Question

Here are two cases that deal with Buffett’s sale of Nike stock and his purchase on IBM stock.

A. The Nike Sale

Berkshire Hathaway’s 13-F filing for the third quarter of 2010 reported that Warren Buffett had reduced his stake in Nike, Inc. by $224 million, bringing his holding to 7.62 percent of the 480 million outstanding shares. Nike reported a core return on net operating assets (core RNOA) of 32.7 percent in its annual report for the year ended May, 2010. A summary of its balance sheet at fiscal-year end follows: Net operating assets $ 5,318 million Net financial assets 4,436 Common equity $ 9754 million In mid-July, at the time that the annual report was published, Nike’s shares traded at $68 each. By the end of September, the price had risen to $81. Evaluate Buffett’s decision to sell by calculating the expected return from buying at the market price in mid-July with a forecast that Nike can grow residual operating income at 4 percent per year. Now make the same calculation for the September price. Do you see why Buffett may have sold?

Answer 1

A. The Nike Sale
July:
Equity price	480 mill. Shares × $68 = $32,640 million
Enterprise price	$32,640 – 4,436 = $28, 204 million
Enterprise book-to-price	5318 / 28204 = 0.189
Expected return from buying at the current market price
=	(0.189 × 32.7%) + [(1 - 0.189) × 4%]
=	6.18% + 3.24%
=	9.42%
September:
Equity price	480 mill. shares × $81 = $38,880 million
Enterprise price	$38,880 – 4,436 = $34,444 million
Enterprise book-to-price	5318 / 34444 = 0.154
Expected return from buying at the current market price
=	(0.154 × 32.7%) + (0.846 × 4%)
=	5.04% + 3.38%
=	8.42%
Buffet’s expected return has gone down due the price increase.
Of course, his expectation of forward RNOA and growth may also have changed