Annual Meetings

Afternoon Session - 1994 Meeting

Warren Buffett and Charlie Munger answer questions about Berkshire's investments in Salomon Brothers and Coca-Cola. (This session is audio only because a video recording is not available.)

Tue, Dec 11 2018 • 12:05 PM EST
Key Chapters —
1. No comment on Guinness investment

WARREN BUFFETT: Zone 2 now. Well, I don't know where zone 2 is, but we'll — (laughs)

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AUDIENCE MEMBER: Do you feel basically the same about your investment in Guinness now as when you made the investment, in terms of the company?

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WARREN BUFFETT: Well, I wouldn't like to comment on anything that we own, in terms of how we rate them as desirability or anything. I mean, whether it’s Coke or Gillette or anything that — we made decisions at a given time, at a given price, which you can figure out by looking at our purchases.

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But we may be buying or selling any of those securities right as we talk. And we simply don't think it's in the interest of Berkshire shareholders as a group to be talking about things that we could be buying or selling.

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2. World Book's sales slide: "I wish I knew the answer"

WARREN BUFFETT: OK?

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

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Just wondering, World Book’s had a tough time lately, and I'm wondering if there's things you're doing to try to improve that.

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And also, The Buffalo News has been fabulous. And I'm kind of wondering what's driving The Buffalo News?

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WARREN BUFFETT: Buffalo News is doing what?

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AUDIENCE MEMBER: Fabulously.

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WARREN BUFFETT: Yeah, it's doing well, right. Well, I would say you got to give credit Stan Lipsey — I'm not sure whether Stan's here right now, but — who's been running the News.

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World Book, in terms of unit sales — as we put in the report — have fallen off significantly the last few years. It's actually surprising, in a sense, how well the profits have held up because they've done a good job, a very good job, in that respect.

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And as we put in the report, we don't know the answer, precisely. We are, Ralph Schey is — has taken some actions — is taking some actions — that he thinks will improve the operations. Ralph's record as a manager is absolutely at the top of the list. I mean, it — I wrote about it in the 1992 report.

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In 1993, Ralph did even better. I mean, it was a — fabulous. I think, probably, may have been 110 or so million pre-tax on 90-some million of average equity capital, or something of the sort. So it's a fabulous record.

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But Encyclopedia Britannica, as you probably know, ran at a loss last year. The encyclopedia business has been very — has been poor. Could be due to electronic competition, could be due to recruiting problems for salespeople. Obviously, it can be a combination of many factors.

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If we knew the answer, we'd have — you wouldn't be seeing those figures right now. But it is a top item of attention for Ralph. He takes anything that's not performing as well as before very seriously. And we will see what happens.

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But I don't have a prediction on it. I wish I knew the answer. I don't see any variables to, in any intelligent way, tell you or — we put in the report the best we could do on that.

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The profitability has, like I say, has been pretty good. But obviously, current trends of new sales will catch up with us at some point, unless we boost unit sales.

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I don't think our market share, if you look at print encyclopedias, has fallen. But I can't be sure of that, but I think that's probably true. But there are an awful lot of encyclopedias going out there as part of a bundled product with computer sales.

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3. Breaking up Berkshire wouldn't help

WARREN BUFFETT: How are we going to do this, is there?

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VOICE: We got three now.

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WARREN BUFFETT: OK, I'll let you hand the mic to whomever, you —

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VOICE: (Inaudible) three.

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AUDIENCE MEMBER: Lee again, from Palo Alto. By Omaha standards you are a relatively young man.

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And every year, you point out that Berkshire’s size now precludes you from making the great, relatively small trades which made your reputation.

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How much thought have you given to breaking up Berkshire into smaller entities?

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WARREN BUFFETT: How much what?

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AUDIENCE MEMBER: How much thought have you given into breaking up Berkshire into smaller entities, which would allow you to make those nice, small, wonderful trades that you made from the beginning?

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WARREN BUFFETT: It wouldn't do any good to break into smaller entities, because I'd still own, you know, we'd still have 10 billion-plus of capital to be responsible for, wherever it would be.

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So, the — we could distribute it out to the shareholders, and let them make their own decisions, obviously. And any time we thought that we weren't going to get more than a dollar of value per dollar retained, that, obviously, would be the course to follow.

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But there's no magic to creating multiple little — I mean, we could call Berkshire Two, Berkshire Three, Berkshire Four, but you still got the problem. There's $10 billion to invest, and it doesn't really solve anything.

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Charlie, do you have any thoughts on that?

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CHARLIE MUNGER: No, the — Berkshire is incredibly decentralized, in the — in terms of power and decisions resting in the operating divisions. In terms of the marketable securities, it's incredibly centralized.

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And so far, we have not had any big penalty from not being able to do the things that we did when we were young. Eventually we will reach the penalty.

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WARREN BUFFETT: Yeah, I think we’re — there's no question we could earn higher percentage returns working with $100,000, though, than $10 billion. But, yeah — but it hasn't hurt us as much as we thought it would, as size has increased.

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But your universe of opportunity shrinks. But it shrinks no matter — I mean, you can set it up in 20 bank accounts or one bank account, but you still — the universe still has to fit the 10 billion, in aggregate.

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4. "Absolutely sensational job" by General Dynamics management

WARREN BUFFETT: Now, how are we doing this? Do we have another zone over there? Yeah.

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AUDIENCE MEMBER: Michael Bunyaner (PH), New York City.

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Two questions. One, last year you discussed in your annual report your investment in General Dynamics. And you also gave your proxy to the company and its management. This year, it appears you have sold the stock.

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WARREN BUFFETT: This year, what?

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AUDIENCE MEMBER: This year, it appears that you have sold the stock in General Dynamics.

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What has changed that you sold 20 percent of your stake? This is question number one, and I have number two.

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WARREN BUFFETT: Probably inappropriate to be talking about what we're buying or selling, except to the extent that we make a public — have to make a public announcement, which, on something like General Dynamics, we've got 13G requirements if we change by more than 5 percent.

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And we also have — as long as we own more than 10 percent — we have monthly reporting requirements under Form 4.

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We think the management of General Dynamics has done an absolutely sensational job.

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Obviously, also it isn't the kind of business, basically, that we have a 20-year view on, or something of the sort. So, it’s — the shareholders of General Dynamics have been extraordinarily well-served by the management of that company. And we’ve — we're thankful, because we prospered accordingly.

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AUDIENCE MEMBER: But should I take from this comment that you have changed your view about the business itself?

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WARREN BUFFETT: Pardon me?

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AUDIENCE MEMBER: Should I take from your comment that you have changed your view about the business itself?

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WARREN BUFFETT: No, no. I think you take my comments as saying just what I’ve said. (Laughs)

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AUDIENCE MEMBER: OK. (Laughter)

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Question number two, could you tell me —

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WARREN BUFFETT: I think we want to give people a chance around the room, and then when, in the zone you're in, when a second question comes along, it will be fine. But we want to get as many people in this hour as we can, because this is the hard core here.

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5. No encouragement for short-term stockholders

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: It appeared to me that in 1993 the variation between the stock price for the high and the low was much greater than years in the past. Would you mind commenting on that?

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WARREN BUFFETT: Well, there was more volatility in the price of Berkshire last year. And as I put in the annual report, the stock overperformed the business last year.

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Now, over any 10 or 20 or 30-year history, every year the stock is going to perform a little differently, at least, from the business. I mean, it may slightly underperform, or slightly overperform.

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We would prefer that those variations be as small as possible. But there was more variability last year than historically's been the case. Although we've had one or two other — we had a few years like that. We —

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Our best way to handle that is to give all the information we can to shareholders and prospective shareholders, and follow policies that we think will induce the investment-oriented with long time horizons to join us, and not to encourage other people. But, occasionally — you know, we can't guarantee that result.

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One of the things that was interesting to me, I don't know whether it was three months ago or when, but I happened to be talking to the [NYSE] specialist, terrific specialist, Jimmy Maguire. He had to leave, but he was here earlier in the session.

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And I think, at the time, the stock was around 16,000 or something like that. And he had some rather significant stop-loss orders on the books at 15-5, or thereabouts, involving some hundreds of shares.

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And that to me is a signal that, you know, we have some people that are — in my view — are not really the kind of owners that we would like to attract. Because why somebody wants to put in an order to sell something for 15,500 that they don't want to sell at 16,000 is beyond me, but — (Laughter)

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The idea of people using stop-loss orders with Berkshire, obviously — it tells me that we've got some people in that are using it as trading vehicle of some sort, or have some totally non-investment-type calculations in their mind.

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I don't think we have very many of them. But obviously, if we have enough people like that, you will have a more volatile stock than if you have a whole bunch of people who look at it as something that they're going to hold for the rest of their life.

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And the stock did go down at that time and hit 15,500. And there were — that — I think it was close to 300 shares, which is 4 1/2 million dollars' worth of stock.

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And somebody made a decision, apparently, that they — or some small number of people — made a decision that they wanted to sell something at 15,500 that they could have sold for 16,000. The lower it went, the better they liked it, apparently. I mean, the better they liked the sale. (Laughter)

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Which, you know, has always struck me as like having a house that you like, and you're living in, and, you know, it's worth $100,000 and you tell your broker, you know, if anybody ever comes along and offers 90, you want to sell it. I mean, it doesn't — (laughter) — make any sense to me.

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But it has — I would say that there's been some small — I think, relatively small — tendency for people to get — relatively few people — but to get more interested in the price of the stock in terms of — and thinking of it in terms of whether it's going to go up or down in the next six months, than might formerly have been the case.

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I think we're unusually well-blessed in that respect, in that we've got people who basically want to own it for a very long time.

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But to the extent that you get people who were owning it because they think the stock market's going to go up, or something of that sort's going to happen, that is not good news from our standpoint, and it will increase the volatility in it.

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We will do nothing to encourage that.

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6. Berkshire benefits when the stock market falls

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: Yes, Mr. Buffett, Steve Lang (PH) from Toronto.

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I was just curious about when you were saying that one of the best things that could happen to shareholders is the — the market goes down and you're able to buy good businesses at foolish prices.

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And then a little on, you were saying that we could judge your ability to do what it is that you feel you should be doing by how much cash you have in the account at any given point in time, and —

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WARREN BUFFETT: By what?

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AUDIENCE MEMBER: By the amount of cash that you have in the account. In other words, I guess, what you feel you're supposed to be doing is investing the cash in good businesses.

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So I'm just wondering about that kind of dichotomy. Where does the cash come from if the market does go down, if you've been successful in your first ability? Would that be from the cash flow on the operations of the business from the float?

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WARREN BUFFETT: Yeah.

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AUDIENCE MEMBER: Is that —?

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WARREN BUFFETT: Yeah.

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AUDIENCE MEMBER: So really, the success of the company then is, to some degree, the fact that you're able to dollar-cost average into the market on an ongoing basis? Is that right?

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WARREN BUFFETT: Well, it isn't that precise. But A, we do generate cash in considerable amounts, so that we will not husband cash, simply because we think the market's going to go down, in order to buy something.

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But obviously, as cash comes in, we're always looking for things to do. And the cheaper that the market is generally, the more likely it is that we will find something that we understand and that we like, and that the price will be attractive, and that we will do it.

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But it isn't like we can change around the whole portfolio then, because that doesn't gain us anything. I mean, we'd be selling things at lower prices to buy things at lower prices.

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But to the extent that we have net cash coming in — which we do, and which we will have — on balance, we're, you know, we're adding to our businesses at more attractive prices than would be the other case.

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And it's no prediction on any given company. I mean, whether it's Gillette or Coke, or anything. It might be something we already own, it might be something we don't own. But we welcome the chance to buy more shares.

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We're not wishing it on anybody. But if you asked us next month whether Berkshire would be better off if the whole stock market were down 50 percent or where it is now, we would be better off if it was down 50 percent, whether we had any cash on hand now or not, because we would be generating cash to buy things.

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7. Salomon's compensation: "Far from ideal"

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: Byron Ransdell (PH) from Raleigh, North Carolina. Thanks for your hospitality to this weekend.

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WARREN BUFFETT: Well, we thank you for coming, too.

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AUDIENCE MEMBER: My question concerns Salomon, Inc., and more specifically, Salomon Brothers. I know that you were on the board of directors, I think, from '87 to the current time. Very much interested in compensation there, and maybe on the compensation committee.

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Between 1987 and 1992, Salomon's financial results were quite dismal in a very lumpy way, but overall, quite dismal.

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In your opinion, if the compensation had been rational during this time, would Salomon have shown results that would make it a quite decent business?

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WARREN BUFFETT: Would Salomon — if the compensation —

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CHARLIE MUNGER: If the past compensation —

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WARREN BUFFETT: — had been more rational —

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CHARLIE MUNGER: — decisions had been more rational, '87 to the current time, would Salomon have done better? Yeah, was that it?

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AUDIENCE MEMBER: Yes, sir.

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WARREN BUFFETT: Well, I would — yeah, I would say that, if the present people and the present compensation philosophy — which allows for very large payments for very large results — I think the company would have done better, yeah.

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It — you're going to see very big numbers paid in Wall Street. That's the nature of it. The trick is to pay them only when you're getting very big results for the owners. I mean, it — there's no way you're going to pay numbers that look like numbers in other industries, and get great results for owners.

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But if you pay these big numbers, I think you should be getting very good results for owners.

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And there — the old system was not — I mean, it wasn't totally off the mark on that. But it was far from an ideal system, in my view.

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8. Unlikely to write put options on Coca-Cola again

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: Warren, I have one question.

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Last year you were using Coca-Cola puts as a way to increase income, and conversely, if they were exercised, as a way of increasing your position. Do you still use puts in this type on investments you wish to add to?

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(BREAK IN RECORDING)

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WARREN BUFFETT: — five million shares, as I remember, of Coke sometime in the early fall or thereby — I don't remember exactly — last year. And the puts, I think the premium was around 7 1/2 million dollars, and they were priced around 35.

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We have not done that very often, and we're unlikely to do very much of it. For one thing, there are position limits on puts, which don't apply to us, but they apply to the brokers for which we do them. And those position limits were not clear before that. But we could probably write puts on that same amount by doing it through a bunch of different brokers.

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It's not something we're really very likely to do. I was happy to do it, and in that particular case, we made 7 1/2 million dollars.

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But we're better off, probably — if we like something well enough to write a put on it, we're probably better off buying the security itself, and particularly since we can't do it in the kind of quantities that really would make it meaningful to Berkshire.

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There are securities I would not mind writing puts for 10 million shares or something, but I — that probably — it's probably allowable for us to do it. It's not allowed — we'd probably have to do it through multiple brokers to get the job done.

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And on balance, I don't think it's as useful a way to spend my time as just looking for securities to buy outright.

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Charlie, you have anything?

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CHARLIE MUNGER: No.

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9. Don't believe reports on what we're buying or selling

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: Mr. Buffett, I'm from West Point. And my name is Rogers.

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A couple of months ago, there were stories in The World-Herald that Berkshire Hathaway had taken a large position in Philip Morris, and UST. But in your annual report, I don't see anything about that. Can you comment?

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WARREN BUFFETT: Yeah, I would say, in the last two years maybe — I'm just approximating — I've probably seen reports in either The Wall Street Journal, or USA Today — maybe picked up by The Associated Press, or in The Herald, but in papers of some significance — I've probably seen stories that we were buying maybe any one of 10 companies in aggregate over that period of time. I would say a significant majority were erroneous.

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We don't correct the erroneous ones, because if we don't correct the erroneous ones — if we correct the erroneous ones, and don't say anything about the correct ones, in effect we're identifying the correct ones, too.

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So we will never comment on those stories, no matter how ridiculous they are.

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And it's interesting because, you know, they keep getting printed. And frankly, from our standpoint, the fact that most of them are inaccurate is probably useful to us. We don't do anything to encourage it, but it — the fact that people are reading that we are buying A, B, C, or X, Y, Z when we aren't — you know, that’s — I don't think people should be buying stocks because they're reading in the paper that we're buying something. But if they do, they may get cured of it at some point.

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Maybe the newspapers will even get cured of writing the stories when they don't know, you know, what the facts are.

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But it's something we live with, and we'll probably continue to live with.

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And I would say that based on history, if you read something about us buying or selling something, other than through reports we've filed with the SEC or regulatory bodies, the chances are well over 50 percent — that I can tell you, based on history, is correct — well over 50 percent that it's wrong.

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10. Unlikely Berkshire will be a Dow or S&P 500 stock

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: Do you expect that Berkshire will become one of the Standard & Poor 500 stocks, or a Dow Jones stock?

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WARREN BUFFETT: Well, I think it's unlikely it ever becomes a Dow Jones stock.

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I don't know what the criteria are for the S&P 500. But I imagine there's some reason why we don't fit. I don't know whether they have questions about number of shares outstanding or — I've never checked with S&P.

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I wouldn't be surprised if we have the largest market capitalization of any company that isn't in the S&P, although I don't know that. But they may have some criteria that preclude Berkshire being part of it.

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I've always thought it would be very interesting, for those of you who like to think about such things, that if we were part of the S&P 500, and enough people became indexed so that 60 percent of the market was indexed, and if Charlie and I wouldn't sell, which we wouldn't, it'd be an interesting proposition as to how the index funds would ever get their 60 percent if they tried to replicate the S&P.

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It’d be — I don't know whether they have rules even about concentration of ownership. That same line of thinking might have applied to Walmart, or some company.

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Because just take the extreme example of a company that had 90 percent of its stock owned by one individual, and 12 percent of the money in the market were indexed, and the 90 percent wouldn't sell, it would bring back the Northern Pacific Corner or something of the sort.

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In any event, I don't think that's going to be a problem. And I don't think we are going to end up being in either index, so —

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11. Diversify if you don't understand businesses

WARREN BUFFETT: Yeah, zone 1?

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AUDIENCE MEMBER: Mr. Buffett, my name is Aaron Morris (PH). I'm from California.

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What I wanted to know was how you think about how large a position you're willing to take in a given security, both in your case, where you have new cash coming in that you can invest, and in the case of an investor, where they have a fixed amount of capital, and they're trying to decide what's the most (inaudible) security that they really love?

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WARREN BUFFETT: Well, Charlie and I have — probably at our present size, we will never find anything that we get as much money into as we want. Don't you think that's probably true, Charlie? If we really like it?

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CHARLIE MUNGER: Yeah, I think that's quite likely.

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WARREN BUFFETT: Yeah, so we will probably never hit the limit. We would love to. We'd love to find something we felt that strongly about, and occasionally we do.

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But we won't get as much money into it as we would wish, or as if we were running a million dollars of our own money or some number like that, so —

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We are willing to put a lot of money into a single security. When I ran the partnership, the limit I got to was about 40 percent in a single stock. I think Charlie, when you ran your partnership, you had more than 40 percent in —

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CHARLIE MUNGER: Sure. (Laughter)

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WARREN BUFFETT: And we would do the same thing if we were running smaller partnerships, or our own capital were smaller and we were running that ourselves.

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Because, no, we're not going to do that unless we think we understand the business very well, and we think the nature of the business, what we're paying for it, the people running it, and all of that lead up to virtually no risk, and —

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But you find those things, occasionally. And we would put — assuming it were that much more attractive than the second, and third, and fourth choices — we would put a big percentage of our net worth in it.

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We only advise you to do that — well, we probably don't advise you to do it all, maybe — but we would only advise you to do it, if you're doing it based on your conclusions about — your own ideas of value, and something that you really feel you know enough to buy the whole business, if your funds were sufficient, and it was being offered to you. You ought to really understand the business.

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But people do that all the time, incidentally, in private businesses, which have got terrible prospects. I mean, they buy dry cleaning establishments, or filling stations, or whatever, and they put very high —franchises of some kind — they put a very high percentage of their net worth into something — a business that's very risky, basically. I mean, it —

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People put all their money in a farm, you know. It's a business. It's subject to all kinds of business risk.

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So it's not crazy, if you understand the business well, and if the price is sufficiently attractive, to put a very significant percentage of your net worth in. If you don't understand businesses, then you're better off diversifying and fairly widely diversifying.

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Zone — go ahead. Sorry

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CHARLIE: Berkshire has a substantial shareholder whose father accumulated the original position, and when he died he left a very large estate, practically all of which was in two securities, Berkshire and one other outstanding company.

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A bank was co-trustee. And the bank trust officer said you've got to diversify this. And, you know, it was a very large estate.

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And the young man who was co-trustee with the bank said, "Well," he says, "you know, if my father believed the way you do, he might have been a trust officer in a bank instead of — (laughter) — leaving this large estate." (Applause)

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And that young man holds the Berkshire to this day. And I suppose the bank is still giving the same advice. (Laughter)

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12. We don't like to "give you our answers" on Coca-Cola

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: Mr. Buffett, this is Chuck Peterson (PH) from Omaha.

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And I was just wondering if you could comment on the Coca-Cola Company — you haven't really talked about it too much today — in regards to what you foresee over the next five years, the earnings per share growth, and where this growth is, perhaps, going to come from.

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WARREN BUFFETT: Was that the question, about the growth of Coke?

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CHARLIE MUNGER: Yeah.

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WARREN BUFFETT: You really have to come to your own conclusion.

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Coca-Cola Company writes — their annual reports are extremely good. I mean, they're very informative. You know, you —

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My guess is that, at least, if you read a few of the reports, you'd absolutely know as much about the Coca-Cola Company as I would.

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But in the end, you have to make your own decisions about growth potential, profitability potential, and all that.

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But the one thing I can assure you is that, probably, if you spend a relatively small amount of time on it, the facts that you will have available to you for making a decision on that question will be just as good, essentially, as the facts you'd get if you'd worked at the Coca-Cola Company for 20 years, or if you were a food and beverage analyst in Wall Street or anything of the sort.

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That's the kind of businesses we like to look at, are things that we think we can understand that way. And they're also businesses that, usually, I think you could understand that way.

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But we don't like you to give you our answers. I mean, that would not be a good idea.

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13. Allianz deal was "close to a wash"

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: David — I'm sorry — David Swab (PH) from Austin, Texas.

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I have a question pertaining to the convertible bonds that were outstanding for about four years.

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Any thoughts on, if you're a teacher, to grade if that was a good deal, bad deal, how the money was employed compared to the cost of getting out of the bonds? Any thoughts?

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WARREN BUFFETT: Charlie what? Did you get that?

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CHARLIE MUNGER: He wants to know if you think, in retrospect, your deal with Allianz was a good deal for Berkshire.

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WARREN BUFFETT: No, I would say that if I knew everything at the time that we did the Allianz deal — which was a convertible shareholder coupon debenture — if I knew everything now — then — that I know now, would we have done it? Probably pretty close. We had relatively few bonds converted when we called — when he called them. And so — that — it really wasn't a negative in that sense.

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But if we'd had more — we could have easily had a lot more converted. And that would not have been so good, obviously, if we'd ended up selling a lot of stock at 11,800 or whatever it was.

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It's very hard to measure exactly what we did with the 400 million or so that we took in at the time. So, money being fungible, separating that 400 million from other resources to measure the — what happened on the plus side from having the money — is hard to do.

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But my guess is, if you could play the whole hand over again, it probably was maybe a tiny minus to have issued them. What do you think, Charlie?

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CHARLIE MUNGER: It's certainly close to a wash.

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WARREN BUFFETT: Yeah.

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CHARLIE MUNGER: Now, you could ask about USAir, and that is one we would have been well to duck. (Laughter)

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WARREN BUFFETT: And I might say Charlie had nothing to do with that decision. (Laughter) He didn't even know about it till I did it. And when he knew about it, hmmm. (Laughter)

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14. "Size is a disadvantage" in buying and selling

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: Mr. Buffett, I'm Joe Sirdevan from Toronto.

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With respect to Berkshire's non-permanent, but large — and therefore, illiquid — holdings, what is your strategy for managing market impact on sales, given the intense scrutiny that Berkshire's under by the market?

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WARREN BUFFETT: I didn't get that either. You get that?

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CHARLIE MUNGER: I'm not hearing that very well.

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WARREN BUFFETT: Yeah, I don’t know whether you’re too close to the mic — we’re having a little trouble on that.

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CHARLIE MUNGER: Speak a little more slowly.

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WARREN BUFFETT: Or maybe the monitor can repeat that and — would you repeat the question?

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AUDIENCE MEMBER: Sorry. Just with respect to Berkshire's large non-permanent holdings that are, therefore, illiquid, I'm just wondering what your strategy is for managing market impact when you do decide to sell portions of those holdings, given the intense scrutiny you're under?

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WARREN BUFFETT: Yeah, question about the things we might sell, and what's going to happen to the market when we sell them.

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That depends. I mean, it can be a very significant impact. It can be a negligible impact.

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And it depends on market conditions, it depends on whether we might sell in a couple of large blocks to some institutions, it depends on — it could be, you know, there could be a tender off or something of the sort we would sell through. So, it's hard to measure.

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But it is a disadvantage. Size is a disadvantage, you're absolutely correct in the basic point, both in buying and in selling. And we don't know any way around that.

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We allow for it, in terms of what we expect, you know, the kind of possibilities we need to see. And we do — we sell so infrequently, that it's not a crusher of a negative point, but it's a negative we have that you do not.

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15. No key man insurance for Buffett and Munger

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: My name is Anna (inaudible). I'm from Roanoke, Virginia.

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Does Berkshire Hathaway or any of its subsidiaries have key man insurance on you and Mr. Munger?

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CHARLIE MUNGER: Does Berkshire have key man insurance on —

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WARREN BUFFETT: Oh, no. No. We have no life insurance, to my knowledge, on anyone except the maybe standard — the group life contracts people have. We have no key man insurance.

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It really doesn't — it wouldn't be material.

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I mean, that if we have a market value of 18 billion or something like that, if it really didn’t — if it — a one — if it made a 1 percent difference, it'd be $180 million.

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And basically, the math of intelligently selling insurance is better than the math of intelligently buying insurance. (Laughter and applause)

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16. Guinness-VNMH restructuring was "logical"

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: Mr. Buffett, I'm Barry Siskind (PH) from Mesa, Arizona. Long-time admirer of yours. Question pertains to Guinness.

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I remember reading in a publication I greatly respect, Outstanding Investor Digest by [editor] Henry Emerson in New York, that back in — I think it was '58 or '59, you made an investment in Cuba, decided to never to make an investment outside the United States again at that time.

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Have subsequently invested in Guinness. I'm a fellow investor in Guinness. I've invested in Guinness for — and its sister company, Louis Vuitton Moët Hennessy — for over five years. And I'm very happy with those investments, by the way.

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There's been a restructuring, as you know, of the Guinness-LVMH relationship, where Guinness no longer owns 24 percent of LVMH. Rather, it owns only its distilling, or I should say, alcoholic beverage-related businesses —

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WARREN BUFFETT: The Moët Hennessy part.

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AUDIENCE MEMBER: Right, the Moët Hennessy part.

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The other parts of LVMH are showing better results these days, namely the Louis Vuitton luggage, as well as the Christian Dior perfume. They've also expanded into the newspaper business this past year, a business that you understand.

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Do you intend to look at the possibility, first of all, of participating in those businesses that you no longer own now — with the restructured Guinness-LVMH deal — through some other form?

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And the second question relates to the currency risk inherent in the Guinness investment, having bought it at about $1.80, as you mentioned, pound sterling now down to about $1.48.

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The cost of hedging foreign currency through the FX has diminished through the combination of lower interest rates in the U.K., and higher interest rates, most recently in the U.S., to just about zero.

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I take it we're all investors in companies, not speculators in currencies. So, the second part of the question is, do you intend to do anything about the currency risk portion of that investment?

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WARREN BUFFETT: Well LVMH, which as you mentioned was 24 percent owned by Guinness — you know, that's one of thousands of securities that we could be a buyer or a seller of. So, I really don't want to comment on LVMH's specific attractiveness, or lack thereof.

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And Guinness, I think what Guinness did was quite logical. I mean, their interest in that operation was basically through the distribution advantages that it gave to Guinness's own brands around the world, to be hooked up with Moët Hennessy, and vice versa. So, I think what they did was logical.

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You can — the question of the exchange rate and all of that — the exchange rate, in terms of what they got in the spirits business, versus what they gave up in the luggage business, as in Christian Dior and a few things. You can form your own opinion on that.

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But I think the logic was sound. But in terms of whether we want to be in LVMH by itself, that's like any other security, which we really can't answer.

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17. Berkshire doesn't hedge currencies

WARREN BUFFETT: Second question related to —

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CHARLIE MUNGER: Hedging.

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WARREN BUFFETT: Hedge. Yeah, the hedging of currency —

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CHARLIE MUNGER: Do we hedge?

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WARREN BUFFETT: The answer to that is we don't. And Coca-Cola, as I mentioned, gets 80 percent of their earnings from a variety of currencies, the yen and the mark being two very important ones. They're going to be getting a very high percentage five years from now, 10 years from now.

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They do certain currency transactions, but it's a practical matter. If you own Coca-Cola, you own a bunch of foreign bonds with coupons on them, denominated in local currencies, that go on forever.

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Now, should you try and engage in currency swaps on all those coupons — you don't know what those coupons are yet, because you don't know how much they're going to earn in Japan or Germany, but you do know it's going to go on for decades, and it’s — they're going to be very significant sums.

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Should you try and engage in a whole bunch of currency swaps to go on out and convert all that stream into dollars or anything?

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We basically don't think it's worth it. We don't think our opinion on currencies is any good. We don't think — we think the market probably know — well, we know it knows as much about it — it probably knows more about currencies, but it — we don’t know — we do not know more than the market does about currencies.

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So there are costs to hedging. And even though interest rate structures may cause the curve to look flat going out forward, so that, in effect, there's no contango on it, there's still the cost — there are costs in it. Now, it's a relatively efficient market, so that they're not huge.

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But we see no reason to incur those costs with what we regard as a — totally, a 50-50 proposition. And it really doesn't go out that far anyway. I mean, we could do it for a couple of years.

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But if you take that — the way we look at businesses, being the discounted flow of future cash out between now and Judgment Day, we can't really hedge that kind of a risk anyway. We could keep rolling hedges, but there's a cost to it that we don't want to incur.

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We don’t — we wouldn't worry a whole lot about whether some portion of our earnings, whether it's from Guinness, whether it's from Coke, whether it's from Gillette, are denominated at some mixture of marks, and pounds, and yen, and dollars, or whether they're all in dollars.

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We'd slightly prefer if it were all in dollars, but we don't lose sleep over the fact that it may be coming from a mix of currencies like that. We wouldn't like it, in terms of, obviously, some very weak currencies.

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18. Insurance intrinsic value far exceeds book value

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: Lawrence Grawning (PH), Mill Valley, California.

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On page 13 of the annual report, in — talking about the insurance operation, you say that it possesses an intrinsic value that exceeds its book value by a "large amount — larger, in fact, than is the case at any other Berkshire business."

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To refine an earlier question that was asked, could you tell me whether you mean that it is larger in — by a percentage or in absolute dollars, that is —

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WARREN BUFFETT: By absolute dollars. And —

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AUDIENCE MEMBER: That's what you're referring to?

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WARREN BUFFETT: Yeah, by absolute — it's very hard to stick a percentage figure on the insurance business, because we have so much capital in there that —

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And then — and we have other businesses. I think that the — we've got businesses with a book value of in the tens of millions that are worth in the many hundreds of millions. So, you couldn't apply that to the insurance company (Inaudible). So, it's absolute dollars.

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But in terms of absolute dollars, we think the excess of intrinsic value over carrying value — at least I do — is substantially greater for the insurance business than any other business we own.

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Charlie, do you have any —

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CHARLIE MUNGER: No —

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WARREN BUFFETT: — thoughts on that?

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CHARLIE MUNGER: — that's exactly right.

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19. No concerns on Coca-Cola succession

AUDIENCE MEMBER: Joe Little (PH), Vancouver, Canada.

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Does the management succession issue for the top job at Coca-Cola concern you?

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WARREN BUFFETT: Management picture, you'd do what with the —?

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AUDIENCE MEMBER: The management succession issue over the next several years.

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WARREN BUFFETT: Oh, yeah.

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AUDIENCE MEMBER: The top job. Does that concern you?

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WARREN BUFFETT: At Coca-Cola —

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AUDIENCE MEMBER: Yeah.

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WARREN BUFFETT: I think any announcement that — from that would come with — from Coca-Cola.

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CHARLIE MUNGER: He said do you like it?

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AUDIENCE MEMBER: Does it concern you?

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CHARLIE MUNGER: Does it concern you?

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WARREN BUFFETT: Oh, I'm not concerned at all, no. No, Coca-Cola is very well managed. (Laughs)

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20. Salomon CEO's $24M bonus target "hellishly hard to hit"

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: Chris Stavrou (PH) from New York.

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According to the latest Salomon Brothers proxy, if [Chairman and CEO] Deryck [Maughan] earns 30 percent on allocated equity of Salomon Brothers, provided that that's at least 10 percent above the return for competitors, he could earn a bonus of $24 million.

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My question is whether that return number is reduced by a charge for preferred dividends?

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WARREN BUFFETT: I, Charlie, do you remember on the comp committee —?

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CHARLIE MUNGER: I can't remember the detail on that.

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WARREN BUFFETT: I think the equity — I — my — I'm fairly sure, but I'm not positive, that the equity figure would include our preferred, but not non-convertible preferreds.

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And it would apply to the earnings applicable to the — to our preferred plus common, but not — but it would be after dividends on non-convertible preferred.

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But I, you know, I'm not on the comp committee, and I have not read the description that carefully.

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CHARLIE MUNGER: Well, I am, and I can't remember. (Laughter)

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But I will tell you, one thing I do remember about that, and that is a target which would be one — would be hellishly hard to hit.

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WARREN BUFFETT: It'd be unbelievable. I mean —

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CHARLIE MUNGER: That's is, you're talking about Babe Ruth —

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WARREN BUFFETT: Squared.

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CHARLIE MUNGER: Yeah, doing 150 home runs in a season instead of a — if that happens, you'll be very glad to pay the money. (Laughter)

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WARREN BUFFETT: Very. Under either calculation, yeah. It really — but it, you know, I'm glad it's there. (Laughs)

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I hope Deryck's paying attention to it.

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21. Salomon is a "better company than it was some years back"

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: Hi, I’m Chris Davis again, from New York.

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I wanted to ask if you — I feel there's such a huge discrepancy between the valuation of some of your holdings versus others, in terms of the market valuation, in terms of price-to-earnings, price-to-book.

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In your opinion, do the growth prospects of Salomon Brothers, or the quality — or your anticipation of your ability to clip the coupons at Salomon Brothers — justify such a dramatic discount to the growth prospects of Coca-Cola or Gillette, in terms of our ability as Berkshire shareholders to clip those coupons?

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And if you could explain, or perhaps share your thoughts on why the market perception, if it is — justifies that distinction?

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WARREN BUFFETT: Yeah, I'm not sure I can answer that question without getting into a discussion of the relative merits of the two companies — or the three companies — you mentioned, at these prices, but —

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Salomon and Coca-Cola are obviously very different kinds of businesses, or Salomon and Gillette. And Charlie and I do our best to try to understand the businesses.

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Obviously, it's easier to understand the future of a Coca-Cola than it is a Salomon. But that doesn't mean it's a better buy.

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And what you see at any given time in our holdings is partly the historical accident, even, of when we bought, and when we had money available, and all that. But it reflected an affirmative decision at that point, obviously.

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Our guess would be that the — you know, we would feel reasonably good about anything that we owned, in terms of the price at which we bought it, and the facts at the time we bought it. And the facts change over time.

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Salomon, I think, is a better company now than it was some years back. But it's still in a business that’s — can be very volatile, and it has a small amount — as does any investment banking firm and as any commercial banking firm — of systemic risk. I mean, you can't get rid of that.

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Charlie, you want to?

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CHARLIE MUNGER: No, I've got nothing to add.

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22. Calculating intrinsic value

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: Thank you. Sean Barry, Regina, Canada.

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Mr. Buffett, you've indicated that most of us in this room could acquire a lot of the information that you and Charlie acquire through the annual reports. Yet you both also indicated that the GAAP rules, a lot of times, leave a little to be desired.

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Could you perhaps give an indication as to how you and Charlie come up with the economic value, or the intrinsic value, of the businesses that you finally decide to invest in? And a little bit about the process that you go through with that? Thank you.

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WARREN BUFFETT: Well, the — in the 1992 annual report, we discuss that a fair amount.

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But the economic value of any asset, essentially, is the present value, the appropriate interest rate, of all the future streams of cash going in or out of the business.

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And there are all kinds of businesses that Charlie and I don't think we have the faintest idea what that future stream will look like. And if we don't have the faintest idea what the future stream is going to look like, we don't have the faintest idea what it's worth, now. Now that —

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So, if you think you know what the price of a stock should be today, but you don't think you have any idea what the stream of cash will be over the next 20 years, you've got cognitive dissonance, I guess, is what they call it. (Laughter) The —

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So we are looking for things where we feel — fairly high degree of probability — that we can come within a range of looking at those numbers out over a period of time, and then we discount them back.

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And we are more concerned with the certainty of those numbers than we are with getting the one that looks absolutely the cheapest, but based upon numbers that we don't have any — we don’t have great confidence in.

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And that's basically what economic value is all about.

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The numbers in any accounting report mean nothing, per se, as to economic value. They are guidelines to tell you something about how to get at economic value.

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But they don't tell you anything. It — there are no answers in the financial statements. There are guidelines to enable you to figure out the answer. And to figure out that answer, you have to understand something about business.

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You don't have to understand a lot about mathematics. I mean, the math is not complicated. But you do have to understand something about the business.

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But that's the same thing you would do if you were going to buy an apartment house, or a farm, or any other small business you might be interested in.

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You would try to figure out what you are laying out currently, and what you are likely to get back over time, and how certain you felt about getting it, and how it compared to other alternatives. That's all we do, we just do it with large businesses, basically.

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The accounting figures are very helpful to us, in the sense that they generally guide us to what we should be thinking about.

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And of course, if we find numbers where it looks like people are taking the most optimistic interpretation of things that they can under GAAP and all of that, we get very worried about people who look like they massage the numbers in any way. And there are plenty of people that do.

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23. Growth alone doesn't make a company a good investment

WARREN BUFFETT: Zone 3?

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AUDIENCE MEMBER: I'm Howard Bask (PH). I'm from Kansas City.

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When you are estimating a growth rate on a company (inaudible), a very predictable company, I imagine you apply a big margin of safety to it. What kind of rate do you generally apply? I mean, high single digits?

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WARREN BUFFETT: In the margin of safety, or —

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AUDIENCE MEMBER: What kind of growth rate would you, on a predictable company, might you —

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WARREN BUFFETT: We are willing to —

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AUDIENCE MEMBER: — stab at?

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WARREN BUFFETT: — buy companies that aren't going to grow at all.

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AUDIENCE MEMBER: OK.

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WARREN BUFFETT: It — assuming we get enough for our money when we do it. So, it — we are not looking — we are looking at projecting numbers out, as to what kind of cash we think we'll get back over time.

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But you know, would you rather have a savings — if you're going to put a million dollars in a savings account, would you rather have something that paid you 10 percent a year and never changed, or would you rather have something that paid you 2 percent a year and increased at 10 percent a year? Well, you can work out the math to answer those questions.

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But you can certainly have a situation where there's absolutely no growth in the business, and it's a much better investment than some company that's going to grow at very substantial rates, particularly if they're going to need capital in order to grow.

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There's a huge difference in the business that grows and requires a lot of capital to do so, and the business that grows, and doesn't require capital.

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And I would say that, generally, financial analysts do not give adequate weight to the difference in those. In fact, it's amazing how little attention is paid to that. Believe me, if you're investing, you should pay a lot of attention to it.

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Charlie?

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CHARLIE MUNGER: I agree with that. But it's fairly simple, but it's not so simple it can all be explained in one sentence. (Laughter)

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WARREN BUFFETT: Our — some of our best businesses that we own outright don't grow. But they throw off lots of money, which we can use to buy something else. And therefore, our capital is growing, without physical growth being in the business.

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And we are much better off being in that kind of situation [than] being in some business that, itself, is growing, but that takes up all the money in order to grow, and doesn't produce at high returns as we go along. A lot of managements don't understand that very well, actually.

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24. Capital allocation shouldn't be delegated

WARREN BUFFETT: Zone 1?

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AUDIENCE MEMBER: Byron Wien from New York.

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You said that you decentralized the operating decisions, but centralized the capital allocation decisions.

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What kind of staff do you have in Omaha to help you with the capital allocation decisions and the stock selection decisions you make? Or do you and Charlie do that, pretty much, by yourselves?

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WARREN BUFFETT: Yeah, we don't have any staff to help us on it. I mean, basically we tell them to mail all the money to Omaha — (laughter) — and then when we get there, we put our arms around it. (Laughs)

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And we allocate all the capital ourselves. I mean, that is our job.

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And we don't feel we should delegate, I mean, we wouldn't do it anyway. Our personalities aren't such that we would delegate our — allocating our own money to someone — letting somebody else allocate our own money.

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But we feel that's our job. And it's interesting, and we’ve — I've written about this in the past — that that's an important job for most managements. There's some companies where it's not, but it’s a — it usually is a very important job for most managements.

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And if you take a CEO that's in a job for 10 years, and he has a business that earns, say, 12 percent on equity, and he’s — and he pays out a third, that means he's got 8 percent per year of equity. I mean, when you think of his tenure in office, how much capital he's allocated, it's an enormous factor over time.

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And yet, probably relatively few chief executives are either trained for, or are selected on, the basis of their ability to allocate capital. I mean, they get there through other routes.

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So, I've said it's like somebody playing the piano all their life, and then getting to Carnegie Hall and they hand him a violin. I mean, it is a different function than most — than the route — than the functions that exist along the routes to the CEO's job at most companies.

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And so many CEOs, when they get there, think they can solve it by either having a staff that does it, or by hiring consultants, or whatever it may be.

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And in our view, that is — and that's a terrible mistake, because it’s — it is, if not the key function of the CEO, it's one of two or three key functions at say 80 or 90 percent of all companies.

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And if you can't do it yourself, you're going to make a lot of mistakes. You may make a lot of mistakes even if you do it yourself. But if you —

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You know, you wouldn't want anybody in any other position of that importance in the company essentially saying, "I don't know how to do this, so I'm going to have somebody else do it," when it's their key responsibility. But that's the way it works in business.

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And Charlie and I take responsibility for all capital allocation decisions, other than just, sort of, routine expenditures at the operating businesses. And we don't get into those at all.

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I mean, if our managers are spending three or four million dollars a year on machinery — or if one of them is, I mean — on machinery, equipment, plants, new leases — we have no review process on that. We don't have a staff at headquarters. We don't waste the time to do that.

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We think those people know how to allocate the money that relates to the actual operations of their business. We think, in terms of the capital that is generated above that, that that's our job.

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Charlie, anything —?

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CHARLIE MUNGER: I would say we have practically nobody at headquarters in Omaha. One of the reasons Warren shines up so well is, you know, he's being compared to practically nobody. (Laughter)

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WARREN BUFFETT: I might say if — one interesting — when we're having this meeting, for example, I think there's one person there in the office. I mean, the rest of them are down here helping on the meeting. I mean, it —

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CHARLIE MUNGER: Here we are, Warren and I are selling candy and encyclopedias, and so forth. The chief financial officer of Berkshire Hathaway is handling the microphones. I mean, this makes Southwest Airlines look like they don't understand —

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WARREN BUFFETT: Cost control. (Laughter)

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CHARLIE MUNGER: — cost accounting, yeah. It's a very old-fashioned place.

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And by the way, speaking of hawking our merchandise, if any of you have safety deposit boxes full of Berkshire Hathaway certificates, and have children or grandchildren who don't have World Book in print in the house, you are making a very serious error.

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That is a marvelous thing for — to have in the house with —

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WARREN BUFFETT: And the discount only applies —

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CHARLIE MUNGER: — full of young people.

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WAWRREN BUFFETT: The discount only applies today — (laughs) — incidentally. I think that's right.

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CHARLIE MUNGER: It is. That is, it may not be selling too well because of the current vogue for encyclopedias on computers. And by the way, those encyclopedias that are available are inferior compared to World Book, which is very user-friendly for children, and I like it that way myself. And —

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WARREN BUFFETT: We —

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CHARLIE MUNGER: That is one product you really ought to buy.

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WARREN BUFFETT: We both use it, personally. I mean, I keep a set at the office, and a set at home. And I —

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CHARLIE MUNGER: I give away more of that product —

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WARREN BUFFETT: — I use it a lot.

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CHARLIE MUNGER: — than other product that Berkshire Hathaway makes in any subsidiary. It's a perfectly fabulous human achievement. To edit a thing, to — that user friendly, with that much wisdom encapsulated. It is a — it's a fabulous thing.

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25. Keynes: Great "wisdom" about investing

WARREN BUFFETT: Zone 2?

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AUDIENCE MEMBER: (Inaudible) from Houston, Texas. From time to time, you have quoted John Maynard Keynes, the British economist.

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So, I would assume that you have read the investment writings very extensively. What are two or three investment lessons, in your opinion, one can learn from that economist?

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WARREN BUFFETT: Well, I forget which, I think it's chapter eight of “The General Theory,” do you remember Charlie? Or is it chapter —

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CHARLIE MUNGER: No.

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WARREN BUFFETT: There's one chapter in “The General Theory” that relates to markets, and the psychology of markets, and the behavior of market participants and so on, that probably is, aside from Ben Graham's two chapters, eight and 20, in “The Intelligent Investor” — I think you'll find you'll get as much wisdom from reading that as anything written in investments. And you'll know it when you see it in “The General Theory.”

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It's a chapter that jumps out to you about securities and so on. And I — could be chapter eight, but I may be wrong on that. But I would recommend reading that.

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Keynes and Graham, from vastly different starting points, came to the same conclusion at about the same time in the '30s, as to the soundest way to invest over time. They differed some on their ideas on diversification. Keynes believed in diversifying far less than did Graham.

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But Keynes started off with the wrong theory, I would say, in the '20s and essentially tried to predict business cycles in markets, and then shifted to fundamental analysis of businesses in the '30s, and did extremely well.

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And about the same time, Graham was writing his first material. I think Janet Lowe, in her book on Ben Graham, actually has a little correspondence that took place between Keynes and Ben. So I would advise you to read that.

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And there's some letters of his that he — of Keynes' — that he wrote to co-trustees of life insurance societies, and colleges, and so on, that I think you'd find interesting, too.

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