Berkshire's Corporate Performance vs.the S&P500 Annual Percentage Change in Per-Share in S&P 500 Yea 208 2019 Ov 1902011-2012 58697 10.3 results through were simply to have ed the
Berkshire’s Corporate Performance vs. the S&P 500 Annual Percentage Change Year in Per-Share Book Value of Berkshire (1) in S&P 500 with Dividends Included (2) Relative Results (1)-(2) 1965 ........................................................ 23.8 10.0 13.8 1966 ........................................................ 20.3 (11.7) 32.0 1967 ........................................................ 11.0 30.9 (19.9) 1968 ........................................................ 19.0 11.0 8.0 1969 ........................................................ 16.2 (8.4) 24.6 1970 ........................................................ 12.0 3.9 8.1 1971 ........................................................ 16.4 14.6 1.8 1972 ........................................................ 21.7 18.9 2.8 1973 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.7 (14.8) 19.5 1974 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5.5 (26.4) 31.9 1975 ........................................................ 21.9 37.2 (15.3) 1976 ........................................................ 59.3 23.6 35.7 1977 ........................................................ 31.9 (7.4) 39.3 1978 ........................................................ 24.0 6.4 17.6 1979 ........................................................ 35.7 18.2 17.5 1980 ........................................................ 19.3 32.3 (13.0) 1981 ........................................................ 31.4 (5.0) 36.4 1982 ........................................................ 40.0 21.4 18.6 1983 ........................................................ 32.3 22.4 9.9 1984 ........................................................ 13.6 6.1 7.5 1985 ........................................................ 48.2 31.6 16.6 1986 ........................................................ 26.1 18.6 7.5 1987 ........................................................ 19.5 5.1 14.4 1988 ........................................................ 20.1 16.6 3.5 1989 ........................................................ 44.4 31.7 12.7 1990 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7.4 (3.1) 10.5 1991 ........................................................ 39.6 30.5 9.1 1992 ........................................................ 20.3 7.6 12.7 1993 ........................................................ 14.3 10.1 4.2 1994 ........................................................ 13.9 1.3 12.6 1995 ........................................................ 43.1 37.6 5.5 1996 ........................................................ 31.8 23.0 8.8 1997 ........................................................ 34.1 33.4 0.7 1998 ........................................................ 48.3 28.6 19.7 1999 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 0.5 21.0 (20.5) 2000 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6.5 (9.1) 15.6 2001 ........................................................ (6.2) (11.9) 5.7 2002 ........................................................ 10.0 (22.1) 32.1 2003 ........................................................ 21.0 28.7 (7.7) 2004 ........................................................ 10.5 10.9 (0.4) 2005 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6.4 4.9 1.5 2006 ........................................................ 18.4 15.8 2.6 2007 ........................................................ 11.0 5.5 5.5 2008 ........................................................ (9.6) (37.0) 27.4 2009 ........................................................ 19.8 26.5 (6.7) 2010 ........................................................ 13.0 15.1 (2.1) 2011 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4.6 2.1 2.5 2012 ........................................................ 14.4 16.0 (1.6) Compounded Annual Gain – 1965-2012 ........................... 19.7% 9.4% 10.3 Overall Gain – 1964-2012 ....................................... 586,817% 7,433% Notes: Data are for calendar years with these exceptions: 1965 and 1966, year ended 9/30; 1967, 15 months ended 12/31. Starting in 1979, accounting rules required insurance companies to value the equity securities they hold at market rather than at the lower of cost or market, which was previously the requirement. In this table, Berkshire’s results through 1978 have been restated to conform to the changed rules. In all other respects, the results are calculated using the numbers originally reported. The S&P 500 numbers are pre-tax whereas the Berkshire numbers are aftertax. If a corporation such as Berkshire were simply to have owned the S&P 500 and accrued the appropriate taxes, its results would have lagged the S&P 500 in years when that index showed a positive return, but would have exceeded the S&P 500 in years when the index showed a negative return. Over the years, the tax costs would have caused the aggregate lag to be substantial. 2
BERKSHIRE HATHAWAY INC To the Shareholders of Berkshire Hathaway Ine.: In 2012.Berkshire achieved a total gain for its shareholders of $24.1 billion.We used $13 billion of tha to repurchase our stock,which left us with an increase in net worth of $22.8 billion for the year.The per-share book value of both our Class management took over).book value has grown from $19 to$114.214.a rate of 19.7%compoun A number of good things happened at Berkshire last year.but let's first get the bad news out of the way. But subpar it was.For the ninth time in 48 years.Berkshire's percentage increase in book value was less than the es divide e years, tter when the To date.we've never had a five-year period of under pertormance,ha ving managed 43 times to surpass the Bu t the S&P has now ha year wins will end. One thing of which you can be certain:Whatever Be ksl not cn our jo gains of the SP.If we do so.Berkshire's share price.though unpredictable from vear to vear.will itsel Charlie and i believe the gain in berkshire's intrinsic value will over time likely su ass the s&P returns b mall margn Were confident of that becauee have om outstanding businecadre of tf operating managers and a shareholde oriented culture.Our relative performance,however,is almos .The second disappointment in 2012 was my inability to make a major acquisition.I pursued a couple of elephants,but came up empty-handed All per 1/1500 of tho in apply to Berkhire'sres igures for
BERKSHIRE HATHAWAY INC. To the Shareholders of Berkshire Hathaway Inc.: In 2012, Berkshire achieved a total gain for its shareholders of $24.1 billion. We used $1.3 billion of that to repurchase our stock, which left us with an increase in net worth of $22.8 billion for the year. The per-share book value of both our Class A and Class B stock increased by 14.4%. Over the last 48 years (that is, since present management took over), book value has grown from $19 to $114,214, a rate of 19.7% compounded annually.* A number of good things happened at Berkshire last year, but let’s first get the bad news out of the way. Š When the partnership I ran took control of Berkshire in 1965, I could never have dreamed that a year in which we had a gain of $24.1 billion would be subpar, in terms of the comparison we present on the facing page. But subpar it was. For the ninth time in 48 years, Berkshire’s percentage increase in book value was less than the S&P’s percentage gain (a calculation that includes dividends as well as price appreciation). In eight of those nine years, it should be noted, the S&P had a gain of 15% or more. We do better when the wind is in our face. To date, we’ve never had a five-year period of underperformance, having managed 43 times to surpass the S&P over such a stretch. (The record is on page 103.) But the S&P has now had gains in each of the last four years, outpacing us over that period. If the market continues to advance in 2013, our streak of fiveyear wins will end. One thing of which you can be certain: Whatever Berkshire’s results, my partner Charlie Munger, the company’s Vice Chairman, and I will not change yardsticks. It’s our job to increase intrinsic business value – for which we use book value as a significantly understated proxy – at a faster rate than the market gains of the S&P. If we do so, Berkshire’s share price, though unpredictable from year to year, will itself outpace the S&P over time. If we fail, however, our management will bring no value to our investors, who themselves can earn S&P returns by buying a low-cost index fund. Charlie and I believe the gain in Berkshire’s intrinsic value will over time likely surpass the S&P returns by a small margin. We’re confident of that because we have some outstanding businesses, a cadre of terrific operating managers and a shareholder-oriented culture. Our relative performance, however, is almost certain to be better when the market is down or flat. In years when the market is particularly strong, expect us to fall short. Š The second disappointment in 2012 was my inability to make a major acquisition. I pursued a couple of elephants, but came up empty-handed. * All per-share figures used in this report apply to Berkshire’s A shares. Figures for the B shares are 1/1500th of those shown for A. 3
February.we agreed to buy50%ofa hol We coud'be in better company.Jorge Paulo is a long-time friend of mine and an xt raordinary p an st S&i contribu on for uity Th the he premium price and the preferred also comes with warrants permitting us to buy 5%of the holding company's common stock for a nominal sum. our total investment of about $12 hillion soaks auch of what perkshir But we still have plenty of cash and aregeerin more at a good clip.os back to work:Charlieandhve donned our safari outfits and resumed our search for elephants. Now to some good news from 2012: .Last year I told you that BNSF,Iscar.Lubrizol.Marmon Group and MidAmerican Energy-our five most e non-insuranc -were likely to earn more than $10 billion pre-tax in 2012.They and ggregate eamnings of $10.1 billi about $600 millic ain28uoidou sequently.we purch danother three of the five on an all-cash basis In acquiring the h moun:we anding ain in annual ea by the five companies has been accompanied by only minor dilution.That satisfies our goal of not simply growing.but rather increasing per-share results. Unles eamings in 2013.The five outstanding CEOs who run them will see to that. e five should again deliver highe Though I failed to land a major acquisition in 2012,the gers of our subsidiaries did far better. es Thepurchas ed Charlie and I love these acquisitions:Usually they are low-risk,burden headquarters not at all,and expand the scope of our proven managers Our insurance nerations shot the lie out las vear.While giving berkshire $73 billion of free mor invest,they also delivered a s1.6billion underwriting gain,the tenth consecutive year of profitable underwriting.This is truly having your cake and eating it too. GEICO led the 9.7%.Premium volume meanwhile increased from $2.8 billion to $16.7 billion.Much more growth lies ahead The credit for geico's extra ly and his 27000 as And to just soldiers on.telling Americans how they can save big money by going to GEICO.com. When I count my blessings,I count GEICO twice
Our luck, however, changed early this year. In February, we agreed to buy 50% of a holding company that will own all of H. J. Heinz. The other half will be owned by a small group of investors led by Jorge Paulo Lemann, a renowned Brazilian businessman and philanthropist. We couldn’t be in better company. Jorge Paulo is a long-time friend of mine and an extraordinary manager. His group and Berkshire will each contribute about $4 billion for common equity in the holding company. Berkshire will also invest $8 billion in preferred shares that pay a 9% dividend. The preferred has two other features that materially increase its value: at some point it will be redeemed at a significant premium price and the preferred also comes with warrants permitting us to buy 5% of the holding company’s common stock for a nominal sum. Our total investment of about $12 billion soaks up much of what Berkshire earned last year. But we still have plenty of cash and are generating more at a good clip. So it’s back to work; Charlie and I have again donned our safari outfits and resumed our search for elephants. Now to some good news from 2012: Š Last year I told you that BNSF, Iscar, Lubrizol, Marmon Group and MidAmerican Energy – our five most profitable non-insurance companies – were likely to earn more than $10 billion pre-tax in 2012. They delivered. Despite tepid U.S. growth and weakening economies throughout much of the world, our “powerhouse five” had aggregate earnings of $10.1 billion, about $600 million more than in 2011. Of this group, only MidAmerican, then earning $393 million pre-tax, was owned by Berkshire eight years ago. Subsequently, we purchased another three of the five on an all-cash basis. In acquiring the fifth, BNSF, we paid about 70% of the cost in cash, and for the remainder, issued shares that increased the amount outstanding by 6.1%. Consequently, the $9.7 billion gain in annual earnings delivered Berkshire by the five companies has been accompanied by only minor dilution. That satisfies our goal of not simply growing, but rather increasing per-share results. Unless the U.S. economy tanks – which we don’t expect – our powerhouse five should again deliver higher earnings in 2013. The five outstanding CEOs who run them will see to that. Š Though I failed to land a major acquisition in 2012, the managers of our subsidiaries did far better. We had a record year for “bolt-on” purchases, spending about $2.3 billion for 26 companies that were melded into our existing businesses. These transactions were completed without Berkshire issuing any shares. Charlie and I love these acquisitions: Usually they are low-risk, burden headquarters not at all, and expand the scope of our proven managers. Š Our insurance operations shot the lights out last year. While giving Berkshire $73 billion of free money to invest, they also delivered a $1.6 billion underwriting gain, the tenth consecutive year of profitable underwriting. This is truly having your cake and eating it too. GEICO led the way, continuing to gobble up market share without sacrificing underwriting discipline. Since 1995, when we obtained control, GEICO’s share of the personal-auto market has grown from 2.5% to 9.7%. Premium volume meanwhile increased from $2.8 billion to $16.7 billion. Much more growth lies ahead. The credit for GEICO’s extraordinary performance goes to Tony Nicely and his 27,000 associates. And to that cast, we should add our Gecko. Neither rain nor storm nor gloom of night can stop him; the little lizard just soldiers on, telling Americans how they can save big money by going to GEICO.com. When I count my blessings, I count GEICO twice. 4
Todd Combsand Ted Weschler.oew ved to he smar ty.helpful to Berkshire in erfect cultural fit.We hit he jckpot thes 01 oprorme the500by double-digit margns he dust as well. aged by each to almost $5 billion (so from the nenamTaTaaaaaabp Berkshirev porfolio long aer Charlie and I have left the scee.Youcn re y when they take over ·Berkshire' rend emnloyment totaled a record 288 462 (see 106 for details).up 17.604 from last 's"Big Fou Expres Coca-Cola IBM and Wells Fargo additional shares of Wells Fareo (our ownershin now is versus 76%at vearend 2011)and IBM (60% versus 5.5%).Meanwhile.stock repurchases at Coca-Cola and American Express raised our percentage ar equity in Coca-Cola grew from 8.8%to 8.9%and our interest at American Express from Berkshire's ownership interest in all four companies is likely to increase in the future.Mae West had it right:"Too much of a good thing can be wonderful. efer and ion of a wonderful business to owning100%of a so-so business.Our flexibilty n capital allocation gives us a significant advantage over companies that limit themselves only to acquisitions they can operate. 。901a ad to s20 hillio But make no mistake:The $2.8 billion of earnings we do not report is every bit as valuable to us as what The a tain ed fo which ur share of eous.Over time we 26 and,even There was a lot of hand-wringing last year among CEOs who cried "uncertainty"when faced with capital ions (despite many of their businesses having enjoyed record f both earnings an a record $9. on previous high.Charlie and I love investing larg e sums in worthwhile saying.We instead heed the words from Gary Allan's new country songEvery Storm Runs Out of Rain. will almost cerainly set still another record for eapital expenditures America thought for Of course.the immediate future is uncertain:America has faced the while at other times they ig ust the at always exi the r ha
Š Todd Combs and Ted Weschler, our new investment managers, have proved to be smart, models of integrity, helpful to Berkshire in many ways beyond portfolio management, and a perfect cultural fit. We hit the jackpot with these two. In 2012 each outperformed the S&P 500 by double-digit margins. They left me in the dust as well. Consequently, we have increased the funds managed by each to almost $5 billion (some of this emanating from the pension funds of our subsidiaries). Todd and Ted are young and will be around to manage Berkshire’s massive portfolio long after Charlie and I have left the scene. You can rest easy when they take over. Š Berkshire’s yearend employment totaled a record 288,462 (see page 106 for details), up 17,604 from last year. Our headquarters crew, however, remained unchanged at 24. No sense going crazy. Š Berkshire’s “Big Four” investments – American Express, Coca-Cola, IBM and Wells Fargo – all had good years. Our ownership interest in each of these companies increased during the year. We purchased additional shares of Wells Fargo (our ownership now is 8.7% versus 7.6% at yearend 2011) and IBM (6.0% versus 5.5%). Meanwhile, stock repurchases at Coca-Cola and American Express raised our percentage ownership. Our equity in Coca-Cola grew from 8.8% to 8.9% and our interest at American Express from 13.0% to 13.7%. Berkshire’s ownership interest in all four companies is likely to increase in the future. Mae West had it right: “Too much of a good thing can be wonderful.” The four companies possess marvelous businesses and are run by managers who are both talented and shareholder-oriented. At Berkshire we much prefer owning a non-controlling but substantial portion of a wonderful business to owning 100% of a so-so business. Our flexibility in capital allocation gives us a significant advantage over companies that limit themselves only to acquisitions they can operate. Going by our yearend share count, our portion of the “Big Four’s” 2012 earnings amounted to $3.9 billion. In the earnings we report to you, however, we include only the dividends we receive – about $1.1 billion. But make no mistake: The $2.8 billion of earnings we do not report is every bit as valuable to us as what we record. The earnings that the four companies retain are often used for repurchases – which enhance our share of future earnings – and also for funding business opportunities that are usually advantageous. Over time we expect substantially greater earnings from these four investees. If we are correct, dividends to Berkshire will increase and, even more important, so will our unrealized capital gains (which, for the four, totaled $26.7 billion at yearend). Š There was a lot of hand-wringing last year among CEOs who cried “uncertainty” when faced with capitalallocation decisions (despite many of their businesses having enjoyed record levels of both earnings and cash). At Berkshire, we didn’t share their fears, instead spending a record $9.8 billion on plant and equipment in 2012, about 88% of it in the United States. That’s 19% more than we spent in 2011, our previous high. Charlie and I love investing large sums in worthwhile projects, whatever the pundits are saying. We instead heed the words from Gary Allan’s new country song, “Every Storm Runs Out of Rain.” We will keep our foot to the floor and will almost certainly set still another record for capital expenditures in 2013. Opportunities abound in America. ************ A thought for my fellow CEOs: Of course, the immediate future is uncertain; America has faced the unknown since 1776. It’s just that sometimes people focus on the myriad of uncertainties that always exist while at other times they ignore them (usually because the recent past has been uneventful). 5
Century,a staggering 17,320%increase that materialized despite four costly wars,a Great Depression and many essions.And don't forget that shareholders received substantial dividends throughout the century as well.) Since the basic game is so favorable.Charlie and I believe it's a terrible mistake to try to dance in and out of it based upon the tum of tarot cards.the predictions of"experts,"or the ebb and flow of business activity.The risks of being out of the game are huge compared to the risks of being in it. My o ase in the the Usjhrhou t Pacificr Each dayeadeo ofmor setbacks.Even so,there was no talk about uncertainty:every American I knew believed we would prevail. The country's success anita cen 1941 and 2012 Th d ow has b unceran.Americs destiny,however.has always been rever-ncrean abundance. Let who ha f-sha re ints c value by (1)improving the earning power ofo Berkshire sha ful di scount from intrins value:and (5)making an occasional large acquisition.We will also try to maximize results for you by rarely,if ever.issuing Berkshire shares. will continue to businesses and individuals-and no company brings greater resources to that arena than Berkshire.As we view these and other strengths,Charlie and I like your company's prospects. Intrinsic Business value e andtalk about intinsic busines valuc,w cannot tel you peciscly what or that m f,any ot er stoc laid out th s qo ne keys【oase estimate of Berkshire' intrinsic value That discus sion is duced in full o es104-105 pag Here is an update of the two quantitative factors:In 2012 our per-share investments increased 15.7%to ur per-share pre-tax earnings from businesse s other than insurance and investments also increasec Since 1970.our per-share investments have increased at a rate of 19.4%compounded annually.and ou clip.It is no coincidence that the price of Berkshire stoc over the very s .Charlie and】 I like to see Now,let'se mine the four majo s of our operations.Each ha ng them together therefore impedes analysis.Sowe'll presentthem
American business will do fine over time. And stocks will do well just as certainly, since their fate is tied to business performance. Periodic setbacks will occur, yes, but investors and managers are in a game that is heavily stacked in their favor. (The Dow Jones Industrials advanced from 66 to 11,497 in the 20th Century, a staggering 17,320% increase that materialized despite four costly wars, a Great Depression and many recessions. And don’t forget that shareholders received substantial dividends throughout the century as well.) Since the basic game is so favorable, Charlie and I believe it’s a terrible mistake to try to dance in and out of it based upon the turn of tarot cards, the predictions of “experts,” or the ebb and flow of business activity. The risks of being out of the game are huge compared to the risks of being in it. My own history provides a dramatic example: I made my first stock purchase in the spring of 1942 when the U.S. was suffering major losses throughout the Pacific war zone. Each day’s headlines told of more setbacks. Even so, there was no talk about uncertainty; every American I knew believed we would prevail. The country’s success since that perilous time boggles the mind: On an inflation-adjusted basis, GDP per capita more than quadrupled between 1941 and 2012. Throughout that period, every tomorrow has been uncertain. America’s destiny, however, has always been clear: ever-increasing abundance. If you are a CEO who has some large, profitable project you are shelving because of short-term worries, call Berkshire. Let us unburden you. ************ In summary, Charlie and I hope to build per-share intrinsic value by (1) improving the earning power of our many subsidiaries; (2) further increasing their earnings through bolt-on acquisitions; (3) participating in the growth of our investees; (4) repurchasing Berkshire shares when they are available at a meaningful discount from intrinsic value; and (5) making an occasional large acquisition. We will also try to maximize results for you by rarely, if ever, issuing Berkshire shares. Those building blocks rest on a rock-solid foundation. A century hence, BNSF and MidAmerican Energy will continue to play major roles in the American economy. Insurance, moreover, will always be essential for both businesses and individuals – and no company brings greater resources to that arena than Berkshire. As we view these and other strengths, Charlie and I like your company’s prospects. Intrinsic Business Value As much as Charlie and I talk about intrinsic business value, we cannot tell you precisely what that number is for Berkshire shares (or, for that matter, any other stock). In our 2010 annual report, however, we laid out the three elements – one of which was qualitative – that we believe are the keys to a sensible estimate of Berkshire’s intrinsic value. That discussion is reproduced in full on pages 104-105. Here is an update of the two quantitative factors: In 2012 our per-share investments increased 15.7% to $113,786, and our per-share pre-tax earnings from businesses other than insurance and investments also increased 15.7% to $8,085. Since 1970, our per-share investments have increased at a rate of 19.4% compounded annually, and our per-share earnings figure has grown at a 20.8% clip. It is no coincidence that the price of Berkshire stock over the 42-year period has increased at a rate very similar to that of our two measures of value. Charlie and I like to see gains in both areas, but our strong emphasis will always be on building operating earnings. ************ Now, let’s examine the four major sectors of our operations. Each has vastly different balance sheet and income characteristics from the others. Lumping them together therefore impedes analysis. So we’ll present them as four separate businesses, which is how Charlie and I view them. 6
Insurance Let's look first at insurance,Berkshire's core operation and the engine that has propelled our expansion over the years. as those a 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. ve grown Year Float (in millions) 190 1.632 2000 27,871 Last year I told you that our float was likely to level off or even decline a bit in the future.Our insurance 13.cheve Oon the pu expect a further increas s will bet s float will alm st certainly grow. downward.If we do experience a decline in float at some future time.it will be very gradualat the outside no more than 2%in any year. of our exp Wh esand we register an ng prof that adds to theca prot aed.we enjoy the use of free money one Unfortunately,the wish of al insurers to ach e this happy resu ates inter to hold its float.Fore State F m.by far the st insurer and npany besides,incurred an the leven years.(Thei 2012 are not yet availabe)There area ot of ways to lose money inurae and the industry never ceases searching for new ones. As noted in the first section of this report.we have now operated at an underwritin rofit for ten consecutive years.our pre-tax gain for the period having totaled 18.6 billion.Looking ahead.I believe we will continue to underwrite profitably in most years.If we do.our float will be better than free money he ealeulations of intrinsie valt?When Rerkehire's book vall calculated,the fidl amount of our float is deducted as a liability.just as if we had to p ay it out tomorrow and were unable to replenish it.But that's an incorrect way to look at float.which should instead be viewed as a revolving und.If foa ring.which I believe Berkshire's will be,the true value of this liability is A partial offset to this overstated liability is $15.5 billion of "goodwill"that is attributable to our insurance companies and included in book value as an asset.In effect,this sents the price we paid for the float The cost of the goodw nng on its true underwniting losses.any goodwi
Insurance Let’s look first at insurance, Berkshire’s core operation and the engine that has propelled our expansion over the years. 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 collectnow, 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 quite 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 2012 73,125 Last year I told you that our float was likely to level off or even decline a bit in the future. Our insurance CEOs set out to prove me wrong and did, increasing float last year by $2.5 billion. I now expect a further increase in 2013. But further gains will be tough to achieve. On the plus side, GEICO’s float will almost certainly grow. In National Indemnity’s reinsurance division, however, we have a number of run-off contracts whose float drifts downward. If we do experience a decline in float at some future time, it will be very gradual – at the outside no more than 2% in any year. 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 is earned, we enjoy the use of free money – and, better yet, get paid for holding it. That’s like your taking out a loan and having the bank pay you interest. 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. This loss, in effect, is what the industry pays to hold its float. For example, State Farm, by far the country’s largest insurer and a well-managed company besides, incurred an underwriting loss in eight of the eleven years ending in 2011. (Their financials for 2012 are not yet available.) There are a lot of ways to lose money in insurance, and the industry never ceases searching for new ones. As noted in the first section of this report, we have now operated at an underwriting profit for ten consecutive years, our pre-tax gain for the period having totaled $18.6 billion. Looking ahead, I believe we will continue to underwrite profitably in most years. If we do, our float will be better than free money. So how does our attractive float affect the calculations of intrinsic value? When Berkshire’s book value is calculated, the full amount of our float is deducted as a liability, just as if we had to pay it out tomorrow and were unable to replenish it. But that’s an incorrect way to look at float, which should instead be viewed as a revolving fund. If float is both costless and long-enduring, which I believe Berkshire’s will be, the true value of this liability is dramatically less than the accounting liability. A partial offset to this overstated liability is $15.5 billion of “goodwill” that is attributable to our insurance companies and included in book value as an asset. In effect, this goodwill represents the price we paid for the floatgenerating capabilities of our insurance operations. The cost of the goodwill, however, has no bearing on its true value. For example, if an insurance business sustains large and prolonged underwriting losses, any goodwill asset carried on the books should be deemed valueless, whatever its original cost. 7
far in e xeess of its histor Berkshiresintrini business value substantially exceeds itsbook value. again that cos the PIC industry as nses.Con overall return on tangible equity has for many decades fallen far short of the average return realized by American industry.a sorry performance almost certain to continue. omlyond portoa deliverich higher yieldsthabealable he mdreinvesied ality adde to the ind during the next few years-and perhaps for many years beyond that.Today's bond portfolios are,in effect,wasting assets.Earings of insurers will be hurt in a significant way as bonds mature and are rolled ove 米常米常米常米常米常米本 Berkshire's outstanding economics exist only because we have some terrific managers running some extraordinary insurance operations.Let me tell you about the major units. First by f risks that no one else has the desire or the capital to take on.His operation combines capacity.speed,decisiveness and,most important.brains in a manner unique in the insurance business.Yet he neve ex ooses Berkshire to risks that are nappropriate in rel o our re Inde we are far more c n avoiding risk than most large a loss about tri g it has ever ey for the year because it has so many streams of eamnings.All other major insurers and reinsurers would meanwhile be far in the red,with some facing insolvency. significant cumulative underwriting rofit,a feat that no other insurance CEO has come close to matching.He has thus added a great many billions of dollars to the value of Berkshire.If you meet Ajit at the annual meeting.bow deeply. 米常米常米米米米案水案津 We have another reinsurance powerhouse in General Re.managed by Tad Montross. n.a sound insurance operation needs to adhere to four disciplines.It must (1)understand all cause a ss mhe n any exposure act ective loss costs and operating nses are covered:and (4)be willing to walk away if the er riat premium can't be obtained. Many that is being spells trouble in any business,but none more so than insurance
Fortunately, that’s not the case at Berkshire. Charlie and I believe the true economic value of our insurance goodwill – what we would happily pay to purchase an insurance operation producing float of similar quality – to be far in excess of its historic carrying value. The value of our float is one reason – a huge reason – why we believe Berkshire’s intrinsic business value substantially exceeds its book value. Let me emphasize once again that cost-free float is not an outcome to be expected for the P/C industry as a whole: There is very little “Berkshire-quality” float existing in the insurance world. In 37 of the 45 years ending in 2011, the industry’s premiums have been inadequate to cover claims plus expenses. Consequently, the industry’s overall return on tangible equity has for many decades fallen far short of the average return realized by American industry, a sorry performance almost certain to continue. A further unpleasant reality adds to the industry’s dim prospects: Insurance earnings are now benefitting from “legacy” bond portfolios that deliver much higher yields than will be available when funds are reinvested during the next few years – and perhaps for many years beyond that. Today’s bond portfolios are, in effect, wasting assets. Earnings of insurers will be hurt in a significant way as bonds mature and are rolled over. ************ Berkshire’s outstanding economics exist only because we have some terrific managers running some extraordinary insurance operations. Let me tell you about the major units. First by float size is the Berkshire Hathaway Reinsurance Group, run by Ajit Jain. Ajit insures risks that no one else has the desire or the capital to take on. His operation combines capacity, speed, decisiveness and, most important, brains in a manner unique in the insurance business. Yet he never exposes Berkshire to risks that are inappropriate in relation to our resources. Indeed, we are far more conservative in avoiding risk than most large insurers. For example, if the insurance industry should experience a $250 billion loss from some mega-catastrophe – a loss about triple anything it has ever experienced – Berkshire as a whole would likely record a significant profit for the year because it has so many streams of earnings. All other major insurers and reinsurers would meanwhile be far in the red, with some facing insolvency. From a standing start in 1985, Ajit has created an insurance business with float of $35 billion and a significant cumulative underwriting profit, a feat that no other insurance CEO has come close to matching. He has thus added a great many billions of dollars to the value of Berkshire. If you meet Ajit at the annual meeting, bow deeply. ************ We have another reinsurance powerhouse in General Re, managed by Tad Montross. At bottom, a sound insurance operation needs to adhere to four disciplines. It must (1) understand all exposures that might cause a policy to incur losses; (2) conservatively assess the likelihood of any exposure actually causing a loss and the probable cost if it does; (3) set a premium that, on average, will deliver a profit after both prospective loss costs and operating expenses are covered; and (4) be willing to walk away if the appropriate premium can’t be obtained. Many insurers pass the first three tests and flunk the fourth. They simply can’t turn their back on business that is being eagerly written by their competitors. That old line, “The other guy is doing it, so we must as well,” spells trouble in any business, but none more so than insurance. 8
Tad has obse ed all four of the it and it shows in his results Gen eal Da's hu ect that on aver age.it will continue to be.We are particularly enthusiastic about General Re's intemational life reinsurance business,which has achieved consistent and profitable growth since we acquired the company in 1998 米常米家米家米家来家米津 Finally,there is GEICO,the insurer on which I cut my teeth 62 years ago.GEICO is run by Tony Nicely who joined the company at 18 and completed 51 years of service in 2012. hi in accountin ru at the beginning of the year,we recorded a charge to GEICOs h或的hg ad e he write between GEICO's intrinsic valu GEICO earned its underwriting profit.moreover.despite the company suffering its largest single loss in dy,which cos eadi g mark the e Last year GEICO enjoyed a meaningful increase in both the renewal rate for existing policyholders (closures Big doll ars nde on thos $I billion.GEICO's ins in 2012 offer dra natic find they can save important sums.(Give us a try at 1-800-847-7536 or GEICO.com.Be sure to mention that you are a shareholder:that fact will usually result in a discount.) In addition to our three major insurance operations.we own a g un of smaller companies most of them plying their trade in odd comers of the insurance world.In aggregate,these companies have consi n underw r managers Late in 2012,we enlarged this group by acquiring Guard Insurance,a Wilkes-Barre company that write ousinesses.Guard's annual premiums total about $300 品 Underwriting Profit Yearend Float Insurance Operations 2012 2011 304 S714) s34.821 $33.728 General Re.. 35 144 20.128 19.714 GEICO. 680 76 11,57 11,169 Other Primary.......... 03y .y0 $1.625 $248 S73,125 s70,571 After a $410 million charge against earnings arising from an industry-wide accounting change. ations.Berkshire's im me as the best in the world.It was our lucky day when,in March 197 Jack Ringwalt sold ushis two property-casualty insurers for s8.6 million
Tad has observed all four of the insurance commandments, and it shows in his results. General Re’s huge float has been better than cost-free under his leadership, and we expect that, on average, it will continue to be. We are particularly enthusiastic about General Re’s international life reinsurance business, which has achieved consistent and profitable growth since we acquired the company in 1998. ************ Finally, there is GEICO, the insurer on which I cut my teeth 62 years ago. GEICO is run by Tony Nicely, who joined the company at 18 and completed 51 years of service in 2012. I rub my eyes when I look at what Tony has accomplished. Last year, it should be noted, his record was considerably better than is indicated by GEICO’s GAAP underwriting profit of $680 million. Because of a change in accounting rules at the beginning of the year, we recorded a charge to GEICO’s underwriting earnings of $410 million. This item had nothing to do with 2012’s operating results, changing neither cash, revenues, expenses nor taxes. In effect, the writedown simply widened the already huge difference between GEICO’s intrinsic value and the value at which we carry it on our books. GEICO earned its underwriting profit, moreover, despite the company suffering its largest single loss in history. The cause was Hurricane Sandy, which cost GEICO more than three times the loss it sustained from Katrina, the previous record-holder. We insured 46,906 vehicles that were destroyed or damaged in the storm, a staggering number reflecting GEICO’s leading market share in the New York metropolitan area. Last year GEICO enjoyed a meaningful increase in both the renewal rate for existing policyholders (“persistency”) and in the percentage of rate quotations that resulted in sales (“closures”). Big dollars ride on those two factors: A sustained gain in persistency of a bare one percentage point increases intrinsic value by more than $1 billion. GEICO’s gains in 2012 offer dramatic proof that when people check the company’s prices, they usually find they can save important sums. (Give us a try at 1-800-847-7536 or GEICO.com. Be sure to mention that you are a shareholder; that fact will usually result in a discount.) ************ In addition to our three major insurance operations, we own a group of smaller companies, most of them plying their trade in odd corners of the insurance world. In aggregate, these companies have consistently delivered an underwriting profit. Moreover, as the table below shows, they also provide us with substantial float. Charlie and I treasure these companies and their managers. Late in 2012, we enlarged this group by acquiring Guard Insurance, a Wilkes-Barre company that writes workers compensation insurance, primarily for smaller businesses. Guard’s annual premiums total about $300 million. The company has excellent prospects for growth in both its traditional business and new lines it has begun to offer. Underwriting Profit Yearend Float (in millions) Insurance Operations 2012 2011 2012 2011 BH Reinsurance . . . . . . . . . $ 304 $(714) $34,821 $33,728 General Re . . . . . . . . . . . . . 355 144 20,128 19,714 GEICO ................ 680* 576 11,578 11,169 Other Primary . . . . . . . . . . 286 242 6,598 5,960 $1,625 $ 248 $73,125 $70,571 *After a $410 million charge against earnings arising from an industry-wide accounting change. Among large insurance operations, Berkshire’s impresses me as the best in the world. It was our lucky day when, in March 1967, Jack Ringwalt sold us his two property-casualty insurers for $8.6 million. 9
Regulated,Capital-Intensive Businesses We have two maior that have im this letter and split out their combined financial statistics in our GAAP balance sheet and income statement. egulated assets with these partially funded by large amounts of long-term debt that is guar .Our credit is in fact not needed because each business has earning power that even under terrible conditions amply covers its interest mple.BNSF's in erest coverage was 9. K.(Our de At Mide Is pre-tax momy-use all ci deeply flav compans recession-resistant eamings.which result from our exclusively offering an essential service,and itsgreat diversity of earnings streams,which shield it from being seriously harmed by any single regulatory body. Every day.our two subsidiaries power the American economy in major ways .BNSF carries about 15%(measured by ton-miles)of all inter-city freight.whether it is transported by ter.air,or pipeline.Indeed,we move more ton-miles of goods than anyone else.a fact BNSF also moves its cargo in an extraordinarily fuel-efficient and environmentally friendly way,carrying a ton of freight about 500 miles on a single gallon of diesel fuel.Trucks taking on the same job guzzle about four times as much fue MidAmerican's electric utilities se e regulated retail customers in ten states.Only one utility holdin company serves more states.In addition,we are the leader in renewables:first,from a standing start nine Proiects like these require huge canital investments inon comnletion indeed our renewables nortfolio will have cost $13 billion.We relish making such commitments if they promise reasonable returns-and on that front,we put a large amount of trust in future regulation and b will fo massive investment in both transportation and enery.It is in the slf-interest of governments to treat capital providers in a manner that will ensure the continued flow of funds to essential projects.And it is in our self-interest to conduct our operations in a manner that eams the approval of our regulators and the people they represent. s must think today of what the cor y will need far down the road fne and transportation projects can take many years to come to fruition:a growing country simply can't afford to get behind the curve. We gour part to make su happen.Whatever you may have heard abouto uence of huge investments by the industry.We are not.however.resting on ou aures:BNSF will spend about 5 billion on the railroad in2013.roughly double its depreciation charge and more than any railroad has spent in a single year
Regulated, Capital-Intensive Businesses We have two major operations, BNSF and MidAmerican Energy, that have important common characteristics distinguishing them from our other businesses. Consequently, we assign them their own section in this letter and split out their combined financial statistics in our GAAP balance sheet and income statement. A key characteristic of both companies is their huge investment in very long-lived, regulated assets, with these partially funded by large amounts of long-term debt that is not guaranteed by Berkshire. Our credit is in fact not needed because each business has earning power that even under terrible conditions amply covers its interest requirements. In last year’s tepid economy, for example, BNSF’s interest coverage was 9.6x. (Our definition of coverage is pre-tax earnings/interest, not EBITDA/interest, a commonly-used measure we view as deeply flawed.) At MidAmerican, meanwhile, two key factors ensure its ability to service debt under all circumstances: the company’s recession-resistant earnings, which result from our exclusively offering an essential service, and its great diversity of earnings streams, which shield it from being seriously harmed by any single regulatory body. Every day, our two subsidiaries power the American economy in major ways: Š BNSF carries about 15% (measured by ton-miles) of all inter-city freight, whether it is transported by truck, rail, water, air, or pipeline. Indeed, we move more ton-miles of goods than anyone else, a fact making BNSF the most important artery in our economy’s circulatory system. BNSF also moves its cargo in an extraordinarily fuel-efficient and environmentally friendly way, carrying a ton of freight about 500 miles on a single gallon of diesel fuel. Trucks taking on the same job guzzle about four times as much fuel. Š MidAmerican’s electric utilities serve regulated retail customers in ten states. Only one utility holding company serves more states. In addition, we are the leader in renewables: first, from a standing start nine years ago, we now account for 6% of the country’s wind generation capacity. Second, when we complete three projects now under construction, we will own about 14% of U.S. solar-generation capacity. Projects like these require huge capital investments. Upon completion, indeed, our renewables portfolio will have cost $13 billion. We relish making such commitments if they promise reasonable returns – and on that front, we put a large amount of trust in future regulation. Our confidence is justified both by our past experience and by the knowledge that society will forever need massive investment in both transportation and energy. It is in the self-interest of governments to treat capital providers in a manner that will ensure the continued flow of funds to essential projects. And it is in our self-interest to conduct our operations in a manner that earns the approval of our regulators and the people they represent. Our managers must think today of what the country will need far down the road. Energy and transportation projects can take many years to come to fruition; a growing country simply can’t afford to get behind the curve. We have been doing our part to make sure that doesn’t happen. Whatever you may have heard about our country’s crumbling infrastructure in no way applies to BNSF or railroads generally. America’s rail system has never been in better shape, a consequence of huge investments by the industry. We are not, however, resting on our laurels: BNSF will spend about $4 billion on the railroad in 2013, roughly double its depreciation charge and more than any railroad has spent in a single year. 10
In Matt rose at RNSE and Greg Abel at Midameric tstanding CEOs They extraordinary ma who have develoned usineses tat serve hoth their customers and owuers well Each has my gratitude and each deserves yours.Here are the key figures for their businesses: MidAmerican (89.8%owned) Earings (in millions) 2012 2017 U.K.utilitie 468 236 279 Western utilities 73 77 Pipelines 381 meservices..................................... r (net) Opera ting earnings before corporate interest and taxes ,95 1.982 Income taxes 172 315 Net earnings S1472 S1331 Earnings applicable to Berkshire $1.323 S1.204 BNSE S20.835 1054 expenses 14835 1424 ings before interest and taxes 5.301 560 Income taxes 2.005 1.769 Net earnings S3.372 s2.971 eved readers will notice an incongruity in the midamerican earnings tabulation.What in the world haeateokerae eidoinid"eltdCaninal-ntensive is HomeSer Businesses? Well its o n2000 At tha time,I focused on MidAmerican's utility operations and barely noticed HomeServices.which then owned only a few real estate brokerage companies. 6.icinstedin $4 billon of home salesu compni y00 reside P 67 of the Prudential and Real Living fran chis their sales We have ment to purchase the balance of those rations within five ears.In the comin eewill gradually rebrand both our franchisees and the fanchise firms we ow as Berkshire Hathaw the hou ke Ron peltic expect earings to rise significantly. ing a depressed period.Now,as
In Matt Rose, at BNSF, and Greg Abel, at MidAmerican, we have two outstanding CEOs. They are extraordinary managers who have developed businesses that serve both their customers and owners well. Each has my gratitude and each deserves yours. Here are the key figures for their businesses: MidAmerican (89.8% owned) Earnings (in millions) 2012 2011 U.K. utilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 429 $ 469 Iowa utility . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 236 279 Western utilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 737 771 Pipelines . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 383 388 HomeServices . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 82 39 Other (net) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91 36 Operating earnings before corporate interest and taxes ................... 1,958 1,982 Interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 314 336 Income taxes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 172 315 Net earnings .................................................... $ 1,472 $ 1,331 Earnings applicable to Berkshire .................................... $ 1,323 $ 1,204 BNSF Earnings (in millions) 2012 2011 Revenues ....................................................... $20,835 $19,548 Operating expenses ............................................... 14,835 14,247 Operating earnings before interest and taxes ........................... 6,000 5,301 Interest (net) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 623 560 Income taxes .................................................... 2,005 1,769 Net earnings .................................................... $ 3,372 $ 2,972 Sharp-eyed readers will notice an incongruity in the MidAmerican earnings tabulation. What in the world is HomeServices, a real estate brokerage operation, doing in a section entitled “Regulated, Capital-Intensive Businesses?” Well, its ownership came with MidAmerican when we bought control of that company in 2000. At that time, I focused on MidAmerican’s utility operations and barely noticed HomeServices, which then owned only a few real estate brokerage companies. Since then, however, the company has regularly added residential brokers – three in 2012 – and now has about 16,000 agents in a string of major U.S. cities. (Our real estate brokerage companies are listed on page 107.) In 2012, our agents participated in $42 billion of home sales, up 33% from 2011. Additionally, HomeServices last year purchased 67% of the Prudential and Real Living franchise operations, which together license 544 brokerage companies throughout the country and receive a small royalty on their sales. We have an arrangement to purchase the balance of those operations within five years. In the coming years, we will gradually rebrand both our franchisees and the franchise firms we own as Berkshire Hathaway HomeServices. Ron Peltier has done an outstanding job in managing HomeServices during a depressed period. Now, as the housing market continues to strengthen, we expect earnings to rise significantly. 11
