mr. Buffett my name is Pete Braun from Columbus Ohio Class B shareholder I had a couple questions if I could the first is I don't have a very good idea in my mind how our typical insurance operations work I mean in particular how money leaves the insurance pool and enters the investment pool and how our operations are different than the typical run-of-the-mill insurance operation you know around the country why are we able to generate so much more float than then you know the XYZ company you know somewhere else and a second question is it kind
of goes back to an article you wrote for Fortune magazine back in the late 70s about the effect of inflation on equity values and that sort of thing and in it you asserted that stocks were in businesses were really like bonds they just had their own par and the par being the average 12% return on equity that companies have averaged you know a company that's better than that has assets that are worth way more than 100 cents a dollar company does less you know will be less correspondingly my question is when you're projecting cash flows
of a company as a prospective investment why would you use the going insurer interest rate you know of risk-free Treasury bills why wouldn't you use the sort of opportunity cost to discount it that may be Charlie was referring to maybe 12% return on equity of average corporations maybe you know your 15% goal may be Coca Cola's return on equity is that comparison I mean doing that would dramatically change the value of the company that you're that you're you know evaluating as I'm sure you know why would you use the risk-free rate is my question the
risk-free weight is used merely to equate one item to another in other words we're looking for whatever is the most attractive but in in terms of present valuing anything we've got it we're going to use a number and and obviously we can always buy the government bonds so that that becomes the yardstick rate it doesn't mean we want to buy government bonds it doesn't mean we want to buy government bonds if the best thing we can find is only has a present value that works out at a half percent a year better than the government
bond but it it's the appropriate yardstick in our view to simply use to compare across all kinds of investment opportunities oil wells farms whatever it may be now it gets into degree of certainty - but that but it it is it's the yardstick rate it's not it's not because we want to buy government government bonds but it does it does serve to make that a constant throughout the valuation process in our insurance business we really have a group of insurance businesses and and they have different characteristics the consistent characteristic actually is that they're all very
very good businesses some of them are a lot larger and have opportunities to get larger and some were not so large and and have limited opportunities in terms of growth but every insurance operation we have is a distinct asset to Berkshire we've got smaller workers comp operation we've got we've got a credit operation credit card operation we've got a home state operation we have all these different business Kansas bankers sureties whatever they're all good businesses some of them don't develop a lot of flow relative to premium by him the nature of Kansas bankers surety is
that it won't develop a lot of flows just happens to be the kind of business they write the nature of cop is that it develops more float because comp claims pay more slowly we you really should think of each one those having different characteristics Geico is entirely different than super cat business they're both good businesses in terms of how we invest the money when it comes in we invest it when it comes in I mean it is we'll get a large super cat premium today it's invested now if we have a claim tomorrow then we
disinvested you know and in a substantial way if you take something like Geico the cash flow is always going to be positive probably on that you know we won't have another Hurricane Andrew because we've backed out of the homeowners business to quite an extent so month by month but the money comes in at a Geico and the faster it grows the more the money that comes in we have so much capital that we can basically put that money into whatever makes the most sense for Berkshire so we have none of the either the mental or
psychological constraints though they are regulatory constraints that that the that many insurance companies operate under then many of them think they sort of should have this portion of this and this portion of that and so on investments usually play second fiddle to the insurance business at most companies that are in the insurance business we look at them as being of equal importance and we run them as two distinct businesses we do whatever makes the most sense on the investment side whatever makes the most sense on the insurance side we never do anything on the investment
side that will impinge on our business on the insurance side but you really should look at each one of our businesses separately Geico has entirely different characteristics than the Supercat business they both call themselves insurance they both develop float but in economic terms and in terms of competitive strengths and that sort of thing they're two very different businesses and our smaller businesses are different businesses some of those may grow reasonably well well we'll keep working on Charlie you look at a corporate stock it's obvious you can buy any maturity of government bond you want so
one opportunity cost of buying the stock is to compare it with the bond what you may find that half the stocks in America you're so fearful about or know so little about or think so poorly of that you you'd rather have the government bond so on opportunity cost basis they're taken out of the filter now you start finding corporations where you like the stocks way better than in government bonds you got to compare them one against the other and when you find one that you regard as the best opportunity that you can understand it's the
best opportunity now you've got one to buy it's a very simple idea it uses nothing but the most elementary ideas from from economics or game theory that's it's just it's child's play as a mental process now it's hard to make the business appraisals but the mental process is essential if Charlie and I were forced told we had a choice of buying stock a B C or D and all 2,500 or 3,000 or whatever may be listed on their stock change or buying a 10-year government bond we had to hold the stock for ten years to
the bond for ten years probably at least 80% of the cases we take the ten-year government you know many cases because we didn't understand the business well enough elsewhere secondly we may understand and still prefer the 10% government so but we would measure everything that way and and I don't know what you come up with 80% or where Charlie desert-island 10 years get the fondle a stock certificate or fondle a government bond which one you gotta choose life is a whole series of opportunity cost you know you got to marry the best person who is
convenient to find will have you investment is much the same sort of a process I knew we get in trouble after lunch [Laughter]
