1994 Berkshire Hathaway Annual Shareholders Meeting Q&A

Warren Buffett opens the 1994 annual meeting, noting record attendance of 600 more people than last year. He announces the need to find a larger venue for future meetings, joking about moving from the Joslin Museum to a vaudeville theater and potentially to the Charmand Coliseum. Directors are elected and key Berkshire managers are introduced to shareholders.

Discussion of derivatives as a potential major financial story of the 1990s. Buffett references Carol Loomis's Fortune article as the best piece written on derivatives. The conversation covers the risks and complexities of derivative instruments and their potential impact on the financial system.

Buffett explains their approach to valuing businesses based on intrinsic value rather than current cash flow. He discusses using at least a 10% discount rate in a world of 7% long-term bond rates, with adjustments based on certainty about the business. The more certain they feel about future cash flows, the closer to bond rates they're willing to play.

Buffett explains why Berkshire's insurance business possesses intrinsic value that exceeds book value by a large amount - larger than any other Berkshire business. He discusses the value of float and the importance of underwriting discipline in creating value rather than destroying it.

Buffett discusses how to evaluate management quality by reading annual reports and proxy statements. He emphasizes looking at how managers treat themselves versus shareholders, what they accomplish relative to industry conditions, and whether they focus on accounting versus economic reality. He mentions Bill Gates, Tom Murphy, and Don Keough as examples of outstanding managers.

Discussion of Ajit Jain's exceptional abilities and Berkshire's approach to retaining talented managers. Buffett explains that most Berkshire managers are financially independent, so they need to find work more fulfilling than playing golf. The key is treating them fairly and letting them operate autonomously.

Buffett discusses the Guinness investment, noting that while the price in pounds remains stable, they've experienced exchange losses as the pound fell from $1.80 to $1.46-47. He explains that Guinness's main business is Scotch whisky through distilling, not brewing. Scotch consumption trends are not strong, though some Far East markets show it as a prestige item.

When asked what would happen to Berkshire if something happened to Warren Buffett, he explains that Berkshire will do fine with its wonderful group of businesses. He notes that his two main roles are allocating capital and keeping managers interested, and succession plans are in place.

Buffett and Munger discuss how they recast accounting to understand economic reality rather than being preoccupied with reported accounting figures. They criticize managements that focus too much on accounting conventions rather than economic substance, noting this is surprisingly common but often a negative indicator.

When asked about Salomon's appeal given its 30-to-1 leverage and narrow margins, Buffett emphasizes the exceptional quality of management, particularly praising the executives who handled the difficult crisis period. He notes that Salomon wouldn't exist today without their leadership during extraordinary circumstances.

Buffett discusses Berkshire's super-catastrophe insurance business, explaining that while their exposure is limited to about $700 million, the insurance industry has vastly underestimated the potential of super catastrophes. He warns that a Type 5 hurricane hitting Long Island would leave major insurance companies in significant trouble.

When asked about best books read last year, Buffett recommends Janet Lowe's forthcoming Ben Graham biography (available September 1994) and Jeff Collins' book on the Clarence Darrow trial. He praises both authors and their work on important historical and investment figures.

Buffett explains they don't specifically target geographic diversification but look for good businesses wherever they are. He notes that 80% of Coca-Cola's earnings come from outside the US, and through their holdings, Berkshire might get $150 million in international earnings just from Coca-Cola alone. Gillette earns 70% of its money outside the US.

Discussion of why they provided an intrinsic value estimate for Wesco but not Berkshire. Wesco's value can be estimated within fairly close limits as the businesses don't have significant excess values over carrying values. Berkshire's insurance business and other assets have very significant excess values that different people might estimate at vastly different levels.

Buffett critiques the conventional academic view of risk measured by beta, explaining they define risk as the possibility of harm or injury. Risk is inextricably tied to time horizon - buying and selling a stock the same day is very risky, but holding Coca-Cola for 10-20 years at the right price has essentially no risk despite beta volatility.

Buffett explains they don't practice asset allocation or maintain target cash levels. If they have cash, it's because they haven't found anything intelligent to do with it. He admits having cash makes them "a little dumber than usual" and that the best purchases are made when you have to sell something to raise money, as it raises the bar on decisions.

Asked whether rational compensation from 1987-1992 would have made Salomon a decent business during its dismal period, Buffett explains that very big compensation numbers are the nature of Wall Street. The key is paying them only when getting very big results for owners, which the old system failed to do.

Discussion of Berkshire's strategy of writing put options on Coca-Cola stock as a way to generate income and potentially increase their position at attractive prices. They wrote puts on 5 million shares around $35 with $7.5 million in premiums. Buffett notes position limits and that they're unlikely to do much more of this.

Buffett closes the meeting by mentioning John Maynard Keynes' letters to co-trustees of life insurance societies and colleges that shareholders might find interesting. He thanks everyone for coming as he and Charlie need to attend their Berkshire directors meeting.