Berkshire Hathaway Annual Meeting 2009 Transcript

Warren Buffett [00:00:03] (Applause) Good morning. I’m Warren, the hyperkinetic fellow. Here is Charlie. And we’re going to go in just a minute to a question and answer section, that at least a question session, that will be a little different than last year. We have a panel, I can’t see very well here, over to the right of journalists who will ask questions and alternate with the people in the audience, and we’ll go back and forth. A little checklist here that we’ll use as we go back and forth. Here we are. And we should have a pen here someplace to check things off.

But first, even though we’ll have the formal meeting later on, I would like to introduce our directors. And if they would stand as I announced them and then remain standing until the end, and if you’ll just hold your applause until the end, or even later if you wish, I, we’ll recognize them. We’ll have a meeting later on to elect them. But if you’ll stand up, like I say, you can’t see very well here with the lights, but there’s me and Charlie, we start off, and then Howard Buffett, Susan Decker, Bill Gates, Sandy Gottesman, Charlotte Guyman, Don Keough, Tom Murphy, Ron Olson and Walter Scott. Those are the directors of Berkshire Hathaway. (Applause)

Now, we only have one slide, which actually is more than we would usually have, and, but it does tell you something about what happened last year. And it also acts as a commercial for our Nervous Nellie mattress with the famous night depository feature.

Last year, and we got that up on the slide, last year we wrote a ticket on December 19th, and we sold $5 million of Treasury bills. I hope you can see that. It’s, we’ve got the December 19th circled up there. And those Treasury bills came due, or were to come due, on April 29th of this year. So they were going to come due over four months later. And the remarkable thing is, and this tells you something about what an extraordinary year it was, is that we sold those $5 million of Treasury bills, which we’re going to pay off at $5 million on April 29th of 2009, in December of 2008 we sold them for 5,000… $5,000,090.07.

In other words, if the person who bought those from us and paid us $5,000,090 instead had bought the Nervous Nellie mattress and had put their money under the mattress, they would have been $90 better off at the end of the year, at the end of four months, than by buying Treasury bills. If the U.S. Treasury had just sold $5 trillion of these, they could have made an easy $90 million, and Tim Geithner could have put the money under a Nervous Nellie mattress, and we all would have been better off.

Negative yields on U.S. Treasury bills are really an extraordinary thing. You got less on less for your money from the U.S. Treasury than you got from sticking an under mattress. I’m not sure you’ll see that again in your lifetime. But it’s been a very extraordinary year.

We have with us the journalists. We have Carol Loomis of Fortune, we have Becky Quick of CNBC, and we have Andrew Ross Sorkin of The New York Times. They have received questions from shareholders all over the country. Andrew told me that he received a couple hundred just this morning. And they have selected what they think are, they’re all Berkshire Hathaway related questions. We were having a problem in recent annual meetings with Berkshire into the realm of what people’s children had done in school recently and that sort of thing. And so we wanted to bring it back a little bit to Berkshire. So they have selected among the best of the Berkshire related questions that they’ve received.

And we will go from, we will start with Carol Loomis, and we will go then to the audience. We have 13 sections, 12 in this room, one in an overflow room, and we selected the people in each of the audience sections by a raffle system half an hour of an hour ago. And we’ll go back and forth. And with that, we’ll start it off with Carol.

CLCarol Loomis [00:05:44] Good morning. I come first because Loomis outrakes, outranks the others alphabetically. But this gives me a chance to just have a few sentences to tell you that about the questions that we received. We conferred this morning. Andrew definitely got more than any, either Becky or me. We got almost 5,000 questions, which I think even will surprise Warren, because I don’t think he knew that it’d run that high. And the main thing I wanted to say is that an awfully lot of them were very good, and we had a real problem trying to get them down to the number that we’re probably going to be able to ask. We don’t even know what that is for sure. But we want to apologize to anybody who sent us a Berkshire related question, because we did have to cut out some because they weren’t that, and whose question we didn’t get asked. And maybe in another year it will work.

So my first question. Warren and Charlie, Warren particularly, you have referred to derivatives, this is famous, as weapons, financial weapons of mass destruction. In the 1964 movie “Dr. Strangelove,” Major T.J. Kong, nicknamed King Kong and played by Slim Pickens, rides a weapon of mass destruction out of the bomb bay of his B-52. As a long-term Berkshire shareholder, I’m feeling a little like Slim today. I understand that despite the dramatic decline in the stock market, there is a good probability we could make money on our derivatives, taking into account the return on our premiums. But given the amount of accounting equity and statutory capital, and I would argue market value, this is the questioner saying this, that these derivatives have destroyed, at least temporarily, do you think these large derivative positions are appropriate for a highly rated insurance company? And if so, do you think you will be adding to these positions?

Warren Buffett [00:08:03] Yeah, I would say this. The questioner to some extent answers his own question, that I don’t know whether he anticipates as strongly as I do that net these positions will make money. But over, you know, our job is to make money over time at Berkshire Hathaway. It does not impinge on capital. We have arranged them so that the collateral posting requirements, which are one of the big dangers in the derivatives field, that we have very, very minimal exposure to that. Even on March 31st, at a time when the market was down very substantially from when we entered into these transactions, we had posted collateral of a little less than 1% of our total marketable securities.

So they have no, they pose no, they pose problems to the world generally, and that’s why I referred to them on a macro basis in the 2002 report as being financial weapons of mass destruction. But I also said in that report that we use them in our own business regularly when we think they’re mispriced. And we think our shareholders are intelligent enough that if we explain the transactions, as we try to do in the annual report, and explain why we think we will make money, there’s no guarantee we’ll make money, but our expectancy is that we will make money, we think as long as we explain them, that the financial consequences to our shareholders far outweigh any accounting consequences.

We explained in earlier reports that because of a mark to market, that these things can swing billions of dollars as an accounting liability. But for example, in our equity put options, we have received $4.9 billion, roughly, and we hold that money. Originally the terms of these were 15 to 20 years. So we have the use of $4.9 billion for 15 to 20 years, and then markets have to be lower at that time than they were at the time of inception. So I personally think that the odds are extremely good that on the equity put options we will make money.

I think on the high yield index credit default swaps we’ve written, I think that we will probably lose money before figuring the value of the money we’ve held. Now, I told you a year ago I thought we would make money on those, but we have run into far more bankruptcies in the last year than as normal. We’ve in effect had a financial hurricane. We insure against natural hurricanes, and we insure against the financial hurricane, and we have been in a bit of a financial hurricane. So I would expect those contracts before investment income, which would show a loss, and perhaps after investment income.

The bigger contracts are the equity put contracts, and I think the odds are very high that we make money on those. Now, it would be nice if we were writing them at current prices, but we probably couldn’t write them without getting into collateral posting requirements now. So we have a very favorable position on those. In fact, in the last week we modified two equity put contracts. One that had a strike price of 1,514, that has been reduced to 994 on the S&P 500. Now, we shortened it up eight years, but it still has about 10 years to run. So merely for reducing the term of 18 years to about 10 years, we still have the use of the money for 10 years, we reduced the strike price from 1,514 to 994.

So I think those are going to be very advantageous contracts. I think our shareholders are intelligent enough to, if they’re explained properly, to realize how advantageous they are. And we can, we’ll continue to hold them, and we’ll continue to explain them. And they have no impact on our financial flexibility. And we are far more than an insurance company. I mean, we have earnings coming in from many areas. We have lots of cash sitting at the parent company, we have lots of cash in the subsidiaries, we have no significant debt maturities of any kind. So we’re ideally suited to hold this sort of instrument. And Charlie, what would you say?

Charlie Munger [00:12:34] Well, I would agree with the questioner that there is some limit to the amount of those things we should do, but I think we stayed well short of the limit.

Warren Buffett [00:12:47] Okay. We’ll go to zone 1.

[00:12:49] Shareholder (Scott Slaby, Denver, Colorado): Hi, my name’s Scott Slaby. I’m from Denver, Colorado. First off, I’d like to thank Mr. Buffett and Mr. Munger for having us out here today. I appreciate you bringing us out here, so thank you very much, and answer our questions. I’m a former teacher, or I’m a teacher, I shouldn’t say former, being a former teacher yourself. I see a problem with financial literacy with our future generations, and I’m curious what you think future generations should know, and if there’s anything that needs to be in school curriculums to teach younger people financial literacy as we move forward.

Warren Buffett [00:13:33] Yeah, I think there’s a problem with financial literacy with our current generation. But then the, I, there’s a, Andy Heyward, who has helped us with the cartoon, has a, will have a, he sold his company last year, but he has a new company, and he will have a program coming out that works on that question, and that I play a very small part in. ABC has a program coming up with a number of well-known personalities in it that will deal with the question of financial literacy. And it’s, you know, it is a tough sell in a world of credit cards and, you know, a world that depends on calculators rather than people sitting down and doing actual arithmetic and all of that, too, to teach people. But in the end, I think we make progress over time. I mean, I hope our annual reports contribute to that sort of thing.

But you’re going to have people doing very foolish things with money. I remember on my honeymoon, I was 21 and my wife was 19, and we drove west, I never Las Vegas, it was 1952, and we stopped at the Flamingo. And people were better dressed in the casinos then, and there were a bunch of Omaha fellows that actually owned part of the Flamingo at that time, terribly nice to us. But I looked around at that casino and I saw all kinds of well-dressed people who have traveled thousands of miles to do something very dumb. And I thought, this is a country where you’re going to get very rich, if people are going to get on a plane in New York and fly a couple thousand miles to stand there and do things with a mathematical expectation that’s negative on every action they take. That is, it’s a world of opportunity.

So I, you know, I recommend that you, and, you know, you work with your students. I started teaching at the University of Omaha, you know, when I was 21. And you work with your students to make them literate, and they will have a terrific advantage. Charlie?

Charlie Munger [00:15:56] Well, a world where legalized gambling is now conducted by a great many states in the form of lotteries, where people are encouraged to bet against the odds, and a world where we have a vast overuse of high cost credit card debt, it needs a lot more financial literary, I would argue literacy. I think we’ve been going in the wrong direction. So I don’t think you can teach people high finance and can’t use a credit card intelligently.

Warren Buffett [00:16:35] Yeah, if you’re, I talk to students about that. If you’re willing to pay 18% or 21% on a credit card, and the credit card companies need it, incidentally, currently, because you have losses running close to 10%, so with expensive they may need that. But there’s no way that you’re going to financially come out borrowing money at those kind of rates, and I wouldn’t know how to do it. And, you know, it’s too bad. On the other hand, it’s probably good for our business. I mean, that one of, you know, we are looking for things that are mispriced, and the more people think that borrowing money on credit cards is intelligent, they probably will not think that doing equity, long-term equity put contracts is intelligent, and we’ll go our way and they’ll go their way. Becky?

Becky Quick [00:17:28] First of all, we’ve been asked to pass on a message that the attendance today is 35,000.

Warren Buffett [00:17:36] Good. If they all just spend appropriately, it’ll be a big day.

Becky Quick [00:17:43] This question comes from James Lewis from Logan, Ohio, who said it was okay to use his name and city. He says, “One of the substantial investments of Berkshire is Wells Fargo. The chairman of Wells Fargo supposedly indicated that he did not want to take TARP funds from the federal government. He further, more recently said that some of the programs of the federal government to reinvigorate the banks were asinine. Mr. Munger, do you agree with the chairman of Wells Fargo, and please explain why you do or do not agree. And Mr. Buffett, do you agree with Mr. Munger?”

Charlie Munger [00:18:34] Yes. When a government is reacting to the biggest financial crisis in 70 years, which threatens important values in the whole world, and the decisions are being made hurriedly and under pressure and with good faith, I think it’s unreasonable to expect perfect agreement with all of one’s own ideas. I think the government is entitled to be judged more leniently when it’s doing the best it can under trouble. Of course there’s going to be some reactions that are foolish. And I happen to share one of the troubles of some of the Wells Fargo executives, in that I’m pretty blunt. I happen to think that the accounting principle that says your earnings go up as your credit is destroyed, because if you had any money left you could buy your own debt back at a discount, I happen to think that’s insane accounting. And I think the people who voted it into effect ought to be removed from the board.

Warren Buffett [00:19:53] So a man who talks like that has to have some sympathy with the people at Wells Fargo. He usually gets to hang him by their thumbs, but he held back this morning.

The government in September, mid-September last year, really did, they were facing a situation that was as close to a total meltdown throughout the financial system as I think you can imagine it. You had a couple hundred billion dollars move out of money market funds in a couple of days. You had the commercial paper market freeze up, which meant that companies all over the country that had nothing to do with the financial world basically we’re gonna have trouble meeting payrolls. We really were looking into the abyss at that time. And a lot of action was taken very promptly, and overall I commend the actions that were taken.

So as Charlie says, to expect perfection out of people that are working 20-hour days and are getting hit from all sides by new information, bad information, that one weekend with Lehman going, AIG going, Merrill would have gone, in my view, unless the BofA had bought it. I mean, it was, when you’re getting punched from all sides and you have to make policy and you have to think about congressional reaction and the American people’s reaction, you know, you’re not going to do everything perfectly. But I think overall they did a very, very good job.

I’m sympathetic. That remark was made by Dick Kovacevich, who came in second last year to Charlie in the plain speaking contest around the world. And it’s true that Dick Kovacevich was called on a Sunday at little afternoon, as I understand it, and told to be in Washington the next day at 1 or 2 o’clock without being told what it was about. And there were 11 bankers there and some officials, and they were told that they were going to take TARP money, and when they’re, they’re going to take loans from the government and preferred stock, and that they only had an hour or two to sign it, and they didn’t get to consult with boards. But that’s the nature of an emergency. You know, it, I think you, well, that you’re going to have some decisions that later can be looked back at, and somebody will say, I could have done it a little bit better. But by and large the authorities, in my view, did a very good job.

And all banks aren’t alike, by a long shot. And in our opinion, Wells Fargo is a, among the large banks particularly, it’s a fabulous bank and has some advantages that the other banks don’t have. But in a time like that, you’re not dealing in nuances.

Incidentally, I would recommend to all of you that you go to the internet and read Jamie Dimon’s letter to his shareholders, Jamie Dimon of JPMorgan Chase. It’s a fabulous letter. It talks about a point that Charlie made there, but it, Jamie did a great job of writing about what caused this and what might be done in the future. It’s as good a shareholders letter I’ve ever seen. So by all means look it up. It’s long, but it’s worth reading. Okay, we’ll go to area 2.

[00:23:30] Shareholder (Rick Franklin, Saint Louis, Missouri): Yeah, thank you, Mr. Buffett and Mr. Munger. My name is Rick Franklin. I’m from Saint Louis, Missouri. I’d like to follow up on the microphone one’s question on financial literacy and my own question from two years ago on your discount rate. But before I do that, I hope you’ll indulge me. Tore Stole’s wife, Rosemary Coons, if you could come to section 222, I found your husband. You can come to my microphone, too, if that’s easier.

Warren Buffett [00:24:11] You get a little of everything here.

[00:24:15] Shareholder (Rick Franklin, Saint Louis, Missouri): So my question is free cash flow. Sell side analysts like to do a 10-year discounted cash flow analysis with the terminal value. Even some of the books written about your style, “The Warren Buffett Way” and “Buffettology,” imply that you go through that exercise. But I know you’re famous for not using computers or calculators. I’m wondering if those type of exercises fall into the too hard file, and you just do a simple free cash flow, normalized free cash flow over a discount rate. And if you care to augment the answer with your numerical analysis of Coke, I’d appreciate that. (Laughter)

Warren Buffett [00:25:04] Well, the answer is that investing, all investing is laying out cash now to get more cash back at a later date. Now, the question is, how much do you get back, how sure are you of getting it, when do you get it? It goes back to Aesop’s fables, you know, a bird in the hand is worth two in the bush. Now, that was said by Aesop in 600 BC. Now, and he was a very smart man. He didn’t know it was 600 BC, but, I mean, he couldn’t know everything.

The, but that’s what’s being taught in the finance, you get a PhD now, and you do it more complicated, and you don’t say a burden of hands worth two in the bush, because you can’t really impress the laity with that sort of thing. But the real question is, how many birds are in the bush? You know, you’re laying out a bird today, the dollar, and then how many birds are in the bush, how sure are you in the bush, how many birds are in other bushes, what’s the discount rate? In other words, if interest rates are 20%, you got to get those two birds faster than if interest rates are 5%, and so on. That’s what we do. I mean, we are looking at putting out cash now to get back more cash later on.

You mentioned that I don’t use a computer or calculator. If you need to use a computer calculator to make the calculation, you shouldn’t buy it. I mean, it should be so obvious that you don’t have to carry it out to tenths of a percent or hundredths of a percent. It should scream at you. So if you really need a calculator to figure out that it’s, the discount rate is 9.6 instead of 9.8, forget about the whole exercise. Just go on to something that shouts at you. And essentially we look at every business that way. But we, you’re right, we do not make, we do not sit down with spreadsheets and do all that sort of thing. We just see something that obviously is better than anything else around that we understand, and then we act. And Charlie, you want to add to that?

Charlie Munger [00:27:03] Well, I’d go further. I’d say some of the worst business decisions I’ve ever seen are those that have done with a lot of formal projections and discounts back. Shell Oil Company did that when they bought the Belridge Oil Company, and they had all these engineers make all these elaborate figures. And the trouble with that is you get to believe the figures. And it seems that the higher mathematics with more false precision should help you, but it doesn’t. It, the effects averaged out are negative when you try and formalize it to the degree you’re talking about. They do that in business schools because, well, they’ve got to do something.

Warren Buffett [00:27:52] There’s a lot of truth to that. I mean, if you stand up in front of a class and you say a bird in the hand is worth two in the bush, you know, you’re not going to get tenure. So it’s very important, if you’re in the priesthood, to look at least like you know a whole lot more than the people you’re preaching to. And if you come down and just, if you’re a priest and you just hand down the Ten Commandments and you say this is it and we’ll all go home, you know, it just isn’t the way to progress in the world.

So the false precision that goes into saying this is a two standard deviation event, or this is a three standard deviation event, and therefore we can afford to take this much risk, and all that, it’s totally crazy. I mean, you saw it with Long-Term Capital Management in 1998. You’ve seen it time and time and time again. And it only happens to people with high IQs. You know, those of you who are, have 120 IQs are all safe. But if you have a very high IQ and you’ve learned all this stuff, you know, you feel you have to use it. And the markets are not that way.

The markets of mid-September last year, when people who ran huge institutions were wondering how they were going to get funding the next week, you know, that doesn’t appear on a, you can’t calculate the standard deviation that that arises at. It’s going to arise much more often than people think in markets that are made by people that get scared and get greedy, and they don’t observe the laws of flipping coins in terms of the distribution of results. And it’s a terrible mistake to think that mathematics will take you a long place in investing. You have to understand certain aspects of mathematics, but you don’t have to understand higher mathematics, and higher mathematics may actually be dangerous, and it will lead you down pathways are better left untrod. Okay, Andrew?

ASAndrew Ross Sorkin [00:29:56] One of those 200 questions from this morning, or whatever. This one’s not from this morning, but it relates to Moody’s, and we probably received about 300 questions at least on this topic. This question, which is representative of many, comes from Aaron Goldsmizer, and the question is the following: “Given the role of rating agencies in the current economic crisis, their conflict of interest, their reliance on, quote, flawed history-based models, as you describe in this year’s letter to shareholders, and the likelihood that a loss of credibility and/or regulatory reforms could force drastic changes in their business models or earnings streams, why do you retain such a large holding in Moody’s? And more important, why didn’t you use your stake to try to do something to prevent conflicts of interest and reliance on these flawed history-based models?”

Warren Buffett [00:30:47] Yeah, I don’t think the conflict of interest question was the, was the biggest, by anywhere close, to the major cause of the shortcomings of the rating agencies in foreseeing what would happen with CDOs and CMBSs and all sorts of instruments like that. Basically, five years ago, virtually everybody in the country had this model in their mind, formal or otherwise, that house prices could not fall significantly. They were wrong. Congress was wrong. Bankers were wrong. People who bought the instruments were wrong. Lenders, the borrowers were wrong.

But people thought that if they were going to buy a house next year, they better buy it this year, because it was going to be selling for more money the following year. And people who lent the money said it doesn’t make any difference if they’re lying on their application or they don’t have the income, because houses go up, and if we have to foreclose we won’t lose that much money, and besides, they can probably refinance next year and pay. So there was a almost total belief, and there was always a few people to disagree, but there was almost a total belief throughout the country that house prices would certainly not fall significantly and that they would probably keep rising.

And the people that, the rating agencies, one way or another, built that into their system. And I really don’t think it was primarily the payment system that created the problem. I think they just didn’t understand the various possibilities of what could happen in a market, or in a bubble really, where people leveraged up enormously on the biggest asset that most Americans possess, their house. And so you had a $20 trillion asset class in a $50 trillion of total assets of American families, of $50 trillion, that got leveraged up very high. And then once it started melting down, it had self-reinforcing aspects on the downside.

So I said that they made a major mistake in terms of analyzing the instruments, but they made a mistake that a great, great, great many people made. And that probably if they had taken a different view of residential mortgages four or five years ago, they would have been answering to congressional committees who were be saying, how can you be so unamericanist deny all these people the right to buy houses simply because you won’t rate these securities higher? So they made a huge mistake, but the American people made a huge mistake, Congress made a huge mistake. Congress presided over the two largest mortgage companies, and they were their creatures, and they were supervised by them, and, you know, and they’re both then conservatorship now. So I don’t think they were unique in their inability to spot what was coming. In terms of us influencing their behavior, I don’t think I’ve ever made a call to Moody’s. But it’s also true that I haven’t made it to, or maybe made one or two, to other companies in which we’re involved. I mean, we don’t tell, you know, the Burlington Northern what safety procedures to put in. We don’t tell American Express who to cut off on credit cards and, you know, what they’re, who they should lend to and who they shouldn’t. We are, when we own stock, we are not there to try and change people. Our luck in changing them is very low anyway. In fact, Charlie and I have been on boards of directors where we’re the largest shareholders, and we’ve had very little luck in changing behavior. So we think that if you buy stock in a company, you know, you better not count on the fact that you’re going to change their course of action.

And in terms of selling the stock, the odds are that the rating agency business is probably still a good business. It is subject to attack, and who knows where that leads, and who knows what Congress does about it. But it’s a business with very few people in it. It’s a business that affects a large segment of the economy. I mean, the capital markets are huge. I think there will probably be rating agencies in the future. And I think that it’s a business that doesn’t require capital, so it has the fundamentals of a pretty good business. It won’t be doing the volume in the next, probably for a long time, in certain areas of the capital markets, but capital markets are going to grow over time.

We have said in this meeting in the past many times that Charlie and I don’t pay any attention to ratings. I mean, we don’t believe in outsourcing investment decisions. So we, if we buy a bond, the rating is immaterial to us, unless, except to the extent that the, if we think that it’s rated more poorly than it should, it may help us buy it at an attractive price. But we do not think that the people at Moody’s or Standard & Poor’s or Fitch or anyplace else should be telling us the credit rating of a company. We figure that out for ourselves. And some, and sometimes we disagree with the market in a major way, and we made some money that way. Charlie?

Charlie Munger [00:36:16] Yeah, I think the rating agencies, being good at doing mathematical calculations, eagerly sought stupid assumptions that enabled them to do clever mathematics. It’s an example of being too smart for your own good. There’s an old saying, to a man with a hammer every problem looks pretty much like a nail, and that’s what happened in the rating agencies.

Warren Buffett [00:36:41] The interest, the interesting things about a lot of those triple A’s is the people that created them ended up owning a lot of them. So they believe their own bologna themselves. Every, it was, the belief was enormous. So you’ve had these people stirring up the Kool-Aid and then they drank it themselves, and they, you know, they paid a big penalty for it. But I don’t think it was, I think it was, I think it was stupidity and the fact that everybody else was doing it.

I sent out a letter to our managers only every couple years, but the one, the one reason you can’t give at Berkshire, as far as I’m concerned, for any action is that everybody else is doing it. You know, and it just, if that’s the best you can come up with, you know, something’s wrong. And so, but that happens in security markets all the time. And of course it’s, when Charlie and I were at Salomon or someplace like that, it’s very difficult to tell a huge organization that you shouldn’t be doing something that the people, well-regarded competitors are doing, and particularly when there’s a lot of money in it. So it’s very hard to start, stop these things once you get sort of an industry acceptance of behavior.

And, you know, we were very unsuccessful, Charlie and I, at Salomon in saying, well, we just don’t want to do this sort of thing. We couldn’t even get them initially, when we got in there at first, they were doing business with Marc Rich. And we said, let’s stop doing business with Marc Rich. You know, that’s like saying in the ’30s, let’s stop doing business with Al Capone or something. And they said, but it’s good business, if he doesn’t do it with us he’ll do it with somebody else. And they felt that way. And I think we won that one, but it wasn’t easy. Do you remember that, Charlie?

Charlie Munger [00:38:36] I certainly do.

Warren Buffett [00:38:38] Okay, we’ll go to area 3. Okay, zone 3, are we on?

[00:38:42] Shareholder (Lori Gould, Berkeley, California): I’m Lori Gould from Berkeley, California. Where do you see the residential real estate market headed nationally, particularly in California, over the next year or two?

Warren Buffett [00:38:51] Well, we don’t know what real estate is going to do. We didn’t know what it was going to do a few years ago. We thought it was getting kind of dangerous in certain ways. But it’s very hard to tell. I would say this, from what we’re see, what I’m seeing, and I do see a lot of data, there’s, and California incidentally, it’s a very big, I mean, there are many markets within California. Stockton is going to be different than San Francisco and so on. But in the last few months, you’ve seen a real pickup in activity, although at much lower prices. But you’ve seen, I think you’ve seen something in the medium to lower price houses, and medium means a different thing in California doesn’t Nebraska. But you’ve seen it, maybe $750,000 and under houses, you’ve seen a real pickup in activity, many more bidders. You haven’t seen a bounce back in price. Prices are down significantly, and berries by the area.

But it looks as if, you had a foreclosure moratorium for a while, and so you get into distortions because of that. But what it looks like, looking at our real estate brokerage data, and we have the largest real estate brokerage firm in Southern California, in Orange County, Los Angeles County, San Diego County, and Prudential of California, that’s owned by MidAmerican, we, I, we see something close, I would say, to stability at these much reduced prices in the medium to lower group. If you’ve got a $5 million house or $3 million house, that still looks like a very erratic, it’s a market in which there still isn’t a lot of activity. But in the lower levels there’s plenty of activity now. Houses are moving. Interest rates, of course, are down, so it’s much easier to make the payments. The mortgages being put on the books every day in California are much better than, you know, the mix that you had a few years earlier. So it’s improving. And I don’t know what it’ll do next month or three months from now.

And then the housing situation is pretty much this way. You can look at it this way. We create about 1,300,000 or so households a year. It bounces around some, but, and it tends to, in a recession it tends to be fewer, because people postpone matrimony and so on, to some extent. But if there’s 1,300,000 households created in a year and you create 2 million housing starts annually, you were going to run into trouble. And that’s what we did. We just created more houses than the demand was, the fundamental demand was going to absorb. So we created an excess of houses. How much excess is there now? Perhaps 1.5 million units.

We were building 2 million units a year. That’s down to 500,000 units a year now. If you create 500,000 units a year and you have 1,300,000 households created, you are going to absorb the excess supply. It will be very uneven around the country. South Florida is going to be tough for a long, long time. So it isn’t like you can move a house from one place to another if there’s demand in one place and not another. But we are eating up an excess inventory now, and we’re probably eating it up at the rate of 700,000 or 800,000 units a year. And if we have 1.5 million excess, that takes a couple of years.

There’s no getting away from it. You have three choices. You could blow up 1.5 million houses, you know, and if they do that, I hope they blow up yours and not mine. But that’s it, we can get rid of it. We could try to create more households, we could have 14 year olds start getting married and having kids. And, or we can produce less than the natural demand increase, and that’s what we’re doing now, and we’re going to eat up the inventory. And you can’t do it in a day and you can’t do in a week, but you, but it will get done. And when it gets done, then you’ll have a stabilization in prices, and then you will create the demand for more housing starts, and then you can go back up to 1.25 million, and then our installation business and our carpet business and our brick business will all get better. Exactly when that happens, nobody knows, but it will happen. Charlie?

Charlie Munger [00:43:31] Well, I think in a place like Omaha, which never had a really crazy boom in terms of housing prices, with interest rates so low, if you’ve got good credit, that if I were a young person wanting a house in Omaha, I would buy it tomorrow.

Warren Buffett [00:43:56] We own the largest real estate brokerage firm in Omaha, so Charlie will be called. If he qualifies, we will give him a mortgage application.

It is true the 4.5 million houses will change hands. There’s about 80 million houses in the country. 25 million of those do not have a mortgage. About a third of the houses in the country do not have a mortgage. You got about 55 million or less that have a mortgage, and 5 or 6 million of those are in trouble one way or another. But we’re selling 4.5 million houses every day, and by and large they’re going into stronger hands. The mortgages are more affordable, the down payments are higher, work, the situation is getting corrected. But it wasn’t created in a day or a week or a month. It’s not going to get solved in a day or week, a month. We are on the road to solution. Okay, Carol?

CLCarol Loomis [00:44:51] Perhaps I should have said one other thing at the beginning. Those of you who read the annual report carefully know that Charlie and Warren were to be given no clue as to what any of the three of us were going to ask. So don’t think that they have gotten a little list. They have seen nothing.

This question, I got many versions of this question. This one happens to come from Jonathan Brandt of New York City. It concerns the four investment managers you have said are in the wings as possible successors to you. “Can you please tell us, without naming names, but preferably in both quantitative and qualitative terms, how each of the four did in 2008 with the money they are managing, they were managing for their clients? You said you hoped to pick people who would be able to anticipate things that had never occurred before. While the world has seen credit crises before, there were a lot of things that happened in 2008, especially in the last few months of the year, that few were predicting, and that you yourself have described as almost unprecedented. How would you rate the way that these managers, these four managers did in managing against these low probability risks? Are all four still on the list?”

Warren Buffett [00:46:14] Well, the answer is all four are still on the list. And let me just make one point first, too, because it got misreported a little bit. We have three candidates for the CEO position, and this is always a major subject discussion at our director’s meetings. All of them are internal candidates. You should know that. That’s been said before, but it got misreported here once or twice, and it got confused, I think, because of the four possibilities for the investment job. And you could have all four come to workforce. In that case, we won’t have three CEOs or two CEOs, but we’ll have, we might have multiple investment managers after I’m not around, or we might just have one. That would be up to the board at that time. They are both inside and outside the organization, and we don’t preclude anything in terms of where they come from. So we could have a whole big list from outside the organization. That will not be true about the CEO position. The person that follows me will come from within Berkshire Hathaway.

The four, I don’t have precise figures from them. Oh, I’ve got a fair amount of information on someone. I would say they did no better than match the S&P last year, which was minus 37% after adding back dividends. So I would say that in terms of 2008 by itself, you would not say that they covered themselves with glory. But I didn’t cover myself with glory either, so I’m very tolerant of that in 2008. They, Charlie, you know some of the records pretty well, wouldn’t you?

Charlie Munger [00:47:57] That’s true. Yeah, what’s interesting to me is that practically every investment manager that I know of in America and regard as intelligent and disciplined and with a unusual record of past success, they all got creamed last year. The group.

Warren Buffett [00:48:18] I don’t hear a lot of laughter about that. I think you’re hitting a nerve out there, Charlie.

They, the four have a better than average record over time. If you’d asked me at the start of the year, if you said there’s going to be a minus 37% year, will this group do better than average, I would have said yes. But I think I would have been wrong. And like I said, I didn’t, I haven’t gotten audit returns from every one of them, but I would say I would be wrong. I would say they, I would say that their record over 10 years has been, in each case has been anywhere from modestly to significantly better than average, and I’d be willing to bet that would be the case over the next 10 years. But certainly last year, you know, a lot of things, there were a lot of things that didn’t work, and our group was not exempt from them.

I have not changed the list. That doesn’t mean that we’re always looking at, with the idea of finding more people to add to it. And as opposed to the CEO job, you know, if I drop dead tonight, the board needs to put somebody in as a CEO tomorrow morning, and they’ll, and they will do so, and they know who it is, and they feel very good about it. Not too good, I hope. But on the investment officers, one or more, and it could easily be more, they don’t need to do something the next day or the next week. I mean, the portfolio isn’t, everything doesn’t stop because of that. So they can, that can be a somewhat more leisurely decision they’ll have, and it will be made in an important way in consultation and agreement with the new CEO. So that is something that you shouldn’t expect the next day to hear an announcement on the investment managers, but you should expect us here, you know, within a month or something like that.

Charlie Munger [00:50:23] I don’t think we would want a manager who thought he could just go to cash based on macroeconomic notions and then hop back in when it was no longer advantageous to be in cash, since we can’t do that ourselves.

Warren Buffett [00:50:41] Yeah, we think it’s impossible.

Charlie Munger [00:50:43] If we can’t do it ourselves.

Warren Buffett [00:50:45] Yeah. Yeah, right. So we’re not looking for a typo who went to cash totally. No, that would, in fact, we would leave out anybody that did that. We would exclude them.

Charlie Munger [00:50:59] Yeah, they’re not dumb enough for us.

Warren Buffett [00:51:02] Okay, let’s go to zone 4.

[00:51:05] Shareholder (Vern Cushenbery, Overland Park, Kansas): Hi, Mr. Buffett, Mr. Munger. My name is Vern Cushenbery. I’m from Overland Park, Kansas. I wonder if you might share your thoughts on the likelihood of a nationalized health care system, what that might look like, and the effects on your portfolio.

Warren Buffett [00:51:25] Well, I’m going to let Charlie answer that one, since I don’t know how to.

Charlie Munger [00:51:31] Yeah, personally I think something more like Europe will come to the United States in due course, and I think it will be supplemented by a private system, which is the equivalent of private school competition for public education. And although I’m a Republican, I’m not horrified by that probable development. Personally, I wish they’d put it off for a year while we saw the economic problems.

Warren Buffett [00:52:04] And I would say that in terms of its impact on Berkshire, you know, we have a broad cross-section of companies. We have 246,000 people working for us, that we will adjust, like American business generally will adjust, to any developments along that line. That it won’t pose special problems for us, it won’t offer us special opportunities. We’ll see what national, the national sentiment is, is expressed through Congress, and will behave accordingly. Becky?

Becky Quick [00:52:45] This is a question that follows up on the succession question. This one is in particular, though, addressed to the three candidates for CEO. It comes from Irving Fenster, who writes, “Running Berkshire is very complex and complicated. Give us some insight for your reluctance to bring in your replacement to give him the benefit of your training, instead of his having to tackle the myriad of problems of the transition on his own. The benefits for Berkshire, your replacement and you are so compelling, your reluctance is puzzling. Having him on board may relieve some of the stress on you and help add many, many more years of good health for you.”

Warren Buffett [00:53:25] Irving is a friend of mine in Oklahoma. Went in my partnership 40 years ago, Irving and Irene. And he’s been writing me on this for 30 or 40 years, that he’s had no luck with me, so he decided to write Becky, apparently.

If we had a good way to inject somebody into some role that was, that was, would make them a better CEO of Berkshire, we would try. But the truth is that the candidates we have are running businesses. They’re making capital allocation decisions. They’re doing things every day of an operating nature that, and these are major businesses. And to sit around headquarters while I’m sitting in there reading and on the phone and, you know, who knows what else, they, it, there just, there wouldn’t be anything to do. I mean, we could meet every hour, you know. I mean, I could say, here’s what I’m thinking about now, what do you think about this? And it’d be ridic, it’d be a waste of talent, it’d be ridiculous.

And Irving has this notion that somehow, you know, that they would be absorbing all these things that I’m doing. I just, I’d just throw The Wall Street Journal to them over after I’m done reading, and I throw them in The New York Times, and I throw them the FT. And these are people that know how to run big businesses. They run businesses that make many, many, many millions or even billions of dollars. They, so, they are ready for the job right now. We wouldn’t be, I wouldn’t be happy unless we have, they are 100% ready. They know how to allocate capital.

The biggest job they’ll have is the fact that they will have to develop relationships with potential sellers of businesses, with the world generally, with you the shareholders, with the other managers. They, that takes some time. Not an extraordinary time, but that, you know, they will have to become acquainted with people, but different constituencies. But that there’s, you know, that is nothing that really does be hastening long. It’s nothing terribly important. I mean, they know how to run businesses, and they would do many things much better than I would.

The biggest, probably the biggest challenge, because we have all of those talented managers that you saw during the movie, and those people have different styles, and they have different, they have different needs to some degree, they have different ways of operating. They’re all successes, but, you know, some of them, some of them about left-handed, some of them about right-handed, some of them stand deep in the box, you know, some of them crowd the plate. I mean, they all have a little bit of variation, but they all hit terrifically. And for the CEO of Berkshire, it does require some knowledge of the individual personalities, and which ones like to run by themselves totally, and which ones like to check in occasionally, and all that.

But that is no reason to take a talent that’s now running a business very successfully in building value and have him sit in an office next to me and have us chew over the day’s events. I mean, Charlie and I worked together now for decades, and I’ve learned a lot from Charlie, but I haven’t done it by, you know, having him sit next door and have hourly meetings or anything of the sort. What do you think, Charlie?

Charlie Munger [00:57:02] Well, I think averaged out you’re more likely to be qualified to be CEO by running a subsidiary with an enormous amount of discretion than you are to be around headquarters watching somebody else do it his way. A lot of the models that have worked well in the world, like Johnson & Johnson, are quite Berkshire-like in that they’re decentralized and they let these people pop up from the subsidiaries. They don’t try and just create CEOs in a hot house in headquarters.

Warren Buffett [00:57:38] We have an unusual situation at Berkshire, that most people, the top, virtually all of them are doing what they want to do. I mean, they like running their businesses. That’s what they came in expecting to do, and that’s what they’re doing, and we’re letting them do it the way they like to do it. And so we don’t have 50 people that are all think they’re on some pyramid to get to the top.

And Irving would like me to name, he’s talked to me about, he would like me to name who it would be. But that could change in the future. It could create, it could create some possible, well, you saw the General Electric. I mean, when Jeff Immelt got appointed from among three, the other two left. And I don’t really see any advantage in having some crown princes around. But Irving will keep writing me, I can promise you that. Okay, zone 5.

[00:58:33] Shareholder (Sarah, Omaha, Nebraska): Hi, Warren.

Warren Buffett [00:58:34] That’s a little loud.

[00:58:36] Shareholder (Sarah, Omaha, Nebraska): Sorry. Hi, my name’s Sarah, and I’m from Omaha, Nebraska. I’d like to know if you could explain your strategies, namely value investings, in regards to cultivating the next generation of investors. How will you teach this young group?

Warren Buffett [00:58:58] Well, I had 49, mostly universities, few colleges, that came to Omaha this year. We do them in clumps of six, and then the last one we had an added university, so we had eight sessions, full day sessions. And they asked me what, sometimes they asked me what I’d do if I was running a business school teaching investments. I tell them I’d only have two courses. One would be how to value a business, and the second would be how to think about markets. And there wouldn’t be anything about modern portfolio theory or beta or efficient markets or anything like that. We’d get rid of that in the first 10 minutes.

The, but if you know how to value a business, and you don’t have to know how to value all businesses. On the New York Stock Exchange, I don’t know, there’s 4,000 or 5,000 probably businesses, and a whole lot more on NASDAQ. You don’t have to be right on 4,000 or 5,000. You don’t have to be right on 400. You don’t have to write on 40. You just have to stay within the circle of confidence, the things you can understand, and look for things that are selling for less than their worth of the ones you can value. And you can start out with a fairly small circle of competence and learn more about businesses as you go along. But you’ll learn that there are a whole bunch of them that simply don’t lend themselves to valuations, and you forget about those.

And I think if accounting helps you in that, you need to understand accounting to know the language of business. But accounting also has enormous limitations, and you have to learn enough to know what accounting is meaningful and when you have to ignore certain aspects of accounting. You have to understand when competitive advantages are durable and when they’re fleeting. I mean, you have to learn the difference between a hula hoop company, you know, and Coca-Cola. But that isn’t too hard to do. And then you have to know how to think about market fluctuations and really learn that the market is there to serve you rather than instruct you.

And to a great extent, that is not a matter of IQ. If you have, if you’re in the investment business and you have an IQ of 150, sell 30 points to somebody else, because you don’t need it. I mean, it, yeah, you need to be reasonably intelligent, but you do not need to be a genius at all. In fact, it can hurt. So, but you do have to have an emotional stability, and you have to have sort of an inner peace about your decisions, because it is a game where you get subjected to minute by minute stimuli, where people are offering opinions all the time. You have to be able to think for yourself. And I don’t know whether, I don’t know how much of that’s innate and how much can be taught. But if you have that quality, you’ll do very well in investing if you spend some time at it, learn something about valuing businesses.

It’s not a complicated game. As I say, said many times, it’s simple but not easy. It is not a complicated game. You don’t have to understand higher math. You don’t, you know, you don’t have to understand law. There’s all kinds of things that you don’t have to be good at. There’s all kinds of jobs in this world are much tougher. But you do have to have sort of an emotional stability that will take you through almost anything. And then you’ll make good investment decisions over time. Charlie?

Charlie Munger [01:02:43] Yeah, you do have the basic problem that exactly half of the future investors of the world are going to be in the bottom 50%. In other words, you’re always going to have more scale at the top than you have at the bottom, and you’re never going to be able to homogenize the investment exercise, expertise of the world. There is so much that’s false and nutty in modern investment practice and in modern investment banking and in modern academia, in the business schools, even the economics departments, that if you just reduce the nonsense, that’s all I think you should reasonably hope for, beyond a certain basic level of skill.

Warren Buffett [01:03:38] Wouldn’t you say your emotional makeup is more important than the super high degree of skill?

Charlie Munger [01:03:46] Absolutely.

Warren Buffett [01:03:47] And if you, if you think your talent, if you think your IQ is 160 and it’s 150, you’re a disaster. You know, much better a guy with 130 that’s operating well within himself.

I get to see the students that come by. I love the fellow from the University of Chicago. One of the students said, the first question that was asked to me is, what are we learning that’s most wrong? I mean, that’s the kind of, I wish they’d asked that sort of thing of the panel here. How do you handle that in one session? But it was holy writ 25 years ago, efficient market theory. You know, that, I never understood how you could even teach it. I mean, if you walked in in the first five minutes, you said to the students, everything is priced properly, I mean, how do you kill the rest of the hour? But it, they did it, and they got PhDs for doing it. Well, you know, and the more Greek symbols they could work into their, you know, their writings, that, you know, the more they were revered.

It’s astounding to me, and it may have even given me a jaundiced view of academia generally, is the degree to which ideas that are nutty take hold and get propagated. And then I read a quote the other day that may have partially explained it. Max Planck was talking, the famous physicist, that Max Planck was talking about the resistance of the human mind, even the bright human mind, to new ideas, and particularly the ones that had been developed carefully over many years and were blessed by others of stature and so on. And he said science advances one funeral at a time. And I think there’s a lot of truth to that. Certainly been true in the world of finance. Okay, Andrew?

ASAndrew Ross Sorkin [01:05:48] Okay, we have a succession question. However, this one has a twist, coming from Ben Knoll. “You famously said, quote, you should invest in businesses that a fool can run, because someday a fool will. Given your reinsurance companies’ capacity and inclination for big financial bets, can you provide us more reassurance about the risk once Ajit is gone? Do you have a succession plan for him?” Ben says, “The Titanic-like ending at AIG once Greenberg was gone has me spooked.”

Warren Buffett [01:06:24] Yeah, I would say that it would be impossible to replace Ajit, and we wouldn’t try. And therefore we wouldn’t, we wouldn’t give the latitude in terms of size of risk or that sort of thing that we give to Ajit. No, we’ve got a, we’ve got a unique talent, in my view, there, and I think at Charlie’s. And so when you get somebody like that, you give enormous authority to them, after you firmly establish in your mind that that’s who you’re dealing with. But that doesn’t mean that the authority goes with the position. The authority goes with the individual.

And we would not, giving your pen away in insurance, as they say, is extraordinarily dangerous. And we have in this town, we have Mutual of Omaha, which in the 1980s had been built up carefully over probably 75 years by that time, and become the largest health and accident association in the world, I believe. And they got the idea that they should be writing property casualty reinsurance. So they gave a pen to somebody within the place, and probably nobody even heard the guy’s name, you know. And then, just signing a few contracts, they lost half their net worth in a very short period of time, and they were worried that they might have lost more than that. So you can do enormous damage in the insurance business with a pen and you better have to be very careful about who you give your pen to. And we’ve given our pen to Ajit in a way that we wouldn’t give it to anybody else. Now, it just so happens that I enjoy hearing about the kind of things he does, so we talk daily. But we don’t talk daily because he needs my approval on anything. We talk daily because I find it very interesting. When he says, how much should we charge to insure Mike Tyson’s life for a couple of years? I mean, that’s the kind of thing I can get kind of interested in. I asked him whether there was an exclusion in case he got shot by a woman that felt unhappy about her treatment or something. But, and it makes a difference in the price. But I enjoy that sort of thing. But I’m not needed, and Ajit is needed, and we won’t find a substitute for him. And, you know, there’s some things that just have to be faced that way. Charlie?

Charlie Munger [01:08:55] Yeah, what that quotation indicates is sometimes stated differently. You say if it won’t stand a little mismanagement, it’s not much of a business. Of course you prefer a business that will prosper pretty well even if it’s not managed very well. But that doesn’t mean you don’t like even better when you get such a business that’s managed magnificently And both factors are quite important. We’re not looking for mismanagement, but we like the capacity to stand it if we stumble into it. But we’re not looking for it.

Warren Buffett [01:09:34] Yeah, we will not do things that we think are… we will not assign tasks to people that we think are beyond their capabilities. And it just so happens that Ajit has enormous capability, so we… he gets assigned some very unusual things. But you don’t see that prevailing throughout our insurance operation, and our managers don’t expect to operate that way. That’s a one-off situation with Ajit, and he’s in good health, and, you know, we send him all the Cherry Coke or fudge that he wants. Okay, area 6. I recommend this Fijian tonight, it’s terrific. I’m having a good time.

[01:10:19] Shareholder (Steve Fulton, Louisville, Kentucky): Good morning. I’m Steve Fulton from Louisville, Kentucky. I gave up box tickets to the Kentucky Derby this afternoon to come out and ask you this question. Thank you for this opportunity. My question relates to how you view, or what your view is, of the market’s valuation of Berkshire shares. You commonly comment that Berkshire has two primary components of value: the investments that they own, the stocks, the bonds and similar, and the earnings from the non-insurance operating companies that you’ve got. And when you compare 2007 to 2008, the investments were down about 13 and the earnings were down about 4%, but the value that the market was placing on the shares was down about 31. And I was curious as to your comments on that valuation.

Warren Buffett [01:11:22] Yeah, well, I think you put your finger on something. We do think that the… we think obviously the investments are worth what they’re carried for or we wouldn’t own them. In fact, we think they’re worth more money than they’re carried for at any given time, because we think on balance they’re under price. So we have no problem with that number. We define our earning power, we leave out insurance underwriting profit or loss on the theory that insurance is, if it breaks even, will give us float, which we will invest. And on balance I actually think that insurance probably will produce some underwriting profit, so I think we even understated a little bit on that, in that respect.

But we think the earning power of those businesses was not as good last year as normal. It won’t be as good this year as normal. But we think those are pretty good businesses overall. A few of them have got problems, but most of them will do well, and I think a few of them will do sensationally. So I think it’s perfectly reasonable to look at Berkshire as the sum of two parts: a lot of liquid marketable securities, or maybe not so liquid, but at least fairly priced or maybe even undervalued securities, and a lot of earning power, which we are going to try and increase over time. And if you look at it that way, you would come to the conclusion that Berkshire was cheaper in relation to its intrinsic value at the end of 2008 than it was at the end of 2007.

But she would also come to conclusion that was true of most securities. In other words, the whole level of securities, and every stock is affected by what every other stock sells for. I mean, if the value of ABC stock goes down, XYZ, absent any other variables, but XYZ is worth less. If you can buy stocks at 8 times earnings, good companies, you know, or 9 times earnings, you know, they… it reduces the value of Berkshire as opposed to when stocks were selling, well, 18 or 20 times earnings. I’m pulling those numbers out of the air. But everything is affected by everything else in the financial world. When you say a bird in a hand is worth two in the bush, you’re comparing it, you got to compare that to every other bush that’s available.

So you’re correct that Berkshire was cheaper in relation to intrinsic value at the end of 2008 and 2007, at least in my opinion, and that those two variables will count. We’ll report them to you regularly, and over time we would hope that both increase, and we particularly hope the operating earnings aspect increases, because that’s our major focus. We would like to move money into good operating businesses over time and build that number a lot. Charlie?

Charlie Munger [01:14:34] Well, I would argue that last year was a bad year for a float business. It was naturally going to make the pro owner of the float appear briefly to be at a disadvantage. But long term, having a large float which you’re getting at a cost of less than zero is going to be a big advantage. And I wouldn’t get too excited about the fact that the stock goes down. I happen to know there was one buyer there who rather inartistically bought about 10,000 shares when Berkshire was driven to its absolute peak. And how much significance does that have in the big scheme of things?

Over the long term, what matters are things like this: our casualty insurance business is probably the best big casualty insurance business in the world. Our utility subsidiary, well, if there’s a better one, I don’t know it. And if I had to bet on one carbide cutting tool business in the world, I’d bet on ISCAR against any other comer. And I could go down the list a long way. I think those things are going to matter greatly over the long term. And if you think that it’s easy to get in that kind of a position, the kind of position that Berkshire occupies, you are living in a different world from the one I inhabit.

Warren Buffett [01:16:25] Yeah, our insurance business now, it is a remarkable business, and it’s got some remarkable managers. There’s one interesting thing that’s happened, that in September, when we had a financial meltdown, and really almost the ultimate, it was almost the China Syndrome type thing, Americans started behaving differently. Probably people around the world, but I certainly know in terms of our businesses, it was like a bell one had been wrung. And one manifestation of it was kind of interesting. Whereas it hurt very much our jewelry business or carpet business, it hurt NetJets, it hurt all the businesses, hurt American Express, for example, you know, the average ticket went down almost 10%. I mean, it just was like that, that people’s behavior changed.

But one of the things it did was it also caused the phones to start ringing even more at GEICO. And we didn’t change our advertising particularly. Our price advantage relative to other companies didn’t change that much. But all of a sudden, just, it was a remarkable, thousands and thousands and thousands of more people came to our website or phoned us every week. So in it, all of a sudden, saving $100 or $150 or whatever it might be became important, not only the people that were watching our ads that day, but just with the people who was lurking in the back of their minds, they went to GEICO.com. So in the first four months of this year… last year we added about 665,000 policyholders. That’s a lot of people. It made us by far the fastest growing auto insurer among the big companies. First four months of this year, we’ve added 505,000 in four months.

And it’s the behavioral changes, and that franchise, that competitive advantage has been built up over decades, and Tony Nicely has nurtured it like nobody else could, just day after day, office after office, associate after associate. But then it just pays off huge when the time comes, because we can’t… we are the low-cost producer among big auto insurance companies. That means we can offer the best value, and now people are value conscious. So these things are going on all the time with our subsidiaries, with those managers, and it builds a lot of value over time. I mean, every GEICO policyholder is a real asset to the company. I could give you an estimate of value, but I don’t think it necessarily be smart, but they’re worth real money. And we are now the third largest auto insurer in the country. I think we’ll end up the year maybe at 8.5% of the market, and it was 2 and a small fraction percent back in 1993 when Tony took over, took charge of the business. And the re… the fundamentals are in place to take us much higher. Carol.

CLCarol Loomis [01:19:38] Can you reach that peanut brittle? I promise you that this question did not come from Susan Lucci. However, it does concern dividend policy. It came from Peter Sargent of Yardley, Pennsylvania. And to ask that, he quotes from principle number 9 of the owner’s manual, and Warren wrote there, quote, “We feel noble intentions should be checked periodically against results. We test the wisdom of retaining earnings by assessing whether retention, over time, delivers shareholders at least $1 of market value for each $1 retained. To date, this test has been met.” Now this was written some time ago. “We will continue to apply it on a five-year rolling basis. As our net worth grows, it is more difficult to use retained earnings wisely.”

So I’m now quoting the questioner here: “The recent annual report made me think about the performance of both the company and the stock price. Berkshire seems to have done quite well in the past few years, but the stock price seems to have not quite kept pace. So I looked at the last five years of earnings per share. They’re on page 26 of the annual report, and they add up in total to $29,207. As you probably know, the closing price of Berkshire on December 31st, 2008 was 84,250. If you add the 29,207 per share of retained earnings to this, you come up with a, quote, minimum market value of $113,457, since Berkshire closed on 12/31/2008 at 96,600.” Away, I’ve read something wrong here. “The closing price of Berkshire on 12/31/2003 was 84,250, and since Berkshire closed on 12/31/08 at 96,600, and is… has been lower than that since, and is now around that, now it would seem that the market value has not increased for each $1 retained. Assuming my analysis is correct, it raises the question of whether or not Berkshire will pay a dividend in the coming year or not.”

Warren Buffett [01:22:01] Well, we’ll now have a short quiz on that program. And the question, the earnings, incidentally, of the five-year period would include gains from things that were listed in an unrealized appreciation at the end of the period. In other words, some of those were actually built into the asset value at the time but then become realized. But the truth is, if you take all of the money we earned in the five years, and the stocks, bonds, businesses purchased, and you sold them for cash on December 31st, 2008, we would not have re… we would have had a loss on that. I mean, under the conditions that existed on December 31st, 2008. I think that’s probably true of almost all capital programs were followed, if you really measured it by what you could have sold the businesses we bought. We love those businesses, but there was no market to speak of for many businesses at that time, and security values were down significantly. So I would say that he’s absolutely right, that measured on the value on December 31st, 2008, that the reinvested earnings had not produced a dollar market value at that particular market point.

Now I would say this, that we also say we measure our business performance against the S&P, and we use book value as a conservative proxy for intrinsic business value. We think intrinsic business value is higher, but we use that as a proxy, and we’ve done that consistently throughout the history of Berkshire. And during that five year period, or during any, we’ve never had a five-year period when we’ve underperformed the S&P, the, in terms of the, what I would call the intrinsic value measure of Berkshire. And as I said a few years ago, it’s… as we get larger, it’s much harder to do that, and we’ll settle for a couple of points better. But so far that test has been made, have been met, and it’s been met while we reinvested all earnings.

So I think that we still have got the burden of… we still should have to prove by the fact that Berkshire will sell above the earnings we’ve retained. Berkshire cells above it. Every dollar that’s been retained in Berkshire translates even today into more than a dollar of market value. But I would certainly say that if you took the five years and just sold all the things we bought during that period at that price, that there would be a loss. Charlie?

Charlie Munger [01:24:40] Yeah, I don’t get too excited about these oddball things that happen once every 50 years, if you’re reasonably prepared for them and you’re dented a little on the bottom tick, and other people are suffering a lot more, and unusual opportunities are coming to you you don’t see under other conditions. I don’t think we deserve any saltiers. Take Wells Fargo. I think Wells Fargo is going to come out of this mess way stronger. The fact that the stock at the bottom tick scared a lot of people, I think, will prove to be a very temporary phenomenon.

Warren Buffett [01:25:27] Yeah, Wells Fargo got done below, actually ticked below $9 a share at a time when spreads on business were never better, when deposit inflows were never better, when their advantage in relation the cost of funds versus other large banks had never been better.

But, you know, it, in a market that was terrified, it literally… I had a class meeting that day, and it was the only time any of those classes have ever got me to name a stock, but they actually pushed me. And somebody there with BlackBerrys or whatever those instruments are that they carry around these days, I checked the price and it was below $9, and I said that if I had to put all my net worth in one stock, that would have been the stock. Their businesses, you know, the business model is fabulous. And then, you know, when would you get a chance to buy something like Wachovia, which had the fourth largest deposit base in the United States, and bring that in and then start getting the spread on assets versus liabilities that Wells gets, and build the relationships they have? It’s a great business opportunity. Wells Fargo will be better off, unless they have to issue a lot of shares, which they shouldn’t. Wells Fargo will be a lot better off a couple of years from now than if none of this had happened.

And I think that’s true of some other businesses as well. But, you know, you have to be prepared. You can’t let somebody else get you in a position where you have to sell out your position. Leverage is what causes people trouble in this world. So you don’t, you know, you never want to be in a position where somebody can pull the rug out from under you, and you also never want to be emotionally in a position where you pull the rug out from under yourself. I mean, you don’t want to, you don’t have other people force you to sell, and you don’t want to let your own fears or emotions cause you to sell at the wrong time. I mean, why anybody sells Wells Fargo at $9 a share when they owned it 25, and the business is better off, is one of the strange things about the way markets behave. But people do it, and they get very affected by looking at prices.

If they own a farm, like I do, you know, 30 miles from here, they don’t get a price on it every day. You know, they… I bought that farm 25 years ago, and you look to the production of corn, you look at production of soybeans, and prices, and cost of fertilizer, and a few things, and you look to the asset itself to determine whether you made an intelligent investment. You have your expectations about what the asset will produce. But people in stocks tend to look at the price, so they’ll let the price tell them how they should feel, or… that’s kind of crazy in our view. We look, we think you should look at the business just like you look at the apartment house that you bought or the farm you want. They let the fact that a quote is available every day turn into a liability rather than an asset. And all I would say there is, you better go back and read chapter 8 of The Intelligent Investor, where it tells you how to think about the market, and it will do you more good than learning what modern portfolio theory is all about. Okay, number 7.

[01:28:40] Shareholder (Jim Powers, West Newton, Massachusetts): My name is Jim Powers. I’m from West Newton, Massachusetts. My question has to do with the stimulus bill by the federal government. I’ve read that only 8% of the money is intended to go to infrastructure. When you invest money, you normally look at the asset you’re getting for the money. With the country going into so much debt, don’t you think it would be better if a great percentage of the money invested by the federal government go to solid assets, as it did during the Great Depression, with the Tennessee Valley Authority, Hoover Dam, other facilities that are still making money today and paying back the original investment by the government many times over, while putting numerous people to work?

Charlie Munger [01:29:35] Let me answer that one. Yes. (Applause)

Warren Buffett [01:29:37] I would certainly agree. I mean, the ’30s, a lot of really wonderful things were done with the money that was used then to simulate the economy, and that should be the goal in the model. I can’t evaluate perfectly what the current stimulus bill will do. I know that I did get a notice the other day from the Social Security Administration telling me I’m getting $250 or more. That’ll last me six or seven months. Charlie will make his last longer, I’m sure. But, you know, that’s the stimulus that the Buffett household has received at the present time. Obviously you want to use the money as intelligently as possible. Obviously also, anytime the federal government does anything on a massive scale, anytime any big organization, a church, a business or anything, you know, throws all kinds of resources something, usually there’s a fair amount of slop.

And I think that the intent… but by the time it gets through Congress and everything, I can’t guarantee how the result comes out. But I think the intent is to get the money into action quickly and to end up having it utilized in intelligent ways. But if the day after Pearl Harbor happened, you know, if you’d attached five or six thousand earmarks to the declaration of war, you know, it would not have been a pretty sight. I mean, it… we have a system now where that doesn’t seem to be perfectly effective, I would say, in detaching the interests of particular legislators away from the common goal. I mean, I get distressed when I look at what gets attached to some of these bills, and that certainly was the case in point. So I’ll go along with Charlie on the answer. But I think the intent of the administration is the right thing. When the American public pulls back like they have, government does need to step in. It will have consequences. We are doing things on a scale… we’re doing the conventional things, but we’re doing them in unconventional amounts, and we will see consequences from what we are doing now. I think we should be doing it, but I don’t think we should think it’s a free ride.

Charlie Munger [01:32:19] Yeah, we have one big no-brainer on the list of infrastructure investments that can be made, and that is a hugely improved nationwide electricity grid. The chances that that won’t help us are zero. And that, when it happens, will enormously benefit Berkshire’s utility subsidiary. But that isn’t the reason I’m raising it. I would be making this argument if we didn’t have a utility subsidiary.

Warren Buffett [01:32:52] We might make a little more strongly if we have the utility subsidiary. Becky.

Becky Quick [01:32:59] This question comes from Rita Addison, who says, “How does Berkshire’s strong balance sheet and credit rating help take advantage of buying opportunities when even weak financial companies can now borrow more cheaply than Berkshire by using U.S. government guarantees of their debt?”

Warren Buffett [01:33:18] Yeah, well, it, as I pointed out in the annual report, we are at a significant disadvantage in any financing type of business where we are competing against people who are getting their funding and their financing with a government guarantee. We, our raw material costs us a lot more money. And that’s particularly applicable at Clayton, where we have $10 or $11 billion of really mortgage paper on mostly manufactured homes. And it’s exceptionally good quality portfolio. Kevin Clayton and the people of Clayton Homes have done a great job in terms of lending responsibly. Our borrowers have behaved very well. But the raw material to fund that portfolio, money, costs us a whole lot more than some bank that’s in trouble. And that’s a real problem for us, and it’s forcing us to try to come up with various other sources of funding that portfolio, where one way or another we get people with government guarantees involved in the program.

That’s just a fact of life with us now. There are the blessed who have government guarantees, and they’re the ones that aren’t. And of course you see that dramatically in the case of some companies that have a government guarantee for part of their money and then sell other money, sell other bonds that aren’t guaranteed. I mean, just the other day, as I remember, I may be wrong on this, but I think Goldman Sachs sold something with a 400 basis point spread that wasn’t guaranteed, whereas their guaranteed paper would be hundreds of basis points underneath that. General Electric sold something earlier this year that wasn’t guaranteed, and the spread between the guaranteed and the unguaranteed was huge. We don’t have anything guaranteed to sell. So we are not in that favored class in any way, and we can’t become a bank holding company. So as long as the situation goes on, we have to figure out ways that we adjust.

We only really use borrowed money… we use it in our utility business, but other utilities are not in this favored class. I mean, the utility industry generally. So our utility borrows money quite well compared to most utilities. MidAmerican’s credit is regarded as very good, and generally speaking, we’ve raised our money at a lower rate, which benefits our customers, in the utility business. We don’t use much money in the rest of our businesses, except for the financing at Clayton, and we won’t use much money. So it, we get our money by float, basically. And our float is, it was $58 billion. I mentioned a little while ago that Wells Fargo raises his money in the first quarter, I think, 1.12%, 112 basis points, which is very cheap. But our money’s cheaper. We can’t get as much of it as Wells does, but we do have 58 billion, in fact we have more now, that you would think will cost us less than zero over time, although there will be given periods when we have a cost to it. But we don’t have an answer for going head-to-head against a government sponsored business that gets, can raise money with a government guarantee. We do not have a way of going head-to-head with them at any business, no matter how prudently we conduct our operations. Charlie?

Charlie Munger [01:37:10] Well, of course we’re at a funding disadvantage, but on the other hand, we aren’t regulated like a bank or a bank holding company. I think we’d be pretty ungrateful if we took this one disadvantage that has come to us and obsessed on it.

Warren Buffett [01:37:32] I get those kind of lectures all the time. Okay, number 8.

[01:37:38] Shareholder (Mary Kimball, New York City): Hi, Mr. Buffett. Hi, Mr. Munger. My name is Mary Kimball from New York City. In getting back to basics, what do you think Ben Graham would have said about derivatives?

Warren Buffett [01:37:53] He would not have liked them. He probably, I think he probably would have said pretty much what I said back in 2002, that they pose a real risk to the system. They cause leverage to run wild. They cause people, counterparties, to sign up for things that may be difficult to achieve under certain circumstances. That they place an already fragile economic system added strains on them, which can pop up in unpredictable ways. But he would probably also say, if he saw something that were mispriced, he would act accordingly. But he wouldn’t get himself in a position where the problems of the people who didn’t act prudently could cause him any problems. And I think that probably would be the answer.

The one, of the one basic problem about derivative… there’s several problems. I mean, back in, after 1929, Congress met, there was a Pecora committee and so on, and they decided that it was very dangerous to let people borrow a lot of money against securities, and that it contributed to the Great Depression. And therefore they said the Federal Reserve should regulate how much people could borrow against securities, and was important for society. And the Federal Reserve started requiring margin, that had margin requirements. Those requirements still exist. You are not supposed to be able to borrow more than 50% against your securities. Actually, during one period they went to where they didn’t, the Federal Reserve allowed no borrowing whatsoever. They went to 100% margin. But derivatives came along and just turned that into a, made those rules a laughing stock. You have what they call total return swaps, which means you can borrow 100% against what sean. That goes way beyond anything that existed in 1929. So derivatives became a way around regulation of leverage in markets, which, like I say, Congress felt was important, and the Federal Reserve still has a responsibility for enforcing.

Derivatives also meant that settlement dates got pushed out. One of the problems in securities markets comes about when you have a trade today; if you had… didn’t have to settle it for a year, you’d find it very hard sometimes to find a person on the other side. And derivatives allow these very long settlement periods, whereas security markets demand them in three days. There’s a reason they demand them in three days. As you extend out periods, you get more and more defaults. So they’re a danger, they are a danger to the system. There’s no question about that. We have a book in The Bookworm called The Great Crash by Galbraith, as one of the great books. You really ought to buy it. It tells the story of the ’29, and it gets into margin requirements. So Ben Graham would not like a system that had used derivatives heavily. But he would, I don’t think he would have been above, if he saw something that looked way out of line and he knew he could handle it himself, I think he would have been quite willing to buy her or sell one that was mispriced. Charlie?

Charlie Munger [01:41:19] I think there’s been a deeper problem in the derivative business. The derivative dealer takes two advantages of the customer. One, there’s a croupier style mathematical advantage, equivalent to the house advantage in Las Vegas. And two, the derivative dealer is playing in the same game with his own clients, with the advantage of being a better player, so, and having knowledge of what they’re doing and having knowledge of what the clients are doing. This is basically a dirty business, and you’re really selling things to your clients who trust you that are bad for the clients. We don’t need more of this kind of thing in America. We need less.

Warren Buffett [01:42:06] Andrew.

ASAndrew Ross Sorkin [01:42:06] Well, this question came in this morning, and it’s a timely philosophical one, given the results of the stress test will be coming out next week. And it relates to your stakes in Wells, U.S. Bancorp and Goldman Sachs. And the question is the following: the government’s proposed restructuring plans for Chrysler and GM require creditors as well as common shareholders to bear losses. Yet with the banks, the government’s actions to date have not required concessions from holders of preferred stock and debt. The government has merely required the dilution of common stockholders. To what extent should holders of preferred stock and debt share losses in the bank rescue plans, or in the resolution of a major bank holding company? And do you expect to be diluted in any of your holdings?

Warren Buffett [01:43:02] Yeah, I would say this, that that’s very institution specific. With Freddie and Fannie, the preferred was gone. I mean, there was no equity, and the preferred got, in effect, it’s gotten wiped out along with the common stock. With U.S. Bancorp or Wells, those are companies making lots of money. There’s lots of equity there. So there’s no reason to go up to senior securities and say that they should give up anything when there’s lots of common equity underneath. It’d be like if I have a mortgage on my house and it’s 70% against its current value, saying, just because other people are having trouble in the neighborhood paying their mortgages because they got much higher mortgage or something, saying my mortgage holder was 70% mortgage, that he should give up something and increase my equity even further. There’s lots of equity there, which there is at Goldman, U.S. Bank, Wells Fargo. Lots of equity, lots of earning power. There’s really no reason for senior debt to give up anything.

You know, you can make an argument at Freddie and Fannie about the subordinated debt, whether they should have suffered as well as the preferred stock and the common. But I don’t see it as applying to earning institutions with lots of future earning power. I would love to buy all of U.S. Bancorp, you know, or I’d love to buy all of Wells if we could do it. You know, we’re not allowed to do it, as a… because it make us a bank holding company. But those businesses, there’s no reason for the creditors to suffer. Now, you get into Chrysler or something, that’s why, you know, there is no way. I mean, they’re losing money all of the time, and they have, they do not have a competitive advantage. You know, whether they’ve got a sustainable business model under any circumstances is open to question. Whether there’s any common equity there is not open to question. You know, there isn’t any common equity. Nobody would pay a dollar, you know, if they had to take on Chrysler and all its debts. Lots of people would pay billions of dollars to take on U.S. Bancorp or Goldman Sachs, you know, with all their debts.

So those are different situations. If you get into a situation where the common equity is wiped out, then you get into a question of, then you get into the proper allocation of things within the capital structure, who gives up so much, and the senior debt may give up something and so on. But I don’t see it as applying at all to businesses that are worth a lot of money, where the equity is worth a lot of money. Charlie?

Charlie Munger [01:45:26] I have nothing to add.

Warren Buffett [01:45:29] Okay, number 9.

[01:45:31] Shareholder (Kelly Cardwell, Warrenville, Illinois): Hello, Mr. Buffett. Yes, sorry about that. Mr. Buffett and Mr. Munger, my name is Kelly Cardwell from Warrenville, Illinois. Guys, if either of you were starting a smaller investment fund today, let’s say in Warrenville, Illinois, $26 million fund called Central Square Capital, hypothetically…

Warren Buffett [01:45:57] You’ll get billed for a commercial later on.

[01:46:00] Shareholder (Kelly Cardwell, Warrenville, Illinois): With this smaller asset base, what would you do differently, both in terms of the number of positions and frequency of turnover? For example, if you owned a portfolio of 10 stocks and five of them doubled in a short time period, would it make sense to actively manage the portfolio and take profits and the five that had doubled, and redeploy the proceeds into your positions, into the ones that had not moved higher, where presumably more upside exists and the odds are more dramatically stacked in your favor? Or would you favor the strategy of sitting on your hands in the name of long-term investing?

Warren Buffett [01:46:40] We would own the half a dozen or so stocks we liked best, and wouldn’t have anything to do with what our cost on them was. It would only have to do with our evaluation of their price versus value. Then it doesn’t make any difference what the cost is. And instantly, if they went down 50%, we would say the same thing. I, you know, and using your illustration, I don’t know whether that fund has actually had something went up or one down. So we would, our cost basis, except in rare cases, and we actually have a situation like this at Berkshire now, which I may explain a little later, but the cost basis has done anything to do with the fund one. Charlie and I ran funds. We didn’t worry about whether something was up or down. We worried about what it was worth compared to what it was selling for. And we tried to have most of our money in a relatively few, very few positions, which we thought we knew very well. We do the same thing now. We do the same thing 100 years from now. Charlie?

Charlie Munger [01:47:52] Yes. He’s tactfully suggesting that you adopt a different way of thinking.

Warren Buffett [01:47:58] Carol.

CLCarol Loomis [01:47:58] This question is from Michael Welter of Portland, Oregon. “You’ve often said that two things you look for in an investment are a sustainable competitive advantage and a simple, easy to grasp business model. Berkshire’s sustainable competitive advantage is arguably you, Warren and Charlie, and that obviously is not sustainable over the long term.”

Warren Buffett [01:48:26] I reject that defeatism.

CLCarol Loomis [01:48:28] I knew you would. “While at this point, Berkshire does not have a simple, easy to grasp business model. So if the two of you were outside investors, is it possible that no matter what combination of intrinsic value and price Berkshire offered, you would not invest in it today?”

Warren Buffett [01:48:53] Now, our sustainable competitive advantage is we have a culture and a business model people are going to find very, very difficult to copy, even the semi copy. We have an unusual group of shareholders. We have a business that’s owned by people where the turnover on our stock, even allowing for all the double counting and everything like that, maybe something like 20% a year, when virtually every stock in the S&P 500 turns over 100% a year. So we have a different shareholder base. We have people that understand their business differently. And we have a business that can offer to people who own private businesses the chance to keep running their businesses as they have in the past, and get rid of the problems of lawyers and bankers and all kinds of things like that. And I don’t see any other company in the United States that has the ability to do that now, or probably the ability to adopt that model in any big way.

So I would say we have sort of an ultimate, and it’s not peculiar to me and Charlie. We may have helped create it, but it is a deeply embedded culture, which any CEOs that follow are going to be well versed in when they come into the job, and dedicated to, and able to continue in the future. And you can’t do… I don’t want to name names about other companies, but you can’t do that elsewhere. So I think anybody wanting to copy Berkshire is going to have a very hard time. And I think the advantages we have are going to be very, very long lasting, and they’re not peculiar to the fact that Charlie and I are sitting up here anymore. They may have been originally, but no longer. Our culture, our managers join that culture, our shareholders join that culture. It gets reinforced all the time. They see that it works.

You know, it’s something that I wouldn’t… I don’t know how I would copy it if I were running, you know, some other company. And it’s meaningful, because there will be businesses, just as there was with ISCAR a while back, just as the management at GEICO felt back in the mid ’90s, in terms of what they wanted to do, there will be people that want to join up with us, and they really won’t have a good second choice. There’ll be plenty that don’t, too, but that’s okay. We just need to have the right ones, some of the right ones join us, and it can go on a long, long time. Charlie?

Charlie Munger [01:51:33] Yes, I might state that a little differently. A lot of corporations in America are run stupidly from headquarters, as they try and force the divisions to come up with profits for every quarter that are better than the profits in the same quarter in the previous year. And a lot of terrible decisions and terrible practices creep into those businesses. In the Berkshire model, that doesn’t happen. So while Warren and Charlie will soon be gone, not too soon in my case, but I’m a little worried about Warren, the stupidity of management practice and the rest of the corporate world will likely remain ample enough to give this company some comparative advantage way into the future. (Applause)

Warren Buffett [01:52:33] Okay, we’ll go to… it’s very important to watch what you eat, as you, in terms of preserving longevity, and so we watch it for hours up here at a time, actually. Number 10.

[01:52:52] Shareholder (Osnor Midov, San Francisco): Hello, Mr. Buffett. I’m Mr. Munger. My name is Osnor Midov. I’m from Fame Studio organization, San Francisco. And my question is from one of financial blogs: how do you justify holding stocks forever when the fundamentals have permanently changed?

Warren Buffett [01:53:09] Well, the answer is we don’t. You know, and if we lose confidence in the management, if we lose confidence in the durability of the competitive advantage, if we recognize we made a mistake when we went into it, we sell, plenty of time. So it’s not unheard of. On the other hand, if you really get a wonderful business with outstanding management, but mostly the wonderful business part of it, when in doubt, keep holding. But it’s no inviolable rule. Now, among the businesses we own, not just securities we own, we have an attitude, which we express in our economic principles, that when we buy a business, it’s for keeps. And we make only two exceptions: when they promise to start losing money indefinitely, or if we have major labor problems. But otherwise we are not going to sell something just because we get offered more money for it, even than it’s worth. And that’s a peculiarity we have, and we want our partners to know about that. We do think it probably helps us in terms of buying businesses over time. It’s also the way we want to run our business.

But with stocks, bonds, we sell them, but we’re more reluctant to sell them than most people. I mean, if we made the right decision going on, we like to ride that a very long time, and we’ve owned many, we’ve owned some stocks for decades. But if the competitive advantage disappears, if we really lose faith in the management, if we were wrong in the original analysis, and that happens, we sell. Or if we find something more attractive. Normally we have plenty of money around, but in September of last year, late September, we had committed to put $6.6 million, billion, in Wrigley week, and then Goldman Sachs needed 5 billions. Yeah, he needs rebellion. I sold a couple billion dollars’ worth of J&J just because I didn’t like getting our cash level down below a certain point under the circumstances that existed then. That was not a negative decision on J&J. It just, it meant that I wanted a couple billion more around, and I saw an opportunity to do something that I probably wouldn’t see too much later, whereas I could always buy J&J back at a later date. But that’s an unusual situation.

I’d like to go back to one point on the earlier question, too. I always, I frequently ask CEOs of companies what they would do differently if they own the whole place themselves. You know, when I’m talking to either companies where we’ve invested, in some other companies, friends of mine run them, you know, what would you do different, is you 100% owned by you and your family, and they give me a list of things. There is no list at Berkshire. You know, we basically run this place the same way we’d run it if we owned 100% of it. And that is a difference that, in terms of people joining in with us, they don’t have to adjust their lives to a bunch of rules that are kind of self-imposed in terms of how people think about public companies, in terms of earnings predictions and all of that sort of thing. And there are certain people that would prefer to be associated with an enterprise like that.

And also, following through on this rule I just explained, know that they’ve made a one decision on where that business that they built up over decades and cherish and everything, they make one decision on where it’s going to go, and they’re not going to get surprised later on. They’re not going to get some management consultant come in and say you ought to have a pure player, Wall Street’s saying so, you ought to spin us off or sell it or anything like that. And they know we’re not going to leverage it up. So they know they’re really going to get to do what they love the most, which is to continue to run their business, not bothered by bankers or lawyers or public expectancies or anything of the sort. And that isn’t… like I said earlier, that’s a real advantage. Charlie?

Charlie Munger [01:57:07] Yeah, in the show business they say the show has legs if it’s going to last a long time. I think Berkshire Hathaway’s system has legs.

Warren Buffett [01:57:18] Okay, with that we’ll go to Becky.

Becky Quick [01:57:21] This is a question from Humin Timadin in Seattle, Washington. He’s got a two-part question, but he says, “From time to time you purchase shares of public companies. Presumably you feel that those shares are a better investment than Berkshire shares at the time, since you never buy back books or shares. If Berkshire shareholders can purchase shares in the same companies for the same price as you, why shouldn’t they sell their Berkshire shares and buy what you are buying?” And secondly, he wants to know why, because he, like thousands of other shareholders, is unable to attend the annual meeting, how come Berkshire does not webcast the meeting? “I am aware of the irony that I will not hear your answer.”

Warren Buffett [01:58:05] Our meeting does get written up, at least it gets written up a lot with various blogs and everything else. It gets written up pretty well in its entirety by Outstanding Investor Digest, and there are others that prepare extensive reports, and they pop up on the internet. So he will in all likelihood find out the answer. We could webcast. I get asked the same question about webcasting the meetings I have with students. You know, why not do that? It’s so much easier and everything. I think there is something gained by personal contact. I certainly know that when I was studying and all of that, I gained a lot by personal contact, even though I’d read Ben Graham’s books, just going and being with them. And I follow that practice in teaching. And I think that I like the turnout we get. I like our partners to show up and see the products we sell and all of that, that this is not something where we’re going to go and hide and hold our meeting, you know, and then in some hamlet, you know, in western Nebraska or something, to discourage attendance. We’ve got a different attitude, and I think that I hope that comes across. And I think that if we webcast it, you know, it was something like turning on a television show. I don’t think it would be quite the same.

In terms of the first part of the question about buying the securities we buy, plenty of people do that, and some of them, but they, incidentally, they’re not buying it with free float that’s available from insurance. So if they have $58 billion that they can get interest-free, they will be in the same position we are in buying those securities. But they are, on the other hand, they have some tax advantages we don’t have. So I don’t quarrel with people to do that. We have to publicize to some extent what we own. Some things they wouldn’t be able to buy, because we make direct purchases. They wouldn’t be able to buy into the businesses we own. But they might very well do better piggybacking us in some way, and they’re certainly free to do it. Charlie?

Charlie Munger [02:00:11] Generally, I think it’s quite smart to do what you’re talking about, is to identify some investors you regard as very skilled, and carefully examine everything they’re buying, and copy what you please. I think you have a very good idea.

Warren Buffett [02:00:29] Yeah, I used, when I was 21 years old, I would, I had to mail way to the SEC in those days. You had these crummy copies about a week later and paid a lot per page to get them. But I used to get the semiannual reports of Graham-Newman Corp before I went to work there, and I would look at every security that was listed there, and I got some of my ideas that way. So it’s, there’s nothing wrong with that. Number 11.

[02:01:00] Shareholder (Sam Alter, West Wings, New Jersey): Honey, my name is Sam Alter. I’m 11 years old and I’m from West Wings in New Jersey. My question is, how will inflation affect my generation, and how was Berkshire investing to prepare for this time?

Warren Buffett [02:01:17] Well, that was about inflation was going to affect you. Yeah, I was… inflation. Yeah, well, the inflation’s gonna… inflation is going to affect you. The, you know, the… it’s certain we will have inflation over time. Paul Volcker got very upset the other day and spoke out, about three weeks ago, I guess, when he read that a majority of the Federal Open Market Committee had sort of targeted 2% inflation as the number. And Volcker, who came in when inflation was raging and saw the problems of stopping it when it got a momentum of its own, said, you know, 2% sounds great, but in a generation it cuts away purchasing power by 50%. He was, got kind of a long generation there, but he was right in the… once you start thinking about a couple percent, you are on something of a slippery slope. And we are following policies in this country now to stimulate things, which simulate business, which are bound to have some inflationary consequences.

And to the extent that we borrow money from the rest of the world, it would be very human on the part of politicians in the future decide that they would rather pay the rest of the world back in dollars that are worth far less than the dollars they borrowed. I mean, it’s the classic way of reducing the impact and cost of external debt, and we’re building up a lot of external debt. I always find it interesting when politicians now talk about using the taxpayers’ money to do this and the taxpayers’ money to do that, and how the taxpayers are paying the bonuses at AIG. We haven’t raised taxes at all in this country. You know, I mean, taxpayers are paying nothing beyond what they were paying a couple years ago. A matter of fact, the federal revenues this year, which were close to $2.6 trillion a couple years ago, you know, maybe more like $2.3 trillion. So we are taking less money from the taxpayers.

The people who are really paying for the things we’re doing now will probably be the people who are buying fixed dollar investments, much of it from the U.S. government, and who will find the purchasing power, when they go to redeem those investments, to be far less. So you can, you might say that the AIG bonus is probably… the Chinese are the people that are ultimately paying the most, in terms of the loss of purchasing power they will have with their holdings of government bonds, U.S. government bonds, many years down the road. But it sounds better to say the taxpayer than to say the Chinese are paying for it. It’s an interesting situation. I read that comment every day about how the taxpayers are doing this and that, and I haven’t had my taxes raised, you haven’t had your taxes raised. They’re giving me 250 bucks back here pretty soon. Taxpayers haven’t paid anything so far. And my guess is that the ultimate price of much of this will be paid by a shrinkage in the value, the real value, of fixed dollar investments down the road. And that will be the easiest thing to do, and if it’s the easiest thing to do, it’s the most likely thing to have happen. So you will see plenty of inflation.

Now, the best protection against inflation is your own earning power. If you’re the best teacher, if you’re the best surgeon, if you’re the best lawyer, you know, whatever it may be, you will command a given part of other people’s production of goods and services, no matter what the currency is, whether it’s seashells or reichsmarks or dollars. So your own earning power is the best by far. If you’re the best journalist, whatever it may be, you will get your share of the national economic pie, regardless of the value of whatever the currency may be, is measured against some earlier standard. The second best protection is a wonderful business. You know, if you own the Coca-Cola trademark company, you will get a given portion of people’s labor 20 years from now and 50 years from now for your product, and it doesn’t make any difference what’s happened to the price level generally, because people will give up three minutes of labor, whatever it may be, to enjoy, you know, a 12 ounces of, you know, of a product they like. And so those are the great assets: your own earning power first, and then the earning power of a wonderful business that does not require heavy capital investment. That requires heavy capital investment, you get killed in inflation. And with those guidelines, I would tell you the best thing to do is invest in yourself.

Charlie Munger [02:06:10] Certainly, yes. The young man should become a brain surgeon and invest in Coca-Cola instead of government bonds.

Warren Buffett [02:06:20] I get paid by the word. He doesn’t. Andrew.

ASAndrew Ross Sorkin [02:06:25] Okay, this question comes to us from Dennis Wallace in Waldorf, Maryland. We got a lot of these, and I’m selfishly interested in the answer. “Given the current economic conditions in the newspaper and publishing business, can you please provide some of your thoughts on its impact on Berkshire, given that our investee, the Washington Post Company, has had a substantial decline in its stock value? Is it still a good use of capital? And given the, quote, cheap trading prices of newspapers in the current climate, would Berkshire considering, consider purchasing additional newspapers to add to the Buffalo News and Washington Post properties? At what price does it become compelling to invest in the newspaper business, or is there no price at which it becomes compelling in today’s environment?”

Warren Buffett [02:07:10] I would say in today’s environment, I mean, it’s an evolutionary development. But so the current economic environment has accentuated the problems of newspapers, but it is not the basic cause. Newspapers are, to the American public as a whole… Charlie and I, I read five a day, Charlie probably reads five a day. We’ll never give them up. But we’ll also be the last guys reading a newspaper while having a landline phone, you know, by our side. And so you don’t want to judge consumer preferences by what we do. The newspaper, no, the answers for most newspapers in the United States, we would not buy them at any price. They have the possibility, and in certain places they’ve already hit it, but they have the possibility of just going to unending losses. And they were absolutely essential to a very high percentage of the American public, you know, 20, 30, 40 years ago. They were the ultimate business. They, it was a business where only one person won, basically, in almost every town in the country. There were 1,700 papers in the United States, and about 50 of those, 20 years ago, existed in a city where there were multiple papers.

So they were a product that had pricing power, that was essential to the customer, essentially the advertiser. And they’ve lost that essential nature. They are, they were primary 30 years or 40 years ago if you wanted to learn sports cars or stock prices or even news about international affairs. And then that nature, what Walter Annenberg used to call essentiality, I don’t know whether it’s in the dictionary or not, but it started eroding, and then the erosion has accelerated dramatically. And they were only essential to the advertiser as long as they were essential to the reader. And, you know, nobody liked buying ads in the paper. It was just that they worked. And that has, that is changing. It’s changing every day. And I do not see anything on the horizon that causes that erosion to end.

We, you know, at the Buffalo News, Stan Lipsey would greet me 10 years ago, and he would say, “Warren, you should, on an economic basis, you should sell this paper.” And I said, “I agree 100%, but we’re not going to do it.” And, you know, we could have sold the Buffalo News for many hundreds of millions of dollars some years back, and we couldn’t sell it, you know, for remotely anything like that now. And that’s one of the policies we… the union has been very cooperative, unions and budget unions have been quite cooperative with us in recent months in trying to have an economic model that will at least keep us making a little money. And as I put in the annual report, in our economic principles, that as long as we don’t think we face unending losses or have major union problems, we will stick with the businesses, even though it would be a mistake if you were acting as a trustee for, you know, a bunch of crippled children or something of the sort. And that’s just our policy at Berkshire.

The Post has a very good cable business. It has a very good education business. But it does not have answers on the newspaper business, as Don Graham wrote in the annual report, nor does anyone else. Now, we all keep looking around for somebody that will find a model, but they’re, I think they’re about 1,400 daily papers now in the United States, and nobody yet has found the model. We are as well positioned in Buffalo, believe it or not, I think, to play out the game as anyone else. But whether we find something before the lines get so that we’re inexorably in the red, or whether the situation gets silver and inexorably in the red, I don’t know. But we will play it out as long as we can. It’s not what they teach you in business school, but it’s the way we run Berkshire. Charlie?

Charlie Munger [02:11:23] Well, I think that’s all 100% right, and it’s really a national tragedy. These monopoly daily newspapers have been an important sinew of our civilization. And by and large, they were impregnable from advertiser pressure, and by and large, they were desirable editorial influences, and by and large, they kept government more honest than it would otherwise be. So as they disappear, I think what replaces it will not be as desirable as what we’re losing. But this is life.

Warren Buffett [02:12:05] Number 12.

[02:12:06] Shareholder (Marc Rabinov, Melbourne, Australia): Good morning, Mr. Buffett and Mr. Munger. I’m Marc Rabinov from Melbourne, Australia. I’m wondering if I could ask you, our retailing, manufacturing and service businesses have been severely impacted by the recession. Given the way consumer spending has changed, is it likely the results will still be 20% below 2007 levels in three years’ time?

Warren Buffett [02:12:41] I don’t know about three years’ time. Certainly, those areas you name, to varying degrees, have been hit very hard. Some of the manufacturing would tie in with residential construction. If we hold housing starts at 500,000 a year, you know, my guess is that in a couple of years, that most, we would get something close to equilibrium in housing, maybe quite a bit sooner. I, nobody knows the figures with precision, but if you keep forming households at 1.3 million or something like that a year, and you create 500,000 new units, and a few of the old ones burned down, on a few things, you will reach equilibrium at a point that’s not ridiculously far in the future. And that will make a big difference in our carpet business and brick business and insulation business and paint business and so on.

Retailing has been hit very hard. The higher the end of it, generally speaking, the harder it’s been hit. There’s been a big change in consumer behavior, and I think it will last quite a bit longer. I think for years government was telling people to save, and now that they’re saving, they’re unhappy about it. But I think that, I think the experience of the last couple years, I don’t think will go away very fast. I think it could last quite a long time. So I would not think our retailing businesses would do great for a considerable period of time. And I would say that in retail real estate, I would think that that would be a tough field to be in for quite a period. I think the shopping centers will be seeing vacancies that will be hard to fill. I think that their retailers will be struggling in many cases. And of course, the supply of real estate doesn’t go away. So it, that could be the shopping center business, which was selling at, you know, these premier cap rates of 5%, even less sometimes. I think that is going to look very silly before all of this is done. In fact, it already is looking that way.

So I wouldn’t count, I wouldn’t… the service businesses are generally the better businesses. They require less capital, and they can be more specialized in what they, in the markets they serve, in general. But I would not look for any quick rebound in the retail, manufacturing and service businesses. That we’ve got a ways to go on that, and we’ve got a ways to go on the ones that are construction related. But at least there you can sort of see the math of when it’ll work out, and you can get a lot of information on what’s going on in real estate markets. South Florida, I think, will be, for example, I think that’s going to be a problem for a long, long time. I hope it isn’t, but I just think the math of it is pretty devastating, in terms of the number of units you have and net pot, net that household formation down there. You’ve got a lot to wade through. Charlie?

Charlie Munger [02:16:07] I’ve got nothing to add.

Warren Buffett [02:16:10] Okay, let’s go to Carol.

CLCarol Loomis [02:16:12] I got lots of questions sent in to me about the possibility of Berkshire buying its own shares, and here’s what one said: “You recently described Berkshire’s policy regarding share repurchases self-defeating, because before repurchase, you said you would write a letter to shareholders explaining why we are going to do it. You said the letter would, by necessity, tell investors that the stock price was at a substantial discount to intrinsic value, which would cause the stock price to rise. The letter would be, in essence, a buy recommendation, though as a matter of policy you don’t make those. In the past, you have emphatically endorsed share repurchase by other companies and criticized managers who would not buy when the price was right. You have said, ‘No alternative action can benefit shareholders as surely as repurchases.’ Your previous views suggest little patience for a manager with a self-defeating policy. You’ve said, ‘When you have a manager who consistently turns his back on repurchases when these are clearly in the interests of owners, he reveals more than he knows of his motivations, so it, and the market correctly discounts assets lodged with him.’ Would it not be rational to conclude that the market will in appropriately, will appropriately discount Berkshire share price unless and until you abandon your self-defeating policy and engage in repurchases of shares?”

Warren Buffett [02:17:44] Yeah, incidentally, the, and this is important actually, the comments I made about repurchasing overwhelming, those go back a lot of years, when stocks generally were, or frequently were, cheap in relation intrinsic value. I did not make that… you haven’t seen me writing about that in the last 10 years or so, because I would say most of the repurchasing done in recent years, I thought, has been foolish, because people have been paying too much. And companies got… in many cases, they would never acknowledge this, but they were buying because they basically liked, they were trying to give out buy recommendations, one by reckon… by recommendation, when it wasn’t justified. In the ’70s and early ’80s, Charlie and I would frequently urge people to repurchase shares, because it was so much more attractive than other things they could do with their money. The only time we felt strongly that Berkshire should repurchase his shares was in roughly 2000, whenever it was that we thought it was demonstrably below intrinsic business value and then we wrote we would do it, and it did become self-defeating. There’s clearly a point where if we thought it was, it was demonstrably below conservatively estimated in intrinsic business value and we notified the stockholders we were going to do it, we would do it. I think it again would largely be self-defeating. I don’t think that situation exists now. I think I won’t give any buy or sell recommendations, but I think it ought to be quite compelling.

Like I say, I don’t, I think probably 90% of the repurchase activity I’ve seen in the last five years I did not think was serving the cause of the shareholder. I thought it was being done because management thought it was the thing to do and their investor relations department told them, I think, it was the thing to do, and they were actually buying stock at kind of silly price. That was not the case when Charlie and I looked at Teledyne or the Washington Post or Cap Cities Broadcasting doing it many years ago, but I haven’t seen situations like that in recent years. Charlie?

Charlie Munger [02:20:09] I’ve got nothing to add to that either.

Warren Buffett [02:20:12] Number…

Charlie Munger [02:20:13] It’s interesting how many companies we’re buying in their stock at twice present prices that aren’t buying it now.

Warren Buffett [02:20:21] I mean, there are lots of those. We will never buy in our stock at a selling price… We may make a mistake by not buying internet at a cheap price, but we’ll never make a mistake, I don’t think, by buying it at a silly price. And we think a significant percentage of corporate America has done that in recent years, including a few stocks that we’ve owned ourselves. Number 13.

[02:20:40] Shareholder (Jack Benben, Haworth, New Jersey): Jack Benben from Haworth, New Jersey. First I’d like to thank you. This is, I’ve been to about a dozen meetings, this is probably the best one, so thank you very much for the new format, and thank you very much to the journalists who really helped out a lot. At past meetings you and Mr. Munger have talked at great length about opportunity cost, excuse me. The past year has presented you with many unusual opportunities. Can you discuss some of the more important opportunity cost decisions of the past year, and were those decisions at all affected by the macroeconomic picture? Thank you.

Warren Buffett [02:21:26] Well, certainly opportunity cost has been much more in the forefront of mind in the last 18 months when things are moving very fast, when both prices are moving and in certain cases intrinsic business value is moving at a pace that’s far greater than we’ve seen for a long time. It means that in terms of calibrating A versus B versus C, it’s tougher, it’s more interesting, it’s more challenging, but it, and it can be way more profitable too. But it’s a different task than when everything was moving at a more leisurely pace.

And I described earlier, you know, we face that problem, and it’s a good problem to have. We face that problem in September and October because we want to always keep a lot of money around. We have all kinds of levels of, extra levels of safety that we followed, Berkshire, and we will never get so we’re dependent on banks or other people’s money or anything else. We’re just not going to run the company that way. So we were seeing things happen. I mean, we got a call, we got lots of calls, but most of them we ignored, but the calls we got that we ignored helped us calibrate the calls that we paid attention to too.

And we, if we got a call from a Goldman Sachs, I think it was on a Wednesday maybe, you know, that was a transaction that couldn’t have been done the previous Wednesday and might not be done the next Wednesday, and we’re talking real sums, $5 billion in that case. And we had certain commitments outstanding. We had a $3 billion commitment out on Dow Chemical, I think, at that point, I could be wrong exactly on the day when we made… We had a $5 billion commitment on Constellation Energy. We had $6.5 billion we were going to have to come up with in early October on the Wrigley Mars deal. So we were faced with opportunity cost type considerations.

And as I said earlier, we actually sold something that under normal circumstances we wouldn’t have thought about selling if it was 10 or 15 points higher than, Johnson & Johnson. But we just didn’t want to get uncomfortable. So you are faced, in a chaotic market particularly, where people need large sums, so you’re not talking about buying $100 million worth of something, you know, one day and $100 million the next day, but all of a sudden you’re called on for billions, if you’re going to play at all. We face that opportunity cost calculation frequently during that period.

I mean, when we decided to commit to buy Constellation Energy, we had to be willing to come up with $5 billion seven or eight months down the line. You didn’t know exactly when, because it would be subject to public utility commission approval. But if something chaotic happened to the market next week, we would get phone calls or we would see stock selling or bond selling at prices we liked, and if the relative values against what we held were interesting, we might sell things. Now, it’s harder to sell things in huge quantities than it is to buy things in huge quantities during a period like that. So you have to measure whether you can actually get the offsetting transaction done to move from one to another.

We have a much, if we’re going to move billions from… It may have been moving hundreds of thousands or tens of thousands of dollars from one holding to another, we really can have big transactional costs unless we’re careful. But that’s the kind of calculation we go through, and we love the fact we get the opportunity to make those calculations. It’s a sign of, it’s a sign of opportunity around. And, you know, we’ll, we haven’t had the flurry of activity like we had last year for a long time. So it was the first time we really faced the question, you know, can we raise a couple billion dollars in a hurry to be sure that we’ve offset the cash needs of what we’re committing to on the purchase side.

On the Johnson & Johnson we sold, we actually made a deal where we got, had a floor price on what we would sell that for, just because the markets were so chaotic that we wanted to be absolutely sure that we would not end up a couple billion dollars less than comfortable when we got all through. Our definition of comfortable is really comfortable. We want to have billions and billions and billions around, and then we’ll think about what we do with the surplus. Charlie?

Charlie Munger [02:26:06] Again, I’ve got nothing to add.

Warren Buffett [02:26:08] Becky.

Becky Quick [02:26:08] This is a question from someone named Yem in Columbus, Ohio.

Warren Buffett [02:26:13] It’s, that narrows it down.

Becky Quick [02:26:15] Yeah. Very company specific. It says, “GEICO has been spending around $400 to $600 million on media advertising a year in the last few years. What are the deciding factors into how much to spend, and how could one estimate the net return on such spending?”

Warren Buffett [02:26:34] Well, that’s a question people have been asking themselves since the beginning of advertising. And, you know, I’m not sure whether it was Marshall Field or John Dorrance at Campbell Soup or something, one of those fellows said that, you know, when I asked whether they didn’t waste a lot of money on advertising, he said, “Yeah, we waste half of, we don’t know which half.” And that is the nature of advertising, although we can measure it better with GEICO than most companies.

We will spend about $800 million on advertising. We spend far more, even though we’re the third largest company, we’ve spent far more than State Farm or Allstate, and we will spend more and more and more. I mean, we will never stop. We were spending $20 million a year, a little over that, when we bought control of in 1995. But we want everybody in the world to, well, everybody in the United States, we’re not going to be selling insurance in China or someplace very soon, but we want everybody in the United States to have in their mind the fact that they can, there’s a good chance they can save money by picking up the phone or going to GEICO.com and checking it out, and important money.

And when we get that message in people’s minds, you never know what it’s going to pay off later down the line, because as I mentioned earlier, starting in around September 30th, we saw a big difference in the propensity of people to come to us to save $100 or $200, whereas they might not have cared about saving that before. So we want, here’s auto insurance. Everybody has to buy it, nobody likes to buy it, but they like to drive, and if you like to drive you need auto insurance. And so it’s going to sell, and you’re going to buy it from somebody, and if you care about saving money, you’re going to check with us, and we want to make sure everybody understands that.

And we won’t, you know, we will spend more money, I will guarantee you, three years from now. Now, we’re getting more for our money in buying advertising this year, so $800 million this year buys more than $800 million that would have bought a couple of years ago. So we’re getting more exposure for the money. But we love spending money on advertising at GEICO, and we want to be in everybody’s mind. Coca-Cola is in everybody’s mind around the world. You know, they started in 1886 and they just kept associating Coca-Cola with moments of pleasure and happiness, and billions and billions of billions of people have that in their mind, and they don’t have anything in their mind about RC Cola, you know, or any… They just, you know, you say RC Cola to somebody around the globe and they give you a blank stare. You say Coca-Cola and it means something. And a brand is a promise. We’re getting our, we’re getting that promise in people’s minds that there’s a good chance they can save money if they check with GEICO, and we’ll never stop. Charlie?

Charlie Munger [02:29:27] Yeah, it’s interesting. If GEICO would remain more or less the same size if we didn’t advertise so healthy, and if the new subscribers are worth more than the $800 million we’re spending advertising, then in an important sense GEICO was earning $800 million more pre-tax in a way that doesn’t even show.

Warren Buffett [02:29:53] Thing we like to see within Berkshire Hathaway, at the value, the value of GEICO goes up by far more than the earnings every year, if we keep adding these people, to, Charlie says. And we could, I’m sure we could maintain for a very long time our present policyholder count and probably spend $100 million a year, maybe less. But we are getting more than our money’s worth for what we spend. We probably waste something, but overall we’re getting a terrific return on it. And if I thought we could get anything like the same return by spending $2 billion next year, we’d spend $2 billion. I mean, it’s a very attractive business, and I don’t see how you create anything like it. I mean, we are the low-cost producer, and if you’re the low-cost producer and something people have to buy, and it’s roughly a $1,500 item, I mean, you’ve got a terrific business, and we have durable competitive advantage there. Okay, we’ll go to number 1, and I think then we’ll break for lunch. Number 1.

[02:31:10] Shareholder (Felton Jenkins, Savannah, Georgia): Okay. Hello, Warren, Charlie. Felton Jenkins from Savannah, Georgia, long time shareholder and partner. I just want to make a quick comment about something that was a big deal the last couple of years about PacifiCorp. There was some controversy, but I’m glad that PacifiCorp has agreed to work with the Native Americans and fishing communities on the West Coast to remove the uneconomic and harmful dams on the Klamath River. So I want to encourage PacifiCorp management to move quickly, close the deal and open the river soon, but thanks for their improved efforts over the last year.

My question is, yet you mentioned Wells Fargo got to $9, and that was a great deal, it looks like, at that price. But what about Washington Mutual, AIG, Wachovia, Citigroup, Fannie Mae, even some Irish banks that I think you were involved with? Those went through $9, and probably a lot of people thought they were still good deals or mispriced at $9, and now you’ve got very expensive toilet paper essentially out of those stock certificates. So I mean, how would you know on the way down? And looking at something like Bank of America that was on the 13F sometime recently, what’s a likely outcome for Bank of America, and how would you analyze what might happen? Thanks.

Warren Buffett [02:32:36] Well, there’s something you can’t analyze. And I would, on the Irish banks, I couldn’t have been more wrong. But it isn’t a matter of whether they go through $9 or anything like that. It’s really whether they, what their business model is and what kind of a competitive advantage they have. I would say that Wells, among the large banks, as by far the best competitive position, you know, of any of the really large banks in the country. And essentially, if you look at the four largest, they each have somewhat different models, but the model of Wells is more different from the other three than any one of the other three would be from the remaining group.

But I was wrong on the Irish banks in a very big way. I simply didn’t understand, and I should have understood, it was available for me to understand, the incredible exposure they’d gotten to more land development type loans, not property loans that, in terms of completed properties, but all kinds of land development loans. It was a extraordin… For a country with four and a fraction million people, you know, they had it, they had money lent for developing properties at homes that would extend just forever in the future. It was a terrible mistake by me. Nobody lied to me, nobody gave me any bad information. I just plain wasn’t paying attention.

The, if you talk about the WaMus, I don’t want to go through all the names on them because it gets specific to some companies, but there were a lot of signs that they were doing things that highly leveraged institution shouldn’t be doing, and that could cause trouble if this model of ever rising housing prices turned out to be a false model. You can get a lot of trouble with leverage. I mean, it’s, it, you start creating $20 of assets or something like that for every dollar of equity. Some of those big institutions did some very, what in retrospect, for certainly here, were foolish things, which if they hadn’t been so highly leveraged would not have hit him as badly. And I would say most of them, if you read the 10-Ks and 10-Qs and did some checking, you could spot differences in them. Certainly you can spot, there’s no comparison, if you take Wells Fargo versus a WaMu or something like that. I mean, you don’t have to have an advanced level of sophistication about banking to compare those two. They’re two different kinds of businesses. It’s like comparing a copper producer whose costs are, and fifty cents a pound, with a copper producer who’s cost her a dollar a pound. Those are two different kinds of businesses. One is going to go broke at a buck fifty a pound and the other one’s gonna still be doing fine.

And banking has real differences in it, but people don’t, they don’t seem to look at them. The figures are available, but and, but they don’t seem to look at them very carefully. When Wells reported the other day, they have an item of expense of over $600 million in a quarter for the amortization of core deposits. That is not a real expense. I mean, the core deposit figure will be up over time, and they are entitled under the tax law to put up, I don’t know, $15 billion or so, and they get to amortize that, which is an advantage. But I didn’t see one newspaper article or any commentator that mentioned that that $600 million charge is in there, which is entirely different than looking at any other bank. But it’s just, it goes unnoticed. So the figures are there and the information’s there.

And I think with Freddie and Fannie, for example, I think it was pretty clear what was going to happen. Now, the interesting thing is the government was telling them to go out and raise some more money for investors, and if those investors had put the money in, it would have been gone. It was already gone, actually, within a month or two. So it, we had calls on that, people trying to, investment bankers trying to place billions of dollars with us on something, on those two institutions, and you just could take one look at them and you could tell they were in big, big trouble.

You do have to know a little bit about, you have to know something about banking and what’s going on in the various kinds of lending and everything. And I would say that generally speaking, for people that don’t spend a lot of time on their investments, they’re going to have trouble separating financial institutions. I think it’s much easier to come to a conclusion on something like Coca-Cola or Procter & Gamble than it is for a person who is spending only a limited amount of time on investing to make a decision on whether to own bank A or bank B or bank C. Charlie?

Charlie Munger [02:38:03] Yeah, there’s another problem. Generally accepted accounting principles allow a conservative, sensible bank to show vastly increased earnings if it changes its practices to make a lot of extremely dumb loans in large volumes. Generally accepted accounting principles should not be constructed to allow this result. It’s, that’s what seduces so many of these bankers into this ghastly decision-making.

Warren Buffett [02:38:30] Yeah. When we bought Gen Re, they had a financial products division. It was named similarly to the ASG, when it was called General Re Financial Products, AIG Financial Products. And it produced numbers regularly that were there, there were always satisfactory numbers. But, you know, when we looked at that, you know, it looked like all kinds of trouble to us. It cost us over $400 million to get out of. And a black box like that can produce, you know, that’s why managements love them, to some degree. They can produce numbers, they don’t necessarily produce cash, and they sure as hell can produce all kinds of problems if you have to start posting collateral and doing things of that sort.

And I would say it is tough for, you might say, the passive investor, the one who’s not spending very much time on it. I would say it’s difficult for them to discern when that’s going on. So I, it’s not a bad area to just say, “This one’s too tough,” and go on to something else that’s a lot easier. I think you can analyze a utility operation easier, you know, or some premier consumer company or something of sort. I don’t think I would look for the tough situations to differentiate, tough industries in which to differentiate things. But there are huge differentiations.

And again, I urge you to read the JPMorgan Chase Dimon’s letter, because you’ll learn a lot by reading that. But a lot of the new regulation that is coming wouldn’t have even been needed if accounting had done a better job, particularly in banking. And yet I have yet to meet an accountant for many of the big firms who have said, “I’m ashamed of my own profession.” That’s a mistake in accounting. If they don’t have shame, they’re not thinking right. But with that happy thought, we will go to lunch now. We’ll reconvene about, let’s reconvene about a quarter of one. We’ll start at that time with Andrew and move on to section two when we come back, and I hope to see you all then. And then we’ll go till three o’clock, and 3:15 we’ll have the annual meeting. Thank you, and we’ll be back in a quarter of.

Okay, let’s get back to work. I should mention one thing, because it’s appeared in the press recently a bit. We will, our goal is to issue every quarterly report on the last Friday after the close prior to the expiration of the 40-day period after the end of a quarter that we have for reporting to the SEC. The SEC says 40 business days, or 40 calendar days, unless it ends on a weekend. 40 calendar days after the end of the quarter you have to file. If it comes on a weekend, then it’s the Monday following. That usually means, because we hold the meeting usually on the first Saturday in May, it usually means that the last Friday possible will be the day before the annual meeting. This year, because the meeting is early on a calendar basis, because of Saturday falling on May 2nd, the last Friday, which will fall on May 8th.

And that is our policy. We like to get it out on a Friday afternoon if possible, because we want people to have the whole weekend to read it before the market opens. It takes time to, I think it takes time anyway to digest the report, and we’d like, we don’t want some headline to determine market prices. We want, as much as possible, a thorough reading of the report. So we will all, we will always, unless something comes up makes it unfeasible, we will issue our quarterly reports on the last Friday before the expiration of the 40-day period, and that’s what we’ll do this quarter. And so we’ve not changed anything.

I can tell you some preliminary figures, which then we have to file an 8-K on, because any information I give you has to be in the public domain before the market opens. But our, what I call our operating earnings, which would be the earnings before any gains or losses from securities or derivatives or any other transactions of that sort, the operating earnings will be about, after tax, about $1.7 billion against $1.9 billion last year. And as I told you, we’re lucky to be in this, in this particular period we’re lucky to be in the insurance and utility business. They’re relatively unaffected by the recession, whereas most of our other businesses are anywhere from significantly to drastically affected by the recession.

We had an underwriting profit in our insurance business that was a little larger than last year. Our float increased a couple of billion. That was primarily due to a transaction that was announced with Swiss Re, which occurred in March, in which they bought what’s known as an adverse loss development cover and gave us 2 billion Swiss francs for that. And that’s very, very long float. The each probability is that we will not pay out on that probably for at least 15 years, and maybe quite a bit longer. So that’s long duration float, and that’s what accounts for the $2 billion, roughly $2 billion gain in float.

The utility business earnings are reported down somewhat, but there were two items that account for that. One is that on our Constellation Energy deal, which blew up last year and we reported a significant gain on it, we got a bunch of Constellation stock, and that is marked to market and goes through our income account every day in theory, but certainly every quarter, and Constellation was down somewhat during the quarter. So that got charged against the utility earnings. And a larger item was a payment, and the final payment, in terms of options that were issued 10 years ago, which had the effect of increasing Berkshire’s interest in MidAmerican, which we like. But we wrote a check, a significant check, with MidAmerican to buy out the options, so, and that got recorded as an expense in the first quarter. But the utility earnings are more than satisfactory, but those two items in it.

Then when you get into all of our other businesses, with just a couple of exceptions, those businesses are basically down. I mean, they’re all getting hit to varying degrees by the recession. So that’s basically the operating earnings story. Our book value per share went down about 6% in the first quarter, which is a combination security markets and the fact that the credit default swaps, which I’m the one that responsible for writing them, that experience has turned worse even since I wrote the annual report in terms of bankruptcy. So that loss, of potential loss, we’re actually still funds ahead by a substantial margin, but that potential loss, and I would say expectable loss, is reflected in the first quarter figures. And of course there’s been some bounce back since March 31st. But that’s pretty much the story of the first quarter.

We ended the quarter with cash equivalents of about $22.7 billion, excluding any cash at the utility or at the finance company operation. But we spent $3 billion of that the next day on a Dow Chemical preferred, so we actually ended, effectively, one day later, the quarter with a little less than $20 billion in cash. We always keep a significant amount of cash at the parent company, not in the regulated subsidiary, so that whatever comes along, we’re prepared for. And that’s pretty much the story of the first quarter.

And I wouldn’t be surprised, I mean, I would, I guess I would almost be surprised if the opposite happened, if the world changed much over the remainder of the year. I think that we will continue, barring some huge natural catastrophe, we will do quite well on insurance, and we will do well in the utility operation, and we won’t do well in most of the other operations. But we will have significant operating earnings, as I mentioned, is about a billion seven the first quarter. If you look at our operating earnings, a billion or a little more that comes from MidAmerican, from our energy business, basically we’re going to leave in that business. I mean, there’s all kinds of opportunities to do things even within our present subsidiaries. There’s lots of projects that promise decent returns. So you should not think of that billion or so as being available to us at the parent. It would be if we wanted it to be, and, but as a practical matter, we’re going to leave it all in. The rest of the earnings are available to us in cash, plus or minus any change in the float, to do anything that interestingly comes along. So that’s an abbreviated summation of the first quarter. We will put out the 10-Q next Friday after the close, and we’ll continue to follow that policy. With that, we’ll go to Andrew.

ASAndrew Ross Sorkin [02:48:44] Excellent. This question actually comes, just came across the BlackBerry before lunch, from what I think is an audience member. Josh Wolfe of New York writes the following: “BYD appears to be more like a venture capital speculative investment than a value investment. Would you both explain that investment, your logic behind it and your expectations for it?”

Warren Buffett [02:49:08] I’m going to turn that over to Charlie in just one second. But Charlie and I think there is no other kind of investment than a value investment. In other words, we don’t know how anybody would invest in a non-value investment. And so we’ve always been puzzled by the term value and saying that contrast with growth or anything. Value relates to getting a lot for the expectable fill of cash in the future in terms of what you’re laying out today. So we always, every time somebody characterizes us as value investors, we always ask them what other kind can there be. But Charlie is our team leader here on BYD, and he gets very excited, so I may have to control him. But go to it, Charlie.

Charlie Munger [02:50:03] Yes. Well, of course BYD, although it’s founder is only 43 years old, is not some early stage venture capital company. BYD is one of the main manufacturers of the world of the rechargeable lithium battery, and it achieved that position from a standing start at zero under the leadership of the founder, Wang Chuanfu. And they went on into cell phone components and developed a huge position. And then finally, not satisfied with having worked a couple of miracles, Wang Chuanfu decided he would go into the automobile business, as nearly as I can tell, it was zero experience in automobiles. And from a standing start at zero and with very little capital, he rapidly was able to create the best-selling single model in China. And that’s against competition that was Chinese joint ventures with all the major auto companies of the world, technological marvels with way more capital and so on.

This is not some unproven, highly speculative activity. What it is is a damned miracle, and I warned you. And of course Wang Chuanfu has hired 17,000 engineering graduates, and those engineering graduates are selected from 1.3 billion people in China, you know, and he’s hiring at the top of the classes. And so you get a remarkable aggregation of human talent. And then you’ve got the basic quality of the Chinese people which, when unfettered from the wrong kind of government, for instance the wrong kind of emperor, the Chinese people succeed mightily. When they came to this country as coolies, slaves, they would leave and soon be the most important people in the town. So this is a very talented group of people, and in a sense this particular period may be Chinese, the Chinese day. And of course these batteries, these lithium batteries, are totally needed in the future of the world, and we need them in every utility company in America, we need them in every utility company of the world. And we have to use the direct power of the sun, and we can’t do that without marvelous batteries, and he’s in the, BYD is in the sweet spot on that stuff.

And I know it looks like a miracle, and it looks like Warren and I have gone crazy, but I don’t think we have. Well, one of us at most. And that car you’re going to see in the annex, I think they make everything in that car except the glass and the rubber. There may be a couple of small exceptions. That’s unheard of. Whoever went into the automobile business and made every part, and made it a bet, and made the automobile the best settle, a best-selling thing? This is not normal. I mean, this is very unusual. And I regard it as a privilege to be, have Berkshire associated with a company that is trying to do so much that’s so important for humanity when you write down to it, because it may be a small company, but its ambitions are large.

And I don’t want to bet against 17,000 Chinese engineers led by Wang Chuanfu, plus a hundred thousand more talented Chinese, in a brand new area constructed the way they want it. And I will be amazed if great things don’t happen here. I don’t think, given the size, it can be all that important to Berkshire financially, but I have never in my life been more, felt more privileged to be associated with something than I feel about BYD.

Warren Buffett [02:55:14] BYD was Charlie’s. Last year the Irish banks were mine, so he’s the winner. BYD incidentally does $4 billion a year of business. I mean, so it is not a small business, said, and it will probably get a lot larger. Let’s go to the area 2.

[02:55:33] Shareholder (Dan Lewis, Chicago): Hello, Mr. Buffett and Mr. Munger. My name is Dan Lewis, I’m from Chicago. My question has to do with the U.S. dollar versus other major currencies. You spoke a little bit already about the government policy and its effect on inflation in the future, and just by itself you think inflation would hurt the dollar, but obviously there’s a lot of other factors at play. So I’m kind of interested in knowing your latest outlook on the dollar. I know you’ve been bearish, but given everything has been thrown up in the air in the last six months, how you think these various things will come together, trade deficit, budget deficits, and how it will affect the dollar.

Warren Buffett [02:56:17] Yeah, it’s pretty unpredictable. But the, I will guarantee you that the dollar will buy less, you know, 5, 10, 20 years from now, and it may be, it may by very, very substantially less. But I don’t know that, obviously. But we are doing things that will hurt the purchasing power of the dollar. On the other hand, the same thing is happening in countries around the world. So it’s very difficult to say whether the dollar versus the pound or the dollar versus the euro, etc., how that will behave, because, you know, the British will run a deficit this year of 12 and a fraction percent of GDP, and even the Germans, with their, you know, that long time fear of inflation, will probably run a deficit of 6 and a fraction percent of GDP.

So you’ve got governments around the world all electing to run, and I think properly so, electing to run very material deficits, in some cases, you know, close to unprecedented except in wartime, electing to do that in order to offset this contraction of demand by their citizenry. And how that plays out in relative exchange rates, I can’t tell you. How it will play out in terms of the value of their currencies, purchasing power in the future versus now, I think is fairly easy to say, and that’s that it’s going to cause units of currency to buy a lot less over time. That isn’t going to happen in the next year or two, but that doesn’t mean that markets won’t start anticipating it at some point. And it’s going to be a very, very interesting future. I mean, we are doing things that we haven’t seen in the past, and policymakers do not know the outcome of that. I don’t know the outcome of it. You do know it will have consequences, and you can bet on inflation. Charlie?

Charlie Munger [02:58:18] Well, I was raised here in Omaha, and I well remember the two cent first class stamp and the five cent hamburger. And so in my life there’s been a lot of inflation, and in my life I think I’ve had the most privileged era of all history in which to live. So a little inflation is not going to ruin the lives of any of us. The trick is to avoid the runaway inflation, and that is a problem Warren and I are going to quitclaim to the younger people.

Warren Buffett [02:58:56] Here is a product, though. Six and a half ounces of this product 100 years ago cost a nickel plus a two cent deposit, and it’s hardly gone up in price at all. It’s very interesting. And wheat hasn’t gone up that much, or oats or things of that sort. And on the other hand, the newspaper that cost a penny 100 years ago cost a dollar now, and they lose money turning it out. So that it gets very uneven in terms of its impact. Carol.

CLCarol Loomis [02:59:29] Warren, Charlie, this question, I got good many of these. This one comes from, who does it come from? Well, it comes from Mr. Kempton, Kempton Lam or Lam Kempton, one of the two, from Calgary, Canada. And the question is, “How would you quantify the financial impact and damage of Berkshire losing its AAA credit rating, which increased the cost of capital of Berkshire, which was surely a competitive advantage for the company? And Warren, what are you doing actively to try to restore Berkshire’s AAA rating? Do you think that Berkshire will be able to regain it?”

Warren Buffett [03:00:14] Well, it won’t regain it soon, because I don’t think rating agencies will turn around like that, even if they should. We have a AAA from Standard & Poor’s, but it’s provisional, and they’re going to look at it in about, I think they said about 12 months. Moody’s affirmed the rating early in January. Then we issued a bond at one point where it was, well, it was, that was right after the rating changed. And actually, in terms of our credit default swaps, which isn’t a metric you can use for credit acceptance, although I’ll tell you in a second an interesting aspect of that, that spread came down. Actually it makes very, very little difference in our borrowing costs. I mean, very little.

And it never has, incidentally. I mean, double-A’s versus triple-A’s, the spread has always been very small. And people would argue in finance classes and all that it wasn’t worth paying the price to have a triple-A, because you didn’t save that much on debt and it cost you in terms of return on equity. I never subscribed to that, and I very much liked having a AAA from both Moody’s and Standard & Poor’s. I was disappointed when Moody’s downgraded us. We didn’t really think that was going to happen, but it did. And it doesn’t have any material effect on borrowing costs. It does, it does cause us to lose some bragging rights around the world in terms of our insurance promise, although nobody ranks ahead of us, that’s for sure. But it will not change back in a hurry. I mean, people don’t make decisions in committees that they reverse very quickly. It’s just not human nature.

We’re still a triple-A in my mind, and actually we’re triple-A in Standard & Poor’s mind, till we hear something differently. We certainly think, and we run it in a way, that there can be no stronger credit than Berkshire. It’s difficult for a rating agency, if they have a check box system of ratios and such, to measure something like the attitude of management toward creditors. But I will assure you that Berkshire has a management that, has a management that regards beating its obligations as sacred, and a lot more important than increasing earnings per share or anything of the sort. I mean, we have obligations to people in something like workers compensation that go 50 years out in the future. I mean, this is somebody that’s been injured severely, and they get a check every month from Berkshire. And, you know, that’s a lot more important than whether we earn X or X plus a tenth or a couple of tenths percent on equity.

And we conduct ourselves, we try to, certainly try to conduct ourselves so that not only will people get those checks, but they’ll never have to even worry about getting those checks. And that’s very difficult for a rating agency to quantify, that attitude on the part of the management of Berkshire. But believe me, it exists. And I would say that the AAA change at Moody’s is not, it’s not going to be material in the future of Berkshire, but it still irritates me. Charlie?

Charlie Munger [03:03:54] Well, at least they showed a considerable independence.

Warren Buffett [03:03:58] Yeah. Who knows, that may have entered into it too.

Charlie Munger [03:04:02] Yeah. My attitude is quite philosophical. I think the next change at Moody’s will be in the opposite direction, and I think that will happen because we deserve a higher rating and they’re smart.

Warren Buffett [03:04:16] When Charlie and I disagree, and we do disagree a lot, we never argue, but we disagree. And Charlie, when he gets to the point where he really wants me to do something, like buy, buy the BYD interest or something, he always says to me, well, he says, “In the end you’ll see it my way, because you’re smart and I’m right.” (Laughter)

I will, I can’t resist pointing out one item that is maybe a little technical to most of you, but there’s some people here who will find it quite interesting, and it actually even enters into credit ratings to the greatest extent, the credit default swap center and good. When we write a, let’s take an equity put option, and we get paid for writing a $1 billion put, somebody pays us $150 million. We get $150 million of cash that day, and we set up a liability for $150 million the first day for the value, or the, that we, our appraisal of what is going to cost us to meet that obligation. I mean, that’s the market price for it. The other guy takes $150 million out of his cash and sets up a $150 million receivable that day. Now, these receivables and payables change over time, but the first day, no profit, no loss, just cash changing hands. One guy sets up an asset, the other guy, we set up a liability.

Now, as the world has developed in the last couple of years, the value of that asset to the other fellow has increased on a mark-to-market basis, and he reports that through earnings. So his asset goes up, our liability goes up, and we report that through earnings as a loss. But we’ve got the cash, and he’s got an asset from us that comes due in 15 years or something like that. And in the last couple of years, the, his auditors, his credit department has said, “Gee, you’ve got a receivable from Berkshire that comes doing 15 years,” and they don’t have to post collateral, “so you have to go out and buy a credit default swap to protect yourself against that receivable going bad.”

Now, that has two effects. A, he’s laying out money every year to buy something that doesn’t cost us anything but cost him a real money. So the, and the more he shows us a profit, the more of the credit insurance he has to buy, so the more money it costs him every year. And that has driven up the demand for credit default swaps at Berkshire, which made for some crazy prices. So at one point our credit default swaps were costing that guy 5% a year. So if he was showing, say, a $200 million asset, he was laying out 10 a year, and he’s going to have to lay it out for 15 years just because of these, of his credit department’s requirements. And it made it very unpleasant for the people on the other side of our transactions, even though they keep writing up the, the profits.

It doesn’t cost us anything, but it does result in a kind of a crazy market in the credit default swaps. I realize that that has not been a burning issue with many of you, but it is an unusual, it’s something I didn’t anticipate. And it explains why to some extent people may want to modify their contracts with us, and if they want to modify them enough, we’ll answer the phone. But in the meantime, we’re sitting with the money. Let’s go to area 3.

[03:08:06] Shareholder (Jim Hadden, Davenport, Iowa): Jim Hadden, Cornhusker in Davenport, Iowa. On our drive over from Davenport we noticed two rather large wind farms by MidAmerican Energy, and my question is, when will be the return on investment of these wind farms, and are Berkshire Hathaway are looking at any other alternative energies?

Warren Buffett [03:08:27] Yeah, we’re the largest, in terms of owned capacity and wind in the country, I believe, of any utility. And Iowa has the greatest percentage of its electricity generated by wind. But of course the wind only blows about 35% of the time, and I was, something like that, and we’ve got people here who can be more accurate than that. But so you can’t count on it for your base load or anything of the sort. But Iowa has been very, very receptive, and I would argue progressive, in encouraging us, and we’ve, and we have encouraged them in return, to bring in a lot of wind capacity. We are a net exporter of electricity in Iowa. I was far more than self-sufficient in our service area in terms of electric generation, and I think that works to the benefit of the people of Iowa. And we have an arrangement with Iowa, we, as you may know, we have not increased our rates at all, but for more than a decade now, and that’s been achieved by efficiencies, it’s been achieved with wind generation. We have a return that’s built in on that that’s fair to us, fair to the people of Iowa, and part of that return comes in the form of a tax credit, I think it’s 1.8 cents per kilowatt hour, that is given to anybody in the United States that develops wind power generation. We love the idea of putting in more wind, and we’re doing it, we’re doing it out in the, at PacifiCorp, and wilkin, I think we’ll continue to be a leader.

And one advantage we have over perhaps some people is that we are a big taxpayer, so that we don’t have to worry about whether the tax credits are useful. I guess the tax credit can be sold also, but we don’t need to do that in our particular situation. So you’ll see more and more wind generation by the MidAmerican companies. When we went into PacifiCorp out on the West Coast, six states out there, they had virtually nothing, maybe nothing at all, in wind generation, and we’ve developed a lot, and we’ve got more coming on. Charlie?

Charlie Munger [03:11:00] Oh, I think, frankly, anything that makes sense in utilities, the Berkshire subsidiaries will be leaders. I think we can all be very proud of MidAmerican and it’s two leaders.

Warren Buffett [03:11:15] We’re enormously proud of MidAmerican, and we will do a lot more in utilities over time. Constellation didn’t work out. I wish it had. But we were back there, Constellation, we learned of their troubles on a Tuesday at noon. I mean, we saw it in the stock price and so on. Dave Sokol and Greg Abel were in Baltimore that evening with a firm all-cash bid to solve Constellation’s problems. And Constellation was likely to get downgraded within 48 hours, maybe 24 hours, and they would have had posting requirements in connection with various derivative transactions that they probably would not have met. I mean, they were facing bankruptcy. And we literally went from a phone call that Dave made to me at noon or one o’clock to handing them a firm bit that evening in Baltimore.

And that’s one of the advantages of Berkshire that is a, I think that’s a durable competitive advantage. And I think there are very few organizations that will act in that manner, and that, where you have the talent there that you feel, as a CEO, you can back them up with that kind of money without worrying about it. So it’s, that is a plus for a Berkshire, even though it didn’t work out that case. We will do more in the utility business.

Charlie Munger [03:12:43] Well, you bought a pipeline, didn’t you, in about two hours?

Warren Buffett [03:12:46] Yeah, we did buy a pipeline, and it’s turned out very well. And in that particular case, the company, Dynegy, that, this was back in 2002 or so, the company needed the money enormously. They’d gotten the pipeline from Enron as a very complicated transaction, but they needed the money, and we needed the Federal Trade Commission approval, the FCC approval, on the deal, as would have anybody that was buying it. And we literally wrote a letter, I wrote a letter to the commission, and I said, “You know, these guys need the money. They need it before the 30-day period is up. And let us go through with us early, and we’ll do any damn thing you tell us subsequently.” And Berkshire can make that kind of a transaction. We don’t ask the lawyers before we do it or anything. We just do it. And that is an advantage, and it was an advantage to Dynegy. It got them through a period that they would have, I’m not sure they would have gotten through otherwise.

So we can move fast when the time comes. But one of the reasons, there’s a couple reasons we can move fast. A, we’ve always got the money, you know, but, and we’ve got a mental attitude toward that. But we also know we’ve got the managers that can deliver on the properties once we own them, and that’s a huge, huge advantage. China, we would be restricted by that ownership limitation, but it’s very hard to imagine that we won’t find more things to do in China over time. I mean, it’s a huge market. We do a lot of things, and some of those are exportable, and there will also perhaps be opportunities to buy more businesses there. We would have bought more than 10% of BYD if we could have, but that’s all that they wish to sell us. So we hope that comes about.

In terms of the Chinese dollar holdings, you know, in a way they can’t get, they can’t get rid of owning more dollar assets. I mean, the nature of it is, if we’re going to run a, as we did a few years ago, or a year or two ago, if we’re going to run a $250 billion trade deficit with China, I mean, if they’re going to send us goods and we want those goods to the tune of $250 billion more than we sell to them, they end up with $250 billion of little pieces of paper. And they can convert those pieces of paper called U.S. dollars, they can convert them into, they can grow in U.S. real estate, into U.S. stocks, U.S. government bonds. They can do all kinds of things. They can even trade them to the French, you know, and get euros or something in exchange, but then the French have the problem.

So the Chinese dollar assets are going to build as long as there’s a significant trade surplus with China, and then they have the choice of what to put those dollars into. And they have elected so far to put a significant amount into U.S. government bonds. And I think a major official about a month ago or so in China said he wasn’t too happy about the prospect of what’s going to happen in terms of the purchasing power of that money that’s been put in U.S. government bonds. And I would say he’s right. I mean, he, that he, anybody that owns dollar obligations outside of this country is, if they hold them a long time, is going to get less back in the way of purchasing power than existed at the time that they took on those dollar obligations.

And it’s a major, it’s a major problem, not the world’s worst problem, but it’s a major problem for a finance minister or a government in China to decide what to do with this buildup that comes about because they are running a trade surplus. And they’ve set up the Chinese Investment Corp, which has a couple hundred billion dollars in it, in terms of deciding to make investments around the world. But it’s an interesting question, if you made me the finance minister of China, what I would do with the trade surplus, the funds that came in because of the trade surplus. And I think I’ll turn it over to Charlie and ask him what he would do if he were the finance minister of China.

Charlie Munger [03:17:18] Well, I read that as a very easy question. I would do exactly what they’re doing. I think China has one of the most successful economic policies in the world, and China has advanced more rapidly than the rest of the world, and I would say their policies are exactly right. And their rate of advance is so great and so meaningful that if they lost a little bit of purchasing power on their dolly, or dollar holdings, it’s a trifle in the big scheme of things from the viewpoint of China. So I’ve got nothing but admiration for the way the Chinese have been running their own affairs, and they’re going to be very hard to compete with all over the world. And that is exactly the correct policy for China. That’s the way you get ahead fast, is to be very hard to compete with all over the world. So I think they’re doing it exactly right, and I think that the United States and China should be very friendly nations, because we’re joined at the hip.

Warren Buffett [03:18:23] So you’d suggest they keep buying U.S. Treasuries that you basically know yield whatever they yield?

Charlie Munger [03:18:30] They’re not no yield, because they can buy longer.

Warren Buffett [03:18:34] Okay, we’ve got some advice for the Chinese government. Carol.

CLCarol Loomis [03:18:39] In the past you have stated that management should, this question comes from Ingrid Hendershot. “In the past you have stated that management should be required after several years to do a post-mortem on acquisitions it makes. Would you each provide us with your postmortem on Berkshire’s largest acquisition, General Re?”

Warren Buffett [03:19:03] Yeah, I don’t think I’ll, I’ll comment on General Re, but I don’t think we generally should make our postmortems public. I don’t think I, I think that if we acquired, we do, we do believe in postmortems, and we strongly believe in them. We think they’re conducted at far too few companies, that it’s easy to propose a deal and it’s much harder to account for it later on. And Charlie is a big fan of rubbing anybody’s nose in their own problems. And we, I, it absolutely should be done. I don’t think it necessarily should be made public. I don’t think that you attract businesses by, and managers, by pointing out, even though you are the one that made the mistake as the acquirer in your projections, pointing out the short falls that may have occurred with the managers that are maybe doing a very good job to try and overcome the fact that you made a mistake in buying it in the first place. So I don’t want to, I wouldn’t want to get into that.

Gen Re has worked, has worked out well after a terrible, terrible start. And I was dead wrong in 1998 when I bought it, in thinking that it was the General Re of 15 years earlier, which had absolutely the premier reputation in the insurance world. And some practices in terms of reserving and underwriting had changed somewhat. But I’m happy to say that, thanks to the combined work of Tad Montross, who is with us here today, and… yeah, Joe Brandon, of course. But Joe and Tad, when they took over in, in what, September of 2001, actually right about the time of the World Trade Center problem, they took after all of the problems. They went right after them, reserving, underwriting, whatever it might be. And Gen Re is the company now that I thought it was when I purchased it in 1998. So we’re proud of them.

It was a very tough job. It wasn’t one that was going to get done by itself. And that, to some extent, when you tighten up on an organization that has fallen into some lax ways, it can, you know, that is not an easy job. Both of them are, each of them, they could have left for some other place, made just as much money, maybe more money, not had to face the problems that they face at Gen Re. But they hung in there, and now we have an organization that we feel terrific about and has a great future. Charlie?

Charlie Munger [03:21:51] Well, I think that’s right. And, but that’s, it’s very important that you have an ability to turn your lemons into lemonade, and we were very, very lucky to have Joe and Tad to help us in the process. It wasn’t, it wasn’t pleasant, and it wasn’t pretty, and it was very successful. And it wasn’t something that ordinary managers would have been at all likely to do. You had to be very tough-minded to fix General Re, and they really did fix it.

Warren Buffett [03:22:29] When we do the post-mortems, we in a sense are looking at our own handiwork. I mean, we make the decisions. You know, it’s not some strategy department someplace or vice president in charge of acquisitions or some management consultant that comes in and tells us we ought to buy this or that. We’re looking at our incisions, and that’s very important, and we talk about that. And we’ve made some dumb decisions, and most of them have been mine, because I’m the guy that’s sitting in Omaha making most of the decision. But it would really be a mistake to discuss in public my dumb decisions, which might reflect, you know, on some of the managers in some of the arenas. So we will not disclose those, but we will tell you that there are dumb decisions made around Berkshire.

Charlie Munger [03:23:17] The really brilliant decision in the General Re transaction was made by Joe Brandon. He was the one who decided that Berkshire should buy General Re, and he caused the transaction, and it wouldn’t have happened, I think, if he hadn’t been there. Would you agree with that?

Warren Buffett [03:23:35] Yeah, that’s true.

Charlie Munger [03:23:36] And Joe was the steward for the General shareholders. We got a decent result and they got a fabulous result. So if capitalism has any heroes in that transaction, why, Joe’s the hero.

Warren Buffett [03:23:49] Okay, let’s go to number 6.

[03:23:51] Shareholder (Chuck Hosmer, California): Yes, sir. Mr. Buffett, Mr. Munger, I’m Chuck Hosmer from California. And you mentioned earlier the union cooperation at the Buffalo newspapers, without the introduction of unions. How do you view contracts for other employees of BRK subsidiaries?

Warren Buffett [03:24:11] Just trying to think whether we have any real contracts. Yeah, we are not big believers in contracts. We hand people hundreds of millions or billions of dollars in some cases to sell us their business, and the decision we have to make is, are they going to have the same passion for the business after they hand us the stock certificate and we hand them the money? Are they going to have the same passion that they had beforehand? And if we’re wrong on that, no contract is going to save us. We don’t want, we don’t want relationships that are based on contracts. So I can’t, you know, I’m, I can’t really think of a formal contract that we have.

We have understandings about bonus arrangements and that sort of thing, and that’s not that complicated, with various managers. I mean, we have the, the comp of the top person at each company is basically my responsibility, and we have all kinds of different arrangements, because we have all kinds of different businesses. Some of our businesses, capital is an important factor, and so you have to put that in the comp arrangement. Some of it, capital doesn’t mean a thing. Some of our businesses are very easy and very profitable. Some of them are very tough, and it takes a genius to, you know, to get a so-so result. So we have a whole bunch of different arrangements on that. But we don’t try to hold people by contracts, and it wouldn’t work, and we basically don’t like engaging in them. So you’re looking at a company that… Can you think of any contracts we have, Charlie?

Charlie Munger [03:25:57] No. Our model is a seamless web of trust that’s deserved on both sides. That’s what we’re aiming for. The Hollywood model, where everyone has a contract and no trust is deserved on either side, is not what we want at all.

Warren Buffett [03:26:17] Yeah, we don’t, we do not want to negotiate the size of the executive bathroom. That’s not our game. Becky.

Becky Quick [03:26:25] This is a question from Edward Donahue from Belmont, Massachusetts. “In the spirit of raising partnership value in these times, has Warren given any thought to spinning off as separate companies? My thinking is that some of these companies would sell at higher multiples to book value than Berkshire currently does. Further, where appropriate, consolidate companies with similar industries with the wish to save on management costs, administration and even potential selling costs.”

Warren Buffett [03:26:53] Yeah, we will not be spinning off any companies. We had to, in the night, we were a bank holding company, believe it or not, at one time. We became one in 1969, and we were given 10 years to dispose of our bank, which was in Rockford, Illinois, and we did have an effective spin off of that. But we, if somebody comes around to us and says, “Gee, you can, you’ve got a multiple of X, and you’re going to have a multiple of 1.5 times X for this serious if you spin it off,” you know, we can’t wait to throw them out of the office. I mean, it just doesn’t interest us. We are not looking for something that gives a, you know, a one-month jump or something like that in market value. If we’ve got a wonderful business, we want to continue it within Berkshire.

We’ve got this ability within Berkshire, which is a real asset, in terms of moving money around into various opportunities without tax consequences. I mean, they’re part of a consolidated return. So if a See’s Candy is a wonderful business, which it is, but it generates a lot of capital that can’t be used effectively in that business, we can move it to some other business or buy other businesses with it. And we have a real advantage in allocation of capital that a shareholder basically can’t do as tax efficiently as we can do it within the company. Plus, when we buy businesses from people, we make them a promise. You know, they can read our economic principles in the back of the annual report, and they know that we’re buying for keeps. You know, it is a marriage that’s going to last. And we’re not going to, because we can get a higher multiple or something for a temporary period of time, spin something off. On top of it, that there would be those other costs, but That’s not the determining factor. It’s the basic principle of Berkshire that we buy to keep, and people can trust us to keep our word on that. Charlie?

Charlie Munger [03:28:52] Yeah, they… So many of those spinoffs, because your market cap will be a little higher. Wall Street sells that stuff so they can get fees. Yeah, it isn’t really doing that much for anybody in the ordinary case.

Warren Buffett [03:29:07] I suppose the one exception that could happen, if the regulation was crazy enough, you know, you can imagine something that might cause Berkshire to go to two parts. But short of something like that, you’re looking at what you’re going to get. It was actually hurting some operation that, because regulation was focused in that, and that tied the hands of other companies in the Berkshire group, you know, we’d have to look at that. But as Charlie said, we have listened to presentation after presentation over a lot of years about, by investment bankers, you know, basically saying, you know, if you just do this wonderful thing, you know, always, that the market will love you. And it, how much is conscious and how much is subconscious, we’ll never know. But the one thing we do know is there’s always a fee that accompanies it. Area 7.

[03:30:03] Shareholder (Mike Nolan, Montclair, New Jersey): Good afternoon. Mike Nolan from Montclair, New Jersey. Until recently, the student loan business in the United States has been a very attractive and successful one. However, proposed changes coming out of Washington have thrown the industry into disarray. Could you comment on the industry, which is highly reliant on both faith, trust, as well as financing, and talk a little bit about the companies in this business?

Warren Buffett [03:30:28] Yeah, I don’t know that much about it. Maybe Charlie does, and…

Charlie Munger [03:30:32] No, I don’t know this much about it either. There’s been a fair amount of scandal in terms of the sales methods. Some of the companies in the field got awfully cozy with some of the university administrators and so on.

Warren Buffett [03:30:50] It’s been a long time since Charlie and I thought about getting a student loan, so we haven’t checked the regulations too carefully on that one. But, you know, we don’t know a lot about it. I actually got approached, I guess it’s about a year ago or a year and a half ago, on the deal that fell through on Sallie Mae. And I said at the time to the fellow that called me, I didn’t understand it that well, and it turned out to be a good thing I didn’t. Andrew?

ASAndrew Ross Sorkin [03:31:28] Okay, this question comes from John McDonald, and he asks, “Warren, in your General Electric and Goldman Sachs investments, do you think you’ve picked attractive businesses or simply attractive securities? Ben Graham’s Security Analysis suggests that the most frightening things an executive management can do is manage earnings, which it could be argued both of these firms do. What is your reaction to that?”

Warren Buffett [03:31:50] Well, I could say that, I could argue that a very substantial percentage of American industry over the last 15 years at one time or another has managed earnings, and I’ve witnessed it and argued against it and got no place. So I don’t regard that as a malady that’s limited in its experience. I don’t know anything, I would not get into the specifics of those companies. I felt good about those companies in terms of the quality of the businesses they had and the quality of the management. But it was the terms primarily that caused us to make those deals. I mean, those were made in a period when markets were in chaos, and you should have gotten very good terms for committing money then. Very few people were either willing or, in many, most cases, able to commit major sums on short notice, and it took good terms in order for us to do it.

And like I said, I’m not sure there was any second possibility in those cases. It was a really extraordinary period. We were happy to do it. I feel good about the deals, obviously, because we got a very good coupon. But considering the circumstances under which you, the deals were made, I don’t think there was an alternative. So if they wanted $5 billion and $3 billion respectively on those deals, I think we were the low bid, in effect. But I also think we made very decent deals. And, you know, could we have done something better with the money at that time? I don’t know. As I measured at that time, I could not find anything that I liked better. It was the terms of the deals overwhelmingly, although we obviously like the businesses. I know the managers, the CEOs of both companies, very well, and I think they are terrific people. I think they’re smart people, and I think they’re very, they’ve been very straight with us, straight with us long before we made a deal with them. So we’re very happy with those deals. Charlie?

Charlie Munger [03:34:02] Yeah, you know, there’s been a lot of criticism of investment banking in this arena, starting with that movie, but Berkshire itself has had marvelous services from all of its investment bankers, which is interesting. Think of what we’d be saying if we’ve been mistreated.

Warren Buffett [03:34:25] We’ve done a lot of business with Goldman Sachs over the years, and my experience goes back to when I was 10 years old and met Sidney Weinberg, who was running the firm, and it was a legendary Wall Street… Well, he was Mr. Wall Street for a long, long time. And I was a friend of Gus Levy, and Gus Levy also did some really nice things for us, including when we had a little nothing company called Diversified Retailing, which Charlie and I and Sandy Gottesman jointly formed. Gus came in on an underwriting of a $6 million issue brought by New York Securities, which he wouldn’t have dreamt of coming in, you know, for in that kind of a deal under most circumstances, and he had Goldman Sachs join in at that time. So there have been a lot of things that have made for a very happy relationship with Goldman Sachs. I feel good about them.

And of course, we do lots of business with General Electric. We’ve bought I don’t know how many of those wind turbines from them. But GE, you know, is a very, very important American institution. We’ll do, we’ll sell them a lot of things, we’ll buy a lot of things from them, and we’ll make money on our investments, so that keeps me happy. Area 8.

[03:35:57] Shareholder (Mark Hoffman, San Diego, California): Hello. Mark Hoffman from San Diego, California. I just want to thank you for all your wisdom and advice over the years. I also like to thank the bull boys at the Blumkins, the Furniture Mart. They gave us a great tour the other day. I’m from an organization called the EEO, and they really showed us the culture at Berkshire and what you guys do. My question is, looking at the overall world economy, the Berkshire businesses are great, but my question is, is there underlying issues you see in the world economy, like going off the gold standard 40 years ago and the fiat currency and countries of making money like crazy? If the Berkshire businesses are great but the underlying economy is a problem, where do we go from there? What are the questions you’re asking yourself about the world economy? Thanks.

Warren Buffett [03:37:06] Yeah, there’s always a lot of things wrong with the world. Unfortunately, it’s the only world we’ve got. I mean, so we live with it and we deal with it. But the beauty of it is this system works very well. I don’t have the faintest idea what’s going to happen in business or markets in the next year or two years. But the one thing I know is that over time, people will live better and better in this country. We have a system that works. It unleashes human potential. I was just thinking, we have today about 35,000 people here. That was almost 1% of the population of the United States in the first census in 1790. Just 100 groups like this and you were talking the whole country.

If you look at the, if we’d had this room filled back in 1790 with 35,000 citizens of the United States, they would have been just as smart as we were, natively, their like intelligence. They would have lived in a country with resources that, obviously, same fertile soil, the same temperature, the same minerals, all of that. So they were just as able as we are, but they weren’t turning out anything like we turn out today. I mean, just look at how we live compared to those people several hundred years ago. So we have had a system that works. It unleashes human potential. And China went for a long time without a system that unleashed potential. Now they’ve got a system that’s unleashing human potential. We haven’t reached the end of that road by a long shot. I mean, we’re just starting, basically.

We will have bad years in capitalism. I mean, it is, it overshoots, and markets, it gets overcome by fear and greed and all of that sort of thing. But if you look at the 19th century, you know, we had a Civil War, and we had 15 years or so of bad economic times spread out for that century. We had six panics, as they called them in those days. In the 20th century, had a couple of great wars, and we had plenty of recessions, we had the Great Depression. So we have these interruptions in the progress of our society, but overall we move ahead. And we not only move ahead, we move ahead at a pretty damn rapid rate when you think about it. I mean, when in the 20th century we had a seven for one improvement in living.

And we did that, you know, we had slavery for a long time, we had blacks counted as three-fifths of a person, we didn’t let women vote for 130 years or thereabouts. I mean, we have, we were wasting human potential, and we still are, but we were doing it more so for centuries. But we do keep moving forward in kind of fits and starts. And right now we’re sputtering somewhat in terms of the economy, but there’s no question in my mind that there is enormous human potential and that every period, every year, we will meet, you can name a bunch of problems, I mean, it will happen, but the opportunities will win in the end. And, you know, your kids will live better than, and you live, and your grandchildren will live better. And we will find more and more ways to find easier and better ways to do things that we haven’t even dreamt of yet. Charlie?

Charlie Munger [03:40:31] Well, now that I’m so close to the age of death, I find myself getting more cheerful about the economic future, which I’m not going to be here to enjoy. And what I find really cheerful is that we are plainly going to harness the direct energy of the sun, and we’re going to have electrical power all over the world, and that’s going to enable overpopulated countries to turn seawater into fresh, and it’s going to eliminate a lot of the environmental problems and preserve more of the hydrocarbon resources for future needs in, as chemical feedstocks. What I see is a, is a final breakthrough that solves the main technical problem of man, and you can see it coming right over the horizon. And of course MidAmerican and BYD will be participating in it. So I think it’s usually a mistake to think only about your probable misfortunes. You should also think about what’s good about your situation. And what’s good about our situation now is the main technical problem of mankind is about to be fixed. The, it’s the, you have enough energy, you can solve a lot of your other problems.

Warren Buffett [03:42:03] He is getting more optimistic as he gets older. Carol?

CLCarol Loomis [03:42:08] This is a question about Berkshire’s investment in Swiss Re. “Given that you have no control over Swiss Re’s underwriting, how can you be comfortable with $2.6 billion invested in a relatively junior security, in addition to the relatively sizable common stock position you already have? Did the General Re acquisition’s problems over the first several years you owned it not make you wary of the potential landmines in reinsurance? And isn’t Swiss Re even more likely to continue to make mistakes, given that you have no management control? Or has your insight into its underwriting culture since you entered into the quota share agreement increased your comfort level with the risks it is taking? You said in the past that Berkshire’s float is worth as much or more than equity. Would you say the same about Swiss Re’s float?”

Warren Buffett [03:43:06] About cicery’s what?

CLCarol Loomis [03:43:07] Though, Swiss Re’s float.

Warren Buffett [03:43:09] Oh, the… We have several arrangements with Swiss Re. One was engaged in a little over a year ago, where we take 20% of their property casualty business, which is reinsurance business primarily, over a five-year period. Then we made a… And that started about a year ago. And then a month or two ago, and at that time we bought about 3% of Swiss Re’s common. Then about a month ago we invested 3 million, 3 billion Swiss francs in a security which pays us 12% a year, and which they can call after two years at 120% of its principal amount. And then if they haven’t called it by the third year, it becomes convertible at 25 Swiss francs a share. The odds are probably pretty good that it will get called, and if it gets called we’ll be unhappy, because the only reason I’ll call is if it’s advantageous for them to call it and disadvantages does. But if it does get called, we will get 120% of par plus 12% a year for it. We are senior, actually, to the Swiss Re equity of roughly 20 billion Swiss francs, so I would not regard it as a junior security.

Swiss Re problems of the last year or so have not come about in any way through their insurance underwriting. Their insurance underwriting has been fine over the years, and we feel fine about having a 20% quota share in that, and we feel fine about our investment. So I would regard, they develop a large amount, as many reinsurance companies do, they do, they develop a large amount of float per dollar of premium volume. So we would expect that this 20% quota share that we’ve had for a year will develop a very significant amount of float relative to the 3 billion or so of premiums that it represents, and I think it will turn out to be attractive float. It will be attractive for us, and will even be a little more attractive for Swiss Re, because in effect they get the commission we pay them, gives them a little override on that.

I think, like I say, that the most likely thing is that our 3 billion dollar position gets called. We also have that 2 billion dollar, or 2 billion Swiss franc, if I’ve said dollar I meant Swiss franc, 2 billion dollars, 2 billion Swiss franc adverse loss cover. And what that says essentially is that if their reserves, we’ll say, in the property casualty business at the end of 2008 were roughly 60 billion francs, but once they paid out, these are not precise figures, but once they paid out 58 billion, 2 billion less than their carried reserves, that we pay the next 5 billion. And like I say, it’s very unlikely we would be paying out money before 15 years on that, and if their reserves are accurate, we will pay out only the 2 billion.

So that was a transaction, again, that was made at a time when Swiss Re was under considerable pressure. They were under threat of downgrade in terms of ratings. And I met with the CEO, the then CEO of Swiss Re on a Sunday in Washington, DC, along with his investment advisor, and we arranged a transaction which their shareholders and their directors later approved. And I think we met their needs, and I think we’ve got an attractive transaction. There’s nothing wrong, you know, we may prefer General Re, but there’s nothing wrong with Swiss Re’s underwriting. It did not cause any of the problems that they have now. That arose from something akin to the problems of AIG, although not remotely on the scale of AIG, but both in, somewhat in financial products and somewhat on the asset side. It did not arise from underwriting. Charlie?

Charlie Munger [03:47:37] Yes. If that’s a terrible problem, we wish we had more of it.

Warren Buffett [03:47:44] Area 9, please.

[03:47:45] Shareholder (Vishali, Philippines): I’m Vishali from the Philippines. My question is about compensation in a capital intensive subsidiary. Now, I’m going to take the liberty to assume that the large number of bank failures were caused in a large part by incentive bias. If a board of directors makes a mistake with compensation, then the board introduces incentive bias towards earnings manipulation. So bearing in mind rule number one, which is don’t lose money, and bearing in mind that it’s okay to have losses in the short term if the moat is widened, then how do you develop a fair and intelligent compensation package for a manager of a subsidiary that requires a lot of capital?

Warren Buffett [03:48:49] Well, you, obviously, it’s a very, very good question. It’s one that Charlie and I have both thought about, and we’ve been around so many crazy compensation systems that we’ve, we spent a lot of time thinking about it and talking about it. In a capital intensive business, you have to have something that, you have to have a factor in the compensation arrangement that includes a capital cost element. We have dozens and dozens of subsidiaries, and we have different arrangements for different businesses, because, as you point out, an arrangement for a business that needs no capital, like a See’s Candy or a Business Wire or something of that sort, has to be materially different than something that requires a lot of capital. We think we’ve got rational compensation systems. We agree with you that incentives are very important.

I would say that I think your question implied a little bit that the board sets these things. The truth of the matter is, at least over 40 years of experience and 19 boards that I’ve been on, and observing behavior a lot of other places, basically the board has had relatively little effect on it. The CEO has managed in most cases, and in a great many cases, to be an important determinant of his own, or her own, usually his own, compensation arrangement. They, you know, they, the human relations, first of all, they picked the comp committee. You know, so I have been on one comp committee out of 19 boards. I mean, people are not looking for Dobermans, they’re looking for cocker spaniels, and then, and they’re looking for cocker spaniels that are waving, wagging their table tails, very friendly.

You know, you should, CEOs spend a lot of time thinking about who’s on their comp committee. The audit committee is less important, but the comp committee they think about plenty. And the comp company meets every few months, and a human relations vice president comes in, who’s responsible directly to the CEO, and probably recommends a compensation consultant. And believe me, they don’t go around looking for the ones that are going to upset the apple cart. So it’s been a system that the CEO is dominated, and in my experience boards have done very little in the way of really thinking through, as an owner or as owners’ representatives, what the hell is the proper way to pay these people, and how to incent them not only do the right thing but also to incentivize them not to do the wrong thing.

Charlie and I are fairly familiar with a company here in town, the Peter Kiewit Organization, and on, Pete Kiewit, I don’t know, 50 years ago or more, you know, figured out a very, very logical way to pay people in his business. And it wasn’t rocket scientist, and I’ll guarantee he didn’t consult with any compensation consultant on the subject. He just figured it out. And you would be able to figure out one, I can figure out one. But you have to understand that not every CEO wants a rational compensation system. You know, who wants rationality when irrationality pays off more? So it’s a real problem getting people at the border.

I think the, I don’t think there should be a comp committee. I think the board as a whole actually should thrash this sort of thing out, so that you don’t get some report from the comp committee and that’s treated as holy writ because they’ve debated for a couple of hours today before, or supposedly, and then come in and get some recommendation, everybody rubber stamps it. I think it ought to be a subject of general discussion. I think it’s a very important, how you compensate the CEO. I’ve said in our annual reports, choosing the right CEO, making sure they don’t overreach, and exercising independent judgment on major acquisitions or divestitures. If the board does that right, you can forget about all this other check the list, checklist stuff, and if they don’t get that right, the other doesn’t make much difference.

So I would say that it can be done. It’s very difficult to have a system where somebody with the board thinking is owners or representing owners, caring as much about it as the guy on the other side who’s getting compensated. I do think it’s gotten better in recent years, but it started from a very low base. Charlie?

Charlie Munger [03:53:35] Yeah, there’s some counterintuitive conclusions in the field that are quite interesting. I would argue that a liberally paid board of directors in a big American public corporation is a, the liberal pay is counterproductive to good management of the company. There’s a sort of a reciprocation, you know, you keep raising me and I keep raising you, and it gets very club-like. And I think by and large the corporations of America would be managed better if the directors weren’t paid at all.

Warren Buffett [03:54:15] We’re working toward that. Well, it is interesting, because the SEC would define independent directors, you know, as they, they would question, you know, my independence if we would own billions and billions of dollars worth of some security but we would sell them some ice cream at Dairy Queen or something of the sort. And the, to get real owner’s representatives is very, and knowledgeable, because they got a, no business, they, that they really have some business savvy. And the truth is, if you get somebody that’s getting two or $200,000 a year, $250,000 a year for being director of a company, and they don’t have that much income outside or net worth, and they would just love to get one more directorship for another $200,000, they are very unlikely to sit there and argue with the CEO and say that the system is rigged in favor of incentive compensation or something of the sort.

There is more baloney in the compensation arrangements, and now you have these 100 page proxy statements, and if you take 100 pages to explain how you’re paying your, the people of the place, something is wrong. I mean, you know, you don’t need it. We don’t have 100 page understandings or anything of the sort. But it’s gotten, it’s got to be more and more of a game as it’s gone along. And I would say that, as Charlie, that when compensation is in a very important part of a director’s well-being, you do not have an independent director. And the funny thing is, the way its system has been arranged, those are the very people that tend to be regarded as the independent directors in most cases.

Charlie Munger [03:55:51] It’s way worse than practically anybody recognizes. Elihu Root, who was the ultimate good cabinet officer in the United States, used to have a saying that no man was fit to hold public office who wasn’t perfectly willing to leave it at any time. And of course the minute he left public office, he went right back to being the leading lawyer of the world, so he didn’t have much to lose by. But the man who has a lot to lose from his office is going to be very loath to be an independent director. So the way we do it at Berkshire Hathaway is one tenth of 1% of America, and the way everybody else does it is silly.

Warren Buffett [03:56:42] I love being up here with him. Becky?

Becky Quick [03:56:46] This is a question from Paula Sauer, and since Charlie seems to be getting more optimistic, maybe we should ask him this question first, and then, Warren, you can try and top it. But Paula writes in, “What’s the worst case scenario you can imagine with respect to the insurance business?”

Charlie Munger [03:57:09] You mean ours or generally?

Becky Quick [03:57:11] I believe she means yours in particular.

Charlie Munger [03:57:13] Yeah, well, the very worst case is some catastrophe where we lose quite a few billions of dollars pre-tax. Even that, I don’t think, significantly impairs the basic business in place. So I think we have a marvelous insurance business, and I don’t want to trade it for any other that I know. How about you, Warren?

Warren Buffett [03:57:39] Yeah, no, it is a fabulous business. The worst, I used to say we would probably pay 4 to 5% of the industry loss from any mega catastrophe. I’m not sure where Katrina finally came in. I don’t know whether it was 60 billion or something in that area, and we probably did play close to, we were in that 4 to 5% range. We’re lower than that probably right now. We not necessarily way lower, but if we had a $100 billion catastrophe, you know, we would probably play 3 to 4% of that currently, so that you’d be talking 3 to 4 billion.

I, you know, the worst, I think the worst situation that could occur is that we ran into so much inflation that people got very, very unhappy with anything that they had to buy in their daily life, the supplies in the utility business too, but certainly like auto insurance, and an effect that they expressed their outrage at inflationary increases and said, let’s nationalize the whole thing. I mean, that would not, that would be a huge asset that would disappear if that occurred. I don’t think that’s a high probability, but if you’re asking me to look at worse cases, that’s probably the one I would come up with.

Charlie Munger [03:59:11] I, well, that happened. Auto insurance was nationalized somewhere, New Zealand or somewhere. It’s not on…

Warren Buffett [03:59:17] If you want the absolute worst cases, you found it. Yeah, we nationalized, to some extent, the annuity business, you know, when we went into Social Security. I think it was a good thing. But when people get outraged enough about something, you’ve heard talk about the banks, I mean, it, when the public gets outraged, the politicians will respond. And inflation would be, wild inflation would be the most likely cause, it seems to me, if something like that have, I don’t think that’s probable, but something like that happening in auto insurance. It’s a bill that most people pay, you know, every six months or even more frequently than that, and if they see that bill going up, and they don’t want to get rid of their car, they’re going to get mad.

And utility companies are going to get, utility customers are going to get very mad during inflation, because they need to turn on the lights, and they hate to see, you know, those monthly bills going up. It’s something they can’t give up, and it’s very visible, and the reaction will be to go to their political representatives and say, do something about this. And one of the things they can do about it is take it over. So very low probability event, but it’s not non-existent. Area 10.

[04:00:42] Shareholder (Patrick O’Donoghue, Cork, Ireland): Gentlemen, Patrick O’Donoghue from Cork in Ireland. So I suppose I should start by saying I’m sorry I’ve had such a tough time in my otherwise wonderful little country.

Warren Buffett [04:00:51] I love the Irish. We’ve got some, we’ve had great luck with the Irish. It was my mistake.

[04:00:57] Shareholder (Patrick O’Donoghue, Cork, Ireland): Okay. Now, I’d like to grow my investment in Berkshire Hathaway, and I think we’ve established it’s a wonderful company. So I’m left with a couple of other issues, which for a foreigner are maybe a little different for people domestically. The first of which is that any gains in Berkshire Hathaway may be wiped out by a slide in the dollar versus the euro, and we’re talking a long term investment here, obviously. The second is, perhaps you could discuss your global acquisitions, which will reduce your dollar dependence and increase your foreign source income. I’ve lost the third. If you could discuss those.

Warren Buffett [04:01:39] Sure. And if it comes to you, but be fine. The predicting the euro versus the dollar, I’m no good at.

Charlie Munger [04:01:48] You did pretty well.

Warren Buffett [04:01:50] Yeah, we did make a couple billion. But the, you could, if you wished, I’m not suggesting this at all, but euro dollar, the euro dollar is an easy thing to hedge. I’m not recommending that, I’m just telling you that that is an option if you’re worried about a major currency. It’s hard to do with the smaller country currencies, but when you’re talking the euro dollar thing, you can keep hedging that if you want to. But like I say that, we don’t normally do that sort of thing, and that could be a pain in the neck to you. I would say, in terms of Berkshire’s earnings, we will just keep doing things that makes, we think, make sense.

Now, if we own, we own over 8%, for example, the Coca-Cola. Coca-Cola, you know, makes 80% or more of its money outside the United States. We own a lot of, we own a lot of Procter & Gamble. They make a lot of their money outside of the United States. Their Kraft makes a lot of money out of the United States. So we have a lot of indirect sources of earnings, and then we have a lot of direct sources of earnings outside the United States. ISCAR makes most of its money, it makes money in the United States, but makes a lot of money elsewhere. And we have other businesses like that. We do not have a predetermined, or goal at all, of developing X percent of our earnings here or there, that place. We just keep, you know, every day we go to work, and we don’t know whether the phone call will come from Israel or from Indiana in terms of a chance to invest some money. We want all of our subsidiaries to be looking at opportunities every place, and some of them will find them abroad, and some of them won’t.

So it is, we are not a, we are not heading any place in terms of sources of earnings. There are a lot of countries we feel comfortable with, and we would be happy to put money into those countries, but we don’t wake up in the morning saying that we would like to have more money in Germany or Spain or whatever, or that we would want to take money out of those countries. And Charlie, and how many more?

Charlie Munger [04:04:08] Yeah, people look at a modern liberal democracy, and it’s very easy to conclude that it’s messy and full of defects, and I think that’s a correct view. But it’s not at all clear to me that the messy defects that we have are worse than the messy defects of Europe. I am an agnostic about these things. I, there’s plenty wrong and plenty right on both sides of the Atlantic.

Warren Buffett [04:04:40] Okay. Andrew?

ASAndrew Ross Sorkin [04:04:41] So this question comes from three shareholders who happen to be employees of Berkshire portfolio companies. They’ve asked not to be named in the, they ask the following question. They say, “We are concerned with both the financial condition of the company and the stability of our jobs. Could you discuss your attitude towards the use of layoffs as a means of responding to short-term downturns in company profits?”

Warren Buffett [04:05:07] Yeah, these are investee companies, or these are invested…

ASAndrew Ross Sorkin [04:05:11] I imagine they are investee companies, and they’re shareholders and employees.

Warren Buffett [04:05:16] Yeah, I wouldn’t have a different attitude, I was just clarifying it. The, there’s no question that business conditions can change such as to necessitate temporary or permanent layoffs. I mean, there’s scales of businesses change. We’re fortunate in a place like GEICO, where our business is expanding, so we’ll probably add at least, I would guess, a thousand jobs net at GEICO. But at the same time, we probably have close to half of our brick plants closed in the Southwest, because people just aren’t building houses now. Now, that business will come back, and we’ll rehire people. On the other hand, our textile business never came back, and we employ fewer people at the Buffalo News than we did a year ago, and that, we are not going to re, regain those or get back to previous levels.

So there are some businesses that may permanently contract, and you have to face up to that in terms of layoffs. There’s other businesses that have severe cyclical type contractions, and they are going to face significant layoffs. There are other businesses that are suffering a little bit during a period like this, but very little, and we will resist the idea of having layoffs. You know, nobody gets any joy out of it, and generally you do it probably a little too late, even, because you keep hoping the business will bounce back up or something of the sort. But, you know, it, if the business changes in a material way, you better change your business model, or, you know, somebody else will, and you’ll even have more changes facing you.

On balance, we hope we get into businesses that don’t face those kind of problems, but certainly in our construction related businesses, we’ve had layoffs at Shaw, we’ve had layoffs at Johns Manville, we’ve had layoffs at Benjamin Moore, we’ve had layoffs at Acme Brick. And there’s really no alternative. I mean, and our competitors all have had also. And, you know, in the textile business, but we got into it 1965. In the end, we laid off everybody. I mean, it did, it contracted enormously before we got there. We tried all kinds of things, and we finally gave up. You know, their capitalism, you know, is creative destruction, and sometimes you’re on the short end of that.

This year, in terms of the businesses we have, you know, our employment will probably be reduced, even though, I’m almost sure it will, even though GEICO will expand. It will not be reduced dramatically, because it’s just hits in certain areas, but it will be reduced, and our managers have to look at the reality of the current situation. Charlie?

Charlie Munger [04:08:22] Yeah, some of our businesses have a shared hardship model, where they don’t lay off, at least not yet. And the businesses with that model tend to be very strongly placed economically. So I guess it shows that Benjamin Franklin was right when he said it’s hard for an empty sack to stand upright. And so we’re all over the map on that, and so is all of industry. And, but I do think, though, an ideal model would be a business so strong that it could operate in the shared hardship mode instead of the layoffs.

Warren Buffett [04:09:06] Yeah, some are doing that, where they, you know, give up hours, and… But a lot of operations don’t lend themselves to that very well either. So ISCAR is operating that way.

Charlie Munger [04:09:20] Yeah, ISCAR is operating that way.

Warren Buffett [04:09:23] And in other cases, you basically have to close down whole plants. I mean…

Charlie Munger [04:09:28] Yeah.

Warren Buffett [04:09:28] Yeah, that’s just the nature of it. It’s better, you really can’t operate every plant at 50% and have it work as effectively as shutting down the least productive plants.

Charlie Munger [04:09:39] In a world where you sometimes have to amputate a limb to stay alive, you can’t expect that every business can stay exactly as it is.

Warren Buffett [04:09:48] Okay. Area 11.

[04:09:49] Shareholder (Ralph Witkin, Greenwich, Connecticut): Hi. Ralph Witkin from Greenwich, Connecticut. I was first here in 1995, and I really appreciate the way you handle this meeting. I’ve been to dozens of others, and I know you’re not obligated to do this, and I thank you for it, both of you. My question is very similar to, if he was number 9, regarding executive compensation. Not so much your view on the compensation, but how we as shareholders can make some attempt to try to correct this and bring it back into some level of balance. Thank you.

Warren Buffett [04:10:21] I had a senator call me just the other day, and his constituents obviously are enraged about executive comp. Probably, you know, AIG really had a huge impact, although, you know, you can take the Merrills and all the rest of them and also. But that story was huge with people, and it was probably, in a certain sense, the outrage was disproportionate to what happened. But, and it doesn’t make any difference, the people are enraged about it. So this senator called me, and he said, you know, he was essentially saying, tell me about a statute we can enact that will make my constituents happy about executive compensation. And my advice to them was they probably couldn’t, and that the last time Congress got into this was in the early days of the Clinton administration, when they passed a bill that said, as I remember, for the top five officers, that you couldn’t get deductibility for comp in excess of a million dollars annually unless it was tied to performance in some way.

That was probably the most counterproductive piece of legislation that Congress has ever come up with, which is quite a statement to make in itself. The net result of that was that when the tax was imposed, of course, the stockholders paid it and the officer didn’t. So it penalized the shareholder, who was already getting penalized by the comp. It led to all kinds of arrangements that were designed to dance around this, which involved lots of lawyering and lots of consultants and lots of pages of proxy statements, the net effect which was to ratchet up compensation very dramatically. Compensation increased far more, in my view, because that was put on the books than otherwise. So I suggested to them that the first thing they would do, should do, is probably repeal that and say, we were wrong, and then figure out whether they should do something right. That did not go over very well.

So I would say that, I’ve always proposed this, it never has gone anyplace, but that won’t stop me from continuing to propose it. All you need in this country is the top half dozen or so investment managers, who manage, you know, we’re talking hundreds of billions, trillions in some cases, of assets. If they would just speak out on the most egregious cases, just, they, you know, there’s a lot of stuff about say on pay and everything, but half a dozen of them, they get lots of publicly, they wouldn’t have to worry about getting their views out. The way they get, the way they get big shots to change their behavior is to embarrass them, you know, basically. And the press has great opportunities to do that, and, but they need the cooperation of the big investors.

So if you’ve got three or four of the biggest investors, when the XYZ company comes out with some crazy plan, to step up and just say, this is outrageous, it would change behavior, and it would, the directors don’t like to look foolish. They don’t like those names in the paper looking foolish, and you would see some real changes. I think that the legislation for it is going to be, I just don’t know how to write the stuff. You know, I mean, you read the case recently at Chesapeake Energy, you know, $75 million for kind of a resigning bonus, and some, there were some other things involved too. It just, you wonder what people are thinking, you know, what the CEO is thinking. And it just, I don’t think you can write the statute that stops it. And like I say, the one they tried to write just screwed everything up royally.

But I do think big, and I think big institutions, if they spoke out, you’d only need three or four of them that spoke out jointly, and they don’t have to do it on every corporation at all, just when it’s egregious enough. But if they get a reputation for speaking out, one that’s egregious, every now and then, it would act as, I think there would be some restraining factor that might set in in corporate America, because the restraining factor is not there, then, not there now. I mean, right now every consultant comes in and brings along what the people that so-called peer companies are making, and they, nobody wants to say their CEO is in the bottom quartile or something, so they just keep comparing themselves to the higher quartiles, and then they ratchet up from there. And, you know, it’s a game that works wonders. I call it the honor system. You know, the shareholders have the honor and the executives have the system.

Charlie Munger [04:15:22] Yeah, well, I don’t, I’m not too optimistic about fixing it from the big investor standpoint. The big investor groups contain many an investment manager making $20 million a year for insignificant contributions. He’s like a man in a glass house that starts throwing stones. And the public pension funds are dominated in many cases by left-wing politicians and by labor unions, who tend to have an agenda of their own that doesn’t really relate to good management. So sometimes the cure is worse than the disease.

Warren Buffett [04:15:57] Well, on that hopeful note, we’ll move on to Carol.

CLCarol Loomis [04:16:01] This is a question from Peter Poulson, he spelled P-O-U-L-S-O-N. He says, “When you acquire companies, they come equipped with managers, and in general Berkshire has done a great job putting the right leaders in the right roles. But occasionally you have to hire someone for an executive spot. Please describe an interview that you might have with a prospective Berkshire operating executive. What do you look for? How do you evaluate a person’s potential to become a great manager?”

Warren Buffett [04:16:36] Well, usually we hire people that have already proven they’re great managers. I mean, when we buy a business, a very high percentage of the time the management comes with it. When we buy in ISCAR, you know, we get the group that’s, that been knocking the ball out of the park for years and years and years. And the real question we have to ask ourselves is, you know, will they be with us in the future? Will they keep, will they be feeling the same way the day after the deal as they did the day before the deal? And we’ve made occasional mistakes on that, but overall that does come true. So it’s, we’ve had good luck with managers, not perfect.

And the toughest part is, since we have no retirement age, is when managers lose the abilities that they had at an earlier age. And that, it doesn’t relate to, there’s no yardstick you can use up and down the line for that. So it’s, people age, at least in business ability, they age in very different ways and at different paces. And Charlie and I have the problem of figuring out sometimes when somebody has, does not have the same managerial ability that they had at an earlier time, and then we have the responsibility for doing something about it, and we hate it. But, by the way, we’ve been slow in those.

Charlie Munger [04:18:04] We’ve been slow every time. We’ve been slow. If we really love the guy, we’re really slow. We are far from ideal.

Warren Buffett [04:18:11] Yeah, it’s very, well, we had a manager, you know, a wonderful, I mean, a guy we both loved at Wesco, and it got Alzheimer’s. I mean, it, you know, and we didn’t want to face it. We finally did, but it took us probably an extra year, year and a half, didn’t it, Charlie?

Charlie Munger [04:18:30] Sure.

Warren Buffett [04:18:30] Yeah, it’s the only part of my job that I don’t like, basically. I hate it. But I pay a lot of money not to have to do it, but occasionally it happens. Fortunately, it doesn’t seem to happen that often that, we find people who love their businesses. You know, I love Berkshire. I, you know, I go to work every day and I’m excited about it, and we, you can spot that in people. I mean, I think most of you would probably realize that that’s the way I feel about it, and I realize that’s the way the managers of our subsidiaries feel about him. I mean, Tony Nicely went to work at GEICO when, you know, it was a teenager, and he’s as excited every day about GEICO as, I mean, the first thing I saw him yesterday at lunch, and first thing he does is hand me the figure, which he knows I’m waiting for. You know, Josie, we are up 505,000, and he carries it out all the way, policyholders. And I mean, I get excited about those numbers, he gets excited about him. You know, we talk about state by state, whatever it may be. And you can’t put that into somebody, but we do recognize it when it’s there, and we do our best to make sure that we don’t do anything that dampens that in any way. Okay. Area 12.

[04:19:49] Shareholder (Jimmy Chong, Dayton, Ohio): Good afternoon, Mr. Buffett, Mr. Munger. Jimmy Chong here from Dayton, Ohio. Mr. Buffett, in October of last year you wrote in a New York Times op-ed piece that you were moving your personal portfolio to 100% U.S. equities. My question is, is that move complete? If not, are you still buying? And in addition to that, how would you rank the recent market downturn in terms of investing opportunities in stocks, junior investment careers?

Warren Buffett [04:20:19] Well, it’s certainly not as dramatic as the 1974 period was. Stocks got much cheaper in 1974 than they are now, but you were also facing a different interest rate scenario, so you could say they really weren’t that much cheaper. You could buy very good companies at four times earnings or thereabouts, with good prospects, but interest rates were far higher than. That was the best period I’ve ever seen for buying common equities. The country may not have been as much trouble then as we were back in September. I don’t think it was. But stocks were somewhat cheaper than in the recent period. I, you know, I bought some equities, and then corporate bonds looked extraordinarily shaped, the spreads were very, very wide, so I bought some of those too.

But the cheaper things get, the better I like buying them. I mean, if I was buying hamburgers at McDonald’s, you know, the other day for X, and they reduced the price to 90% of X tomorrow, not likely, but if they did, I’m happy. I don’t think about what I paid yesterday for the hamburger. I think I’m going to be buying hamburgers the rest of my life, you know, and the cheaper they get, the better I like it. I’m going to be buying investments the rest of my life, and I would much rather pay half of X than X. And the fact that I paid X yesterday doesn’t bother me if I get, as long as I know the values in the business. So on a personal basis, I like lower prices. I realize that that not the way all of you feel when you wake up in the morning and look at quotes, but it just makes sense that when things are on sale, that you should be more excited about buying them than otherwise. And lately, when I wrote that article, the Times, I did not predict what stocks were going to do, because I never know what they’re going to do. But I do know when you’re starting to get a lot for your money, and that’s when I believe in buying. Charlie?

Charlie Munger [04:22:19] Well, if stocks go off 40% on average, they’re obviously closer to an attractive price than they were before. And of course interest rates have gone down a lot recently, at least short-term interest rates. It’s nothing like ’73-’74. I knew when that happened that that was my time and my only time. I knew I was never going to get another trip to the pie counter like that one. Unfortunately, I had practically no money available, which is, that’s why it happens, that, and that’s why those times occur. So if I were you, I wouldn’t wait for 1973-’74.

Warren Buffett [04:23:00] No, we don’t try to pick bottoms, or, but we don’t have an opinion about whether stock market’s going to go tomorrow or next week or next month. So to sit around and not do something that’s sensible because you think there will be something even more attractive, that’s just not our approach to it. Anytime we get a chance to do something that makes sense, we do it, and if it makes even more sense the next day, if we’ve got money, we may do more. And if we don’t, you know, that, what can we do about it? So picking bottoms is basically not our game. Pricing is our game, and that’s not so difficult. Picking bottoms, I think, is probably impossible. But when you get, when you start getting a lot for your money, you buy it. And as I say, after I wrote that, stocks did get cheaper. Corporate bonds, the corporate bond market got very, very, very disorganized, and we bought some fairly good size pieces of bonds for Berkshire, and I also bought a few little things for myself. But I spend 99% of my time thinking about Berkshire. That’s…

Charlie Munger [04:24:12] By now, don’t we have our small life insurance companies pretty well full of desirable debt instruments at 10%?

Warren Buffett [04:24:20] We certainly got a lot more of it than we had. Yeah, now we’ve, we made, we got a chance to buy some corporate bonds very, very cheaply, in my, at least in my view, a few months back. And we had money in life companies that can’t be used in certain other areas, and for which this was an ideal time to just barrel in. And anytime we like to do something, we really like to do it. I mean, our idea is not to tiptoe into anything. So we buy them as fast as we can when prices are right.

Charlie Munger [04:24:59] Yeah, that bond thing didn’t last very long, but there were perfectly safe bonds that yielded 9% or more, with very fancy call protection.

Warren Buffett [04:25:08] Yep.

Charlie Munger [04:25:08] And some of those bonds are up 20, 25%.

Warren Buffett [04:25:10] Yeah.

Charlie Munger [04:25:11] So the opportunities are frequently under shell A when you’re looking at shell B.

Warren Buffett [04:25:16] Yeah, we try to look at all the shells.

Charlie Munger [04:25:20] We look at all the shells.

Warren Buffett [04:25:23] Right. Becky?

Becky Quick [04:25:24] This question is from Jim Mitchell from Costa Mesa, California, who wants to know from both of you. He says, “Years ago, you taught us to beware of capital intensive businesses like electric utilities that may be overstating profits due to understating depreciation. Now that you are investing in utilities and gas pipelines, have you discovered the secret of long life for power plants, or do we need to discount your utility earnings?”

Warren Buffett [04:25:53] Well, the utility earnings pretty much come about through a return on equity capital allowed by the jurisdictions in which you operate. So, for example, if something like pension costs or something of the sort, you get surprises on, you do get to earn that back over time. But you don’t get any bonanzas either. So I would say the capital intensive businesses that scare me more are the ones outside of the utility field, where you just pump in more money without knowing that you’re going in, in a general way, to get more or less, within a range anyway, a guaranteed return. So I do not have, there’s no way we get rich on our utility investments, but there’s no way we get poor either. And we get decent rates of return on the equity that we leave in it, and we’ll probably get those returns with or without inflation. Now, inflation may diminish the value of getting an 11% or 12% return on equity if you get into very high rates of inflation. So in that sense, I’d agree with Jim, who I know, incidentally. He used to work with my daughter out there, Century 21. He’s a good investor.

But the, on balance, if you can find a good business that’s not capital intensive, you’re going to be better off than in a capital intensive business over time. I mean, the world, they’re hard to find, but the best businesses are the ones that don’t require much capital and nevertheless make good money. They’ve got some moat protecting them, other than the capital required as entry in the business, that’s protecting them. And if you can find those that are durable, you’ve got a great investment, and one that will do the best in inflation, which, as we mentioned earlier, seems fairly likely to come along. Charlie?

Charlie Munger [04:27:46] Yeah, unfortunately, a lot of moats have been filling up with sand lately. The, you know, the daily newspaper, the network television station, all these castles with their lovely moats. The moats are filling up.

Warren Buffett [04:28:03] Well, on that cherry note, we have time for just one more question. And Marc Hamburg, I believe you said there was somebody wanting to finish this off. More… Mark, where are you?

MHMarc Hamburg [04:28:14] Right here, right here, Warren.

Warren Buffett [04:28:16] Okay, I can’t, I still can’t see you, but I guess it’s right up in front.

MHMarc Hamburg [04:28:20] Right up in front.

Warren Buffett [04:28:22] Okay, good. I see you now.

[04:28:23] Shareholder (Alex, Boston): Hi, Warren. It’s Alex from Boston. I just wondered if you could give us some advice on how we could improve the economy as we leave.

Warren Buffett [04:28:31] What was your name?

[04:28:32] Shareholder (Alex, Boston): Alex from Boston.

Warren Buffett [04:28:33] Oh. Well, the obvious thing to do is to do what our government tells us to do, which is to go out and spend. And as I mentioned, household formations are important to, to developing, to getting past this overbuild and residential construction. So does, I don’t know whether that gives you any ideas or not.

[04:29:12] Shareholder (Alex, Boston): But I think, I think so. Mimi, you’re my best friend. Would you be my wife?

[04:29:24] Mimi: I said yes. Yes.

Warren Buffett [04:29:26] I have just two… next one. Okay, I have two comments to make. Alex is my sister Doris’s grandson, my great nephew, and Mimi is terrific. So on that note, we’ll end the meeting, and we’ll be back in 15 minutes for the board meeting. Thank you.

Okay, now we’re going to hold an annual meeting. The meeting will now come to order. I’m Warren Buffett, chairman of the board of directors of the company. I welcome you to this 2009 annual meeting of shareholders. I will first introduce the Berkshire directors that are present. In addition to myself, we’ve got Charles Munger, got Howard Buffett, Susan Decker, Bill Gates, David Gottesman, Charlotte Guyman, Don Keough, Tom Murphy, Ron Olson, and Walter Scott. Also with us today are partners in the firm of Deloitte & Touche, our auditors. They are available to respond to appropriate questions you might have concerning a firm’s audit of the accounts of Berkshire. Mr. Forrest Krutter is secretary 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 casting the election for directors. The name proxy holders for this meeting are Walter Scott and Marc Hamburg. Does the secretary have a report of the number of Berkshire shares outstanding, entitled to vote, and represented at the meeting?

FKForrest Krutter [04:30:52] Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent to all shareholders of record homage for 2009, being the record date for this meeting, there were 1,057,573 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled to one vote on motions considered at the meeting, and 14,749,861 shares of Class B Berkshire Hathaway common stock outstanding, with each share entitled to one two hundredth of one vote emotions considered at the meeting. Of that number, 821,400 Class A shares and 10,298,152 Class B shares are represented at this meeting through proxies returned through Thursday evening, April 30th.

Warren Buffett [04:31:34] Thank you. That number represents a quorum, and we will therefore directly proceed with the meeting. First order business will be a reading of the minutes of the last meeting of shareholders. I recognize Mr. Walter Scott.

WSWalter Scott Jr. [04:31:49] I will place a motion before the meeting. I move that the reading of the minutes of the last meeting the shareholders be dispensed with and the minutes be approved.

Warren Buffett [04:31:59] Do I hear a second? Motion has been moved and seconded. Are there any comments or questions? We will vote on this question by voice vote. All those in favor say aye. Opposed? Emotions carried.

The first item of business is to elect directors. If a shareholder’s 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 president 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 now recognize Mr. Walter Scott to place a motion before the meeting with respect to election of directors.

WSWalter Scott Jr. [04:32:47] I move that Warren Buffett, Charles Munger, Howard Buffett, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Tom Murphy, Ron Olson, and Walter Scott be elected as directors.

Warren Buffett [04:32:59] Is there a second? It’s been moved and seconded that Warren Buffett, Charles Munger, Howard Buffett, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott be elected as directors. Are there any other nominations? Is there any discussion? 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 elections. Ms. Amick, when you are ready, you may give your report.

BABecki Amick [04:33:37] The ballot of the proxy holders, in response to proxies that were received through last Thursday evening, cast not less than 859,366 votes for each nominee. That number, of 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 any cast in person at this meeting, will be given to the secretary to be placed with the minutes of this meeting.

Warren Buffett [04:34:15] Thank you, Miss Amick. Warren Buffett, Charles Munger, Howard Buffett, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott have been elected as directors.

The next item business is a motion put forth by Berkshire shareholder Joseph Petrofsky. Mr. Petrofsky’s motion is set forth in the proxy statement and would request Berkshire Hathaway to prepare a sustainability report for shareholders. The directors have recommended that the shareholders vote against the proposal. We will now recognize, I believe it’s Mr. Billenness, Mr. Petrofsky’s representative, to present the motion. To allow all interested shareholders to present their views, I will ask Mr. Billenness to limit his remarks to five minutes. The microphone at zone 1 is available. Well, we go first to Mr. Billenness.

SBSimon Billenness [04:35:04] Thank you, Fred. Thank you very much, Mr. Buffett. My name is Simon Billenness, and I represent Mr. Joseph Petrofsky, the shareholder who filed this year’s resolution asking for a publication of a sustainability report. I will move to shareholder resolution. Ms. Norma Mejía Castellanos will then second the resolution, and then I will ask for a preliminary count of the shares voted. As shareholders, we are proud that in so many ways our company is a leader. A prime example is the emerging success story on the Klamath River. This may result in the largest river restoration project in U.S. history, and this makes economic sense for PacifiCorp and for us as shareholders. However, when it comes to managing environmental and human rights risk and disclosing those risks to shareholders, our management is sadly a laggard. Two respected proxy advisory firms, PROXY Governance and RiskMetrics, have advised shareholders to vote in favor of this resolution.

on the grounds that management badly lags other companies in disclosing these risks to shareholders. Last week CalPERS, the California retirement system, announced that it would vote close to half a billion dollars worth of stock in favor of this resolution. Consider the situation today with Russell, the subsidiary of Fruit of the Loom and a Berkshire Hathaway company. Collegiate licensed apparel, sweatshirts bearing university locals, for instance, is a $5 billion a year market. Russell has admitted to repeatedly committing serious labor rights violations in Honduras, and now over 50 universities, including Harvard, Stanford, and the entire University of California system, have decided to terminate Russell’s license to make clothing bearing their college logos.

This particular sweatshirt I’m holding up right here is University of North Carolina. This was made in a Berkshire Hathaway factory, but the university has since ended that licensing agreement. The treatment, the management of Russell, through its actions, has put $5 billion of potential risk business at risk. The management of Berkshire Hathaway should provide proper disclosure of that risk to us, the shareholders in this company. Now I will pass over to Ms. Mejía Castellanos. She is a sewing machine operator who worked in the factory in Honduras that is the center of these problems, and after she has spoken, I will ask for a preliminary vote count for this resolution.

NCNorma Mejía Castellanos [04:38:15] Honduras. I used to work as a sewing machine operator at the factory Jerzees de Honduras, and says, in 2006, when Fruit of the Loom bought my factory, conditions got much worse. Fruit of the Loom began to consolidate personnel in order to save more on rent. This created many conditions in the factory that caused health problems for workers, such as pain in our backs being caused by the heat from the sewing machines, which were now pressed into our backs because of the limited space. The close proximity also made it very dangerous in the case of an emergency evacuation. Fabric respiratory. In part because of the overcrowding as well, the ventilation was so poor that it caused many respiratory illnesses, including lung cancer. Elaborate. We work from 6:30 in the morning until 5:30 at night, with only 15 minutes for lunch. Nuestro salarios. Our wages were too low to afford child care, and the management refused to provide on-site child care, even though it was required by Honduran law.

Because of all of this, we decided to organize to compel management to clean up our factory. Entonces for organization. In retaliation, Russell illegally fired 145 workers for organizing a union. After we finally legally established our union, Russell said that because of the union they would close down the factory and leave the workers to starve. And this is when we started to receive death threats. Los baños, cabeza. They would leave me notes and illustrations in the bathroom and at my workstation threatening to cut off my head. Finally, I, finally, Russell Athletic did follow through with their threat and shut down the factory in January of this year. Now Russell has been claiming that they will help us find new jobs, but instead they have blacklisted us, preventing us from finding work elsewhere. Yes. This is why so many universities have stopped doing business with Russell, and why this has become such a problem for Berkshire Hathaway. Important. And therefore I second this resolution and urge that shareholders vote in favor. Thank you.

Warren Buffett [04:43:47] Okay. I’d like to ask Mr. John Holland, the CEO of Fruit of the Loom, to respond to the comments just made, and after which we will act on the motion.

JHJohn Holland [04:44:08] First, I need to give you a little background. Russell was a public company listed on the New York Stock Exchange prior to the time that we acquired them in August of 2006. The acquisition consisted of 47 facilities with a little over 14,000 workers. And as we begin to get involved with the Russell operations and how they were conducted, to integrate those into our operations, we found that there were a couple of plants in Honduras that had some problems. And we began, we acknowledged the problems, and we began immediately to remedy these problems. A little later we had a letter from the WRC, the Workers Rights Commission, indicating that there had been some abuses of the employees, and that some had been terminated because they were involved in union activities. We were unaware of the union activities, and we investigated the abuses, but we thought it best to contact an independent third party organization to do an audit.

And we contacted the Fair Labor Association, which is kind of a worldwide organization that’s grouped with a group of businesses and the leading universities in the U.S. to try to make certain that workers rights are adhered to on a worldwide basis. We asked them to conduct the audit, and they conducted the audit, and all of the abuses that we had been charged with, they said through the independent audit, they were non-existent. But they did tell us that there were two supervisors who had conducted some abusive language with the employees, and also that it was very likely that some employees might have been terminated due to their union activity. So as a result, they gave us a list of items that they would like us to follow to remedy the situation. The supervisors, as well as the management of the facilities, were eliminated, and we’ve started immediately, progressively, to implement all of the recommendations of the Fair Labor Association’s independent audit.

And part of that was that the workers that they felt might have been terminated due to union activities, that we reinstate the workers. The plant had not been organized at that point, so we voluntarily engaged the union and acknowledged them and accepted the union, and we rehired all of the workers that we could locate into a facility that was across the street from this particular plant. And since then we have followed all of the recommendations of the Fair Labor Association, and they have a monitoring process. And after about three months there was another audit by the Fair Labor Association and the Workers Rights Commission, which is another related organization, and they said that the activity that we engaged in, they were very well pleased with the progress.

Then, as I said previously, we acknowledged the union and began negotiations. There was approximately 48 issues that they wanted to discuss, and we reached agreement on 24 of those. And we, the union even agreed that we had had very good relationships, that we’d approach the negotiations openly and fairly. And there were some other points that they wanted to move to, up to arbitration on that remediation, that we could not agree on. And by that time, the time had passed till we reached the mid-year of 2008, when the recession on the apparel industry dramatically affected our particular business, and over the course of the next few months we had to close nine of our facilities. One of those was the Jerzees de Honduras plant that they have referred to. And there was a total of 12,780 employees involved in the plant closures, and out of that group, about 310 people, which has been acknowledged by the union, that were union employees, because in Honduras, under the laws there, only 30 people are required to form a union and be acknowledged as a union. And up until that time, there had been no indications of any issues that have been brought up by the union that were not solved.

Now, beyond that, I would like to tell you a little about how we conduct business worldwide and our plants. We have been in Honduras since 1993. All of our plants are air-conditioned, excellent ventilation in all of those facilities. Our wages in those plants are 26% on the average above the minimums in Honduras. We offer 11 paid holidays, we have paid vacations, we have free life insurance, we have a doctor and nurse in each one of those facilities. And the reference to the filtered water: when we acquired that paint plant, that particular plant had its own filtration systems, we had, which was different from all of our other plants, which we use bottled water. We immediately had that water tested. Although there was some discoloration, it was tested as pure, but we immediately shut down the filtration system and went the bottled water that we have, and the other plants.

We have paid maternity leaves, we have a breastfeeding hour, we celebrate the employee birthdays back, and also that we have a children’s day. And that, I think our benefits, I’m proud to tell you, I think are far and above any that you’ll find in most other apparel facilities throughout the world. And there have been no death threats. We have tried to conduct our business with honesty, integrity, and quite frankly, I’ve been with this company, I’m in my 48th year, and I would tell you that I’m very proud of how we operate our particular plants.

We have met with a number of the leading universities to try to tell the other side of the story. We’ve invited those presidents of the universities and the administration to come to see for themselves what our plant facilities are like, and we’ve had two acceptances that were down this past week, the representatives from Princeton and also from the University of Arizona. And we welcome putting all of this into an open spotlight. We also have a website, that’s www.russellsocialresponsibility.com, that all of this activity that we’re responding to the recommendations, the Fair Labor Association, is posted on that website. It’s there for the world to see.

And we continue, Fair Labor Association has a three-step process of continuing monitoring, and then they do independent audits periodically to see what our progress is, and all of that is posted on that website. Thank you.

Warren Buffett [04:53:41] Thank you, Dan. The motion is now ready to be acted upon. If there are any shareholders voting in person, they should now mark their ballots on the motion and allow the ballots to be delivered to the inspector of election. Ms. Amick, when you’re ready, you may give your report.

BABecki Amick [04:54:02] My report is ready. The ballot of the proxy holders, in response to the proxies that were received through last Thursday evening, cast 49,251 votes for the motion and 702,963 votes against the motion. As the number of votes against the motion exceeds a majority of the number of votes related to all Class A and Class B shares outstanding, the motion has failed. The certification required by Delaware law of the precise count of the votes will be given to the secretary to be placed with the minutes of this meeting.

Warren Buffett [04:54:38] Thank you, Miss Amick. The proposal fails. Does anyone have any further business to come before this meeting before we adjourn? If not, I recognize Mr. Scott to place a motion before the meeting.

WSWalter Scott Jr. [04:54:50] I move this meeting be adjourned.

[04:54:52] Unidentified speaker: Second.

Warren Buffett [04:54:52] Motion to adjourn has been made and second, and we will vote by voice. Is there any discussion? Not. All in favor say aye. Opposed say no. Meetings adjourn, and I hope to see you next year. Thank you. (Applause)