Every year, thousands of investors flock to Omaha to hear the wisdom of Warren Buffett and Charlie Munger.

For as long as six hours, with only one break for lunch, the two business legends take questions from investors, the press, and analysts.

Appropriately for a shareholders meeting, the focus is the business of Berkshire Hathaway (BRK.A 0.58%) (BRK.B 0.38%), but it's not the only topic they discuss. This year, they also talked about Geico, Nebraska Furniture Mart, See's Candies, Iscar, Berkshire's size, the future of the company, and the stocks Warren Buffett has been buying

They also weighed in on Coca-Cola's management compensation, quantitative easing, driverless cars, Canadian oil sands, and the nature of corporate boards — all the while chomping on fudge, eating peanut brittle, and drinking Coke.

To cover the event, we sent eight analysts to Omaha. This is a compilation of our notes from the six-hour session.

It's not an official transcript. But we've captured the essence of the event, and we hope you find this a useful, enjoyable read.


Coca-Cola has an excessive compensation plan, but you didn't tell shareholders before the meeting. Had it been disclosed earlier, we might have voted differently. You abstained, and you must have your reasons. Why did you engage in this strange and un-Buffett-like behavior?

Warren: Some people think that strange and un-Buffett-like are not different. The proposal was made by a shareholder opposed to the option program. His calculations of dilution were wildly off, and we didn't care to get into a discussion of that.

But I did talk to Muhtar Kent, and I told him that we would abstain. I told him that I admired the company, but the compensation was excessive. Immediately after, we announced that we had abstained and explained why. I think that is the most effective way of behaving for Berkshire.

We made a very clear statement about the excessiveness of the plan, but without going to war with Coca-Cola. And, we didn't endorse inaccurate calculations, or join forces with someone that I hadn't interacted with. If you're going to war, you want to know what that alliance might be. I think the best outcome was achieved by our abstention.

Charlie: I think you handled the whole situation very well.

Warren: Charlie was the only person that I discussed the vote with beforehand. I told him about the plan, and we agreed on the course of action.

In fairness to David Winters, he took figures from the Coca-Cola proxy statement, but for those of you that would like to think it through ... Coca-Cola has regularly repurchased shares issued by options, so the share count has come down a little. The plan is 500 million shares, and they expect to issue them over four years (leaving out the difference between performance shares and options) ... let's assume Coca-Cola is $40 per share, and all options are issued at $40 strike, and when they are exercised, the stock is $60 per share. At that point, there has been a $10 billion transfer of value. Now, the company gets a tax deduction of $10 billion; at present rates, that would result in $3.5 billion in tax savings. Add in $20 billion for the exercise of options, and Coca-Cola will receive $23.5 billion. So at $60 per share, KO could buy back a lot of shares — 392 million shares. So the dilution would be 108 million shares, or 2.5% dilution.

I don't like it, but it's not as bad as has been suggested.

Berkshire has a track record of buying successful businesses and leaving them alone. 3G Capital is a more activist owner. Would Berkshire hire a 3G alumnus to run a Berkshire subsidiary?

Warren: I don't think the two blend very well. But I think 3G does a magnificent job. I've watched them from afar in the past and up close recently. No question a different style that wouldn't pay to blend. But we see more opportunity to partner, and will jump at it. They are as able as anyone in managing business and are marvelous partners, more than fair. Perhaps for things that are very large, we are likely to partner, but we have a system that works very well for us. Managers that join Berkshire are joining a business unlike any other, that's a huge corporate asset that will continue to grow, and we want to maintain that with a clear message that goes beyond my lifetime.

Charlie: Well, I don't think we've ever had a policy of overstaffing.

Warren: I only slightly disagree. We certainly don't have a policy of overstaffing at the home office. We have not enforced or attempted to enforce a strong discipline on every subsidiary on whether they have a few too many people. Most don't — they are often lean. But not everyone is, and we encourage by example, not by edict.

Charlie: I think a lot of businesses have spillover and excess, but I don't think that's a problem of ours.

The president's approval rating is at 40%. Steve Wynn says President Obama is the biggest wet blanket on the economy. The train is going in the wrong direction. Can you conduct Obama to change the train's direction?

Warren: I think I'll let you communicate with him directly (laughs). I disagree with many things you've said here. I think American business is doing extraordinarily well. I think Obama cares more than others would. But that's politics, and we're not going to convince each other. But if you're worried about corporations, you should look at the history of corporate taxes and earnings since World War II. If you look at returns on net tangible assets, we're the envy of the world. Corporate taxes rates are lower now than throughout much of Charlie and my career. At one point, we paid something like 52%. But I'll call a truce with you on that point.

Charlie: I don't like this one.

Warren: And people complain about me abstaining!

You've stated that if management isn't able to beat the S&P, it isn't doing a great job. You missed the opportunity to tackle the issue of missing the latest rolling five-year result in your letter.

Warren: We're not changing the yardstick. We said in the 2012 report (upper half of first page) that we do worse in good years and better in bad years. We said if the market went up again in 2013, we would break our streak. It was obvious.

But only two years in the last 40 the market went up more than in the past years. So despite things said about Obama, the market has done well. In up years, we'll underperform, we'll outperform in down years, and over any cycle, we'll outperform, I think. But, I did say we might have a five-year streak of underperformance.

Charlie: You would remember that Warren's standard looks at the value of Berkshire on an after-tax basis, where the indices look before tax. So if you look at Berkshire over the past five or six years, we've grown value 50-60%. Consider that a business failure?

You've indicated Berkshire is trading at a discount to intrinsic value. What can you do to close the gap? Would you consider an initial public offering for individual Berkshire business units?

Warren: The answer to last part is no. I think we try to explain... I've never seen another annual report that talks about intrinsic value as much as Berkshire. Charlie and I devote considerable effort to explaining, particularly when there is a big difference between carrying value and intrinsic value.

I got very specific in the case of Geico — it is carried at $1 billion over tangible assets, but it's probably worth over $20 billion, and that will likely increase. We have said we'll repurchase shares at 120% of book. We don't have an exact number because we don't know, and it changes a little day to day. Charlie and I would be within 5% on our estimates of intrinsic value, but not within 1%.

We will continue to give updates on the big units and how it affects intrinsic value because they make the biggest difference. Our big ones are in our insurance businesses and our utility businesses. We try to give you the numbers and words that we think in. And the buyback threshold of 120% of book value is a loud shoutout that we think the stock is very undervalued.

If you look at Coca-Cola, we don't think buying shares to cover options is ideal. If you buy a dollar for $0.90, you've done well, if you buy a dollar at $1.10, you've done poorly.

Charlie: I don't think we've ever wanted to get the stock way over intrinsic value, so we can issue it to others. We're not in the game of issuing stock in order to profit ourselves, or push stock way above intrinsic value.

Warren: We watched a lot of managers attempting to sell their stock for more than it was worth to trade for other companies. That is one of the reasons that I wound up my partnership. It was really a game some people cheated at. It works in the short term. Some companies that you know do it. We find it very distasteful. We don't want to come close to playing that. Unless we move on, Charlie will start to name names, so we better move on!

Berkshire is known to buy companies for many years. But that wasn't the same earlier in your career. What do you do to gain the trust of founders/owners of companies you've bought out in the past?

Warren: We have kept our word. We are careful about what we promise. We can't promise not to have a layoff. We can promise not to sell the business unless it has significant loses or labor problems. We do keep certain businesses that you wouldn't get a passing grade in business school if you wrote down your reasons. We keep them because we made a promise, which we write in the back of our annual report.

We can't make the promise we'll never break employment or sell a business, but we can keep the promise not to sell unless there is the prospect of unending losses or labor problems. If we didn't keep our promises, word would get around. We have put ourselves in a class by ourselves for people that care about their business. It doesn't matter to private equity — they don't care. But some founders do care about the future of their businesses. They don't want to see them torn apart by a few MBAs that want to show their stuff.

We have a unique asset in Berkshire, and we'll maintain it as long as we behave ourselves. Its valuable, and it's how we like to operate.

Charlie: Obviously, we behave the way we do because we like doing it. We're doing pretty well, and we're unlikely to stop.

Warren: You can tell he doesn't get paid by the word.

Your son Howard serves on the board of Coca-Cola, but voted for the compensation plan you said you didn't like. Howard is going to be non-executive chairman of Berkshire after you and will "defend the culture." How can we be comfortable with the different stance?

Warren: I have voted for some compensation plans and acquisitions that I didn't like. The nature of boards is that they are part business organizations, and part social organization. And people use their business brain and their social brain. In 55 years of being on corporate boards of 19 companies, I don't think I've ever seen a compensation report get a dissenting vote.

The board organizes itself in a way that tasks are delegated, such as a comp committee, and the committee reports on its activities. And, you've delegated to that committee.

The so-called independent directors are receiving $200,000 to $300,000 per year, but they are not independent. How would you feel about going to work 4-6 days per year with pleasant company, prestige, and pay of $300,000 per year? I'm assuming you'd like to get another job like that.

Companies are not looking for Dobermans on the board, they are looking for Cocker Spaniels. Social dynamics are important in boards.

Howard has a dedication to the culture at Berkshire. His job is not to set the compensation. He is there to facilitate a change if the board of directors decides it is needed. It is a nice safety valve.

And, as I said, I voted for compensation plans that are far from what I would have designed myself. I was made chairman of one comp committee, and Charlie can tell you about that.

Charlie: Warren was chairman at Salomon. People didn't like what he was doing. I think the general idea that people should shout about everything they disapprove of is just suspect. You have to choose your battles. I don't think you need to worry about Warren. And, if we all screamed about everything we disapproved of, we wouldn't be able to hear each other.

Warren: If you are in any social organization, if you keep belching at the dinner table, you'll be eating in the kitchen. You need to pick your spots and how you do it. It's not even a bad thought to keep in mind for marriage. It's hard to change others' behavior, and it's not helped by shouting.

Charlie: I can tell you that is true.

Berkshire has done a good job of earning outsized returns, but as you've said, that's harder as you get bigger. What's your cost of capital? How much confidence do you have that your successors can earn more than that?

Warren: There is no question that size is an anchor to performance. We intend to prove that up to the point that it really starts biting. We can't earn the same returns on capital with over $300 billion in market cap. Archimedes said he could move the world with a long enough lever. I wish I had his lever.

Our cost of capital is the production of our second-best ideas. I have listened to so many nonsensical cost-of-capital discussions. I have heard CFOs talk about it, but nobody knows what it is. The real test is whether the capital that we retain generates more in market value than is retained. If we keep billions, and the present value is more than we're keeping, we'll do it. We bought a company yesterday because we thought it was the best thing that we could do with $3 million on that day.

I have never see a CEO want to a do a deal where the CFO said it didn't exceed the cost of capital. We can evaluate businesses, and we have capital, and we have things we can sell (marketable securities, not businesses), and we're constantly comparing. I have heard a lot of nonsense about cost of capital.

Charlie: A phrase like cost of capital means different things to different people. We just don't know how to measure it. Warren's way of describing it, opportunity cost, is probably right. The answer is simple: we're right and you're wrong.

You were able to purchase Nebraska Furniture Mart for 85% of book value, or 2 times earnings. Can you reflect on how you bought a wonderful business for a wonderful price?

Warren: I wish we had bought it that cheap. We paid at the time, as I remember, probably 11-12 times earnings. It wasn't a discount to book. We bought 80% on the basis of $60 million (100% value). We ended up with 80% of the company. The $60 million total value would've been more than book. Pre-tax margins were in the 7% range, probably 4% after-tax. So it wasn't a bargain purchase, but it was a wonderful business and a chance to partner with a wonderful family. I gave the contract to Ms. B. She didn't read it. I didn't ask for audited financial statements. I just asked if they owned the building and if they owned any money. But, if you want a bargain, check out Nebraska Furniture Mart!

We own the largest furniture stores in Sacramento (and three or four other cities). But we did $7.8 million on Tuesday, more than the monthly sales in any other city. I predict the Dallas store will do 2 times the sales of the largest furniture store in the world. They are putting in sidewalks, streets, and I visited recently. Michelle showed me around. She started as a cashier, and now she's in charge of this multimillion project. That's the great thing about America. And, I learned that her No. 2 was her husband. That must make for interesting pillow talk!

You stated in your annual letter that your will instructs your trustee to put money for your wife into an index fund. Why didn't you instruct the money to be put into Berkshire shares?

Warren: That question didn't come from Vanguard (laughs)!

When I die, all my Berkshire shares will go to five foundations. There are no shares that haven't been designated mentally. They will be distributed over the years as my estate is wrapped up. I told the trustees to hold these shares. The 12 years after my death are as bullish as possible.

In terms of my wife's situation, that is not a question of maximizing capital. It's about 100% peace of mind for something that can't get a bad result. She has more money than she can spend. It is not designed for her to get more capital. The part that I care about maximizing for is the charities, which I have told not to sell Berkshire stock for 12 years.

Charlie: Well, Warren is peculiar in the way he distributes money, and I think he's entitled to do what he damn pleases. Warren is really something of a meritocratic. He's returning his money, in Berkshire shares, to the civilization from where he earned it. I like being associated with that.

Burlington Northern Santa Fe (BNSF) has done very well since Berkshire bought it, but its competitor Union Pacific has done even better. Can you give some insight into the differences? Is there a big enough margin of safety if there are negative economic circumstances at BNSF?

Warren: No question that we've had a lot of service problems in our northern routes. We have been spending more money than Union Pacific to anticipate the problems that can occur with big increases in volume on a single route — from the boom in the Bakken shale. We've got a lot of trains running over those things that weren't running years ago. I will let Matt Rose address questions about issues with cold weather.

Matt Rose (Chairman, BNSF): Last year industry grew about 8,000 units, BNSF handles 58% of it. It's not what we wanted, it's what happened and we invested to deal with the rapid clip. I have never seen a winter like the last one — multiple days didn't get over zero, and I think there were about 83 inches of snow.

It's an outdoor sport, but when we get to terrible cold, things just don't work. But things are getting better. Last week, we handled 205,000 units, and no railroad has ever handled that much.

Warren: We will spend $5 billion on the railroad. No railroad will ever do that. I got a letter from North Dakota, and they were having trouble getting fertilizer. I sent the letter to Matt, and we'll get the fertilizer there. Cold is tough. You're dealing with 22,000 miles of track, and if you get weak links... which is Chicago for all the railroads... it hurts. Compared to financials in recent months, we've been paying attention, and I feel they will be getting better for the remainder of the year.

This past winter, natural gas in storage has reduced. How do we ensure there is enough gas, and sell electricity to achieve an attractive return?

Warren: I will ask Greg Abel to be more specific. But we are the largest generator of alternative sources. By 2014, I think we can produce 40% of our needs in Iowa via wind. Greg would know more about the mix in natural gas, the mix, shift from coal....

Greg Abel (CEO, Berkshire Hathaway Energy): So, like Matt touched on, our systems were challenged in a big way, and we're proud of how we handled it. For our system, we're concerned about both keeping the furnaces on and the lights on. It's something we'll be watching, having enough natural gas as the U.S. consumes more. One thing Warren noted: 39% of our generation Iowa was wind. We're also mindful of protecting the financials the underlying biz while looking at alternatives and meeting customer needs.

Warren: The company that Greg runs has many subsidiaries. we move about 8% of the gas in the country. We have just changed the name to Berkshire Hathaway Energy. It's a point of pride of that the pipeline that supplies Omaha with natural gas... when it was purchased from Enron, it was ranked 42nd among pipelines... today it is ranked first.

Has the board discussion turned to replacing your friend and vice chairman Charlie Munger?

Warren: Charlie is my canary in the coal mine. Charlie turned 90, and I find it encouraging how well he is handling middle age. I hope to do the same thing myself. They always talk about replacing me, but they never talk about replacing Charlie.

Whoever replaces me will probably find someone they work closely with. we saw it with Don Keough and Roberto Goizueta at Coca-Cola and Tom Murphy and [Dan] Burke at Capital Cities. They worked better together, and I think partnership enhances things. But, frankly, I have a lot of trouble thinking of anyone that could replace Charlie.

Charlie: I don't think the world has much to worry about. Most 90-year-old men are gone soon enough.

Matt Rose recently shifted from CEO of BNSF to executive chairman. Does that change anything at Berkshire? What about succession for Ajit Jain?

Warren: The only succession for Ajit will be reincarnation. We won't get another Ajit, but fortunately we won't have to anytime soon. The situation with Matt doesn't have any implication for Berkshire.

I have letters from every one of our managers telling me what I should do if something happens to them. I have their ideas. I wouldn't try to discern anything about parent-company succession based on subsidiary succession.

Charlie: I don't worry over the fears of succession problems. Folks have worse problems in life. We're doing very well.

You said in 2009 if you had to invest your wealth in just one company, it'd be Wells Fargo. What would you say today?

Warren: I would've answered Berkshire (if allowed). I wouldn't quarrel with Wells Fargo. That's a great question, but it's not going to get an answer.

Charlie: No, I think you gave exactly the right answer.

In other companies, the compensation is listed for top five execs, but for Berkshire it's only three. I think it'd be useful to add two execs from the subsidiaries to let shareholders know how they're being compensated. Would you be willing to add that in recent years. How much should the next CEO of Berkshire be paid?

Warren: The answer to the last question is "a lot." I'm going to write about that question in the annual report next year.

Regarding compensation disclosure, we are following the SEC rules. In my sporting mood, I'd say Comcast has people that exceed the salaries of the people listed in the proxy statement. Is it in the interest of shareholders to disclose who hosts the local news? I would say they would be hurt if you published the five highest salaries paid. I think that's a good reason for not publishing the salaries for our top 10 managers.

At Salomon, every was dissatisfied with their pay and they got enormous amounts. They were disappointed because they looked at others, and it drove them crazy. Our first big crisis was when management a secret deal that John Meriwether and his crew got paid a lot of money. When that happened, it made compensation an even bigger problem.

It is very seldom that publishing compensations does much for shareholders. CEOs would be paid less if proxy statements didn't reveal comp. It's only natural to use that information to negotiate and ask for more.

Charlie: You're asking for something that's going to not be good for shareholders, and that's why we don't do it. It's not going to happen unless the SEC asks for it.

Warren: No CEO looks at proxy statements and comes away thinking that I should be paid less. Charlie, have you seen that?

Charlie: I would say that envy is doing the country harm.

Was there something that stopped Berkshire from using more cash (rather than debt) to complete recent energy acquisitions? And, why does MidAmerican retain all of its earnings, and BNSF continue to make distributions to Berkshire, while taking on debt to fund expansion?

Warren: Berkshire Hathaway Energy will have multiple opportunities to buy other businesses. I spent a lot on NV Energy, and we spent a lot of transmission lines in Alberta. At BNSF, we will spend a lot of money to have the best railroad, but we won't be buying other businesses. And, BNSF will make distributions, and it can easily handle the debt.

At Berkshire Hathaway Energy, we have the appropriate level of debt, so to expand we need cash from retained earnings and shareholders. If we need more money, we will have a pro rata subscription. I hope that more possible deals for Berkshire Hathaway Energy come along. We may invest many billions there. We will invest billions at the railroad, but not for new businesses. We have spent $5 billion on acquisitions roughly, and we spent another $2.8 billion in PP&E in the first quarter. We are funding things to sop up the cash.

We will always have $20 billion in cash on hand. We will never depend on the kindness of strangers. We don't have bank lines. There could be a time when we won't be able to depend on anyone. We have built Berkshire for too long to let that happen.

We lent money to Harley-Davidson at 15% when interest rates were 0.5%. Cash or available credit is like oxygen: you don't notice it 99.9% of the time, but when its absent, it's the only thing you notice. We will never go to sleep at night without $20 billion in cash. Beyond that, we will look for good opportunities. We never feel a compulsion to use it, just because it is there.

Charlie: I think we're very lucky to have these businesses that can deploy a lot of new capital at very respectable rates. Earlier, we didn't have these opportunities. Now that we're much more affluent, we do. It's a blessing. Who wouldn't want that opportunity? We love the opportunity to deploy more capital into companies like MidAmerican [Berkshire Hathaway Energy] or BNSF.

Warren: And, we love deploying significant capital with 3G at Heinz. Eventually, compound interest will catch up with us, but it hasn't dealt us that bad a blow yet.

How do you wrestle with operating companies retaining or sending cash to headquarters? Do you and Charlie ever fight or argue? How do you manage your partnership?

Warren: Charlie and I have never had an argument. We met when I was 29 and he was 35. We have disagreed on a lot of things, but it never has and never will lead to an argument. We argue with other people. It just never has occurred. I called Charlie about the [Coca-Cola] proxy statement.

Charlie: That's one of the problems. Most the time we think alike. If one us misses, the other one will too.

Warren: No question. If you look at the really bad mistakes, I've made them. I'm a little more inclined toward action. would you say that's true, Charlie?

Charlie: Well, you once called me the "abominable no-man."

Warren: We don't care too much where $20 billion minimum is. We don't count the money in a regulated businesses. We count the money that we could make a phone call and get. ... We don't have sweep accounts, though we might have in the future. We maybe could earn a 0.5% more if we did. But, for anything that I need cash for, I know where it is coming from. We could change that someday. My successor probably would. We are not big disciplinarians. We don't really feel that way. I'm thinking of one company, and every 3-4 years, its managers sends me some cash. But, if I asked for it, he could give it to me. I sort of adapt, except when we really need the money.

Charlie: It's fine.

In an interview in April, you said "I hope we'll get questions that'll probe at our weak points." My question is what are your weak points, and what can you do to address them?

Warren: That would spoil all the fun for the journalists! We point them out, though. I would say if we executed a sweep account for all our subsidiaries some years ago we'd have a few more dollars now. Who knows what they're doing with some of those balances. We are very disciplined in some ways, and sloppy in other ways. A clear weak point, I am slow to make personnel changes. I like our managers. Charlie and I had a friend, couldn't be a greater guy, we were slow to make a change there. how long would you say we went there, Charlie?

Charlie: I don't know, exactly. But returning to the sweep account, reminds me of a friend I knew when I was in the Air Corps. A nurse took blood from a friend of mine, and all of the sudden, the blood stopped flowing. She screamed, and then, all of the sudden, she fainted. Some companies swept every day, but it created a tone that is definitely less desirable than ours.

Warren: Our managers are listening here, don't give that illustration!

We've waited too long on retirement for some of our managers. We will be slow [to make personnel changes]. There will be times where our lack of supervision, we'll miss something. We think that giving our managers the degree of freedom they enjoy and will also accomplish a lot. Someone will come along some days and say "more checks and oversight." Something will happen that wouldn't have happened, and they'll be right. But they can't measure all the good things that freedom will accomplish. We don't have HR department or in-house legal counsel, which would be unthinkable to others, but on balance it's a benefit. When the downside shows up people will say "well, you should have..." And they'll be right in that individual case only.

Charlie: By the standards of the rest of the world, we over-trust. And so far, our results have been far better, because we carefully selected people who should be over-trusted. I think a lot of organizations work better when there is a culture of trust. And in modern organizations, where there are tight controls and monitoring, I think they're going to be worse for it.

See's is small in comparison to the rest of the subsidiaries, but is impressive, with profits growing from $5 million when you bought it to over $70 million when the last numbers were disclosed. Can you tell us what's happening in the market, and whether geographic expansion should be an opportunity?

Warren: The boxed-chocolate business is not growing. Back 100 years, each city of any size had lots of candy shops. Chicago, New York were leaders. The predecessor to Pepsi had the most candy shops in New York city. He acquired Pepsi for a few thousand bucks. So, loads of candy shops. Boxed chocolates have lost position, primarily to salted snacks of one sort or another. See's has done remarkably well, better than any other. Russell Stover had done very well with a different model until they ran into problems. We can't do much about expanding the market. We've tried expanding the geography multiple times, expanded out of California, and we didn't get very rich expanding. It doesn't travel very well.

Charlie: Well, sometimes it does, and sometimes it doesn't. You figure out by trying it.

Warren: We've tried it many times, but so far, it's interesting. People like milk chocolate two-thirds of the time, versus dark chocolate one-third of the time. But in the end there isn't much volume growth in boxed chocolates. See's has provided us with lots of cash for acquisitions and opened my eyes to the power of brands. We made a lot in Coca-Cola partly because of See's. There's something about owning one [a brand] to educate yourself about things you might do in the future. I wouldn't be at all surprised that if we hadn't owned See's, we wouldn't have bought Coca-Cola.

Charlie: There's no question about the fact that See's main contribution to Berkshire was ignorance removal. One of the benefits of removing our ignorance is that we grew into what we are today. At the beginning, we knew nothing. We were stupid. If there's any secret to Berkshire, it's that we're pretty good at ignorance removal.

Can you explain why you allowed Bank of America to make a change to convert your investment into Tier 1 capital? Does it worry you that they can't manage it properly?

Warren: Many months ago Brian Moynihan asked me whether we'd be willing to change our preferreds from cumulative to noncumulative preferred. Noncumulative has certain defects and preferred holders of Freddie Mac and Fannie Mae are finding that out. They are a terribly weak form of security.

Brian said if you will do that swap, Bank of America would make your preferred non-callable for five years. Now in a world of 0.5% interest rates, I was willing to make that trade-off because it was good for Berkshire and good for Bank of America. So I get five years of non-callability, and I have no problem of being locked in forever. And, Bank of America gets the benefit for their calculation of capital base.

This was all before the recent miscalculation at Merrill Lynch, and that error they made does not bother me. We have a 20,000-page tax return, and you do the best you can. That error did not affect their GAAP numbers, and they'll pay a penalty, but doesn't change my opinion one iota about Bank of America or their management.

The probability of going to non-cumulative hurting us is very, very low and the non-callability help us.

Charlie: Well, I agree with you.

What are the current problems for NetJets? Is there a good chance of a substantial growth in profits?

Warren: It's not a big grower. It's a perfectly decent business. It peaked in new unit volume in 2007 — there were a fair number of people like hedge fund managers that depended on the stock market. Their demand fell off, and many didn't renew contracts around 2011. Over the past 6-8 months, net ownership was slightly declining. But, international net ownership was growing slightly.

It probably has 60% of it industry, and it's a premier product. But, I don't see the market growing. We are in China. Europe is still declining. Flight hours have picked up recently, and that did fall off in 2007. It's not a growth business, but it is a very satisfactory business.

Charlie: I demonstrated my optimism by buying more hours!

How large an acquisition is Berkshire comfortable targeting? To what extent are Berkshire's large listed investments a likely source of funds?

Warren: They could be a source of funds, but it's very unlikely. Our goal is to buy really good, big business with good management that we think can grow. We want to add earning power to Berkshire, such as with the transmission deal. If the opportunity were large enough, we can dip into a huge reservoir of securities and still have huge investments after. It still hasn't come to that. We have a fair cushion of cash. If I needed to, we could do something. That could happen, you never know.

Charlie: Our positions have been irregular at best. I do think we can get more returns from growing our investment in utilities and railroads, and shareholders will benefit from that.

Warren: What really turns us on is finding a business (instead of a stock). That's what we've been trying to build. Marketable securities have helped with that. It's easy to deploy capital, but we're really thinking about buying businesses. Also, we're in no hurry to sell those stocks that you mentioned. If we wanted to raise $5 to $10 billion in stocks, it wouldn't be from those names you mentioned.

Following the BNSF acquisition, which was done partly with stock, there was plenty of cash around [in other words, debt could have been used, then paid off]. Why don't you ask for several billion in long maturity bonds but with a callable option?

Warren: What you say makes great sense. If you asked 40 years, if we were looking at the present interest rates, we would've said yes to borrowing a lot of money. But, we have a good way to generate funds other than via equity, i.e. via float, of which we have $77 billion. We don't like the idea of selling a conservatively leveraged business, then levering it up. Of course, the utility businesses can handle leverage. They probably deserve more. We probably shouldn't have used equity for BNSF. Another $30-40 billion of debt would be nothing for Berkshire, and it could be quite cheap. But we don't have anywhere to put it. We have other sources of money and plenty of cash. We are doing certain things that you mentioned. If we see a really good $50 billion deal, we'll figure out a way to do it, even if that requires debt.

Charlie: Even though it's probably intelligent, we're probably not going to do it.

Berkshire's utilities have exposure to renewables and BYD in environmentally friendly transport, but then BNSF hauls a lot of coal. How does this align with your thinking on climate change?

Warren: If you own a railroad, you'll carry a lot of coal for a long period, but it's likely to carry less in the future. I get requests from people to fill out forms, but it doesn't just work that way. When Ajit and I talk about catastrophe insurance, the year-to-year change in probabilities are extremely low. We will continue to develop alternative sources of energy. We'll use coal until utility commissions tell us to do otherwise. We are happy to carry coal, but we are a common carrier. We'd like to turn away some hazardous materials, but it's against the law. Just in terms of being an economic variable: no.

Charlie: Yeah, I think a lot of the people who think they know how climate change will alter weather patterns and so on are over-climy. Climate change and global warming is indisputable, but it's hard to say how it'll affect economic patterns and so on. I think we're very well-located, regardless. Transmission lines, we're going to need to produce electricity regardless. So I think we're in very good shape.

Todd Combs and Ted Weschler have gone from managing $3 billion to $7 billion, but still less than 10% of your total investment portfolio. Given both men have seemingly been involved in more than just investing, will Todd and Ted join you and Charlie on stage here at some point?

Warren: I got through college answering fewer questions than that. Its under $7 billion now. We will adjust that upward over time. They, as well as I, are seeing that it gets more difficult as the sums get larger. And, it's still far better to move more money to them and away from me. And, they are tremendous additions to Berkshire, they know a lot of business. Ted and Todd have both been very helpful in doing things beyond their investment management duties that added value. That will continue as they like it, and they don't ask for extra comp for it. They know how I think, so they can get deals done.

In recent times, prolonged periods of low rates have cause problems. If you were running the Fed, what would be your policy on rates?

Warren: Who would have guessed five years ago you'd have rates this low this long. I am surprised how well it's going, I wouldn't do much differently, and I would like to say I'd have done the same since it's going so well. This is an interesting movie; we haven't seen it before and don't know how it ends. I think [Ben] Bernanke was a hero at the time of the crash and panic, and subsequently. A very smart man and handles things very well. When the Fed minutes came out then, it was interesting to me how the members of the Fed weren't getting it, some didn't understand just how serious things were. So I give particular credit to Bernanke since he wasn't getting unanimous view and went ahead with necessary moves. I feel the same about [Janet] Yellen, but do not know the answers to what happens if you keep rates close to zero for so long. I'll be interested to hear Charlie's thoughts.

Charlie: Well, nobody, for instance in Japan, would ever have anticipated interest rates would go way down, and stay low for 20 years. And no one would have anticipated that stocks can go way down, and stay low for 20 years. And if you think you understand, you're not paying attention.

Warren: In 2008, I wrote an article saying cash is king if you use it, but dumb if you weren't. People cling to cash at the wrong time. Zero rates have had a huge effect on rejuvenating economy and asset prices. We are not in a bubble situation at all right now, but it is an unusual situation.

Berkshire owns 79 unrelated businesses — a model which has almost universally not worked well, except at Berkshire. The probabilities do not seem favorable that it'll work well for your successors.

Warren: The model has worked well for America. If you look at all these disparate businesses, such as if you looked at the Dow Jones index during its history as a single entity [though it rotated] going from 66 to 11,000... clearly something went right. Owning a group of good business isn't a bad plan.

Many conglomerates, such as Litton or Gulf and Western, were financial engineering. You were put together to issue stock at 20-times earnings and buy stock at 10-times. The idea was to fool people with this chain-letter approach.

Our approach makes sense: great managers, great businesses, conservatively capitalized. Capitalism is about allocating capital, and we can do that without tax consequences. We can take money from See's and move it to the place of best return, as the situation says, be it wind farms or whatever. And nobody is better to do that than Berkshire. But, it needs to be done with business-like principles, not stock promotion. You can see what happened with Tyco. If companies are issuing stock continuously, they are probably playing a chain-letter game. Charlie?

Charlie: I think there are a couple of differences between us and people who are generally thought to have failed at the conglomerate model. One is that we have an alternative. When there are no other companies to buy, we have securities to buy. Also, most of them were hell-bent to buy, and we feel no compulsion to buy for the sake of it. I don't think we're a standard conglomerate, and we're likely to continue to do very well.

Forest River is one of Berkshire's better acquisitions, and it is growing faster than competitors. What's Forest River doing better than the competition like Thor? Does it have lower margins? Does it have sustainable advantages that will keep it ahead? Are there greater barriers to entry than in the past?

Warren: We bought a company called Forest River run by a fellow named Pete Orthwein about 10 years ago. He's a great guy and not an MBA-type at all. He built up a smaller RV business and sold it to private equity in the 1990s. They started telling him how to run it, and it went to hell. He bought it out of bankruptcy and rebuilt the company. He brought it to me, and we bought the business.

I have never been to Forrest River (it's based in Indiana). I hope it's there (laughs)... and we made a deal on incentive comp, and Pete's never suggested a change. It will do over $3-4 billion in sales each year. I've probably had three to four phone calls with Pete the whole time. It's his company.

I don't know about Thor. But, I wouldn't want to compete with Pete. He has an IT staff of 6-7 people for a $4 billion company. It's his company. I couldn't run it. It's about 12% gross margins, with about 4% to 5% in SG&A cost. It couldn't be a better arrangement in terms of incentive comp with Pete.

Can you please share your views on the oil sands industry and the impact on Berkshire?

Warren: We have a crane business at Marmon that does a lot of business in oil sands. We will soon have a transmission business that will cover part of Alberta — 8,000 miles of transmission lines. We are moving 700,000 gallons of crude oil on our railroad.

Oil has flexibility in where you take, to take advantage of spreads. Oil gushes through pipelines, but railroads are twice as fast at moving oil. We recently bought a company from Phillips 66 that has chemical additive that allows oil to move faster through pipelines. Oil sands are an important asset for mankind over the centuries. But I don't think it will dramatically change things at Berkshire.

Charlie: A lot of the oil sand production uses natural gas to produce the heavy oil. So, it's a very peculiar thing. It's economic only if oil prices remain very high, and natural gas prices remain relatively low. So, I think it's good for mankind. But I don't know about the investment merits.

Energy Future Holdings is likely going into bankruptcy due to fracking and the low-price of natural gas. What effect do you think technological disruption could have on other companies in your portfolio?

Warren: I would be unwilling to share the credit for my decision to invest in Energy Future Holdings with anyone else. That was just a mistake — a significant mistake. All businesses should be thinking about the risk for their businesses. In Energy Futures' case, the expectation was that energy prices would stay higher. Future prices kept them alive. That was just a basic error.

We look at all our businesses as subject to change. Geico set out in 1936 to pass low costs on to customers. Originally by the U.S. Postal Service, and they had to adapt over the years, first to widening classifications. They went from mail to telephone, and later to Internet, then to social media. They stumbled one time, when they left government employees they almost... they really did go broke.

So there's changes going on with all of our businesses. We want managers to think about change, and what's going to be needed for the future. We know things aren't going to look the same 5-10 years from now. BNSF is now looking at gas for their locomotives.

Our businesses generally deal from strength and are not subject to rapid change, but slow change is harder to perceive and call lull you to sleep. So I would say, I will make mistakes in the future, guaranteed. But, we will not make anything like "bet the company" decisions that will ever cause us real anguish. That just doesn't happen at Berkshire. You're not going to make a lot of decisions without making an occasional mistake.

Charlie and I and Sandy Gottesman bought a department store in the 1960s, one of four in Baltimore in 1966. None of them are there today. Fortunately, Sandy did well in selling it. So the $6 million invested in that department store became about $45 billion in Berkshire stock because we did other things with the money. It's something Charlie and I are going to think about, as well as our managers.

Charlie: Imagine Berkshire a textile business, sure to be put out of business, and that turns into Berkshire of today. Imagine what we would have had if we had a better start!

Warren: The point as driven home by my great-grandfather and grandfather, in a letter. In 1929 he wrote the day of the chain store is over. And that's why we had only one store that went out of business.

Berkshire's 50% ownership of Heinz is including in it results. What is Heinz's normalized earnings power after restructuring, and what will be its future earnings?

Warren: Well, Heinz will be filing its own 10-Qs. First quarter will be due about now. You'll be able to see its own figures. Heinz was a reasonably run business with a 10-15% operating margin, and that's not an unreasonable margin in the food business. I think you'll find those margins will be significantly higher in the future.

What 3G has done there is just restructured the business model, and I think the brands, which are all important, are as strong as ever and the cost structure will be significantly improved without cutting into marketing spend. You'll see the numbers for yourself soon enough.

Can you expand on how you and Charlie think about investment opportunities? In the past, you haven't hesitated to make a single company a large position in your portfolio? Did you think about buying more Coca-Cola or Moody's in 2008 or 2009? Would Berkshire be better off with a more focused portfolio of your favorite name?

Warren: It depends which favorite name you'd have chosen in 2008 or 2009. I spent a considerable part of our cash reserves too early, looking back, in the 2008 and 2009 panic. The bottom was in March 2009, and quite a bit lower than September and October of 2008, when we spent $15 billion. We were committed to the Mars payment, so there wasn't much we could do about the timing of that.

But we did fine on the expenditures we made during that period. But not remotely as well as keeping all the powder dry and spending all at once at the bottom. But we never figured out how to do that and won't be able to going forward.

On the other hand, as late as October 2009, when the economy was still in the dumps, we were able to buy BNSF, which will be an enormous part of our future. Looking back, the most money would have been made buying the stock. But that's always going to be the case [that hindsight is 20/20].

Overall, we would love the idea, what we really want to do at our present size and scope and current objectives, is to buy big businesses with good management at reasonable prices and then build them over time.

We started 2014 with a great group of businesses, some of them pretty big. We're going to do well with them. It's not a complicated process. Looking back, we'll always be able to do better than we did it. But, I feel the game is still a viable one and still has some juice in it, though it won't go on forever.

Charlie: What's happening is that the owned businesses are becoming a bigger and bigger percent of Berkshire. Earlier we had a bigger percent ownership of common stocks. Now the private companies are worth way more than the stocks. And I would guess that will continue.

Warren: It'll continue, and the difference is when we're right about stocks, it shows up in market value. When we're right about businesses, it shows up in future earning power, which doesn't jump out at you. One is easier to see, but the other is more enduring. And they are both fine, but we have moved into phase two — wouldn't you say that's fair, Charlie?

Charlie: No significant volume of shares can be bought at the very bottom at those prices. When we buy these businesses, you put a lot to work. If you were investing in Moody's at those prices, you couldn't have bought anywhere near that much. We're suffering from our own past success. I love buying transmission lines in Alberta, who else is doing that?

Warren: We bought a fair amount of Wells Fargo over the last few years, and because the economy came back, really the most money would have come from buying the banks of low quality, they were kind of like a margin loan to a copper producer, if you make a loan to the worst it works better because they come back the strongest. To some extent that's been true with banks. But, we felt 100% comfortable buying Wells Fargo, and 50% comfortable buying the others. The ones that had fallen the furthest had the greatest recovery potential.

Could you explain how you think about usage-based car insurance pricing, and how it could affect the industry in the next decade? How does it affect the moat of Geico? Would you consider selling Geico? Also, what effect will self-driving cars have on Geico?

Warren: The answer to "would we sell" is no.

Usage-based pricing has been favorable among firms that have tried it. There's no question that knowing how customers drive is a valuable insight into how to price the premium. Insurance is about evaluating the propensity of loss when calculating the premium. And, it's very easy to understand in life insurance that a 90-year-old is more likely to die than a 20 year old, despite Charlie's situation. That's obvious. Females live longer, that's obvious. So there's various variables and you try to set the proper price in insurance. If you lived in a state where the population was 1 rather than 100 million, there'd be a lower chance of an accident. Through studying usage using varying methods, they're using variables to try to get information about the likelihood of that driver being in an accident.

We [at Geico] look at a lot of variables. We have a good system, and it's proven worthy so far. I feel very, very good about Geico and its management's ability to measure risk. I think there are plenty of others who are good at it, but none better in auto insurance.

Self-driving cars are a real threat to insurers if it's successful. It can happen, but I don't know how to forecast it. It certainly could happen, but we're not for one second thinking about selling Geico.

Charlie: Some of these things happen much more slowly than you might think. I went to a program 30 years ago talking about color movies on demand would take over and it happened, but it wasn't right around the corner like they said.

Warren: We may be wrong, but we'll be wrong together [with Charlie]. Geico will be doing a lot more business five and 10 years from now. But 30 years from now... I won't be around to know (laughs).

Berkshire has deployed very little capital outside the US. Is it because the U.S. is that much more attractive, or is it for other reasons?

Warren: We've never turned down a chance to make a significant outside-U.S. acquisition because of any feeling we'd want to be in the U.S. We haven't had as much luck getting on the radar of owners around the world as we have in the U.S.

Our best bet is to buy a business from the family of the founder or the founder themselves. That's our strong suit, and anybody in the U.S/ with a business of size thinks of us, and a fair number would prefer us. I think we have some recognition outside the US. Iscar was 2006, I had never heard of the family, but he said we were those only one he'd consider selling to. If they [Iscar] didn't sell it to us they weren't going to sell it. There's some awareness, but I'm disappointed we haven't done more outside the company.

I just spoke to the manager of Iscar — they set a new record in April, and it won't be the last record they set. They sell this tiny little cutting tool saw going into basic industry all over the world; people buy them cause they are using them, not cause they look pretty in their office. They are seeing strength in the business that wouldn't suggest there's weakness in the industrial world. The people at Iscar are wonderful, the business is sensational. I wish we could find more like it.

This year, aside from yesterday's announcement, we have not been contacted by any significant ones [potential acquisitions] that made sense. We have heard from a fair number over the last five years, but nothing that's made sense. But we'll keep trying.

You have said that people should operate within their circle of competence? How should we figure out what our circle of competence is?

Warren: Good question! Some of the people in the audience identify with it (laughs). Be self-realistic. That applies outside of business as well. Charlie and I are reasonably good at knowing the perimeter of our circle of competence.

I would say in my own case I've gone out of it more often in retail than any other arena. It's easy to think you understand retail and then subsequently find you didn't, as in the department store in Baltimore.

You can say I was outside my circle when I bought Berkshire, though; I originally bought it to resell. But when I decided to buy control that was a dumb decision, but that worked out.

Being realistic when realizing you own shortcomings is important. There are a number of CEOs who don't know where their circle begins and ends!

The best really know when they are playing the game that they're going to win. The ultimate was Mrs. B at Nebraska Furniture Mart. She told me she wanted cash, not stock. It might seem like a bad decision, but it wasn't. She didn't know stocks. She knew cash, property and retail, so it was a good decision.

When you're playing the game, versus playing outside the game, knowing the difference is a huge asset. I can't tell you how to do that yourself. Asking your friends who know you may help. Charlie's helped me, telling me, "What the hell do you know about that?"

Charlie: I don't think it's as difficult to figure out competence as it may appear. If you're 5-foot-2, you don't have much future in the NBA, and if you weigh 350 pounds, you shouldn't dance ballet. If you can't hardly count cards at all, you shouldn't try playing blackjack. But competency is a relative concept. What I need to get ahead is to be better than idiots, and lucky for me there was a lot of them.

Warren: You're ruling out everything I want to do!

Why do you annually compare growth in Berkshire book value per share (BVPS) to the S&P 500?

Charlie: Warren wants to make it extremely difficult for himself. So if you don't understand why people want to wear hair shirts, then you'll never understand this. It's insane, you're right. It's a way for Warren to make the comparison extremely difficult on himself.

Warren: Normally when he goes wishy-washy like that I like to clarify, but I think I won't.

Can you explain why the multiple of pre-tax profit paid for Marmon and Iscar minority stakes were significantly higher than earlier purchases of the majority stakes?

Warren: The multiple for Iscar was actually determined precisely on actual earnings were when we made the original purchase. We took a put and call position. There was no difference. We could have called the family, but we never would have done it. But the family elected to put it to us. But they put it to us on the exact same basis as the original deal.

The Marmon deal was different. It was an installment sale. We looked at the consequences of the formulas in the future. The family would not have sold us the rest of the company, without that formula. And we looked at that as a single transaction knowing as the business and cash position improved we'd be paying more later one, and it was all part of the original deal.

Charlie: The price went up because the value went up. We agreed to do that.

Warren: In both cases, with Marmon and Iscar, they couldn't have behaved better. Everybody felt good about both the initial and subsequent transactions. It pays to have people feel good about it.

Charlie: The other thing that happened there is that we have enormous respect for the intelligence of those two families. The more we looked at those businesses, the more we realized how smart those families are. It's truly amazing.

Warren: And those were two important acquisitions that added lots of intrinsic value. Because of accounting peculiarities, the carrying value is well below what the intrinsic value is today.

One thing you learn in life and business... you're going to meet a lot of people that you think will be one-stop shops initially in your life (but you end up doing business with later).

I'm quite sure the original Marmon corporate form was the firm I did a cocoa arbitrage with [many] years ago, and that's where I met Jay Pritzker. So these things have a way of winding their way through over time.

Being a young person without an ability to code or build robots, I don't know technology. If you were 23 years old, what non-tech industry would you start a business in?

Warren: I'd probably do just what I did at 23, I would go into the investment business and I would look at lots of companies, talk to lots of people and learn what I could about different industries. One thing I did when I was 23: If I got interested in a coal business, I'd go and see the bosses of eight or 10 coal companies. I'd ask a lot of questions.

One question I would always ask: If they had to put all their money in a company in the industry and go away for 10 years, which would it be. And if they had to sell short under the same conditions, which company would it be and why? And, if I talked to everyone in the industry like that, I would know more about the industry than anybody.

There's lots of ways to learn about the economic characteristics of companies, such as reading, personal contact, etc... But, you need a real curiosity about it. It really has to turn you on. And, what could turn you on more than asking questions about, for instance, coal companies? (laughs) And in my case, the insurance industry was particularly interesting, and perhaps you could become well equipped to run such a business some day. If you just keep learning things, something will come along that will be very useful. But you have to be open to it.

Charlie: Try the trick that Larry Bird used when he wanted a new contract, he asked all agents what agent he should hire if he didn't hire that agent, and when they all came up with the same second choice he went with that second choice.

Warren: We did the same thing for Salomon. I called in eight or 10 of the managers. We had to open for business, and I had to have someone to run the place. I said "Who besides you would be ideal and why?" And one guy told me no one could compare to him. He was gone within a few months (laughter), but it's not a bad system to use. You could really learn a lot just by asking (sounds like a Yogi Berra quote, but it's true).

People like to talk. You just have to be open to it, and you will find your spot. You may not find it the first day of the week, but you'll find what fascinates you. I found it when I was 7 or 8. Sometimes it'll take a while, but you'll find it.

Charlie: It's a very competitive business. When I was at Cal Tech and studied thermodynamics, there was a guy who was tremendously talented at thermodynamics. I realized that I'd never be as smart as him in that field. I tried other industries with the same results, so I just kept doing that until I ended up here.

Warren: I had a similar experience with athletics (laughs).

You have commented about hotel price gouging during the annual meeting in Omaha meeting. Could you expand on that? Does this contradict free-market capitalism?

Warren: Absolutely, so therefore since we want to increase the demand, the proper response is to increase the supply, That's why we've encouraged, for instance, Airbnb to come in. And they've helped a bit this year.

If you think about most cities... an industry decide themselves where to go. A small industry can decide where to go. A big industry convention has to go someplace like Vegas, or you throw the supply demand out of whack. If you have an event that can't be decided by the people that are deciding it, then you outstrip the supply of rooms. The great case would be Augusta, the Masters. Augusta can't size their hotel industry to the Masters, and the Masters isn't going anyplace. Omaha can't size itself to the Berkshire meeting. What really bothered me was the three-day minimums. If you're coming in for one night, you shouldn't have to pay for three nights.

We didn't want to cut down on demand or move to Dallas, we want to stay in Omaha. All the people here love this event. It's an economic boon, and people come here and get a good impression. But you can't expect people to build all new hotels here to accommodate it.

Fortunately, something like Airbnb is like a flex supply arrangement that seems to make a lot of sense. I think it'll be more developed next year. They [the hotels] can't push it to the ultimate extreme of a total scarcity situation.

Charlie: Nothing to add.

Geico continues to gain share while having attractive margins, spending more on advertising, and having lowest cost structure. Will Geico overtake State Farm in market share?

Warren: No one knows for sure. We passed Allstate this year. It has one of the great company histories in America. Started by a farmer with no insurance experience. He built this incredible business based on a better business model, this was 1920, and then Geico came up with an even better model. State Farm was huge by that time, Allstate was very large. It's taken us since 1936 to become No. 2. If I live to 100, we should be No. 1... I'm going to do my part! (laughs).

We will gain share, in my view. Month after month, year after year, as long as we never forget our job is to take care of the customer, and keep rating risk well. Tony Nicely has done a job that belongs in the hall of fame in terms of achieving that objective. In the 15 years prior to Tony taking over, market share had hovered around 2%. Since then, it's gone to 10%-plus and it'll keep going.

Warren: State Farm has a net worth of probably $60 billion to $70 billion, and a strong presence in homeowners, a strong agency force, and a lot of satisfied customers. It won't come fast, but I do think it'll come.

Charlie: Geico to me is very much like Costco, one of the reasons that they succeed is because they're really committed to offering a really great product. A lot of people talk that game, but few live it. Geico does and that will help it over time.

Warren: One thing you'll find. People [employees] don't come and go from there. We have no one who leaves us. They have their own idea about what should be done, and how it should be done right.

Charlie: Costco is unbelievable and it reminds me of [inaudible]. Talking the game is one thing, but living the game is something else. It's against human nature to offer prices like that. It's like wearing the ultimate hair shirt, yet it works.

Warren, has your personal frugality has helped shareholders? Charlie, do you think Warren's frugality has hurt shareholders?

Warren: First of all, let's ask who's the more frugal.

Charlie: On personal consumption, Warren is more frugal. Warren lives in the same house he bought for a very modest price and has lived there for a very long time.

Warren: I bought it in 1958 and you moved into yours in 1960. He designed his own house. He did not pay an architect, right?

Charlie: I paid $1,900 [for the architect], which was 30% of the market rate.

Warren: There are things money can't buy. I don't think standard of living equates with cost of living beyond a certain point. Good housing, good health, good food, good transport. There's a point you start getting inverse correlation between wealth and quality of life. My life couldn't be happier. In fact, it'd be worse if I had six or eight houses. So, I have everything I need to have, and I don't need any more because it doesn't make a difference after a point. When you get to 10 times or 100 times or 1,000 times, it doesn't make a difference [in quality of life].

Charlie: Frugality is basically how Berkshire happened. I look out over this audience and I see a lot of understated, frugal people. We collect you people.

Warren: Forget about it this weekend! (laughs) The more you buy, the more you save at these prices, folks! (laughs)

Berkshire paid $8.9 billion in taxes. Pfizer is considering a move offshore to reduce taxes. Would Berkshire consider that?

Warren: I think the answer is no, what do you say Charlie?

Charlie: I think it would be crazy to be as profitable as Berkshire and get off that easy on taxes.

Warren: We could not have done Berkshire in any other country other than the U.S.A... America is in a very, very good way. Charlie and I have become very, very rich...

Charlie: I've got no complaints. And I look around at these people, they seem like very happy people. I don't see them gnashing their teeth.

Warren: But I don't want to make it holier than thou. When we get all through the 20,000-page tax return, we don't add a tip of 20% or anything. And we do certain transactions which are tax-advantaged, and we do certain deals that are tax-driven. Wind energy deals and solar energy deals don't make economic sense without tax benefits.

We follow the rules. We don't begrudge the taxes we pay.

How attractive do you find the Mexican rail freight market attractive? And, if so, would you be interested in buying Kansas City Southern given its large presence in Mexico?

Warren: Union Pacific has a big edge in term of Mexico, I think they cross the border in six places with a route structure much better than ours in relation to Mexico. And Kansas City Southern has a great presence in Mexico. In terms of what we can do with our money, there are good prospects there and elsewhere too. Today, it doesn't make sense for us, but maybe someday something will, but the math does not work today. We are continuously thinking about Mexico, and lots of other markets too. There are lots of possibilities. We won't forget about Mexico, but we won't do anything silly, either.

Charlie: It's easy to imagine companies that make you rich with a sleight of hand and the easiest transaction is buying out a competitor. But at a certain size that's something you just can't do. So Burlington Northern is at a point where it's got to do it on its own.

I'm a big fan of [Benjamin] Graham and [Philip] Fisher. What differences do you have for calculating intrinsic value than described in Security Analysis? For instance, how do you factor in management? Second, what company do you fear the the most? Why has no one done what you have done?

Warren: Graham didn't get too specific about intrinsic value in terms of precise calculations, but intrinsic value has become the same as private business value. Now, I'm not sure who first came up with it — well, actually, it was Aesop. The intrinsic value of any business is the present value of all cash distributed between now and judgment day. We're not perfect in judging that, by the way. Aesop said a bird in the hand is better than two in the bush, in 600 B.C., and that hasn't been improved much by business professors since then. The question is: How sure are you that there are two in the bush, how far away is the bush, what are interest rates? Aesop wanted to leave us something to work on, but that's intrinsic value.

Fisher would say he'd want to look at the qualitative factors in calculating the value of the birds in the bush. Graham would say he wants to see the $2 in the bush, one looking at qualitative factors and the other in quantitative factors. I started out influenced by Graham, so I emphasized quantitative factors, and Charlie came along and said I should value qualitative factors. And he was right. It's really cash in, cash out.

If I had a silver bullet, what company would I shoot? I see no competitor to Berkshire. I see private equity buying lousy businesses and leveraging up while debt is cheap. Which is the main occupation for Charlie and me. But I don't see anyone with a model or trying to build one to go after what we are trying to achieve, which is buying a business from people that care about who they sell to.

Charlie: The Berkshire model as now constructed has legs and will go on for a long time. It has enough advantage that it will just keep going a long time and most businesses don't. Of all the great businesses of yesterday, few have gotten big and stayed big. We're getting to a territory where very few other people have done very well. But I think we'll just keep going. We will keep doing what we're already doing. We'll keep learning from our mistakes. The momentum's in place, the ethos is in place. It's going to keep going. For the young people in the audience, don't be too quick to sell the stock.

Warren: Why don't we get more copycats? [to Charlie]

Charlie: It reminds me of Ed Davis, he took on an operation and he made this operation his own and all the other surgeons came and wanted to copy him. and they watched him do this operation and they said, well this is really hard and so maybe we won't copy him.

Warren: Ed Davis is the guy who introduced the two of us, a famous urologist in Omaha. I think slowness turns off more people than anything else.

Charlie: It doesn't look all that easy. It's slow. The difficulty of being slow is that you're dead before it's finished.

Warren: Well, that's kind of cheerful.

On a more cheerful subject: inflation. In your 1981 shareholder letter, you discussed ROE, inflation, and that Berkshire was not immune. Today, it seems like every central banker is desperate to create inflation. Should investors and business owners be thinking about inflation? How would it affect Berkshire?

Warren: Only compared to Charlie could inflation be cheerful. Inflation would hurt us, but would hurt most businesses. Certain assets that are highly leveraged would benefit from inflation.

Let's assume that all over the U.S., $1 million was given to every household. Would the U.S. be better off? One thing I can guarantee, Berkshire would be worse off. What I describe would be wildly inflationary. The trick is realizing you've got a million dollars before everybody else.

You don't create wealth by inflation. You can move it around, but you don't create it. Berkshire's earnings per share would go up, our intrinsic value in dollars would go up, but the value of the business in real terms would go down.

But, if you own a home and inflation wipes out the mortgage, you'd be better off.

Charlie: We had a test of hyperinflation in Weimar Germany. The people that owned stocks like companies like Berkshire, they got through. And everyone else got wiped out. Of course, if you create so much misery that you get hit by war and Holocaust and so forth, it's not a good idea to let it go that far. I don't like this huge confidence of people creating a whole lot of money and spending it. I don't forget Weimar Germany, and I don't think the U.S. should, either. I don't think we should risk blowing up the whole thing because of some crazy politicians. And in Weimar Germany they gave you back the mortgage at the end.

Warren: Well that's very interesting. He's way ahead of me folks!

What is your benchmark for the returns on acquisitions from all-American businesses, excluding insurance?

Warren: Sounds too tough for me. Go ahead, Charlie.

Charlie: I think some acquisitions done by American industry will be lousy. It's in the nature of corporations that are prosperous, they get talked into dumb deals. The history of acquisitions is that it's not been an enormous wave of wealth. We're peculiar and luckily. A lot of people don't want to be peculiar in our way.

Warren: It's really hard to come up with a useful answer. But certainly with a company that's going to make an acquisition, I'm much more likely to cry than smile. But then again, we love to make acquisitions ourselves.

Charlie: Some are mediocre...

Warren: I have sat in on hundreds of acquisition discussions conducted by people I didn't control as a director. Most of them have been bad ideas. A great case is Geico, which had a wonderful business, prior to going off the tracks in the early 1970s. It was well known in the financial world. It went off the tracks and then back on. And then, after it going back on the track, it made a couple of acquisitions. They weren't disastrous, but they certainly weren't a success. It tended to take their eyes off the ball. So the accounting costs of those two acquisitions in particular, was not poor, but not disastrous, but in secondary effects, it was huge. There were a dozen years there where all kinds of gains could have been made but weren't. That was probably a net plus for Berkshire. We got to buy the other half, and probably wouldn't have ever gotten to buy the first.

CEOs aren't shrinking violets. They like to make deals, and they have big goals. Investment bankers will be calling on them, there are all these forces that push toward deals, and if you push toward deals you get a lot of dumb deals. We try to not be eager to deal, but be eager to do deals that make sense.

Charlie: I'm much more tactful than he is.

Warren: There's a tendency to ask, what have you done in the last three months? The setting is really very important.

Do you believe a financial crisis will result from bringing justice to criminal activity on Wall Street?

Charlie: Wall Street has been enormously improved as a result of the drama we went through. I think we're over the worst. But this will always happen to some extent, when people are living at the center of easy money.

Warren: How do you feel about the prosecution of individuals versus that of corporations?

Charlie: If you have some criminal prosecutions you'd change behavior a lot and it looks to me like we'll get a few.

Warren: I may be biased by the experience at Solomon, but I lean more toward the prosecution of individuals rather than corporations. I saw bad acts by a couple people and negligence in reporting by a couple more, end up potentially destroying thousands of lives. It seemed to me that it is easy to prosecute the corporation — they write a check and it's somebody else's money and the prosecutor knows he's going to get a win when the company caves. But it's harder to fight an individual who is trying to stay out of jail.

Charlie: We have really changed behavior on price fixing by criminal prosecutions. We haven't done that in finance yet, but I think we are on the way, don't you?

Warren: We have 300,000 people working at Berkshire — somebody is behaving badly. I don't worry about us making money, but we will have a problem at some time or some sort. It's just that 300,000 people are just not going to behave properly every day. The way to change behavior is to have the fear among those doing wrong, the fear that it's going to come home to them and hit them hard. If the only result is the company writes a check, it's not going to have an impact.

There have been a number of railroad accidents. How would a worst-case accident affect BNSF and Berkshire?

Warren: We're on both sides of that, because Ajit has offered the rail industry very high limits, to all of the major railroads, but they don't like his price. I will say this: The four major railroads have the capacity to pay a huge award if something bad happens. I don't know which is the most dangerous, but they have to carry hazardous materials. So they probably can't get enough for payments per carload to compensate for the risk involved. But the big four rails have the capacity to cover the very significant financial hit. And if they feel they don't, they can buy insurance from Ajit, but so far they haven't. They have some coverage, but they won't tell you how much so it doesn't become a honey pot.

Charlie: The big surprise was BP. Nobody in their wildest dreams believed that a major oil company with an accident from one well would have losses in the tens of billions, but that's gotten a lot of attention. After that happened, I lost a lot of interest in the gulf. That was a big oilfield, but it couldn't remotely pay for that accident. The biggest rail accident in the history of rails cost $200 million. Is Matt there?

Warren: I don't think anyone's ever disclosed what it actually cost. But I can tell you this, we are not getting paid enough for something like ammonia. To buy corporate insurance against that would just be too much, and we are a common carrier. But it is not something we worry about from a financial standpoint. The big risk is some form of effective terrorist action by some group or state. War acts are excluded from insurance policy, but you could have some kind of terrorist act. Whether insurance contract is liable is another story, but there could be a terrible act committed.

Charlie: We saw what one pilot did to a Malaysian airplane. We live in a world where there are always big events. We have big corporations that have elaborate safety programs and can handle big losses.

Why is Berkshire expanding in P&C insurance when pricing has peaked?

Warren: We entered the commercial insurance field in the middle of last year. We have a great amount of capital, reputation, and we think we have the capability to underwrite more intelligently than most and have much larger limits. And we have costs that are much lower than average. Take that, and throw in Ajit Jain overseas and we think we're very lucky.

That was the reason for the timing of it, and we've added to that group significantly. We will build it significantly over time and with better underwriting results that a great majority of our competitors. When we see a chance to enter a business we like, with outstanding people and a fundamental competitive advantage, we're going to play the game and play it hard.

Do you ever have any plans to buy a professional sports team or equipment manufacturing company?

Warren: I own a quarter of a minor-league team, but it's not responsible for my position on the Forbes 400. No, I'm not interested in buying a sports team. If you hear us doing it, it might be time to talk to our successors...

Generally speaking, when you look at the people making baseball gloves, football helmets, it's not been particularly profitable. Certain aspects like owning helmets should be run by someone who hasn't a dime to his name because he's not going to be a target.

The idea of owning business that provided guards in airports, owned by this super-rich corporation, that is a perfect target... The guard company at airports should be owned by someone whose net worth is not yet higher than two figures.

You won't find us in the sports arena. Charlie, are you looking at the Clippers?

Charlie: Whenever I hear Warren talk about sports teams, I like him less.

What do you make of [Bill] Ackman's covert tactic in Valeant's purchase of Allergan? He compared it to your purchase of Coca-Cola.

Warren: I hadn't heard that about Coca-Cola. We never used a derivative transaction, nor have we taken it over yet. Could you elaborate?

What do you think of activist investing?

Warren: I don't think activism will go away and I think it scares the hell out of a lot of managers. There are cases where management should be changed. I think that generally, the activists, if they get the price up one way or another, that's going to end their interest. They are not looking for permanent changes in the business for the better, they are looking for a specific change in the share price of the business.

They're certainly attracting more and more money. They can play the game on a bigger scale. Anything on Wall Street that looks successful will keep on going until it's no longer successful.

Charlie: You're right that activism is causing more of a stir in corporate management than in previous years. Nobody feels immune. Management suddenly feels threatened, and obviously that causes anguish. Activists have gone on to make a fair amount of money, and in our culture people don't care how the money is earned, just that it is. In some of these, you'd find an activist that you wouldn't want marrying into the family buying a company that's not particularly good. It's not good for America, what's happening. It's really serious.

Warren: If it's bigger three years from now, it'll be A LOT bigger...

Should Berkshire buy a larger group of faster-growing companies?

Warren: To get down to $300 million to $400 million, that might suit one of our subsidiaries that knows the business. We're not passing up anything of any size that would have any real impact. Our subsidiaries made 25 tuck-ins last year and will continue making them as they see them. In terms of reality, we'd get a lot more earning power into Berkshire. Our intention should be to target larger companies.

Charlie: I agree with that. The idea of buying hundreds and hundreds of small businesses isn't ideal.

Warren: There is lots of competition for the small deals, including from private equity. We don't feel envious when we look at what they're doing.

What is the most intelligent question on investing that you've been asked recently, and what was your answer?

Warren: You can go first when I think...

Charlie: For example when I answered the young man about why Warren compares Berkshire's performance to the stock market performance. There are a lot questions that just don't get much attention.

Warren: I never come up with a good answer to this question, and I'm not coming up with one now.

For MidAmerican Energy, if I take earnings before interest and taxes and add back depreciation and subtract capital expenditure, the result is negative operating cash flow. For the past five years, the best return on tangible assets was 0.86%? Why are we allocating capital to this business?

Warren: You were doing great until you got to "tangible assets." We love the math you describe as long as we're going to get returns on the cash invested. We're looking forward to putting more capital down.

As long as we're treated fairly by the regulators, we'll get reasonable returns on that. There will be times where no net investment is required, but we prefer those in the utility business where net investment is required because we get reasonable returns, We are betting the regulatory authorities will provide us with that in the future, but we believe they will in the future because we've delivered better results than our competitors in the areas where we are present.

We have a situation in Iowa where there is one stockholder-owned utility. If you look at our rates, they are significantly below those of our competitors. One of our directors has a farm and buys from two sources. Ours is cheaper than the competition. We have a deserved reputation with regulators; we've improved the operations. So if we can put money into useful projects in those states, we'll get a reasonable return. You'll see negative cash for a period while we invest in those businesses. We have a similar situation in the railroads too.

Charlie: If the numbers you recited came from a declining department store, we'd hate it. But from a growing utility, we like it, because we have confidence that the utility will do exceptionally well.

Warren: Is Greg here? You might give some figure on this...

Greg Abel: Generally we are the lowest-cost provider. We rarely have rate increases. Thus, regulators are very supportive of our projects. We are spending $1.9 billion in Iowa over the next two years, but we'll earn 11.6% return on our capital. Generally looking at utilities, we pay attention to our capital and keep it closer to depreciation, but the lion's share is growth in this case and we earn a nice return on it.

When you look at the tech companies in Iowa, we have small data centers. And we're seeing data centers being built because of our exceptionally low rates, and a big portion of our energy comes from renewable sources. They want those credits, they want to be associated with the company delivering that power.

What are your thoughts on the education in U.S. and China in the future?

Charlie: We certainly are getting the easy questions right now...

Warren: Whatever he [Charlie] says, I agree with him (laughs).

Charlie: I think America made a huge mistake by letting the public school systems go to hell, and I think the Asian countries are much less likely to do that. And I think that we should be more like them.

Do you think we need housing reform? How do you think we should do it, and should Berkshire be involved?

Warren: I think the 30-year fixed rate mortgage is a terrific boon for homeowners, but it's not a great instrument to own as an investor. It's done a lot for home ownership in the country. Let people get into homes earlier, kept costs down — the government guarantee keeps the cost down.

Home mortgages are an $11 trillion market, and there is no capacity for private industry to do the job. The question is how to keep the government in the picture without keeping politics in the picture. You've found Fannie Mae and Freddie Mac doing dumb thing with politicians prodding them into it.

I think there could be a way. I wrote an article 30 years ago when S&Ls were falling apart, suggesting how to get the private sector into pricing and evaluating risk. But essentially the government being the main insurer. There could be a way that model works in terms of home mortgage insurance.

I don't think we'd likely be a player, because others would be more optimistic in setting rates. In the end the government would need to be the main insurer. Perhaps private industry could set the price and take 5%, and the government would take 95%.

I do think it's important, mortgages for homes, to get a correct national policy. I know it's being worked on, and I think very unlikely that Berkshire will play any part in it... Charlie?

Charlie: When private industry was running it, they owned the whole field and you had the biggest bunch of thieves and idiots running things, so I'm not all that trusting of private industry in this field. At the moment, Fannie and Freddie are being pretty conservative, and they're making pretty much all the home loans. I think that's OK. I'm not looking forward to when the investment banks get back to a race to the bottom.

Warren: One question is whether you let Fannie and Freddie run off as is... I think certainly one of the things that led Fannie and Freddie astray was their desire to serve their masters and deliver double-digit earnings gains. If they had stuck to insuring mortgages instead of becoming the biggest hedge funds in the country. Would you let them have portfolio activity at all?

Charlie: Let them just keep doing what they're doing. They are on the whole being very conservative. When they really got lousy, when everyone was rushing into the market, Fannie and Freddie jumped in as well. I think that particular experiment in privatization was a total failure.

I just started reading Dream Big, about your new Brazilian partners [3G Capital]. I have two related questions. What's their secret sauce (beyond zero-based budgeting), and how many of your deals relate to your brand name or personal relationship? Will your successors have similar opportunities?

Warren: It will become the Berkshire brand. The first year or so people will wonder about it, but it will be a Berkshire brand that may have started with me but will continue...

3G are very smart, focused, hard working, determined, never satisfied, and as I said earlier, when you have a deal, you have a deal. They don't overreach or overpromise. If you read the book, you'll probably learn more. We're fortunate to be associated with them. We want to be a good partner ourselves. We attract good partners, and that's a reputation Berkshire deserves.

Charlie: You get the partner you deserve. When you get a good partner, you deserve a good partner. If you just behave yourself correctly, it's amazing how well it works.

I don't consider the restructuring immoral, but I think it should be done with some sensitivity. But it's good for our system. It's a good example for all of us. We're all learning from them, some reluctantly.

Warren: We're learning from them.

If Berkshire doubles twice in the next 20 years, it will be $1.2 trillion in market cap. What will Berkshire look like then, and can you do it faster?

Warren: There's no question that at some point we will have more cash than we can intelligently deploy. Then the question is, what will we do with the excess? Stock could be bought at a price that makes sense for continuing shareholders. If I were around then, I'd be aggressive about repurchasing, but who knows what the circumstances or the tax laws will be then. What I do know is that we will have more cash than we can intelligently use at some point in the future. I hope that isn't too soon, but the numbers are getting up there. All I can tell you all that what will be done, will be done in the interests of shareholders. All decisions are made starting from that principle.

Charlie: It's not a tragedy if future returns go down. That's success, that's winning.

What impact do you expect from the sharing economy, such as Airbnb and Uber?

Warren: Try to disrupt some other businesses and those businesses will fight back, perhaps using legislation. When anybody is threatened, they try to fight back.

Go back to when State Farm came on the scene. The agency system was sacrosanct. the big companies in Hartford or New York fought for having the biggest agency in town. The policy wasn't being thought about. Your objective was to get the agent. Then State Farm came along, and they had a better mousetrap, then Geico with an even better mousetrap. Then legislation stated what could be done, and that agents would be required...

In the end the better mousetrap will win, and the second or third best mousetrap will try to keep that from happening. We know there'll be change, and we don't know who the winners will be. We stick with companies where we know who the winners will be. A lot of our companies are going to be winners.

And then there's other fields we can't pick the winners, so we sit and watch but don't get tempted to enter... Charlie?

Charlie: I think the new technology is going to be quite disruptive, retail in particular. When you get computing power on this scale, it is changing the world. I think Berkshire, by and large, is in pretty good shape.

Warren: Where do you think we're most vulnerable?

Charlie: Oh, I don't think I want to name them.

Do you think financial literacy should be a standard part of the curriculum in our schools, and what do you think should be included?

Warren: The earlier the better. Habits are such a powerful force in everyone's life, including good financial habits. Digging yourself out of the holes that financial illiteracy can cause can take a lifetime. Our Secret Millionaires Club is in the exhibition hall. Charlie and I were lucky, we got it early around the dinner table. That doesn't happen in every household.

A big problem is adult financial literacy. It's harder to be smarter unless the schools intercede. A lot can be done on TV and Internet, but it is really important to have good financial habits, and anything the school system can do will help.

Charlie: I don't think the schools are at fault. I think it's the parents.

Warren: I agree. The most important thing is the parents.

Warren: The net utility from finance majors has been negative.

Charlie: The utility is negative. That assumes people understand that.

Warren: They're teaching people some very dumb things. To attain a position in those schools you had to subscribe to the orthodoxy, which made no sense. Then it got stronger and stronger. It was bad.

Charlie: You would've liked academics better if you'd taken physics rather than finance.

Could you break up the company into four parts, with some companies potentially paying a dividend?

Warren: We would lose significant value if we were to break into four companies. Berkshire is worth more under its current structure than in any other. We did have this vote [for a dividend to be paid], and unfortunately there's not a way to deliver a dividend to a few shareholders and not to the rest.