DJIA 8711.13 -1.74 (-0.02%) S&P 500 1103.22 +2.57 (+0.23%) Nasdaq 1805.86 +24.57 (+1.38%) Value Line ndx 923.69 +5.20 (+0.57%) 30-Year Bond 106 20/32 +4/32 5.66% Yield
Consumer electronics retailer Tandy Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TAN)") else Response.Write("(NYSE: TAN)") end if %> jumped $4 1/16 to $46 1/2 after announcing it will sell its Computer City subsidiary to PC reseller CompUSA Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPU)") else Response.Write("(NYSE: CPU)") end if %> for around $275 million in a note and cash. Tandy had been planning on spinning off its lagging computer superstore business to focus on its roughly 6,900 flagship RadioShack outlets. Computer City has been hurt by falling prices in the PC industry -- in May, same-store sales at Computer City dropped 2% while same-store sales grew 4% at RadioShack. Tandy will take a second quarter after-tax charge of $38-$43 million for the sale. CompUSA, which gained $2 1/4 to $18 1/2, said the purchase will have a "positive impact" on future earnings and cash flow. In one fell swoop, CompUSA eliminates its nearest competitor, acquires an additional 100 stores, saves on advertising and overhead, and gains "synergies and efficiencies."
Edu-tainment and personal productivity software company Broderbund <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: BROD)") else Response.Write("(Nasdaq: BROD)") end if %> gained $2 1/4 to $18 3/4 after the company put the cap on a long period of underperformance by agreeing to merge with rival consumer software concern The Learning Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TLC)") else Response.Write("(NYSE: TLC)") end if %>. The two companies are familiar with each other, as the predecessor to The Learning Co., SoftKey International, stole away The Learning Co. (and took its name) from Broderbund in a bidding war. With a larger stable of annuity-like titles appealing to consumers of various ages, The Learning Co.'s income statement showed much more stability than Broderbund's. At $20, Broderbund is selling for less than half its early 1996 share price and less than a third of its peak in late 1995. Many people didn't expect Broderbund, which had never recorded a quarterly operating loss and had a great brand-name stable, to suffer the fate that it has. But The Learning Co. played the game more intelligently, if more aggressively, by keeping equity down and leveraging its recurring revenue streams. The replay number for today's conference call is (800) 475-6701, access number 396028.
QUICK TAKES: Intel <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: INTC)") else Response.Write("(Nasdaq: INTC)") end if %> was up $3 13/16 to $73 13/16 as The Wall Street Journal reported that the Pentium chip maker is countersuing Intergraph Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: INGR)") else Response.Write("(Nasdaq: INGR)") end if %> for patent infringement and has asked the Federal Trade Commission to provide a more definitive statement of the charges against Intel. The company said that the retaliatory actions it is accused of taking against Intergraph, Digital Equipment, and Compaq <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CPQ)") else Response.Write("(NYSE: CPQ)") end if %>, which recently acquired Digital, doesn't affect competition in the market... Dell Computer <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DELL)") else Response.Write("(Nasdaq: DELL)") end if %> gained $3 1/8 to $87 7/8 after it was chosen by the Air Force as one of two vendors for a blanket purchase agreement, under which Dell will supply Dimension and OptiPlex desktop PCs, Latitude CP notebooks, and PowerEdge 2300 servers.
IBM <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: IBM)") else Response.Write("(NYSE: IBM)") end if %> added $2 to $108 1/8 as the company introduced home computers that come with Microsoft Windows 98 software priced at $1,099 without a monitor... Online service provider America Online <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AOL)") else Response.Write("(NYSE: AOL)") end if %> rose $4 7/8 to $101 1/4 after the Supreme Court left intact a ruling that computer service providers may not be held liable for defamatory material posted on their systems. Other online directory and portal companies also advanced today. Yahoo! Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: YHOO)") else Response.Write("(Nasdaq: YHOO)") end if %> whooped up $10 5/16 to $139 9/16. Excite Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: XCIT)") else Response.Write("(Nasdaq: XCIT)") end if %> jumped $5 7/8 to $79 1/2. Lycos Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: LCOS)") else Response.Write("(Nasdaq: LCOS)") end if %> added $4 1/4 to $64 1/2... Lucent Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LU)") else Response.Write("(NYSE: LU)") end if %> leapt $2 1/2 to $74 3/4 as the telecommunications equipment maker said it will open a second research and development laboratory in Japan and hire 30 to 60 people to develop new fiber-optic networking technology.
Radio broadcasting company Chancellor Media <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: AMFM)") else Response.Write("(Nasdaq: AMFM)") end if %> picked up $1 to $46 1/16 after announcing it will acquire privately held outdoor advertising company Martin Media L.P. and several affiliated entities for $610 million in cash plus a working capital adjustment... Ever volatile oil and oil service companies moved up with the rise in crude oil prices, which gained on anticipation of further production cuts by OPEC. Texaco <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TX)") else Response.Write("(NYSE: TX)") end if %> picked up $1 5/16 to $60 11/16 and British Petroleum <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BP)") else Response.Write("(NYSE: BP)") end if %> rose $2 7/8 to $86 1/8. Ensco International <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ESV)") else Response.Write("(NYSE: ESV)") end if %> jumped $1 3/8 to $19 11/16; R&B Falcon <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: FLC)") else Response.Write("(NYSE: FLC)") end if %> was up $1 11/16 to $23 11/16; National Oilwell <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NOI)") else Response.Write("(NYSE: NOI)") end if %> picked up $1 9/16 to $27 1/2; and Atwood Oceanics <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ATW)") else Response.Write("(NYSE: ATW)") end if %> was boosted up $2 1/4 to $41 7/8.
Several airlines took off this morning after Merrill Lynch raised its earnings estimates for some carriers. Alaska Air Group <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: ALK)") else Response.Write("(NYSE: ALK)") end if %> rose $1 11/16 to $51 7/8; Comair Holdings <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: COMR)") else Response.Write("(Nasdaq: COMR)") end if %> was lifted $1 to $31 1/8; SkyWest <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SKYW)") else Response.Write("(Nasdaq: SKYW)") end if %> climbed $1 7/8 to $25 5/8; and ASA Holdings <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ASAI)") else Response.Write("(Nasdaq: ASAI)") end if %> added $2 5/16 to $48 1/8... Dulles, Va.-based United Express carrier Atlantic Coast Airlines <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ACAI)") else Response.Write("(Nasdaq: ACAI)") end if %> picked up $1 5/16 to $30 3/4 after announcing it has received written notification that its mechanics have ratified the company's four-year contract proposal, completing negotiations that began in March 1994... Internet advertising company DoubleClick <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DCLK)") else Response.Write("(Nasdaq: DCLK)") end if %> tacked on $3 1/8 to $42 1/2 after announcing it has signed on six more websites to its network, which now numbers 70 sites for which it delivers, sells, and tracks advertising online.
General Magic <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: GMGC)") else Response.Write("(Nasdaq: GMGC)") end if %> advanced $3/4 to $14 13/16 as the voice-recognition software company said it will demonstrate a prototype voice-activated screen telephone in California... Direct seller Amway Asia Pacific <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AAP)") else Response.Write("(NYSE: AAP)") end if %> added $1 3/8 to $13 1/4 after saying it is "encouraged" by a recent notice from Chinese officials providing the company with the legal basis to continue using independent sales representatives... Network software company Citrix Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CTXS)") else Response.Write("(Nasdaq: CTXS)") end if %> rose $2 1/8 to $63 7/8 after saying it expects $175 million in licensing agreements from Microsoft <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MSFT)") else Response.Write("(Nasdaq: MSFT)") end if %> through 2002.
Digital audio processors supplier Zoran Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ZRAN)") else Response.Write("(Nasdaq: ZRAN)") end if %> jumped $2 to $11 1/2 after announcing that Jiangsu Shinco Electronics Group, one of China's largest home audio and video OEMs, has selected the Zoran ZR38600 digital audio processor for use in a new Dolby Digital receiver designed to provide VCD and DVD player owners with high-quality audio sound reproduction and enhanced playback features... Steiner Leisure <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: STNRF)") else Response.Write("(Nasdaq: STNRF)") end if %>, which provides spa services and skin and hair care products on board cruise ships worldwide, moved up $1 5/8 to $28 1/2 after announcing it will buy back up to 500,000 shares.
Consumer appliance maker Sunbeam Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SOC)") else Response.Write("(NYSE: SOC)") end if %> dropped another $2 7/16 to $8 13/16 after reports surfaced that the SEC has launched an informal investigation into possible accounting irregularities at the firm. An informal probe is the first step used by the SEC to look at possible violations within a company. If it sniffs out something fishy, the agency is required to start a formal investigation before it can do the real Perry Mason work of requesting corporate documents and issuing subpoenas to employees. The developments only give financial pundits more ammunition to back up the negative editorial salvos fired Sunbeam's way -- a pounding that has intensified lately following the dismissal of chairman and CEO "Chainsaw" Al Dunlap a week ago.
Server-based communications products maker Equinox Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: EQNX)") else Response.Write("(Nasdaq: EQNX)") end if %> dropped $3 5/32 to $7 31/32 after saying its fiscal Q2 results will be almost flat compared to the $0.15 per share earned last year. The IBES mean estimate had called for earnings of $0.22 per share. Orders from the firm's original equipment manufacturer (OEM) clients will fall short of expectations in the current quarter, but are forecast to recover in the second half of the fiscal year. Clients such as IBM <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: IBM)") else Response.Write("(NYSE: IBM)") end if %>, AT&T <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: T)") else Response.Write("(NYSE: T)") end if %>, Unisys Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: UIS)") else Response.Write("(NYSE: UIS)") end if %>, Hewlett-Packard <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HWP)") else Response.Write("(NYSE: HWP)") end if %>, and NCR Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: NCR)") else Response.Write("(NYSE: NCR)") end if %> add Equinox's serial port boards and other products to their own servers to provide remote access, commercial point-of-sale, and industrial automation capabilities. The servers are then sold to consumers under the OEMs' own brand names.
QUICK CUTS: Brokerage and investment bank Merrill Lynch <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MER)") else Response.Write("(NYSE: MER)") end if %> slid $2 9/16 to $87 3/4 after agreeing to buy Canada's largest independent brokerage firm, Midland Walwyn, in a stock swap valued at $855 million... Networking products maker 3Com Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: COMS)") else Response.Write("(Nasdaq: COMS)") end if %> dropped $13/16 to $25 7/8 on reports Swedish telecommunications equipment maker Ericsson <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ERICY)") else Response.Write("(Nasdaq: ERICY)") end if %> has not talked with 3Com about a merger, despite rumors to the contrary. Ascend Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ASND)") else Response.Write("(Nasdaq: ASND)") end if %>, which was also rumored as a potential Ericsson merger candidate, was down $2 3/16 to $47 3/4... Healthcare firm American Home Products <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AHP)") else Response.Write("(NYSE: AHP)") end if %> was knocked down $1 1/16 to $51 1/16 after withdrawing its Duract pain medication from the market after 12 patients experienced a rare form of severe liver failure. Duract is made by the firm's Wyeth-Ayerst pharmaceuticals unit. AHP merger partner Monsanto <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MTC)") else Response.Write("(NYSE: MTC)") end if %> fell $1 3/8 to $56 14/16.
Health insurer Aetna <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AET)") else Response.Write("(NYSE: AET)") end if %> slipped $2 15/16 to $71 5/16 after Lehman Brothers lowered its rating to "neutral" from "outperform"... Casino operator Circus Circus Enterprises <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: CIR)") else Response.Write("(NYSE: CIR)") end if %> fell back $5/8 to $17 1/4 after rising Friday on a Business Week report that it is talking with Hilton Hotels <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: HLT)") else Response.Write("(NYSE: HLT)") end if %> about a possible merger. Analysts told Reuters that the report is merely speculation and an eventual merger is "unlikely"... Network security products developer Security Dynamics Technologies <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SDTI)") else Response.Write("(Nasdaq: SDTI)") end if %> sank $1 1/8 to $17 after SBC Warburg Dillon Read downgraded the company to "neutral" from "buy," citing a possible slowdown in the authentication token business... Health and beauty products distributor Allou Health & Beauty Care <% if gsSubBrand = "aolsnapshot" then Response.Write("(AMEX: ALU)") else Response.Write("(AMEX: ALU)") end if %> slipped $5/8 to $8 7/8 after reporting fiscal Q4 EPS (after charges) of $0.12, which is lower than the $0.21 earned a year ago.
Embedded systems software developer Wind River Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: WIND)") else Response.Write("(Nasdaq: WIND)") end if %> lost $1 5/8 to $30 7/8 after UBS Securities downgraded the firm to "hold" from "buy"... Aviation security and services firm International Total Services <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: ITSW)") else Response.Write("(Nasdaq: ITSW)") end if %> dropped $1 5/8 to $7 after saying it expects fiscal Q1 EPS of $0.14 to $0.15, below the Street's estimate of $0.26... Mortgage real estate investment trust (REIT) Laser Mortgage Management <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: LMM)") else Response.Write("(NYSE: LMM)") end if %> was zapped $2 1/16 to $12 after cutting its quarterly dividend by a nickel to $0.38 per share due to higher residential mortgage prepayment rates... Chromatics Color Sciences International <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CCSI)") else Response.Write("(Nasdaq: CCSI)") end if %> lost $23/32 to $7 1/4 after a class action lawsuit on behalf of shareholders was filed alleging that the company made false statements about its operations and products, including a device to monitor jaundice in newborns.
Remote telecommunications services provider IWL Communications <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: IWLC)") else Response.Write("(Nasdaq: IWLC)") end if %> dropped $6 1/4 to $8 3/4 after changing the terms of its proposed merger with privately held CapRock Telecommunications Corp. and saying fiscal Q4 revenues will come in below expectations... Minneapolis-based bank holding company TCF Financial <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: TCB)") else Response.Write("(NYSE: TCB)") end if %> sank $1 5/8 to $28 11/16 after being downgraded to "market outperform" from "buy" at Goldman Sachs... International long-distance telecommunications services provider Telscape International <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: TSCP)") else Response.Write("(Nasdaq: TSCP)") end if %> was disconnected for a $3 loss to $14 1/8 after saying fiscal Q1 earnings and revenues will be below expectations due to the bankruptcy of a wholesale client
Transaction processing services firm National Processing <% if gsSubBrand = "aolsnapshot" then Response.Write("(AMEX: NAP)") else Response.Write("(AMEX: NAP)") end if %> lost $1 1/4 to $10 1/16 after saying its fiscal Q2 and 1998 earnings will fall short of the First Call mean estimates of $0.12 per share and $0.62 per share, respectively... Genzyme Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: GENZ)") else Response.Write("(Nasdaq: GENZ)") end if %> dropped $1 3/16 to $23 13/16 after Furman Selz downgraded the biotechnology and healthcare products company to "hold" from "buy"... Subscriber telephone equipment designer Cidco Inc. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CDCO)") else Response.Write("(Nasdaq: CDCO)") end if %> fell $1 3/16 to $5 after saying its fiscal Q2 loss would be about 20% below the Street's estimate of a $0.10 per share loss.
FOOL
ON THE HILL
An Investment Opinion
by
Dale Wettlaufer
Berkshire, GenRe to Merge
Reinsurer General Re Corp. <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GRN)") else Response.Write("(NYSE: GRN)") end if %> traded up $38 3/4 to $259 today following the announcement last Friday afternoon that the company will be acquired by insurance underwriter, service, and retail company Berkshire Hathaway <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: BRK.A and BRK.B)") else Response.Write("(NYSE: BRK.A and BRK.B)") end if %> in a deal valuing GenRe at $22 billion, or $276.50 per share. GenRe shareholders will receive either 0.0035 shares of Berkshire Hathaway "A" shares or 0.105 "B" shares for each GenRe share they hold. Berkshire's "A" and "B" shares both fell around 4% today.
The deal is unique in that Berkshire is issuing equity to do the deal. While some will strain a ligament or two hastening to point out that Berkshire is by this evidence overvalued, the selling party conditioned the transaction on receiving Berkshire equity. While a good portion of Berkshire's Flight Safety acquisition was done with stock and smaller deals such as Star Furniture and Helzberg Diamonds were done with equity, Buffett does prefer to use cash where possible. Given that this is such a large deal and that Berkshire shares are probably "not undervalued," this was a good time to enlarge the company using Berkshire's equity. What is important is that both sides in the transaction believe that they are receiving equal value for the value that they're giving. The shareholder vote will probably bear that out later this year.
Berkshire agreed to pay a 26% premium for the company, and Berkshire chairman Warren Buffett said in a press conference Friday that this is justified by four synergies that both companies foresee in combining GenRe's extensive insurance underwriting operations with Berkshire. Among these, Berkshire puts no premium on smooth earnings, whereas GenRe has avoided certain underwriting opportunities to maintain a smooth earnings performance. The reason why it does this is to maintain its ratings with insurance and bond rating agencies, who are bigger fans of non-lumpy earnings than Buffett is.
The combined company can also lay off less of its insured risks (which reduces revenues and income in years where insured losses don't happen and vice-versa), since it will have the largest policyholder surplus (capital plus shareholders' equity) and the largest amount of shareholders' equity of any U.S. corporation and second-highest shareholders' equity base of any corporation in the world. This will also allow GenRe to take on larger single risks where the premiums are most attractive and will allow the company to move faster on opportunities where other companies have to groupthink the proposition.
Significant for a reinsurer that writes policies that can be enormously profitable one year and hugely unprofitable the next, GenRe can now write more policies that generate cash and economic income that materialize at different dates than statutorily defined (by insurance regulators and the IRS) net income. Because Berkshire writes short-duration (short tail) insurance at its GEICO subsidiary and generates taxable income through its other units, GenRe will have a tax shield advantage over other insurance underwriters who cannot write as many policies where there are significant timing differences between income as defined by tax authorities and income as defined by the economics of the insurance industry. Finally, the two companies will have the capital to invest in international operations where the intrinsic growth of developing economies is higher than in industrialized western nations. Like Coca-Cola <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: KO)") else Response.Write("(NYSE: KO)") end if %>, this not only increases unit volume, but also increases profitability where competition is less intense.
On the investing side of things, the deal brings in more than $20 billion in float (funds represented by premiums that have been paid by clients but not yet paid out by the company in claims) for Buffett to manage. Float is the more important element of the deal for investors to look at because it's neither debt nor equity. While debt has an explicit cost associated with it and equity has an implicit cost associated with it, insurance float has been a virtually no-cost source of funds for GenRe over a fifty year time period. In the hands of Buffett, the spread between what can be earned on $20 billion+ of that float plus GenRe's excess capital is a key determinant of shareholder value.
When looking at the price paid for the acquisition, one has to consider that the operating strength of the acquired company should be significantly enhanced by this deal as well as the fact that this brings in more capital to the Berkshire fold than just GenRe's shareholders' equity. Before the deal was announced, Berkshire was trading at approximately 1.89 times shareholders' equity, insurance float, and the present value of deferred taxes. This amounts to capital that Berkshire can make perpetual use of for investing purposes. We add back deferred tax liabilities because the bulk of this liability, represented by taxes on the unrealized gain in the value of investments in Coca-Cola and Gillette <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: G)") else Response.Write("(NYSE: G)") end if %>, won't come due probably for as long as Buffett lives. If the gains aren't realized on these investments, the taxes don't have to be paid, and we therefore take the majority of this noninterest-bearing liability out of liabilities and add it back to the equity base of the company.
Making the same adjustments for the net capital at GenRe's disposal, the deal valued GenRe at a discount of 24.7% to its per-share shareholders' equity and insurance float (not adding back deferred taxes to the equity base). Considering that only a little over a quarter of this capital is represented by equity and the rest by insurance float that costs the company next to nothing on a regular basis, Buffett's hurdle on beating the cost of this capital is around 4% of capital. In other words, if the funds on the assets side of the balance sheet represented by these resources on the liabilities and equity side of the balance sheet meet Buffett's target of a 15% yearly rate of return, the targeted spread between return on invested capital and the cost of capital for GenRe's insurance operations will be around 11%. That's more than twice the spread of the 5% for the S&P 500 and a median spread of 1.5% to 2% for the S&P 500. Up in the double-digit range, you're talking about rates of return available to high-tech companies, most of whom cannot sustain it, however.
Berkshire Hathaway has been able to sustain year-over-year rates of change in shareholders' equity per share in the mid-20% range since the 1980 and a 22% compound annual growth in insurance float over that same period. With a burgeoning capital base, investment results on investable funds surpassing the 30% rate in some years, and a combined cost of float and equity for Berkshire around 10% (due to a higher mix of equity to insurance float), it's easy to see why the company has done well over the years.
The simple fact is that the company's return on invested capital has been very good, on average, over a more than three decades, and in some years it goes off the good side of the chart. On average, Buffett probably targets a lower spread because Berkshire's premiums to surplus leverage are lower than GenRe's. It doesn't appear that insurance leverage will change at GenRe. With the greater amount of capital in use at GenRe coming from insurance operations than at Berkshire, the targeted spread between cost of capital and return on invested capital at GenRe may actually be higher than at Berkshire. In addition to the synergies of the deal, that's where the 26% premium comes from.
Berkshire shareholders get a new operating unit with good people, excellent distribution, a huge increase in its capital base at a substantial discount to the current valuation of Berkshire alone, a possible decrease in cost of capital, and a CEO in GenRe's Ron Ferguson who is more worried about economic returns than returns that look better in GAAP (Generally Accepted Accounting Principles). All this for a 22% increase in Berkshire shares. Put together with the fact that Berkshire will continue to have the lowest overhead-to-investable assets ratio of any Fortune 500 corporation with the highest net worth of any U.S. corporation, the combined company will look like Reggie White with the moves of Barry Sanders and the discipline of Vince Lombardi on capital allocation and risk management. Suddenly, the rest of the field looks like Brian Bosworth and Scott Norwood.
Please see the Motley Fool's Conference Calls page for call information and links to synopses.
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Contributing Writers Yi-Hsin Chang (TMF Puck), a Fool Brian Graney (TMF Panic), Fool Two Alex Schay (TMF Nexus6), Fool, too Dale Wettlaufer (TMF Ralegh), Final Fool
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