Buffett launches a $348 billion challenge for his successor

Surprising people at the age of 94 is no small feat. Warren Buffett has maintained this ability. As Berkshire Hathaway's annual shareholder meeting drew to a close last Saturday, Buffett announced that he would be stepping down as CEO of the vast conglomerate.

The change will take place at the end of the year, after six decades in charge. Buffett had been preparing for his own departure. But he said that he had not given most of Berkshire's directors advance notice of his announcement. Nor did he inform Greg Abel, who will be his successor.

Berkshire Hathaway was a textile manufacturer when Buffett bought the company in 1965. In the following years, he transformed it into a huge insurance company and a conglomerate with interests in everything from energy to sweets.

He implemented a strategy of value investing - looking for companies that seemed cheap in relation to their intrinsic value. Between 1965 and the end of last year, Berkshire's market value had increased by more than 5,500,000%, with a compound annual return of almost 20%. The total return of the S&P 500 index in that period was 39,000%.

Today, Berkshire has a market capitalization of US$1.16 trillion. Even so, Buffett left his successor a difficult task. Abel has been with the company for 25 years. He has been managing non-insurance operations - such as the energy, railroad and retail businesses - since 2018.

The challenge goes beyond filling Buffett's post as an investment "oracle". Berkshire's investment strategy is becoming more difficult to execute.

In the last year, Buffett has aggressively sold shares, including a large part of his stake in Apple. Now, for the first time in two decades, Berkshire has more cash on hand than listed shares.

At the end of March, it had $348 billion in cash and short-term US government bonds on its balance sheet, more than double the amount reported at the end of 2023. Its holdings in Treasury bonds represent around 5% of the outstanding market.

If Berkshire were a foreign country, it would be the tenth largest holder of US government debt, larger than India, Switzerland or Taiwan.

Buffett's decision to withdraw from the stock market has benefited Berkshire so far. The company's shares have risen 20% this year, while the S&P 500 has fallen 3%.

Now, Buffett and Abel have to figure out what to do with their huge pile of cash. There are worse problems to have, but Berkshire's position reflects a difficult environment for the kind of investment that made Buffett famous.

Lately, he's been complaining that there's not much to buy at a reasonable price. Even after the recent market turmoil, the valuations of listed companies are high relative to their historical levels.

One option for Abel would be to aggressively increase investments abroad. In recent years, Buffett has made successful bets. For example, he has invested billions of dollars in several Japanese business conglomerates, such as Mitsubishi and Sumitomo.

Abel can see that among the companies worth over $5 billion and with price/earnings ratios below ten - assuming they are valued at low prices - 80% by value are domiciled outside the United States.

Another option would be to deviate from value investing in the hope of finding more companies to bet on. This seems unlikely, at least for the time being. Such a move would transform Berkshire's culture and risk the wrath of Buffett's army of admirers. After 25 years at the company, Abel is unlikely to make a sharp turn immediately.

In the absence of a change on any front, Berkshire will have to wait for a downturn in the market to find new great opportunities to use its cash reserve.

Buffett had a history of identifying such opportunities. He acquired a large stake in Wells Fargo bank, which was facing a downturn in 1990. He invested in companies like Johnson & Johnson and Kraft Foods (and Wells Fargo again) after the global financial crisis of 2007-09. The list goes on. Berkshire shareholders should expect Abel to have the same oracular vision.