Warren Buffett's Letters
To Berkshire Shareholders 1985



To the Shareholders of Berkshire Hathaway Inc.:


You may remember the wildly upbeat message of last year’s report:
nothing much was in the works but our experience had been that
something big popped up occasionally. This carefully-crafted corporate
strategy paid off in 1985. Later sections of this report discuss (a) our
purchase of a major position in Capital Cities/ABC, (b) our acquisition of
Scott & Fetzer, (c) our entry into a large, extended term participation in the
insurance business of Fireman’s Fund, and (d) our sale of our stock in
General Foods.

(b們對Scott & Fetzer公司的購併(c)與消防人員保險基金的合作計畫(d)我們出脫通

Our gain in net worth during the year was $613.6 million, or 48.2%. It
is fitting that the visit of Halley’s Comet coincided with this percentage gain:
neither will be seen again in my lifetime. Our gain in per-share book value
over the last twenty-one years (that is, since present management took
over) has been from $19.46 to $1643.71, or 23.2% compounded annually,
another percentage that will not be repeated.


Two factors make anything approaching this rate of gain unachievable
in the future. One factor probably transitory - is a stock market that offers
very little opportunity compared to the markets that prevailed throughout
much of the 1964-1984 period. Today we cannot find
significantly-undervalued equities to purchase for our insurance company
portfolios. The current situation is 180 degrees removed from that
existing about a decade ago, when the only question was which bargain to


This change in the market also has negative implications for our
present portfolio. In our 1974 annual report I could say: “We consider
several of our major holdings to have great potential for significantly
increased values in future years.” I can’t say that now. It’s true that our
insurance companies currently hold major positions in companies with
exceptional underlying economics and outstanding managements, just as
they did in 1974. But current market prices generously appraise these
attributes, whereas they were ignored in 1974. Today’s valuations mean
that our insurance companies have no chance for future portfolio gains on
the scale of those achieved in the past.


The second negative factor, far more telling, is our size. Our equity
capital is more than twenty times what it was only ten years ago. And an
iron law of business is that growth eventually dampens exceptional
economics. just look at the records of high-return companies once they
have amassed even $1 billion of equity capital. None that I know of has
managed subsequently, over a ten-year period, to keep on earning 20% or
more on equity while reinvesting all or substantially all of its earnings.
Instead, to sustain their high returns, such companies have needed to shed
a lot of capital by way of either dividends or repurchases of stock. Their
shareholders would have been far better off if all earnings could have been
reinvested at the fat returns earned by these exceptional businesses. But
the companies simply couldn’t turn up enough high-return opportunities to
make that possible.


Their problem is our problem. Last year I told you that we needed
profits of $3.9 billion over the ten years then coming up to earn 15%
annually. The comparable figure for the ten years now ahead is $5.7
billion, a 48% increase that corresponds - as it must mathematically - to
the growth in our capital base during 1985. (Here’s a little perspective:
leaving aside oil companies, only about 15 U.S. businesses have managed
to earn over $5.7 billion during the past ten years.)


Charlie Munger, my partner in managing Berkshire, and I are
reasonably optimistic about Berkshire’s ability to earn returns superior to
those earned by corporate America generally, and you will benefit from the
company’s retention of all earnings as long as those returns are
forthcoming. We have several things going for us: (1) we don’t have to
worry about quarterly or annual figures but, instead, can focus on whatever
actions will maximize long-term value; (2) we can expand the business into
any areas that make sense - our scope is not circumscribed by history,
structure, or concept; and (3) we love our work. All of these help. Even so,
we will also need a full measure of good fortune to average our hoped-for
15% - far more good fortune than was required for our past 23.2%.


We need to mention one further item in the investment equation that
could affect recent purchasers of our stock. Historically, Berkshire shares
have sold modestly below intrinsic business value. With the price there,
purchasers could be certain (as long as they did not experience a widening
of this discount) that their personal investment experience would at least
equal the financial experience of the business. But recently the discount
has disappeared, and occasionally a modest premium has prevailed.


The elimination of the discount means that Berkshire’s market value
increased even faster than business value (which, itself, grew at a pleasing
pace). That was good news for any owner holding while that move took
place, but it is bad news for the new or prospective owner. If the financial
experience of new owners of Berkshire is merely to match the future
financial experience of the company, any premium of market value over
intrinsic business value that they pay must be maintained.


Management cannot determine market prices, although it can, by its
disclosures and policies, encourage rational behavior by market participants.
My own preference, as perhaps you’d guess, is for a market price that
consistently approximates business value. Given that relationship, all
owners prosper precisely as the business prospers during their period of
ownership. Wild swings in market prices far above and below business
value do not change the final gains for owners in aggregate; in the end,
investor gains must equal business gains. But long periods of substantial
undervaluation and/or overvaluation will cause the gains of the business to
be inequitably distributed among various owners, with the investment
result of any given owner largely depending upon how lucky, shrewd, or
foolish he happens to be.


Over the long term there has been a more consistent relationship
between Berkshire’s market value and business value than has existed for
any other publicly-traded equity with which I am familiar. This is a tribute
to you. Because you have been rational, interested, and
investment-oriented, the market price for Berkshire stock has almost
always been sensible. This unusual result has been achieved by a
shareholder group with unusual demographics: virtually all of our
shareholders are individuals, not institutions. No other public company
our size can claim the same.


You might think that institutions, with their large staffs of highly-paid
and experienced investment professionals, would be a force for stability
and reason in financial markets. They are not: stocks heavily owned and
constantly monitored by institutions have often been among the most
inappropriately valued.


Ben Graham told a story 40 years ago that illustrates why investment
professionals behave as they do: An oil prospector, moving to his heavenly
reward, was met by St. Peter with bad news. “You’re qualified for
residence”, said St. Peter, “but, as you can see, the compound reserved for
oil men is packed. There’s no way to squeeze you in.” After thinking a
moment, the prospector asked if he might say just four words to the
present occupants. That seemed harmless to St. Peter, so the prospector
cupped his hands and yelled, “Oil discovered in hell.” Immediately the gate
to the compound opened and all of the oil men marched out to head for the
nether regions. Impressed, St. Peter invited the prospector to move in and
make himself comfortable. The prospector paused. “No,” he said, “I think
I’ll go along with the rest of the boys. There might be some truth to that
rumor after all.”

頓了一下後,說到:「不! 我還是跟他們一起去比較妥當,傳言有可能是真的。」

Sources of Reported Earnings


The table on the next page shows the major sources of Berkshire’s
reported earnings. These numbers, along with far more detailed
sub-segment numbers, are the ones that Charlie and I focus upon. We do
not find consolidated figures an aid in either managing or evaluating
Berkshire and, in fact, never prepare them for internal use.


Segment information is equally essential for investors wanting to know
what is going on in a multi-line business. Corporate managers always
have insisted upon such information before making acquisition decisions
but, until a few years ago, seldom made it available to investors faced with
acquisition and disposition decisions of their own. Instead, when owners
wishing to understand the economic realities of their business asked for
data, managers usually gave them a
y answer. Ultimately the SEC ordered disclosure of segment data and
management began supplying real answers. The change in their behavior
recalls an insight of Al Capone: “You can get much further with a kind word
and a gun than you can with a kind word alone.”


In the table, amortization of Goodwill is not charged against the specific
businesses but, for reasons outlined in the Appendix to my letter in the
1983 annual report, is aggregated as a separate item. (A compendium of
the 1977-1984 letters is available upon request.) In the Business Segment
Data and Management’s Discussion sections on pages 39-41 and 49-55,
much additional information regarding our businesses is provided,
including Goodwill and Goodwill Amortization figures for each of the
segments. I urge you to read those sections as well as Charlie Munger’s
letter to Wesco shareholders, which starts on page 56.


(000s omitted)


Berkshire's Share

of Net Earnings

(after taxes and

Pre-Tax Earnings minority interests)

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

1985 1984 1985 1984

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

Operating Earnings:

Insurance Group:

Underwriting ................ $(44,230) $(48,060) $(23,569) $(25,955)

Net Investment Income ....... 95,217 68,903 79,716 62,059

Associated Retail Stores ...... 270 (1,072) 134 (579)

Blue Chip Stamps .............. 5,763 (1,843) 2,813 (899)

Buffalo News .................. 29,921 27,328 14,580 13,317

Mutual Savings and Loan ....... 2,622 1,456 4,016 3,151

Nebraska Furniture Mart ....... 12,686 14,511 5,181 5,917

Precision Steel ............... 3,896 4,092 1,477 1,696

See’s Candies ................. 28,989 26,644 14,558 13,380

Textiles ...................... (2,395) 418 (1,324) 226

Wesco Financial ............... 9,500 9,777 4,191 4,828

Amortization of Goodwill ...... (1,475) (1,434) (1,475) (1,434)

Interest on Debt .............. (14,415) (14,734) (7,288) (7,452)


Contributions .............. (4,006) (3,179) (2,164) (1,716)

Other ......................... 3,106 4,932 2,102 3,475

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

Operating Earnings .............. 125,449 87,739 92,948 70,014

Special General Foods Distribution 4,127 8,111 3,779 7,294

Special Washington Post

Distribution ................. 14,877 --- 13,851 ---

Sales of Securities ............. 468,903 104,699 325,237 71,587

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

Total Earnings - all entities ... $613,356 $200,549 $435,815 $148,895

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

Our 1985 results include unusually large earnings from the sale of
securities. This fact, in itself, does not mean that we had a particularly
good year (though, of course, we did). Security profits in a given year bear
similarities to a college graduation ceremony in which the knowledge
gained over four years is recognized on a day when nothing further is
learned. We may hold a stock for a decade or more, and during that period
it may grow quite consistently in both business and market value. In the
year in which we finally sell it there may be no increase in value, or there
may even be a decrease. But all growth in value since purchase will be
reflected in the accounting earnings of the year of sale. (If the stock owned
is in our insurance subsidiaries, however, any gain or loss in market value
will be reflected in net worth annually.) Thus, reported capital gains or
losses in any given year are meaningless as a measure of how well we have
done in the current year.

的變動將會按期反應在帳面之上) ,總而言之,帳列出售損益是沒有什麼意義的,它

A large portion of the realized gain in 1985 ($338 million pre-tax out
of a total of $488 million) came about through the sale of our General
Foods shares. We held most of these shares since 1980, when we had
purchased them at a price far below what we felt was their per/share
business value. Year by year, the managerial efforts of Jim Ferguson and
Phil Smith substantially increased General Foods’ business value and, last
fall, Philip Morris made an offer for the company that reflected the increase.
We thus benefited from four factors: a bargain purchase price, a business
with fine underlying economics, an able management concentrating on the
interests of shareholders, and a buyer willing to pay full business value.
While that last factor is the only one that produces reported earnings, we
consider identification of the first three to be the key to building value for
Berkshire shareholders. In selecting common stocks, we devote our
attention to attractive purchases, not to the possibility of attractive sales.

提升該公司的價值,一直到去年秋天,Philip Morris對該公司提出購併的要求,使其

We have again reported substantial income from special distributions,
this year from Washington Post and General Foods. (The General Foods
transactions obviously took place well before the Philip Morris offer.)
Distributions of this kind occur when we sell a portion of our shares in a
company back to it simultaneously with its purchase of shares from other
shareholders. The number of shares we sell is contractually set so as to
leave our percentage ownership in the company precisely the same after the
sale as before. Such a transaction is quite properly regarded by the IRS as
substantially equivalent to a dividend since we, as a shareholder, receive
cash while maintaining an unchanged ownership interest. This tax
treatment benefits us because corporate taxpayers, unlike individual
taxpayers, incur much lower taxes on dividend income than on income
from long-term capital gains. (This difference will be widened further if the
House-passed tax bill becomes law: under its provisions, capital gains
realized by corporations will be taxed at the same rate as ordinary income.)
However, accounting rules are unclear as to proper treatment for
shareholder reporting. To conform with last year’s treatment, we have
shown these transactions as capital gains.

用的這筆交易是發生在Philip Morris提出併購要求之前) ,這種特別股利的發生係由
維持不變。這對我們來說較為有利,因為美國稅法規定法人納稅義務人(不像個人) ,
同) ,然而會計原則對於這類交易在財務報表上應如何處理卻無統一看法,為與去年

Though we have not sought out such transactions, we have agreed to
them on several occasions when managements initiated the idea. In each
case we have felt that non-selling shareholders (all of whom had an
opportunity to sell at the same price we received) benefited because the
companies made their repurchases at prices below intrinsic business value.
The tax advantages we receive and our wish to cooperate with
managements that are increasing values for all shareholders have
sometimes led us to sell - but only to the extent that our proportional
share of the business was undiminished.


At this point we usually turn to a discussion of some of our major
business units. Before doing so, however, we should first look at a failure
at one of our smaller businesses. Our Vice Chairman, Charlie Munger, has
always emphasized the study of mistakes rather than successes, both in
business and other aspects of life. He does so in the spirit of the man who
said: “All I want to know is where I’m going to die so I’ll never go there.”
You’ll immediately see why we make a good team: Charlie likes to study
errors and I have generated ample material for him, particularly in our
textile and insurance businesses.

屬事業的一項失敗,我們的副主席Charlie Munger,總是強調研究事業與人生各方

Shutdown of Textile Business


In July we decided to close our textile operation, and by yearend this
unpleasant job was largely completed. The history of this business is


When Buffett Partnership, Ltd., an investment partnership of which I
was general partner, bought control of Berkshire Hathaway 21 years ago, it
had an accounting net worth of $22 million, all devoted to the textile
business. The company’s intrinsic business value, however, was
considerably less because the textile assets were unable to earn returns
commensurate with their accounting value. Indeed, during the previous
nine years (the period in which Berkshire and Hathaway operated as a
merged company) aggregate sales of $530 million had produced an
aggregate loss of $10 million. Profits had been reported from time to time
but the net effect was always one step forward, two steps back.


At the time we made our purchase, southern textile plants - largely
non-union - were believed to have an important competitive advantage.
Most northern textile operations had closed and many people thought we
would liquidate our business as well.


We felt, however, that the business would be run much better by a
long-time employee whom. we immediately selected to be president, Ken
Chace. In this respect we were 100% correct: Ken and his recent successor,
Garry Morrison, have been excellent managers, every bit the equal of
managers at our more profitable businesses.

選中Ken Chase接手,有關這點我們倒是作對了,Ken跟後來接替他的Garry作得

In early 1967 cash generated by the textile operation was used to fund
our entry into insurance via the purchase of National Indemnity Company.
Some of the money came from earnings and some from reduced investment
in textile inventories, receivables, and fixed assets. This pullback proved
wise: although much improved by Ken’s management, the textile business
never became a good earner, not even in cyclical upturns.


Further diversification for Berkshire followed, and gradually the textile
operation’s depressing effect on our overall return diminished as the
business became a progressively smaller portion of the corporation. We
remained in the business for reasons that I stated in the 1978 annual report
(and summarized at other times also): “(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.” I further said, “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 capital.”


It turned out that I was very wrong about (4). Though 1979 was
moderately profitable, the business thereafter consumed major amounts of
cash. By mid-1985 it became clear, even to me, that this condition was
almost sure to continue. Could we have found a buyer who would continue
operations, I would have certainly preferred to sell the business rather than
liquidate it, even if that meant somewhat lower proceeds for us. But the
economics that were finally obvious to me were also obvious to others, and
interest was nil.


I won’t close down businesses of sub-normal profitability merely to
add a fraction of a point to our corporate rate of return. However, I also
feel it inappropriate for even an exceptionally profitable company to fund
an operation once it appears to have unending losses in prospect. Adam
Smith would disagree with my first proposition, and Karl Marx would
disagree with my second; the middle ground is the only position that leaves
me comfortable.


I should reemphasize that Ken and Garry have been resourceful,
energetic and imaginative in attempting to make our textile operation a
success. Trying to achieve sustainable profitability, they reworked product
lines, machinery configurations and distribution arrangements. We also
made a major acquisition, Waumbec Mills, with the expectation of
important synergy (a term widely used in business to explain an acquisition
that otherwise makes no sense). But in the end nothing worked and I
should be faulted for not quitting sooner. A recent Business Week article
stated that 250 textile mills have closed since 1980. Their owners were
not privy to any information that was unknown to me; they simply
processed it more objectively. I ignored Comte’s advice - “the intellect
should be the servant of the heart, but not its slave” - and believed what I
preferred to believe.

企業合併廣泛應用的名詞,用來解釋一些想不出有其他任何意義的購併案) ,但結果

The domestic textile industry operates in a commodity business,
competing in a world market in which substantial excess capacity exists.
Much of the trouble we experienced was attributable, both directly and
indirectly, to competition from foreign countries whose workers are paid a
small fraction of the U.S. minimum wage. But that in no way means that
our labor force deserves any blame for our closing. In fact, in comparison
with employees of American industry generally, our workers were poorly
paid, as has been the case throughout the textile business. In contract
negotiations, union leaders and members were sensitive to our
disadvantageous cost position and did not push for unrealistic wage
increases or unproductive work practices. To the contrary, they tried just
as hard as we did to keep us competitive. Even during our liquidation
period they performed superbly. (Ironically, we would have been better off
financially if our union had behaved unreasonably some years ago; we then
would have recognized the impossible future that we faced, promptly
closed down, and avoided significant future losses.)


Over the years, we had the option of making large capital expenditures
in the textile operation that would have allowed us to somewhat reduce
variable costs. Each proposal to do so looked like an immediate winner.
Measured by standard return-on-investment tests, in fact, these proposals
usually promised greater economic benefits than would have resulted from
comparable expenditures in our highly-profitable candy and newspaper


But the promised benefits from these textile investments were illusory.
Many of our competitors, both domestic and foreign, were stepping up to
the same kind of expenditures and, once enough companies did so, their
reduced costs became the baseline for reduced prices industrywide.
Viewed individually, each company’s capital investment decision appeared
cost-effective and rational; viewed collectively, the decisions neutralized
each other and were irrational (just as happens when each person watching
a parade decides he can see a little better if he stands on tiptoes). After
each round of investment, all the players had more money in the game and
returns remained anemic.


Thus, we faced a miserable choice: huge capital investment would
have helped to keep our textile business alive, but would have left us with
terrible returns on ever-growing amounts of capital. After the investment,
moreover, the foreign competition would still have retained a major,
continuing advantage in labor costs. A refusal to invest, however, would
make us increasingly non-competitive, even measured against domestic
textile manufacturers. I always thought myself in the position described by
Woody Allen in one of his movies: “More than any other time in history,
mankind faces a crossroads. One path leads to despair and utter
hopelessness, the other to total extinction. Let us pray we have the
wisdom to choose correctly.”


For an understanding of how the to-invest-or-not-to-invest dilemma
plays out in a commodity business, it is instructive to look at Burlington
Industries, by far the largest U.S. textile company both 21 years ago and
now. In 1964 Burlington had sales of $1.2 billion against our $50 million.
It had strengths in both distribution and production that we could never
hope to match and also, of course, had an earnings record far superior to
ours. Its stock sold at 60 at the end of 1964; ours was 13.

當時它的股價為60塊(Berkshire則約13塊) 。

Burlington made a decision to stick to the textile business, and in
1985 had sales of about $2.8 billion. During the 1964-85 period, the
company made capital expenditures of about $3 billion, far more than any
other U.S. textile company and more than $200-per-share on that $60
stock. A very large part of the expenditures, I am sure, was devoted to
cost improvement and expansion. Given Burlington’s basic commitment to
stay in textiles, I would also surmise that the company’s capital decisions
were quite rational.


Nevertheless, Burlington has lost sales volume in real dollars and has
far lower returns on sales and equity now than 20 years ago. Split 2-for-1
in 1965, the stock now sells at 34 -- on an adjusted basis, just a little over
its $60 price in 1964. Meanwhile, the CPI has more than tripled.
Therefore, each share commands about one-third the purchasing power it
did at the end of 1964. Regular dividends have been paid but they, too,
have shrunk significantly in purchasing power.


This devastating outcome for the shareholders indicates what can
happen when much brain power and energy are applied to a faulty premise.
The situation is suggestive of Samuel Johnson’s horse: “A horse that can
count to ten is a remarkable horse - not a remarkable mathematician.”
Likewise, a textile company that allocates capital brilliantly within its
industry is a remarkable textile company - but not a remarkable business.


My conclusion from my own experiences and from much observation
of other businesses is that a good managerial record (measured by
economic returns) is far more a function of what business boat you get into
than it is of how effectively you row (though intelligence and effort help
considerably, of course, in any business, good or bad). Some years ago I
wrote: “When a management with a reputation for brilliance tackles a
business with a reputation for poor fundamental economics, it is the
reputation of the business that remains intact.” Nothing has since changed
my point of view on that matter. Should you find yourself in a
chronically-leaking boat, energy devoted to changing vessels is likely to be
more productive than energy devoted to patching leaks.

才能同樣重要) ,幾年前我曾說當一個以管理著名的專家遇到一家不具前景的公司

* * *

There is an investment postscript in our textile saga. Some investors
weight book value heavily in their stock-buying decisions (as I, in my early
years, did myself). And some economists and academicians believe
replacement values are of considerable importance in calculating an
appropriate price level for the stock market as a whole. Those of both
persuasions would have received an education at the auction we held in
early 1986 to dispose of our textile machinery.

有關我們在紡織業投資的”輝煌歷史” 還有一段後話,有些投資人在買賣股票時把帳面

The equipment sold (including some disposed of in the few months
prior to the auction) took up about 750,000 square feet of factory space in
New Bedford and was eminently usable. It originally cost us about $13
million, including $2 million spent in 1980-84, and had a current book
value of $866,000 (after accelerated depreciation). Though no sane
management would have made the investment, the equipment could have
been replaced new for perhaps $30-$50 million.

金(包括近幾年投入的二百萬) ,經過加速攤提折舊後,帳面價值86萬,雖然沒有人

Gross proceeds from our sale of this equipment came to $163,122.
Allowing for necessary pre- and post-sale costs, our net was less than zero.
Relatively modern looms that we bought for $5,000 apiece in 1981 found
no takers at $50. We finally sold them for scrap at $26 each, a sum less
than removal costs.


Ponder this: the economic goodwill attributable to two paper routes
in Buffalo - or a single See’s candy store - considerably exceeds the
proceeds we received from this massive collection of tangible assets that
not too many years ago, under different competitive conditions, was able to
employ over 1,000 people.


Three Very Good Businesses (and a Few Thoughts About Incentive


When I was 12, I lived with my grandfather for about four months. A
grocer by trade, he was also working on a book and each night he dictated
a few pages to me. The title - brace yourself - was “How to Run a Grocery
Store and a Few Things I Have Learned About Fishing”. My grandfather was
sure that interest in these two subjects was universal and that the world
awaited his views. You may conclude from this section’s title and contents
that I was overexposed to Grandpa’s literary style (and personality).


I am merging the discussion of Nebraska Furniture Mart, See’s Candy
Shops, and Buffalo Evening News here because the economic strengths,
weaknesses, and prospects of these businesses have changed little since I
reported to you a year ago. The shortness of this discussion, however, is
in no way meant to minimize the importance of these businesses to us: in
1985 they earned an aggregate of $72 million pre-tax. Fifteen years ago,
before we had acquired any of them, their aggregate earnings were about
$8 million pre-tax.


While an increase in earnings from $8 million to $72 million sounds
terrific - and usually is - you should not automatically assume that to be
the case. You must first make sure that earnings were not severely
depressed in the base year. If they were instead substantial in relation to
capital employed, an even more important point must be examined: how
much additional capital was required to produce the additional earnings?

從800萬到7,200萬,看起來好像很驚人(事實上也是) ,但你千萬不要以為本來就

In both respects, our group of three scores well. First, earnings 15
years ago were excellent compared to capital then employed in the
businesses. Second, although annual earnings are now $64 million greater,
the businesses require only about $40 million more in invested capital to
operate than was the case then.


The dramatic growth in earning power of these three businesses,
accompanied by their need for only minor amounts of capital, illustrates
very well the power of economic goodwill during an inflationary period (a
phenomenon explained in detail in the 1983 annual report). The financial
characteristics of these businesses have allowed us to use a very large
portion of the earnings they generate elsewhere. Corporate America,
however, has had a different experience: in order to increase earnings
significantly, most companies have needed to increase capital significantly
also. The average American business has required about $5 of additional
capital to generate an additional $1 of annual pre-tax earnings. That
business, therefore, would have required over $300 million in additional
capital from its owners in order to achieve an earnings performance equal
to our group of three.

揮的魔力,(我們在1983年報中有詳細解釋) ,這些公司的特性使得我們可以將他們

When returns on capital are ordinary, an
earn-more-by-putting-up-more record is no great managerial achievement.
You can get the same result personally while operating from your rocking
chair. just quadruple the capital you commit to a savings account and you
will quadruple your earnings. You would hardly expect hosannas for that
particular accomplishment. Yet, retirement announcements regularly sing
the praises of CEOs who have, say, quadrupled earnings of their widget
company during their reign - with no one examining whether this gain was
attributable simply to many years of retained earnings and the workings of
compound interest.


If the widget company consistently earned a superior return on capital
throughout the period, or if capital employed only doubled during the
CEO’s reign, the praise for him may be well deserved. But if return on
capital was lackluster and capital employed increased in pace with earnings,
applause should be withheld. A savings account in which interest was
reinvested would achieve the same year-by-year increase in earnings - and,
at only 8% interest, would quadruple its annual earnings in 18 years.


The power of this simple math is often ignored by companies to the
detriment of their shareholders. Many corporate compensation plans
reward managers handsomely for earnings increases produced solely, or in
large part, by retained earnings - i.e., earnings withheld from owners. For
example, ten-year, fixed-price stock options are granted routinely, often by
companies whose dividends are only a small percentage of earnings.


An example will illustrate the inequities possible under such
circumstances. Let’s suppose that you had a $100,000 savings account
earning 8% interest and “managed” by a trustee who could decide each year
what portion of the interest you were to be paid in cash. Interest not paid
out would be “retained earnings” added to the savings account to
compound. And let’s suppose that your trustee, in his superior wisdom,
set the “pay-out ratio” at one-quarter of the annual earnings.


Under these assumptions, your account would be worth $179,084 at
the end of ten years. Additionally, your annual earnings would have
increased about 70% from $8,000 to $13,515 under this inspired
management. And, finally, your “dividends” would have increased
commensurately, rising regularly from $2,000 in the first year to $3,378 in
the tenth year. Each year, when your manager’s public relations firm
prepared his annual report to you, all of the charts would have had lines
marching skyward.


Now, just for fun, let’s push our scenario one notch further and give
your trustee-manager a ten-year fixed-price option on part of your
“business” (i.e., your savings account) based on its fair value in the first year.
With such an option, your manager would reap a substantial profit at your
expense - just from having held on to most of your earnings. If he were
both Machiavellian and a bit of a mathematician, your manager might also
have cut the pay-out ratio once he was firmly entrenched.


This scenario is not as farfetched as you might think. Many stock
options in the corporate world have worked in exactly that fashion: they
have gained in value simply because management retained earnings, not
because it did well with the capital in its hands.


Managers actually apply a double standard to options. Leaving aside
warrants (which deliver the issuing corporation immediate and substantial
compensation), I believe it is fair to say that nowhere in the business world
are ten-year fixed-price options on all or a portion of a business granted to
outsiders. Ten months, in fact, would be regarded as extreme. It would
be particularly unthinkable for managers to grant a long-term option on a
business that was regularly adding to its capital. Any outsider wanting to
secure such an option would be required to pay fully for capital added
during the option period.


The unwillingness of managers to do-unto-outsiders, however, is not
matched by an unwillingness to do-unto-themselves. (Negotiating with
one’s self seldom produces a barroom brawl.) Managers regularly engineer
ten-year, fixed-price options for themselves and associates that, first,
totally ignore the fact that retained earnings automatically build value and,
second, ignore the carrying cost of capital. As a result, these managers
end up profiting much as they would have had they had an option on that
savings account that was automatically building up in value.


Of course, stock options often go to talented, value-adding managers
and sometimes deliver them rewards that are perfectly appropriate. (Indeed,
managers who are really exceptional almost always get far less than they
should.) But when the result is equitable, it is accidental. Once granted,
the option is blind to individual performance. Because it is irrevocable and
unconditional (so long as a manager stays in the company), the sluggard
receives rewards from his options precisely as does the star. A managerial
Rip Van Winkle, ready to doze for ten years, could not wish for a better
“incentive” system.

一家公司真正給有傑出表現的人往往都不夠多) ,不過通常這只是碰巧,而這種選擇

(I can’t resist commenting on one long-term option given an
“outsider”: that granted the U.S. Government on Chrysler shares as partial
consideration for the government’s guarantee of some lifesaving loans.
When these options worked out well for the government, Chrysler sought to
modify the payoff, arguing that the rewards to the government were both
far greater than intended and outsize in relation to its contribution to
Chrysler’s recovery. The company’s anguish over what it saw as an
imbalance between payoff and performance made national news. That
anguish may well be unique: to my knowledge, no managers - anywhere -
have been similarly offended by unwarranted payoffs arising from options
granted to themselves or their colleagues.)


Ironically, the rhetoric about options frequently describes them as
desirable because they put managers and owners in the same financial boat.
In reality, the boats are far different. No owner has ever escaped the
burden of capital costs, whereas a holder of a fixed-price option bears no
capital costs at all. An owner must weigh upside potential against
downside risk; an option holder has no downside. In fact, the business
project in which you would wish to have an option frequently is a project in
which you would reject ownership. (I’ll be happy to accept a lottery ticket as
a gift - but I’ll never buy one.)


In dividend policy also, the option holders’ interests are best served by
a policy that may ill serve the owner. Think back to the savings account
example. The trustee, holding his option, would benefit from a
no-dividend policy. Conversely, the owner of the account should lean to a
total payout so that he can prevent the option-holding manager from
sharing in the account’s retained earnings.


Despite their shortcomings, options can be appropriate under some
circumstances. My criticism relates to their indiscriminate use and, in that
connection, I would like to emphasize three points:


First, stock options are inevitably tied to the overall performance of a
corporation. Logically, therefore, they should be awarded only to those
managers with overall responsibility. Managers with limited areas of
responsibility should have incentives that pay off in relation to results
under their control. The .350 hitter expects, and also deserves, a big
payoff for his performance - even if he plays for a cellar-dwelling team.
And the .150 hitter should get no reward - even if he plays for a pennant
winner. Only those with overall responsibility for the team should have
their rewards tied to its results.


Second, options should be structured carefully. Absent special
factors, they should have built into them a retained-earnings or
carrying-cost factor. Equally important, they should be priced realistically.
When managers are faced with offers for their companies, they unfailingly
point out how unrealistic market prices can be as an index of real value.
But why, then, should these same depressed prices be the valuations at
which managers sell portions of their businesses to themselves? (They may
go further: officers and directors sometimes consult the Tax Code to
determine the lowest prices at which they can, in effect, sell part of the
business to insiders. While they’re at it, they often elect plans that
produce the worst tax result for the company.) Except in highly unusual
cases, owners are not well served by the sale of part of their business at a
bargain price - whether the sale is to outsiders or to insiders. The obvious
conclusion: options should be priced at true business value.

部份股權給經理人呢? (他們甚至還會說,會儘量以最低的價格將股權賣給內部人,不

Third, I want to emphasize that some managers whom I admire
enormously - and whose operating records are far better than mine -
disagree with me regarding fixed-price options. They have built corporate
cultures that work, and fixed-price options have been a tool that helped
them. By their leadership and example, and by the use of options as
incentives, these managers have taught their colleagues to think like
owners. Such a Culture is rare and when it exists should perhaps be left
intact - despite inefficiencies and inequities that may infest the option
program. “If it ain’t broke, don’t fix it” is preferable to “purity at any


At Berkshire, however, we use an incentive@compensation system that
rewards key managers for meeting targets in their own bailiwicks. If See’s
does well, that does not produce incentive compensation at the News - nor
vice versa. Neither do we look at the price of Berkshire stock when we
write bonus checks. We believe good unit performance should be
rewarded whether Berkshire stock rises, falls, or stays even. Similarly, we
think average performance should earn no special rewards even if our stock
should soar. “Performance”, furthermore, is defined in different ways
depending upon the underlying economics of the business: in some our
managers enjoy tailwinds not of their own making, in others they fight
unavoidable headwinds.


The rewards that go with this system can be large. At our various
business units, top managers sometimes receive incentive bonuses of five
times their base salary, or more, and it would appear possible that one
manager’s bonus could top $2 million in 1986. (I hope so.) We do not put a
cap on bonuses, and the potential for rewards is not hierarchical. The
manager of a relatively small unit can earn far more than the manager of a
larger unit if results indicate he should. We believe, further, that such
factors as seniority and age should not affect incentive compensation
(though they sometimes influence basic compensation). A 20-year-old
who can hit .300 is as valuable to us as a 40-year-old performing as well.


Obviously, all Berkshire managers can use their bonus money (or other
funds, including borrowed money) to buy our stock in the market. Many
have done just that - and some now have large holdings. By accepting
both the risks and the carrying costs that go with outright purchases, these
managers truly walk in the shoes of owners.


Now let’s get back - at long last - to our three businesses:


At Nebraska Furniture Mart our basic strength is an exceptionally
low-cost operation that allows the business to regularly offer customers the
best values available in home furnishings. NFM is the largest store of its
kind in the country. Although the already-depressed farm economy
worsened considerably in 1985, the store easily set a new sales record. I
also am happy to report that NFM’s Chairman, Rose Blumkin (the legendary
“Mrs. B”), continues at age 92 to set a pace at the store that none of us
can keep up with. She’s there wheeling and dealing seven days a week,
and I hope that any of you who visit Omaha will go out to the Mart and see
her in action. It will inspire you, as it does me.


At See’s we continue to get store volumes that are far beyond those
achieved by any competitor we know of. Despite the unmatched consumer
acceptance we enjoy, industry trends are not good, and we continue to
experience slippage in poundage sales on a same-store basis. This puts
pressure on per-pound costs. We now are willing to increase prices only
modestly and, unless we can stabilize per-shop poundage, profit margins
will narrow.


At the News volume gains are also difficult to achieve. Though linage
increased during 1985, the gain was more than accounted for by preprints.
ROP linage (advertising printed on our own pages) declined. Preprints are
far less profitable than ROP ads, and also more vulnerable to competition.
In 1985, the News again controlled costs well and our household
penetration continues to be exceptional.


One problem these three operations do not have is management. At
See’s we have Chuck Huggins, the man we put in charge the day we bought
the business. Selecting him remains one of our best business decisions.
At the News we have Stan Lipsey, a manager of equal caliber. Stan has
been with us 17 years, and his unusual business talents have become more
evident with every additional level of responsibility he has tackled. And, at
the Mart, we have the amazing Blumkins - Mrs. B, Louie, Ron, Irv, and Steve
- a three-generation miracle of management.

Stan Lipsey,他跟我們在一起十七年了,每當我們賦予他更多責任時,他的才能表現

I consider myself extraordinarily lucky to be able to work with
managers such as these. I like them personally as much as I admire them


Insurance Operations


Shown below is an updated version of our usual table, listing two key
figures for the insurance industry:


Yearly Change Combined Ratio

in Premiums after Policyholder

Written (%) Dividends

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

1972 ............... 10.2 96.2

1973 ............... 8.0 99.2

1974 ............... 6.2 105.4

1975 ............... 11.0 107.9

1976 ............... 21.9 102.4

1977 ............... 19.8 97.2

1978 ............... 12.8 97.5

1979 ............... 10.3 100.6

1980 ............... 6.0 103.1

1981 ............... 3.9 106.0

1982 ............... 4.4 109.7

1983 ............... 4.5 111.9

1984 (Revised) ..... 9.2 117.9

1985 (Estimated) ... 20.9 118.0

Source: Best’s Aggregates and Averages

The combined ratio represents total insurance costs (losses incurred
plus expenses) compared to revenue from premiums: a ratio below 100
indicates an underwriting profit, and one above 100 indicates a loss.

綜合比率Combined Ratio代表所有的保險成本(損失加上費用)佔保費收入的比率,

The industry’s 1985 results were highly unusual. The revenue gain
was exceptional, and had insured losses grown at their normal rate of most
recent years - that is, a few points above the inflation rate - a significant
drop in the combined ratio would have occurred. But losses in 1985 didn’t
cooperate, as they did not in 1984. Though inflation slowed considerably
in these years, insured losses perversely accelerated, growing by 16% in
1984 and by an even more startling 17% in 1985. The year’s growth in
losses therefore exceeds the inflation rate by over 13 percentage points, a
modern record.

年一樣以固定比率成長(約比通貨膨脹率高幾個百分點) ,則兩項因素加起來將使得
Combined Ratio下降,只可惜損失不大配合,雖然通膨有趨緩的現象,但理賠損失

Catastrophes were not the culprit in this explosion of loss cost. True,
there were an unusual number of hurricanes in 1985, but the aggregate
damage caused by all catastrophes in 1984 and 1985 was about 2% of
premium volume, a not unusual proportion. Nor was there any burst in the
number of insured autos, houses, employers, or other kinds of “exposure


A partial explanation for the surge in the loss figures is all the
additions to reserves that the industry made in 1985. As results for the
year were reported, the scene resembled a revival meeting: shouting “I’ve
sinned, I’ve sinned”, insurance managers rushed forward to confess they
had under reserved in earlier years. Their corrections significantly affected
1985 loss numbers.


A more disturbing ingredient in the loss surge is the acceleration in
“social” or “judicial” inflation. The insurer’s ability to pay has assumed
overwhelming importance with juries and judges in the assessment of both
liability and damages. More and more, “the deep pocket” is being sought
and found, no matter what the policy wording, the facts, or the precedents.


This judicial inflation represents a wild card in the industry’s future,
and makes forecasting difficult. Nevertheless, the short-term outlook is
good. Premium growth improved as 1985 went along (quarterly gains
were an estimated 15%, 19%, 24%, and 22%) and, barring a
supercatastrophe, the industry’s combined ratio should fall sharply in 1986.

麼特別大的災難,明年產業整體的Combined Ratio可望大幅下降。

The profit improvement, however, is likely to be of short duration.
Two economic principles will see to that. First, commodity businesses
achieve good levels of profitability only when prices are fixed in some
manner or when capacity is short. Second, managers quickly add to
capacity when prospects start to improve and capital is available.


In my 1982 report to you, I discussed the commodity nature of the
insurance industry extensively. The typical policyholder does not
differentiate between products but concentrates instead on price. For
many decades a cartel-like procedure kept prices up, but this arrangement
has disappeared for good. The insurance product now is priced as any
other commodity for which a free market exists: when capacity is tight,
prices will be set remuneratively; otherwise, they will not be.


Capacity currently is tight in many lines of insurance - though in this
industry, unlike most, capacity is an attitudinal concept, not a physical fact.
Insurance managers can write whatever amount of business they feel
comfortable writing, subject only to pressures applied by regulators and
Best’s, the industry’s authoritative rating service. The comfort level of
both managers and regulators is tied to capital. More capital means more
comfort, which in turn means more capacity. In the typical commodity
business, furthermore, such as aluminum or steel, a long gestation
precedes the birth of additional capacity. In the insurance industry, capital
can be secured instantly. Thus, any capacity shortage can be eliminated in
short order.


That’s exactly what’s going on right now. In 1985, about 15 insurers
raised well over $3 billion, piling up capital so that they can write all the
business possible at the better prices now available. The capital-raising
trend has accelerated dramatically so far in 1986.


If capacity additions continue at this rate, it won’t be long before
serious price-cutting appears and next a fall in profitability. When the fall
comes, it will be the fault of the capital-raisers of 1985 and 1986, not the
price-cutters of 198X. (Critics should be understanding, however: as was
the case in our textile example, the dynamics of capitalism cause each
insurer to make decisions that for itself appear sensible, but that
collectively slash profitability.)


In past reports, I have told you that Berkshire’s strong capital position
- the best in the industry - should one day allow us to claim a distinct
competitive advantage in the insurance market. With the tightening of the
market, that day arrived. Our premium volume more than tripled last year,
following a long period of stagnation. Berkshire’s financial strength (and
our record of maintaining unusual strength through thick and thin) is now a
major asset for us in securing good business.


We correctly foresaw a flight to quality by many large buyers of
insurance and reinsurance who belatedly recognized that a policy is only an
IOU - and who, in 1985, could not collect on many of their IOUs. These
buyers today are attracted to Berkshire because of its strong capital
position. But, in a development we did not foresee, we also are finding
buyers drawn to us because our ability to insure substantial risks sets us
apart from the crowd.


To understand this point, you need a few background facts about
large risks. Traditionally, many insurers have wanted to write this kind of
business. However, their willingness to do so has been almost always
based upon reinsurance arrangements that allow the insurer to keep just a
small portion of the risk itself while passing on (“laying off”) most of the
risk to its reinsurers. Imagine, for example, a directors and officers (“D &
O”) liability policy providing $25 million of coverage. By various
“excess-of-loss” reinsurance contracts, the company issuing that policy
might keep the liability for only the first $1 million of any loss that occurs.
The liability for any loss above that amount up to $24 million would be
borne by the reinsurers of the issuing insurer. In trade parlance, a
company that issues large policies but retains relatively little of the risk for
its own account writes a large gross line but a small net line.


In any reinsurance arrangement, a key question is how the premiums
paid for the policy should be divided among the various “layers” of risk. In
our D & O policy, for example. what part of the premium received should be
kept by the issuing company to compensate it fairly for taking the first $1
million of risk and how much should be passed on to the reinsurers to
compensate them fairly for taking the risk between $1 million and $25


One way to solve this problem might be deemed the Patrick Henry
approach: “I have but one lamp by which my feet are guided, and that is the
lamp of experience.” In other words, how much of the total premium would
reinsurers have needed in the past to compensate them fairly for the losses
they actually had to bear?


Unfortunately, the lamp of experience has always provided imperfect
illumination for reinsurers because so much of their business is “long-tail”,
meaning it takes many years before they know what their losses are.
Lately, however, the light has not only been dim but also grossly misleading
in the images it has revealed. That is, the courts’ tendency to grant awards
that are both huge and lacking in precedent makes reinsurers’ usual
extrapolations or inferences from past data a formula for disaster. Out
with Patrick Henry and in with Pogo: “The future ain’t what it used to be.”


The burgeoning uncertainties of the business, coupled with the entry
into reinsurance of many unsophisticated participants, worked in recent
years in favor of issuing companies writing a small net line: they were able
to keep a far greater percentage of the premiums than the risk. By doing
so, the issuing companies sometimes made money on business that was
distinctly unprofitable for the issuing and reinsuring companies combined.
(This result was not necessarily by intent: issuing companies generally
knew no more than reinsurers did about the ultimate costs that would be
experienced at higher layers of risk.) Inequities of this sort have been
particularly pronounced in lines of insurance in which much change was
occurring and losses were soaring; e.g., professional malpractice, D & 0,
products liability, etc. Given these circumstances, it is not surprising that
issuing companies remained enthusiastic about writing business long after
premiums became woefully inadequate on a gross basis.

常保單發行公司對於較高階的風險所生最後成本的了解的不一定比再保公司多) ,這

An example of just how disparate results have been for issuing
companies versus their reinsurers is provided by the 1984 financials of one
of the leaders in large and unusual risks. In that year the company wrote
about $6 billion of business and kept around $2 1/2 billion of the
premiums, or about 40%. It gave the remaining $3 1/2 billion to reinsurers.
On the part of the business kept, the company’s underwriting loss was less
than $200 million - an excellent result in that year. Meanwhile, the part
laid off produced a loss of over $1.5 billion for the reinsurers. Thus, the
issuing company wrote at a combined ratio of well under 110 while its
reinsurers, participating in precisely the same policies, came in
considerably over 140. This result was not attributable to natural
catastrophes; it came from run-of-the-mill insurance losses (occurring,
however, in surprising frequency and size). The issuing company’s 1985
report is not yet available, but I would predict it will show that dramatically
unbalanced results continued.

留部份理賠的損失最後只有不到二億元(算是不錯的成績) ,但是分保出去的部份卻使
再保業者蒙受了十五億元的損失,此舉使得保險公司的Combined Ratio不到110,

A few years such as this, and even slow-witted reinsurers can lose
interest, particularly in explosive lines where the proper split in premium
between issuer and reinsurer remains impossible to even roughly estimate.
The behavior of reinsurers finally becomes like that of Mark Twain’s cat:
having once sat on a hot stove, it never did so again - but it never again sat
on a cold stove, either. Reinsurers have had so many unpleasant surprises
in long-tail casualty lines that many have decided (probably correctly) to
give up the game entirely, regardless of price inducements. Consequently,
there has been a dramatic pull-back of reinsurance capacity in certain
important lines.


This development has left many issuing companies under pressure.
They can no longer commit their reinsurers, time after time, for tens of
millions per policy as they so easily could do only a year or two ago, and
they do not have the capital and/or appetite to take on large risks for their
own account. For many issuing companies, gross capacity has shrunk
much closer to net capacity - and that is often small, indeed.


At Berkshire we have never played the lay-it-off-at-a-profit game and,
until recently, that put us at a severe disadvantage in certain lines. Now
the tables are turned: we have the underwriting capability whereas others
do not. If we believe the price to be right, we are willing to write a net line
larger than that of any but the largest insurers. For instance, we are
perfectly willing to risk losing $10 million of our own money on a single
event, as long as we believe that the price is right and that the risk of loss is
not significantly correlated with other risks we are insuring. Very few
insurers are willing to risk half that much on single events - although, just
a short while ago, many were willing to lose five or ten times that amount
as long as virtually all of the loss was for the account of their reinsurers.


In mid-1985 our largest insurance company, National Indemnity
Company, broadcast its willingness to underwrite large risks by running an
ad in three issues of an insurance weekly. The ad solicited policies of only
large size: those with a minimum premium of $1 million. This ad drew a
remarkable 600 replies and ultimately produced premiums totaling about
$50 million. (Hold the applause: it’s all long-tail business and it will be at
least five years before we know whether this marketing success was also an
underwriting success.) Today, our insurance subsidiaries continue to be
sought out by brokers searching for large net capacity.

1985年我們旗下保險公司National Indemnity在保險雜誌大幅刊登廣告對外宣傳

As I have said, this period of tightness will pass; insurers and
reinsurers will return to underpricing. But for a year or two we should do
well in several segments of our insurance business. Mike Goldberg has
made many important improvements in the operation (prior
mismanagement by your Chairman having provided him ample opportunity
to do so). He has been particularly successful recently in hiring young
managers with excellent potential. They will have a chance to show their
stuff in 1986.

老路,不過一兩年內,我們在幾項業務方面還是有很好的發揮空間,Mike Goldberg
在營運上作了許多的改進(本人先前的管理不當,提供他不少發揮的空間) ,尤其是最

Our combined ratio has improved - from 134 in 1984 to 111 in 1985
- but continues to reflect past misdeeds. Last year I told you of the major
mistakes I had made in loss-reserving, and promised I would update you
annually on loss-development figures. Naturally, I made this promise
thinking my future record would be much improved. So far this has not
been the case. Details on last year’s loss development are on pages 50-52.
They reveal significant underreserving at the end of 1984, as they did in the
several years preceding.

Combined Ratio方面也由去年的134進步到今年的111,只不過過去不良的影響還

The only bright spot in this picture is that virtually all of the
underreserving revealed in 1984 occurred in the reinsurance area - and
there, in very large part, in a few contracts that were discontinued several
years ago. This explanation, however, recalls all too well a story told me
many years ago by the then Chairman of General Reinsurance Company.
He said that every year his managers told him that “except for the Florida
hurricane” or “except for Midwestern tornadoes”, they would have had a
terrific year. Finally he called the group together and suggested that they
form a new operation - the Except-For Insurance Company - in which they
would henceforth place all of the business that they later wouldn’t want to


In any business, insurance or otherwise, “except for” should be
excised from the lexicon. If you are going to play the game, you must
count the runs scored against you in all nine innings. Any manager who
consistently says “except for” and then reports on the lessons he has
learned from his mistakes may be missing the only important lesson -
namely, that the real mistake is not the act, but the actor.


Inevitably, of course, business errors will occur and the wise manager
will try to find the proper lessons in them. But the trick is to learn most
lessons from the experiences of others. Managers who have learned much
from personal experience in the past usually are destined to learn much
from personal experience in the future.


GEICO, 38%-owned by Berkshire, reported an excellent year in 1985 in
premium growth and investment results, but a poor year - by its lofty
standards - in underwriting. Private passenger auto and homeowners
insurance were the only important lines in the industry whose results
deteriorated significantly during the year. GEICO did not escape the trend,
although its record was far better than that of virtually all its major


Jack Byrne left GEICO at mid-year to head Fireman’s Fund, leaving
behind Bill Snyder as Chairman and Lou Simpson as Vice Chairman. Jack’s
performance in reviving GEICO from near-bankruptcy was truly
extraordinary, and his work resulted in enormous gains for Berkshire. We
owe him a great deal for that.


We are equally indebted to Jack for an achievement that eludes most
outstanding leaders: he found managers to succeed him who have talents
as valuable as his own. By his skill in identifying, attracting and developing
Bill and Lou, Jack extended the benefits of his managerial stewardship well
beyond his tenure.


Fireman’s Fund Quota-Share Contract


Never one to let go of a meal ticket, we have followed Jack Byrne to
Fireman’s Fund (“FFIC”) where he is Chairman and CEO of the holding

絕對不要輕易放棄任何一張飯票,結果我們跟著Jack 加入由他擔任控股公司董事長

On September 1, 1985 we became a 7% participant in all of the
business in force of the FFIC group, with the exception of reinsurance they
write for unaffiliated companies. Our contract runs for four years, and
provides that our losses and costs will be proportionate to theirs
throughout the contract period. If there is no extension, we will thereafter
have no participation in any ongoing business. However, for a great many
years in the future, we will be reimbursing FFIC for our 7% of the losses that
occurred in the September 1, 1985 - August 31, 1989 period.

再保險保單) ,合約為期四年,明訂期間的損失與成本依比例分攤,除非到期前予以

Under the contract FFIC remits premiums to us promptly and we
reimburse FFIC promptly for expenses and losses it has paid. Thus, funds
generated by our share of the business are held by us for investment. As
part of the deal, I’m available to FFIC for consultation about general
investment strategy. I’m not involved, however, in specific investment
decisions of FFIC, nor is Berkshire involved in any aspect of the company’s
underwriting activities.


Currently FFIC is doing about $3 billion of business, and it will
probably do more as rates rise. The company’s September 1, 1985
unearned premium reserve was $1.324 billion, and it therefore transferred
7% of this, or $92.7 million, to us at initiation of the contract. We
concurrently paid them $29.4 million representing the underwriting
expenses that they had incurred on the transferred premium. All of the
FFIC business is written by National Indemnity Company, but two-sevenths
of it is passed along to Wesco-Financial Insurance Company (“Wes-FIC”), a
new company organized by our 80%-owned subsidiary, Wesco Financial
Corporation. Charlie Munger has some interesting comments about
Wes-FIC and the reinsurance business on pages 60-62.

目前FFIC 的業務量約達三十億美元,且當費率調漲後規模有可能再增加,該公司在
用,這部份的業務完全由National Indemnity承作,之後再將其中的七分之二轉給

To the Insurance Segment tables on page 41, we have added a new
line, labeled Major Quota Share Contracts. The 1985 results of the FFIC
contract are reported there, though the newness of the arrangement makes
these results only very rough approximations.


After the end of the year, we secured another quota-share contract, whose
1986 volume should be over $50 million. We hope to develop more of this
business, and industry conditions suggest that we could: a significant
number of companies are generating more business than they themselves
can prudently handle. Our financial strength makes us an attractive
partner for such companies.


Marketable Securities


We show below our 1985 yearend net holdings in marketable equities. All
positions with a market value over $25 million are listed, and the interests
attributable to minority shareholders of Wesco and Nebraska Furniture Mart
are excluded.


No. of Shares Cost Market

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

(000s omitted)

1,036,461 Affiliated Publications, Inc. ....... $ 3,516 $ 55,710

900,800 American Broadcasting Companies, Inc. 54,435 108,997

2,350,922 Beatrice Companies, Inc. ............ 106,811 108,142

6,850,000 GEICO Corporation ................... 45,713 595,950

2,379,200 Handy & Harman ...................... 27,318 43,718

847,788 Time, Inc. .......................... 20,385 52,669

1,727,765 The Washington Post Company ......... 9,731 205,172

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

267,909 1,170,358

All Other Common Stockholdings ...... 7,201 27,963

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

Total Common Stocks $275,110 $1,198,321

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

We mentioned earlier that in the past decade the investment
environment has changed from one in which great businesses were totally
unappreciated to one in which they are appropriately recognized. The
Washington Post Company (“WPC”) provides an excellent example.


We bought all of our WPC holdings in mid-1973 at a price of not more
than one-fourth of the then per-share business value of the enterprise.
Calculating the price/value ratio required no unusual insights. Most
security analysts, media brokers, and media executives would have
estimated WPC’s intrinsic business value at $400 to $500 million just as we
did. And its $100 million stock market valuation was published daily for
all to see. Our advantage, rather, was attitude: we had learned from Ben
Graham that the key to successful investing was the purchase of shares in
good businesses when market prices were at a large discount from
underlying business values.


Most institutional investors in the early 1970s, on the other hand,
regarded business value as of only minor relevance when they were
deciding the prices at which they would buy or sell. This now seems hard
to believe. However, these institutions were then under the spell of
academics at prestigious business schools who were preaching a
newly-fashioned theory: the stock market was totally efficient, and
therefore calculations of business value - and even thought, itself - were of
no importance in investment activities. (We are enormously indebted to
those academics: what could be more advantageous in an intellectual
contest - whether it be bridge, chess, or stock selection than to have
opponents who have been taught that thinking is a waste of energy?)


Through 1973 and 1974, WPC continued to do fine as a business, and
intrinsic value grew. Nevertheless, by yearend 1974 our WPC holding
showed a loss of about 25%, with market value at $8 million against our
cost of $10.6 million. What we had thought ridiculously cheap a year
earlier had become a good bit cheaper as the market, in its infinite wisdom,
marked WPC stock down to well below 20 cents on the dollar of intrinsic


You know the happy outcome. Kay Graham, CEO of WPC, had the
brains and courage to repurchase large quantities of stock for the company
at those bargain prices, as well as the managerial skills necessary to
dramatically increase business values. Meanwhile, investors began to
recognize the exceptional economics of the business and the stock price
moved closer to underlying value. Thus, we experienced a triple dip: the
company’s business value soared upward, per-share business value
increased considerably faster because of stock repurchases and, with a
narrowing of the discount, the stock price outpaced the gain in per-share
business value.

美好的結局可以預知,Kay Graham-華盛頓郵報的總裁具有無比的智慧與勇氣,除了

We hold all of the WPC shares we bought in 1973, except for those
sold back to the company in 1985’s proportionate redemption. Proceeds
from the redemption plus yearend market value of our holdings total $221


If we had invested our $10.6 million in any of a half-dozen media
companies that were investment favorites in mid-1973, the value of our
holdings at yearend would have been in the area of $40 - $60 million. Our
gain would have far exceeded the gain in the general market, an outcome
reflecting the exceptional economics of the media business. The extra
$160 million or so we gained through ownership of WPC came, in very large
part, from the superior nature of the managerial decisions made by Kay as
compared to those made by managers of most media companies. Her
stunning business success has in large part gone unreported but among
Berkshire shareholders it should not go unappreciated.


Our Capital Cities purchase, described in the next section, required me
to leave the WPC Board early in 1986. But we intend to hold indefinitely
whatever WPC stock FCC rules allow us to. We expect WPC’s business
values to grow at a reasonable rate, and we know that management is both
able and shareholder-oriented. However, the market now values the
company at over $1.8 billion, and there is no way that the value can
progress from that level at a rate anywhere close to the rate possible when
the company’s valuation was only $100 million. Because market prices
have also been bid up for our other holdings, we face the same
vastly-reduced potential throughout our portfolio.


You will notice that we had a significant holding in Beatrice Companies
at yearend. This is a short-term arbitrage holding - in effect, a parking
place for money (though not a totally safe one, since deals sometimes fall
through and create substantial losses). We sometimes enter the arbitrage
field when we have more money than ideas, but only to participate in
announced mergers and sales. We would be a lot happier if the funds
currently employed on this short-term basis found a long-term home. At
the moment, however, prospects are bleak.


At yearend our insurance subsidiaries had about $400 million in
tax-exempt bonds, of which $194 million at amortized cost were issues of
Washington Public Power Supply System (“WPPSS”) Projects 1, 2, and 3. 1
discussed this position fully last year, and explained why we would not
disclose further purchases or sales until well after the fact (adhering to the
policy we follow on stocks). Our unrealized gain on the WPPSS bonds at
yearend was $62 million, perhaps one-third arising from the upward
movement of bonds generally, and the remainder from a more positive
investor view toward WPPSS 1, 2, and 3s. Annual tax-exempt income from
our WPPSS issues is about $30 million.


Capital Cities/ABC, Inc.


Right after yearend, Berkshire purchased 3 million shares of Capital
Cities/ABC, Inc. (“Cap Cities”) at $172.50 per share, the market price of
such shares at the time the commitment was made early in March, 1985.
I’ve been on record for many years about the management of Cap Cities: I
think it is the best of any publicly-owned company in the country. And
Tom Murphy and Dan Burke are not only great managers, they are precisely
the sort of fellows that you would want your daughter to marry. It is a
privilege to be associated with them - and also a lot of fun, as any of you
who know them will understand.


Our purchase of stock helped Cap Cities finance the $3.5 billion
acquisition of American Broadcasting Companies. For Cap Cities, ABC is a
major undertaking whose economics are likely to be unexciting over the
next few years. This bothers us not an iota; we can be very patient. (No
matter how great the talent or effort, some things just take time: you can’t
produce a baby in one month by getting nine women pregnant.)


As evidence of our confidence, we have executed an unusual
agreement: for an extended period Tom, as CEO (or Dan, should he be CEO)
votes our stock. This arrangement was initiated by Charlie and me, not by
Tom. We also have restricted ourselves in various ways regarding sale of
our shares. The object of these restrictions is to make sure that our block
does not get sold to anyone who is a large holder (or intends to become a
large holder) without the approval of management, an arrangement similar
to ones we initiated some years ago at GEICO and Washington Post.


Since large blocks frequently command premium prices, some might
think we have injured Berkshire financially by creating such restrictions.
Our view is just the opposite. We feel the long-term economic prospects
for these businesses - and, thus, for ourselves as owners - are enhanced by
the arrangements. With them in place, the first-class managers with whom
we have aligned ourselves can focus their efforts entirely upon running the
businesses and maximizing long-term values for owners. Certainly this is
much better than having those managers distracted by “revolving-door
capitalists” hoping to put the company “in play”. (Of course, some managers
place their own interests above those of the company and its owners and
deserve to be shaken up - but, in making investments, we try to steer clear
of this type.)


Today, corporate instability is an inevitable consequence of
widely-diffused ownership of voting stock. At any time a major holder can
surface, usually mouthing reassuring rhetoric but frequently harboring
uncivil intentions. By circumscribing our blocks of stock as we often do,
we intend to promote stability where it otherwise might be lacking. That
kind of certainty, combined with a good manager and a good business,
provides excellent soil for a rich financial harvest. That’s the economic
case for our arrangements.


The human side is just as important. We don’t want managers we like
and admire - and who have welcomed a major financial commitment by us
- to ever lose any sleep wondering whether surprises might occur because
of our large ownership. I have told them there will be no surprises, and
these agreements put Berkshire’s signature where my mouth is. That
signature also means the managers have a corporate commitment and
therefore need not worry if my personal participation in Berkshire’s affairs
ends prematurely (a term I define as any age short of three digits).


Our Cap Cities purchase was made at a full price, reflecting the very
considerable enthusiasm for both media stocks and media properties that
has developed in recent years (and that, in the case of some property
purchases, has approached a mania). it’s no field for bargains. However,
our Cap Cities investment allies us with an exceptional combination of
properties and people - and we like the opportunity to participate in size.


Of course, some of you probably wonder why we are now buying Cap
Cities at $172.50 per share given that your Chairman, in a characteristic
burst of brilliance, sold Berkshire’s holdings in the same company at $43
per share in 1978-80. Anticipating your question, I spent much of 1985
working on a snappy answer that would reconcile these acts.


A little more time, please.


Acquisition of Scott & Fetzer


Right after yearend we acquired The Scott & Fetzer Company (“Scott
Fetzer”) of Cleveland for about $320 million. (In addition, about $90 million
of pre-existing Scott Fetzer debt remains in place.) In the next section of
this report I describe the sort of businesses that we wish to buy for
Berkshire. Scott Fetzer is a prototype - understandable, large,
well-managed, a good earner.


The company has sales of about $700 million derived from 17
businesses, many leaders in their fields. Return on invested capital is good
to excellent for most of these businesses. Some well-known products are
Kirby home-care systems, Campbell Hausfeld air compressors, and Wayne
burners and water pumps.


World Book, Inc. - accounting for about 40% of Scott Fetzer’s sales and
a bit more of its income - is by far the company’s largest operation. It also
is by far the leader in its industry, selling more than twice as many
encyclopedia sets annually as its nearest competitor. In fact, it sells more
sets in the U.S. than its four biggest competitors combined.


Charlie and I have a particular interest in the World Book operation
because we regard its encyclopedia as something special. I’ve been a fan
(and user) for 25 years, and now have grandchildren consulting the sets j
ust as my children did. World Book is regularly rated the most useful
encyclopedia by teachers, librarians and consumer buying guides. Yet it
sells for less than any of its major competitors. Childcraft, another World
Book, Inc. product, offers similar value. This combination of exceptional
products and modest prices at World Book, Inc. helped make us willing to
pay the price demanded for Scott Fetzer, despite declining results for many
companies in the direct-selling industry.


An equal attraction at Scott Fetzer is Ralph Schey, its CEO for nine
years. When Ralph took charge, the company had 31 businesses, the
result of an acquisition spree in the 1960s. He disposed of many that did
not fit or had limited profit potential, but his focus on rationalizing the
original potpourri was not so intense that he passed by World Book when it
became available for purchase in 1978. Ralph’s operating and
capital-allocation record is superb, and we are delighted to be associated
with him.

另外值得注意的是擔任該公司總裁已九年的Ralph Schey,由於1960年代的購併風

The history of the Scott Fetzer acquisition is interesting, marked by
some zigs and zags before we became involved. The company had been
an announced candidate for purchase since early 1984. A major
investment banking firm spent many months canvassing scores of
prospects, evoking interest from several. Finally, in mid-1985 a plan of
sale, featuring heavy participation by an ESOP (Employee Stock Ownership
Plan), was approved by shareholders. However, as difficulty in closing
followed, the plan was scuttled.


I had followed this corporate odyssey through the newspapers. On
October 10, well after the ESOP deal had fallen through, I wrote a short
letter to Ralph, whom I did not know. I said we admired the company’s
record and asked if he might like to talk. Charlie and I met Ralph for
dinner in Chicago on October 22 and signed an acquisition contract the
following week.

我在報上看到這項消息,立刻寫了一封簡短的信給Ralph Schey,雖然當時我並不認

The Scott Fetzer acquisition, plus major growth in our insurance
business, should push revenues above $2 billion in 1986, more than double
those of 1985.




The Scott Fetzer purchase illustrates our somewhat haphazard
approach to acquisitions. We have no master strategy, no corporate
planners delivering us insights about socioeconomic trends, and no staff to
investigate a multitude of ideas presented by promoters and intermediaries.
Instead, we simply hope that something sensible comes along - and, when
it does, we act.


To give fate a helping hand, we again repeat our regular “business
wanted” ad. The only change from last year’s copy is in (1): because we
continue to want any acquisition we make to have a measurable impact on
Berkshire’s financial results, we have raised our minimum profit


Here’s what we’re looking for:

(1) large purchases (at least $10 million of after-tax


(2) demonstrated consistent earning power (future

projections are of little interest to us, nor are

“turn-around” situations),

(3) businesses earning good returns on equity while

employing little or no debt,

(4) management in place (we can’t supply it),

(5) simple businesses (if there’s lots of technology, we

won’t understand it),

(6) an offering price (we don’t want to waste our time

or that of the seller by talking, even preliminarily,

about a transaction when price is unknown).



We will not engage in unfriendly takeovers. We can promise complete
confidentiality and a very fast answer - customarily within five minutes - as
to whether we’re interested. We prefer to buy for cash, but will consider
issuance of stock when we receive as much in intrinsic business value as we
give. Indeed, following recent advances in the price of Berkshire stock,
transactions involving stock issuance may be quite feasible. We invite
potential sellers to check us out by contacting people with whom we have
done business in the past. For the right business - and the right people -
we can provide a good home.

鐘) ,我們傾向採現金交易,除非我們所換得的實質價值跟我們付出的一樣多,否則

On the other hand, we frequently get approached about acquisitions
that don’t come close to meeting our tests: new ventures, turnarounds,
auction-like sales, and the ever-popular (among brokers)
“I’m-sure-something-will-work-out-if-you-people-get-to-know-each-other”. None of these attracts us in the least.

以及最常見的仲介案(那些說你們要是能過碰一下面,一定會感興趣之類的) 。在此重

* * *

Besides being interested in the purchases of entire businesses as
described above, we are also interested in the negotiated purchase of large,
but not controlling, blocks of stock, as in our Cap Cities purchase. Such
purchases appeal to us only when we are very comfortable with both the
economics of the business and the ability and integrity of the people
running the operation. We prefer large transactions: in the unusual case
we might do something as small as $50 million (or even smaller), but our
preference is for commitments many times that size.


* * *

About 96.8% of all eligible shares participated in Berkshire’s 1985
shareholder-designated contributions program. Total contributions made
through the program were $4 million, and 1,724 charities were recipients.
We conducted a plebiscite last year in order to get your views about this
program, as well as about our dividend policy. (Recognizing that it’s
possible to influence the answers to a question by the framing of it, we
attempted to make the wording of ours as neutral as possible.) We present
the ballot and the results in the Appendix on page 69. I think it’s fair to
summarize your response as highly supportive of present policies and your
group preference - allowing for the tendency of people to vote for the
status quo - to be for increasing the annual charitable commitment as our
asset values build.

辭保持彈性) ,在股東會的資料中有相關的選票與結果,我們各位的回應對於本公司

We urge new shareholders to read the description of our
shareholder-designated contributions program that appears on pages 66
and 67. If you wish to participate in future programs, we strongly urge
that you immediately make sure that your shares are registered in the name
of the actual owner, not in “street” name or nominee name. Shares not so
registered on September 30, 1986 will be ineligible for the 1986 program.


* * *

Five years ago we were required by the Bank Holding Company Act of
1969 to dispose of our holdings in The Illinois National Bank and Trust
Company of Rockford, Illinois. Our method of doing so was unusual: we
announced an exchange ratio between stock of Rockford Bancorp Inc. (the
Illinois National’s holding company) and stock of Berkshire, and then let
each of our shareholders - except me - make the decision as to whether to
exchange all, part, or none of his Berkshire shares for Rockford shares. I
took the Rockford stock that was left over and thus my own holding in
Rockford was determined by your decisions. At the time I said, “This
technique embodies the world’s oldest and most elementary system of
fairly dividing an object. Just as when you were a child and one person cut
the cake and the other got first choice, I have tried to cut the company fairly,
but you get first choice as to which piece you want.”


Last fall Illinois National was sold. When Rockford’s liquidation is
completed, its shareholders will have received per-share proceeds about
equal to Berkshire’s per-share intrinsic value at the time of the bank’s sale.
I’m pleased that this five-year result indicates that the division of the cake
was reasonably equitable.


Last year I put in a plug for our annual meeting, and you took me up
on the invitation. Over 250 of our more than 3,000 registered
shareholders showed up. Those attending behaved just as those present
in previous years, asking the sort of questions you would expect from
intelligent and interested owners. You can attend a great many annual
meetings without running into a crowd like ours. (Lester Maddox, when
Governor of Georgia, was criticized regarding the state’s abysmal prison
system. “The solution”, he said, “is simple. All we need is a better class of
prisoners.” Upgrading annual meetings works the same way.)

是很少見到的,Lester Maddox-在擔任喬治亞州州長時曾批評當時糟糕透頂的獄政

I hope you come to this year’s meeting, which will be held on May 20
in Omaha. There will be only one change: after 48 years of allegiance to
another soft drink, your Chairman, in an unprecedented display of
behavioral flexibility, has converted to the new Cherry Coke. Henceforth, it
will be the Official Drink of the Berkshire Hathaway Annual Meeting.


And bring money: Mrs. B promises to have bargains galore if you will
pay her a visit at The Nebraska Furniture Mart after the meeting.


Warren E. Buffett
Chairman of the Board
March 4, 1986



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