Berkshire Hathaway Annual Meeting 1999 Transcript

Warren Buffett [00:00:00] (Applause) Good morning. Really delighted we can have this many people come out for a meeting. It says something, I think, about the way you regard yourself as owners. We’re going to hustle through the business meeting, and then Charlie and I will be here for six hours or until our candy runs out to answer any questions you have. We have people at a number of remote locations, and we have ways of bringing them in for the questions as well. Incidentally, if you hadn’t figured it out already, this hyperkinetic bundle of energy here on my left is Charlie Munger, vice chairman.

And we will now run through the business of the meeting. Meeting will now come to order. I’m Warren Buffett, chairman of the board of directors of the company. I welcome you to this 1999 annual meeting of shareholders. I will first introduce the Berkshire Hathaway directors that are present in addition to myself, and if you’ll stand up, it’s a little hard for me to see that right down here in the front row. We have Susan T. Buffett. Just stand and remain standing, please. If you encourage her, she’ll sing another song. Howard G. Buffett. Don’t encourage him to sing a song. Malcolm G. Chace. Charlie you’ve already met. Ronald L. Olson. Ron. And Walter Scott Jr.

Also with us today, our partners in the firm of Deloitte & Touche, our auditors. They are available to respond to appropriate questions you might have concerning their firm’s audit of the accounts of Berkshire. Mr. Forrest Krutter is secretary of Berkshire. He will make a written record of the proceedings. Ms. Becki Amick has been appointed inspector of elections at this meeting. She will certify to the count of votes cast in the election for directors. The name proxy holders for this meeting are Walter Scott Jr. and Marc D. Hamburg. Proxy cards have been returned representing 1,133,684 Class A Berkshire shares and Class B Berkshire shares to be voted by the proxy holders as indicated on the cards. That number of shares represents a quorum, and we will therefore directly proceed with the meeting. We will conduct the business of the meeting and then adjourn the formal meeting. After that, we will entertain questions that you might have. Does the secretary have a report of the number of Berkshire shares outstanding, entitled to vote, and represented at the meeting?

FKForrest Krutter [00:03:22] Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent by first-class mail to all shareholders of record on March 5, 1999, being the record date for this meeting, there were 1,343,592 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled one vote on motions considered at the meeting, and 5,266,338 shares of Class B Berkshire Hathaway common stock outstanding, with each share entitled to one two-hundredth of one vote on motions considered at the meeting. Of that number, 1,133,684 Class A shares and 3,485,885 Class B shares are represented at this meeting by proxies return through last Friday.

Warren Buffett [00:04:10] Thank you. First, the one item of business of this meeting is to elect directors. If a shareholder is president who wishes to withdraw a proxy previously sent in and vote in person on the election of directors, he or she may do so. Also, if any shareholder that is present has not turned in a proxy and desires a ballot in order to vote in person, you may do so. If you wish to do this, please identify yourself to meeting officials in the aisles who will furnish a ballot to you. With those persons desiring ballots please identify themselves so that we may distribute them.

I’d like to make one comment before we proceed to the election of directors, and that’s that in the General Re proxy material, from material for, relating to the General Re merger, it was stated that the intention was to have Ron Ferguson, the CEO of General Re, joined the board of Berkshire Hathaway. And that offer was extended and still remains open and will remain open for his lifetime and mine. He decided that he preferred not to be on the board, and in that judgment he concurs with my feelings generally about boards, and in that they can restrict your, it can restrict your activities in purchase and sale of the stock. For example, if you do it in a six-month period, you’re automatically in trouble with the… and you have to return any profit, as calculated in a rather peculiar way, to the company. It means that your compensation system is laid out for the world to see. There may be some tax restrictions in terms of the deductibility of salary paid.

And so Ron notified me a little bit before the proxy material went out that he preferred at least to defer any decision on joining the board. I can tell you that it has cost Berkshire significant money by the fact that Charlie and I have been on various boards, because your hands are tied in many respects, even if you don’t have any knowledge of anything that might be of material plus or minus. The very fact that it might be imputed to you can restrict action significantly. So we make a point of not trying to be on very many boards. Charlie and I have only gone on boards where we have very significant investments by Berkshire, and sometimes those have caused us to take on a job that we didn’t intend originally, as that Salomon movie showed.

So Ron, the offer is 100% open to Ron at any time, and if he changes his mind in any way, he will be on the board. But that explains the discrepancy between the actions that are being taken this morning of what was described as likely to happen in the proxy material. Now, with that explanation, I would like to recognize Walter Scott Jr. to place a motion before the meeting with respect to election of directors. Walter?

WSWalter Scott Jr. [00:07:18] I moved the Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald Olson, and Walter Scott Jr. be elected as directors.

Warren Buffett [00:07:29] There a second? Somebody should second it. We got a second down there, so, oh, good. Okay. It has been moved in second and the Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald Olson, and Walter Scott Jr. be elected as directors. Are there any other nominations? Long enough. Is there any discussion? Long enough. The nominations are ready to be acted upon. If there are any shareholders voting in person, they should now mark their ballots on the election of directors and allow the ballots to be delivered to the inspector of election. With the proxy holders please also submit to the inspectors of election a ballot on the election of directors, voting the proxies in accordance with the instructions they have received. Ms. Amick, when you are ready, you may give your report.

BABecki Amick [00:08:21] My report is ready. The ballot of the proxy holders, in response to proxies that were received through last Friday, cast not less than 1,145,271 votes for each nominee. That number far exceeds a majority of the number of the total votes related to all Class A and Class B shares outstanding. The certification required by Delaware law of the precise count of the votes, including the additional votes to be cast by the proxy holders in response to proxies delivered at this meeting, as well as those cast in person at this meeting, if any, will be given to the secretary to be placed with the minutes of this meeting.

Warren Buffett [00:09:04] Thank you, Mr. Amick. Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. have been elected as directors. After adjournment of the business meeting, I will respond to questions that you may have that relate to the business of Berkshire but do not call for any action at this meeting. Does anyone have any further business to come before this meeting before we adjourn? If not, I recognize Mr. Walter Scott Jr. to place a motion before the meeting.

WSWalter Scott Jr. [00:09:32] I move this meeting be adjourned.

Warren Buffett [00:09:34] Is there a second? A motion to adjourn has been made and seconded. We will vote by voice. Is there any discussion? If not, all in favor say aye. Opposed say, I’m leaving, no, to say no. I’m sorry. Okay, the meeting is adjourned. Now we’ll move forward. Thank you. I asked you, was Joe Stalin ever any better? I mean…

We will, we have the, we have this room broken into eight zones, and then we have five more zones from various off-site locations, and we will move in order. We have microphones that you can go to, and we have a monitor each microphone that will line people up. We will rotate around the 13 zones. There’s just one question per person. I would ask that you identify yourself and state where you’re from. Now, you have to be a little careful on that, because a lot of people will say that, who really aren’t, will say that they’re from Nebraska for status reasons. But if you get beyond that, we will try to identify where everybody is from. And we’ll start off in zone one, which is on the right here at the front.

[00:11:06] Shareholder (Tim Speer, Hertfordshire, England): My name’s Tim Speer, and I’m from Hertfordshire, England. I was thinking in Ben Graham’s book, The Intelligent Investor, he spends the first couple of chapters discussing the level of the market and whether it was save for investment. I was wondering what you’d think of the market today.

Warren Buffett [00:11:24] Well, we don’t, Charlie and I don’t think about the market, and I, and Ben didn’t very much. I think he made a mistake to occasionally try and place a value on it. We look at individual businesses, and we don’t think of stocks as little items that wiggle around in the paper and that have charts attached to them. We think of them as parts of businesses. And it is true that currently we have great trouble finding businesses that we both like and where we like the managements and that they, and find them at an attractive price. So we do not find bargains in this market among the larger companies that are our universe.

That is not a stock market forecast in any way, shape, or form. We have no idea whether the market’s going to go up today or next week or next month or next year. We do know that we will only buy things that we think makes sense in terms of the value that we receive for Berkshire. And when we can’t find things, the money piles up, and when we find, when we do find things, we pile in. But the stock market, I know of no one that has been successful at, and really made a lot of money predicting the actions of the market itself. I know a lot of people who have done well picking businesses and buying them at sensible prices, and that’s what we’re hoping to do. Charlie?

Charlie Munger [00:12:57] How could you say it any better?

Warren Buffett [00:12:59] Yeah, but the question is whether you can say it better, John. (Laughter) Okay, we’ll go to zone two. That may be all you hear from him today. Get used to it.

[00:13:12] Shareholder (David Winters, Mountain Lakes, New Jersey): Good morning.

Warren Buffett [00:13:13] Good morning.

[00:13:14] Shareholder (David Winters, Mountain Lakes, New Jersey): David Winters, Mountain Lakes, New Jersey. Could you give us a few hints about the incremental value of General Re’s float under the Berkshire Hathaway umbrella and the potential for the growth of General Re’s float over the long term?

Warren Buffett [00:13:31] Yeah. General Re’s float is, which is now available to Berkshire, it’s 100% on subsidiary, although part of that float is attributable to Cologne, which is only an 83%-owned subsidiary of General Re and also Berkshire. But that, I would say the incremental value today because it’s under the Berkshire umbrella is zero, because we are bringing nothing to the party that General Re’s own investment people would not have brought to the party. We obviously think that there will be important incremental value over a long period of time. We, but when that value will appear or how much of it develops is a matter that’s out of our hands. We right now have close to $24 billion in total invested assets at General Re in Cologne. Like I say, 83% of the Cologne part is ours and 17% belongs to somebody else. But we are bringing nothing to that party right now in terms of any managerial skill that is going to add value. I would hope that over time we would.

The second question, as to the growth of float. The growth of float at General Re and Cologne will certainly be very slow in the short term. The growth of float at GEICO will be significant, percentage-wise. The reinsurance business does not have the same potential for growth as we have at GEICO, and growth is much slower to come about because there are longer-term contractual commitments, that people are reluctant to change reinsurers, and they should be. We agree with that. So you, at a level of $6 billion or so a premium volume and already $14 billion of float, you won’t have any, you won’t have growth of float unless premium volume is become significantly higher in the future. I think that will happen over time. It will not happen in the short term. Charlie, if I may interrupt your breakfast?

Charlie Munger [00:16:01] I’ve got nothing to add.

Warren Buffett [00:16:04] Zone three. You can always direct your questions to Charlie, incidentally.

[00:16:08] Shareholder (Che Wei Wu, Omaha): Good morning, Mr. Buffett and Mr. Munger. Thank you for hosting another wonderful weekend. My name is Che Wei Wu. I’m a proud shareholder from right here in Omaha. One of the most interesting financial news developments this previous year was the near collapse of the hedge fund Long-Term Capital. I’d like to get your thoughts and Mr. Munger’s thoughts about how these private partnerships operate.

What your thoughts about the Long-Term Capital deal and also the Fed’s intervention to save it?

Warren Buffett [00:16:41] Yeah. That, in that movie you saw the time when Yellowstone was, when Old Faithful was performing in the background, and Bill was trying to get me to watch that while I was on the phone. With a lot of that trip was spent talking to New York about making a bid for what we’ll call LTCM, Long-Term Capital Management. And then the caption on that photos, incidentally, is known as “The Geezer and the Geyser.” The, and we were up in, we started in Alaska, and we were going down these canyons and in a boat, and the captain’s saying, “Now, you know, let’s go over there, look at the sea lions,” and I say, “Let’s stay right where we are, where we’ve got a satellite channel,” because I was trying to talk on the phone all the time. Charlie was in Hawaii, and we never did get a chance to talk during that whole period. I didn’t want to bother him with a little thing like a bid for $100 billion plus of securities, and I couldn’t find him.

So it was, we were in an awkward place to pursue that. I think it’s possible that if I’d been in New York or Charlie had been in New York during that period, that our bid might have been accepted. There was just a report published within the last three or four days by a special committee representing the SEC, the Fed, I think the Treasury, and the CFTC. I think I’m right on those four. And it describes just a tiny bit of the events leading to the bid. It referred to our, it referred then, on page 14 I remember, it talked about our transaction unraveling. It didn’t unravel from our side. I mean, we made a firm bid for $100 billion plus of balance sheet assets and many hundreds of billions, in fact over a trillion, of derivative contracts. And, you know, this was in a market where prices were moving around very dramatically, and with that bulk of assets there, we thought we made a fairly good bid for a minute or hour period. I don’t think anybody else would have made the bid.

But in any event, the people at LTCM took the position that they could not accept that bid, and therefore the New York Fed in, had a group of largely investment banks there at the Fed, and that afternoon, faced with the prospect that LTCM could not or would not accept our bid, they arranged another takeover arrangement where additional money was put in. It’s interesting, if you read that report, which is put together by these four very eminent bodies, and I think on the first page it says that the first so-called hedge fund, which is the term generally applied to entities like LTCM, first hedge fund was set up in 1949. And I probably read that or heard that 50 times in the last, particularly in the last year, and of course that’s not true at all. And I’ve even pointed this out once or twice before, but Ben Graham had, and Jerry Newman, had a classical hedge fund back in the ’20s.

And I worked for, I worked dually for a company called Graham-Newman Corp, which was a, and a regulated investment company, and Newman and Graham, which was an investment partnership with a, I think a 20% participation in profits, and exactly the sort of entity that today is called a hedge fund. So if you read any place that the hedge fund concept originated in 1949, presumably with A.W. Jones, it’s a, it’s not an accurate history. There are now… I ran something that would generally be called a hedge fund. I didn’t like to think of it that way. I called it an investment partnership, but it would have been termed in an edge one. Charlie ran one from about, what, 1963 to mid-’70s or thereabouts. And they have proliferated in a big way. Did you, did he blink?

We, there are now hundreds of them, and of course it’s very enticing to any money manager to run, because if you do well, or even if you don’t do so well but the market does well, you can make a lot of money a running one. This report that just came out has really nothing particularly harsh to say about the operation, so I think you will see hundreds and hundreds and hundreds of hedge funds. I think the current issue of Barron’s may have a recap of how a large group did in the first quarter. And there’s a lot of money in those funds, and there’s a huge incentive to form them, and there’s a huge incentive to go out and attract more money if you run one. And when that condition exists in Wall Street, you can be sure that they won’t wither away. Charlie?

Charlie Munger [00:22:17] What was interesting about that one is how talented the people were, and yet they got in so much trouble. I think it also demonstrates that, I’d say, the general system of finance in America involving derivatives is irresponsible. There’s way too much risk in all these trillions of notational value sloshing around the world. There’s no clearing system as there is in a commodities market. And I don’t think it’s the last convulsion we’re going to see in the derivatives game.

Warren Buffett [00:22:56] It’s fascinating in that you had 16 extremely bright, I mean extremely bright people at the top of that. The average IQ would probably be, is higher than any organization you could find, among their top 16 people. They individually had decades of experience and collectively had centuries of experience in operating in the sort of securities in which the LTCM was invested. And they had a huge amount of money of their own up, and probably a very high percentage of their net worth in almost every case up. So here you had super bright, extremely experienced people operating with their own money, and in effect, on that day in September, they were broke. And that, to me, that is absolutely fascinating.

There was a book written, You Only Have to Get Rich Once. It’s a great title. It’s not a very good book. Walter Gutman wrote it, but it, many years ago. But the title is right. You only have to get rich once. And why do people, very bright people, risk losing something that’s very important to them to gain something that’s totally unimportant? The added money has no utility whatsoever, and the money that was lost had enormous utility, and on top of that, reputation is tarnished and all of that sort of thing. So that the gain-loss ratio in any real sense is just incredible. I mean, it’s like playing Russian roulette. I mean, if you hand me a revolver with six bullets and, or six chambers and one bullet, and you say, “Pull it once for a million dollars,” and I say no, and then you say, “What is your price?” The answer is there is no price, and there shouldn’t be any price on taking the risk when you’re already rich, particularly of harassment and all of that sort of thing.

But people repeatedly do it, and they do it whenever a bright person, really bright person goes, right person goes broke that has a lot of money, it’s because of leverage. You simply, you basically can’t, it’s be almost impossible to go broke without borrowed money being in the equation. And as you know, at Berkshire we’ve never used any real amount of borrowed money. Now, if we use somewhat more, you know, we’d be really rich, but if we’d used a whole lot more, we might have gotten in trouble sometimes. And there’s no, there’s just no, there’s no upside to it. You know, what’s two percentage points more, you know, in a given year or that year, and run the risk of real failure? But very bright people do it, and they do it consistently, and they will continue to do it. And as long as explosive-type instruments are out there, they will gravitate toward them, and particularly people will gravitate toward them who have very little to lose but are operating with other people’s money.

One of the things, for example, in the LTCM case, and Charlie mentioned, in terms of derivatives, and in effect there were ways found to get around the, and they were legal, obviously, to get around the margin requirements. Because risk arbitrage is a business that Charlie and I have been in for 40 years in one form or another, and normally that means putting up the money to buy the stock on the long side and then shorting something against it that, where you expect a merger or something to happen. But through derivatives, people have found out how to do that essentially putting up no money, just by writing a derivative contract on both sides. And there are margin requirements, as you know, that the Fed promulgates, that I believe still call for 50% equity on stock purchases. But those requirements do not apply if you arrange the transaction in derivative form.

So that these billions of dollars of positions and equities essentially were being financed 100% by the people who wrote the derivative contracts, and that leads to trouble. It doesn’t, nine, you know, 99% of the time it works. But, you know, 83 and a third percent of the time it works to play Russian roulette with one bullet in there and six chambers. But neither 83 and a third percent or 99% is good enough when there is no gain to offset the risk of loss. Charlie?

Charlie Munger [00:27:18] I would argue that there is a second factor that makes the situation dangerous, and that is that the accounting for being actively engaged in derivatives, interest rate swaps, etc., is very weak. I think the Morgan Bank was the last holdout, and they finally flipped to a lenient standard of accounting that’s favored by people who are sharing in the profits from trading derivatives, and naturally they like liberal accounting. So you’ve got an irresponsible clearing system, irresponsible accounting. This is not a good combination.

Warren Buffett [00:28:00] JP Morgan shifted their accounting, I think, I’m not sure exactly when, around 1990. But Charlie and I, we probably became more familiar with that when we were back at Salomon. And this is absolutely standard, you know, it’s GAAP accounting, but it front-ends profits. And if you front-end profits and you pay people a percentage of the profits, you’re going to get some very interesting results sometimes. Zone four.

[00:28:31] Shareholder (Dan Kurz, Bonita Springs, Florida): Hi. Dan Kurz from Bonita Springs, Florida. You’ve given many clues to investors to help them calculate Berkshire’s intrinsic value. I’ve attempted to calculate the intrinsic value of Berkshire using the discount of present value of its total look-through earnings. I’ve taken Berkshire’s total look-through earnings and adjusted them for normalized earnings at GEICO, the supercat business, and General Re. Then I’ve assumed that Berkshire’s total look-through earnings will grow at 15% per annum on average for 10 years, 10% per annum for years 11 through 20, and that earnings stop growing after year 20, resulting in a coupon equaling year 20 earnings from the 21st year onward. Lastly, I’ve discounted those estimated earnings stream at 10% to get an estimate of Berkshire’s intrinsic value. My question is, is this a sound method? Is there a risk-free interest rate, such as a 30-year Treasury, which might be the more appropriate rate to use here, given the prediction, predictable nature of your consolidated income stream? Thank you.

Warren Buffett [00:29:40] Well, that is a very good question, and because that is the sort of way we think in terms of looking at other businesses. Investment is the process of putting out money today to get more money back at some point in the future. And the question is how far in the future, how much money, and what is the appropriate discount rate to take it back to the present day and determine how much you pay. And I would say you’ve stated the approach. I couldn’t state it better myself. The exact figures you want to use, whether you want to use 15% games and earnings or 10% gains in the second decade, I would, I, you know, I have no comment on those particular numbers. But you have the right approach. We would probably, in terms, we would probably use a lower discount factor in evaluating any business now under present-day interest rates.

Now, that doesn’t mean we would pay that figure once we use that discount number, but we would use that to establish comparability across investment alternatives. So if we were looking at 50 companies and making the sort of calculation that you just talked about, we would use a, we might, we would probably use the long-term government rate to discount it back. But we wouldn’t pay that number after we discounted it back. We would look for appropriate discounts from that figure. But it doesn’t really make any difference whether you use a higher figure and then look across them, or use the, use our figure and look for the biggest discount. You’ve got the right approach, and then all you have to do is stick in the right numbers.

And you mentioned, in terms of our clues, we try to give you all of the information that we would find useful ourselves in evaluating Berkshire’s intrinsic value in our reports. You know, I can’t think of anything we leave out that if Charlie and I had been away for a year and we were trying to figure out, look at the situation fresh, evaluate things. There’s, you know, there’s nothing, in my view, left out of our published materials.

Now, one important element in Berkshire, which is a secondary factor that gets into what you’re talking about there, is that because we retain all earnings and because we have a growth of float over time, we have a considerable amount of money to invest. And it really is the success with which we invest those retained earnings and growth and float that will have an important fact, be an important factor in how fast our intrinsic value grows. And to an important extent, the what happens there is out of our control. I mean, it does depend on the markets in which we operate. So if our earnings plus float growth equals $3 billion or something like that in the current year, whether that $3 billion gets put to terrific use, satisfactory use, or no use at all virtually really depends to a big extent on external factors. It also depends on, to some extent, on our energy and insights and so on. But it’s the external world makes a big difference in the reinvestment rate, and, you know, your guess is as good as ours on that. But if we run into favorable external circumstances, the ex, your calculation of intrinsic values should, would result in a higher number than if we run into the kind of circumstances that we’ve had the last 12 months. Charlie?

Charlie Munger [00:33:20] Yeah, for many decades around here we’ve had roughly 100, more than a hundred, 100% of book net worth in marketable securities, and had a lot of wonderful wholly owned subsidiaries to boot, and we’ve always had a very attractive place to put new money in as we generated. Well, we still got the wonderful businesses, but we’re having trouble with the new money. So it’s not a trouble really to have a pile of lovely money. This is not, I don’t think there should be tears in the house.

Warren Buffett [00:34:07] Have you ever run into any unlovely money, Charlie? Zone five.

[00:34:13] Shareholder (Ronald Towell, Brooklyn, New York): Good morning. My name is Ronald Towell. I’m from Brooklyn, New York, and very appreciative of your graciousness as a host for this wonderful weekend. My question has to do with the retailing industry, particularly the department stores and mass merchants. My question has two parts. Without resorting to comments about specific companies, may I ask your opinion as to the long-term prospects for growth and profitability of this industry group? The second part of my question is, given the fact that it is difficult to pick up a newspaper or to be an investor without being bombarded by what is purported to be the potential for exponential growth in the internet e-business, particularly directly to consumers, which could possibly eat into the revenues of these retailers, and if, even if we assume a relatively low impact of, say, 5% to 10% revenue reductions, and given the fact that top-line growth is critical to any business, especially the bricks-and-mortar retailers with their high proportions of fixed overhead, what advice could you give to a CEO of such a company? And in turn, based on the preceding scenario, what would be your opinion of the medium and long-term prospects for this industry?

Warren Buffett [00:35:35] Well, that’s a good question too. And obviously the internet is going to have an important impact on retailing. It will have a huge impact on some forms of retailing, change them and maybe revolutionize them. I think there are some other areas where the impact will be less. But any time we buy into a business, and anytime we bought in for some time, we have tried to think of what that business is going to look like in 5 or 10 or 15 years. And we recognize that the internet in many forms of retailing is likely to pose such a threat that we simply wouldn’t want to get into the business. I mean, it, not that we can measure it perfectly, but there are a number of retailing operations that we think are threatened. And we do not think that’s the case in furniture retailing, and we have three very important operations there. We could be wrong, but so far, that, you know, that would be my judgment, that furniture retailing will not be hurt. You’ve seen other forms of retailing where you’re already starting to see some inroads being made, but it’s just started. The internet is going to be a huge force in many arenas, but it will certainly be a huge force in retailing.

Now, it may benefit us in certain areas. I would expect the internet to benefit Borsheims in a very big way. And you noticed in the movie that we talked about borsheims.com coming online in May. There’s something up there now, but you’ll see a new format within a month or so. Now, you might say in jewelry retailing, you know, with millions of things that you can click onto, 10 years from now, you know, who is going to be important in terms of online retailing of jewelry? I would argue that the two firms have a, an enormous advantage going in. I would argue that Tiffany has such an advantage. We don’t own any Tiffany, but I would say that because of their name. Brand names are going to mean very, very much when you have literally, you know, thousands and thousands of choices. People can’t, they have to trust somebody. And I think the Tiffany has a name that people would trust, and I think Borsheims has a name that people would trust, and Borsheims sells jewelry a whole lot cheaper than Tiffany.

So I would say that people who are price conscious but also want a dual deal with a jeweler that they trust implicitly will find their way to Borsheims in increasing numbers over the internet. And I would say that people that like the blue box, you know, are going to find their way to Tiffany’s over time, and they’ll pay more money. But I don’t see them going for Brand X in buying fine jewelry over the internet. So I think that with the brand that Borsheims has, and with the careful nurturing of that brand, I would say that the internet huge one store location and yet also go into the homes of people in every part of the world. And that kind of a company should prosper.

There are other of our companies I worry about. You know, I can worry about them being hurt in various ways. GEICO is going to be a big beneficiary of the internet. We already are developing substantial business through it. But I, if I were to buy into any retailing business, whether I was buying the stock of it or buying the whole business, I would think very hard about what people are going to be trying to do to that business through the internet. And, you know, it affects, it affects real estate that is dedicated to retailing. And if you substitute 5% of the retail volume via the internet, where real estate is essentially free, they’re, you know, they’re that, you can have a store in every town in the world through the internet without having any rental expense. So I would be, think I would give a lot of thought to that if I were owning a lot of retail rental space. Charlie?

Charlie Munger [00:40:07] Well, I think it is tricky predicting technological change either will or won’t destroy some business. When I was young, the department stores had a bunch of sort of monopolistic advantages: A, they were downtown where the streetcar lines met; B, they had sort of a monopoly on extending revolving credit; and D, they had one-stop shopping and all kinds of weather, and nobody else did. And they lost all three of those advantages, and yet they’ve done well, a lot of them, for many decades since. At other times you get a change and you just get destroyed. Our trading stamp business was destroyed by changes in the economic world, and our World Book business has been seriously hurt by the personal computer and the CD-ROM and so forth. I agree it’s a big risk, but it’s not easy to make predictions in which you have great confidence.

Warren Buffett [00:41:10] If you go down to 16th and Farnam here, where the streetcar tracks used to cross, that was the, that was the best real estate in town, and people signed hundred-year, 50-year leases on it, and it looked like there was nothing more safe, because they weren’t going to move the streetcar lines. The only thing was that they moved the streetcars. They just took and converted it into junk. And it seemed very permanent that the advantage of the big department store, the Marshall Field in Chicago or the Macy’s in New York, was this incredible breadth of merchandise. You could go and you could find 300 different types of spools of thread, or 500 different, you could see 500 different wedding dresses or whatever. And you had these million square foot and even 2 million square foot downtown stores, and they were these huge emporiums.

And then the shopping center came along, and of course the shopping center created, in effect, a store of many stores, and so you had millions of square feet now. And, but you still had this incredible variety being offered. The internet becomes a store in your, you know, in your computer, and it has an incredible variety of offerings too. Some of them don’t lend themselves very well, it seems to me, to retailing, and, you know, and others do. But Charlie’s right, it’s hard to predict exactly how it will turn out. I would expect, I would expect, you know, automobile retailing to change in some important ways, and in part, in, and very significant part, influenced by the internet. But I wouldn’t, you know, I can’t predict exactly how that will happen. But I don’t think it’ll look the same 10 or 15 years from now. Zone six.

[00:42:49] Shareholder (Ben Newell, Minneapolis): I’m Ben Newell, and I’m from Minneapolis, although I’d like to enhance my status by noted that I was born and raised in Lincoln. It just moved up. Like many others, I read Alice Schroeder’s analysis of Berkshire Hathaway with great interest this last year, and she described her analysis as a tool kit for investors. And I’m wondering if you see any substantial flaws in any of her tool kit, and in particular the float-based valuation model that she put together. What are your views on that?

Warren Buffett [00:43:29] Well, I don’t want to comment on valuation, but I can tell you that Alice is a first-class and serious analyst who spent a lot of time on Berkshire and probably produced the first comprehensive report, at least it’s been widely circulated, in the history of Berkshire. It’s kind of interesting that we got to $100 billion of market value before anybody really published a report about the company. But I, Alice understands the insurance business very well. She’s an accountant by background, and she, so she understands numbers, and she did a lot of work on the report, and I do recommend it to you as a tool kit. I make no comment at all about valuation. Charlie?

Charlie Munger [00:44:17] Nothing to add.

Warren Buffett [00:44:18] Zone seven.

[00:44:18] Shareholder (Martin Wiegand, Chevy Chase, Maryland): Hello. I’m Martin Wiegand from Chevy Chase, Maryland. I want to thank you for the hospitality this weekend and the wisdom you share with us each year in your annual reports. As a small businessman, one of the trickiest jobs I have is dividing up the profits of our business between the employees who generate them. Would you comment and share your thoughts on how you divide up the profits of the Berkshire Hathaway subsidiaries with the employees who generate them? And the follow-up is, Mr. Munger, do you have any suggested reading on that subject?

Warren Buffett [00:44:53] Yeah, we’re glad to have you here, Martin. I went to high school and to the first couple years of college with Martin’s father, who’s also here today. And so if you get a chance to meet Marty, Janie, and younger Martin, say hello to them. In terms of the arrangements we have with compensation, they vary to an extraordinary degree among the various subsidiaries we have, because we have bought existing businesses, and we have tampered as little as possible with their cultures after we buy them. And some of those cultures are very different than others. I mean, you know, you saw Mrs. B earlier. As you can imagine, she would leave a very strong imprint on any business with which she was involved. And we have a number of very talented managers who have worked out the systems that they believe to be best for their companies.

Now, it is true that if we, if there’s a stock option plan at a company, we will substitute a plan that is performance based, which ties much more clearly to the performance of the business than any option plan could. And we will have a half, we will design one that has an expectable cost that’s equal to the expectable cost of the option plan. So we try to equate the cost. We try to make it even more, much more sensible, from both the owner’s standpoint and the employee standpoint, in terms of the way it pays off based on how that business performs. You’ve probably read in our annual report how we’ve put it across-the-board plan at GEICO that ties with our objectives. But basically that was Tony Nicely’s work in terms of developing that plan. I mean, he and I thought I like about what counted, and he developed a compensation grid that applied to everybody in the whole place based on achieving the objectives that he felt were important and that we felt were important.

You will find, if you go to any Berkshire subsidiary, you’ll probably find that they have a compensation plan that’s quite similar, with the exception of options, to the plan that they had before we bought them, bought the operation. They have successful businesses, and people get their different way. Some people bat left-handed, some people bat right-handed. You know, some people stand deep in the batter’s box, some, you know, some crowd to play. They all have different styles, and the styles of our managers have proven successful in their own businesses. We keep the same managers, so we don’t try and superimpose any system from above, with the exception of the, of what I’ve mentioned. We do like the idea of paying for performance. I mean, that is kind of a fundamental tenet. Everybody says they like that, but then they design systems that pay off no matter what happens in many cases, and we’ve been reluctant to do that. Charlie?

Charlie Munger [00:47:58] Yeah, I think it’s important for the shareholders to realize that we are probably more decentralized in terms of personnel practices than any company of our size or bigger in America. We don’t have a headquarters culture that’s forced on the operating businesses. The operating businesses have their own cultures, and I think in every case I can think of, it’s a wonderful culture, and we just leave them alone. It’s comes naturally to me.

Warren Buffett [00:48:34] Charlie says we don’t have a headquarters culture. Sometimes people think we don’t have a headquarters. We have no human relations department at Berkshire. We have no legal department. We have no investor relations. We have no public relation. We don’t have any of that sort of thing. We’ve got a bunch of all-stars, as we put on the screen out there, running businesses, and we ask them to mail the money to Omaha. But we’ll even give them a stamp if they request it. But beyond that, we don’t really go, and it would be foolish.

And what is interesting to me is how, I had a lot of preconceived ideas of what motivates people when I started out in business. But you can find certain organizations that resist paying stars on an individual basis. They like to think of themselves as a team, and they’d rather have a team concept of payment. And you can see others where it’s, they’re much more individually oriented. Actually, Charlie can probably tell you about that in terms of law firms. I mean, some law firms have a culture that is much more star oriented than others, and, you know, you’ve seen successes in both places, haven’t, Charlie?

Charlie Munger [00:49:56] Absolutely.

Warren Buffett [00:49:56] Okay. (Laughter)

Charlie Munger [00:49:56] I can’t remember a case when anybody has transferred from one operating Berkshire subsidiary to another. It’s very rare.

Warren Buffett [00:50:05] Yeah, yeah. We don’t try and cross-fertilize. We just, we think we’ve got a good thing going in, you know, in every plot of ground, and we just assume they’ll do best if left to their own initiative.

Zone eight.

[00:50:24] Shareholder (Brian Phillips, Chickamauga, Georgia): Hi, I’m Brian Phillips from Chickamauga, Georgia. And my question is, if, with regards to an insurance company, if you can use the float for cheap financing, why would you issue a fairly priced bond?

Warren Buffett [00:50:38] Why would we do what?

[00:50:40] Shareholder (Brian Phillips, Chickamauga, Georgia): Issue a fairly priced bond.

Warren Buffett [00:50:42] Yeah. Well, the best form of financing for us is cheap float. Now, most insurance companies don’t generate cheap float. So, I mean, there are plenty of companies in the insurance business who have a cost of float that makes it unattractive, actually, to expand their businesses. Our insurance companies have had a terrific experience on cost of float, and we would develop it just as fast as we can. Right now, we would have no interest in issuing a bond, because we have more money around than we know what to do with, and it comes from low-cost float. But if there came a time when things were very attractive, and we had utilized all the money from our float and from retained earnings and all of that to invest, and we still saw opportunities, we might very well borrow moderate amounts of money in the market. It would cost us more than our float was costing us, but it still incrementally would provide earnings. Now, you know, we would try to gain more float under those circumstances as well, but we would not just quit when we ran out of money from float. We would go ahead and borrow moderate amounts of money. We would never borrow huge amounts of money, though. Charlie?

Charlie Munger [00:51:55] Well, I agree.

Warren Buffett [00:51:56] Okay. You can see why we’ve been partners a long time. Now we go to some off, some sites away from this main hall, and not sure exactly how we’re gonna do this, but we’ll go to zone nine and see if zone nine comes in.

[00:52:13] Shareholder (Howard Love, San Francisco): Hello. My name is Howard Love. I’m from San Francisco. Thank you very much for this weekend in general and this meeting in particular. Recently, at a talk at the Wharton Business School, Mr. Buffett, you indicated, you were talking about the problems of compounding large size, which I appreciate and understand. But you indicated, you’re quoted in the local paper as saying that you’re confident that if you were working with some closer to $1 million, that you could compound that at a 50% rate. For those of us who aren’t saddled with the $100 billion problem, could you talk about what types of investments you’d be looking at, and where in today’s market you think significant inefficiencies exist? Thank you.

Warren Buffett [00:52:59] Yeah. I think I may have been very slightly misquoted, but I certainly said something to the effect. But working, I think I talked about this group I get together every two years, and how I poll that group as to what they think they could compound money at it with $100,000, $1 million, $100 million, $1 billion, and other types of sums. And I pointed out how this group of 60 or so people that I get together with every couple years, how their expectations of return would go very rapidly down this slope. It is true, I think, I think I can name a half a dozen people that I think could compound $1 million, or at least they could earn 50% a year on $1 million, have that as an expectation if they needed it. I mean, if they’d have to get their full attention to be working on the sum. And those people could not compound money, $100 million or $1 billion, at anything remotely like that rate.

I mean, there are little tiny areas which, if you follow what I said on the screen there, on that Adam Smith’s interview a few years ago, if you start with A and you go through and you just, and you look at everything, and you find small securities in your area of competence that you can understand the business, I think you can, and occasionally find little arbitrage situations or little wrinkles here and there in the market. I think working with a very small sum, that there is an opportunity to earn very high returns. But that advantage disappears very rapidly as the money compounds, because I, you know, from $1 million to $10 million, I would say it would fall off dramatically, in terms of, because there are, they’re little, you find very, very small things that, you know, you can make, it, you’re almost certain to make high returns on, but you don’t find very big things that, in that category today.

I’ll leave to you the fun of finding them yourselves. I mean, terrible to spoil the treasure hunt. And the truth is, I don’t look for them anymore. Every now and then I’ll stumble into something just by accident, but I’m not, I’m not in the business of looking for that. I’m looking for things that Berkshire could put its money in, and that rules out all of that sort of thing. Charlie?

Charlie Munger [00:55:19] Well, I would agree, but I would also say that what we did 40 or so years ago was in some respects more simple than what you’re going to have to do. Right? We had it very easy compared to you. It can still be done, but it’s harder now. You have to know more. I mean, just sifting through the manuals until you find something that’s selling at two times earnings, that won’t work for you.

Warren Buffett [00:55:58] It’ll work, and you won’t find any. Yeah. Zone 10, please.

[00:56:03] Shareholder (Jonathan Brandt, New York City): My name is Jonathan Brandt. I’m from New York City. Warren, you wrote in 1977 that the return on equity and growth of book value for corporate America tended towards and averaged about 13%, no matter the inflation environment. After properly expensing options and so-called nonrecurring charges, and taking into account the high price-earnings ratio paid for increasingly frequent acquisitions, do you think that 13% figure is still roughly correct? Also, what quantitative method would you suggest that investors use for expensing the option grants a publicly traded firms where there is no realistic prospect for the substitution of such an options program with a cash-based performance incentive plan? In other words, how do you derive the 5% to 10% earnings dilution referred to in this year’s Berkshire’s annual report, and is it possible that the dilution figure could be even higher than that? Thank you.

Warren Buffett [00:57:07] Okay, thanks, Johnny. Just like Martin Wiegand, Jon Brandt is the son of a very good friend of mine that where we worked together for decades. And Jon is now an analyst with Ruane Cunniff, and a very good one. He also, he says it didn’t happen this way, but when he was about four years old, I was at his, the house for dinner with the parents, and he suggested to me after dinner, he said, “How about a game of chess?” I look at this four-year-old, I thought, you know, this is the kind of guy. Said, “Should we play for money?” And he said, “Name your stake.” So I backed off, and we sat down, and after about 12 moves I could see I was in mortal trouble, so I suggested it was time for him to get to bed.

The question about return on equity. It’s true, back in 1977, I believe, I wrote an article for Fortune and talked about this, more or less this figure of 12% or 13% that the return on equity kept coming back to, and explained why I didn’t think it was affected by inflation, and which was the hot topic of the day very much, and it wasn’t. But in recent, in the last few years, earnings have been reported at very high figures on the S&P, although you’ve had these, you know, they say, “Well, you know, we earned $1 a share in total last year, but look at the $2 a share that we tell you we really earn. The other $1 a share doesn’t count.” And then they throw in mistakes of the past or mistakes of the future, and actually, and every three or four years ask you to forget this as if it doesn’t mean anything. We’ve never had it charged like that, that we’ve set forth in Berkshire, and we never will. We, it isn’t that we don’t have things we do that cost us money, that in moving around, but we don’t, we do not ask you to forget about those costs.

The report, even allowing for options costs and restructuring charge and everything, return on equity has been surprisingly, to me surprisingly high in this, in the last few years. And there’s a real question in a capitalistic society, whether if long-term rates are 5.5%, whether return on equity can be, across the board, some number like 18% or 20%. There are an awful lot of companies out there that are implicitly promising you, either by what they say their growth in earnings will be here or various other ways, that they’re going to earn at these rates of 20% plus. And, you know, I’m dubious about those claims, but we will see.

And question, the question about how we charge for stock options is very simple. If we look at what a company issues in options over, say, a five-year period, and divide by fives, because the grants are irregular, or whatever’s, if there’s some reason why that seems inappropriate, we might use something else. But we try to figure out what the average option issuance is going to be, and then we say to ourselves, how much could the company have received for those options if they sold them as warrants to the public? I mean, they can sell me options on any company in the world. I’ll pay some price for an option on anything. And we would look at what the fair market value of those options would be that day if they were transferable options. Now, they aren’t transferable, but they also, employees sometimes get their options repriced downward, which you don’t get if you have public options. So we say that that’s the cost to the shareholder of issuing the options, is about what could be received if they sold, turn those options into warrants and sold them public, or sold them as options. And that’s the cost.

I mean, it’s a compensation cost. And just try going to a company that’s had a lot of options grants every year and tell them you’re going to quit giving the options and pay people the same amount of money. They’ll say, “You took away part of my earnings.” And we say, if you’ve taken away part of the earnings, then let’s show it in the income account and show it as a cost, because it is a cost. And I think actually a number of auditors agreed to that position many years ago, and they started receiving pressure from their clients who said, “Gee, that, you know, that might hurt our earnings if we reported that cost.” And the auditors caved, and they put pressure on Congress when it came up a few years ago. And I think it’s a scandal, but it, but it’s happened.

We are going to, in evaluating a business, we’re going, whether we’re going to buy the entire business or they’re going to buy part of it, we’re going to figure out how much it’s costing us to issue, and when the company issues those options every year, and if they reprice them, we’re going to figure out how much that particular policy costs us, and that is coming out of our pocket as investors. And I think people are quite foolish if they ignore that. I don’t think it’s going to change. It’s too much in corporate America’s interest to keep it out of the income account and keep issuing more and more options percentage-wise and not have it hit the income account, and to reprice when stocks go down. But that doesn’t make it right. Charlie?

Charlie Munger [01:02:29] Yeah, I, it’s, I go so far to say it’s fundamentally wrong not to have rational, honest accounting in big American corporations. And it’s very important not to let little corruptions start, because they become big corruptions, and then you have vested interests that fight to perpetuate them. Surely there are a lot of wonderful companies that issue stock options, and that the stock options go to a lot of wonderful employees that are really earning them. But all that said, the accounting in America is corrupt, and it is not a good idea to have corrupt accounting.

Warren Buffett [01:03:13] You can see the problem of the creep in it once it starts. It’s much like campaign finance reform. I mean, it, if you let it go for a long time, the system becomes so embedded, and embedded, and the participants become so dependent upon it, that there’s, it becomes a huge consistent constituency that will fight like the very devil to prevent any change, regardless of the logic of the situation. I mean, once you get a significant number of important players benefiting from any kind of corruption in any kind of system, you’re gonna have a terrible time changing it. That’s why, you know, it should be changed early, and it would have been easier to change the accounting for stock options some decades back when it was first proposed than now, because, you know, basically corporate America is hooked on it.

This does not mean that we are against options per sh…, per se. If Charlie and I died tonight, and you had two new faces up here who didn’t have the benefit of having bought a lot of Berkshire a long time ago, and they had responsibility for the whole enterprise, it would not be inappropriate to pay them in some way that was reflective of the prosperity of the whole enterprise. I mean, they would, it would be crazy to pay the people a Dairy Queen and options of Berkshire Hathaway, or the, pay the people at Star Furniture or any one of our operations, because they have responsibility for a given unit, and what the price of Coca-Cola stock does could swamp their efforts in either direction. It just would be inappropriate. But it would not be inappropriate to pay somebody that’s got the responsibility for all of Berkshire in a way that reflected the prosperity of all of Berkshire.

And a properly designed option system, which would be much different than the ones you see, because it’d be much more rational, could well make sense for one or two people that had the responsibility for this whole place. Charlie and I aren’t interested in that, but I think that you may be looking at two people up here 50 years from now, I hope, that where it would be appropriate. But any option system, A, should not involve giving an option at less than the place could be sold for today, regardless of the market price, because once management’s in control, it can make that decision. And it should reflect the cost of capital, and very, very few systems reflect the cost of capital. But if we’re going to sit here and plow all the money back every year into the business, and in effect use your earnings interest-free to increase our own earnings in the future, we think there has to be a cost of capital to have a properly pri…, properly designed option system. People aren’t interested in that. The option consultants aren’t interested in that, because that isn’t what their clientele wants. Charlie, you probably wound up a little more now on this too?

Charlie Munger [01:06:13] No, I’ve wound up enough.

Warren Buffett [01:06:15] Okay. We’ll go to zone 11.

[01:06:18] Shareholder (Maurus Spence, Waterloo, Nebraska): Warren and Charlie, good morning.

Warren Buffett [01:06:20] Good morning.

[01:06:20] Shareholder (Maurus Spence, Waterloo, Nebraska): My name is Maurus Spence from Waterloo, Nebraska. Some 30 years ago you disbanded your Buffett Partnership, saying that you felt out of step with the market and you feared a permanent loss of capital. Given today’s market and current valuations, if Berkshire Hathaway was a partnership of 100 partners instead of a corporation, would you consider disbanding it as you did 30 years ago? And if not, why not? And was that the right decision back then?

Warren Buffett [01:06:50] Well, if our activities were limited to marketable securities, and I had less than 100 partners, and we were operating with this kind of money, so that there was a real limitation on what we could do, I would simply tell the partners and let them make the decision. That would be easy enough. We’re not in that position. A, we’ve got a number of wonderful businesses, and those businesses will grow in value, and in some cases very significantly in value. And it’s not a feasible way. People have their own way, if they decide that, since we’re unable to find things, that they’d rather go on to something else, they have their own way of getting out and they can get out of at certainly a premium to the amount of money they put into the business over the years. So if I were running a marketable securities portfolio now, and we’re limited to that, I would explain very carefully to my partners how limited my ability to make money in this market would be, and then I would ask them to do whatever they wish to do. Some of them might want to pull out, and Others might want to stay. In the 1969 period, when I closed up, a, I had a somewhat similar situation in terms of finding things and, b, I really felt that the expectations of people have been so raised by the experience we’d had over the previous 13 years that it made me very uncomfortable, and I felt unable to dampen those expectations. And I really just didn’t, I didn’t find it comfortable to operate where my partners, even though they might nod their heads understandingly and say that, you know, “We really know why you aren’t making any money while everybody else is,” I didn’t think, I didn’t think I wanted to face the internal pressure that would come from that. I don’t feel any such internal pressure in running Berkshire. Charlie?

Charlie Munger [01:08:49] Yeah, that, I think there are some similarities between 1969, ’70 and the present time, but I don’t think that means that 1973-74 lies right ahead of us. We can’t predict that. You can argue it worked out wonderfully for Warren to quit in ’69 and then have ’73-’74 to come into with his powder dry. I don’t think we’re likely to be quite that fortunate again.

Warren Buffett [01:09:25] Yeah, it was a long time from ’69 though to ’73. I mean, it sounds easy looking back, but it, but the Nifty 50, as you may remember, sort of hit their peak in ’72. So although there was a sinking spell for a while in that ’69-’70 period, the market came back very strong. It’s part of the game. I mean, it stayed cheap a long time. You will find waves of optimism and pessimism, and they’ll never be exactly like they were before, but they will come in some form or other.

We, that doesn’t, that does not mean we’re sitting around with a bunch of cash because we expect stocks to go down, though. We keep looking for things. We’re looking for things right now. We’re talking to people right now about things that, where we could expend substantial sums of money, but it’s much more difficult in this period. Zone 12.

[01:10:25] Shareholder (Jenna, Long Island, New York): Good morning. My name is Jenna, I’m from Long Island, New York, and I was reading through the annual report. You made reference to Wagner and some country western song I never heard of. I was just wondering what kind of music influences you, and are you planning on doing like a musical video?

Warren Buffett [01:10:44] I think with the performance I gave earlier in the movie, I don’t think there’s any future for me. I, but I do have a very musical family. I, and since you asked, I will point out that my son Peter, a recent CD is available at the Disney booth outside, and Peter had a very successful experience here on public television in March, and we’ll be on tour later on. And my wife is extremely musical. But I don’t think, I don’t think I’ve got much of a future in it. So far I get no, no one ever asked me to come back. I mean, I, I’ve had a lot of introductory appearances but very few encores.

The, I like all kinds of music. I really, I’ve always liked music. We started out around the house singing church hymns, and in 19, in 1942, my two sisters, who were here today, joined me in a 15-minute program on WOW, then the leading radio station, Omaha, and we sang “America the Beautiful,” and that my dad got elected to Congress on the back of that program. We like to take credit for it. And you see my sisters at the end of the meeting. Charlie, what kind of music do you like?

Charlie Munger [01:12:15] Well, the one thing I agree with is that if we’re going to star Warren, it should be in a musical. The straight acting won’t do.

Warren Buffett [01:12:26] It took me an hour to get that ball for Annie. Incidentally, it takes a long time to get bald. Dressing room. Zone 13, please.

[01:12:37] Shareholder (Jack Sutton, Brooklyn, New York): Good morning, Mr. Buffett and Mr. Munger. My name is Jack Sutton from Brooklyn, New York. Thank you for hosting today’s meeting. With reference to communication stocks: because of the growth of cellular communications and the internet, certain stocks hold the prospect of substantially above average revenue and earnings growth. AT&T and Nokia, as an example, earn respectable margins and return on common equity and would seem to fit Berkshire’s criteria from a financial perspective. Has Berkshire reviewed stocks in the area of communications, and would you consider an investment in this area at some time in the future?

Warren Buffett [01:13:22] Yeah, there’s certainly no, no question amazing things have happened in communications. It’s interesting that you mentioned AT&T, because AT&T’s return on equity over the last 15 years has been, you know, has been very, very poor. Now, they’ve had special charges time after time and said, “Don’t count this,” but the overall return on equity, if you calculate it for AT&T for the last 15 years, it’s not been good at all, that they were the, you know, they were the leader in the field, but so far what has happened is, has hurt them, at least relative to their competition, far more than it’s helped them.

We have a, we have a fellow on our board, Walter Scott, who’s right here in the front row, if I can, can’t quite see him, but who knows a lot more about this. He used to try to explain to me these changes that were taking place. We’d ride down to football games on Saturday, and Walter would patiently explain to me, like he was talking to a sixth grader, what was going to happen in communications, and the problem was that he had a fourth grader in the car with him, namely me. So I never got it. But Walter did, and he’s done very well in MFS and Level 3. And I think for people who understand it and are reasonably early, you know, there could very well be substantial money to be made. There’s been an awful lot of money made in this town of Omaha by people. Not one of them, and I have no insights that I bring to that game that I think are in any way superior, and in problem here and in probably many cases not even equal to those of other participants.

It’s, there’s a lot of difference between making money and spotting a wonderful industry. You know, the two most important industries in the first half of this century in the United States, in the world probably, with the auto industry in the airplane industry. I mean, here you have these two discoveries, both in the first decade, essentially in the first decade of the century, and if you’d foreseen in 1905 or thereabouts what the auto would do to the world, let alone or this country, or what the airplane would do… got rich by being, by riding the back of that auto industry, and probably even fewer got rich by participating in the airline industry over that time. I mean, millions of people are flying around every day, but the number of people who have made money carrying them around is very limited, and the capital has been lost in that business, the bankruptcies. It’s been a, it’s been a terrible business. It’s been a marvelous industry. So you do not want to necessarily equate the prospects of growth for an industry with the prospects for growth in your own net worth by participating in it. Charlie?

Charlie Munger [01:16:16] Well, it reminds me of a time in World War II when there were these two aircraft officers I knew, and they didn’t have anything to do at the time, and some general came in to visit, and he said to one of them, he says, “Lieutenant Jones, what do you do?” He says, “I don’t do anything.” He turned to the second one, he says, “What do you do?” And he says, “I help Lieutenant Jones.” That’s been my contribution on this. (Applause)

Warren Buffett [01:16:50] You can address me as Lieutenant Jones for the rest of the meeting. And so, some people have thanked us for providing this meeting. I want to thank you, because the quality of the, I think we have the best shareholders meeting in the country, and the quality of the meeting is absolutely a, in direct proportion to the quality of the shareholders. We would have nothing without this participation, and I really thank you. It’s a big effort to come here for a lot of you, and I thank you for that.

Our plan, incidentally, will be to take a break at noon. They have a lot of food outside that they will sell you, and then we’ll come back in 30 minutes or thereabouts, or 45 minutes, depending on how the lines are out there, and then we’ll reconvene for the afternoon. And those of you who are not in this main hall, if you want to come over and join the main hall, there will be enough seats for everybody in the afternoon, and then Charlie and I will continue till about 3:30. Let’s go back to zone 1, please.

[01:18:04] Shareholder (Allan Maxwell, Omaha): Mr. Buffett, over here. Good morning, I’m Allan Maxwell, I live in Omaha. When you walk down the street, heads turn to watch you. Do you ever get tired of being Warren Buffett? If you could come back again, would you want to be Warren Buffett?

Warren Buffett [01:18:24] I think I’d, I think I’d probably want to be Mrs. B. She made it to 104, so I… (Laughter) And incidentally, I think there were three siblings at her funeral, that, that’s some set of genes. You don’t have to worry about the furniture part. Now, I, you know, the, you see a lot of this, a lot of the publicity bit here for a couple of days around the time of the meeting, but life goes on in a very normal way, and I’ve had a lot of fun. I have fun every day of my life. I had a lot of fun when I was 25, but I have just as much fun now, and I think I’ll, you know, if my health stays good, I’ll, it’ll keep being the same way, because, you know, I get to do what I want to do, and I get to do it with people I like and admire and trust, and it doesn’t get any better than that. Charlie, you want to come back as Lieutenant Jones? (Laughter)

Charlie Munger [01:19:34] I think we all want to play our own games.

Warren Buffett [01:19:38] We’ll go to zone 2 with those remarks.

[01:19:41] Shareholder (Liam O’Connor, County Kerry, Ireland): Hi, hi, I’m Liam O’Connor. I come from County Kerry in Ireland, and I must admit the sun shines a little bit more over here than it does on the other side of the world. I was wondering today if you could shed some light on accounting for goodwill, your principles, owner principles, and as well as the fact, with the current merger of General Re, it seems to me there are several different methods that are used worldwide, right, through amortization to direct write off, and the fact when a merger like this is taken it can excuse the balance sheet. And I was wondering, in your view, what would you recommend as a more appropriate method for accounting for goodwill? And secondly, if I could direct it to Charlie, one of the ideas, why not tie goodwill to the share, one of the ideas is why not tie goodwill to the share price and have an intangible and a tangible part of shareholders’ equity, the value and the share value of a company.

Warren Buffett [01:20:57] Okay, I’ll take the first part, and it’s a good question about goodwill and the treatment of goodwill for accounting purposes. I actually wrote on that subject, I think it was in 1983, in the annual report, and if you click onto the berkshirehathaway.com, you can look at the older letters, and you will see a discussion of what I think should be the way goodwill is handled. And then we’ve discussed it at various other times in the owner’s manual. To give it to you briefly, in the UK, for example, goodwill is written off instantly, so it never appears in book value and there’s no subsequent charge for it.

That, if I were setting the accounting rules, I would treat all acquisitions as purchases, which is what we’ve done virtually without exception at Berkshire. I would, I would treat all acquisitions as purchases. I would set up the economic goodwill, because we are paying for goodwill when we buy a General Re. I mean, we are paying billions and billions of dollars for it. Or when we buy a GEICO, or when we buy an Executive Jet, that is what we are buying, is economic good, what I call economic goodwill. I believe it should stay on the balance sheet as reflective of the money you’ve laid out to buy it, but I don’t think it should be amortized. I think in cases where it is permanently impaired and clear that it’s lost its value, it should be, it should be charged off at that time. But generally speaking, in our own case, the economic goodwill that we now have far exceeds the amount that we put on the books originally, and therefore even by a greater amount exceeds the amount that remains on the books after amortization.

I do not think an amortization charge is inappropriate, is appropriate at Berkshire for the goodwill that we have attached to the, our businesses. Most of those businesses have increased their economic goodwill, in some cases by dramatic amounts, since we’ve purchased them. But I think the costs ought to be on the balance sheet. It’s what we, it shows what we paid for them. I think it should be recorded there. I don’t think that the coming change in accounting is likely to be along the lines that I’ve suggested here, but I do think it’s the most rational way to approach the problem.

And I think that because there is this great difference between purchase and pooling accounting, that some really stupid things are done in the, in the corporate world. And I have talked to managers who deplored the fact that they were using, that they were using their stock in a deal and going through some of the various maneuvers to get pooling accounting, because they thought it was economically a dumb thing to do, but they did it rather than record amortization charges that would result from purchase accounting. And, you know, they’re very frank about that in private. They don’t say as much about it in public. Charlie?

Charlie Munger [01:24:00] Yeah, generally speaking, I think that what Warren argues for would be the best system, namely set up the goodwill as an asset and don’t amortize it in the ordinary case. However, there would be plenty of cases when the cases wouldn’t be ordinary cases, when amortization would be rational, in fact should be required. So I don’t think there is any one easy answer to this one, and there’s a lot of crazy distortion in corporate practice because of all the changes. I mean, Australia has cowboy accounting, and Europe has this write it all off immediately accounting, which is, what would you call it, half cowboy accounting, and maybe mining promoter accounting. We think the system should be better than that.

Warren Buffett [01:25:09] Zone 3.

[01:25:10] Shareholder (Mike, Omaha): Good morning. Good morning. My name is Mike from Omaha, and it’s been said that you’re the white knight of the investment world because you rescue companies from hostile takeovers. Are there any companies you are now trying to help out, and would you please name those companies? Do you have a cell phone that you’re going to place orders with, or… (Laughter)

Warren Buffett [01:25:37] No, we, we really, you know, what we really want to buy, our buy into us are our wonderful businesses, or at least extremely good businesses, and we want them to have managements we like, and we want the price to be attractive. And we are not, we are not in the business of being white knights. We’re in the business of being investors, and things that look sensible to us. And I don’t think I’ve been approached by anybody in connection with that. We do get approached occasionally, I should say. We get approached when somebody, occasionally, when somebody has a takeover bid, and they say, “Would you like to top it?” or something, to which our answer invariably is no. Charlie?

Charlie Munger [01:26:26] Well, we’re very good at saying no.

Warren Buffett [01:26:29] Charlie’s better than I am, even. Zone 4.

[01:26:32] Shareholder (Matt Haverty, Kansas City): Good morning. My name is Matt Haverty, I’m from Kansas City. 20 years ago China unleashed capitalism within its borders. Since then, I believe it has benefited more from that economic system than any major country in history. I also believe that this momentum, combined with China’s size and demographics, will make it the most fertile economic environment in the world during the next few decades. Nonetheless, there are many Chinese companies with easy to understand businesses and 20% per annum sales growth this decade trading at five times or less last year’s earnings. What is your assessment of the risk/reward of investing directly in Chinese companies?

Warren Buffett [01:27:12] Well, I don’t know that much about them, but I, but certainly if I could buy companies that were earning 20% on equity and had promises, gave promise of being able to continue to do that while re-employing most of the capital, and they were selling at five times earnings, and I felt good about the quality of the earnings… My guess is that it’s not a lot, and in terms of the ones that meet those tests you name for Berkshire to, for to profitably participate, and whether you could buy all of those companies from the US, I think there’d be a lot of, there could well be a lot of problems in that. But I would say anytime you can buy good businesses, really good businesses, which we define as businesses are in high returns on capital, at five times earnings, and you believe in the quality of the earnings and they can re-employ a significant portion of those earnings additionally at the 20% rate, you know, you will make a lot of money if you’re writing your assessment on that. Charlie?

Charlie Munger [01:28:19] Yeah, I don’t know much about China, but that is, that is not to knock it in any way, shape or form, because there could well be opportunities in areas like that, if you can identify those kind of businesses. We would have trouble identifying those businesses ourselves, but that doesn’t mean that, you know, you will have trouble, or other people are much more familiar with the economy there would have trouble. So I encourage you to look at your own area of expertise in something like that, and you’ll do much better. If the conditions you describe exist, then you can identify the right company, you will do much better than that, than you will in American markets, in my view.

Warren Buffett [01:29:04] Zone 5.

[01:29:05] Shareholder (Fred Castano, East Point, Michigan): Good morning. My name is Fred Castano from East Point, Michigan, and I appreciate this opportunity… with future investments to be in the form of the General Re acquisition, or would you still consider nibbling in the stock market?

Warren Buffett [01:29:27] Well, we don’t want to nibble, but we would like to take big gulps in the stock market from time to time. But we’ve always wanted to acquire entire businesses. People never seemed to really believe that back when we were buying See’s Candy or the Buffalo News or National Indemnity, but that’s been our number one preference right along. It’s just that we found that much of the time we could get far more for our money in terms of wonderful businesses by buying pieces in the stock market than we could by negotiated purchase. There may have been, there may be some movement in terms of the availability of… I mean, it, you will never make the kind of buy in a negotiated purchase that you can in a bad style, that you can make buy a stocks in a, in the stock, in a, in a weak stock market. It just isn’t going to happen. The person on the other side cares too much. Whereas in the stock market in 1973 or ’74, you were dealing with the marginal seller, and whatever price they established for the business, you could buy it.

I couldn’t have bought the entire Washington Post Company for $80 million in 1974, but I could buy 10% of it from a bunch of people who were just operating, you know, based on calculating betas or doing something of the sort, and they were in a terrible market, and it was possible to buy a piece of it on that valuation. You never get that kind of buy-in in a negotiated purchase. We always are more interested in negotiated, large negotiated deals than we are in stock purchases, but we are not going to find a way, probably, to use all the money that way, and we occasionally may get chances to put big chunks of money into attractive businesses that are, which we buy through the stock market, 5%, 10% of the company or something of that sort. Charlie?

Charlie Munger [01:31:23] My guess is over the next five years we’ll do some of both, both the full, the entire business and the big gulps in the stock market.

Warren Buffett [01:31:32] Yeah, I agree with that. But we’ll keep working at both. We’re not finding a lot in either arena. We might be a little more likely to find it in the negotiated business. It won’t be any huge bargain. We’re not going to get any huge bargain in the, in the negotiated purchase. We are more likely to find what I would call a fair deal there under today’s circumstances than we will in the market. But I agree with Charlie, over the next five years I think you’ll see us do both. Zone 6.

[01:32:10] Shareholder (Jane Bell, Des Moines, Iowa): Good morning, Mr. Buffett, Mr. Munger. My name is Jane Bell from Des Moines, Iowa. In response to an earlier question, you spoke of people being rich and very, very rich. It seems to me there’s a difference between being rich and being wealthy. I assume you consider yourself to be both. Which is the more important to you?

Warren Buffett [01:32:40] Well, I think you, you may, we may ask you to define. I don’t want to sound like President Clinton here too much. (Applause) I might want, if you really define the rich and wealthy so that I get the distinction, then I think we can give you a better answer on it.

[01:33:08] Shareholder (Jane Bell, Des Moines, Iowa): Well, in my mind, being rich is having an awful lot of money, being very, very rich is having even more, and being wealthy doesn’t necessarily equate to having a lot of money.

Warren Buffett [01:33:23] But what does it equate to, then? I just, I think I know what you mean, but I still want you to clear it up before I give you an answer on it.

[01:33:36] Shareholder (Jane Bell, Des Moines, Iowa): Well, this of course is my opinion. I mean, you can be wealthy in health, for example.

Warren Buffett [01:33:42] And I agree with you that certainly there’d be nothing you’d value more than good health for you, you know, yourself and your family. But you go ahead.

[01:33:51] Shareholder (Jane Bell, Des Moines, Iowa): Well, I believe you’re starting to get it. Have patience.

Warren Buffett [01:33:55] No, I, there’s no question about it. I mean, being, the money makes very little difference after a moderate level. I tell this to college students that I talk to. I mean, they are basically living about the same life I’m living. You know, we eat the same foods. I mean, I, that I can guarantee you. And, you know, there’s no important difference in our dress, there’s no important difference at all in the car we drive, there’s no difference in the television set that we sit there and, you know, watch the Super Bowl on, or anything of the sort. There’s really no difference in, you know, they’ve got air conditioning in summer and I got air conditioning, I got heat in winter, almost everything. So any importance in daily life, we equate on. The one thing I do is I travel a lot better than they do, you know, NetJets. So that the travel is travel I do a lot easier than they do. Everything else in their lives, it just, you know, I’ll switch places anytime. It doesn’t make any difference.

So the, then you get down to the things of health and who loves you. I mean, that, that’s, you know, there’s nothing, if you have a minimum level of, I mean, you want to have enough, but everybody in this room has that. And yet some of the people, by the definition that you’ve given, are obviously much more wealthy than others, and it’s not measured by their net worth, if you define it that way. And I don’t disagree with that definition. I wouldn’t, I might not use the term wealth in describing it, but I’d certainly just, you know, maybe call it well-being or something of the sort. Charlie, he’s thinking.

Charlie Munger [01:35:45] Sure, there are a lot of things in life way more important than wealth. All that said, some people do get confused. I play golf with a man, he says, “What good is health? You can’t buy money with it.”

Warren Buffett [01:36:07] Did I ever tell you about Charlie’s twin brother, that he golf a lot? (Laughter) No, I’ll take health any time, incidentally. So now, the important thing even in your work, I mean, is to an extreme extent, it seems to me, is who you do it with. I mean, it, you can have, if you’re going to spend eight hours a day working, the most important thing isn’t how much… well, you know, I consider myself incredibly lucky in that respect. I can’t think of anything I’d rather do, and I can’t think of any group of people I’d rather do it with. And if you ask me to trade away a very significant percentage of my net worth, either for some extra years online or being able to do during those years what I want to do, you know, I’d do it in a second. Zone 7.

[01:37:08] Shareholder (McCall Bang, Central Florida): Hi, my name is McCall Bang, I’m from Central Florida. It’s nice and sunny there. That’s so bad now. My question was, last year somebody asked about the pharmaceutical companies and the aging boomers, etc., and you, you said it was difficult to single out individual companies, and I believe Mr. Munger succinctly said that “we blew it on that one” after, of what happened in ’92, ’93 with an unelected politician kind of dampered the whole industry for a period there. If that plays a part in giving you a little ambivalence about investing in that area for the future, is that simply, I know, an unknowable, or with all the, you know, a lot of the political, the things we see here today, if that causes you some concern about the, you know, the future of that area. I know that you’re concerned about the growth of, in companies having to spend money in Washington with regulation, etc. So I’d like to know your thoughts, if, specifically, if you have some ambivalence because of future regulation with pharmaceutical companies.

Warren Buffett [01:38:25] Well, if we could buy a group of leading pharmaceutical companies at a below market multiple, I think we’d do it in a second. And we had the opportunity to do that in that 1993 period, as you mentioned, and we didn’t do it, so we did blow it… as a whole has done very well, and it had threats that you enumerated in terms of regulation and so on. But, you know, every industry has some problems, and the pharmaceutical industry has enough going for it that the threats you name should not cause, in my view, should not cause the securities of seller a depressed multiple, which they did. Now, that’s no longer the circumstance. We don’t like, you know, we’re not going to buy them at present prices, but we, you know, at least I think they’re, you know, as a group, they’re good businesses. I do think it’s very hard to pick up the winner, you know, so if I did buy them, I would buy them, I would buy a group of the leading companies. But I wouldn’t be buying them at these prices. Charlie?

Charlie Munger [01:39:37] Yeah, I would argue that the pharmaceutical industry has done more good for the customers than almost any other industry in America. It’s just fabulous what’s been invented in my lifetime, starting with all the antibiotics that have prevented so much death and so much family tragedy. And I think the country has been very wise to have a system where the pharmaceutical companies can make almost obscene amounts of money. I think we’ve all been well served by the large profits in the pharmaceutical industry.

Warren Buffett [01:40:14] Zone 8.

[01:40:14] Shareholder (Gary Rastrum, Omaha): Good morning, Mr. Buffett, Mr. Munger. My name is Gary Rastrum from right here in Omaha. My question is, somewhere I thought I’ve read that you buy at least one share of every company on the New York, or on the exchanges, to get the annual report. Is that true, or is that a thing of the past? And if it is true, how do you keep track of all that information?

Warren Buffett [01:40:43] Well, it’s got an element of truth in it. Many years ago I did buy one share of a great many companies, and I’d get these dividend checks for eight cents and 10 cents, and I used to pay my bridge losses by giving, endorsing these checks by the hundreds and giving them to the people who just won a dollar need, and then no one asked me to bridge games anymore. So I have adopted a new program where I buy 100 shares of a great many companies. Buy them, actually, I buy them in my foundation, so I don’t go crazy at income tax time. And I probably, just as a guess, would have a couple hundred companies, so it isn’t every company, by a long shot. But there are at least several hundred companies where I want to be a registered shareholder and to make sure I get the mailings promptly.

And I do, I do keep those around, and I very, even after I lose interest, I very seldom sell one. So I’ll just keep buying more, and I’ll not only buy the 100 shares and something I might want to keep track of, but I’ll probably buy 100 shares on all of their competitors, and so that I keep reading about those companies as well. I, it does pay to have a flow of information come in over the desk.

And that, that doesn’t, the answer to that question reminds me of a point which I’d like to bring up briefly here, and that is that our shareholders, unfortunately there’s no way around this unless they go to the internet on the Saturday that we designate to read the annual report, and where it’s up on our home site, berkshirehathaway.com, are going to receive their reports at significantly different times. And the ones who have their shares in their own names are very likely to get those reports faster than the ones that have it, have their shares held in street names. And from our standpoint, unfortunately, probably 90% of the shareholders we have have their name, have their stock held in street names.

Now, what happens on that is we print the reports up, we mail the ones to the shareholders who are of record, who have the stock in their own names. We send the balance to where their brokers or bankers tell us to send them. About 90% go to one place in New Jersey, but that’s out of our control. I mean, if Merrill Lynch or Charles Schwab or whomever, Fidelity, turns their list over to, to that… We may next year try to figure out a way to get, out of our control when those reports go out. So our shareholders receive their reports on widely varying dates, which, like I say, you know, I would rather not have that happen. It means that in terms of sending in your request for tickets to this meeting, you, many people, we had this year as late as maybe the 10th of April, still hadn’t gotten their reports, and they wondered about their tickets.

So if it’s convenient for you, you will, you know, it’s better to have your stock in your own name. Now, that isn’t convenient for many people, I understand that, but you will get our reports on a more reliable basis and a more prompt basis if you do it that way. If you have your stock in street name, you know, I urge you to look on those dates we’ve laid out in the report for next year to click on to our home page, because then you will have the information just as quickly as everybody, as your fellow… clients to the information as close to simultaneously as possible, and during a time when the market is not open. We think that just makes sense. That’s the way we do it if we’re running a partnership. But there is this problem with street name holdings of somewhat erratic distribution, and that’s the reason why, when I want to keep track of, say, all of the companies in the pharmaceutical industry, I’ll buy 100 shares of each one, and I’ll stick them in the name of the foundation, and that mailing comes directly to me in Omaha. So let’s go on to zone 9.

[01:45:07] Shareholder (Lola Wells, Florida): I’m Lola Wells from Florida. You have been recently quoted in the newspapers as saying that some major corporations have used questionable practices to make their operations seem more favorable. Would you be willing to be more specific about these practices?

Warren Buffett [01:45:30] Not until I’m on my deathbed. They know, I have followed a policy of criticizing by practice and praising by name, and we will not, you know, we do. Charlie and I both find certain practices very, very deplorable, and they aren’t limited to a single or a few large corporations. But it would, we would probably be less effective in arguing for change if we went to a few specific examples. A, they would not be that much different, probably, than hundreds of other, at least dozens of other companies. And secondly, those who get critical of the world find the world gets very critical of them, promptly. And I think we, I think we do more good by, in a sense, hating the sin and loving the sinner.

[01:46:32] Shareholder (Lola Wells, Florida): So compute to name the practices?

Warren Buffett [01:46:35] Oh, the prayers, not the miscreants. No, well, the practices are some, the practices are some of the things we’ve said, that they relate to accounting charges that are designed to throw into a subsequent periods in the earnings, without, or to inflate earnings in future accounts. There’s a lot of that being done. There’s a lot of that’s been done. The SEC under Arthur Levitt, who I admire enormously for his efforts on this, is making a concerted attempt to get a corporate America to clean up its act on that. But it’ll only be because somebody hits them over the head. I mean, it is, it has become totally fashionable to play games with the timing of expenses and revenues, and frankly, until the SEC got tougher, the, in my view, the auditors were not doing enough about it.

I think that in terms of hiding competent compensation expense and not recording it in the case of options and all of that, I think companies now have the option of recording option costs in the income account, but you have not seen any great flood of people doing it. And actually, the way they show to the footnotes is quite deceptive, in my view, because they try to make assumptions that minimize what the income account impact would be. But the cost to the shareholder is what counts. I mean, that is the compensation cost as far as we’re concerned, and that’s been minimized. The whole effort to engage in pooling rather than purchase accounting has seen a lot of, there’s been a lot of deceptive accounting in that respect. There’s been deceptive accounting on purchase, in purchase accounting adjustments. So those are the kind of things we’re talking about. Charlie?

Charlie Munger [01:48:40] Yeah, it’s the big bath accounting and the subsequent release back into earnings of taking an overly large bath that create a lot of the abuse. We could name names, we won’t. But I mean, we have seen firsthand managements who think they are doing, they say they’re doing what everybody else does. The truth is they are now, because everybody else is doing it, and it takes some outside force, in this case probably the SEC, it should have been the auditors, and to clean up the act, because once it becomes prevalent, the fellow who is, who says, “I’m going to do it fair and square,” and he says, “Why should I penalize my shareholders by doing something when legally I can get away with doing something else?”

[01:49:44] Shareholder (Robert McClure, Singapore): Good morning, Mr. Buffett and Mr. Munger. My name is Robert McClure, and my wife and I live in Singapore. My question concerns insurance. In the 1994 annual report you made the following remarks, and I quote: “A prudent insurer will want its protection against true mega catastrophes, such as a $50 billion windstorm loss on Long Island or an earthquake of similar cost in California, to be absolutely certain. That same insurer knows that the disaster making it dependent on a large super cat recovery is also the disaster that could cause many reinsurers to default. There’s not much sense in paying premiums for coverages that will evaporate precisely when they are needed. So the certainty… thinkable proportions is a major competitive advantage for us.” End quote. As I said, that was in the 1994 annual report. Please give us an update on those remarks. Would you say that that competitive advantage you described is intact, or would you go so far to say that it has been enhanced over the past five years with the merger of General Re and with what’s happened in the super cat insurance industry?

Warren Buffett [01:51:14] Yeah, I would say that that reputation, certainly the reputation is a stronger, it’s a stronger than ever. I mean, Berkshire’s preeminent position after any conceivable natural disaster, that reputation is stronger today than it’s ever been, and General Re’s reputation right along with it. I would say the commercial advantage inherent in that reputation is very important. I can’t tell you exactly how it rates compared to 1994, but I can tell you that it’s important. It, it tends to be more important when we’re reinsuring other very large entities, either primary insurers or large reinsurers, than it is with a smaller company. The smaller company probably focuses on that less.

But we are writing, probably this week, a very large cover for a very important reinsurer. I don’t think they’d want to buy that from almost anyone else. I mean, a couple of people maybe, but they may, they could decide not to buy it from us because they might not feel they wanted to buy it. I think in this case they will. But I don’t think they would have a list of 10 people from whom they’d buy it, and they’re too smart for that, because it’s a very high level cover, and if that is called upon, there will be a number of people whose checks will not clear, and Berkshire’s check undoubtedly will clear. So it is a big advantage, is significant. How much it translates into, you know, it, that can vary from year to year, but I think it’s a, I think it’s a permanent advantage that Berkshire will have. I mean, I think five years from now and 10 years from now, and particularly after there has been a huge super cat, it will be a great asset to Berkshire to be thought of as essentially as I’ve described it, as Fort Knox, and we will pay under any circumstances. And there aren’t many people in the insurance or reinsurance business that can truly say that. And when the very big cover comes along, we should have very few competitors. Charlie?

Charlie Munger [01:53:48] Well, I think that’s exactly right.

Warren Buffett [01:53:51] Okay, zone 11.

[01:53:52] Shareholder (Richard Corry, England): Good morning. Richard Corry from England. Could you please say what was the main factor which produced the very substantial gain in intrinsic value mentioned in your report? I asked this because per share gains in portfolio and operating profits were modest, and you said there was no immediate gain from issuing shares for acquisitions.

Warren Buffett [01:54:21] Well, we, and we did increase the float per share very significantly last year. I mean, invest in assets per share. And I would say that in the GEICO’s business was worth far more at the end of the year than at the start of the year, and that was our largest subsidiary at the start of the year, and if anything, GEICO’s competitive position continues to improve. I would say that Executive Jet is a natural fit into Berkshire, and we paid a significant sum for it, but that it will be a very, very big company 10 or 15 years from now, and perhaps, well, I’m almost sure it’ll get there sooner as part of Berkshire than it would have gotten there otherwise, and its dominance may be even greater over the years as part of the Berkshire family. Would, it started early, and they had the most service oriented company you could imagine, so it would have done fine without us, but I think it will do even considerably better and get there faster. Certainly in the primary, in intrinsic value. And I think that additionally we had a significantly greater amount of invested assets per share to work with. So I feel good about what happened with intrinsic value last year. The problem is doing it year after year after year. Charlie?

Charlie Munger [01:56:03] Just basically, we have a wonderful bunch of businesses, and we have a float that keeps increasing, and a pretty good record of doing pretty well and in marketable securities. None of that has gone away.

Warren Buffett [01:56:23] Zone 12.

[01:56:24] Shareholder (Elias Kanner, New York City): Hello. My name is Elias Kanner, and I am from New York City. Mr. Buffett, thank you for this entire weekend. I met you at the ballgame on Saturday and at Gorat’s yesterday. It was a great honor for me each time. Thank you. My question is this, Mr. Buffett: will you groom a younger man or woman as your heir apparent? If so, when might you do this? When I say younger, I mean a person 15 to 20 years younger than yourself. Of course, I’m not complaining. You’re the best in the world.

Warren Buffett [01:57:05] Well, 15 or 20 years younger is a lot easier to do than it used to be. A large percentage of the world’s population is now eligible. The, we have today the people to take over Berkshire. There’s no problem about that at all. They have been named in letters that the directors have, and they are there in place. Exactly who be the two people, well, of course, or it could be one person, will depend on when Charlie and I are out of the picture. I mean, it, if we’d written the letter 10 years ago, it might have been different than today. It might be different 15 years from now. So our death or incapacity, that the timing of it will determine exactly who will be the current person in that letter. But we have those people in place. They don’t need to be groomed from this point forward. They exist, they’re ready, they’d be ready to run a Berkshire tomorrow morning, and I think you’d be quite pleased with the job they did.

And that’s why I don’t worry about having, I’ve got 99.75% of my net worth in Berkshire, and, you know, I don’t want any of it sold. If I knew I was going to die next week, I would not want it sold in this, in the coming week, and I don’t want it sold after, right. I feel very comfortable with the businesses and the managers and the successor top management that we have at Berkshire, but I just don’t want them to take over too early. Charlie?

Charlie Munger [01:58:43] Yeah, I actually think that the prospects for continuity of corporate culture, to the extent we have one at Berkshire, is higher than prospects for continuity of corporate culture at most other large public companies. I don’t see Berkshire changing its way of operating even if Warren were to expire tonight. And I think that the capital, the fresh cash, would be allocated less well, but as I’ve said at past shareholder meetings, well, that’s too damn bad. That’s why we don’t have a public relations department. By the way, I don’t think the job would be ill done. I just don’t think it would be done quite as well as Warren does it.

Warren Buffett [01:59:41] Okay, zone 13.

[01:59:42] Shareholder (Cary Flecker, Wellington, Florida): Good morning, Mr. Buffett and Mr. Munger. I’m Cary Flecker from Wellington, Florida. Thank you for stopping by the convention center before, Mr. Buffett. Nice to see you again.

Warren Buffett [01:59:52] My pleasure.

[01:59:53] Shareholder (Cary Flecker, Wellington, Florida): Recently much has been made of the fact that Berkshire is the largest company to not be included in the S&P 500. Do you gentlemen have an opinion as, or what is your opinion as to whether Berkshire should be included, and why? Thank you.

Warren Buffett [02:00:09] Yeah, that’s a question we’ve gotten asked quite often since the General Re deal was announced. Berkshire, if you talk to the S&P people, I think they would say, and I think they’ve even said it publicly, or at least a representative has, that we certainly qualify in every way, that, except from what they might term the liquidity standpoint. It’s probable that maybe it’s 6%, maybe 7% of the investment funds, the equity funds in the United States, are indexed, and the number is, or the amount is going up somewhat as we go along. I saw an article with a contrary in that, but I think they had it wrong. The amount, the amount of money, index money, is in my view rising month by month.

So if you were to put Berkshire into the index tomorrow, in effect you’d have a market order to buy 6% to 7% of the company, or roughly 100,000 shares of A. That would not be good. You know, if the stock would obviously spike up dramatically, as some stocks already have when they’ve been added. They’ve been some, I’ve looked at the list of all the companies have been added, and some have moved up substantially, and we would have even, the even more impacted Berkshire than the typical stock, because our stock is fairly tightly held. Most people don’t want to sell it.

There are two solutions to that, three solutions, being one of them being not to put us in the index. But we are the most, I think probably the most significant company in the United States that isn’t in the index, in terms of market value and a lot of other factors. So if you want to put Berkshire, or a company like it, in the index and not have some crazy market aberration, you could have one of two things happen, and this would be true, I think, more and more of other companies as well as they add them to the index and as more money against index. One, you could have the company agree that at the time it was added to the index, that simultaneously the company itself would sell an amount of stock that was about equal to the index buying that would be generated. In other words, if we were to offer 100,000 shares roughly of A stock at the same time as being added to the index, that would neutralize the index buying. The only problem with that is we don’t want to sell 100,000 shares or 10,000 shares or 100 shares of A stock at Berkshire unless we have some very good use for the money. Isn’t going to happen. So we’re not going to do something like that just because we want to be in an index.

The other possibility, and I believe this was used in Australia when a very large mutual life company converted to stock, I think it was the largest company, P, and that would be to phase in the, way to weigh, phase in the weighting, say, over a 12-month period, so that it was 1/12 weighted the first month, 1/12 weight of the second month, and so on. That means in effect there would have to be a market order once a month for a half a 1%, roughly, a Berkshire. Well, I don’t think that would be very particularly disruptive, and I think there would be, once you knew that phase-in was coming, there would be a, but there would be some anticipation, so that you would not get big spikes in the stock and dips subsequently. I think that would be a logical way.

But Standard & Poor’s today does not have to do that sort of thing, and they may have various reasons and various good reasons for not, for not wanting to do that. Now, if indexation continues to grow as it has, and you get a situation where 15% of the money becomes indexed, you know, I think they’re going to have to come up with some approach similar to what, one of these two that I’ve named, or that it will simply get too disruptive to the market. It would be interesting, I know America Online has behaved very well since it was introduced to the S&P some time back, but I would think that it might get to be the case that if you simply shorted the companies that got added to the S&P after the S&P effect had been felt, that that might, you might find that those stocks would tend to underperform as that one artificial buy ordered, in effect, its impact, impact wore off.

So I think, I think something is going to happen. I think indexation has far exceeded what anybody anticipated, including S&P, or including me or Charlie, and I think there’s been a good reason for it to develop. I think as it continues to develop, it will have more and more impact on the market in ways that probably S&P is not that excited about, nor would the index funds be excited about. So there is likely to come a solution to the liquidity problem that might be particularly acute at Berkshire, but that prevails throughout the market, that occurs when stocks are added. And I would think if they adopt some solution, that certainly if they adopted the solution of gradual weighting, that Berkshire would be a very logical candidate for the S&P.

It really makes no difference to us what is done along that line. We don’t, we would not be unhappy being in the S&P, as long as it didn’t have some huge market impact at the moment of putting it in. On the other hand, you know, we love the owners we’ve got, and I don’t see how we could improve on this group much by having the index funds. So it, we’ll see what happens on it. It is not a big deal to us, and we want to be sure, if we’re ever added, it isn’t too big a deal to the market, because I would not like, you know, the people who sold that day might like it, but I would not like the stock to jump up, you know, $20,000 a share on one day because there’s some market order for 100,000 shares, and then gradually work its way back down to where it should have been in the first place. It, no one, no one benefits from that except the people who sell in the very short term, and that is not the group that I primarily worry about. Charlie?

Charlie Munger [02:06:49] My guess is that Berkshire will eventually be in the S&P index. Somebody will figure out how to do that sensibly. Maybe not soon, but someday.

Warren Buffett [02:07:00] Okay, zone 1.

[02:07:01] Shareholder (James Claus, New York City): My name is James Claus, and I am here from New York City. Mr. Buffett, Mr. Munger, today we’ve already heard you talk about a few countries outside of the US here, and my question is, if you’re directly investing equities outside the United States, what would be your requirements for the market as a whole? And by this I mean things like the transparency of the accounting system, the breadth and liquidity in the market, the rights of shareholders, the stability of the currency. And it’d be nice if you’d mentioned a few of these countries. Kind of just a little addendum there is, for the companies in these countries, how relevant do you believe the reconciliation to US GAAP contained in Form 20-F really is?

Warren Buffett [02:07:49] Well, the answer is most of those points you mentioned would be of interest to us. We’d have to rule out anything where the markets aren’t big enough. I mean, we are looking to put hundreds of millions of dollars into any single investment at a minimum. Certainly we think in terms of $500 million as being a minimum. We make exceptions to that. And that’s going to rule out a great many companies. Transparency of accounting and accounting rules, we care about that, but we can, we can make adjustments mentally in some respects. We may think in certain countries the accounting is better than here. And so as long as we understand the accounting system, we will be looking toward in the same kind of a discount model in our mind of how much cash is this business going to generate over years and how much is going to have to be put into it. And it’s the same sort of calculation that goes into our thinking here, and here we don’t follow strictly GAAP accounting in our thinking. So we don’t, the accounting differences would not bother us as long as we understood those accounting differences.

The nuances of taxes, the corporate governance that you mentioned could make a difference. That if we thought corporate governance was far inferior to here, we’d have to make an adjustment for that fact. But I would say that in most of the major countries, the country used to have stock markets that are big enough so we could take a real position, it’s a possibility that we would invest in any of them. We don’t, we wouldn’t rule out, you know, Japan, Germany, France, England, the major markets. Now, it’s important to recognize that in all the world stock markets, something like 53% of the value is in the US market. I mean, here we have 4.5% of the world’s population, but 53% of the value of all public is represented in, with companies in the US market. So we are a big part of the pie, but we’re very high, but we’re very willing to look at almost all the rest of the pie, as long as we’re talking about markets that are big enough to let us put real money into them. Charlie?

Charlie Munger [02:10:06] Well, we don’t have a rule against it. What more can we say?

Warren Buffett [02:10:19] We can say zone 2.

[02:10:21] Shareholder (Jean-Philippe Cramers, London, England): Good morning, Mr. Buffett. My name is Jean-Philippe Cramers, and I’m coming from London, England. I have a question regarding Coca-Cola. The first part is, are you worried that the earnings of Coca-Cola might continue to be affected by the weakness in the emerging markets and the strength of the dollar over the next few years? And the second part is on the P/E ratio of Coca-Cola at 35 times earnings. Are you worried about the potential rise in interest rates, and is it, is it linked to your views on inflation that you are not worried about the rise in interest rate? Thank you.

Warren Buffett [02:11:01] Well, in relation to the strength of the dollar, which means that profits and foreign currencies don’t translate into as many dollars, we, I, we don’t have any big feeling on that. I mean, if we had strong feelings about the dollar’s behavior vis-a-vis the yen or the mark, the euro, or the pound, or whatever it might be, you know, we could give vent to those views by actually buying or selling large amounts of foreign exchange. We don’t know what, which way the dollar is going to go. So I have no, I have nothing in my mind in regard to any decision on buying or selling Coke that would relate to any prediction in my mind about the course of the dollar. The earnings of Coke have been affected by the strength of the dollar in the last few years, particularly the strength against the yen, when, you know, from when I went from 80 odd to 140 odd, that was a huge hit in terms of what the, in terms of yen translation and the dollars from those profits. And the strength of the dollar generally would hurt, but looking forward, I don’t have any prediction on that.

It’s in Coke’s interest to have countries around the world prosperous. I mean, there’s, they will benefit from increased prosperity, increased standards of living throughout the world. I think we’ll see that over any 10 or 20 year period. I think people’s preference for Coke will do nothing but grow, Coca-Cola products. So what I am concerned about is share of market, and then what I call share of mind. In other words, what do people think about Coca-Cola now compared to 10 years ago or 20 years ago? What are they going to think about it 10 years from now? Coca-Cola has a marvelous share of mind around the world. Everybody in the world almost has something in their mind about Coca-Cola products, then overwhelmingly it’s favorable. You can’t, you know, try to think of three other companies like it. I can’t do it, in terms of that ubiquity of a good feeling, essentially, about the product.

We measured by unit cases sold and by shares outstanding, and we want a lot more unit cases sold, and we like the idea fewer shares outstanding over time. I’ll give you, I’ll be giving you that same answer 10 or 15 or 20 years from now, and I think there’ll be a lot more unit cases sold then. It is true that the case growth slowed starting in the second half of last year and continuing through the first quarter of this year, but that’s happened from time to time in the past, in my view. You know, that is not, that it’s not an important item. It may be an important item in what the stock does, you know, in a six-month period or a one-year period, but we’ll be around 10 years from now, and Coca-Cola be around 10 years from now, and right now we own 8.1% or 8.2% of Coca-Cola, and we’ll probably own a larger percentage 10 years from now, because they’ll probably repurchase some stock.

The P/E ratio of Coke, like virtually every other leading company in the world, strikes us as, you know, they all strike us as being quite full. That doesn’t mean they’re going to go down, but it does mean that our enthusiasm for buying more of these wonderful companies is less than it was when the P/E ratios were substantially less. Ideally, those are the kind of companies we want to buy more of over time, and we understand their business. This is the, that there’s a reasonable chance, at least, that sometime in the next 10 years we buy more shares of either Coke or Gillette or American Express or some of those other wonderful companies we own. We do not like the P/E ratios generally, but again, I stress that does not mean they’re going down. It just means that we got spoiled in terms of how much we got for our money in the past, and we hope that we get spoiled again. Charlie?

Charlie Munger [02:15:19] Like 10 years out, or even further out, you don’t really pay much attention to short-term economic developments in this country or that, or currency rates, or any other such thing. They don’t really help you in making the 10 or 15 year projection, and that’s the one we’re making. So we have tuned out all this noi in your projection, and that’s the one we’re making. So we have tuned out all this noise. Can you tune out the noise? And if you look at the big picture, we think Coke is fine. It’s hard to think of a better business in the world among big businesses that, you know, there’s obviously companies that are starting from much smaller bases that could grow faster, but it’s hard to think of a much more solid business.

Zone 3.

[02:16:16] Shareholder (Bruce Lindsay, Newport Beach, California): Newport Beach, California, Bruce Lindsay, and formerly from Omaha, Nebraska. And I have a question. Some time ago I read that they were buying, you were buying silver. I never knew the reason why you were buying silver.

Warren Buffett [02:16:38] Well, we covered the silver purchase in the 1997 annual report for a special reason. Well, we, a, it was part of a group of three unconventional investments we made, and one of those investments was a sufficient size so we felt people ought to know about it specifically. And then we felt our shareholders ought to know that we sometimes do things that they might not have guessed that we would do from reading past annual reports. So we named the three unconventional investments.

But in this year’s report we have stated we will not be naming those investments unless one of two things happens. One is that they become of a size that you should know about them specifically in order to evaluate the kind of thing we do in Berkshire and the commitment of resources that has been made. Or two, if regulatory authorities either, obviously if they require us to report it, we’ll report it immediately, or in the case of silver a year plus ago, an important regulatory authority indicated they would have, they’d prefer if we reported. We weren’t required to do so, but, and our desire is to cooperate on that anyway, so we did report it.

But we stated in this year’s report that absent those factors we will not be giving details on unconventional investments any more than we give any more details on our regular equity holdings than we’re more or less required to do. We did say that we had changed certain of the unconventional and con investments that were described in the previous year’s report, and we stated that we’d entered into several new ones. So we are in some things that most of you or maybe all of you don’t know about, but they aren’t of sufficient size so that they’re going to in any material way at all affect your investment. Charlie?

Charlie Munger [02:18:34] Nothing to add.

Warren Buffett [02:18:35] Zone 4.

[02:18:36] Shareholder (Wayne Lang, Toronto, Canada): Morning, Mr. Buffett. Wayne Lang from Toronto, Canada. Last year when you were asked about the year 2000 computer issue, you expressed some concerns about the cost overruns and the federal government readiness. Our two countries are in much better shape this year, but could you update us on your current thinking and what concerns you may have about the impact of the lesser residents internationally on our company’s revenues, supply chain, or on the stock market?

Warren Buffett [02:19:03] Yeah, last year I think I also told you I didn’t really consider myself an expert on this, and what I tell you is just what I pick up from being on audit committees or talking to people who are a lot smarter than I am in this sort of area. But that doesn’t mean they’re right on it, because my general feeling, and all second hand, my general feeling is that the part of the world that we have to worry about is in pretty good shape. It’s cost a lot of money in various places. Some companies, it’s cost a terrific amount of money. But I do not think it’s going to be a big deal. And I, you know, I could be wrong, but, and I’m less worried about it being a big deal today than I was a year ago. You know, and Charlie, you know anything? Said no. Does that mean you think it’s going to be less of a big deal than you thought a year ago, or…

Charlie Munger [02:20:17] Means I have nothing to add.

Warren Buffett [02:20:19] Okay. That’s probably what I should have said in the first place. Zone 5.

[02:20:24] Shareholder (Bob Brewer, Lincoln, Nebraska): Good morning. My name is Bob Brewer, and I’m from down the road in Lincoln, Nebraska. I just wanted to ask you how you think the continuing economic turmoil in Japan is likely to affect the global economy and the U.S. stock market over the next five to ten years.

Warren Buffett [02:20:44] Well, Charlie and I are no good on those macro questions, but I would say this. I mean, the Japan problem has been around now in financial markets and banking systems, so I’ve been around for some time now, so I see no reason why it should have more impact on the rest of the world now than it has had in the last few years. And I would say it’s had certainly very little effect on the U.S. in the last few years, and it’s not, it’s no factor in our thinking at all in terms of what we would buy or sell tomorrow morning. I mean, if we got offered a good business tomorrow, unless it was directly involved, I mean, primary business was in Japan, but if it was a business in this country, that’s not something that we would be thinking about. We would be thinking about the specifics of that business.

We don’t really get too concerned about the things that come and go. I mean, in the end, if we’re right about a business over a 10 or 20 year period. Just take See’s Candy. We bought it 1972. Look what happened in 1973 and ’74, you know, and all the oil shocks, and what this country was going through in inflation, all that sort of thing. For us to, let’s say, and let’s say in 1972 somebody laid out a road map from 1972 to 1982 with the prime rate going to 21.5, long-term rates going to 15, and all of the things happening, the Dow going to 570 or whatever, 560. And that wasn’t the important, important thing was that this peanut brittle tastes like it does, which is terrific, and that over time we can get a little more money for it.

So, you know, See’s made $4 million pre-tax in 1972 when we bought it, made $62 million last year. It doesn’t, we don’t want to be thinking about the wrong things when we’re buying businesses, and that applies to marketable securities just as much as it does is when we’re buying 100% of the business. If we’re right about the business, the macro factors aren’t going to make any difference, you know. And for, if we’re wrong about the business, macro factors are not going to bail us out. Charlie?

Charlie Munger [02:22:58] Yeah, I think what’s interesting in Japan is, interesting to one as a citizen here, is a major industrial country, and they understand all about Keynesian economics and everything else, and when it starts sliding down into a big recession, it just keeps going and going and floundering and staying down, and year follows year, and you take the interest rates down to practically zero and you run a big budget deficit, the economy still stays down. I think this has been very interesting to the economists of the world. I don’t think any of them would have predicted that as modern a country as Japan could contract for as long as it did.

And I think the cause is related to the extremeness of its booms in both land prices and security prices and the corruption in its accounting practices and in its regulation of financial system, including banks. I think it’s an interesting lesson for the world of how important it is not to let a slop get into the accounting and regulatory systems, and how a lot of folly in markets doesn’t help either.

Warren Buffett [02:24:29] Sort of fascinating to, you know, people keep saying, well, why doesn’t Japan stimulate? They got short-term rates down to zero and long-term rates at 2%. Well, that would stimulate me. But it’s sort of, as Charlie says, it’s sort of defied a little bit some of the classical Keynesian theory on that. But in the ’30s we had the same problem in this country. We drove interest rates way down, and toward the latter half of the ’30s. And I would argue that probably the extreme prosperity in America is related to this so-called wealth effect, with stock markets going up and up, and I think people thought that was a smaller factor than maybe it is. Zone 6.

[02:25:21] Shareholder (Jeff Lilly, Denver, Colorado): Good morning, Mr. Buffett and Mr. Munger. My name is Jeff Lilly from Denver, Colorado. My question is as follows. Over the last couple of years I’ve read both of you quoted as not following the stock price on a day-to-day basis, not being terribly concerned about whether Berkshire is up or down. You now have analyst coverage. Perhaps you requested it or perhaps you acquiesced to it. But my question is whether this reflects any change in your attention paid to the stock price or your philosophy about investor relations, and whether you think the analyst coverage is going to have any impact on the stock, stock price.

Warren Buffett [02:26:09] I mean, we are concerned about building the intrinsic value per share of Berkshire at the highest rate we can, consistent with a couple of other principles that we’ve set forth, and we hope very much that the stock price stays in a zone that is not too wide around intrinsic value. There’s going to be some zone of some sort, because intrinsic value itself is not precisely calculable, and in addition you wouldn’t expect it to track a penny for penny. But we don’t want it to go crazy in either direction in relation to intrinsic value.

When we made the deal with General Re, that attracted more analyst attention and institutional investor attention, because General Re’s shareholder base was overwhelmingly institutional. So institutions had to decide whether they were going to continue with their investment or clean it out, and we knew we would end up with more institutional ownership subsequently. Alice Schroeder asked me prior to the merger meeting, she said they were a group of institutions that were coming to the meeting, which I liked. I mean, the fact that they were serious enough about their investment to come and see what Berkshire was all about. And a few of them even had a requirement, I think, from their own boards that they at least have sat down with management. So we spent, I spent an hour or so with a group that she had put together and that came to Omaha.

But that’s the last contact I’ve had with any institutional investor, and we will have no special meetings with institutional investors or anything. I mean, they are absolutely welcome to attend this meeting to get all of the information that’s dispensed. I think it’s very useful, frankly, to have an analyst or two that is well versed in Berkshire and that thinks straight and does their homework, and that’s a plus, because it means we don’t have to do it. And an effect, that if institutions want to talk to somebody about it, they don’t, they don’t call me, because they’re not gonna have much luck calling me, and they can call and Alice or some other analyst that wants to do it. And that’s perfect.

We have a non-paid, it is not investor relations, because that’s thought of somebody is sort of pumping your stock. At least we have a information office now, a non-paid information office. And, you know, that goes along the grain of my nature. And we, well, people say, do you want individual owners, you want institutional owners? What we want are informed owners who are in sync with our objectives, our measurements, our time horizons, all of that sort of thing. I mean, we want people that are going to be comfortable owning Berkshire, and we don’t want people who are owning it for reasons different, in a way different, that are different from our reasons for only.

We don’t want people that are concerned about quarterly earnings. We don’t want people who are concerned about stock splits. We don’t, you know, we don’t want people that need to be pumped up about the stock periodically. It’s just not of interest to us, because it just means we have to keep living that way in the future. It’s not the way we want to live now. It’s not the way we want to live in the future. What we really want are a bunch of people like we have in this audience, who sit down and read and think and understand that they’re making an investment now, they’re buying part of a business. They know what the business is all about. They know how we think. They know how we institutional form. And when we get them, we like to keep them.

So there’s no change in our attitude about that. There is a change in coverage, in that we, there is some limited amount of coverage in Wall Street, which I guess for a company with 110 or 20 billion of market value there should be.

We’ll have one more question, then we’ll break for lunch. We’ll go to zone 7, and after this question we’ll break. We’ll come back in about 45 minutes or so, and those of you, as long as we see that everybody’s gotten served with food in that time. And will, any of those who are offside or with the holiday, I think their buses. You can also go out and tour the Boeing business. Yet we’ll sell you as little as 50 hours a year, I believe, we on it. So take your wallets at lunchtime.

[02:30:42] Shareholder (Marc Rabinov, Melbourne, Australia): Yeah, good morning. My name’s Marc Rabinov from Melbourne, Australia. I was wondering if you could help us out with the flight operations, which are now a large part of Berkshire. I think we’re still putting a lot of together in the annual report. Help us out with what return on equity you’re expecting for each of those divisions.

Warren Buffett [02:31:12] Yeah, the more capital intensive is the FlightSafety operation, because every simulator costs real money, and we will add a number of simulators each year. So FlightSafety, you can look at their figures before we acquired them, and it’s reasonable. FlightSafety’s return on equity is not going to move up or down by a dramatic amount. I mean, our simulator training prices are related to the costs of the simulator, and so there’s not going to be way higher returns on equity, or nor should there be way lower returns on equity. There is a growth in the equity employed in the business, because it is a growing business, that we’re training more and more pilots every year, but that’ll be a fairly steady thing. The Executive Jet business is in an earlier part of its development, although it’s the leader in its field by far. But we’re doing substantial investment spending in a place like Europe, and we’ll be doing that on an accelerated pace, if anything. In the end, though, our customers end up owning the plane. So we have an investment in a core fleet of planes which supplements the customers’ planes, but by its nature it’s not a capital intensive business. We are moving around a lot of capital. Every day we’ll have 140 or so customer planes now, and an aggregate, you know, just to pick a figure, those planes are certainly worth $1.5 billion or more, and we’ve got $7 billion of planes on order or some number like that, but we will sell those planes to our customers.

So it could be down the line that it will be a business with a very good return on capital. We’ll still have an investment in the core fleet, and we’ll have some facilities, hangar facilities and that sort of thing, but our customers will have the big capital investment. I should point out they’ll have a whole lot less capital investment if they own their entire plane themselves, so they will be getting a bargain as well. Let’s take off for lunch, and I’ll see you back here in about 45 minutes, those of you who wish to rejoin us. Thank you. (Applause)

[02:33:32] Unidentified speaker: Ladies and gentlemen, we’d like to remind you that lunch is being served out of the stands in the outer long downstairs. You can try upstairs. Thank you. Now…

Warren Buffett [02:38:59] Okay, we’re gonna be ready to go in just a minute if everybody gets their seats. This one, double check. So you’re just going to stick it one through, one through 8? Yeah. Now we’ve got six or seven thousand anyway sticking around, I think. Questions wants to go to the microphone. We’re going to start here in just a minute, and we will start there. There will only be eight zones from this point forward, because we have everyone in attendance in the main hall, so we will rotate around eight zones. We’ll stay until about 3:30, and we’ll start in zone 1.

[02:40:14] Shareholder (Charlie Sink, Lexington, North Carolina): My name, my name is Charlie Sink. I’m from Lexington, North Carolina, as you can tell by the accent. My question relates to the General Re purchase. I wondered, I’ve read your letters through the years, and I’ve been trying to learn a little bit about investing in insurance companies. Did you buy General Re mostly because, I know, mostly because of the float, because you think you can grow the float? I know it’s not growing significantly now. Or did you buy it because you felt like you could do better with the investments? I’ve read also that are trying to get a certain amount of investments to equity. Is that a something that you focus on? And that’s my question.

Warren Buffett [02:41:12] Yeah, the first two parts are correct, that we certainly, we don’t think, we don’t think the float will grow rapidly in the near term future at all. That the float changed, actually declined very slightly in the first quarter, and at a level of $6 billion or so of premiums, the paid losses are likely to run at a rate that would cause the float to remain more or less steady. So it will take a period when premiums grow for the float to grow, and the premiums would have to grow fairly substantially to have any significant impact on the float. And like I say, that will not happen in the short term. We expect the float to grow over the longer term.

We expect that General Re will probably grow considerably faster in international markets than the domestic market. We think that their reputation, which was as good as could be found from an operational standpoint, from a technical standpoint, a managerial standpoint, will be further enhanced by Berkshire’s capital strength. So we think their reputation is likely to grow over the years, and we think the premium volume will follow, but not in any major way at all for a few years at least.

And then we, as addressed earlier in the meeting, we think there’s the opportunity to do better with that float from time to time in the future. But right now that is not, it’s not a plus that it’s in our hands, and it may not be a plus a year from now. We think at some point it will be a plus. We also pointed out and that there are some, there could be some tax advantages to be included as part of Berkshire as well. So there are some things going for it, but none of them will have it, they will not have an impact in 1999, and they may well not have an impact in 2000.

We obviously think Berkshire 10 years from now will be worth more on a per share basis with General Re included than if it were, than if we had not made the deal. We don’t necessarily think that’s the case on a one year, two year basis, but it is our judgment on a 10-year basis. I would say that if we, if we in the future do as one-third as well with the new float that came to us with General Re as we’ve done on average in the past, it will work wonderfully. If you take our past use of float in the history of this company, it would be an interesting study if anybody ever stretched it out. Zone 2.

[02:44:23] Shareholder (Greg Kaza, Oakland County, Michigan): Good afternoon. My name is Greg Kaza from Oakland County, Michigan. Like to thank both of you gentlemen for your hospitality this weekend. My question deals with price deflation. Could you please explain how technological advances, productivity increases, are affecting our non-fixed, fixed income holdings, especially insurance?

Warren Buffett [02:44:52] Well, I think that to the extent your question implies the question, how has technology affected the inflation rate, the advances in technology. I’ve heard Alan Greenspan make a lot of interesting comments on that. I think it baffles him to some extent, but he also recognizes that there’s some important, very hard to measure factor that has caused inflation not to behave in the way that most people expected with this drop of employment, general prosperity, et cetera. And he, I think he attributes it in some part, but again immeasurable, to what has been happening in the information technology world.

Obviously low inflation is good for fixed income investments, but that’s been reflected to a significant degree, and a long-term rate that’s at about 5.5% now. You know, it is, it does look at the moment like an almost perfect world in terms of the macroeconomic factors, and that probably is a reason why people are enthused about stocks. And it’s a reason, and it’s a good reason, in terms of price inflation, it’s a good reason why bonds have behaved well over the last, really since 1982.

I don’t know the answers to what it means for the future. I have to believe that it’s very good for this country to have the lead in information technology that it does. I mean, we, it seems to me as a non-expert that we are so far ahead, and the money flowing into it, the brain power flowing into it, that it’s hard to think of who’s in second place. And I think that’s helped this country in some very significant way, but I don’t know how to measure. Charlie?

Charlie Munger [02:47:02] Well, I would say that Berkshire’s businesses on average are less likely to be obsoleted by new technology than businesses generally. No, steel-toed, steel-toed work shoes, I do not anticipate a significant change in the technology. And I think we have more of the stuff that’s sort of basic and hard to obsolete than many other corporations do.

Warren Buffett [02:47:31] As we mentioned in the report, we think all of that activity is very beneficial from a societal standpoint. Our own emphasis is on trying to find businesses that are predictable in a general way as to where they’ll be in 10 or 15 or 20 years. And that means we’re looking for businesses that in general are not going to be susceptible to very much change. We view change as more of a threat into the investment process than an opportunity. That’s quite contrary to the way most people are looking at equities now. But we do not get enthused about, with a few exceptions, we do not get enthused about change as a way to make a lot of money.

We try to look at, we’re looking for the absence of change to protect ways that are already making a lot of money and allow them to make even more in the future. So we look at change as a threat, and whenever we look at a business and we see lots of change coming, nine times out of ten we’re going to pass on that. And when we see something we think is very likely to look the same 10 years from now, we feel much more confident about predicting it. I mean, Coca-Cola is still selling a product that is very, very similar to work to one that was sold plus years ago, and the fundamentals of distribution and talking to the consumer and all that sort of thing really haven’t changed at all.

Your analysis of Coca-Cola 50 years ago can pretty well serve as an analysis now. We’re more comfortable in those kind of businesses. It means we missed some, a lot of very big winners, but we wouldn’t know how to pick those out anyway. And it doesn’t mean also that we have very few big losers, and that’s quite helpful over time.

Charlie Munger [02:49:35] Yeah, the peanut brittle you has very little technological change too.

Warren Buffett [02:49:40] They better not change it. We like it just the way it is. Zone 3.

[02:49:47] Shareholder (Esther Wilson, South Sioux City, Nebraska): My name is Esther Wilson. I live in South Sioux City, Nebraska. My husband and I will have some new money in the early 80s of our live foot. We have a daughter 50 years old who will inherit anything we have. My question is, is, I also have a 4% interest on a mutual fund that is non-taxable. Are there any better ways to invest our money?

Warren Buffett [02:50:19] Well, those are tough questions. I mean, I, you know, I run into friends of mine all the time where they come into a lump sum at a given time, and, you know, Charlie and I do not have great answers about investing sums of money, I, for people who are not really active in the process. I mean, if, as we said earlier, if we were working with small sums now, we would start looking at a whole bunch of very small situations and some things that we might know how to do on a small scale.

But for the average investor who wants stone equities over a 20 or 30 year period, we think regular investment in some kind of very low cost pool of money, which might well be an index fund, probably makes as much sense as anything. But it’s important to keep the costs down. You know, I have close to 100% of my net worth in Berkshire. I’m comfortable with it because I like the businesses we own, and, but, you know, I didn’t buy it at this price either. So I don’t like to go, I never recommend anybody buy or sell it. And Charlie, do you recommend anything?

Charlie Munger [02:51:41] I think it’s, if there’s anybody in the room who thinks it would be very easy to come up with a one-liner for a great no-brainer investment tomorrow with a great slug of new money, I wish they’d come up and tell me what it is. We don’t have any solution to that one. It’s harder for us now than it has been at other times.

Warren Buffett [02:52:05] Yeah, there’s been a couple of times. In 1974 there was something in Forbes, and ’69, the reverse of that situation. And then I think I wrote an article for Forbes, I can’t remember exactly when it was, about how equities almost had to be more attractive than bonds at that time, and bonds weren’t that unattractive. I mean, every now and then you can say you are getting a great deal for your money in equities, or sometimes you can say you’re getting a great deal for your money in fixed income investments. You can’t say that now.

So what do you do? You know, in terms of new money, we find ourselves sitting and waiting for something, and we continue to look, but we are forced to look at bigger ideas. So if we were working with smaller funds, we would be much more likely to find something than we are in our present situation. As Charlie says, we really don’t have any great one-line advice on it. I wish we did. Zone 4. Go ahead.

Charlie Munger [02:53:09] The real long-term rate of return from saving money and investing it has to go down from recent experience in America, particularly equity related recent experience. The wealth of the world can’t increase at the kind of rates that people are used to in the American equity markets, and the American equity markets can’t hugely outperform the growth of the wealth of the world forever. We ought to have reduced expectations regarding the future generally.

Warren Buffett [02:53:44] Because, you know, we mentioned earlier, 53% of the world’s stock market value is in the U.S. Well, if U.S. GDP, if U.S. GDP grows at 4%, 5% a year with 1% or 2% inflation, which would be a pretty, it would be a very good result, I think it’s very unlikely that corporate profits are going to grow at a greater rate than that. Corporate profits as a percent of GDP are on the high side already, and you can’t constantly have corporate profits grow at a faster rate than GDP, and obviously in the end they’d be greater than GDP. And it’s like somebody said that New York has more lawyers than people. I mean, they’re certain, you run into certain conflicts and the terminology as you go along if you say profits can get bigger than GDP. So if you really have a situation where the best you can hope for in corporate profit growth over the years is 4% or 5%, how can it be reasonable to think that equities, which are a capitalization of that corporate, of corporate profits, can grow at 15% a year? I mean, it is nonsense, frankly, and people are not going to average 15% or anything like it in equities. And I would almost defy them to show me mathematically how it can be done in aggregate.

I looked the other day at the Fortune 500. They earned $334 billion on and had a market cap of $9.9 trillion at the end of the year, which would probably be at least $10.5 trillion now. Well, the only money investors are going to make in the long run are what the businesses make. I mean, there is nothing added. The government doesn’t throw in anything. You know, nobody’s adding to the pot. People are taking out from the pot in terms of frictional costs, investment management fees, brokerage commissions and all of that. But the $334 million is all that, it’s all the investment earns.

I mean, if you want to farm, the, what the farm produces is all you’re going to get from the farm. If it produces, you know, $50 an acre of net profit, you get $50 an acre of net profit, and there’s nothing about it that transforms that in some miraculous form. If you own all of American, if you own all of the Fortune 500 now, if you own 100% of us, you would be making $334 billion, and if you pay 10, $10.5 trillion for that, that is not a great return on investment.

And then you say yourself, can that double in five years? It can’t. The $334 billion, it can’t double in five years with GDP growing at 4% a year or some number like that. It would just produce things that are so out of whack in terms of experience in the American economy. It won’t happen. So anytime you get involved in these things where, if you trace out the mathematics of it, you bump into absurdities, then you better change expectations somewhat. Charlie?

Charlie Munger [02:56:47] Well, there are two great sayings. One is, if a thing can’t go on forever, it will eventually stop. And the other I borrow from my friend Fred Stanback, who I think is here. People who expect perpetual growth and real wealth in a finite earth are either madmen or economists.

Warren Buffett [02:57:17] Zone 4, please.

[02:57:18] Shareholder (Chen, Des Moines, Iowa): Good evening. My name is Chen. I’m from Des Moines, Iowa. Why we have been discussing of how much return that the company has helped us to get in the past few years and for the future too, though I believe there are many people are concerned about how much have we given to the society in return. And gentlemen, would you please share with us about your philosophy and the company policies and how much the Berkshire has done in terms of philanthropy and charities? Thank you.

Warren Buffett [02:58:03] Yes, there are figures in the annual report that bear on that. One thing we did, wasn’t entirely voluntary, is that I think we gave about $2.6 billion to the federal government last year, and in income taxes. I’m not sure, I looked at General Electric and Microsoft and a couple of the largest, it may, we may have paid more in federal income tax than any other U.S. company. I’m not, don’t take my word for that, because it could be Walmart paid more. I wouldn’t be surprised if Walmart paid more. But there’s, I did look at a couple of the big, more than GE or Microsoft, both of which have market caps that are three times our size. And the shareholder designated contribution program was $18 million or so, as I remember, and then we detailed the contributions in the report made by the other companies.

But I would argue that to the extent that GEICO, for example, is a more efficient way of delivering in our personal auto insurance than, overwhelmingly, than its competitors are, and then 15% is a fair indication of how much it is saving people, that on $4 billion of premium volume, that there is something more than $600 million that consumers save by a more efficient way of distribution, which has been honed to a fine art by the GEICO management. And really delivering the goods and services that people want in an economical way is a very important part, I think, of the contribution that any company makes to society, as well as the taxes they pay and their actual corporate philanthropy.

We are not big believers in giving away the money of the owner of Berkshire, acting as their representatives and giving away their money to philanthropy. We think that the shareholders should, it’s their money. And if we had a partnership of 10 people, if I were the managing partner, I would not feel I should make the decisions on philanthropy for the other nine people. I would let them all make their own decisions. We do not think that corporations generally should be passing out money to the pet charities of the CEO, and we don’t do it at Berkshire, but we do let the shareholders make those designations. And as I say, I think our primary kind, thank you, I think that, I think the best contribution actually we can make to society over 10 or 15 years is find out, finding ways to deliver goods and services that people want to them at lower cost than the alternatives that were previously available to them. Charlie?

Charlie Munger [03:01:25] Yeah, well, I applaud the questioner’s yearning for an answer to the question of, isn’t there something more in this game than making and piling up money, and shouldn’t we be thinking about what we owe in return and what’s going to go back in return? In the Munger case, I think 100% is going to go back and return, for a reason different from that in the Buffett case. You know, there’s an old saying, how much did old Charlie leave? And the answer is, I believe he left at all. And in essence, it all has to go back one way or another. You can’t take it with you. That’s the iron rule of the game.

And I do think it’s important to think about what you do for other people and what example do you set with your own life or your own corporate life. And I do think that Berkshire stacks up pretty well in that respect. And due course, when we get into gargantuan charities bearing the name Buffett, my guess is that’ll be done pretty well too. This is likely to be a pretty good run.

Warren Buffett [03:02:43] Zone 5.

[03:02:44] Shareholder (Michael, New York): Hi, my name is Michael from New York. First I’d like to address Mr. Munger. Mr. Munger, it’s such a pleasure to be here with you, as well as Mr. Buffett. And if you can just say my wife for a second, her name is Jane. Next, I understand your secrecy on unconventional investments, but Mr. Buffett and Mr. Munger, could you please tell me your insight on marketing conditions for oil and silver?

Warren Buffett [03:03:24] He asked you, Charlie.

Charlie Munger [03:03:27] We’ve already said that we’re not going to comment about commodity investments. I will cheat a little on that. Eventually the price of oil has to go way up. That doesn’t get any money from buying it now, counting the interest factor. So…

Warren Buffett [03:03:56] Zone 6. Fortunately, I don’t really, I care, I listen carefully when you phrase this question. He said insights, and I don’t have any insights. So we’ll go to zone 6.

[03:04:11] Shareholder (Merritt Belisle, Austin, Texas): My name is Merritt Belisle from Austin, Texas. And the company has a large investment in the Washington Post Company, which has many cable television systems serving non-major metropolitan areas, as well as a recent investment in TCA Cable. And so I was hoping to get a comment about the cable television business generally. And the other question is about your philosophy of children handling money and inheriting money.

Warren Buffett [03:04:45] The first question, about cable. The Washington Post Company does have, we, and we own about 17% or so of the Washington Post Company, and I believe they have 700,000 plus homes, and as you say, they’re in largely in smaller areas. It’s been a good business. And as you know, cable prices have been galloping here in the last year, thereabouts. From the standpoint of the Post, that’s bad news, because the Post would have been a net buyer of cable and will not be a seller. And it’s very, very much like our attitude towards stocks and stock prices. I mean, it is not good news for the Washington Post Company when one case testing funds it’s gonna be a generator a funds over table. That’s way better off if cable prices go down than up.

The TCA is not, Lou Simpson runs a separate portfolio at GEICO, equity portfolios. So I’ve never read an annual report of the TCA Cable. I know nothing about it. If he still has it, it’s an investment of Lou’s at GEICO for GEICO, and it’s not something that falls under my management at all. That’s a point I should mention, because periodically the press picks up some item that says that Berkshire, or sometimes it says that I am buying X, Y or Z. And sometimes that’s true, but sometimes it isn’t true, because filings are made on behalf of various other entities that are associated with us, and I don’t know anything about them.

I saw one here a couple of weeks ago reporting that I was, I don’t know, it was me or Berkshire, I think it was me personally, it was buying some real estate investment trust with the name Omega in it. I never heard of it, but that story appeared various places. Well, I can assure you I filed no form with the federal government that said that I was buying that stock, although you would have deduced that from certain press accounts. But various other entities, I think that there may be a subsidiary of General Re, New England Asset Management, that may have to report periodically on what they do. And since General Re is owned by Berkshire, and New England Asset Management’s a part of General Re, you know, who knows what they pick up on that. So I do caution you generally to be a little careful about reports as to what is being bought or sold by me or by Berkshire Hathaway. Now, as I remember, there was a second question that I didn’t like quite as well to answer. That, you want to tackle that one?

Charlie Munger [03:07:54] Well, I think there was more interest in the future of cable. That is, we have demonstrated a signal lack of aptitude in correctly diagnosing the future of cable in a way that made us a lot of money. And we’ve done that in spite of the fact that in retrospect it seems like a lot that was perfectly obvious was lying around.

Warren Buffett [03:08:24] Today cable has not, I mean, cable has been here for about 30 years or so. Cable has not made extraordinary returns on invested capital at all, I bet. But it’s always had the promise of greater returns, and I wouldn’t have to keep investing money in it the way you have had. To date, returns will be made in cable relative to invested capital, not relative to purchase price of them, but relative to the invested capital in the property itself. And as I say, that has not really been the case, as has prov, it’s been the case with cable programming. Cable programming, there have been a lot of money made in relation to capital investment. But in terms of the actual investment, cable facilities, the capital investment has been such, the expenditures and developing systems have been such that the returns so far have not been great. But it’s, but the prices for cable systems now would indicate that people think that those returns are finally going to start flowing in in a big way.

What was the second part of that question that you had? We have a minority viewpoint down here in the front row. (Applause) I think my views on that subject changed when I was about 18. Until that point, I would have been a great idea. No, I am quite a believer in a meritocracy, and I think a part of that is not having people start way, way ahead of other people in life based on whether they were lucky enough to come from the right womb or not. So I’ve never been big on the idea that either society benefited, or in many cases the kids, although I think that’s much more problematic, but by the fact that great transfers of wealth will go from one generation to another.

I, you know, I would rather see the degree of talent possessed by individuals determine the resources they command in this world and their ability to influence other people’s lives and command the labor of other people and all of that, than any divine right of the womb. So it’s, and Charlie has a somewhat different view on that.

Charlie Munger [03:11:16] Yeah, I am a little more willing to let the world take the succeeding generations down. It’s, he believes, I don’t think they need much help.

Warren Buffett [03:11:30] Charlie believes in passing it along as long as you’re sure they’re going to blow it. Okay, so go ahead.

Charlie Munger [03:11:38] If you stop to think, Warren, of the great fortunes of yore, if you go back to 1900, 1870, and, you know, name me the people that have vast power because they are in the fourth generation in that family. Some of them are living awfully well, but they are not running the world.

Warren Buffett [03:11:56] I would say the Rockefeller family had considerably more influence than if their name had been, you know, just plain Rock.

Charlie Munger [03:12:06] But I think that’s true, but you’re picking probably the strongest single family of the piece, and now that it’s dispersed among 60 or 70 or 80 Rockefeller…

Warren Buffett [03:12:18] I think it’s true there were four or five brothers there that had an unusual share of worldly influence. I must say, in that case I think they handled it very well. Zone 7.

[03:12:32] Shareholder (Alan Nagin, Reston, Virginia): My name is, my name is Alan Nagin from Reston, Virginia. I know you like to buy into success stories, but you don’t like to buy high tech. And it seems to me, say in the case of Microsoft, that 10 years from now they’ll be doing software development, just like 10 years from now Coke will be selling sugared water. And what I’m wondering is why, why you feel that way when it seems certain companies, high-tech companies, are predictable. And it also seems that in the early ’90s you were, you mentioned you were going to buy a pharmaceutical company, which also seems like high-tech to me. So that’s my question.

Warren Buffett [03:13:22] Yeah, well, we, I think we said that with the pharmaceutical companies we wouldn’t have known how to pick out which one. We would have thought the industry as a group would do well from those levels of 1993. You cannot buy high-tech companies at anything like at levels that are commensurate with the levels that the pharmaceutical companies were selling out in ’93, you know. I would, and getting to the first part of your question, I think it’s much easier to predict the relative strength that Coke will enjoy in a soft drink world than the strength, the amount of strength that Microsoft will possess in the software world.

That’s not to knock Microsoft at all. If I had to bet on anybody, I’d certainly bet on Microsoft, bet heavily, if I had to bet. But I don’t have to bet, and I don’t see that world as clearly as I see the soft drink world. Now, somebody that has a lot of familiarity with software may very well see it that way, and they’re entitled them, if it’s true they have superior knowledge and they act on it, they’re entitled to make money from that superior knowledge. There’s nothing wrong with that. I know I don’t have that kind of knowledge, and I simply think, and I do think that it’s, that if you have a general knowledge of business over decades, that you would regard the industry they’re in as less predictable than the soft drink industry.

Now, it may also be that even though it’s less predictable, that there’s a whole lot more money to be made, so that if you’re right, that the payoff is much larger. But we are perfectly willing to trade away a big payoff for a certain payoff, and that’s the way we’re put together. It does not knock the ability of other people to make those decisions. I mean, I asked, first time I met Bill Gates in 1991, I said, if you’re going to go away on a desert island for 10 years, you had to put your stock in two companies in the high-tech business, which would they be? And he named two very good stocks, and if I bought both of them, we’d have made a lot more money than we made even buying Coca-Cola.

But he also would have said at the same time that if he went away, he’d rather buy Coca-Cola, because he would have felt sure about that happening. It’s, you know, different people understand different businesses, and the important thing is to know which ones you do understand and when you’re operating within what I call your circle of competence. And the software business is not within my circle of competence, and I don’t think it’s within Charlie’s. Charlie?

Charlie Munger [03:16:02] Well, I certainly agree with that. I think there are interesting questions, too, about how far the whole field can go. Take jet airplane travel below the speed of sound. It’s been pretty static in terms of the technology for a long, long time. You know, the big Boeing airliner is much the same as it was 20 or 30 years ago. And I think it’s, a lot of these businesses are quite dependent on the technology continuing to gallop and do more and more for people. Take pharmaceuticals. If they never invented any more pharmaceuticals, it would be a terrible business. And I don’t know what happens once you get unlimited bandwidth into the house and way more options, and at a, beyond a certain point it strikes me that there might be a surface of anybody’s interest in the field. I don’t know where that point is, whether it’s 20 years out or 30 years out, but it would affect me a little.

Warren Buffett [03:17:08] The Dilly Bar is more certain to be here in ten years than any software application that we know. But that’s maybe because we understand Dilly Bars. They’re not software. In the whole United States, which is, you know, is by far the most prosperous company in the country, in the world, the whole United States, there are probably around 400 companies, 400 total companies that are earning $200 million a year after tax. Of those 400, you can name them. I mean, you can start, you know, if you say bank, you can say Citigroup and Chase and Wells Fargo, and you can name 10 or 15 of them. And if you name consumer goods, you can say Procter & Gamble and Coca-Cola and Gillette. You can name a whole bunch of them. You can almost, of those 400, you can probably name 350.

If five years from now, instead of 400 being on that list, there’ll probably be 450 on the list, maybe 475. A lot of those will be companies that are earning between $150 and $200 million now, so they’ll probably be 20, some number like 20, that, call it, come from nowhere. Now, if you look at the number of companies that are selling today at a price which implies $200 million or more of earnings right today, you will find dozens and dozens in the high tech arena. And, you know, a very large percentage of those companies are not going to fulfill people’s expectations. I can’t tell you which ones, but I know there won’t be dozens and dozens and dozens of those companies make a couple hundred million dollars a year, and I know they are now selling at prices that require them to be making that much money or more. It just doesn’t happen that often.

You know, biotech was all the rage some years back. How many of those companies are making a couple hundred million dollars a year? It just doesn’t happen. It’s not that easy to make lots of money in a business in a capitalistic society. The people that are looking at what you’re doing every day and trying to figure out a way to do it better, and to, you know, underprice you or bring out a better product or whatever it may be. And a few companies make it, but here in the United States, after all of these decades and decades and decades of wonderful economic development, we’ve got about 400 companies that have hit the level that would be required of a company that would have a market cap of $3 billion. And some companies are getting $3 billion of market cap the day they come out, virtually. There’s some, you want to think about the math of all this. Zone 8.

[03:19:42] Shareholder (Larry Widman, Minot, North Dakota): Hello. My name is Larry Widman from Minot, North Dakota. You’ve already hinted about Coke and Gillette’s current valuations and also about their great prospects for the future. But in the past year both stocks have been down 30% to 50% from their highs. How much farther would they have had to fall before your criteria of margin of safety been satisfied and allowed you to purchase more shares? And two, has the Disney Cap Cities merger gone as well as you would have hoped, and has the future prospects of Disney changed in your opinion?

Warren Buffett [03:20:13] First question, that’s a good question on Coke and Gillette, because obviously we think about the businesses that we’re the most familiar with and where we’re committed. Neither one of those businesses got to the price that left us happy putting new money in, but we’re quite happy, very happy owning those businesses, and we’ll be happy owning them for a very long time to come. But they, it’s some evidence of where the market has been and is, that even when they ran into some tougher business conditions than they anticipated, that their stocks did not get down to the prices that caused us to get excited about them. Charlie, you want to comment that or the second part?

Charlie Munger [03:20:59] No, but I do want to remind people that the Dilly Bar is a Dairy Queen product. See, and they are good, I can tell you that. I wouldn’t want the shareholders to believe that the commercial standards of this operation are faltering.

Warren Buffett [03:21:20] Generally speaking, trying to dance in and out of the companies you really love on a long term basis has not been a good idea for most investors, and we’re quite content, descent with, to sit with our best holdings. People have tried to do that with Berkshire over the years, and I’ve had some friends that thought it was getting a little ahead of itself from time to time, and they thought they’d sell and buy it back cheaper, and it’s pretty tough to do. You have to make two decisions right. You know, you have to buy, you have to sell it right first, and then you have to buy it right later on, and usually have to pay some tax in between. If you get into a wonderful business, best thing to do is usually is to stick with it.

Coke and Gillette both experienced disappointments to their management, below what they anticipated a year, a year and a half ago or whatever it was, and below what we anticipated. But that will happen over time. It happens with some of our wholly owned businesses from time to time. Sometimes they do better than we anticipate, too. But it’s not the nature that everything, things that everything goes in a nice straight smooth line upward.

You mentioned Cap Cities. Parts of Cap Cities have done extraordinarily well, for example, but in the network business, if you go back 30 years and look at what network has been on top, you find that no one stays on top or on the bottom. And definitely there it’s a competitive world, as I mentioned earlier, and sometimes your competitors’ correct moves, your own incorrect moves, the world environment, all of those things can interrupt trend lines.

I see nothing that’s happened in the last year in terms of the long-term trend line of the blade and razor business, which is the one I’ve referred to as inevitable, Gillette. I mean, there are in other businesses that are not in the same category as the blade and razor business. Coke fortunately has virtually its entire business in soft drinks, and so it comprises almost 100% of the whole there. But I see nothing that would change long-term future of either the blade, or blade and razor business, or Coke’s position in this, in the soft drink business. Number 1.

[03:23:52] Shareholder (Steve Cohn, Peoria, Illinois): Number 1. Steve, Steve Cohn from Peoria, Illinois. First of all, I just had my first Dilly Bar a half an hour going. Thank you for introducing me to that. Good. I’ll tell you a second too. You spoke earlier about the threat of change. Can you comment on the threat of deflation, and if it were to occur, what its likely impact would be on the economy, Berkshire Hathaway and personal investment decisions?

Warren Buffett [03:24:24] Well, not displacement? In what respect? That inflation?

[03:24:28] Shareholder (Steve Cohn, Peoria, Illinois): Oh, inflation. Deflation.

Warren Buffett [03:24:30] Go deeper. I’m getting there. Well, I think it’s very, very unlikely. But I would, I have been wrong consistently now for a decade or more about the degree to which inflation has at least been tamed for that period. I would have expected, if you showed me all the other things that were going to happen in the world in the last 10, if I’d seen that ahead of time 10 or 15 years ago, I would have thought we would have had more inflation. So I have trouble envisioning a world of where the U.S. experiences deflation. But, you know, my record is not great on that. And again, we do not spend a lot of time thinking about macro factors.

I mean, if you ran into deflation, that means that, you know, capital is appreciating, so you need much lower nominal rates of return on capital to be in the same place under deflation as would be the case if you had inflationary conditions. So deflation, everything being equal, and it isn’t equal, is good for investors because, you know, the value of money appreciates, the buying power of money appreciates. But it would have other consequences too. I don’t think it’s likely. I’m not, I have no great record at all in macro forecasting, and I, if it does happen, the truth is I don’t know what the effects would be. Charlie?

Charlie Munger [03:26:00] Well, you’ve seen what deflation is doing in Japan, and it’s been quite unpleasant for the people there. On the other hand, it hasn’t been a catastrophe. I mean, nothing like the ’30s in the United States.

Warren Buffett [03:26:15] No one, actually, in Japan, if you’d owned long bonds, you would have had a tremendous bonanza from deflation, because your, the value of your bonds would have gone up dramatically as interest rates came down, and then that money in turn would buy more. So it would, it was a very, if you happen to be the person that owned longer bonds issued at higher coupons some years back, that’s worked to your advantage. But, and presumably that would work in this country. If we actually ran into consistent deflation, my guess is that people who owned long bonds, even bought at 5.5%, would find their position in the world dramatically improved compared to people who own most other asset classes. Zone 2.

[03:27:00] Shareholder (Murray Cass, Markham, Ontario): Hello. I’m Murray Cass from Markham, Ontario. First off, Mr. Buffett, Mr. Munger, I’d like to thank you for being so generous with your time every year at these meetings. Mr. Buffett, many in the academic community call you lucky or a statistical outlier. Mr. Munger, I’m not sure what they call you.

Warren Buffett [03:27:26] Well, you’re free to speculate on what they call him.

[03:27:30] Shareholder (Murray Cass, Markham, Ontario): I know you don’t like to forecast the equity markets, but maybe you dare to forecast the evolution of the debate between proponents of the efficient market theory and value investors. Do you think there will ever be a reconciliation? And I’m talking especially about what’s taught at the business schools. And as an addendum, are your designated success, successors, are they outliers as well?

Warren Buffett [03:27:58] Well, we like to think they are, and then they may be more outliers than we are. The market is generally, and, you know, to me it’s almost self-evident if you’ve been around markets for any length of time, that the market in is generally fairly efficient. It’s fairly efficient as pricing between asset classes. It’s fairly efficient in terms of evaluating specific businesses. But being fairly efficient does not makes, does not suffice to support an efficient market theory approach to investing, or to all of shoots that have come off of that in the academic world. So if you believed in efficient market theory and been taught that and adapted, adopted it for your own 20 or 30 years ago, or 10 years ago, I think it probably hit its peak about 20 years ago, you know, it would have been a terrible, terrible mistake. It would have been like learning the earth is flat. It just, you would have had, you’d have had the wrong start in life. Now, it became terribly popular in the academic world. It almost became a required belief in order to hold a position. It was what was taught in all the advanced courses, and a mathematical theory that involved other investment questions was built around it, so that if you went to the center of it and destroyed that part of it, it really meant that people who’d spent years and years and years getting PhDs found their whole world crashing around them.

I would say that it’s, I would say that it’s been discredited in a fairly significant way over the last decade or two. I mean, you don’t hear people talking the same way about it as you did 15 or 20 years ago. But the market generally is fairly efficient in most ways. I mean, it is hard to find, it’s hard to find securities that are inefficiently priced. There are times when it’s relatively easy, but right now, for example, it’s difficult. There, I don’t know exactly how much it’s holy writ still in business schools. I certainly get the impression, as I go around talking to business schools, that it is far less regarded, regarded as, you know, sort of unquestioned dogma, like it was 15 or 20 years ago.

The University of Florida now has some of courses in valuing businesses. University of Missouri’s putting in one. And I think the high priests of efficient market theory are probably not in the same demand for speaking engagements and seminars and all of that as they were a decade or two ago. It’s hard, though, to, it’s very interesting, it’s hard to dislodge a belief that becomes sort of, becomes the dogma of a finance department. It’s so challenging to them, and, you know, they have to, at age 30 or 40, to go back and say, what I’ve learned up to this point and what I’ve been teaching students and all of that is silly. That doesn’t come easy to people. Charlie?

Charlie Munger [03:31:42] Well, you know, Max Planck, the great physicist, said that even in physics the old guard really didn’t accept the new ideas. The new ideas prevail in due course because the old guard fades away, clinging to the asininities of the past. And that’s what’s happened to the hard-form efficient market theorists. They’re an embarrassment to the scene, and they will soon be gone. On the, the people who think the market is reasonably efficient or roughly efficient, of course, are absolutely correct, and that will stay with us for the long haul.

Warren Buffett [03:32:22] Thinking it’s roughly efficient, though, does nothing for you in academia. You can’t build anything around it. I mean, that what people want are what they call elegant theories, and it just, it doesn’t work. You know, what investment is about is valuing businesses. I mean, that is all there is to investment. You sit around and you try to figure out what a business is worth, and if it’s selling below that figure, you buy it. That, to my, you can’t find a course virtually in the country on how to value businesses. You can find all kinds of courses on how to, you know, how to compute beta or whatever it may be, because that’s something the instructor knows how to do, but he doesn’t know how to value a business. So the important subject doesn’t get taught, and it’s tough to teach. I think Ben Graham did a good job of teaching at Columbia, and I was very fortunate to run into him many decades ago.

But if you take the average PhD in finance and ask him to value a business, he’s got a problem. And if he can’t value it, I don’t know how he can invest in it. So therefore it’s much easier to take up efficient market theory and say it doesn’t make any difference because everybody knows everything about it anyway, and there’s no sense in trying to think about valuing businesses, that the market’s efficient, it’s valued them all perfectly. About on the second day in that course, I mean, yeah, yeah, the first, you know, you walk in, you say, you know, everything’s valued perfectly, and it’s valued perfectly, and class dismissed. So I, it, it puzzles me, but I encourage you to look for the inefficiently priced. Zone three.

Charlie Munger [03:34:05] Berkshire, incidentally, was inefficiently priced for a long time at them, and it wasn’t on the radar screen of, and if you’d asked an academic how to value it, they wouldn’t have known what to look at.

Warren Buffett [03:34:20] Exactly. Yep.

[03:34:25] Shareholder (Ken Schuben): My name is Ken Schuben. You’ve taught us that a key concept of Berkshire is the amount of float it has, the cost of the float, and how fast it grows. Can you please help us understand currently what amount of flow Berkshire has and what the goals are in the future for that growth rate over a sort of one to two decade period, understanding that it’ll be a lumpy advance? Because looking at the historical data you’ve provided us for Gen Re and Berkshire regarding the amount of float and it’s cost, it’s grown at a great rate, high teens, low 20s. And if you could please comment on the future expectations we should have, that would be great.

Warren Buffett [03:35:05] Yeah, well, it’s an important question, it, but I don’t know how to give you a good answer. The, it’s grown at a much faster rate since 1967, when we went in the insurance business, than I thought it would. I mean, I did not, I didn’t anticipate it would grow that way. I didn’t anticipate necessarily we’d get a chance to buy GEICO. I didn’t necessarily know we’d never acquire a General Re. So it’s been very hard to forecast. What we’ve tried to do is grow cheap float as fast as we could, and sometimes it’s been easy, sometimes it’s been impossible. But I don’t know, if you’d ask me that question 30 years ago, I’d have given you an answer that that really hasn’t proven out very well. And so I don’t know how to give you the answer now, except to tell you this: it’s very much a goal a Berkshire to grow that float at as fast as it can while maintaining a very low cost to it.

And again, you mentioned it’d be lumpy. Well, it’ll be lumpy on cost, it’ll be lumpy on growth rate, but I mean, we are, it’s something we think about all of the time in both our operating decisions and perhaps some big capital commitment decision. It’s, we know that if we can solve that problem of how to grow it at, with it costing us relatively little, that we will make Berkshire a whole lot more valuable in the process. And people, I mean, we always laid out the facts as to what we were doing, but people basically seem to nor ignore that. And we have had this growth rate, which we can’t maintain, the numbers are too big. But it’s, it’s something that Charlie and I think about all the time. We’ve got some good vehicles for growing it, but we don’t have any vehicles that will grow it in aggregate at anything like the rate that’s been growing in the past.

So we may have to, we may get a chance to do something that adds to our ability to do it. If we get a chance and it’s at the right price, we’ll, we’ll add, we’ll add it. If we won’t, we’ll do as much as we can internally. But the question you ask, the growth and intrinsic value of Berkshire over the next year, 10 years, will be determined in a very significant way by the rate at which we do grow it, and if, and also the added fact of what it costs us to achieve that float. Charlie?

Charlie Munger [03:37:33] Yeah, if we grow very low-cost float at the same rate that it’s grown in the past for another 30 years, you can be confident of one thing: if you look to the heavens, there’ll be a star in the east.

Warren Buffett [03:37:59] Zone four.

[03:38:00] Shareholder (David Levy, Newport Beach, California): I’m Dave, David Levy from Newport Beach, California. Berkshire has been investing in the property and casualty and reinsurance business. I notice, except for annuities, you’ve been avoiding the life insurance business. You have, you anticipate investing in the life insurance business? Also, I have a second question, and that is the relationship of Berkshire A and Berkshire B. Last year there was a slight premium for Berkshire B over Berkshire A. About now, Berkshire is selling at about a 3% to 4% discount. I also notice that certain people are shorting Berkshire A and Berkshire B. I wonder if you could comment on that.

Warren Buffett [03:39:02] Sure. On the life business, we have no, they have no bias against the life business. We just, we are in the life reinsurance business in a fairly significant way through General Re, as you mentioned. We’ve done a little on annuities. The problem with the life business is that it isn’t very profitable, and you can look at the records of the big companies on that, and that a lot of the activity in the area is in some way equity related. And Charlie and I have never wanted to get in the business of managing equities for other people. I mean, we want our sole interest on equities to be Berkshire Hathaway itself. So we do not want to wear two hats. We would never go in the mutual fund management business or any kind of investment management business, because if we were to be managing $20 or $30 billion in the investment management business and we get a good idea that we can put $1 billion in, you know, whose money do we put in it?

So we’d rather, we’d rather just be wearing one hat, and that we want that hat to be Berkshire Hathaway. And we don’t want to be promising other people that for us, you know, half a 1% or 1% fee, that we’re going, they’re going to get our best ideas, because those ideas belong to Berkshire, and we’d be misleading people if we promised otherwise. So anything that involves an equity component to it, and that’s a big part of what’s going on in the life business now, and it’s just something we wouldn’t be, we wouldn’t be comfortable being involved with.

If you look at term life insurance, we’ve looked at that in terms of putting it on the internet. It’s, it is priced at rates that that we find very hard, even with the absence of commissions, to make sense. But it’s, it’s a business we understand, so we’re, we’d be perfectly willing to be in the life insurance business if we thought there was, if we had a way of doing it where we thought there was reasonable profitability attached to it. Charlie, do you want to comment on the life business before I get to the A versus B thing?

Charlie Munger [03:41:16] No. We do those structured settlements. That is sort of like the annuity business. And the life business we’re doing is, is mostly annuities and on a very low cost basis.

Warren Buffett [03:41:28] Yeah, anyone that wants to buy a non-equity related annuity should go to our website and find, in terms of the waiting for the safety of the product and everything, you will find a very, very competitive product, because we, it’s a low cost operation. And if you’re buying it to get paid 30 years from now, you are certain to get paid from Berkshire, and you’re not necessarily certain to get paid from various other entities. So we’ve got a very competitive product there, but it’s not, it’s not a big business.

And the question of the A versus B, I’ve written something, I wrote it some months ago and stuck it up on the website regarding my own thoughts on that. Obviously the most the B can be worth is 1/30th of the A, because you can always convert an A into 30 shares of B. The B may sell a slight bit above that 1/30th price before it becomes, gets to a level where it induces arbitrage between the two. So it can theoretically sell, and it will sell, a fraction of a percent above 1/30th of the price of the A. But if it gets above that, you know, I’ll buy the A and sell you the B. There’s an arbitrage profit to be made, and probably, the way markets work, most of that profit will be captured by the specialist, because he’s in the best position to effectuate trades of that sort. But the B can never be worth, it can never be worth more than a 30th of the A, and it can never sell for more than slightly above 1/30th of the A.

On the other hand, B is not convertible in a stock, so it can solid a discount. I put on the web some months ago that I thought, that just my opinion, but I thought that when the B is selling for less, for selling for more than a 2% discount, I personally would rather buy B than A under those circumstances. If it’s selling for the same price as the A, another 1/30th at the price of the year, but so it’s something on a parity basis, and I, we’re buying 30 shares or more of the, I would rather buy A, because you can always go one direction and you can’t go the other direction. If you take the next 10 years, I would think that a fair percentage of the time it’s going to be selling right about, one, selling right about 1/30th of the price of the A, and there’ll be periods of time when it sells it at a modest discount. And I would say that when it gets in the 3% to 4% range, I regard that as quite a wide discount. If I didn’t have a tax to pay myself, I might, I might sell A and buy B if I was getting 4% more in the, in the economic equivalent on B. It’s not practical for me to do it. Some, I know of some tax-exempt investors that have actually done that sort of thing.

And long-range, we will always treat the D exactly as we laid it out in the prospectus. There are two differences between the A and B. One is in the voting power, relatively, and the other is in the shareholder designated contributions program. And otherwise, in all respects, B will be treated on the same basis as the A. We have no, even though Charlie and I own a lot of A and we don’t own any B to speak of, we regard the B shareholders as being 100% on a parity, except for those two differences we laid out at the time of issuance, with A shareholders. We would never, there won’t be a deal ever made for Berkshire anyway, but if there would be, we would always treat the A and B on a, on a 1 for 30 basis. We would not, we’ve been in situations where people haven’t done that, and we’ve never been very happy with it. So we would always treat people proportionally. Charlie?

Charlie Munger [03:45:25] Well, I certainly agree with all of that.

Warren Buffett [03:45:27] The question about shorting, it doesn’t make any difference whether anybody shorts any stock or not, really. I mean, if you were arbitraging between A and B, and the B was selling a little higher in the A, you might be buying some A and shorting some B, and you might delay conversion because you might figure the B might go to a discount, then you’d unwind the whole transaction rather than convert. I mean, there’s a lot of techniques that the Charlie and I have engaged in over the years and other securities that apply to that sort of thing. But shorting doesn’t hurt us in any way, shape or form. I mean, it doesn’t, it doesn’t make any difference. I don’t care whether the short interest in the A is 1,000 shares or 100,000 shares. You know, somebody sells it at one point and somebody buys it another point, and whether you reverse the buying and selling doesn’t make any difference. What counts is the intrinsic value of Berkshire, and if we increase the value of Berkshire at a reasonable rate, you know, the shorts will have to figure out how to eat three times a day, man. Okay, zone five, please.

[03:46:27] Shareholder (Grant Morgan, New York City): Good afternoon, Mr. Buffett and Mr. Munger. My name is Grant Morgan. I’m here from New York City. Earlier you had acknowledged that it is a more difficult investment and business environment today than it was when you first started out. My question is, if you were starting out again today in your early 30s, what would you do differently or the same in today’s environment to replicate your success? In short, Mr. Buffett, how can I make $30 billion?

Warren Buffett [03:46:59] Start young. Charlie’s always said that the, the big thing about it is we, we started building this little snowball on top of a very long hill. So we started a very early age in rolling the snowball down, and of course the snowball, the nature of compound interest is it behaves like a snowball of sticky snow. And the trick is to have a very long hill, which means either starting very young or living very, to be very old.

The, I, you know, I would do it exactly the same way if I were doing it in an investment world. I mean, if I were getting out of school today and I had $10,000 to invest, I’d, I’d start with the A’s. I would start, I would start going right through companies, and I probably would focus on smaller companies, because I would be working with smaller sums and there’s more chance that something is overlooked in that arena. And as Charlie has said earlier, it won’t be like doing that in 1951, when you could leap through and find all kinds of things that that just left off the page at you. But that’s the only way to do it. I mean, you have to buy businesses, and your little pieces of business is called stocks, and you have to buy them at attractive prices, and you have to buy them and you have to buy into good businesses. And that advice will be the same 100 years from now in terms of investing. That’s, that’s what it’s all about.

And you can’t expect anybody else to do it for you. I mean, people will not, they will not tell you about wonderful little investments. There’s, it’s, it’s not the way the investment business is set up. When I first visited GEICO in January of 1951, and I, that rest of that year, I subsequently went down to Blyth and Company, and actually to one other firm that was a leading firm, that was a leading, Geyer and Company, that was a leading analyst in insurance. And, you know, I thought I discovered this wonderful thing, and I’d see what these great investment houses that specialized in insurance stocks said, and they said I, I didn’t know what I was talking about. You know, they, it wasn’t of any interest to them. You’ve got to follow your own, you know, you’ve got to learn what you, what you know and what you don’t know, and within the arena what you know, you have to just, you have to, you have to pursue it very vigorously and act on it when you find it. You can’t look around for people to agree with you. You can’t look around for people to even know what you’re talking about. You know, you have to, you have to, you have to think for yourself, and if you do, you’ll find things. Charlie?

Charlie Munger [03:49:40] Yeah, the hard part of the process for most people is the first $100,000. If you have a standing start at zero, getting together $100,000 is a long struggle for most people. And I would argue that the people who get there relatively quickly are helped if they’re passionate about being rational, very eager and opportunistic, and steadily underspend their income grossly. I think those three factors are, are very helpful.

Warren Buffett [03:49:40] Zone 6.

[03:50:19] Shareholder (Yvonne Edmonds, St. Petersburg, Florida): Mr. Buffett and Mr. Munger, thank you very much for your hospitality. Excuse me, my name is Yvonne Edmonds, and I’m from Saint Petersburg, Florida. And thank you also for being so kind as to spend all this time answering our questions. I have two related questions regarding insurance. The first is, I suspect that many of us know less about insurance than about equities, and I wonder if you could please put some references for us on the Berkshire Hathaway website that might help us increase our knowledge about insurance.

The second question is perhaps related to the first. I just, and the fact that I don’t understand it, but the Wall Street Journal on March 19 published an article entitled “When Insurers Pass Trash, Some Are Left Holding the Bag,” and that sum included Berkshire Hathaway. It focused on passing the workers comp trash to, among other groups, to Cologne Re. And to make a long short story short, the assistant general counsel for General Re, which, as I understand, now owns most of Cologne Re, said, “This is a classic example of an insurance company seeking growth in a very competitive market by writing business outside its area of expertise, namely within workers comp, when their area of expertise is life reinsurance.” Mr. Graham went on to say, and then I’ll stop, “Don’t write business you don’t understand. Second, proper controls are critical in the insurance business. Lastly, if a business opportunity appears to be too good to be true, it probably is.” If this is true, could you tell us how this came about, what measures are being taken to see that it won’t happen again, and what might be the ultimate cost to Berkshire Hathaway shareholders? Because I gather that the only the tip of the iceberg has, has been represented in the charge to Cologne Re.

Warren Buffett [03:53:09] Okay, those are good questions, and let’s take the first one first, about the website and having, having a list of reference documents or something that would help you understand insurance. You sound like you understand pretty well already. The, I can’t think of a good book that I’ve read on the subject. I, I got my knowledge of insurance by reading. Well, I, I got this huge headshot named Lorimer Davidson, who is now 96, spend four hours or so with me one Saturday morning in January 1950, we were in 1951, explaining to me how GEICO worked. And I, it was a marvelous education, and it got me so interested in not only how GEICO worked but how its competitors worked, how the industry worked, that I just started reading a lot of other reports.

I never, I guess I took one course in school on insurance. I don’t remember a thing from it. I have no idea what the textbook was or anything. It had no value to me. But so I never really had any background in insurance. My, you know, nobody in the family was in the insurance business, and until I talked to Davy, I really, it just hadn’t been something crossed my mind. The only reason I was down there was because I, my hero Ben Graham was listed in Who’s Who is being the chairman of Government Employees Insurance. That’s, if he’d been the chairman of, you know, he was also the chairman of the Market Street Railway Company in San Francisco. Fortunately, I went down to GEICO and said about to see the Market Street Railway Company, it was closer. But I, my own education about insurance came from just reading lots of, lots of reports.

I mean, I would say that if I, if I started the day fresh and I didn’t know any about the insurance industry to speak of, and I wanted to, to develop some expertise, I would probably read the reports of every property casualty company around, and I would go back sometime and I would read, I would probably get the best manuals and look them up. I just do a lot of reading. I used to go down to the Department of Insurance in Lincoln and go through the convention reports and the examination reports. I’d, they, they’d give me some little table someplace, and I keep asking for these reports. They have to go way down on the bottom of the capitol to get them out for me, but they didn’t have much else to do, so they were always happy to. And that’s the way I learned about it, and it happened to be a productive field to learn about that way. And I really think that something akin to that is the best way.

Now, I can’t think of, you know, you can read some analyst reports. I think you can learn something, frankly, by reading the Berkshire Hathaway annuals for 20 years and reading the insurance section. I think it’ll, it’ll teach you something about the economics of insurance. So I would, I would do it by reading. And if you can find somebody that knows the business well who’s willing to spend some time talking to you about it, they can probably shorten the educational period and give you some help on that.

The, the second question, about what’s been called, what’s the Unicover affair, that Cologne Re set up at 275 million, Cologne Life, I should say, set up a $275 million reserve against. First of all, I would say for the losses to be incurred on that business, the 275 still represents the best estimate. In other words, it may be the tip of the iceberg in terms of the loss to the industry, because no one else has acknowledged any losses. This is amazing. I mean, believe me, there are plenty of other losses out there. We’ve said we’re going to lose 270, 275 million. I think that’s a good estimate. But I think a lot of other people are, are going to lose very, they have to lose significant money. Somebody has to lose some significant money besides us on that.

And so what we have reported maybe the tip of the industry iceberg. I don’t think it’s the tip of the General Re Berkshire Hathaway iceberg. It’s our best estimate today of what that loss will be. If that estimate changes, I will let you know through the quarterly reports, or if it was really material, we’d, we’d have some announcement. But I don’t, I don’t anticipate that. But we’ll report to you faithfully, I promise you, as to how that loss develops over time. The business, what you read makes a great deal of sense, about when something’s too good to be true, it usually is, and that sort of thing.

That the distribution of the losses in the Unicover affair will probably not be fully settled 10 years from now. I mean, I have seen these things before in insurance and in other areas, particularly in insurance, where there are multitudes of parties and there are allegations of stupidity, there’s allegations of fraud, there’s allegations of misrepresentation, there’s allegations of everything. There are so many people involved, there are so many factual matters to be determined, there will be lots of litigation. It will take a long, long time to sort out the litigation. In the end, the losses will get paid by somebody. Our best estimate that we put up is 275 million, but we may find out far more in coming months and years as to the involvement of other parties, or we can find out a great many things, because there will be a lot, because there will be lots of litigation, not necessarily involving us, but that, that we will, as a, even as a viewer, we will be learning things about what took place.

Unfortunately, there have been some similar things in insurance. We were involved in something that had some similarities to this at National Indemnity 20 odd years ago, and it, it was very expensive to us. It didn’t cost us that many millions of dollars, but it happened at exactly that, the time that the stock market was down around the 600 on the Dow, and we did not know how big the losses would be. And therefore it, it, it caused us to have to be more conservative in investing in equities than would have otherwise been the case if this hadn’t been hanging over our head. So a conventional accounting will never pick up the loss that we suffered in that. It was called the Omni affair, and like I said, had some, I’m sure it had many differences too, but had some similarities. And, you know, it can, it’s distracting to have something like this.

That obviously there was some mix of, of mistakes, there’s some mix of misinformation. All of that will have to get sorted out. Our best guess right now is that, that when it’s all done, 10 years from now, 15 years from now, the 275 million will be our loss. That most certainly won’t be the exact figure, but like I say, if there’s any reason to revise that number upward, we’ll let you know promptly.

It is the nature of insurance that you get unpleasant surprises from time to time. Loews Corp bought CNA in the early 1970s, and just in the last few years there was a Fibreboard settlement on a policy, I believe it was written in the late ’50s, and there was a, as I remember, a $1.5 billion loss on something that, where the premiums were a few thousand dollars. GEICO has lost, so I remember, $60 million on a book of business that was written in the early 1980s where the total premium was less than $200,000. You know, how much of that is stupidity, how much of it is fraud, or who knows exactly? But you get, you, you can get some very unpleasant surprises in insurance, and unfortunately this will not be the last one. It won’t, won’t occur in the same place and won’t occur exactly the same way, but the nature of insurance is that the surprises are on the unpleasant side.

It’s not the kind of thing that happens when you’re writing personal auto insurance or anything of the sort. But when you write business where the claims pop up 10 or 20 or 30 years later, I think we’ve got a claim at a small workers comp company that we have that goes back 20 odd years, 25 years or so, and it’s just popped up to life in the last year or so, and it costs real money. So it’s a business where the surprises can come big and they can come late, and that will happen even with good management. But with good management, she’ll have fewer such surprises. Charlie?

Charlie Munger [04:02:08] Well, that was a marvelous question, and imagine anybody asking a question of how to get educated. Who knows how to educate people? It’s the same way you educate the dog, by rubbing his nose in it. And generally speaking, that was a, that was a dumb error. That was an amateur’s mistake. It doesn’t mean that General Re is suddenly full of amateurs. It was a rare lapse, just as at Berkshire we think the Omni affair was a rare lapse. I don’t think we’ve repeated it since, have we?

Warren Buffett [04:02:48] Were, I can’t think of a single one. But again, you know, we don’t know that we’ve repeated it. Well, these things pop up.

Charlie Munger [04:02:58] Right now? Oh, the answer is we haven’t repeated it. Yeah. So yes, it was a, it was a dumb amateurish error. These things do happen. We don’t think it reflects a sudden lowering of the intellectual standards of General Re, which are probably the best in the world. It’s just one of those things that does happen once in a while. And there’s one good side to these things: it does make you more careful. It really refreshes your attention to get banged on the nose like that.

Warren Buffett [04:03:33] Yeah. And it remains to be seen where the costs of that will be born, because the, the entire set of facts, and what was committed to and all of that, have, it’s not been resolved yet. In the Omni situation, we had significant disputes on the facts for some time, sometime, and we eventually recovered a fair amount of money that for a time it didn’t look like we would recover. So, you know, the final chapter on this is not going to be written for some time. But it was appropriate to set up $275 million as a reserve in terms of what we know at this time, and that number could go up, it could also go down, depending on the facts that we discover. Zone seven.

[04:04:24] Shareholder (Mike Thiele, Summit, New Jersey): My name is Mike Thiele from Summit, New Jersey. Would you please revisit the question of share repurchase for Berkshire Hathaway? We have heard today your comment about the price of Berkshire having been inefficiently priced from time to time in the past. We know that there are now more shares outstanding, and I’m curious as to whether the buildup of cash is causing you to spend more time looking for investment situations where you’re more comfortable on the 10-year outlook. Thank you.

Warren Buffett [04:05:19] The question of repurchasing shares, and I made that comment about it being inefficiently priced at times. It, at those times, it, it always seemed us, and we were incorrect in some cases, it always seemed us that there were other securities that were even less efficiently priced. When Berkshire in 1974 sold at $50 this year, I might have thought it was cheap but I also was looking at the whole Washington Post Company selling for $80 million when I thought it was clearly worth $400 million, and I did not think that Berkshire was as underpriced then as the Washington Post Company was. And that has been true at various times, when there have been times when I thought Berkshire has been underpriced or even significantly underpriced, but at the same time I was finding other things which I felt were even more attractive. And, and, and like I say, many times I was wrong. We would have been better off buying our own stock instead of buying the things that I was buying. But the, if we have money around and we think Berkshire is significantly underpriced, and we, and we’re not finding other things to do with money, it obviously makes sense for us to repurchase Berkshire shares.

I think it’s difficult for most companies in this market, even though repurchases are probably close to an all-time high, if not at an all-time high, I think it’s difficult for most companies to be repurchasing, habit repurchases shares make a whole lot of sense these days. I mean, I do not think they’re getting much for their money, because we don’t want to buy those shares ourselves. And it’s, I’m talking about a stock of various companies in the, in America. And yet companies are much more enthusiastic about repurchasing shares now than they were 20 years ago, when they were getting far, far greater returns from repurchasing. We will always, it’s an option that we will always think about, and we’re unlikely to do it unless we think it’s fairly dramatically underpriced, because it, it simply, we would want a big margin for error in making that kind of a decision. That, not want to, we would not want to buy a dollar bill for 95 cents or 94 cents or 93 cents. But there is some level where we would start getting excited if we didn’t have other uses for the money. Charlie?

Charlie Munger [04:07:45] Oh, I’ve got nothing to add to that.

Warren Buffett [04:07:49] Zone eight.

[04:07:49] Shareholder (Wes Thurman, Stanford, California): Good afternoon. Wes Thurman from Stanford, California. You mentioned earlier about the power of the brands on the internet, and I really can’t think of a better brand, at least in my name, as the Berkshire Hathaway brand. And I guess, going forward, have you thought about ways to, to use the Berkshire Hathaway name, you know, further on the internet to capitalize on the reputation you’ve built over the past decades?

Warren Buffett [04:08:21] Yeah, I, I think that’s a very good point, and it’s up, it is something that could be a real value. It’s already probably of some value to us with, with the brands that we’re associated with. I mean, I, I do think that, that Executive Jet, or the NetJets program, associated with Berkshire Hathaway, that, that Borsheim’s associated with Berkshire out of the way, Berkshire Hathaway Life associated with Berkshire Hathaway, I think those brands are enhanced by the association with Berkshire, as some of our other brands would be. But I think that’s got a long way to go. I think you’re dead right on that, that the, the internet reinforces the necessity for trust in dealing with people. I mean, you were, you’re getting further and further removed from the face-to-face dealing, where, where you can go back to the store the next day or look at the person who sold it to you the next day and, and, and, and get an adjustment or something of the sort. You’re really having to place more and more trust in somebody you’re never going to see.

And I think you’re right that the Berkshire Hathaway, if it behaves itself properly, can get a reputation for trust that will be far greater than that possessed by the average company, and that when we properly associate that with, with some of our brands, that those brands will be enhanced by the association. So I, no, I, I’ve thought a lot about what you’re talking about there, and then solve our managers, and it’s something that we intend to capitalize on in the future.

It’s rather interesting. I mean, if you look at the companies that do business with people where there’s no face-to-face interaction, either with the company itself or some intermediary like a retailer or anything of this sort, I mean, you’ve got Dell Computer, now you have Amazon.com. But GEICO is doing business with now 3.7 million policyholders, and it’ll do, for the years out, it’ll be close to 4.5 million, and probably 4 billion 8 or so of business with people that have never met anyone from GEICO. They’ve talked to someone on the phone. But we are one of the largest companies in the United States in terms of doing business on a direct to consumer basis. We’re doing it with people who on average are paying us $1,200 a year, they’re about, for a promise.

So we have a connection that, people that talk about the Amazons of the world, where people are buying X dollars worth of books, we have a much more direct connection with people who tend to renew with us year after year. That is based on trust. I mean, it’s not based on the, on the neighbor next door who is, who they can go to if they have a problem. It’s based on the fact they trust this company that’s in back in the District of Columbia, Washington, to perform in the future. And that’s, that’s a huge asset, and it’s growing daily. I mean, we’re adding policyholders every day who are, who are signing up with us, who have never met anybody from the company. And that already, I mean, it’s a very big asset. It will be many times bigger, in my view, 10 years from now. The Berkshire Hathaway umbrella that, that gets involved in one company after another like that, that people trust, I mean, we can be in an awful lot of homes over the years. And as more and more business becomes done on an indirect basis or a direct basis with the consumer, the power of that, in my view, should grow, and we just have to be very smart about how we maximize that growth. Charlie?

Charlie Munger [04:12:32] Nothing to add.

Warren Buffett [04:12:33] Okay. Zone one.

[04:12:33] Shareholder (David Zelker, Redmond, Washington): Hi, my name is David Zelker, and I currently live in Redmond, Washington, where I work for one of your good friends. So if I get into trouble for having taken a busy Monday off work, maybe if I give you a call you could put in a word for me.

Warren Buffett [04:12:51] If it’s without pay, we won’t complain.

[04:12:53] Shareholder (David Zelker, Redmond, Washington): It’s vacation. Yeah, my, my question is about how you two assign value to certain intangibles that I know you look at when you value companies. Anyone who’s read your writings knows that you look for great management and economic moats, as you call them, that enable companies to raise prices and margins. I’d like you to drill down with us and tell us what to you are the signs of great management and economic moats. Furthermore, do you try to put a dollar value on those management and moats and other intangibles when you value companies, and if so, can you guide us through your thinking there? And lastly, I’m interested in how you pick your discount rate. I’m actually an alma mater of yours from business school, and I learned a bunch of junk about beta too. I read that you just assigned the Treasury rate, and not sure if that’s right, but I’d love you to talk about your discount rate, and I’d really appreciate as much detail about your thinking as you can give us.

Warren Buffett [04:13:49] Yes, we do. We think in terms of the Treasury. But as I said earlier, that doesn’t mean we think once we’ve discounted something at the Treasury rate that that’s the right price to pay. We use the Treasury rate just to get comparability across time and across companies. But a dollar earned from a horseshoe company is the same as a dollar earned from an internet company in terms of the dollar. So it is not worth more based on the, whether somebody’s, it comes from somebody named .com, you know, or somebody that named, you know, the old-fashioned horseshoe company. The dollars are equal. And our discount rates may reflect different experience, different expectations about future streams of income, but, but they don’t reflect any difference in, in terms of whether it comes from something that the market is all enthused about or, or otherwise.

The, the moat in the management are part of the valuation process, in that they, they enter into our thinking as to the degree of certainty that we attribute to the stream of income, stream of cash, actually, that we expect in the future, and the amount of it. I mean, it is, you know, it is, it’s an art in terms of valuation of businesses. The, the formulas get simple at the end. But, but if you and I were each looking at the chewing gum business, we all know Wrigley, so I use Wrigley’s fairly often in, in class, pick a figure that you would expect unit growth of chewing gum, you know, to grow in the next 10 or 20 years. Give me your expectations on, on how much pricing flexibility you have, how much danger there is that Wrigley’s share of market is dramatically reduced. You can go through all of that. That’s what we go through. That is, and in the, in that case, we are evaluating the moat, we are evaluating the price elasticity, which interacts with the mode in certain ways, we’re evaluating the likelihood of unit demand changing in the future, we’re evaluating the likelihood of the management being either very bright with the cash that they develop or being very stupid with it. And all of that gets into our evaluation of what that stream of money looks like over the years.

But the value of how the investment works out depends on how that stream develops over the next 10 or 20 years. We had a question earlier today that, that, that made certain suppositions about what could happen at Berkshire, and the formulation was, was exactly right. The question of what numbers to use, another question, but the formulation was proper. And that formulation, the mode enters into that. If you have a, if you have a strong, big enough moat, you don’t need as, you don’t need as much management. You know, it gets back to Peter Lynch’s remark that he likes to buy a business that’s so good that an idiot can run it, because sooner or later one will. Well, that’s, I mean, he was saying the same thing. I mean, he was saying that what he really likes is a business with a terrific moat, where nothing can happen to the moat. And there aren’t very many businesses like that.

But then, so you get it, you get involved in evaluating all these shadings. This, not the cherry version but the regular version, this one has a terrific moat around it. There’s a moat even in this, you know, in, in the container. You know, I, there was some study made as to what percentage of the people could identify blindfolded what product they were holding just by grabbing the container, and there aren’t many that could score like Coca-Cola in that respect. So here you’ve got a case where that product has a share of mind. There’s 6 billion people in the world. I don’t know what percentage of them have something in their mind that’s favorable about Coca-Cola, but it would be a huge number. And the question is, 10 years from now, is that number even larger, and is the impression just a slight bit more favorable on average for those billions of people that have it? And that’s what the business is all about. If that develops in that manner, you’ve got a great business.

I think it’s very likely to develop in that manner, but that’s, that’s my own judgment. I think it is a huge moated Coca-Cola. I think it varies by different parts of the world and all of that. And I think on top of it, it has a terrific management. But that, there’s no formula that gives you that precisely, you know, that says that the mode is 28 feet wide and 16 feet deep, you know, or anything of the sort. You have to, you have to understand the businesses. And that’s what drives the academics crazy, because they know how to, they know how to calculate standard deviations and all kinds of things, but that doesn’t tell them anything. And what really tells you something is if you know how to figure out how wide the mode is and whether it’s likely to widen further or, or shrink on you. Charlie?

Charlie Munger [04:18:48] Well, you aren’t sufficiently critical of the academic approach. The academic approach to portfolio management, corporate finance, etc., etc., it’s very interesting. It’s a lot like Long-Term Capital Management. How can people so smart do such silly things? And yet that’s the way it is.

Warren Buffett [04:19:16] That’s the great book that needs to be written, really, is, you know, why do smart people do dumb things? And it, it’s, it’s terribly important that, because we’ve got a lot of smart people working with us, and, you know, if we can just exercise all the, the dumb things. But, you know, it’s just amazing what’ll happen. And to some extent, the record of Berkshire, to the extent it’s been good, has been because we’ve not, because we’ve done brilliant things, but we’ve probably done fewer dumb things than, than most people. But why smart people do things that are against their self-interest, well, is really puzzling. Charlie, tell me why.

Charlie Munger [04:20:01] Well, they, you could argue that the very worst of the academic inanity is in the liberal arts departments of the great universities. And there, if you ask the question, what one frame of mind is likely to do an individual the most damage, to his happiness, to his contribution to others, what one frame of mind will be the worst, and the answer would be some sort of paranoid self-pity. Couldn’t imagine a more destructive frame of mind. Now you hold apartments that want everyone to feel a victim, and you pay money to send your children to places or this is what they teach them. It’s, it’s amazing how these pockets of irrationality creep into these eminent places. One of the reasons I like the Berkshire meetings is I find fewer of those silly people. (Applause)

Warren Buffett [04:21:12] He excluded the head table from edmure. Zone two.

[04:21:17] Shareholder (Gaylord Hanson, Santa Barbara, California): My name, my name is Gaylord Hanson. I’m from Santa Barbara, California, and I’m a rookie as an investor with Berkshire Hathaway, because I only started investing last November. And if this is a typical annual meeting, I will be here every first Monday of May the rest of my life.

Warren Buffett [04:21:42] And we’ll be glad to have you.

[04:21:45] Shareholder (Gaylord Hanson, Santa Barbara, California): Thanks. Now, I’m very proud to have finally uncovered Berkshire Hathaway and am an investor, but I may have made a slight error in which issue to buy, A or B. I watch my investments rather closely, and I do believe in buying and holding. I don’t buy and trade at all. I buy, I’ve got things I bought 10, 15 years ago, and I still haven’t, and I’ve made a lot of money. But I made an analog, I make an analysis every December 31st on my portfolio. And I looked at Hathaway A and I looked at Hathaway B on January 1st, and again on the 23rd of April. Hathaway A was up 10 since January 1st, half the way B was 5.3%. Now, I don’t like that. Now, I must confess that I’m not into, I’m not inclined to buy a $77,000 stock and buy one for five or ten shares. But in this instance, because I bought a fair, a fair little bit of it, I bought the B, and my, in my increase in value per share is 4.7% less in B than in A, and I gotta have that explained to me by Mr. Buffett.

Warren Buffett [04:23:29] Okay. (Applause)

[04:23:30] Shareholder (Gaylord Hanson, Santa Barbara, California): I have one other, one, one further comment. You mentioned the 30, 30 times, the bead being an A value. Well, if I multiply the value on the 23rd of May, of April, of $2,474 per share by 30, I come up with 74,220, but the price of A was 77,000. Now I want to know whether I’m stupid or something. Good intelligent answer from Mr. Buffett.

Warren Buffett [04:24:04] Okay. The, if you’ll read what we’ve got both in the original offering on the, on the B, as well as on the website explaining everything, the A can always be converted into 30 shares of B, so it, it can’t sell for anything other than a very tiny amount less than 30 shares of B, and if it went below that, arbitrage would occur. But it doesn’t convert the other way. So there’s no question that whereas a share of B can never be worth more than about 1/30th of A, it can be worth less, because the conversion doesn’t run the other way.

Now, at year end, I didn’t, I, I don’t, I didn’t look at the prices, but obviously the A and B were at almost parity, or probably a parody from what you say. And at that level, we say that if you’re buying at least 30 shares of B, you’re better off buying the A, because you can always go, you can always convert it into 30 shares of B, and without having paid any premium, you can’t lose money, and you can gain money if the B goes to a discount. The B will periodically go to a discount against the A. It depends on the supply and demand of the two securities. The B will not go to a premium above the A of any significant amount, because then conversion occurs, and we’ve had a lot of conversion occur.

I have personally said on the, on the website, for example, that I think when the B is at more than a 2% discount, I would rather buy the B if it was me, but if it’s at less than a 2% discount, I’d probably buy the A, because I just think that you’ve always got the right to go one direction and you don’t have the right to go the other direction. I would predict, as I think I did just a little earlier, that if you take the next 10 years, you’re going to find a significant number of months when they, the two stocks traded parity at 30 to 1 relationship, and you’re going to find a significant number of months when the B sells an at a discount. When people who are buying smaller amounts are the more aggressive buyers of the stock, they will push the B up to the point where A gets converted into B, and that means that the B is selling at a slight, very slight premium over the A. And when you find times when people are, are on balance preferring their larger buyers, maybe institutional buyers, and they will tend to sell at some premium.

I think that, I think you may have picked on April 23rd. My guess is it’s narrowed a little bit, because I think it’s a 3 and a fraction percent discount at the moment. But I would, I would sort of use that guideline I stuck on the website, although there’s nothing magical about it. Those will be the prevailing facts. I mean, that if, if, if, if the B is selling at 2,500 and the A is selling at 75,000, a 30 to 1 relationship, and you are buying at least $75,000 worth of stock, I advise you to buy the A, because the next day, if you wanted to, you could convert it into 30 shares of B. And, but you can’t buy, you can’t buy 30 shares of B and convert it into one share of A. So I’m not sure, on the day you actually bought, if you bought B, it sounds as if you did, on the day that you actually bought B, I don’t know whether you were buying it at a discount or not. Most of the time last year it did not sell at the discount. Most of the time this year it has sold at a discount. There will be times when it will sell parity, and there’ll be times when it sells at a discount. Charlie?

Charlie Munger [04:27:40] Yeah, when you made your original decision to buy the lower priced of the two stocks, you made a mistake.

Warren Buffett [04:27:49] Well, if he was buying at least 30 shares.

Charlie Munger [04:27:53] Yeah, if you were buying at least 30 shares. And now that the stock, the B stock is down to such a discount versus the A, Warren is saying he would hold the B. What could be simpler?

Warren Buffett [04:28:10] We’ll try and make both the A and B work out fine. But it, there, you should understand the relationship of the two, and we tried to be extremely clear about that when we brought, we had a page that, which we devoted precisely to that point. And, and, and we have put, I put this thing up on the website because I was getting some mail that was questioning, people clearly didn’t understand it. So I, I put this up on the website, and if you click on the, our home page, you will see some, some reference to something else you can click that says the relative situation on the A and B, and I hope it’s clear. Zone three.

[04:28:53] Shareholder (John Liu, New York City): Hi, my name is John Liu from New York City. First, let me start out by thanking both of you for the incredible education that you’ve provided me through your annual reports and various presentations that you’ve given in public and in publication. I was about to send you my tuition check last week, but instead I decided to buy more shares of your company. I hope you’ll forgive me.

Warren Buffett [04:29:21] No, you learned well. (Laughter)

[04:29:23] Shareholder (John Liu, New York City): My question basically centers around the insurance industry at present. Right now there’s excess capacity, which comes and goes, typically speaking, but there seems to be a trend towards international consolidation, and also there seems to be a trend towards demutualization in the life insurance companies in the U.S. I was wondering if you could give us your thoughts on what the future face of the insurance industry will look like.

Warren Buffett [04:29:52] Yeah, both of those trends do exist that you talked about. I don’t think that consolidation usually solves many problems. I mean, if you have two lousy businesses and you put them together, you got a big lousy business, usually. And I, I am not a big fan of consolidation where the theory is that you’re going to, you really have two very mediocre businesses and you’re going to bring the costs out of one, and it doesn’t, it just doesn’t work that way in, in, in my experience. But the consolidation will go on, and the demutualization of life companies will go on. It’s not, it inconceivable that we would play some part in one or the other in some way, although it’s not high on our list. But I’ve learned in this business never to say never, because things do happen that, that, that caused me to want to retract some earlier statements.

The, the winners are going to be the people that have some franchise based on specialized talents, on terrific distribution systems, managerial know how, even the ability to use the float effectively. And in the case of something like GEICO, on the superior, it’s combined with the franchise, the superior distribution system. We have the low-cost method of distributing personal auto insurance on a, on an all comers basis. USAA does a terrific job of delivering low-cost insurance to a specialized group. GEICO actually came, in a sense came out of USAA, and Leo Goodwin and his wife Lillian, who founded the company in 1936, were both employed by USAA, and Leo, as I remember, was an officer of the company. So the idea of GEICO came out of a USAA, but they’ve limited to a given class. We offer to everybody in the country, except we can’t offer it in New Jersey or Massachusetts, because we can’t figure out any way to make any money there. A 20th Century has done a terrific job of becoming a low-cost operator in a given urban area, in the, in the greater Los Angeles area. But in terms of an all comers, all geography, all occupation type operation, in my view GEICO is the best operation in the United States.

And better yet, consumers around the world are agreeing, around the country are agreeing with that view. A GEICO gained last year 20.8 policyholders. This year, and the 12 months ended March 31st, it’s up 22.5 policyholders. These are on big numbers, the base, and the, and the growth is, has accelerated. So that kind of, that, that sort of advantage will make for a good insurance, a very good insurance business over time. I think the average insurance company is going to remain very average, and there is a lot of capital in the industry, as you pointed out. There’s more capital in the industry than there is opportunity to use it intelligently, and nevertheless, it doesn’t go away. You are not, you are not seeing consolidation that takes away a lot of the capital, the industry. You’re not seeing massive, or anything of the sort.

So the capital is there, it’s seeking an outlet in premium volume. That actually hurts a General Re to an extent, because it means that the primary companies want to retain more of the premium they generate, just so they can show some kind of growth against this capital base. I think generally we’re very well positioned in the industry. I think the industry will be tougher in the next few years by a significant margin in the personal auto business, but frankly I look forward to it, because I think we, it may offer us the opportunity to grow even faster. We’ve, you know, we, we have, we have the best vehicle in a very, very big industry, the, the auto insurance business, and we’ve got incredibly good management to take advantage of that. And we’ve got policies available as you leave the door. Charlie?

Charlie Munger [04:34:23] Nothing to add.

Warren Buffett [04:34:24] Zone four.

[04:34:24] Shareholder (Paul Worth, Wichita, Kansas): Good afternoon, and thank you. My name is Paul Worth. I’m from Wichita, Kansas, and my question is as follows. For the consumer franchise companies that Berkshire owns, Coca-Cola and Gillette in particular, in which emerging markets do you see the greatest 10-year potential for unit sales growth, and what economic, political or social changes are precipitating that growth? Secondly, do you believe that the U.S. market cap as a percent of the world’s, at 53%, is near its zenith, and which countries do you believe will likely show the greatest percent growth in total market cap?

Warren Buffett [04:35:08] Well, I wish I had the answers. The, the first question, though, obviously, when you’re dealing with something like Coke’s, is raw numbers. I mean, there’s huge potential in a country, you know, with the largest country in the world, in China, where the per capita consumption is very low, but it’s growing very fast. So it’s very easy for me to predict, and probably be right, absent some tremendous up people or some real surprise, that the China would be the fastest growth market among countries of any size in the world for Coke from this level. But that’s, that’s based on the fact that you just got a huge number of people to clearly like the product that are starting from a very low base, and where a lot more bottling infrastructure is going to be needed, but which will be supplied to facilitate that growth.

With Gillette it’s a little different. People are already shaving. What you do is you upgrade the shaving experience that they have. So you have, you have great differences in the quality of the blades available, great differences in the quality of the blades available from shaving systems when you get into the more advanced ones, and they’re, they trade up, and they get a much more enjoyable shaving experience. They get better shaves than was the case when they were forced to rely on the lowest priced product. But both of those companies have tremendous opportunities as the prosperity around the world, as the standard of living grows. And, and, and there’s just no doubt in my mind that in the blade and razor business for Gillette, which is only a third of their business, but years and all of that sort of thing. But, but I would almost guarantee you that 10 or 20 years from now, both of those companies will be doing a lot more business in, in their, in those areas I named than currently.

And, you know, it, we don’t fine-tune it a lot more than that. I mean, that, and I, I do not sit and work out, try and work out country by country what’s going to happen with a, a Gillette or Coke. It, it would be a waste of time. I wouldn’t know the answer anyway. But, but I’m, I’m pretty sure the conclusion, that, that both of them will prosper a great deal, and I would hate to be competing with either one of them, here or anywhere else in the world. I mean, they, they have the winning hand. Charlie?

Charlie Munger [04:37:50] Well, I’d agree with everything you said, and I’d like to add that if, if I knew for sure that the United States share of worldwide market capitalization was going to go from 53% down to 40%, I wouldn’t know how to make money out of that insight by running around buying foreign securities.

Warren Buffett [04:38:18] Yeah, we just don’t operate on that basis. And I mean, you know, a few years ago emerging markets were all the rage, and every institution in the country was getting promoted by somebody who said, I’m going to run an emerging markets fund, and they felt they had to participate in it, and their advisors told them they had to participate. We regard that all as nonsense. You know, and in the end, you just have to think for yourself about what you know and what you don’t know, and, and, and go where that leads you. And you don’t do it by buying into things with, with names on them, or sectors, or any of your country funds, or that stuff. You know, that, those, that’s merchandise that’s designed to sell to people, and it’s usually a sold to people at the wrong time.

Charlie Munger [04:39:06] Yeah, our game is to find a few intelligent things to do. It’s not to stay up on every damn thing that’s going on in the whole world.

Warren Buffett [04:39:16] Yeah. Zone five.

[04:39:17] Shareholder (Everett Puri, Atlanta, Georgia): Hello, my name is Everett Puri. I’m from Atlanta, Georgia, and I’ve took two questions. One is from Mr. Munger, in our never-ending effort to have the Munger buttons. The second is, it seems that with the pharmaceutical industry earlier, that the threat of government regulation or government appropriation of those cash flows led to a reasonable market opportunity, and the same thing with Sallie Mae. And I’m wondering if you feel that that’s going on with the tobacco industry now, or if that is a larger threat to that industry, larger and permanent threat.

Charlie Munger [04:40:09] Well, number one, the books. Hagstrom sent me chapters of his latest book on Warren Buffett, called The Buffett Portfolio, and I didn’t read them, because I thought his first book was a respectable book but didn’t contribute too much to human knowledge. And anyway, he sent me the second book, a full version, and I read it, and I was flabbergasted to find it not only very well written but a considerable contribution to the census. Well-written But a considerable contribution to the synthesis of… Of Hagstrom’s second Buffett book, I noticed the airport was heavily promoting it, and it’s called The Warren Buffett Portfolio. It doesn’t pick any stocks for you, rationally. Another book that I liked very much this year was Titan, the biography of the original John D. Rockefeller, business biographies I have ever… That is just a wonderful, wonderful book, and I don’t know anybody who’s read it who hasn’t enjoyed it. So I would certainly recommend that latest biography of John D. Rockefeller the first.

The third book is sort of a revisitation of the subject matter of the book I recommended a year or two ago called Guns, Germs and Steel, which was a physiologist’s view of the economic history of man, and it was a wonderful book. And much of that same territory has now been covered by an emeritus history professor from Harvard who just knows way more economics and science than is common for a history professor, and that gives him a better insight. And his book is a takeoff entitled Adam Smith, and the title is The Wealth and Poverty… This book is a takeoff entitled Adam Smith, and the title is The Wealth and Poverty, and the guy’s name is Landes. So I would hardly recommend the… White, tobacco and pharmaceutical? Oh, tobacco. I don’t know about Warren, but I think the legislative threat to tobacco is serious, and I haven’t the faintest idea of how to predict it.

Warren Buffett [04:42:53] Yeah, I would say that there’s no comparison between the threat to tobacco currently with the threat to pharmaceuticals in 1993, that the problems of the tobacco companies are of a far different order than the problems of the pharmaceutical companies. No, pharmaceutical companies, nobody was against pharmaceuticals, they were just abusing and all of that. But tobacco’s a different story. I mean, tobacco companies, well, you can figure it out for yourself.

The, in terms of, in terms of books, I would recommend, many of you may have read it, but, and this, but this goes back more than a year, but I would, if you haven’t read Katharine Graham’s autobiography. Yeah, it is one terrific book. It’s in it, it’s a very incredibly honest book, and it’s a fascinating story. I mean, it’s a life that’s seen all kinds of things in politics and in business and in government. So I, it’s a great read. A book that came out in the, just in the last few months in the investment world that I would certainly recommend everybody is Common Sense on Mutual Funds by Jack Bogle. Jack is an honest guy, and he knows the business, billions of dollars a year, and he, I, he asked me for a burb on the book, and I was delighted to provide it.

Let’s go to zone 6, please.

[04:44:40] Shareholder (Mohnish Pabrai, Chicago area): Good afternoon, Mr. Buffett, and good afternoon, Mr. Munger. My name is Mohnish Pabrai, and I’m from the Chicago area. You may, at the pace at which you answer my letters point by point… I have a question for you related to circle of competence. I have a notion that both Mr. Munger and yourself understand the Kleiner Perkins model of early stage venture capital investing, and currently they’re focused on the internet space, extremely well. My notion is that I think it is well within your circle of competence to understand what they do, just like you understand what your managers that See’s Candy or Executive Jets do.

So the question is that, with the internet, I think we’re seeing a change that has not been seen in the last 500 years. As humans, we haven’t seen something that is as dramatic and as profound that’s going to come upon us. If, let’s say, a John Doerr at Kleiner Perkins approached you and said that they were starting, let’s say, a billion dollar early stage or later stage internet investment fund that Kleiner would manage, would you consider that, would you consider participating in that investment to be within your circle of competence, if it were offered at terms that looked attractive?

Warren Buffett [04:46:24] I agree with the first part of what you said. I mean, I’m not sure that it’ll necessarily will be the most important thing in the last 500 years in the commercial world, but it could well be, and if it isn’t, it’s right up to your development. But, and I would say that Charlie and I both understand the process of early investment slash promotion probably as well as anyone. We haven’t participate in it. There’s certain things we don’t even like about it, but we do understand it. Right, Shirley? And I would say that no, we would not have an interest in investing in the fund.

We do not necessarily regard the internet… There’s no question, if you’re in the early stages of promotion and you particularly got a success reputation as a successful in that, but in this case it wouldn’t make much difference because the whole field has gone wild, you will make a lot of money selling to the next stage and the next stage in the next stage. But in terms of picking out businesses that are going to do wonderfully as businesses, out of stocks for a while, but as businesses, I don’t think it’s necessarily so easy in the internet world.

And I would say that if you were to ask some very top names in the field to name the next five companies out of the shoot or the next 10 companies out of the shoot, and predict that one of them will earn, say, the $200 million I used as a threshold six or seven years from now, I’m not so sure they, if they gave you a list, that they would name a single one. That doesn’t mean they might not make a lot of money by being early investors in them, because they sell out to the next group and so on. But in the end they have to succeed as businesses, and a few will succeed as businesses. The internet will have a huge impact on the world, but I’m not so sure that that makes it an easy investment decision. Charlie?

Charlie Munger [04:48:41] Well, at least it’s not an easy investment decision for us, and that’s what we’re looking for.

Warren Buffett [04:48:46] Yeah, we will never turn our money over to somebody else. You know, if we’re going to lose your money as Berkshire shareholders, we’re going to lose it ourselves, and we’re going to come back and look in the eye and tell you how we lost it. We are not going to say this game is too tough, so we’ll give our money to somebody else. You can give your money to somebody else, and you don’t need the intermediaries.

All the time, I had a call, you know, in the last couple of days on something you would know very well about, participating in some funder. And they always have, you know, it’s always stage one, stage two, stage three, and the idea is we get some more people to come in later at twice the price, and maybe the fact that our name is involved and it will cause people to pay even more. Turn the money over to someone else to manage? It’s your money. You gave it to us to manage. We’ll manage it. If you decide you don’t want us to manage it, you decide who you give it to. It, we’re not going to be intermediaries on it. And if we don’t understand something ourselves, we’re not looking for any, anybody else to do it for us. The world doesn’t work very well that way anyway. I mean, it usually end up in the hands of the promoters and not the hands of the people who really know how to make money. Okay, zone 7.

[04:50:20] Shareholder (Peter): Good afternoon, Warren, Charlie.

Warren Buffett [04:50:21] Hi, Peter. Good to see you.

[04:50:24] Shareholder (Peter): I’d like to ask you what your thought process was when you, or share with us your thoughts when you decided to sell McDonald’s.

Warren Buffett [04:50:33] That must have been Charlie’s idea, Peter. Peter, incidentally, is in a family that four generations have essentially invested them with us, and they’re all terrific people, I might add. Is dad was a wonderful guy. The, you know, I said it was a mistake, and to sell it, and it was a mistake, and I just reported that in the interest of candor. And there were some reasons why I thought it was something we, I didn’t think was, I didn’t think obviously there was any great short sale or even a great sale, but I didn’t think it belonged in the list of eight or ten of the businesses, of the very few businesses that we want to own in the world.

Charlie Munger [04:51:24] And I would say that that particular decision has cost you in the area of a billion dollars plus.

Warren Buffett [04:51:31] Charlie, you want me to rub your nose and… You’re doing it, you’re doing a pretty good job by yourself.

Charlie Munger [04:51:39] By the way, that’s a good practice around Berkshire. We do rub our own noses in it. We don’t even need the help of the counters. (Laughter)

Warren Buffett [04:51:49] We believe in post-mortems at Berkshire. I mean, we really do believe… One of the things I used to do when I ran the partnership is I contrasted all sale decisions versus all purchase decisions. It wasn’t enough that the purchase decisions worked out well, they had to work out better than the sale decisions. And managers tend to be reluctant to look at the results of the capital projects or the acquisitions that they propose with great detail a year or two earlier to abort, and they don’t want to actually stick the figures up there as to how the reality worked out against the projections, and that’s human nature.

But I think you’re a better doctor if you drop by the pathology department occasionally, and I think you’re a better manager or investor if you look at every one of the decisions you’ve made of importance and see which ones worked out and which ones didn’t, and, you know, what is your batting average. And if your batting average just gets too bad, you better handle the decision making over to someone else. Charlie, you want to rub my nose anymore?

Charlie Munger [04:52:57] No.

Warren Buffett [04:52:58] No, that’s okay. Okay, we’re zone 8.

[04:53:00] Shareholder (Ian Sacks, New York City): Good afternoon. Ian Sacks from New York City. This afternoon, through various questions and comments, we mentioned the fact that the word trust, which Berkshire Hathaway and the brand has, we’ve mentioned basically health and the importance of health, and that being above everything else. With Berkshire’s competencies in the insurance industry, and with the health care services sector being relatively depressed, is, although the dynamics would be different in the industry, how risk is managed on an overall basis, has Berkshire looked at all in terms of taking a position or buying a health insurance business?

Warren Buffett [04:53:45] Charlie runs a hospital, so I’m gonna let him talk about this.

Charlie Munger [04:53:50] Sure, we’ve looked a little. We looked at everything in turmoil that’s important in the world, but so far it seem hasn’t yield our particular mental approach. I don’t know who I would want to get in with in that business at the moment. That, that’s not, I’m not condemning the people in the business. It just means I don’t know. I’m not, I’m not, I haven’t been able to evaluate that.

Warren Buffett [04:54:22] And I think it would make an enormous difference in terms of the, want to get in with a quality operation and quality people, and at a sensible price, and the significance of sloc operators in the field who are painting the reality different than it is, that makes it harder. Zone 1.

[04:54:54] Shareholder (Eric Tweedie, Shavertown, Pennsylvania): Eric Tweedie from Shavertown, Pennsylvania. I just want to express our appreciation of regarding all the operating businesses that we’ve visited. They’ve been very warm and hospitable. In fact, when we visited Executive Jets at the airport, the tour was so impressive my wife wanted to buy an airplane.

Warren Buffett [04:55:16] What’s your name? What’s your name?

[04:55:19] Shareholder (Eric Tweedie, Shavertown, Pennsylvania): Well, I won’t say that. (Laughter) American Express declined the $500,000 we tried to put in my car. You can thank the chairman for me next time you see him. Just kidding. But my question regards basically approach to investing. I’ve been investing my own money in equities for about 10 years, in my results overall have been relatively good. In the process, however, I’ve taught myself some very painful and costly lessons. For instance, my first equity ever purchased was a share of Berkshire Hathaway for $5,500 in 1990, and I sold it three months later for something over $8,000, and congratulated myself for the rap and shrewd profit. And earlier this year I repurchased the same share for $70,000, and I intend on it for the rest of my life. So you can see I’m growing.

My question is, I have no formal education in accounting and finance, and I would just like some advice from you regarding an approach to educate myself in a reading list of basic texts, obviously starting with the Berkshire Hathaway annual reports. Thank you.

Warren Buffett [04:56:35] I thank you particularly for your comments about the people from our operating companies, because they have just been terrific. They come out here, you know, they are here at five in the morning, they, I mean, they do a tremendous amount of work over this weekend. They’re cheerful. I’ve met with them all on Saturday at lunch, and I mean, they’re just one sensational group of people, and, you know, I’m very proud of them, and the managers should be very proud of the people they’ve brought with us. And I hope you get a chance to thank as many of them as possible personally. Incidentally, at the See’s counter you’ll find Angelica Stoner, who’s been with us for 50 years, and, you know, here she comes.

From California to help us out and sell peanut brittle, and she’s having a good time doing it today. (Applause)

And the question you ask is a very good one about, you know, in terms of accounting and finance, what’s the best way to teach yourself. I was always so interested in it from such a young age that I, my approach was to go to the Omaha, originally was to go to the Omaha Public Library and just take out every book there was on the subject. And I learned a lot. I learned a lot that wasn’t true in the process too. I got very interested in charting and all that sort of thing, and buying stocks, but I did it by just a tremendous amount of reading. But it was easy for me because, you know, it was like going to baseball games or something of the sort. And in terms of naming specific texts and accounting, and I think you may re-, you may want to read some of the better, even magazine articles that have appeared. I mean, there’s been, there been, or newspaper articles, there have been some good commentary about accounting there. I don’t have… Can you think, Charlie, of any specific texts or anything we could recommend?

Charlie Munger [04:58:44] I think both of us learn more from the great business magazines than we do anywhere else, just to riffle through issue after issue after issue covering a great variety of businesses. And if you get the mental habit of relating what you’re reading to the basic structure of the underlying ideas being demonstrated, you gradually accumulate some wisdom about investing. I don’t think you can get to be a really good investor over a broad range without doing a massive amount of reading. I don’t think there’s any one book that will do it for you.

Warren Buffett [04:59:30] Yeah, you might think about picking out five or ten companies where you feel quite familiar with their products, maybe, but not necessarily so familiar with their financials and all of that. But pick out something so at least you understand what, if you understand their products, you know what’s going on in the business itself. And then, you know, get lots of annual reports, and through the internet or something else, get all the magazine articles that have been written on it, on those companies for five or ten years. Just sort of immerse yourself as if you were either going to work for the company, or they’d hired you as the CEO, or you’re going to buy the whole business. I mean, you could look at it in any of those ways. And what, and when you get all through, ask yourself, what do I not know that I need to know?

And back many years ago, I would go around and I would talk to, I would talk to competitors always. You’d talk to employees of the company and ask those kind of questions. That’s in effect what I did with my friend Lorimer Davidson when I first met him at GEICO, except I started from ground zero, but I just kept asking him questions. And that’s what it really is. One of the questions I would ask, if I were interested in the ABC company, I would go to the XYZ company and try and learn a lot about it. Now, you know, there’s spin on what you get, but you learn to discern. Essentially you’re being a reporter. I mean, it’s very much like journalism.

And if you ask enough questions… Andy Grove has in his book, he talks about the silver bullet. You know, you talk to the competitor and you say, if you had a silver bullet and you could only put it through the head of one of your competitors, which one would it be and why? Well, you’ll learn a lot if you ask questions like that over time. And you ask, yes, somebody in the XYZ industry, and you say, if you’re going to go away for 10 years, you had to put all your money into one of your competitors, the stock of one of your competitors, not your own, which one would it be and why? Just keep asking and asking and asking. And you’ll have to discount the answers you get in certain ways, but you will be getting things poured into your head that then you can use to reformulate and do your own thinking about why you, why you evaluate this business at this or that.

The accounting, you know, you just sort of have to labor your way through that, might, I mean, you may be able to take some courses even in that. But the biggest thing is to find out how businesses operate, and, you know, who am I afraid of? If we’re running GEICO, you know, who do we worry about? Why do we worry about them? You know, who would we like to put that solar bullet through? I’m not going to tell you that the, they, you know, it’s, it… You keep asking those questions, and then you go to the guy they want to put the silver bullet through and find out who he wants to put this over both. It’s like who wakes up the bugler, you know, and they’re bringing Berlin song. And that’s the, that’s the way you approach it, and you’ll be learning all the time.

You can talk to current employees, ex-employees, vendors, suppliers, distributors, retailers. I mean, there’s customers, all kinds of people, and you’ll learn. But it, but it is a, it’s an investigative process. It’s a journalistic process. And in the end you want to write the story. I mean, you’re doing a journalistic enterprise, and six months later you want to say the XYZ company is worth this amount because, and you just start in and write the story. And some companies are easy to write stories about, and other companies are much tougher to write stories about. We try to look for the ones that are easy. Charlie?

Charlie Munger [05:03:09] Yeah, for the histories of the thousand biggest corporations laid out in digest form, I think Value Line is in a class by itself. That one volume really tells a lot about the histories of our best companies.

Warren Buffett [05:03:28] If you just look, there’s 1,700 of them. If you look at each page and you look at sort of what’s happened in terms of return on equity, in terms of, and in terms of sales growth, profit, all kinds of things, then you say, why did this happen? Who let it happen? You know, what’s that chart going to look like the next 10 years? Because that’s what you’re really trying to figure out. Not the price chart, but the chart about business operation. You’re trying to print the next 10 years of Value Line in your head. And there’s some companies that you can do a reasonable job with, and there’s others that are just too tough. But that, that’s what the game is about. And it can be a lot of, I mean, if you have some predilection toward it, it can be a lot of fun. I mean, the process is as much fun as the conclusion that you come to.

Charlie Munger [05:04:17] Of course, what he’s saying there, when he talks about why, that’s the most important question of all. And it doesn’t apply just to investment, it applies to the whole human experience. You want to get smart, the question you got to keep asking is why, why, why, why. And you have to relate the answers to a structure of deep theory, and you got to know the main theories. And it’s mildly laborious, but it’s also a lot of fun.

Warren Buffett [05:04:50] Zone 2.

[05:04:50] Shareholder (Patrick Wolff, Cambridge, Massachusetts): Good after-, good afternoon, Mr. Buffett and Mr. Munger. I’m Patrick Wolff, formerly from Cambridge, Massachusetts, and soon to be from the San Francisco area. Like many people around the world who want to learn about business, I’ve read all of your letters to the shareholders, and like many people here in this room, I was so impressed that I bought a piece of the company. But I must admit that in studying Berkshire Hathaway, there’s one element that I didn’t quite understand, and I’d love it if you could please explain it, and that is the following. How does Berkshire Hathaway add value to the various wholly owned companies in the manufacturing, services and retail division?

And the reason I asked this question is, as you yourself said earlier this morning, it’s very difficult in negotiated purchase agreement to buy a company for anything other than what it’s truly worth. So if Berkshire Hathaway is going to create value by buying such fantastic companies as the Nebraska Furniture Mart or See’s Candies or any of the other fantastic businesses we have, there must be some way in which Berkshire Hathaway adds to that value. Could you please explain how we do that?

Warren Buffett [05:06:18] In certain specific cases. Okay, in certain specific cases, the case of General Re being the most… Why we thought there was at least a reasonable chance that the ownership by Berkshire would add value, and we got into various reasons about the ability to use the flex advantage, float and tax advantages, and the ability to move faster around the world. And that’s, we’ve actually spelled out, like, in that case. I think in the case of something like Executive Jet, you might well figure that there are some reasons why association with Berkshire would put Executive Jet on the map and in the minds of people who could afford to buy fractional ownership planes faster than might otherwise be the case. But usually the situation… So there are specific cases where we bring something to the party.

But the biggest thing we bring to the party on a generalized basis is what I spelled out a little bit in the annual report this year and talking about GEICO. We enable terrific managers to spend, in many cases, to spend even a greater percentage of their time and energies on what they do best and what they love… To spend even a greater percentage of their time and energies on what they do best and what they learn with our ownership. In other words, we give them a very rational owner who expects them to spend all of their time focused on what counts for the business, and eliminates the distractions that often come with running a business, particularly a publicly owned business.

I would guess that the CEOs of most public companies waste a third of their time, at least, in all kinds of things they do that really don’t add a thing to the business, in many cases subtract, because they’re trying to please various constituencies and waste their time with them, that take the company backwards. But we eliminate all of that. So we simply can create an ownership, we think we can create the best ownership environment, frankly, that can exist, other than maybe owning it 100% yourself, for any business. And that happens to also go along with how we like to lead our lives, because we don’t want to run around and attend a lot of meetings and do all of these things that people do. And that’s, that can be a significant plus.

I think, I think that GEICO has probably grown a fair amount faster as a subsidiary of Berkshire than it would have if it remained an independent company, although it was a hell of an independent company and would have continued to be one. But I think to the value of GEICO over and above what would have happened if it had remained a public company, not because, as I put in the report, now, we haven’t taught the management one thing about the classification of insurance risk or how to run better ads or anything of the sort. We’ve just let them spend 100% of their time focused on what counts.

Charlie Munger [05:09:42] Just not having a vast headquarters staff to tell the subsidiaries what to do, that helps most of the kind of subsidiaries that we buy. They are not looking for a lot of people looking over their shoulder from headquarters, and a lot of unnecessary flights back and forth, and so on.

Warren Buffett [05:10:02] So I would say most of what we do, or at least a great part of what we do, is just not interfere in a counterproductive way, and that non-interference has enormous value, at least with the kind of managers and the kind of businesses that have joined us.

Charlie Munger [05:10:20] In a great many, you have to see it to believe it, but in a great many corporate operations, the importance of a large group of people is tied to how much they meddle in the affairs of other people who are out there doing the work.

Warren Buffett [05:10:38] And, you know, we stay out of the way, and we’re appreciative owners, and we’re knowledgeable owners. We know when somebody has done a good job, and we know when they’ve done a good job when industry conditions are terrible. Do operations, for example, and, you know, they are in tough industry conditions now. We’ve got some absolutely terrific people, and we are knowledgeable enough about that so that we don’t go simply by a bunch of figures and make a determination whether people are doing the right thing. So we’ve got, we’re knowledgeable owners, and we have no one whose job but at headquarters is to go around and tell our managers how to run their human relationship.

Not only do people have more time to work on the productive things, but I think they probably actually appreciate the fact that they’re left alone. So I think you even get more than the proportional amount of effort out of them than would be indicated simply by the amount of time you free up, because I think you get an even, an added enthusiasm for the job. And I think having people on a large organization that truly are enthusiastic about what they’re doing, I, that doesn’t happen all the time, and, but I think it does happen to a pretty good degree at Berkshire. Charlie?

Charlie Munger [05:12:06] No more.

Warren Buffett [05:12:07] Okay, zone 3.

[05:12:08] Shareholder (David Butler, Omaha): Gentlemen, high, and David Butler from here in Omaha. A comment and then two quick questions. Comment is regarding the annual reports. I read a lot of annual reports for a living, and I sort of start off with the assumption that I’m going to have to spend 20 to 30 hours looking at five years of 10-Ks and five years of annuals, probably some 10-Qs, and gronk through a lot of numbers to have any kind of idea how the company really is working. And comparing that to Berkshire, which has basically crystal clear clarity, it’s quite refreshing to read honesty, and it’s quite refreshing to see accounting that’s actually presented in a clear fashion, and it doesn’t try to hide facts. So as a shareholder and as an investor, I’m very grateful for the effort and for the high quality of your annual report, and I think we all ought to give Mr. Buffett and Mr. Munger a hand for that.

Okay, now that I’ve, not that I’ve brown-nosed a little bit, here comes the zinger.

Warren Buffett [05:13:20] Huh.

[05:13:20] Shareholder (David Butler, Omaha): Yeah. I’m nervous about the derivative operations that the General Re has now. Right now the balance sheet figure says that there’s a $400 million net asset position, but there are also some really hairy derivatives, the swaps and the floors and caps, and knowing that in the past you haven’t used those types of leverage derivatives, I’m wondering if that’s going to change now. And then secondly, in terms of going through an intrinsic value calculation, when you and Mr. Munger think about intrinsic value, obviously a big part of that is the marketable securities portfolio. Do you think of intrinsic value in terms of the marketable securities as what their market value is, as, in terms of their look-through earnings, or is there a separate intrinsic value calculation that you sort of roll into the overall Berkshire intrinsic calculation?

Warren Buffett [05:14:18] Yeah, I’ll answer the second part first. On the intrinsic value, we tend to use the market prices in the way we think about things, although there are times when we feel that we own securities that are worth far more than they’re carried for, and we’ve mentioned that once or twice. There was a time in the mid 1970s, if you’d look back at our 1975 annual report, I may be off by a year one direction, other, probably 1974, because I, we valued the securities at market, but I, in the body of the report, I said we really think these things are going to work, be worth a hell of a lot more than they’re selling for currently. That was an unusual remark for somebody. If you knew me, it would be a new remark for me. And at that time I would have said that in looking at the intrinsic value of Berkshire, I would have said that I was quite comfortable marking these things up in my mind. I wouldn’t have done it with the public, but I would have done it in my mind.

But under most circumstances we tend to think of the market value as being representative of it, because that is the price at which we could buy or sell that day. And if we thought they were ridiculously high in relation to intrinsic value, we’d probably do something about it, and they certainly haven’t been so low that we’ve ever felt like marking them up in recent, in rece-, in our own minds in recent years.

The question about the derivatives business is a good business, it’s a good question, because it involves big balance sheet numbers and big off balance sheet numbers in relation to the amount of money made, and particularly in terms, in relation to the amount of money made in terms of the capital employed, and the credit guarantees, the long-term nature, all of that makes that something that we will want, we do want to look at always very hard. It’s a business that people can get in trouble in, and they can get in trouble while the accounting sales along merrily. I remember when Charlie and I were at Salomon, we found, we didn’t find it, other people found it finally, but misremarked derivative positions that were very substantial, that had gone on for a long time. Am I right about that, Charlie? On that, Charlie was on the audit committee.

Charlie Munger [05:16:45] The worst glitches were that the books just got so out of control, not in the derivative department, that they were just multi-million dollar errors.

Warren Buffett [05:16:57] But we found this marks, as I remember…

Charlie Munger [05:17:00] Yes.

Warren Buffett [05:17:01] In the 20 odd millions on…

Charlie Munger [05:17:03] Yes.

Warren Buffett [05:17:03] On positions that…

Charlie Munger [05:17:05] Yes, and both, in some cases because the contracts got so complicated that the people that were valium didn’t understand them, and at least partially didn’t understand.

Warren Buffett [05:17:15] I mean, there’s a lot of potential for mischief when people can write down a few numbers on a piece of paper and nothing changes hands for a long time, and their compensation, you know, next month and this year depends on what numbers are attached to a bunch of things that are not really, where they don’t come to fruition for a long time, and particularly when you’re guaranteeing credit or anything of the sort. So you’re very correct in observing that when the numbers are big in relation to the amount of profits, you want to look very carefully, because if anything goes wrong it could go wrong on a fairly big scale, and you’re not getting paid a lot for running that type of risk.

I very much appreciate what you said about the annual reports. Are we, we may disappoint you in how, in how the business performs over time. I mean, that is not totally within our control. We’ll try hard, but we, that we can make note of the reporting. I mean, that is in our control. We may not like what we have to tell you, but there’s no reason for failure, there can be no reason for failure in the accounting or candor. I mean, that is, there, there’s, if we fail there, it’s because we set out to fail. We can fail in terms of operating performance for a lot of reasons, some within our control and some without our control, but, and that can happen, and if so, we’ll tell you about it.

But we’re going to try very hard that to make sure that you see the business, that we don’t sugarcoat things, we don’t put spin on things, and we’ll judge ourselves in a significant degree, but by how we handle that particular part of the problem. We’ll also try to do a good job in operations. Charlie, do you have anything on that?

Charlie Munger [05:19:30] No.

Warren Buffett [05:19:31] If not, it’s three… you