Warren Buffett's Letters
To Berkshire Shareholders 1978



To the Shareholders of Berkshire Hathaway Inc.:


First, a few words about accounting. The merger with Diversified
Retailing Company, Inc. at yearend adds two new complications in the
presentation of our financial results. After the merger, our ownership of
Blue Chip Stamps increased to approximately 58% and, therefore, the
accounts of that company must be fully consolidated in the Balance Sheet
and Statement of Earnings presentation of Berkshire. In previous reports,
our share of the net earnings only of Blue Chip had been included as a single
item on Berkshire’s Statement of Earnings, and there had been a similar
one-line inclusion on our Balance Sheet of our share of their net assets.


This full consolidation of sales, expenses, receivables, inventories,
debt, etc. produces an aggregation of figures from many diverse businesses
- textiles, insurance, candy, newspapers, trading stamps - with dramatically
different economic characteristics. In some of these your ownership is 100%
but, in those businesses which are owned by Blue Chip but fully consolidated,
your ownership as a Berkshire shareholder is only 58%. (Ownership by others
of the balance of these businesses is accounted for by the large minority
interest item on the liability side of the Balance Sheet.) Such a grouping of
Balance Sheet and Earnings items - some wholly owned, some partly owned -
tends to obscure economic reality more than illuminate it. In fact, it
represents a form of presentation that we never prepare for internal use
during the year and which is of no value to us in any management activities.


For that reason, throughout the report we provide much separate
financial information and commentary on the various segments of the
business to help you evaluate Berkshire’s performance and prospects.
Much of this segmented information is mandated by SEC disclosure rules and
covered in “Management’s Discussion” on pages 29 to 34. And in this letter
we try to present to you a view of our various operating entities from the
same perspective that we view them managerially.


A second complication arising from the merger is that the 1977 figures
shown in this report are different from the 1977 figures shown in the report
we mailed to you last year. Accounting convention requires that when two
entities such as Diversified and Berkshire are merged, all financial data
subsequently must be presented as if the companies had been merged at the
time they were formed rather than just recently. So the enclosed financial
statements, in effect, pretend that in 1977 (and earlier years) the
Diversified-Berkshire merger already had taken place, even though the actual
merger date was December 30, 1978. This shifting base makes
comparative commentary confusing and, from time to time in our narrative
report, we will talk of figures and performance for Berkshire shareholders as
historically reported to you rather than as restated after the Diversified


With that preamble it can be stated that, with or without restated
figures, 1978 was a good year. Operating earnings, exclusive of capital
gains, at 19.4% of beginning shareholders’ investment were within a fraction
of our 1972 record. While we believe it is improper to include capital gains
or losses in evaluating the performance of a single year, they are an
important component of the longer term record. Because of such gains,
Berkshire’s long-term growth in equity per share has been greater than
would be indicated by compounding the returns from operating earnings
that we have reported annually.


For example, over the last three years - generally a bonanza period for
the insurance industry, our largest profit producer - Berkshire’s per share net
worth virtually has doubled, thereby compounding at about 25% annually
through a combination of good operating earnings and fairly substantial
capital gains. Neither this 25% equity gain from all sources nor the 19.4%
equity gain from operating earnings in 1978 is sustainable. The insurance
cycle has turned downward in 1979, and it is almost certain that operating
earnings measured by return on equity will fall this year. However,
operating earnings measured in dollars are likely to increase on the much
larger shareholders’ equity now employed in the business.


In contrast to this cautious view about near term return from
operations, we are optimistic about prospects for long term return from
major equity investments held by our insurance companies. We make no
attempt to predict how security markets will behave; successfully forecasting
short term stock price movements is something we think neither we nor
anyone else can do. In the longer run, however, we feel that many of our
major equity holdings are going to be worth considerably more money than
we paid, and that investment gains will add significantly to the operating
returns of the insurance group.


Sources of Earnings


To give you a better picture of just where Berkshire’s earnings are
produced, we show below a table which requires a little explanation.
Berkshire owns close to 58% of Blue Chip which, in addition to 100%
ownership of several businesses, owns 80% of Wesco Financial Corporation.
Thus, Berkshire’s equity in Wesco’s earnings is about 46%. In aggregate,
businesses that we control have about 7,000 full-time employees and
generate revenues of over $500 million.


The table shows the overall earnings of each major operating category
on a pre-tax basis (several of the businesses have low tax rates because of
significant amounts of tax-exempt interest and dividend income), as well as
the share of those earnings belonging to Berkshire both on a pre-tax and
after-tax basis. Significant capital gains or losses attributable to any of the
businesses are not shown in the operating earnings figure, but are
aggregated on the “Realized Securities Gain” line at the bottom of the table.
Because of various accounting and tax intricacies, the figures in the table
should not be treated as holy writ, but rather viewed as close approximations
of the 1977 and 1978 earnings contributions of our constituent businesses.


Net Earnings

Earnings Before Income Taxes After Tax

------------------------------------- ------------------

Total Berkshire Share Berkshire Share

------------------ ------------------ ------------------

(in thousands of dollars) 1978 1977 1978 1977 1978 1977

------- ------- ------- ------- ------- -------

Total - all entities ......... $66,180 $57,089 $54,350 $42,234 $39,242 $30,393

====== ======= ======= ====== ====== ======

Earnings from operations:

Insurance Group:

Underwriting ............ $ 3,001 $ 5,802 $ 3,000 $ 5,802 $ 1,560 $ 3,017

Net investment income 19,705 12,804 19,691 12,804 16,400 11,360

Berkshire-Waumbec textiles 2,916 (620) 2,916 (620) 1,342 (322)

Associated Retail

Stores, Inc. ............ 2,757 2,775 2,757 2,775 1,176 1,429

See’s Candies .............. 12,482 12,840 7,013 6,598 3,049 2,974

Buffalo Evening News ...... (2,913) 751 (1,637) 389 (738) 158

Blue Chip Stamps - Parent . 2,133 1,091 1,198 566 1,382 892

Illinois National Bank

and Trust Company ...... 4,822 3,800 4,710 3,706 4,262 3,288

Wesco Financial

Corporation - Parent .... 1,771 2,006 777 813 665 419

Mutual Savings and

Loan Association ........ 10,556 6,779 4,638 2,747 3,042 1,946

Interest on Debt ........... (5,566) (5,302) (4,546) (4,255) (2,349) (2,129)

Other ...................... 720 165 438 102 261 48

-------- -------- -------- -------- -------- --------

Total Earnings from

Operations ............ $52,384 $42,891 $40,955 $31,427 $30,052 $23,080

Realized Securities Gain ..... 13,796 14,198 13,395 10,807 9,190 7,313

-------- -------- -------- -------- -------- --------

Total Earnings ......... $66,180 $57,089 $54,350 $42,234 $39,242 $30,393

====== ====== ====== ====== ====== ====

Blue Chip and Wesco are public companies with reporting requirements
of their own. Later in this report we are reproducing the narrative reports of
the principal executives of both companies, describing their 1978
operations. Some of the figures they utilize will not match to the penny the
ones we use in this report, again because of accounting and tax complexities.
But their comments should be helpful to you in understanding the underlying
economic characteristics of these important partly-owned businesses. A
copy of the full annual report of either company will be mailed to any
shareholder of Berkshire upon request to Mr. Robert H. Bird for Blue Chips
Stamps, 5801 South Eastern Avenue, Los Angeles, California 90040, or to
Mrs. Bette Deckard for Wesco Financial Corporation, 315 East Colorado
Boulevard, Pasadena, California 91109.

東可向Mr. Robert(地址:加州洛杉磯5801 South Eastern Avenue)索取藍籌郵票的
年報或向Mrs. Bette(地址:加州Pasadena 315 East Colorado Boulevard)索取Wesco



Earnings of $1.3 million in 1978, while much improved from 1977, still
represent a low return on the $17 million of capital employed in this
business. Textile plant and equipment are on the books for a very small
fraction of what it would cost to replace such equipment today. And,
despite the age of the equipment, much of it is functionally similar to new
equipment being installed by the industry. But despite this “bargain cost” of
fixed assets, capital turnover is relatively low reflecting required high
investment levels in receivables and inventory compared to sales. Slow
capital turnover, coupled with low profit margins on sales, inevitably
produces inadequate returns on capital. Obvious approaches to improved
profit margins involve differentiation of product, lowered manufacturing
costs through more efficient equipment or better utilization of people,
redirection toward fabrics enjoying stronger market trends, etc. Our
management is diligent in pursuing such objectives. The problem, of
course, is that our competitors are just as diligently doing the same thing.


The textile industry illustrates in textbook style how producers of
relatively undifferentiated goods in capital intensive businesses must earn
inadequate returns except under conditions of tight supply or real shortage.
As long as excess productive capacity exists, prices tend to reflect direct
operating costs rather than capital employed. Such a supply-excess
condition appears likely to prevail most of the time in the textile industry,
and our expectations are for profits of relatively modest amounts in relation
to capital.


We hope we don’t get into too many more businesses with such tough
economic characteristics. But, as we have stated before: (1) our textile
businesses are very important employers in their communities, (2)
management has been straightforward in reporting on problems and
energetic in attacking them, (3) labor has been cooperative and
understanding in facing our common problems, and (4) the business should
average modest cash returns relative to investment. As long as these
conditions prevail - and we expect that they will - we intend to continue to
support our textile business despite more attractive alternative uses for


Insurance Underwriting


The number one contributor to Berkshire’s overall excellent results in
1978 was the segment of National Indemnity Company’s insurance operation
run by Phil Liesche. On about $90 million of earned premiums, an
underwriting profit of approximately $11 million was realized, a truly
extraordinary achievement even against the background of excellent
industry conditions. Under Phil’s leadership, with outstanding assistance by
Roland Miller in Underwriting and Bill Lyons in Claims, this segment of
National Indemnity (including National Fire and Marine Insurance Company,
which operates as a running mate) had one of its best years in a long history
of performances which, in aggregate, far outshine those of the industry.
Present successes reflect credit not only upon present managers, but equally
upon the business talents of Jack Ringwalt, founder of National Indemnity,
whose operating philosophy remains etched upon the company.

1978年Berkshire盈餘貢獻的第一功臣當屬由Phil Liesche所帶領的國家產險公
即便是產業情況不錯的環境下仍屬相當難得,在Phil的領導以及Roland Miller核保
部門與Bill Lyons理賠部門的襄助之下,國家產險(包含國家火海險公司)創下有史以
功勞,還要歸功於國家產險創辦人Jack Ringwalt的遠見,其經營哲學目前仍深深烙

Home and Automobile Insurance Company had its best year since John
Seward stepped in and straightened things out in 1975. Its results are
combined in this report with those of Phil Liesche’s operation under the
insurance category entitled “Specialized Auto and General Liability”.

去年是家庭汽車保險公司自1975年John Seward介入並改正公司營運以來表現最佳

Worker’s Compensation was a mixed bag in 1978. In its first year as a
subsidiary, Cypress Insurance Company, managed by Milt Thornton, turned
in outstanding results. The worker’s compensation line can cause large
underwriting losses when rapid inflation interacts with changing social
concepts, but Milt has a cautious and highly professional staff to cope with
these problems. His performance in 1978 has reinforced our very good
feelings about this purchase.

1978年勞工退休保險是一個混合體,在她被列為Milt Thornton管理的Cypress保
業的團隊小心處理這些問題, 1978年他的表現使我們對於買進這項業務開始有不錯

Frank DeNardo came with us in the spring of 1978 to straighten out
National Indemnity’s California Worker’s Compensation business which, up
to that point, had been a disaster. Frank has the experience and intellect
needed to correct the major problems of the Los Angeles office. Our volume
in this department now is running only about 25% of what it was eighteen
months ago, and early indications are that Frank is making good progress.

Frank DeNardo是在1978年春天加入我們改正國家產險在加州勞工退休保險業務

George Young’s reinsurance department continues to produce very
large sums for investment relative to premium volume, and thus gives us
reasonably satisfactory overall results. However, underwriting results still
are not what they should be and can be. It is very easy to fool yourself
regarding underwriting results in reinsurance (particularly in casualty lines
involving long delays in settlement), and we believe this situation prevails
with many of our competitors. Unfortunately, self-delusion in company
reserving almost always leads to inadequate industry rate levels. If major
factors in the market don’t know their true costs, the competitive “fall-out”
hits all - even those with adequate cost knowledge. George is quite willing
to reduce volume significantly, if needed, to achieve satisfactory
underwriting, and we have a great deal of confidence in the long term
soundness of this business under his direction.

George Young的再保險部門創造的保費收入持續挹注投資所需的大量資金,並繳出

The homestate operation was disappointing in 1978. Our
unsatisfactory underwriting, even though partially explained by an unusual
incidence of Midwestern storms, is particularly worrisome against the
backdrop of very favorable industry results in the conventional lines written
by our homestate group. We have confidence in John Ringwalt’s ability to
correct this situation. The bright spot in the group was the performance of
Kansas Fire and Casualty in its first full year of business. Under Floyd
Taylor, this subsidiary got off to a truly remarkable start. Of course, it takes
at least several years to evaluate underwriting results, but the early signs are
encouraging and Floyd’s operation achieved the best loss ratio among the
homestate companies in 1978.

Homestate 1978年的營運讓人感到相當失望,雖然核保績效差,部份的原因要歸咎
感到憂心,我們對於John Ringwalt導正這種情況的能力有信心,堪薩斯火險第一個
完整會計年度不錯的表現讓我們吃下一棵定心丸,在Floyd Taylor的領導下,這個分
的結果令人感到相當振奮,而Floyd 1978年的損失比率也是Homestate所有單位

Although some segments were disappointing, overall our insurance
operation had an excellent year. But of course we should expect a good year
when the industry is flying high, as in 1978. It is a virtual certainty that in
1979 the combined ratio (see definition on page 31) for the industry will
move up at least a few points, perhaps enough to throw the industry as a
whole into an underwriting loss position. For example, in the auto lines - by
far the most important area for the industry and for us - CPI figures indicate
rates overall were only 3% higher in January 1979 than a year ago. But the
items that make up loss costs - auto repair and medical care costs - were up
over 9%. How different than yearend 1976 when rates had advanced over
22% in the preceding twelve months, but costs were up 8%.


Margins will remain steady only if rates rise as fast as costs. This
assuredly will not be the case in 1979, and conditions probably will worsen in
1980. Our present thinking is that our underwriting performance relative to
the industry will improve somewhat in 1979, but every other insurance
management probably views its relative prospects with similar optimism -
someone is going to be disappointed. Even if we do improve relative to
others, we may well have a higher combined ratio and lower underwriting
profits in 1979 than we achieved last year.


We continue to look for ways to expand our insurance operation. But
your reaction to this intent should not be unrestrained joy. Some of our
expansion efforts - largely initiated by your Chairman have been lackluster,
others have been expensive failures. We entered the business in 1967
through purchase of the segment which Phil Liesche now manages, and it still
remains, by a large margin, the best portion of our insurance business. It is
not easy to buy a good insurance business, but our experience has been that
it is easier to buy one than create one. However, we will continue to try both
approaches, since the rewards for success in this field can be exceptional.

事後證明都是半調子,有的還付出昂貴的代價,事實上,經由買進Phil Liesche的業

Insurance Investments


We confess considerable optimism regarding our insurance equity
investments. Of course, our enthusiasm for stocks is not unconditional.
Under some circumstances, common stock investments by insurers make
very little sense.


We get excited enough to commit a big percentage of insurance
company net worth to equities only when we find (1) businesses we can
understand, (2) with favorable long-term prospects, (3) operated by honest
and competent people, and (4) priced very attractively. We usually can
identify a small number of potential investments meeting requirements (1),
(2) and (3), but (4) often prevents action. For example, in 1971 our total
common stock position at Berkshire’s insurance subsidiaries amounted to
only $10.7 million at cost, and $11.7 million at market. There were equities
of identifiably excellent companies available - but very few at interesting
prices. (An irresistible footnote: in 1971, pension fund managers invested a
record 122% of net funds available in equities - at full prices they couldn’t
buy enough of them. In 1974, after the bottom had fallen out, they
committed a then record low of 21% to stocks.)


The past few years have been a different story for us. At the end of
1975 our insurance subsidiaries held common equities with a market value
exactly equal to cost of $39.3 million. At the end of 1978 this position had
been increased to equities (including a convertible preferred) with a cost of
$129.1 million and a market value of $216.5 million. During the intervening
three years we also had realized pre-tax gains from common equities of
approximately $24.7 million. Therefore, our overall unrealized and realized
pre-tax gains in equities for the three year period came to approximately
$112 million. During this same interval the Dow-Jones Industrial Average
declined from 852 to 805. It was a marvelous period for the value-oriented
equity buyer.


We continue to find for our insurance portfolios small portions of really
outstanding businesses that are available, through the auction pricing
mechanism of security markets, at prices dramatically cheaper than the
valuations inferior businesses command on negotiated sales.


This program of acquisition of small fractions of businesses (common
stocks) at bargain prices, for which little enthusiasm exists, contrasts sharply
with general corporate acquisition activity, for which much enthusiasm
exists. It seems quite clear to us that either corporations are making very
significant mistakes in purchasing entire businesses at prices prevailing in
negotiated transactions and takeover bids, or that we eventually are going to
make considerable sums of money buying small portions of such businesses
at the greatly discounted valuations prevailing in the stock market. (A second
footnote: in 1978 pension managers, a group that logically should maintain
the longest of investment perspectives, put only 9% of net available funds
into equities - breaking the record low figure set in 1974 and tied in 1977.)


We are not concerned with whether the market quickly revalues upward
securities that we believe are selling at bargain prices. In fact, we prefer just
the opposite since, in most years, we expect to have funds available to be a
net buyer of securities. And consistent attractive purchasing is likely to
prove to be of more eventual benefit to us than any selling opportunities
provided by a short-term run up in stock prices to levels at which we are
unwilling to continue buying.


Our policy is to concentrate holdings. We try to avoid buying a little of
this or that when we are only lukewarm about the business or its price.
When we are convinced as to attractiveness, we believe in buying worthwhile


Equity holdings of our insurance companies with a market value of over $8
million on December 31, 1978 were as follows:


No. of

Shares Company Cost Market

---------- ------- -------- ----------

(000s omitted)

246,450 American Broadcasting Companies, Inc. ... $ 6,082 $ 8,626

1,294,308 Government Employees Insurance Company

Common Stock ......................... 4,116 9,060

1,986,953 Government Employees Insurance Company

Convertible Preferred ................ 19,417 28,314

592,650 Interpublic Group of Companies, Inc. .... 4,531 19,039

1,066,934 Kaiser Aluminum and Chemical Corporation 18,085 18,671

453,800 Knight-Ridder Newspapers, Inc. .......... 7,534 10,267

953,750 SAFECO Corporation ...................... 23,867 26,467

934,300 The Washington Post Company ............. 10,628 43,445

---------- ----------

Total ................................... $ 94,260 $163,889

All Other Holdings ...................... 39,506 57,040

---------- ----------

Total Equities .......................... $133,766 $220,929

======= =======

In some cases our indirect interest in earning power is becoming quite
substantial. For example, note our holdings of 953,750 shares of SAFECO
Corp. SAFECO probably is the best run large property and casualty insurance
company in the United States. Their underwriting abilities are simply
superb, their loss reserving is conservative, and their investment policies
make great sense.


SAFECO is a much better insurance operation than our own (although
we believe certain segments of ours are much better than average), is better
than one we could develop and, similarly, is far better than any in which we
might negotiate purchase of a controlling interest. Yet our purchase of
SAFECO was made at substantially under book value. We paid less than 100
cents on the dollar for the best company in the business, when far more than
100 cents on the dollar is being paid for mediocre companies in corporate
transactions. And there is no way to start a new operation - with necessarily
uncertain prospects - at less than 100 cents on the dollar.


Of course, with a minor interest we do not have the right to direct or
even influence management policies of SAFECO. But why should we wish to
do this? The record would indicate that they do a better job of managing
their operations than we could do ourselves. While there may be less
excitement and prestige in sitting back and letting others do the work, we
think that is all one loses by accepting a passive participation in excellent
management. Because, quite clearly, if one controlled a company run as
well as SAFECO, the proper policy also would be to sit back and let
management do its job.

為什麼要那樣做? 過去的記錄顯示他們營運管理的績效甚至比我們自己經營還要好,

Earnings attributable to the shares of SAFECO owned by Berkshire at
yearend amounted to $6.1 million during 1978, but only the dividends
received (about 18% of earnings) are reflected in our operating earnings. We
believe the balance, although not reportable, to be just as real in terms of
eventual benefit to us as the amount distributed. In fact, SAFECO’s retained
earnings (or those of other well-run companies if they have opportunities to
employ additional capital advantageously) may well eventually have a value
to shareholders greater than 100 cents on the dollar.


We are not at all unhappy when our wholly-owned businesses retain all
of their earnings if they can utilize internally those funds at attractive rates.
Why should we feel differently about retention of earnings by companies in
which we hold small equity interests, but where the record indicates even
better prospects for profitable employment of capital? (This proposition cuts
the other way, of course, in industries with low capital requirements, or if
management has a record of plowing capital into projects of low profitability;
then earnings should be paid out or used to repurchase shares - often by far
the most attractive option for capital utilization.)


The aggregate level of such retained earnings attributable to our equity
interests in fine companies is becoming quite substantial. It does not enter
into our reported operating earnings, but we feel it well may have equal
long-term significance to our shareholders. Our hope is that conditions
continue to prevail in securities markets which allow our insurance
companies to buy large amounts of underlying earning power for relatively
modest outlays. At some point market conditions undoubtedly will again
preclude such bargain buying but, in the meantime, we will try to make the
most of opportunities.




Under Gene Abegg and Pete Jeffrey, the Illinois National Bank and Trust
Company in Rockford continues to establish new records. Last year’s
earnings amounted to approximately 2.1% of average assets, about three
times the level averaged by major banks. In our opinion, this extraordinary
level of earnings is being achieved while maintaining significantly less asset
risk than prevails at most of the larger banks.

在Gene Abegg及Pete Jeffrey的領導下,位於Rockford地區的伊利諾國家銀行及

We purchased the Illinois National Bank in March 1969. It was a first-
class operation then, just as it had been ever since Gene Abegg opened the
doors in 1931. Since 1968, consumer time deposits have quadrupled, net
income has tripled and trust department income has more than doubled,
while costs have been closely controlled.

從1931年Gene Abegg創立時便一直維持到現在,自從1968年以來,銀行定期存

Our experience has been that the manager of an already high-cost
operation frequently is uncommonly resourceful in finding new ways to add
to overhead, while the manager of a tightly-run operation usually continues
to find additional methods to curtail costs, even when his costs are already
well below those of his competitors. No one has demonstrated this latter
ability better than Gene Abegg.

後者的成本早已遠低於前者,這點我們在Gene Abegg得到充分的驗證。

We are required to divest our bank by December 31, 1980. The most
likely approach is to spin it off to Berkshire shareholders some time in the
second half of 1980.




Upon merging with Diversified, we acquired 100% ownership of
Associated Retail Stores, Inc., a chain of about 75 popular priced women’s
apparel stores. Associated was launched in Chicago on March 7, 1931 with
one store, $3200, and two extraordinary partners, Ben Rosner and Leo
Simon. After Mr. Simon’s death, the business was offered to Diversified for
cash in 1967. Ben was to continue running the business - and run it, he has.

家女性流行服飾店的公司,聯合公司是在1931年在芝加哥由兩位創辦人Ben Rosner
及Leo Simon以3,200美元開立第一家店面,在Simon先生死後,由多元零售公司

Associated’s business has not grown, and it consistently has faced
adverse demographic and retailing trends. But Ben’s combination of
merchandising, real estate and cost-containment skills has produced an
outstanding record of profitability, with returns on capital necessarily
employed in the business often in the 20% after-tax area.


Ben is now 75 and, like Gene Abegg, 81, at Illinois National and Louie
Vincenti, 73, at Wesco, continues daily to bring an almost passionately
proprietary attitude to the business. This group of top managers must
appear to an outsider to be an overreaction on our part to an OEO bulletin on
age discrimination. While unorthodox, these relationships have been
exceptionally rewarding, both financially and personally. It is a real pleasure
to work with managers who enjoy coming to work each morning and, once
there, instinctively and unerringly think like owners. We are associated with
some of the very best.

Ben今年75歲,但與伊利諾國家銀行81歲的Gene Abegg以及Wesco 73歲的Louie

Warren E. Buffett, Chairman
March 26, 1979



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