OtherLet's settle down, please, and we're going to go to, we skipped one last time, so we're going to go first to Zone 4.
QuestionerHello. My name is Nelson Arata. I'm from Southern California, and I have a question. It's not really related to intrinsic value or any of that stock stuff, but more on houses. I'm still quite young. I don't have a house yet, and I'm thinking about buying a house someday soon. And in order to do that, I'm going to have to put a down payment, which means I might have to share or sell my shares. And I was wondering if you can provide some insight on when is the best time to buy a house and how much down payment you should be putting down in relation to interest rates and also in relation to available cash and the stock market.
WarrenWell, Charlie's going to give you an answer to that in a second. I'll just relate one story, which was when I got married, we did have about $10,000 starting off, and I suppose as to Susie. I said, now, you know, there's two choices. It's up to you. We can either buy a house which will use up all my capital and clean me out. And it'll be like a carpenter who's had his tools taken away from him. Or you can let me work on this. And someday, who knows, maybe I'll even buy a little bit larger house. that would otherwise be the case. So she was very understanding on that point. And we waited until 1956, we got married in 1952. And I decided to buy a house when it was about, when the down payment was about 10% or so of my net worth, because I really felt I wanted to use the capital for other purposes. But that was a way different environment in terms of what was available, the buy. In effect, if you have the house you want to buy, you know, I definitely believe in just going out and probably getting the job done. But I, in effect, you're probably making something in the area of a 7 or 8% investment implicitly when you do it. So, you know, you'll have to figure out your own equation from that. Charlie probably has better advice on that. He's a big homeowner. In both senses of the word.
CharlieI think the time to buy a house is when you need one. And when do you need one? Well, I have very old-fashioned ideas on that, too. The single people, I don't care if they ever get a house. When do you need one if you're married, Charlie? I'll follow up here for a bit. You need one when your wife was one. Yeah, yeah. I think you've got that exactly right.
[3:12]
OtherYeah. Yeah. Sure. Gregory Carl. Mr. Crawford needs to go to the security office, please, for emergency message. Gregory Crawford to the security officer office for emergency message. Thank you.
WarrenOkay, I hope it isn't a margin call.
OtherOkay, we'll go to Zone 1, please.
QuestionerI'm Ralph Feffer from Phoenix, Arizona. The question I'm going to ask does not pertain to Berkshire Hathaway. But I would appreciate it if you gentlemen, if you can explain the justification and rationalization for the exorbitant salaries, bonuses, perks, director's fees, and other benefits that most public corporations are paying.
WarrenWell, I would say this, in my own view, the most exorbitant are not necessarily the biggest numbers. What really bothers me is when companies pay a lot of money for mediocrity, and that happens all too often. But we have no quarrel in our subsidiaries, for example, for paying a lot of money for outstanding performance. I mean, we get it back 10 or 20 or 50 for one. And similarly in public companies, we think that there have been managers and our managers who have taken companies to many, many billions of market value. a market value more than would have happened with virtually anyone else. And they sometimes take a lot of money for that. Sometimes, as in the case of Tom Murphy at Capsidies, you know, it just didn't make a difference to him. I mean, he performed in a way that would have justified huge sums, but it wasn't, he would tell you that he had all the money needed and he just didn't care to take what the market might bear. But I am bothered by irrational pay systems. And I'm particularly bothered when average managers take really large sums. I'm bothered when they design or have designed for them systems that are very costly to the company. Maybe partly to make themselves look good because they want huge options themselves, so they feel that they give options widely throughout the company. So they design a system. system that is illogical company-wide because they want one that's illogical for them personally. But large sums per se don't bother me. I'm not saying, you know, whether any individuals might want to take them or not. But I do not mind paying a lot of money for performance. It's done in athletics, it's done in entertainment, but in business, the people who are the 200 hitters and the people who would not attract a crowd as an entertainer, I've worked it out so that, I mean, the system has evolved in such a way that many of them take huge sums.
[6:42]
WarrenAnd I think that's obscene, but I can tell you there isn't much you can do about it. The system feeds on itself. And companies do look at other companies. Proxy statements, every CEO does, and they say, well, if Joe Smith is worth X, I have to be worth more. And they tell the directors that certainly you wouldn't be hiring anybody that was below average, average, so how can you pay me below average? And the consultants come in and ratchet up the rewards. And it's not anything that's going to go away. It's like we were talking about campaign finance reform earlier. The people who have their hands on the switch are the beneficiaries of the system. And it's very hard to change the system when the guy whose hand is on the switch is benefiting enormously and perhaps disproportionately from that system. Charlie?
CharlieWell, yeah. I'd like to report that the original Vanderbilt behaved even better than the people at Berkshire Hathaway. He didn't take any salary at all. He thought it was beneath him as a significant shareholder to take a salary. That ideal, I'm afraid, died with him.
WarrenCharlie and I, our directors are paid $900 a year, but I tell them on an hourly basis they're making a fortune because we don't work with that hard, but what Charlie and I did not think through when we establish that $900 a year is that they set our salaries too. So we have not followed the standard procedure, which is to load it on the directors, and the directors shall load it on you. I do think it will have pernicious effects for the country in its entirety, as this thing keeps escalating, because I think you're getting a widespread perception that at the very top corporate salaries in America are too high, and that is not a good thing for civilization when the leaders are regarded as not dealing fairly with the institutions that they had. And as for the corporation consultants who advise on salaries, all I can say is that prostitution would be a step up for them. Put him down as undecided. Zone 2, please.
QuestionerI'm Dan Blum in Seattle, Washington via Cambridge, Massachusetts. Massachusetts. I want to ask whether the issuance of Class B stock has achieved the objective which you announced for it when it was created.
WarrenWell, I would say this, that the, considering the alternative we faced, which was the eminence of unit trusts that would have been promoted with heavy front-end commissions, with substantial annual fees with bad tax consequences and with probably a misrepresentation
[10:11]
Warrenof the historical record in such a way that people who really didn't know much about securities would have been enticed in. With that as an alternative, I think the B stock was the best thing we could have done, and I feel good about how it's worked out. I think that, you know, we didn't set out to issue it. We don't like talking anybody into buying our stock. But I don't think in any way that the group we have here is diminished in the least by having a mix of B and A shareholders as opposed to A only. The B has worked out as well as possible. I hope that it, you know, we haven't enticed anybody in with unreasonable expectations. That's the biggest thing that Charlie and I worry about. And it's hard not to have that happen with the historical record. I know it would have happened in a big way with the unit trust. So, you know, it's like, it's like making the mistake originally of starting with Berkshire. I think we enjoy things as they come along and we've gotten a good group with the B shareholders and we're happy with the present situation. Charlie?
CharlieYeah, we wanted to step hard on what we regarded as a disreputable financial scheme and that we did. And I think the way we sold the B was such as to not. not as to attract the kind of people who really did look at it on a long-term basis. We did everything we could to discourage people who thought they're going to make a lot of money in a hurry. So we, I think we attracted a whole new group of shareholders who are quite similar in perspective to the shareholder group that we already had, and that was our hope.
QuestionerZone 3, please. My name is Alan Rang from Pittsburgh. I first want to thank Susan Jacques for returning the cocktail yesterday and I hope she was rewarded with good sales at Borsheims. Question is regarding the fact that you don't report details of anything under $750 million dollars and with the change of the values of a small cap in relation to large cap, would that be something that Berkshire or individuals might try to look as opportunity with the small cap premium shrinking? shrinking as it has?
WarrenWe don't worry about whether a stock is small cap or large cap, except to the extent that by now we've gotten to a point where anything below a certain level just is not of interest to us because it can't be material to our results. So we never think of opportunities as existing because of something as small cap or sectors or all that,
[13:04]
Warrenyou know, what generally gets merchandise. So our cutoff point is is set more or less at the point where we think it's material. That's not as defined by the SEC. We could have a higher limit, but we think when you get down below 2% of assets or thereabouts, that the reporting of positions would not affect anybody's calculation of intrinsic value or give them insights about the way we run the business, but it would be more for the people who are looking for things to piggyback on. And so we will move the cutoff point up as we go along. Because of our size, we will never be in companies that have capitalizations that, you know, of a half a billion or a billion dollars, because we just can't put enough money. Occasionally we'll be in one just by accident. But we're looking at things that we can put $500 million in ourselves at least at 500 million a 5% position is a $10 billion market cap. And that limitation has hurt, will hurt, is hurting our performance to some degree. You would – if Berkshire were exactly 1-100th of its present size, in all respects owning the operating businesses it did, but all 1-100th of size, our prospects would be better than they are with the kind of money we have presently. Charlie?
CharlieI've got nothing to add.
OtherOkay. Allen 4, please.
QuestionerOkay. My name is Tom Conrad. I'm from McLean, Virginia. I just wanted to first thank you, Mr. Buffett, and Mr. Munger, for each year answering our questions. I found myself at 5 a.m. standing outside the door here, and I don't do that for anyone. And it's a real pleasure to hear your answers. I have two questions. One is, with travelers, the company travelers and the merger with Citibank, do you have confidence in the management of Sandy Weil. My second question is, you said it in a few meetings ago that diversification is a protection against ignorance, and it only takes three great companies to be set for an investment lifetime. And I invested in those three companies, Coca-Cola, Gillette, and Disney. And I went ahead and invested in a fourth company without asking you. I invested in Pfizer. And I just wonder what you think about the pharmaceuticals, industry if you feel there's some great companies in that industry. Thank you very much.
WarrenWell, A, we think Sandy Weil is a very, very good manager. Sandy is, I mean, the record is clear. It is not easy to manage in Wall Street. And Sandy has done an excellent job there, as well as in other allied or somewhat allied field.
[16:09]
CharlieYeah, we stupidly blew that one. We'll blow more, too.
QuestionerZone 5. Yes, sir. Good afternoon. My name is Matt Lovejoy from Lexington, Kentucky. And gladly, I'm not a consultant. I have a question, sir, Mr. Buffett, about your operating management style. style. In my opinion, the mainstream media minimizes the significance of your non-public operating investments. When you consider capital allocation in these companies, do you have the managers submit annual business plans? And if so, do you formally meet with those managers to see how well you can track progress against those plans?
WarrenThat's a good question, and the answer is that we may meet with some of them annually. We may meet with others semi-annually, but we have no formal system whatsoever, and we will never have a formal system. We don't demand any meetings of any of our managers. We have no operating plan submitted to headquarters. Some of the companies use operating plans themselves. Some of them don't. They are all run by people who are have terrific records, and they have different batting styles. And we're not about to tinker with somebody that's batting with 375 just because somebody else holds the bat a little differently or uses a different weight bat or something of the sort. So we believe in letting them do currently and in the future what has been successful for them in the past, and different people have very different styles. I've got my own style, you know, but we have managers that like to talk things over.
[19:25]
WarrenWe have other managers that like to go their own way. And we have managers that have a buy-the-book approach, which works well. We have other managers that wouldn't dream of that. We have managers that – most managers probably have monthly statements of financials. We have other managers that don't. And that really isn't a problem. What we want to have is good managers. And there is – there's more than one way to get to at least business heaven. And we have a number that have found different ways to get there. So we have never imposed – we have certain requirements because we're a public company and SEC requirements and internal revenue service coordination. But we have never imposed anything from the top on any of the operating managements. We have MBAs running companies. We have people that never saw a business school. And talent – talent is the scarce commodity. And when you find talent and they've got their own way of doing things, we let it – we're delighted to have to do it more than letting it have to do it. We want them to do it their way. We don't want to change them. Charlie?
CharlieYeah, the truth of the matter is that we have decentralized power in the operating businesses to a point just short of total abdication. And we don't think our system is right for everybody. It is suited us. us and the kind of people that have joined us. But we don't have criticism for other people, like Emerson Electric or something, who have operating plans and compare performance quarterly against plan and all that sort of thing. It's just not our style. Yeah, we centralize money and everything else we decentralized pretty much, but I don't know whether you've met him here, but for example, Al Yosha is here. He started flight safety in 1951, and he's – I don't know what he'll spend on simulators this year, but it could easily be a hundred million dollars or thereabouts. And he just – if I spent hours with him, I couldn't add one hundredth of one percent his knowledge of how to allocate that money. I mean, it would be ridiculous. It'd be a waste of his time, and it would be an act of arrogance on my part. And I have no worries about how allocates the money. And that's an unusually capital-intensive business compared to most of our business. businesses. There's some that I get into the details more because I've just worked with a person that's running things a long time, and we kind of enjoy it.
[22:13]
WarrenAjit and I talk virtually every night about the reinsurance business. You know, I am not improving the quality of his decisions at all, but it's an interesting game, and I like hearing about it, and he doesn't mind talking about it, so we talk them over. But that's just a matter of personal chemistry. And as we add managers, we will adapt to them. We adapt our accounting systems to a degree to them. Now we do have certain requirements that result from the SEC and IRS. But we don't – our managers know their businesses, and they know how to run them. And if they don't – this hasn't been the case, but if they didn't, we would – you know, we'd do something about the manager. We wouldn't try and build a bunch of systems. Zone 6, please.
QuestionerGood afternoon, gentlemen. My name is George Donner, from from Fort Wayne, Indiana. My question has to do with estimating the intrinsic value of a company, in particular the capital-intensive companies, like you were mentioning. I'm thinking of things like McDonald's and Walgreens, but there are lots of others where you have a very healthy and growing operating cash flow, but it's largely or completely offset by heavy expenditures on putting up new stores. or restaurants or building a new plant. And so my question is, what do you do for your estimate of future free cash flow? And with treasuries around, long treasuries around seven, six percent, at what rate do you discount those cash flows?
WarrenWell, we discount at the long rate, just to have a standard of measurement across all businesses. But we would take the company that is spending the money as it comes in and, and And they don't get credit for growth cash flow. They get credit for whatever net cashes get left every year. But, of course, if they're spending the money wisely, even though you have to discount it for more years, the growth in cash development should offset that, or they weren't investing it wisely. The best business is one that gives you more and more money every year without putting up anything to get it or very little. And we've got some businesses like that. that. The second best business is a business that also gives you more and more money. It takes more money, but the rate at which you invest, reinvest the money to get that growth is a very satisfactory rate. The worst business of all is the one that grows a lot and where you're forced and, in effect, forced to grow to stay in the game at all and where you're reinvesting
[25:04]
Warrenthe capital at a very low rate of return. Sometimes people are in those businesses without knowing about it. But in terms of discounting, in terms of calculating intrinsic value, you look at the cash that is expected to be generated and you discount back. In our case, we use the long-term treasury rate. That doesn't mean that you pay the amount that that that present value calculation leads to, but it means that you use that as a common yardstick, that treasury rate, and that means if somebody is reinvesting all their cash full the next five years, they better have some very big figures coming in down the road, because it's someday a financial asset has to give you back cash to justify you laying out cash for now, for it now. Investing is the art, essentially, of laying out cash now to get a whole lot more cash later on, and something at some point better deliver cash. Ben Graham in his class, we used to talk about what he called the Frozen Corporation. And the Frozen Corporation was a company whose charter prohibited it from ever paying anything to its owners or ever being liquidated or ever being sold. Sort of like a Hollywood producer. Yeah. And the question was, what was such an enterprise worth? Well, that's sort of a theoretical question, but it forced you to think about the realities of what business is all about. And business is all about putting out money today to get back more money later on. Charlie?
CharlieI do think there is an interesting problem that you raise because I think there is a class of businesses where the eventual cash back part of the equation tends to be an illusion. I think there are businesses where you just keep pouring it in and pouring it in and then all of a sudden it doesn't work and no cash comes back. And what makes our life interesting is trying to avoid those and get in the alternative kind that grounds you. in cash. The one figure we regard is utter nonsense is the so-called EBITDA. I mean, the idea of looking at a figure before the cash requirements of merely staying in the same place, and there usually are, any business with significant fixed assets almost always has with it a concomitant requirement that major cash be reinvested in order simply to stay in the same place, competitively and in terms of unit sales. To look at some figure that is before, that is stated before those cash requirements is absolute folly and it's been misused by lots of people who sell lots of merchandise in recent years.
[28:02]
CharlieIt's not to the credit of the investment banking fraternity, but it has learned to speak in terms of EBITA. I mean, the idea of using a measure that you know is nonsense and then piling additional reasoning on that false assumption. It's not creditable intellectual performance. And then once everybody is talking in terms of nonsense, why it gets to be standard.
OtherZone 7, please.
QuestionerHi. My name is Brandon Vecchio, and I'm in the Academy of Finance at Northwest High School here in Omaha. Could you explain the criteria you look at when selecting your stocks?
WarrenWell, we look at, and I'm glad you came, I hope there's a large group. I got a note. I think from your teacher on that. We look at it, the criteria for selecting a stock is really the criteria for looking at a business. We are looking for a business we can understand. That means they sell a product that we think we understand, and we understand the nature of their competition, what could go wrong with it over time. And then when we find that business, we try to figure out whether the economics of it means the earning power over the next five or 10 or 15 years is likely to be good and getting better. good and getting better or poor and getting worse. But we try to evaluate that future stream. And then we try to decide whether we're getting in with some people that we feel comfortable being in with. And then we try to decide what's an appropriate price for what we've seen up to that point. And as I've said last year, what we do is simple but not necessarily easy. The what the checklist that is going through our mind is not not very complicated. Knowing what you don't know is important, and sometimes that's not easy. And knowing the future is definitely, it's impossible in many cases in our view, and it's difficult in others, and sometimes it's relatively easy, and we're looking for the ones that are relatively easy. And then when you get all through, you have to find it at a price that's interesting to you, and that's very difficult for us now, although there have been periods in the past where it's been a total cinch. cinch. And that's what goes through our mind. If you were thinking of buying a service station or a dry cleaning establishment or a convenience store in Omaha to invest your life savings in and run as a business, you think about the same sort of things. You think about the competitive position and what it would look like five or ten years from now
[30:49]
Warrenand how you were going to run it, who was going to run it for you, then how much you had to pay. And that's exactly what we think of as when we look at a stock, because the stock is nothing other than a piece of a business.
WarrenCharlie?
CharlieYeah. If finance is properly taught, it should be taught from cases where the investment decision is easy. The one I always cite is the early history of national cash register company, and that was created by a fanatic who bought all patents and had the best sales force and the best production plants. He was a very intelligent man and passionately dedicated to the cash register business. And of course, the cash register business was a godsend to retailing when cash registers were invented. So that was the pharmaceuticals of a former age. If you read an early annual report prepared by Patterson, who was CEO of National Cash Register, an idiot could see that this was a talented fanatic. fanatic, very favorably located, and that, therefore, the investment decision was easy. If I were teaching finance, I would collect a hundred cases like that. And that's the way I would teach the students.
WarrenWe have that annual report. What was that, 1904 or something, Charlie?
CharlieBut it's really a classic report, because Patterson not only tells you why his cash register is worth about 20 times, but he's selling it for to people, but he also tells you that you're an idiot if you want to go in competition, it's a classic. It is just a to talk. But no intelligent person can read this report and not realize that this guy can't lose.
OtherArea 8, please.
QuestionerGood afternoon. My name is Robert Rowland from London, England. I've been in Omaha all weekend with my wife on the first leg of my honeymoon, and I've noticed your quite a fire of nostalgic assets. Can I ask whether nostalgia is one of your filters? Are there any assets like that? Are there any assets like that left in the U.S. to buy? And if not, can I suggest you come to the UK where all we do is sell them?
WarrenWell, I don't want to interrupt your honeymoon. But if you'd send me a list of those companies over there long on nostalgia, that might be, that might be to our liking, because Charlie and I tend to operate from sort of a Norman Rockwell frame of mind. And it is true that the – the – the – the – the – the – The kind of companies we like sort of do have a homie Norman Rockwell Saturday Even Post-type character to them there.
[33:46]
Greg AbelThey have character. And they're the kind of companies, I think, frequently that people, when they join them, expect to spend the rest of their lives there rather than look at it as something to stick on the resume. And there are businesses like that. If you look at the businesses that we've bought in the last three or four years, there's a – There is real character, the businesses and to the people that build them. And that's why the people that build them stay on and feel very strongly about running them correctly, even they don't have no financial consequence to themselves whatsoever. So if you've got a list of those in England, and you still have any strength left after your honeymoon. Drop me a line.
OtherZone 9, please. Good afternoon. Joshua Andrews from Omaha North West High School, Academy of Finance.
WarrenGood. And on behalf of the Academy of Finance, we want to thank you for the tickets. It's 33 of us in attendance today. Terrific.
QuestionerWe had the opportunity to play a national game, the investment challenge. And on the list of stocks, there were Burke A and Burke B. Can you explain what the difference the two stocks are?
WarrenYeah, the difference between the Berkshire A and B is simply that an A can be An A can be converted to a B at any time in the ratio of 1A into 30 B's. The B cannot be converted into the A, so it's a one-way street on conversion. The economic value of the B is exactly 1.30th that of the A. So at anything that, any time the A ever gets any money of any kind, from dividends or liquidation or a merger or something of the sort, For every $30 that you get on the A, you're going to get $1 on the B. The two differences are that there is less voting power proportionately in the B, and the B does not participate in a designated contributions program that Berkshire runs simply because that would be very, very hard to administer. And when we issued the B, we pointed out those two differences. The B should never sell. sell for more than 1 30th of the price of the A. When it sells just a tiny bit above that, then arbitrage settles in as people buy the A and convert it to B and and sell the B. Occasionally, the B may be at a slight discount to the A because it's not convertible the other way. But I think as a practical matter, you can treat the A and B as very equivalent investment choices. There's not enough difference to make it significant.
WarrenCharlie?
CharlieNothing further.
[36:53]
QuestionerOkay. Area 10, please. My name is Sheena Sho from the Academy of Finance. What recommendations would you give us as teenagers to prepare for our future and become as successful as you?
WarrenWell, if you're interested in business, I definitely think you all I definitely think you ought to learn all the accounting you can, oh, by the time you're in your early 20s. Accounting is the language of business. Now, that doesn't mean it's a perfect language, so you have to know the limitations of that language as well as all aspects of it. So I would advise you to learn accounting, and I would advise you to be, in terms of part-time employment or anything else, work in a number of businesses. There's nothing like seeing how business operates to build your judgment in the future about businesses. When you understand what kind of things are very competitive and what kind of things are less competitive and why that works that way, all of that adds to your knowledge. So I would do a lot of reading, if you're interested in investments, I would, A, I would take the accounting courses. I do a lot of reading about investments, and I would get as much business experience. I would talk business. with people that are in business to find out what they think makes their operation ticker where they have problems and why. I just think you just kind of sop it up every place that you can. And if it turns you on, you'll do well in it. I mean, I think that if it, you know, there's certain activities grab different people. But if businesses of interest to you, my guess is you'll do well. And if you do, if you understand business, you understand investments. that investments are simply business decisions that in terms of capital allocation. I wish you well on it. Charlie?
CharlieYeah, there's also the little matter of underspending your income year after year after year. Which we have mastered. Yes. That really works if you keep out of.
WarrenYeah, I mean, Charlie and I both, Charlie started having children at a rapid rate. And he was a lawyer. There was not big money. and then, but I was, any money you save before you get out and start having a family, it's probably where any dollar is probably worth $10 later on simply because you can save it. It's the time to save as young, and you'll never have a better time to save than really pre-formation of a family because the expenditures come along then whether you like that.
[39:49]
Warrenand whether you like them or not. So I, you know, work for yourself first and put the money aside. I was lucky that way. I didn't have to pay for my own college. Probably wouldn't have gone to college if I'd had to pay for it. But I, you know, I was able to save everything I made in my teens and those dollars got magnified quite a bit. Whereas the money I, when I started first selling securities, I mean, the money I made then was taken up by family needs to quite make sense. So start saving early. A lot of it's habit anyway, so it's a great habit to have.
QuestionerOK, Zone 1, please. I'm Tony Allisnett from New York City. Following up on the questionnaire from London, in light of the current dearth of investment opportunities, do you see yourselves investing in non-US companies which are well managed? understandable, and growing.
WarrenWell, if we find such companies, as you describe at a price that's half attractive, we're perfectly willing to buy them. So the answer to that is yes, but we would be looking to an extent worldwide, irrespective of market conditions in the United States. Now, market valuations in this country tend to be fairly well matched in most of the major countries. countries. So we don't – there's been a bull market all over the world in a huge way in the bigger markets. And so unfortunately – I mean, it would have been nice for us if the U.S. market had tripled and other markets had stayed the same, and then we would be very likely to be finding things abroad. We're not finding them abroad, but we certainly are – we're certainly looking for the kind of thing you're talking about. We are not reluctant to invest abroad. abroad and our two of our, well, all three of our largest holdings, American Express, Gillette and Coke, and we're talking about $25 billion of market value there that we have. All three of those have major businesses abroad, and in the case of Coke and Gillette, it's a majority of their earnings from abroad. So we're interested, and there's better growth opportunities in many areas about is abroad than here. Finding bargains as we look around the world. Charlie?
CharlieNothing more.
QuestionerOkay. Area two. My name is Henry Allen, Maranac, New York. A question I have is a little delicate relates to my family and heirs rather than myself because I'm a couple of decades older than you gentlemen. You've been very candid about the succession. the succession and the estate planning.
[43:00]
WarrenBut how will the recipients of huge grants, charitable grants, get the liquidity they need without to use the money, without unduly driving the stock down? Well, I don't think that supply and demand in terms of specific you know, let's just say that 3% of Berkshire were to be added to the supply annually. I don't think that makes much difference. What really makes the difference is the prospects of the business. If my charitable foundation were operatives today, it would have to sell, it would have to give away 5% of the value of the foundation of the foundation every year. Berkshire paid no dividend, that means it would have to sell 5% of the holdings per year. I don't think that the price of Berkshire would be materially different if there were a seller of, that would be, there's in this case 2% of Berkshire's capitalization. I don't think it would be materially different. If it is, it probably should be different. I mean, there should be a reasonable amount of trading that can take place annually without affecting the price of the stock materially or the price of the stock price of the stock is being propped for sort of unnatural reasons. So I wouldn't, I wouldn't really worry about that. We had one shareholder die about a year, year and a half ago that had three-quarters of 1% of the company, for example. It was sold in, I don't know, six weeks or thereabouts, and they raised at that time $250 million or thereabouts from the sale. I am not worried about that. I'm worried about, I mean, I don't worry, but I don't worry, but I But the key factor is what are the prospects of the businesses? If the businesses are worth money, there are all kinds of companies in their stock exchange, who are perfectly decent businesses where 30 or 40% of the stock turns over a year. And Berkshire's price should not be way different if 10% trades a year as opposed to the present 3%. Charlie?
CharlieI agree with that. I don't think there'd be any problem at all at the present time. The Buffett Foundation, we're selling 5% percent. 5% of its holdings every year. It'd be 500 shares a week or something like that. But if there isn't demand for 500 shares a week, are they on a company with our capitalization, then the price probably is artificially wrong at that time. I just had lunch with Susie, and she doesn't look to me like she's in any imminent danger of mortality. Yeah, it will come into play when the survivor of the two of us dies,
[45:59]
Questionerand when the estate gets cleaned up and everything else. So I think, certainly hope, and I think it's quite a ways away. You people have more important things to worry about. Zone 3, please. My name is Jim Howard. I'm from Syracuse, Indiana. My question is, does the book Buffetology by Mary Buffett present fairly in all material respects the calculations you used in evaluating in evaluating the business for purchase or did the lady just write a book?
WarrenWell, it was written by two authors, but I would say that, no, I would say that in a general way, it gets at the investment philosophy, but I wouldn't say that it's not the book I would have written precisely, but I have no quarrel with it either. I actually think by reading Berkshire's reports, But you should be able to get more, I would think you get more of our philosophy than in any other manner. I think Larry Cunningham, the fellow who held the symposium at the Cardozo School at Yeshiva, did the best job actually of sort of reconstructing the various things that have been written at Berkshire into sort of the best organized presentation of our philosophy. So he's selling it right here. It's a very practical.
QuestionerYeah, I had it at Borshine, in the mall outside Borshine yesterday, and Larry did a very good job, and I had nothing to do with it, but I think that that, I really think he's done a first-class job of sort of organizing by topic.
WarrenI mean, all these things that I've sort of written annually, and Charlie's written over time. So that would be – that would probably be my – if I were picking one thing, to read. That would probably be the one. Okay, Zone 4, please.
QuestionerMy name is Liora Garner. I'm from Los Angeles, California, and I want to begin by thanking you for having Bob Hammond. It was a stroke of genius. I could shop at Borschimson, my husband was entertained while I did so.
WarrenWell, Bob is not only the best bridge player around, but he is an entertaining guy, too. He's great.
QuestionerYeah, he is great. I agree with you. My question. You owned Disney once before and sold it. You also owned advertising companies in the 70s, I believe, and you sold them. Could we have some insight into your thinking as to why you sold them?
WarrenI'm not sure I want to give you any insight into that thing. Well, we'll start off with the fact that when I was 11, I bought some city service, prefer at 38 and it went to 200, but I sold it 40. So grabbing my $2 a share of profit.
[49:17]
WarrenSo everything we've ever sold has gone up subsequently, but some of them have gone up more painfully subsequently than others. And certainly the Disney sale in the 60s was a huge mistake. I should have been buying. I forget about holding. And that's happened many times. I mean, we think that anything we sell should go up subsequently because we own good businesses and we may sell them because we need money for something else, but we still think they're good businesses and we think good businesses are going to be worth more over time. So everything I sold in the past virtually that I can think of has gone on to sell it at a lot more money for a lot more money, and I would expect that would continue to be the case. That is not – that's not a source of distress, but I must say that selling the Disney was a mistake. And actually the adage agencies have done very well since we sold them too. Now, maybe some of that money went into Coca-Cola or something else, so I don't worry about that. I would worry, frankly, if I sold a bunch of things right at the top, because that would indicate that in effect I was practicing the bigger fool-type approach to investing, and I don't think that can be practiced successfully over time. I think the most successful investors, if they sell at all, will be selling things that end up going a lot higher because it means that they've been buying into good businesses as they've gone along. Charlie?
CharlieWell, I'm glad that the questioner brought this touch of humility because it is really useful to be reminded of your errors. I mean, and I think we're pretty good at that. I mean, we kind of mentally rub our own noses and our own mistakes, and that is a very good mental habit. Warren can tell you the exact number of cents per share that he sold at and compared with the current praise. It actually hurts him. It actually doesn't hurt. The truth is, you know, because it, you know, you just keep on doing things. But it is instructive to look at, to do post-mortems on everything and say, as long as you don't get carried away with it, but every acquisition decision, that kind of thing, you know, there should be post-mortems done. Most companies don't like to do post-mortems on their capital expenditures. I've been a director of a lot of companies over the year. and they've not usually not spent a lot of time on on the post-mortems. They spend a lot of time
[51:55]
Warrenon telling you how wonderful the acquisitions are going to be or the capital expenditures, but they don't like to look so hard necessarily at the results. Think of how refreshing the Board of Directors' meeting would be if they sat down and now we'll spend three hours examining all our stupid blunders and how much we've blown. And then after that the Compensation Committee will meet. Now that is not going to happen.
QuestionerRight.
WarrenRight. Okay, Area 5, please.
QuestionerMy name is Keller, Harple Keller, from Portland, Oregon. Two questions. One of a personal nature. Obviously, there are many, many people here today. And I wonder if one of the true patriarchs of the investment business is here today, Phil Coray.
WarrenWell, I'll answer. Many of his friends and admirers would wish him well. Phil up till a week ago was going to be here today. Phil is 101. Wrote a book on investments in 1924, and I've known him, Phil, for about 46 or seven years. And Phil has made all the meetings for a number of years. He would be here today, and he broke a hip about five or six days ago. But he sent a message that he will definitely be here next year. And he will be, too. Bill is a hero of mine. Go ahead.
QuestionerSecond question has to do with Ben Graham. And he changed his valuation standards as the decades progressed. When he couldn't buy stocks below net net, he changed his standards because the environment changed. Now, the world today seems to be at much different place much different place than in 1989 when the USSR collapsed. Even they are stumbling toward the free enterprise system. The Russian mafia is a perverse illustration of that. Now there is only one superpower in the world, the USA, and we must be extremely grateful for the men who put us on the track to the free enterprise system. Now, the free enterprise system is out of the bottle. It's not going to get back in. It seems to be expanding and accelerating around the world. With the resulting expansion of world trade, may that lead to a re-evaluation of historical measures for measuring investments.
WarrenWell, my answer to that would be that I doubt it, but I, you know, the end, I also don't know. But I don't think... I don't think that the end of the Cold War is something that I would factor into my evaluation of businesses. There are all kinds of events that happen, and their impact, in terms of being quantified, very difficult to figure over time,
[55:20]
Warrenvery difficult to isolate any single variable in a complex economic equation. So in terms of how the world is going to work 10 years from now or the returns are going to be on equity in business. You know, I don't know what will be all the variables that impact on that. And obviously, right now, people are very bullish about the fact that those returns or something like those returns will continue. But I don't, I would not rely in making such a projection on the fact that Cold War is has ended or really any political or economic development around the world. I don't know how to predict future earnings of American business. And when I look at all of the great historic events of the past, nothing there gives me much in the way of a clue as to which ones would signal major changes in profitability of American business. Charlie?
CharlieWell, I think you raised one very interesting question. if the rest of the world becomes very much more prosperous, as it will if it adopts the free enterprise system, which investments are likely to do best. I would argue that the Cokes and Gillettes and so on are likely to be helped by a great increase in prosperity in what is now the third world. And I'm not so sure that's true of a lot of other reasons. We like to be helped. international businesses we have. And as I say, our three top holdings all have a major international aspect to them, and really in aggregate, a dominant international aspect to them. And there's no question in my mind that a Coke will grow faster outside of the United States than in the United States, and the same is true of Gillette, maybe the same is true of American Express. So that's built in to what we, our evaluation of those businesses. But I felt that way before 1989. before 1989, too. I mean, it's very hard to evaluate how the ball is going to bounce generally, but it's around the world. But it is a plus to have products such as Gillette has or Coke have demonstrated the fact that they travel extraordinarily well around the world, that people crave those products, and that they're going to, no one's going to find a way to do it better than those two companies in their respective fees. So, and they sell an inexpensive products. So all of that's going for us. But in terms of how stocks generally sell or the profitability of American business generally is in the future, I don't, it doesn't help me much.
QuestionerJoe Marlin?
[58:21]
QuestionerOh, Marlon. Okay. Area 6. Hi. My name is Bartley Cohen. I just want to thank you for a great weekend. And my question is, after you bought Dairy Queen, I heard they put Coca-Cola in to all the stores, but you yesterday when I went to the Nebraska Furniture Mart, they said they don't take American Express. And my question is, do you encourage the subsidiaries and the companies that you have stock to use each other, each other's products, or do you leave it up to the management of the subsidiary?
WarrenWell, that's a good question. And it does tell you something about the Berkshire Method of Operation. We tell each subsidiary to run their business in the way that they think is best for their operation. And warshymes takes American Express, sees takes American Express, the furniture mart doesn't, for example. But that will be true in other areas, too. If Harvey Gallup at American Express, who has absolutely been a sensational job force, if he wants to talk with or have his representatives talk with anybody at any of our operations, you know, we're all for that happening, but we will never tell. a subsidiary manager, which vendor to patronize or anything of that sort. Once we start making decisions for our managers in that respect, then we become responsible for the operation, and they are no longer responsible for the operation. They are responsible for their operations, and that means they get to call the decisions. And they should do what is best for their subsidiary, and it's up to any other company that wants to do business with them to prove why that's a company. that is best for them. That's the Berkshire approach to things. And I think on balance, our managers like it that way. So they're not getting second-guessed, and somebody can't go over their head. I get letters all the time from people who are trying to jump over the heads of our managers, and they want us to say this advertising agency should be used or that and that sort of thing. It doesn't work at Berkshire. They deal with the managers of the businesses, and they're not going to – they're not going to get around them.
WarrenCharlie?
CharlieMR. I love your answer. It gives Warren lots of time to read annual reports at headquarters.
QuestionerArea 7. Hello. My name is Steve Erica. I'm from New York. What do you think is likely to happen with respect to the tobacco settlement and what do you think should happen? And secondly, McDonald's and Dairy Queen are similar businesses.
[1:01:10]
QuestionerWas the relationship between your acquisition of Dairy Queen and the disposal of McDonald's? Thank you.
WarrenYeah. There's no connection in the second case. They have certain similarities, but there's certainly a lot of differences to, you know, a Burger King of McDonald's would be much more similar or Wendy in McDonald's, but Dairy Queen is much more of a niche than away from that. The tobacco settlement's interesting, just in terms of watching the dynamics of it, because one of the things in labor negotiations is always a problem is that when you, as a manager, you have a labor negotiation, at the end of the negotiation, you as management are committed, and basically the union isn't because the union is going to have a vote on it. And that's just the way it is. I mean, you can't get away from that, but it is, it is not fun to be in a negotiating position where you're bound and the other side is not bound. And although that wasn't totally contractually necessarily the situation in the tobacco area, It smelled like trouble to me for the tobacco companies, whether you feel they should have had that trouble or not, but it smelled like trouble to me when they were bound, and you had another side that was not bound in any way, and where there were lots of political considerations and where there was a lot of time was going to expire. I mean, that just, that did not smell to me like a deal that would stick. And I don't know any of the tobacco executives, it was, involved in that, but I don't know how much they agonized over getting in a position where they were bound and the other party wasn't, but I can tell you from labor negotiations that that's not a pleasant place to be and it's not a great strategic place to be. Charlie, what do you think on that?
CharlieI don't feel I've got any great expertise in this situation. Only did I, but I'm...
OtherOkay, Zone A, please.
QuestionerHello, I'm Jamie McMahon from Birmingham, Alabama, and I was hoping that Mr. Buffett and Mr. Munger, y'all would expand a little bit on your ideas of an inheritance and the positive and negative influences that that can have on your errors and what you might be able to do as a as a business person and an investor and as a parent to sort of mitigate those negative influences.
WarrenYeah, well, I quoted, I think Kay Graham was quoting her father at the time, but that some years back as saying, if you're quite rich, probably the idea of leaving your children enough so they can do anything,
[1:04:21]
Warrenbut not enough so they can do nothing, is not a bad formula. I think, if you're talking about people that aren't quite rich, I see, you know, socially I wouldn't have a system that involved inheritances, but recognizing the situation that exists, I think, probably at lower levels that leaving the children in this society is perfectly okay. But I believe enough in a meritocracy that if I were devising the system, with a consumption tax and everything, I would probably make inheritance a form of consumption that would be very heavily taxed, because I don't believe that because you happen to be the, come out of the right womb, essentially, that you were entitled to live an entirely different life than somebody who wasn't quite as lucky in terms of womb selection. But in my own case, you know, I follow the enough so they can do anything, but not enough so they can do nothing. I think that society showered all these. I was very lucky. I was wired the right way at the right time in history to do very well in this kind of a market economy, where, as Bill Gates has told me, if I was born some thousands of years ago, I've been some animals lunch. You know, I don't run very fast. And there are different assets that are useful at different times. And, you know, I'm not wired to play championship bridge or championship chess or not wired to be a basketball star or anything. It just so happens I'm an area where it pays off like crazy to be good at capital allocation. And that doesn't make me a more worthwhile human being than anybody else or anything. It just means I was lucky. And I, should that luck, in effect, enable many generations of people, that are good at womb selection to do nothing in this world. I would have some reservations about that. So that's my own feeling on inheritance, but Charlie has a bigger family and he can give you a better answer.
CharlieWell, I feel in a capitalist system that there should be an inheritance tax. But once that's been imposed and paid, what each person wants to do in his own testamentary arrangements, is up to that person. I see very few people that I regard as ruined by money. Many of the people that I see ruined to have money would have been ruined without money. And I think the percentage of the people that are going to be living the life of the French aristocracy before the revolution is always going to be very small and there are plenty of grasping people to
[1:07:29]
Questionertake the money away from the incompetence who inherit. Inherit it. I don't think we have to worry about the whole class of incompetence. Ruling the world is their money cascades ever higher. So I like a fair amount of charity, and certainly some testamentary charity is okay. But I feel it's an individual choice that people have to make. They get a choice there.
QuestionerNumber nine. My name is Samuel Wong from Urban Cantaconia. I have two questions. Question number one, do you think the USA market is overvalued today? And question number two, would you buy Prashire Heshoe Stock today considering the fact that they have a nice run of already this year? And if yes, presuming I have a kid 20 years old and he has 150,000 to invest in Persia Hedgeway and he won't need money until five years later gradually. Would you recommend to buy A share or B share or the combination? Thank you.
WarrenIf you decide to buy Berkshire, I don't think it really makes much difference whether you buy A or B. But we don't make any recommendations about whether people buy or sell Berkshire. We never have. that's a game we don't want to get into. In terms of overvalue, the question where the market's overvalue generally, it's simply as we said last year here in the annual report. It's not, the general market is not overvalued if two conditions are met, which is, in our view, which is that interest rates remain at or near present levels or go lower and or, and that corporate profitability in the U.S. stay at the present, or close to the present, the present levels which are virtually unprecedented. Now, those are a couple of big ifs, as we pointed out. A lot of the stories that came out after the annual report would emphasize one aspect or another, but it's simply, and they say, what does he mean by that? Well, it means exactly what I say. If the two conditions are met, I think it's not overvalued, and if either of the conditions is breached in an important way, I think it will turn out to be overvalued, and I don't know the answer, which is why I put it with in the form that I did. form that I did. It's very tough at any given time to look forward and know what level of valuation is justified. You do know when certain dangerous things appear, and certainly, if you're predicating your answer that stocks are okay at these prices, you have, if you come to that conclusion, you have to also come to the conclusion that, in our view, that corporate
[1:10:35]
Warrenearnings at present levels are likely to be maintained. And that's a conclusion you would have to come to. I don't think it's obvious that that's the case.
OtherArea 10, please.
QuestionerGood afternoon. My name is Jamie Harmon and I'm from Boston. You say that companies should only spend dollar on capital expenditures if it will create more than one dollar of market value. I'm wondering, how do you determine this? Is it based on A, historical returns on capital, B, a qualitative judgment of the company's competitive position, C, a quantitative projection of the terms on capital, or D, something else?
WarrenWell, it's based on all of those factors you mentioned and more, but in the end, we can say today, every dollar we've retained has been worthwhile, because on balance those dollars have produced more than a dollar of market value, and It's actually with a great many companies, you could say that now because things have turned out so well. But it would be a case, the check on it is over every – if after three or four years, you've found that the dollars we've retained haven't created more of that in value, then the presumption becomes very strong at that point that we should start paying out money. But almost any management that wants to retain money, is going to rationalize it by saying we're going to do wonderful things with the money we retain. And we think there should be checks on that, which is why in the report and the ground rules, I suggest making checks on the validity of those projections. Charlie and I, if you ask us today whether the single dollar we retain from the earnings today, we've got a use for today that we'll produce about more than a dollar value, the answer is no. We do think that based on history, that the prospects are better than 50 percent, well over 50 percent, than in the next few years we would have an opportunity to do that. But there's no certainty to it. Charlie?
CharlieNothing more.
OtherOkay. Area one, please.
QuestionerGood afternoon. My name is Gary Byallis. I'm from Southern California. I want to thank you again for producing this owner's manual that you did a couple of years ago. I find it quite useful and use it quite often. Two questions. Can you tell me if the rule of thumb is still applicable regarding the standard? statement in the owner's manual, that the percent increase in the book value attracts pretty well, the percent increase in intrinsic value. Or is the fact that you now have more owned businesses, especially ones like
[1:13:28]
WarrenWell, you know, the true has tracked pretty well over the years. I mean, compared to the record of most businesses that are publicly owned, I would say that over with a 33 or so year span, our market price has tracked intrinsic value more closely than, you know, 80 or 90 percent of the companies that we view, probably 90 percent. But that doesn't mean it does it all the time. And there are times when the market price will outpace intrinsic value, the change in intrinsic value, and there are times when it obviously then that it will lag behind. So it's far from perfect. but it's better than most. Ideally, we would like it to track it perfectly. If we had – we ran this as a private company and we met once a year and set a price on the stock to have it traded once a year. And Charlie and I were responsible for setting that price. We would try to set a price that was as close to intrinsic value as we could. And that would be – to the extent that we could do it, it would be a perfect tracking. The market isn't like that, and the market responds to a lot of other things. So it is – it's not perfect. It's not perfect. getting more perfect in our view, but we still think that Berkshire tracks it better than most companies. Charlie, you have nothing to add.
QuestionerArea 2. I'm Elizabeth Proust from New York City. I have a question about Gillette. Another significant Gillette investor, KKR, recently sold over a billion dollars in Gillette's shares, shares that they had acquired through Gillette's acquisition of Duracell. Knowing that KKR has also been a successful investor. Do you see this as a negative signal about Gillette's future prospects, particularly on the eve of the launch of the Mach 3 Razor? And what do you think their plans are for the remainder of their shares?
WarrenWell, I think they may have even publicly stated, and I'm pretty sure they have. The Duracell shares, which, from which the Gillette shares came, were held by a specific investment fund that was formed in, I don't know what year, but a given year and which is scheduled to disband at a certain point. So those shares, whether they were of Duracel or whether they're of Gillette, were scheduled for disposition at some point within a given term. And I think that KKR made the decision, and they made it with other stocks too, is to have maybe three or so offerings between now and that terminal date for their partnership
[1:16:20]
Warrenand why they pick anyone of any given date, you know, is up to them and their advisors. It means nothing to us. I mean, if they didn't have that kind of a fund and they decided to sell, it wouldn't make any difference to them. And I presume if we made a decision to sell, it wouldn't make any difference in their case. So we, you know, we form our ideas of valuation independent of anybody else's thinking on it. But in the case of KKR, specifically, they have a term. date on a partnership that own those shares and have to dispose of them one way or another between now and the termination date and probably decided that with a quantity of stock they had that they were going to have several sales. The Mach 3 is terrific, incidentally. I've been using it since October itself. Henry did not decide to sell that stock based on the Mach 3.
QuestionerArea 3, please. I'm Gertrude Goodman from Palm Springs, California. Mr. Buffett. Mr. Munger, there are many stocks that rise and eventually split. My question is, do you foresee in the near future a split for Berkshire Hathaway Class A?
WarrenWell, that's an easy one. No, the answer is no. We have no plans to split the A. In effect, we let people who want to split the A. A split it themselves into B. Anybody that owns the A can have a 30 for one split any morning they wake up and want to have such a split. Charlie, do you have any additional comment?
CharlieNo, I think you said no perfectly. We don't take that attitude because we're cavalier about how shareholders feel. We really think that in the long-range interests of Berkshire, that the policy we followed on, not splitting, has benefited. has benefited the company and shareholders. Nothing dramatic about it, but I think that we have a better class of shareholders in aggregate in this room that we would have if we were selling at $3 a share or $30 a share or maybe even $300 a share.
QuestionerArea 4, please. Good afternoon, Mr. Buffett and Mr. Munger. My name is Jack Sutton from New York City. I have two questions. The Japanese stock market has been likened to the U.S. market in 1974. With Japanese stocks selling at very low price-to-book values as compared to U.S. stocks, would it not make sense to invest in a basket of Japanese stocks or an index fund of Japanese stocks? Question number two. Berkshire Hathaway tends to invest in companies with high margins and high return on common equity. Berkshire's investment in the airline business
[1:19:39]
Questionerseems to have digressed widely from those principles. Could you elaborate on why Berkshire invested in the airline industry and would Berkshire consider new investments in the industry in the future?
WarrenGoing to the first question, the reason that, and I don't know the exact, figures, the Japanese stocks would sell at a lower price book ratio than U.S. stocks is simply because Japanese companies are earning far less on book than American companies. And earnings are what determined value, not book value. Book value is not a factor we consider. Future earnings are a factor we consider. And as we mentioned earlier this morning, earnings have been poor for a great many Japanese companies. Japanese companies. Now, if you think that the return on equity of Japanese business is going to increase dramatically, then you're going to make a lot of money. I mean, and you're correct, you're going to make a lot of money in Japanese stocks. But the returns on equity, the return on equity for Japanese businesses has been quite low. And that makes a low price to book ratio very, very appropriate because earnings are measured against book. book. And if a company's earning 5% on book value, I don't want to buy out of book value if I think it's going to keep earning 5% on book value. So a low-price book ratio means nothing does. It does not intrigue us. In fact, if anything, we are less likely to look at something that sells at a low relationship to book than something that sells at a high relationship to book, because the chances are we're looking at a poor business in the first case and a good business in the second case. The, what was the other question on Charlie? Buying? The airlines, oh, I always repress everything on airlines. I don't want to. We've never bought an airline common stock that I can remember. So what we did was we lent money to U.S. Air for a 10-year period, and we had a conversion privilege there. It looked like it was a terrible mistake. I made the mistake. But we got bailed out. out. But we never made the determination. When we bought our stock, U.S. Air was selling at $50 a share, or they're about to the common. And we didn't have an interest in buying U.S. Air at 50 or 40 or 30 or 20. And we got a chance to as things went along all the way down to four. And we never bought it. And we never bought American or United or Delver or any other airline. It is not a business that intrigues us. We did think it was intriguing to, to
[1:22:36]
Warrenlend money to them with a conversion privilege, and it's worked out now because we got lucky, and because Steve Wolf came along and really rescued the company from right at the brink of bankruptcy. But we're unlikely to be in airlines, although, again, we wouldn't mind lending money to a lot of businesses that we wouldn't buy common equity in. I mean, that could happen again in various industries, including the airline industry. Charlie, do you have anything to say on either the airlines or the Japanese market?
CharlieWell, the airline experience was very unpleasant for us. The net worth just melted. It was like a billion and a half. And it just went, 100 million, 100 million, 100 million. And finally, the cash is running down. It is a very unpleasant experience. And we try and learn from those experiences, but we're very slow learners. Do you have any market?
WarrenOh, the Japanese market. I suppose anything... I suppose anything could happen. After all, we bought silver. But we have never made a big sector play on a country. In fact, we've almost never made a big sector play. We would have to come to the conclusion that Japanese business, instead of earning whatever it's earning on equity now, is going to earn appreciably more on equity. I've got no basis for... I wouldn't argue anybody else feels that. anybody else feels that way. I wouldn't argue with them, but I have no basis for coming to that conclusion. And unless you come to that conclusion, you're not going to make good returns. I mean, unless that happens, you're not going to make good returns from Japanese stocks. You cannot, you can't earn a lot of money from businesses that are earning 5% or 6% on equity. And I look at the reports, but I don't see, I don't see the earning power now. Now, maybe it'll all change. I mean, there's talk of, because there's already been on small temporary tax cut, but corporate tax rates are quite high, as you know, in Japan. And they used to be 52% here in the United States. Now they're 35. So you could have things happen that increased corporate profits. But I don't have any special insight into that that anyone that reads the press generally would not have. There are also readings in corporate culture that have to be made. owning stock in a corporation where you know that if shareholders or somebody else has to suffer, the choice is likely to be that somebody else will be chosen.
[1:25:37]
QuestionerThat is a different kind of a company to invest in than one that thinks that the principal purpose of life is to keep some steamboiler company going in a particular community or something, no matter how much the shareholders suffer. I think it's hard to judge corporate culture in the fourth countries as well as we can judge it in our own. Are you five? Yvonne Edmonds from Cedar Mountain, North Carolina. I have a specific question, but not a trivial one. You regularly compare Berkshire Hathaway's performance to the S&P 500, which is very helpful and very interesting. But I haven't seen a correlation coefficient between efficient between the S&P 500 daily from day-to-day performance, close say, and the Berkshire Hathaway's close. Now, it so happens for me and I'm sure some other people in the audience that I don't always have access to newspapers or the Internet for that matter, newspapers that publish Berkshire Hathaway performance. performance on a daily basis or even a weekly basis for that matter or a monthly basis. It would be very helpful to know the extent of a correlation coefficient between those two variables. If you have that, would you does know what it is and if you don't, would you please consider calculating it in the future?
WarrenWell, it could be calculated, but I don't think it would have much meaning. I mean, it would be an historical correlation coefficient, which You know, I would be very reluctant to have people place any weight, and I try to indicate even the limitations of the yearly comparison of the relative performance, because what was doable by us in the past is not doable today. I mentioned in my annual report, the best decade I ever had on comparative performance by far was the 50s. Now, I don't think it was because I was a lot smarter than. I'm unwilling to accept that. But, you know, I had some edge of, well, there's probably 40 plus points per year. But I was working with it, that has no relevance to the day whatsoever. It would be misleading to publish it or make calculations based on it. So I think that you would find, I don't know what you'd find on a specific correlation between Berkshire and the S&P. S&P, you'd find a lot of correlation. Well, you might not find so much even. You'd find it in intrinsic value between that and Coke and a few stocks like that. But I don't really think that's particularly useful information going forward.
[1:28:41]
WarrenWe'd have no objection. Anybody wants to make the calculation, but it wouldn't be something that would be of any utility to us. And if we don't think it's utility to us, we don't want to put it out for shareholders as being a possible utility. We do think that the S&P annual calculation has some meaning, because we don't think that the S&P annual calculation has some meaning, because it's an alternative for people to invest. They don't need us to buy the S&P. So unless over time, we have some advantage over that, you know, what are we contributing? What value is added by our management? So we think that people should hold us accountable, even though we would prefer not to be, because it is a tough comparison for us as a tax-paying entity against the non-pre-tax calculation on the S&P. But we don't pay any attention to beta or any of that sort of thing. It just doesn't mean anything to us. We're only interested in price and value. And that's what we're focusing on all the time. And any kind of market movements or anything don't mean anything. I don't know what Berkshire is selling for today. And it really makes no difference. You know, it just doesn't make any difference. What does count is where it is 10 years from now. And I can't tell you what it was selling for on May 4, 1983, or May 4th, of 1986, so I don't care what it sells for on May 4th, 1998. I do care, you know, where it is in general, 10 years from now, and that's where all the focus is. Charlie?
CharlieYeah, we're publishing data in the forum where we would like it if we were the passive shareholder. And so you're getting the data and you're getting it on a time schedule based on what we would want if we were in your position. And we don't And we don't think the correlation convictions would help us. We don't think anything that relates either to volume, price action, relative strength, any of that sort of thing. And bear in mind, when I was in my teens, I used to eat that stuff up. I mean, I was making calculations based on it all the time and kept charts on it and wrote, even wrote an article or two on it. But it just has no place in the operation now. One of the places. There's a dozen things about dealing with Warren all these years is he's never talked about a correlation coefficient. If the correlation isn't so extreme, you can see it with the negative eye, he doesn't compute it.
QuestionerOkay, we're going to go to Zone 6, and I'm going to have a Dilley Bar and Charlie's got one here too.
[1:31:23]
QuestionerHe's terrific. My question has to do with what you mentioned earlier about how companies have to reinvest a certain amount of cash in their business every year, just to state. just to stay in place. And if one could say that the best businesses are the ones that not only throw off lots of cash, but can reinvest it in more capacity. But I suppose the paradox is that the better accompany's opportunities for making expansionary capital expenditures, the worst they appear to be as consumers of cash rather than generators of cash. What specific techniques have you used to figure out the maintenance capital expenditures that you need to do in order to figure out how much a cash, how much cash a company is throwing off. What techniques have you used on Gillette or other companies that you've studied?
WarrenWell, if you look at a company such as Gillette or Coke, you won't find great differences between their depreciation. Forget about amortization for the moment. But depreciation and sort of the required capital expenditures. If we got into a hyperinflationary period or, I mean, you can find, you can set up case, where that wouldn't be true. But by and large, the depreciation charge is not inappropriate in most companies to use as a proxy for required capital expenditures, which is why we think that reported earnings plus amortization of intangibles usually gives a pretty good indication of earning power. And I don't – I've never given a thought to whether Gillette needs to spend $100 million more, $100 million less than depreciation in order to maintain its competitive position. But I would guess the range is even considerably less than that versus its recorded depreciation. Businesses you have to worry about, I mean, an airline business is a good case. In airlines, you just have to keep spending money like crazy, and you have to spend money like crazy if it's attractive to spend money and you have to spend it the same way if it's unattractive. You just – It's part of the game. Even in our textile business, to stay competitive, we would have needed to spend substantial money without any necessary – any clear prospects of making any money when we got through spending it. And those are real traps, those kind of businesses, and they may work out one way or another, but they're dangerous. And in a seize candy, we would love to be able to spend $10,000, $100 million, $500 million,
[1:34:08]
Warrenand get anything like the returns we've gotten in the past. we've gotten in the past. But there aren't good ways to do it, unfortunately. We'll keep looking. But it's not a business where capital produces the profits. Flight safety, capital produces the profits. You need more simulators as you go along and more pilots are to be trained, and so capital is required to produce profits. But it's just not the case it sees. And at Coca-Cola, particularly when new markets come along, you know, the China, of the world or East Germany or something of the sort. The Coca-Cola company itself would frequently make the investments needed to build up the bottling infrastructure to rapidly capitalize on those markets, the old Soviet Union. So those are expenditures. You don't even make the calculation on it. You just know you've got to do it. You've got a wonderful business, and you want to have it spread worldwide, and you want to capitalize out it to its fullest. And you can make a return on investment calculation. And you can make a return on investment calculation. But as far as I'm concerned, it's a waste of time because you're going to do it anyway. And you know you want to dominate those markets over time. And eventually, you'll probably fold those investments into other bottling systems as the market gets developed. But you don't want to wait for conventional bottlers to do it. You want to be there. One of the ironies, incidentally, it might get a kickout of some of the older members of the audience, that when the Berlin Wall went down and Coke was there that day with Coca-Cola. with Coca-Cola for East Germany. That Coke came from the bottling plant at Dunkirk. So there was a certain poetic irony there. Charlie, do you have any hand, then?
CharlieI've heard Warren say since very early in his life that the difference in a good business and a bad business is usually the good business just throws up one easy decision after another, whereas the bad business gives you a horrible business. horrible choice where the decision is hard to make. Is this really going to work? Is it worth the money? If you want a system for determining which is a good business and which is a bad business, to see which one is throwing the management bloopers, time after time after time. Easy decisions. It's not very hard for us to decide to open a new C's store in a new shopping center in California that's obviously
[1:36:50]
Warrengoing to succeed. It's a blooper. On the other hand, there are plenty of businesses where the decisions that come across your desk are just awful. And those businesses, by and large, don't work very well. I've been on the board of Coke now for 10 years, and we've had project after project come up, and there's always an ROI, but it doesn't really make much difference to me, because in the end, almost any decision you make that solidifies and extends the dominance of Coke around the world, in the industry that's growing by a significant percentage in which has great inherent underlying profitability. The decisions are going to be right, and you've got people there that will execute them well. You get blooper after blooper. Yeah, and then Charlie and I sat on U.S. Air, and the decisions would come along, and it would be a question of, you know, do you buy the Eastern Shuttle or whatever it may be, and you're running out of money, and yet to play the game and to keep the traffic flows such as with connecting passengers and everything, and everything, you just have to continually make these decisions, whether you spend $100 million more on some airport, and their agony, because again, you don't have any real choice, but you also don't have any real conviction that it's going to translate, those choices are going to, or lack of choices, are going to translate themselves into real money later on. So one game is just forcing you to push more money into the table with no idea of what kind of a hand you hold, and the other one, you get a chance to push more money and knowing that you've got a winning hand all the way.
QuestionerJeremy? Why'd we buy you guys there? Could have bought more Coke. Area 7. My name is, my name is Bakul Patel. I am from upstate New York. My question is, is Berkshire prepared for 1929 style of depression or like a prolonged bear market that exists in Japan? And would it be as successful in those situations?
WarrenWell, We are probably – we don't expect what you're talking about, but we are probably about as well prepared as any company can be for adversity because we – first year has been built to last. Net, we would benefit over a 20-year period by having some periods of terrible markets periodically in that 20-year period. That doesn't mean we're wishing for them, and it doesn't mean they're going to happen. But we make our money by allocating capital well, and the lower the general stock market would be, the better we can allocate capital.
[1:39:33]
WarrenSo we're well prepared, but we're not necessarily expecting.
CharlieYeah.
WarrenWe are not going to ever sell everything and go to cash and wait for the crash so we can go back in. On the other hand, we are structured so that we are structured so that – I think Ned, a lot of turmoil in the next 20 years will help us not hurt us. I don't mean it'll be pleasant to go through the down cycle, but it's part of the game.
QuestionerHarry 8. My name is Pete Banner from Boulder, Colorado. First of all, Mr. Buffett and Mr. Munger, thank you for your genuine generosity today. Berkshire closed yesterday. The A share was about – or Friday, 69,000. $69,000 and the V share was about $2,300. Do you feel that price is grossly overpriced or grossly underpriced or reasonably priced?
WarrenWell, I'll let Shirley answer that one. I'm not going to say. Now, we're just never going to – we're never going to give out advice on Berkshire stock. There's no – you know, that is up to people who – who want to buy and sell it, and anything we would say could easily get magnified, and people would be acting on it much later, and who knows all the problems that it could produce. It would be quite eccentric if we were to every day put out an announcement, now's the time to buy, now's the time to sell our own stock. Eccentric we are, but that eccentric we aren't.
QuestionerArea 9. I'm Irene Finster, your longtime partner. longtime partner from Tulsa Oklahoma.
WarrenHi, Irene. Yeah. Irene has a soda fund. You ought to go visit her.
QuestionerFirst, I want to thank you for giving your shareholders the opportunity to select their own charities. And second, I'm very concerned about your health due to your diet of red meat.
WarrenIrene, these are our products that I'm eating. Red meat, candy, ice cream. cream and that's just what I do it. That's what I do in public.
QuestionerAnd I want to know what your doctor says.
WarrenMy doctor says I must be heavily relying on my genes. I will tell you, I mean, Charlie and are both very helpful. If you were in the life insurance business, you would be happy to ride us at standard rates, I can assure you. You know, they asked George Burns when he was George Burns when he was 95. What does your doctor say about smoking these big black cigars? And he said, my doctor's dead. Charlie and I played bridge with George when he was about 97, I'd say, at the Hillcrest Country Club. And there was a big sign behind him and it said, no smoking by anyone under 95.
[1:43:07]
OtherAnd actually, at his 95th birthday party, he had about five very good-looking young girls that were there to greet him with it with a big cake and everything. and he looked them over one after another and he said, Oh, girls. He said, I'm 95. One of you is going to have to come back tomorrow. We're very big on George Burns in recent years.
QuestionerArea 10. My name is Hubert Vose. I'm from Santa Barbara, California. Earlier this morning, you made a comment that if the market fell, you would be spending less time on the internet because you'd be very busy. And this is reinforced an impression I have had that the cash flows of Berkshire Hathaway are enormous, but that possibly in the last 12 months you've been investing less than you had previously. And if so, if this is correct, what does that say about waiting for attractive values, how long are you willing to wait, and what does that say? say to the investment public in their own habits?
WarrenWell, you're correct that we have not found anything to speak up in equities in the good many months. And the question of how long we wait, we wait indefinitely. We are not going to buy anything just to buy something. We will only buy something if we think we're getting something attractive. And that, and incidentally, if things were 5% cheaper, that were 10% cheaper, that wouldn't change anything materially. So we have no idea when that period ends. We have no idea whether, as I've said, it can turn out that these valuations are perfectly appropriate if returns on equity stay where they are. But they are, even then, they aren't in the least mouthwatering. So we won't feel we've missed anything particularly if returns stay where there are. Because if it turns out that these levels are okay, they still will not produce returns from here in our view. That doesn't mean you couldn't have a tremendous market in the short term or something of the short. Markets can do anything. I mean, you look at the history of markets and you just see everything under the sun. But we will not – you know, we have no – we have no time frame. The money piles up, the money piles up. And when we see something that makes sense, we're willing to act very fast, very big. But we're not willing to act on anything that doesn't – that doesn't check out in our view. There's no – you don't get paid for activity. You only get paid for being right.
WarrenCharlie?
CharlieYeah. An occasional dull stretch for new buying, this is no great tragedy in an investment lifetime.
[1:46:15]
WarrenAnd other things may be possible in such an era, too. I mean, it isn't like we have a quiver with only one arrow. We sat through periods before. I mean, the most dramatic one being the early 70s, late 60s and early 70s, For a long time, it doesn't seem so long when you look back on it. It seems long when you're going through it, but it's like having a tooth pole or something. But it's – you know, what can you do about it? The businesses aren't going to perform better in the future just because you got antsy and decided you had to buy something. We will wait till we find something we like. We'll love it when we can swing in a big way, though. That's our style.
OtherArea 1. Larry Pekowski, Milburn, New Jersey. Berkshire seems never to have made any real, pure, real estate investments. With the not counting facilities, the operating companies might own, with the exception of West Coast involvement in the residential project in California. I was wondering if you've ever looked at a real estate transaction and tried to apply the same filters, meaning competitive advantages, returns on capital, that you do in operating companies. And if not, is it a circle of competence issue, or is there something you find this interesting about real estate?
WarrenYou want to take it? Okay, Charlie, I want to take this one because here's a area where we have a perfect record that extends over many decades. We have been demonstrably foolish. foolish in almost every operation that had to do with real estate we've ever touched. Every time we had a surplus plant and didn't want us hit the bid and let some developer kind of take an unfair advantage of us, we would have better off later if we'd hit the bid and invested the money in fields where we had the expertise. That housing track that I developed because I didn't want to let the zoning authorities robbed me the way they wanted to. I wish I had let them. We have a certified record of failure in this in this field. And we, the funny thing is we understand real estate. And we're good at it.
QuestionerRight.
WarrenRight. And actually, as a correct aside, we do understand real estate, and Charlie got to start real estate.
CharlieYeah, but we understand other things better, and so the chances that we're going to be big and real estate are low.
WarrenYeah. We've seen lots of things. And we've, the prices that, you know, just don't intrigue us in terms of what we get for our money.
[1:49:14]
WarrenI tried to buy a town when I was, what, 21 years old? The U.S. government had a town in Ohio for sale and would have worked out very well. I've always, there's nothing about the arena that turns us off. but we don't see great returns available. And like Charlie says, the few things, particularly having an old plant or something, that is not, we have not been great at working our way out of those. Fortunately, they haven't been very important in relation to the network of Berkshire.
QuestionerArea 2. Good afternoon. My name is Fred Costano from Detroit, Michigan. My question concerns Nike. Nike is a company experiencing. some short-term problems, but is a great company with an excellent track record. Phil Knight is similar to Bill Gates in the respect that he's a marketing genius and is a very hard worker. Making sneakers is a very simple business with high margins. How do you view Nike and what do you think of the company?
WarrenWell, I think Phil Knight is a terrific operator. I think, and he's a competitor. He's got a lot of money in Nike. But in terms of what we think of the stock, you know, we... You know, we keep all of those views to ourselves pretty much.
QuestionerArea three. Hello. My name is Ed Clinton. I'm from Chicago, Illinois. I'm wondering about the tobacco litigation. There's also, there have been some comments about fatty food. Do you think there's going to be a new trend of fatty food litigation coming out of the tobacco problems?
WarrenWell, I sign a waiver before I... I do any of that myself. No, I would doubt. I do not see those two as being remotely similar. Charlie, do you have any different views on it?
CharlieWell, I think the traditional tort system is particularly ill-suited for solving what might be called the tobacco health problem. So I regard that whole thing, I said, I'm a Mad Hatter's Tea Party. And we see. We set out from afar.
QuestionerArea 4? Yes, I'm Fred Bunch from near Tightwood, Missouri. In light of the current... What was the name of that town? Tightwood, Missouri. Tightwood, Missouri, huh? There's a bank there. Did they name it after me or Charlie? I'll need the one, well. You'd both fit in. In light of today's healthy... healthy growth and stability of the American economy at the present time, and over the last five years or so, how much credit, if any, do you give the Clinton administration and why?
WarrenWell, I give credit to, I give credit going back to Volker, significant credit to Boker.
[1:52:28]
WarrenI give credit to Reagan. I give credit to, certainly to Greenspan and to Rubin, and I give credit to a credit to Clinton Clinton on that. I think that first tax bill was very important, carried by one vote, and I think he may listen to Ruben. So I think there's a lot to give credit for, and I think you can spread it around a fair amount. Charlie may be less charitable here, I don't see.
CharlieNo, I've got no great quarrel of the way the country, the economy has performed. I think it's way better than any of us would have predicted.
QuestionerArea 5? My name is Travis Keith. I'm from Dallas, Texas. And my question regards what Philip Fisher referred to as scuttlebutt. When you've identified a business that you consider to warrant further investigation, more intense investigation, how much time do you spend commonly, both in terms of total hours and in terms of the span in weeks or months that you perform that investigation over?
WarrenWell, the answer to that question. Well, the answer to that question is that now I spend practically none because I've done it in the past. And one advantage of allocating capital is that an awful lot of what you do is cumulative in nature so that you do get continuing benefits out of things that you've done earlier. By now, I'm probably fairly familiar with most of the businesses that might qualify for investment at Berkshire. But when I started out, and for a long time, I used to do a lot of what Phil Fisher described, I followed this scuttle-butt method, and I don't think you can do too much of it. Now, the general premise of why you're interested in something should be 80 percent of it are thereabouts. I mean, you don't want to be chasing down every idea that way, so you should have a strong presumption. You should be like a basketball coach who runs into a seven-footer on the street. I mean, you're interested to start with. Now you've got to find out if you can keep him in school and if he's coordinated and all that sort of thing. That's the scuttle-butt aspect of it. But I believe that as you're acquiring knowledge about industries in general, companies specifically, that there really isn't anything like first doing some reading about them, and then getting out and talking to competitors and customers and suppliers and ex-employees and current employees and whatever it may be. And you will learn a lot. But it should be the last 20 percent or 10 percent.
[1:55:16]
WarrenI mean, you don't want to get too impressed by that because you really want to start with a business where you think the economics are good, where they look like seven-footers, and then you want to go out with a scuttlebutt approach to possibly reject your original hypothesis, or maybe, and if you confirm it, maybe do it even more strongly. I did that with American Express back in the same way. and expressed back in the 60s, and essentially the Scuttlebutt approach so reinforced my feeling about it that I kept buying more and more and more as I went along. And if you talk to a bunch of people in an industry and you ask them what competitor they fear the most and why they fear them and all of that sort of thing, you know, who would they use the silver bullet of Andy Groves on and so on, you're going to learn a lot about it. You'll probably know more about the industry than most of the people in it when you get through because you'll bring an industry. independent perspective to it, and you'll be listening to everything everyone says rather than coming in and with these preconceived notions and just sort of listening to your own troops after a while. And I advise it. I don't really do it much anymore. I do it a little bit, and I talked in the annual report about how when we made the decision on keeping the American Express when we exchanged our perch for common stock in 1994. I was using the Scuttlebutt approach when I talked to Frank Olson. I couldn't have talked to a better guy than Frank Olson. Frank Olson, running Hertz Corporation, lots of experience at United Airlines, and a consumer marketing guy by nature. I mean, he understands business. And when I asked him how strong the American Express card was and what were the strengths and the weaknesses of it and who was coming along after it and so on, I mean, he could give me an answer in five minutes that would be better than I could accomplish in hours and hours and hours or weeks of roaming around and doing other things. So you can learn from people, and Frank was a user of it. I mean, Frank was paying X percent to American Express for his Hertz cars, and Frank doesn't like to pay out money, so why was he paying that? And if he was paying more than he was paying on Master Charger Visa, why was he paying more? And what could he do about it? I mean, you just keep asking questions. And I guess Davey explained that in that in that video we had ahead of time.
[1:57:36]
WarrenI'm very grateful to him for doing that, because that was a really good. real effort for him. But that was really what I was doing back in 1951 when I visited in down in Washington because I was trying to figure out why people would insure with GEICO rather than with the companies that they were already insuring with and how permanent that advantage was. You know, what other things could you do with that advantage? And, you know, there were just a lot of questions I wanted to ask him, and he was terrific in giving me the answers. It, you know, changed my life in a major way. So I've got nobody to thank, but Davey on that. But that's a this got all but method and I do advise it.
CharlieCharlie? Nothing to add.
QuestionerArea 6? Hi, my name is Richard Lontock from Toronto, Canada. I have a question for both of you. Mr. Buffett, Berkshire's Hathaway's earnings in 1997 is less than that of 1996. What do you intend to do in 1998 to improve that earning? And Mr. Munger, I've been watching you and Mr. Buffett eating the Seas Candies and candies and drinking of Coca-Cola the whole day. Join in. Do you intend to do any commercials in the future like what Dave Thomas does with Wendy's? Which of us do you think we should do them?
WarrenNow you're talking. We aren't old enough to be really good in a commercial. What we would like to do is have somebody up here happily eating seize candy and answering these questions, who's about 110 years. old. That would really be helpful. We, in terms of the earnings, the final bottom line gap reported earnings that mean absolutely nothing at Berkshire to us. Now, the look-through earnings, which we publish, do have some meaning, but even those have to be interpreted in terms of whether there was a super cat occurrence or whether GEICO had an unusually good year, and we try to mention those factors. But we do hope that the look-through earnings do build at a reasonable clip over time. But our final earnings include capital gains and we can report those in any number that we wanted to, and we pay no attention whatsoever to realize capital gains at Berkshire. The IRS does, and that's why we may send them a billion or more dollars this year. But they mean nothing in terms of measuring our progress. They look through earnings, say something about it. That table, the first couple of pages it shows our change in book value versus the S&P says something about it. Not perfect. The real test is to gain an intrinsic value, for sure,
[2:00:27]
Warrenover time, and that there's no hard number for that. But so far, Charlie and I judge it satisfactory, but we also judge it as non-repeatable. Charlie, any more on that?
CharlieNo.
OtherArea 7, please. Good afternoon, Mr. Buffett and Mr. Munger. My name is Keiko. And I'm an MBA student at Wharton, but please don't hold that against me.
WarrenWe won't.
CharlieI never made it that far.
QuestionerI was an undergraduate student. Could you please explain how you differentiate between types of businesses in your cash flow valuation process, given that you use the same discount rate across companies? For example, in valuing Coke and GEICO, how do you account for the difference in the risk of their cash flows?
WarrenWe don't worry about risk in the traditional, the way you're taught actually at Wharton. We, but it's a good question. Believe me. But if we could see the future of every business perfectly, it wouldn't make any difference whether the money came from running streetcars or from selling software. Because all the cash that came out, which is all we're measuring between now and judgment day, would spend the same to us. It really, the industry that it's earned in means nothing, except to the extent that it may tell you something about the ability to develop the cash, but it doesn't tell it, it has no meaning on the quality of the cash once it becomes distributable. We look at riskiness essentially as being sort of a no-go-no-go valve in terms of looking at the future businesses. In other words, if we think we simply don't know what's going to happen in the future, that doesn't mean it's necessarily risky. It just means we don't know. It means it's risky for us. It may not be risky for someone else who understands the business. In that case, we just give up. We don't try to predict those things. And we don't say, well, we don't know what's going to happen, so therefore we'll discount it at 9 percent instead of 7 percent, some number that we don't even know. That is not our way to approach it. We feel that once it, it passed a threshold test of being something about which we feel quite certain that the same discount factor tends to apply to everything. And we try to do only things about which we're quite certain when we buy and do businesses. So we think all the capital asset pricing model type reasoning with different rates of risk-adjusted return and all that. We tend to think it is – well, we don't tend to, we think it is nonsense.
[2:03:24]
WarrenAnd – but we do think it's also nonsense to get into situations or to try and evaluate situations where we don't have any conviction to speak of as to what the future is going to look like. And we don't think you can compensate for that by having a higher discount rate and saying it's riskier so that I don't really know what's going to happen and I'll have a higher discount right. That just is not our way of approaching things. Charlie?
CharlieYeah, this great emphasis on voluminance volatility in corporate finance. We just regard as nonsense. If we have a statistical probability of putting out a million and having it turn into this way, as long as the odds are in our favor and we're not risking the whole company on one throw or anything close to it, we don't mind volatility in results. But we want us the favorable odds. We figure the volatility over time will take care of itself at Berkshire. If we have a business about which we're extremely confident as to the business result, we would prefer that it have high volatility than low volatility. We will make more money out of a business where we know where the end game is going to be if it bounces around a lot. I mean, for example, if people reacted to the monthly earnings of Cs, which might lose money eight months out of the year and makes a fortune in November and December. If people reacted to that and therefore made its stock as an independent company very volatile, that would be terrific for us because we would know it was all nonsense. And we would buy in July and sell in January. Well, obviously things don't behave that way. But when we see a business about which we're very certain, but the world thinks that its fortunes are going up and down and therefore it behaves volatile with great volatility. We love it. That's way better than having a lower beta. So we think that we actually would prefer what other people would call risk. When they, when we bought the Washington Post, I've used that as, you know, it went down 50 percent in a matter of a few months. Best thing that could have happened. I mean, it doesn't get any better than that. Business was fundamentally very non-volatile in nature. I mean, TV stations and And a strong dominant newspaper, that's a non-volatile business, but it was a volatile stock. And, you know, that is a great combination from our standpoint.
QuestionerArea 8. Good afternoon, and thank you for staying around to answer our questions.
[2:06:26]
QuestionerI have two. First of all, would you give us what logic went into your decision to both buy and sell McDonald's? And my second question goes to a term that you've used. talked about the caliber of the shareholders of Berkshire Hathway. How do you define the caliber and what difference does it really make?
WarrenWell, it makes a lot of difference. Our idea of a high-caliber group is one that is just like us. And that's not entirely facetious in that we basically want shareholders who look at the business the same way we do, because we're going to be around running something and what could be worse than having a group out there had a whole different set of expectations than we did and that evaluated us in a different way or all of the sort of thing. I mean, if you are going to you're going to have a given number of shares outstanding, let's say we have the equivalent of a million, two hundred and some thousand A shares. Somebody's going to own every single share. Now, would you rather have them owned by people who understand your business, who understand your objectives, who measure you the same way you do, who have similar time horizons? or would you rather have the reverse? It makes a real difference over time to be in with people that are compatible with you. So it's a significant plus to us, the operation of the business, and it leads to a more consistent relationship between price and intrinsic value when you have a group like that because they understand themselves and they end the business and they're not like you to do silly things in either direction. So you get a much more consistent relationship than if we had a whole bunch of people who were thinking that the most important thing in evaluating this business was next quarter's earnings. The question about McDonald simply is, you know, it's an outstanding business, and we don't talk about it when we buy it, we don't talk about it if we sell it.
WarrenCharlie?
CharlieYeah, the question of what difference does it make to the management, who the shareholders are? Well, if you are into what I call trustee, capitalism, where the shareholders aren't just a faceless bunch of nothings, but you feel as a kind of a hair shirt, an obligation to do as well as you can by the shareholders. Well, wouldn't you rather feel an obligation to people you like instead of people you didn't like? Yeah, let's say you were running a business and you had a choice of three owners.
[2:09:06]
QuestionerYou'd have 100% of it owned by whatever your favorite philanthropy is. You could have a 100% of it owned by the U.S. government, and you could have 100% owned by, you know, the worst person you can think of in, you know, in your hometown. I mean, I think it would make a difference in how you felt about going to work every day.
OtherNumber nine?
QuestionerYes, my name is Steve Check. I'm from Southern California. My question has to deal with kind of quality versus price. I've been to three annual meetings and I've heard great things about Coke every year. But as far as I'm aware, you have not bought any additional shares of Coke over the last three years. even though the stock is done just fine. If an investor has a relatively short time frame, say three to five years, how much weight do you think one should give to quality versus price?
WarrenWell, if your time frame is three to five years, a, I wouldn't advise it being that way because I think if you think you're going to get out then, it gets more toward leaning toward the bigger fool. The best way to look at any investment is how well I feel if I own it forever, you know, and put all my family's net worth in it. But, We basically believe in buying, if you talk about quality, meaning the certainty that the business will perform as you expected to perform over a period of times, so the range of possible performance is fairly narrow. You know, that's the kind of business we like to buy, and all I can say is that we like to pay a comfortable price, and that depends to some extent on what interest rates are. We haven't found comfortable prices for the kind of businesses we like in the last year. We don't find them uncomfortable. find them uncomfortable in the sense that we want to sell them. But they're not prices at which we, we added to Coke one time about, I don't know, five years ago or thereabouts, and it's conceivable we would add again. There's a lot more conceivable we would add that subtract. But that's the way we feel about most of the businesses. We did make a decision last year that we thought bonds were relatively attractive, and we trimmed certain holdings and eliminated certain small holdings in order to make make a bigger commitment in bonds.
WarrenCharlie?
CharlieYeah. You talk about quality versus price. The investment game always involves considering both quality and price. And the trick is to get more quality than you're paying for in the price.
[2:11:35]
OtherIt's just that simple. But not easy. No, but not easy. Area 10. Billman, good afternoon.
QuestionerJeff Kirby from Green Village, New Jersey. Village, New Jersey. Would you comment, please, on tax-free spitt-offs to shareholders in general, and particularly how you would feel about those, were you to believe that a materially higher value would be ascribed to one of your operating companies in the public arena than as part of Berkshire Hathaway?
WarrenWell, there's certain have been times in Berkshire history when certain components of of Berkshire might well have sold at higher multiples as individual companies than the amount they contributed to the whole of Berkshire, although I don't think that would be the case now. But our reaction to spin-offs would be, even if we thought there was some immediate market advantage, it would have no interest, basically, to us. We like the group of businesses we have as part of a single unit at Berkshire. We hope to have. add to that group of businesses, we will add to that group of businesses over time. And the idea of creating a lot of little pieces, because we could get a little more market value in the short term, it just doesn't mean anything to us. Charlie?
CharlieYeah, it would add a lot of frictional costs and overheads. And we have the, I don't know of anybody our size who has lower overhead than we do. And we like it that way. Yeah, our, right now, our after-tax, cost of running the operation has gotten down to a half a basis point of capital value. When you think that many mutual funds are at 125 basis points, that means they have 250 times the overhead ratio to capitalization. And only got a bunch of marketable securities, and we got that plus businesses. We don't need any more. But we can get lower, Warren. We can get a lot lower.
WarrenI know. You think they'd work for $500 a year instead of $900?
Otherdrunk, groans from the front row. Area one. Good afternoon, Mr. Buffett and Mr. Munger. I was kind of curious if you could tell me.
QuestionerDo you know or can you tell us how much business, Nebraska Furniture Mart and Borshan's did this weekend. And secondly, do you have any interest in investing in the auto industry? And if not interested it now, what would change your mind about this industry in the future?
WarrenWell, the first question, I don't know what the mart did, but I do know they had a lot of shareholders there. I've gotten at a verbal report on that.
[2:14:42]
WarrenThere would be less change in their normal business. They do, you know, you're talking about a company that at the mart that does $800,000 a day on average, it is a big operation. So our shareholders have an impact, but not the relative impact. that they would have it, Foresheims did over twice as much this year as last year, and they had a big day. And what was the other question, Charlie?
QuestionerIndustry, the auto industry.
WarrenOh, the auto industry. Yeah, Charlie, Charlie was big in General Motors in the mid-60s, right, Charlie? And was your biggest commitment?
CharlieI had the temper. Luckily, it passed.
QuestionerYeah. No, he made money on it, Ted.
CharlieYes, I did.
WarrenIt's the kind of industry that's interesting for us to follow. I mean, many years ago, it was the dominant factor or overwhelming factor in the economy. It's diminished a fair amount, but it's still a very important industry, and it's the kind of industry that anyone can follow. I mean, you have experience with the product and competing products, and everyone in this room understands in a general, the economic nature of the industry, but we've never felt that we understood it better than other people. So we've seen auto companies at very low multiple sometimes, and with prices that in hindsight look very attractive, but we've never really felt that we knew who among the auto companies five years from now would have gained the most ground relative to where they are now, or to gain the most ground relative to what the market might expect. It just isn't given to us. That that, knowledge. Charlie?
CharlieI agree.
QuestionerArea 2. Hi, my name is Scott Rudd from Eden Prairie, Minnesota. And my question is this. Ten years from now, and I'm referring to Borsheims as the retail part of it to the consumer, not so much the corporate division, 10 years from now, what would be the three things that you would expect to change on a day-to-day? operating basis to change the most and affect your ability to be dominant in that area.
WarrenWell, I think, are you talking about Boersheim specifically?
QuestionerYes.
WarrenI think Boersheims, I don't know what, three things, but I have, Boersheims may be one of, a couple of our companies that, where the internet could be a huge, have a huge potential for us. I don't know if that'll happen, but, but there's no question that, that we operate, and I've got a message on the internet, that at considerably, very considerably lower gross margins than does a Tiffany or publicly held jewelry operations.
[2:17:56]
WarrenWe are giving customers considerably more for their money. We've got way lower operating costs than the public companies. And I say on the internet, our operating costs are 15 to 20 percentage points, and even more in some cases, less than publicly owned, the publicly owned competitors. So we've got a lot to offer. Now, the big question people all you have was jewelers is, how do you know who to trust? I mean, you know, it is an article that most people feel very uncomfortable buying. And I think that the Berkshire Hathaway identification can help people feel comfortable on it. I think that the experience of customers around the country as they see it. And I don't think that – I think it is a product – I think it is a product It's a high ticket item, so saving money gets to be really important, just like auto insurance, saving money gets to be really important. So I think that the Internet could be of significant assistance to Borsheims in terms of spreading and facilitating its nationwide reputation. So Borsheims could have a lot of growth in the Internet could be a big part of it. Our job is to get the message to people around the country that they can literally, you know, have us send a half a dozen items to them that they can look at with no high pressure salesmanship at all or anything of the sort and look at the, look at the prices, decide what they want in their own homes. And they will do very well with us. And we have a lot of people taking advantage of that now, but we could have 10 or 20 or 50 times that number. as the years go by, and I think we should work very hard on that. Geico has possibilities through the Internet, obviously, also. But anything where you're offering a terrific deal to the consumer, but one of the problems has been how do you talk to that consumer? You know, the Internet offers possibilities out. Now, the thing is that everybody in the world is going to be there, and why should they click on you instead of somebody else? Actually, the Berkshire Hathaway name may help a little bit on that. help a little bit on that, although Geico's name is extremely well-known. I said in the annual report, we were going to spend $100 million in, basically, in promotion this year. We'll spend more money than that. The brand potential in Daico is very, very big, and we intend to push and push and push on that.
CharlieCharlie? Well, all that said, if the Internet helps some of our business, well, certainly the CD-ROM,
[2:20:38]
QuestionerMy name is George Garty from Zurich, Switzerland, and my question refers to two food businesses, namely McDonald's and Dairy Queen. Are there major differences in the investment characteristics between McDonald's and Dairy Green and if yes, would you explain them?
WarrenYeah, there are major differences. McDonald's owns, perhaps in the area of a third of all locations worldwide. I can't tell you the exact percentage, but if they've got 23,000 outlets, they own many, many thousands of them and operate them. And then, of the remainder, they own a very high percentage and lease them to their operators, their franchisees. So they have a very large investment on which they get very good returns in physical facilities all over the world. So, Dairy Queen has, counting Orange Julius, 6,000 plus operations, of which 30-odd are operated by the company, and even those some are in joint ventures or partnerships. So the investment in fixed assets is dramatically different between the two. The fixed assets, investment by the franchisee, or the person as landlord obviously is significant at a Dairy Queen, but it's not significant to the company as the franchisor. So that the capital employed in Dairy Queen is relatively small compared to the capital employed in McDonald's, but McDonald's also makes a lot of money out of owning those locations and receives, whereas Dairy Queen will, in most cases, receive 4% of of the franchisees sales in terms of a royalty. At a McDonald's, there's that more than that percentage plus rentals and so on. So they're two different, very different economic models. They both depend on the success of the franchisee in the end. I mean, you have to have a good business for the franchisee to over time have a good business. business for the parent company. Both companies have that situation to deal with.
WarrenCharlie?
CharlieI've got nothing to add. The 4% is not very much when you stop to think about providing a group of franchisees with the nationally recognized brand and quality control and all sorts of desirable business aids. No, 4% is at the low – if you look at the whole industry, 4% is – is in the lower part of the range.
WarrenPart of what attracted us. Part of what attracted us was the fact that the charges to the franchisees are low at Dairy Queen.
[2:23:57]
WarrenA successful franchisee can sell his operation for significantly more than he has invested in tangible assets. And we want it that way, obviously, because that means he's got a successful business, and it means that over time we will have a successful business. business. You want a franchise operator, you want the franchise operator to make money and you want him to create a capital asset that's worth more than he's put in it. That's the goal. Carry your floor.
QuestionerGood afternoon, Mr. Munger and Mr. Bubbitt. My name is Patrick Byrne. I'm a shareholder and I'm here from Cincinnati, Ohio. Back again this year to ask a question to see if I can get the two of you to disagree on a subject. I picked education as an area where we might see some daylight between the two of you. First, though, on the subject of education, I'd like to offer some brief thanks. I'm lucky that my parents, in the late 70s, made them a wise choice of buying some Berkshire stock and putting it in a college fund for my brothers and me, and that basically paid for our higher education. I suspect there must be thousands of people like us. like us who had our education paid for by wealth that the two of you created, and we owe you. Although we'd probably all have a lot better to skip college and keep stock. Well, on the subject of education, Milton Friedman has said, there was written, that if you really care about poverty in the U.S. and the disadvantage of women and the men, and so on, and you could cure one single thing in the U.S. it would be the public education system. Mr. Bobbitt, of course, you've been very publicly supportive and done many things, and I'm sure Mr. Munger has as well, for the poor public education, but I noticed last year in this annual meeting, Mr. Munger, well, both of you, of course, criticized some aspects of higher education like business schools. But Mr. Munger included a, he was a tad critical, I would say, of the U.S. public education system. And I wonder if you two agree with what Friedman says and what you think the importance of public education is and what might be done to improve it.
WarrenI'm going to Charlie, go on the second, but I just want to say, I just want to say Patrick Byrne is the son of Jack Byrne who made a fortune for us by resuscitating Geico when I got into trouble in the mid-70s. In fact, I met Patrick's dad on a Wednesday night, about 8 o'clock at night in Washington,
[2:27:06]
Warrenwhen Geico was, it was bankrupt, and it was about, very close to being declared so. And after talking with about three hours that night, the next day I went out and bought five 500 some thousand shares of Geico that Davy referred to at 208th, so, which is 40 cents on the stock that we paid $70 for later on. So Patrick's, Patrick's dad, we may have made the Byrne family more money. He made us a lot of money. Patrick is now running Petchheimer's in Cincinnati and doing a sensational job. His brother, Mark, on June 30th, if we hit the target date, will be establishing a major operational major operation in London and Bermuda that will, in which we will be a very large partner. So he's only got one other brother left, and he's out playing golf in California. But if times get tough, we're going to try and recruit him, too. Now, Charlie, with all that time to prepare, what do you have to say about education?
CharlieWell, I certainly agree with Milton Friedman, that there's – it would be hard to name one factor if we could fix it that would be more worthy of fixing than the education in the United States, particularly the lower grades in education where the failures are so horrible in many big cities particularly. So yes, I think it's a terrible problem and it needs fixing. Of course, there's a huge debate as to what the best ways to do is to do. what the best way is to fix it. And I am skeptical myself of big city school systems getting fixed under their own momentums. In other words, I'm quite sympathetic to the people who say we may have to go to an alternative like vouchers. The incentive structure has gotten so bad in some places that you can't fix it with evolution. It takes revolution. Warren, you're more optimistic about it.
WarrenWell, I'm not understanding. I'm not necessarily more optimistic. I probably feel, though, that democracy without a good public school system available to the entire population is sort of a mockery, because there's so much inequality to start with – I mean, it isn't just an inequality of money, but, I mean, my kids, whether they inherit any money or your kids, whether they inherit any money, compared to the kids of somebody that – where both parents are struggling to keep the place going or maybe just one parent and living in poverty. I mean, it is so unequal to start with that if you accentuate that inequality by giving those who were generally higher up on the latter also a far better education
[2:30:15]
Warrenthan you give those who have chosen the wrong womb, I think that that's just, I don't think the society should tolerate that or rich society should tolerate it. That doesn't mean it's easy to solve because I've said a lot of times that, unfortunately, that it seems like a good public school system is like virginity, that it can be preserved but not restored. And it's very hard when you get a system that's lousy to do much about it because under those circumstances, the wealthy people are going to all opt out of the system, and they're going to be less interested in the bond issues, they're going to be less interest in the PTA, they're going to be less interested in the outcome of the of the other people's children if they've got, if they've all opted out for their own system. And they have one educational system for the rich and another for the poor, with the poor being, getting the poor system, strikes me as doing nothing but accentuating inequality and other problems that result from that in the future. So I don't know the answers on improving the system. You know, I read some of the experiments that take place, but I do believe that do believe to start with that you have a good public school system as we do in Omaha, that you do your damnedist to maintain that so that there is no incentive for the rich grandparent or the rich parent to say, you know, I love the idea of equality, but I love my grandchildren or my child more, so I'm going to yank him from the public school system and then you get this sort of exodus which leaves behind only those who can't afford to make that choice. And the problem I have with a voucher system, if there were a way, the idea of competition I like, you know, and I think a good parochial system does, for example, create a better public system when, I think we've had that situation in Omaha. But I think the voucher system, if it simply amounts to give everyone an additional amount, simply means that the rich get X dollars of the public school system subsidized, but the poor still are, whatever that differential is remains. I mean, you could have a golf voucher system because I play golf, I don't play very often, but if I play at the Omaha Country Club, and you could have a voucher system so that everybody in Omaha would have more access to the country club by giving everybody a thousand dollars a year to play golf, but it just means it would
[2:32:46]
Warrenreduce my bill by a thousand bucks, but it still wouldn't do the job for the guy who's on the public course because he'd still be beyond his means to move to move to full-scale equality with me. I, you know, I don't think there's anything more important, and I agree with Charlie totally. I think the first eight grades, you know, you can forget it after that. If you have the first eight grades right, good things are going to flow, and if you have those wrong, you're not going to correct it as you get beyond that point. And I think that, you know, I commend Walter Annenberg on the $500 million. I think it is very tough to see results in that that arena and if you find something that is producing results, I think it should be replicated elsewhere. I think that obviously fellow Chicago says that the unions have caused considerable problems in getting adjustments made, but he had the political clout behind him to overcome some of those problems. It ought to be, it ought to be a top national priority. We have the money to educate everybody well in this country. And the question is, is if we got, you know, can we can we execute? And that's something I hope good minds like Patrick's work on. Charlie, you have anything for that?
CharlieYeah. I think when something is demonstrably failing at performing the function to which is assigned by a civilization, just to keep pouring more and more money into a failing modality is not the munger system. So I'm all for taking the worst places where there's failure and trying a new modality. And it wouldn't bother me at all to have vouchers only for the poor. But I think we have to do something in our most troubled schools to change our techniques. I think it's insane to keep going the way we are. So you go for a means-tested vouchers, basically?
CharlieWell, I... I mean, I don't disagree with that idea. But all I know is where it is a terrible place to fail, and part of the trouble is ideological. If you have an absolute rule, there can't be any tracking viability, no matter how much better reading can measurably be taught by systems that involve tracking, well, people that brain block shouldn't have the power. We should, we should do what works. I mean, all that works. The problem is that once it gets beyond a certain point on a a certain point on a downhill slope, essentially have the citizens that are able to do something about it essentially opt out. And that, I don't know.
[2:35:35]
WarrenI am a product of the Omaha public schools. And in my day, and the people who went to private schools were those who couldn't quite hack it in the public schools. That is still a situation in Germany today. I mean, private schools are people who aren't up to the public schools. I prefer a system like that. But once a big segment of that system measurably fails, then I think you have to do something. You don't just keep repeating what isn't working.
OtherWell, I agree with that.
OtherPatrick, have you gotten your answer?
OtherLet's go to Area 5.
QuestionerMy name is Kevin Murphy. I'm from Camero, California. And my question is, what do you look for when determining if a person is honest or not?
OtherWell, that's a good question, Kevin.
WarrenGood question, Kevin. I think generally Charlie and I can do pretty well with the situations we see, but we have to have to have some evidence of behavior in front of us. And I would say even there's some occupations where we're going to expect to find a higher percentage of people who behave well than than others. But if we work with someone over a period of a few months or more. I think we've got, we can come up with a pretty high batting average in terms of how they behave. At Solomon, I think I was able to separate out the people who I felt very good about and the people I was a little more nervous about fairly quickly among the ones I worked with actively. But how you spot that precisely, you know, You know, leave your lunch money on their desk sometimes. Maybe you'll find out in a hurry. But we like people. You know, I mean, the great example where, you know, is somebody like a Tom Murphy, where they're just bending over backwards all the time to make sure that you get the better end of the deal. That doesn't mean they're competitive. I mean, if you play him a golf game for money or something like that, you know, he wants to win the worst way. but he, but there are people that just, they don't take credit for things that they didn't do. In fact, they give you credit for some of the things that maybe they did. And you can, you can get a feel for it over time.
WarrenCharlie, you have any good guidelines on that?
CharlieYes, I think that people leave track records in life. And so somebody at your age should figure that by the time he's 22 or three, well, he will have left quite a track record and the world will be able to figure you out. So, so I think that, I think track records are very important.
[2:38:51]
WarrenAnd if you start early, trying to have a perfect record and in some simple thing like honesty, you're well on the way to success in this world. Johnny Ann Yelly one time told me, he said, when you get older, you have the reputation you deserve. He said, you can get away with it for a while early on, but he, by the time anybody gets to be, 60 or so, they very probably have the reputation you deserve. And the truth is you can have the reputation that you want. If you list all of the things that you admire and other people, you'll find out that almost everything you list, you may not be able to kick a football 60 yards or something of that sort, but almost everything you list in the people that you admire and like, there are qualities that you can have if you just set out to do that. And didn't Ben Franklin do that, Charlie?
CharlieOh, sure. I always say that the best way to get what you want is to deserve what you want. I'll have some more peanut brittle.
OtherArea 6. I'm Nancy Sell from Atlanta, Georgia. You were asked earlier this morning a question about the year 2000 computer problem. Do you anticipate any negative financial impact to the economy or to our companies due to the due to the millennium problem? And if so, what financial strategies are you considering?
WarrenWell, I don't think there'll be major problems for our companies. You know, there are going to be some problems. Anytime you have something that big. If people didn't see it coming in 1980 or in 1985, they're not going to be perfect of solving it by 2000, you can count on that. But I don't think – I don't think it has any investment consequences. for Berkshire Hathway that we should be considering now. And I do think you'll see most of the problems in the governmental area. You know, maybe they won't find your tax return for two or three years. Who knows? Charlie?
CharlieYeah.
OtherArea 7. In your description of McDonald's, I mean, you have the sense that there's a great business buried in McDonald's, and there are two good businesses that are mixed in with it. And the problem is with the real estate and the operational business that as the company is currently capitalized, they can't earn the same kind of returns, they can earn the franchising business. You were or still are as significant shareholder McDonald's, I guess my question is, the solution is obvious. Why don't you push for a solution that creates the same opportunity you have
[2:41:43]
Warrenan international dairy queen? Well, my guess is, I don't know the details on it, but my guess is that with 23,000 locations all over the world, I think I think it would be extraordinarily difficult to separate the real estate business out from the franchising business at this point. I think they could have gone a different route. I'm not saying it would have been a better route at all. In fact, I think the odds are they followed the right route in owning and controlling so much real estate. But I think I just think the problems would be horrendous. Certainly you wouldn't want to sell it and lease it back because you would not end up with more value in my view by doing. that. And spinning it off in a real estate trust or something with operating in 100-plus countries. And with all the franchise arrangements, I think it would be a huge, huge problem. I would not want to tackle it myself. So I think that you should look at McDonald's, and I don't know anything about their plans on this, but I think you should look at McDonald's as being a very good business, but the one that will continue in its present mode, visa, the real estate, real estate, although I think they've signaled that they're going to do less on new properties, somewhat less in connection with ownership than they've done to this point. But there's 23,000 locations out there, and every operator, his own arrangement is very important to him, and it just, it would be a mammoth job, and I'm not sure how much extra value would be created in the end anyway. Charlie?
CharlieYeah, the net returns on capital. McDonald's earned all these years are high. even though they have owned a lot of their real estate. I think it's hard to quarrel with the way they did it. They had the best record. And the multiple is not greatly different, in my view, than if the real estate were separate. You know, I mean, now, if you get all the real estate de-taxed in some arrangement, you might get a little more out of it, but it doesn't strike me as a big deal. Ariet.
QuestionerYeah, hi. I'm Rachel White from Missoula, Montana, and during the lunch break, I heard some people talking about of double taxation and how that impacts Berkshire's investment philosophy. So I was wondering if you could talk a little bit about it. I'm not sure I understood it. And if you could explain whether that impacts your investments?
WarrenWell, we are structured very poorly.
[2:44:25]
WarrenAnd if you were looking, if you're going to start all over again and do some, most of the things we've done, you'd probably not do it in corporate form or probably. precisely like we do it. I mean, what that gentleman was talking about in connection with McDonald's applies much more to Berkshire Hathaway, even by far than McDonald's, in terms of detaxing part of the income stream. If we own Coca-Cola with the cost of a billion two or a billion three in a market value of $15 billion, we're not going to sell it. But if we did sell it, we would incur a capital gains tax on the order almost of $5 billion. That's that the 15 becomes $10 billion. Now, if that $10 billion is reflected in Berkshire's value and you bought your stock when we bought our Coke, then you pay a second tax in turn in the in reflection of the Coca-Cola appreciation is taking place after-tax. So it's a very disadvantageous way of owning securities to have a corporation in between you and the securities themselves. If we ran as a partnership, that would not be the case. I ran Berkshire half a the way, I mean, I ran Buffett Partnership for many years, and we only had one tax at the individual level. Our stockholders are, to the extent that we own marketable securities, and we own a lot of them, and to the extent that we have a lot of profits over time in those, own those securities in a disadvantageous way. Now, we also have a float, which helps us own them, which is a big plus. But corporate ownership of securities, if you have the – if you have the – option of owning them directly or through a partnership, corporate ownership is disadvantageous. And we're stuck with it. We've had it for all these years. We've got no plans to do anything about it. We couldn't probably do anything about it if we wanted to. So that is a drag on our performance compared to what would be the situation if we operated as a partnership. And Lloyd Syndicates, for example, didn't have that problem. Some insurance companies that operate in Bermuda may not have that problem to the same extent. And certainly partnerships don't have that problem to the extent they own securities. But it's a fact of life with us, and we're going to pay a lot of taxes. Charlie?
CharlieWe have no cure for the corporate income tax. And it is a big disadvantage for the indirect owner of securities. So far, we've surmounted it well enough. But we're carrying a load there.
[2:47:09]
WarrenIt's become a bigger disadvantage since the individual rate went to 20 percent with our corporate rate being 35 percent. Because if we make a dollar on a stock, it becomes 65 cents. And to the extent that you've owned Berkshire, that's 65 cents, and now 20 percent off that becomes 52 cents, whereas if you'd own the stock directly, you'd have had 80 cents. Now, when we own GEICO and it wasn't consolidated with us, you could have carried that one more extreme. I mean, GEICO had capital gains, and we had a capital gain proportionally in GEICO and so on. I mean, how your structure does make. a real difference, but usually once you get into a given structure, you're kind of stuck with it, as I indicated, in the answer to the gentleman on McDonald's. Now, to the extent we have very long holding periods at the corporate level, the real mathematical disadvantage shrinks. Yeah, and we might not have been able to get the float that we have if we hadn't been operating it in a corporate structure, so that is a mitigating factor too. But we like to have the mitigating factors without anything to mitigate if we get our choice.
OtherEric Nye, please.
QuestionerGood afternoon. My name is Fred Strasheim, and I'm from here in Omaha. I have a question about your acquisition methodology. And I was intrigued to read in your annual report about your acquisition of Star Furniture. And as I understand the process you followed, Mr. Buffett, you met with Mr. or you, I'm sorry, you reviewed financials for a brief period, liked what you saw. And then you met with Mr. Melvin Wolfe for two hours. and struck a deal. And you wrote, you had no need to check leases, work out employment contracts, etc. Right. I think that most companies, when they do acquisitions, would feel the need to do a significant amount of legal due diligence, to do things like check the leases, check into things like undisclosed environmental liability, or perhaps threatened litigation. And I guess my question is, have you ever been burned by your approach?
WarrenWe've never been burned by the we've been burned only in the sense that we made mistakes on judging the future economics of the business, which would have had nothing to do with due diligence. We regard what people normally refer to due diligence as really sort of boilerplate in most cases. It's a process that big companies go through, and they feel they have to go through it, and they're ignoring, oftentimes,
[2:49:42]
Warrenin our view, they're ignoring what really counts, which is evaluating the people they're getting in with and evaluating the economics of the business. That's 99% of the deal. You know, you may run into an environmental liability problem, you know, one time in a 100, or you may, you know, you may find a bad lease. I asked Melvin about, you know, do you have any bad leases? I mean, that's the easiest way to do it. And I can read them all and try and look for every clause or something, but it isn't going to, you know, that is not the problem. We've made bad, lots of bad deals. We made a bad deal when we bought Hostel Cohn, for example, the department store operation back in 1966, but it had, fine people, but we were wrong on the economics of the business. But the leases didn't make any difference, or, you know, that sort of thing just was not important. And I can't recall any time that what other people referred to as due diligence would have avoided a bad deal for us.
CharlieI can't either. No. That's 30-some years.
WarrenAnd I, the key thing, You just don't want to do – I go into – I'm on various public company boards. I've been on 19 public company boards. And, you know, their idea of the due diligence to send the lawyers out and have a bunch of investment bankers come in and make presentations and all that. And I regard that as terribly diversionary because the board sits there, you know, entranced by all of that and everybody reporting how wonderful this thing is and how they've checked out patents and all that sort of thing. And nobody is focusing really on where the business is going to be in five or ten years. And, you know, business judgment about economics and people to some extent, but the business economics, that is 99% of deal making. And the rest, people may do it for their protection. I think too often they do it as a crutch just to go through with a deal that they want to go through with anyway. And of course, all the professionals know that. So believe me, they come back with the diligence whether they're due or not. And we are not big fans of that. We have – I don't know how many deals we've made over the years, but I cannot think of anything that traditional due diligence has had a thing to do with.
CharlieNo, we've had surprises on the favorable side. Yeah, that is true. That is true. That is true. The kind of people that we've generally dealt with have usually told us the bad things first and good things after we made the deal.
[2:52:10]
WarrenWe made a deal with a fellow over in Rockford in 1969, Eugene Abegg, the Illinois National Bank and Trust Company. I made that deal in a couple of hours. And, I mean, there just wasn't any way that Gene was going to be hiding anything bad. For the next 10 years, when I went over there, every time I go to lunch, he'd point out some building it down that we owned that wasn't on the books or some foundation we had that had money in it. He hadn't told me about. And he even gave me some bills, one of which I carry in my pocket that he had still sitting around with the – that were issued by the bank, that were our own money, which he never told me about yet. And we could cut them out like paper dollars. I mean, Gene was not a guy to show. show all his cards. And those are the kind of people we've generally dealt with. And I would certainly say that Melvin and Shirley fit that description in spades. We're now at 3.30. It's been a lot of fun this weekend. I'm glad you came, and I hope to see you next year. Thank you.