Insurance industry overview and operations

Berkshire Hathaway, Inc.

Legal insights into an insurance investment strategy

Warren E. Buffet's Berkshire Hathaway's company strategy since the global economic crisis in 2008 has been characterized by what some would call 'safe-but-boring' industries. Consistently outperforming on the S&P, the Company has been effective where others have not. The foregoing project proposal looks at the decision making model(s) used by BH in investment in the insurance industry, with a hypothesis that one Selective Insurance Group (SIG) will emerge as the target for acquisition. Attendant to this study of competition and crisis is the formative role that insurance law plays in investment and the impact of corporate counsel as a functionary aspect to the insurance business. Employing a Six Sigma assessment approach, corporate case studies and aggregate insurance industry data are put into dialogue with the history of client litigation by those firms.

TABLE OF CONTENTS

Abstract

Introduction 4

Problem Statement 5

Literature Review 15

Methods 15

Data Analysis 16

Implications of Study 18

Appendices 19

INTRODUCTION

The research proposal looks at Selective Insurance Group's (SIG) legal staff for further insight into the history of adverse corporate litigation between the two firms, and potential for mutual assent and future benefits in negotiation of the price of those agreements. As legal staff/counsel, those parties present significant risk in the context of such a deal, yet are also invaluable in terms of making it happen. Adverse relations in prior years between the two parties would have to be articulated within any merger writings.

Why SIG is a better opportunity for CEO, Warren E. Buffet's Berkshire Hathaway, Inc. (BH) in the present moment has much to do with global constrictions on insurance as an industry, and the capacity of the future parent company to control or merely correct via change management practices or assume risk (i.e. debts and current/future client litigation). Where BH is better off purchasing New Jersey-based SIG, is that its holdings are primarily U.S. based making them subject to national federal law; and despites some recent losses, stock performance has not galvanized collapse.

Rationale for not purchasing a larger holding company, such as ACE, with its now relocated headquarters in Zurich, Switzerland, is quite evident given the recent legal conundrum faced by a holding firm also operating under Swiss law, Transocean; citing a total insurance policy of $560 million on the British Petroleum (Bp) rig that led to oil company's spill in the Mexican Gulf. Through subsidiaries, the former Cayman Islands based ACE Ltd. sells property and casualty insurance, life insurance, and reinsurance through subsidiaries around the globe with its subsidiaries operating in about 50 countries to customers in over 170 nations. The formative role that insurance law plays in investment in high risk indemnity firms and the impact of corporate counsel as a functionary aspect to the insurance business is addressed.

PROBLEM STATEMENT

Since the 1990s, Selective Insurance Group (SIG), a holding company, has sought expansion outside of its original service area in New Jersey in the Midwest and Eastern Seaboard of the United States. At present the state accounts for 20% of the Group's earnings. Commercial insurance sales comprise over 80% of the Group's sales (Hoovers, 2010). Small and midsized businesses and government entities constitute the market segments to the majority of SIG's commercial policy holders; sold by its seven subsidiaries.

Commercial services include workers' compensation and commercial automobile, property, and liability insurance, with personal lines dedicated to homeowners and automobile insurance. Some nine hundred and sixty independent field agents are now able to manage accounts through the Group's online 'One & Done' automated underwriting templates, and sustain their franchise representation through market Selective Insurance products. In 2009 SIG sold its loss leader, a human resources administration outsourcing business, and liquidated its federal flood insurance administration services business into its other insurance operations (Hoovers, 2010). A recap to SIG's 2009 financial statement is available in Table 1.

Table 1

Company Type

Public - NASDAQ (GS): SIGI

Headquarters

Fiscal Year-End

December

Financial Filings

SEC

2009 Sales (mil.)

$1,514.0

1-Year Sales Growth

(10.7%)

2009 Net Income (mil.)

$36.4

1-Year Net Income Growth

(16.8%)

Table 1. SIG Summary Financial Statement, 2009 (Hoovers, 2010).

Stock performance as of 26 November 2010 reported losses to SIG's financial picture seen in Table 2 and Graph 1.

Table 2

Detailed Quote (NASDAQ (GS): SIGI)

Latest

(11/26/10-13:00:00 EST)

Change ($)

Change (%)

High

Low

$16.68

-0.0800

$16.79

$16.63

Prev Close

$16.76

Open

$16.63

Bid

$16.26

Bid Size

Ask

$18.29

Ask Size

High

$16.79

52 Wk High

$17.93

Low

$16.63

52 Wk Low

$14.13

Restricted

No

Volume

27,026

Market Cap ($ mil.)

EPS

$1.24

P/E Ratio

13.44

Table 2. SIG stock performance 26 Nov 2010 (Hoovers, 2010).

Graph 1. SIG stock performance 26 Nov 2010 (Hoovers, 2010).

With persistence of this caliber of performance, it is likely that SIG will consider offers of acquisition or merger. Losses following the global financial crisis are set to continue. SIG will be looking for methods of cutting loss leaders, and opportunities for growth. Investment partnership may be adequate, but given an offer for purchase by an entity like BH with strong long-term liquidity, measured by performance and credibility of its stockholders, SIG may assent to such a purchase.

Comparatively speaking, SIG is an attractive entity for investment or purchase, due to: 1) size; and 2) potential for U.S. market growth. Risk to shareholders will be lessened if subject to vertical control by a larger conglomerate, as fiscal management is initially the primary consideration of such an acquisition. SIG's independent agents constitute a cadre of stakeholders with extended 'ownership' principles. The secondary risk factor will be attorney participation in the restructuring process, as SIG may or may not have substantial interest in retention of counsel staff or even external advisory decision making.

ACE has an aggressive strategy toward international growth. BH will not be interested in acquition, of the firm due to size and international risk. with a $1.1 billion cash acquisition (80%) of U.S.-based Rain and Hail Insurance Service in 2010, the holding company Is now one of the largest crop insurers in North America (Hoovers, 2010). Even more recently, entrance into two new markets for life insurance in North Asia was concretized, consecutive to the company's agreement to acquire New York Life's life insurance operations in Hong Kong and Korea for approximately $425 million. A summary financial statement on ACE Ltd. reported earnings for 2009 is shown in Table 3.

Table 3

Company Type

Public - NYSE: ACE

Headquarters

Fiscal Year-End

December

Financial Filings

SEC

2009 Sales (mil.)

$15,075.0

1-Year Sales Growth

10.6%

2009 Net Income (mil.)

$2,549.0

1-Year Net Income Growth

Table

Stock performance as of 26 November 2010 reported losses to ACE's financial picture seen in Table 4 and Graph 2.

Table 4

Detailed Quote (NYSE: ACE)

Latest

(11/26/10-13:04:13 EST)

Change ($)

Change (%)

High

Low

$58.91

-0.7700

$59.31

$58.90

Prev Close

$59.68

Open

$59.02

Bid

Bid Size

Ask

Ask Size

High

$59.31

52 Wk High

$62.49

Low

$58.90

52 Wk Low

$47.09

Restricted

No

Volume

539,042

Market Cap ($ mil.)

19,993

EPS

$9.00

P/E Ratio

6.55

Table 4. ACE stock performance 26 Nov 2010 (Hoovers, 2010).

Graph 2. ACE stock performance 26 Nov 2010 (Hoovers, 2010).

Berkshire Hathaway's company strategy since 2008 has been characterized by what some would call 'safe-but-boring' industries. CEO, billionaire Warren Buffet is known to "ignore the vicissitudes of the market to focus on long-term value creation" says BH, and evidence is that Buffet's traditional insights have substantiated the firm's position as the most expensive stock on the U.S. market (Hoovers, 2010). With the Company's 2006 performance of Class A shares capturing more than $100,000 per-share price, followed by $150,000 in 2007, made BH stock ranked in S&P 100 and S&P 500 indices as largest in 2010, replacing BNSF after its takeover of that firm (Hoovers, 2010). Analysis of the Company's sales performance in products and operations for 2009 is illustrated in Table 5.

Table 5

Products and Operations

2009 Sales

$ mil.

% of total

Insurance & other

Sales & service revenues

62,555

56

Insurance premiums earned

27,884

25

Other investment income

2,341

2

Utilities & energy

11,443

10

Finance & financial products

8,270

7

Total

112,493

2009 Sales by Segment

$ mil.

% of total

McLane Company

31,207

28

GEICO

13,576

12

MidAmerican

11,443

10

Berkshire Hathaway Reinsurance Group

6,706

6

General Re

5,829

5

Investment income

5,223

5

Marmon

5,067

4

Finance & financial products

4,587

4

Shaw Industries

4,011

4

Berkshire Hathaway Primary Group

1,773

2

Other businesses

21,380

19

Other

1,691

1

Total

112,493

Table 5. BH Products and Operations, 2009 (Hoovers, 2010).

Major equity investments by the firm in 2009 included purchase of shares in the following UK and U.S. corporations: American Express (12.7%); BYD Company (9.9%); Coca-Cola (8.6%); ConocoPhillips (2.5%); Kraft Foods (8.8%); Procter & Gamble (2.9%); Tesco plc (3%); U.S. Bancorp (4.0%); Washington Post Co. (18.7%); Wells Fargo & Co. (6.5%) (Hoovers, 2010). Some risk was acquired as a debt purchase of joint enterprise called Berkadia Commercial Mortgage with occasional investment partner Leucadia in 2009 as well, which included the loan servicing business of bankrupt Capmark at approximately $468 million.

The prior year, BH acquired a nearly 20% stake in railroad operator Burlington Northern Santa Fe (BNSF) for some $8 billion, followed by the 2010 purchase of the remainder of BNSF for more than $26 billion in cash and stock. In the largest BH buyout ever, the total cost to the company was $44 billion with assumption $10 billion in debt. Turning BNSF into a wholly owned subsidiary is consistent with BH's investment portfolio strategy which targets large entities with consistent earnings, streamlined business models, and parallel leadership culture. As with BNSF, most BH purchases are conducted with cash, and retention of management is typical to BH oversight as a parent corporation.

Despite some loss along the way, when competitors were down in 2008, BH as the company still outperformed the S&P 500. Stepping in where relatively few were willing to go at the outset of the global economic crisis, BH offered up $10 billion to bail out Goldman Sachs in the wake of bad mortgage-related investments. Within a year the company would go onto invest $3 billion in global conglomerate General Electric; and in reinsurance firms like Swiss Re at $2.6 billion in 2009, and $1 billion outlay for a 3% stake in Munich Re in 2010 later increased to 10% total investment (Hoovers, 2010). Buffett turned 80 in 2010. Executive leadership and the Board of Directors at BH is comprised of a group of carefully selected, high profile professionals whom dedicate their expertise and time to management of the corporation (Appendix A and B). Letters to Warren E. Buffett regarding pledges to make gifts of Berkshire stock by some of those members and their network of investment partners are mentioned on the company' website, Table 6.

Table 6

Bill and Melinda Gates Foundation

Susan Thompson Buffett Foundation

Howard G. Buffett Foundation

The Sherwood Foundation (formerly Susan A. Buffett Foundation)

NoVo Foundation (Peter A. Buffett)

Table 6. Contributors to BH stock, 2010 (Berkshire Hathaway, 2010).

Stock performance as of 26 November 2010 reported losses to BH's financial picture seen in Table 6 and Graph 3.

Table 6

Detailed Quote (NYSE: BRK.A)

Latest

(11/26/10-13:01:07 EST)

Change ($)

Change (%)

High

Low

$119,450.00

-1050.0000

$119,750.00

$119,118.25

Prev Close

$120,500.00

Open

$119,300.00

Bid

Bid Size

Ask

Ask Size

High

$119,750.00

52 Wk High

$128,730.00

Low

$119,118.25

52 Wk Low

$97,205.00

Restricted

No

Volume

Market Cap ($ mil.)

114,194

EPS

$7,508.00

P/E Ratio

15.91

Table 6. BH stock performance 26 Nov 2010 (Hoovers, 2010).

Graph 3. BH stock performance 26 Nov 2010 (Hoovers, 2010).

A summary financial statement and annual balance sheet for BH reported earnings in 2009 are shown in Tables 7 and 8. The Company's SEC Filings are provided in Table 9 .

Table 7

Company Type

Public - NYSE: BRK.A

Headquarters

Fiscal Year-End

December

Financial Filings

SEC

2009 Sales (mil.)

$112,493.0

1-Year Sales Growth

4.4%

2009 Net Income (mil.)

$8,055.0

1-Year Net Income Growth

61.3%

Auditor

Deloitte & Touche LLP

Table 7. Berkshire Hathaway Company Financials, 2009 (Hoovers, 2010).

Table 8

Annual Balance Sheet

All amounts in millions of U.S. Dollars unless otherwise noted.

Assets

Dec 09

Dec 08

Dec 07

Current Assets

Cash

30,558.0

25,539.0

44,329.0

Net Receivables

14,792.0

14,925.0

13,157.0

Inventories

Other Current Assets

Total Current Assets

Net Fixed Assets

46,656.0

45,157.0

36,190.0

Other Noncurrent Assets

250,463.0

222,242.0

236,970.0

Total Assets

297,119.0

267,399.0

273,160.0

Liabilities and Shareholder's Equity

Dec 09

Dec 08

Dec 07

Current Liabilities

Accounts Payable

Short-Term Debt

Other Current Liabilities

Total Current Liabilities

Long-Term Debt

37,909.0

36,882.0

33,826.0

Other Noncurrent Liabilities

128,108.0

121,250.0

118,601.0

Total Liabilities

166,017.0

158,132.0

152,427.0

Shareholder's Equity

Preferred Stock Equity

Common Stock Equity

131,102.0

109,267.0

120,733.0

Total Equity

131,102.0

109,267.0

120,733.0

Shares Outstanding (mil.)

1.6

1.6

1.6

Table 8. Berkshire Hathaway Annual Balance Sheet, 2009 (Hoovers, 2010).

Table 9

CIK

Company

State/Country

0001274791

BERKSHIRE HATHAWAY FINANCE CORP

SIC: 6331 - FIRE, MARINE & CASUALTY INSURANCE

NE

0001067983

BERKSHIRE HATHAWAY INC

SIC: 6331 - FIRE, MARINE & CASUALTY INSURANCE

formerly: NBH INC (filings through 1999-01-05)

NE

0000109694

OBH LLC

SIC: 6331 - FIRE, MARINE & CASUALTY INSURANCE

formerly: BERKSHIRE HATHAWAY INC / DE / (filings through 1998-08-26)

BERKSHIRE HATHAWAY INC/DE (filings through 2000-02-11)

OBH INC (filings through 2010-02-17)

NE

0001015867

BERKSHIRE HATHAWAY LIFE INSURANCE CO OF NEBRASKA

NE

Table 9. Berkshire Hathaway SEC filings (Berkshire Hathaway, 2010).

LITERATURE REVIEW

The study proposes to contribute to the following three bodies of scholarship: 1) Business theories on high impact of venture capital firms (Citation string here); 2) Inquiries into insurance law and formative legislative policies directed at indemnity oversight and investment in recently corrupted financial and insurance sectors (Citation string here); and 3) Studies on corporate counsel as a functionary aspect to the insurance business, where attorneys are largely dependent upon client litigation a series of acquisitions, mergers, and takeovers in part to retention of employment contract.

METHODS

Methodological consideration on the project is based on a tri-partite research design, and will be conducted in three Phases: Phase I: Case study; Phase II: Legal Research; and Phase III: Financial & Industry Data.

Phase I: Case Study

The study is directed toward interpretation of how insurance investment firms form acquisition strategies through a case study of Berkshire Hathaway's conglomerate interests. Based on an imaginary proposition, where consideration of a major purchase in an insurance indemnity entity is undergoing comparative analysis, BH is provides the template for interpretation of the rationale of the acquisition process, and how investor stakeholders think about the insurance industry at the moment (Appendix C).

Phase II: Legal Research

More generally the case study encourages depth analysis of finance and fiscal decision making, and also looks at the prevalence of law, and lawyers more specifically, as catalysts to those strategies and performance on agreement. Contract law as an instrument of revenue generation is of core interest. Attorney practice in part to insurance underwriting agreements, litigation, and the acquisition, merger and takeover decisions making process is analyzed will augment the case study.

Phase III: Financial & Industry Data

The final phase of the research is dedicated to collection of aggregate financial and other insurance industry data. Information on accounting measures and standards, as well as financial risk mitigation policies, programs and protocols used in U.S. And external insurance management will augment the study's compendium of data (Appendix D). All aspects of BH and competitor financial audits, SEC filings, and investment prospectus will be interfaced with the analyses on insurance law and how insurance indemnity is discussed as an asset by both business services and attorney staff in those firms. BH subsidiary finance will contribute to interpretation of acquisitions (Appendix E).

DATA ANALYSIS

Review of findings to the study will be assessed by way of Six Sigma systems approaches to each phase of the research: Phase I: SWOT & PESTLE Analyses; Phase II: Charter and Legal Analyses; and Phase III: Trend Analyses (Harry et al., 2010).

Phase I: SWOT & PESTLE Analyses

Analysis of qualitative data drawn from the case studies of BH, ACE and SIG will be put into Six Sigma assessment for interpretation of organizational leadership, fiscal operations management, investment strategies and stakeholder interests into decision making matrices provided by the system's qualitative research tools, SWOT Analysis (Strengths, Weaknesses, Opportunities Strengths), and PESTLE Analysis (Political, Economic, Social, Legal, Environment). Classification instruments to the Six Sigma approach, further interpretation of determinants within the latter two phases of the data analysis will be assisted by insights drawn from the qualitative research.

Phase II: Charter & Legal Analyses

A 'total' organizational approach emerges to analyses of the insurance industry would not be complete without Six Sigma assessment tools for evaluation of Charter and Legal documents. Phase II also includes review of legislative policy reflected in the insurance and investment fields, and court proceedings of client litigation in addition to documents of acquisition, merger and takeover by BH. Adverse history in those case law findings will contribute to decision making models emergent from the study. Results to prior litigation by potential merger firms will also be analyzed for risk and performance. Finally, complications of corporate counsel, if any, will complete the second phase of the data analysis.

Phase III: Trend Analysis

Baseline organizational trend analysis is prospective to assessment of internal and external stakeholders. Financial data will be looked at through trend analysis of BH, ACE and SIG. As part of the Six Sigma assessment recommendation, statistical forecasting provides measurable criterion toward future investment decision making. Aggregate industry data will also be analyzed for comparative overview of the insurance market. Financial statement and other pertinent corporate data will contribute to the SWOT and PESTLE analysis frameworks where valid.

IMPLICATIONS TOTHE STUDY

In interest of the economy of insurance law, the proposed study follows the Warren E. Buffet's decision making process in collaboration with the Board of Directors of Berkshire Hathaway, Inc. And addresses the factors that go into the highly successful venture model exhibited by the Class A market leader. Support from the [Foundation -- Fellowship Title] will enable empirical data collection on the project, and contribution to scholarship in the field with honorable mention. Copies of articles from the chapters of the dissertation and other publications will be provided to the [Society].