All we can say is WOW.

We’ll never get tired of saying this: dump the checklist approach to CG. Actually, dump the checklist approach to anything.

Corporate Governance and alignment of interests is about so much more than the proportion of “independent” directors or separate CEO and Chairman roles and so on… It’s like saying that Berkshire’s governance lacks substance because “Buffett is both Chairman and CEO and keeps family and friends in the Board” without digging deeper – and by the way, many people do say this. The fact that Buffett only takes home US$ 100,000 in annual salary with no stock options and has about 99.7% of his net worth tied to Berkshire stock (all of which he purchased directly in the market) goes unnoticed. The percentage of stock owned by WB, Charlie Munger and Buffett relatives amounts to so much of the company that it’s like having a saber-tooth tiger as a watchdog for minority shareholders.

Back to seriousness: Business Week had a cover article by Alice “Snowball” Schroeder interviewing CEOs who have had Buffett in their boards, as advisor, friend, whatever. Interesting read. There was an entire book on the subject a few years ago, but it focused on Berkshire subsidiaries and frankly wasn’t all that great, although nowadays it does help to evaluate some potential successors.

By the way, the Business Week section included this article by Peter Buffett, Warren’s musician son, about how his father handled money with him. Nothing new, but always interesting.

The videos, as promised:

1) The Business Week video on Warren Buffett:

2) Buffett as Axl Rose (the ballad of customer service)

3) Buffett the hip-hop artist (from GEICO’s sales reps annual meeting, Buffett is on around 4:00)

We don’t have any intention to be the “ultimate source for all things Buffett”, as a lot of people already do a great job at this and we thank them for uncovering these pearls. But this video is special. The parts on “moats” add up to some of his most detailed comments yet on the subject.

We don’t think it’s any exaggeration to say that Buffett has transcended the investment realm and that this is interesting for people in all walks of life. We’re certainly making backup copies.

We’ve recently had the opportunity to do research on Buffett’s letters to shareholders beginning in 1959 (when Buffett managed Partnerships and Berkshire Hathaway was not even in his sights). His consistency and transparency are always impressive – especially in times like these and since we’re talking about more than 50 years of Buffett clearly practicing what he preaches.

Case in point: Berkshire Hathaway’s cash has been deployed in the last few years. He had always said that when him and Mr. Munger couldn’t find opportunities, they would rather do nothing than do “something stupid”. Well, it’s no coincidence then that the chart below reflects the crisis in the last 2-3 years. The “fat pitches” are finally coming in. Now Berkshire shareholders can look ahead and dream of what Mr. Buffett’s batting average might mean to future returns.

Source: Berkshire Hathaway annual reports and IP research

That said, in Berkshire’s case this consistency has two sides. Mr. Buffett has always said that Berkshire’s size is a constraint and that shareholders shouldn’t expect that he can replicate the decades of 20-25% annualized gains in book value per share. We should have every reason to believe this! The practical implication is a deal like Burlington Northern: an opportunity to deploy large amounts of cash at decent, if not stellar, returns. Remember 2005 and the PacifiCorp deal, when Berkshire subsidiary MidAmerican then deployed some US$ 9billion at a highly-regulated, stable business returning some 12-15% on equity.

Risking obviousness, consistency is desirable when one follows with discipline superior processes that generate desirable outcomes. We don’t think one can doubt that this is the case at Berkshire Hathaway.

Just a quick note regarding transparency: Buffett’s letters to his partners began as 2-page quick notes and later evolved to the tour-de-force format we read today. But even back in 1959 his objective was to let his partners know what he was thinking – he said that they had a right to know since they were trusting him with their money. We couldn’t agree more. First he talked the talk, and he’s been acting accordingly for over 50 years.

Here’s a story that points out that the percentage of shares sold short has quintupled after the BNI deal. There are many “mainstream”, “make-sense” reasons as to why this might be:

1) Berkshire could lose its AAA credit rating due to reduced cash levels (S&P, Fitch and insurance specialist A.M. Best have placed Berkshire on “watch”);

2) It was an oversized, expensive deal that dilutes shareholders;

3) Buffett and Munger aren’t getting any younger…

Well, here’s another: it’s a simple merger “arbitrage” opportunity created by the deal’s structure.

As described in the official press release and better explained in the conference call (on page 6, question number 4), the deal is a share exchange where each BNI share is worth approximately US$ 100 in Berkshire shares IF Berkshire’s share price at the time of the exchange is set between US$ 80,000 and US$ 125,000. This means that within this range of Berkshire Hathaway prices, a shareholder of BNI would get MORE Berkshire shares as the price approaches US$ 80,000 (below this number it doesn’t matter, since the exchange ratio is fixed). So BNI holders have an incentive to short BRK/B and pocket the difference when the deal closes – at which time they’ll hold an excess of Berkshire at attractive prices…

Of course, there are two things that could go very wrong for shorts:

1) As speculated here and in some research we’ve read, BRK/B shares post-split could be included in the S&P 500 index – with the huge sums of money invested in S&P 500-pegged funds, the buying volume could (and usually does) mean a 3-4% increase when the index change is made public.

2) Buffett could announce a share buyback program if Berskhire approaches the lower limit – while he has never done that, and his available cash is relatively depleted after the deal, Berkshire generates some US$ 10bi per year and his credit is still good…

That’s all beside the point. Much more interestingly: what does this deal say about Berkshire’s sharpness in deal-making? Are they losing their edge? We won’t even judge the deal’s merit (cheap, decent or overpriced). We’re just wondering whether the fact that Buffett appears to have created a less-than-ideal deal structure is reason for concern.

Finally, we’d point out that in the unfortunate case that either Mr. Buffett or Mr. Munger dies any time soon, or if the price formation is really altered by this “arbitrage”, there could be an interesting opportunity to buy Berkshire shares. We’re talking about a company with quality assets whose culture will outlive the two, and a company whose current “bets” on inflation, energy, transportation and USA recovery (and related financial market bets, e.g. the famous S&P 500 put) represent a very interesting long-term play. We wouldn’t bet against this – and certainly not against Buffett.

LINKS:

Has Buffett lost his mind? – Dec. 8th article on the Lonely Value Investor blog pointing to the original article (link below) and to a Bruce Greenwald interview blasting the deal as “insanity” (read his answer to the 2nd question). Bruce Greenwald is the Columbia University value investing dean.

Berkshire + Burlington, a Nov. 4th rant in the Lonely Value Investor blog. Not judging merit in this piece, it does link to 3 bearish pieces in “serious” publications such as Barron’s (subscription required), Bloomberg (by none other than Alice “Snowball” Schroeder) and TheStreet.com.

Buffett says Burlington ‘not a bargain’ – Nov. 14th article on Bloomberg quoting a Charlie Rose interview. The full interview transcript can be found here, and as usual it’s quite interesting. The part on Burlington starts after a bit of an introduction, but it’s near the top.

Here’s the video, all 65 minutes of it:

By the way, it’s downright funny when you realize how many times Don Graham uses the expression “it’s hard to describe…” when trying to explain the differences between Warren and Berkshire to other managers and companies.

Bill Gates says that he was a software engineer when he first met Buffett, who in his mind was an “investor”. He was amazed when Buffett asked him business questions about IBM, HP, how was competition like, how did the companies price its products and so on… “Warren’s investing was just an outcome of having this incredible model about business and business values“, he says.

And the David “Sandy” Gottesman part is shorter and lighter but worth the while.

Two very interesting quotes: “History will show that the last 18 months have been Warren Buffett’s most successful.” AND “Berkshire has 240,000 employees and I’d name 2 or 3 DOZEN of them whom I’d work WITH or FOR. There’s some 24-30 guys who could be world-class CEOs.”

About 60% of the company’s revenues are generated from a data center business that helps insurers meet regulatory standards and better price their risks. While revenue growth in this segment is in the low-single digits, it’s very stable and recurring in nature. Moreover, because it’s a subscription-based model, customers pay up front, creating negative working capital and boosting returns on capital. With little reinvestment needs outside of server maintenance and data storage, Verisk is a cash machine.

The other 40% are a more value-added business (Fraud Identification and Detection Tools) that grows +20% YoY (M&A included), but has lower margins and moat.

Ringing any bells yet? This is very similar to IMS Health, both on business model and growth profile, with the advantage of a ‘Buffet stamp’ and the absence of a pharma overhang (though it might be substituted by an insurance overhang). Morningstar estimated the IPO at a 13-36% discount to fair value – the company went public at US$ 22 per share and quickly jumped to US$ 27.33 in the first trading day.

Links:

UPDATE: Verisk acquires retail industry loss-prevention leader (press release, Nov. 17th, 2009)

Link to the definitive prospectus here – and in PDF format.

Video interview with Verisk’s CEO – Nasdaq Marketsite, October 8th 2009. Background on Mr. Coyne from the same story.

Investor Business Daily’s IPO story – October 7th