Warren Buffett transformed Berkshire Hathaway(NYSE: BRKA)(NYSE: BRKB) from a failing textile company into a massive trillion-dollar conglomerate over his 60 years as CEO. At the core of the transformation is an investment philosophy rooted in buying excellent companies at a fair value and holding them for the long run, preferably forever.
In the last few years of his tenure as CEO, Buffett found few great investment opportunities, allowing Berkshire’s cash pile to grow to nearly $400 billion. Greg Abel has shown a willingness to start deploying relatively small chunks of that capital in his first few months as CEO, and he recently agreed to a deal that would put about $8.5 billion of Berkshire’s cash to work in an acquisition that follows in Buffett’s footsteps.
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On May 31, Berkshire Hathaway announced plans to acquire Taylor Morrison Home (NYSE: TMHC) for approximately $6.8 billion in cash. When you add the company’s existing debt, the deal’s enterprise value is $8.5 billion. (Berkshire will likely retire that debt with its cash pile.)
Abel’s decision to buy the homebuilder comes at a time when the industry is facing challenges due to high mortgage rates and expensive housing prices. That’s led to bargain-priced valuations for some industry stocks, and Abel wasn’t afraid to pounce on the opportunity.
The deal he struck has Berkshire paying just over 1.1 times book value and 9 times trailing earnings for the stock. Despite the premium paid over the prevailing stock price at the time, that’s still a lower valuation than practically every other company in the beaten-down industry.
But the long-term outlook for homebuilders in America remains solid. There’s a housing shortage in the United States. A recent White House report says the U.S. needs 10 million new homes. That’s a massive opportunity.
Scale can be a key advantage in the current market, though, as larger homebuilders can manage overhead and exercise greater purchasing power to acquire land and materials at lower costs. To that end, Berkshire plans to combine Taylor Morrison’s operations with its own Clayton Homes to create a top-five homebuilder.
That makes Abel’s first major acquisition very much a Buffett-type move. He took the opportunity to buy a beaten-down company facing cyclical headwinds and requiring patience to realize its full value. What’s more, it’s a business that may be more valuable under the Berkshire umbrella than as a stand-alone company, thanks to complementary businesses within Berkshire.
What Abel’s big move could mean for its equity portfolio
Berkshire Hathaway owned stakes in two other homebuilders as of its most recent quarterly update: Lennar and NVR. Both positions are relatively small, worth only about $1 billion total as of this writing. If Abel is extremely bullish on the housing sector, he might keep both holdings, but considering they compete with Taylor Morrison, it would make just as much sense for Berkshire to liquidate them.
Abel has shown a willingness to consolidate Berkshire’s equity holdings, eliminating many of the stocks bought by former investment manager Todd Combs in the first quarter, as well as several other smaller positions. That suits Abel’s strengths as an operator first and portfolio manager second. Whereas Buffett was well known for his investment acumen, Abel has a very limited track record. As such, it makes sense that Abel would sell Lennar and NVR, but that doesn’t mean either is a bad investment right now.
Abel is showing a swiftness in deal-making that Buffett hasn’t shown for years. He was instrumental in the OxyChem acquisition last year and oversaw the Tokio Marine investment this year. That could mean focusing on fully acquiring relatively small companies at a good value while allocating the marketable equity portfolio to fewer, much larger companies that can make a serious dent in Berkshire’s cash pile. The most recent example of the latter is Alphabetwhere Abel has put over $20 billion of cash to work since taking the CEO position.
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Adam Levy has positions in Alphabet. The Motley Fool has positions in and recommends Alphabet, Berkshire Hathaway, Lennar, and NVR. The Motley Fool has a disclosure policy.
