Owner Earnings

Warren Buffett introduced owner earnings in his 1986 Berkshire Hathaway shareholder letter as a critique of reported GAAP earnings. His argument: depreciation charges represent real economic costs that must eventually be spent to maintain the earning power of the business. A company that reports $10M in net income but must spend $8M on maintenance capex only truly earns $2M for its owners.

The formula starts with net income, adds back non-cash charges (principally depreciation and amortization), and subtracts the average annual capital expenditure needed to maintain the company's competitive position. This differs from reported free cash flow in one critical way: Buffett explicitly excludes growth capex — spending on new capacity that goes beyond maintenance — because that spending creates future (uncertain) value rather than consuming current earnings.

In practice, estimating maintenance capex is the hardest part of the calculation. Buffett acknowledged this explicitly, calling it 'rough' because companies rarely disclose the split between maintenance and growth capex. Common approaches include using total capex as a ceiling, using D&A as a proxy for maintenance capex, or triangulating from management commentary and historical patterns. Despite this imprecision, owner earnings remains a more economically honest profitability measure than EBITDA or even reported EPS.

Owner earnings above reported free cash flow (FCF = Net Income + D&A − Total CapEx) typically indicates a growth-heavy capex profile — the company is investing heavily in expansion. Owner earnings below FCF can signal that maintenance capex has been understated or that working capital consumption is high. Buffett typically valued businesses at 15–20× owner earnings when buying at fair prices.

Owner earnings work best for capital-intensive businesses (industrials, utilities, consumer staples) where the distinction between maintenance and growth capex is material. Asset-light businesses (software, marketplaces) with near-zero maintenance capex see little difference between owner earnings and net income. For those, ROIC and gross profit retention are more informative lenses.