1999 Berkshire Hathaway Annual Meeting (Full Version)
[Applause] Good morning! Really delighted we can have this many people come out for a meeting. It says something, I think, about the way you regard yourself as owners. We're going to hustle through the business meeting and then Charlie and I will be here for six hours or until our candy runs out to answer any questions you have. We have people at a number of remote locations and we have ways of bringing them in for the questions as well.
Incidentally, if you hadn't figured it out already, this hyperkinetic bundle of energy here on my left is Charlie Munger, Vice Chairman, and we will now run through the business of the meeting. 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 1999 Annual Meeting of Shareholders. I will first introduce the Berkshire Hathaway directors that are present in addition to myself, and if you'll stand up, it's a little hard for me to see that.
Right down here in the front row we have Susan T. Buffett. Just stand and remain standing, please! If you encourage her, she'll sing another song. Howard G. Buffett, don't encourage him to sing a song. Malcolm G. Chase. Charlie, you've already met. Ronald L. Olson. Ron and Walter Scott Jr. also with us today are our partners in the firm of Deloitte and Touche, our auditors. They are available to respond to appropriate questions you might have concerning their firm's audit of the accounts of Berkshire.
Mr. Forrest Crudder is Secretary of Berkshire. He will make a written record of the proceedings. Ms. Becky Hammack has been appointed Inspector of Elections at this meeting. She will certify to the count of votes cast in the election for directors. The name proxy holders for this meeting are Walter Scott Jr. and Mark D. Hamberg. Proxy cards have been rebellion 133,684 Class A Berkshire shares and Class B Berkshire shares to be voted by the proxy holders as indicated on the cards. That number of shares represents a quorum, and we will therefore directly proceed with the meeting.
We will conduct the business of the meeting and then adjourn the formal meeting. After that, we will entertain questions that you might have. Does the secretary have a report of the number of Berkshire shares outstanding entitled to vote and represented at the meeting? Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent by first-class mail to all shareholders of record on March 5, 1999, being the record date for this meeting, there were 1,343,592 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled to one vote on motions considered at the meeting, and 5,266,338 shares of Class B Berkshire Hathaway common stock outstanding, with each share entitled to one two-hundredth of one vote on motions considered at the meeting.
Of that number, 1,133,684 Class A shares and 3,485,885 Class B shares are represented at this meeting by proxies returned through last Friday. Thank you. First, the one item of business of this meeting is to elect directors. If a shareholder is present who wishes to withdraw a proxy previously sent in and vote in person on the election of directors, he or she may do so. Also, if any shareholder that is present has not turned in a proxy and desires a ballot in order to vote in person, you may do so. If you wish to do this, please identify yourself to meeting officials in the aisles who will furnish a ballot to you.
With those persons desiring ballots, please identify themselves so we may distribute them. I'd like to make one comment before we proceed to the election of directors, and that's that in the General Re proxy material relating to the General Re merger, it was stated that the intention was to have Ron Ferguson, the CEO of General Re, join the Board of Berkshire Hathaway, and that offer was extended and still remains open for his lifetime and mine. He decided that he preferred not to be on the board, and in that judgment, he concurs with my feelings generally about boards, and that they can restrict your activities in purchase and sale of the stock.
For example, if you do it in a six-month period, you're automatically in trouble, and you have to return any profit as calculated in a rather peculiar way to the company. It means that your compensation system is laid out for the world to see. There may be some tax restrictions in terms of the deductibility of salary paid. So Ron notified me a little bit before the proxy material went out that he preferred at least to defer any decision on joining the board.
I can tell you that it has cost Berkshire significant money by the fact that Charlie and I have been on various boards because your hands are tied in many respects, even if you don't have any knowledge of anything that might be of material plus or minus. The very fact that it might be imputed to you can restrict action significantly. So we make a point of not trying to be on very many boards. Charlie and I have only gone on boards where we have very significant investments by Berkshire, and sometimes those have caused us to take on a job that we didn't intend originally, as that Solomon movie showed.
So Ron, the offer is 100% open to Ron at any time, and if he changes his mind in any way, he will be on the board. But that explains the discrepancy between the actions that are being taken this morning and what was described as likely to happen in the proxy material. Now, with that explanation, I would like to recognize Walter Scott Jr. to place a motion before the meeting with respect to election of directors. Walter? I move that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. be elected as directors.
Is there a second? Somebody should second it. We got a second down there. So, oh good, okay. It has been moved and seconded that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. be elected as directors. Are there any other nominations? Long enough? Is there any discussion? Long enough? The nominations are ready to be acted upon. If there are any shareholders voting in person, they should now mark their ballots on the election of directors and allow the ballots to be delivered to the Inspector of Election.
With the proxy holders, please also submit to the inspectors of election a ballot on the election of directors voting the proxies in accordance with the instructions they have received. Ms. Amick, when you are ready, you may give your report. My report is ready. The ballot of the proxy holders in response to proxies that were received through last Friday cast not less than 1,145,271 votes for each nominee. That number far exceeds a majority of the number of the total votes related to all Class A and Class B shares outstanding.
The certification required by Delaware law of the precise count of the votes, including the additional votes to be cast by the proxy holders in response to proxies delivered at this meeting, as well as those cast in person at this meeting, if any, will be given to the secretary to be placed with the minutes of this meeting. Thank you, Ms. Amick. Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. have been elected as directors.
After adjournment of the business meeting, I will respond to questions that you may have that relate to the business of Berkshire, but do not call for any action at this meeting. Does anyone have any further business to come before this meeting before we adjourn? If not, I recognize Mr. Walter Scott Jr. to place a motion before the meeting. I move this meeting be adjourned. Is there a second? A motion to adjourn has been made and seconded. We will vote by voice. Is there any discussion? If not, all in favor say aye. Opposed say no. I'm sorry, okay, the meeting is adjourned.
Now we'll move forward. Thank you. I asked you, was Joe Stalin ever any better? I mean, we will—we have this room broken into eight zones and then we have five more zones from various off-site locations. We will move in order; we have microphones that you can go to and we have a monitor at each microphone that will line people up. We will rotate around the 13 zones. There's just one question per person. I would ask that you identify yourself and state where you're from. Now, you have to be a little careful on that because a lot of people will say that, who really aren't, will say that they're from Nebraska for status reasons. But if you get beyond that, we will try to identify where everybody is from.
We'll start off in zone one, which is on the right here at the front. My name's Tim Speer and I'm from Hertfordshire, England. I was thinking in Ben Graham's book "The Intelligent Investor," he spends the first couple of chapters discussing the level of the market and whether it was safe for investment. I was wondering what you'd think of the market today.
Well, we don't—Charlie and I don't think about the market and I—and Ben didn't very much. I think he made a mistake to occasionally try and place a value on it. We look at individual businesses and we don't think of stocks as little items that wiggle around in the paper and that have charts attached to them. We think of them as parts of businesses. And it is true that currently we have great trouble finding businesses that we both like and where we like the managements, and that they—and find them at an attractive price.
So we do not find bargains in this market among the larger companies that are—that are our universe. That is not a stock market forecast in any way, shape, or form. We have no idea whether the market's going to go up today or next week or next month or next year. We do know that we will only buy things that we think makes sense in terms of the value that we receive for Berkshire. And when we can't find things, the money piles up, and when we do find things, we pile in. But the stock market—I know of no one that has been successful at—and really made a lot of money predicting the actions of the market itself. I know a lot of people who have done well picking businesses and buying them at sensible prices, and that's what we're hoping to do.
Charlie, how could you say it any better?
Yeah, but the question is whether you can say it better, John. [Laughter] Okay, we'll go to zone two. That may be all you hear from him today. Get used to it.
Good morning. Good morning, David Winters, Mountain Lakes, New Jersey. Could you give us a few hints about the incremental value of January's float under the Berkshire Hathaway umbrella and the potential for the growth of January's float over the long term?
Yeah, January's float, which is now available to Berkshire, is 100% on subsidiary, although part of that float is attributable to Cologne, which is only an 83% owned subsidiary of of January, and—and also Berkshire. But that, I would say the incremental value today, because it's under the Berkshire umbrella is zero, because we are bringing nothing to the party that January's own investment people would not have brought to the party.
We obviously think that there will be important incremental value over a long period of time, but when that value will appear or how much of it develops is a matter that's out of our hands. Right now, we have close to 24 billion total invested assets at—at General Re. In Cologne, like I say, 83% of the Cologne part is ours and 17% belongs to somebody else. But we are bringing nothing to that party right now in terms of any managerial skill that is going to add value.
I would hope that over time we would—the second question as to the growth of float—the growth of float at General Re and Cologne will certainly be very slow in the short term. The growth of float at Geico will be significant percentage-wise; the reinsurance business does not have the same potential for growth as we have at Geico. And growth is much slower to come about because there are longer-term contractual commitments that people are reluctant to change. Reinsurers—and they should be; we agree with that.
So you, at a level of 6 billion or so a premium volume and already 14 billion afloat, you won't have growth afloat unless premium volume is become significantly higher in the future. I think that will happen over time; it will not happen in the short term.
Charlie, if I may interrupt your breakfast, I have nothing to add.
Zone three: you can always direct your questions to Charlie. Incidentally, good morning, Mr. Buffett and Mr. Munger. Thank you for hosting another wonderful weekend! My name is Che Wei Wu; I'm a proud shareholder from right here in Omaha. One of the most interesting financial news developments this previous year was the near collapse of the hedge fund Long-Term Capital. I'd like to get your thoughts and Mr. Munger's thoughts about how these private partnerships operate [music], what your thoughts about the Long-Term Capital deal, and also the Fed's intervention to save it.
Yeah, in that movie you saw the time when Yellowstone was—you know, when Old Faithful was performing in the background and Bill was trying to get me to watch that while I was on the phone with a lot of... That trip was spent talking to New York about making a bid for what we'll call LTCM, Long-Term Capital Management. And then the caption on that photo incidentally is known as the Geezer and the Geyser. We started in Alaska, and we were going down these canyons in a boat. The captain's saying, "Now you know let's go over there and look at the sea lions," and I say, "Let's stay right where we are where we've got a satellite channel," because I was trying to talk on the phone all the time.
Charlie was in Hawaii, and we never did get a chance to talk during that whole period. I didn't want to bother him with a little thing like a bid for 100 billion plus of securities, and I couldn't find him. So we were in an awkward place to pursue that.
I think it's possible that if I'd been in New York or Charlie had been in New York during that period, that our bid might have been accepted. There was just a report published within the last three or four days by a special committee representing the—uh—the SEC, the Fed, I think the Treasury and the CFTC, I think I'm right on those four.
And it describes just a tiny bit of the events leading to the bid—it referred to our—it referred then, on page 14, I remember it talked about our transaction unraveling. It didn't unravel from our side. I mean we made a firm bid for over 100 billion plus of balance sheet assets and many hundreds of billions—in fact over a trillion of derivative contracts. And you know this was in a market where prices were moving around very dramatically. And with that bulk of assets there we thought we made a fairly good bid for a minute or hour period.
I don't think anybody else would have made the bid. But in any event, the people at LTCM took the position that they could not accept that bid, and therefore the New York Fed had a group of largely investment banks there at the Fed, and that afternoon faced with the prospect that LTCM could not or would not accept our bid, they arranged another takeover arrangement where additional money was put in.
It's interesting if you read—if you read that report which is put together by these four very eminent bodies, and I think on the first page it says that the first so-called hedge fund—which is the term generally applied to entities like LTCM—the first hedge fund was set up in 1949, and I probably read that or heard that 50 times in the last particularly in the last year. And of course that's not true at all; and I've even pointed this out once or twice before. But Ben Graham had—and Jerry Newman had a classical hedge fund back in the 20s, and I worked for—I worked dually for a company called Graham-Newman Corp, which was a regulated investment company, and Newman and Graham, which was an investment partnership with I think a 20% participation in profits and exactly the sort of entity that today is called a hedge fund.
So if you read any place that the hedge fund concept originated in 1949, presumably with A.W. Jones, it's not an accurate history.
I ran something that would generally be called a hedge fund; I didn't like to think of it that way; I called it an investment partnership, but it would have been termed in a hedge fund. Charlie ran one from about what, 1963 to mid-70s or thereabouts, and they have proliferated in a big way.
Did you...
Did he blink?
We... There are now hundreds of them, and of course it's very enticing to any money manager to run because if you do well, or even if you don't do so well, but the market does well, you can make a lot of money running one.
This report that just came out has really nothing particularly harsh to say about the operation, so I think you will see hundreds and hundreds and hundreds of hedge funds. I think the current issue of Barons may have a recap of how a large group did in the first quarter, and there's a lot of money in those funds, and there's a huge incentive to form them, and there's a huge incentive to go out and attract more money if you run one.
And when that condition exists in Wall Street, you can be sure that they won't wither away.
Charlie, what was interesting about that one is how talented the people were, and yet they got in so much trouble.
I think it also demonstrates that I'd say the general system of finance in America involving derivatives is irresponsible. There's way too much risk in all these trillions of notational value sloshing around the world; there's no clearing system as there is in a commodities market, and I don't think it's the last convulsion we're going to see in the derivatives game.
It's fascinating in that you had 16 extremely bright—I mean extremely bright—people at the top of that, the average IQ would probably be higher than any organization you could find among their top 16 people. They individually had decades of experience and collectively had centuries of experience in operating in the sort of securities in which the LTCM was invested, and they had a huge amount of money of their own up, and probably a very high percentage of their net worth in almost every case up.
So here you had super bright, extremely experienced people operating with their own money, and in effect on that day in September they were broke. And that to me—that is absolutely fascinating. There was a book written "You Only Have to Get Rich Once." It's a great title; it's not a very good book. Walter Gutmann wrote it many years ago. The title is right—you only have to get rich once.
And why do very bright people risk losing something that's very important to them to gain something that's totally unimportant? The added money has no utility whatsoever, and the money that was lost had enormous utility. And on top of that, reputation is tarnished and all of that sort of thing.
So that the gain-lost ratio in any real sense is just incredible. I mean it's like playing Russian roulette. I mean if you hand me a revolver with six bullets—or six chambers and one bullet—and you say pull it once for a million dollars, and I say no, and then you say what is your price, the answer is there is no price, and there shouldn't be any price on taking the risk when you're already rich, particularly of harassment and all of that sort of thing.
But people repeatedly do it, and they do it—whenever a bright person, a really bright person goes broke that has a lot of money it's because of leverage. You basically can't—it would be almost impossible to go broke without borrowed money being in the equation. And as you know at Berkshire, we've never used any real amount of borrowed money.
Now if we used a somewhat more, you know, we'd be really rich, but if we used a whole lot more, we might have gotten in trouble sometimes. And there's no upside to it. You know what's two percentage points more in a given year or that year and run the risk of real failure? But very bright people do it, and they do it consistently, and they will continue to do it.
And as long as explosive-type instruments are out there, they will gravitate toward them, and particularly people will gravitate toward them who have very little to lose but are operating with other people's money. One of the things, for example, in the LTCM case—and Charlie mentioned in terms of derivatives—and in effect there were ways found to get around the margin requirements because risk arbitrage is a business that Charlie and I have been in for 40 years in one form or another, and normally that means putting up the money to buy the stock on the long side and then shorting something against it that where you expect a merger or something to happen.
But through derivatives, people have found out how to do that, essentially, putting up no money just by writing a derivative contract on both sides. And there are margin requirements, as you know, that the Fed promulgates that I believe still call for 50% equity on stock purchases, but those requirements do not apply if you arrange the transaction in derivative form. So that these billions of dollars of positions in equities essentially were being financed 100% by the people who wrote the derivative contracts, and that leads to trouble.
It doesn't, you know, 99% of the time it works, but 83 and a third percent of the time it works to play Russian roulette with one bullet in there. And neither 83 and a third percent nor 99 is good enough when there is no gain to offset the risk of loss.
Charlie, I would argue that there is a second factor that makes the situation dangerous, and that is that the accounting for being actively engaged in derivatives, interest rate swaps, etc., is very weak. I think the Morgan Bank was the last holdout, and they finally flipped to a lenient standard of accounting that's favored by people who are sharing in the profits from trading derivatives. And naturally, they like liberal accounting, so you've got an irresponsible clearing system, irresponsible accounting—this is not a good combination.
JP Morgan shifted their accounting. I think I'm not sure exactly when, around 1990, but Charlie and I, we probably became more familiar with that when we were back at Solomon. And this is absolutely standard, you know, it's GAAP accounting, but it front ends profits. And if you front end profits and you pay people a percentage of the profits, you're going to get some very interesting results sometimes.
Zone four: Hi, Dan Kurz from Bonita Springs, Florida. You've given many clues to investors to help them calculate Berkshire's intrinsic value. I've attempted to calculate the intrinsic value of Berkshire using the discount of present value of its total look-through earnings. I've taken Berkshire's total look-through earnings and adjusted them for normalized earnings at Geico, the supercat business, and General Re. Then I've assumed that Berkshire's total look-through earnings will grow at 15% per annum on average for 10 years, 10 years per annum for years 11 through 20, and that earnings stop growing after year 20, resulting in a coupon equaling year-20 earnings from the 21st year onward. Lastly, I've discounted those estimated earnings streams at 10% to get an estimate of Berkshire's intrinsic value. My question is, is this a sound method? Is there a risk-free interest rate, such as a 30-year treasury, which might be the more appropriate rate to use here given the predictable nature of your consolidated income stream? Thank you.
Well, that is a very good question because that is the sort of way we think in terms of looking at other businesses. Investment is the process of putting out money today to get more money back at some point in the future. And the question is how far in the future, how much money, and what is the appropriate discount rate to take it back to the present day and determine how much you pay.
And I would say you've stated the approach. I couldn't state it better myself. The exact figures you want to use, whether you want to use 15% gains in earnings or 10% gains in the second decade, I don't have any comment on those particular numbers, but you have the right approach. We would probably— in terms, we would probably use a lower discount factor in evaluating any business now under present-day interest rates.
Now, that doesn't mean we would pay that figure once we used that discount number, but we would use that to establish comparability across investment alternatives. So if we were looking at 50 companies and making the sort of calculation that you just talked about, we would use—we might—we would probably use the long-term government rate to discount it back, but we wouldn't pay that number after we discounted it back. We would look for appropriate discounts from that figure.
But it doesn't really make any difference whether you use a higher figure and then look across them or use our figure and look for the biggest discount. You've got the right approach, and then all you have to do is stick in the right numbers. And you mentioned in terms of our clues, we try to give you all of the information that we would find useful ourselves in evaluating Berkshire's intrinsic value in our reports.
You know, I can't think of anything we leave out that if Charlie and I had been away for a year and we were trying to figure out, looking at the situation fresh, evaluating things, there's, you know, there's nothing, in my view, left out of our published materials. Now, one important element in Berkshire, which is a secondary factor that gets into what you're talking about there, is that because we retain all earnings and because we have a growth of float over time, we have a considerable amount of money to invest.
And it really is the success with which we invest those retained earnings and growth and float that will have an important impact on how fast our intrinsic value grows. To an important extent, what happens there is out of our control. I mean, it does depend on the markets in which we operate, so if our earnings plus float growth equals $3 billion or something like that in the current year, whether that $3 billion gets put to terrific use, satisfactory use, or no use at all, virtually really depends to a big extent on external factors.
It also depends on, to some extent, on our energy and insights and so on, but it's the external world that makes a big difference in the reinvestment rate, and your guess is as good as ours on that. But if we run into favorable external circumstances, your calculation of intrinsic values should result in a higher number than if we run into the kind of circumstances that we've had in the last 12 months.
Charlie?
Yeah, for many decades around here we've had roughly 100, more than 100% of book net worth in marketable securities and had a lot of wonderful wholly owned subsidiaries to boot. And we've always had a very attractive place to put new money in as we generated. Well, we still got the wonderful businesses, but we're having trouble with the new money. So it's not a trouble really to have a pile of lovely money. This is not—I don't think there should be tears in the house.
Have you ever run into any unlovely money, Charlie?
Zone five. Good morning, my name is Ronald Towell. I'm from Brooklyn, New York, and am very appreciative of your graciousness as a host for this wonderful weekend. My question has to do with the retailing industry, particularly the department stores and mass merchants. My question has two parts. Without resorting to comments about specific companies, may I ask your opinion as to the long-term prospects for growth and profitability of this industry group?
The second part of my question is given the fact that it is difficult to pick up a newspaper or to be an investor without being bombarded by what is purported to be the potential for exponential growth in the internet e-business, particularly directly to consumers, which could possibly eat into the revenues of these retailers. And if, even if we assume a relatively low impact of, say, five to ten percent revenue reductions, and given the fact that top-line growth is critical to any business, especially the bricks and mortar retailers with their high proportions of fixed overhead, what advice could you give to a CEO of such a company?
And in turn, based on the preceding scenario, what would be your opinion of the medium and long-term prospects for this industry?
Well, that's a good question too and obviously the internet is going to have an important impact on retailing. It will have a huge impact on some forms of retailing, change them maybe revolutionize them. I think there are some other areas where the impact will be less, but any time we buy into a business—and anytime we bought in for some time, we have tried to think of what that business is going to look like in five or 10 or 15 years.
And we recognize that the internet in many forms of retailing is likely to pose such a threat that we simply wouldn't want to get into the business. I mean it— not that we can measure it perfectly, but there are a number of retailing operations that we think are threatened, and we do not think that's the case in furniture retailing. We have three very important operations there. We could be wrong, but so far that would be my judgment that furniture retailing will not be hurt.
You've seen other forms of retailing where you're already starting to see some inroads being made. But it's just started. The internet is going to be a huge force in many arenas, but it will certainly be a huge force in retailing.
Now, it may benefit us in certain areas. I would expect the internet to benefit Borsheims in a very big way. You noticed in the in the movie that we talked about Borsheims.com coming online in May. There's something up there now, but you'll see a new format within a month or so.
Now, you might say in jewelry retailing, with millions of things that you can click onto, ten years from now, who is going to be important in terms of online retailing of jewelry? I would argue that the two firms have an enormous advantage going in. I would argue that Tiffany has such an advantage—we don't own an epiphany—but I would say that because of their name brand, names are going to mean very much when you have literally thousands and thousands of choices.
People have to trust somebody, and I think Tiffany has a name that people would trust. And I think Borsheims has a name that people would trust, and Borsheim sells jewelry a whole lot cheaper than Tiffany. So I would say that people who are price-conscious but also want to deal with a jeweler that they trust implicitly will find their way to Borsheims in increasing numbers over the internet.
And I would say that people that like the blue box are going to find their way to Tiffany's over time, and they'll pay more money, but I don't see them going for brand X in buying fine jewelry over the internet. So I think that with the brand that Borsheims has, and with the careful nurturing of that brand, I would say that the internet represents a huge one-store location.
And yet also go into the homes of people in every part of the world, and that kind of a company should prosper. There are other of our companies I worry about. You know, I can worry about them being hurt in various ways. Geico is going to be a big beneficiary of the internet; we already are developing substantial business through it.
But if I were to buy into any retailing business, whether I was buying the stock of it or buying the whole business, I would think very hard about what people are going to be trying to do to that business through the internet. And it affects real estate that is dedicated to retailing. And if you substitute five percent of the retail volume via the internet where real estate is essentially free, you can have a store in every town in the world through the internet without having any rental expense.
So I would be think I would give a lot of thought to that if I were owning a lot of retail rental space.
Charlie?
Well, I think it is tricky predicting technological change either will or won't destroy some business. When I was young, the department stores had a bunch of sort of monopolistic advantages. A, they were downtown where the streetcar lines met. B, they had sort of a monopoly on extending revolving credit. And D, they had one-stop shopping in all kinds of weather, and nobody else did.
And they lost all three of those advantages, and yet they've done well, a lot of them, for many decades since. At other times you get a change and you just get destroyed. Our trading stamp business was destroyed by changes in the economic world, and our world book business has been seriously hurt by the personal computer and the CD-ROM and so forth.
I agree it's a big risk, but it's not easy to make predictions in which you have great confidence.
If you go down to 16th and Farnam here, where the streetcar tracks used to cross— that was the best real estate in town and people signed hundred-year, 50-year leases on it—and it looked like there was nothing more safe because they weren't going to move the streetcar lines.
The only thing was that they moved the streetcars and just took and converted it into junk. And it seemed very permanent that the advantage of the big department store, the Marshall Field in Chicago or the Macy's in New York, was this incredible breadth of merchandise. You could go and you could find 300 different types of spools of thread or 500 different—you could see 500 different wedding dresses or whatever, and you had these million square-foot and even 2 million square-foot downtown stores and they were these huge emporiums.
And then the shopping center came along and, of course, the shopping center created in effect a store of many stores. And so you had millions of square feet now, and but you still had this incredible variety, being offered. The internet becomes a store in your, you know, in your computer. And it has an incredible variety of offerings too.
Some of them don't lend themselves to retailing and others do. But Charlie's right, it's hard to predict exactly how it will turn out. I would expect I would expect automobile retailing to change in some important ways, and in part, in a very significant part influenced by the internet, but I wouldn't— I can't predict exactly how that will happen, but I don't think it'll look the same 10 or 15 years from now.
Zone six. I'm Ben Newell, and I'm from Minneapolis, although I'd like to enhance my status by noting that I was born and raised in Lincoln. Just moved up, like many others. I read Alice Schroeder's analysis of Berkshire Hathaway with great interest this last year, and she described her analysis as a toolkit for investors. I'm wondering if you see any substantial flaws in any of her toolkit, and in particular the float-based valuation model that she put together. What are your views on that?
Well, I don't want to comment on valuation, but I can tell you that Alice is a first-class and serious analyst who spent a lot of time on Berkshire and probably produced the first comprehensive report—at least it's been widely circulated—in the history of Berkshire.
It's kind of interesting that we got to 100 billion dollars of market value before anybody really published a report about the company. But Alice understands the insurance business very well. She's an accountant by background, and she understands numbers. And she did a lot of work on the report. And I do recommend it to you as a toolkit. I make no comment at all about valuation.
Charlie?
Nothing to add.
Zone seven. Hello, I'm Martin Weighan from Chevy Chase, Maryland. I want to thank you for the hospitality this weekend and the wisdom you share with us each year in your annual reports. As a small businessman, one of the trickiest jobs I have is dividing up the profits of our business between the employees who generate them. Would you comment and share your thoughts on how you divide up the profits of the Berkshire Hathaway subsidiaries with the employees who generate them? And the follow-up is, Mr. Munger, do you have any suggested reading on that subject?
Yeah, we're glad to have you here, Martin. I went to high school and to the first couple of years of college with Martin's father, who's also here today. And so if you get a chance to meet Marty, Janie, and younger Martin, say hello to them.
In terms of the arrangements we have with compensation, they vary to an extraordinary degree among the various subsidiaries we have because we have bought existing businesses, and we have tampered as little as possible with their cultures after we buy them, and some of those cultures are very different than others. I mean, you saw Mrs. B earlier; as you can imagine, she would leave a very strong imprint on any business with which she was involved.
And we have a number of very talented managers who have worked out the systems that they believe to be best for their companies. Now, it is true that if there's a stock option plan at a company, we will substitute a plan that is performance-based which ties much more clearly to the performance of the business than any option plan could, and we will have a half—we will design one that has an expectable cost that's equal to the expectable cost of the option plan.
So we try to equate the cost; we try to make it much more sensible from both the owner's standpoint and the employee standpoint in terms of the way it pays off based on how that business performs. You've probably read in our annual report how we've put it across the board plan at Geico that ties with our objectives, but basically that was Tony Nicely's work in terms of developing that plan.
I mean he and I thought alike about what counted, and he developed a compensation grid that applied to everybody in the whole place based on achieving the objectives that he felt were important and that we felt were important. You will find if you go to any Berkshire subsidiary, you'll probably find that they have a compensation plan that's quite similar with the exception of options to the plan that they had before we bought them.
They have successful businesses, and people get their different way. Some people bat left-handed; some people bat right-handed. Some people stand deep in the batter's box; some crowd the plate. They all have different styles, and the styles of our managers have proven successful in their own businesses. We keep the same managers, so we don't try and superimpose any system from above with the exception of what I've mentioned.
We do like the idea of paying for performance. I mean that is kind of a fundamental tenet. Everybody says they like that, but then they design systems that pay off no matter what happens in many cases, and we've been reluctant to do that.
Charlie?
Yeah, I think it's important for the shareholders to realize that we are probably more decentralized in terms of personnel practices than any company of our size or bigger in America. We don't have a headquarters culture that's forced on the operating businesses. The operating businesses have their own cultures, and I think in every case I can think of it's a wonderful culture, and we just leave them alone.
It comes naturally to me. Charlie says we don't have a headquarters culture. Sometimes people think we don't have a headquarters; we have no human relations department at Berkshire. We have no legal department; we have no investor relations; we have no public relations. We don't have any of that sort of thing.
We've got a bunch of all-stars as we put on the screen out there running businesses, and we ask them to mail the money to Omaha. But we'll even give them a stamp if they request it. But beyond that, we don't really go and it would be foolish.
What is interesting to me is how I had a lot of preconceived ideas of what motivates people when I started out in business, but you can find certain organizations that resist paying stars on an individual basis. They like to think of themselves as a team, and they'd rather have a team concept of payment.
And you can see others where it's much more individually oriented. Actually, Charlie can probably tell you about that in terms of law firms. I mean some law firms have a culture that is much more star-oriented than others, and you know you've seen successes in both places, haven't you Charlie?
Absolutely.
I can't remember a case when anybody has transferred from one operating Berkshire subsidiary to another. It's very rare.
Yeah, we don't try and cross-fertilize. We think we've got a good thing going in every plot of ground, and we just assume they'll do best if left to their own initiative.
Zone eight. Hi, I'm Brian Phillips from Chickamauga, Georgia. And my question is with regards to an insurance company: if you can use the float for cheap financing, why would you issue a fairly priced bond?
Yeah, well the best form of financing for us is cheap float. Now, most insurance companies don't generate cheap float, so I mean there are plenty of companies in the insurance business who have a cost to float that makes it unattractive actually to expand their businesses.
Our insurance companies have had a terrific experience on cost afloat. So we would develop it just as fast as we can right now. We would have no interest in issuing a bond because we have more money around than we know what to do with, and it comes from low-cost float.
But if there came a time when things were very attractive and we had utilized all the money from our float and from retained earnings and all of that to invest, and we still saw opportunities, we might very well borrow moderate amounts of money in the market. It would cost us more than our float was costing us, but it still incrementally would provide earnings.
Now, we would try to gain more float under those circumstances as well, but we would not just quit when we ran out of money from float; we would go ahead and borrow moderate amounts of money. We would never borrow huge amounts of money, though.
Charlie?
Well, I agree.
Okay, you can see why we've been partners a long time.
Now we go to some off-site locations away from this main hall, and I'll see if zone nine comes in.
Hello, my name is Howard Love, I'm from San Francisco. Thank you very much for this weekend in general, and this meeting in particular. Recently, at a talk at the Wharton Business School, Mr. Buffett, you indicated that you were talking about the problems of compounding large size, which I appreciate and understand. But you indicated, you're quoted in the local paper as saying that you're confident that if you were working with some closer to a million dollars, that you could compound that at a 50 percent rate. For those of us who aren't saddled with the hundred billion dollar problem, could you talk about what types of investments you'd be looking at and where in today's market you think significant inefficiencies exist?
Thank you.
Yeah, I think I may have been very slightly misquoted, but I certainly said something to the effect of working, I think I talked about this group, I get together every two years and how I poll that group as to what they think they could compound money at, with a hundred thousand, a million, a hundred million, a billion and other types of sums.
And I pointed out how this group of 60 or so people, that I get together with every couple years, how their expectations of return would go very rapidly down this slope. It is true I think I can name a half a dozen people that I think could compound a million dollars or at least they could earn 50% a year on a million dollars, have that as an expectation if they needed it.
I mean if they had to get their full attention to be working on that sum, and those people could not compound money at $100 million or a billion at anything remotely like that rate. I mean there are little tiny areas which if you follow what I said on the screen there on that Adam Smith's interview a few years ago.
If you start with a and you go through and you just look at everything and you find small securities in your area of competence that you can understand the business, I think you can occasionally find little arbitrage situations or little wrinkles here and there in the market.
I think working with a very small sum that there is an opportunity to earn very high returns, but that advantage disappears very rapidly as the money compounds because, you know, from a million to 10 million, I would say it would fall off dramatically in terms of—because there are—there you find very, very small things that you know you can make it you're almost certain to make high returns on—but returns on but you don't find very big things that in that category today I'll leave to you the fun of finding them yourselves.
I mean terrible to spoil the treasure hunt. And the truth is I'm not looking for them anymore. Every now and then I'll stumble into something just by accident, but I'm not—I’m not in the business of looking for that. I'm looking for things that Berkshire could put its money in, and that rules out all of that sort of thing.
Charlie?
Well, I would agree, but I would also say that what we did 40 or so years ago was in some respects more simple than what you're going to have to do right. We had it very easy compared to you. It can still be done, but it's harder now. You have to know more. I mean just sifting through the manuals until you find something that's selling at two times earnings, that won't work for you.
It'll work, and you won't find any.
Yeah.
Zone ten, please.
My name is Jonathan Brandt, I'm from New York City. Warren, you wrote in 1977 that the return on equity and growth of book value for corporate America tended towards and averaged about 13 percent no matter the inflation environment after properly expensing options and so-called non-recurring charges and taking into account the high price earnings ratio paid for increasingly frequent acquisitions.
Do you think that 13 figure is still roughly correct? Also, what quantitative method would you suggest that investors use for expensing the option grants of publicly traded firms where there is no realistic prospect for the substitution of such an options program with a cash-based performance incentive plan? In other words, how do you derive the five to ten percent earnings dilution referred to in this year's Berkshire's annual report? And is it possible that the dilution figure could be even higher than that? Thank you.
Okay, thanks, Johnny. Just like Martin Wigan, John Brandt is the son of a very good friend of mine. We worked together for decades, and John is now an analyst with Ruined Knife and a very good one. He also—he says it didn't happen this way, but when he was about four years old, I was at his house for dinner with the parents, and he suggested to me after dinner.
He said how about a game of chess? I looked at this four-year-old and I thought, you know, this is the kind of guy...
Should we play for money?
And he said, name your stake. So I backed off, and we sat down. And after about 12 moves, I could see I was in mortal trouble, so I suggested it was time for him to get to bed.
The question about return on equity—it's true, back in 1977, I wrote an article for Fortune and talked about this more or less this figure of 12% or 13%—that the return on equity kept coming back to, and explained why I didn't think it was affected by inflation, which was the hot topic of the day very much—and it wasn't.
But in recent—in the last few years, I think the day very much—and it wasn't. But in recent—in the last few years, earnings have been reported at very high figures on the S&P, although you've had these, you know, they say, well, you know, we we earned a dollar a share in total last year, but look at the two dollars a share that we tell you we really earned.
The other dollar a share doesn't count it, and then they throw in mistakes of the past or mistakes of the future. And every three or four years ask you to forget—forget this, as if it doesn't mean anything. We've never had a charge like that that we've set forth in Berkshire, and we never will.
It isn't that we don't have things we do that cost us money that in moving around, but we don't—we do not ask you to forget about those costs. The report, even allowing for options costs and restructuring charges and everything, return on equity has been surprisingly, to me, surprisingly high in the last few years.
And there's a real question in a capitalistic society whether, if long-term rates are 5.5%, whether return on equity can be across the board, some number like 18% or 20%. There are an awful lot of companies out there that are implicitly promising you either by what they say their growth in earnings will be here or various other ways that they’re going to earn at these rates of 20 plus, and I'm dubious about those claims, but we will see.
And the question about how we charge for stock options is very simple. If we look at what a company issues in options over, say, a five-year period and divide by fives because the grants are irregular or whatever's—if there's some reason why that seems inappropriate we might use something else, but we try to figure out what the average option issuance is going to be.
And then we say to ourselves how much could the company have received for those options if they sold them as warrants to the public? I mean, they can sell me options on any company in the world—I'll pay some price for an option on anything.
And we would look at what the fair market value of those options would be that day if they were transferable options. Now they aren't transferable, but they also—employees sometimes get their options repriced downward, which you don't get if you have public options. So we say that that's the cost to the shareholder of issuing the options is about what could be received if they sold those options into warrants and sold them public or sold them as options.
And that's the cost, I mean, it's a compensation cost, and just try going to a company that's had a lot of options grants every year and tell them you're going to quit giving the options and pay people the same amount of money—they'll say you took away part of my earnings!
And we say if you've taken away part of the earnings, then let's show it in the income account and show it as a cost because it is a cost. And I think actually a number of auditors agreed to that position many years ago, and they started receiving pressure from their clients who said, gee, that might hurt our earnings if we reported that cost.
And the auditors caved, and they put pressure on Congress when it came up a few years ago. And I think it's a scandal, but it's happened. We are going to—in evaluating a business, whether we're going to buy the entire business or whether they're going to buy part of it, we're going to figure out how much it's costing us to issue the options.
And when the company issues those options every year and if they reprice them, we're going to figure out how much that particular policy costs us, and that is coming out of our pocket as investors. And I think people are quite foolish if they ignore that.
I don't think it's going to change. It's too much in corporate America's interest to keep it out of the income account and keep issuing more and more options percentage-wise and not have it hit the income account and to reprice when stocks go down, but that doesn't make it right.
Charlie?
Yeah, I go so far to say it's fundamentally wrong not to have rational, honest accounting in big American corporations, and it's very important not to let little corruptions start because they become big corruptions. And then you have vested interests that fight to perpetuate them.
Surely there are a lot of wonderful companies that issue stock options and that the stock options go to a lot of wonderful employees that are really earning them. But all that said, the accounting in America is corrupt and it is not a good idea to have corrupt accounting.
You can see the problem of the creep in it once it starts. It's much like campaign finance reform; if you let it go for a long time, the system becomes so embedded and the participants become so dependent upon it that it becomes a huge consistent constituency that will fight like the very devil to prevent any change regardless of the logic of the situation.
I mean, once you get a significant number of important players benefiting from any kind of corruption in any kind of system, you're going to have a terrible time changing it. That's why it should be changed early, and it would have been easier to change the accounting for stock options some decades back when it was first proposed than now because corporate America is hooked on it.
This does not mean that we are against options per se. If Charlie and I died tonight and you had two new faces up here who didn't have the benefit of having bought a lot of Berkshire a long time ago and they had responsibility for the whole enterprise, it would not be inappropriate to pay them in some way that was reflective of the prosperity of the whole enterprise.
I mean, it would be crazy to pay the people at Dairy Queen and options of Berkshire Hathaway or pay the people at Star Furniture or any one of our operations, because they have responsibility for a given unit and what the price of Coca-Cola stock does could swamp their efforts in either direction.
It just would be inappropriate, but it would not be inappropriate to pay somebody that's got the responsibility for all of Berkshire in a way that reflected the prosperity of all of Berkshire, and a properly designed option system, which would be much different than the ones you see, because it would be much more rational, could well make sense for one or two people that had the responsibility for this whole place.
Charlie and I aren't interested in that.
But I think that you may be looking at two people up here 50 years from now, I hope that where it would be appropriate. But any option system should not involve giving an option at less than the price could be sold for today, regardless of the market price because once management's in control, it can make that decision.
And it should reflect the cost of capital. Very, very few systems reflect the cost of capital. But if we're going to sit here and plow all the money back every year into the business and in effect use your earnings interest-free to increase our own earnings in the future, we think there has to be a cost of capital to have a properly designed option system. People aren't interested in that; the option consultants aren't interested in that, because that isn't what their clientele wants.
Charlie, you probably wound up a little more now on this too.
No, I've wound up enough.
Okay, we'll go to zone 11. Warren and Charlie, good morning! My name is Morris Spence from Waterloo, Nebraska. Some 30 years ago, you disbanded your Buffett partnership, saying that you felt out of step with the market, and you feared a permanent loss of capital. Given today's market and current valuations, if Berkshire Hathaway was a partnership of 100 partners instead of a corporation, would you consider disbanding it as you did 30 years ago? And if not, why not? And was that the right decision back then?
Well, if our activities were limited to marketable securities and I had less than 100 partners and we were operating with this kind of money, so that there was a real limitation on what we could do, I would simply tell the partners and let them make the decision. That would be easy enough.
We're not in that position. We've got a number of wonderful businesses, and those businesses will grow in value and in some cases very significantly in value, and it's not a feasible way. People have their own way if they decide that since we're unable to find things that they'd rather go on to something else. They have their own way of getting out, and they can get out at certainly a premium to the amount of money they put into the business over the years.
So if I were running a marketable securities portfolio now and we were limited to that, I would explain very carefully to my partners how limited my ability to make money in this market would be, and then I would ask them to do whatever they wished to do.
Some of them might want to pull out, and others might want to stay in. The 1969 period when I closed up, I had a somewhat similar situation in terms of finding things, and I really felt that the expectations of people have been so raised by the experience we'd had over the previous 13 years that it made me very uncomfortable.
And I felt unable to dampen those expectations, and I really just didn't find it comfortable to operate where my partners, even though they might nod their heads understandingly and say that we really know why you aren't making any money while everybody else is, I didn't think I wanted to face the internal pressure that would come from that.
I don't feel any such internal pressure in running Berkshire.
Charlie?
Yeah, I think there are some similarities between 1969-70 and the present time, but I don't think that means that 1973-74 lies right ahead of us.
We can't predict that. You can argue it worked out wonderfully for Warren to quit in '69 and then have '73-'74 to come into with his powder dry. I don't think we're likely to be quite that fortunate again.
Yeah, it was a long time from '69 though to '73. I mean, it sounds easy looking back, but the nifty 50, as you may remember, sort of hit their peak in '72. So although there was a sinking spell for a while in that '69-70 period, the market came back very strong. Although there was a sinking spell for a while in that '69-70 period, the market came back very strong.
It's part of the game. I mean, it stayed cheap a long time. You will find waves of optimism and pessimism, and they'll never be exactly like they were before, but they will come in some form or other.
We— that doesn't mean we're sitting around with a bunch of cash because we expect stocks to go down. We keep looking for things. We're looking for things right now; we're talking to people right now about things where we could expend substantial sums of money, but it's much more difficult in this period.
Zone 12. Good morning! My name is Jenna, I'm from Long Island, New York, and I was reading through the annual report. You made reference to Wagner and some country western song I'd never heard of. I was just wondering what kind of music influences you, and are you planning on doing like a musical video?
I think with the performance I gave earlier in the movie, I don't think there's any future for me. But I do have a very musical family, and since you asked, I will point out that my son Peter's recent CD is available at the Disney booth outside. And Peter had a very successful experience here on public television in March, and we'll be on tour later on, and my wife is extremely musical.
But I don't think I've got much of a future in it. So far, I get—no one ever asks me to come back. I mean, I've had a lot of introductory appearances, but very few encores. I like all kinds of music. I really, I've always liked music. We started out around the house singing church hymns, and in 1942 my two sisters who were here today joined me in a 15-minute program on WOW, then the leading radio station in Omaha—and we sang "America the Beautiful."
My dad got elected to Congress on the back of that program. We like to take credit for it. You see my sisters at the end of the meeting.
Charlie, what kind of music do you like?
Well, the one thing I agree with is that if we're going to star Warren, it should be in a musical; the straight acting won't do.
It took me an hour to get that ball for Annie, incidentally. It takes a long time to get a bald dressing room.
Zone 13, please. Good morning, Mr. Buffett and Mr. Munger. My name is Jack Sutton from Brooklyn, New York. Thank you for hosting today's meeting. With reference to communication stocks, because of the growth of cellular communications and the internet, certain stocks hold the prospect of substantially above-average revenue and earnings growth, AT&T and Nokia, as an example, earn respectable margins and return on common equity and would seem to fit Berkshire's criteria from a financial perspective.
Has Berkshire reviewed stocks in the area of communications, and would you consider an investment in this area at some time in the future?
Yeah, there's certainly no question. Amazing things have happened in communications. It's interesting that you mentioned AT&T because AT&T's return on equity over the last 15 years has been very, very poor.
Now they've had special charges time after time and said don't count this, but the overall return on equity, if you calculate it for AT&T for the last 15 years, it's not been good at all. They were the leader in the field, but so far what has happened has hurt them, at least relative to their competition, far more than it's helped them.
We have a fellow on our board, Walter Scott, who's right here in the front row, if I can't quite see him, but who knows a lot more about this. He used to try to explain to me these changes that were taking place.
We'd ride down to football games on Saturday, and Walter would patiently explain to me like he was talking to a sixth grader what was going to happen in communications, and the problem was that he had a fourth grader in the car with him, namely me, so I never got it, but Walter did, and he's done very well in MFS and Level 3.
And I think for people who understand it, and are reasonably early, you know, there could very well be substantial money to be made. There's been an awful lot of money made in this town of Omaha by people not one of them, and I have no insights that I bring to that game that I think are in any way superior, and probably in many cases not even equal to those of other participants.
It's—there's a lot of difference between making money and spotting a wonderful industry. You know, the two most important industries in the first half of this century in the United States, in the world probably, with the auto industry and the airplane industry.
I mean here you have these two discoveries, both in the first decade essentially in the first decade of the century, and if you'd foreseen in 1905 or thereabouts what the auto would do to the world, let alone or this country or what the airplane would do, if you'd foreseen in 1905 or thereabouts what the auto would do to the world, let alone that, you could have made a lot of money, but in hindsight, everyone knows that.
The truth is there were very, very few people that got rich by being participants in that newly created industry, and probably even fewer got rich by participating in the airline industry over that time. I mean millions of people are flying around every day, but the number of people who have made money carrying them around is very limited, and the capital has been lost in that business, the bankruptcies— it's been a terrible business, it's been a marvelous industry.
So you do not want to necessarily equate the prospects of growth for an industry with the prospects for growth in your own net worth by participating in it.
Charlie?
Well, it reminds me of a time in World War II when there were these two aircraft officers I knew, and they didn't have anything to do at the time, and some general came in to visit and he said to one of them, "Lieutenant Jones, what do you do?"
He says, "I don't do anything." He turns to the second one, he says, "What do you do?" And he says, "I help Lieutenant Jones."
That's been my contribution!
What do you do? And he says, "I help Lieutenant Jones."
That's been my contribution! [Applause]
You can address me as Lieutenant Jones for the rest of the meeting. And so, some people have thanked us for providing this meeting. I want to thank you because I think we have the best shareholders' meeting in the country, and the quality of the meeting is absolutely in direct proportion to the quality of the shareholders.
We would have nothing without this participation, and I really thank you. It's a big effort to come here for a lot of you, and I thank you for that. Our plan, incidentally, will be to take a break at noon. They have a lot of food outside that they will sell you.
Then we'll come back in 30 minutes or thereabouts or 45 minutes depending on how the lines are out there. And then Charlie and I will continue until about 3:30. Let's go back to zone one, please.
Mr. Buffett, over here. Good morning. I'm Alan Maxwell; I live in Omaha. When you walk down the street, heads turn to watch you. Do you ever get tired of being Warren Buffett? If you could come back again, would you want to be Warren Buffett?
I think I'd probably want to be Mrs. B. She made it to 104, so... [Laughter]
And incidentally, I think there were three siblings at her funeral. That's some set of genes! You don't have to worry about the furniture part.
Now, I see a lot of this publicity for a couple of days around the time of the meeting, but life goes on in a very normal way, and I've had a lot of fun. I have fun every day of my life. I had a lot of fun when I was 25, but I have just as much fun now, and I think I'll—I think if my health stays good, it'll keep being the same way because I get to do what I want to do, and I get to do it with people I like and admire and trust.
It doesn't get any better than that.
Charlie, do you want to come back as Lieutenant Jones? [Laughter]
I think we all want to play our own games. We'll go to zone two with those remarks.
Hi, I'm Liam O'Connor. I come from County Kerry in Ireland, and I must admit the sun shines a little bit more over here than it does on the other side of the world. I was wondering today if you could shed some light on accounting for goodwill, your principles and owner's principles from the current merger of General Re.
It seems to me there are several different methods that are used worldwide, right? Through amortization to direct write-off, and the fact when a merger like this is taken can excuse the balance sheet.
And I was wondering, in your view, what would you recommend as a more appropriate method for accounting for goodwill? And secondly, if I could direct it to Charlie. One of the ideas—why not tie goodwill to the share? One of the ideas is why not tie goodwill to the share price and have an intangible and a tangible part of shareholders' equity, the value and the share value of a company?
Okay, I'll take the first part, and it's a good question about goodwill and the treatment of goodwill for accounting purposes. I actually wrote on that subject I think it was in 1983 in the annual report, and if you click onto BerkshireHathaway.com, you can look at the older letters, and you will see a discussion of what I think should be the way goodwill is handled.
And then we've discussed it at various other times in the owner's manual. To give it to you briefly, in the UK, for example, goodwill is written off instantly, so it never appears in book value, and there's no subsequent charge for it.
If I were setting the accounting rules, I would treat all acquisitions as purchases, which is what we've done virtually without exception at Berkshire. I would set up the economic goodwill because we are paying for goodwill when we buy a General Re. I mean we are paying billions and billions of dollars for it, or when we buy Geico, or when we buy an executive jet. That is what we are buying is economic goodwill.
I believe it should stay on the balance sheet as reflective of the money you've laid out to buy it, but I don't think it should be amortized. I think in cases where it is permanently impaired and clear that it's lost its value, it should be charged off at that time.
But generally speaking, in our own case, the economic goodwill that we now have far exceeds the amount that we put on the books originally and therefore, even by a greater amount, exceeds the amount that remains on the books after amortization. I do not think an amortization charge is appropriate at Berkshire for the goodwill that we have attached to our businesses. Most of those businesses have increased their economic goodwill in some cases by dramatic amounts since we've purchased them.
But I think the costs ought to be on the balance sheet; it shows what we paid for them. I think it should be recorded there. I don't think that the coming change in accounting is likely to be along the lines that I've suggested here, but I do think it's the most rational way to approach the problem.
And I think that there is this great difference between purchase and pooling accounting, that some really stupid things are done in the corporate world, and I've talked to managers who deplored the fact that they were using their stock in a deal and going through some of the various maneuvers to get pooling accounting because they thought it was economically a dumb thing to do, but they did it rather than record amortization charges that would result from purchase accounting.
And they're very frank about that in private; they don't say as much about it in public.
Charlie?
Yeah, generally speaking, I think what Warren argues for would be the best system, namely set up the goodwill as an asset and don't amortize it in the ordinary case. However, there would be plenty of cases when the cases wouldn't be ordinary cases when amortization would be rational and fact should be required.
So I don't think there is any one easy answer to this one.
And there's a lot of crazy distortion in corporate practice because of all the changes. I mean Australia has cowboy accounting, and Europe has this rather liberal immediate accounting, which is what would you call it—cowboy accounting and maybe mining promoter accounting.
We think the system should be better than that.
Zone three. Good morning! My name is Mike from Omaha, and it's been said that you're the white knight of the investment world because you rescue companies from hostile takeovers. Are there any companies you are now trying to help out, and would you please name those companies?
Do you have a cell phone that you're going to place orders with?
No, we really—you know what? We really want to buy into one of our wonderful businesses, or at least extremely good businesses, and we want them to have managements we like. We want the price to be attractive. And we are not in the business of being white knights; we're in the business of being investors.
And things that look sensible to us, and I don't think I've been approached by anybody in connection with that. We do get approached occasionally. I should say we get approached, occasionally when somebody has a takeover bid, and they say, "Would you like to top it?" to which our answer invariably is no.
Charlie?
Well, we're very good at saying no. Charlie's better than I am even.
Zone four. Good morning! My name is Matt Haverty, and I'm from Kansas City. Twenty years ago, China unleashed capitalism within its borders. Since then, I believe it has benefited more from that economic system than any major country in history. I also believe that this momentum combined with China's size and demographics will make it the most fertile economic environment in the world during the next few decades.
Nonetheless, there are many Chinese companies with easy-to-understand businesses and twenty percent per annum sales growth this decade, trading at five times or less last year's earnings. What is your assessment of the risk-reward of investing directly in Chinese companies?
Well, I don't know that much about them, but I certainly—if I could buy companies that were earning 20% on equity and had promises—gave promises of being able to continue to do that while re-employing most of the capital and they were selling at five times earnings, and I felt good about the quality of the earnings, my guess is that it's not a lot.
In terms of the ones that meet those tests, you name for Berkshire to try to profitably participate, and whether you could buy all of those companies from the U.S., I think there'd be a lot of...there could well be a lot of problems in that.
But I would say anytime you can buy good businesses, really good businesses—which we define as businesses with very high returns on capital at five times earnings, and you believe in the quality of the earnings, and they can re-employ a significant portion of those earnings at the 20% rate, you will make a lot of money if you're right in your assessment on that.
Charlie?
Yeah, I don't know much about China, but that is not to knock it in any way, shape, or form, because there could well be opportunities in those areas like that. If you can identify those kinds of businesses, we would have trouble identifying those businesses ourselves, but that doesn't mean that you know you will have trouble or other people more familiar with the economy there would have trouble.
So I'd encourage you to look at your own area of expertise in something like that, and you'll do much better if the conditions you describe exist, then you can identify the right company; you will do much better than that than you will in American markets, in my view.
Zone five. Good morning! My name is Fred Castano from East Point, Michigan, and I appreciate this opportunity. Would future investments be in the form of the General Re acquisition, or would you still consider nibbling in the stock market?
Well, we don't want to nibble, but we would like to take big gulps in the stock market from time to time. But we've always wanted to acquire entire businesses. People never seemed to really believe that back when we were buying See's Candy or the Buffalo News or National Indemnity.
But that's been our number one preference right along; it's just that we found that much of the time we could get far more for our money in terms of wonderful businesses by buying pieces in the stock market than we could by negotiated purchase.
There may be some movement in terms of the availability of purchase. There may be some movement in terms of the availability of—I mean you will never make the kind of buy in a negotiated purchase that you can in a bad market that you can make by stocks in a weak stock market.
It just isn't going to happen; the person on the other side cares too much, whereas in the stock market in 1973 or 1974 you were dealing with the marginal seller. And whatever price they established for the business you could buy.
I couldn't have bought the entire Washington Post Company for 80 million dollars in 1974, but I could buy 10% of it from a bunch of people who were just operating based on calculating betas or doing something of the sort, and they were in a terrible market.
It was possible to buy a piece of it on that valuation. You never get that kind of buy-in in a negotiated purchase. We always are more interested in large negotiated deals than we are in stock purchases, but we're not going to find a way probably to use all the money that way.
And we occasionally may get chances to put big chunks of money into attractive businesses, which we can buy through the stock market, five, ten percent of the company or something of that sort.
Charlie?
My guess is over the next five years, we'll do some of both—the full the entire business, and the big gulps in the stock market.
Yeah, I agree with that, but we'll keep working at both. We're not finding a lot in either arena; we might be a little more likely to find it in the negotiated business.
It won't be any huge bargain; we're not going to get a huge bargain in the negotiated purchase. We are more likely to find what I would call a fair deal there under today's circumstances than we will in the market, but I agree with Charlie. Over the next five years, I think you'll see us do both.
Zone six. Good morning, Mr. Buffett and Mr. Munger. My name is Jane Bell from Des Moines, Iowa. In response to an earlier question, you spoke of people being rich and very, very rich. It seems to me there's a difference between being rich and being wealthy. I assume you consider yourself to be both. Which is more important to you?
Well, I think we may ask you to define—I don’t want to sound like President Clinton here too much. [Applause] If you really define the rich and wealthy, so that I get the distinction, then I think we can give you a better answer on it.
Well, in my mind, being rich is having an awful lot of money; being very, very rich is having even more. And being wealthy doesn't necessarily