Why Did Buffett Buy AON?

It was reported in May this year that Warren Buffett’s Berkshire Hathaway investment fund had opened a new $943 million position in the British multinational insurance and professional services company Aon (NYSE:AON).

The Oracle of Omaha certainly lived up to his name as the decision seemed to be eerily prescient: AON’s shares soared at the end of July on news that its intended merger with fellow insurer Willis Towers Watson Public Limited Company (NASDAQ:WLTW) had finally been terminated, and the company enjoyed more good fortune with a further price bump coming off the back of another welcome quarter in which the firm beat revenue predictions by $210 million and its EPS by $0.44.

And while a near 25% increase in share price since the time that Berkshire made its investment isn’t to be sniffed at, Buffett is more well known for his value plays than he is for chasing short-term growth. AON’s paltry dividend yield of 0.73% isn’t likely the reason he invested, so why did Buffett decide to buy Aon? Let’s take a closer look.

How Much AON Does Warren Buffett Own?

Berkshire Hathaway disclosed in its first quarter 2021 filing that the firm acquired 4.09 million shares of Aon, accounting for 0.35% of the company’s equity portfolio. The average price of a share throughout the quarter ended March 31 was $220.25. Today Aon trades for around $279.00.

Besides making a significant increase to an already existing holding i.e. The Kroger Co. (NYSE:KR), Berkshire only marginally upped its stakes in another three companies, namely Verizon Communications Inc. (NYSE:VZ), RH (NYSE:RH) and Marsh & McLennan Companies, Inc. (NYSE:MMC).

The quarter was ultimately noted more for the fact that Buffett chose to offload shares in a further 11 positions, completely scrapping his interest in Synchrony Financial (NYSE:SYF) and Suncor Energy Inc. (NYSE:SU), and slashing 98% of Berkshire’s holding in Wells Fargo & Company (NYSE:WFC). He also more than halved his stake in Chevron Corporation (NYSE:CVX) too.

In a period marked by big name sell-offs, the decision to make the call on Aon seems all that more important.

So What Made Buffett Buy AON Stock?

Berkshire Hathaway’s most recent financial reporting for Q2 2021 revealed that Warren Buffett’s investment vehicle was aggressively buying back its own stock to the tune of $6.4 billion last quarter, which is about 1% of Berkshire Hathaway Inc.’s (NYSE:BRK.B) Class B shares.

Berkshire also repurchased $25 billion of stock last year, making up around 5.2% of its total shares outstanding. If that trend continues throughout 2021, the company could realistically see this year’s full buy back scheme accounting for between $24 to $30 billion.

But what does this have to do with Aon?

Firstly, buying back your own shares is always a bold move, but it’s doubly so in the case of an investment group like Berkshire; it essentially becomes a signal that the company is so sure of its portfolio management that it reckons on leveraging its own gains by investing in itself. Buffett is essentially betting on Berkshire as being a growth stock.

Such aggressive action as this probably calls for a hedge of some kind, and this is where Aon comes in.

While traditional theory states that defensive stocks should be bought in slow growth times, when it comes to hedging a position that wants to exploit times of economic expansion, you should do the opposite. Thus, Berkshire’s purchase of a safe, low-risk insurance stock – classically a defensive buy that is less exposed to economic cycles – such as Aon makes sense.

Ironically, Aon’s price action since Buffett bought the firm has landed Berkshire Hathaway a handsome profit already. The collapse of the company’s proposed $30 billion merger with Willis Towers Watson was one that the market was unsure off, and it’s telling that in the aftermath AON’s shares went up and WLTW’s effectively tanked.

Furthermore, Aon is a solidly performing business in-and-of itself; and despite the fact that its dividend profile might not match those of other Buffett picks, it is the sort of company that is right up his street.

The firm has never failed to meet EPS targets once over the last two years, and it’s doing alright on other key performance metrics too. The company brought in $2.9 billion of revenue in the second quarter, up 16% year-on-year, and delivered earnings to investors of $2.29 per share.

Free cash flow and cash flows from operations both grew by 13% and 10% respectively, at $1,275 million and $1,345 million, and its cash position is so strong that Aon earlier announced an 11% increase to its dividend, bringing its quarterly cash payout to $0.51 per share.

The company also has an attractive price-to-sales ratio of 5.20, albeit slightly inflated due to its recent spike in stock price. 

Why Did Berkshire Buy Aon? Wrap Up

Warren Buffett knows a good insurance company when he sees one. In fact, Berkshire Hathaway runs approximately 70 of its own insurance and reinsurance businesses, and the Nebraska-based holding company didn’t decide to invest in Aon lightly.

That decision has already delivered profits for Buffett, and, as a strategic value and defensive stock on Berkshire’s roster, it is likely to continue doing so for quite some time.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.