It's time for Warren Buffett to crack open his extra large wallet.
As the billionaire prepares to host some 40,000 Berkshire Hathaway (BRK.A) shareholders from around the world in Omaha, Neb., this weekend, many will want to hear Buffett and Vice Chairman Charles Munger answer questions about what they plan for the business.
Some holders will want to know whether Buffett will be spending some of the $116 billion Berkshire has in cash on acquisitions to bolster his already considerable corporate holdings, or whether he will use the money to buy more stock in companies he already holds.
Buffett has said he looks for five qualities in a potential acquisition, including durable competitive strengths, high-quality management, good returns, opportunities for internal growth and a reasonable price.
"That last requirement proved a barrier to virtually all deals we reviewed in 2017, as prices for decent, but far from spectacular, businesses hit an all-time high," Buffett said in his letter to shareholders in February.
Given how his portfolio of stock holdings have performed this year, Buffett could use a splashy deal to excite Berkshire shareholders.
Buffett's biggest losers have been Kraft Heinz Co. (KHC) , down 30%; Procter & Gamble Co. (PG) , down 21%; Southwest Airlines Co. (LUV) , down 20%; American Airlines Group Inc. (AAL) , down 19%; and Charter Communications Inc (CHTR) , down 18%. Maybe on those grounds he should reconsider his remarks in February when he said he was open to buying an entire airline.
"It's a business that's always subject to someone doing something very dumb competitively, and they have done it a lot in the past," Buffett told CNBC at the time. "It can turn into fierce competition that wipes out earnings, or it can be a business that's more decent but still subject to lots of competition. And it's really hard to know for sure how it will develop."
Hunter Keay of Wolfe Research said that applying Buffett's five criteria to airlines leads to two likely candidates: Southwest or Delta, "due to cash flow, balance sheet, brand reputation, and general overall quality," he wrote in a note to investors.
Berkshire's biggest winners in the stock market so far this year are MasterCard Inc. (MA) , up 23%; Sirius XM Holdings Inc. (SIRI) , up 18%; Phillips 66 (PSX) , up 14%; Visa Inc. (V) , up 11%; and Moody's Corp. (MCO) , also up 11%, according to FactSet.
Buffett's Bread & Butter
The insurance business is traditionally the biggest jewel in Berkshire's portfolio, as its combination of insurance entities recorded 14 consecutive years of underwriting profit that generated more than $28 billion. That streak came to an end in 2017 after three big hurricanes hit Texas, Florida and Puerto Rico and wildfires ravaged California.
Still, such are the state of Berkshire's finances that Buffett is confident it can withstand even worse catastrophes than those in 2017, he said in his letter to shareholders in February. Even in the case of a U.S. mega-catastrophe causing $400 billion or more of insured losses - of which the annual probability is about 2% -- "no company comes close to Berkshire" in being financially prepared for a catastrophe of that size, he wrote. Berkshire's share of a $400 billion loss might be $12 billion, he estimated.
That considered, Buffett may want to add to his current portfolio, which includes auto and personal insurer GEICO, a reinsurance group with National Indemnity Co. (NICO) and General Reinsurance Corp; a retroactive reinsurance agreement with various subsidiaries of American International Group; and the Berkshire Hathaway Primary Group, which includes commercial insurers in healthcare malpractice, workers' compensation, automobile, general liability, property and various specialty coverages for small, medium and large clients.
Meanwhile, lower corporate taxes in the U.S. could encourage Buffett to add to his conglomerate's manufacturing businesses, many of which are based in the U.S. Such businesses as Lubrizol, IMC, Precision Castparts and others are highly profitable, generating pre-tax profit margins in excess of 13% last year.
Berkshire's building products group, which among other things makes flooring, insulation, roofing, bricks and paint, is another profitable part of Berkshire that could be added to in the coming year.
Should President Trump follow through on plans to repair and replace U.S. infrastructure, Berkshire may want to get involved by buying companies poised to benefit from such spending, including Vulcan Material Co. (VMC) , Martin Marietta Materials Inc. (MLM) or Quanta Services Inc. (PWR) , which provides infrastructure services primarily to the oil and gas and electrical power industries.