01—Abstract
Summary
Summary of the 10-K filed March 15, 2005. Cited figures are marked; the original filing is the authoritative source.
Berkshire Hathaway's 2004 10-K, filed March 15, 2005, shows a company whose earnings are driven by a large insurance franchise (GEICO, General Re, Berkshire Hathaway Reinsurance Group, and Primary Group) alongside a diversified non-insurance portfolio.
Net earnings fell to $7.308 billiona in 2004 from $8.151 billion in 2003, but the decline was largely due to lower investment gains; operating results were more mixed. Shareholders' equity rose to $85.9 billion, and book value per Class A equivalent share increased to $55,824 from $50,498. Management reported that insurance subsidiaries maintained statutory surplus of roughly $48 billion and that the parent's ratings (AAA at major subsidiaries) reflect exceptional capital strength.
Underwriting results weakened sharply versus prior years. Hurricanes in the third quarter of 2004 produced substantial catastrophe losses, and General Re's North American property/casualty business earned only $11 millionb pre-tax, while BHRG's catastrophe exposure was highlighted as a source of potential volatility (with a $5 billion probable maximum loss from a California earthquake). Investment income declined 12.4% pre-tax to $2.824 billion, as Berkshire kept large cash balances ($40.0 billion at year end) in low-yielding instruments while awaiting acquisitions.
Premium volume at General Re shrank materially, and management expects further declines in 2005, reflecting an increasingly price-competitive reinsurance market. Investors should also note several legal and regulatory matters: investigations involving General Re/General Reinsurance (Reciprocal of America, SEC and New York Attorney General inquiries on non-traditional products, and an Australian regulatory notice) and class actions at GEICO.
Berkshire states it cannot predict outcomes or estimate losses. Subsequent events include the announced acquisition of Gillette by P&G, which Berkshire expects to generate an approximately $4.4 billionc pre-tax gain, and the continued expansion of the Clayton Homes and finance businesses funded by medium-term notes.
02—Key points
Key Highlights
- Net earnings of $7.3 billion in 2004, down about 10% from $8.2 billion in 2003, mainly reflecting lower after-tax investment gains ($2.26 billion vs. $2.73 billion)
- Shareholders' equity rose to $85.9 billion (book value per Class A equivalent share of $55,824, up from $50,498), supported by $5.3 billion of other comprehensive income
- Insurance underwriting pre-tax gain fell to $1.55 billion from $1.72 billion, with Q3 2004 Florida and Caribbean hurricanes causing roughly $790 million of catastrophe losses in BHRG and about $120 million at General Re's North American unit
- Investment income declined 12.4% to $2.82 billion pre-tax as cash balances rose to $38.7 billion in insurance operations, held in low-yielding instruments pending acquisitions
- Non-insurance pre-tax earnings rose to $3.07 billion from $2.78 billion, led by Clayton Homes, NetJets/FlightSafety improvements, and Shaw and Building Products margin pressure from rising raw material costs
- Float grew to $46.1 billion at year-end 2004 from $44.2 billion, with an underwriting cost that remained negative (i.e., underwriting profit)
- Multiple open regulatory and legal matters (ROA investigation, SEC/NY AG non-traditional products inquiry, APRA notice to GRA, GEICO class actions) are not estimable, per management
03—Questions
Frequently Asked Questions
Why did Berkshire's net earnings decline in 2004 even though its insurance businesses remained profitable?
Net earnings fell to $7.3 billion from $8.2 billion mainly because investment gains dropped to $2.26 billion after tax from $2.73 billion. Underwriting profit also declined to $1.0 billion from $1.1 billion as hurricane losses and lower General Re premiums weighed on results, while investment income fell 12.4% as cash was kept in low-yielding instruments. Non-insurance earnings partly offset these declines, rising to $1.9 billion from $1.7 billion.
How significant were the 2004 hurricanes to Berkshire's results?
The third-quarter 2004 hurricanes were material. BHRG estimated catastrophe losses of about $790 million, General Re's North American business absorbed about $120 million, and international operations about $110 million. Management noted that BHRG does not cede catastrophe risk to other reinsurers, which exposes it to large periodic volatility.
What is driving the large cash position and what does management plan to do with it?
Consolidated cash and equivalents reached about $40.0 billion at year-end 2004. Management stated it prefers to deploy cash into business acquisitions or long-term investments, but absent attractive opportunities it will keep capital in cash to preserve flexibility, which temporarily depresses investment income.
What are the main legal and regulatory risks disclosed?
The most notable items are the U.S. Attorney and Department of Justice investigation into General Reinsurance's dealings with Reciprocal of America, related civil suits, an SEC and New York Attorney General inquiry into non-traditional products, an Australian APRA show-cause notice regarding financial reinsurance, and GEICO class actions over aftermarket parts. Berkshire says it cannot predict outcomes or estimate potential losses for any of these matters.
What does the Gillette agreement mean for Berkshire's financials?
Berkshire owns a substantial stake in The Gillette Company. Following P&G's January 2005 agreement to acquire Gillette in a stock deal, Berkshire expects to record a pre-tax investment gain of roughly $4.4 billion when the transaction closes, which management indicated would likely occur in the second half of 2005.
04—Continue