Value = Σ FCFₜ ÷ (1 + WACC)ᵗ + Terminal ValueA valuation model exists to estimate long-term cash generation — not to find the statistically cheapest ticker on the screen.
Owner Earnings
Warren Buffett's answer to the question "how much cash does this business really make for its owners?" — reported earnings, corrected for reality.
What are owner earnings?
Owner earnings are Warren Buffett's measure of the cash a business truly generates for its owners: net income, plus depreciation and other non-cash charges, minus the maintenance capital expenditures needed to preserve its competitive position. Defined in his 1986 shareholder letter, the figure cuts through accounting distortions to show "the number that counts" for valuation.
- Formula: net income + non-cash charges − maintenance (not growth) CapEx.
- Only maintenance CapEx is subtracted, so growth spending does not depress it.
- The maintenance/growth split is your estimate — it cannot be read straight off the statements.
Definition
Owner earnings, defined by Buffett in his 1986 shareholder letter, are: net income, plus depreciation and other non-cash charges, minus the average annual capital expenditures required to maintain the company's competitive position and unit volume.
The crucial nuance is that last clause: only maintenance CapEx is subtracted, not growth CapEx. A company spending heavily to expand may show low free cash flow while its owner earnings — the cash its existing operations generate — are excellent.
Why it matters
Reported earnings overstate reality for capital-hungry businesses (depreciation understates true replacement costs) and understate it for companies investing heavily in growth. Owner earnings cut through both distortions, which is why Buffett calls them the relevant figure for valuation — "the number that counts."
Simple example
A logistics company reports $80M net income, adds back $40M depreciation, and spends $100M on CapEx — of which $60M maintains the existing fleet and $40M buys trucks for new routes. Owner earnings = 80 + 40 − 60 = $60M. Standard FCF would show only $20M, hiding the fact that the expansion is a choice, not a cost of staying alive.
Common misconception
"Owner earnings can be read off the financial statements." They cannot — companies do not separate maintenance from growth CapEx, so the split is your estimate. Buffett acknowledged this himself: the number is necessarily imprecise, but a roughly right owner-earnings figure beats a precisely wrong accounting one.
- 1Formula: net income + non-cash charges − maintenance (not growth) CapEx.
- 2Only maintenance CapEx is subtracted, so growth spending does not depress it.
- 3The maintenance/growth split is your estimate — it cannot be read straight off the statements.
| Shortcut | Warren Buffett's answer to the question "how much cash does this business really make for its owners?" — reported earnings, corrected for reality. |
|---|---|
| Disciplined workflow | Formula: net income + non-cash charges − maintenance (not growth) CapEx. → Only maintenance CapEx is subtracted, so growth spending does not depress it. → The maintenance/growth split is your estimate — it cannot be read straight off the statements. |
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True story · Warren Buffett
A fair price for a wonderful business
In 1988, just months after the Black Monday crash, Warren Buffett quietly began buying Coca-Cola shares. By 1989 Berkshire had spent roughly $1 billion — at about 15 times earnings, hardly a statistical bargain. Wall Street was puzzled: the "cigar-butt" student of Graham was paying up for a household brand.
Buffett was not valuing the next quarter. He was estimating decades of predictable owner earnings from a product sold in nearly every country on earth, protected by the strongest brand moat in consumer goods. Ten years later the stake was worth more than $13 billion, and Berkshire still holds it today — the annual dividends alone now return a large share of the original cost every single year.
A valuation model exists to estimate long-term cash generation — not to find the statistically cheapest ticker on the screen.
≈$1Binvested 1988–89
≈$13Bvalue ten years later
35+ yrsstill held by Berkshire
True story · Charlie Munger
The $25 million lesson that changed Buffett
In 1972 the sellers of See's Candies asked $30 million; Buffett, trained on Graham's cigar butts, refused to go above $25 million — roughly three times book value, a price the old Buffett would never pay. The deal nearly died over $5 million. Charlie Munger pushed back: a beloved brand with loyal customers and genuine pricing power deserved a premium.
They paid the $25 million. See's went on to ship more than $1.65 billion of cumulative pre-tax earnings back to Omaha while needing almost no additional capital — raising prices every year without losing a single loyal customer. Buffett later called it 'the prototype of a dream business' and credits this one purchase with rewiring how he invests.
Quality compounds quietly for decades. Temperament and a clear circle of competence beat chasing the cheapest price.
$25Mpurchase price in 1972
$1.65B+cumulative pre-tax profit
50+ yrsnever sold
True story · Berkshire & Apple, 2016
A quality compounder hiding in plain sight
In 2016, with Apple trading near 10–12 times earnings amid fears the iPhone cycle had peaked, Berkshire began buying — eventually about $36 billion of stock. Buffett's thesis required no technology forecast: a product customers would not abandon, extraordinary returns on invested capital, and a buyback machine that increased Berkshire's ownership share every year without another dollar spent.
The stake grew to be worth more than $150 billion at its peak — the most profitable single investment in Berkshire's history, earned not by predicting gadgets but by recognizing a high-ROIC franchise priced like a metal-bender.
High returns on capital plus a shrinking share count quietly multiply your slice of the profits.
≈$36Binvested from 2016
$150B+peak value of the stake
10–12×starting P/E
Related tools
Frequently asked questions
How do owner earnings differ from free cash flow?
FCF subtracts all capital expenditures; owner earnings subtract only the portion needed to maintain the business. For companies investing in growth, owner earnings are typically higher.
How do I estimate maintenance CapEx?
Common approaches: compare CapEx to depreciation over time, study CapEx during no-growth periods, or use management disclosures. All are estimates — document your reasoning.
Apply owner-earnings thinking in guided valuations:
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