Subject: Re: What Am I Missing? Please help!
Please explain to me what I'm missing in regards to BRK's current valuation.
If there are $400 Billion in securities, and $200 Billion in cash, doesn't that mean that you are getting the railroad, the utilities, the insurance operation and all the other business that are generating $35 Billion in free cash flow for $250 Billion?

One word: liabilities.

If you sold all the assets that Berkshire owns, to a first approximation you would get only about $571 billion.
You'd raise on the order of a trillion, but you'd have debts and other liabilities to pay off, around $490 billion.
(using the rough-and-ready approximation that book value is about what you'd raise)

It sounds extreme, but that's the difference: you can't just add up the assets, you have to subtract the debt. That includes simple debt, debt in consolidated subsidiaries, deferred tax liabilities mostly on appreciated equities, and float: if you wound things down, you would gradually have to pay out all that float pile as claims.

A slightly more realistic version would be to sell things off as going concerns. It's better to sell See's as an active profitable chocolate maker, not sell off their machinery and close them down.

(1) You can estimate what the railroad would sell for by using comps, and it would keep its own debt through that transaction.
(2) Same with the utilities.
(3) Sell the wholly owned operating subsidiaries (MS&R) debt free based on a simple multiple of trend earnings, using a multiple appropriate to the trajectory of earnings and ROE.
(4) The insurance operation is above average, so figure on a slightly above average price-to-book for that. Allocate to the insurance unit a typical minimum amount of excess capital by taking things from the pile of investments, starting with the fixed income.
(5) For the remaining investments beyond what you'd sell off with the insurance unit (cash, fixed, and equities), it's easy to estimate the liquidation value after tax. From that liquidated "remaining securities" pile, deduct the debt at the top level of the corporation.

This is better, but still not very suitable. I don't think this is a hugely helpful exercise since the firm *won't* be broken up and sold off.
Consequently I believed it's better off valued based on
(a) How big is the pile of assets on which I'm earning money year in and year out? Investments and operating businesses are effectively the same in this view.
(b) What net after tax return on that pile am I seeing, and
(c) How fast are the earnings increasing on trend?

In this "going concern" view the float is not seen a liability, because we *do* get the return on the investments backing that float liability more or less forever.
But a lot of the investments will forever be earning nothing on average in real terms, so I value some fraction of them at zero...without a return they don't count in category (a) above. The amount I knock off is not equal to the cash pile, I use a function of the size of the insurance operation which is the reason for needing some no-return assets.

Jim