Ten Threats to Berkshire Hathaway

Though Warren Buffett is rightfully regarded as the world’s greatest value investor even he is not infallible. Uncle Warren’s masterpiece; Berkshire Hathaway (NYSE: BRK.B), faces many serious threats that could bring it down in the future.

Something that Berkshire investors need to keep in mind is that their beloved company was designed to take advantage of certain conditions. If those conditions do not exist, the company itself could have a very hard time retaining value.

The greatest threats to Berkshire Hathaway (NYSE: BERK.A) come from changing conditions some of which, Buffett has not anticipated or prepared for. Here is a list of 10 threats all Berkshire Hathaway investors and fans should be aware of:

1. Growing wage stagnation and income inequality in the United States. A quick glance at Berkshire’s list of companies reveals that Buffett’s business model requires a prosperous middle and upper-middle class in the United States to profit. Its’ stable of brands includes homebuilders such as Clayton Homes, jewelers like Ben Bridge and Borsheims, Jordan’s Furniture, the RV maker Forest River, BoatUS (which insures recreational watercraft), and the Scott Fertilizer company.

 

• All of these businesses have one thing in common: they need a very prosperous American middle class to succeed. Yet as many observers note the American middle class is losing ground. The Pew Research Center reported that the median wealth of the average middle class family was 28% lower in 2013 than it was in 2000. That means Americans have less to spend on all the stuff Buffett’s companies are selling.

• Another trend identified by Pew that does not bode well for Berkshire Hathaway is that the middle class is shrinking in 2001, 54% of Americans were middle class, by 2015 that number had fallen to 50%. Closely related is the Upper middle class which has not grown since 1981 according to Pew.

 

2. America’s shaky and bubble-prone real estate market. Observers will know that Uncle Warren has bet heavily upon America’s real estate market and the middle class’s home-ownership habit. Berkshire now owns real estate companies, Johns Manville, Home Services of America, Shaw Floors, RC Wiley Home Furnishings and even the Acme Brick Company. These companies all require a high rate of home ownership and increasing demand for real estate to prosper.

• The problem with that is the home ownership rate has been falling for some time will continue to fall, the Urban Institute reported. The rate hit a high of around 67% just before the 2007 mortgage crisis but fell to 63.6% in 2013. The Institute expects the rate to fall to 61.3% by 2030 and keep falling for at least 14 years. To make matters worse the majority of the 22 million new American households that will be created over the next decade and a half will be renter households, The Washington Post’s Wonkblog reported. The causes of this phenomenon include stagnating incomes and rising student debts which make it hard to get a mortgage.

 

3. The growing popularity of digital media. Buffett’s stable of companies is top-heavy with legacy media assets including newspapers, TV stations, and a wire service – Business Wire. The newspapers depend heavily on advertising revenue, which is dropping dramatically largely because of the rise of Alphabet’s Google. A greater threat here is the growing number of people; particularly younger and more affluent individuals, that rely exclusively upon digital sources for their news and entertainment. Some of Buffett’s signature holdings include the Buffalo News and BH Media Group which owns dozens of small town and regional newspapers as well as a TV station.

4. Fewer Americans are driving and they are less likely to buy a new car. Berkshire Hathaway can be safely called an “auto-centric organization.” It owns a $1.7 billion stake in General Motors (NYSE: GM), a group of car dealerships (Berkshire Hathaway Automotive) and one of America’s best known auto insurance brands – GEICO.

 

• This makes it vulnerable to younger people’s refusal to get behind the wheel.  The percentage of Americans that hold driver’s licenses has been falling and young people are less likely to drive than ever before, The University of Michigan’s Transportation Research Institute reported.[i] Back in 1983, around half of all 16-year-olds had a license today 25% do. Only 76.11% of those between ages 20 and 24 had a driver’s license in 2015, as recently as 2008 82% did. The percentage of persons between 24 and 44 that lacked driver’s license was also rising.

 

• An even greater threat than the driving decline might be the tendency of Americans to keep their cars longer. The average car or truck on US roads is now 11.5 years old and the percentage of older cars is likely to rise in coming years. This means fewer sales for auto dealers and lower insurance premiums for GEICO to charge.

 

5. The coal industry is dying. One of Berkshire’s highest profile assets is the Burlington Northern Santa Fe Railroad (BNSF) which is heavily dependent on shipments of coal – a commodity for there is increasingly no market – for much of its revenue. Nearly 40% or 200 of the nation’s 523 coal burning power plants had shut down as July 2015, the Sierra Club reported. King coal is dying a death from a thousand cuts that includes tough federal regulations, cheaper natural gas, growing use of alternative energy sources to produce electricity and low market prices. Once coal is gone, the BNSF is going to have to find something new to haul or face a massive revenue loss. Note: Berkshire can make up some of losses from coal because it owns pipelines for natural gas.

 

6. Falling oil prices. Berkshire Hathaway has profited handsomely from the fracking boom in the United States triggered by high oil prices. The BNSF makes a lot of money hauling fracking supplies including sand. On March 29 Baker Hughes reported that the number of rigs drilling for oil in the US had fallen again to 372. Buffett has avoided some of this by selling Exxon-Mobil (NYSE: XOM) but he still holds a major stake in the refiner Philipps 66 (NYSE: PSX).

 

7. Changing consumer habits. Berkshire Hathaway’s vaunted stable of companies and stock portfolio are chock full of old-fashioned brands. Old-line names in the portfolio include Walmart Stores Inc. (NYSE: WMT), Coca-Cola (NYSE: KO) and GM. Berkshire’s subsidiaries include Kraft-Heinz, Duracell, Fruit of the Loom, See’s Candies and International Dairy Queen Inc. One has to wonder how profitable these companies can be in an America where people shop on Amazon (NASDAQ: AMZN), eat at Chipotle Mexican Grill (NYSE: CMG) and stock their pantries with private label goods from Aldi. At some point Berkshire is going to have to start making some concessions for changing consumer tastes, particularly as the older generations that use those brands die off.

 

8. The changing nature of American retail. Berkshire Hathaway is still heavily invested in what one might call the 20^th Century retail network in a 21^st Century America.  For example Berkshire still owns a large stake in Walmart despite that company’s recent revenue decline. Its subsidiaries include Benjamin Moore; which sells paint through small dealers in a nation where people shop for home repair supplies at Home Depot (NYSE: HD)  and Lowe’s (NYSE: LOW). It also owns the food maker Kraft Heinz, at a time when grocers are increasingly specializing in private label brands. Berkshire also owns at least one catalog company; Oriental Trading, in the age of Amazon.

 

9. The lack of a clear succession plan at Berkshire Hathaway. Warren Buffett is 85 years old and he had a bout with prostate cancer in 2012. Despite that there’s no clear succession plan at the company, media reports indicate Buffett’s son Howard could take over as chairman, but they do not say who would make the decisions. A big problem is that Buffett’s sidekick and longtime number-two man Charlie Munger is 91; six years older than Uncle Warren. Obviously Berkshire Hathaway is not an ordinary company most of its subsidiaries effectively run themselves but still it needs somebody to make decisions. Without strong leadership Berkshire could quickly flounder.

 

10. Warren Buffett’s star power. Strangely enough the biggest threat to Berkshire’s future is Uncle Warren himself. The company is largely built on his reputation, many people only buy its stock because of him. It is hard to imagine Berkshire Hathaway without Warren Buffett. Its share price will fall by 10% to 20% after Buffett’s death even if he chooses the perfect successor. The only way some shareholders will be satisfied is if Buffett is cloned. My prediction is that Berkshire Hathaway will face serious turbulence and a lot of people will make a lot of money by shorting it when Buffett’s successor takes over. It will probably take several years for that individual to prove himself or herself to investors and any missteps could prove disastrous.

 

Berkshire Hathaway will survive

Despite all this Berkshire Hathaway will survive because it is a strong company that makes a lot of money. Unfortunately it could lose its legendary status without its beloved founder in the head office.

[i] http://www.umich.edu/~umtriswt/PDF/UMTRI-2016-4_Abstract_English.pdf