http://www.berkshirehathaway.com/letters/2011ltr.pdf. I must admit; I really enjoy reading Buffet’s annual letter to shareholders. This year, the press focused on the fact that he’s chosen a successor. To me, that’s just something to dread, a passing that will be sad to observe. The rest of his letter is still vintage Buffet. It’s 22 pages long, so requires a good sitting, but it’s worth it. He waxes on about Berkshire Hathaway’s performance of course, but mixes in so much good folk wisdom and investment advice that they are much more than your average Chairman’s letter to shareholders. Buffet’s net worth is about $50B (98% of his net worth is in Berkshire stock) and as he says, “when you look at Berkshire, you are looking across corporate America.” And there’s nothing like someone like this who can admit when he’s wrong: ”last year, I told you that a housing recover will probably begin within a year or so. I was dead wrong.”
Buffet highlights four important companies that he holds significant equity interests in: IBM, Coca-Cola, American Express and Wells Fargo. I particularly enjoy his explanation of the Insurance business:
Property-casualty (“P/C”) insurers receive premiums upfront and pay claims later. In extreme cases,
such as those arising from certain workers’ compensation accidents, payments can stretch over decades. This
collect-now, pay-later model leaves us holding large sums – money we call “float” – that will eventually go to
others. Meanwhile, we get to invest this float for Berkshire’s benefit. Though individual policies and claims
come and go, the amount of float we hold remains remarkably stable in relation to premium volume.
Consequently, as our business grows, so does our float. And how we have grown, as the following table shows:
Year Float (in $ millions)
1970 $ 39
1980 237
1990 1,632
2000 27,871
2010 65,832
2011 70,571
It’s unlikely that our float will grow much – if at all – from its current level. That’s mainly because we
already have an outsized amount relative to our premium volume. Were there to be a decline in float, I will add,
it would almost certainly be very gradual and therefore impose no unusual demand for funds on us.
If our premiums exceed the total of our expenses and eventual losses, we register an underwriting profit
that adds to the investment income our float produces. When such a profit occurs, we enjoy the use of free
money – and, better yet, get paid for holding it. Unfortunately, the wish of all insurers to achieve this happy
result creates intense competition, so vigorous in most years that it causes the P/C industry as a whole to
operate at a significant underwriting loss. For example, State Farm, by far the country’s largest insurer and awell-managed
company besides, has incurred an underwriting loss in eight of the last eleven years. There are
a lot of ways to lose money in insurance, and the industry is resourceful in creating new ones.
As noted in the first section of this report, we have now operated at an underwriting profit for nine
consecutive years, our gain for the period having totaled $17 billion. I believe it likely that we will continue to
underwrite profitably in most – though certainly not all – future years. If we accomplish that, our float will be
better than cost-free. We will profit just as we would if some party deposited $70.6 billion with us, paid us a fee
for holding its money and then let us invest its funds for our own benefit.
He goes on to offer insights into the energy industry, transportation, and several others. Have a look, via the link above, and read about one of the coolest guys in the world.
There’s a lot of reasons why investors are not liking banks right now, not least of which is that shareholder returns are almost -10% per year since 2007, worse than pretty much any industry, according to Boston Consulting Group, as published in the Economist this week. Macroeconomic issues and sovereign defaults lead the list of concerns. Today’s bailout of Bankia by the Spanish government almost begs the question of who is going to then bail out the Spanish government?
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