Buffett Builds Berkshire Holdings as Earnings Decline

By Josh P. Hamilton

Aug. 8 (Bloomberg) -- Devotees of Warren Buffett's investing strategy may need to look no farther for a bargain than the battered stock of the billionaire's Berkshire Hathaway Inc.

``Regardless of what's happening to earnings, the cash is still rolling in and asset prices are down,'' which will help Berkshire add holdings, said Frank Betz, a partner at Warren, New Jersey-based Carret Zane Capital Management, which oversees $800 million, including Berkshire shares. ``It's Buffett time.''

Berkshire may post a 32 percent decline in second-quarter profit today to $2.13 billion as falling prices crimp insurance earnings and building-related businesses slow with the housing slump, said Charles Hamilton, an analyst at FTN Midwest Securities Corp. The Omaha, Nebraska-based investment and holding company's stock had its worst first half since 1990 and is down 18 percent this year through yesterday.

Buffett, 77, has been seeking acquisitions and funding takeovers while buyout firms struggle to borrow. Last month he pledged $3 billion to Dow Chemical Co.'s $15.4 billion buyout of Rohm & Haas Co. In April, Buffett agreed to put up $6.5 billion to help Mars Inc. buy Wm. Wrigley Jr. Co. in a deal that gives Berkshire a discounted stake in the chewing gum maker.

Berkshire had about $35 billion in cash as of March 31 and competing insurers including American International Group Inc. and MBIA Inc. have had to raise capital to cushion against losses from bad bets on the housing market. Buffett toured four European cities in May, drumming up potential acquisitions to boost earnings while U.S. insurance operations decline.

Bricks, Corporate Jets

A profit drop would be the third straight for Berkshire, the company's worst streak since 2004. AIG has been unprofitable three straight quarters, and Robert Willumstad, the insurer's chief executive officer, said yesterday the company ``would not consider any major acquisitions at this time.''

Buffett, ranked the richest person by Forbes magazine, built Berkshire over four decades from a failing textile maker into a $175 billion company by buying out-of-favor stocks and businesses whose management he deemed superior. Subsidiaries provide products from bricks to corporate jets.

Buffett said at Berkshire's annual meeting in May that his company will ``make some extra money'' from the credit crisis. ``If a market goes down, it's more attractive than before,'' Buffett said.

Berkshire entered bond insurance in December as the largest companies in the industry, MBIA and Ambac Financial Group Inc., struggled to maintain their credit ratings. CIT Group Inc., the lender that lost 64 percent of its market value this year through yesterday, said last month a Berkshire subsidiary agreed to pay $300 million for a loan portfolio backed by factory-built homes.

`Caution Flag'

Berkshire's stock may stumble to $108,000 in 12 months, said FTN's Hamilton, who rates the shares ``neutral.'' They declined $1,485, or 1.3 percent, to $113,990 at 9:38 a.m. in New York Stock Exchange composite trading.

``He's given the caution flag and people are ignoring it,'' said Hamilton, based in Nashville, Tennessee. Buffett has said insurance profits will slip as rates fall amid competition for market share and the pace of natural disasters returns to normal after two uneventful U.S. hurricane seasons.

Berkshire investors are betting with history on their side: the shares advanced in 17 of the past 20 years.

When markets are in turmoil, Buffett's offers become more attractive because he has cash available, said Michael Revy, a portfolio manager at Froley Revy Investment Co. in Los Angeles.

The Dow investment was trumpeted by the chemical company as an endorsement of the business, even as Chief Financial Officer Geoffery Merszei said on a conference call with investors that Buffett is ``going to demand very good conditions.''

Private Placement

Berkshire agreed to buy Dow preferred stock paying 8.5 percent annual interest and convertible to common stock. The stake may make Berkshire the biggest shareholder of the Midland, Michigan-based company. Dow paid less than a 6.5 percent coupon on recent bond offerings, according to Bloomberg data through yesterday.

``In a private placement you get an anchor investor'' and don't have to disclose as much financial information as in a public offering, Revy said.

Buffett agreed not to hedge or sell his position for five years, a commitment that most investors may have been unwilling or unable to make, Revy said.

Some investors in convertible securities will short the company's common stock, selling borrowed shares that they can replace cheaper if the company falters. A jump in short selling can unnerve investors, Revy said.

Florida Deal

Also last month, Buffett struck a deal with the state of Florida, which agreed to pay $224 million in exchange for an assurance he'll buy $4 billion in tax-free state bonds paying 6.5 percent should a hurricane cause more than $25 billion in losses to the state's catastrophe reinsurance program this year.

Florida sells coverage to homeowners at below-market rates, and plans to fund cash shortfalls in the bond market

Said Carret Zane's Betz, ``Warren probably gets up every morning and licks his chops wondering `where's the next bargain going to come from?'''

To contact the reporter on this story: Josh P. Hamilton in New York at jphamilton@bloomberg.net.