WARREN BUFFETT: Morning. I'm Warren Buffett, the chairman of Berkshire Hathaway. And on my left is Charlie Munger, the vice chairman and my partner. And we'll try to get him to say a few words at some point in the proceedings. (Laughter)

The format today is going to be just slightly different.

We have one item to — normally, we breeze through the meeting pretty fast, and we'll do that, but we have one item of business on the preferred stock that I could tell caused some confusion with people. So, I'll discuss that a little bit.

And if, before the vote on that, anybody would like to talk about the preferred issue, we'll have any comments or questions at that time. And then we'll breeze through the rest of the meeting, and then we'll open it up. And I'll have one announcement to make then, too.

And then after that, we'll go for, maybe, close to noon. And feel free, earlier, anybody that would like to leave, you're free to, obviously, at any time. Better form to do it while Charlie's talking, as I've mentioned. (Laughter) And you'll have to be quick. (Laughter)

But then we'll have a break a little before noon for a few minutes, while a more orderly retreat can be conducted. And we'll have buses outside to take you back to the hotels or to any of the commercial establishments that Berkshire's involved in.

And then because so many of the — we have people here, at least based on the tickets reserved, from 49 of the 50 states. Only Vermont is absent. We have — but we have Alaska, we have a delegation from every place.

We have people from Australia, Israel, Sweden, France, the U.K., 40-some from Canada. So, a lot of people have come a long way. So, Charlie and I will stick around.

In fact, we'll eat our lunch right up here. And we will — you don't want to watch what we eat. The — but the — well, we'll stick around until perhaps as late as even 3 o'clock, but if the crowd gets below a couple of hundred, then we'll feel we can cut it off.

But we do want to answer everyone's questions. You people are part owners of the company. And any question that relates to your ownership of Berkshire, we want to be able to give you a chance to ask.

And it's tough because of the numbers of people here. I don't know how many are in the other room. But there're about 3,300, I believe, in this room. And we want to get to you — to all of you. So, that will come after the meeting.

Now, we've got a little business to take care of.

WARREN BUFFETT: The meeting will come to order. And I'll first introduce the directors of Berkshire, in addition to myself. They're right down here. And if you'll stand up when I give your name.

Susan T. Buffett (Applause).

Howard Buffett (Applause)

These are names we found in the phone book, you can understand — (Laughter)

Malcolm Chace, III (Applause)

And Walter Scott Jr. (Applause)

Also with us today are partners in the firm of Deloitte and Touche, our auditors, Mr. Ron Burgess and Mr. Craig Christiansen (PH). They're available to respond to appropriate questions you might have concerning their firm's audit of the accounts of Berkshire.

Mr. Forrest Krutter is secretary of Berkshire. He will make a written record of the proceedings.

Mr. Robert M. Fitzsimmons has been appointed inspector of elections at this meeting. He will certify to the account of votes cast in the election for directors.

The named proxy holders for this meeting are Walter Scott Jr. and Marc Hamburg. Proxy cards have been returned through last Friday representing 998,258 Berkshire shares to be voted by the proxy holders as indicated on the cards.

That number of shares represents a quorum, and we will therefore directly proceed with the meeting. We will conduct the business of the meeting and then adjourn the formal meeting. After that we'll entertain questions you might have.

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

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

WARREN BUFFETT: Do I hear a second?

VOICE: I second the motion.

WARREN BUFFETT: Do I hear a second? (Laughter)

VOICE: I second the motion.

WARREN BUFFETT: The motion has been moved and seconded. Are there any comments or questions? We'll vote on the motion by voice vote. All of those in favor say, "Aye."

VOICES: Aye.

WARREN BUFFETT: Opposed? The motion is carried. (Laughter)

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

FORREST KRUTTER: Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent by first-class mail to all shareholders of record on March 7, 1995, being the record date for this meeting, there were 1,177,750 shares of Berkshire common stock outstanding, with each share entitled to one vote on motions considered at the meeting.

Of that number, 998,258 shares are represented at this meeting by proxies returned through last Friday.

WARREN BUFFETT: Thank you. If a shareholder is present who wishes to withdraw a proxy previously sent in and vote in person on the two items of business provided for in the proxy statement, he or she may do so.

Also, if any shareholder that's present has not turned in a proxy and desires a ballot in order to vote in person on these two items, you may do so. If you wish to do this, please identify yourself to meeting officials in the aisles who will furnish two ballots to you, one for each item.

Would those persons desiring ballots please identify themselves so we may distribute them? Just raise your hand and you'll get one.

The first item of business of this meeting is to elect directors. I now recognize Mr. Walter Scott Jr. to place a motion before the meeting with respect to election of directors.

WALTER SCOTT JR.: I move that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, III, Charles T. Munger and Walter Scott Jr. be elected as directors.

VOICE: I second the motion.

WARREN BUFFETT: It has been moved and seconded that Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, III, Charles T. Munger and Walter Scott Jr. be elected as directors. Are there any other nominations? There any discussion? You're doing fine. (Laughter)

The nominations are ready to be acted upon. If there are shareholders voting in person, they should now mark their ballots on the election for directors and allow the ballots to be delivered to the inspector of election. Collect those, please.

Would the proxy holders please also submit to the inspector of elections, a ballot on the election of directors, voting the proxies in accordance with the instructions they've received?

Mr. Fitzsimmons, when you're ready, you may give your report.

ROBERT FITZSIMMONS: My report is ready. The ballot of the proxy holders received through last Friday cast not less than 996,892 votes for each nominee. That number far exceeds a majority of the number of shares outstanding.

The certification required by Delaware law regarding the precise count of the votes, including the votes 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, Mr. Fitzsimmons. Warren E. Buffett, Susan T. Buffett, Howard G. Buffett, Malcolm G. Chase, III, Charles T. Munger and Walter Scott Jr. Have been elected as directors.

WARREN BUFFETT: The second item of business at this meeting is to consider the recommendation of the board of directors to amend the company's certificate of incorporation.

The proposed amendment would add a provision to the certificate of incorporation authorizing the board of directors to issue up to one million shares of preferred stock in one or more series, with such preferences, limitations, and relative rights as the board of directors may determine.

Now, we discussed this some in the annual report. But I would say — and we'll find out the exact number — but I think we probably had 11 or 12 — maybe 12,000 or so shares voted against the proposal. And I think we had a couple thousand shares that abstained.

And since there really is no downside to the proposal, that indicated to me that I'd not done a very adequate job of explaining the logic of authorizing the preferred. So, I'd like to discuss that for a minute now.

And I'd also like anybody that would like to ask questions about it, they can do so now. We can talk about it later, too. But if you'd like to do it before the vote, that'd be fine.

The authorization is just that. It's an authorization. It's not a command to issue shares. It's not a directive. It simply gives the directors of the company the ability, in a situation where it makes sense for the company to issue preferred shares, to do so.

Now, when we acquire businesses — and I'll tell you about one when we're through with this in a few minutes — when we acquire businesses, sometimes the seller of the business wants cash. Sometimes they would like common stock.

And it's certainly possible, as one potential seller did last year, that they wanted, in that case, a convertible preferred stock.

Now, from our standpoint, as long as the value of the consideration that we give equates, we really don't care, aside from a question of tax basis we might obtain, but we —

In other economic respects, we don't care what form of consideration we use, because we will equate the value of cash, versus a straight preferred, versus a convertible preferred, versus common stock, whatever it may be.

So, if the worry is that we will do something dumb in issuing the preferred stock, you should — that's a perfectly valid worry. But you should worry just as much we'll do something dumb in terms of using cash or common stock.

I mean, if we're going to do something unintelligent, we can do it with a variety of instruments. (Laughter)

And we will not get more licentious in our behavior or anything simply because we have the preferred stock.

And the preferred stock may offer sellers of a business the chance to do a tax-free exchange with us. And they may not want common stock, because they may have an ownership situation where they don't want to run the risk of common stock ownership. And that's why our preferred is flexible as to terms.

Because we could give those people a straight preferred with a coupon that made it worth par at the time we issued it. And then they would know what their income would be for the next umpteen years. And that may be of paramount interest to them.

We could issue them an adjustable-rate preferred, which as money market conditions change, would also change its coupon. And then they would be sure of a constant principal value for the rest of their lifetimes. And one or both of those factors could be more important to one seller or another.

So that we simply have more forms of currency available to make acquisitions if we have the ability to issue various forms of preferred. Because a preferred stock, if it's properly structured, allows for the possibility of a tax-free transaction with a seller. And that's important to many sellers.

Now, in the end, many sellers will prefer cash, just as in the past. And probably most of the sellers that don't want cash will want common stock. But we will have a preferred stock available.

We're only authorizing a million shares because under Delaware law, there's an annual — I think there's an annual fee. I know there's an initial fee. And I think there's an annual fee that relates to the amount of shares authorized.

So, if we authorized a hundred million shares, we would be paying a larger annual fee, which is something Mr. Munger wouldn't let me do. (Laughter)

So what we will do, if we issue this, we will issue — undoubtedly, we will issue some sub-shares so that the numbers of shares, for taxation purposes, is relatively limited.

But that we will issue sub-shares to make it easier to make change, essentially, in the market.

We may issue — if the occasion demands — we may issue a convertible preferred. But that convertible preferred would not be worth any more, at the time we issue it, than a straight preferred. We would adjust, in terms of the coupon, and the conversion price, and so on.

So we can equate various forms of currency to fit the desires of the seller of the business. And this is simply one more tool to do it. There's no downside, like I say, unless we do something stupid.

And if we do something stupid with this, we would do something stupid with cash or whatever. So it —we probably should've done this some time ago, but we never had a case of a seller wanting that form of currency before.

And so it just — and we always felt we could get it authorized promptly. But there's no reason to lose a couple of months, if a transaction is pending, to call a meeting to get this on the books. So, it's simply one more tool.

And if there are — anybody that has any questions or comments on the preferred, like I say, you can hold them until later, but I'd be glad to have them before we have the vote. Do we have any?

Yeah, there's a question over there. If you'll wait just a second, we'll get a microphone to you.

When you ask questions, now or later, if you'll give your name and where you live, I'd appreciate it.

AUDIENCE MEMBER: Hi, my name is Dr. Lawrence Wasser. I'm from New York.

My question is this. If you want to buy a business and the people in the business want cash, you have to have cash, cash that — you know, this kind of cash.

WARREN BUFFETT: We're familiar with it.

AUDIENCE MEMBER: Yeah. (Laughter and applause)

But it strikes me that the preferred isn't really cash, it's fiat currency. That is, it's currency that we can create.

WARREN BUFFETT: That's true. It's like common stock in that respect. It is the — it is a form — it is an alternate form of currency, and — but it is —

Just in terms of common stock, for example, assuming we had enough authorized, we have an unlimited ability to create currency. Now, if we created the wrong price, it dilutes the value of the old currency. But go ahead on.

AUDIENCE MEMBER: Until we vote in the affirmative, which I'm sure that this group will probably do because of their confidence in you, but until we vote in the affirmative, it doesn't exist.

WARREN BUFFETT: That is correct. That would be true, incidentally, with common stock. If we had no more authorized common stock out than we had issued, we have, I think, a million and a half authorized.

But let's assume that we'd issued all that we had authorized. Until more was authorized by the shareholders, there would — it would not be available to be issued.

AUDIENCE MEMBER: But if more were authorized by the shareholders then isn't it true that the value of the shareholders' holding would be diluted?

WARREN BUFFETT: Only if we receive less in value than we give. That's the key to it.

I mean, if we issue $200 million worth of preferred and we receive a business that's only worth 150 million, there's no question you're worse off than before. So are we, incidentally. But we're all worse off.

The — and that's true if we give cash that's worth more for a business than the business is worth. If we give 200 million of cash for a business that's worth a 150 million, we are worse off. We may not have issued a share of stock. But we have diluted the value of your stock if we do that.

As long as we get value received, in terms of whether — of cash, common stock, or preferred stock — then you are not diluted in terms of value. It's an important point.

And obviously, a number of companies, as you may have — Charlie and I have commented about in reports and elsewhere — a number of companies, in our opinion, have issued common stock, particularly, which has a value greater than what they receive.

And — when they do that, they are running what I — what John Medlin of the Wachovia called a "chain letter in reverse." (Laughter)

And that's cost American shareholders a lot of money. I don't think it'll cost them any money at Berkshire. But it's a perfectly valid worry for shareholders to have.

Because a management can build an empire just by issuing these little pieces of paper, which they feel don't cost them anything.

I think Charlie had one story about that in the past. You want to comment on that, Charlie? No-names basis, of course. (Laughs)

CHARLIE MUNGER: There was a particular bank where one of the officers wanted stock options, pointed out to the management that they could issue all these shares and it didn't cost anything.

Now, imagine hiring a manager who thinks that way and paying them money — (laughter) — to behave like Judas in your very midst.

WARREN BUFFETT: We have had conversations with managers — (laughter) — where they tell us how fortunate they feel because the stock is down and they can issue options cheaper.

Now, if they were issuing those to the third parties, you know, I'm not sure whether they'd have exactly the same attitude.

But we have no feeling that we're getting richer when we issue shares. We have a feeling we're getting richer when we get at least as much value in a business as the shares are worth that we issue. And we don't intend to issue them under any other circumstances. But it's a perfectly valid worry.

AUDIENCE MEMBER: The second part of the question is that, obviously, with preferred issue, you have a situation where the common shareholder is — moves to the back of the line, as it were.

Why should the common shareholder in this room want to step to the back of the line if he's at the front of the line now?

WARREN BUFFETT: Well, it — but it's also true if we buy a business for cash, and we — let's say we borrow the money, the bank that we borrow the money from will come ahead of the common shareholder.

There's no question. Any time you move — you engage in transactions that involve the capital structure, you are changing the potential for each part of the capital structure.

If you issue a lot of common and you've got some debt outstanding, you've generally improved the position of the debt.

And the question really becomes whether you think that the position of the common shareholder is improved by issuing either preferred stock, or perhaps borrowing a lot of money, to make an acquisition.

I mean, a couple of times in the history of Berkshire, we've borrowed money to buy something, to buy a business. And when we do that, we are placing a bank, or an insurance company, or whomever, ahead of the position of the common shareholder. We did that when we issued some debt a few years back.

And there's a question of weighing whether the common shareholders are going to be better off by borrowing money. But borrowing money is not necessarily at all harmful to shareholders — although certainly, if it's carried to excess, it is.

And the preferred is a form of quasi-borrowed money that does rank ahead of the common shareholder. But then, at the same time, we're adding a business which we think is going to benefit the shareholder, if we issue that. So that's the tradeoff.

Yeah.

AUDIENCE MEMBER: My name is Matt Zuckerman (PH). I'm from Miami, Florida.

My question is, it seems to me that there's some requirement for shareholder votes if convertible stock — preferred stock — is issued beyond a certain limit. What are those limits?

WARREN BUFFETT: There are no limits on the conversion term that we might do. But for example, if we were going to issue a convertible preferred — now we have no plans to do it, but it could happen. In fact, it might well happen this year.

The — we would — and the alternative, we'll say, was giving somebody a hundred million dollars in cash for a business. If we were to issue a straight preferred, we would figure out what a hundred million dollars' worth of a straight preferred would sell for, what coupon would be necessary.

And that would depend on call provisions and a few things. But for a triple-A credit like Berkshire, you know, it would be somewhere in the area of 7 percent or thereabouts. And then they would have no participation in the upside of the common.

If they wanted something that was sure to maintain its principal value, then you have to issue an adjustable-rate preferred that will keep its value around par.

That preferred might have an initial coupon of, say, 5 percent or something of the sort, because it has the ability to go up or down based on interest rates. But it would always be worth about par.

If we were to issue a convertible preferred, it might have a conversion price of, just to pick a figure, 28,000 or something of the sort, and a coupon well below the coupon on a straight preferred.

And so, whatever we did, they would equate out in our mind as to the value we were giving.

We're not going to give 120 percent of X if we're only willing to pay a hundred percent of X, just because the form of a deal changes.

But you may well see us issue, at some point — you may see us issue a convertible preferred. You may see us issue a straight preferred. You may see us issue an adjustable-rate preferred. I hope we do something because I’d like, you know —

AUDIENCE MEMBER: Yeah. Based on —

WARREN BUFFETT: If we do it, we'll think we're better off.

AUDIENCE MEMBER: Well, based on your past performance, I'm sure you'll get more value than you give.

WARREN BUFFETT: Well.

AUDIENCE MEMBER: But in any case, it was my understanding that if the amount of shares issued for a conversion of a convertible issue were greater than 20 percent of the total amount of shares outstanding, then it would require a vote of the stockholders, under Delaware law. I may be wrong.

WARREN BUFFETT: I think it's a stock exchange rule, isn't it, Charlie?

CHARLIE MUNGER: Yes.

WARREN BUFFETT: You're right about the rule, but —

CHARLIE MUNGER: It's a New York Stock Exchange rule.

WARREN BUFFETT: It's a New York Stock Exchange rule. That would be $5 billion-plus of deal. And, you know, we would love to make a $5 billion deal, but I don't think we're going to do it.

So I would say that the chances of any acquisition being large enough so that it requires a shareholder vote is probably slim.

But it isn't because we wouldn't be interested. (Laughter)

And you know, if we have one, we'll be coming back to you — (laughter) — with the votes already in hand. (Laughter and applause)

Are there any other questions on the preferred? We can talk more about it later, too. I just want to — oh, here we are. Sure.

AUDIENCE MEMBER: Good morning, Mr. Buffett.

WARREN BUFFETT: Morning.

AUDIENCE MEMBER: I'm Raina Di Costiloy (PH) from Chicago. I'm very proud to be here. And I've seen you grow so, that pretty soon we're going to be out in a football field. (Laughter)

I think your explanation was very helpful. Because as I read this, and I'm sure many of the other lay folk, I didn't understand what you —

WARREN BUFFETT: (Inaudible)

RAYNA DI COSTILOY: — what you were doing. And you mentioned the preferred stock. But in the prospectus, it's not clear whether it would be the convertible preferred, the straight preferred. And you cleared that, answering a few other questions, but some of the people felt it would dilute their stock.

WARREN BUFFETT: Yeah. Well, I should've made that clear in the annual report. And I'm glad I've had this chance to do it today.

Anything else on the preferred? OK.

AUDIENCE MEMBER: You don't have to come back to the shareholders for a vote, after these shares are authorized, for the terms of it. And you've discussed this in terms of buying companies.

My question is, you yourself, through Berkshire Hathaway, own the preferred shares of several companies: Salomon, USAir, American Express.

Do those shareholders have to vote on the terms of the preferred shares that you bought for those companies? Or is that left at the board of directors' decision level.

WARREN BUFFETT: Those —

AUDIENCE MEMBER: Could you clarify that point?

WARREN BUFFETT: Go — excuse me, go ahead.

AUDIENCE MEMBER: Could you clarify that point, please?

WARREN BUFFETT: Yeah. We bought a — I think we've probably bought six issues of preferred directly from companies.

And since none of those triggered that New York Stock Exchange rule that we discussed earlier — and they could've if they'd been somewhat larger, but they didn't — none of those deals had to be approved by the shareholders.

I think the only deal we've had with a company that had to be approved by the shareholders was when we bought the Cap Cities/ABC stock. Well, we bought early in 1986. I think it was approved by their shareholders in 1985.

But the only situations where it would've had to have been approved is if it triggered the New York Stock Exchange rule. And our purchases were not that large that they did that.

Any other questions? Yeah, there's one more.

AUDIENCE MEMBER: My name is Dale Vocawitz (PH). I'm from Champagne, Illinois.

A recent issue of Barron's indicated that it may be possible to issue a best of all possible worlds preferred, that being one where the dividend looks like interest to the issuer and is tax-deductible.

And to the purchaser, it would qualify for the dividends received deduction. Do you think that structure might be possible with these shares?

WARREN BUFFETT: Well, we haven't thought about that. I know what you're talking about on that, but I don't think it would be possible.

For one thing, I don't think you probably have a tax-free deal that way. Charlie, do you?

CHARLIE MUNGER: We probably wouldn't try and be that cute. (Laughter)

WARREN BUFFETT: I've got several quips in mind, but I think I'll keep them to myself. (Laughter)

My guess is that that form does not work for a long time. I know what you're talking about on it, but my guess is it doesn't.

Some companies — then we'll get on with this — but some companies care about the consideration they give in a deal, whether it's cash, or preferred, or so on, because they care about the accounting treatment that they get.

They want — they usually want pooling treatment rather than purchase accounting treatment. I won't get into that here. I know it's going to disappoint you, but I won't get into that here. Although I may in the next annual report.

And that is of absolutely no consequence to us. We care not a wit about the accounting treatment that we receive. We feel that we have a shareholder body that's intelligent enough to understand the economic reality of a transaction.

And that by playing various games, in terms of how we try to structure it, and maybe flow part of the purchase price back through the income statement or anything of the sort, which is done — that's not something that we care about at all.

We would rather do whatever makes the most sense for us and for the seller, and then explain to you whatever accounting peculiarities may arise out of the transaction. And that probably differentiates us from most companies. And it probably helps us make a deal, occasionally.

Anything else?

AUDIENCE MEMBER: — really

WARREN BUFFETT: OK, now I can hear you fine.

DALE VOCAWITZ: OK. And I was wondering, will there be any opportunity for shareholders who may find the preferred issue preferable, for any number of reasons, to participate in that?

WARREN BUFFETT: Well, if we issued a preferred and it became actively traded — let's say it was a company with many shareholders instead of a few. Obviously, that would be something that any new or present shareholder could make a decision on whether they preferred that issue than others.

We could, but have no plans of doing it and I don't see it happening, we could offer to exchange preferred for present common.

And it's conceivable a few people would have an interest, but the — most people have self-selected in terms of the kind of security they want to own in terms of owning Berkshire common.

So it's unlikely they would want to switch into a preferred, because they would — we wouldn't have a premium of value, it would just be an alternative security.

We could do that, though. I mean, and it would probably be a tax-free deal.

We have no plans of doing that, but it's something that if we ever thought that enough people might want, we could offer it. But no one would be obliged to take it. It's a good question.

OK? We'll move on.

Is there a motion to adopt the board of directors' recommendation?

WALTER SCOTT JR.: I move the adoption of the amendment to the fourth article of the certificate of corporation as set forth in exhibit A of the company's proxy statement for this meeting.

WARREN BUFFETT: Is there a second?

VOICE: I second the motion.

WARREN BUFFETT: Motion's been made and seconded to adopt the proposed amendment to certificate of incorporation. Any further discussion?

We are ready to act upon the motion. If there are any shareholders voting in person, they should now mark their ballot on the proposed amendment to the certificate of incorporation and allow the ballots to be delivered to the inspector of election.

Collecting a few there. Would the proxy holders please also submit to the inspector of elections a ballot on the proposed amendment voting the proxies in accordance with the instructions they have received?

We'll wait just a second here.

Mr. Fitzsimmons, when you're ready you may give your report.

ROBERT FITZSIMMONS: My report is ready. The ballot of the proxy holders received through last Friday cast lot — not less than 928,889 in favor of the proposed amendment to the certificate of incorporation.

That number far exceeds the majority of the number of all shares outstanding. The certification required by Delaware law regarding the precise count of the votes, including the votes 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, Mr. Fitzsimmons. The amendment to the certificate of incorporation as set forth in exhibit A to the proxy statement for this meeting is approved.

After adjournment of the business meeting, I will respond to questions that you may have that relate to the businesses of Berkshire, but do not call for any action at this meeting.

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

WALTER SCOTT JR.: I move this meeting be adjourned.

VOICE: I second the motion.

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

AUDIENCE: Aye.

WARREN BUFFETT: All opposed say, "No." The meeting is adjourned. (Laughter)

WARREN BUFFETT: Now, I'd like to tell you about one thing that — since the annual report — that some of you probably read about in the papers, but maybe not all of you have heard about.

Just shortly after the annual report was issued, we completed a transaction with Helzberg's Diamonds, with Barnett Helzberg, who's here today. Barnett, would you stand up, please? All right. There he is. Give him a hand. (Applause)

You may be interested in how it came about, because Barnett attended two of the last three meetings of Berkshire. He had a few shares in an IRA account, and he was here last year.

And shortly after this meeting, I was back in New York City. And I was crossing the street at 58th Street, right near the Plaza Hotel on 5th Avenue. And a woman said, "Mr. Buffett," and I turned around.

And she came up, and she said she'd attended the annual meeting last year — or a few days ago — and said that she enjoyed it. And I said, "That's terrific," and I started to cross again.

And Barnett had been about 30 or 40 feet away. I didn't know him, and he had heard this woman. So, he said the same thing. And I turned around. And we shook hands. First time I'd met him, and he said, "You know," he said, "I might have a business you'd be interested in."

And I get that all the time, so — (Laughter)

So I said, "Well, why don't you write me?" And a time went by, and I got a letter from Barnett. And he'd been thinking about doing something with the business his father had started in 1950, and based in Kansas City that whole time. And he'd been exploring various avenues.

But probably, in some part because of his background as Berkshire shareholder, he had some specific interest in the company becoming associated with Berkshire. He cared very much about the company having a permanent home.

He cared very much about it having an environment in which it could grow and be run autonomously and be based in Kansas City. And he wanted to receive something in exchange — that he was happy to own for the rest of his life.

And so, we worked out a transaction shortly — just very shortly after the annual report went to press.

And so now Berkshire, as of 12:01, I guess, yesterday morning, the deal closed. There's this waiting period because of the Hart-Scott-Rodino Act and a few other things.

The transaction closed. And now Berkshire is the owner of Helzberg's Diamonds, which has roughly 150 stores around, perhaps, 26 or 27 states. I'm not sure the exact number. And mostly in malls, although some others. It's been enormously successful.

Barnett brought in Jeff Comment, who formerly ran Wanamaker's about eight years ago, I guess it is.

And the company has both expanded in its traditional format — it's gone with a new format recently, which has been very successful.

It is — in its position in the jewelry industry, it tends to compete with a Zales or Gordon’s, but it does a far, far better job.

Their sales, per store, on roughly equivalent square footage, will be very close to double what competitors achieve.

It's got a magnificent morale, and organizational structure. And the people — Barnett was very generous with people in making the sale. He took it out of his own pocket to treat people right because they'd done such a terrific job over the years.

And I think you'll see Helzberg's become a very big factor in Berkshire over time. And it just shows you what can come out of these annual meetings. So, the rest of you, you know, do your stuff. (Laughter)

So anyway, that is an acquisition that was made for — largely for common stock. It did not involve preferred, and — because Barnett preferred common.

And — but different people have different needs. And sometimes there's a group of shareholders that can have different priorities. And that's the reason we want to have various currencies.

If we had not been able to use common stock, we would not have made this transaction, because Barnett has been in no hurry to write a large check to the government. And we can help him in that respect with a common stock deal.

So anyway, we're glad to have Helzberg's become part of Berkshire. I wouldn't be surprised if we have another announcement or two in the next year before we have the next meeting. I hope so. But there's no guarantees.

WARREN BUFFETT: Now we're going to turn the meeting open for questions. We'll do it as we've done before. We've got this room divided into six zones. And if you will raise your hand, the monitor in that — in your zone will recognize you. And we'll keep going around.

We will not go to a second person in any zone until we've exhausted all those who have yet to ask their first question. We have — we also have a zone in the overflow room. So, there'll be a total of seven.

And we'll just keep going around, if you'll identify yourself, please. And we'll be delighted to answer your questions. And the more, the better. So, we'll start with zone 1.

AUDIENCE MEMBER: My name is Fred Elfell Jr. (PH) from Sacramento, California.

And I wanted to ask if you could elaborate upon the logic of adding two family members to the board of trustees?

WARREN BUFFETT: Well, it's terrific for family harmony, just to start with. (Laughter)

The — as I've talked about in the annual report, the — if I die tonight, you know, my stock goes to my wife, who is a member of the board of directors.

And she will own that stock until her death, when it will go to a foundation. So, there is a desire to have as long a term and permanent ownership structure as can really be done, in terms of planning, and the tax laws, and so on.

I mean, I — we have invited people like Helzberg's to join in with Berkshire into what we think is a particularly advantageous way for them to conduct a business and to know the future that they're joining.

And part of knowing the future that they're joining involves knowing that the ownership is stable. And it will be stable for a very long period of time in Berkshire, probably about as long as you can — anybody can plan for in this world.

After my death, the family would not be involved in the management of the business, but they'd be involved in the ownership of the business.

And you would have a very large concentrated ownership position, going well on into the foundation, that would care very much about having the best management structure in place.

And to, in effect, prepare for that over time, I think it's very advisable that family members who will not be involved in management, but who will have a key ownership role to play, become more and more familiar with the business and the philosophy behind it.

I discussed that some in the — I guess, it was the 1993 annual report, because I think it's important that you understand.

And anybody that wants to sell us a business — if you've built a business since 1915, and you care enormously about it, and you care about the people that you've developed, but you've got something else you want to do in life, it's more than, you know, advertising your car in the paper to sell it.

I mean, it is an important — a very important transaction to you. Not just in terms of how much money you receive, but in terms of who you deliver thousands of people that have joined you — who you deliver them to.

And I think we have a structure that is about as good as you can do. Nothing is forever.

But we have a structure that's about as good as you can do, in terms of people knowing what they're getting into when they make a deal with us and being able to count on the conditions that prevail at the time of the deal, continuing for a long period in the future.

Many people — I had a fellow tell me the other day about a business where he'd been wooed by the acquirer. And, you know, the day after the deal, they came in and fired the top half-dozen people. They had a secret plan all along. Well, I don't think you run into much of that.

But what you do run into is the company that's the acquiring company, itself, either being acquired or some new management coming along, or some new management consultant coming along, and saying, "Well, this doesn't fit our strategic plan anymore, so let's dump this division."

And people that join in with Berkshire can be relatively, I think, comfortable about nothing like that happening.

Charlie, you want to elaborate on —

CHARLIE MUNGER: No. (Laughter)

WARREN BUFFETT: I was hoping Charlie would have a near-life experience this morning. (Laughter)

Keep encouraging him.

WARREN BUFFETT: Zone 2.

AUDIENCE MEMBER: Hello. My name is Jim Lichty (PH) from Des Moines. I'm interested in, like, Chrysler. Can you make a comment on the Chrysler Corporation? (Laughter)

WARREN BUFFETT: No, I don't think I can make a comment on Chrysler. (Laughter)

I think Salomon Brothers, incidentally, has been retained by them. We have nothing to do with it. Charlie and I — I read that in the paper.

And Charlie and I are not familiar with — normally — with investment banking arrangements at Salomon.

But it has been in the paper that Salomon's involved with that. We have no involvement.

Charlie, you're not interested in commenting on the question? No? (Laughter)

Try him on something else.

WARREN BUFFETT: Zone 3.

AUDIENCE MEMBER: I'm Jim Vardaman (PH) from Jackson, Mississippi.

In describing the — your allocation of capital to your wholly-owned subsidiaries, you wrote in the annual report that, quote, you "charge managers a high rate for incremental capital they employ and credit them at an equally high rate for capital they release," end quote.

How do you determine this high rate, and how do they determine how much capital they can release?

WARREN BUFFETT: Well, what we try to do with those — the question's about incentive arrangements we have with managers or other situations, where we either advance capital to a wholly-owned subsidiary or withdraw it — usually, that ties in with the compensation plan.

And we want our managers to understand just how highly we do value capital. And we feel there's nothing that creates a better understanding than to charge them for it.

So, we have different arrangements. Sometimes it's based a little on the history of the company. It may be based a little bit on the industry. It may be based on interest rates at the time that we first draw it up.

We have arrangements depending on the — on those variables and perhaps some others and perhaps just, you know, how we felt the day we drew it up, that range between 14 percent and 20 percent, in terms of capital advanced.

And sometimes we have an arrangement where, if it's a seasonal business where, for a few months of the year, when they have a seasonal requirement, we give it to them very cheap at LIBOR.

But, if they use more capital over — beyond that, we start saying, "Well, that's permanent capital," so we charge them considerably more.

Now, if we buy a business that's using a couple hundred million of capital, and we work out a bonus arrangement, and the manager figures out a way to do the business with less capital, we may credit him at a very high rate — same rate we would use in charging him — in terms of his bonus arrangement.

So, we believe in managers knowing that money costs money. And I would say that, just generally, my experience in business is that most managers, when using their own money, understand that money costs money.

But sometimes managers, when using other people's money, start thinking of it a little bit like free money. And that's a habit we don't want to encourage around Berkshire.

We — by sticking these rates on capital, we are telling the people who run our business how much capital is worth to us.

And I think that's a useful guideline, in terms of the decisions they're making, because we don't make very many decisions about our operating business. We make very, very few. I don't see capital budgets, in most cases, from our hundred percent-owned subsidiaries.

And if I don't see them, no one else sees them. I mean, we have no staff at headquarters looking at this kind of thing.

We give them great responsibility on it. But we do want them to know how we calibrate the use of capital. And so far, I would say, it's really worked quite well.

Our managers don't mind being measured, and they like getting a — I think they enjoy seeing a batting average posted. And a batting average that does not include a cost of capital is a phony batting average.

Charlie?

CHARLIE MUNGER: Well, I certainly agree. (Laughter)

WARREN BUFFETT: And his name isn't even Buffett. I mean — (Laughter)

WARREN BUFFETT: Zone 4.

AUDIENCE MEMBER: Hi, my name's Dave Lancasam (PH) with Business Insurance Magazine.

The sum of property-casualty risk management experts are advising commercial insurance buyers to forge five- and 10-year policies with their property-casualty insurers to promote stronger partnerships with their insurers, as well as to maintain the smooth PC market of the past seven, eight years.

Do you believe this idea will take hold for most policyholders? And if so, what would be the implications for policyholders’ costs and insurers’ underwriting results?

WARREN BUFFETT: The question is about partnerships between, probably, commercial policyholders and their insurers. And there are a lot of ways of doing that by various retrospective plans or adjustable rates of various sorts, and self-insured retentions, and that sort of thing.

As a general matter, there are only two reasons for buying insurance. One is to protect yourself against a loss that you are unable or unwilling to bear yourself. And that is partly a — an objective decision. It’s partly subjective.

For example, a manager that's terribly worried that his board of directors may second-guess him if he has an uninsured loss, is going to buy a lot more protection, probably, than the company really needs.

But he knows he's never going to have to go in front of his board of directors and say, "We just had a million-dollar fire loss."

And then the next question the director asks is, "Was it insured?" And then he doesn't want to answer no.

So, he may do something that is very unintelligent from the company's standpoint merely to protect his own position.

But the reason for buying insurance is, whether — and this is true of life insurance, it's true of property-casualty, it's true of personal insurance, it's true of commercial insurance — is to protect against losses that you're unwilling or unable to bear yourself.

Or the second reason, which occasionally comes up, is if you think the insurance company is actually selling you a policy that's too cheap, so that you really expect, over a period of time, to have a mathematical advantage by buying insurance.

Well, we try to avoid selling the second kind and to concentrate on selling the first kind.

And we think any company we can sell insurance to — and of course, we — much of the insurance we sell is to other insurance companies. I mean, we are a reinsurer, in very large part.

We are selling them insurance against a loss that they are either unable or unwilling to sustain.

And a typical case, you know, might be a company that had a lot of homeowners policies in California. And if those include earthquake coverage, they may not be able to sustain the kind of loss that is possible, even though they want to keep a distribution system in place that merchandises en masse to homeowners in California.

So, we will write a policy. They may take the first 5 million of loss, they may take the first 50 million of loss — depends on their own capabilities — but then they come to us.

And we are really uniquely situated to take care of problems that no else — that the companies can't bear themselves and that they can't find anybody else to insure.

But we really don't want to insure someone for a loss that they can afford themselves, because if we're doing that it may because they're dumb. But it may be because they also have a loss expectancy that's higher than the premium we're charging, which is not what we're trying to do in business.

I think that — I think probably, as compared to 30 years ago, that risk managers at corporations are probably more intelligent about the way they buy their insurance than many years ago. I think it’s become a — I think they're more sophisticated and they've thought it through better.

But there's a lot of insurance — there’s some — there’s a fair amount of insurance bought that doesn't make sense. And there's a fair amount of insurance that isn't bought that should be bought.

There are certain companies that are exposing themselves in this country to losses which would wipe them out. And they prefer not to buy reinsurance because it's, quote, "expensive." But what they're really doing is betting on something that won't happen very often, happening not at all.

And if you take a huge hurricane on Long Island or you take a major quake in California, there are a number of companies that are not — that have not positioned themselves to withstand those losses.

And if you're a 63-year-old CEO and you figure, "I'm going to retire in a couple of years," you know, the odds are pretty good that it won't happen on your watch.

But the — it will happen on somebody's watch. And we try to sell reinsurance to those people. And usually, we do. But sometimes we don't.

Charlie?

CHARLIE MUNGER: Nothing to add. (Laughter)

WARREN BUFFETT: OK. Zone 5.

He's saving himself. He'll be dynamite when he gets going. (Laughter)

AUDIENCE MEMBER: My name is Hugh Stephenson (PH). I'm a shareholder from Atlanta, Georgia. My question involves the company's catastrophe lines of insurance.

It seems that there's a relative ease of entry into that business through Bermuda-based companies and others. And given the importance of that business to the overall company, I'm curious how the ease of entry into the business affects its long-term competitive position and its rates of return?

WARREN BUFFETT: Well, you're very right, there is an ease of entry into the catastrophe business. And, you know, it's sort of attractive for — it’s particularly attractive for promoters.

Because if you start an insurance company to write earthquake insurance in California and you raise a few hundred million dollars, you'll either have essentially have no losses or, if you write enough of it, you'll go broke. And most years, you'll have no losses.

So, if your intention is to sell your stock publicly in a year or two, that — the odds are very good that you will have a beautiful record for a couple of years. And you can sell.

And, you know, maybe one time out of ten, you'll go broke. And nine times out of ten, you'll sell to somebody else who will eventually go broke.

And it — there is — there’s real ease of entry. The only thing that may restrict that is that if the buyer is sophisticated enough to question the viability of that company under really extreme conditions, which is the only conditions that count when you're buying catastrophe insurance, that may restrict it.

The second thing is, of course, none of the people that have started up can offer anywhere near the amount of coverage that Berkshire has. Berkshire is really one of a kind in terms of its capital strength in the business.

I’m — I don't think any money in Bermuda that I can remember — I don't think Ajit’s out there. But I don't think anybody has a billion of net worth. And you know, we have — at present, we probably have close to 13 billion of net worth and considerably more of value.

So we can sustain shocks, and we will sustain shocks, I should add, that others can't. And we try to get paid appropriately for that.

But when we say we can take a billion-dollar loss, we can take a billion-dollar loss. And we will have a billion-dollar loss at some point.

And anyone buying it knows we can take it, or something greater. And they should know that very few other — very few of our competitors can. So, there's competition.

We do an unusual proportion of our business with the eight or ten largest insurance — reinsurance companies and insurance companies in the world. So, we really have established with the people who understand the real risks of the business.

They come to Berkshire and — a lot more often than they stop in Bermuda, because they know that we'll pay. And they’ve been around long enough to know that, in the end, that's what really counts with an insurance company.

If the rates — if there were enough capacity at really ridiculous rates, I mean, in the end, we wouldn't be writing that business at that time. But I don't think that will happen. It certainly hasn't happened so far. And if it happens, you know, so be it. We'll all play golf until the loss occurs.

Charlie? (Laughter)

CHARLIE MUNGER: Nothing to add.

WARREN BUFFETT: Zone 6? Or did we do — yeah.

AUDIENCE MEMBER: Chairmen, most company Berkshire invest at this time are not high in — are not in high-technology sector. What we have seen in the last few years, that there seems to be a significant growth, both in sales and earnings of the high-technology area.

And also, what invest — what U.S. shareholder believe that the times are changing from a brand name to high-technology.

My question is, can someone apply your investment principle, business philosophy, and your discipline in life to build a portfolio of, say, five or six high-technology company? Let's call it Berkshire Hathaway Technology Fund? (Laughter)

WARREN BUFFETT: Well, I think it would sell. (Laughter)

The question about — Charlie and I won't be able to do it. We — Charlie probably understands high-tech. But you can see how hard it is to get any information out of him. So — (laughter) — he hasn't told me yet.

We try not to get into things we — that we don't understand. And if we're going to lose your money, we want to be able to come before you, you know, next year and tell you we lost your money because we thought this and it turned out to be that.

We don't want to say, you know, somebody wrote us a report saying if, you know, "This is what's going to happen," in some field that we don't understand and that, therefore, we lost your money by following someone else's advice. So, we won't do it ourselves.

At — I think that the principles — I think Ben Graham's principles — are perfectly valid when applied to high-tech companies. It's that we don't know how to do it, but that doesn't mean somebody else doesn't know how to do it.

My guess is that if Bill Gates were thinking about some company in an arena that he understood and that I didn't understand, he would apply much the same way of thinking about the investment decision that I would. He would just understand the business.

I might think I understand Coca-Cola or Gillette. And he may have a — he may have the ability to understand a lot of other businesses that seems as clear to him as Coke or Gillette would seem to me.

I think once he identified those, he would apply pretty much the same yardsticks in deciding how to act.

I think he would act — I think he would have a margin of safety principle that might be a little different because there's essentially more risk in a high-tech company. But he would still have the margin of safety principle on a — sort of adjusted for the mathematical risk of loss in his mind.

He would have — he would look at it as a business, not as a stock.

You know, he would not buy it on borrowed money. I mean, it — a bunch of principles would be carried through.

But our circle of things we understand is really unlikely to enlarge, maybe a tiny bit here or there. But if the capital doesn't get too large, the circle's OK.

And — but we will not —if we have trouble finding things within our circle, we will not enlarge the circle. You know, we'll wait. That's our approach.

WARREN BUFFETT: Now, how are we set up for Zone 7? Can we do it out — yeah, here we are.

AUDIENCE MEMBER: Are you there? Hi, I'm Susie Taylor (PH) from Lincoln, Nebraska.

By way of explaining — we wrote down the value of USAir, reflecting our investment's current market value.

You had a good explanation in your report as to why the economics of the business are unattractive. And I presume, given the choice, we wouldn't do it over again.

WARREN BUFFETT: I think that's a fair assumption. (Laughter)

I should mention, anybody wanted to ask about USAir, we put them in the other room, just so you'll know why. (Laughter)

AUDIENCE MEMBER: And then the second part is better.

WARREN BUFFETT: But I'm watching you. I can see you on the monitor. (Laughs)

AUDIENCE MEMBER: And quoting from your profound statement, "You don't have to make it back the way you lost it."

WARREN BUFFETT: Right.

AUDIENCE MEMBER: Wouldn't it be a good idea to put that 89 million in something you are really behind as opposed to USAir?

WARREN BUFFETT: Well, that's a very good question. Because it is true that a very important principle in investing is you don't have to make it back the way you lost it. And in fact, it's usually a mistake to make — try and make it back the way that you lost it.

And we have — when we write our — an investment down, as we did with USAir at 89 million, we probably think it's worth something more than that. But we tend to want to be on the conservative side. But it's worth a whole lot less than we paid.

And the nature of that preferred, as well as other private issues we've bought, usually makes it quite difficult to sell. That's one of the things we know going in.

When we bought preferred, some people thought that we were getting unusually favorable terms. I haven't heard from them lately on USAir, but — (Laughter)

But one of the considerations in that is that, if you buy a hundred shares of a preferred that's being offered through a securities firm, from the same issuer, you can sell it tomorrow. And we are restricted, in some ways legally, and in other ways simply by the way that markets work, from disposing of holdings like that.

And we know that there's an extra cost involved to us if we should try to sell, or it may be impossible.

And that's not of great importance with us because we don't buy things to sell, but it's of some importance.

And we are not in the same position owning our Series A preferred of USAir as we would be if we bought a thousand shares or 5,000 shares of the Series B preferred, I believe it is, that trades on the New York Stock Exchange. That would be very saleable.

And our preferred could well even be saleable at a price modestly above what we carry it for, but it would require — it would not be very easy to do.

It might — if it were do — if we went about to do it, we could probably — assuming we could do it at all — we could probably get a little more money for it.

But it would not be easy to do, partly because of legal restrictions. Charlie and I are on the board. That complicates things.

We always know something that, just by being on the board, that the public doesn't know. So, that complicates things.

And in the end, we usually find that dealing with anything where we've got fiduciary obligations is, maybe, not practical at all. And if it is, it's probably more trouble than it's worth.

Charlie?

CHARLIE MUNGER: Well, it's certainly been an interesting experience, the USAir experience. (Laughter)

WARREN BUFFETT: Is that it, Charlie? OK. No, he —

CHARLIE MUNGER: I'd like to repeat that business about not having to get it back the way you lost it. You know, that's the reason so many people are ruined by gambling.

They get behind and then they feel they have to get it back the way they lost it. It's a deep part of the human nature.

And it's very smart just to lick it by will, and little phrases like that are very useful.

WARREN BUFFETT: Yeah, one of the important things in stocks is that the stock does not know that you own it. You know, you have all these feelings about it. You know, and — (laughter) — you remember what you paid, you know? (Laughter)

You remember who told you about it. All these little things, you know?

And it — you know, it doesn't give a damn, you know? (Laughter)

It just sits there. And it — you know, a stock at 50, somebody's paid a hundred, they feel terrible. Somebody else paid 10, they feel wonderful. All these feelings, and it has no impact whatsoever.

And so, it's — as Charlie says, gambling is the classic example. Someone builds a business over years. You know, that, they know how to do.

And then they go out some place and get into a mathematically disadvantageous game. Start losing it and they think they've got to make it back, not only the way they lost it, but that night. And — (laughter) it's a great mistake.

WARREN BUFFETT: Zone 1.

AUDIENCE MEMBER: My name is Donald Stone. I'm from Riverside, Connecticut. I’m — this is my second shareholders meeting, ever, at age 61. So, I'm really very privileged to be here.

My first was Coca-Cola a week and a half ago. And there were only 200 people there. I'm trying to figure this out. (Laughter)

I think the rule is that the number of people present is in direct proportion to the price of the shares.

WARREN BUFFETT: Well, in that case, we won't split. (Laughter)

AUDIENCE MEMBER: OK.

Prefatory comment to my question: the November 24th, 1994 issue of Fortune Magazine had an article, a featured article, entitled "America's Greatest Wealth Builders," dealing with the concepts of market value added and economic value added.

It was with great glee that I noticed that Coca-Cola was number two on that list, second only to General Electric, and that Coca-Cola had done twice as well as Pepsi-Cola, number nine on the list, with one-third as much capitalization.

My question is this: whether the concept of market value added and economic value added, as such, or any of its variants, is a concept that's applicable and useful to Berkshire Hathaway as a whole, or in analyzing its line of business segments?

I'd really like to hear from Charlie Munger on this first. (Laughter) Because I’ve heard —

WARREN BUFFETT: So would I. (Laughter)

AUDIENCE MEMBER: I've heard —

WARREN BUFFETT: Charlie?

AUDIENCE MEMBER: I’ve heard that he's thought a lot about this particular subject.

WARREN BUFFETT: Right.

CHARLIE MUNGER: If Warren is using economic value added exactly the way they're now teaching it in the business schools, he hasn't told me.

Obviously, the concept has some merit in it. But the exact formal methods, I don't believe we use.

Warren, are you using this stuff secretly?

WARREN BUFFETT: No, we — (laughter) — in a sense, they're trying to get at the same thing we do. Or we're trying to get at the same thing they do. But I think it's — A, I think it has some flaws in it.

Although I think it generally comes out with the right answers, it sort of forces itself to come out with the right answers.

But I really don't think you need that sort of thing. I mean, I do not think it's that complicated to figure out, you know, where it makes sense to put money. You can make mistakes doing it. But in terms of the mental manipulations you go through, I don't think it's a very complicated subject.

And I don't think that — I think that the people marketing one or another fad in management tend to make them a little more complicated than needed so that you have to call in the high priest.

And, you know, it — if all that really counts is the Ten Commandments, you know, it's very tough on religious counselors and everything. (Laughs)

It doesn't take — it just doesn't make it complicated enough.

And I think there's some of that in — quite a bit of that — in management consulting and in the books that you see and all of that, that come out.

CHARLIE MUNGER: It's way less silly than the capital assets pricing model. So that, at least academia's improving. (Laughter)

WARREN BUFFETT: Really, yeah. The capital asset pricing model, which is — I don't know how much it's used now. Certainly — you know, they had these great waves of popularity. You get that in management. You get it in investing. I mean, real estate, you know, may have been popular, or international.

I — you can read Pensions & Investment magazine, which is a pretty good magazine. But you can just see these fads sort of going through. And then they have seminars on them and everything. And, you know, the investment bankers create product to satisfy the demand.

And there’re these fads in management — I mean, obviously, listening to your customer and things like that, I mean, that is — nothing makes more sense. But it's hard to write a 300-page book that just says, "Listen to your customer." (Laughter)

And, you know, that's one of the things I liked about Graham's book. I mean, you know, he wrote — everything he wrote sort of made sense. He didn't sort of get into all the frills and try and make it more complicated than it really, truly is.

You know, I really didn't need to read the November issue — 1994 issue of Fortune — to know that Coca-Cola had added a lot of value. (Laughter)

We added about 4 billion-some of value to Berkshire. That's good enough for me. (Laughter)

WARREN BUFFETT: Zone 2.

AUDIENCE MEMBER: My name is Maurus Spence from Omaha, Nebraska. I have a two-part question on derivatives.

Does Berkshire Hathaway currently, or had they in the past, engaged in strategies involving derivatives?

If so, do you as CEO, fully understand these financial instruments? (Laughter)

WARREN BUFFETT: Whoever suggested that crazy notion? (Laughter)

AUDIENCE MEMBER: Finally, would Charlie care — you or Charlie — care to comment on the use of these by other financial institutions?

WARREN BUFFETT: The question about derivatives — the reason I inject that remark — in a Fortune article that all of you should read if you haven't, I suggested that the use of derivatives would be dramatically reduced if the CEO had to say in the report whether he understood them or not, and — (Laughter)

The answer to your question, though, is we have two types, I guess it would be, of derivative transactions, of very modest size. But that doesn't mean we wouldn't — if the conditions were right, we either wouldn't have them on a much greater scale now, or we wouldn't have done it in the past.

We have two types of transactions, and I do understand them. And there are times when there are things that we would want to do — not often — but there would be times when they could be best accomplished by a transaction involving a derivative security. And we wouldn't hesitate to do so.

We would obviously care very much about the counterparty, because that transaction is just a little piece of paper between two people. And it's going to cause one of the two to have to do something painful at the end of the period, usually, which is to write a check to the other person.

And therefore, you want to be sure that that person will be both willing and able to write the check. And so, we're probably more concerned about counterparty risk than most people might be.

Last year and the year before, I think I said that derivatives often combine borrowed money with ignorance, and that that is a rather dangerous combination. And I think that we've seen some of that in the last year.

When you can engage in, sort of, non-physical transactions that involve hundreds of millions, or billions, or tens of billions of dollars, as long as you can get some party on the other side to accept your signature, that really has — that has the potential for a lot of mistakes and mischief.

And if you've looked at the formulas involved in some, particularly I guess, interest rate-type derivative instruments, it is really hard to conceive of how any business purpose could be solved by the creation of those instruments.

I mean, they essentially had a huge, really, gambling element to them.

And I use that in the terms of engaging in a risk that doesn't even need to be created, as opposed to speculative aspects. They involved a creation of risk, not the transfer of risk, you know, not the moderation of risk, but the creation of risk on a huge scale.

And it may be fortunate that in the last year, half a dozen or so cases of people that have gotten into trouble on them have come out because it — that may tend to moderate the troubles of the future.

The potential is huge. I mean, you can do things in the derivative markets —

Well, I've used this example before, but in borrowing money on securities, the Federal Reserve of the U.S. Government decided many decades ago that society had an interest in limiting the degree to which people could use borrowed money in buying securities.

They had the example of the 1920s, with what was 10 percent margin. That was regarded as contributing to the Great Crash.

So, the government, through the Fed, established margin requirements and said, "I don't care if you're John D. Rockefeller," you know, "You're going to have to put up 50 percent of the cost of buying your General Motors stock," or whatever it may be.

And they said that maybe Mr. Rockefeller doesn't need that, but society needs that. They don’t — we don't want a bunch of people on thin margins gambling, you know, essentially, in shares, where the ripple effects can cause all kinds of problems for society.

And that's still a law. But it means nothing anymore because various derivative instruments have made 10 percent margins of the 1920s, you know, look like what a small-town banker in Nebraska would regard as conservative, compared to what goes on.

So, it's been an interesting history. You know, like I say, perhaps the experiences of the last year — they've got everybody focused on derivatives. Nobody knows exactly what to do about them.

Berkshire Hathaway will — if we think something makes sense and Charlie and I understand it — we may find ways to use them to what we think will be our advantage.

Charlie, you want to add anything on that?

CHARLIE MUNGER: Well, I disapprove even more than you do, which is hard.

If I were running the world, we wouldn't have options exchanges. The derivative transactions would be about 5 percent of what they are. And the complexity of the contracts would go way down. The clearing systems would be tougher.

I think the world has gone a little bonkers. And I'm very happy that I'm not so located in life that I have to be an apologist for it.

You know, a lot of these people, I feel sorry for them. You know, they had great banks. And they have to go before people, sometimes even including their children and friends, and argue that these things are wonderful.

WARREN BUFFETT: Zone 3?

AUDIENCE MEMBER: Good morning. I'm John Nugier (PH) from Kingsburg, California. And my question relates to Salomon.

And where — I'm just asking if you could take us out the next two or three years in your vision. It started out as a good investment. You got a good return on it, or your interest.

And it's clearly had some problems. And we have gotten in deeper and deeper as those problems have continued. And it doesn't look like it's superbright.

So, it — you must understand where it's going. But could you just give us where you see it going in the next two or three years?

WARREN BUFFETT: Well, no, I think it's very difficult to forecast where Salomon or, really, almost any major investment bank, slash, trading house will do over actually the next two or three months, let alone the next two or three years.

The nature of that business is obviously far more volatile than the blade and razor business. Now the — and the tough part is assessing over a longer period of time whether — because of volatility, it's much harder to assess whether — what the average returns might be from a business.

And the answer is, Charlie and I, probably, if we were to try and write the forecast for the next two or three years, we would not have a high — a feeling that we had a high probability of being able to predict what that company, or other companies in that industry either, would earn three years out or would probably have in the way of average earnings.

Our own commitment is to a $700 million preferred issue, which has five redemption dates starting in October 31st of this year and then every year thereafter.

On those dates, we can either take cash or stock. And that's an advantage, obviously, to have an option. Any time you have an option in this world, it's to an advantage — it’s to your advantage.

It may be a very small advantage, but it’s — giving options is generally a mistake, and accepting options is usually a good idea, if it doesn't cost you anything.

And we will — the other thing about options is you don't make a decision on them until you have to make a decision. But — so, we, in addition to that $700 million of preferred, which in our view is a hundred percent money-good — I mean, we'd like to own more of that.

But we also have about 6 million-odd shares of common, which we paid perhaps $48 a share for, or something in that area. In any event, considerably more than the present market of 35 or '6. So, we have a loss of probably 80 or $90 million, or some number like that, at market in the common.

The preferred has actually treated us fine. We've received $63 million a year.

Incidentally, by owning the amount of common we own, this probably isn't generally known, but — or recognized — if you own 20 percent of the voting power of a company, you have a somewhat different dividends-received credit. You have somewhat different tax treatment than if you own less than 20 percent.

So, until we own that common, we paid somewhat more tax on our preferred dividend than we now pay. It's not a huge item, but it's not immaterial, either.

Charlie?

CHARLIE MUNGER: Well, I certainly agree, it's hard to forecast what's going to happen in the big investment banking, dash — slash, trading houses.

I would like to say that Berkshire Hathaway was a large customer of Salomon long before we bought the preferred, and that we've had marvelous service over the years.

I think Salomon's going to be around for a long time, rendering very good service to various clients.

WARREN BUFFETT: We sold —

CHARLIE MUNGER: Satisfied clients.

WARREN BUFFETT: We sold our first debt issue of Berkshire, I think, in 1973, through Salomon. So, we've had an investing banking relationship for 21 or 22 years there. And actually, we'd done business with them before that in various other ways. So, it's a long-term relationship.

But there's no question about Salomon being around. The question — and that's why our preferred is absolutely money-good.

But the question is what the average return on capital will be. And we knew that was difficult to predict when we went in. And we found out it's even more difficult to predict than we thought.

WARREN BUFFETT: Zone 4?

AUDIENCE MEMBER: Thank you for the opportunity. Dick Jensen (PH) from Omaha, a fellow Nebraska University supporter.

A rather convoluted question: very interested in your recent purchase and your future intention of American Express. And as I understand the company, I know it's a rather involved and complicated and rather expansive company, insofar as it has its interest in many areas.

I know one of which, of course, is the credit card. But there's also the major part of the organization of IDS and others that I don't even know about.

And I wondered, what your hopes are for that investment.

And I also, just recently, as perhaps you have, became curious to know if you are personally acquainted with Mr. Phil Carret, I believe, his name is. And how about the purchase of his firm in your future? Thank you.

WARREN BUFFETT: Dick, I think Phil Carret is here today. Phil?

CHARLIE MUNGER: He's right back there.

WARREN BUFFETT: Phil, would you stand up? There he is. (Applause)

Give him a hand.

Phil is 98. I first met him in 1952, 43 years ago. He attends every eclipse around the world. And you can run into him in some very strange places.

Wrote his first book on securities, I believe, in 1924. I — am I right on that, Phil? Yeah.

And wrote an autobiography here, recently.

Probably the greatest long-term investment record in this country's history. And — but I think — I, you know, my impression is that Phil sold part, or a good bit, of Pioneer some years ago, which he managed for decades, many decades.

In fact, I first learned about Phil when I was leafing through Moody's Banks and Financial Manual 40-odd years ago, and I saw this company with this great record and with some securities that looked terribly interesting.

So, we got in touch. And he was out in Omaha and we got acquainted. It — so, anybody that can get Phil to talk to them, listen carefully. I advise that.

WARREN BUFFETT: The question about American Express: we own just under 10 percent of American Express. And obviously, even though you mentioned they're in a number of businesses, the — by far, the key, the most important factor in American Express's future for a good many years to come — a great many years to come — will be the credit card.

And that is a business that has become, and will forever, probably, become ever more competitive. I mean, I followed it since — I think I met Ralph Schneider at the Diners Club in the late 1950s.

And American Express entered into the credit card business out of fear. I mean, they were worried about what the credit card was going to do to their traveler's check business. Traveler's check business had been originated back in 1890-something, I believe.

And that was, in turn, building off of the old express business where, I think, it was Henry Wells and William Fargo, they would chain themselves to the express boxes as they delivered them through the — to the West.

And they decided that maybe issuing traveler's checks would a little easier — (laughter) — than carrying all this stuff around.

So, that — the traveler's check was the — evolved out of the express business.

And the credit card business with American Express arose out of fear of what — particularly Diners Club at the time. They were all terrified of Diners Club, which got this — got the jump on everybody.

And they became enormously successful with it. And the American Express card, as you know, had a terribly strong position in what they called the "travel and entertainment" part of the card business.

And of course, the banks entered in on a big scale. And Visa's been enormously successful.

So, the card has a strong franchise in certain areas, like the corporate card. Although people like First Bank System are very aggressive in going after them there.

The card — but the card has a significant franchise, but it does not have the breadth of franchise that it had many years ago.

For a while, it was "the" card. And now it's "the" card in certain areas, but nothing like as broad an area as before.

It has certain, very important, advantages and economic strengths and it has some weaknesses. And you have to suss those, in deciding where it'll be in the year 2000 or 2005.

And we think that the management of American Express thinks well about the question of how to — how you keep the card special in certain situations. And they've reacted to the merchant backlash for higher discount fees, I think, in an intelligent way.

So, we'll see how it all plays out. But the key — IDS, which has now been renamed, but is a very big part of American Express — it accounts for close to a third of their earnings — but the real key will be how the card does over time.

Charlie?

CHARLIE MUNGER: Nothing to add.

WARREN BUFFETT: Zone 5?

AUDIENCE MEMBER: Hi, my name is Philip King (PH) from San Francisco.

And my question has to do with how the FASB has caved in on the stock option proposal.

And the people opposed to the proposal argue that it would hurt capital formation for companies and that the cost of stock options is already reflected in shares outstanding, in fully diluted calculations.

And I was curious, what is your feelings about what's happened?

WARREN BUFFETT: Well, as those of you have followed this issue — FASB did cave, and they were — they hated it. I mean, they knew they were right. Matter of fact, most of the, what are now, I guess, the big six auditing firms, many years ago, sided with the position.

But in my opinion, the auditing firms caved to their clients, in that respect.

In terms of capital formation, I would argue that the most intelligent form of capital formation follows from the most accurate form of accounting.

I mean, it — if all the companies with — whose names began with A through M didn't have to count depreciation and all the ones with N through Z did, or something, you know, that might help in capital formation for companies that were — had names with A thru M. And incidentally, they probably all change their names.

But I don't think that bad accounting is an aid to capital formation. In fact, I think probably over time, it distorts capital formation.

Because if we were to pay all of the shareholders with — I mean, all of the people who worked for Berkshire Hathaway — in stock, and therefore record no wage expense, you know, we might be able to sucker in a bunch of people who thought the earnings were real.

But that would not be a great step forward for capital formation, in my view.

I really think that — you know, I've talked privately to a number of managers about this. And they understand it. But they, you know, they prefer the present situation. And they used a lot of muscle in Washington many years ago.

And I think I have this authenticated now. This fellow — mathematics professor — sent me some material after I'd written this. I try to get a little proof after the fact when I can.

I believe it was in the Indiana legislature, where a legislator introduced a bill to change the value of pi, the mathematical symbol pi, to three. Because he said that it was too difficult for the schoolchildren to work with this — (laughter) — complicated 3.14159.

And he was right. I mean, it was difficult. And I — and Congress, in connection with the stock option question, received all kinds of pressure to, in turn, pressure FASB and the SEC to not count stock option costs as part of compensation.

I've never met anybody that wanted to be compensated that felt that, if he received his present salary plus an option, he was not getting compensated more than if he just received a salary. So, he thought it was compensation.

And I will tell you that if we’d been issuing options over a period of time at Berkshire for things unrelated to the performance of the entire business, that we would've had a cost, perhaps measuring in the billions of dollars, whether it was recorded or not.

So, it goes back to Bishop Berkeley's question of whether a tree that falls in the forest and doesn't make a sound, you know, when — et cetera.

But it — I think it is — I really think that it makes you a bit of a cynic about American business when you see the extent to which a group has pressured — even to the extent of talking about financial — withdrawing financial support from the Financial Accounting Standards Board — the degree to which they've pressured people to make sure the value of pi stays at three instead of 3.14, simply because it was their own ox that was being gored a bit.

In any event, it’s — it looks like it's all over now for some time. In fact, now they're pressuring them to even weaken further the standards that have been set. So, self-interest is alive and well in corporate America.

Charlie?

CHARLIE MUNGER: Yeah, I think dishonor won. And I think that — I think it is quite important for a civilization to have sound engineering and good accounting.

And it is a very regrettable episode, leading politicians — leading venture capitalists.

I think to some extent, it's an indictment of the educational system, that this thing could be so widely looked at, and so wrongly.

WARREN BUFFETT: It's bad enough people want to cheat on their accounting. And they do cheat on their accounting. But to want it to be endorsed as the system —

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: — is really kind of disgusting.

CHARLIE MUNGER: Yeah, corruption won.

WARREN BUFFETT: Well, put us down on undecided on that and we'll move on to zone 6. (Laughter)

AUDIENCE MEMBER: Good morning, Mr. Buffett, Mr. Munger, Mike Lee-Chin from Hamilton, Ontario.

Could you consider availing a videotape of this meeting to us, the shareholders?

CHARLIE MUNGER: I didn't quite get that.

AUDIENCE MEMBER: Would you consider availing this videotape of the shareholder — this particular shareholder meeting to us, the shareholders?

CHARLIE MUNGER: Distributing a videotape?

WARREN BUFFETT: A transcript or a videotape?

AUDIENCE MEMBER: Yes.

WARREN BUFFETT: Yeah, we've had that suggested a number of times. It's a good suggestion, and we've considered it.

The thing we're worried about, in connection with that, is discouraging attendance.

I mean, it — (laughter) — we'd hate to have two people here asking questions and then send it out to tens of thousands. So — (laughter) — in the end —

CHARLIE MUNGER: Particularly if it might make sales go down at the jewelry store.

WARREN BUFFETT: Yeah. (Laughter and applause)

Since we were just attacking hypocrisy in American business, Charlie felt like he should add that to my comments. (Laughter)

But we — it's a close call on that because we would like everybody —

Of course, we try to cover a great many subjects in the annual report. But we like the idea of the meeting — answering a lot of shareholders questions.

We don't want to discourage attendance. And it's fun to have everybody come in and ask questions.

And the chances are, if we had far fewer people, we would have, you know, far more — far fewer — good questions. So that the quality of the meeting is enhanced, I think, by having a lot of people come.

But you've come a long way, so I can understand why you might be interested in a transcript. (Laughs)

I apprentice that. Thank you.

AUDIENCE MEMBER: — or no. Is that a yes or a no?

WARREN BUFFETT: It's — (Laughter)

CHARLIE MUNGER: It was a no.

WARREN BUFFETT: It's a no.

AUDIENCE MEMBER: OK. (Applause)

WARREN BUFFETT: Most everything we say is a no. But we have various ways of getting there. (Laughter)

WARREN BUFFETT: OK. Zone 7 from the other room, I can see you.

AUDIENCE MEMBER: Good morning, Mr. Buffett and Mr. Munger.

I was wondering if you could tell us what the sales at Borsheims were yesterday and how it compared to a year ago?

WARREN BUFFETT: Well, I can tell you how it compared to a year ago. They were 15 percent above a year ago. And a year ago it was 40-odd percent above the year before. And I forget how much that was before.

So, we keep setting records. But we haven't announced any numbers. But it's a pretty good size number. You're a sporty crowd.

AUDIENCE MEMBER: Thank you. (Laughter)

WARREN BUFFETT: Zone 1?

AUDIENCE MEMBER: Good morning. My name is Patrick Terhune from Fort Lauderdale, Florida.

And first of all, I see, per your request, there are a lot of people who wore red in honor of the Cornhuskers. (Applause)

Of course, my team was the — or is the Miami Hurricanes. And I've got my green and orange on under my clothes. So — but if we were to lose, I'm glad we lost to Nebraska and Tom Osborne.

I've got a request for Warren and Charlie, and that is, recognizing that the value, both intrinsic and extrinsic, of Berkshire Hathaway, is the result of your combined skills in acquiring growth companies and with your prudent and expert investing of the company's capital for growth, I'd like to know if you have a plan — a succession plan — to be executed in the event, God forbid, something happens to one or both of you, which would remove your input to the strategic decisions.

I sincerely hope you're in the process of developing individuals to carry forward your collective visions and to manage the company's resources as effectively and as profitably as is being done now.

WARREN BUFFETT: Well, I appreciate that question. And the answer is, obviously, we do care enormously about that because both Charlie and I — in addition to a lot of other reasons, but in — we both have a very significant percentage of our net worth in Berkshire.

And neither one of us has figured out how to sell it all exactly, you know, 15 minutes before we get hit by a truck. So, we will not have the jump on the rest of you.

And therefore, our continuing interest will go — financially — will go well, well beyond our deaths.

And it will — in terms of foundations or something like that, it will go to organizations that we care very much about having maximum resources available to.

So, we do have some plans. We don't name names or anything of the sort.

It's not quite as tough as you might think because we have a collection of fabulous businesses. Some of them owned totally, some of them owned in part.

And I don't think razor blade sales or Coca-Cola sales are going to fall off dramatically the day Charlie or I die. It — we've got some great businesses. And then same is true of the wholly-owned businesses.

So the question is more that of allocating capital in the future. And you know, that's a problem for Charlie and me right now, simply because of the size with — it's not easy to find things to do that make sense with lots of money.

And sometimes a year will go by and we don't find anything. And other times a year goes by, and we think we found something, but it turns out we were wrong.

So, it's not easy. But we think we will have some very smart people working on that.

And we don't think it will be the end of the world if they don't find anything the first year, because the businesses will run very well.

We have a big advantage in that, as contrasted to virtually almost every other company, we, now and in the future, are willing — eager — to buy parts of wonderful businesses or all of them.

I mean, most managements have a — most investors are limited to buying parts of businesses. And most managers, psychologically, are geared to owning all of something that they can run themselves.

We — you know, it's like, I think Woody Allen said some years ago, the advantage of being bisexual is it doubles your chances of a date on Saturday night. (Laughter)

And we can go either direction, in that respect. (Laughter)

And our successors will also. So very — Charlie, you want to add anything?

CHARLIE MUNGER: I think few business operations have ever been constructed to require so little continuing intelligence in corporate headquarters. (Laughter)

An idiot who was willing just to sit here would have a very good record long after the present incumbents were dead.

WARREN BUFFETT: I think that's true.

CHARLIE MUNGER: Yeah. I think it would be a little better if Warren would keep alive, in terms of allocating the new capital. I don't think we'll easily replace Warren.

But, you know, we don't have to keep getting rich at the same rate we have in the past. (Laughter)

WARREN BUFFETT: That's a tie vote. (Laughter)

WARREN BUFFETT: Zone 2?

AUDIENCE MEMBER: Hi, this —

WARREN BUFFETT: (Inaudible)

AUDIENCE MEMBER: — Keith Briar from San Francisco.

I have a question. When you're valuing the companies and you discount back the future earnings that you talk about, how many years out do you generally go? And if you don't go out a general number of years, how do you arrive at that time period?

WARREN BUFFETT: Well, that's a very good question. And it’s — I mean, it's the heart of investing or buying businesses, which we regard as the same thing, but —

And it is the framework in which we operate. I mean, we are trying to look at businesses in terms of what kind of cash can they produce, if we're buying all of them, or will they produce, if we're buying part of them. And there's a difference. And then at what discount rate do we bring it back.

And I think your question was how far out do we look, and all that.

Despite the fact that we can define that in a very kind of simple and direct equation, you know, we are — we've never actually sat down and written out a set of numbers to relate that equation.

We do it in our heads, in a way, obviously. I mean, that's what it's all about.

But there is no piece of paper. And we never — there never was a piece of paper that shows what our calculation on Helzberg's or See's Candy or The Buffalo News was, in that respect.

So, it would be attaching a little more scientific quality to our analysis than there really is, if I gave you some gobbledygook about, "Well, we do it for 18 years and stick a terminal value on and do all of this."

We are sitting in the office thinking about that question with each business or each investment. And we have discount rates, in a general way, in mind.

But we really like the decision to be obvious enough to us that it doesn't require making a detailed calculation.

And it's the framework. But it's not applied in the sense that we actually fill in all the variables.

Is that a fair way of stating it, Charlie?

CHARLIE MUNGER: Yeah. Berkshire is being run the way Thomas Hunt Morgan, the great Nobel laureate, ran the biology department at Caltech.

He banned the Friden calculator, which was the computer of that era. And people said, "How can you do this? Every place else in Caltech, we have Friden calculators going everywhere."

And he said, "Well, we're picking up these great nuggets of gold just by organized common sense, and resources are short, and we're not going to resort to any damn placer mining as long as we can pick up these major aggregations of gold."

That's the way Berkshire works. And I hope the placer mining era will never come.

Somebody once subpoenaed our staffing papers on some acquisition. And of course, not only did we not have any staffing papers, we didn't have any staff. (Laughter and applause)

WARREN BUFFETT: Zone 3?

AUDIENCE MEMBER: I'm Tom Morrow (PH) from Laguna Beach, California. And the question I have to ask pertains to the issuance of the new stock.

And again, as Charles mentioned, is there some potential gold mine out there that you have specifically in mind with the — some large acquisition that you have specifically in mind at this time, without revealing any strategic secrets?

WARREN BUFFETT: Yeah. There are things we would like to do. Whether we ever get a chance to do them or not is another question. But you know, I will be surprised if, in the next five years, we haven't used some preferred stock one time or another.

As I mentioned in the report, we had one last year that if we'd done it, it would've involved the issuance of maybe a billion dollars’ worth of — no, more than that, I'm sorry — a couple billion dollars’ worth of preferred.

That one isn't going to happen, in my view. I mean, it — there's one chance in a hundred it’ll — it could happen or something of the sort — but, probably, it isn't going to happen.

On the other hand, we want to be prepared for it. Something will happen. That's always been our experience.

You know, we have sat through some dry spells. And this is true in both the stock market and the acquisition business.

You know, I closed up the partnership in 1969 because there was nothing that made sense to do. And I'm glad I did because that situation prevailed in '71 and '2.

But in 1973 and '4, you know, there were all kinds of things to do.

And that will happen from time to time. People will behave, particularly in markets, just as foolishly in the future as they have in the past. It'll come at unexpected times. But we will get a chance to do something.

Now, that's more of a cash-type purchase, obviously, in the market. But we will get a chance to use the preferred.

And we will try to think about big things. We may not find them. But Charlie and I, the larger something is, the more interested we are.

WARREN BUFFETT: Zone 4.

AUDIENCE MEMBER: Jim Moss (PH) from Los Angeles.

I was reading through your annual report. And to me, an eye-popping number in there was the amount of float in 1994, at a cost of less than zero — I think it was $3 billion.

And I was wondering if there are any restrictions on your investment of that money, or can that go into your marketable equity securities?

WARREN BUFFETT: The question relates to — we have that long table we put in — we introduced about four years ago or so in the annual report, that shows the amount of float and the cost of float.

And that's a very important table. It — in terms of our operating businesses, that's probably the most important piece of information in the report.

And that float is, as you noted, well over $3 billion now — last year, because of various favorable factors, including the fact that our super-cat business was favorable, but also, because our other insurance businesses did very well — amazingly well.

The cost of that float, which is money that we're holding that eventually — does not belong to us, but will go to somebody else. The cost of that float was less than zero, and that is a very valuable asset.

And the question is, how much flexibility we have in investing that, which I think was the core of your question.

The answer is we have a lot of flexibility. We are not disadvantaged by that money being in float, as opposed to equity, really, in any significant way.

Now, if we had a very limited amount of equity and a very large amount of float, we would impose a lot of restrictions on ourselves as to how we would do it, because we would want to be very sure that we were in a position to distribute that float, in effect, to policyholders, or claimants, or whatever it may be at the time that was appropriate.

But we have so much net worth that, in effect, that float is just about as useful to us as equity money. And that means quite useful. It's a big asset of Berkshire's.

WARREN BUFFETT: Let's see, we've got zone 5.

AUDIENCE MEMBER: Susan Scott (PH) from Madison, Wisconsin.

On a more serious note, are you beginning to feel threatened by the success of the Beardstown Ladies? (Laughter)

WARREN BUFFETT: Which lady?

CHARLIE MUNGER: I —

WARREN BUFFETT: Which lady was that? I —

CHARLIE MUNGER: I didn't get it.

WARREN BUFFETT: I got everything except what lady that was.

AUDIENCE MEMBER: The Beardstown Ladies, the investment group?

WARREN BUFFETT: Oh, that group. Yeah, the best-seller. Yeah. I have not read that book. I hate to admit that to an audience of shareholders, that I —

This is a book that's — I think it's probably number, I don't know, seven or eight or something like that on the Times best-seller list, and been up there for a couple of months now.

It's a group — an investment group — that, apparently, is sharing with the world their secrets of success.

I'm always suspicious of people when they're sharing with the world any great ideas on investments. But we are not threatened at the moment, no. (Laughter)

WARREN BUFFETT: Zone 6.

WARREN BUFFETT: Mike Assail (PH) from New York City.

In the mistake du jour section of the annual report, you mentioned a fundamental rule of economics that you missed. I'd like to know the two or three most important fundamental rules of economics you habitually get right.

In other words, what are the fundamental rules of economics you used to make money for Berkshire?

And I'm not talking about Ben Graham's principles here, but rather, rules of economics which may be found in an economics textbook. Thank you.

WARREN BUFFETT: We — Yeah, we try to — I mean, we try to follow Ben's principles, in terms of the attitude we bring toward both investing and in buying businesses.

But the most important thing you can — you know, what we're trying to do is we're trying to find a business with a wide and long-lasting moat around it, surround — protecting a terrific economic castle with an honest lord in charge of the castle.

And in essence, that's what business is all about. I mean, you want to be the lord of the castle, yourself. In which case, you don't worry about that last factor.

But what you’re trying to — what we're trying to find is a business that, for one reason or another — it can be because it's the low-cost producer in some area, it can be because it has a natural franchise because of surface capabilities, it could be because of its position in the consumers' mind, it can be because of a technological advantage, or any kind of reason at all, that it has this moat around it.

And then our — then what we have to decide is — all moats are subject to attack in a capitalistic system, so everybody is going to try and — if you've got a big castle in there, people are going to be trying to figure out how to get to it.

And what we have to decide — and most moats aren't worth a damn in, you know, in capitalism. I mean, that's the nature of it. And it's a constructive thing that that's the case.

But we are trying to figure out what is keeping — why is that castle still standing? And what's going to keep it standing or cause it not to be standing five, 10, 20 years from now. What are the key factors? And how permanent are they? How much do they depend on the genius of the lord in the castle?

And then if we feel good about the moat, then we try to figure out whether, you know, the lord is going to try to take it all for himself, whether he's likely to do something stupid with the proceeds, et cetera. But that's the way we look at businesses.

Charlie, you want to add anything?

CHARLIE MUNGER: Well, I think he wants it translated into the ordinary terms of economics. The honest lord is low agency cost. That's the word in economics.

And the microeconomic business advantages are, by and large, advantages of scale — scale of market dominance, which can be a retailer that just has huge advantages in terms of buying cheaper and enjoying higher sales per square foot.

So you’re — by and large, you're talking economies of scale. You can have scale of intelligence. In other words, you can have a lord with enough extra intelligence that he has a big advantage. So you’re — by and large, you're talking scale advantages and low agency costs.

WARREN BUFFETT: Yeah, to some extent, Charlie and I try and distinguish between businesses where you have to have been smart once and businesses where you have to stay smart.

And, I mean, retailing is a good case of a business where you have to stay smart.

But you can — you are under attack all of the time. People are in your store. If you're doing something successful, they're in your store the next day trying to figure out what it is about your success that they can transplant and maybe add a little something on in their own situation. So, you cannot coast in retailing.

There are other businesses where you only have to be smart once, at least for a very long time. There was once a southern publisher who was doing very well with his newspaper. And someone asked him the secret of his success. And he said monopoly and nepotism. (Laughter)

And I mean, he wasn't so dumb. I mean, he didn't have any illusions about himself.

And if you had a big network of television affiliates station 30 years ago, there's still a major difference between good management and bad management. I mean, a major difference.

But you could be a terrible manager and make a fortune, basically. Because the one decision to own the network TV affiliate overcame almost any deficiency that existed from that point forward.

And that would not be true if you were the first one to come up with some concept in retailing or something of the sort. I mean, you would have to be out there defending it every day.

Ideally, you know, is you want terrific management at a terrific business. And that's what we look for.

But as we pointed out in the past, if you have to choose between the two, get a terrific business.

Charlie, any more?

CHARLIE MUNGER: No.

WARREN BUFFETT: Let's see, zone 7, I believe is next?

VOICE: No questions from zone 7.

WARREN BUFFETT: OK. How about zone 1?

AUDIENCE MEMBER: Paul Miller (PH) from Kansas City.

First, I'd like to comment on your purchase of Kansas City-based Helzberg Jewelers. You commented about Barnett Helzberg and his — what he's done, retailing-wise.

For those of us in Kansas City, you've also picked up Barnett and Shirley Helzberg, who are the first family in philanthropy in Kansas City.

And for the shareholders in this room, the Helzbergs are wonderful people. And to have them added to this group of companies says miles about Warren Buffett and that they pick companies based upon their management and their people.

So, kudos to Berkshire Hathaway for picking up the Helzbergs, and thanks to the Helzbergs for everything they've done to Kansas City. Now, my — (Applause)

WARREN BUFFETT: Appreciate that. (Applause)

AUDIENCE MEMBER: My question relates to value. We can look in the annual report, and we can all see the purchase of a Washington Post, for instance, for $10 million that has a value today of 420 million.

But discerning the value of the other consortium of non-publicly traded businesses, the Nebraska Furniture Marts, the Borsheims, et cetera — the value of their purchase price over the years versus their value today, how can we understand that value and how is it reflected in the annual reports?

WARREN BUFFETT: Yeah, well we try to — that's a good question. We try to give you the information that we would want in answering that question, in the annual report.

Part of it, we do in those pages where we say it's not according to GAAP accounting. But there's a lot of useful information in there.

We’re not — we don't stick a number on each company. But we try to give you enough information about the capital employ, the margins, and all of that sort of thing on the bigger businesses that you can make estimates that are probably just about as good as ours.

WARREN BUFFETT: Charlie and I would not need more information than is in the report to come up with a pretty good idea of what the controlled businesses are worth. And there's no information we're holding back that we think would be of any real importance in evaluating those businesses.

But you're right, it's a lot easier with marketable securities than it is — at least in terms of current numbers — than it is with the wholly-owned businesses.

The wholly-owned businesses, generally speaking, some of them are worth a whole lot more than we’ve — than they're carried on the books for. And we feel pretty good about, essentially, all of them.

But they’re — they've turned out remarkably well, I would say that, over the years. And my guess is that they keep working pretty well.

We have managers in a number of those businesses here. I'm not going to introduce them all because we have so many that it would take a considerable period of time.

But you named The Washington Post. In the front row there, close to the front row, we have Don Keough, would you step up, of Coca-Cola? (Applause)

And we have Kay Graham for the Post. (Applause)

And Tom Murphy from Cap Cities. (Applause)

CHARLIE MUNGER: Is Paul Hazen here, too?

WARREN BUFFETT: And I'm going to try and do — well, there's a whole bunch more. I don't want to get — but I — but those three were sitting together and I was struck by the fact that if — those three combined, we have about 6 1/2 billion of profit in, so far. (Laughs)

So, I would say that that's a — (Applause) —

Those are three businesses that have been fantastic. And like — I emphasize "so far" because we'd like to be able to name a bigger number in the future.

But we have a group of managers, both at the controlled companies and at the partly-owned companies, that have just created incredible value for Berkshire.

I mean, Charlie and I sit around and read the paper every day and a lot of magazines and things, watch OJ Simpson or whatever it may be. (Laughter)

And these people are out there creating a ton of value for us. So, we're not going to change it. That —

WARREN BUFFETT: Now, let's see. I think, zone — is it zone 2 now? Or is it — yeah.

AUDIENCE MEMBER: Hello. I'm Tim Palmer (PH) from Dillon, Colorado. I have a question for you regarding Salomon.

In the past week, there's been an article in The New York Times, The Wall Street Journal, and I believe it's Businessweek, that were rather unflattering, as far as what's going on with the management and your selection. There seems to be a — somewhat of a cultural clash there.

I don't know that to be a fact. But I wondered, number one, how you keep yourself open to bad news before it's news.

And what is going on in Salomon there, the compensation plan, et cetera? How do you think that, culturally, is going to work out?

WARREN BUFFETT: Charlie and I are always — we're more interested in bad news, always, than good news. We figure good news takes care of itself. And one — we only give a couple of instructions to people when they go to work for us.

And one of them is to think like an owner. And the second one is to just tell us the bad news immediately, because good news takes care of itself. And we can take bad news, but we don't like bad news late.

So, I would say, in connection with Salomon, that there is, and has been, some culture clash. And there probably almost always would be a culture clash in a business where there is that amount of tension.

Whether it be the entertainment business, or the investment banking business, or the sports business, there's going to be a certain amount of tension when — between compensation to the people that work there and compensation to the owners.

And I think there's been some — that strain has existed at Salomon from the day I was first there and far before that. I mean, I — that was no surprise. It's understandable.

You're seeing a tension, actually, in the airline business between the people that work there and capital. And it's produced terrible results in the airline business. And the people that work there have been able to — and I'm not talking about USAir specifically, although that's a case. But it goes beyond that.

They have had contracts, which were, as I pointed out in the report, were executed in an earlier age, which, essentially, will not allow — in many cases — capital to receive any compensation. And that produces a lot of tension.

You don't have contracts like that in the investment banking business or Wall Street, generally. But you have that same sort of tension.

And changing a culture around, A, takes time and, B, probably takes some change in people. I mean, I don't think that's a great surprise if you expect to do it.

I have — I don't think you can find two better people than Bob Denham and Deryck Maughan. They're smart, they're high-grade, they're willing to work very hard. And there will be people that buy into the arrangements they want to have. And there are people that won't.

Not all of the people that have left, by a long shot, are leaving of their own volition, but most of them are. But some aren't. I mean, there — Salomon lost a lot of money last year. And many of the people that have left were not responsible for some of those losses, but some of the people were.

So, that is not something where you announce names in the paper. But some people are leaving because they can make more money elsewhere. And some people are, maybe, leaving because we think we can make more money without them. (Laughter)

Charlie?

CHARLIE MUNGER: Yeah, I don't think the tensions that have been commented on within Salomon are all that unusual. I think they pretty well exist everywhere on Wall Street. And even in the banks, which have tried to imitate Wall Street. I just think it comes with the territory.

WARREN BUFFETT: I don't know what percentage of the Goldman Sachs partners left this year, but they had tensions that were produced, obviously, when they had a bad year. And they're going to have a bad year from time to time. Everyone's going to have a bad year.

But it — the partners — the general partners — of Goldman Sachs, in the year ended November 30th, 1994, did not do well. They may have not done anything at all. And they’d made some very big money in prior years. And they'll probably make some very big money in subsequent years.

But in the year when they didn't make any money, it was a lot of turnover. And maybe some of that turnover, also, was not all at the volition of the general partners that you read about leaving. I don't know the facts in that case.

But there's a certain amount of tension that exists in Wall Street under any circumstances. And when you aren't making money, there's a lot of tension.

WARREN BUFFETT: Zone 3?

AUDIENCE MEMBER: Yeah. My name is Michael Johnson. I'm a native to Omaha, and however, my family and I are Americans living abroad in Dhahran, Saudi Arabia.

My question is related to intrinsic value and Ben Graham's "Security Analysis."

I read a book earlier this year by Janet Lowe, who said that you were more toward the first or second editions of "Security Analysis" and not so much toward the fourth.

Yet, the fourth edition seemed to move more toward growth and value being kind of joined at the hip, like you've said in your last few annual reports.

And so, if I'm a person who's always studying security analysis like I do — I think I spend more time with that — do you think I need to get those first editions? Or is the fourth edition kind of more of what you've moved toward, with your comments such as value and growth are joined at the hip?

WARREN BUFFETT: Janet Lowe is here, incidentally, today. She wrote a very good book on Ben Graham. I recommend that any of you that haven't read it, go out and buy a copy.

The — I still prefer the — I think the second edition is cheaper to buy than the first edition, by some margin. And I think it's basically the same book. So, I — that's the one I would recommend. I — it isn't because of differences on value and growth.

I just think that the reasoning is better and more consistent throughout the second edition, which is really the last one that Ben was the hundred percent — along with Dave Dodd helping him in various ways — was responsible for writing.

So, I think that the book has gotten away, to quite an extent, from both Graham's thinking and from his way of expressing himself. So I really — but I have no quarrel with anybody that wants to read later editions at all.

I do think, probably, the second edition, if you're a real student of security analysis and you read and understand that, you’ll — you should do all right.

In terms of — a lot of the mistakes that were made, in terms of junk bonds and accounting and all of that sort of thing, were covered in 1934 in that first edition, and subsequently in 1940 in the second edition. There's a lot of meat in there.

Later on, you know — I must admit, I didn't read the last edition as carefully as the earlier ones. But it struck me, it was — it — what was said was not as important and it wasn't said as well. And it was more expensive. (Laughter)

Charlie, you have any thoughts on that?

CHARLIE MUNGER: No.

WARREN BUFFETT: Zone 4?

AUDIENCE MEMBER: Yes, Jeff Peskin (PH) from New York City.

And I was — I have a question on the annual report where you say that, obviously, going forward, due to the size of Berkshire, the returns going forward probably won't match the returns of the past.

And then you go on to state that one thing that may hinder that is the fact that you don't really like to sell companies that you own.

And I would just like to know what the reasoning is in that, if you've got a company or investment that you don't think is going to do as well as where you can put the money going forward. What really the reasoning is for holding on and not redeploying the money elsewhere?

WARREN BUFFETT: Yeah. I'll just correct you just slightly. A, I didn't say we'd probably do worse than the past. I said we will do worse than the past. I mean, there's no way we can match percentage numbers of the past.

That, you know, we would — in a period that would not take that long, we would — assuming we paid out nothing — we would gobble up the whole GDP, which is something we may think about, occasionally, but — (laughter) — we don't really expect to accomplish. The —

But — and the second point, that relates to size. That does not relate to our unwillingness to sell businesses, because that unwillingness has existed for decades. But the size has not existed for decades.

The size is — you know, doubling 12 billion or so is harder than doubling 1 billion-2, which was harder than doubling 120 million. I mean, there's no question about that.

So, eventually — well, already it will be a drag on performance. It doesn't mean that the performance will be terrible, but it does mean that 23 percent is an historical figure. It has no predictive value.

The unwillingness to sell businesses, like I say, goes back a long way. That is not what — that —

If that hurts performance, it's peanuts. That's simply a fact — a function of the attitude Charlie and I have, is that if we want to live our lives, we find it a rarity when we find people in the business that we want to associate with. When we do find that, we enjoy it.

We don't see any reason to make an extra half a percent a year or 1 percent a year — don't try us on higher numbers. But the — (laughter) — we don't see a reason to go around ending friendships we have with people, or contact, or relationships. It just doesn't make any sense to us. It —

We don't want to get committed to that sort of activity. We know we wouldn't do it if we were a private company.

Now, in Berkshire, we feel we've enunciated that position. We want to get that across to everybody who might join with us because we don't want them to expect us to do it.

We want them to expect us to work hard to get a decent result, and to make sure that the shareholders get the same result we get, and all of that sort of thing.

But we don't want to enter into any implicit contract with our fellow shareholders that will cause us to have to behave in a way that we really don't want to behave.

If that's the price of making more money, it's a price we don't want to pay.

There's other things we forgo also, but that is the one that people might disagree with us on. So, we want to be very sure that everybody understands that, going in. That's part of what you buy here.

And it may — I don't think it'll hurt performance that much anyway. But to the extent that it does, it's a limitation you get with us.

Charlie? (Applause)

CHARLIE MUNGER: I don't think there's any way to measure it, exactly. But my guess is that, if you could appraise something you might call the character of the people that are running the operating businesses in Berkshire, many of whom helped create the businesses in the first place, and are leading citizens in their community, like the Helzbergs —

I don't think there's any other corporation in America that has done as well as we have, if you measure the human quality of the people who are in it.

Now, you can say we've collected high-grade people because we sure as hell couldn't create them. But one way or another, this is a remarkable system. And why would we tinker with it?

WARREN BUFFETT: If you want to — (applause) — attract high-grade people, you probably ought to try and behave pretty well yourself.

I mean it’s just — besides, it wouldn't be any fun doing the other. I mean, it — I was in that position, a little bit, when I ran the partnership back in the '60s.

And I really — you know, people were coming into partnership with me. And my job was to turn out the best return that we could. And I found that if I got into a business, that presented certain alternatives that I didn't like. So, Berkshire's much more satisfactory in that respect.

WARREN BUFFETT: Zone 5?

AUDIENCE MEMBER: John Rankin (PH), Fort Collins, Colorado. Thanks for having us.

In the book, "Warren Buffett Way," the author describes the capital growth model that you've used to evaluate intrinsic value in common stock purchases.

My question is, do you also still use the formula Ben Graham described in "The Intelligent Investor," that uses evaluating anticipated growth, but also book value?

It seems to me that fair value is always a bit higher when using Mr. Graham's formula than the stream of cash discounted back to present value that is in "Warren Buffett Way" and also that you've alluded to in annual reports.

WARREN BUFFETT: Yeah, we've tried to put in the annual report pretty much how we approach securities. And book value is not a consideration — virtually, not a consideration at all.

And the best businesses, by definition, are going to be businesses that earn very high returns on capital employed over time. So, by nature, if we want to own good businesses, we're going to own things that have relatively little capital employed compared to our purchase price.

That would not have been Ben Graham's approach. But Ben Graham was — Ben was not working with very large sums of money. And he would not have argued with this approach, he just would've said his was easier. And it is easier, perhaps, when you're working with small amounts of money.

My friend Walter Schloss has hewed much more toward the kind of securities that Ben would've selected. But he's worked with smaller amounts of money. He has an absolutely sensational record. And it's not surprising to me at all. I mean, when Walter left Graham-Newman, I would've expected him to do well.

But I don't look at the primary message, from our standpoint, of Graham, really, as being in that — in anything to do with formulas. In other words, there's three important aspects to it.

You know, one is your attitude toward the stock market. That's covered in chapter eight of "The Intelligent Investor." I mean, if you've got that attitude toward the market, you start ahead of 99 percent of all people who are operating in the market. So, you have an enormous advantage.

Second principle is the margin of safety, which again, gives you an enormous edge, and actually has applicability far beyond just the investment world.

And then the third is just looking at stocks as businesses, which gives you an entirely different view than most people that are in the market.

And with those three sort of philosophical benchmarks, the exact — the evaluation technique you use is not really that important. Because you're not going to go way off the track, whether you use Walter's approach — Walter Schloss's — or mine, or whatever.

Phil Carret has a slightly different approach. But it's got those three cornerstones to it, I will guarantee. And believe me, he's done very well.

Charlie?

CHARLIE MUNGER: Yeah. To the extent that the method of estimating future cash flow requires projections, I would say that projections, while they're logically required by the circumstances, on average, do more harm than good in America.

Most of them are put together by people who have an interest in a particular outcome. And the subconscious bias that goes into the process, and its apparent precision, make it — makes it some — well, it's fatuous, or dishonorable, or foolish, or what have you.

Mark Twain used to say a mine is a hole in the ground owned by a liar. And a projection prepared in America by anybody with a commission, or an executive trying to justify a particular course of action, will frequently be a lie.

It's not a deliberate lie, in most cases. The man has gotten to believe it himself. And that's the worst kind.

So, I don't think we should — projections are to be handled with great care, particular when somebody has an interest in misleading you.

WARREN BUFFETT: Charlie and I, I think it's fair to say, we've never looked at a projection in connection with either a security we've bought or a business we've bought. We've had them offered to us in great quantities.

Now, the fact that we voluntarily turn them away when people try to thrust them upon us — I mean, it — the very fact that they are prepared so meticulously by the people who are selling the businesses, or by the executives who are presenting to their boards and all of that sort of thing, you know, I mean, either we're wrong or they're wrong.

It's a ritual that managers go through to justify doing what they wanted to do in the first place, in about nine cases out of ten.

I have never, you know, I have never met an executive who wanted to buy something that said, "Well, I had to turn it down because the projections didn't work." I mean, it's just — it's never happened.

And there will always be somebody that will come up with the projections that will satisfy the guy who's signing his paycheck or will sign the deal that provides the commissions.

And they will pass those along to whomever else they need, the bankers or the board, to approve it.

It is total nonsense. I was recently involved in some — in a situation where projections were a part of the presentation. And I asked that the record of the people who made the projections, their past projections also be presented at the same time. (Laughter)

It was a very rude act. (Laughter)

CHARLIE MUNGER: It was regarded as apostasy.

WARREN BUFFETT: It — but believe me, it proved the point. I mean, it was a joke, I mean. So, we'll leave it at that.

WARREN BUFFETT: We're going to have another — one more question, maybe. And then we'll take a break.

And Charlie and I will be eating up here. The ones who want to stick around can stick around. And the ones who are in the other room, undoubtedly there will be seats in here to fill.

So, we'll sort of regroup in 10 or 15 minutes. And then we'll go on as long as that group lasts.

So, let's take one more from zone 6. And then we'll take a break.

AUDIENCE MEMBER: Hello, my name is Peter Bevelin from Sweden.

What is the absolutely first question you ask yourself when you look at a potential investment? And do you and Mr. Munger ask yourself the same first question?

WARREN BUFFETT: Yeah. Well, I think — I don't ask myself whether Charlie's going to like it because — (laughter) — that will be a tough one.

No, the first question is, can I understand it? And unless it's going to be in a business that I think I can understand, there's no sense looking at it.

There's no sense kidding myself into thinking that I'm going to understand some software company, or some biotech company, or something of the sort. What the hell am I going to know about it? I mean, you know, I can — so that's the first threshold question.

And then the second question is, you know, does it look like it has good economics? Has it earned high returns on capital? You know, does it strike me as something that's likely to do that? And then I sort of go from there.

How about you, Charlie?

CHARLIE MUNGER: Yeah. We tend to judge by the past record. By and large, if the thing has a lousy past record and a bright future, we're going to miss the opportunity. (Laughter and applause)