Berkshire's Buffett-ing

This might be the year that the rest of us got smarter than Warren Buffett. America's best-known investing whiz runs Berkshire Hathaway, pals around with Bill Gates and famously shuns tech stocks. Yet tech stocks, the day traders' favorite food, have sustained the market, while Berkshire's A-class stock is down 19% and headed for its first losing year since 1990. By the end of last week, when stocks in general were bruised by fears of inflation and mixed earnings reports, the company had lost $20 billion of market value.

A superstar stock picker, Buffett has taken Berkshire's shareholders for an amazing ride, largely on the backs of stocks like Gillette, Coca-Cola and Disney. If you had put $10,000 in Berkshire when Buffett bought control in 1965, it would be worth $51 million today--literally 100 times the gain of the Standard & Poor's 500. Buffett's investment success has long overwhelmed Berkshire's other side, which owns and operates companies in aviation, furniture, insurance and fast food. Profits from those businesses traditionally haven't helped in evaluating Berkshire because investment gains have meant so much more.

That's still the case. But a shift is under way, one that has highlighted Berkshire's operating performance, and is forcing Wall Street to change the way it looks at the stock. Buffett has been buying more whole companies than company shares in recent years. Just last week he signed a deal to buy all of Jordan's Furniture, a New England retailer with $250 million in annual sales. His biggest deals, though, have been in insurance, starting with auto insurer Geico in 1996 and then the $22 billion acquisition of reinsurer General Re at the end of 1997. (Insurance companies need to lay off risk, hence reinsurance companies.)

In the process, Buffett has rebalanced Berkshire in startling fashion. The company's vaunted stock portfolio accounts for just 33% of Berkshire's total assets. As recently as 1995, the stocks accounted for a whopping 76% of assets. "To keep thinking of Berkshire as a big stock fund is absurd," asserts Alice Schroeder, an insurance analyst at PaineWebber. She began covering the company this year, underscoring Berkshire's insurance bent.

This shift has come at a price. Berkshire's famous five-digit stock quote finished last week at $57,000 for the A shares. That's way down from the March 12 high of $81,100, and some analysts are calling it a bargain. From high to low, the stock fell 33% last summer, its steepest decline in a decade. Seldom has Buffett put such a hurt on his shareholders. Doing so now, while the economy sparkles and the stock market remains up for the year, is especially vexing.

Has the "Oracle of Omaha" lost it? Please. He suffers from technophobia and has thus missed out on a big part of what's been driving the stock market. Meanwhile, those big-brand names he loves have been laggards. But it's hard to make the case that in the very long term--and Buffett believes in holding for life--stocks like Gillette and Coke won't come back in a big way.

Buffett's other big problem at the moment is weak operating results on the insurance front. But this too will probably correct itself. Geico isn't putting up big numbers because it's spending like mad to advertise and steal market share. General Re is in a part of the business that's now in a down cycle. When these trends turn, Berkshire figures to emerge as the best-capitalized insurance company in a world with increasing insurance needs.

Last year the industry's losses, as a result of natural disasters, hit $92 billion--53% higher than any previous year. Whether you believe in global warming or not, disasters are getting bigger and losses greater all the time. Berkshire's monstrous capital base of $57 billion is nearly double the company's nearest competitor and enables it to take more near term risk and benefit from long-term cycles that produce healthy returns. Buffett is taking lumps now to transform his company. So gloat while you can. You may not get the opportunity next year.