Buffett, book value and climate change

What can Warren Buffett teach us about the climate?

At face value, his record is pretty mixed. Berkshire Hathaway (Buffett’s conglomerate) is a leading producer of wind energy in the US. It also owns a lot of coal-fired plants. Buffett has recognised the importance of the issue in conversation, but the company has a long history of rejecting climate proposals at shareholder meetings. 

In short, asking Buffett about climate directly is like asking the US Surgeon-General about interior design; they may have a personal opinion, but what’s it really worth?

Where Buffett is an authority on the topic of valuation – which was also the subject of my last article. I made the case that the climate crisis will usher in a radical repricing of businesses everywhere. But might some types of business be immune to this coming storm?

This is where Buffett comes in and his old friend book value.

What is book value?

Tangible book value is simply the total worth of all the real assets in a company. It is almost old-fashioned in its simplicity – if I put the physical contents of my business out on the lawn tomorrow, what would I get for them?*

Suffice to say, this is hardly the kind of financial wizardry that excites Wall Street today. Instead, book value was a long-time favourite of ‘value investors’ like Buffett. If you bought a company at a price that was close to (or even below) the value of its assets, then you essentially got all its future cash flows for free. This insight built the Berkshire Hathaway empire.

The twenty-first century was not kind to (book) value investors. Still, Buffett raised a few eyebrows when, in his 2018 shareholder letter, he declared his favourite measure dead. “For nearly three decades, the initial paragraph [of this letter] featured the percentage change in Berkshire’s per-share book value. It’s now time to abandon that practice,” he wrote. “The fact is that the annual change in Berkshire’s book value is a metric that has lost the relevance it once had.”

Capitalism without capital

There were many reasons for this, most of them specific to the peculiarities of Berkshire as a business. Nonetheless, it was seen as emblematic of the triumph of a new kind of economy. In the past, the value of a business rested upon its physical capital – the land, property and machinery that produced goods and services. Today, value is instead a product of intangibles: brand, IP, knowledge, networks, platforms and financialised structures, all of it woven together through the application of digital technology, data and AI. Here, value rests on dematerialisation – this is what SaaS, scale and zero-marginal cost unit economics are supposedly about. To borrow the title of Jonathan Haskel’s excellent book on the subject, we are in the era of Capitalism Without Capital.

Where does this leave climate repricing? There is an argument that, if corporate value rests more and more upon intangibles, then it is also insulated from the problems of the physical world. If your business exists only through the cloud, financial engineering, or the twinkle in an AI’s eye, then why concern yourself with heatwaves, hurricanes and the messiness of the natural world? Technology offers the chance for businesses to rise above it, literally and figuratively. 

This is a mistake.

Does the intangible economy really exist?

Under the surface, these so-called intangible businesses are deeply entwined in the fossil-fuel system. The financial sector, if it were a country, would be the fifth-largest emitter of carbon in the world; just behind the internet at number four. These emissions profiles reflect the hidden energy demands that modern business – however financialised and digitalised – place upon the world, all of which will be upended by climate change.  

This will show up most clearly in a proper price for carbon. Some companies already use an internal carbon price; but far too few, and those that do so use a number that is far too low. As the climate crisis accelerates, exploding carbon prices will expose just how dependent these digital companies are on cheap energy for their valuations. 

And what about when we properly price other raw materials and their chains of pollutants to reflect their environmental externalities? Think of the metals and minerals that make up every smartphone, for example. That is before we get to the role of Big Tech in fostering political division, including climate denial. Like a sheet thrown over a ghost, accounting for external costs will reveal the true outline of these so-called intangible businesses.

The other way book value can make a comeback is in natural capital accounting. As nation-states start to measure the value of their ecosystems – forests and soils, clean air and water, etc. – then the dependence of all businesses upon these natural assets will come into focus. If nothing else, the highly-skilled humans who build and run cutting-edge businesses cannot thrive in a devastated world. Yet we have been running down these fundamental assets in a fashion that would see us all fired as directors of Planet Earth Plc. 

The revenge of materiality 

Climate change is ushering in the revenge of materiality. The idea of the intangible economy is a mirage. Just as billionaire tech bros won’t really survive unscathed in their island bunkers, neither will their firms be able to surf over the top of the climate wave. 

In a perverse way, the argument itself rehearses a cognitive (mal)adaptation to climate change. Of course we should look for ways to adjust and survive what is coming; but beyond adaptation, we must take up the challenge of mitigation with everything we have. Whatever your balance sheet looks on paper, we all share ownership of the collective assets of this earth. 

Don’t listen to Buffett. Thanks to climate change, book value is back after all.

*Book value is a very complex part of financial accounting, with many ways of counting intangible assets. I’ve simplified it here for brevity and illustrative purposes.