2001 年股东大会 · 上午场

Formal business meeting

SPEAKER(Video recording begins with meeting already in progress)

WARREN BUFFETTAnd — (laughter) — Andy [Heyward], if you're here, you could stand up, I think the crowd would like to say thanks. (Applause) We have one other guest, too. After doing an incredible job for all Berkshire shareholders and particularly for Charlie and me, Ralph Schey retired this year. But Ralph and Luci, I believe, are here. And [if] Ralph and Luci would stand up, the shareholders and I would like to say thanks. (Applause) Scott Fetzer was one of the best acquisitions we ever made, but the reason it was among the very best was Ralph. And a great many of the other companies that we own now, our ownership was made possible because of the profit that Ralph delivered over the years. So, thanks very much, Ralph. Now we will come to order. I will go through this fast. I'm Warren Buffett, chairman of the board of directors of the company, and I welcome you to this 2001 annual meeting of shareholders. I will first introduce the Berkshire Hathaway directors that are present in addition to myself. First of all, of course, is Charlie, on my left. And if you'll — the directors will stand when I give your name. Howard Buffett, Susan Buffett — she was the voice on the songs, the ones that were sang — sung well — Malcolm G. Chace, Ronald L. Olson, and Walter Scott Jr. Also with us today are 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 Krutter is secretary of Berkshire, and he will make a written record of the proceedings. Miss Becki Amick has been appointed inspector of elections at this meeting. She will certify to the count of votes cast in the election for directors. The named proxy holders for this meeting are Walter Scott Jr. and Marc D. Hamburg. 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?

FORREST KRUTTERYes, 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 2, 2001, being the record date for this meeting, there were 1,343,041 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled to one vote on motions considered at the meeting and 5,505,791 shares of Class B Berkshire Hathaway common stock outstanding, with each share entitled to 1/200th of one vote on motions considered at the meeting. Of that number, 1,116,384 Class A shares, and 4,507,896 Class B shares are represented at this meeting by proxies returned through Thursday evening, April 26.

WARREN BUFFETTThank you. That number represents a quorum, and we will therefore directly proceed with the meeting. First of order of business will be a reading of the minutes of the last meeting of shareholders. I recognize Mr. Walter Scott Jr. who will place a motion before the meeting.

WALTER SCOTT JR.I move that the reading of the minutes of the last meeting of the shareholders be dispensed with.

WARREN BUFFETTDo I hear a second?

VOICESAye.

WARREN BUFFETTThe motion has been moved and seconded. Are there any comments or questions? We will vote on this motion by voice vote. All those in favor, say, "Aye."

VOICESAye.

WARREN BUFFETTOpposed, say, "Bye, I'm leaving." (Laughter) The motion is carried. The first 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. Would those persons desiring ballots please identify themselves, so that we may distribute them? I now recognize Mr. Walter Scott Jr. to place a motion before the meeting with respect to election of directors.

WALTER SCOTT JR.I move that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. be elected as directors.

VOICEI second the motion.

WARREN BUFFETTIt has been moved and seconded that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. 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 election. Would the proxy holders please also submit to the inspector of elections a ballot on the election of directors, voting the proxies in accordance with the instructions they have received? Miss Amick, when you are ready, you may give your report.

BECKI AMICKMy report is ready. The ballot of the proxy holders, in response to the proxies that were received through last Thursday evening, cast not less 1,126,480 votes for each nominee. That number far exceeds a majority of the number of the total votes related to all Class A and Class B shares outstanding. The certification required by Delaware law of the precise count of the votes, including the additional votes to be cast by the proxy holders, in response to proxies delivered at this meeting, as well as those cast in person at this meeting, if any, will be given to the secretary to be placed with the minutes of this meeting.

WARREN BUFFETTThank you, Miss Amick. Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chace, Charles T. Munger, Ronald L. Olson, and Walter Scott Jr. have been elected as directors. The next item of business was scheduled to be a proposal put forth by Berkshire shareholder Bartlett Naylor. On April 20th, 2001, Mr. Naylor advised us he was withdrawing his proposal. Accordingly, we will not have the proposal presented at this meeting. At the adjournment of the business meeting, I will respond to questions 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 for the meeting.

WALTER SCOTT JR.I move this meeting be adjourned.

WARREN BUFFETTMotion to adjourn has made and seconded. We will vote by voice. Is there any discussion? If not, all in favor say, "Aye."

VOICESAye.

WARREN BUFFETTOpposed say, "No." Meeting's adjourned. (Applause) I ask you, am I getting slower in my old age? No, I'm — (Laughter) Now, the first — we're going to go — We have eight microphones strategically placed. We have the first two on my right. Far back, three and four, and over to this back area, over here, and then up front for the seven and eight. And if you have a question, just go to the microphone, and queue up at the microphone, and we'll keep rotating, like I say, until noon. Then we'll have a break, and then we'll start again around 12:30, or thereabouts, and go until 3:30.

Four-year-old and Buffett look ahead to Berkshire's future

WARREN BUFFETTNow, first question in area 1, we have a special guest. I received a letter from Mark Perkins on April 5th, telling me about his daughter, who has been a shareholder since she was six months old. And she's going to be four in November, and she would like — Marietta would like to ask the first question. And frankly, I take all the questions from four-year-olds, and Charlie handles them from anybody — (laughter) — that's been around a little longer. So Marietta, if you've got the microphone there, would you ask your question, please?

VOICEAsk him. (Inaudible)

MARIETTA(Inaudible)

VOICEI'm Marietta.

MARIETTAMarietta.

VOICEI'm three. Speak up.

MARIETTAI'm three.

VOICEBerkshire Hathaway fistful of dollars.

MARIETTA(Inaudible) dollars. (Laughter)

VOICEHer — actually, her question was, she said she was three, and she says, "Berkshire Hathaway fistful of dollars," and she says, "What should we invest in now" so that she'll be ready when she goes to college?

WARREN BUFFETTWhat should she invest in, or what should Berkshire invest in?

VOICEWhat should Berkshire invest in?

WARREN BUFFETTWell, Berkshire would like very much to buy businesses of the same quality, and with managements of the same quality, and at prices consistent with the eight businesses that we've bought over the last 16 or 18 months. Our first preference is, and has been for many decades — although I would say most observers didn't seem to realize it — but our first preference has always to been — to be buying outstanding operating businesses. And we've had a little more luck in that respect lately. We also own lots of marketable securities. We've bought many of those, for example, in the mid-'70s, that did very well for us. But the climate has not been as friendly toward making money out of marketable securities. And we, frankly, prefer — we prefer the activities associated with owning and operating businesses over time. So what we hope to do, Marietta, is by the time you're ready to go to college, I would hope that well, first of all, I'd hope I'm still around. (Laughter) But beyond that, I would hope that we would have — you'll be ready in about 14 years or so. I would hope that we would have another, maybe, 40 businesses or so that would be added. And I would hope that we would have every business that we have now. And I would hope we would not have more shares outstanding, or any — at least any appreciable number of more shares outstanding. If we can get all that done, I think you'll probably be able to afford college. Charlie, do you have anything to add?

CHARLIE MUNGERNo. (Laughter)

WARREN BUFFETTAnd there's some things in life, Marietta, you can really count on. (Laughter)

Tech sector not comparable to pharmaceuticals

WARREN BUFFETTOK, let's go to microphone number 2.

AUDIENCE MEMBERGood morning, Mr. Buffett, Mr. Munger.

VOICE(Inaudible)

AUDIENCE MEMBEROh, sorry. OK. If you want to trade a share of Berkshire A for 30 shares of Berkshire B, as you had mentioned before, a personal stock split, or vice versa, is this considered a wash sale for tax purposes? Also, I'd like to ask you a question which you've heard before, but in a slightly different context. A few years ago, you said you had made a mistake by not buying shares of the major pharmaceutical companies around 1993. You cited their value to society, as well as their terrific growth, high profit margins, and great potential. You said that while you didn't know which companies would do the best, you could've made some kind of sector play, because the entire sector had been decimated. These exact same words, including those about not knowing which businesses will dominate over time, can also be used to describe another industry, which has recently been decimated. This is industry is, of course, technology. How do you see these two investment ideas, pharmaceuticals in '93 and technology now, and what difference in the two situations makes the first a good opportunity for Berkshire, and the second not one?

WARREN BUFFETTWell, Charlie answers all the questions about mistakes, so I will turn the second question over to him. (Laughter)

CHARLIE MUNGERPersonally, I think that the future of the pharmaceutical industry was easier to predict than the future of the high-technology sector. In the pharmaceutical sector, almost everybody did well, and some companies did extremely well. In the other sector, why, there are many permanent casualties in the high-tech sector.

WARREN BUFFETTYeah, I would say that there's certainly nothing obvious to us about the fact that the tech sector — as a group — viewed in aggregate — would be a good buy or be undervalued. Whereas we should have had enough sense to recognize that the pharmaceutical industry, as a group, was undervalued. But the pharmaceutical industry has a far, far better record of returns on large amounts of equity over time, and with a high percentage of the participants having those returns, than the tech industry. I wouldn't regard those two as comparable at all.

Tax implications for exchanging Berkshire share classes

WARREN BUFFETTYour first question about exchanging and whether you have a wash sale, and I think you indicated exchanging from B into A. If you actually, physically, have a share of A, and turn it in for 30 shares of B, that is not a taxable transaction, so there is no sale under such a circumstance. If you — There would be no reason, unless the B was at a significant discount, to actually sell the A and buy the B, but I — and I'm not giving tax advice on this — but I would think that they — I think the tax code refers to "substantially identical" securities when they talk about wash sales. And I would think that you — that the IRS would be entitled to, at least, raise the question if you had an A share you were selling at a loss, and replacing it with 30 shares of B. You'd have a better argument than if you bought a share of A back the next day, if you were establishing a loss. If you were establishing a gain, you'd have no reason — you know, they're not worried about wash sales in that respect. You can't go from B to A by exchange, but you could go by selling 30 shares of B in the market, and buying a share of A. Again, if that were being done at a loss, I think the IRS could well argue that they were substantially identical, but you could argue otherwise. Charlie?

CHARLIE MUNGERNo, no, I think the IRS would win.

WARREN BUFFETTYeah. (Laughter) Charlie might even go state's evidence, you know, if there was a fee to testify.

Berkshire isn't hindered by state insurance regulators

WARREN BUFFETTOK, let's go to zone 3.

AUDIENCE MEMBERI'm Dan Blum (PH) from Seattle, Washington. As an insurance holding company, Berkshire Hathaway is subject to regulation by insurance departments in every state in which GEICO or your other insurance subsidiaries do business. Has that handicapped or affected your operations in any way? And do you have any trenchant or wise observations to make about governmental regulation in that context?

WARREN BUFFETTYeah, we've really not been impeded in any way by the fact that — Berkshire Hathaway itself is not an insurance company, but it owns various insurance companies. Of course, it owns a lot of other companies, too. But being the holding company of insurance companies, which indeed are regulated by the states in which they're admitted, it really has not slowed down any acquisition. They are not — whereas with the Public Utility Holding Company Act, under that statute, the authorities are directed to be concerned with the activities of the holding company. And in the banking business, to some extent, they are. In the insurance business, there's relatively little in the way of regulation or oversight that extends up to the holding company. So, it has not slowed us down in that business, but it's been reported recently in the electric utility business. There's a statute from 1935, the Public Utility Holding Company Act, the acronym is that euphonious term, PUHCA. (Laughter) The Public Utility Holding Company Act has a lot of rules about what the parent company could do. And that act was put on the books because the holding companies of the '20s, most particularly ones held by — formed by — Sam Insull, but there were others. There were many abuses, and a good many of those abuses involved what took place at the holding company. So it was quite understandable that that act was passed in the '30s. And it achieved a pro-social purpose at the time. I don't think there's anything, frankly, pro-social about limiting Berkshire's ability to buy into other utilities. We can buy up to five percent of the stock. But we might well, in the last year or two, have bought an entire utility business if it were not — if that statute weren't present. So we're handicapped by the utility holding company statute, we are not handicapped, in my view, by any state insurance statutes. Charlie?

CHARLIE MUNGERNothing to add. (Laughter)

"Pain today, gain tomorrow" insurance transactions

WARREN BUFFETTZone 4?

AUDIENCE MEMBERGood morning.

WARREN BUFFETTGood morning.

AUDIENCE MEMBERSteve Bloomberg, from Chicago. I have two questions regarding the insurance operations. With regard to the reinsurance contracts, which were written at what some consider and call "good losses," you've discussed those insurance contracts in your report, indicating that it's generated 482 million of losses in the year 2000. Do we need an annual schedule disclosing the aggregate amortized charges of all current and past such deals, to make our adjustments, to reflect economic reality?

WARREN BUFFETTWell, there are two unusual-type deals, and you referred to one type, what I call the "pain today, gain tomorrow," or good losses-type deals. And under the deals you're describing, we record a usually quite significant loss in the current year, and then we have the use of float for many years to come, and there are no subsequent charges against that. So in respect to those contracts, the important thing is that we tell you — and we should tell you — really, every quarter if they're significant, and certainly yearly, any significant items that fall in that category. And as you mentioned, you know, we had over 400 million last year. We had a significant amount the year before. We have not had a significant amount this year. I think, in the first quarter, there may have been a 12 million charge for one of those. If they're significant, we're going to tell you about them. It's a one-time adjustment in your mind that, in effect, should — you should regard as different than any other type of underwriting loss that we experience, because we willingly enter into these. We take the hit the first year, and accounting calls for that. And over the life of the contract, we expect to make money. And our experience would be that we do make money. But we'll tell you about any significant item of that sort, so that you will be able to make an adjusted cost to float. I reported our cost to float last year at 6 percent, which is high. It's not unbearable, but it's high, very high. And included in that 6 percent cost was — about a quarter of it came from these transactions that distorted the current year figure. And therefore, our cost of float, if we hadn't willingly engaged in those transactions, would've been about 4 1/2 percent. I should mention to you that I expect that our cost of float — I said in the annual report — that absent a mega-catastrophe — and I might define a mega-catastrophe as insured losses, we'll say, of 20 billion or more, or something on that order — absent a mega-catastrophe, we expected our cost of float to come down this year, and I said perhaps substantially. In the first quarter, our cost of float will probably run just a touch under 3 percent, and — on an annualized basis. And I think that — I think the trend is in that direction, absent a mega-catastrophe. I would expect the cost of float, actually, to come down substantially this year. But if we were to take on some of these "pain today, gain tomorrow" transactions — and we don't have any in the works at the moment — but if we were to take those on, then it would be reflected in our cost of float, and we would lay out the impact of that sort of transaction. Charlie?

CHARLIE MUNGERYeah, I think almost all good businesses have occasions where they're making today look a little worse than today would otherwise be, to help tomorrow. So I regard these transactions as very much the friends of the shareholders.

WARREN BUFFETTWe have a second type of transaction, just to complete, which we also described in the report, which also creates a large amount of float, but where accounting rules spread the cost of that transaction over the life of the float. And those do not distort the current-year figures, but they do create an annual charge that exists throughout the life of float. And that charge with us is running something over $300 million a year. But there again, it's a transaction that we willingly and enthusiastically engaged in. And that has this annual cost attached to it. So when you see our cost to float at 3 percent, annualized, in the first quarter, it includes, probably, a $80 million charge or so, relative to those retroactive insurance contracts, which were the second kind described in the report. I recognize this accounting is, you know — and even the transactions — are somewhat Greek to some of you. But they are important, in respect to Berkshire, so we do want to lay them out in the annual report for those who want to do their own calculations of intrinsic value.

"What really costs … are the blown opportunities"

WARREN BUFFETTZone 5?

AUDIENCE MEMBERGood morning, gentlemen, my name is Jay Parker. I'm from Washington State. And this question regards mistakes. So that being the case, it should probably be directed to Mr. Munger. Mr. Munger, I know you're fond of evoking humility to promote rational thought. So my question is, what's the most recent business mistake that you've made, Mr. Munger, and why did it occur? (Laughter)

WARREN BUFFETTI'm going to take notes on this one. (Laughter)

CHARLIE MUNGERThe mistakes that have been most extreme in Berkshire's history are mistakes of omission. They don't show up in our figures. They show up in opportunity costs. In other words, we have opportunities, we almost do it. In retrospect, we can tell that we were very much mistaken not to do it. In terms of the shareholders, those are the ones in our history that it really cost the most. And very few managements do much thinking or talking about opportunity costs. But Warren, we have blown —

WARREN BUFFETTBillions and billions and billions. I might as well say it. (Laughter)

CHARLIE MUNGERRight, right. And we keep doing it. (Laughter)

WARREN BUFFETTSome might say we're getting better at it. (Laughter)

CHARLIE MUNGERI don't like mentioning the specific companies, because the — you know, we may, in due course, want to buy them again and have an opportunity to do so at our price. But practically everywhere in life, and in corporate life, too, what really costs, in comparison with what easily might have been, are the blown opportunities. I mean, it just — it's an awesome amount of money. When I was somewhat younger, I was offered 300 shares of Belridge Oil. Any idiot could've told there was no possibility of losing money, and a large possibility of making money. I bought it. The guy called me back three days later, and offered me 1,500 more shares. But this time, I had to sell something to buy the damn Belridge Oil. That mistake, if you traced it through, has cost me $200 million. And I — it was all because I had to go to a slight inconvenience and sell something. Berkshire does that kind of thing, too. We never get over it. (Laughter)

WARREN BUFFETTYeah. I might add that when we speak of errors of omission, of which we've had plenty, and some very big ones, we don't mean not buying some stock where we — a friend runs it, or we know the name and it went from one to 100. That doesn't mean anything. It's only — We only regard errors as being things that are within our circle of competence. So if somebody knows how to make money in cocoa beans, or they know how to make money in a software company or anything, and we miss that, that is not an error, as far as we're concerned. What's an error is when it's something we understand, and we stand there and stare at it, and we don't do anything. Or worse yet, what really gets me is when we do something very small with it. We do an eyedropper's worth of it, when we could do it very big. Charlie refers to that elegantly when I do that sort of thing as when I'm sucking my thumb. (Laughter) And there really — I mean, we have been thumbsuckers at times with businesses that we understood well. And it may have been because we started buying, and the price moved up a little, and we waited around hoping we would get more at the price we originally started — there could be a lot of things. But those are huge mistakes. Conventional accounting, of course, does not pick those up at all. But they're in our scorebook.

Not worried "at all" about product liability involving sugar

WARREN BUFFETTZone 6, please.

AUDIENCE MEMBERMy name is Joseph Lapray (PH). I'm from Minneapolis, Minnesota. In recent years, tobacco companies have been compelled to pay large damages for marketing their unhealthy, but discretionary, products. My question has two parts. First, does the potential for similar damage liabilities reduce the intrinsic value of Coca-Cola, See's Candies, Dairy Queen, or any other business, which sells discretionary products of questionable healthfulness? Not that I don't like these products. And second, are either of you concerned that a possible erosion in the principle of caveat emptor is undermining the legal basis of contracts, in general? Thank you for taking my question.

WARREN BUFFETTWell, the products you described, I've been living on for 70 years, so — (laughter) — they'll probably haul me in as a witness if I — that they don't do much damage. No, I think, if — you know, if you're opposed to sugar and the — I think the average human being eats something like 550 pounds dry weight of food a year. And I think 125 pounds, or thereabouts — I'd have to look at it — it consists of sugar in one form or another. I mean, it's in practically every product that you have, and happens to be in Coca-Cola, it happens to be in See's Candy, but it's in practically everything you're — I mean, it's over 20 percent of what Americans are consuming, one way or another. And, you know, the average lifespan of Americans keeps going up. So, I would not be worried at all about product liability in connection with those companies. But product liability, generally, is an area that is a fertile field for the plaintiff's bar. And it's — we are conscious in buying into businesses, and we have passed up some businesses, because we were worried about the product liability potential. Unless there is some legislative solution, I think you will see more and more of the GDP going into liability awards. And whether there will be any change by legislation, I don't know. But, you know, it's a big field. And the lottery ticket aspect of it is so attractive. Because if an attorney can gamble a modest amount of time, or even a reasonable amount of time, and have a potential payoff of 10, or 20, or maybe, in some cases, hundreds of millions of dollars, you know, that's a decent lottery ticket. Who knows what 12 people, you know, are going to be on the jury? As one of my friends who's a lawyer said, you know, he said, "Lincoln said, 'You can fool all of the people some of the time, and all of the — some of the people all of the time, and all of the people some of the time, but not all of them all the time.'" He says, "I'm just looking for 12 that you can fool all of the time." You know, and — (Laughter) You know, and all you have to do is get an award. And the odds are fairly favorable in a nation where lots of zeros have sort of lost meaning to people. So it's a very real concern in any business we get into, in terms of trying to evaluate product liability. Charlie?

CHARLIE MUNGERWhat's particularly pernicious is the increasing political power of the plaintiff's contingency, the bar. If you're on a state Supreme Court, for — in most places, you're on for life. If you — at least, you're on for life if you want to stay for life. And the one thing that could get you off the court would be to really irritate some important group. And I think that greatly helps a lot of abusive conduct in the courts. I think the judges of the country haven't been nearly as tough as they should be on junk science, junk economic testimony, trashy lawyers. And I don't see — (applause) — and I don't see many signs that it's getting better. In Texas, they actually improved the Supreme Court of Texas, which really needed it. So, there are occasional glimmers of life.

WARREN BUFFETTWe make our decisions in insurance and in buying businesses with a very pessimistic attitude toward the chances of that particular ill that Charlie described being even moderated. I mean, we think if — we would project out that the trend would accelerate, but that's just our natural way of building in a margin of safety in decisions. Don't worry about eating the See's candy, or the Dairy Queen, or the Coke. You know, if you read the papers long — I use a lot of salt, and, you know, I was always being warned about that. And then, you know, few years ago they started saying, "You know, you can't get enough salt" and all that. I don't know what the answer is, but I feel terrific. (Laughter)

We don't "have cash around just to have cash"

WARREN BUFFETTZone 7. (Applause)

AUDIENCE MEMBERGood morning. I'm Murray Cass from Markham, Ontario. The financial community relies heavily on the P/E ratio when evaluating prospective investments. When you buy a company, you must certainly consider not just the future stream of earnings but also the company's financial condition, among other things. By financial condition, I'm speaking mainly of cash and debt. But the P/E doesn't take into consideration either cash or debt. Occasionally, you see a company with consistently positive free cash flow trading just over cash value, effectively giving away the future earnings. In cases like this, the P/E looks terribly overstated unless adjusted for cash and debt. I've always preferred companies with oodles of cash to those burdened with lots of debt. And then I read Phil Fisher's book, "Conservative Investors Sleep Well." Well, I haven't slept well since. He really confused me when he commented that "hoarding cash was evil." He wrote that instead, "Companies should either put the cash to good use or distribute it to shareholders." Can I get your thoughts on this?

WARREN BUFFETTWell, there are times when we're awash in cash. And there have been plenty of times when we didn't have enough cash. Charlie and I, I remember in the late '60s, we were — when bank credit was very difficult — we were looking for money over in the Middle East. You remember that, Charlie?

CHARLIE MUNGERYes, I do.

WARREN BUFFETTYeah, and —

CHARLIE MUNGERThey wanted us to repay it in dinars.

WARREN BUFFETTYes, and the guy that wanted us to repaint it — repay him — in dinars — or "deeners," or whatever the hell they call them — (laughter) — was also the guy that determined the value of those things. So, we — (laughter) — were not terribly excited about meeting up with him on payday and having him decide the exchange rate on that date. (Laughter) But we, obviously, are looking every day for ways to deploy cash. And we would never have cash around just to have cash. I mean, we would never think that we should have a cash position of X percent. And I — frankly, I think these asset allocation things that tacticians in Wall Street put out, you know, about 60 percent stocks and 30 — we think that's total nonsense. So, we want to have all our money — (applause) — working in decent businesses. But sometimes we can't find them, or sometimes cash comes in (un)expectedly, or sometimes we sell something, and we have more cash around than we would like. And more cash around than we would like means that we have 10 or 15 cents around. Because we want money employed, but we'll never employ it just to employ it. And in recent years, we've tended to be cash heavy, but not because we wanted cash per se. In the mid-'70s, you know, we were scraping around for every dime we could find to buy things. We don't like lots of leverage, and we never will. We'll never borrow lots of money at Berkshire. It's just not our style. But you will find us quite unhappy over time if cash just keeps building up. And I think, one way or another, we'll find ways to use it. Charlie?

CHARLIE MUNGERI can't add anything to that.

Costs vary by type of business

WARREN BUFFETTZone 8.

AUDIENCE MEMBERGood morning. My name is Mark Dickson (PH) from Sarasota, Florida. And I'd like to thank you for providing this forum for all of us. It's wonderful. In past years, you've been very specific about some of the numbers related to Coca-Cola, Wells Fargo, Rockwood — specifically like with Coca-Cola — cost of aluminum, and sugar, and all that. It goes into the bottom line of Coca-Cola. Can you provide some of the specific numbers that go into some of your more recent purchases over the last couple years?

WARREN BUFFETTWell, they have such different characteristics. That's very difficult. I mean, we have service businesses such as FlightSafety, and Executive Jet is a service business. And, you know, in many of those companies, the big cost is personnel. I mean, we need people with — at a FlightSafety, we've got a lot of money invested in simulators. We'll put over $200 million into simulators this year, just as we did last year. So we have a big capital cost in that business, and then we have a big people cost because we are training pilots. And that's very person-on-person intensive. NetJets, part of Executive Jet, very people-intensive. I mean, we are absolutely no better than the people that interact with our clientele. You get into something like the carpet business, and maybe only 15 percent of your revenues will be accounted for by employment costs. And you're a very heavy raw material buyer. I mean, you're buying lots of fiber. So it varies enormously by the kind of business you're in. I mean, when we're in the insurance business, you know, we're in the business of paying future claims. And that's our big cost. And that's — obviously, involves estimates because sometimes we're going to pay the claim five, 10, or 20 years later. We're not going to know about it sometimes till 20 years later. So, it's very hard to generalize among the businesses. If you're in the retail business, which we are in the furniture and jewelry in a significant way, purchased goods are very — obviously — very important. We don't manufacture our own goods to any extent in those businesses. And then, the second cost, of course, is labor in a business like that. But we don't have any notions as to what we want to buy based on how their costs are segmented. What we really are looking for is an enduring competitive advantage. I mean, that's what's going through our mind all the time. And then we want, obviously, top-notch people running the place, because we're not going to run them ourselves. So those are the two factors we look at. We want to understand the cost structure, but Charlie and I can understand the cost structure of many companies — there's many we can't — but we can understand a good many companies. And we don't really care whether we're buying into a people-intensive business, a raw material-intensive business, a rent-intensive business. We do want to understand it and understand why it's got an edge against its competitors. Charlie?

CHARLIE MUNGERYeah, basically, to some extent we're like the hedgehog that knows one big thing. If you generate float at 3 percent per annum and buy businesses that earn 13 percent per annum with the proceeds of the float, we have actually figured out that that's a pretty good position to be in. (Laughter)

WARREN BUFFETTIt took us a long time. (Laughter) Incidentally, I would hope that we would — and actually expect that — absent a mega-catastrophe — that 3 percent figure will come down over the next, well, in the near future. But a mega-catastrophe could change all of that. I mean, if you had a $50 billion insured catastrophe — Tokyo earthquake, California earthquake, Florida hurricane — I mean, those — we're in the business of taking those risks. We're the largest insurer, as you may know, of the California Earthquake Authority. I have a sister here who is from Carmel, and she used to call me when the dogs and cats start running in circles. (Laughter) So we're exposed to some things that could change. But absent a mega-catastrophe, experience is going in the right way at both — at really at all of our insurance companies. And I would expect that to continue for a while. And then at some point I'd expect it to reverse itself. Isn't that helpful? (Laughter)

Airlines must keep costs in line with competitors

WARREN BUFFETTArea 1, please.

AUDIENCE MEMBERGood morning. I'm Martin Wiegand from Chevy Chase, Maryland.

WARREN BUFFETTGood to have you here, Martin. (Laughs)

AUDIENCE MEMBERThank you. Thank you for the wonderful shareholder weekend, and thank you for the leadership and education you give your shareholders and the general public. My question. Large airlines are in the news negotiating labor contracts. They claim they can't pass along rising labor costs to their customers. In the annual report, you say Executive Jet is growing fast and doing great. Executive Jet seems to be able to pass along its rising labor cost to its customers. Is this because Executive Jet has a rational compensation plan that keeps employee salaries in line with billable services? If not, why does Executive Jet do well while the airlines experience troubles?

WARREN BUFFETTWell, the big problem with the airlines is not so much what their aggregate payments will be. The real problem is when you're in the airline business and your wage rates are out of line with your competitors. When you get right down to it, the figure to look at with an airline — among a lot of other things — but you start with the cost per available seat mile. And then you work that through based on the capacity utilization to get to the revenue per — or the cost per — occupied seat mile. And the — you could have labor costs or any other costs. You certainly have fuel costs up dramatically for the airlines from a couple of years ago. As long as you're more efficient than your competitor, and your costs are not higher than your competitor, people will continue to fly. It's when you get your costs out of line with your competitor, which was the situation that — where Charlie and I were directors of USAir a few years back — and our costs per seat mile were far higher than competitors. And that was fine where we didn't have competitors on some — many of the short routes in the East. But as the Southwest Airlines would move into our territory — and they had costs, we'll say, of — and this is from memory — but they might have had costs below eight cents a seat mile. And our cost might have been 12 cents a seat mile. You know, that is a — you're going to get killed, eventually. They may not get to this route this year, but they'll get there next year or the year after. So if you're running a big airline at Delta or United or whatever, if your costs are on parity or less — labor costs — than your other major competitors, that is much more important to you than the absolute level. And the NetJets service is not really designed to be competitive with United Airlines or an American or something of that sort. It has a different group of competitors. And I think we have a absolutely terrific pilot force there. And we want them to be happy. But there's a lot of other ways. I mean, you want to pay them fairly. But with our pilots for example, it's extremely important to them, in many cases, to be able to live where they want to and to work the kind of shifts that we can offer. So we attract them in many other ways than bidding against United Airlines or American Airlines. Big thing in — you just can't take labor costs that are materially higher than your competitor in a business that has commodity-like characteristics such as airline seats. You just can't do it over time. And you can get away with it for a while. But sooner or later, the nature of a capitalist society is that the guy with the lower cost comes in and kills you. Charlie?

CHARLIE MUNGERThe airline unions are really tough. And it's interesting to see a group of people that are paid as well as airline pilots with such a brutally tough union structure. That really makes it hard in a commodity-style business. And no individual airline can take a long shutdown without having considerable effects on habit patterns and future prospects. It's just a very tough business by its nature. Passenger rail travel, even in a previous era, was a pretty tough way to make a buck. And nothing is all that different with the airline travel. We hope that our services are preferred by customers more than one airline seat is preferred compared to another.

WARREN BUFFETTYes, fractional ownership is not a commodity business. I mean, the people care enormously about service and the assurance of safety. And I don't think that, you know, I don't think if you were buying a parachute you'd want to take the — necessarily take the low bid, and —

CHARLIE MUNGERYeah. (Laughter)

WARREN BUFFETTNow with the big commercial airlines with millions and millions of passengers, people, I think probably correctly assume, that there's quite a similarity in both service and safety. But if you're in a business that cannot take a long strike, you're basically playing a game of chicken, you know, with your labor unions. Because they're going to lose their jobs, too, if you close down. So you're playing a game of chicken periodically. And it has a lot — there's a lot of game theory that gets involved. To some extent, you know, the weaker you are, the better your bargaining position is. Because if you're extremely weak, even a very short strike will put you out of business. And the people who are on the other side of the negotiating table understand that. Whereas, if you have a fair amount of strength, they can push you harder. But it is of — it is no fun being in a business where you cannot take a strike. We faced that one time back in the early '80s when there were — we were in kind of a death struggle in Buffalo with The Courier-Express. And when I bought The Buffalo News — actually Charlie did. He was stranded there during a snowstorm, and he got bored. So, he called me and said, "What should I do?" I said, "Well, you might as well buy the paper." (Laughter) And so we were in this struggle. And — but when we bought the Buffalo News, we had two questions of the management, and one of them I can't tell you. But the second one was, we wanted to meet with the key union leaders, and we wanted to tell them, "Lookit, if you ever strike us for any length of — significant length of time — we're out of business. "You know, you can make our investment valueless. So we really want to look you in the eye and see what kind of people you are before we write this check." And we felt quite good about the people, and they were good people. And we had one situation in 1981, or thereabouts, where a very, very small union, I think, less than 2 percent of our employees, struck over an issue that the other 10 or 11 unions really didn't agree with them that much on. But they struck, and the other unions observed the picket line, which you would expect them to do in a strongly pro-union town, such as Buffalo. And I think, as I remember, they struck on a Monday. And I remember leaders of some of the other unions actually with tears in their eyes over this, because they could see it was going to put us out of business. And frankly, I just took the position then, I said, "Lookit, if you come back in a day, I know we're competitive. If you come back in a year, I know we will not be competitive. "And if you're smart enough to figure out where exactly the point is that you can push us to and still come back and we have a business and you have jobs, I said, you're smarter than I am. So, you know, go home and figure it out." And they came back in on Thursday, and we became very competitive again. But they could've — I mean, it was out of my hands. I couldn't make them work, and if they decided they were going to stay out long enough, we were not going to have a newspaper. And that's the kind of situation, occasionally, you find yourself in. And I would say the airline industry is a good example of people — where people find themselves in that position periodically. Charlie, anything you want —

CHARLIE MUNGERWell. The shareholders may be interested to know, vis-à-vis competitive advantages in our NetJets program, that the day that other charter plane crashed in Aspen, NetJets refused to fly into Aspen at all. People remember that kind of thing.

WARREN BUFFETTYeah.

Berkshire's advantages, and one big disadvantage

WARREN BUFFETTZone 2?

AUDIENCE MEMBERGood morning, gentlemen. David Winters from Mountain Lakes, New Jersey. Thank you for hosting "Woodstock for Capitalists." (Laughter) Berkshire seems to have an enormous long-term advantage in spite of its large size and high equity prices. The structure of the company's activities, non-callable capital, substantial free cash flow, and improving insurance fundamentals, permit Berkshire to capitalize on potential asset price declines and dislocations in financial markets, while most investors would not either have the money or the cool minds to buy. Am I on the right track here?

WARREN BUFFETTWell I think, in certain ways, you are. But we do have disadvantages, too. But we have some significant advantages in buying businesses over time. We would be the preferred purchaser, I think, for a reasonable number of private companies and public companies as well. And we — our checks clear. So we — (laughter) — we will always have the money. People know that when we make a deal, it will get done, and it will get done as fast as anybody can do it. It won't be subject to any kind of second thoughts or financing difficulties. And we bought, as you know, we bought Johns Manville because the other group had financing difficulties. People know they will get to run their businesses as they've run them before, if they care about that, and a lot of people do. Others don't. We have an ownership structure that is probably more stable than any company our size, or anywhere near our size, in the country. And that's attractive to people, so — And we are under no pressure to do anything dumb. You know, if we do things dumb, it's because we do things dumb. And it's not — but it's not because anybody's making us do it. So those are significant advantages. And the disadvantage, the biggest disadvantage we have is size. I mean, it is harder to double the market value of a hundred billion dollar company than a $1 billion company, using our — what we have in our arsenal. And that isn't — I hope it isn't going to go away. I mean, I hope we don't become a billion dollar company and enjoy all the benefits of those. (Laughter) And I hope, in fact, we have the agony of becoming, you know, a much larger company. So, you are on the right track. Whether we can deliver or not is another question. But we go into combat every day armed with those advantages. Charlie?

CHARLIE MUNGERYeah. This is not a hog heaven period for Berkshire. The investment game is getting more and more competitive. And I see no sign that that is going to change.

WARREN BUFFETTBut people will do stupid things in the future. Even — there's no question. I mean, I will guarantee you sometime in the next 20 years that people will do some exceptionally stupid things in equity markets. And then the question is, you know, are we in a position to do something about that when that happens? But we do — we continue to prefer to buy businesses, though. That's what we really enjoy. When Charlie mentioned hog heaven, I thought we ought to open the peanut brittle here, which I recommend heartily. (Laughter)

"There is no such thing as growth stocks or value stocks"

WARREN BUFFETTZone 3.

AUDIENCE MEMBERGood morning. Mo Spence from Waterloo, Nebraska. You've often stated that value and growth are opposite sides of the same coin. Would you care to elaborate on that? And do you prefer a growth company that is selling cheap or a value company with moderate or better growth prospects?

WARREN BUFFETTWell, actually I think you're — you may be misquoting me. But I really said that growth and value, they're indistinguishable. They're part of the same equation. Or really, growth is part of the value equation. So, our position is that there is no such thing as growth stocks or value stocks, the way Wall Street generally portrays them as being contrasting asset classes. Growth, usually, is a chance to — growth, usually, is a positive for value, but only when it means that by adding capital now, you add more cash availability later on, at a rate that's considerably higher than the current rate of interest. So, there is no — we don't — we calculate into any business we buy what we expect to have happen, in terms of the cash that's going to come out of it, or the cash that's going to go into it. As I mentioned at FlightSafety, we're going to buy $200 million worth of simulators this year. Our depreciation will probably be in the area of $70 million or thereabouts. So we're putting $130 million above depreciation into that business. Now that can be good or bad. I mean, it's growth. There's no question about it. We'll have a lot more simulators at the end of the year. But whether that's good or bad depends on what we earn on that incremental $130 million over time. So if you tell me that you own a business that's going to grow to the sky, and isn't that wonderful, I don't know whether it's wonderful or not until I know what the economics are of that growth. How much you have to put in today, and how much you will reap from putting that in today, later on. And the classic case, again, is the airline business. The airline business has been a growth business ever since, well, you know, Orville [Wright] took off. But the growth has been the worst thing that happened to it. It's been great for the American public. But growth has been a curse in the airline business because more and more capital has been put into the business at inadequate returns. Now, growth is wonderful at See's Candy, because it requires relatively little incremental investment to sell more pounds of candy. So, its — growth, and I've discussed this in some of the annual reports — growth is part of the equation, but anybody that tells you, "You ought to have your money in growth stocks or value stocks," really does not understand investing. Other than that, they're terrific people. (Laughter) Charlie?

CHARLIE MUNGERWell, I think it's fair to say that Berkshire, with a very limited headquarters staff — and that staff pretty old — (laughter) — we are especially partial to laying out large sums of money under circumstances where we won't have to be smart again. In other words, if we buy good businesses run by good people at reasonable prices, there's a good chance that you people will prosper us for many decades without more intelligence at headquarters. And you can say, in a sense, that's growth stock investing.

WARREN BUFFETTYeah, if you had asked Wall Street to classify Berkshire since 1965, year-by-year, is this a growth business or a value business — a growth stock or value stock — you know, who knows what they would have said. But, you know, the real point is that we're trying to put out capital now to get more capital — or money — we're trying to put out cash now to get more cash back later on. And if you do that, the business grows, obviously. And you can call that value or you can call it growth. But they're not two different categories. And I just cringe when I hear people talk about, "Now it's time to move from growth stocks to value stocks," or something like that, because it just doesn't make any sense.

Advice to young people: Invest in yourself

WARREN BUFFETTZone 4?

AUDIENCE MEMBERHi. My name is Steven Kampf (PH) from Irvine, California. I'm 10 years old and this is my fourth consecutive year here.

WARREN BUFFETTTerrific.

AUDIENCE MEMBERHow I got —

WARREN BUFFETTWe're glad to have you here.

AUDIENCE MEMBERThanks. This is my fourth consecutive year here, and how I got to owning stock is my dad taught me to start my own business. And I bought Berkshire Hathaway stock with my profits. In school, they don't teach you how to make and save money, not in high school or college. So my question is, how would you propose to educate kids in this area?

WARREN BUFFETTWell, that's a good question. Sounds to me like — (Applause) Sounds to me like you could do a good job yourself, too. And, you know, at 10, you're way ahead of me. Unfortunately, I didn't buy my first stock until I was 11, so I got a very slow start. And — (Laughter) It's, you know, what it takes really is — and you find it in some classrooms and you don't in others — but it takes teachers who can explain the subject. Charlie would say Ben Franklin was the best teacher of all in that respect. But, you know, it looks like you either got it from your parents — an education on that — and parents can do more education, really, in that respect, even, than teachers. But it's, you know, I get a chance to talk to students from time to time. And, you know, one of the things I tell them is, you know, what a valuable asset they have themselves. I mean, I would pay any bright student probably $50,000 for 10 percent of his future earnings the rest of his life. So he's a $500,000 asset just standing there. And what you do with that $500,000 asset, in terms of developing your mind and your talents, is hugely important. The best investment you can make, at an early age, is in yourself. And it sounds to me like you're doing very well in that respect. I congratulate you on it. I don't have any great sweeping program for doing it throughout the schools though. We have — here in Nebraska — we have an annual get-together of students from all the high schools throughout the state. And it's a day or two of economic education. I think it's a very good program. But I think if you just keep doing what you're doing, you may be an example to other students. Charlie?

CHARLIE MUNGERWell, I'd like to interject a word of caution. You sound like somebody who's likely to succeed at what you're trying to do. And that's not always a good idea. If all you succeed in doing in your life is to get early rich from passive holding of little bits of paper, and you get better and better at only that for all your life, it's a failed life. Life is more — (applause) — than being shrewd at passive wealth accumulation. (Applause)

WARREN BUFFETTI think he's going to do well in both.

Internet "was a chance for people to monetize the hopes of others"

WARREN BUFFETTZone 5?

AUDIENCE MEMBERGood morning. My name is Thomas Kamay (PH). I am 11 years old and from Kentfield, California. This is my fourth annual meeting. Last year, I asked how the internet might affect some of your holdings. Since a lot of the internet companies have gone out of business, how are — has your view of internet changed?

WARREN BUFFETTWell, that's a good question. I think that the internet probably looks to most retailers like less of a competitive threat than it did a couple of years ago. For example, if you look at the jewelers who have been on the internet and, in many cases — in several cases, at least, had very large valuations a couple of years ago, so the world was betting that they would be very effective competitors against brick and mortar jewelry retailers. I think that that threat has diminished substantially. I think that's been true in the furniture business. In both of those industries, very prominent dot-coms that had aggregate valuations in the hundreds of millions have vanished in short order. So I would say that we think the internet is huge opportunity for certain of our businesses. I mean, GEICO continues to grow in a — at a significant rate in internet business. See's Candies' internet business is up 40 percent this year. Last year it was up a much larger percent from the year before, and it grows and it will continue to grow. So the internet's an opportunity, but I think the idea that you could take almost any business idea and turn it into wealth on the internet — many were turned into wealth by promoting them to the public. But very few have been turned into wealth by actually producing cash results over time. So I think there's been a significant change in the degree to which I perceive the internet as a possible threat to our retail businesses. There's been no change in the degree to which I regard it as an opportunity for other of our businesses. Charlie?

CHARLIE MUNGERWell, Warren, you and I were once engaged in the credit and delivery grocery business. And it was a terrible business. It barely supported one family for a hundred years with all of them working 90 hours a week. And somebody actually got the idea that was the wave of the future and turned it into a great internet idea. That can only be described as mania. And it sucked in a lot of intelligent people.

WARREN BUFFETTYes, Charlie is talking about the infamous Buffett & Son Grocery Store, which did barely support the family for a hundred years. And, only then did we support the family by hiring guys like Charlie for slave wages. (Laughter) But I used to go out on those delivery trucks, and it was pretty damned inefficient. You know, people would phone their orders in. And now it's true we took them down with a pencil and an order pad instead of punching them into a computer. But when we started driving around the trucks and hauling the stuff off and everything, you know, we ran into the same costs that Webvan is running into now. What the internet offered was a chance for people to monetize the hopes of others, in effect. I mean, you are able to capture the greed and dreams of millions of people and turn that into instant cash, in effect, through venture capital and the markets. And there was a lot of money transferred in the process, from the gullible to the promoters. But there's been very little money created by pure internet businesses so far. It's been a huge trap for the public. Charlie?

CHARLIE MUNGERNothing more.

"We don't have a master plan"

WARREN BUFFETTZone 6.

AUDIENCE MEMBERThank you for taking my question. My name is Frank Gurvich (PH). I'm from London, Ontario. It's great to see all the young people asking questions. I even have my own 11-year-old here, Matthew, this year. I first want to start by passing on a message from my wife to you, Mr. Buffett. And that is, "Thank you, Mr. Buffett for your autograph that Frank brought back last year. However, quite frankly, the ring in the Borsheims box you autographed was far more precious."

WARREN BUFFETTYou can repeat that if you'd like. (Laughter)

AUDIENCE MEMBERMy question relates to the future of Berkshire. Back in 1994, there was a PBS video interview of you at the Flagler Business School. And I believe you said Berkshire was not an insurance company. It appears that's not quite the case as much anymore, and I suppose insurance acquisitions will provide the financial fuel and the stability the Johns Mansvilles and MidAmerica types of acquisitions will need for their future growth. But I'm hoping that you and Charlie can describe for us an anticipated future look at, say, 20 years out, of how Berkshire might be different and — from how it is today — and perhaps a couple of the not so obvious problems that Berkshire will need to contend with. And thank you for all the apparently wonderful acquisitions you've made on our behalf in the last year.

WARREN BUFFETTWell, thank you. I think you ought to take your wife another ring, too. (Laughter) But thank you. We actually, as long ago as — I don't remember whether it was in the 1980 annual report, but at least 20 years ago, we did say that we thought insurance would be our most significant business over time. We had no idea that it would get to be as significant as it is. But we've always felt that that was — we would be in many businesses — but that insurance was likely to be our largest business. Right now, it's not our largest business in terms of employment. It's our largest business in terms of revenue. And we would hope it gets a lot bigger over time. We don't have anything in the works that would make that happen, although we will have natural growth in what we already own. But we will just keep acquiring things. And sometimes — some years we'll, you know, we'll make a big acquisition. Some years we'll make a few small acquisitions. We'll do whatever comes down the pike. I mean, if there's a phone call waiting when this meeting is over and it's an interesting acquisition, it'll get done. We don't have a master plan. We don't — Charlie and I do not sit around and strategize or talk about the future of various industries or do anything of that sort. It just doesn't happen. We don't have any reports. We don't have any staff. We don't have any of that. We try to look at what comes in — we try to survey the whole financial field. We try to look at what comes in and look for things we understand, where we think they have a durable, competitive advantage, where we like the management, and where the price is sensible. And, you know, we had no idea two or three years ago, you know, that we would be the 87 percent owner of the largest carpet company — broadloom carpet company — in the world. You know, we just don't — we don't plan these things. But I would tell you in a general way that 20 or so years from now, we will own a lot more businesses. I would still think it likely — I mean, I think it's certain that insurance will be a bigger business for us in 20 years than it is now. Probably much bigger. But I think it's — and I think it's also likely it will be our biggest business still. But that could change. I mean, we could get a deal offered to us tomorrow that, you know, was a 15- or $20 billion deal, and then we've got a lot of money in that industry at that point. So it's — we have no more master plan now than we had back in 1965 when we bought the textile mill, really. I mean, we had a lousy business. I didn't realize it was as lousy as it was when I got into it. And we had to, you know, we just had to start trying to deploy capital in an intelligent way. But we've been deploying capital, you know, since I was 11. And I mean, that's our business and we enjoy it. And we get opportunities to do it. But the bigger you are, the fewer the opportunities you're likely to get. Charlie?

CHARLIE MUNGERWell, I think it's almost a sure thing that 20 years from now there'll be way more strength and value behind each Berkshire share. I also think it is an absolutely sure thing that the annual percentage rate of progress will go way down from what it has been in the past.

WARREN BUFFETTNo question about it.

Buffett's cholesterol level

WARREN BUFFETTOn that happy note, we move to zone 7. (Laughter)

AUDIENCE MEMBERGood morning, Mr. Buffett, Mr. Munger. My name is Gary Radstrom (PH) from right here in River City [Omaha]. I've been a shareholder since '93, and have loved every minute of it. Recently, there's been medication available to reduce cholesterol. My doctor even gave it to me since mine is kind of high. Every time I hear what you like to eat, Warren, it makes me wonder what your cholesterol level is — (Laughter) — or if you even worry about it. I think everyone here wants you to be with us for a long time, so have you considered taking this new medication to reduce your cholesterol level? (Laughter)

WARREN BUFFETTI do know the number, and I don't remember it. My doctor tells me, "It's a little high," but if he says it's a little high, it means it isn't that high, or he would — because he always tries to push me into making a few changes in my life. But he — I've got a wonderful doctor. And I was lucky last year, because I hadn't been in to see him for about five years. And — (laughter) — due to — those guys cost a lot of money, I mean. (Laughter) And due to purely an accident, a reaction to some other medicine I was given when I was out of the city, he got a hold of me, and then he shamed me into having a physical. And it was extremely lucky, because I had a polyp in the colon that would have probably caused trouble, you know, within a couple of years. I would say that if you ask my doctor, he would want me to make a few changes, but he would also say that my life expectancy is probably a lot better than the average person of 70. You know, I have no stress whatsoever. Zero. You know, I mean, I get to do what I love to do every day. You know, and I'm surrounded by people that are terrific. So that problem in life just doesn't exist for me. You know, and I don't smoke or drink or, well, we'll end it right there. (Laughter) And so, you know, if you were an underwriter for a life company, you would rate me considerably better than the average. You'd rate Charlie better than average, too. And I'm sure that, you know, I could change it slightly, perhaps, on the probabilities, you know, if I change my diet dramatically or something. But it's very unlikely to happen. Actually, when my mother got to be 80 — you know, the most important thing in life, in terms of how long you live, is how long your parents live. So I got her an exercise bike when she got to be 80. (Laughter) She put 40,000 miles on it. And I told her to watch her diet and do all these things. And I mean, she lived to be 92, so you know, she did her share, and I helped her do it by giving her the exercise bicycle. So, I think that improved my odds at that point. Charlie?

CHARLIE MUNGERYeah. I have a book recommendation which will be very helpful to all shareholders that worry about Warren's health and longevity. And that's this book called "Genome" by Matt Ridley, who was, for years, the science editor of The Economist magazine. And if Ridley is right, Warren has a very long life expectancy. There are very interesting correlations between people who cause stress to others instead of suffering it themselves. (Laughter and applause) And Warren has been in that position ever since I've known him. (Laughter) And the figures that Ridley quotes are awesomely interesting. It is a fabulous book. Of course, I'm recommending a bestseller, but they're selling it in the airport. It's called "Genome," and you'll feel very good about Warren's future if you agree with the science of the book.

Unrealistic investment expectations for pension funds

WARREN BUFFETTZone 8.

AUDIENCE MEMBERMy name is Charlie Sink (PH). I'm from North Carolina. Mr. Buffett, your article last year in Fortune Magazine was excellent. I'm thinking — well, I'm wondering what your thoughts are on American business profit margins and return on equity in the future. I also would like your thoughts about the — some businesses today with their huge inventory write-offs, what your thoughts about those are.

WARREN BUFFETTYeah, well, in that article I talked about the unlikelihood of corporate profits in the United States getting much larger than 6 percent of GDP. And historically, the band has been between 4 and 6 percent. And we've been up at 6 percent recently. So, unless you think that profits, as a part of the whole country's economic output, are going to become a bigger slice of the pie — and bear in mind, they can only become a bigger slice of the pie if other slices get diminished to some extent, and you're talking about personal income and items like that. So, I think it's perfectly rational and reasonable that in a capitalistic society the corporate profits are something like 6 percent of GDP. That does not strike me as outlandish in either direction. It attracts massive amounts of capital, because returns on equity will be very good if you earn that sort of money. And on the other hand, I think it would be very difficult in the society to get where they'd be 10 percent or 12 percent, or something of the sort because it just — it would look like an unfair division of the pie to the populace. So, I don't see any reason for corporate profits — they're going to be down in the near future as a percentage of GDP from recently, but then they'll go back up at some point. So I think 10 years from now, you'll be looking at a very similar picture. Now, if that's your assumption and you're already capitalizing those profits at a pretty good multiple, then you have to say that you have to come to the conclusion that the value of American business will grow at a relationship that's not much greater than the growth in GDP. And most of you would estimate that probably to be, you know, maybe 5 percent a year, if you expect a couple percent a year of inflation. So, I wouldn't change my thoughts about the profitability of American business over time. And I wouldn't change my thoughts much about the relationship of stock prices over time to those profits. So, I — you know, I would come down very similarly. Now, interestingly enough, some of those same relationships prevailed decades ago, but you were buying stocks that were yielding you perhaps 5 percent or something like that, so that you were getting 5 percent in your pocket, plus that growth as you went along. And of course, now if you buy stocks you get 1 1/2 percent, if you're the American public, before the frictional cost. So that the same rate of growth produces a way smaller aggregate return. And some — You know, I think stocks are a perfectly decent way to make 6 or 7 percent a year over the next 15 or 20 years. But I think anybody that expects to make 15 percent per year, or expects their broker or investment advisor to make that kind of money, is living in a dream world. And it's particularly interesting to me that back when the prospects for stocks were far better — I even wrote something about this in the late '70s — pension funds were using investment rate assumptions that were often in the 6 percent or thereabout range. And now when the prospects are way poorer, most pension funds are using — building into their calculations — returns of 9 percent or better on investments. I don't know how they're going to get 9 percent or better on investments. But I also know that they change the investment assumption down, it will change the charge to earnings substantially. And they don't want to do that. So, they continue to use investment assumptions which I think are quite unrealistic. And with companies with a big pension component in their financial situation, and therefore in their income statement, that can be quite significant. It will be interesting to me to see whether in the next couple years where pension funds are experiencing significant shortfalls from their assumptions, how quickly they change the assumptions. And the consulting firms are not pushing them to do that at all. It's very interesting. The consulting firms are telling them what they want to hear, which is hardly news to any of us. But it's what's taking place. The second question about inventory write-offs. You know, that gets into the category entirely of big-bath charges, which are the tendencies of management, when some bad news is coming along, to try and put all the bad news that's happened into a single quarter or a single year —and even to put the bad news that they are worried about happening in the future into that year. And it's — it leads to real deception in accounting. The SEC has tried to get quite tough on that, but my experience has been that managements that want to do it usually can find some ways to do it. And managements, frequently, are more conscious of what numbers they want to report than they are of what has actually transpired in a given quarter or a given year. Charlie?

CHARLIE MUNGERYeah, pension fund accounting is drifting into scandal by making these unreasonable investment assumptions. It's — evidently, it's part of the human condition that people extrapolate the recent past. And so, since returns from common stocks have been high for quite a long period, they extrapolate that they will continue to be very high into the future. And that creates a lot of reported earnings, in terms of pension benefits, that aren't available in cash and are likely not to be available at all. And this is not a good idea, and it's interesting how few corporate managements have just responded like Sam Goldwyn: "Include me out." You'd think more people would just say, "This is a scummy way to keep the books, and I will not participate." Instead, everybody just drifts along with the tide, assisted by all these wonderful consultants.

WARREN BUFFETTYeah, I don't think — I don't know of any case in the United States right now, and I'm sure there are some, but except for the pension funds that we take over, I don't know of any case where people are reducing their assumed investment return. Now you'd think if interest rates drifted down several percentage points that that might affect what you would think would be earned with money. It certainly is to bond holders or to us with float or something of the sort. But most major corporations, I believe, are using an investment return assumption of 9 percent or higher. And that's with long-term governments below 6 percent, you know, and maybe high-grade corporates at 7. They don't know how to get it in the bond market. They don't know how to get it in the mortgage market. I don't think they know how to get it in the stock market. But it would cause their earnings to go down if they change their investment assumption. And, like I say, I don't know of a major company that's thinking about it. And I don't know of a major actuarial consultant that's suggesting it to the managements. It just — they'd rather not think about it.

CHARLIE MUNGERThe way they're doing things would be like living right on an earthquake fault that was building up stress every year and projecting that the longer it's been without an earthquake the less likely an earthquake is to occur. That is a dumb way to write earthquake insurance. (Laughter) And the current practice is a dumb way to do pension fund planning and accounting.

WARREN BUFFETTIf you talk —

CHARLIE MUNGERDumb and improper.

WARREN BUFFETTIf you talk to a management or board of directors about that, you get absolutely no place.

CHARLIE MUNGERNo, they — their eyes would glaze over before the hostility came. (Laughter)

Executive Jet won't be a "mature" business "for decades"

WARREN BUFFETTArea 1.

AUDIENCE MEMBERGood morning, gentlemen. Marc Rabinov from Melbourne, Australia. I had a question on two of our key operating businesses. Firstly, Executive Jet. Once this becomes a mature business, would it be fair to say that its net margin should be about 5 percent? And secondly, would it be fair to say that our current insurance businesses are likely to grow aggregate float at about 10 percent over time?

WARREN BUFFETTWell, it's really anybody's guess. I mean, I don't expect Executive Jet to become a mature business for decades. I mean, it — there's a whole world out there on that one. And we have something over 2,000 customers in the United States at the current time. We have a little over a hundred, but in Europe. But there are tens and tens and tens of thousands, and perhaps hundreds of thousands, of people or businesses where it does make sense over time. So it's going to be long time. I mean, there are only 700, roughly, jets a year being produced. And of course, up until a few years ago that was limited to people who wanted to buy single planes. But you won't change that output much in the next five years. But — so, you couldn't really take on — We can take on about 600 customers a year, just in terms of the delivery schedule that we have built into our business. And we couldn't change that — we couldn't double that — because the planes simply aren't available in the next year or two, although we have orders further out. But I would say it will be a long time until Executive Jet is a mature business, and I would say that — a long, long time. I mean, we're going to, when we get Europe — as we make progress in Europe, we'll move to Asia. We'll move to Latin America over time. And so we're going to be, I think, growing that business significantly for a very long time. When it becomes mature, or close to it, you know, if you're talking 5 percent after-tax margins, I'd say that that's probably a reasonable figure. But we're so far away from even thinking about that, that, you know, it's pure speculation.

"There's an unlimited market for dumb insurance policies"

WARREN BUFFETTIn our insurance business, we've grown our float and then we've purchased businesses to add to the float. This year, I would certainly expect, unless one — a big transaction would fall through or something — I would certainly expect our float to grow at least 2 1/2 billion. And that is close to 10 percent of the beginning of the year float. That's a rational expectation. But whether it can grow 10 percent a year, you know, how far you can do that — I would say the total float of the property-casualty industry in the United States is — I'm pulling this out from making some other calculations in my head as I talk — but it wouldn't be much more than 300 billion. So, we are close to 10 percent of the entire U.S. float now, and I don't think the U.S. float — the aggregate float — you know, is going to grow at a 10 percent rate. So when you're as big a part of the pie as we are, it may be difficult to sustain a 10 percent rate. But we're doing everything possible that makes sense to grow float. I mean, that is a major, major objective. But the even bigger objective is to keep it low-cost. I don't think you can see — unless the world changes in some way — I don't think you can see 10 percent growth over 25 years. But we'll do our darnedest to get it, you know, at the rate you suggest for at least the near future. Charlie?

CHARLIE MUNGERWell, I certainly agree that long term, it's not going to happen. Good, but not that good. (Buffett laughs)

WARREN BUFFETTBut we've been surprised at what's happened. I mean, there's no — I mean, when we bought Jack Ringwalt's company in 1967, you know, my memory is Jack had a float of, you know, less than 15 million. And would we have ever guessed that we might hit something close to 30 billion this year? We never dreamt of it. But we just kept doing things, and we'll keep doing things. But it can't be at huge rates for a long period of time, because we're too big a part of the pie now. We were nothing initially, and we kept grabbing a little more of the pie as we've gone along. And we like that, but it can't go on forever.

CHARLIE MUNGERYeah. That's what I call really low-cost float. If it ever should be advantageous for us to go into what I would call higher-cost float, that might change the figures upward, in terms of growth of float.

WARREN BUFFETTYeah. Although, that won't be — I mean, it could happen that we could take on incrementally some higher-cost float under very special circumstances if we saw unusually good ways to use it, but that — we don't even like to think about that. We certainly don't want the people running our businesses to think about that. Because keeping it low- cost, you know, that is the big end of the game. Anybody can generate float. I mean, if we gave our managers a goal of generating 5 billion of float next year, they could do it in a minute, you know, and we would be paying the price for decades to come. You can write dumb insurance policies, you know. There's an unlimited market for dumb insurance policies. And they're very pleasant, because the first day the premium comes in and that's the last time you see any new money. From then on, it's all going out. And that's not our aim in life.

GEICO focusing on U.S. instead of global expansion

WARREN BUFFETTZone 2?

AUDIENCE MEMBERMy name is Kjell Hagan (PH). I'm a Norwegian working in Tokyo in Japan. I'm very satisfied to have more than 95 percent of our family's savings in Berkshire. I have two questions. In my work, I've seen a lot of insurance companies in Europe and Japan. And I think that GEICO's business model is quite superior to most primary insurance companies in Europe and Japan. And I think that GEICO would be very successful in Europe and Asia. So I'd like to hear what are the views and plans for GEICO doing business in Europe and Asia. Second, regarding Coca-Cola — living in Japan, I notice that Coke has a relatively low presence in advertising, although they are the largest player with 30 percent market share versus 15 for the number two. I think Coke is being too cheap on advertising, thus hurting the long-term position. I wonder if advertising strategy internationally is a high enough priority of Coke's management, and if aggressiveness is sufficient. I'd like to hear if you have any comments on this. Also I'd just like to thank you very much for this experience and for the wonderful company you have created.

WARREN BUFFETTWell, thank you very much. Clearly when you've got a business model that works as well as GEICO has in this country and it continues to work well, and has that fundamental advantage of being a low-cost operator, we think about every possible way that we can take that idea and extend it. It's been remarkably hard to do it. I mean, the management has tried various things, ever since Leo Goodwin started the company in 1936, to take it into other areas, and those efforts have been modestly successful at certain things like life insurance, but then they got out of it, and various other things. But it's an idea still. We have — you know, we have 4 percent or so of the market in the United States. This market is so huge. And as we look at the drain on human resources involved in extending it into other countries, and we've looked at it a lot, and it may be something we'll do at some time. But we've never felt that the possible gain, considering the rigidities of these other — both in Europe and in Asia — of breaking in — it's not easy to get into those markets. And the cost, the time, we just felt that it would be better to concentrate those same resources in this country. It's not a question of capital at all. I mean, we'd put the money in in a second. And we're doing it in something like NetJets in Europe. I mean, we — there's a human cost to it, there's a financial cost to it. Financial cost bothers us not at all. Human cost is a real question, because it gets back to Charlie's opportunity cost. We have talented managers, but we have a finite number of them. And I would rather have Tony Nicely and Bill Roberts and their crew focusing on how to gain additional market share in this country at the right rates than I would starting in a project in Europe or Asia now. But that's — it's a very good question. It's something I can guarantee you we think about all the time and will continue to think about. We've tried to extend geography. Coke has been the most successful company in the world in extending geography. We've tried to do it with See's Candy, and it's had limited — very limited — success. I mean, we've tried 50 different ways, because the trials are relatively cheap to do. And we think it should work, we just haven't been able to make it work. But that — it's a very good question.

Coca-Cola advertising in Japan

WARREN BUFFETTThe question about Coke's advertising in Japan. As you know, Coke has a terrific presence in Japan. Japan's an interesting market, because the percentage of soft drinks sold through vending machines is just far, far higher than any place in the world. And the United States is a very distant second. And then, the rest of the world, there's very little done in the way of vending machines. I don't know the specifics of the advertising in Japan, but of course, Doug Daft who now is the CEO of Coke, comes with a huge background in Asia. I mean, that was his territory for much of his career. And Doug — we have a new major — very major — advertising campaign coming up. And you probably read that Coke is going to spend 300 million-plus additional on marketing beyond the normal spend, which is huge. And I can't tell you the specific markets in which that will be, but I would be surprised if Japan isn't a big part of it, because Japan is an enormous market for Coca-Cola. Charlie?

CHARLIE MUNGERI have nothing to add.

Berkshire's asbestos exposure

WARREN BUFFETTZone 3, please.

AUDIENCE MEMBERHi. My name is Steve Rosenberg (PH). I'm from Ann Arbor, Michigan. First, I just want to thank both of you for being two phenomenal role models. I've really looked up to you both for a long time. My first question is about reinsurance. I believe that you're willing to write larger policies in reinsurance than anyone else, but that you still insist on the amount of your liability being capped. I'm wondering, with your investments in companies with — that have exposure to asbestos, have you somehow capped that? Or is that unlimited, especially given joint and several liability? My second question involves auto insurance. And I was wondering, does State Farm's structure as a mutual insurance company compensate it — or help it compensate — for having a higher cost structure because, over the long term, it need only remain solvent and not provide an adequate return on capital to its investors?

WARREN BUFFETTThe first question, on asbestos. We have not put any significant money, to our knowledge, in any company that has any asbestos exposure now. You know, we have a small amount of money in USG, where the subsidiary, United States Gypsum, has a major asbestos exposure. But that's a very, very minor investment. The — and that would be the only one that I can think of. We've walked away from several deals that were quite attractive in every respect except asbestos. But that's like saying to a 120-year-old, you know, "You're in good health except for the fact that you're dead." (Laughter) So we don't go near asbestos. Now, in terms of our retroactive insurance policies, we are taking over the liabilities of companies that have lots of asbestos exposure. And in that case, we assume that those exposure — that those contracts — will be paid in full. I mean, we make no assumption of any reduction in asbestos costs, but we do cap them. There's a couple things you can't cap in insurance. You can't cap workers' compensation losses. I mean, they —you can as a reinsurer, but I mean, the primary insurer can't do that. I believe in auto, for example, in the U.K., that it's uncapped. And I think that nobody thought that was very serious until they had a recent accident that caused — I think it involved a car doing something that — an auto doing something to a train that was unbelievable. So they — there are a few areas where insurance is written on an uncapped basis. And in our case, we write some auto insurance in the U.K. and we write some workers' compensation, primarily in California. But generally, in the reinsurance business, you are capping the liabilities you take on. I mean, obviously, when we bought General Re, they had asbestos liabilities from reinsurance contracts they had written. But the reinsurance companies are pretty careful about writing unlimited policies. We write huge limits. We're the biggest — you know, if somebody wants to write a huge limit, or an unusual limit, they should call us. Because there's no one else in the world that will act as big or as promptly as we will. But we don't write things that are unlimited. Now, the interesting thing is that the biggest exposures, in our view, are the people that write a lot of primary business and don't have the catastrophe cover they need. I mean, if you write 10 percent of all the business in homeowners on — or 15 percent — on Long Island or in Florida, I mean, you are writing a catastrophe cover that would blow your mind. If you're Freddie Mac or Fannie Mae and you're guaranteeing mortgages, you know, for millions of people in areas like that, and they don't have insurance — earthquake in California or property insurance in Florida — they'd be less likely to have earthquakes someplace — you are taking on enormous risks. I mean, huge risks, far beyond what we would ever take on. They just — but you don't get paid for them, unfortunately. I mean, just take the New Madrid section of Missouri, down in the corner. That was the area of three of the greatest quakes, that are sort of related in time, in the — certainly in the recorded history, they were the three greatest quakes in the United States. You know, how much homeowners' business, how much commercial property business, does somebody have in that huge territory, which you know, supposedly caused church bells to ring in Boston when it happened back in whenever it was — 1807, or '9, or something like that? So, there are all kinds of risks that can aggregate in huge ways that companies are not thinking about at all. I mean, I don't know whether Freddie Mac or Fannie Mae, for example, is demanding that all of the homes they insure in the, you know, 300-miles radius of New Madrid, have earthquake insurance. But, you know, it — that sort of thing never comes to mind until the unthinkable happens. But in insurance, the unthinkable always happens.

Praise for State Farm

WARREN BUFFETTState Farm, as a competitor, is a mutual company, and it has a huge amount of net worth. You referred to them as a higher-cost — a high-cost operator or higher cost — but they're really a relatively low-cost operator. But they're not anywhere near as low-cost as GEICO. But they're a low-cost operator compared to many people in the insurance business. And it's certainly true that they do not have the demands for profitability, partly because they've done such a great job in the past and built up so much surplus. I have nothing but basically good things to say about what State Farm has done over the years. They do not need — they can subsidize, to some extent, current auto policy holders with the profits that were derived from auto policy holders of the past. But that's always true when a stock company competes with a mutual company. And, you know, we know that when we go in the business. And that's true of — there are a lot of other mutual companies out there that operate without the demands of earning a high return on capital. But if I were State Farm, I'd, you know, I'd probably be doing what they're doing. I don't criticize them at all. Charlie?

CHARLIE MUNGERWell, I don't criticize State Farm, either. State Farm is one of the most interesting business stories in the United States. The idea that it could get as big as it is and has as good a distribution system as it does, it's a thoroughly admirable company. In fact, Berkshire has bought insurance from State Farm. Not auto insurance. (Laughter)

WARREN BUFFETTGEICO still has a lower cost structure. I mean, it is a great business operation. And we have invested significantly to build that, because it is so attractive. And, as I pointed out in the annual report, the incremental investment we made last year did not produce the same results as incremental investments in previous years. So we are finding it hard to grow the business under current circumstances on a basis that we would like to. But it's a wonderful business, and it has, you know, it has a business model that I wouldn't, you know, I wouldn't trade for anything.

"Nobody's going to catch" NetJets

WARREN BUFFETTZone 4?

AUDIENCE MEMBERHi, Mr. Buffett, Mr. Munger. My name's Dan Sheehan from Oakville, Canada. Following up on your discussion about GEICO, you've often talked about their advantages as a direct seller and investor of float. My question is, how do you control claim costs versus your competitors, other than through good underwriting? Some may have advantages in terms of economies of scale or cutting corners you won't do. And this might allow them to eliminate some of the advantages you've gained on the other side of the combined ratio. And my second question is, you've said, "It's hard to be smarter than your dumbest competitor." And along that line, what are your thoughts about a recent Wall Street Journal article about a major airline getting into the fractional jet business? Thank you.

WARREN BUFFETTI don't worry about the dumbest competitor in a business that's service. The customer will figure that out over time. And we have a huge advantage in the fractional ownership business. I mean, we have 265 planes flying around now, and you can get one on four hours' notice at any one of 5,500 airports. We have planes in Europe for our American customers. We have planes here for our European customers. And nobody's going to catch us, in my view, in fractional ownership. And we've had some dumb competitors in the past in that business. And, you know, they bleed. And to the extent, you know, we've got more blood than they have.

Buffett on the "trick" of good underwriting

WARREN BUFFETTIn the question of GEICO and underwriting, you know, that — it's a fascinating business because there are — in this audience — there are people with hugely different propensities to have an accident. And of course, most people figure they're better than average. Now, part of the propensity to have an accident will depend on how many miles you drive. Obviously, somebody who never takes the car out of the garage is — no matter what their driving skills might be — is not going to have an accident. They drive 10 miles a year, you know, you're pretty safe with almost anybody. But — so there's a relationship to miles driven. But there's a relationship to all kinds of other things. And the trick, in insurance, is being able to figure out the variables and not have them too many, because you still have to get people to fill out a form, and you don't want something that has practically no significance. But the trick is to find out what questions you need to ask to determine in which category to place people as to their propensity to have an accident. Now, in the life insurance business, you know, even Charlie and I figured out that the older you get, the more likely you are to die in a given year. Now that's not the only factor, but everybody understands that. That the older you are, the mortality risks go up. And they've learned a few other things. They've learned that females live longer than males. Now that doesn't get into a judgment as to why or anything else. You just know it. So, you build that in if you're pricing the product. And then you know a whole bunch of other things. You may even know that cholesterol's bad — you know, that makes a difference in terms of predicting mortality. But in the auto insurance business, there are lots of variables that correlate with the frequency with which a person will have an accident per mile driven. And the more experience you have with a large body of people whom you've asked a lot of questions about and can draw conclusions there from, the better off you are. State Farm has got a wonderful body of information. I mean, their actuarial judgments should be better than anybody else's, because they've got more experience with more cars and drivers. But our experience with close to five million policy holders enables us, I think, to underwrite quite intelligently. But every day, you know, we're looking for some variable that will tell us more. People with a good credit history are better drivers by a significant margin than people with a lousy credit history. Why? We don't care too much why, because it wouldn't help. What we really need to know is that the two factors correlate. And we're looking for correlations all the time, and we're trying to avoid spurious correlations, which you can have. And it's, you know, it's a moving target. You keep working on it all the time. But we're better at it than we were five years ago and we'll be better at it five years from now than we are now. When we go into a new state, we will have a very small body of policy holders. And some of the factors, obviously, prevail over all states, but there's certain things that you learn, actually, only if you're in a given state for a while. You know, you're more likely to have an accident if you're a — everything else being equal — if you're an urban driver — city driver in a big city — than if you're driving in an area that's very rural where the density of other cars is very low. If you're the only guy in the county with a car, you know, you're not going to have a lot of two-car accidents. So, the underwriting question is all important. And fast, fair settlement of claims is very important, because people who really weren't injured start feeling worse and worse as they talk to more and more lawyers. So, you know, the claims delivery is a vital part of running a good property-casualty operation. And all I can tell you is, at GEICO, that we think very hard about those things, but we'll be thinking about them tomorrow as well as today. Charlie?

Challenges for United's fractional jet venture

CHARLIE MUNGERWell, vis-à-vis the fractional jet ownership program, which has been announced for United Airlines, I find that very interesting. A senior United Airlines pilot now makes about $300,000 a year plus fancy fringes, including pension. And what he does is work a very limited hour — number of hours a month. And about half of that he spends sleeping in a comfortable bunk on long ocean flights. That is not a culture that will work well in fractional jet ownership. Maybe they think they'll get some advantage in recruiting new pilots or something. I don't know why they're doing it. I would not have done it.

WARREN BUFFETTWell, they haven't done it yet, either, but the — many of the airlines have organized second companies to take care of commuter flights and all of that. And, you know, that does produce problems when the pilots of the subsidiaries start comparing their benefits to the pilots, you know, of the parent, and all that. I mean, they try to get lower cost structures by doing that. But I would guess that if you were wanting to set up a fractional ownership company, that — and you were — you would probably not think about trying to align yourself with somebody that has extremely high costs in other areas. And the advertising campaign will be kind of interesting, too. You know, "Give up first class travel. Start traveling right," you know, or something. It'll be interesting. But I would tell you that we have competitors in the fractional ownership business, the two largest being companies that are part of plane manufacturers. And you can understand why they went into it, but it is not an easy business. And we've got the best hand, frankly.

Calling it a "hedge fund" doesn't make you any smarter

WARREN BUFFETTZone 5?

AUDIENCE MEMBERMichael Wong (PH), San Diego, California. First of all, I would like to thank both of you. My question is, when you started your business, why you started an investment partnership instead of a mutual fund? And also, can you recommend a good book, or books, regarding how to start an investment partnership fund and how to service clients, et cetera?

WARREN BUFFETTYeah, I don't know of any books on starting partnerships or hedge funds. Do you know, Charlie?

CHARLIE MUNGERNo, but people seem to manage to create them without the books. (Laughter) The incentives are awesome.

WARREN BUFFETTYes. And the one thing, I mean, it's always interesting to both of us how you get certain things that are fashionable. And people think that by naming something a given name, that somehow that makes everybody smarter or able to make money in it. I mean, there is no magic to private equity funds, international investing, hedge funds — all of the baloney that gets promoted in Wall Street. What happens is that certain things become very promotable, usually because there's been recent successes by other people, and that the new entrants extrapolate the successes of a few people in the past to promote new money from people currently. So, they adopt titles that, you know, that they think will attract money and they — but it doesn't make anybody any smarter if they hang out a shingle in front of their house that says, "hedge fund" or they have a shingle that says "asset allocation firm" or something of the sort. The form doesn't create talent. I backed into the business. I mean, I'd worked for a mutual fund — closed-end investment company. In fact, there's a fellow here today who's a friend of mine that — the two of us worked there, and we were 40 percent of the whole company because there were three other people, all of whom outranked us considerably. And that firm was Graham-Newman Corp, from 1954 to 1956. And it was a regulated investment company. It was about $6 million in assets, which seemed like a big deal at the time. And Ben Graham was one of the best known investors in the world, and he had $6 million in his fund. There was a sister partnership called Newman and Graham, which operated in what would, today, be called "hedge fund style," as far as a partnership split of the profits and so on. And when I left there in '56 and I came back here, we had seven people, a couple of whom are here in the room, who said, "Do you want to manage money?" And I said, "Well, here's what I learned at Graham-Newman," that Newman and Graham is a better way to do it than Graham-Newman. So I formed a little partnership, and then I met Charlie a few years later. And he figured, if I was making money doing it, he'd make a lot more. So — (laughter) — he formed one. And that was the carefully calculated strategy of how we both became involved in the partnership business. Charlie? (Laughs)

CHARLIE MUNGERYeah, it is amazing how big the hedge fund industry has become. They have conventions on the subject now. And in the late '20s, you could take a course on how to run a crooked security pool. And these things come in great waves. I'm not suggesting the hedge funds are crooked, but I am suggesting that you get these waves of fashion that go to great extremes. The amount of money, what is it now, Warren, in hedge funds?

WARREN BUFFETTIt's very big, although it's a little less in a few quarters than it used to be. (Laughs) But I would be willing to put a lot of money up that if you take the aggregate experience of all the hedge funds — as starting right today and going for the next 15 years — I would bet a lot of money it will not hit 10 percent, in terms of return to partners. And I would, if you push me, I would bet at a lower figure than that.

CHARLIE MUNGERThen you have Bernie Cornfeld's idea, the Fund of Funds. There are people who want to get paid for selecting hedge funds for other people. And that didn't work very well for Bernie Cornfeld.

WARREN BUFFETTWell, it worked pretty well for Bernie for a while, but it didn't work so well for his investors, actually. (Laughter) Yeah. That result was probably something Bernie had in mind at the start maybe.

Investing small amounts allows bigger opportunities

WARREN BUFFETTZone 6.

AUDIENCE MEMBERI'm Michael Zenga from Danvers, Massachusetts. That's a town whose band Mr. Buffett so generously sent to the Rose Bowl parade last year, so you're a very popular guy in my town. Good morning, Mr. Buffett and Mr. Munger. Mr. Buffett, I wanted to ask you this question last week when I ran into you after Gillette's annual meeting, but I choked. So now that there's no pressure, here goes. (Laughter) In the years from — from my reading — in the years from 1956 through '69, you achieved the best results of your career quantitatively. Twenty-nine percent annually against only 7 percent for the Dow. Your approach then was different than now. You looked for lots of undervalued stocks with less attention to competitive advantage or favorable economics and sold them rather quickly. As your capital base grew, you switched your approach to buying undervalued excellent companies with favorable long-term economics. My question is, if you were investing a small sum today, which approach would you use?

WARREN BUFFETTWell, I would use the approach that I think I'm using now of trying to search out businesses that — where I think they're selling at the lowest price relative to the discounted cash they would produce in the future. But if I were working with a small amount of money, the universe would be huge compared to the universe of possible ideas I work with now. You mentioned that '56 to '69 was the best period. Actually, my best period was before that. It was from right after I met Ben Graham in 19 — early 1951 — but from the end of 1950 through the next 10 years, actually, returns averaged about 50 percent a year. And I think they were 37 points better than the Dow per year, something like that. But that — I was working with a tiny, tiny, tiny amount of money. And so, I would pour through volumes of businesses and I would find one or two that I could put $10,000 into or $15,000 into that just were — they were ridiculously cheap. And obviously, as the money increased, the universe of possible ideas started shrinking dramatically. The times were also better for doing it in that time. But I think that, if you're working with a small amount of money, with exactly the same background that Charlie and I have, and same ideas, same whatever ability we have — you know, I think you can make very significant sums. But you — but as soon as you start getting the money up into the millions — many millions — the curve on expectable results falls off just dramatically. But that's the nature of it. You've got to — you know, when you get up to things you could put millions of dollars into, you've got a lot of competition looking at that. And they're not looking as I did when I started. When I started, I went through the pages of the manuals page by page. I mean, I probably went through 20,000 pages in the Moody's industrial, transportation, banks and finance manuals. And I did it twice. And I actually, you know, looked at every business. I didn't look very hard at some. Well, that's not a practical way to invest tens or hundreds of millions of dollars. So I would say, if you're working with a small sum of money and you're really interested in the business and willing to do the work, you can — you will find something. There's no question about it in my mind. You will find some things that promise very large returns compared to what we will be able to deliver with large sums of money. Charlie?

CHARLIE MUNGERWell, yeah, I think that's right. A brilliant man who can't get any money from other people, and is working with a very small sum, probably should work in very obscure stocks searching out unusual mispriced opportunities. But, you know, you could — it's such a small world. It may be a way for one person to come up, but it's a long slog.

Promotion, not performance, is Wall Street's biggest money maker

WARREN BUFFETTYeah, most smart people, unfortunately, in Wall Street figure that they can make a lot more money a lot easier just by, one way or another, you know, getting an override on other people's money or delivering services in some way that people — And the monetization of hope and greed, you know, is a way to make a huge amount of money. And right now, it's very — just take hedge funds. I mean, it's — I've had calls from a couple of friends in the last month that don't know anything about investing money. They've been unsuccessful and everything else. And, you know, one of them called me the other day and said, "Well, I'm forming a small hedge fund." A hundred and twenty-five million he was talking about. Like, the thought that since it was only 125 million, maybe we ought to put in 10 million or something of the sort. I mean, if you looked at this fellow's Schedule D on his 1040 for the last 20 years, you know, you'd think he ought to be mowing lawns. (Laughter) But he may get his 125 million. I mean, you know, it's just astounding to me how willing people are, during a bull market, just to toss money around, because, you know, they think it's easy. And of course, that's what they felt about internet stocks a few years ago. They'll think it about something else next year, too. But the biggest money made, you know, in Wall Street in recent years, has not been made by great performance, but it's been made by great promotion, basically. Charlie, do you have anything?

CHARLIE MUNGERWell, I would state it even more strongly. I think the current scene is obscene. I think there's too much mania. There's too much chasing after easy money. There's too much misleading sales material about investments. There's too much on the television emphasizing speculation in stocks.

Powerful forces don't want to expense stock options

WARREN BUFFETTZone 7.

AUDIENCE MEMBERRobert Piton (PH) from Chicago. The Honorable Warren Buffett and the Honorable Charlie Munger, I felt it would be appropriate to address you both in a manner that reflects the tremendous amount of value that the two of you have been instrumental in unleashing for your shareholders, your employees, and the good of society. (Applause) The area that I'd like to inquire about is stock options. As you are aware and have written about in the past reports, companies have been taking advantage of, and contributing to, FASB's inadequate rules regarding stock options. In particular, the lack of having to expense them on the income statement and the lack of having to report them as a liability on the balance sheet. My question is, are either one of you doing anything to help FASB's current stance on the issue? If not, have either one of you ever considered establishing a, quote, "real," end quote, independent body of accountants that would actually try to make companies produce accounting statements that reflect economic reality?

WARREN BUFFETTCharlie, I'll let you. You have the history on it.

CHARLIE MUNGERWell, we don't like the accounting, which we've called "corrupt," or at least I have. And I don't think that's too strong a word. I think it's corrupt to have false accounting because you like a certain outcome better than another. All that said, I don't think either of us spends a lot of time fighting with FASB or trying to create a better one. It's like splitting your lance against stone or something. You can get a lot of back pressure from the butt of the lance. And we can't be expected to cure all the ills of the world.

WARREN BUFFETTWe've written about it and talked about it. Obviously, you've picked up on it. And when it was an active issue whenever it was, about, I don't know, four years ago or so, Senator [Carl] Levin of Michigan was one of those who felt as we did. And, of course, FASB felt as we did. But the pressure was incredible that American business brought on, on Congress. They weren't getting — they tried to put pressure on FASB and they weren't getting a result, so they just said, "Well, we're not going to let FASB set the accounting rules, we'll have Congress set the accounting rules." And I thought that was a bad idea, per se, but I thought in this — and, but they got plenty of supporters. Got a huge number of supporters. I mean, they — And at the time, I compared it, I think — there was a bill introduced in the Indiana legislature in the 1890s, I believe. And the bill was to change the value of the mathematical term "pi" to three even, instead of 3.1415... (Laughter) And the legislator who introduced it said that it was too difficult for the school children of Indiana to work with this terribly long, unending term. And it would be so much easier if pi was just three. And he thought they ought to enact that. Well, I thought that was quite rational compared to, you know, what the Congress of the United States was going to do in telling people that, since it — one of the arguments was that, "It makes it very tough for startup companies if they have to expense this." Well, it makes tough if they have to pay their electricity bill, too. But, I mean, but those were the kind of arguments you got. And my memory is, Charlie is better on this than I am probably, but I think the accounting firms 40 years ago or 50 years ago were in accord with our position. But every client would put pressure on, you know, and they don't want to report expenses. They particularly don't want to report expenses that are paid to them, and that could be huge, and that might prove obnoxious if recorded by conventional accounting. But if it's sort of lost in a table in the proxy statement, people don't pay much attention. So, the only way it will get changed — we wrote about it and I even talked to a few senators at the time — the only way it will get changed is — and this is the only way corporate governance problems generally will get changed — if 15 or 20 large institutional investors would band together in some way on this. But some of them have the same problem because they're getting paid extraordinary sums for doing something that, you know, is really not adding that much value. So, they're not really inclined to call attention, in many cases, to what Charlie would refer to as "obscenities" in other people's compensation. So, I think it's going to go on. I mean, it's a fascinating subject. But the institutional investors seem to focus very much on matters of form and not substance. I mean, you get a lot of — they, you know, they cluck a lot about little things that don't have anything to do with their economic return over time, whereas on stock options they're something that's terribly important. They're the ones that are paying the costs, and the costs are there whether they get recorded or not. But American management will not change its position on that voluntarily. Consultants will never change their position. They're getting paid to encourage people to look at other companies, and it just keeps ratcheting up. So, I don't think you're going to see change unless institutional investors do it. As I say, I get these questionnaires, you know, about the composition of the board or a nominating committee. None of that makes any difference in terms of how a business performs. I got one form that said they wanted a list of directors broken down by sex. And I said, "None that I know of." (Laughter) But it just is not germane. Charlie?

CHARLIE MUNGERWell, I can't top that one. (Laughter)

No company should predict 15 percent annual growth

WARREN BUFFETTZone 8, please.

AUDIENCE MEMBERSteve Casbell (PH) from Atlanta. My question concerns Gillette. Do you think their goal of trying to grow earnings at 15-plus percent kind of got them into their current inventory problems at the trade? And as well, the Duracell acquisition. I know at the time, neither one of you were the biggest fans of the deal. I just want to know how you feel about it now.

WARREN BUFFETTWell, I would say it's a mistake. And I've said it. I think it's a mistake for any company to predict 15 percent a year growth. But plenty of them do. For one thing, you know, unless the U.S. economy grows at 15 percent a year, eventually any 15 percent number catches up with you. It just, it doesn't make sense. Very, very few large companies can compound their earnings at 15 percent. It isn't going to happen. You can look at the Fortune 500, and if you want to pick 10 names on there that will compound their growth from — other than some extraordinarily depressed year, I mean, if they had a year where they just broke even so the number's practically zero. But if you pick any company on there that currently has record earnings, and you want to pick out 10 of them that over the next 20 years will average 15 percent or greater, I will, you know, I will bet you that more than half of your list will not make it. So, I think it's a mistake, and as I've said in the annual report, I think it leads people to stretch on accounting. I think it tends to make them change trade practices. And you know, I'm not singling out Gillette in the least, but I can tell you that if you look at the companies that have done it, you will find plenty of examples of people who have made those sort of mistakes. And I think that, in connection with Duracell — I mean, obviously, Duracell has not turned out the way that the management of Gillette, at the time, hoped that it was going to do. And the investment bankers who came in and made the presentations, those presentations would look pretty silly now. Charlie?

CHARLIE MUNGERI think that kind of stuff happens all the time. It will continue to happen. It's just built into the system. I see more predictions of future earnings growth at a high rate, not less. I mean, a few people have sort of taken an abstinence pledge, but it's very few. It's what the analysts want to hear.

WARREN BUFFETTIt's what the investor relations departments want the managements to say. It makes their life easier, you know. But they don't have to be there five years from now or 10 years from now doing the same thing. It's — If we predicted 15 percent from Berkshire, you know, 15 percent means that — assuming the same multiples — I mean, that means in five years, 200 billion. In 10 years, 400 billion. You know, 15 years, 800 billion. A trillion-six in 20 years. And the values get to be crazy. And you know, if you have a business with a market value of 4- or 500 billion — and you had a few of those not so long ago — just think of what it takes to deliver, in the way of future cash, at a 15 percent discount rate to justify that. If you've got a business that's delivering you no cash today and it's selling for $500 billion, you know, to give you 15 percent on your money, it would have to be giving you 75 billion this year. But if it doesn't give you 75 billion this year, you know, it has to be giving you 86 and a quarter billion next year. And if it doesn't do it next year, it has to be giving you almost a hundred billion in the third year. It just — those numbers are staggering. I mean, the implications involved in certain market valuations really, you know, belong in "Gulliver's Travels" or something. But people take them very seriously. I mean, people were valuing businesses at $500 billion a year, a year-and-a-half ago, and there's just no mathematical — almost no mathematical calculation you could make that would — if you demanded something like 15 percent on your money — there's almost no mathematical calculation you could make that would — could possibly lead you to justify those valuations. Charlie, have any more?

CHARLIE MUNGERYou know, I said on another occasion that, to some extent, stocks sell like Rembrandts. They don't sell based on the value that people are going to get from looking at the picture. They sell based on the fact that Rembrandts have gone up in value in the past. And when you get that kind of valuation in the stocks, some crazy things can happen. Bonds are way more rational, because nobody can believe that a bond paying a fixed rate of modest interest can go to the sky, but with stocks they behave partly like Rembrandts. And I said, suppose you filled every pension fund in America with nothing but Rembrandts? Of course, Rembrandts would keep going up and up as people bought more and more Rembrandts, or pieces of Rembrandts, at higher and higher prices. I said, "Wouldn't that create a hell of a mess after 20 years of buying Rembrandts?" And to the extent that stock prices generally become sort of irrational, isn't it sort of like filling half the pension funds with Rembrandts? I think those are good questions.

WARREN BUFFETTOnce it gets going, though, people have an enormous interest in pushing Rembrandts. I mean, it creates its own constituency.

"It's stupid the way people are extrapolating the past"

WARREN BUFFETTZone 1?

AUDIENCE MEMBERMr. Buffett, Mr. Munger, my name is Joe Schulman (PH). I'm a shareholder from Oxford, Maryland. Thank you for a wonderful meeting. In order for Berkshire to have an opportunity to hopefully grow its earnings by about 15 percent per year, if we can do that, at least for the next few years, it's obvious that because of the redeployment of earnings and float, the existing businesses do not need to grow at 15 percent. At what rate would you expect the existing businesses to grow to achieve an aggregate rate close to what I'm describing? And what do you think the probability is of achieving that?

WARREN BUFFETTYes. Well, I think the probability of us achieving 15 percent growth in earnings over an extended period of years is so close to zero, it's not worth calculating. I mean, we'll do our best, and we have a lot of fun doing it. So it is not something where we have to come down and do things that are boring to us or anything of the sort. I mean, our inclination is to — very much — to do everything we can, legitimately, to add to Berkshire's earnings in things we can understand. But it can't happen, over time. You know, we will have years when we do it, but — And you're quite correct in pointing out we don't need to do it from the present businesses — we will add things all the time — any more than we needed to do it from the current business back in 1965 with the textile business. I mean, we have to improvise as we go along. And we will. And the businesses we have are good businesses, in aggregate. They will do well. They won't do anything like 15 percent growth per annum, but we will take a good rate of progress from those businesses, and we will superimpose upon that acquisitions which will add to that. But we can't do 15 over a period of time, and — nor, incidentally, do we think any large company in the United States is likely to do. There will be a couple that do it for a long period of time, but to predict which of the Fortune 500 will end up being the one or two or three, would be very hard to do. And it won't be more than a couple out of 500, if you take large companies not working from a deflated base year. I think our method is a pretty good one. I mean, I think the idea of having a group of good businesses to throw off cash in aggregate, in a big way, that themselves grow, that are run by terrific people, and then adding onto those, sometimes at a slow rate, but every now and then at a good clip, more businesses of the same kind, and not increasing the outstanding shares, I think that's about as good a business model as you can have for a company our size. But what it produces, we'll have to see. Charlie?

CHARLIE MUNGERI certainly agree that the chances of this 15 percent per annum progress extrapolated way forward is virtually impossible. I think, generally, the shareholding class in America should reduce its expectations a lot.

WARREN BUFFETTIncluding the pension funds.

CHARLIE MUNGERYeah, including the pension funds, you bet. It's stupid the way people are extrapolating the past. Not slightly stupid, massively stupid. (Laughter)

WARREN BUFFETTAnd this is a message, incidentally, if you think about it. I mean, nobody has any interest in saying this — a financial interest in saying it — whereas people have all kinds of financial interest in saying just the opposite. I mean, so you do not get an information flow — if you listen to the financial world or read the financial press — you do not get an information flow that is balanced in any way, in terms of looking at the problem, because the money is in believing something different. And money is what, you know, it's what causes people to become prominent, or it flows from becoming prominent in the investment world in terms of whether you go on television shows, or whether you manage money, or are trying to attract it through funds, or whatever it may be. I don't think if you were an actuarial consultant and you insisted that the companies that you gave your actuarial report to use a 6 percent investment rate, I don't think you'd have a client. So, it's almost impossible for the advisors, in effect, in my view, to be intellectually honest on it. Don't you think so, Charlie?

CHARLIE MUNGERYeah. There was a very smart — there is a very smart investment advisor in my town, and he said that, "Years ago, some risk arbitrage firm would tell his clients, 'We know how to make 15 percent per annum year in and year out.'" And he said, "Years ago, everybody said, 'That's impossible.'" He says, "Now in this climate, they say, 'So what?'" You know, who's interested in a lousy 15 percent?

WARREN BUFFETTAnd it was easier in the earlier climate, obviously, because the money hadn't been attracted into it.

CHARLIE MUNGERGenerally speaking, there's more felicity to be gained by — from reducing expectations than in any other way. It is simply crazy for this group to have very high expectations. Moderate expectations will do fine for all of us.

No comment on USG investment

WARREN BUFFETTOK. We'll take one more before we go — we break for lunch. We'll go to number 2.

AUDIENCE MEMBERGood morning. My name is Ken Goldberg from Sharon, Massachusetts. A few questions ago, you mentioned the company's investment in USG. I was wondering how the company — how you got comfortable with that as an investment, in light of the asbestos exposure? Do you view the company — the stock — as cheap enough and the asbestos exposure as manageable enough over time, so that the investment is justified? Or do you view it as, in a worst-case scenario, if the subsidiary with asbestos exposure blows up, the rest of the solid businesses are insulated from that and are alone worth the price of the investment?

CHARLIE MUNGERLet me answer that. I don't think we want to comment. (Buffett laughs)

WARREN BUFFETTYeah. It's one-tenth of one percent of Berkshire, roughly. I mean, but as Charlie says, that gets too close to giving stock advice. But I will tell you their asbestos problems are serious, and they would be the first to tell you that.