Warren Buffett’s latest acquisition should remind his Berkshire Hathaway shareholders of his capabilities. On Monday, Berkshire announced it would buy the property and casualty insurer Alleghany Corporation for $11.6bn in cash.
Buffett has known Alleghany for years. It even resembles a version of Berkshire, with a division called Alleghany Capital that uses policyholder money to purchase whole companies.
But the similarities end there. While Alleghany has grown book value per share by 8 per cent annually on average for two decades, that pace has slowed. Over the past five years, shares of Alleghany have climbed only 37 per cent while Berkshire’s have doubled. Even after offering a 29 per cent premium to Alleghany’s shareholders, Buffett will pay a price to book ratio of 1.26 times, below Berkshire’s trading multiple of roughly 1.5 times.
In his most recent letter to shareholders, Buffett again extolled the virtues of insurance “float” or the premiums that policyholders pay to Berkshire insurance companies such as Geico. He pegged Berkshire’s float currently at a whopping $147bn (by comparison, Alleghany has $32bn in total assets).
Ideally, Buffett prefers his company to earn a decent annual underwriting profit — premiums less operating expenses and payouts to customers. He would also say that the insurance float, money paid to the insurer before any claims go out, offers nearly cost-free fuel to grow Berkshire’s industrial businesses. Perhaps, but in 2021, Berkshire’s railroad, power utilities and energy business generated $9.5bn in operating profits, twice what was allocated to insurance-investment income.
At least Berkshire’s money looks safe. True, Alleghany’s recent underwriting results have not been stellar. In three of the past five years, it has recorded underwriting losses arising from the pandemic and elevated natural disasters. Nonetheless, during that time book value per share still compounded at 5.5 per cent annually. The varied portfolio within Alleghany Capital, including a steel fabricator and a maker of toy figurines, managed a healthy 12 per cent return on equity in 2021. Buffett undoubtedly thinks he can better that.
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Source: Financial Times