Berkshire Hathaway’s Warren Buffett adjusts his bottom line with unconventional accounting, just like the Wall Street bankers and corporate CEOs he frequently criticises for adjusting standard earnings to tell a better story.
The difference is that Buffett doesn’t explicitly call the number he’d rather investors focus on an “adjusted EBITDA”, according to Market Watch.
In his most recent letter to shareholders, Buffett claims his brand of earnings adjustment is a “far cry” from the presentations made by others. Too often, he writes, their presentations feature “adjusted EBITDA,” a measure that redefines “earnings” to exclude a variety of what Buffett says are “all-too-real” costs. In particular, Buffett rails against claims that stock-based compensation should not be counted as an expense. He also says expenses for restructurings are common in business—Berkshire’s shareholders see the impact of those activities.
However, Berkshire Hathaway does use certain non-GAAP financial measures regularly. Every period it adjusts for losses and gains on its investment portfolio, a routine GAAP expense made more significant for Berkshire Hathaway now that companies must also record the impact of unrealized gains and losses in their bottom-line number.
In its fourth quarter earnings release, Berkshire adjusts GAAP net income for the nearly $27.6 billion net loss on its investment portfolio for just one quarter, as well as a $3 billion hit for its share of the Kraft Heinz $15 billion write-down of goodwill and intangible assets that reflects deteriorating brand value.
Kraft Heinz adjusted out its $15 billion loss in its earnings release.
Generally Accepted Accounting Principles, or GAAP, are the standard accounting rules all U.S. listed companies must use to present their financial results. The SEC says “earnings” means net income as presented in the statement of operations under GAAP in its May 2016 updated guidance on the use of non-standard accounting metrics. Measures that are calculated differently than those described as EBIT and EBITDA are supposed to be distinguished with a title such as “adjusted EBITDA.”
The SEC asked Berkshire Hathaway in 2017 why it had not disclosed expenses related to the amortization of certain intangible assets. Buffett rationalized the move in his letter to shareholders last year: “We present the data in this manner because Charlie and I believe the adjusted numbers more accurately reflect the true economic expenses and profits of the businesses aggregated in the table than do GAAP figures,” he said, referring to Charlie Munger, the vice chairman of the board.
Berkshire to move away from one metric
For nearly three decades, Buffett opened his letters with a discussion of another metric he loved to tout: Berkshire’s per-share book value. Book value represents a company’s assets minus its liabilities and is otherwise known as shareholders’ equity, or simply equity.
Buffett also touts a type of non-GAAP metric he calls “intrinsic value”, which is defined as the “discounted value of the cash that can be taken out of a business during its remaining life.”
In the 2017 letter, Buffet said: “We give you Berkshire’s book-value figures, because they today serve as a rough, albeit significantly understated, tracking measure for Berkshire’s intrinsic value. In other words, the percentage change in book value in any given year is likely to be reasonably close to that year’s change in intrinsic value.”
However, Buffett and his partner Charlie Munger never disclose their estimates of Berkshire Hathaway’s intrinsic value, because, they say, it’s an estimate and very subjective.
“What our annual reports do supply, though,” Buffett wrote for the 2017 annual report, “are the facts that we ourselves use to calculate this value.”