Morning Session

1. Opening remarks

WARREN BUFFETT: Good morning. I’m Warren, he’s Charlie. He can hear, I can see. We work together for that reason. (Laughter) Like to make one correction in the movie. My fast ball was filmed in slow motion. They tried the regular way and you couldn’t even see it, so — (Laughter) Our approach today will be to announce a couple of things, our earnings, and introduce you to the directors. But as soon as that’s through, we’ll move on to questions. We’ll have those until noon. We’ll break for an hour and we’ll come back at 1:00. Those of you who are in the overflow rooms may find that you can get into the main arena here at that time. And we’ll go till 3:30 with the questions and then we’ll have the annual meeting, business meeting, for those of you who are still around at that point. And at that time, we will have the election of directors.

2. Board of directors introduced

WARREN BUFFETT: But because not all of you may be here at that time, I would like to introduce the directors to you, and I’ll ask them to stand. And if you’ll hold your applause until they’re all done standing, or you can even hold it after that — (laughter) — it will make — it will make for a very orderly meeting. So let’s start in with Howard Buffett. I’m the next one alphabetically. Our new director, Steve Burke. They didn’t hear the part about stay standing, but that’s OK. They’re generally fairly obedient, but the — (laughter) Susan Decker. Bill Gates. David Gottesman, Sandy Gottesman. Charlotte Guyman. Don Keough is unable to be with us today. He’s had a serious operation but he’s recovering very well and he’s got a lot of friends in this audience and he’ll be with us next year. Charlie, we’ve already introduced. Tom Murphy. Ron Olson, the manager in our movie. And Walter Scott. Now you can go wild with applause for the group.

(Applause)

3. Some recovery for “sputtering” economy

WARREN BUFFETT: Now, before we start with the questions, we do have preliminary earnings figures for the first quarter. And I’d like to ask the projectionist to put up slide A. There’s nothing really very surprising in these numbers, but we’d like to give them to you. They up there OK? Yeah. If you have any questions on these later on. What we’re seeing in our businesses is that, in what was sort of a sputtering recovery a few months ago, seems to have picked up steam in March and April. And our businesses that kind of serve broad industry, such as the railroad or Marmon or ISCAR, we’re seeing a pretty good uptick. It’s a long way from where it was a couple years ago, but what was very spotty in the recovery a couple of months ago, the trends really seem a fair amount stronger in the last few months. And we always encourage you to focus on operating earnings. We have the figures there for our investments and derivative businesses. We don’t really think they mean anything on a quarterly basis. Obviously, they’re meaningful over the years.

I mean, we’ve piled up a lot of net worth over the years with capital gains. But in any quarter, they mean absolutely nothing. And you’ll notice another thing about our report. We don’t even put down — we have to when we publish generally — but we don’t even put down the earnings per share. We’re not focused on that number in any quarter or any year. We’re focused on the buildup of value. And we really think that an undue focus on quarterly earnings, not only is probably a bad idea for investors, but we think it’s a terrible idea for managers. If I had told our managers that we would earn three dollars and 17 1/2 cents for the quarter, you know, they might do a little fudging in order to make sure that we actually came out at that number. And there was a very interesting study that was published a few months ago where thousands of earnings reports were examined. And instead of taking it out to the penny, which is customary in the reporting, they took it out one further digit.

And of course if you go out one further digit, and it’s four or less, you round downward, and if it’s five or more, you round upward. And they found out that a statistically impossible number of — small number — of fours showed up because if they got to four-tenths of a cent, somehow somebody in the accounting department managed to find another tenth of a cent so they could round upward. It was not an accident. And, you do not want to have — in our view, we think it’s terrible practice to be thinking about trying to report to some penny that you’ve whispered to Wall Street analysts in previous months. And we probably carry that to an extreme at Berkshire. But we always think of the enterprise as a whole. We think about building value over time. And we do not worry about earnings per share, and we don’t worry about investment gains or losses. Charlie may want to weigh in on this one a bit. Charlie?

CHARLIE MUNGER: Well, I agree with you. (Laughter)

WARREN BUFFETT: Yeah. He is the perfect vice chairman. (Laughter) They don’t come any better. OK. With that preliminary — we probably ought to quit at that point, actually. (Laughter)

4. Panel of journalists introduced

WARREN BUFFETT: We’re going to alternate the questions between a panel of three journalists here. We have Carol Loomis of Fortune magazine on the — on the far right. (Applause) And we didn’t do it quite alphabetically. We have Andrew Ross Sorkin from The New York Times. (Applause) And Becky Quick of CNBC. (Applause) Andrew’s maneuvered for a seat there, apparently, to get earlier in the questioning order, but I’ll probably stick with the alphabetical list. And we will alternate between our journalists, and then we will go around the auditorium here where people have been chosen by chance to ask questions. And we also will go to just I guess one of the overflow rooms; we have a whole lot of overflow rooms, but we’ll not go to all of them.

5. To be deleted

WARREN BUFFETT: So let’s just start things off. Carol?

CAROL LOOMIS: Well, since I won the alphabetical lottery, I get to make two very short statements also. One is that we received an awful lot of questions. We really don’t know how many because some people sent their question to all three of us. But I would guess we had something between 1,500 and 2,000 questions. And obviously, we’re not going to be able to ask all of those, and we’re sorry for those we didn’t get to ask. They were very good questions and we appreciate the work that people put into them. The other thing I want to mention is that Warren and Charlie have had absolutely no hint as to what the questions will be so they will have to field them just as they come up.

6. Buffett strongly defends Goldman Sachs

CAROL LOOMIS: However, Warren and Charlie may be smart enough to have guessed that the first question will be about topic A, which is Goldman Sachs. And I received several emails about the SEC’s lawsuit against Goldman, all of them asking a different question about that problem. I have combined the several thoughts in these questions, and with thanks to Greg Firman (PH), Kai Pan (PH) of Morgan Stanley, Brian Chan (PH), and Vic Timono (PH), here is the question: Warren, every year in the Berkshire movie, you did it again today, you use the clip from the Salomon crisis in which you tell Congress that you have warned Salomon’s employees that if they lose a shred of the firm’s reputation, you will be ruthless in your reaction. Clearly, Goldman Sachs has lost reputation because of the SEC’s action. Could you tell us your reaction to the lawsuit, your reflections in light of it about Berkshire’s large investment in Goldman? And what advice, in light of your own Salomon experience, you would give Goldman’s board of directors and management?

WARREN BUFFETT: OK. Anytime you ask me these multiple questions, I may go back to you to get all parts. But, well, let’s start with the transaction, because that’s the important thing. A few weeks ago on a Friday, a transaction described as ABACUS was made the subject of an SEC complaint. I think it ran about 22 pages. And I think there’s been probably sort of misreporting, not intentional obviously, but misreporting of the nature of that transaction in at least — probably a majority of the accounts that I’ve read about it. So, I would like — this will take a little time, but I think it’s an important subject. I would like to go through that transaction first. And then we’ll get further into the questions posed by the people that emailed Carol. The transaction, the ABACUS transaction, there were four losers in, but we’re going to focus on two of them. Goldman itself was a loser. They didn’t intend to be a loser, I’m sure.

They couldn’t sell the piece — a piece of the transaction — and they kept it, and I think they lost 90 or $100 million because they kept it. But the main loser, in terms of actual cash out, was a very large bank in Europe named ABN AMRO, which subsequently became part of the Royal Bank of Scotland. Now, what did ABN AMRO — why did they lose money? They lost money because they, in effect, guaranteed the credit of another company, ACA. ABN AMRO was in the business of judging credits, deciding what credits they would accept themselves, what credits they would guarantee. And in effect, they did something in the insurance world called fronting a transaction, which really means guaranteeing the credit of another party. We have done that many times at Berkshire. We get paid for it. And people do not want the credit of the XYZ insurance company but they say they’ll take a policy from XYZ if we guarantee it. And Berkshire has made a lot of money guaranteeing things over the years.

And Charlie can remember back to the early 1970s when we ran into some very dishonest people and we lost money, and we lost a fair amount of money at that time, because we guaranteed the credit of somebody that turned out to be not so good. It happened to be some syndicates at Lloyd’s, of all things. But they found ways not to pay when our name was on it. So ABN AMRO agreed to guarantee about $900 million of the credit of a company called ACA. They got paid for that, and this is in the SEC complaint. It’s not mentioned very often, but they got paid, what, 17 basis points, that’s 17/100 of 1 percent. So they took on a $900 million risk of guaranteeing credit. They got paid about a million-six. And the company whose credit they guaranteed went broke, and so they had to pay the 900 million. It’s a little hard for me to get terribly sympathetic with the fact that a bank made a dumb credit deal. But let’s look at ACA, because they were sort of the nub of the transaction.

ACA, and you wouldn’t really know this by reading most press accounts, ACA was a bond insurer. Now, they started out as a municipal bond insurer. They guaranteed various credits and they were like Ambac, they were like MBIA, they were like FGIC, they were like FSA. And all of those companies — and we wrote about this a few years ago in the report — all of those companies started out insuring municipal bonds. Some of them started 30 years ago. And there was a big business in insuring municipal bonds. And then the profit margins started getting squeezed in the municipal bond business. So what did they do? Instead of sticking to the business they knew and accepting lower profits, they went out and got into the business of insuring structured credits and all kinds of different other deals. I described their activities a couple years in the annual report as being a little bit like Mae West who said, “I was Snow White but I drifted.” (Laughter) These bond insurers — and almost all of them did it — these bond insurers drifted into insuring things they didn’t understand quite as well but where they could make a little more money.

ACA did it, MBIA did it, AMBEC did it, FGIC did it, FSA did it, and they all got into trouble, every one of them. Now, is there anything wrong with a bond insurer insuring structured credit or something other than municipals? No. But you better know what you’re doing. Now, interestingly enough, Berkshire Hathaway, when these other guys got into trouble, went into the municipal bond insurance business. And we insured things that were almost identical to what ACA or others had insured, the difference being that we thought we knew more about what we were doing. We got paid better than they got paid, and we stayed away from things we didn’t understand. We never insured a CDO; we never insured any kind of a RMBS deal or anything of the sort. But I want to give you an example of something we did insure, because I think it will help you understand better this ABACUS transaction. So if the — if the projectionist would put up slide number 1, I’m going to describe a deal to you. And as you — as you look at this — is it up there yet? Yeah.

Somebody came to us a couple of years ago. I’ll tell you the name a little later. But a large investment bank came to us a couple of years ago. Now, we were insuring bonds regularly. We insured bonds here of the Omaha Public Power District that’s familiar to many of you. We insured the bonds of the Nebraska — of the Methodist Hospital, which is six or seven miles from here. We have told people that if the Nebraska Methodist Hospital does not pay its bonds, Berkshire Hathaway will pay them. And we’ve done that to the tune of about $100 million in their case. So we are in the business of insuring bonds. Now, a couple of years ago, somebody came to us, large investment bank, and they said, “Take a look at this portfolio.” And as you can see, it’s got the names of a whole bunch of states. Yeah, it’s up there. And very different amounts. It’s got a billion-one for Florida; it’s only got 200 million for the State of California.

And they said to us, “Will you insure these states, that these bonds of these states, will pay for the next 10 years? If any of the states don’t pay, you have to pay as the insurer.” And I looked at the list, Ajit Jain looked at the list, and we had to decide, A) whether we knew enough to insure them, and B) what premium we would charge, because that’s what we’re in the business for. And we don’t have to insure them. We can say, “Forget it. We don’t know enough to make the decision.” But we made the decision and we offered to insure those bonds for about $160 million for 10 years. So we collected a premium of a little over 160 million, and somebody on the other side, the counterparty they call it, somebody on the other side, for 10 years, gets an assurance that, if these states don’t pay, we will pay as if they did pay. And this gets to the crux of the SEC’s case — or complaint — in respect to Goldman.

Somebody came to us with this list; we didn’t dream up the list. Another party came to us. Now, there’s about four possibilities. Now I’ll tell you who the party was that came to us two years ago: It was Lehman Brothers. So Lehman Brothers, there’s four possibilities, roughly. Lehman Brothers might own these bonds and want protection against the credit. They might just be negative on the bond market and, in effect, be shorting these bonds and using this method as a way of shorting it. They might have a customer that owned these bonds who wanted to buy protection against the credit. Or they might have a customer who was negative on these bonds and was simply wanting to short it. We don’t care which scenario exists. It’s our job to evaluate the risk of the bonds and to determine the proper premium. If they told me Ben Bernanke was on the other side of the trade, it wouldn’t make any difference to me. If I have to care about who’s on the other side of the trade, I should not be insuring bonds. They could have told me Charlie was on the other side of the trade.

(Laughs) So, in effect, we did with these bonds exactly what ACA did with the bonds that were presented to them. Now, ACA said, with the list of 120 that was presented to them, they said, “There’s about 50 of these that we’re willing to insure.” And then they went back and negotiated and took on 30 more of them. We could have said, presumably, “We don’t like Texas that well at a billion-150, and we’d rather have you give us more Floridas,” or something like that. We didn’t do it. We just took the list that was submitted. So it was totally the other guy’s list that we insured. In the case of the ABACUS transaction, it was sort of a mutual — a negotiation — as to which bonds were included. Now, in the end, the bonds that were included in the ABACUS transaction all went south very quickly. That wasn’t quite so obvious they were going to do that in early 2007, as you could see by studying something called the ABX Index. But the housing bubble — really, mania — started blowing up in 2007.

Now, there could be troubles in these states that we insured. You can say they have big pension obligations, and maybe the guy who’s shorting them on the other side knows more about that than we do, but, you know, that is our problem. I mean, if we want to insure bonds, in the case of ACA, in the case of MBIA, they have teams of people do it. We just do it with a couple people at Berkshire. But I see nothing whatsoever — I mean, if we lose a lot of money on these bonds, I am not going to go to the guy on the other side of the transaction and say, “Gee, you took advantage of me.” I don’t care if John Paulson is shorting these bonds to me. He has no worries that I’m going to claim that he had superior knowledge about the finances of these states or anything of the sort. So that was basically the ABACUS transaction. I think the central part of the argument is that Paulson knew more about the bonds than the bond insurer did.

My guess is the bond insurer employed more people than John Paulson did in his business, and they just made — they made what turned out, in retrospect, to be a dumb insurance decision. And for the life of me, I don’t see whether it makes any difference whether it was John Paulson on the other side of the deal, or whether it was Goldman Sachs on the other side of the deal, or whether it was Berkshire Hathaway on the other side of the deal. Let’s say we had decided to short the housing market in some way in early 2007. I don’t think anybody should blame us for taking our position if we did it. We didn’t do it. Or if we’d taken the long side. I think before we get to the other part of Carol’s questions, I’d ask Charlie to comment as this as Charlie has a law degree, and in other ways is superior to me, so we’ll get his views.

CHARLIE MUNGER: Well, my attitude is quite simple. This was a three-to-two decision by the SEC commissioners under circumstances where they normally act unanimously. If I had been on the SEC, I would have voted with the minority two and not with the three who authorized the lawsuit.

WARREN BUFFETT: Carol, would you get to the three parts that we probably haven’t answered yet? And then I’ll tackle this one. But I really feel it’s important to understand the transaction. I have not seen — I have seen ACA referred to as an investor. It’s true that ACA had a management company, but it was 100 percent owned by ACA. ACA was a bond insurer, pure and simple. And they had this — very simple, as it turned out — and they had one part of the organization did this and that. But ACA lost money because they were a bond insurer. Yep, Carol?

CAROL LOOMIS: Well, I’m assuming that you have covered the part that says could you tell us your reaction to the lawsuit. So the next part was your reflections, in light of it, about Berkshire’s large investment in Goldman. And then the third was what advice you would have, given your Salomon experience and the thread of reputation that you have planted, those words you have planted. Those are the last two parts.

WARREN BUFFETT: Ironically, very ironically, it’s probably helped our investment in Goldman in a certain way, because we have a $5 billion preferred stock that pays us $500 million a year. Goldman has the right, the legal right, to call that at 110 percent of par. So anytime they want to, they can sent Berkshire 5 1/2 billion, and they get rid of this preferred stock which is costing them 500 million a year. If we got that 5 1/2 billion in, immediately we’d put it in very short-term securities, which probably, under today’s conditions, might produce 20 million a year or something like that. So every day that goes by that Goldman does not call our preferred is money in the bank. It’s been pointed out that our preferred is paying us $15 a second. So as we sit here, tick — (laughter) — tick, tick, tick, that’s $15 every tick. (Applause) I don’t want those ticks to go away. (Laughs) I just love them. They go on at night when I sleep — (laughter) — on weekends.

And frankly, Goldman would love to get rid of that preferred. I mean, they only agreed to sell us that preferred because it was sort of at the height of the crisis. The U.S., I’m not sure what part of the government, probably the Fed, but they have been telling companies that took TARP money whether they could increase their dividends or not, whether they could redeem preferred, and all that. Up till now, probably the Federal Government has been doing us a big favor by telling — even before this thing happened — they’ve probably been telling Goldman that, “You can’t call that preferred until we tell you you can. And you can’t increase your dividend.” They’ve been pretty strong with all of the TARP companies. That has not been publicized too much, but believe me that it’s the case. So I was just sitting here hoping that the — basically, that the Fed, or whomever, would be — continue to be — quite tough, in terms of letting Goldman call our preferred. But it wasn’t going to go on forever.

I think that — I think recent developments have probably delayed the calling of our preferred by some time so the tick, tick, tick — (laughter) — will go on, and we will be getting $500 million a year instead of $20 million a year. We love the investment, and I would expect that — the question about losing reputation. There’s no question that the allegation alone causes the company to lose reputation, and obviously the press of the past few weeks, they hurt. They hurt a company. They can hurt morale, a lot of things. Nothing — it’s not remotely mortal or anything like that, but it hurts. Incidentally, Goldman Sachs had a situation in connection with the Penn Central, 30 — 40 years ago now. And that hurt at that time. They had a connection with one fellow in terms of Boesky that hurt at that time. And it was the source of great pain to John Weinberg, who was running Goldman. But I don’t believe that the allegation of something falls within my category of losing reputation. If something is proven, then you have to look at it.

My advice, in times of some kind of an emergent — when some transgression is either found or alleged, you know, basically, you saw Ron Olson in our movie, he was the manager of the team. And back when we were working at Salomon together in a somewhat similar situation, we had as our motto, “Get it right. Get it fast. Get it out. Get it over.” But, “Get it right,” was number one. I mean, you have to have your facts right, because if you go out with the wrong facts you get killed, and you can’t redo it afterwards. But that does mean sometimes some delay. You have to gather information from within your own organization, and you are on the defensive. I would not — I do not hold against Goldman at all the fact that an allegation has been made by the SEC. And if it leads into something more serious, you know, then we’ll look at the situation at that time.

But what I’ve seen in terms of the ABACUS activity, I just don’t — I do not see that that would be any different than me complaining about the list of municipals that were given to me to insure a couple of years ago. Charlie?

CHARLIE MUNGER: Well, I agree with all of that. But I also think that every business ought to decline a lot of business that’s perfectly legal and proper to accept. In other words, the standards in business should not be what’s legal and convenient. The standards should be different. And I don’t think there’s an investment bank in America of any consequence that didn’t take too many scuzzy customers and deal in too many scuzzy securities.

WARREN BUFFETT: I would agree with that. But, Charlie — (applause) — do you think we should have done our municipal bond deal?

CHARLIE MUNGER: I think it was a closer case than you do.

WARREN BUFFETT: (Laughs) OK. We insure, probably, 40 billion now, or something like that, of municipal bonds. And we have done very little in the last year, not because of Charlie’s views that he just expressed, but basically because the price isn’t right, the premiums are wrong. And the reaction of other people when premiums are wrong is to take more risk. And our reaction when premiums are wrong is just to go play golf or something and tell somebody to call us when premiums get right again. I do want to — Charlie and I will give our views on a lot of the activities that have gone on on Wall Street, and we do think plenty has been wrong. I do want to point out, though, that our experience with Goldman goes back 44 years. And during those years, we’ve bought more businesses through them than through any other Wall Street investment bank. We’ve probably done more financing. They have helped build Berkshire Hathaway. And we trade with them as well. We don’t hire them as investment advisors. They have a big investment advisory business, and, you know, our reaction to that is, “No, thanks.”

You know, we are in the business of making our own decisions. But when we trade with them, they can very well be shorting to us a stock we’re buying. You know, they can be buying for their own account some stock we’re selling. They do not owe us a divulgence of their position any more than we need to explain to them our reasoning or what we are doing in our position. We are acting there in a non-fiduciary capacity, and they are operating in a non-fiduciary capacity, in my view, when they are trading with us. Now, if they’re working on our behalf on an acquisition or a financing, that’s a different story. But I would say that we have had a lot of very satisfactory transactions with Goldman Sachs. And I don’t want to prolong this. I won’t do this on any more questions. But I’d like to — some people here will remember this — I’d like to take you back to the very first bond issue that Charlie and I ever did. This was our maiden voyage back in 1967, I believe. Yeah.

And if we could put slide 2 up there, I will direct your attention to the — This is an offering that was made in 1967. We’d just bought a department store and we had a company called Diversified Retailing. Now, Diversified Retailing only owned one retailing operation, but we were sort of imaginative in those days, so we called it Diversified Retailing. (Laughter) And we went out to raise $5 1/2 million. And Charlie Heider of Omaha, whom many of you know, helped me in the financing. And you will notice our tombstone ad there has on the top two lines “New York Securities” and “First Nebraska Securities.” They were the lead underwriters. And as customary with tombstones, there are a group of underwriters listed below, and they’re usually listed in the degree of their participation. In other words, the more that they’re involved, the higher up in the list they are, with the lead underwriters on top. And that’s been true of every tombstone I’ve ever seen, except this one.

And what happened in this one was that we were having trouble raising $5 1/2 million. And I called Gus Levy of Goldman Sachs, and I called Al Gordon of Kidder Peabody. Those were two of the most prestigious firms in Wall Street at the time. And I said, “Would you guys help me? We’re trying to raise 5 1/2 million and there’s nobody that wants to give Charlie and me 5 1/2 million. And the underwriters we’ve lined up are having trouble getting it done.” And both Gus Levy and Al Gordon said to me, “Warren, we’ll take a big piece.” And if you’ll put — if you put up slide number 3, you will see the list of underwriters, and Goldman Sachs highlighted and Kidder Peabody highlighted were actually the next-largest underwriters. But they were so ashamed of being associated with our dinky little company that they asked us to leave their names off. (Laughter) They wanted to give us money under an assumed name. (Laughter) But they did — they did come through for us. They did come through for us.

And believe me, a lot of people weren’t coming through for us then. I do have a long memory for people that have taken good care of Berkshire over time. And Al Gordon died last year at the age of 107. He worked until he was 104. He was a remarkable man. Gus Levy was a remarkable man. And I thank them for their participation, even though they did want to do it under an assumed name. (Laughter)

7. Munger: “I would make Paul Volcker look like a sissy”

WARREN BUFFETT: OK, we’ll go to — we’ll go to area number 1 and we’ll shorten the answers. (Laughs)

AUDIENCE MEMBER: Good morning, Mr. Buffett and Mr. Munger. My name is Guy Pope and I’m from Portland, Oregon. I’m curious about your thoughts on financial reform that Congress is currently working on. Specifically, what are the good ideas that you think are out there that should be included in the bill, and what are the bad ideas that you think should be left out?

WARREN BUFFETT: Charlie, it’s 1,550 pages so you take the first 1,500, I’ll take the last 50 pages. (Laughter)

CHARLIE MUNGER: Well, I don’t think anybody in America right now, including the people in Congress, know what’s going to happen. And my guess is that most of them have not read the bill, either. So I think we’re all in the doubt — (applause) — as to what’s going to happen. To me, one thing is perfectly clear and that is that our governmental system, which regulates the big investment banks, was so permissive and the investment banking culture had a nature, that together helped arrange that, under stress, every big investment bank except Goldman Sachs was going to go blooey. A system that likely to go blooey, that is so important to the country, should be changed so it’s less permissive in what it allows the banks and the investment banks to do. And people are thinking about that right now. The banks and investment banks just hate the idea of losing investment flexibility. For instance, on maintaining the biggest derivative book in the world at, say, JPMorgan Chase. They hate giving that stuff up.

That doesn’t mean that it’s good for the country that they be allowed to continue to do as they have done.

WARREN BUFFETT: Based on what you know about the bill, and I know you haven’t read all 1,550 pages, but would you vote for it today or not?

CHARLIE MUNGER: I simply don’t know enough about it. I know what I would do if I were the benevolent despot of America. And I would make Paul Volcker look like a sissy. (Laughter and applause)

WARREN BUFFETT: You want to get more specific than that? That’s quite a word picture. (Laughs) Want to get more specific, Charlie?

CHARLIE MUNGER: Well, I would reduce the activities that are permitted. If you’re de facto using the government’s credit to help your business run, you shouldn’t have a bunch of financial statements in the trillions, which you can’t really understand even if you’re a partner in the business. This is crazy. The complexity that has come into the system is quite counterproductive. And of course, the people have proven they can’t really control it. So I think what we need is a new version of Glass-Steagall that drastically limits what — (applause) — what both commercial banks and investment banks are allowed to do. They should have a much simpler and safer mode of business. When we owned a savings and loan association, it had a very restricted repertoire that it could use. And of course, it had government credit for its deposits. And by and large, as long as the repertoire was quite limited, the savings and loans stayed out of trouble. But you give human beings the flexibility the do any damn thing they please with absolutely unlimited credit under the repo system and other systems, and they will go plum crazy. And of course, they did.

8. We shouldn’t have to collateralize previous deals

WARREN BUFFETT: OK. On that cheery note, we’ll move to Becky. (Laughter)

BECKY QUICK: We received a lot of questions about the financial regulatory impending legislation. This question comes in from Jay Gelb, who wants to follow up on the point that Mr. Pope just made. “What’s the anticipated impact of pending financial reform legislation on Berkshire? In particular, how much additional collateral may need to be posted on Berkshire’s existed $63 billion of derivative contracts? And could Berkshire get too close to its minimum requirement of $20 billion of cash on hand as a result?”

WARREN BUFFETT: Yeah. As I understand the bill now, the one that got presented a couple of days ago — and I could be wrong but I think I understand it and I’ve read the sections — the requirements would be zero. If we were found — Berkshire were found — to be a — and I don’t know the exact term in the bill — but basically, dangerous to the system, by the secretary of the treasury, or I believe some commission, then we could be required to post collateral on retroactive contracts — on contracts that were written in the past. I think the chances of us being regarded as a danger to the system when we have 250 contracts and other companies have a million contracts — our position was described in the Journal not long ago as “huge.” You know, our position is 1 percent, in terms of notional value or liabilities or a lot of ways of measuring. It’s 1 percent of that of several other very large institutions. So I — I’ve really wondered if you use the word “huge” to describe our position, what you would use for 100 times that position?

That must be some adjective that lurks out there someplace to be attributed to those other positions. We had 23,000 positions 10 years ago when we bought Gen Re. And we proceeded promptly to get rid of all but less than a hundred that are left. So we have absolutely, in my view, we have no problems. If for any reason though, the Treasury or this commission should go back and maybe in some more sweeping declaration decide that they wanted all past contracts to be collateralized, we would comply, obviously. We also would feel that we were due substantial money because, in negotiating those contracts, there was one price for collateralized contracts and there was another price for uncollateralized. So if I sell my house to you for $100,000 and wanted $120,000 if it were furnished, but you said, “I’ll take it unfurnished for $100,000,” and then Congress comes along later on and says, “All houses have to be sold furnished, and by the way, that’s retroactive,” if I give you the furniture now I want something for it. A little unreasonable, maybe.

We do think — well, just a week ago we were offered an equity put contract that’s identical, basically, it’s a 10-year contract, by one of the very largest investment banking houses. The price that they would pay us was 7 1/2 million un-collateralized and $11 million collateralized. So there’s a very different — there’s a price to be paid for having a collateralized contract. And we elected to forgo probably a billion dollars of extra premiums we could have received in the past for our contracts if we had agreed to have them collateralized. And with a few exceptions, we declined that. And we would feel, if we ever had to collateralize them, we would be entitled to fair compensation for it, and we would like that language to be in the bill. And incidentally, Secretary Geithner — we’ll put up slide number 7. We have his testimony before the Senate Ag Committee on December 2nd. And as you can see, he testified very strongly, in terms of the sanctity of past contracts. But if the bill passes tomorrow, the way it reads to us and to our attorneys, we would not have to put up a dime.

And I would think there might be some other companies that would be determined to be dangerous to the system before Berkshire Hathaway would be. So I really — I don’t see any — I don’t see any consequences unless there’s some sweeping declaration that any company of a certain size that has derivatives shall be required to put up collateral. And if that’s required, we will, and it would be no problem. It would — it would have a cost to us in terms of the opportunity cost, but then of course we would argue about what collateral was proper and so on. And if we could put our Coca-Cola stock, you know, we’re going to hold our Coca-Cola stock anyway. So it really changes nothing. We still get the dividends from the Coca-Cola stock if it’s placed as collateral, we get the profit if it goes up. Charlie?

CHARLIE MUNGER: Well, yes. If collateral requirements were inserted by fiat of the government into existing contracts, it would be just like having a contract to buy a house for a million dollars, and the government passing a law saying, “No, you’ve got to pay $2 million.” I mean, it would be of dubious constitutionality, and it would be both unfair and stupid. I don’t think the government is that crazy. (Laughter)

WARREN BUFFETT: Plus, I think what they would see — there’s a whole list, in fact I think I’ve got a page even for that. Yeah, let’s put up slide number 8. And this is just a sample page of people who oppose putting up collateral — being required to put up collateral — prospectively. And you’ll see IBM, you’ll see Ford Motor, you’ll see 3M, you’ll see HCA. I mean, there’s all kinds of companies that don’t want to do it in the future. We don’t care what we do in the future as long as we get paid for it. So this is not anything that is peculiar to Berkshire at all. In fact, we happen to be in a different position than the IBMs and the 3Ms and those of the world, in respect to this. As long as we get paid for it, we’re indifferent to what the rules are going forward. But considering the fact that we took lesser premiums in the past, we would not like something retroactively to take money out of our pocket.

But bear in mind, Burlington Northern, when we buy it, it has some fuel contracts. MidAmerican has energy contracts. There was a story in Businessweek about Anheuser-Busch a couple of weeks ago. And, you know, they say, “We don’t want to take money out of our business and send it to Wall Street as a deposit on collateral.” And I think when — if they really saw that the net effect of this would be to send a whole lot of money to be held by Wall Street that was otherwise employed in operating businesses, there might be a little less congressional enthusiasm.

9. Greek debt crisis: “I don’t know how this movie ends”

WARREN BUFFETT: OK, we’ll go to number 2.

AUDIENCE MEMBER: Good morning to all of you. Switching topics, Charlie and Warren, I’m Norman Rentrop from Bonn, Germany. I want to first give you a big thank you and then a question. “Come by train,” you wrote in the shareholder letter, and that is how I came to Omaha for the first time back in 1997. I deliberately took the train from Denver to experience Omaha as a railroad city, and I immediately liked Omaha a lot. But the train ride, I saw room for improvement. So thank you very much for taking the future of American railroads into your gifted hands. (Applause)

WARREN BUFFETT: That’s one of the best questions I’ve ever heard. (Laughter)

AUDIENCE MEMBER: Oh, here a question.

WARREN BUFFETT: Oh, OK. (Laughter)

AUDIENCE MEMBER: It’s about Greece, the future of the euro, and the fiscal discipline all over the world, and what we have to prepare for as investors. In the past, you have been warning us about structural weaknesses of the U.S. dollar. Now we see Greece, and potentially other European countries, in crisis. Berkshire has significant investments in the eurozone, the big ones like Cologne Re, Munich Re, and even small ones like ISCAR’s (inaudible) in Hamburg. How are you preparing Berkshire Hathaway for potential currency failures? And what are your thoughts on the sustainability of the euro? And what is your advice for us as investors?

WARREN BUFFETT: Yeah. I’m going to — Charlie and I have not talked about Greece, actually, recently, so I’m going to be very interested in hearing his views on that. I will — I’ll answer the last part of your question first. We have a lot of exposure in various countries on both the asset and liability side. In other words, we do own stock in Munich Re, and they’ve got lots of assets, majority, probably, in the euro. We have Cologne Re, a subsidiary of General Re, which has a substantial net worth that is basically tied to the euro. On the other hand, we have very substantial liabilities that are denominated in other currencies, including fairly big time in the euro around the world. For example, when we reinsured three or four years ago, three years ago maybe, Equitas, we took on many, many, many billions of liabilities around the world. And we were paid by, in effect, Lloyd’s. And we took that money and invested it in dollars. So we keep those liabilities for all kinds of old insurance claims arising from Equitas in foreign currencies.

And if the euro depreciates against the dollar, we benefit on that side, but we lose, as you point out, on other sides. I can’t tell you, and it’s something I’m not concerned about, whether our net balance in euros or sterling or yen or whatever, I can’t tell you what it is on any given day. Some of it enters into our equity put options and things of that sort. But we have no dramatic exposures in any other currency. That doesn’t mean that other currencies are unimportant to us, because what happens with the Greek situation and what may fall out from that can be quite important, in terms of the world’s economy. And Charlie’s going to explain to you exactly what that might be. (Laughter)

CHARLIE MUNGER: Yeah. Well, generally speaking and with rare exceptions, of course, we’re agnostic about currencies. We simply do our business and we take those fluctuations as they fall, wouldn’t you agree with that?

WARREN BUFFETT: Yeah. We’re agnostic in terms of the relative values, of —

CHARLIE MUNGER: Yes. Yes.

WARREN BUFFETT: — course. Yeah, we’re not agnostic about where we think all currencies are headed, generally.

CHARLIE MUNGER: No, no.

WARREN BUFFETT: But the relative value —

CHARLIE MUNGER: But —

WARREN BUFFETT: — agnostic.

CHARLIE MUNGER: — Greece presents an interesting problem, of course. What’s happened is that the past conservatism of a place like the United States gave it wonderful credit, a combination of success and conservatism. And we used that credit to win World War II, and help revive Germany and Japan in one of the most constructive and intelligent foreign policy decisions ever made in the history of the world. And we used that credit to help assure prosperity for all these decades in which Berkshire has flourished. And now, of course, the government does not have quite as good a credit as it had before it started using it so heavily. And that’s happened pretty much all over the world. And so Greece is just the start of a very interesting period, and of course, it’s more dangerous to civilization when governments push their credit so hard. Because if you need credit to help civilization function, and you’ve blown it by your own aggression in using it in the past, that’s not a good thing. And I think in this country, and in other countries too, responsible voices are now realizing that we’re nearer trouble from lack of government credit than we’ve been, well, in my lifetime.

WARREN BUFFETT: Everything you read about country credits, currency, you always want to make a — you always want to distinguish between countries that are borrowing in their own currency pretty much exclusively, like Japan has or the United States, and countries that are being forced for one reason or another, because the world doesn’t trust them, to borrow in other countries’ currencies. I mean, in the past, you know, if you were some South American country and you were borrowing in your own currency, you never default, you just buy a new printing press or work it a little harder. But the world doesn’t like that sort of thing. So with weaker credits, and countries with poorer reputations, they force those countries to borrow in other currencies, frequently the United States currency. And that can really put you out of business very quickly because, you can’t — if you’re some South American country, you can’t print U.S. dollars, although you can print your own currency. And that’s what’s caused failures among countries.

The European Monetary Union, it’s a really interesting situation, because Greece, they are a sovereign country, in terms of their own budget. But they can’t print their own currency, you know, they’ve got the euro. And this is — you know, the euro was regarded as quite an experiment 20 years or whenever it was ago, or less than that. But you may be seeing sort of a test case play out here of a country that is not using its own currency, in effect, or using a common currency, and yet is sovereign, in terms of making its own promises to its citizens. And I don’t know how this movie ends. That doesn’t mean I’m forecasting disaster or anything, I really just don’t know how this movie ends. And I try not to go to movies like that, if I can. (Laughter) But I’ll be watching. Really, this will be high drama, in my view, what happens here. The one thing, Charlie says we’re agnostic on currencies, and we don’t make big currency plays. We did make one a few years ago and we did all right on it.

But we very seldom will develop a strong view on one currency versus another. I would say this though, that events in the world of the last few years would make me more bearish on all currencies, in terms of their future — holding their value over time — than previously. But it’s not unique to the United States, it’s not unique to the United Kingdom. If you really could run budget deficits of 10 percent of your GDP and do it for a long period of time, believe me, the world would have been doing it a long before this. I mean, that is — that’s a lot of fun if you can keep it up. And the reason it hasn’t been done in the past, I think, is probably that most people understand that it can’t be kept up. And how the world weans itself off huge deficit financing by country after country after country — it’s going to be easy — I mean, it’s going to be interesting — to watch. You do not need to worry; as long as the United States government borrows in U.S. dollars, there is no possibility, none, of default.

If the world won’t take our obligations denominated in dollars then we — then you have a real problem. But you don’t default when you can print your own currency.

CHARLIE MUNGER: Well, yes. And of course, the published statistics are quite misleading because the debts of the currencies — of the countries — are normally stated in terms of the government bonds outstanding, and the unfunded promises of the various governments are much greater than the government bonds outstanding. So whatever you think this problem is when you read the statistics, it’s miles bigger. And those unfunded promises don’t bind if you keep growing GDP at 2 or 3 percent per annum, per person, or something like that. You can afford the unfunded promises. But if you get to where the growth stops, then you’re going to have enormous social strains. And God knows what the effect will be on government policy and on currencies.

10. Did Goldman need to disclose SEC notice?

WARREN BUFFETT: Andrew, you’ve been very patient.

ANDREW ROSS SORKIN: I’ve received over 300 questions just related to Goldman Sachs, and I know we’ve covered it already but there are a couple outstanding questions and one individual sent three specific questions that I thought I’d ask. The first is, since Berkshire is a Goldman shareholder, who would you like the see run Goldman Sachs if not Lloyd Blankfein? Were you made aware of Goldman’s Wells notice, or anything about the case, prior to it being brought? Do you think the Wells notice constituted material information and should have been disclosed? Would have you disclosed it? And finally, have you been contacted as part of the Galleon investigation and the allegation that a Goldman Sachs board member passed inside information about your pending investment in Goldman in 2008 at the height of the crisis to Galleon? I know there’s a lot of pieces to that, but I thought we’d get Goldman out of the way —

WARREN BUFFETT: OK, good.

ANDREW ROSS SORKIN: — right now.

WARREN BUFFETT: Good. Yeah. Well, let’s answer the third one first. We’ve not been contacted in any way about Galleon. I read about that in the paper and the allegation, apparently, of a contact between a Goldman director and Galleon. And I think in one of the stories, I read something about, presumably, Galleon trading on it. But the answer is no contact from anybody. And I can’t pronounce the name of the guy that runs Galleon. (Laughter) The Wells notice, I’ve talked to a number of lawyers about that. And I think — when we got a — we didn’t get the Wells notice, but when the Gen Re executives got the Wells notice, I’m quite sure we stuck that in the 10-K or 10-Q that came up. And maybe we filed an 8-K announcing it. That was not us receiving it ourselves but certain executives receiving it. I have been on the board of at least one well-known company over the past 40 years, and I won’t narrow it down any more than that.

But before, they received a Wells notice and they didn’t publicize it, and, in truth, it was nothing. So lawyers tell me that if you regard it as material, you report it. I don’t think if I’d received something relating to the ABACUS transaction, based on what I know about it, I would have considered it material to a company that was making many, many, many billions of dollars a year. Charlie?

CHARLIE MUNGER: Well, I wouldn’t have regarded it as material, either. If every company reported every little thing that might happen with what they regarded a tiny probability, we’d just have unlimited confusing reports. There has to be some materiality standard. And you don’t want to give blackmail potential to people that are mad at you and make claims. I’m not saying that’s what the SEC was doing, but —

WARREN BUFFETT: No, but it could happen with a lot of — (laughter) it could happen with individual —

CHARLIE MUNGER: It could happen with other people, yeah.

WARREN BUFFETT: And I know what percentage of Wells notices result in something that’s material to the company. But my guess is that there are plenty of them that wouldn’t be. And of course, the bigger the company, the less likelihood that it would be material. And then your other question about who I would want running, if Lloyd wasn’t running it? I guess if Lloyd had a twin brother, I’d go for him. But I’ve never given that a thought. We think about who would run Berkshire — (laughs) — but there’s really no reason to think about that. There wasn’t any reason to think about, in my view, back in 1970, when they had the Penn Central problem whether somebody other than Gus Levy should be running Penn Central — be running Goldman. And when the event happened in connection with the Boskey thing, John Weinberg was running it then. And I thought that John Weinberg was a terrific manager of Goldman. So I just don’t see this as reflecting on Lloyd. I think, as Charlie — and we’ve got strong feelings.

There’s plenty of stuff goes on Wall Street that we don’t like. But we do not think it’s specific — we know it isn’t specific — to Goldman. Charlie?

CHARLIE MUNGER: Well, there are plenty of CEOs I’d like to see gone in America. (Laughter) But Lloyd Blankfein is not one of them.

WARREN BUFFETT: OK, number 3. (Laughter) I was afraid he might start naming names. (Laughter)

11. Driver feedback technology

AUDIENCE MEMBER: Hello. My name is David Clayman (PH) and I come from Chicago, Illinois. This question is for Mr. Buffett and Mr. Gates, principally as Berkshire shareholders, but also as Bill and Melinda Gates Foundation trustees. The leading cause of death for Americans my age are motor vehicle crashes. Over 6 million occur each year and you insure a significant number of these crashes. The World Health Organization ranks motor vehicle crashes as the 11th leading cause of death in the world. A new category of technologies are reaching the market. These technologies not only reduce driver distraction but also deliver positive feedback to drivers to help make drivers aware of how well they’re driving or how much better they could be doing. Will GEICO or the Gates Foundation make an aggressive and visible bet on driver feedback technologies to stimulate road focus and save life, liberty, property, and insurance premiums? I have a note here for Mr. Gates and Mr. Buffett. I’d be happy if I could get these to you somehow.

WARREN BUFFETT: OK, I think we know your position. (Laughter) The Gates Foundation, I think, has a fairly major initiative, along with Mayor Bloomberg, in terms of cigarette smoking. And I think you’ll find a whole lot more people have been affected by that than auto accidents. Auto accidents per mile driven, auto deaths, have diminished. I thought I heard a figure of six — I thought the figure was more in the 30,000 to 40,000 range actually, but it’s diminished over the years. You know, there have been a lot of things done to make cars safer. I’m not sure that cell phones and BlackBerries are among them. (Laughter) And I think they actually are — there will be more people die in auto accidents because the cell phone and various other instruments were invented than would otherwise be the case. I don’t know how significant that item will be. But everybody has an interest in bringing down fatalities. And GEICO has a very active safety program, testing cars, doing all kinds of things, working usually in conjunction with other insurance companies.

I do not think that — The Gates Foundation has fairly specific and intelligent, in my view, guidelines as to where they direct their activities, and they believe in focus, so they are not going to try and solve every problem in the world. But I can assure you that the insurance industry, as well as auto companies generally, are continuously working to make cars safer. Charlie?

CHARLIE MUNGER: I’ve got nothing to add. (Laughter)

WARREN BUFFETT: OK.

12. Berkshire shares not affected by Buffett’s donations

WARREN BUFFETT: Carol?

CAROL LOOMIS: This question also concerns the Gates Foundation but it’s entirely different. “One of your owner-related business principles says that you will attempt, through your policies and communications, to keep Berkshire’s stock price rational. “Yet every year, you give large amounts of your Berkshire stock to the Gates Foundation. And my understanding is that more will go to the foundation when you die.” By the way, I forgot to say this is from Michael McLaughlin (PH) of Omaha, who continues: “Already, we have seen that foundation regularly sell Berkshire stock, and it will sell more because its purpose is to give money to charities not hold the stock forever. “Won’t the foundation selling create a downward pressure on the stock because as much as 25 percent of it will be turned over?”

WARREN BUFFETT: Yeah. Basically, there’s five foundations I give money to every year, every July. And the amount I would be giving now, it’s a 5 percent declining balance, the amount I would be giving now would amount to about 1 1/2 percent of the shares outstanding annually, something like that. So if they sell, and they will, that stock fairly promptly after receipt in order to make charitable gifts, you basically have 1 1/2 percent of the shares being sold annually. Now, if you contrast that with trading on the New York Stock Exchange, which averages well over 100 percent of the amount of shares outstanding, it’s not anything unusual at all in the way of sales. And it is a free country. I mean, I could sell 10 percent of the company if I wanted to. I’ve never sold a share in my life, and I never plan to sell a share in my life. And I won’t sell a hell of a lot of shares after I die either, probably. (Laughter) If 1.5 percent of the outstanding shares at Berkshire move the price down in a year, it probably deserves to move down. Charlie?

CHARLIE MUNGER: Well, of course, I regard that degree of stock distribution to aid charity as almost a nonevent, and it may actually have been a constructive event, in terms of getting Berkshire into the Standard and Poor’s indexes and so on.

WARREN BUFFETT: Excuse me.

CHARLIE MUNGER: I think you’ve got more important things to worry about. (Laughs)

WARREN BUFFETT: If I’d owned 100 percent of Berkshire, for sure it would not have been in the S&P 500. It was always a problem of concentration. So if by selling down it enhanced — and it did to some degree — enhanced the chances of Berkshire being in the S&P 500, that probably accounted for maybe 7 percent or so of the capitalization, some number like that. So that was extraordinary, you might call it, buying that was brought in, to some extent because of the diminution of my own holdings. As Charlie said, I would say if none of the stock had been given away in the last four years, I don’t know whether — I have no idea — whether the stock would be selling a little higher or a little lower. I think that’s sort of an even money bet.

13. Buffett: “I would not run from the United States”

WARREN BUFFETT: OK, number 4.

AUDIENCE MEMBER: Hello, Mr. Buffett. Hello, Mr. Munger. My name’s Vern Cushenbery. I’m from Overland Park, Kansas. What do you see as the biggest challenge facing the United States economy relative to other countries? And what are the implications of that with regard to investing globally over the next decade?

WARREN BUFFETT: Charlie? (Laughter)

CHARLIE MUNGER: Thank you for steering that easy problem to me. (Laughter) I think the answer to that is that by and large we haven’t made our way in life by having great global allocations systems. Berkshire’s attitude, generally, is to find things that seem sensible to us and to concentrate, to some extent, in those matters. And then let the world economy and the world’s currency fluctuations fluctuate as they will. I do think we’d prefer some countries to others, and the more responsible the countries seem, the more comfortable we are. Wouldn’t you agree with that?

WARREN BUFFETT: Yeah. But we —

CHARLIE MUNGER: But beyond that, we can’t help you very much because we really don’t have a global allocation system at Berkshire, unless Warren is keeping it secret from me. (Laughter)

WARREN BUFFETT: Not that one. (Laughter) We did not buy Burlington Northern with the idea of moving it to China or India or Brazil — (laughter) — and we love that. We love the fact that Burlington Northern is in the United States. The biggest threat we have is some kind of a massive nuclear, chemical, or biological attack of one sort or another. And if you would say what are the probabilities of that over a 50-year period, it’s pretty high. Over a one-year period, it’s very low. But if you talk about whether the qualities that have led to the last 220 years of incredible progress, with a lot of hiccups, but incredible progress, you know, in the status of mankind that we’ve experienced in these two centuries compared to any two centuries you want to pick out in history, this country is remarkable and its system is remarkable. And it does unleash human potential like has never been seen before. This crowd here is not smarter than a similar crowd 200 years ago, and they don’t work harder. But, boy, do they live differently.

And they live differently because this system has enabled fairly ordinary people, over a period of time, to do extraordinary things. And that game isn’t over. There is nothing that says we have come close, in my view, to the limits of what humans can achieve. We probably don’t even know our own potential, any more than the people in 1790 knew their own potential. I mean, they thought it would be great if somebody finally came along with some farm tool that let them work 10 hours a day instead of 12 hours a day. So I — there’s no reason — you know, I hope the rest of the world does well, and I think they will do well. And it is not a zero-sum game. If China and India do well, that does not mean we do worse; it may mean we do better. So we are not — it’s not what they get is taking it away from us. But I would be perfectly content if Berkshire Hathaway were forced in some way to limit its investment to the opportunities available in the United States. We would have plenty of opportunities.

I’d rather have the whole world, obviously, in terms of opportunities, but there will be ample in this country. I would not run from the United States. OK. (Applause)

14. No rush to find new investment chief

WARREN BUFFETT: Becky?

BECKY QUICK: This is a question that has to do with the Berkshire succession plans. It comes from Craig Merrigan in Sprucegrove who asks, “How did the four potential candidates for Berkshire’s CIO position perform over the course of 2008 and 2009? “Did any of the four employ leverage? And have any of the four now been excluded from consideration?”

WARREN BUFFETT: Yes, the answer to that is that, in 2008, I reported to you last year that they didn’t, I think we got a question like that last year, they did not distinguish themselves. 2009, they did pretty darn well. It’s not — I would say that the four — it’s not the same four. I would say that none of them, Charlie, I believe you may use leverage at all. Do you think so?

CHARLIE MUNGER: Well, the one with which I’m most familiar made a little over 200 percent using leverage of zero.

WARREN BUFFETT: Well, that narrows it down. (Laughter) The potential investment people, that list will be subject to more movement around than probably the CEO succession. And it’s really far less urgent. If I die tonight, there will be a new CEO in place in Berkshire within 24 hours, and all the directors know who it would be, and they’re all comfortable with it. And there should be somebody in place within 24 hours. The investments, they don’t need anything done next week. I can go on vacation on investments. And we could go — we wouldn’t do it, or the directors wouldn’t do it, I won’t be there — but they could wait a month, they could wait two months. I mean, the Coca-Cola isn’t going to go away, Procter & Gamble’s not going to go away, American Express. There’s no great need to be doing things day by day. We don’t do things day by day.

So they can be fairly leisurely in working out, probably in conjunction with a new CEO, who they would like to bring in, how they would like to compensate them, what the number might be. That is not fixed in stone at all. The one thing I can tell you is that there are some very able people who would like very much, I think, to be managing money for Berkshire, and who would do a good job, and who are familiar to at least some of the directors. And that problem would get solved. The CEO problem — which is not a problem — but the CEO question, you want an answer for right now and you want to be prepared to implement it, you know, the next day, although I did just have a physical. (Laughs) Came out fine. (Laughter) Charlie? (Applause) My doctor isn’t here today so I will tell you, it drives him nuts because I eat like I do and he can’t find anything wrong — (laughs) — and he wants to, believe me. (Laughter) And with that —

CHARLIE MUNGER: Well I’m — (Laughter) I am not the most optimistic of the two people up here. And — (laughter) — yet, I’m quite optimistic that the culture of Berkshire will last a long, long time and will outlast, greatly, the life of the founder. I think it’s going to work.

WARREN BUFFETT: I really think — I mean, we shouldn’t be getting into superlatives — but I think we have as strong a culture, and as distinctive a culture, in terms of managers, ownership, the whole works, of any really large company in the country. And it’s taken a long time to develop, but it becomes self-reinforcing after a point. And we love it, and I think they’ll love it after I’m gone. (Applause) Don’t clap there. (Laughter)

15. Good, but not brilliant, returns for businesses needing capital

WARREN BUFFETT: OK, number 5.

AUDIENCE MEMBER: Hi, I’m Steve Fulton (PH) from Louisville, Kentucky. Once again, I gave up a box seat to the Kentucky Derby to come ask you a question. (Laughter) And I appreciate that opportunity. My question’s focused on the shift, if you will, to investing in the capital-intensive businesses and the related impact on intrinsic value. You again stated in the annual report that best businesses for owners are those that have high returns on capital and require little incremental capital. I realize this decision is somewhat driven by the substantial amounts of cash that the current operating companies are spinning off, but I would like you to contrast the requirement for this capital against the definition of intrinsic value, which is the discounted value of the cash that’s being taken out. And just for all of us to be aware, you’ve mentioned the fact that you think these businesses will require tens of billions of dollars over the few decades, and just the time value of that, I’d like to understand a little bit more of your insight into that.

WARREN BUFFETT: OK. Although it’s clear you understand the situation quite well, and it’s — as important a question as you could ask, virtually, I would say, at Berkshire. We are putting money into good — big money — into good businesses from an economic standpoint. But they are not as good as some we could buy when we were dealing with smaller amounts of money. If you take See’s Candy, it has 40 million or so of required capital in the business, and, you know, it earns something well above that. Now, if we could double the capital, if we could put another 40 million in at anything like the returns we receive on the first 40 million, I mean, we’d be down there this afternoon with the money. Unfortunately, the wonderful businesses don’t soak up capital. That’s one of the reasons they’re wonderful. At the size we are, we earn operating earnings, $2.2 billion, or whatever it was in the first quarter, and we don’t pay it out, and our job is to put that out as intelligently as we can.

And we can’t find the See’s Candies that will sop up that kind of money. When we find them, we’ll buy them, but they will not sop up the kind of money we’ll generate. And then the question is, can we put it to work intelligently, if not brilliantly? And so far, we think the answer to that is yes. We think it makes sense to go into the capital-intensive businesses that we have. And incidentally, so far, it has made sense. I mean, it’s worked quite well. But it can’t work brilliantly. The world is not set up so that you can reinvest tens of billions of dollars, and many, many tens over time, and get huge returns. It just doesn’t happen. And we try to spell that out as carefully as we can so that the shareholders will understand our limitations. Now, you could say, “Well, then aren’t you better off paying it out?” We’re not better off paying it out as long as we can translate, as you mentioned, the discounted value of future cash generation.

If we can translate it into a little something more than a dollar of present value, we’ll keep looking for ways to do that. In our judgment, we did that with BNSF, but the scorecard will be written on that in 10 or 20 years. We did it with MidAmerican Energy. We went into a business, very capital intensive, and so far, we’ve done very well, in terms of compounding equity. But it can’t be a Coca-Cola, in terms of a basic business where you really don’t need very much capital, if any, hardly. And you can keep growing the business if you’re lucky, if you’ve got a growing business. See’s is not a growing business. It’s a wonderful business, but it doesn’t translate itself around the world like something like Coca-Cola would. So I would say you’ve got your finger right on the right point. I think you understand it as well as we do. I hope we don’t disappoint you, in terms of putting money out to work at decent returns, good returns.

But if anybody expects brilliant returns from this base in Berkshire, you know, we don’t know how to do it. Charlie?

CHARLIE MUNGER: Well, I’m just as good at not knowing as you are. (Laughter)

16. Making loans vs. buying stock in credit crisis

WARREN BUFFETT: OK, Andrew? (Laughter)

ANDREW ROSS SORKIN: This question comes from Victor and Amy Liu (PH) who are shareholders from Santa Monica, California. And they ask, “When you made investments during the financial crisis in February of 2009, why did you lean towards debt instruments rather than equity? “For example, why did you invest $300 million in Harley-Davidson at 15 percent interest instead of buying equity when the shares were at $12? Today, they’re at $33.

WARREN BUFFETT: Well, I would say that if I were writing that question now, I might write the same question. But I’m not so sure you would have written the same question in February. Now, there were different risk profiles, obviously, in investing. And the truth is, I don’t know whether Harley-Davidson equity is worth $33 or $20 or $45. I just have no view on that. You know, I kind of like a business where your customers tattoo your name on their chest or something. But — (laughter) — figuring out the economic value of that, you know. I’m not sure even going out and questioning those guys I’d learn much from them. (Laughter) But I do know, or I thought I knew, and I think I was right, that, A) Harley-Davidson was not going out of business. And that, B) 15 percent was going to look pretty damned attractive. And the truth is, we could probably sell those bonds, I don’t know, probably at 135 or something like that. So we could have a very substantial capital gain, a lot of income.

I knew enough to lend them money; I didn’t know enough to buy the equity. And that’s frequently the case. And, you know, we love buying equities, but we love buying the Goldman preferred at 10 percent. Now, let’s say Goldman, instead of offering me the 10 percent preferred and warrants had said, “You can have a 12 percent preferred, non-callable,” I might have taken that one instead. I mean, the callable — so there’s a tradeoff involved in all these securities. And obviously, if I think I can make very good money, as we did on Harley-Davidson, with a very simple decision, just a question of, “Are they going to go broke or not?” as opposed to a tougher decision, “Is the motorcycle market going to get diminished significantly? And, you know, are the margins going to get squeezed somewhat?” And all of that. I’ll go with a simple decision. Charlie?

CHARLIE MUNGER: Well, of course your one good answer, that you simply didn’t know enough to buy the stock but you did know enough to buy the bond, is a very good response. The other side to that is, after all, we are a fiduciary for a lot of people, including people with permanent injuries and et cetera, et cetera. And to some extent, we are constrained by how aggressively we buy stocks versus something else. And you mix those together, why, you get our investment policy. I think, generally speaking, you raise a very good question. I think very often, when you’re looking at a distress situation and buy the bonds, you should have bought the stock. So I think you’re looking in a promising area.

WARREN BUFFETT: Yeah. Ben Graham wrote about that in 1934, actually, in “Security Analysis,” that in the analysis of senior securities, the junior securities usually do better, but you may sleep better with the senior securities. And we, as Charlie points out, we have 60 billion of liabilities to people in our insurance operation that, in some cases, extend out for 50 years or more. And we would never have all of our money in stocks. I mean, we might have very significant amounts, but we are running this place so that it can stand anything. And a couple years ago, we felt very good about where that philosophy left us. I mean, we actually could do things at a time when most people were paralyzed, and we’ll keep running it that way.

17. Creating a good corporate culture is easier than changing a bad one

WARREN BUFFETT: Area 6.

AUDIENCE MEMBER: Mr. Munger and Mr. Buffett, thanks for having us here. I recently joined a new organization and for me to succeed there, the culture of the organization needs to change. So I’m interested in hearing your thoughts about how do you change culture of an organization? And if you’re building a new organization, then how do you make sure you have a strong and unique culture?

WARREN BUFFETT: Well, I think it’s a lot easier to build a new organization around a culture than it is to change the culture of an existing organization. It is really tough. And I like that fact, in the sense of Berkshire. I mean, it would be very tough to change the culture of Berkshire. It’s so ingrained in all our managers, our owners. Everything about the place is designed, in effect, to reinforce a culture. And for anybody to come in and try and change it very much, I think the culture would basically reject it. And the problem you describe, if you want to walk into, you know, whatever kind of organization you want to name — I’ve got to be a little careful here — it is tough to change cultures. Charlie and I have bucked up against that a few times. And I would say if you have any choice in the matter, I would much rather start from scratch and build it around it. But that was the — I’ve had the luxury of time with Berkshire.

I mean, it goes back to 1965, and there really wasn’t much of anything there, you know, except some textile miles, so I didn’t have to fight anything. And as we added companies, they became complementary and they bought into something that they felt good about, but it took decades. And, you know, at Salomon, I attempted to change the culture, in terms of some respects, and I would not grade myself A+ in terms of the result. Charlie?

CHARLIE MUNGER: Well, I’m quite flattered that a man would say that he’s in a new place where he can’t succeed unless he changes the culture and he wants us to tell him how to change the culture. In your position, my failure rate has been 100 percent. (Laughter) And —

WARREN BUFFETT: Yeah, Charlie started a law firm. Go back to, what, 1962, Charlie, what was it?

CHARLIE MUNGER: Yeah. I can move out but I couldn’t change the culture. (Laughs)

WARREN BUFFETT: We can tell some interesting stories from the old law firm, but we’ll go on to Carol now.

18. Ajit Jain can’t be replaced

CAROL LOOMIS: This question is from Jon Brandt of Ruane, Cunniff in New York City. “You have emphasized many times how important Ajit Jain is to Berkshire and National Indemnities reinsurance operations. So I’m wondering whether you expect National Indemnities’ float to continue to grow or instead to unwind after he retires?” Well, of course we don’t think —

WARREN BUFFETT: No.

CAROL LOOMIS: — Ajit will retire. “Another way of asking that is whether National Indemnity has competitive advantages beyond Ajit, or is all of its value, above book value, tied up in Ajit and the runoff profits from the deals he has already put on the books?”

WARREN BUFFETT: His operation has competitive advantages that go beyond Ajit, but they have been developed by Ajit, and he has maximized them, and he knows how to use them in a way that’s far better, in my view, than anyone else in the world could. But they don’t all go away. I mean, he has a cadre of about 30 people who are schooled in it, you know, in a way that would make the Jesuits look quite liberal, in terms of what they let their membership do. Ajit — you can’t imagine a more disciplined operation than Ajit has. But Ajit cannot be replaced. On the other hand — well, I’ll state that absolutely, categorically — it would be a huge loss to Berkshire if anything happened to Ajit. But it would not mean that the Berkshire Hathaway reinsurance operation would not continue to be an extremely special place that would do large deals that nobody else would do, that could think and act quickly in ways that virtually no other insurance organization can. We’ve got something very special in that unit, and then we’ve got the most special of leaders in Ajit.

As to our float, every year I think our float has peaked. I never see how we can add to it. It’s up to 60 billion-plus now. And we have things like the Equitas deal that are runoffs. Every day, in insurance, some of the float runs off, it’s just that we add additional amounts. And like I say, I was ready to quit, you know, at 20 billion and think, you know, that we’d reached the apex of it. But it’s over 60 billion. Things keep happening. Berkshire has become, in my view, the premiere insurance organization of the world, and we’ve got — a lot of good things come from that. I don’t see how, with 60-odd billion of float, I don’t see how we can increase it significantly unless we would make some very significant acquisition. And I don’t rule that out, but there’s nothing imminent on that. But we will not organically grow the float of Berkshire at a fast clip from here. It can’t be done. And we may fight to stay even.

But we may come up with something out of the blue. I mean, who would have known that Equitas was going to come along three years ago? There are various things that could happen of a positive nature. But when I tell you about the value that Ajit has added to Berkshire, believe me, if anything, I’ve understated it. Charlie?

CHARLIE MUNGER: Well, I agree with you, and I’ve got nothing to add.

WARREN BUFFETT: Well. (Laughter)

19. Opportunities in India, but government paralysis is a deterrent

WARREN BUFFETT: In that case, we’ll go to number 7. Here we are.

AUDIENCE MEMBER: Good morning, Warren and Uncle Charlie. I have to call you Uncle because my parents are from India and we call anybody older than us Uncle or Auntie.

WARREN BUFFETT: You may have to call us great uncle. (Laughter)

SABRINA CHOOG: I’m Sabrina Choog (PH) from Los Angeles and I’m 12 years old. My mom owns a bunch of Berkies, which obviously I’m gonna get one day. (Laughter) My question is, 17 percent of the world is Indian. That’s one of six people in the world. India’s economy has been growing at 7-8 percent per year. At this rate, it will surpass total U.S. GDP in 2043. Can you please tell me why aren’t you investing in India?

WARREN BUFFETT: Well, it’s a good question — (applause) — and we have connections there, obviously. But it hasn’t — in the insurance field, there have been very distinct limitations on what a nonIndian company — a non-Indian-owned company — can do. We’ve looked a lot, mostly through Ajit. We’ve looked a lot at the possibility of being in the insurance business there. And actually, as of yesterday, I agreed next March to go to India because our ISCAR business — (applause) — is doing very well there. But, I don’t know what they think I can do additionally, but in any event they said, “Come on to India in March and see if we can’t expand it substantially.” India is going to grow dramatically, and ISCAR belongs in every industrial country in the world. I mean, we are very basic to industry, and we’ve done wonders for our customers all over the world. And we have a good-sized operation in India.

But ISCAR management hopes that if we take a trip over there in March, we might land a few more accounts. We do not rule out India, believe me, in looking at either direct investments or marketable securities. In fact, POSCO, Charlie can describe the POSCO situation better than I, but they have big plans for India. Charlie?

CHARLIE MUNGER: Yeah, the one trouble that India presents is that its governments tend to have a fair amount of paralysis, endless due process, endless objection. Zoning is hard, planning permissions are hard, et cetera. And that has caused the very wise founder of modern Singapore to say that China is going to grow much faster than India, because their government causes less paralysis. So these countries are different in the opportunities they present. But of course we like India, and we — kind of admire the democracy that causes the paralysis, but we still don’t like the paralysis.

WARREN BUFFETT: It’s not ordained, however. You know, if you’d looked at China 40 years ago, you wouldn’t have dreamt of what would happen. So countries do learn from each other, I mean, and they should. I mean, I think they’ve learned many things from the U.S. that they adapt — I’m not talking about India specifically, I’m talking about other countries generally. They don’t take on everything we have. But if you looked at a country that was as successful as this country has been over a couple hundred years, you might figure that there could be a few good ideas you could steal. And I think that you’re seeing that around the world, and maybe they can improve on us. So I don’t think I would feel that any impediments to growth that existed now are necessarily ones that have to be permanent. Indian — we ought to figure out a lot of ways to do business in those countries. My preference is, obviously, in something like insurance, which I understand, and where we’ve got terrific people.

Both China and India do limit us right now quite significantly in what we can own of a company. And I really hate to take some of our managerial talent and put them to work for something we only own 25 percent of. I’d rather have them working on something we own 100 percent of. So it will depend on the laws. But people in India are going to be living a lot better 20 years from now than they are now, as they are in China, and as they are in the United States.

20. “Prospects for significant inflation have increased”

WARREN BUFFETT: OK, Becky.

BECKY QUICK: This question comes from Jonathan Marsh (PH) in Sydney, Australia. He says, “Many shareholder letters in the 1970s and 1980s discussed various aspects of inflation and its potentially destructive effects on investment. “The 2008 letter mentioned the current Federal Reserve’s quantitative easing could again bring about inflation, yet the 2009 letter made no mention of this threat. “What are your current thoughts on the risk level of higher inflation in the United States?”

WARREN BUFFETT: Well, I may be a little biased on this because I’ve always worried a lot about inflation, and there’s been a lot of inflation. You know, Charlie’s pointed out, you know, since I was born in 1930, the dollar’s depreciated by well over 90 percent. But as he also points out, we’ve done OK. So it isn’t the end of the world, necessarily. I think that the prospects for significant inflation have increased, you know, with what — not only here, but around the world, with the situation that governments have either been forced into or elected to embrace. And they may well have been the correct responses, but we may find that weaning ourselves from the medicine was harder than solving the original illness. And the medicine, you know, has been massive dosages of debt. And, like I say, not only here, but elsewhere. And I don’t see any way that countries running very high deficits, relative to GDP, don’t have a significant diminution in the value of their currency over time. Now, it could be done for a while.

I mean, we’ve done it through wars and everything else, and maybe we will correct the situation. But if we don’t, I wrote an op-ed piece in The New York Times about a year ago on this. And I do think that if you wanted to bet on higher or lower inflation, bet your life on it, I’d bet on higher, and maybe a lot higher. Charlie?

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

21. Munger: McDonald’s is better educator than universities

WARREN BUFFETT: OK, number 8.

AUDIENCE MEMBER: My name is Lucas Rineswell (PH) and I’m from Whangerei. And in case you don’t know where Whangarei is, it’s in New Zealand. At the moment, it’s quarter past 4 in the morning in New Zealand, so I’d be safe to say that my wife will be sound asleep. So I’m an idealist. What can be done to educate the children about the sage of Omaha’s philosophy of successful money management, and to prevent another reoccurrence of the financial mayhem that we’ve all seen and experienced in the 2007 and 2008 years?

WARREN BUFFETT: We will see financial mayhem, as you put it, from time to time. I hope we reduce it, I hope we reduce the magnitude, et cetera. But people do crazy things, and it’s not a function of IQ, and sometimes it’s not a function of education. In fact, I would argue that some of the problems, and not a small part of what’s occurred in the last 30 years, has been because of what became the prevailing conventional wisdom in the leading business schools. So, I’m not particularly positive about modifying the madness of mankind from time to time. The first part though, however, is the kind of thing in our movie. I really do believe that getting good financial habits — other kinds of habits, too, but what I’m thinking about here is primarily financial habits — getting those early in life is enormously important. I mean, Charlie and I were probably lucky that we grew up in households where we were getting all kinds of unspoken lessons, even, in terms of how to handle our life, but in particular, how to handle finances. And not everybody gets that.

And Andy Heyward, who did a terrific job with “Liberty’s Kids” in teaching about the history of America three or four years ago, has come up with this idea of “The Secret Millionaires Club.” And if we get through to 2 or 3 percent, or 5 percent, or whatever it may be, of the kids, in terms of giving them some ideas they might not otherwise have, and they build some habits around it, you know, it isn’t going to change the world, but it could be a plus in their lives. It’s very important to get the financial habits. And really, Charlie’s a big fan, and so am I, of Ben Franklin’s. And he was teaching those habits a couple hundred years ago. So we’re just going to try and take Ben Franklin’s ideas and make them entertaining for children’s stories, in effect. And I think that’s about what you should be doing. I don’t think — I think it’s much more important to have good learning at the elementary level than, frankly, to have it in terms of advanced degrees and graduate schools. Charlie?

CHARLIE MUNGER: Yeah, there are other great educational institutions in America to help handle this problem. One of the ones I admire most is McDonald’s. I had fun once at a major university when I said I thought McDonald’s succeeded better as an educator than the people in the university did. And what I meant was McDonald’s hires a lot of people who are quite marginal at the very start of their working career. And they learn to show up on time for work and observe the discipline. A lot of them go on in employment to much higher jobs. And they’ve had an enormous constructive effect about educating into responsibility a lot of people who were threatened with not making it. So I think we all owe a lot to the employment culture of McDonald’s. And it’s not enough appreciated.

WARREN BUFFETT: I learned a lot from a paper manager at The Washington Times-Herald named John Daley (PH).

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: And probably 13 years old or 14 years old, and I was lucky to run into him. Basically, my life would have been somewhat different if I didn’t get those lessons from a guy that taught them to me in a very enjoyable manner. He wasn’t preaching them to me, he just told me I’d do better if I did this and that, and it worked. So you’re lucky if you’ve got the parents to teach you that. But anything that brings it into a broader teaching environment, I’m for. And like I say, I really think Andy has got a terrific project in this and we’ll see how it goes.

22. Giving away everything is a “terrific tax dodge”

WARREN BUFFETT: And speaking of Andrews or Andys, Andrew? (Laughs)

ANDREW ROSS SORKIN: So we received about a dozen questions, at least I did, on the subject of your taxes, Mr. Buffett, from shareholders no less. And I chose what I hope is the most polite version of the question.

WARREN BUFFETT: I hope so, too. (Laughter)

ANDREW ROSS SORKIN: This one came from Tom Cornfeld (PH). And he says, “Mr. Buffett is often quoted as saying that his assistant pays at a higher tax rate than he does, because of the disparity between the long-term capital gain and ordinary income tax rates. “The implication is that taxes should be much higher on people like himself. “However, I note that Mr. Buffett has donated virtually 100 percent of his estate to charitable organizations. Because he has owned his Berkshire shares for many, many years with no dividend distributions, it is virtually certain that the bulk of his estate will therefore never be subject to taxation by the U.S. government. “My question is that, if Mr. Buffett feels that he should pay more taxes, how should the tax system be changed?”

WARREN BUFFETT: Well, you could have a wealth tax, would be one way. I mean, you could tax — I don’t know how many countries do that now, Charlie. In effect, you have that with a property tax in certain ways, but you could have a wealth tax. I would say this: he is absolutely correct. If you want to give away all of your money, it’s a terrific tax dodge. (Laughs) Although, I will say this also. In the tax return I just filed, on the “charitable contributions” line, I have an unused carry-forward of something over $7 billion that I haven’t gotten a deduction for. (Laughter) But I welcome the questioner or anybody else following my tax dodge example and giving away their money. They will save a lot of taxes that way, and the money will probably do a lot of good. (Laughs) (Applause) Taxes — if we continue to spend 25 percent or 26 percent of GDP, as a country, and we made those elections through our representatives, we are not going to be able to keep taxation at 15 percent of GDP.

Now, we’ve got a deficit commission. You couldn’t have two better guys than Erskine Bowles and Alan Simpson heading it. You have got two classy individuals there. They’re smart, they’re decent. People like to work with them. I mean, the president made a great choice in picking those two. But in the end, they’re either going to — they’re going to have to recommend, and it will be some combination of taxes quite a bit higher, and expenditures quite a bit lower, and then they won’t be quite as popular as they are today. And I doubt very much if you’re going to be able to increase taxes significantly as a percentage of GDP and do it, essentially, from taxing lower income people a higher amount. So it’s going to be an interesting equation to solve and I wish them the very best. They’re two terrific fellows. Charlie, what do you have to say about taxes?

CHARLIE MUNGER: Well, I think those who worry about your unfairly low taxes should be consoled by the fact that eventually you pay 100 percent. When you die and they ask, “How much did old Warren leave?” the answer will be, “I believe he left it all.”

WARREN BUFFETT: And I hope they emphasize old. (Laughter) No, it’s kind of interesting. I mean, just take Berkshire. You know, essentially, I will never sell a share of Berkshire. But I’ve known that for a long, long, long time. So basically, that’s fine. If I was a trustee for some trust and they owned Berkshire, which, in effect, I am, you know, it’s a lot of fun to run and everything. And I’ve got everything in life I could possibly need, and I always will. And, you know, in the end, because Berkshire’s done well, we can give away the rest. Now, if you want, you can argue that if I gave it all to the federal government instead of giving it to the charities, society would be better off, but I don’t think many of you would want to hold that position. (Laughter)

23. The best defense against inflation

WARREN BUFFETT: Number 9. (Applause)

AUDIENCE MEMBER: Hello.

WARREN BUFFETT: Hi.

AUDIENCE MEMBER: Mr. Buffett, my name is Jeff Chen (PH) from San Francisco. I wanted to ask you a little bit more detail about the inflation question, wanted to know what are the key metrics you look at when you evaluate future inflation and your valuation methodology? And what are some of the catalysts that’s going to cause the inflation to rise in the future?

WARREN BUFFETT: You give me credit for more brain power than I actually bring to the question. I don’t think you can look at any given metric in any given month and figure out exactly what that’s going to do to inflation rates because, so much — if it gets going so much, it creates its own dynamic. You know, we saw that in the late 1970s and early 1980s until Volcker came along with a sledgehammer to the economy. But we had people running from money at that time, and, of course, we got the prime rate up to 21-and-a-fraction percent, and we got governments up to very close to 15 percent. So we had a little demonstration project 30 years ago in this country of what happens when people get fearful about money. And if we were to continue the policies we have now, I would think something — a rerun of that, you know, could be fairly likely. But, you know, trend is not destiny. We have the power to do things, and Congress has the power. And that’s why I wrote that op-ed piece a year ago, to sort of flash a yellow light.

We have the power to control our future, and we do it through elected representatives. I will just go back to the conclusion that, based on what I see happening, American people, government around the world, I think currencies are a poorer bet than they have been for some time. But I have no idea what that means in terms of rates of inflation. And I hope I’m wrong on it. I would say if inflation ever really gets in the saddle, that it gets very unpredictable as to how fast it can accelerate and how faith in institutions can break down. A lot of things — a lot of bad things could happen with it. Charlie?

CHARLIE MUNGER: Yeah. The best defense, of course, is to contribute as much as you can to the civilization and expect to counter inflation’s effects by your own merits. That’s the safest antidote. The idea that just by outsmarting other people you can somehow profit from the inflation is a much more dangerous course of action.

WARREN BUFFETT: Yeah. Your money can be inflated away but your talent can’t be inflated away. If you’re the best brain surgeon in Omaha, or the best painter, or whatever it may be, you will always command your share of the resources around you, you know, whether the currency is seashells or $10 million notes, or whatever it may be. Talent is a terrific asset to deal with any kind of a monetary situation. But Charlie and I have to fall back on money.

WARREN BUFFETT: Carol? (Laughter)

CHARLIE MUNGER: Too late for talent.

WARREN BUFFETT: Yeah.

24. Problems at NetJets

CAROL LOOMIS: This question comes from Douglas Ott of Banyan Capital Management in Atlanta. “In your recent letter to shareholders, you wrote that it was clear you failed us in letting NetJets descend into such a condition that it has recorded an aggregate pre-tax loss over the 11 years we have owned the company. “What specifically were the errors committed by you and the previous CEO? What have you learned? And how will you prevent such a thing from happening with any of our other businesses in the future?”

WARREN BUFFETT: Well, I probably won’t. (Laughs) We’ll make mistakes from time to time, and some of our managers may make mistakes. And sometimes you run into conditions that are really extraordinary. But the mistake, the biggest mistake made with NetJets is essentially we kept — we were buying planes at prices that were fictitious, in terms of the price at which we would later be able to sell them. And there’s a certain time lapse involved in buying fractional shares. There’s a lot of explanations for it. But in the end, we didn’t properly prepare for what was obviously happening. And we lost a lot of money, a good bit of which was attributable to the write-down of planes, which you could call is our inventory, where we bought them at X and we couldn’t sell them at X or 90 percent of X. Some of those were new planes that we should not have taken on, and many of them were planes coming back from owners. We also let our operating costs get out of line with recurring revenues. But, you know, I’ve made plenty of mistakes. I stayed in the textile business for 20 years.

I knew it was a lousy business. Charlie was telling me it was a lousy business in the first year, the second year. And 20 years later, I woke up. I was like Rip Van Winkle. I mean, it’s kind of depressing when you think about it. (Laughter) But the one thing we will guarantee, we’ll make some mistakes. It was a big mistake at NetJets, $711 million is the figure. We are now operating at NetJets at a very decent profit. The figures you saw there on the screen reflect a pretax profit of well over $50 million in the first quarter, and that’s not with any big boom in plane sales or anything else. It’s just with a business plan that involves not an iota of diminution of safety or service, but just got things in line that needed to be in line. And I give Dave Sokol enormous credit. I mean, he turned that place around like nobody could have, and all the shareholders here owe him a big vote of thanks for that. Charlie? (Applause)

CHARLIE MUNGER: Yes, but I believe that the episode ought to be reviewed in context. If we buy 30 big businesses and generally let the people who run them successfully and before run them with very little interference from headquarters, and it works out 95 percent of the time very well, and we have one episode when the basic franchise was protected but we lost profit opportunities for a while, it’s not a big failure record. Nor does it indicate that we should stop being pretty easy with the remarkable people who join us with their companies.

WARREN BUFFETT: No, it does not change our management approach at all. I think that we have gotten performance, overall, from managers that are beyond the dreams I would have had when I was first putting this company together. So, it’s been a — we let managers do their stuff. And I think —

CHARLIE MUNGER: It’s worked for us, net.

WARREN BUFFETT: Oh, it’s worked — it’s worked very well for us, net. And we’re going to keep doing it.

25. BYD investment shows the “old men” are still learning

WARREN BUFFETT: Number 10.

AUDIENCE MEMBER: Mr. Buffett and Mr. Munger. This is Eric Chang from Beijing, China. First, thanks for the occasion for us to engage with you like this, and also for inspiring young people to learn. Mr. Munger has described you as an incredible learning machine in terms of learning new areas, and expanding your circle of competence. So I would like to understand is if you can make it more concrete, recently you make investment in BYD, a company in China that makes batteries and also electric cars which are, arguably, technology companies. So can you sort of go through that example and see how you sort of like analyzed the case and asked questions that helped you make a decision to invest in such a company? Thank you.

WARREN BUFFETT: Charlie deserves 100 percent of the credit for BYD, so I’m going to let him answer that.

CHARLIE MUNGER: Well, it’s an interesting example because Berkshire would not have made an investment in BYD if the opportunity had come along five or 10 years earlier. And it shows that the old men are continuing to learn, and that’s absolutely essential. Berkshire would have a lower potential than it does if we had stayed the way we were. And — so you are absolutely right in calling attention to this episode. Again, Dave Sokol helped. I wasn’t at all sure I could get Warren to do this all by myself so I inveigled Dave into going over to China, and the two of us were able to help the learning process. (Laughter)

WARREN BUFFETT: Well put. Well put.

26. Why we will never hire a compensation consultant

WARREN BUFFETT: Becky?

BECKY QUICK: This question comes from Mark Wares (PH) and it has to do with Berkshire’s compensation. He says, “How does Berkshire structure the performance based-compensation of the CEOs of its subsidiaries? Please because as specific as you can regarding the metrics on which you focus the most, and how the degree to which those are attained translates into compensation.”

WARREN BUFFETT: Yeah, well, the first thing we do is we never engage a compensation consultant. (Applause) And we have, whatever it may be, 70-plus or whatever number businesses we have. They have very different economic characteristics. To try to set some Berkshire standard to apply to businesses such as insurance, which has capital as a bulwark but which we get to invest in other things we’d invest in anyway, so there’s minus capital involved, to a BNSF or our utility business where there’s tons of capital involved, or in between See’s where there is very little capital involved. We have other businesses that are basically just so damn good that a, you know, a chimpanzee could run them, and we have other business that are so tough at times that, you know, if we had Alfred P. Sloan back, you know, we wouldn’t be able to do very well with them. So there’s enormous differences in the economic characteristics of our business. I try to figure out what — if I owned the whole business — what is a sensible way to employ somebody and compensate them, considering the economic characteristics of the business.

So we have all kinds of different plans. It doesn’t take a couple of hours of my time a year to do it. We have managers who stay with us, so they must be reasonably happy with the plans. And, you know, it is not rocket science, but it does require — it requires the ability to differentiate. If we had a human relations department, it would be a disaster. They would be attending conferences and people would be telling them all these different things to put in equations and so on. It just requires a certain amount of common sense. And it requires, incidentally, an interaction with the managers where, you know, I listen to them, they listen to me, and we sort of agree on what really is the measure of what they’re actually adding to the company. And — what do you — what do you say to that, Charlie?

CHARLIE MUNGER: Well, I think the U.S. Army and General Electric have centralized personnel policies that probably work best for them, and we have just the opposite system, and I think it clearly works best for us. And practically nobody else is entirely like us, which makes us very peculiar. And I like it that way, don’t you?

WARREN BUFFETT: Yeah, we really like it that way. We get worried when people agree with us. (Laughter) We pay people — we pay some very big money. We have managers that have made and will make in the tens of millions annually, and we have managers that, you know, when we suffer, they suffer. But you’ve got to treat people fairly. Even though they don’t need the money, everybody wants to be treated fairly. And so the rationale for how you’re doing it should be understood, but there is no crossBerkshire rationale at all. I mean, if you run See’s Candy, to put a cost of capital factor in or something like that, what the consultant would tell you, it’s nonsense. It isn’t going to make any difference whether there’s 40 million or 43 million or 37 million of capital in the business. The main thing to do is, in terms of market position and all that sort of thing, the real thing I really want to pay managers for is widening the moat that separates our business from our competitors’ businesses over time.

Now, that gets very subjective, so I don’t have any perfect way of doing that. But that is always going through my mind in trying to design compensation systems. So far, like I say, I don’t think — I can’t — can you recall any manager that’s ever left us over compensation, Charlie?

CHARLIE MUNGER: I think it’s amazing how simple it’s been and how little time it has taken and how well it has worked. There’s this idea that headquarters can do these wonderful things. Headquarters, in a conglomerate kind of a company, is frequently hated in the field. We don’t want to be hated in the field. We don’t want an imperial headquarters with big costs that’s imposed everywhere. And averaged out, it’s worked wonderfully well for us.

WARREN BUFFETT: Yeah, we make no headquarters charges. We charge for our credit with a couple of companies, but — most companies are allocating a couple percent of sales, maybe, or whatever it might be, to all their different operations. And usually it’s resented out in the field. And —

CHARLIE MUNGER: Is it ever.

WARREN BUFFETT: Yeah. So we don’t do it.

27. “We won’t trade reputation for money”

WARREN BUFFETT: Number 11.

AUDIENCE MEMBER: Thank you. My name is Joe Bob Hitchcock. I’m a winemaker from the Napa Valley in California. I would like to suggest that the next time you and Charlie have a steak at Gorat’s that you accompany it with a new health food, a Napa Valley red wine. (Laughter)

WARREN BUFFETT: We just went in the wine distribution business, as you may know. (Laughs)

AUDIENCE MEMBER: Excellent.

CHARLIE MUNGER: Warren is helpless, but I’m with you.

AUDIENCE MEMBER: OK. (Laughter) I’ll send you a bottle. One of the keys to the success of Berkshire is your policy to allow the managers of the various Berkshire Hathaway companies to operate with minimal interference from Omaha. But if you became aware of unethical or illegal activities at a Berkshire Hathaway-owned company, would you directly and personally intervene?

WARREN BUFFETT: Sure. We have to jump in. We have a hotline, which I think was a very good invention of — it wasn’t an invention, but a good policy embodied in Sarbanes-Oxley. And, you know, that’s been a plus to us. I get letters directly sometimes. So I want to hear about problems. I hope somebody else has heard about them first and already gotten them solved, but if they don’t get solved someplace else, I want to hear about them. And we have an internal audit function, which is important at Berkshire. And anything that comes in, you know, when somebody calls in on the complaint line and says, “The guy works next to me has bad breath,” I tend to skip over those. But if anything comes in that relates to alleged bad behavior, it’s going to get investigated at Berkshire. And it does. And every now and then, there have been some important transgressions that have come to us via either letters to me, or calls on the hotline, or maybe letters to the audit committee, whatever. We encourage that. Charlie?

CHARLIE MUNGER: Yeah. We care more about that than business mistakes, way more.

WARREN BUFFETT: We have a letter that goes out every roughly two years; it’s the only communication. I probably ought to put a copy of it in the annual report sometime so that the shareholders see it. But it’s a page and a half long. It asks the manager to tell me who, if something happened to them that night, who I should consider putting in charge of the place the next day. Doesn’t mean I’ll follow their advice, but I want to know their reasons and the pluses and minuses. But it starts off basically and it says, “Look, we’ve got all the money we need.” We’d like to make more money. We love making money. But we don’t have a shred more reputation than we need, and we won’t trade reputation for money. And we want that message to get out. It’s the reason we stick that Salomon thing in the movie every year. I mean, you can — probably some of you can recite it by now, but I don’t think it can hurt to keep repeating that story.

And the one thing we tell — we tell them that message, and then I’ve added a new line in this. And I say, if the reason you’re doing something, the best reason you can come up with, is that the other guy is doing it, it’s not good enough. There’s must be — there’s got to be some other reason besides, “The other fellow’s doing it,” or you’re in trouble. And I tell them, “Call me if anything’s questionable. You think it’s close to the line, give me a call.” By saying that, nobody gives me a call because they — (laughs) — they know that the very fact that they think it’s that close to the line probably tells them it’s over the line. But I want to hear about stuff. We can cure any problem if we hear about it soon enough and take action soon enough. But if it’s allowed to fester out someplace and people cover it up — and sometimes they have — then we’ve got a problem.

And we will have more of that in the future, there’s no getting around it, you know. If you have 260,000 people, there can be some things going on. I just hope we hear about them fast. And I hope their managers hear about them even faster and do something before it even gets to us. But we want very much to protect the reputation of Berkshire. It’s the right thing to do. Charlie?

CHARLIE MUNGER: Well, it is absolutely essential. And Berkshire, averaged out, has a very good reputation, as you can tell by the ratings from major media and surveys. And that is absolutely precious to us. In a sense, you people are part of the culture, too. The ideal is not to just make all the money that can be legally be made without causing too much legal trouble. The idea is bigger than that. It’s that we celebrate wealth only when it’s been fairly won and wisely used. And if that idea pervades the culture of a place, including the shareholders, we think that’s very helpful to us. (Applause)

28. BNSF has benefitted from good regulations

WARREN BUFFETT: Andrew?

ANDREW ROSS SORKIN: This question relates to your investment in Burlington Northern, and it comes from Josh Sanbules (PH), who I believe is in New York City. And he asks, “You mention in your annual letter that regulators of the railroad industry need to provide, quote, ‘certainty about allowable returns,’ unquote, in order to make huge investments. If you were going to help the regulators calculate, quote, ‘allowable returns,’ how would you suggest they do it?”

WARREN BUFFETT: Well, I think the Service Transportation Board — and maybe Matt Rose could help give more details — but I think they’ve adopted something like 10 1/2 percent, or thereabouts, on invested capital. And if you had a major enough change in interest rates or something, you could argue that there should be some adjustment, perhaps, in one direction or another. Usually, in the case of regulated utilities, they talk about return on equity. And you have different amounts in different states, but some states it may be 11 percent, in some states it may be 12 percent or something like that. It’s usually in that range. With the railroads, they’ve gone toward this return on invested capital, which includes debt as an adjusted figure. And I don’t think that’s a crazy, crazy standard. I mean, the railroad, unlike the electric utility, when you get an allowed return in the electric utility you’re almost certain of earning it, I mean, if you behave yourself. And your demand is never going to fall off that much, probably, that you’ll go way below your return.

The railroad’s got more downside in it if you run into a terrific industrial recession, so you’re not as protected on the downside. But there should be some figure, and I would argue that the 10 1/2 percent, or whatever it may be on invested capital, that’s been achieved by the four big railroads in recent years, something close to that or right around that figure. And you want the railroads investing a whole lot more than depreciation, and I would think that would be — it’s certainly an inducement to me to invest money in improving the transportation system. And on the other hand, if that return were far lower than that, it would be crazy to put money, because you can’t change that railroad system and do something else with it. So I think the country and the railroad systems have a very common interest in not earning exorbitant profits or anything like that, but getting a decent return on what is sure to be much needed investment over the next 10, 20, 30 years. And I’d go along with — if the Service Transportation Board says 10 1/2 percent, or some number like that, I think that’s not a crazy number. Charlie?

CHARLIE MUNGER: Well, yeah, the railroads have been a hugely successful system, in terms of a regulated business. If you stop to think about it, the railroads of America have been essentially totally rebuilt in the last 30 or 40 years. They’ve improved the tracks, they’ve changed the size of the tunnels, they’ve improved the bridges. The average train can be more than twice as long and twice as heavy. And you can hardly imagine a business that’s done a better job in adapting to the needs of the rest of us than the American railroad industry. And that’s by and large been a system of wise regulation accompanied by wise management. And that was not always the case. If you go back a long time, neither the management nor the regulation was all that wise. But the existing system has worked very well for all of us.

29. “Lumpy” earnings as competitive advantage

WARREN BUFFETT: OK, number 12.

AUDIENCE MEMBER: Hello, my name is Ashish Texali (PH). I am from New Delhi, India. First of all, I would like to thank Kelly Bruce (PH) and Carol from American Express to the help they’ve extended to make this event possible. The question regarding General Re and reinsurance business. As the insurance business uses complex models, how is Berkshire more comfortable that insurance business models are not exposing you to significant risks like the models did for Wall Street? Also, if it is not confidential, is there concentration of risk? That is, what are those few events which can cause significant loss for insurance businesses?

WARREN BUFFETT: I’m not sure I got all of that, but we run significant risks from earthquakes. We had, in the Chilean quake — I don’t know how much would have been in the first quarter. When you read our 10-Q there will be a number in there. But we insure 20 percent of Swiss Re. We will take 20 percent of their loss from that. We have various other exposures in something like that. We included our best estimate in those figures I put up earlier. Our peak risks now, in terms of earthquakes or hurricanes — which are the two biggest natural catastrophes, in terms of frequency and severity — are probably down quite considerably from a few years ago, not because of any diminished appetite for risk. But we just haven’t felt that the rates were that attractive in those areas. But if we thought the rates were attractive, we’re perfectly willing to take on a group of risks where, if something very close to worst case happened, you know, we would lose $5 billion or something like that. We lost 3 billion-plus in Katrina. We lost well over 2 billion, I think quite a bit more than that actually, on 9/11.

There will be things come along like that. Nothing that ever remotely comes close to making us uncomfortable, though, in terms of the level. I don’t know whether I got his full question there or not, Charlie, but you —

CHARLIE MUNGER: Well, pretty close. I would say that the main difference between our practice and that of most other people is that we are deliberately seeking a method of operation which will give us occasional big losses in a single year, big overall losses. And everybody else is trying to avoid that. And we just want to be rich enough so a big loss in a single year is a blip. And that’s a competitive advantage, that willingness to endure fluctuating annual results. Big advantage, wouldn’t you say?

WARREN BUFFETT: It’s a huge advantage. It’s a huge advantage. And it’s one that no one else is going to pick up on. I mean, they know what we do, they just don’t want to do it, or they’re unable to do it, in terms of financial resources. So, I would say that comes very close to a permanent and substantial advantage at Berkshire. I don’t — forget about — you shouldn’t forget about it, but forget about the human suffering and all that. Just the financial consequences of a Katrina, you know, when we lose 3 billion in that, I don’t feel any different the next day than I felt the day before, financially. I mean, it just doesn’t make any difference, because we are in that particular game. And as long as we make the right decisions over time, in terms of the premiums we get, and as long as we never expose ourselves to a loss that would really shake up our capital structure or anything, you know, that is a game in which we have a huge competitive edge. And it gets wider every year.

So, you know, risk — we are in the business — in insurance, we are in the business of taking the other guys’ desire to smooth their earnings, and, in exchange, get what we think are larger, lumpy earnings over time. We like the business. Carol? Oh, go ahead, Charlie.

CHARLIE MUNGER: I was going to say Warren has a different position than a lot of other people in the insurance business. After a year in which Berkshire has a big loss, he can look into his shaving mirror and say, “Your shareholder still loves you.” (Laughter)

WARREN BUFFETT: That’s right.

CHARLIE MUNGER: Other people are not in that position.

WARREN BUFFETT: Charlie and I knew a guy from Omaha who, 40 or 50 years ago, was one of the richest guys in the United States, named Howard Ahmanson. And Howard had a fetish about owning 100 percent of everything that he came in contact with. And so he said, when asked why, he said, “I like to look in the mirror and say, ‘All my shareholders love me.’” (Laughter) And I’m not quite that extreme, but I like to look in the mirror and say, “Enough of my shareholders love me.” (Laughter)

30. “Gambling” with derivatives

WARREN BUFFETT: Carol.

CAROL LOOMIS: This question is about derivatives. “What useful function do derivatives serve in our economy? We got along quite well without them for many years. If they serve no useful purpose, and in fact, have demonstrated that they can do considerable damage to the economy, why are they not made illegal, especially the naked ones? There is precedent for that. “I believe that short selling of stocks that one does not own or has managed to borrow is illegal.”

WARREN BUFFETT: Charlie has — he can get worked up more on this than I can, so I’m going to let him answer that. (Laughs)

CHARLIE MUNGER: Well, I think the usefulness of derivatives has always been overrated. If we didn’t have any derivatives at all, including contracts to buy and sell grain that were traded on exchanges, we’d still have plenty of oats and wheat. I mean, I think it is slightly more convenient for people to be able to hedge their risks of farming by using derivative markets and commodities. And the test is not, “Is there any benefit in derivatives?” The question is, is the net benefit versus disadvantage from derivatives useful? Or would we be better off without it? My own view is that, if we went back to having nothing but derivative trading in commodities, metals, currencies, safely conducted under responsible rules, and all other derivatives contracts vanished from the earth, it would be a better place. (Applause)

WARREN BUFFETT: We’ll take a current example. Burlington Northern has hedged diesel fuel, which they use a lot of, over the years. And then they also have fuel adjustment clauses in a lot of their contracts for transportation. With Matt Rose, who does a wonderful job of running Burlington, I basically say, “Look at. If I were running the place, I wouldn’t bother to hedge them,” because if you hedge it — if you hedge it for a million years, you know, you’re going to be out the frictional costs, probably, of doing it, unless you’re smarter than the market generally on diesel fuel. And if you’re smarter than the market on diesel fuel generally, we’ll go into the business of speculating on diesel fuel. I mean, if we’ve really got an edge, you know, why bother to run the trains? Let’s just speculate diesel fuel. But I also say, you know, they’ve got — and if you have an organization where you have somebody in charge of that activity, it’s going to take place.

On the other hand, Matt Rose has done a fabulous job, as well as his management team, in running Burlington Northern. If they are more comfortable, or they find it useful in any way, in terms of pricing contracts, or anything, to hedge it, that’s fine with me, too. I mean, it’s his company, he can figure out the best way of running it. I’ll hold him responsible for how it does over time. And, you know, I would do it one way and somebody else would do it another way. I don’t think that’s — I would not condemn anybody that’s running a railroad for hedging diesel fuel, nor would I condemn anybody that runs an energy company, like we do at MidAmerican, for hedging energy costs in certain ways. But I do think, if we could put up a presentation, number 4 on the screen, please. I think it was said very well in 1935.

In fact, chapter 8 of Keynes’s General — chapter 12, I’m sorry — chapter 12 of Keynes’s “General Theory” is, by far, in my view, probably Charlie’s too, the best description of the way capital markets function, the real way people operate. It’s prescriptive, it’s descriptive. Everybody should read chapter 12. It’s a little — it starts a little slow in the first few pages. But Keynes — I’m going to read this because I don’t think Charlie has it in front of him. The first part of it is very familiar to people. I mean, this quote has been used a lot. But every word in this, to me, is right on the money. “Speculators may do no harm as bubbles on a steady stream of enterprise. But the position is serious when enterprise becomes the bubble on a whirlpool of speculation.” You can change that to “gambling” if you want to. “When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.”

That’s the famous part of the quote. Keynes went on to say, “The measure of success attained by Wall Street, regarded as an institution of which the proper social purpose is to direct new investment into the most profitable channels in terms of future yield, cannot be claimed as one of the outstanding triumphs of laissez-faire capitalism - which is not surprising, if I am right in thinking that the best brains of Wall Street have been in fact directed towards a different object.” That was written in 1935. I don’t think there’s been anything better written about how government, how citizens, should look at Wall Street and what it does and it doesn’t. It’s always had this mixture of a casino operation and a very socially important operation. And when derivatives became popular, and academia was behind them 100 percent. They were teaching more about how to value an option than they were about how to value a business. And I witnessed that and it drove me crazy. But in 1982, Congress was considering, really, the expansion of a derivative contract to the general public in a huge, publicized way. It was the S&P 500 contract. That changed the whole derivatives game.

At that point, basically, Wall Street just said, “Come on in, and everybody can speculate in an index. Not any real company, just an index. And you can buy it at 10 o’clock in the morning and sell it at 10:01, and you’re contributing to this wonderful society by doing it.” And I wrote a letter to Congressman Dingle, and we’ll put up exhibit 5. I just excerpted a few of the statements I made there. This was one month before they put in trading in the S&P 500, April. They put it in April, 1982, in Chicago; did a little in Kansas City first. And I went through four pages of things and I just pulled out a few things. But I think that, to some extent, what I forecasted then has turned out to be the case. And then it got squared and all of that, as both the people in Wall Street kept dreaming up new and new ways for people to gamble. And as I say, academia was applauding all along the way and getting hired as consultants to various exchanges to tell them how wonderful they were, in terms of their social purpose.

I think that — well, it’s up there for you to read. I’d be glad — the whole letter was reprinted, I believe, in Fortune at one time, Carol. Was it—?

CHARLIE MUNGER: By the way, if I remember right, this was like the only letter in opposition to this uniformly acclaimed new world of better gambling in things related to securities. Warren wrote the letter —

WARREN BUFFETT: And it’s a —

CHARLIE MUNGER: — all those years ago, and it was the only letter —

WARREN BUFFETT: Incidentally —

CHARLIE MUNGER: He basically said the idea’s insane. It will do more harm than good. Then, as now, people didn’t pay that much attention to him.

WARREN BUFFETT: And I’ll venture that very few people in this room know — you all know that if you buy a stock, you have to hold it for a very long period of time to get a special capital gains treatment on it. If you buy an S&P 500 contract at 11 o’clock and sell it at 11:01 and have a profit, it’s taxed 60 percent as a long-term capital gain, and 40 percent as short-term capital gain. So you really get better tax treatment if you’re gambling on an S&P 500 derivative, which is what it is, in Chicago, than you do if you invest for four or five months in some security and then have to sell it for some reason. It’s a tribute to the lobbying power of a rather small group that has done very well off this particular activity. Charlie, can you think of any reason why it’s 60 percent long-term gain if you hold something for 30 seconds? (Laughs)

CHARLIE MUNGER: Well, of course it’s crazy. It’s neither fair nor sensible. But if a small group with a lot of money and influence cares a great deal about something and the rest of us are indifferent, why, they tend to win before our legislative bodies. That’s just the way it is. I always liked Bismarck’s remark that you shouldn’t watch two things: sausage making and legislation making. (Laughter)

31. Buffett is losing his bet against hedge funds

WARREN BUFFETT: OK, with those hopeful words — (laughter) — we’re going to break for lunch. Before we break for lunch, I made a charitable wager with a group, Protégé Partners, two years ago about the behavior of funds of funds that they would select, hedge funds, and the S&P index fund. The duration of our wager is ten years, and whichever one loses, the money goes — well the money from both goes to the winner’s charity, is what it amounts to. Interesting firm out on the West Coast that supervises what they call these long bets. So if we’ll put up exhibit 6, you can see at this point I’m behind. And have we gotten exhibits? Yeah. Let’s go to lunch. OK. (Laughter)

Afternoon Session

1. Speak out, but speak responsibly

WARREN BUFFETT: And I think therefore we go to 13, which is in a separate room. And is there anybody at the microphone in 13?

AUDIENCE MEMBER: Yes, there is.

WARREN BUFFETT: OK.

AUDIENCE MEMBER: Hello, Mr. Buffett and Mr. Munger. This is a shareholder from New York. One could argue that a major contributor to the great bubble was that there wasn’t a healthy and open debate. That all the opinion and all of the money was on one side of the trade. And I was thinking about this recently as I read Christine Richard’s new book, “Confidence Game,” about Bill Ackman and his battle with what was once the largest bond insurer, MBIA. The story also reminded me of David Einhorn and the questions he raised about Allied Capital and Lehman Brothers. We now know that they were 100 percent correct, but at the time that they first spoke up they were attacked by the companies, pilloried by the media, ignored by the accountants of those firms and the rating agencies, and perhaps most alarmingly were investigated by the SEC for daring to go public with their bearish analyses. And I can tell you that watching what happened to them, it’s a real deterrent to anyone else speaking up and raising similar questions. So I’d be curious for your thoughts on this, and is having short sellers speak out healthy for our markets?

And in general what should be done to encourage a greater diversity of opinions so that we can avoid future bubbles? Thank you. (Applause)

WARREN BUFFETT: Yeah, I don’t see anything wrong with people who are positive or negative speaking out, as long as they’re willing to be held responsible for the kind of statements they make. I mean, there are — obviously — Well, take the extreme example. If there were two banks in town, and I owned one of them and I was of kind of a devious type of mind, I might go out and hire 50 people to stand in line in front of the other bank, and I would probably not have a competitor before long. So you can do things on either side, the long side or the short side, that I would regard as certainly unethical and in many cases should be illegal. But anytime you attack the conventional wisdom, you’re going to meet with a lot of opposition because you’re threatening people’s positions. When we would talk about the efficient market theory 30 years ago when it was absolutely de rigueur that — and virtually every finance department in the country, major schools, you either had to swear allegiance to it or you were not going to be promoted. You know, people don’t like that.

And any institution, when they get a threat from the outside, they will attack both the threat and the threatener. But that exists on both sides. I have no problem with short selling, and I have no problem with speaking out responsibly about your reasons for doing so, any more than I have on the long side. There have been some very bad practices on the short side, and there have been some very bad practices on the long side, in terms of people trying to literally spread things that are untrue. But that has probably been more on the long side over the years than on the short side, by some margin. Charlie?

CHARLIE MUNGER: Yeah, I think to some extent you’re criticizing the wrong people. In many cases, the accountants that allowed the lousy accounting are the ones that ought to be held in the dock. And they get very little criticism in America and that’s a mistake.

2. Why there’s no synergy among subsidiaries

WARREN BUFFETT: Becky? (Applause)

BECKY QUICK: This question comes from Ben Soh (PH) who lives in the metro Vancouver area in British Columbia, Canada. This is for either Mr. Buffett or Mr. Munger. He wants to know about synergies at Berkshire, specifically, “Does it make sense that the Dairy Queen stores here sell PepsiCo products and would not expect — accept — American Express, only Mastercard or Visa? (Laughter)

WARREN BUFFETT: There are — around the world, there are pretty close to 6,000 Dairy Queen outlets of one sort or another. And some are called Grill and Chill now, different things, but roughly 6,000, and company-operated are 70 of those. So almost 99 percent are franchised, and at Dairy Queen we do not control what the franchisees do. Most of the franchisees — last time I checked sometime back — but most of the franchisees serve Coke, the enlightened ones — (laughter) — but it is entirely their business. They can — they can — they can serve Coca-Cola products or Pepsi. It seems some of the other franchise operations seem to have more control over that than Dairy Queen. But if you think about it, Dairy Queen goes back before McDonald’s, before Wendy’s, before Burger King, before Kentucky Fried, all of those. It goes way back into the ’30s, and a lot of the agreements with franchisees were territorial operators were done on the back of a napkin, or something of the sort.

So to some extent we have less control over what franchisees do, particular in certain — a few parts of the country — than other people. But we’ll — keep asking for Coke, and maybe you can cause them to see the light. The synergies, any synergies, any synergies at Berkshire come about at the operational level pretty much. We do not tell our companies to do business with each other. We hope they do do business with each other, and, you know, and we hope that each side of a subsidiary A offers good reasons for subsidiary B to do business with them. But the whole idea at Berkshire is that our managers are responsible for their businesses, and if they’re going to be responsible for their businesses it means we shouldn’t tell them what to do, except in very limited ways. Charlie?

CHARLIE MUNGER: Well, you’ve accurately described the way it is. What’s interesting about it is we really like it that way. (Laughter)

WARREN BUFFETT: It’s a lot less work. (Laughs)

CHARLIE MUNGER: Yes.

WARREN BUFFETT: And I think, actually, that there’s some merit. Sometimes people work better together if it’s their decision to work together than if you tell them to work together.

CHARLIE MUNGER: It goes beyond that. Warren and I would like it that way if we were in the subsidiaries. There’s no doubt about that.

WARREN BUFFETT: Yeah, we’d probably leave if it wasn’t that way. (Laughs)

3. Act as if “you were an owner of the place”

WARREN BUFFETT: OK. Area 1.

AUDIENCE MEMBER: Dear Mr. Buffett, dear Mr. Munger, my name is Steven Roman (PH). I’m a student of engineering maschinenbau at the University of Vienna in Austria. If I one day want to apply as a manager with one of the Berkshire companies, what qualities are you especially looking for? And what do I have to do to become your successor? (Laughter)

WARREN BUFFETT: Probably shoot me. (Laughter) The managers of our subsidiaries hire their own people. The number of decisions I have to make about managers are really, really few. As I mentioned earlier, they do send me a letter that if something happens to them, gives me their ideas about who should succeed them. But I make no decisions about who gets hired at GEICO, or Burlington, or Mid-American or anything of the sort. I mean, if they need a CFO they go out and hire a CFO, or if they need somebody to run a plant they go out and hire them themselves. They are responsible for their operations, and occasionally we have a death, we have an occasional — very occasional, I can’t even hardly think of one — resignation. And at that point I have to make a decision about who should be put in charge of the operation. But I don’t think I’ve had more than 10 or 12 of those in 45 years. So I’m not a very good employment agency. We have 21 people, I think it is, at headquarters, and I made a terrific hire here a few months ago.

But that’ll take care of me for four or five years. Charlie?

CHARLIE MUNGER: Yeah, there’s no indication we’d be particularly good at it, either. (Laughter)

WARREN BUFFETT: Yeah. I wasn’t going to mention that. (Laughter) But I would say this: if you want — what is interesting to me is that when you find somebody outstanding, boy, do they jump out. I mean, somebody that is thinking about the place the right way, is working extra hard, whatever it may be. There aren’t — you don’t have that much competition in this world. So, in terms of generally advancing within organizations, I think you’d be surprised at how little competition you really have if you start thinking like you would if you were an owner of the place, and working like you would if you were an owner of the place, and pretty soon you may be running something.

4. Retained earnings, present value, and dividends

WARREN BUFFETT: Andrew?

ANDREW ROSS SORKIN: This question comes from Tomer Malon (PH) from Tel Aviv, Israel. And he has clearly been a long-time shareholder because he references your 1984 Chairman Letter. He writes, “You have previously stated that a company should retain its earnings only if, quote, ‘For every dollar retained, at least one dollar of market value will be created for owners,’ unquote. “You also noted that if such conditions will no longer apply to Berkshire, as measured on the basis of a five-year rolling average, then quote, ‘We will distribute all unrestricted earnings that we believe cannot be effectively used.’ “However, during the five-year period between July third — I’m sorry, January 3rd, 2005 and December 31st, 2009, the average annual earnings per share for class A, as reported, amounted to $5,930, while at the same period the average annual change in the share’s market price was only $2,420. “Consequently, are you considering a distribution of a dividend or buying back shares? I imagine I know the answer, but I thought we had to ask.” (Laughter)

WARREN BUFFETT: Well, he does know the answer, but we’ll elaborate. I did write that, not only in 1984 but continuously in the back of the Berkshire annual report where I’ve got our economic principles. And frankly, the way I wrote that the first time was not well thought out. And in the 2009 annual report, partly because somebody asked that question last year, I actually rewrote that section. And I pointed out that even when I wrote it in 1984, we would have flunked the test in many previous years when, generally speaking, the stock market had suffered a significant decline over a period of time. As you can tell by looking at our report, right now every dollar that we have left in the business, you know, has produced, in present value terms, something over $1.30 of market value. We have met the test of retained earnings proving their worth.

But the way I phrased that originally, anytime the stock market went down a whole lot in a five-year period, because we were carrying our Coca-Cola at a certain price five years earlier or whatever it was that entered into our asset value, we could have done a great job of allocating capital in the five-year period and we still would have looked bad. And similarly if the stock market had gone up a whole lot, we could have done a dumb job and looked good. So, if you will look in the back of the 2009 annual report, I think it’s number 11, or — I’m not sure about that. But read the economic principles. You’ll see that I had to confess my error in how I originally worded that. But I think it is still intellectually honest, in terms of meeting what I intended to say. You know, I voted against this before I voted for it, or something like John Kerry said in 2004. (Laughs) I think it does meet the test of a dollar retained earnings producing more than a dollar of market value. And we will continue to measure ourselves based on whether we meet that test.

If we don’t — if keeping a buck doesn’t produce more than a buck in present value, I don’t mean every day or every week, but over time, we should figure out something else to do. Charlie?

CHARLIE MUNGER: Well, I like people that parse through a long series of documents and find an error and rub my nose in it, particularly when it’s your error.

WARREN BUFFETT: Rub my nose in it. (Laughter)

CHARLIE MUNGER: Yeah, yeah.

WARREN BUFFETT: How tolerant. (Laughter) I should have had him word it originally. Actually I think those were his words. It’s just coming back to me. (Laughter)

5. Safety net needed for the unemployed, but Berkshire isn’t it

WARREN BUFFETT: OK. Number 2.

AUDIENCE MEMBER: Glen Molinar (PH) from Cleveland, Ohio. It’s been on my bucket list to come meet you, Mr. Buffett and Mr. Munger, so it’s a privilege to be here. My question has to do with hope and jobs. You know, in America, I think we need to figure out how we can go about creating jobs. I have been trying to help people get jobs. My question is, and a challenge maybe, how can we get Berkshire Hathaway and your board to maybe go out and just basically hire people to give them hope?

WARREN BUFFETT: Well, we will hire people when we have something for them to do. (Applause) But — and we are actually, net, hiring people now. I mean, when the Burlington is carrying 173,000 cars a week like last week, as opposed to some time back 155,000, we need more people. And we need more people at some of our other businesses. But our carpet business, we are down 6,000 people-plus from our peak. But people aren’t going to quit buying carpet forever. And we will be hiring a number of people, but there’s no sense hiring them when they’re not — when there’s nothing for them to do. I went through a period, particularly, it was dramatic to me, because we owned — Berkshire Hathaway owned — a couple of textile mills, one of them in New Bedford. And eventually we had to close those mills after we tried for 20 years to make them work. And if you get somebody that’s working in a textile mill and they’re 55 years old, and in many cases still were speaking Portuguese, you know, retraining doesn’t mean much to them.

I mean, you need — if you believe in creative destruction and you believe in capitalism, essentially figuring out ways to do the same things with less and less people, you better have a social safety net. And we’ve got a pretty good one in this country, a whole lot better than we had 30 or 40 years ago. But right now there is significant unemployment. Not any higher than it was in 1982 or thereabouts, but it’s a lot and it’s not going to go away fast, although it is going to go away. And we should take — in my view, society owes some minimum living standard to people who are looking for work, trying to get work, and frankly, at a time like this, they’re not going to be able to find it. But I don’t think that Berkshire Hathaway should be the social safety net. Charlie?

CHARLIE MUNGER: Yeah, I would say that if Berkshire started out to create a bunch of makework jobs in order to increase human hope, the net effect would, over time, would be the reduce human hope. (Applause)

WARREN BUFFETT: I think that’s true, but I’d rather have Charlie saying it than me. (Laughter)

6. Why GEICO isn’t looking at China or India

WARREN BUFFETT: Carol?

CAROL LOOMIS: “Our car insurance business” — Oh, this comes from a New York man who asked that I use his initials, A.J. “Our car insurance business has continued to return excellent profits and expand its business within the United States. Why hasn’t Berkshire made any progress in the car insurance business in China, or India, or even Europe? “As BYD has shown, these markets are exploding in automobile sales, so aren’t they ripe for the picking?”

WARREN BUFFETT: Yeah. There’s no — we’ve known for a long time there’s no shortage of drivers around the world. That — there may be a lot of business in the United States, but there’s a whole lot of business elsewhere. In terms of India and China specifically, we can only own a limited amount, I believe 24.9 percent, of a company in either of those countries. And we’re not eager to work hard on something where we own 24.9 when we could work hard on something where we can own 100 percent. Obviously, we talk all the time, we’ve thought for decades about ways we can possibly expand GEICO, because it’s a wonderful, wonderful company. And we have gone from a market share of 2-and-a-faction percent when we bought control to 8 1/2 or so now. But there’s plenty to do here. And we do not have the same kind of advantages — or we don’t think we could build those in any reasonable period of time — as we look at other markets. I mean, obviously we look at Canada.

You know, I mean — Tony and I talk about this kind of thing frequently. I agree with his decision that now, and probably for a long time to come, there is so much opportunity in the United States. And the other areas, for one reason or another, as we’re looking at them, do not give us the same kind of competitive advantage we have here, that we pass on them. But we love the idea of taking a business that’s working in one area and figuring out a way to have it work in other areas. Whether it’s geographical adjacencies or product extensions, or all kinds of things. We’re well aware of possibilities out there. In the case of GEICO, we have not decided to go to other countries, but it isn’t because we didn’t know there were cars there. (Laughter) Charlie?

CHARLIE MUNGER: I’ve got nothing to add. (Laughter)

7. China’s economic growth is “fun” to watch

WARREN BUFFETT: OK. Number 3.

CHINESE STUDENT: Good afternoon. My name is Shin Tse Chen (PH). I am a Chinese student from Kansas State University. My question is, Mr. Buffett, what is the most important thing that you have learned from China? Thank you.

WARREN BUFFETT: Most important thing I’ve learned from China?

CHARLIE MUNGER: China, yeah.

WARREN BUFFETT: Yeah. What’s the most important thing you’ve learned from China, Charlie? (Laughter)

CHARLIE MUNGER: It has some very unusual people in BYD. (Laughter)

WARREN BUFFETT: I’ve learned —

CHARLIE MUNGER: No other lesson is as important as that one. (Laughter)

WARREN BUFFETT: I’ve learned they like Sprite better than Coke. Sprite outsells Coke in China by two-to-one. But they’re both growing dramatically. I think China is an amazing economy. I mean, there is no question in my mind that, you know, the growth on a per-capita basis is going to be dramatic going forward. They’re just starting to exercise their potential. When you think about it, in 1790, there were four million people in the United States, just under four million. There were 290 million in China in 1790. Just as smart, you know, just as hard working, resources of the land, the minerals, everything, its climate, very, very similar. And for 170 years or so, relatively little progress was made in the standard of living for those people, like you say, who had all the native abilities that America had. But, you know, in recent decades, the potential of the Chinese is being unleashed and it’s huge. And I think it’s very, very interesting to watch. Charlie and I, and a group of some of the directors, are going over there at the end of September.

You know — and I was over there a couple of years ago. It’s a sight to behold. But, in terms of specific lessons, they haven’t taught me how to eat Chinese food, I will say that. (Laughs)

CHARLIE MUNGER: I think I always knew that the Chinese people had an enormous potential for huge and rapid progress, because I could see that in all the Chinese-Americans that I dealt with. And indeed, people came in here as Chinese “coolies” — in effect, slaves — and they rose so rapidly that it was a marvel. So I always knew that China had a potential to be a huge credit to human civilization. But I think I underrated how fast it could happen. China is setting a new record for advancement of civilization at a very rapid rate. It’s fun to watch.

8. Why Buffett addresses the annual report to his two sisters

WARREN BUFFETT: Becky?

BECKY QUICK: This question comes from a shareholder in Aiken, South Carolina who asks not to be identified, but he asks that Mr. Buffett or Mr. Munger discuss changes that have been made in the Berkshire annual report in the last several years, and the reasons for making some of these changes. Two of the changes that he’s noticed are, number one , look-through earnings no longer seem to be discussed, and number two, the unaudited combined financial statements of the business groups no longer seem to be included, although at least some of the business groups material seem to be covered in other places in the report.

WARREN BUFFETT: Yeah, the second point I’m confused about, because we have broken them down into four groups and tried to give the relevant financial information for what we thought was a logical grouping, and will continue to do that. So I’m not sure I totally get that. We really do have four fairly logical breakdowns. Now, you can break it down 70 ways and all that, but there’s a point at which adding 100 pages to an annual report obfuscates information rather than illuminates. And that’s what — we’re trying to, in a reasonable number of words — Carol might say too many — but in a reasonable number of words, convey as much as we can about the information we’d want to have if we were in your place and you were writing to us. And we think these four classifications — regulated industry is terribly capital intensive. You know, insurance: capital, really not a factor, but the amount of capital it gives us being a factor, and so on. And so I don’t think we really changed on that.

Now, when you get into look-through earnings or sometimes when we talk about the earnings per share and the investments per share, some of that I don’t repeat every year because we try to get — run at, maybe, 12,000 words or something like that in the annual report. I really think if you extend it too much — I’ll say this, nobody’s told me it was too short, yet — (laughs) — including my editor, who is here today. And every other year I may do that breakdown between operating earnings and the — but that takes 1,000 words or so to explain it to people. The whole report is guided, as it has been ever since I really started taking it seriously in the mid ’70s, is guided by the idea that I’m — actually, I’m writing it to my two sisters who are here. And I have my audience in my mind — is two very intelligent, interested people but who are not around the place, been gone for a year, and they’re very capable of understanding anything but they’re not necessarily familiar with all the lingo. If I get too esoteric on it, so I should explain that.

And I really want them to understand how I’m thinking about the business, and by implication, how I think they should think about it, and to answer the questions that I think would be in their mind. And they’ve got most of their net worth in it, so they’re going to read to the end. And I really haven’t changed that framework in my mind for how I’ve written it. I start mentally off writing, “Dear Doris and Bertie,” and then I just cross them off and put, “To the shareholders of Berkshire Hathaway.” But that’s the way it’s done. Charlie?

CHARLIE MUNGER: Yeah, but the details can change as the facts change. The undistributed earnings of corporations in which we hold shares, but do not control, used to be way more important than they are now. It’s perfectly natural that the emphasis would shift.

WARREN BUFFETT: Yeah, the undistributed earnings now, without me looking at it very carefully, you know, are probably — they’re not more than, probably, 15 percent of our reported earnings or something like that. They used to be a much higher percentage. And they’re still important. But I don’t think they’re — I think the people that understand that Coca-Cola and American Express aren’t paying out all their earnings, and it’s not a big enough number that I would want to spend a lot of the report explaining it.

9. Munger endorses Roth IRAs

WARREN BUFFETT: Number 4.

AUDIENCE MEMBER: My name is Joe Hudson (PH), a shareholder from Culver, Indiana. I doubt either of you have any money in Roth IRAs, but what are your thought on the opportunity this year for anyone to convert IRAs to Roth IRAs, thus having all future growth on Berkshire or other investments 100 percent tax free? Is the government making a big mistake here, and should people be concerned about the deal changing down the road?

CHARLIE MUNGER: I’ll take this one, because I have an IRA that I am going to convert to a Roth IRA. So there’s your answer. (Laughter)

WARREN BUFFETT: Well, I still don’t understand it, but —

CHARLIE MUNGER: You don’t have to. (Laughter)

WARREN BUFFETT: OK. He’s always telling me that. (Laughter) I assume - if Charlie said it, it must be true.

10. Newspapers are losing ground in battle with internet

WARREN BUFFETT: Let’s go to Andrew. (Laughter)

ANDREW ROSS SORKIN: This question I’m actually very self-interested in. It comes from Anton Ossip (at) Alexander Forbes from Johannesburg, and (he writes), “Last year you said you were down on the newspaper industry. “Given your life-long interest in newspaper companies and your stake in the Washington Post Company and others, has your view changed in the past year with the introduction of the iPad and other e-reading technologies? “Do you think we will see a contraction in the value of — in the value retained by — media houses versus what will be passed on to distributors of the media?”

WARREN BUFFETT: Well, you could probably answer it better than I can. My relatively uninformed opinion — because I’m not that up on the technology — but I just have a feeling that when the money — has basically — the money to run good newspapers has come from advertising, you know, three-quarters of the money or thereabouts — the papers become less useful to advertisers. I mean, they were the only game in town for a long, long time. They are not the only game in town. And what a difference that makes if you’re selling something. So, when the Philadelphia Inquirer, I — Stan Lipsey is here — I called Stan up and I said, “Stan, this is probably like an old fire horse or something, but let’s think about it anyway a little bit.” And it was sold yesterday at a bankruptcy sale, although I think that’s pending confirmation. But, you know, it is very tempting, if you’ve still got fairly substantial circulation - The Philadelphia Inquirer and they’ve got the Daily News there, too. But the math is really tough.

I mean, the distribution costs, the printing costs, everything, and maybe all this changes that in some way that you would understand better than I would. But since I don’t understand it, I have to stay with — and there are plenty of things I don’t understand — and I cannot make an affirmative decision on newspaper ownership. I just got the — the ABC puts out Fast Facts, this big yellow publication — I just got it a couple days ago and I can’t resist looking through there. And I flip the pages and look at circulation of all kinds of papers. Actually, in Buffalo, we were down less than a great many papers, even though, you know, our population demographics are very tough. We were down less than Rochester, I might mention, which is owned by Gannett. But you look at San Francisco Chronicle, you know, down 20-odd percent. Dallas — These are communities that are thriving, and it blows your mind how fast people are dropping it. It’s not just older — it’s not just that younger people aren’t picking it up. I mean, the world has really changed, in terms of the essential nature of newspapers.

There’s nothing that looked — back when Charlie and I would talk about them in 1970 or ’65, there was probably nothing that looked more bulletproof than a daily newspaper where the competition had melted away. But it’s a form of distributing information and entertainment that has lost its immediacy in many cases. It’s certainly — it is not the essential place to get — think about how stock market quotations were, you know, 30 or 35 years ago. You looked in the paper to see what stocks had done. You looked in the paper to see how sports games had turned out. So its primacy has withered away, and the advertisers weren’t there because they love the publisher of the newspaper. They were there because it was a microphone to talk to everybody in town, and they had to talk to everybody in town. And so you get this chicken and egg thing that the newspaper becomes less valuable as the advertisers float away, and the advertisers float away as the subscribers diminish. And I don’t see a good answer to it, but Charlie, what do you have to say?

CHARLIE MUNGER: Well, the independent newspapers, due to the accidents of history, as they became dominant in their individual towns, for decades had impregnable economic strength. And by and large they behaved better because they were so strong. And they were called the ”Fourth Estate.” They were really a branch of the government, they helped keep government honest. And if you take this state in which we’re located, The World-Herald has been a very constructive force, net, over a long period of time. As those dominant franchises have weakened and weakened, it’s not good for the country. I think we’re losing something that we have no substitute for. And I think it’s very sad and I don’t have the faintest idea what to do about it.

WARREN BUFFETT: Charlie and I love newspapers. I think The World-Herald hit a 300,000 circulation peak on Sunday at one time. I don’t think they averaged that for the six-month period, but I seem to remember that, I could be wrong. And the figures — 100,000 off that or something of the sort, and the state has gained population, the city’s gained population. I think it’s as vital to me as ever, but it clearly — it has changed for the populous as a whole. And, you know, when I look at the Philadelphia Inquirer and I forget what it was, 350,000 or something like that of circulation, and, you know, I’m not worried about Philadelphia going away. But when I look at the figures being down — I don’t know, I forget what it was now — 30 or 40,000, you know, in a year, it doesn’t work very well as that goes along, because the advertiser just does not need you the same way as they needed you 10 or 15 years ago. So your ability to price evaporates in them.

It used to be — Charlie and I met Lord Thompson in 1970 or so, and he owns the paper — he owned the paper — in Council Bluffs, right across the river. And he was a jovial fellow, he was very happy to see us. And we said to him, “Lord Thomson,” we said, “We noticed you own the paper in Council Bluffs. Have you ever been there?” He said, “I wouldn’t dream of it.” (Laughter) And then I said, “Well, Lord Thomson,” I said, “You seem to increase the price of your paper every year and your poor advertisers” — I mean the advertising price. And I said, “What can they do about it?” He says, “Nothing.” And then I said to him, “Well, in that case, how do you decide how much to increase prices, since it’s totally at your discretion?” And he said — I think Charlie will remember these words — he says, “I tell my U.S. managers to price to make 40 percent pre-tax.

Above that, I feel I may be gouging.” (Laughter) Those days are gone. (Laughs)

CHARLIE MUNGER: Yes, and the politicians are not behaving better as the newspapers are weakening. We’re going to miss the newspaper power.

WARREN BUFFETT: I agree with that. (Applause)

11. There will “always be opportunities to overperform”

WARREN BUFFETT: Number 5.

AUDIENCE MEMBER: My name is Robert McArthur (PH) from Boston, Massachusetts. I’m starting a career in investing, and many, if not most, investors my age think they’re value investors. Also, there’s a record number of people here to see you this year, and the same value investors who were laughed at three years ago are now celebrated by the financial press. Will there be fewer metaphorical $100 bills left on the street going forward, and if so, should I look for a career in managing a business instead of managing money?

WARREN BUFFETT: There will probably be fewer, but I would say there will always be — except in the most bubbly of markets, perhaps — but there will always be opportunities if you’re not working with large amounts of money. The money manager — there’s a basic conflict. There’s conflicts in most businesses. Everybody’s pointing out the conflicts now in the investment banking business. But the investment management business has a conflict that’s equally as significant in the fact that asset gathering can become a way more important part of your income than asset managing. But if you manage moderate sums of money, I think there will always be opportunities to overperform. That doesn’t mean lots of people are going to do it, but they will be out there. And, you know, it might have been easier many years ago when there were fewer people looking and not as much information was available on the internet and all that. But people still make the same mistakes and they still get — well, I’ll give you an illustration. Charlie has a company called the Daily Journal Company. And the Daily Journal Company has a bunch of cash.

And it sat there with cash, and it sat there with cash, and I own 100 shares — which is all he’ll let me own — and I got their annual report here a while back. And in their fiscal year of 2009, they never bought stocks before that I’d seen, and all of a sudden they’d bought $15 million worth of stocks and they were worth 45 million. So by sitting around for a while, but waiting until things got really ridiculous in certain cases, he put $15 million out that became 45 million within, probably, a six month period or so. So opportunities come around. You have to be prepared to grab them when they come. And you can’t do it with the kind of money — I mean, you can’t get the extraordinary things with the kind of money that we’re running. With moderate amounts of money, I think there will always be opportunities. Charlie’s going to tell you something more pessimistic now, probably. (Laughter)

CHARLIE MUNGER: Yes. One piece of advice that Warren frequently gives — and it’s particularly useful to those going into money management — take the high road. It’s far less crowded. (Laughter and applause)

WARREN BUFFETT: Alan Simpson used to say, he said, “Those who take the high road in Washington are seldom bothered by heavy traffic.” (Laughter) But getting to the last part of your question, there’s going to be opportunities for talent, whether it’s in money management, operating management, whatever. It’s going to work. Money management, you know, is easier to scale up and easier to get into and all of that. So it was certainly my natural inclination, in any event. I would not have wanted to work my way up to plant superintendent and all of that — (laughs) — until I got a job at the top, you know, about the time they were going to give me a gold watch. But there’s opportunities in both places.

12. Municipal bond insurers must worry about contagion

WARREN BUFFETT: Carol?

CAROL LOOMIS: This question is about municipal bonds. Municipal bond defaults, on the scale you described in the 2008 letter, have so far not materialized. To what extent will we see municipalities default outright in the next five to 10 years? Will the bond insurance companies be able to swallow the losses? Will there be federal bailouts of states? And considering all of these risks, should investors be getting paid more than they already are for holding municipal bonds?

WARREN BUFFETT: Well, if the bonds are insured by Berkshire, you don’t need to worry at all. (Laughs) But we’re not insuring a lot of bonds currently, because we don’t think the premiums are appropriate, which gets to the question. Just the other day, within the last few days — you’ve probably read about it in the papers — Harrisburg, Pennsylvania, defaulted on a relatively small amount of bonds. And the bond insurer, named Assured Guarantee, starts paying the interest. And Harrisburg may get things worked out in a week, you know, and they may not. There’s certainly some incentive to do that. And if they do get it worked out, the bond insurer’s not too much on the hook. But what you worry about is correlation in this field, that if one entity defaults — and particularly if nothing terrible happens, that the police are on the street the next day, and the fire trucks still go to fires and all that — and people start thinking, “Why should I have a great fiscal reputation when I can have lower taxes and still have all the services I need?”

It’s very hard to tell how that will play out. I personally think it would be very hard, in the end, for the federal government to turn away a state that was having extreme financial difficulties when they’d, in effect, gone into General Motors and various other entities and saved them. I don’t know exactly how you would tell the governor of state X that you were going to stiff-arm him, and when you’d participated in so many other bailouts of corporations. But who knows what would happen, and who knows how contagious it would be? The big thing you worry about if you’re a bond insurer is contagion. Obviously the bond insurers — except for Berkshire — the bond insurers, in my view, have got extraordinary liabilities in relation to their capital. And virtually every one of them either failed or effectively failed — had to spin off a bad bank versus a good bank type of thing, or something like that — with merely the troubles they encountered when they got into structured securities. And I think they’ve had a very optimistic attitude toward what could happen in the field. But I don’t know the answer on what default rates are going to be over the next few years.

I knew that I felt I was getting paid fairly for taking that risk on a year-and-a-half ago, and I don’t feel that we’re getting offered a premium that’s fair now, so we’re going to let somebody else do it. Charlie?

CHARLIE MUNGER: Yeah, with the municipal bonds, I would try and invest in places that were both prosperous and disciplined. You want to invest in the prosperous, because Ben Franklin was right when he said, “It’s hard for an empty sack to stand upright.” And you want to invest in the disciplined places because integrity still matters. It’s not very difficult, it’s not very complicated.

WARREN BUFFETT: But you could argue that in a country, if the undisciplined are not being punished for being undisciplined, that the taxpayers in disciplined areas would say, “Wait a second. You know, why should we keep up a record of financial prudence and all that and pay our bills when other guys aren’t paying their bills?”

CHARLIE MUNGER: Well, there’s no question about the fact that bad behavior is contagious. That’s the way human nature works. But I’d still rather be with the disciplined, —

WARREN BUFFETT: Yeah.

CHARLIE MUNGER: — prosperous people.

WARREN BUFFETT: Number 6.

CHARLIE MUNGER: That’s why I like the Berkshire meeting. (Laughter)

WARREN BUFFETT: That, and free fudge. (Applause)

13. Short-term stock moves aren’t predictable and don’t matter

AUDIENCE MEMBER: Good afternoon, Mr. Buffett and Mr. Munger. I’m (inaudible) from Fort Lauderdale, Florida. First of all I want to thank you for sharing your wisdom with us so generously. Back in October of 2008, you highly recommended buying U.S. stocks and that was a brilliant idea, it worked very well. And I just want to get your opinion how you think about the market going forward. Are you still that optimistic, and what’s a reasonable rate of return to expect from equities in the next decade or so?

WARREN BUFFETT: Well, I write articles very infrequently, or get interviewed very infrequently, on the subject of the general level of the market itself. Probably only four or five times in 40 years have I really declared myself about — what I thought — about the general level of the stock market. And it turned out I was pretty premature, actually, in October of 2008, as was pointed out to me by a number of people. But I felt — and what I said in that article really was that it would be way better to own stocks over the long term than to follow a policy of buying either long-term bonds or holding cash. And I knew I could make that statement and I would be eventually — I thought odds were very high — I’d be proven right on that. But I don’t like — I don’t know what the stock market’s going to do next week, or next month, or next year. I don’t have any idea. People always think I do.

I know I don’t have any idea, I don’t think about it, it doesn’t make any difference because Charlie and I — I can’t recall a discussion we’ve ever had on it, basically. But I do think over the next 10 years or 20 years, I’d much rather own equities — including U.S. equities — I’d much rather own them than cash, or I’d much rather own them than a 10 or 20year bond. But that’s partly because I’m very unenthusiastic about the alternatives. I think equities are likely to give you some positive — modest positive — real return over time. But beyond that I really don’t know anything. Charlie?

CHARLIE MUNGER: That’s a cheerful thought that equities are the best of a bad lot of available opportunities. (Laughter)

WARREN BUFFETT: You disagree with it?

CHARLIE MUNGER: No, I think you’re right. (Laughter) I think people should get accustomed, on average, to doing less well in their investment portfolios, in real terms.

WARREN BUFFETT: Charlie and I don’t —

CHARLIE MUNGER: I think we’re in for a long period of where the ordinary result is not going to be very exciting.

WARREN BUFFETT: But we like owning businesses. And we’re in a position where we can own entire businesses, but we also like partial ownership of businesses. And we want to own businesses where we really think they have some competitive advantage over time, and where we feel good about the management, and where we think the price is reasonably attractive. I think you can find things like that now, but they aren’t dramatically attractive at all. They do beat, in my view, they do beat holding cash or five, 10, or 20-year bonds.

14. Why we don’t use bond rating agencies

WARREN BUFFETT: Becky?

BECKY QUICK: This question comes from John Bailer (PH), who’s asking about the rating agencies. He points out that you started selling your stake in Moody’s this year. “Has the investment case for Moody’s changed due to potential regulation, and if so, why not sell the position to zero?”

WARREN BUFFETT: We won’t discuss what we will or won’t do with any position, but I would say this. The ratings agencies have had, and still have, under current conditions, an incredibly wonderful business. I mean, it takes no capital at all, you know, the pricing power is significant. And certain parts of the world feel they need rating agencies. There are also — a certain part of the world is very mad at rating agencies. And many feel that the rating agencies let them down when the rating agencies, essentially, succumbed to the same mania, in effect, you can say, that prevailed throughout the investment world, and, really, the political world, and the media world, et cetera. They made the same mistake that, again, politicians made, I made, you know, you made, mortgage brokers made, whomever. They couldn’t see a world where residential housing, countrywide, would collapse. And I don’t think that was done because they were — the incentive part of it, there may have been some small aspect that that played. I just think that, you know, it’s very hard to think contrary to the crowd.

And on the other hand, there is a, obviously, a backlash against rating agencies. There may be legal remedies. You can get views on that either way. If they are not forced to change their — the whole structure around them does not change in some dramatic way — it’s a pretty darn good business in that you can’t shop pricing in the rating agency business. We have never paid any attention to ratings for bonds, I mean, you know, at Berkshire. We don’t think we should farm out, outsource, investment judgment. If we can’t do it ourselves, we just don’t do it. And we’re not going to rely on somebody else’s opinion, whether it’s a rating agency or an investment advisory organization, or a management consultant firm, or anybody else. So, it’s not a business that we rely on, but we do recognize that if the, sort of, the social model doesn’t change, it still remains a phenomenal business. Charlie?

CHARLIE MUNGER: Well, I would argue that the rating agencies, in their present forum, and structured with their present incentives, have been a wonderfully constructive influence in our country for a great many decades. And what happened, of course, is that the cognition faltered. They drifted with the stupidity of their times in a way that was regrettable. Part of it came out of asininity in American business education. They overbelieved in these ridiculous models and so on and so on. And I have yet to hear a single apology from business academia for its huge contribution to our present difficulties. (Applause)

15. World will find a solution when oil “windfall” gives out

WARREN BUFFETT: Area 7.

AUDIENCE MEMBER: Mike McCoy (PH) from San Francisco. Chairman Buffett, you frequently speak favorably about the prosperity of future generations, that our children and our children’s children will live better than us. How much of our current prosperity do you attribute to us being able to get oil out of the ground at a fraction of the cost of its value to us in the economy? And how will we be able to live better in the future when we can no longer get more and more of this free lunch and we become dependent on more dilute sources like solar and wind? Couldn’t this turn out like trying to satisfy a drug addict with a Coca-Cola?

WARREN BUFFETT: The oil business — obviously, the discovery of oil — what was it, about 1850- something? Colonel Drake at Titusville, Pennsylvania, or something? That changed the world in a very major way, and it was only 150 years ago. And since then we’ve been sticking straws into the earth at an incredible pace. There’s over 500,000 producing wells in the United States, would you believe that? I mean, 11 barrels, 10 barrels a day average or something of the sort. We have really exploited what may have taken, I don’t know, whether it was hundreds of thousands of years or millions of years to create. It’s contributed in a huge way to the prosperity of the world, but the world, in my view, will not be dependent upon that particular — call it “windfall” — for the next hundred years. And Charlie knows way more about this subject than I do, but there will be other free lunches available. You know, whether it’s solar or — there’s lots of possibilities.

Don’t ever give up on humans’ ability to innovate in ways that create solutions to problems that seem insolvable. We’ve faced all kinds of predictions. You know, all of the inventions having been invented — there’s some famous statement, I forget who made, on that. We haven’t really started. I mean, if you could pick a time in history when you would want to be born — leaving out the nuclear, chemical and biological threat, which is something to leave out — but I would pick today. The world has a bright future. Now, Charlie will give you the other side of that. (Laughter)

CHARLIE MUNGER: No. I think you’re failing to recognize something really important. In the technology of 150 years ago, they really needed the oil to get ahead. In our advanced civilization, which has benefited from this last 150 years of technological expertise, we can get ahead without the oil if we have to. Now, Freeman Dyson is a physicist who is not an economist but a genius, and he’s been very good at pointing out that it isn’t that horrible to contemplate a world which goes off oil, provided that world is as rich and knowledgeable as ours is now. So the fact that they couldn’t have got to where we are now without the oil starting 150 years ago, does not mean we can’t do without the oil if we have to. We need the oil and the gas, and the coal, eventually, for chemical feed stocks more than we need it for keeping warm and propelling our vehicles.

WARREN BUFFETT: And the adjustment, fortunately, will be fairly gradual. I mean, it isn’t like 85 million barrels in the day goes to 50 million or something in five or 10 years. So it’s a workable period of adjustment, in my view.

CHARLIE MUNGER: If it doesn’t bother Freeman Dyson, who knows more about it, I don’t think it should bother you too much. (Laughter)

WARREN BUFFETT: He’s always pulling that on me. (Laughter)

16. Buffett doesn’t like Kraft’s purchase of Cadbury

WARREN BUFFETT: Andrew?

ANDREW ROSS SORKIN: I received a number of questions regarding Kraft, and this one comes from a shareholder who says they prefer to remain anonymous. The question is, “Given your stake in Kraft and your public criticism earlier this year about the Kraft-Cadbury deal, how would you grade the Kraft board of director’s capital allocation and the management compensation abilities? “What did you think of Kraft CEO Irene Rosenfeld’s $26.3 million compensation package for services, including her leadership in completing the Cadbury acquisition and selling Kraft’s North American frozen pizza business?”

WARREN BUFFETT: Well, I didn’t like either the Cadbury decision or the pizza decision. But we’ve made our share of dumb deals at Berkshire, you know. So I’ve gotten more tolerant of other people, and incidentally the fact I think it’s a dumb deal doesn’t for certain make it a dumb deal, but I think the odds are it was a dumb deal. In fact, I think the odds are that both deals were dumb. The pizza deal was particularly dumb, but — in my view. But just think of all the dumb things we’ve done, right? Starting with that department store in Baltimore.

CHARLIE MUNGER: Oh yeah, right. A few Irish banks, you know.

WARREN BUFFETT: Right, (inaudible).

CHARLIE MUNGER: We never seem to go —

WARREN BUFFETT: I wish you hadn’t brought this up.

CHARLIE MUNGER: — we never get over it. (Laughs)

WARREN BUFFETT: We expect to do some dumb things, it’s just we get mad when other people do dumb things with our money. (Laughs) You know, the pizza business — somewhere I probably have some figures on that — but when they sold the pizza business for $3.7 billion they announced it as selling it for $3.7 billion. They didn’t sell it for $3.7 billion, that’s what the other guy paid. What they got was about $2.5 billion. And that was a terribly tax-inefficient deal when they’d already shown their ability to understand that you could do a tax-efficient deal when they sold the Post cereals business earlier. And when they referenced — well, they didn’t reference at all what pizza was earning beforehand, but I think that Nestle said it was earning something like 280 million pre-tax, but that was referring to the previous year. When they talked about the Cadbury earnings they were buying, they were talking about next year. And when they talked about the pizza earnings they were selling, they talked about last year.

Pizza in 2009, believe it or not, earned three hundred and, I think, 40 million pre-tax. So they got 2 1/2 billion for 340 million of pizza earnings that were growing as fast or faster than the Cadbury earnings and where the sales were going as fast or faster. It really didn’t make sense in my view. Now, you know, Irene is a perfectly capable manager and she may know a lot of things about that business I don’t know. Like I say, we’ve made plenty of mistakes ourselves. But if it’d been me, I would have voted to keep pizza and not buy Cadbury. And I expressed myself, and I don’t do that too often, but we owned a lot of Kraft. And Kraft, still, is selling for considerably less than the value of its constituent parts, particularly if you value them the way they valued Cadbury. (Laughter) But if they don’t sell them all like they sold pizza, you know, the present price is below the value of Kool-Aid and A.1. Sauce and — and Jell-O and Oscar Meyer wieners and a few things.

Those are very good businesses. I just hated to see them give up a significant portion of those businesses to buy Cadbury at what I felt was a very fancy price. Charlie? And in terms of her compensation, you know, we’ve got a compensation system at Berkshire that I regard as quite rational. And there’s a lot of companies in the United States that have different compensation systems. (Laughter)

CHARLIE MUNGER: Yeah, I think generally, at the top of American businesses, people think they know too much about strategy. And they tend to hate the tough competitive conditions in the business they’re in, and to yearn for some business where it’s less difficult. You remember when Xerox bought Crum & Forster, an American insurance company, one of the dumbest acquisitions in all time? The reason Xerox did that is they didn’t have any tough Japanese competing in the insurance business. They were really tired of facing the tough competition they had in the business they were in. I think it’s quite typical to dream, if you’re in business, that something that’s a little different, no matter how much you pay for it, will make your troubles less.

WARREN BUFFETT: And you will have an absolute army of lawyers, investment advisors, public relations people, all of whom will have a strong economic interest in having you push ahead on deal, after deal, after deal, regardless of how the shareholders come out. It’s just — it’s the way it works. OK.

CHARLIE MUNGER: That’s why Berkshire is a better deal. (Laughter) We are very stupid in many ways, but we have avoided a slight subset of stupidities. (Laughter) And they’re important.

17. Biggest threat to integrity: “everyone else is doing it”

WARREN BUFFETT: OK Number 8.

AUDIENCE MEMBER: Dear Mr. Buffett, dear Mr. Munger. My name is Richard Rentrop. I’m a shareholder from Germany. Mr. Munger, you just mentioned again the importance of integrity. My question is about changes in integrity of management. One of your three key questions is, does management love what they do or does management love the money? So how do you see the crisis having changed integrity of management?

CHARLIE MUNGER: I think what led to the crisis involved, to some extent, a lack of integrity in many a management. Fortunately, some of them are now gone. So, integrity’s very important. It’s the safest way to make money, also. There’s an occasional perfect knave who succeeds pretty well with money, but that kind of success reminds me of what Pope Urban said about Cardinal Richelieu. He said, “If there is a God, Cardinal Richelieu has much to answer for. But if there is no God, he’s done rather well.” (Laughter) And too many people want to be like Pope Urban’s view of Cardinal Richelieu. And — the integrity is important, it’s terribly important. And of course everybody mouths the integrity, even when it’s lacking. So it’s difficult to be sure that professing integrity is the same as having it.

WARREN BUFFETT: The “everyone else is doing it” is the toughest thing. I think —

CHARLIE MUNGER: Yeah.

WARREN BUFFETT: You had this classic example. In about 1993, roughly, you know, the Accounting Standards Board came out and says what was obvious to everybody all along, was that stock options were actually expense, and that expenses, for some reason or another, belonged on the income statement. And America — corporate America — fought back like you cannot believe. I mean, it was like World War III had broken out, in terms of armies of CEOs marching on Washington. So the Accounting Standard Board backed off. Congress — the Senate — voted 88 to 9 to tell them that, you know, what the hell did the Accounting Standards Board know about accounting, and that the Senate would tell them what accounting was all about. When the Accounting Standards Board backed off, they said, “We’ll now say that you can do it one of two ways. Number one is preferred,” which was to expense. Number two was acceptable, but not preferred. Of the Standard & Poor’s 500 companies, 498 chose number two, the non-preferred way. Two took the preferred method.

And I talked to a number of people in that 498 that I would trust to be a trustee of my will, you know, I’d love to have them as a next door neighbor, they could marry my daughter, but in the end they said, “I can’t do it if the other guy isn’t doing it.” It was a variation on the, “I’m doing it because the other guy is doing it.” They basically said, “I’ll be penalizing my shareholders if I report less in the way of earnings than I can report. And all the other guys are doing it that way, and I understand your point.” And the situational ethics problem is huge. I gave you earlier that illustration of how rare it is to find, if you carry it out to tenths of a cent, a four in reported earnings, quarterly. That’s not accidental and it’s — but if you talk to the people that play games to get that four up to five, they would say, “Everybody else is doing it, your own statistics proved that.”

And that is, you know, it is a tough problem to deal with. We try to create as few situations in Berkshire as we can that would induce such behavior. I don’t have the managers submit budgets to me, there is no Berkshire budget, you know. They can use them in their own operations. Some do and some don’t. Many do, a great many do. But if they submit them to me, you know, and the temptation becomes, if they’re not quite making it and they think I’m looking at them all the time, the temptation becomes to fudge in some way. And very few would do it, but the more that thought the other ones were doing it, the more that would do it. It’s just human behavior. And you want to try and create a structure that minimizes the weaknesses in human behavior. And I think Berkshire’s about as good a place at that as any, although I’m sure we’re not perfect at it. Charlie?

CHARLIE MUNGER: Yeah, what’s really interesting on this issue is that so much of the bad behavior does not come from malevolence or overweening greed or anything like that. It comes from subconscious poor cognition that justifies a lot of behavior that’s really not justifiable if it’s better understood. And that happens to practically everybody. And the cure is very difficult. The best cure is to have a system where the people who are making the decisions bear the consequences. And that’s why the system that Wall Street created where nobody really owned the mortgages, they just passed them rapidly to somebody else at a profit. And so nobody felt any responsibility that the mortgages be any good. Systems like that, at a basic level, are irresponsible systems, and it’s deeply immoral to create irresponsible systems like that. But the people who create them don’t realize they’re being immoral, they think those systems are wonderful. Who do you see apologizing for the behavior you now find so regrettable in our recent mess? There are very few apologies, you’ll note. People think they did fine.

18. Can’t make money if you’re scared when everyone else is scared

WARREN BUFFETT: Carol? (Applause)

CAROL LOOMIS: This question is from James A. Star. “I have read an enormous amount about past market declines and the opportunities they presented to investors. “The last two years have seemed to me, a 43-year-old investor, a real opportunity. Yet in the thick of the action, I was too scared, because I felt the market decline, while severe, was not necessarily sufficient to match the risks of global financial meltdown. “So my question is, given that we are possibly not totally out of the woods, how did the two of you assess this latest buying opportunity against the previous opportunities of your life?”

WARREN BUFFETT: It’s not the greatest one. We’ve seen a few that scream at us, and we’ve seen a few periods of overvaluation that scream at us. And 90 percent of the time we’re somewhere in between and we don’t know exactly where we are in between. The business of being scared, you know, I don’t know what you do about that. If you’re of that — if you have a temperament that when others are fearful you’re going to get scared yourself, you know, you are not going to make a lot of money in securities over time, in all probability. You know, people really — if they didn’t look at quotations — but, of course, the whole world is urging them to look at quotations, and more than that, do something based on small changes in quotations. But think how much more rational — we’ve talked about it before — but think how much more rational investing in a farm is than the way many people buy stocks. If you buy a farm, do you get a quote next week, do you get a quote next month?

If you buy an apartment house, do you get a quote next week or month? No, you look at the apartment house or the farm and you say, “I expect it to produce so many bushels of soy beans and corn, and if it does that, it meets my expectations.” If they buy a stock and they think if it goes up it’s wonderful, and if it goes down it’s bad. We think just the opposite. When it goes down we love it, because we’ll buy more. And if it goes up, it kills us to buy more. And I — you know — all kinds — you know, Ben Graham wrote about it. It’s been explained. But if you can’t get yourself in that mental attitude, you’re going to be scared whenever everybody else is scared.

And to expect somebody else to tell you when to buy and therefore get your courage back up or something, you know, I could get this fellow’s courage up substantially by saying this is a wonderful time to buy, and then a week from now he’d run into somebody else that tells him the world is coming to an end and he’d sell. I mean, he’s a broker’s friend, but he’s not going to make a lot of money. Charlie?

CHARLIE MUNGER: Yeah, I think I developed more courage after I learned I could handle hardship. So maybe you should get your feet wet with a little more failure. (Laughter and applause)

WARREN BUFFETT: I’ve certainly followed that advice. (Laughter) No, some people really do not have the — apparently, they don’t have the temperament, or emotional stability, or whatever it may be, to invest in securities. They’d be much better off if there were no quotations at all. And Keynes talked about that some in the past, too. To take something that should be an asset, a quotation every day, you know, terrific liquidity, nobody says, “How liquid is my farm?” or something of the sort. So they’re not expecting the prices to tell them something about how they’re doing. The market is saying this or that. Whenever anybody says, “The market is saying this or that,” you know, it’s sort of unbelievable. But there’s a lot of interest in investing, and people are going to yak about it all the time. And in the end, what counts is buying a good business at a decent price, and then forgetting about it for a long, long, long time. And some people can do it and some people can’t.

19. Munger is “enormously optimistic” about solar power

WARREN BUFFETT: Number 9.

AUDIENCE MEMBER: Hi, my name is Joe McCabe (PH). I’m from Littleton, Colorado. I want to thank you for the opportunity to ask a question and for your annual discussions in your report, just wonderful reading. Charlie Munger, you are on a YouTube video that discusses BYD and solar energy, and I really appreciate that interview and it being available to everyone. I want to talk about that in relationship to your other companies. So the BYD was mentioned as electric car and battery, but I understand their second goal is solar energy. And you also own roofing companies and buildings companies, (inaudible) and Clayton, as well as utilities, Mid-America, PacifiCorp, and Pacific Power. This seems to be a perfect golden opportunity for solar to be on these buildings in those kinds of utility companies. You’ve mentioned you don’t interfere with individual companies, but is there a way you can direct, suggest, motivate a synergy between all these companies to bring solar solutions? Thank you.

CHARLIE MUNGER: As the solar solutions are coming, because they’re so obviously needed. And regarding solar panels on roofs, I never pass an opportunity to decline to put them in, because I think they’re going to get a lot cheaper and I’d rather wait.

WARREN BUFFETT: Well, at 86 you can afford to, Charlie. (Laughter)

CHARLIE MUNGER: Yes, I have to think about the long term. (Laughter) And I’m going to miss you terribly. (Laughter)

WARREN BUFFETT: Touché.

CHARLIE MUNGER: It reminded me of the wife, and the husband said, “Will you still love me if I lost all of my money?” And she says, “Yes, I would always love you, but I would miss you terribly.” (Laughter) Well, the solar is coming because we have no other practical alternative. And it should be regarded as a very good thing, because what in hell would modern civilization do if we had no alternative to fossil fuels? That would be a really serious problem. And so of course, the cities that are chocking to death on their own poisonous air are going to go to electric cars and we’re going to get a lot more renewable energy from the sun. I’m also quite negative about growing corn in America using fossil water and fossil fuels in order to burn up in automobiles. (Applause) That is a stunningly stupid idea, and another example of how our politicians have failed us. But I am enormously optimistic about what is going to happen. Our politicians will eventually create a big electric grid that’s way better than what we have now.

We’ll eventually have the energy we need, and we will be way better for it. And it’s wonderful that these technical problems are proving solvable. It is not all that important over the long term, if solar power costs twice as much as what we’re used to. That’s a blip in the economic future of our country, it’s just a blip. And I think it’s probably a good thing that we have all these big capital needs coming that will create a better system in the end and solve our problems in the end. So I’m quite optimistic. But in terms of immediate business decisions, I think frequently the right answer is counterintuitive, like mine, to say, if you want to put in solar panels, wait. They’re going to get cheaper. Warren, do you want to criticize that?

WARREN BUFFETT: I have nothing to add. (Laughter)

20. No “exploding bananas” now in our stock portfolio

WARREN BUFFETT: Becky?

BECKY QUICK: This question comes from Jennifer Mancuso (PH) who is a shareholder here in Omaha. And she’s hoping that you can settle a debate between her husband and her.

WARREN BUFFETT: That a promising assignment. (Laughs)

BECKY QUICK: She says that he believes the Berkshire Hathaway stock will rise significantly in the next one to two years because of all the smart buys Warren made last year in Fortune 500s when stock prices were bottomed out. She says she knows this type of purchasing has driven much of your financial success, but she doesn’t know how impactful these buys are, given the size of Berkshire Hathaway and that Warren himself indicates that we shouldn’t expect to see large increases in his stock price in the next few years. So the question is, what percentage of the portfolio is represented by those stock purchases, and what kind of an impact might they have on the fund’s value as the valuation of that stock increases?

WARREN BUFFETT: I would say this, that our portfolio now — I’ve always regarded our portfolio as something that we thought would be worth more money later on. But the degree of undervaluation in our portfolio now compared to what I would expect it to produce over time is not dramatic, and that undervaluation has been exceeded many times in the past. So it isn’t like we’re sitting here on some exploding bananas or anything like that. That couldn’t be further from the truth. We think we’ll do reasonably well over time. We’ve got a lot of good businesses, we try to allocate capital rationally, we don’t waste a lot of money at the top. But we do not have a whole bunch of things that are likely to increase dramatically in value from here, it just isn’t the case. So I hope she and her husband get along fine. (Laughter) Charlie?

CHARLIE MUNGER: I don’t think I can solve any of those domestic troubles, either. In my own day, I simply accepted the other point of view. (Laughter)

21. “If I can be optimistic when I’m nearly dead, surely the rest of you can handle a little inflation”

WARREN BUFFETT: Number 10.

AUDIENCE MEMBER: Hello gentlemen, my name is Randy Bellows (PH) and I’m from Rock Hall, Maryland. I’ve been coming here for many, many years, yet today I sense from each of you a guarded sense, a sense of reserve. Not quite overt pessimism, but real reserve. You have spoken of impending inflation, government debt, both here and abroad, that’s higher than we’re accustomed to, increased regulation and red tape that may slow innovation and growth. And just a few minutes ago, Charlie, you spoke of that we have to reduce our expectation of investment returns. And yet in the same day you say children in India will live better than we do, Chinese will live better than we do, and our own children here in this country will live better than we do today. Can you give me four or five facts that explain your optimism? And thank you.

CHARLIE MUNGER: Well, having the main technical problems of civilization — which, of course, are all energy related — having a solution that’s on the horizon and nearly here, that is not a small benefit to humanity. That is the biggest single problem we have, so of course I’m optimistic about that. And — I’m optimistic about the culture that generally pervades in Berkshire, because I think it will continue to work. And of course it gives me some pleasure to see people that have had it tough for a long time — through their own extreme efforts and talents — rising rapidly, as in many parts of China and India. All of that gives me pleasure, and why shouldn’t it? Of course there are terrible problems, and of course reduced expectations are the rational way. There’s no better way to be happy than getting your expectations down, it’s much easier than —

WARREN BUFFETT: Getting your results up.

CHARLIE MUNGER: — than getting your results up, yeah. (Laughter) It’s just — we never know anything here except the most elementary common sense. It’s amazing that it’s sufficed for us. So no, I’m optimistic about life. If I can be optimistic when I’m nearly dead, surely the rest of you can handle a little inflation. (Laughter and applause)

WARREN BUFFETT: I really have nothing to add to that. (Laughter)

22. Why Buffett prefers TV interviews

WARREN BUFFETT: Andrew?

ANDREW ROSS SORKIN: This question comes from Myard Shields (PH), and I want to say in advance that I don’t — I’m not thrilled asking this question and you’ll see why. The question is, “The American public almost certainly benefits from Mr. Buffett’s increasing media exposure, but is it the best use of your time for Berkshire’s shareholders?”

WARREN BUFFETT: Probably not. (Laughter) I do a lot of things that aren’t the best use of my time for Berkshire shareholders. I play bridge on the internet 12 hours a week, you know. I’m not sitting there thinking improving my bridge skills is going to do wonders for Berkshire. (Laughs) No, I — I do — I have seen over the years that the development of broadcast television, as opposed to print, and I would say that if you want to have a record of exactly what you said as opposed to interpreted through not only reporters but editors who bounce back things and say, “Take six paragraphs down to four paragraphs, and why don’t you ask this question?” I would much rather have a record on Charlie Rose which is permanent. Where people can go back and look at exactly what I said, and my body language, and whether I was kidding. I’m sure Lloyd Blankfein would have preferred to have a television interview. He would like to take back that remark about, you know, doing God’s work, under any circumstances.

But I would bet that that was delivered as a throwaway line in terms of something that was said earlier. Clearly he did not mean that in a literal sense, but he’s gotten killed in the media because somebody elected to treat it halfway seriously, and then other people, to fit other stories, play it that way. I like the idea, whether it’s, you know, in terms of CNBC keeping a record of it or Charlie Rose keeping a record of it, of being judged by my own words rather than somebody writing a few paragraphs trying to summarize some views. And that requires being on television instead of having people, essentially, take a one-hour interview, often just shopping for a single quote that fits their storyline, and having that somehow become representative of what I think. So the clearer I can be about what I think, whether writing my own annual report or whether being in broadcast, the better I feel about the accuracy of the reporting. And I figured that out a few years ago. So that’s the direction I go now. And whether it’s the best use of the time, it works fine. I’ll tell you one story on that.

You even have to be a little careful about broadcast. After we made the Burlington deal, Charlie Rose, who may be here, did an interview with me and we taped it on a Friday morning. And we did the tape, and we had a good time doing it. And during the tape there was a little section on it showing great railroad scenes, and one had Cary Grant and Grace Kelly, and another one had Marilyn Monroe in “Some Like It Hot,” and then they showed a bunch of the kind of things we had about railroads in our movie this morning. And when we got all through that, he asked me some question. And just to give a flip answer, but it did tie in with what I’d just seen, I said, “Well, I would have paid more for the Burlington if they’d thrown in Grace Kelly and Marilyn Monroe.” (Laughter) Well, this taped interview ran an hour and six minutes, so when they ran the tape that night they had to take out six minutes and they took out these railroad scenes that showed Grace Kelly and Marilyn Monroe.

(Laughter) So to anybody that viewed this thing, it looked like I was spending my time there fantasizing about these — while Charlie was talking to me. (Laughter) So even television isn’t safe. (Laughter)

23. How Berkshire gets loyal shareholders

WARREN BUFFETT: Number 11.

AUDIENCE MEMBER: Hi, my name is Kip Johann-Berkel from Boston, Massachusetts. First, thank you both for your writings, annual shareholder meetings, and even the Charlie Rose interviews — (Buffett laughs) — as they have helped me grow both as an investor and as a person. Berkshire has, in my opinion, the best and most loyal shareholders of any publicly-traded company or mutual fund. How do you attract and retain a shareholder base, particularly when many of the same behavioral tendencies that produce mispriced securities also produce fleet-footed shareholders? Thank you.

WARREN BUFFETT: Yeah, the interesting thing about marketable securities is that, basically, anybody can buy them. You might elect to join somebody in buying a McDonald’s franchise or a farm, or apartment house, or something, but if you’re running a public company, you know, you can have anybody from, you know, Osama Bin Laden, you know, to the Pope as your shareholder. I mean, they elected — you don’t elect them, they elect you. Now, if you want a shareholder body that is going to be in sync with you, it’s important — in my view — it’s important that you let them know exactly what sort of institution you plan to run. And we’ve got the annual reports, we’ve got television interviews, we’ve got various ways of conveying to people what kind of a place Berkshire is. And to some, that says, “Come in,” and to others it says, “Stay out.” Phil Fisher wrote a great book on investing back in the very early 1960s and he described the situation this way.

He said, “Look it, you can have a restaurant and it can say ‘French food’ and if you have French food inside, you know, people are going — you’re going to get a satisfied and returning clientele. And you can have another one that says hamburgers. But what you can’t do is have hamburgers on the outside on the marquee and deliver French food inside.” And so many companies sort of try and promise everything to everybody. Their investor relations department tells them that any shareholder they can get interested, you know, they want. We want people who think the way we do. And we think, on balance, we won’t disappoint them too much. But if we get a bunch of people who think that the earnings next quarter are going to be up 10 percent for some reason, and that’s the reason they own the stock, we’re going to have a lot of disappointed people. And our goal in life is not to spend our time associating with people who are going to be disappointed with us. It’s our fault if we give out the wrong advertisement.

So we try to advertise what we are, and then we try to deliver on that. And I do think we have the best group of shareholders in the world, you know, among large publicly-traded companies. And I think it’s because we’ve got people that basically look into buying a business, becoming our partners over the years, and they know we’ll treat them like partners. And they, in turn, give us a lot of comfort in having a stable shareholder base and a good feeling about just running the whole place. Charlie?

CHARLIE MUNGER: Well, what happened here is, to some extent, an accident. Warren and I started out investing money for our families and friends, and the people who trusted us when we were young and unknown, of course, we developed a strong affection for. And we morphed into controlling public companies from that base, and so we tend to regard our shareholders, including the new ones, as family. And that’s not put on, that’s the way we regard you. Other people can’t do that because they morphed into their situation in a different way. And if you were a CEO and dealt with the average institutional investor, who is interested in having his portfolio management look good the next six months, you’d find it hard to love your shareholders. They’re sort of a hostile force that are putting unreasonable expectations on you. And so I don’t think Warren and I deserve such wonderful credit for the fact that we have better relations with our shareholders. We came up in a totally different way. Now, we did have enough sense, when we saw that it was such a good thing and so satisfying, that we stayed with it.

But weren’t we — we got into this by accident, didn’t we?

WARREN BUFFETT: Yeah, we got in by accident, and we also were blessed with the fact that we did not have an investor relations department that wanted us to go out and pump up.

CHARLIE MUNGER: But that was on purpose.

WARREN BUFFETT: Yeah, yeah. (Laughter) I have seen them in operation at dozens of companies, I’ve been involved in one way or another. And it is really ridiculous, the idea that you go out and try and cater to the expectations of people that are expecting you to do things you can’t do by operations, but maybe you can do by accounting for a short period of time. It leads to the worst behavior. And in the end, somebody’s going to own all your shares, you know. There’s no way that shares remain empty, you know, in the shareholder list. So why not get a bunch of people who are going to stick with you who are in sync? And the way they’re going to be in sync is if you told them rather accurately what you expect, how you expect to do it, and tell them when you make mistakes, all of that.

CHARLIE MUNGER: But we probably shouldn’t be as critical of people who came up a different way dealing with a different shareholder face. It’s not at all clear that we wouldn’t have ended up somewhat the same way if we’d had the same manner of rising.

WARREN BUFFETT: Sure. Yeah. So we’ll give up being critical for the next five or 10 minutes, and then we’ll go back. (Laughter)

24. Low interest rates are hurting people scared out of stocks

WARREN BUFFETT: Carol?

CAROL LOOMIS: Very short question. Please comment on the implications of our existing, and perhaps continuing, zero percent interest rate.

WARREN BUFFETT: Well, it’s very tough for anybody that’s got their investment in short-term money. You know, if you’re getting a tenth of a percent on some money market fund currently that if you’d started doing that when Columbus landed, and didn’t pay any taxes, you’d have almost doubled your money by now. (Laughter) It’s really — I mean, people talk about easy money policies, but it isn’t so easy on the people who’ve got the money. It won’t go on forever, but it may seem like forever to people that are on fixed income. I’m very sympathetic with them. Basically they got, many of them, became fearful when the world was looking like it was collapsing in late 2008. And the price they pay is really — I know some people like that that are — it’s terrible in terms of returns and their purchasing power will be eaten away. But this will end at some point. I don’t know how it will end, but I would not like to be chairman of the Fed or secretary of the treasury.

Nobody’s ever asked me, but maybe that’s why I say I wouldn’t want to do it. But the — we will — it won’t work forever to run huge budget deficits and try and have very easy monetary policy. And when — if we do run into trouble, the blame should not go to the Fed, the blame should go to Congress. (Applause)

CHARLIE MUNGER: In some sense, the reality of our situation is almost amusingly depressing. Stocks are up because the return from loaning your money out at interest in a safe way is so lousy, and of course, one answer is that can’t last. In which case, stocks won’t be as pronounced a value, relatively speaking. And of course, if it does last, as it has in Japan, we won’t like that either because it will mean we’re mired in some horrible stagnation. This is a very cheery message. (Laughter)

WARREN BUFFETT: The pressure that is exerted by extremely low interest rates — short-term rates — on the value of everything else, it’s hard to overestimate that. I mean, the reason people have their money out at one-tenth of 1 percent is that they’re afraid of everything else. But as they’re being afraid of everything else abates, as it has over the last couple years, the pressure to push stock prices up, push real estate prices back up, it’s enormous. And of course, that’s understood by people who have something to do with those matters. But I don’t think you should underestimate the degree to which the last year of stock prices has been a result of the agony that people are being put through that keep their money in short-term money instruments. Unless they’re terrified of the world, they get pushed into other investments, and I think we’ve seen a lot of that, and we’ll see what happens when money rates do go up, if they do.

25. Valuing businesses by asking questions

WARREN BUFFETT: Twelve.

AUDIENCE MEMBER: Hello, my name is Jeff Colvette (PH) and I’m from Olathe, Kansas. I got started in investing in 1999, right before the big tech bubble, and unfortunately I learned buy and hold and don’t fret about market price fluctuations before I learned the importance of valuing a business and applying a margin of safety. So, as Charlie said, I got my feet wet with huge failure right away. And —

CHARLIE MUNGER: Join the club. (Laughter)

AUDIENCE MEMBER: Thank you, I don’t feel so bad now. So that leads to my question. It seems like I’ve read all the Berkshire reports and all the reading I can do about you two, and I thank you for these wonderful meetings. But it seems like it boils down to some simple things, valuing a business and applying a margin of safety. So my question is, what do you recommend for an approach to getting better and better at valuing companies?

WARREN BUFFETT: That was a very, very good question. And in my own case, you know, I started out without knowing anything about valuing companies. And Ben Graham taught me a way to value a certain type of company that would prove successful, except the universe of those companies dried up. But nevertheless — it was almost a guarantee against failure, but it was not a guarantee that these things would continue to be available. Charlie taught me a lot about the value of a durable competitive advantage, and a really firstclass business. But over time, I’ve learned more about various types of businesses. But you’d be amazed how many businesses I don’t feel that I understand well. The biggest thing is not how big your circle of competence is, but knowing where the perimeter is. You don’t have to be an expert on 90 percent of the businesses, or 80 percent, or 70, or 50. But you do have to know something about the ones that you actually put your money into, and if that’s a very small part of the universe, that still is not a killer.

And I think if you think about what you would pay for a McDonald’s sandwich, you think you would pay for — you know, think about the businesses in your own hometown of Olathe. Which would you like to buy into? Which do you think you could understand their economics? Which do you think will be around 10 or 20 years from now? Which do you think it would be very tough to compete with? Just keep asking yourself questions about businesses. Talk with other people about them. You will extend your knowledge over time. And always remember that margin of safety. And I think you basically have the right attitude because you recognize your limitations, and that’s enormously important in this business. You will find things to do. Six or seven years ago — maybe not that long — six or seven years ago, when I was looking at Korean stocks, for example, I never had any idea that Korean stocks would be something that I would be buying. But I looked over there, and I could see that there were a number of businesses that met the margin of safety test.

And there I diversified, because I didn’t know that much about any specific one, but I knew that a package of 20 was going to work out very well, even if a crook might run one of them, and a couple might run into competition I didn’t anticipate, because they were so cheap. And that was sort of the old Graham approach. You will find opportunities from time to time, and the beauty of it is you don’t have to find very many of them. Charlie?

CHARLIE MUNGER: Well obviously, if you want to get good at something which is competitive, you have to think about it a lot, and learn a lot, and practice doing it a lot. And the way the world is constructed in this field, you have to keep learning, because the world keeps changing and your competitors keep learning. So you just have to get up each morning and try and go to bed that night a little wiser than you were when you got up. And if you keep doing that for a long time — and accumulate some experience, good and bad, as you try and master what you’re trying to do — people who do that almost never fail utterly. They may have a bad period when luck goes against them or something. But very few people have ever failed with that. If you have the right temperament, you may rise slowly but you’re sure to rise.

WARREN BUFFETT: Charlie, did you take any business courses in school?

CHARLIE MUNGER: None. I took accounting.

WARREN BUFFETT: And when did you start valuing businesses and how did you go about it?

CHARLIE MUNGER: When I was a little boy. (Laughter) I can remember, I would come down to the Omaha Club, and there was an old gentleman who hit the Omaha Club about 10:30 every morning. He obviously did almost no work, and yet was quite prosperous.

WARREN BUFFETT: He became your ideal. (Laughter)

CHARLIE MUNGER: Yeah. But he made me very curious as a little boy. I said to my father, “How in the hell does he do that?” And he said, “Charlie,” he said, “A business where he enjoys practically no competition. He gathers up and renders dead horses.” That was an example of avoiding competition by one stratagem. And you keep asking questions like that of reality, starting at a young age, you gradually learn. And weren’t you doing the same thing?

WARREN BUFFETT: Yeah, thankfully he went beyond his original insight there. (Laughs)

CHARLIE MUNGER: I noticed, it was rather interesting — you take the rulers of the businesses when I was a little boy, an awful lot of those businesses, in Omaha, a lot of those businesses went broke, a lot of them sold out at modest prices under distress. And some of the people who rose, like Kiewit, from small beginnings, nobody thought of as the great glories of that early time. And I think that’s kind of the way life is. It’s hard to get anywhere near the top, and it’s hard to hold any position once you’ve attained it. But I think you can predict that Kiewit was likely to win. They cared more about doing it right. They cared more about avoiding trouble. They put more discipline on themselves.

WARREN BUFFETT: Well, if you knew the individual well, you would have bet, right?

CHARLIE MUNGER: What?

WARREN BUFFETT: If you knew the individual.

CHARLIE MUNGER: I would not have bet on any of the people I knew who were already wealthy. But I would have bet on Pete Kiewit. His sister taught me math, and no, half-Dutch, half-German, you know, this is a tough culture. (Laughter)

WARREN BUFFETT: There’s your — you just heard it folks. Half-Dutch, half-German. (Laughter)

CHARLIE MUNGER: Well but —

WARREN BUFFETT: Go out looking for them. (Laughter)

CHARLIE MUNGER: Well, the man who’s recommending this is named Munger. (Laughter) Anyway, the — no — I don’t think it’s that — I was just automatically doing that. What was working, what was failing, why was it working, why was it failing? If you have that temperament, you are gradually going to learn. And if you don’t have that temperament, I can’t help you. (Laughter)

WARREN BUFFETT: If you’d followed Pete Kiewit around for 10 years, you never would have seen him do anything dumb, right?

CHARLIE MUNGER: Oh yeah. It’s so —

WARREN BUFFETT: It’s avoiding the dumb thing. You really don’t have to be brilliant, but, you know, you have to avoid just sort of what almost seem the obvious mistakes. But I would say that you’re on the right track back there, in terms of having the basic fundamentals, knowing your limitations, but still seeking to learn more about various kinds of businesses. Charlie, I think, when he practiced law, any client that came in Charlie was thinking about that business as if he owned the place. And he probably generally thought he knew more about the place than the guy that actually owned it, who was his client. (Laughs) But I remember talking to him, you know, 50 years ago, and he would start talking about Caterpillar dealerships in Bakersfield or something of the sort. He was incapable of looking at a business without thinking about the fundamental economics of it. How’d that guy do with the Caterpillar deal? (Laughs)

CHARLIE MUNGER: Well, he sold it for a perfectly ridiculous price to a dumb oil company. (Laughter) It wasn’t worth half what he got for it.

WARREN BUFFETT: But they had a concept and a strategy.

CHARLIE MUNGER: They had a concept and a strategy, and turned out they had consultants. (Laughter)

WARREN BUFFETT: Yeah. (Laughs)

26. Companies with the best return on capital

WARREN BUFFETT: Becky?

BECKY QUICK: This question comes from Carson Mitchell in Aberdeen, South Dakota, who asks both of you, “What business has had the best return on capital for Berkshire, and what business of any on earth has had the best return on capital?” And he adds, “PS, I would have come by rail but there are no seats in the grain rail cars.” (Laughter)

WARREN BUFFETT: There’s two ways of looking at it. If you talk about the capital necessary to run the business, as opposed to what we might have paid for the business — I mean, if we buy a wonderful business — you could run the Coca-Cola Company —assuming you had the bottling systems — you could run it with no capital. Now, if you buy it for $100 billion, you can look at that as your capital or you can look at the basic capital. When we look at what’s a good business, we’re defining it in terms of the capital actually needed in the business. Whether it’s a good investment for us depends on how much we pay for that in the end. There are a number of businesses that operate on negative capital. Carol’s with Fortune magazine. You know, any of the great magazines operate with negative capital. I mean, the subscribers pay in advance, there are no fixed assets to speak of, and the receivables are not that much, the inventory is nothing. So a magazine business — my guess is that People magazine operates, or Sports Illustrated operates, with negative capital, and particularly People makes a lot of money.

So there are certain businesses. Well, we had a company called Blue Chip Stamps where we got the float ahead of time, and operated with really substantial negative capital. But there are a lot of great businesses that need very, very little capital. Apple doesn’t need that much capital, you know. The best ones, of course, are the ones that can get very large while needing no capital. See’s is a wonderful business, needs very little capital, but we can’t get people eating ten pounds of boxed chocolates every day.

CHARLIE MUNGER: Except here.

WARREN BUFFETT: We want to. (Laughs) Generally, the great consumer businesses need relatively little capital. The businesses where people pay you in advance, you know, magazine subscriptions being a case, insurance being a case, you know, you’re using your customer’s capital. And we like those kind of businesses, but of course, so does the rest of the world, so they can become very competitive in buying them. We have a business, for example, that’s run wonderfully by Cathy Baron Tamraz, called Business Wire. Business Wire does not require a lot of capital. It has receivables and everything, but it is a service-type business and many of the service-type businesses and consumer-type businesses require little capital. And when they get to be successful, you know, they can really be something. Charlie?

CHARLIE MUNGER: I’ve got nothing to add, but at any rate, the formula never changes.

WARREN BUFFETT: If you could own one business in the world, what would it be, Charlie? (Laughter) I hope we already own them, myself.

CHARLIE MUNGER: You and I got in trouble by addressing such a subject many decades ago.

WARREN BUFFETT: That’s right. (Laughs)

CHARLIE MUNGER: And I don’t think I’ll come back to it.

WARREN BUFFETT: OK. (Laughter) Number 13 —

CHARLIE MUNGER: If you name some business that has incredible pricing power, you’re talking about a business that’s a monopoly or a near monopoly.

WARREN BUFFETT: Sure.

CHARLIE MUNGER: And I don’t think it’s very smart for us to sit up here naming our most admired business or something, that other people regard as a monopoly.

WARREN BUFFETT: OK. We’ll move right along. (Laughter)

27. Phone hasn’t been ringing, but we’re still ready to buy

WARREN BUFFETT: Let’s see, have we done number 13? No, I don’t think so, that’s in the other room again. Anybody there?

AUDIENCE MEMBER: Yes, Mr. Buffett, Mr. Munger, greetings from the breakout room. My name is Glenn Tongue from New York. I would like to thank you both for your exemplary stewardship through the economic crisis. We are all wealthier in several ways as a result of your efforts. I’d like to ask about Berkshire’s growth, specifically your acquisition outlook and appetite. Has the phone been ringing?

WARREN BUFFETT: The phone doesn’t ring very often at Berkshire, you know. That’s partly because — well, we set out our criteria in the annual report for what we’re looking for, and we’re not looking for larger and larger things. So when we start saying that we want to buy businesses that earn 75 or 100 million, at a minimum, before tax, that weeds out a lot of phone calls. And I would say that, you know, if we get a couple of — three or four serious phone calls a year that sort of meet our criteria that look like they might be a possibility, that’s a good year, I like that. I don’t think there’s been any major change in the frequency that something comes along that might interest us. The answer is, in terms of being interested, we’re as interested as ever. I mean, we wrote a big check and issued shares in connection with BNSF. But I would love it if Monday morning my phone rings with some big deal. We’ll figure out a way to do it. Charlie?

CHARLIE MUNGER: Yeah, it’s amazing to me that we have been as successful as we have been in buying desirable places. And it’s human revulsion that has helped us, because many of the people who sell to us are so smart that they’re revolted by almost everything else. They don’t want to sell into some fee-driven buying system that doesn’t care about their employees or their business. And they finally decide they want to join this one, they don’t want to join the alternatives. And of course, that’s marvelous for us. We’ve got a screening device out there that is protecting us, to some extent, from the wrong sort of people. And very few people have this particular — We get offered things by people who would not sell to anybody else. That is really peculiar. And it’s happened what, how many times?

WARREN BUFFETT: Well —

CHARLIE MUNGER: A lot.

WARREN BUFFETT: It’s happened, and on important ones. There’s one I’ve mentioned before, so I can mention the name. When I heard from ISCAR, and I’d never heard of ISCAR before, I’d never heard of Eitan Wertheimer, who wrote me, but he basically told me and made it quite specific, they either wanted to sell to Berkshire Hathaway or they didn’t want to sell it to anybody. And we met and we made a deal. And there was another person — I won’t even define exactly the time period — but he came in and he’d been thinking about it for about a year on this business, and he’d built it over many decades. And he said, “There were three possibilities. One was to sell it to a competitor.” And he said, “They would have ideas immediately about all the people they could take out of this place and move the headquarters,” and everything, and they would dismantle something that he’d spent 30 years or so building.

And he decided that he didn’t want to do that, even though it was probably worth more to a competitor, because that’s often the case, than to anybody else. And then he looked at selling to a leverage buyout firm — and now would call itself a private equity firm — and he decided he did not want his place being, basically, a piece of meat that would be resold in not that many years. He really wanted to find a permanent home. So he said, “When I come to you, I don’t come to you because you’re so damned attractive.” He said, “You’re the only guy left.” (Laughter) And we bought the business. So that happens from time to time, and it’s accidental. It’s when something happens in someone’s life that they decide they really want to assure a permanent home. It may be because the family isn’t getting along. It may be, you know, a half a dozen reasons. Maybe somebody wants to monetize it because they want to give away a lot of money.

But periodically that will come up, and we are a logical place to get the call, and we will get the calls. But there’s not much we can do to accelerate the process or do anything of the sort. We are ready to act when it happens. I mean, if I get a call, and it’s a $10 billion deal, on Monday, and I like it, I will say yes. (Laughs) And then I’ll figure out how we do it.

CHARLIE MUNGER: Yeah, I don’t think it’s over. It may be, in fact, it will be, slower than it was in the early days. But that’s not so bad, considering how much richer we all are than we were then.

28. Big question for Berkshire’s future

WARREN BUFFETT: Andrew?

ANDREW ROSS SORKIN: Since I imagine this may be one of the last questions, Peter Brotchie, a shareholder from Wenham, Massachusetts, writes to say, “Thank you, Warren and Charlie, for improving the Q&A session last year. “Along those lines, are there important questions that you were surprised that you don’t get asked about Berkshire’s financials or businesses? And if so, what is the question you would ask yourself if the roles were reversed?”

WARREN BUFFETT: Well Andrew, first of all, I will say we got a lot of compliments on changing the format. It worked, and that’s why we’re continuing it. So it’s worked very well. (Applause) And that applause is for you, not for me, and you deserve it. It really has improved the quality of questions, in terms of having it Berkshire-related and having a system of weeding them out without us being the ones that do the weeding out. Now, I’ve given Charlie time to think about what the answer to that question is going to be, so I’m going to turn it over to him. (Laughter)

CHARLIE MUNGER: Well, I don’t have a lot of comment about things that should be done differently at Berkshire. I think it is quite interesting that we got into BYD, because BYD is surfing along on the developing edge of new technology, and that has not — we have always bragged about avoiding that. Isn’t that a fair statement?

WARREN BUFFETT: That’s fair.

CHARLIE MUNGER: And yet here we are. I think it’s because we’ve shown some capability for learning. And I think the BYD investment is going to work out very well. And I think it’ll work out very well in a way that gives great pleasure to all of us shareholders, because I think they’re going to help solve some significant problems of the world. And, that place is — you know, I spoke with pride of Kiewit. They tried harder, they were more self-disciplined. That’s the way I feel about BYD. And it’s a pleasure to associate with such people, and in my life those are the people with whom I’ve achieved the most. So as far as I’m concerned, we found our own kind, except they’re better. And we may do more of that. And we wouldn’t have felt confident enough to go into venture capital, typically with just a bright young man with an idea, no matter how brilliant.

WARREN BUFFETT: Not me.

CHARLIE MUNGER: No, I wouldn’t either. But BYD had won its spurs in life by the time we found it. They had accomplished things that struck me as almost impossible to do, and yet they’d done them. And so I don’t think that’s the last unusual thing that Berkshire will do, and the last one that will work. And I think the Burlington Northern acquisition — when we did it, we knew it would be better for their shareholders than it was for ours, because, after all, they were getting into Berkshire. (Laughter) But we also thought it was good for our shareholders. And why should we care that it was better for theirs, if it was satisfactory for us? And I think that will happen again, too. That’s our kind of a culture. You know, Middle Western, and constantly improving the place. And with MidAmerican and Burlington, we’re getting a fair amount of engineering into Berkshire, which of course, I like. And so I hope you people are comfortable with the way things are going, because I think they’ll keep going in the same direction. (Applause)

WARREN BUFFETT: Yeah. (Applause) I think they will keep going in the same direction. But to answer your question on that, Andrew, I would probably ask the question, you know, “Can you keep using all of the capital you generate, effectively, for a very long time?” And the answer, I think, to that is that even — we will see more things and we will do some more of this. There comes a point where the numbers get big enough that it gets extraordinarily hard to do things that add value. I mean, if you just play out the numbers, you could see where in 10 or 15 years, not only the capital that’s already accumulated, but the generation of capital in everything, would make it very hard to do things that are, essentially, creating more than a dollar of value per dollar invested. A portion of the money may be able to be used that way, and likely would be used in the kind of businesses we’re in. There comes a point where the numbers get too big. And actually, our history is a curve that approaches that point all the time.

It’s turned out to be that now I think we can go a lot further than I would have thought 30 years ago. I mean, it’s just — it’s developed that way. And partly that’s because we see things that I never would have thought we would have seen 30 years ago. But there is a limit. And there will come a time when we cannot intelligent — in my view — there will come a time when we cannot intelligently use 100 percent of the capital that we develop internally. And then we’ll do something that’s — whatever is in the most interest — best interest — of the shareholders will be done at that point.

CHARLIE MUNGER: I think we will get into Berkshire, on the investment side — probably starting sooner than many of you expect — people who have some promise of being, well, if not as good as Warren, a decent approximation. And in some cases with abilities that Warren lacks. In other words, it won’t be all negative. (Laughter) And so I’m really quite optimistic. (Laughter) I can see — the reason I think we will succeed at that is because Warren never looks twice at anybody who isn’t a little eccentric, which, of course, is what you’re looking at when you look up here.

WARREN BUFFETT: Living proof, yeah. (Laughter)

29. “Find your passion, and then don’t let anything stop you”

WARREN BUFFETT: Well I think we’d better move on to section 1. (Laughs)

AUDIENCE MEMBER: Hello, my name is Joseph Mazzella from Jim Thorpe, PA. I wanted to first thank Mr. Munger and Mr. Buffett, as well as the board of directors for this meeting, as well as the whole shareholder weekend. I’ve had a great time so far.

WARREN BUFFETT: Terrific. (Applause)

CHARLIE MUNGER: Thank you.

AUDIENCE MEMBER: With that, I wanted to share. Aristotle, when asked how to define wealth, answered simply this, “It is he who spends less than he earns.” What advice could you give a young entrepreneur as myself on how to go about defining and both building wealth within their own business, as I hope to build a business that, one day, you’d be interested in acquiring.

WARREN BUFFETT: I predict you’re going to build one. You know, it may not quite get to the size that — and we’re a moving target as well — but if you start off with that principle you just enunciated, there are probably some other similar principles that you’ll have that we would also agree with. There’s nothing like following your passion. I mean, I love what I do, obviously, and I’ve loved it the whole time I’ve done it. Charlie is the same way. We have managers, you know, they come — some of them went to business school, some of them didn’t, you know. They’re all types. But the common factor in them — they’re successful — the common factor is they love what they do, you know. And you’ve got to find that in life. And some people are very lucky in finding it very early. It was dumb luck that my father happened to be in the securities business, so when I would go to his office there were a lot of books to read, and I got entranced with that.

But, you know, if he’d been in some other occupation — I think I would have read those books eventually, but it would have been a lot later. So if you find something that turns you on, my guess is you’re going to do very well in it. And the beauty of it is, in a sense, there’s not that much competition. There are not a lot of people out there that are going to be running faster than you in the race that you elect to get into. And if you haven’t found it yet — you may well have found it — but if you haven’t found it yet, you know, you’ve got to keep looking. And we’ve got 70-plus managers. You know, some of them didn’t — we had one guy that didn’t go to high school, even, didn’t he, Charlie? (Inaudible)

CHARLIE MUNGER: Oh yeah.

WARREN BUFFETT: He quit in fourth grade, I think. Well, Mrs. B never went to school a day in her life. And when you go out to the Furniture Mart — I hope you go out this evening, we expect to set a record today in sales (laughter) — what you are looking at on those 78 acres, you know, is the largest home furnishing store, about 400 million in sales. The largest store in the United States, and it comes from $500 of capital paid in by a woman that never went to a day of school in her life and couldn’t read or write. She loved what she was doing, and, you know, I tell the story, this is a true story. When she was well into her 90s, she invited me over to her house for dinner. That was very unusual. And a very nice house, six or seven blocks away from the store. And I went into the house, and the sofa, the chairs, the lamp, the dining room table, they all had little green price tags hanging down. (Laughter) It made her feel at home. (Laughter) And I said to her, “Mrs.

B, you are my kind of woman.” Forget Sophia Loren and all of that, this is my kind of woman. She loved it. And she loved it all her life, and just think of what that produced. I mean, it just — it’s incredible. I mean, you know, one time — my dad used to quote Emerson, that “the power that lies within you is new in nature.” And basically, the power that was within Mrs. B was new in nature. And over a lifetime it produced amazing things. So find your passion, and then don’t let anything stop you.

30. Munger’s fundamental algorithm of life

WARREN BUFFETT: OK, Carol? (Applause)

CAROL LOOMIS: This is a deeply philosophical question. “Many things that you” — the man did not want his name announced — “Many things that you and Charlie do and preach are opposite to those of what people practice and expect. “For example, you do not change the management of the acquired company, you applaud longstanding employees while others always look for fresh blood and try to fire people as they grow old. You probably do not encourage retirement, while many companies do. “You do not give large compensation to directors or compensate them using stock options. You do not seem to hire many MBAs. You don’t invest in high tech, but your company has grown very fast. “You do not provide earnings guidelines. You do not live near New York. You do not like sushi.” (Laughter)

WARREN BUFFETT: That’s the key. (Laughter)

CAROL LOOMIS: “I wonder, what is the fundamental reason for all of these things? In other words, there appears to be a central philosophy here that I am missing. “I can understand these as isolated principles, but where is the beef? Scientists and philosophers look for a unifying theory when possible. “What is yours? Is it Buddhism, or Paganism, or something else? Yes, I am looking for your fundamental or unified theory of management in life or fundamental guiding principles.”

WARREN BUFFETT: In ten words or less. (Laughter)

CHARLIE MUNGER: Let me try that one, Warren.

WARREN BUFFETT: Oh good. (Laughter)

CHARLIE MUNGER: It’s pragmatism. Partly, we do things in our different way because it suits us. And partly, we do it — it suits our temperaments and our natures — and partly, we do it because we’ve found through experience that it works better, at least with us sitting where we sit. It’s just that simple. And we’ve had enough good sense when something is working very well to keep doing it. So I’d say we’re demonstrating what might be called the fundamental algorithm of life. Repeat what works. Is that terse enough for you? (Laughter)

31. Private high-speed passenger trains aren’t economic

WARREN BUFFETT: We’ll go on to number 3, I like it. (Laughs) Or number 2, I’m sorry. Number 2.

AUDIENCE MEMBER: Good afternoon, I am Carolyn Boyle, from Barrington, Illinois. Thanks for the meeting and thanks everybody from behind the scenes who put this together. It’s quite well orchestrated. (Applause)

WARREN BUFFETT: If I may interrupt you for just one second, that’s very well deserved. And I would to point out that at Berkshire, everybody in our home office — we have 21 of us — they all participate in working at this meeting. I mean, our CFO works on it — you name anybody in the office — because they enjoy it. We don’t think we should have a department, you know, for this or that, or the other thing. And I think that’s probably fairly unusual with companies with market caps of close to $200 billion. (Laughs) But you’ve seen Marc Hamburg walking around here and doing things. It’s a group effort, and they have — I hope they have — fun doing it, because they sure don’t get a bonus for it. (Laughs) But I think it exemplifies the organization. Thank you, I’m sorry to interrupt you, go ahead.

AUDIENCE MEMBER: That’s OK. Let me share a bit. I had some trouble getting the annual statement information, so I finally got on the internet and sent in the postcard request a week ago Friday, yesterday, and I got my tickets before the meeting. So it was very well orchestrated.

WARREN BUFFETT: Thank you.

AUDIENCE MEMBER: Now that you own some rail business, I’d like to have your perspective on whether our country needs a high-speed passenger rail service. And if you think it does, should that be a private or a public endeavor?

WARREN BUFFETT: Yeah, I think by its nature, it would be non-economic when it competes with auto and competes with air. We don’t have the point-to-point density and demand that would produce a return on capital. That just — that is my guess. I made no big study of it. But all of the times I’ve seen projections of the economics of it, it just doesn’t work that well. So it will be — if it gets done — unless it’s heavily subsidized in some way, which means it’s public anyway — I don’t think it will happen under private — it won’t meet the test of private economics. Charlie, you know, they’ve got a big proposal in California on this. What do you know about the economics of that?

CHARLIE MUNGER: Well, I know very little, but I’m at least as dubious as you are. The cost of putting in a high-speed rail system in a place that’s already densely populated is awesomely large. And of course, you’re competing with a system that people prefer.

WARREN BUFFETT: They’re talking about in Omaha —

CHARLIE MUNGER: I’m very skeptical about sticking high-speed rails. I think it’s great in Japan and China.

WARREN BUFFETT: It’s working.

CHARLIE MUNGER: They have a different calculus.

WARREN BUFFETT: Yeah, in Japan, But it worked — yeah.

CHARLIE MUNGER: But putting high-speed rail into Los Angeles just looks to me like a bottomless pit of cost and trouble. And just think of how difficult that would be.

WARREN BUFFETT: If it’s going to be high-speed, it can’t stop very often, you know, by definition. And it can’t go off into spurs and all of these kind of things. So it really gets to point-to-point operation, and the cost gets staggering. There’s talk in Omaha about a trolley system, and I think — they’re talking about, you know, a couple hundred million dollars or something like that from the federal government. And the projections of actual revenue are, as I remember, are something like $400,000, and that’s before operating costs. So the math — you put $200 million into something to move people a few miles in Omaha, and most of the people are going to want to ride their cars. And to have it be efficient it has to be point-to-point, pretty much, for them. I mean, if you start living six blocks one way or eight blocks another way, you say, “Nuts, I’ll take the car.” The math really gets to be staggering on these things.

And now, you know, everybody figures if you can get the money from the federal government, you know, it doesn’t cost anybody anything. But it would be a lot of money. It’s been done in Buffalo, and people like it. But I’ve also — I’ve requested the figures on it, and it blows your mind, in terms — I mean, you could give everybody a cab ride or something and it’d be cheaper for society as a whole. So I have a feeling that it works marvelously, maybe, between Tokyo and Yokohama or something. And it really does. And it even works well enough so I think it justifies private investment. But it’s tough in a country of, you know, three million-plus square miles, and within the continental lower 48. It’s very tough to make the math work. Now, if people get — it becomes a huge project or something of the government so it isn’t anybody’s math, you know, maybe it’ll happen. I don’t think it’ll ever happen with money that wants a return.

32. We can handle claims from a major earthquake

WARREN BUFFETT: Becky?

BECKY QUICK: This is a question on the insurance portfolio from Jerry Haller (PH). What would be the impact on insurance companies, and the U.S. economy in general, if an earthquake of the same magnitude that struck Chile were to be focused on Los Angeles or San Francisco?

WARREN BUFFETT: Well, I don’t know the answer to that. The Richter Scale is not a perfect — it’s far from a perfect — index of the damage caused, even if you tell me where the epicenter will be. And then you get into the — you know, the big damage in the famous San Francisco quake was the fire following. They call that — when they distinguish between the — what coverages are involved — they call that the “shake and bake.” I mean, how much is shake and how much is bake afterwards? (Laughter) I think it gets hard to get up — I mean, in a really extreme quake — I think it gets hard to get up much more than 100 billion. You know, a very big quake — the frequency is way less — but if you get up in the Pacific Northwest, you know, there is a possibility of a very high Richter Scale quake there. And of course, the big ones that we know about — I mean, our history doesn’t go back that far — but New Madrid, Missouri, had three quakes in a relatively short period of time that were all well over eight.

And that will happen again someday, maybe 500 years, you know, maybe 1,000 years, and maybe tomorrow. That’s what the insurance business is all about. I tend to think — and when I think about quake exposure, sort of worst case in California — I think 100 billion is getting up there. Northridge caused far more damage than the one that was up near San Francisco a few years earlier. But we’ll have them. And Berkshire is totally prepared to handle anything that comes along, even if it’s considerably worse than what I’ve — The worst insured loss — I don’t know whether Katrina came in finally at 70 billion or something like that — I think in terms of a 250 billion sort of worst case. And my guess is if that came along, and we had a normal year and everything else, Berkshire would still have positive earnings of some substantial amount. So we are prepared. Charlie?

CHARLIE MUNGER: Yeah, and, you know, the big San Francisco quake of whatever it was, ’06, caused a terrible fire. But the recent California quakes, the big ones, have not caused much fire. And a lot of earthquake damage is totally uninsured. So you might have a hell of a lot of damage without massive — Warren would know more about that than I.

WARREN BUFFETT: So far in Chile —

CHARLIE MUNGER: The earthquake insurance is not universal like fire insurance.

WARREN BUFFETT: Oh no, no, not at all, not at all. And —

CHARLIE MUNGER: So it — an earthquake — a really terrible fire, or terrible wind conditions, it seems to me, catch people worse than the earthquakes.

WARREN BUFFETT: And so far in Chile, as I understand it — and I could be wrong on this and it may not be the way the final numbers come in — but as the numbers have been coming in, something like 40 percent of it has been the tsunami and 60 percent has been the quake, in terms of damage. But that may well not hold to be — in terms of final figures. There will be huge catastrophes from time to time. We’re in a different class, in terms of even being able to handle them. I mean, we’ve got so much earning power outside of the insurance business that if you take a $250 billion quake, or hurricane, or whatever, and we have, probably now, not much more than 3 percent of that — but call it 4 percent — that’d be $10 billion — and, you know, our pre-tax earnings, in any given year, I would expect would be substantially greater than that. So we would have other — we have net earnings in a year that every other insurance company, you know, would be gasping. So we’re in pretty good shape on that.

33. “Huge amounts of debt are not going to do us in”

WARREN BUFFETT: Area 3. This is probably the last question, and then we’ll go to the business meeting.

AUDIENCE MEMBER: My name’s Frank Teed and I’m from Arkadelphia, Arkansas. This is also an insurance-type question, but I did want to thank Mr. Buffett and Mr. Munger, the board, and in Arkansas we call them the associates — the managers — for your integrity in running Berkshire Hathaway and dealing fairly with the shareholders. So thank you very much.

WARREN BUFFETT: Thank you. (Applause)

AUDIENCE MEMBER: We saw in the credit crisis the gross overuse of credit, which led to the big financial meltdown with the government ultimately stepping in. Now we see a huge increase in debt in our cities, our states, our countries. For Berkshire Hathaway, what could be our exposure on a global financial meltdown? Could there be correlated risk that could get us in trouble? You’ve said we have 40 billion in municipal bond insurance. There’s 8 billion to the states, which I’m not sure exactly if that was a municipal bond. Could a large event cause a large number of losses that was coupled with a decrease in our investments to make an AIG-type situation? Thank you.

WARREN BUFFETT: Well, if you postulate something where there was a total meltdown, and we essentially made the bet in 2008 there would not be. It would be unnecessary, but we came close in 2008, and I decided that A) the government could solve the panic that existed, and finally that they would. There wasn’t any question in my mind they could. The question is, would they get so muddled up, would decision making get paralyzed, would rivalries break out, would, you know, Congress grandstand? All of those sort of things. And I thought there’d be some of that, but I thought in the end we would do the right thing, which was go all in, which we did. And that would happen again. So I — if you talk about some massive nuclear, chemical, or biological attack that really does in a very significant proportion of the population or something, you know, who knows what would happen. But I would say this, that I think Berkshire can withstand anything that any corporation can. And it won’t be our insurance business that causes a problem.

If something extraordinary happens — and I don’t anticipate that at all — but there could be a situation where the world becomes paralyzed. But I think that having gone through 2008, I think that our government probably better understands the necessity of taking massive action at a time like that. Doing whatever is necessary — when the guaranteed money market funds, when the guaranteed commercial paper — I mean, when there are things like that, you know, they were sort of unprecedented, and they did them very quickly. They’d do it again, in my view. There is no reason — the plants of the country don’t disappear, the land doesn’t become less fertile, you know, people don’t become less innovative — things will work unless somehow the gears get all entirely messed up. And I don’t see that happening. Berkshire, from any insurance catastrophe — and you’re right that things correlate on the downside — when things are bad in one area, they really do spread to another. But we were built, I think, to withstand anything that — other than a total sort of wipe out of the world. That isn’t going to happen. Charlie?

CHARLIE MUNGER: I’m not worried about it. (Laughter)

WARREN BUFFETT: Yeah. Huge amounts of debt are not going to do us in. That’s one thing I can guarantee you. I can’t tell you about comets hitting us or something of that sort, but I don’t care how silly governments get in terms of finance, or corporations get, or anything of that sort, that will not harm Berkshire. I want to thank you all for coming. Charlie and I really appreciate it. (Applause) And thank you.

CHARLIE MUNGER: Thank you. (Applause)

WARREN BUFFETT: Thank you. I appreciate it, we appreciate that, I’m sure the panel does. Now we’ll break for about five minutes. Some of you can go shop and some of you will want to stay around for the business meeting, and we’ll start the business meeting in five minutes and we’ll see how long it takes.

34. Berkshire business meeting begins

WARREN BUFFETT: OK. I’ve already introduced the Berkshire Hathaway directors. Also with us today are partners in the firm of Deloitte and Touche, our auditors. They are available to respond to appropriate questions you might have concerning their firm’s audit of the accounts of Berkshire. Mr. Forrest Krutter is secretary of Berkshire. He will make a written record of proceedings. Miss Becki Amick has been appointed inspector of elections at this meeting, and she will certify to the count of votes casts in the election of directors. The main proxy holders for this meeting are Walter Scott and Marc Hamburg. Does the secretary have a report of the number of Berkshire shares outstanding, entitled to vote, and represented at the meeting?

FORREST KRUTTER: Yes, I do. As indicated in the proxy statement that accompanied the notice of this meeting that was sent to all shareholders of record on March 3, 2010, being the record date for this meeting, there were 1,029,738 shares of Class A Berkshire Hathaway common stock outstanding, with each share entitled to one vote on motions considered at the meeting, and 926,013,086 of Class B Berkshire Hathaway common stock outstanding, with each share entitled to one ten-thousandth of one vote on motions considered at the meeting. Of that number, 705,611 Class A shares and 566,627,821 Class B shares are represented at this meeting by proxies returned through Thursday evening, April 29th.

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

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

WARREN BUFFETT: Do I hear a second?

VOICE: I second the motion.

WARREN BUFFETT: The motion has been moved and seconded. Are there any comments or questions? We will vote on this motion by voice vote. All of those in favor say aye.

VOICES: Aye.

WARREN BUFFETT: Opposed? The motion’s carried.

35. Election of Berkshire directors

WARREN BUFFETT: Second item of business is to elect directors. The shareholders present who wishes to withdraw a proxy previously sent in and vote in person on the election of directors, he or she may do so. Also, if any shareholder that is present has not turned in a proxy and desires a ballot in order to vote in person, you may do so. If you wish to do this, please identify yourself to meeting officials in the aisles who will furnish a ballot to you. Would those persons desiring ballots please identify themselves so that we may distribute them? I now recognize Mr. Walter Scott to place a motion before the meeting with respect to the election of directors.

WALTER SCOTT: I move that Warren Buffett, Charles Munger, Howard Buffett, Stephen Burke, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ron Olson, and Walter Scott be elected as directors.

WARREN BUFFETT: Is there a second?

VOICE: I second the motion.

WARREN BUFFETT: It’s been moved and seconded that Warren Buffett, Charles Munger, Howard Buffett, Stephen Burke, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott be elected as directors. Are there any other nominations? Is there any discussion? Nominations are ready to be voted upon. If there are any shareholders voting in person, they should now mark their ballots on the election of directors and allow the ballots to be delivered to the inspector of elections. Miss Amick, when you’re ready, you may give your report.

BETSY AMICK: My report is ready. The ballot of the proxy holders, in response to proxies that were received through last Thursday evening, cast not less than 756,041 votes for each nominee. That number far exceeds a majority of the number of the total votes related to all Class A and Class B shares outstanding. The certification required by Delaware law of the precise count of the votes, including the additional votes to be cast by the proxy holders in response to proxies delivered at this meeting, as well as any cast in person at this meeting, will be given to the secretary to be placed with the minutes of this meeting.

WARREN BUFFETT: Thank you, Miss Amick. Warren Buffett, Charles Munger, Howard Buffett, Stephen Burke, Susan Decker, William Gates, David Gottesman, Charlotte Guyman, Donald Keough, Thomas Murphy, Ronald Olson, and Walter Scott have been elected as directors.

36. Business meeting adjourns

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

WALTER SCOTT: I move this meeting be adjourned.

WARREN BUFFETT: Second?

VOICE: I second the motion.

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

VOICES: Aye.