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Why Berkshire Hathaway will be fine after Warren Buffett is gone

Yahoo Finance will host the live stream of Berkshire Hathaway’s shareholder meeting on May 6, 2017 at 10:00 am ET.

Berkshire Hathaway (BRK-A, BRK-B), the $400 billion conglomerate, has continued to grow under the leadership of Warren Buffett.

But one overhang on the stock is the question of who will take the helm when Buffett, now 86 years old, is no longer able to lead the company.

It’s a tough subject to discuss, but it’s one that cannot be ignored considering the size of the company and the number of people it touches.

While Buffett has discussed this openly starting in 2003, the company has not provided much clarity. He has said his job will be split into two parts: a CEO and a small number of Chief Investment Officers, including his current money managers Todd Combs and Ted Weschler.

While the company has identified a successor and two backups for CEO, they have not been named.

In a new slide deck, investor Whitney Tilson acknowledged that Buffett is indeed irreplaceable. But Tilson also explained why investors shouldn’t be too concerned about the uncertainty surrounding a successor.

Limited downside risk for a Berkshire without Buffett

First, Tilson explains that Buffett will likely be around for awhile. Separate from his stable—and seemingly improving—mental capacity, Tilson said that a life expectancy calculator shows Buffett is likely to live to age 93.

“And we’d bet on the over,” Tilson wrote.

Second, the stock’s valuation doesn’t even incorporate a Buffett premium at the moment.

“We simply take investments/share and add the value of the operating businesses, based on a conservative multiple of their normalized earnings,” said Tilson, who believes Berkshire’s stock price could be up 30% in a year.

Third, Buffett has built a powerful culture that will endure change.

“Berkshire operates via extreme decentralization,” Tilson wrote. “Though it is one of the largest
businesses in the world with approximately 360,000 employees, only 25 of them
are at headquarters in Omaha.”

The company doesn’t even have a general counsel or human resources department.

Berkshire Hathaway CEO Warren Buffett talks to reporters while holding an ice cream at a trade show during the company’s annual meeting in Omaha, Nebraska May 3, 2014. (Reuters/Rick Wilking)

Buffett is smart not to name a successor

Tilson explained naming a successor right now would actually increase risks for the company.

“By not naming Buffett’s successor now, Buffett and the board will be able to switch their choice without the second-guessing and media circus that would occur if the successor had been named,” Tilson said.

First, the uncertainty surrounding a specific successor is necessary at this time. If Buffett named his successor now, it would place a huge amount of pressure and expectations on that person, Tilson said, which would be counterproductive, nevermind demotivating for candidates that were passed over.

Plus, Tilson explained much can happen between now and when the successor takes over.

“Maybe the current designee falls ill, leaves Berkshire, performs poorly, or makes a terrible mistake,” Tilson said.

Such incidences have already occurred.

David Sokol, who had once been seen as an heir apparent to Buffett, resigned from Berkshire in 2011 after the company discovered he had bought shares of lubricant maker Lubrizol ahead of Berkshire’s announcement to buy the company for $9 billion.

“Or what if another candidate (perhaps one of the two backup successors today) performs incredibly well, or Berkshire acquires a business with a fantastic CEO, and Buffett and the board decide that another candidate is better?”

Tilson noted that Apple (AAPL), whose growth was closely tied to its legendary founder Steve Jobs, remained resilient after his announcement to retire in August 2011 and his death six weeks later. The stock has significantly outperformed the market since that time.

Risks are present

Tilson acknowledged there is no investor with Buffett’s experience and wisdom. He noted that Buffett’s “halo” also motivates his whole team, which is important. Not to mention that he is often offered investment opportunities (because of his prestige) that a successor may not receive.

But Tilson’s not worried. In fact, he thinks the biggest risk is that Buffett begins to lose it mentally and makes poor decisions for shareholders without realizing it.

Buffett has acknowledged this risk and has publicly and privately told Berkshire’s board members to “take away the keys” if they see him losing it.

Nicole Sinclair is markets correspondent at Yahoo Finance.

Please also see:

Berkshire 101: An introduction to Warren Buffett’s $400 billion empire
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