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Possible explanations for Berkshire's low RoE (sorry I am using Yahoo's Dec 31 2012 numbers, not the absolutely latest March 1 2013 numbers.)

1. Cash drag - $20B minimum cash in $188B book, so RoE on $168B deployable book would be 8.49% * (188/168) = 9.5%. Of course, that's the business (insurance) they are in, so can't complain.

Right, it fairly penalizes a business that requires lots of cash sitting around.

2. Look-through earnings not reflected in balance sheet - I didn't quite understand why you (or someone else in the thread above) dismissed this factor.

No. Look through earnings are partly sent to Berkshire as dividends, and partly retained and reinvested in the business, or hoarded, or used to buy back shares. In any case, the earnings that are not distributed should increase the value of Berkshire's investments, and this would translate into increased book value, adjusted every quarter.

3. IMPORTANT: Any gains in available-for-sale securities bypass the earnings and go directly to the book value.

No. I mean yes it is true, unrealized gains don't go to earnings, but then, the whole idea of this way of looking at 'E' is to take changes in book value as a proxy for earnings, for just this reason. So those unrealized gains can not explain why Berkshire fails to get a good ROE when the E is change in book value.

Of course, there is the danger that 'E' (book value) is understated thanks to deferred tax liabilities and treating 100% of float as a liability.

Yes, both of these points make sense, or rather, since deferred tax liabilities are just one form of float, it is the same point. So if Berkshire has been increasing its float rapidly in the last 10 years, then it this would be part of its value that does not show up in book value, and might represent some extra ROE. But it is not huge. From memory, float is up from about $40 bn to $80 bn (very approximately), so let's throw in another $40 bn of pseudo-earnings, say another $4 bn a year, on an average equity of $100 bn (wild guess, but it is $188 bn now and was $131 bn 3 years ago...), so maybe another 4% ROE very approximately, on top of Jim's 8%, if you count float as equity without its countervailing liability, which is obviously a tad generous. More realistically, it's still not more than 10%.

Regards, DTM
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