Why did Berkshire's net earnings drop so much in 1999 if the business was growing?

Most of the decline came from lower realized investment gains, which fell by about $1.5 billion after tax, and from a sharp swing in underwriting results. General Re posted a $1,184 million pre-tax underwriting loss, driven by inadequate pricing, higher catastrophe losses, and a poor motion picture finance result. Management notes that realized gains have no predictive value, so the underlying earnings before realized gains, at $671 million versus $1,277 million, is the more relevant measure of the operating trend.

Is Berkshire's float growth a positive for shareholders?

Float rose to about $25.3 billion, and the investment income it generates is a major earnings driver. Insurance investment income after tax reached $1,764 million. However, the reinsurance businesses are writing many contracts where losses are expected to exceed premiums, so the float only creates value if underwriting losses stay modest relative to the investment returns earned on that money.

How exposed is Berkshire to stock market declines?

Substantially. The equity portfolio was valued at $39.5 billion at year-end 1999, and management estimates that a hypothetical 30% decline in prices would cut shareholders' equity by about 12.6%. The portfolio is concentrated, with roughly 60% in three investees, so single-stock moves can have a large effect. Management states it is not troubled by short-term volatility given its long holding periods.

What is the status of the MidAmerican Energy investment?

Berkshire agreed in October 1999 to invest about $1.24 billion in common and convertible preferred stock of a newly formed entity merging with MidAmerican Energy Holdings. This gives Berkshire about a 9.7% voting interest and a 76% economic interest on a fully diluted basis. MidAmerican shareholders approved the deal on January 27, 2000, and closing was expected by March 31, 2000. Berkshire also acquired $455 million of 11% trust preferred securities, with a possible additional $345 million commitment over seven years.

Are there any significant legal or regulatory risks disclosed?

Yes, one notable item is that GEICO was named in several class action lawsuits in 1999 over the use of non-OEM repair parts in collision claims. Management says the cases are in early stages and the outcome cannot be reasonably determined. Separately, the filing flags environmental and latent injury liabilities of about $3.2 billion net of reinsurance recoverables, which management says could develop adversely over several decades. Overall, Berkshire states its routine litigation is not expected to be material.

BRK-B/BRK-A 10-K FY1999 Annual Report — Revenue, Net Income, EPS

01—Abstract

Summary

Summary of the 10-K filed March 29, 2000. Cited figures are marked; the original filing is the authoritative source.

Berkshire Hathaway's 1999 Form 10-K shows a company whose core earnings power weakened sharply while its balance sheet and float base expanded.

Net earnings fell to $1,557 million^a ($1,025 per equivalent Class A share) from $2,830 million in 1998, but this decline is largely due to realized investment gains dropping from $2,415 million to $1,365 million (after-tax contribution $886 million vs. $1,553 million). Management explicitly cautions that realized gains have no predictive value. Earnings before realized investment gains fell to $671 million from $1,277 million, driven by an insurance underwriting loss of $897 million after tax, centered on General Re's pre-tax underwriting loss of $1,184 million, the worst annual result in its 15-year history.

Goodwill amortization and purchase-accounting charges rose to $648 million^b after tax, further pressuring reported results. The investment engine remained strong. Insurance investment income after tax rose to $1,764 million from $731 million, reflecting the General Re acquisition and float growth to about $25.3 billion.

Shareholders' equity was essentially flat at $57.8 billion^c, with book value per equivalent Class A share of $37,987 versus $37,801 a year earlier, because unrealized appreciation on equity holdings fell by roughly $0.8 billion. Year-end equity securities are carried at $39.5 billion, with Coca-Cola, American Express, and Gillette as the largest positions, and the company disclosed that about 60% of equity investments are concentrated in three investees. Total assets rose to $131.4 billion.

For investors, the key tension is between a deteriorating reinsurance underwriting record, particularly in General Re's North American and international lines and BHRG's catastrophe and retroactive contracts, and a growing pool of low-cost float plus a large equity portfolio. The filing also flags a pending $1.24 billion^d investment in MidAmerican Energy Holdings, expected to close by March 31, 2000, and GEICO's expectation that underwriting results will decline further in 2000 as it spends to grow policy count.

02—Key points

Key Highlights

Net earnings fell 45% to $1,557 million ($1,025 per equivalent Class A share) from $2,830 million in 1998, largely because realized investment gains dropped to $1,365 million pre-tax from $2,415 million.
Earnings before realized investment gains declined to $671 million from $1,277 million, reflecting a $897 million after-tax insurance underwriting loss, with General Re's pre-tax underwriting loss of $1,184 million the worst in 15 years.
Insurance investment income after tax rose to $1,764 million from $731 million, with float growing to about $25.3 billion (up from $22.8 billion), roughly two-thirds of it from General Re.
Shareholders' equity was about flat at $57.8 billion; book value per equivalent Class A share rose slightly to $37,987 from $37,801.
Equity portfolio of $39.5 billion is concentrated, with about 60% in three investees; a 30% market decline would reduce shareholders' equity by roughly 12.6%, per management's sensitivity table.
GEICO's underwriting profit fell to $24 million from $269 million as it spent heavily on marketing and policy growth, and management expects further declines in 2000.
Pending $1.24 billion investment in MidAmerican Energy Holdings (9.7% voting, 76% economic interest) was expected to close by March 31, 2000; Berkshire has paid no cash dividend since 1967.

03—Questions

Frequently Asked Questions

Why did Berkshire's net earnings drop so much in 1999 if the business was growing?
Most of the decline came from lower realized investment gains, which fell by about $1.5 billion after tax, and from a sharp swing in underwriting results. General Re posted a $1,184 million pre-tax underwriting loss, driven by inadequate pricing, higher catastrophe losses, and a poor motion picture finance result. Management notes that realized gains have no predictive value, so the underlying earnings before realized gains, at $671 million versus $1,277 million, is the more relevant measure of the operating trend.
Is Berkshire's float growth a positive for shareholders?
Float rose to about $25.3 billion, and the investment income it generates is a major earnings driver. Insurance investment income after tax reached $1,764 million. However, the reinsurance businesses are writing many contracts where losses are expected to exceed premiums, so the float only creates value if underwriting losses stay modest relative to the investment returns earned on that money.
How exposed is Berkshire to stock market declines?
Substantially. The equity portfolio was valued at $39.5 billion at year-end 1999, and management estimates that a hypothetical 30% decline in prices would cut shareholders' equity by about 12.6%. The portfolio is concentrated, with roughly 60% in three investees, so single-stock moves can have a large effect. Management states it is not troubled by short-term volatility given its long holding periods.
What is the status of the MidAmerican Energy investment?
Berkshire agreed in October 1999 to invest about $1.24 billion in common and convertible preferred stock of a newly formed entity merging with MidAmerican Energy Holdings. This gives Berkshire about a 9.7% voting interest and a 76% economic interest on a fully diluted basis. MidAmerican shareholders approved the deal on January 27, 2000, and closing was expected by March 31, 2000. Berkshire also acquired $455 million of 11% trust preferred securities, with a possible additional $345 million commitment over seven years.
Are there any significant legal or regulatory risks disclosed?
Yes, one notable item is that GEICO was named in several class action lawsuits in 1999 over the use of non-OEM repair parts in collision claims. Management says the cases are in early stages and the outcome cannot be reasonably determined. Separately, the filing flags environmental and latent injury liabilities of about $3.2 billion net of reinsurance recoverables, which management says could develop adversely over several decades. Overall, Berkshire states its routine litigation is not expected to be material.

04—Continue

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