, and it has been for decades.
In 2007, Buffett plunked down $4 billion to buy 60% of the holding company the Marmon Group from the Pritzker family. At the time, Berkshire was sitting on a record $40 billion in cash, and the purchase of Marmon’s 63 companies was a good use of some of that money as it greatly expanded the breadth of Berkshire’s manufacturing companies.
Here we are a decade later and Berkshire has over twice the cash it had at that time despite having acquired much larger companies in the interim period, including BNSF Railway and Precision Castparts.
At times, Berkshire reminds me of the fairy tale “The Sorcerer’s Apprentice,” where the magician’s apprentice cuts a broom in half only to find it turn into two brooms. Each broom he cuts becomes another pair of brooms until he is surrounded by brooms. While not every investment Berkshire has made has worked out, many of them have worked out so well that the cash used to purchased them has been returned to Berkshire and the acquired company then produces even more cash.
Currently, Berkshire is again sitting on over $91 billion in cash. Even deducting the $20 billion Warren Buffett likes to keep on hand in his rainy day fund for protection against recessions, great recessions, or great depressions, there is a lot of spare cash piling up, Surely, as some ask, they won’t miss $5 billion or so a year if they kick it out as a dividend?
Just this month, Bloomberg News published “The Case for a Berkshire Dividend,” which trod this familiar ground. In their defense, this is certainly one of the top questions I’m asked whenever I discuss Berkshire with anyone. “Don’t Berkshire shareholders deserve a dividend?” After all, the company has an ever growing cash hoard.
I will save the suspense and get right to my answer. In my opinion, shareholders may deserve it, but they should not want it.
Now that you have my answer, let’s look at why I say no.
Warren Buffett doesn’t like the idea
Going against the wisdom of the world’s greatest investor has been a losing strategy for decades, and in this case, Warren Buffett doesn’t believe a dividend is the right thing to do. When it comes to Berkshire, Buffett applies the same standard as he does with evaluating any other company, and looks at the “’what-will-they-do-with-the-money’ factor.” In Buffett’s view, Berkshire is better off holding on to cash in order to have it available not just for security in economic down times, but to make clever financing deals and to fund acquisitions big and small.
Buffett uses Berkshire’s cash to make the company better
If you liked the old Berkshire Hathaway you probably love the new and improved Berkshire. Over the last decade, Buffett has used Berkshire’s cash to acquire “elephants” such as BNSF Railway ($35 billion) and Precision Castparts ($37.2 billion), which have strengthened and diversified Berkshire’s earning power. He has also used the cash to purchase sizeable but smaller companies, such as the Van Tuyl Group auto dealerships ($4.1 billion), electric utility NV Energy ($5.6 billion), and Altalink ($2.9 billion). What’s more, Berkshire’s cash ($12.25 billion) enabled it to become the majority shareholder in Heinz, which through another mega-acquisition made Berkshire the largest shareholder in Kraft-Heinz.
In addition to all these large and medium-sized acquisitions, Berkshire has plenty of money for “bolt-on” acquisitions that strengthen its existing businesses. On average, Berkshire spends roughly $3 billion a year acquiring companies that its managers believe will strengthen their various businesses.
For example, in 2012, Berkshire’s McLane Company, a $33+ billion dollar supply chain services company that provides grocery and foodservice supply chain solutions for convenience stores, mass merchants, drug stores, and chain restaurants throughout the United States, acquired Meadowbrook Meat Company, one of the nation’s largest customized foodservice distributors for national restaurant chains. The acquisition boosted McLane’s revenues by roughly 20 percent.
Year after year, Berkshire’s stable of companies get stronger and own more market-share as Buffett allocates capital among the existing businesses.
Many of these acquisitions are small relative to Berkshire’s size but meaningful to growing Berkshire’s individual businesses. MiTek Industries, for example, acquired M&M Manufacturing in 2015, and three more companies, Sales Simplicity Software, Wrightsoft, and DIY Technologies in 2017.
Stock buybacks only make sense when the stock price is below its intrinsic value
As for stock buy backs, trading a dollar for anything less than a dollar doesn’t make a lot of sense. Still, many companies do it to satisfy investors hungry for short term boosts to stock prices, and quite frankly, to keep up with what has become Wall Street’s latest fad.
Warren Buffett noted in his 2011 letter to shareholders, “Charlie and I favor repurchases when two conditions are met: first, a company has ample funds to take care of the operational and liquidity needs of its business; second, its stock is selling at a material discount to the company’s intrinsic business value, conservatively calculated. We have witnessed many bouts of repurchasing that failed our second test.”
Dividends are a one size fits all solution seeking a problem
Don’t need cash? Well, you are getting it anyway. As Warren Buffett noted in his 2013 shareholder’s letter, “dividends impose a specific cash-out policy upon all shareholders.” Rather than you deciding when to cash-out, the decision is made for you, whether you want it or not. This is like having a neighbor decide to sell a small parcel of land to finance his daughter’s wedding, and requiring you to do the same even though no one in your family is getting married.
Warren Buffett is a better investor than you are, way better
By letting Berkshire maximize the amount of cash it has available for investing, it is able to make deals that you can only dream about. Here is just one example. In 2014, Berkshire provided provided $3 billion in financing so that Burger King could acquire Canadian restaurant chain Tim Hortons. The deal gave Berkshire preferred stock paying a sweet 9% return on its money. In a low interest rate environment, 9% was a very nice return, beating at that time any CD you wanted to put your dividend check into. But wait, there’s more. Berkshire also received warrants enabling it to buy 8,438,225 common shares of the newly christened Restaurant Brands International for a penny a share. How has that $84,438 investment worked out? As of January 20, 2017, Berkshire’s $84,438 has turned into $410,182,117. Think you can do better?
What happens when Buffett is no longer at the helm?
Granted, it will be hard for any future CEO to match Buffett’s legendary mix of investing savvy, patience, and creativity, but wouldn’t you want the next Berkshire CEO to have the full resources available for investing that Buffett had? Why handicap future CEOs with less free cash to invest? Starting a dividend now, would only create a situation that Buffett’s successors would be unable to discontinue.
Last, but not least, you have to ask yourself what you would do with the money you received from your dividend. If you have someplace better to invest it than in Berkshire then why didn’t you invest it there in the first place? Just look at 2016’s results. Berkshire’s stock rose 24.36% as compared to the S&P 500’s $11.24% increase. Money invested in Berkshire was the winning bet.
If you are a Berkshire Hathaway shareholder, you already own a portion of one the world’s strongest, most diversified companies. It’s a conglomerate that is managed by the most successful investor of all time.
Perhaps someday Berkshire will run out of elephants to acquire, or will not need to make bolt-on acquisitions that help its existing companies grow, but until that time, I want to leave my money invested right where it is.
© 2017 David Mazor
Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.