WARREN BUFFETT: OK. We'll go to zone 8.

AUDIENCE MEMBER: Where's the light?

Good afternoon, Mr. Buffett. First of all, I want to thank you for responding to all my letters throughout the years. I will always treasure them.

Last week, demonstrations in many cities across the United States took place on the subject of illegal immigration. Many companies want to stay in the U.S. but have grown dependent on cheap, illegal labor as a way to remain globally competitive.

A recent Businessweek article describes Shaw's competitor, Mohawk Carpets, and their employment of illegal immigrants. If illegal immigration reform were to occur, how would you see this affecting Shaw, Clayton, and other Berkshire subsidiaries?

WARREN BUFFETT: Yeah. I didn't read that, and I don't know much about the Mohawk situation. I don't — I don't know anything about it.

I'm sure in Nebraska, you know, there are very substantial numbers of illegal immigrants employed. Meatpacking has been an area that a number have gone into.

And I actually was down at the Omaha airport about 2 years ago, and there was a very large plane there, and I saw these — well over 100 people that were in shackles that were being put on that plane.

I kind of wondered what they did, if they ever had some kind of emergency on the plane. But they were being deported. So there's a lot of it goes on in Nebraska.

You know, I think it's a problem that should be addressed and addressed promptly. I don't believe in shipping 11 million people back away from the United States. Whatever acceptable way that the country can handle giving those people citizenship, I, basically, would support.

I think we ought to enforce the rules in the future. I think they ought to be liberal rules, but I think they ought to be enforced.

But I don't think it would make dramatic differences. I mean, if one meatpacking plant employs people at subpar wages, you know, the rest of them are going to do the same thing.

You may end up paying a little bit more for meat in the end, but I do not think it would have a dramatic effect on the economy or even on specific industries, except to change, maybe, relative prices a bit.

But I don't think it would have a dramatic effect on the economy if the people that are here illegally became legal in some manner.

You know, who's to say if Charlie and I had been born into some terrible situation in some other country, we wouldn't have tried to get into this place ourselves.

So it's a — I'm pretty empathetic with it, but I believe that we do need to have laws that are enforced in the future. I don't think we should send 11 million people back.

Charlie?

CHARLIE MUNGER: If you don't like the results, I think you should get used to it because we never seem to have the will to enforce the immigration laws. I just think that what you've seen is what you're going to get.

WARREN BUFFETT: I don’t — in terms of the carpet industry specifically — you mentioned Clayton Homes. I wouldn't — I would think the mobile manufactured housing industry — I'd be surprised if there was any unusual number at all of illegal immigrants, but I — the answer is, I don't know that for sure.

But I don't see any change in those industries.

WARREN BUFFETT: Number 9?

AUDIENCE MEMBER: Hi, Warren. Hi, Charlie. My name is Jeremy Cleaver (PH), and I come from Lawrence, Kansas. I'm a Jayhawk.

And what do believe is the best finance program in the U.S.? (Buffett laughs)

Also, I will be graduating in a year. Could you compare and contrast the financing opportunities now and when you graduated college?

WARREN BUFFETT: He comes from a school that has set some classes up in the last couple years that are absolutely terrific.

I’ve had — I will have in this school year, probably close to 40 schools where the students come out. And now I usually double up schools, because 20 of these a year is about all I can handle.

And we've had some terrific groups come out. And I would say that the teaching in finance departments, based on what I've seen, has improved quite a bit over 20 years ago. But that was from a very, very low base.

The orthodoxy of 20 or so years ago where, really, you know, the flat Earth was being embraced, has improved considerably.

And one particular place is KU. Professor Hirschey has done a great job. (Applause)

Missouri, Florida, Columbia, a lot of good schools — Stanford — have got people in those departments that are doing a very good job.

And 25 years ago, you'd have had a tough job getting a position at a finance department, and you certainly would have had your advancement stifled, unless you went along with the orthodoxy: efficient markets and modern portfolio theory and a lot of stuff that, not only wouldn't do you any good, but might get you in trouble.

And that has — that's improved a lot. And I enjoy seeing these groups of students as they come out, because it's quite encouraging. Now, they all think they're going to get rich by, sort of, copying what Charlie and I did many, many years ago. I wish them well.

It's — the amount of brain power going into money management gets a little distressing, particularly to Charlie. But I would — you know, it's a great time to be 22 or 23 or 25 and getting out of school.

So, you can look ahead to a very — I think a very interesting future in this country, even though you may find that the method of using the talents you have in investing get used in a somewhat different manner than where they — where they're used presently.

I mean, right now an awful lot of the students that come to visit Omaha say private equity or hedge fund, and it's hard to imagine a world where everybody is running a hedge fund. I'm not sure exactly what we would do for food and clothing, and a few things like that.

But I am encouraged by the kind of students I meet. When the KU group comes up — we had a great time. They put on various skits. They tried to sell me companies. I'm hoping they succeed.

We haven't had any luck yet, but they keep coming up with good ideas, and I'll keep pursuing them. And one of these days, every one of those students will get — I've offered them two B shares, and that's a limited-time offer to try to spur extra activity.

And I hear from a lot of students later, and I think a lot of them have their heads screwed on right. Charlie?

CHARLIE MUNGER: Well, I've heard that something like half of the business school graduates in the elite eastern schools want to go into private equity or hedge funds.

And those whom I bump into seem to judge their progress in life as to whether or not they're keeping up with their age cohort at Goldman Sachs. That appears to be the minimum standard by which progress of life is measured, and this can't possibly end well. (Laughter)

WARREN BUFFETT: You can see why they come —

CHARLIE MUNGER: — in terms of satisfying all these expectations.

WARREN BUFFETT: That's why they come to see me instead of Charlie. (Laughter)

He'd give them better advice, don't misunderstand me, but go away with very long faces.

WARREN BUFFETT: Number 10?

AUDIENCE MEMBER: My namaste and good afternoon to Swamiji and respected Charlie Munger. Yes, I did say "Swamiji." I see your inner dress crowned by your truth, by your humbleness, by your simplicity.

But your outer dress — I mean your wealth — is for the needy, at large. So you look upon us, your children, your friends, and your partners.

My name is Shekhar Agarwal. I'm from Sugarland, Texas, suburb of Houston.

Since May '99, I got interested in Berkshire Hathaway. And I have read a lot of what you have written. So, I can judge a little about you.

By the way, I bought B shares March 3, 2000, at 1410 before they hit the low on March 10, and it became at that time 40 percent of my portfolio, and I still own all those shares and many more.

As you tell the students who come to Omaha to run a portfolio with real money to have a real feeling and real learning, I had the same experience with you.

You know, three years back, I had a chance, with my wife, my daughter, and my 6-year-old son, who is with me today, to spend a few minutes with you when you came to Houston during the opening of a new Star Furniture store.

As we were posing for a family picture with you, my 6-year little one was standing just beside you, while you were sitting on a high-bar chair. And you said to this stranger, “Son” — you said — "Son, you come and sit in my lap." Sir, Swamiji, that is your simplicity. That is your humbleness.

And you talk about the contribution of Ajit Jain and ask us to bend really down if we see him, or name our children Tony to honor his contribution. Well, 40 years of selfless services to this corporation and to the humanity, you rightly deserve this distinction or this title of ”Swamiji.”

There is a beautiful, beautiful — (Applause) — beautiful prayer in the Holy Vedas that says “tvam jīvehiṁ śaddhā-śataṁ.” It means, “The Almighty God says, ‘Oh, my child, may you live hundred and longer peacefully.’”

So that's my wish. That's my prayer on your 75th birthday. And, Swamiji, I'm waiting for my chance to touch your feet and get your blessings. (Applause)

WARREN BUFFETT: Thank you.

AUDIENCE MEMBER: Let me finish, please. Swamiji, I have a question anyway. (Laughter)

A lot of business people have a great amount of respect and trust for this 75-years-young teenager girl who is sitting by the phone waiting for it to ring, and now and then that phone rings.

I have no concern about the next CEO of Berkshire Hathaway to take this company forward, but I do wonder about this phone. It may not ring as often as it does now, until the new CEO earns the respect and the trust of these phone dialers.

Do you see that a concern? And do you think it is a good idea that you may become the only chairman, and let someone else become the CEO, and let him earn the respect and trust under your umbrella while you are still young and healthy? Thank you very much.

WARREN BUFFETT: Yeah. Thank you. (Applause)

I don't think there's any question, but — that my successor, you know, will go through, sort of, a media probation-type affair for a year or so.

And people will, understandably, wonder whether the culture is going to be different under the successor than it’s been at this point.

That's going to happen. It won't be the end of the world. It will mean that the phone will — it — the phone probably won't ring less, it will just be a different kind of suitor that is calling.

The investment bankers will all try out this guy to see if he's softer than I am and wants to participate in auctions and all of that sort of thing.

But I think it will become evident — and it will take a year, two years, maybe — I think it will become evident that the culture is the same, that the yardsticks, the metrics, the attitude towards shareholders, the whole thing, will not change, the board will not change.

But I think there will be a hiatus of sorts where people do not have the same feeling immediately that joining Berkshire is going to be the same experience as it — with our companies — as its been in the past. But it won't last long.

I can tell you that the successors that the board has in mind — you know, they're very smart. They understand. They've bought into the whole corporate personality we have.

And they will develop — be somewhat different in style, but they will — they will develop the confidence of the world that — and to possible sellers of businesses — they will develop the confidence that it's going to be the same Berkshire going forward.

But it's a good question. And there will be — there will be a period when the phone won't ring for a while until people realize that Berkshire is, sort of, one-of-a-kind, and it's continuing to be one-of-a-kind.

I don't think it would work well, you know — but it's the kind of the thing we talk over with the board, though — but I don't think it works well to have, sort of, a half-and-half arrangement.

I mean, you could say that I could handle, or encourage the handling, of the deals and somebody else could, sort of, be the operating guy. But the truth is, we don't need an operating guy.

You know, we've got people running the businesses that are running them, and they're very good at it. And the main thing to do is to not destroy or damage the spirit they bring to it and the fact that they like this method of operation.

So it would — I'm not sure what a chief operating officer would do at Berkshire except expose the fact that I wasn't doing anything. (Laughter)

And as long as I'm around, they're not going to get the calls on the deals. I mean, people are going to want to talk to me. I mean, that's not a handoff that would work.

So I think we'll go along in this mode. And, you know, you will have a period, everybody — there will be stories a year after I die that, you know, says one year later and what's happened and all that sort of thing, but that will fade out.

And my successor will put his own particular stamp on the place, but he won't mess with the culture. They're too smart. They've seen it work too well. So that — the calls will start coming in again after a while.

We will still represent, sort of, a one-of-a-kind place for the owner that really cares about the future of his business.

For one reason or another — tax reasons, family division of shares or something — you know, they have to — they have to solve the ownership problem.

But they want to solve it in a way that really doesn't change the psychic ownership of the place and the management of the place. And they can't find that elsewhere, and they'll continue to find it at Berkshire.

Charlie?

CHARLIE MUNGER: Well, speaking for the Munger heirs, I would rather the current method of operation continue to wring the last drop of good out of Warren. (Laughter)

WARREN BUFFETT: At low pay.

CHARLIE MUNGER: Yes, yes.

WARREN BUFFETT: Part of Charlie's instructions under all circumstances.

No, if we — if we thought there was some better way to make this place function better or to even make the transition easier to the next person, you know, we'd be delighted.

But I really think it's going to work pretty darn well. If I die tonight, the person who will take over tomorrow will not get as many phone calls for a while, perhaps, but very, very smart people. Know the business. You know, they know a lot about all businesses. They've got a general business knowledge.

I use "they" because there's three candidates, but there would be one specific one in mind. They know how to make deals. These people are plenty deal-savvy, and they know how to avoid other kinds of deals, which is equally important.

And the world would not fully grasp that for a year, maybe even two years. But once it happened, you can argue that it would be even stronger than before because at that point people would realize that it was institutionalized and not just a person.

You've got a — kind of a hat — I mean, I don't want to compare myself because it's not in the same league, but, you know, everybody, when Sam Walton died in, I think, 1991 or something, wondered whether Walmart would continue in the same tradition.

Well, the fact that it did has made that place a lot stronger than if it had just depended on the guy in the pickup truck. I mean, it was not — it was the creation of one person at Walmart, but it was not required for the continuation at all. And we're not in the same league, but it's the same idea.

WARREN BUFFETT: Number 11.

AUDIENCE MEMBER: My name is Martin Wiegand from Chevy Chase, Maryland. Mr. Buffett and Mr. Munger, on behalf of the assembled shareholders, we thank you and all the Berkshire staff who put so much work and thought into making this weekend such a wonderful community-building event. (Applause)

WARREN BUFFETT: Martin, is Janie (PH) with you?

AUDIENCE MEMBER: Yes, sir.

WARREN BUFFETT: OK. Well, she sent me some great sweetbreads the other day. I love them. Keep them coming. Thank you. (Laughter)

AUDIENCE MEMBER: Through the years, you have generously helped us thinking through capital allocation decisions for funding our businesses and feeding our families.

Would you please help us think through the capital allocation decisions we face when it comes to charitable giving, particularly as it concerns how we pick effective charities? Thank you.

WARREN BUFFETT: You know, it's tough to give other people advice on that. But, you know, you have to pick the things that are important to you. And, you know, many people — majority in the United States — it's their church. You know, there's more money given to churches than anything else.

Many people — very many people — it's their school, or schools generally. You know, I think, to a great extent, you should pick whatever gives you the most satisfaction, and that will probably be something that you know, something you've, maybe, benefited from yourself.

I look at it a little differently. The amount of funds are different, too, but I like to think of things that are important but that don't have natural funding constituencies.

But that isn't something, you know, for millions of people to be following as an example or something. Nothing wrong with doing something that gives you plenty of personal satisfaction and does some good for other people in the process.

So I would not be reluctant — I would not feel I had to be as objective about that, necessarily, as I was about buying securities or something of the sort. I would, kind of, go where my gut led me and make it something you participate in.

And, like I say, I think if you're doing it with large sums, you may have some reason, maybe even some obligation, to try and think about where really large sums can have an important impact on a societal problem that might not get attention otherwise. And, you know, that's, sort of, where my own thinking leads me.

But I would — I would go with something where I felt I knew where the money was going to go and I knew some good was going to come out of it. And maybe, by observing what took place, I could make the next gift more efficient than the last gift and more beneficial.

Charlie?

CHARLIE MUNGER: I've got nothing to add. But I have a question: would you pour me a cup of coffee? (Laughter)

WARREN BUFFETT: We don't sell coffee, Charlie. We sell Coke. (Laughter)

We get the profit on one out of every 12 Cokes. So I don't care whether you drink them, just open the can. (Laughter)

WARREN BUFFETT: Number 12.

AUDIENCE MEMBER: Good afternoon. My name is Robert Piton (PH) from Chicago, Illinois.

And my question is, did the possible future deployment of telecommunications services over power lines factor into Berkshire's decision to invest in the utility space? Thank you.

WARREN BUFFETT: Yeah. The answer is no. We're in the utility business — the regulated utility business — because we like the business as is.

Where it leads, you know, will be determined — well, in specific states — by what they want us to do and maybe by technological changes, generally.

But we're going to earn a return on capital employed if we do an efficient job, keep consumers happy, whether we transmit it the old way or, you know, some new processes come along.

So it's a business where we're trying to be efficient, which means serving our customers while keeping their costs down as much as possible. And we will — even in terms of what generating sources we use — we are following the will of the people in the states in which we operate.

There are different costs associated with different forms of generation. And we feel that if people want to elect a more expensive way to generate electricity but one that they're more comfortable with in terms of the environment, you know, that's the decision of the people whose state in which we operate.

And we — so I do not see us — I don't see any large developments that change the economics of what we're doing. And we're certainly not going in — we're not buying an electric utility because we expect it to generate revenues from activities other than that.

Charlie?

CHARLIE MUNGER: Nothing to add.

WARREN BUFFETT: Number 1.

AUDIENCE MEMBER: OK. First, my name is Egil Dahl. I'm a retailer from Norway. I would like first to thank you gentlemen for the opportunity to come here and ask two of the best businessmen in the world a question.

My question is regarding the media and entertainment business. Do you think that the nature of newspapers, magazine, television, and maybe movie and music business as well, are about to change permanently and become less predictable because of new technology and internet?

And the second part is, if not so, do you think that some of these businesses represent good purchases at the moment because the market thinks so? Thank you.

WARREN BUFFETT: Well, people are always going to want to be entertained and they're going to want to be informed and some mix thereof. But, you know, we only have two eyeballs, and we only have 24 hours a day.

So if you go back 50 or 60 years and think about how people got informed or entertained then, the choices were far fewer. You had the local movie theater, and you had the radio, and you had newspapers.

And as the years have gone by, what technology has done is opened up a huge variety of ways of being informed faster, certainly. And whether it's better or not depends on who you ask.

And certainly entertained in way many more forms, many that are free. And it hasn't expanded the time you have for entertainment or for acquiring knowledge.

And any time you get more and more people competing in any given area, generally, the economics deteriorate.

And the economics have deteriorated for newspapers, although they're still enormously profitable in relation to tangible equity employed, but they do not have the same economic prospects, if you look at the future stream of earnings, that it looked like they had 20 or 30 or 40 years ago.

And television, again, the margins have been maintained surprisingly well, but the audience keeps going down and — for any given means of distribution.

So, that has to erode economics over time. Cable was thought to operate pretty much all by itself, and the telecoms come in.

And very few businesses get better because of more competition. They like to talk about it, you know, but it — you know, the idea —

I had one friend in the newspaper business. And I think Charlie used to tease her a bit by saying that her idea of a competitor was a corpse laid out on a slab with a toe twitching, you know. And the — it is not a better business when more people compete.

So I think that, generally speaking, the economics of media businesses do not have a great outlook, I mean, compared to — like I say, they're enormously profitable now, in returns on tangible assets.

I mean, it's a business — you know, a license from the federal government became a royalty stream on huge amounts of money.

I mean, there were only three highways between — electronic highways — between Procter & Gamble and Ford Motor and the eyeballs of several hundred million people, and those three highways could make a lot of money when there were only three highways.

But you keep building more ways to — for the P&Gs, or the Gillettes, or whomever it might be, or Ford Motor, or General Motors — to get to those eyeballs, and you decrease the value of the highways. It's not complicated.

So, I think you will see — it's hard to imagine those businesses having great prospects in aggregate.

We owned the World Book. We still own the World Book. We were selling 300,000 sets a year or something like that in the mid '80s. It's a very valuable product. It sold for $600 or thereabouts, and it was worth it.

But the problem became that you could get that same information, or a good bit of the same information, you know, very, very cheap through the internet.

And you didn't have to cut down trees. And you didn't have to run paper mills. And you didn't have to hire United Parcel Service to deliver a very bulky package.

And it isn't that the product we have isn't worth the money; it's that people have lots of other alternatives. And that's true in information and entertainment in a big, big way, and it won't stop, in my view.

Charlie?

CHARLIE MUNGER: Yeah. It's simplicity itself. It will be a rare business that doesn't have a way worse future than it had a past.

WARREN BUFFETT: Give them the bad news, Charlie. (Laughter)

The thing to do was to buy the NFL originally or something like that.

I mean, you know, there still is only — you know, there are certain primary events, but it's the people who transmit them — there's more ways to transmit those events, and so the value gets extracted in a much different way.

WARREN BUFFETT: Area 2?

AUDIENCE MEMBER: Good afternoon. My name is Yuji Siamoto (PH) from New York City.

I would like to ask Mr. Buffett regarding your views in respect to currency: the renminbi, the yen, and the euro, in particular.

During the visit by Hu Jintao, this issue of the currency level had become a big issue. And increasingly, this is becoming a very, very important issue for economic health of this country.

United States is becoming highly dependent on very cheap, underpriced Chinese exports in all consumer goods. You go to Walmart, and most of the high product — high-end product electronics — or most of the — any value-added products — are manufactured in China.

U.S. is almost addicted to very low-priced Chinese goods, thanks to artificially maintained currency level. At the same time, U.S. is becoming addicted to very cheap capital from China and Japan, as they provide infusion of capital to U.S. Treasury markets, thus keeping the interest rate low for mortgage rates.

I see a great danger if this is maintained for long time, as U.S. becomes addicted to this cheap Chinese or Asian exports for all our consumption, and also for all of our cheap mortgage rates.

And this is almost like being addicted to opium, as Chinese were addicted to opium during Opium Wars.

And should government try harder to break this vicious cycle? And, if so, what would you think about the currency level?

And you have — previously, you have held very strong views about the dollar, but what are your views now, and are you capitalizing on your views on the currency?

WARREN BUFFETT: Yeah. Well, my views — and Charlie may disagree — but my views are strong as ever, perhaps a bit stronger. The — we are doing less directly in currency futures because the — as I explained in the annual report — the carry cost has gone from being positive to quite negative.

So there are better ways, in my view — considerably better ways — of mitigating the consequences of the dollar becoming a lot weaker in the future.

We like the idea of developing earning power in other currencies around the world, and, in effect, in ISCAR itself, the — a large portion of the earnings are not in dollars, and we're doing it in other areas as well. We will hold less in currency futures unless the carry picture changes.

But the fundamental picture, what, in my view, is almost — you never say "certain," but a very high probability of happening, is that the U.S. currency weakens over time.

No idea about the next 6 months or year or anything, but over a long period of time, weakens against other currencies because we are following policies that don't seem much — don't seem to leave much alternative.

Here is a quote referring to running a large current account deficit that was given on February 28, 2002. The quote is, "Countries that have gone down this path invariably have run into trouble, and so would we. Eventually the current account deficit will have to be restrained."

Now, that was said by a very smart fellow whose name was Alan Greenspan. And at that time, the current account deficit was 385 billion, and it will be more than double that now.

So here, 4 years later, we have gone down that path, which he talked about, and we've gone faster and faster down the path. And he says, invariably, it runs into trouble.

Now, in his later years as Fed chairman, he did not emphasize this view as much. He never repudiated it, but he sort of talked about other things more.

But it — it's going to lead to something, and it — in my view, it's likely to be something significant. And people talk about a soft landing, but they never explain to me exactly how it's going to take place.

And Chairman Bernanke recently gave a talk where he said the probabilities were that the ending would be good but that he couldn't rule out the possibility otherwise.

I think you will see significant consequences at some point. We will have, at Berkshire, a fair amount of our earning power coming from other countries with other currencies, but we will always be primarily in the United States.

And, you know, we may — one consequence certainly seems possible is significantly higher inflation as the years go by.

Because as you owe more and more money as a country, it gets more and more tempting to devalue what you owe by paying in a cheaper currency than in the one in which the debts were incurred.

Charlie, what do you have to say on this?

CHARLIE MUNGER: Well, I don't feel I have any special capacity to predict whether the euro was exactly priced right, right now. I don't consider it a big deal that Berkshire has had the position it’s had.

In effect, about half of our surplus cash was stashed short-term in currencies other than the dollar. I regard that as almost a nonevent. Now, as it happened —

WARREN BUFFETT: Well, we made a couple billion dollars off it. (Laughter)

CHARLIE MUNGER: Yeah. I was — as I was about to say, that as it's happened so far, it's been a very profitable nonevent, but... (Laughter) Generally —

WARREN BUFFETT: If it doesn't mean anything to him, he can always give his share to me. (Laughs)

CHARLIE MUNGER: Yeah. Generally speaking, it can't be good to be running a big current account deficit and a big fiscal deficit and have them both growing.

I mean, a great civilization may be able to stand something like that for a way longer period than you might have thought at the outset.

But you think that in the end, there would be a comeuppance and that we would have to change policies, perhaps painfully. In fact, I would say almost surely painfully. Wouldn't you, Warren?

WARREN BUFFETT: Yeah, I would. And it's interesting because I think almost everybody says it's unsustainable, and then they never explain how it doesn't keep being sustained until something comes — very unpleasant comes along.

But then they also say that there will be a soft landing, and I don't always get from A to B to C when I listen to them. The —

Certainly the longer it goes on, the greater the credit — the greater the net debtor position the United States is in, the more people see that we are, sort of, addicted to this kind of behavior, the more chance there is at some point, probably brought about by some other extraneous affair, that currency doesn't —

There aren't some big adjustments that take place and, perhaps, some chaotic markets in which currency adjustments play a part. But knowing when or exactly how, it's impossible to say that sort of thing — predict that sort of thing.

Charlie and I, in the 1980s, saw something called "portfolio insurance" — and that was a very popular term then — catch on with institutions.

And what happened was that a group was around selling the idea that this was a sophisticated, superior way for large institutions to manage money. And they charged appreciable sums for people — to people — to set up mechanistic procedures for dealing with stock market fluctuations.

They did this with pension funds and various big guys. And it was very popular, and the academic literature was full of it, and people were teaching about it in the schools.

And then October 19, 1987, came along, and a relatively small portion of American money invested — American investments — were being guided by this portfolio insurance doctrine.

But just that small amount of money was a leading factor in producing a 22 percent change in the value of American stocks in one day.

Every one of these people individually thought what they were doing was intelligent, but, when aggregated, and having to follow a given signal, in effect, you created a doomsday machine. It was out of control, and some really chaotic things happened then.

I would say the potential for that sort of thing — not that exact thing at all, but that sort of thing to happen in the world ahead is — it's probably magnified quite a bit from what existed in the '80s.

And currency enters into it, but it's not — who knows where it starts or exactly why somebody yells "fire." But when "fire" is yelled, there will be — the currency markets will play a part in the rush for the door.

WARREN BUFFETT: Number 3.

AUDIENCE MEMBER: Hi, there. Alex Rubalcava from Los Angeles.

Warren, you just brought up the topic of inflation, and so I wanted to ask, do you believe — or do you believe that the Consumer Price Index is a good and true and accurate measure of inflation?

WARREN BUFFETT: Well, that's a good question. Bill Gross has written a little bit about that in some of his PIMCO methods and — messages. And, you know, if you go out to the Furniture Mart and construct a price index, it hasn't moved very much.

I mean, it makes it very tough for comparable store sales when you were selling DVD players at X few years ago, and now you're selling them at a quarter of X. So there's certain areas that there have been a huge — in effect, deflationary aspects.

But I do think the CPI — and, like I said, Gross has written about this — but the CPI is not particularly a good index.

I always get a kick out of when they talk about the core CPI, and then they — and they say that excludes food and energy.

You know, food and energy strike me as pretty core to anything, in terms of the average — I can't think of anything that's much more core.

The CPI, as you may or may not know, many, many years ago had housing figured in directly.

There is no — the CPI now has a rental — which is an imputed rental type computation. It's still a large portion of the CPI, but it does not reflect the new housing prices, or —

And rentals — the rental factor has lagged, in my view, significantly below what housing costs really are for an American family. And since housing is a big portion, I don't think it picks it up well.

So I would say that the CPI has understated inflation for a great many people.

Now, if you're older and you own your own house — I mean, everybody has their own way of living.

And, I mean, if all you do is drink Coca-Cola all day, you know, Coca-Cola hasn't gone up in price enough, in my view, and you — my CPI has not changed very much.

But for somebody buying a new house versus 6 or 8 years ago and driving 30 or 40 miles to work or having a lot of driving in the family, the CPI has gone up a lot more than the government figures would indicate.

Charlie?

CHARLIE MUNGER: Yeah. I see it at Costco where there's been almost no inflation in the composite product that flows through Costco, and, yet, in other places you get these dramatic rising figures.

I don't feel sorry for the people that pay $27 million for an 8,000-foot condo in Manhattan. You know, if they've had little inflation, I guess it doesn't matter to the rest of us.

But it's almost weird the way the situation works in terms of how it's —

WARREN BUFFETT: Yeah.

CHARLIE MUNGER: — it comes in just a few places.

WARREN BUFFETT: If you look at the Costco annual report or the Walmart annual report — these are huge enterprises — and you'll see their LIFO adjustment is just peanuts.

CHARLIE MUNGER: Almost nothing.

WARREN BUFFETT: Yeah. Just peanuts — is Costco on LIFO for —

CHARLIE MUNGER: Sure.

WARREN BUFFETT: — for fuel? I know they're on LIFO generally. Are they on it for gasoline or not?

CHARLIE MUNGER: I think so. I can't imagine they're not.

WARREN BUFFETT: Yeah. But they wouldn't have a large inventory relative to —

CHARLIE MUNGER: No.

WARREN BUFFETT: — their sales volume. But they — at Walmart, it's inconsequential. I just got through reading their annual report, and the LIFO adjustment isn't worth a hiccup, you know, basically.

And you're dealing with 300 billion — well, in the United States a little less than that — but $200-and-some billion worth of sales, and the LIFO adjustment would have picked up changes in prices of that mix overall relative to their inventory level.

So in jewelry, you know, because of gold and some things, we had some big LIFO adjustments last year.

Steel, we've had big LIFO adjustments. We have a steel service center in Chicago and we buy a lot of steel at MiTek and there's a big LIFO adjustment. So it's very uneven.

Carpet went no place for 20 years, but because it's petrochemical-based, there have been substantial price changes in the carpet business in the last couple years.

And our LIFO — we had a LIFO net — a minus LIFO figure, in effect — 3 years ago, and now we have 100 million or so of LIFO adjustments. So there's been a significant price change there.

I think overall, though, for a typical young family, that the CPI probably underestimates the burden they have faced, in terms of their own living situation.

WARREN BUFFETT: Number 4.

AUDIENCE MEMBER: Hi. I'm Mike Kelly (PH) from Iowa City.

We've heard a bit about ISCAR today. Could you tell us some things about some of the other acquisitions of the past year?

WARREN BUFFETT: What would you like to know, Mike? (Laughter)

AUDIENCE MEMBER: Um.

WARREN BUFFETT: I mean, we described it a bit in the annual report, but —

AUDIENCE MEMBER: Right. Well, I believe since the annual report, there have been a couple others. Russell, for instance.

WARREN BUFFETT: Yeah. Russell is in the works. There's just been a proxy statement that isn't out yet, but it's been filed with the SEC. You can get a copy of the filing. But that is one in process and is probably a couple months off from actual completion.

You know, we — I described the Business Wire situation in the annual report where I got a letter from Cathy after reading — reading a Wall Street Journal article. And, you know, these — they just all sort of pop up.

Medical protective, I think I suggested to Jeff Immelt at GE, that if — I knew they were interested in doing things with their insurance assets, and I suggested that was one portion of their insurance assets that Berkshire would have an interest in. And he and I met one time and we made a deal on that one.

PacifiCorp — that originated with Dave Sokol and the people at Scottish Power. I'm not even exactly sure what the sequence was.

But the one thing we haven't done is we haven't participated in any auctions.

I get books occasionally on various businesses, and the projections are just plain silly in these books. I mean, it's a — I would — maybe that's why they don't sign their names in the books, the people that write them, because they'd be embarrassed about the projections they put forth.

I would just love to meet the people that write those investment banking books and make them a bet on the earnings that they project four years out. I would win a lot of money over time. They wouldn't be met.

But we get the calls, occasionally, from the people that care about where their businesses end up.

We're going to close on Applied Underwriters in just probably a few days, and those are two terrific guys, built it up from absolutely nothing.

Actually, I bought a tiny business here in Omaha — as I explained in the report — that's why it's here.

But they wanted to come with Berkshire. They think their own — they're keeping 19 percent of the company. They think their own future will be the best in many ways, including financially, I'm sure, of being associated with us. They feel it's the best place for the people, have the most opportunity to grow. And, you know, they came to us directly.

You know, I don't know how many stories you read about a $4 billion deal, as appeared today in connection with ISCAR, where it doesn't say anything about an investment banker, on either side.

But you'll see more of those, I think, with Berkshire over the years.

Charlie, do you have anything in particular to add on our acquisitions recently?

CHARLIE MUNGER: Well, the interesting thing about it to me is the mindset. With all of these new helpers in the world, they talk about doing deals. That is not the mindset at Berkshire. We are trying to welcome partners. It's a total different mindset.

The guy who's doing a deal, he wants to do the deal and unwind the deal and — not too far ahead and make a large profit, et cetera, and that's not our mindset at all.

We like the things that we can buy and that never leave us, and we like the relationships that last and are fruitful, not just for us, but for the people working there and the customers and everybody else.

I think our system is going to work better, long term, than flipping a lot of deals. And we have so many new deal flippers in the game that I think they're going to get in one another's way.

In other words, I don't think there's enough money out there to have all this new class make all the money they expect to make on a permanent basis just flipping, flipping, flipping, flipping.

WARREN BUFFETT: They'll make it on fees, fees, fees, fees. (Laughs)

CHARLIE MUNGER: Warren reminds me, once I asked a man who just left a large investment bank — and I said, "How does your firm make its money?" He said, "Off the top, off the bottom, off both sides, and in the middle." (Laughter)

WARREN BUFFETT: I know which firm he's talking about, too. (Laughter)

CHARLIE MUNGER: That's not our culture. And a lot of you have been here so long, you can see that's not our culture. But in the end, it may be that Omaha will do better than Wall Street.

WARREN BUFFETT: Number 5. (Applause)

AUDIENCE MEMBER: Hi. Steve Rosenberg (PH) from Michigan, originally. First, I'd just like to thank you both very much for continuing to serve as role models for integrity and common sense.

Can you describe a little bit more specifically — (Applause) — how a derivatives meltdown might progress and, ultimately, get resolved after it's been precipitated, and is there a plausible way to resolve it without some sort of a major bailout that would exacerbate a too-big-to-fail moral hazard problem?

WARREN BUFFETT: It's really hard to tell. I mean, it — you know, it — what will cause people to yell "fire," what will — how many people will rush for the exits, what they'll do when they get there — it happens occasionally.

You know, with LTCM — Long-Term Capital Management — in 1998, you know, it affected the financial world in a big way. It didn't affect it in the biggest way. I mean, the feds stepped in. But there were some pretty — pretty strange things happened during that period, in markets.

What happened in the junk bond market in 2002? I mean, it closed for a while almost, and it was chaos. So it's very hard to know exactly what would happen. I'll give Charlie a question here.

In 1991, when we were in Salomon — it was in August, middle of August — and on a Sunday we were within, probably, a half an hour of seeking out a federal judge to turn over the keys to the place to him and go into bankruptcy.

And, fortunately, the Treasury reversed itself, and we got out of that particular predicament. But the law firm was drawing up the papers for bankruptcy.

Now, that was on a Sunday. What would have happened Monday — and we had a good — we had, for those days, a good-sized derivative book. It would be peanuts now, but it was — it looked big at the time. We had a lot of security settlements due the next day.

Now, it happened to be the same day that Gorbachev was spirited away, and the Dow opened down a couple hundred points the next day off of a much lower Dow.

Now, if you had superimposed upon that the fact that Salomon failed in Japan starting at 7 o'clock or so the previous night and that it was — if you were delivering securities to them against payment the next day, you weren't going to get paid.

And if you were expecting securities from them, you weren't going to get those securities. And, by the way, you had a — I think a 6- or $700 billion derivative book.

And people who had traded off those derivatives had to try and figure out where they stood and scrambled around and whether their counterparties were any good.

What do you think would’ve happened on that Monday, Charlie?

CHARLIE MUNGER: Well, it could have been absolute chaos. That was a very interesting story with an interesting moral. Nick Brady really prevented that bankruptcy.

And he knew about Berkshire Hathaway from having been a family shareholder with the Chaces way, way back. And that had caused him to follow the matter with interest, particularly since he'd sold his own stock and watched his relatives, the Chaces, hold theirs.

So he knew about us, and I think he trusted you, Warren. And I think that mattered that day. So these old-fashioned reputational —

WARREN BUFFETT: Well, what would have happened the next day? I —

CHARLIE MUNGER: Well —

WARREN BUFFETT: It was terrifying. I'll put it that way.

CHARLIE MUNGER: Yeah, it was terrifying. And — but there was an element of personal reputation in the avoidance of finding out what would have happened that next day.

WARREN BUFFETT: Kim Chace, who I introduced you to earlier, his father actually introduced me to Nick Brady many, many years earlier, mid '60s, when Nick was working — was at Dillon Read and Malcom Chace said, "I'd like you to meet" — I guess he was a nephew or grandnephew.

In any event, I went over to Dillon Read and — I would have been in my 30s then — and Nick was a few years older — and we had a good time talking.

And then in 1991, he was secretary of the Treasury. And the Treasury had issued a death sentence to us at 10 o'clock in the morning on Sunday, and, fortunately, Nick, reversed that about 2:30 in the afternoon.

And if he hadn't, I don't know what would have happened. But that would have been kind of a pilot case for a mild derivatives daisy-chain-type panic. But that would be nothing compared to something now.

If — now, there's way more of the stuff that is collateralized these days than formerly, but it would not be a — it's not an experiment you would want to voluntarily conduct, I'll put it that way.

WARREN BUFFETT: Number 6.

AUDIENCE MEMBER: Hi. My name is Jeremy from San Diego. And, first of all, I want to thank you all for the tremendous impact that you've had on my career as a professional investor.

My question is also about the newspaper industry that the gentleman earlier touched on.

And for some of those same points that you brought up, some of the largest newspaper stocks seem to earn incredible return on invested capital as compared to a lot of the businesses in the S&P 500.

My question is more specifically related to valuation. If either of you were looking at a newspaper stock today and watching them fall, as some people may categorize falling knives, what would you use to determine — or how would you determine a very comfortable margin of safety to protect yourself against the deteriorating aspects of the newspaper industry?

WARREN BUFFETT: Yeah. Well, the question is what multiple you — what multiple should you pay for a business that's earning $100 million a year — call it pretax — whose earnings are going to go down 5 percent a year compared to what you should pay for a business with a — that's earning $100 million a year whose earnings are going to go up 5 percent a year.

And I would say that — I'm not saying that those are percentages I predict on newspaper companies — but certainly newspaper companies face the prospect of their newspaper earnings eroding.

And we've seen some of it already. We see every trend pointing in that direction. We own a newspaper ourselves.

And, you know, I do not think the circulation of our paper will be larger in five years, and I don't think the advertising pages will be greater.

And I think that's true even of newspapers that operate in more prosperous — or, actually, more growing, I should say — areas of the country than we do.

So — but I don't think — I don't think most owners of papers still have quite gotten to the point where they start projecting out declining earnings.

Certainly multiples on newspaper stocks are unattractively high if you would see some decline, like 5 or 6 percent a year on earnings, occurring to this point. They just — they're not cheap enough to compensate for that sort of erosion in earning power.

And then you face the added risk that they may have, sort of, a perception lag and that they may continue to use some of that money to buy other newspapers at prices which, again, don't make much sense.

It's pretty hard in a declining business to buy things cheap enough to compensate for the decline.

People in the business always tend to think that they're seeing the first robin, you know, or something, and that it's going to get better. And I would say in the newspaper business, the decline, if anything, is accelerated somewhat. I —

You know, when they take — when they take people out to the cemetery, they're taking newspaper readers, and when people graduate from school, they're not gaining newspaper readers.

And that may not change things overnight, but it goes in the wrong direction. And the less the readers, the less the readership, the less compelling argument to have to advertisers.

So that virtuous circle where everybody read a paper because every ad was in it, and every ad was in it because everybody read a paper, that virtuous cycle is going in the other direction now. And I don't think present prices for papers compensate for that.

And you are now hearing from a couple of guys that just love newspapers.

We think newspapers are indispensable, but we don't have a lot of — we have less company in that view. We love — I read five newspapers every day. Charlie probably does about the same.

CHARLIE MUNGER: Four.

WARREN BUFFETT: Yeah, he’s — well, it shows too. The — (Laughter)

The — we couldn't live without them. But a lot of people can, and more people can every day. And though we started out — we love the idea of buying newspapers. We traveled to Cincinnati, cheap hotels, all kinds of things, to buy newspapers.

But — and we thought, incidentally, we loved them as products, and we thought they were the greatest of businesses, the ultimate bulletproof franchise. But it became apparent we were wrong.

You know, we still love them as news — as products, but we were wrong about the bulletproof franchise. And, you know, we've got to believe our eyes, in terms of what we're seeing in that world.

Charlie?

CHARLIE MUNGER: Yeah. I have an even greater sin to admit to. I once thought General Motors was a bulletproof franchise. And — but we have a wonderful way of coping with a lot of these things. We have this "too hard" pile.

I don't know if Warren is buying General Motors or not, but I have a good guess.

And it's just too hard. If something is too hard to do, we look for something that isn't too hard to do. (Laughter)

What could be more obvious than that? (Laughter)

WARREN BUFFETT: It may mean that we don't do very much. (Laughter)

CHARLIE MUNGER: Yeah. Yeah.

WARREN BUFFETT: We won't get into specifics. The news — it's — I don't think anybody has watched the newspaper business much more carefully than Charlie and I have for, really, 50 years.

We used to — we always talked about every paper in the country, and the potential for buying it and, all that sort of thing.

And it was a — it was easily understood. I mean, it was about as easy an economic — a business economics problem — as you could imagine. And we slowly woke up to the change on it.

Actually, I wrote in the 1991 annual report, the newspaper — the very — the preprints of the world, you know, started turning the newspaper into a wrapper. It contained a whole bunch of things that could have been contained in some other package.

Now, your newspaper wasn't reproducible in some other package, but this thing was carrying around a bunch of preprints. Now, the question is there a bunch — is there — are there easier ways to carry around those preprints?

But there was nothing magical about the paper except it got inside the house and brought the preprints inside the house. And as the newspaper lost penetration, it became a somewhat less efficient way of getting things into the house and other ways became more efficient at getting things into the house.

So these things — it's not a hard business to understand. And it has been interesting to me to watch both owners — direct owners — and investors in the business sort of resist seeing what's right in front of them, you know?

It just — it went so long the other way that you couldn't make a mistake buying a monopoly newspaper. Nobody ever made a mistake buying one, you know, until, what, 1975 or '80 or something like that.

CHARLIE MUNGER: Yeah. If the technology had not changed, they'd still be impregnable franchises. But the technology did change. Fortunately, carbide cutting tools appear to have no good substitute. (Laughter)

WARREN BUFFETT: It's a lot better business over time, if you have the right management. Now, it takes very good management. Nice thing about the newspaper business 30 or 40 years ago, it took no management at all.

I mean, if you had an idiot nephew, you know, you — that would be a perfect — or a network television station. I mean, they were going to make money no matter what happened.

They were going to make more money if they were under good management. I mean, if Tom Murphy was running your television stations, you were going to do much better than if you had your nephew doing it, but the nephew would have done all right. (Laughs)

WARREN BUFFETT: Number 7.

AUDIENCE MEMBER: Hello, Warren, Charlie. My name is Matt Peterson (PH). I'm a shareholder from Seattle, Washington, and it is a true pleasure being here today. My question for you is simple.

The two of you have had a — many great opportunities throughout your years to work with many fine mentors and teachers.

And I'm wondering if you could provide us with a few names of some present-day mentors that we may look to for advice and our own ways to approach problems and situations, people similar to the Grahams and the Fishers of the present day?

WARREN BUFFETT: Well, the interesting thing, you don't have to look at the present-day ones, necessarily.

I mean, if you wanted to look at great business careers, you could look at Tom Murphy or Don Keough on our board.

And you can learn everything you could learn about being an outstanding businessperson by just studying them. And you don't have to study somebody that is 55 and currently in some executive position. Their lessons are timeless.

And there's going to be a study — I think the Harvard Business — somebody sent it to me from the Harvard Business School, you know, on Cap Cities.

But there's been others in the past. And, you know, if you learn the lessons of Tom Murphy, you don't need to learn any other lessons in terms of business.

And I would say if you learn the lessons of certain investors in the past, you know, you don't need to worry about a contemporary example.

Charlie?

CHARLIE MUNGER: Well, I think it's also true that Warren and I are not following very well the 40-year-old investment professionals. Isn't that right? (Laughter) Are you hiding something from me?

WARREN BUFFETT: I didn't know there were any 40-year-olds. (Laughs)

I thought they're all 25 now.

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: The — investing is not that — is really not complicated. I mean, the basic framework for it is simple. Now, then, you — you have to work at it some to find the best pockets of undervaluation, maybe, or something.

But you didn't have to have a — you didn't have to have a high IQ. You didn't have to have lots of investment smarts to buy junk bonds in 2002 or even to do some of the stuff that was available when LTCM got in trouble.

You really had to have, sort of, the courage of your convictions. You had to have the willingness to do something when everybody else was petrified.

And — but that was true in 1974 when, you know, we were buying stocks at very, very low multiples of earnings. It wasn't that anybody didn't know that they were cheap.

They were just paralyzed for one reason or another. And, you know, that — the lesson of following logic rather than emotion, you know, is something that — it's obvious. And some people have great trouble with it, and others have less trouble.

Charlie, can you give them any more?

CHARLIE MUNGER: Well, I think this is different. When we were young, we had way less competition than you people have now.

There weren't very many smart people in the investment management field. (Laughter) There really weren't. And you should have seen the people who were in the bank trust departments. (Laughter)

I mean — so, now we've got armies of brilliant young people and all these private partnerships and all these proprietary desks in all the big investment banks. It's a — and we've got a vast amount of talent in the investment management business.

So — and there's a lot of competition. Now, if there were suddenly a crisis now, there would be 500 firms that would be studying it intensely, each having capital that they could commit on a hair trigger. In our day, we would frequently be all alone.

WARREN BUFFETT: But in 2002 —

CHARLIE MUNGER: We'd be the only buyer.

WARREN BUFFETT: But in 2002, Charlie, there were tons of people that had investment experience and high IQs and lots of money was around. It wasn't a question about money, it's just they were terrified of that particular arena.

CHARLIE MUNGER: Well, when you have a huge convulsion, which is like a big fire in this auditorium right now, you know, you get a lot of weird behavior. (Laughter) And if you — (Laughter) — and if you can —

WARREN BUFFETT: Particularly at the head table. (Laughter)

CHARLIE MUNGER: — and if you can be wise when everybody else is going crazy, sure, there will still be opportunities. But that may give you long, dull stretches, if that's your strategy.

WARREN BUFFETT: Three years ago — two — three years ago you could find a number of securities in Korea, population 50 million, advanced society, strong balance sheets, strong industry positions, at three or so times earnings. Now —

CHARLIE MUNGER: But that took a convulsion to create that, a real — a big convulsion.

WARREN BUFFETT: Yeah. But the convulsion happened three or four years earlier —

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: — five years earlier. And plenty of smart people in Korea in the investment business, plenty of smart people here scouring — the information was all available.

You can go to the internet and get information about Korean companies that's just as good as you get it from the SEC. And there they were, dozens of companies at very, very, very cheap prices. Now, where —

CHARLIE MUNGER: It did —

WARREN BUFFETT: — were all these smart people with all this money —

CHARLIE MUNGER: It did happen. But if I asked you to name 20 more like it, you would have great difficulty.

WARREN BUFFETT: Well, if I have 20 more like it, I'm not going to name them. (Laughter)

WARREN BUFFETT: Number 8.

AUDIENCE MEMBER: My name is Simon Denison-Smith from the UK.

My question is this: if you were starting out today with a million dollars, with a vision of building a business with 20 percent average growth in value over 40 years, what type of investments and investment strategy would you look to make in the first five years?

WARREN BUFFETT: Well, it's somewhat interesting that we formed the first partnership 50 years ago last — 2 days ago, Thursday, May 4, 1956, which was 105,000. (Applause) That's my sister clapping. She was in the partnership. (Laughter)

The — we would — if Charlie and I were starting all over again and we were in this, Charlie would say we shouldn't be doing this. (Laughter)

But if we were to succumb to Satan and engage in the same kind of activity, we would, I think, be doing something very similarly. If we were investing in securities, we would look around the world, and we would look at a Korea.

And Charlie says you can't find 20 of them, but you don't have to find 20 of them; you only have to find one, really. You do not have to have tons of good ideas in this business, you just have a good idea that's worth a ton, occasionally.

And in securities, we would be doing the same thing, which would probably mean smaller stocks — it would mean smaller stocks — because we would find things that could have an impact on a small portfolio that will have no impact on a portfolio the size of Berkshire.

If we were trying to buy businesses, we'd have a tough time. We would have no reputation, so people would not be coming to us. We'd be too small a player, if you're talking about a million dollars. So we would not have much success, I don't think, with small amounts, buying businesses.

Charlie started out, you know, in real estate development because it took very, very little capital, and you could magnify brain power and energy — or, I should say, brain power and energy could magnify small amounts of capital in a huge way that was not true in securities.

You know, my natural inclination was to look at securities and just kind of do it one foot in front of the other over time. But the basic principles wouldn't be different.

You know, I think if I'd been running a partnership a couple of years ago with a small amount of money, I think I'd have probably been 100 percent in Korea.

And, you know, I would be looking around for something that was very mispriced and which — and that I understood. And every now and then, that's going to happen.

Charlie?

CHARLIE MUNGER: Well, I agree with that. The concept that you're likely to find just one thing where it will make 20 percent per annum and you just sit back for the next 40 years, that tends to be dreamland.

And in the real world, you have to find something that you can understand that's the best you have available. And once you've found the best thing, then you measure everything against that because it's your opportunity cost.

That's the way small sums of money should be invested. And the trick, of course, is getting enough expertise that your opportunity cost — meaning your default option, which is still pretty good — is very high.

And so, the game hasn't changed at all in terms of its basic arithmetic. That's why modern portfolio theory is so asinine. (Laughter)

WARREN BUFFETT: It really is, folks.

CHARLIE MUNGER: Yeah. When Warren said he would have been all in one country, that's pretty close to right. He wouldn't have quite done that when he had the partnership, but he would have been way more concentrated than is conventional if you listen to modern portfolio theory.

Most people aren't going to find thousands of things that are equally good; they're going to find a few things where one or two of them are way better than anything else they know. And the right way to think about investing is to act thinking about your best opportunity cost.

WARREN BUFFETT: Number 9.

CHARLIE MUNGER: By the way, that's in the freshman course in economics everywhere in the basic textbook; it just hasn't made its way into modern portfolio theory.

WARREN BUFFETT: We don't get asked to do book reviews. (Laughter)

AUDIENCE MEMBER: It's Anvayas Vegar (PH) from Munich, Germany. Thank you very much for the open discussion that you had with us.

Actually, I'd like to ask a question on a book, so I'll come back to the book review.

Jeremy Siegel had some ideas in his second book, and I would like to understand what — how this would impact your investment strategies, if there are any changes from his ideas, and how you react to these recommendations that he makes? Thank you.

WARREN BUFFETT: This is which book? Jeremy Spiegel?

AUDIENCE MEMBER: Jeremy Siegel, the second book, "Why the Tried and the True Triumph Over the Bold and the New."

WARREN BUFFETT: That — it’s had no effect on us.

Charlie?

CHARLIE MUNGER: No, is that the fellow who's very optimistic about common stock investment over long periods of time?

WARREN BUFFETT: The University of Pennsylvania. Yeah.

CHARLIE MUNGER: Yeah. Well, I think he's demented. (Laughter)

WARREN BUFFETT: Well, he's a very nice guy, Charlie. But — (Laughter)

CHARLIE MUNGER: Well, he may well be a very nice guy, but he's comparing apples against elephants and trying to make accurate projections. (Laughter)

WARREN BUFFETT: Number 10. (Laughter)

AUDIENCE MEMBER: I'm Bob Klein (PH) from Los Angeles. You so eloquently stated that you can't see who's swimming naked until the tide goes out.

Could you discuss the issue of trying to employ a rational decision-making process in investing, or in business generally, as opposed to focusing on outcomes or results of just a few instances or over a short period of time?

For example, it may not be a good idea to underwrite some insurance policies if competition has lowered the premiums too far. And, likewise, in the stock market, momentum investors may get good results for a while. But buying high and trying to sell higher isn't a good long-term strategy.

So I'd just like to hear you guys provide some detail on the importance of using an effective decision-making process, even though it may lead to some bad outcomes and underperformance in the short run.

WARREN BUFFETT: Yeah. Well, Ben Graham said long ago that you're neither right nor wrong because people agree with you or disagree with you.

In other words, being contrarian has no special virtue over being a trend follower.

You're right because your facts and reasoning are right. So all you do is you try to make sure that the facts you have are correct. And that's usually pretty easy to do in this country. I mean, information is available on all kinds of things. Internet makes it even easier.

And then once you have the facts, you've got to think through what they mean. And you don't take a public opinion survey. You don't pay attention to things that are unimportant. I mean, what you're looking for is something — things that are important and knowable.

If something's important but unknowable, forget it. I mean, it may be important, you know, whether somebody's going to drop a nuclear weapon tomorrow but it's unknowable. It may be all kinds of things. So you — and there are all kinds of things are that knowable but are unimportant.

In focusing on business and investment decisions, you try to think — you narrow it down to the things that are knowable and important, and then you decide whether you have information of sufficient value that — you know, compared to price and all that — that will cause you to act.

What others are doing means nothing. It's what Graham writes in Chapter 8 of "The Intelligent Investor," that the market is there to serve you and not to instruct you. That's of enormous importance.

When people talk about momentum in stocks or charting or any kind of things like that, they're saying that the market is instructing you. The market doesn't instruct us; the market is there to serve us.

If it does something silly, we get a chance to do something because it's doing something silly. We do it. But it doesn't tell us anything. It just tells us prices.

And if the price is out of line where the facts and reasoning lead you, then you — then action is called for. And if it doesn't, you forget it and go play bridge that day and the next day, see whether there's something new. And the nice thing is there always is something new.

I mentioned the LTCM crisis. We were getting calls on Sunday from people that had portfolios that were in trouble. Now, I will tell you that if — you can make a lot of money on Sunday.

You may not get a chance very often, but any calls you get on Sunday you're probably going to make money on. (Laughter)

Things are really screwed up if you're getting calls on Sunday. And all you have to do is make sure that you're the callee and not the caller — (laughs) on Sunday.

But if you get those calls — you get a call on a Sunday and somebody says that the off-the-run is trading 30 basis points away from the on-the-run, you know, all you have to do is decide whether — how you handle that particular piece of information — whether it's correct in the first place — but how you handle that piece of information, whether you can play out your hand.

You never get in a position, obviously, where the other fellow can call your tune. You have to be able to play out your hand under all circumstances. But if you can play out your hand, and you've got the right facts, and you reason by yourself, and you let the market serve you and not instruct you, you can't miss.

Charlie?

CHARLIE MUNGER: Well, I would say some of you probably can miss. (Laughter)

WARREN BUFFETT: I would say Charlie can't miss. I'll put it that way. He'll agree with that.

Do you have anything further to add?

CHARLIE MUNGER: No.

WARREN BUFFETT: OK. (Laughter) At least I've got him off that previous subject.

WARREN BUFFETT: Number 11. (Laughter)

AUDIENCE MEMBER: Hello. I'm Randall Bellows from Maryland. I would like to know how you would look at the Berkshire annual report.

What numbers in the balance sheet or the cash flows would tell you that Berkshire is underpriced? And what numbers would you look at to determine if Berkshire is overpriced? Thank you.

WARREN BUFFETT: We try to — and we take it very seriously — we try to put everything in that report that we would want to know if the positions were reversed.

If I were sitting with all of my net worth in Berkshire and had been on a desert island for a year and I — and the manager was reporting to me about the business, we'd try to have that same information that I would want from him. And we would try to present it to you in a way that's understandable.

And we don't leave out things that we think are important. We try not to put — I mean, there's — it runs about 76, I think, or maybe even 80 pages this year. I mean, there’s — you can drown people in information that really doesn't make much difference.

But we've tried to organize it in a way by talking about these different groups of businesses. We try to explain how we think about it, in terms of things like the amount of operating earnings we've generated and the investments we have.

It's really as if it's a report that I was making to Charlie or Charlie would be making to me if one of us were inactive in the business and the other was running it.

And so I think — I mean, it may take a few hours to do it, but I think if you regard yourself as a serious owner of Berkshire, it's really worth reading the whole report.

Thinking about: what is there? What are these guys going to do with it? What are they trying to attempt? What are the odds they're going to be successful in that attempt? What are they —?

You know, what is it worth if they don't succeed very well in deploying additional capital? What might be the case if they were successful in deploying excess capital and incremental capital?

But I can tell you that, obviously, we think it's very important.

What counts is the kind of businesses we have, the kind of managers we have running those businesses, what those businesses are likely to earn over time — and we've expressed ourselves a little on that —

And then what are the resources that are available to keep adding to that collection of businesses? What are the kind of businesses we are looking to add?

And I think — you know, I think you'll find the information that you need to evaluate Berkshire, and it's not a — you know, you don't carry it out to four decimal places.

Charlie and I, if we had to stick a number down on a piece of paper right now as to some pinpoint number — we wouldn't do it because we know that's impossible. But if we had to stick a number down, it would be a different number between the two of us.

It would be a different number if I did it today from tomorrow, probably. But we'd be in the same ballpark, and we'd be looking at the same things. And the things we would be looking at we report to you in that report.

I would focus — you know, the real question of what Berkshire is going to be worth 10 years from now will depend on the — earnings that we have developed — annual earnings that we've developed by that time, the quality of those earnings, the possibilities going forward from that point of those businesses, and the liquid assets we have.

And we've worked on increasing both of those elements over the years, and we'll keep working on it. And it's a lot tougher, in terms of percentage gains, from this point forward than it was in the past.

There's no way in the world that we can replicate what's happened in the past. It just won't happen. The question is whether we can do a reasonable job or not.

Charlie?

CHARLIE MUNGER: Yeah. I generally try and approach a complex task, like the one you presented, by quickly disposing of what I call the no-brainer decisions and — meaning the easy ones.

I think, if you go through all the operating insurance that don't involve surplus cash, and the insurance operations, that that's the easiest valuation process in Berkshire.

And the insurance operation is very interesting, and so is the process by which the huge amounts of excess cash are continually redeployed. But I would go at it in that sequence: taking the no-brainers first.

WARREN BUFFETT: Number 12.

AUDIENCE MEMBER: David Winters, Mountain Lakes, New Jersey.

Would you please discuss how your underwriting standards have changed as the weather patterns seem to become more severe, the challenges of global terrorism seem to escalate, and unforeseen super-cat events, such as earthquakes and pandemics, go into your thinking, and just what the prospects are for the development of the float?

WARREN BUFFETT: Well, the development of the float is a different question. That really depends on how much business we write in the future and the nature of the business, whether it's long-tail or short-tail.

I think it will be very hard to increase our float of 48 or -9 billion at a big clip in the future. I mean, I've been amazed as what's happened in the past. And it's done way better than Charlie and I ever would’ve dreamt.

But, you know, we have — we're getting to where we're close to 10 percent of the float of the entire American insurance — property-casualty insurance industry — and some of it's abroad that we have.

But it just can't — it can't grow at very rapid rates. But it can be very attractive, and so far, it has been.

In terms of the questions about underwriting in terms of pandemics or terrorism and all of that, I mean, you know, I'm aware of them. You're aware of them.

We get propositions offered to us virtually every day, and in the end I — mostly Ajit, I mean, in this particular case, in terms of big-type contracts — financial-type contracts I would evaluate. He would —

But we talk about what we think the probabilities are of $50 billion events and up, or $20 billion events and up. And, he's the fellow that does most of — he applies it, but we kick around the possibilities.

But that's all there is to it. I mean, it's a question of making judgments about whether you're getting paid enough. And if we have a lot of money, you know, 30 years from now, it will mean that our judgments overall were decent.

And if we have a big loss on one this year, it does not mean that our judgment’s wrong because it — it's going to lead to peaks and valleys. But there's no magic to it.

There's probably — I would feel that the earthquake experience of the last 100 or 200 years has more validity than the windstorm or the hurricane experience of the last hundred or 200 years. I don't know that for sure, but I would bet real money that way, and we have.

What is — what will hurricane experience be like 10 years from now, in terms of the number of those that hit the United States and the ferocity of the ones that do hit? You know, I don't know. But I'll keep thinking about it every day.

Charlie?

CHARLIE MUNGER: Well, I think the laws of thermodynamics are such that if the oceans get warmer — I think they are getting warmer — the weather is going to be — have more high-energy uproar in it.

So I think we'd be out of our minds if we wrote weather-related insurance on the theory that global warming would have no effect at all. And the natural reaction is to raise your prices, as the risks go up.

And whether you've raised them enough, and carefully controlled your risks enough, that's the art of the business.

WARREN BUFFETT: Yeah. And you have this possibility that, you know, 1 percent changes or 2 percent changes in something can produce 100 percent of probabilistic changes in cost.

It's an explosive sort of equation that you're dealing with. And, you know, but that's the game we're in, and we don't have to play it ever.

If we don't like what we're being offered — and we didn't like what we were being offered a while back in many areas — somebody else can take our place in line. We'll be happy to have them.

WARREN BUFFETT: Number 1.

AUDIENCE MEMBER: Dear Warren and Charlie, my name is Dr. Rashad Patel (PH). I'm a family physician from Taunton, Massachusetts. Two years ago I wrote you a letter; you responded with me back quickly. Thank you for that.

My question is, what are the criteria or principles to find a person like you in health care? It seems that a person moves up the ladder in this ethical business, they are more prone to become more unethical, get more options, sell shares, open a shop next door.

How do you find those checkpoints? Can you please express your view, on this soon $2 trillion economy, how to find the leaders so we don't get a surprise in dog-eat-dog world?

WARREN BUFFETT: Charlie, did you get that? (Laughter)

CHARLIE MUNGER: Well, I will try that. I'm not sure I understood the whole — I think she's asking about the health care business —

WARREN BUFFETT: That part I got.

CHARLIE MUNGER: — and whether or not, with the — much bad ethics being present — we have anything to contribute about doing well in that sector. Is that about right?

AUDIENCE MEMBER: Yes.

CHARLIE MUNGER: Yeah. Oh no.

WARREN BUFFETT: Now I understand the question, I still —it's still yours. (Laughter)

I'd be glad to answer it, but I'm eating candy at the moment. (Laughter)

CHARLIE MUNGER: That has tended to go into the too hard pile — (laughter) — at Berkshire. (Applause)

A lot of people have made a lot of money writing health insurance. And I've watched the behavior of some of those people, wearing my hat as the chairman of a big central city hospital.

And you are right, there's a lot of bad ethics in health care. There's also a lot of good ethics. It's a very, very complex field with a lot of change, a lot of technological differences.

And in terms of investments, I think the policy has generally been that it all goes into the too hard pile. We don't — unless Warren has something he's keeping secret from me.

WARREN BUFFETT: No. We have not owned much in health care. My only expertise is in diet. (Laughter)

But I appreciate the seriousness of the question. You know, there — it is just — it is a very, very tough problem on which I have no particular insights.

CHARLIE MUNGER: And you're right. The worst of the ethics is really bad.

WARREN BUFFETT: Number 2.

AUDIENCE MEMBER: Hello. My name is Barry Steinhart (PH), shareholder from New York. My question relates to the Chapter 11 bankruptcy process.

I know you have been active in the past in some activity in the bankruptcy court. And if you had thoughts on possible reforms in that area, if you believe that any reforms are necessary?

WARREN BUFFETT: Well, that's a good question. Charlie is probably better qualified to answer than I am. I mean, we have bought Fruit of the Loom out of bankruptcy.

And we have had some involvement in owning junk bonds. You know, we get — we think about the bankruptcy process. But in terms of the practicalities of improving on it, what do you think, Charlie?

CHARLIE MUNGER: Well, I think much of that is pretty horrible.

You have a competition there, where the courts themselves have gone into bidding contests to get bankruptcy business attracted. Meaning that the —

There are various courts that can handle bankruptcy cases. And they have found that if they develop a culture where they overpay a lot of people egregiously, they can attract more business: lawyers, trustees, consultants, et cetera, et cetera.

I find it so unpleasant to watch that I don't pay as much attention to bankruptcy as I probably should. You know, I'm an old man, and I don't like to have an upset stomach. (Laughter)

WARREN BUFFETT: But we will — we look at — at least I do, I'm not sure about Charlie — but he — you know, bankruptcies will be something that we will — one way or another, over the next 20 years — we'll have various ways of participating.

And we have bought — well, we bought certain of the bonds, for example, of Enron after they entered bankruptcy — we bought something called the Ospreys.

And a complicated bankruptcy can offer opportunities for profit. Now, there's so many people looking at bankruptcies currently, or potential bankruptcies, it's a field that I would say does not have a lot of promise right now, but it has had promise in the past.

We actually, in the Fruit of the Loom situation, I first went into that just by buying some Fruit of the Loom bonds, but — when I had no notion that we might conceivably end up with the company. But, you know, I knew enough about it to buy the bonds.

And Enron comes along, and it's a big mess. The Penn Central came along 20-odd years ago, and it was a big mess, and there was a lot of money made in the Penn Central, simply because it was such a complicated mess.

So anytime there's something big, complicated, there's certainly a good chance of mispricing. Now, lately the mispricing may be more on the high side than on the low side. But, over time, you're going to find some — there will be some attractive things to do in bankruptcy situations.

We've had other bankruptcy situations where we've gotten involved in the process and then been outbid. It happened at Burlington and it happened at Seitel. And — but we owned all the bonds at Seitel, so we came out fine.

It's something to understand if you're in the business of buying investments or businesses. And I would say that, you know, if we're around for another 10 or 15 years that we'll do something or other, maybe substantial, in the bankruptcy field.

The Enrons — the payment is still being made in various ways. But the Ospreys, which were kind of a complicated situation — the whole thing was complicated.

But, you know, we didn't buy at the bottom or anything like that. But, you know, we considerably more than tripled our money in something that you could have put a fair amount of money in. So they can be interesting.

Charlie, do you want to —

CHARLIE MUNGER: Well, I remember the Eastern Airlines bankruptcy, where there were a lot of employees that would’ve — and communities that would’ve been affected. And the courts in that case, I would say, abused the senior creditors horribly.

And so you could have read a law book and reached one conclusion, and if you'd bought the wrong securities, why, you would have found out you'd guessed wrong. It's a very interesting field.

WARREN BUFFETT: Yeah. It — and it can be very unpredictable. In the Penn Central case, you had an incredible variety of claims. I mean, you had leased lines and you had all kinds of first and second liens and everything.

And the judge, as I remember — I may be wrong a little bit on this on the details — but as I remember, the judge just looked at this incredible — probably the most complicated bankruptcy that had come down the pike in the history of bankruptcy to that point — and he just said, "This is just too damn complicated. I'm just, sort of, going to ignore the various priorities and all this. I'm just going to" — perhaps you might call it substantive consolidation, or something — "I'm just going to put this all together, and I'm going to give you a quick, fast solution."

And I think it was a very smart way to handle things, because otherwise I think Penn Central might still be going. But it wasn't what the book said would be done at —

Judges can determine things in a very big way. I remember when we were in Cincinnati on that newspaper case I mentioned earlier, I said to Charlie — a judge had stayed an order, I think, for a week or something like that.

And I said to Charlie — I said, "How much power does a federal judge have?" And Charlie says, "Well, for a while, as much as he thinks he has." (Laughter)

I learned a lot out of that.

WARREN BUFFETT: Number 3.

AUDIENCE MEMBER: Good afternoon, gentlemen. Long-time listener, first-time caller here. This is my first shareholder meeting. Thanks for hosting. You guys do a great job. I'm looking forward to coming back for several more years.

My name is Craig Beachler. I'm from Cincinnati, where my paychecks are signed by Uncle Procter and Mr. Gamble.

Thinking about that, I know that when the P&G-Gillette merger was announced, you called it a, quote, "dream deal."

Considering that P&G is primarily thought of as a consumer products company, what are your thoughts on the short- and long-term fit for P&G’s pharmaceutical business?

WARREN BUFFETT: For just the pharmaceutical business or, did you say, or —

AUDIENCE MEMBER: Long-term growth of P&G as a whole.

WARREN BUFFETT: As a whole. Yeah. Well, you know, I think it's clear that P&G is a consumer powerhouse of sorts. And I think Gillette — in its field, they have just about as strong a consumer position as anybody will ever have.

And when you get into blades and razors, stronger than the — most of the P&G brands, strong as they may be. And I do think that the big retailers are becoming — and more so all the time — brands of their own. And they are become — and there's more and more concentration going on.

So I think the struggle between the manufacturers of brands and retailers will go on and on and on and become more intensified. So I would think, if I were on either side of that equation, I would want to be strengthening my hand.

And I think that — I think the future of both Gillette and P&G are better as a combined enterprise than they would have been as a separate enterprise.

And I think that's particularly true because of the strengths of the Walmarts and the Costcos and — you name it — around the world. I don’t know.

How do you see it, Charlie?

CHARLIE MUNGER: He also wants you to tell him how P&G will be affected by its pharmaceutical business.

WARREN BUFFETT: I don't know a thing about that.

CHARLIE MUNGER: That makes two of us. (Laughter)

WARREN BUFFETT: I really don't. I'd help if I could, but I can't.

WARREN BUFFETT: Number 4?

AUDIENCE MEMBER: Hi. My name is Andy Von Dorn (PH), and I'm here from Omaha.

I'm currently employed by Oriental Trading Company, and they just announced that they were putting themselves up for sale.

I was just wondering if Berkshire would have any interest in a company like Oriental Trading Company as an acquisition.

WARREN BUFFETT: That's interesting, and I didn't know they put themselves up for sale. But I looked at it — whenever it was — four or five years ago when Terry Watanabe sold it.

And I haven't really followed it since then, but just from listening to what you say — and I have no knowledge of it at all — but it sounds to me as if some private group bought it and now they're reselling it.

And we get approached on that sort of thing all the time, where a financial group has bought the business and then wants to resell it fairly quickly. And they almost — well, they invariably, I would say — auction the business.

They seek what they call a strategic buyer. A strategic buyer is some guy that pays too much. (Laughter) Because — you know, and he wants to justify it, so he says it's strategic. I mean, I have never understood being a strategic buyer.

Every time somebody calls me up and says, you know, "We think, maybe, you're the logical strategic buyer for that," you know, I hang up faster than Charlie would. (Laughter)

The — and I'm not talking to the specifics of this one at all because I really don't know on Oriental Trading.

But the idea that we're going to find a business to buy from some guy who, from the moment he bought it a few years ago, has been thinking, "How do I get out of this thing?"

You know, "What do I do to make it earn — have those figures for a couple years look a certain way so that I can get the maximum amount in a couple years?" You know, that — we're just not going to make any attractive buys there. We won't trust the figures.

You know, we — it just — it’s — what we like is a business that — where the guy before was running with the idea of running it a hundred years, and taking care of the business in every way possible and was not contemplating sale, but, for one reason or another, finally needs to monetize the company.

We won't — we will not get any sensible buys, really, from the resellers.

Some of the — it's amazing to me what's going on. Some of these things, literally, you know, Fund A is selling to Fund B to Fund C.

I mean, I've seen some that have changed hands three or four times. They're just marking them up, and everybody's getting two — they're getting 20 percent of the profit so they mark it up.

And probably Fund C or Fund D may be owned by the same pension funds that own Fund A, except that everybody's just taking a big 20 percent slice out of it every time they move it from one place to another.

We're not buyers of anything the financial buyers have been in in recent — you know, and currently own.

Charlie?

CHARLIE MUNGER: In the 1930s there was a stretch when certain kinds of real estate — when with certain kinds of real estate — you could borrow more against the real estate than you could sell it for.

And I think that's happened in some of these private equity deals, and it's weird. It's weird. This is not our field. (Laughter)

WARREN BUFFETT: Number 5?

AUDIENCE MEMBER: Hi. I'm John Golob from Kansas City.

I'd like to get you back to the current account deficit. I was looking for reasons not to despair, so I have a couple of factoids I'd like to throw at you and see how you react.

If you add up all of the current account deficits over the last couple of decades, you get about $4 1/2 trillion. Now, you'd think that means our net indebtedness to a foreign investor should be minus 4 1/2 trillion, but it's not.

It's only 2 1/2 trillion because capital gains for domestic investors has exceeded those for foreign investors. So, essentially, $2 trillion of our current account deficit has been financed by cap gains.

Now, the other factoid is that if you look at the income on assets, the U.S. investors are still in a net positive position. That is —

WARREN BUFFETT: They went negative in the last quarter, actually.

AUDIENCE MEMBER: Oh, excuse me. So it's been close. So I guess my question is, do these facts influence your concern or maybe mitigate your concern about the current account deficit?

And the second part of the question is, do you have any cultural reasons why the U.S. should earn more on investments abroad than foreign investors earn on domestic investments?

And, of course, the dollars explain a little bit of it because we're not paying any interest on those dollars. But I'd like your comments.

WARREN BUFFETT: Yeah. Well, those are a couple interesting points. But, we have earned more on American assets owned outside this country than people outside this country have earned on assets in this country. I mentioned that in the annual report this year.

It did flip. The net balance flipped in the other direction in the most recent quarter, and my guess is it keeps going in that direction. There are a lot of reasons for that.

One important reason a year or two ago was the fact that foreigners owning our Treasury bonds were getting as little as — you know, a little over 1 percent.

So if the rest of the world owned a trillion of our bonds and got 1 percent, that was 10 billion, and if we owned a trillion of their bonds and got 4 percent, you know, that would have been 40 billion.

And the higher — the lower interest rates in this country, the higher interest rates abroad — just simply meant that you got paid — that you were going to have — with a balance of investment — you were going to have a favorable net balance in interest income in this year. We were earning more on our assets abroad than they were earning here.

That is turning somewhat. I mean, our interest rates have been increased.

Now, they didn't all own short maturities or anything of the short — sort. And it may well be that our direct investment — as opposed to our marketable securities investment — our direct investment abroad was made in earlier times and returning higher returns. But, over time, it's going against us.

Now, when you get into the net debtor position that we're in, which you — is now over 3 trillion, that varies with what the dollar is doing.

Because, say, in recent weeks, the dollar has weakened, and that means that brings down, actually, our net debtor position. That's why inflation could be something that becomes a real attractive possibility to politicians in the future.

But I wouldn't — it's not a huge factor. I know what you're talking about in terms of those year-to-year variances in the net debtor position.

They're affected much more by the actual currency that's — change that's been made — because they're expressed in dollars. And if the dollar gets weaker, it makes us look better for the time being.

Overall, that will not be what determines the consequences three, five, or 10 years from now, in terms of the current account problems, or in terms of the possibility of them — of currency — exacerbating some other kind of chaos in markets.

Charlie?

CHARLIE MUNGER: This is not a field to which I've devoted the same attention as Warren. And — but I do share his general pessimism that, eventually, there will be a price to pay for the course we're on.

Where I've disagreed a little with Warren is I've always feel there's more ruinous behavior that could be tolerated in a great place, probably, than he does.

It's just amazing how much ruinous behavior you can get by with if you're a successful governor — government.

Now, if you start with a lousy reputation as a government, it doesn't work that well. But when you start with the reputation the United States had, the people who expected instant calamity, I think, were wrong. It —

WARREN BUFFETT: Yeah. If you landed from Mars, you'd probably still rather land in the United States than anyplace else.

CHARLIE MUNGER: If you stop to think about this subject, do you want to invest in Europe where, you know, 10 or 12 percent of the young people are unemployed because of their crazy employee security policies?

And a lot of 28-year-olds are living at home and going to university because it's a fairly comfortable way to, kind of, while away the time with the state paying for most of it?

Do you want to go into a place with fabulous assets, like Brazil, with a lot of political instability that you fear, or Venezuela?

So it isn't as through all the other options look wonderful compared to us. And so, I don't think it's just totally irrational that everybody still likes the United States in spite of its faults.

And so that gives me some feeling that what happened with regard to fiscal misbehavior on our part could go on quite a long time without paying the due price.

WARREN BUFFETT: Yeah. And I agree with that, although there's always the potential, when you're doing something dangerous, that it can get accelerated.

Generally speaking, if you had to bet on anybody to get away with misbehavior fiscally for a long time, you'd bet on the United States.

And we still think it's by far the best place to be, and we have a majority of our assets in it. We just recognize certain things going on that could cause significant problems, particularly in markets.

WARREN BUFFETT: Number 6.

AUDIENCE MEMBER: Hi. It's Peter Webb here from London, UK.

Your views on gambling are well-known, and I think most people would agree that gambling is for the fiscally challenged.

But when I look at the insurance industry, what I see is an industry — I can't even say it — I see an industry that's based upon probabilities, and people not knowing those true probabilities, and money being made for the house in the same way as you see in a gambling market.

So the question I have for you is, how do you reconcile your views with gambling versus the insurance industry, and is the insurance industry for the fiscally challenged?

WARREN BUFFETT: Well, gambling, I think — I think the distinction that usually is made is that gambling involves creating risks that don't need to be created.

I mean, if the — you want to go out and gamble on where a little ball is going to fall on a wheel that's revolving, that is not something that — that is a created risk.

Whereas, if you've got a home or a business, you know, on a coastal area, the risk is there.

It wasn't created intentionally — I mean, you say you built in that place, but — and then the question is who bears it. So there's a transfer of — in the case of cat coverage — large existing risks as opposed to the creation of a risk that is not required.

I mean, you can watch a football game without betting on it. But you can't live in a house, you know, on a Florida coast without having a risk that your entire investment disappears.

So that's the distinction, basically. I hope you're right that the house wins in both cases. (Laughter)

Charlie?

CHARLIE MUNGER: Well, I don't think I can add to that either. The whole concept of house advantage is a very interesting one in modern commerce.

A lot of the investment management operations, which were not ordinarily spoken of in the past in croupier terms — but the terms of a lot of private equity investment now —

I think the proprietors of the partnerships are taking a house edge that looks a lot like the rake of the croupier in Monte Carlo, except it's bigger. (Laughter)

WARREN BUFFETT: Is there anyone we've forgotten to insult? (Laughter)

Want to make sure we don't miss anyone here. (Laughs)

WARREN BUFFETT: Number 7.

AUDIENCE MEMBER: I'm Tom Nelson (PH) from North Oaks, Minnesota.

What are your thoughts on the issue of illegal naked short selling?

WARREN BUFFETT: Well, as you know, I — you may know — I have a friend that's been fairly outspoken on that. And we — from our standpoint — we have no objection to anybody selling Berkshire short at all.

The more shorts, the better, because they have to buy the stock later on. And some of our shareholders may make some money lending — we — Charlie and I can't do it, but there's nothing I would love better, if it were legal, than to lend my stock to shorts and have them pay me something for doing it.

I might want to get prepaid, in certain cases. The — (Laughter)

There's nothing evil, per se, about — in my view — about selling things short.

I would say that it's a very, very tough way to make a living.

It's not only often painful financially, it's very painful emotionally because it — a stock that you sell short — a stock that you buy at 20 can go down 20 points, and a stock that you sell short at 20 can go up an infinite amount.

And you don't think about that until you've gone short and it goes up 10 or 15 points, and then you don't sleep very well. So it's a very tough way to make a living.

There are people on the short side that have done, and that do things, to try to make stocks go down, some of which are appropriate and some of which are inappropriate. There are people on the long side that have done the same exact — the same sort of things go on.

So I don't see any — I have no ax to grind in the least against short sellers.

And in terms of — it's called naked shorting, which you — which means that you don't have the stock lined up to be borrowed and maybe you have a whole bunch of fails-to-deliver and that sort of thing.

I don't have a great problem with that. If anybody wants to do that with Berkshire, you know, they — more power to them.

Short sellers — the situations in which there have been huge short interests very often — very often have been later revealed to be frauds or semi-frauds. Now, the one my friend runs is not at all.

But the — the batting average — I mean, I've — over the years, I've probably had a hundred ideas of things that should be shorted, and I would say that almost every one of them have turned out to be correct.

And I'll bet if I'd tried to do it and make money out of it, I probably would have lost money, I would have had no fun, and the opportunity cost, as Charlie said, would have been enormous.

Because if somebody's running something that's semi-fraudulent, they're probably pretty good at it and they're working full time at it and they've succeeded for a while and they may keep succeeding.

And if they succeed and you go in at X and it goes to 5X, you know, all you're hoping after a while it that it goes back to X again or something of the sort.

It's a very tough psychological game to play. Few people may be well-suited for it.

I would never put any money with a short fund, but not because I would think it would be ethically wrong. I just think they're unlikely to make money.

Charlie, do you have any thoughts on short selling or naked short selling?

CHARLIE MUNGER: Well, I think you're absolutely right there — in the sense that it's — that would be one of the most irritating experiences in the world, to figure out something is crooked and foolish and so forth and then short it at X and have it go to 3X.

Now you're watching all these happy crooks splashing around in your money while you're meeting margin calls. (Laughter)

Why would you want to go in hailing distance of an experience like that?

WARREN BUFFETT: Well, we've hit 3 o'clock. We're going to adjourn until 3:15. We will then have the business meeting of Berkshire. And you're all welcome to stay, you're all welcome to shop, you're all welcome to enjoy Omaha, and thanks for coming. (Applause)

WARREN BUFFETT: OK. We'll now convene the business part of the meeting. I introduced the directors to you before.

Also with us today are partners in the firm of Deloitte & Touche, our auditors. They're available to respond to appropriate questions you may have concerning the firm — their firm's — audit of the accounts of Berkshire.

Mr. Forrest Krutter, the secretary of Berkshire, will make a written record of the proceedings. Miss Becki Amick has been appointed inspector of elections at this meeting. She will certify to the count of votes cast in the election for directors.

The named proxy holders for this meeting are Walter Scott and Marc Hamburg.

Does the secretary have a report of the number of Berkshire shares outstanding, entitled to vote, and represented at this meeting?

FORREST KRUTTER: Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent to all shareholders of record on March 8, 2006 — being the record date for this meeting — there were 1,260,704 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled to one vote on motions considered at the meeting, and 8,407,392 shares of Class B Berkshire Hathaway stock outstanding, with each share entitled to 1/200th of one vote on motions considered at the meeting.

Of that number, 1,096,383 are represented at this meeting by proxies returned through Thursday evening, May 4.

WARREN BUFFETT: Thank you. That number represents a quorum, and we will therefore directly proceed with the meeting.

First order of the meeting will be a reading of the minutes of the last meeting of shareholders. I recognize Mr. Walter Scott, who will place a motion before the meeting.

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

WARREN BUFFETT: Do I hear a second?

VOICE: I second the motion.

WARREN BUFFETT: Motion has been moved and seconded. Are there any comments and questions?

We will vote on this motion by voice vote. All those in favor, say "aye."

VOICES: Aye.

WARREN BUFFETT: Opposed? Motion is carried.

WARREN BUFFETT: The only item of business before this meeting is to elect directors.

If a shareholder is present who wishes to withdraw a proxy previously sent in and vote in person on the election of directors, he or she may do so.

Also, if any shareholder that is present has not turned in a proxy and desires a ballot in order to vote in person, you may do so. If you wish to do this, please identify yourself to meeting officials in the aisle, who will furnish a ballot to you.

Those persons desiring ballots, please identify themselves so that we may distribute them.

I now recognize Mr. Walter Scott to place a motion before the meeting with respect to election of directors.

WARREN BUFFETT: I move that Warren Buffett, Charles Munger, Howard Buffett, Malcolm Chace, William Gates, David Gottesman, Charlotte Guyman, Don Keough, Thomas Murphy, Ron Olson, and Walter Scott be elected as directors.

VOICE: Second the motion.

WARREN BUFFETT: It's been moved and seconded that Warren Buffett, Charles Munger, Howard Buffett, Malcolm Chace, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott be elected as directors.

Are there any other nomination? Is there any discussion?

Nominations are ready to be acted upon. If there are any shareholders voting in person, they should now mark their ballots on the election of directors and allow the ballots to be delivered to the inspector of elections.

Would the proxy holders please also submit to the inspector of elections the ballot on the election of directors voting and the proxies in accordance with the instructions they have received.

Miss Amick, when you are ready, you may give your report.

BECKI AMICK: My report is ready. The ballots of the proxy holders in response to proxies that were received through last Thursday evening cast not less than 1,125,034 votes for each nominee.

That number far exceeds the majority of the number of the total votes related to all Class A and Class B shares outstanding.

The certification required by Delaware law of the precise count of the votes, including the additional votes to be cast by the proxy holders in response to proxies delivered at this meeting, as well as any cast in person at this meeting, will be given to the secretary to be placed with the minutes of this meeting.

WARREN BUFFETT: Thank you, Miss Amick.

Warren Buffett, Charles Munger, Howard Buffett, Malcolm Chace, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott have been elected as directors.

WARREN BUFFETT: Does anyone have any further business to come before this meeting before we adjourn? If not, I recognize Mr. Scott to place a motion before the meeting.

WALTER SCOTT: I move that this meeting be adjourned.

VOICE: Second.

WARREN BUFFETT: Motion to adjourn has been made and seconded. We will vote by voice. Is there any discussion? If not, all in favor say "aye."

VOICES: Aye.

WARREN BUFFETT: All opposed say "no." The meeting is adjourned. Thank you. (Applause)