FINA5010W Financial Management
Case Study Report– Warren E. Buffett, 2005
Ankie Wong Benny Cheng Christine Wai Chris Tam Jacky Chan Veronica Chang
1155008805 1155006903 1002549534 1005140000 1155006899 1155008802
1
In this case study, we attempt to study an investment Guru, Mr. Warren E. Buffett, through (1) evaluating his 2 major investments - acquisition of PacifiCorp. in 2005 and the ‘Big Four’ (2) investigation and critical analysis of his 8 major investment philosophies and other important ideas such as intrinsic value, valuation of stocks and time value of money. I. Acquisition of PacifiCorp..
On May 24, 2005, it was announced that MidAmercian Energy Holdings Company, a subsidiary of Berkshire Hathaway, would acquire a
…show more content…
(Detailed calculation can be referred to Table 2) b) Book Value From the Value Line Investment Survey and Standard & Poor’s data provided, the market value of PacifiCorp. is derived by using median and mean multiples of the comparable energy firms. The result shows that the value of PacifiCorp. is ranged from $5.68 billion to $5.90 billion. Is Buffett paying too much? We have already found Buffett actually paid $4.67 billion for PacifiCorp.. Hence, the results obtained from the financial multiples - earnings per share and book value above seem to
4
conclude in 2 different directions. From perspective of price to earnings, he was paying at a mid-high side of it. However when we look at the book value, he paid over 20% less than the amount PacifiCorp. should worth. II. The ‘Big Four’
Besides PacifiCorp., Warren Buffett acquired many large companies; some of those acquisitions have been named as “Big Four” in Berkshire Hathaway; namely American Express, Wells Fargo and Gillette together with Coca-Cola. With multiple transactions between May 1988 and October 2003, it shows application of his stock pick up criteria for the holding period 12.5 years in ‘Big Four’. These criteria are mainly (1)simplicity and consistency of companies’ operation history (2) attractiveness of long term prospects (3) quality of management’s firm’s capacity in order to create value. The success was shown by their outstanding performance over the benchmark. Table 3 shows their holding
Swan-Davis, Inc. (SDI) manufactures equipment for sale to large contractors. The company was founded in 1976 by Tom Stone, the current chairman, and it went public in 1980 at $1 per share. The stock currently sells for $15, Stone owns 14 percent of the shares, and other officers and directors control another 13 percent. The industry is cyclical, and competition is strong, so profits are some-what unstable. Tables 1, 2, and 3 provide historical balance sheets, income statements, and ratios for the company for the period 1994–1996, Table 4 provides industry average data for 1994-1996, and Table 5 provides one security analyst’s forecasted data for the company based on assumptions
1. Was Borg-Warner’s Industrial Products Group a good candidate for a leveraged buyout in 1987? Evaluate the price paid and the structure of the deal that closed in May 1987. Are you optimistic about BW/IP’s prospects?
The share price of $270,000 was significantly higher because the “fair value” as perceived by the dissenters, which accounted for the chance of an IPO. Taking into account the recently traded Kohler Co. share prices, the book value of a share, and the possibility of an IPO greatly inflated what the perceived value of each share should be. While Kohler believed their voting control and ownership structure would remain the same, the shareholders believed otherwise. Because shareholders assumed Kohler would go public, they argued for a higher valuation so as to receive the highest price, and thus profit, in the buyout. So based on the highest MVE, we picked Masco as the comparable firm of choice. Using Masco’s MVE, $9838.8, and LTM EBIAT, $437.3, we solved for Masco’s P/E ratio, which was equal to 22.5. By multiplying the P/E ratio by Kohler’s LTM EBIAT (22.5 * $93.76), we projected a market value of $2,109,610,000. To solve for estimated share price, we divided the projected market value by 7,587.89, the number of shares outstanding to obtain an estimated share price of $278,023.47. This estimate is near the $270,000 per share offer price.
1. Discuss the nature of stock as an investment. Do most stockholders play large roles in the management of the firms in which they invest? Why or Why not?
Shareholders were led to believe that CA was more profitable than it was, and consequently suffered enormous losses. They had either paid more than they should have for the stock, or held on to it when, if they had known the truth, they would have sold it. 12 This extra compensation was at the expense of shareholders. 13 Richards’ actions would be considered unethical under the utilitarianism position, as his actions harms others, and under deontological positions, as he did not follow rules. In this sense, Richards’ actions would be regarded as much more serious under a deontological position, than under a teleological-parochialism position. 14 Accounting flexibility, or financial reporting choice, may also
4. The case indicates that the company’s “market value” of equity at June 30, 1999 was $460 billion. Compare this to the company’s “book value” of equity. What factors likely explain the difference between these two values?
Miller is an adherent of fundamental analysis, an approach to equity investing he had gleaned from a number of sources. Miller’s approach was research-intensive and highly concentrated. Nearly 50% of Value Trust’s assets were invested in just 10 large-capitalization companies. While most of Miller’s investments were value stocks, he was not averse to taking large positions in the stocks of growth companies. Overall, Miller’s style was eclectic and difficult to distill.
Like several companies, Nortel stipendiary their executives with stock choices (Collins, 2011). This compensation solely inspired the tendency to be but honest regarding the company’s finances. author closely-held stock choices that solely inspired his actions to fulfill or beat the benchmark set by analysts. If Nortel’s earnings showed to be higher than the benchmark, Nortel’s stock costs would rise creating the stock closely-held by management to be even a lot of valuable. By tweaking the books to indicate the road earnings price as critical the allowable accumulation price he created the stakeholders assume that the corporate was creating extra money than it had been. “Nortel ne'er incomprehensible a benchmark over the sixteen quarters (Collins, 2011).” it had been too tempting to bump the numbers up so the stocks gave the impression to be value over they were. “Nortel’s accounting practices junction rectifier to AN investigation by AN freelance review committee, that found that insubordination with accumulation and accounting fraud were undertaken to fulfill internally obligatory earnings targets (Collins, 2011).”
Moreover, it deals with the immediate opening problem of the case: the market’s response to the PacifiCorp announcement. Finally, it should help to motivate a discussion of Buffett’s investment philosophy.
4. Consider the Worldcom-MCI merger and the Qwest-US West merger. Trying to avoid hindsight bias, should the board of MCI and US West have accepted these offers? What is the obligation to shareholders? Was that obligation fulfilled? What about WorldCom and Qwest? Did their shareholders benefit?
Discuss Buffett’s analysis of the junk bond failures of the 1980s.What is Buffett’s view of the role to be played by investment bankers?
The combination of five factors in Yale’s investment philosophy plays an important role to Yale’s successful investment performance. However, among the five factors, the most critical and non-replicable factors are Yale’s ability to identify and invest in inefficient markets and to hire superior managers with aligned incentives; all of which came from expertise and years of experience in the industry. David Swansen’s expertise, in particular, plays a big role.
A closer look at case Exhibit 4 shows that in 1997, Braddock management applied a performance factor of .90 to BVPS, resulting in a market price of $18.65 per share. If indeed the company had a negative outlook at that time, then this price per share could be argued. Conversely, in 2002, management applied a factor of 1.70 reflecting a positive outlook and resulting in a premium market price per share of $68.26. This ultimately provided a sizeable payout to participating managers.
In March 1995, Fred Aldrich, a summer trainee with the First Investments, Inc., was called into the office of the head of investment analysis section of the trust department. The following conversation took place: Fred, here are the 1994, 1993, and 1985 Basic Industries Company’s financials (Exhibit 1) and a 10-year summary (Exhibit 2 ). Our trust department has owned this stock since the early 1980s. As you know, our portfolio people place a lot of emphasis on the quality of a company’s earnings and the return on owners’ equity in making stock selections. Well, they are worried. The 1994 Basic Industries annual report
The BP operations are spread across the world. It carries out its oil prospecting and extraction operations in 29 countries and retails its products in more than 70 countries. It currently employs a total of 79,700 employees over the globe and its international headquarter is located in London (BP p.l.c. 2012b). Detailed company particulars and operating information are attached at the Appendix A. For this report, we will be focusing on the current issues that BP faces, analysis of its financial performance and lastly, valuating its shares with the use of various valuation models.