Hidden Lessons from Warren Buffett’s Berkshire purchase of Liberty Global

When it comes to prospecting businesses, buying it, learning from the textbook, there can be many stigmas that is difficult to get round.

I felt that Berkshire’s stake in John Malone’s Liberty Global noted a few days ago is one such case study.

Warren Buffett‘s Berkshire Hathaway Inc. joined the investment frenzy around cable companies, disclosing on Friday that it scooped up shares in John Malone’s international holding company Liberty Global PLC in the fourth quarter.

Berkshire also said it sold its stakes in Dish Network Corp. DISH -2.43% and GlaxoSmithKline GSK.LN +1.14% PLC in the period ending Dec. 31.

The disclosures were among many big positions disclosed on the quarterly date when investors who manage more than $100 million must report their holdings to the Securities and Exchange Commission.

Berkshire’s position in Liberty was 2.95 million shares, valued at $263 million at the end of the fourth quarter. Liberty Global, a Europe-focused cable operator, is separate from Mr. Malone’s U.S. investment company, Liberty Media Corp.

Berkshire cut its stake in the U.S. firm, Liberty Media, by about one million shares. It now owns about 4.5 million shares that were valued at $775 million at the end of the last quarter.

Mr. Buffett typically chooses investments of $1 billion or more, meaning the Liberty Global pick was likely the work of one of Berkshire’s two investment managers, Todd Combs and Ted Weschler.

While it is likely Mr Buffett didn’t made the purchase himself, his 2 managers are value managers. He likely trusts that they will prospect the business the same way as him. So we can learn a lot from this purchase.

And value managers who leans closer to Fisher than Graham

• Prospect business based on their competitive advantage in unique cost structure, hard to copy edge, unique regional advantage or we say economic moat
• Their decentralized management style means that they invests in good business managers
• They buy based on margin of safety

You may want to read this 2 articles first

• Economic Moat – Cable TV, Broadband, Pay TV talk by John Malone
• Lessons from Liberty Media Investor Day

Buy only when the stock price is beaten down

The common saying is to buy when there is a bear market and when the stocks are beaten down. There is nothing wrong with that.

When there is a bear market, there will be shareholders who are in it more for speculation, or that they do not know what they are doing. Crowd psychology may ensure that the price sold down is less than what the business is valued at.

Similarly, business may be hit by circumstances that majority think their future will be severely impacted hence the sell down.

In the case of Liberty Global, it looks like neither. The stock price for 5 years have been on a tear.

This looks like local stocks Silverlake or Challenger.

Essentially, I think when folks who think they are value people, thinking of SELLING instead of buying.

The job of prospecting the business needs to be disassociated from the stock price, looking at the past historical results, business, but also looking at the business advantage going forward.

If you are fixated by the stock price, it may confuse you.

The PE here is negative

Seems the most prevalent measure of value is price earnings ratio. And in this case it is useless. The earnings for the past 3 years in this splendid stock price move is –772 mil, 322 mil and –963 mil.

Why the heck did the share price go up like that? And for the matter why is Berkshire interested in this in the first place?

Aren’t we taught that the basic fundamental is to have consistent earnings?

Net Debt to Asset is through the roof

This may be subjective for different business but the past 3 years net debt to asset is greater than 60%. This capital structure is akin that of Cityspring Trust in Singapore, which was very leveraged, highly capital intensive but since its IPO years just continues to disappoint share holders.

Are not the best business practicing a prudent capital structure?

Questionable future

Liberty Global operates in the European telecom and Latin America telecom space. Specifically they have large assets invested in broadband, fixed line telephony and cable TV infrastructure.

The question here is that this is probably the technology space of yester years. With technology changing at break neck pace, would we see wireless mediums developing to an extend of offering unlimited throughput with the dependability of cable broadband?

The darling of these few years have been the power enjoyed by Netflix. Could cord cutting, which many have tout at various points in the past really become reality this time around?

Where is the margin of safety?

When you get fixated by the price, and you consider that it has gone up for 5 years, where is the safety. To add to that it’s a business which is highly leveraged and earnings have been mostly negative.

Why is one of the most famous value houses in the world getting into it?

Summary

Books act as a starting point, but often you would have to move on deeper. Never think that a simple book will make you the best business prospector out there. You won’t be the subject matter expert in all industry, and there are certain industry that if you want that margin of safety, or understand the moat, you got to ask  a lot, read a lot. Grunt work as we call it.

In all value there seem to be a lean more towards either Graham or Fisher and in the later years, perhaps due to the size, the large value funds prefer paying a reasonable price for a great piece of business, versus paying a super cheap price for an entity value much higher, but not really a great business.

Valuation is never straight forward either a PTB, or PE. A PE of 30 can be consider cheap when taken into context the uniqueness of the industry, competitive edge that cannot be easily copied.

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