For the first time in the last 35 years, Berkshire's stock price did not continue its historic and unprecedented trend of annual increases.

Since it is my belief that short-term stock price fluctuations have much more in common with the study of abnormal psychology than finance,
this is of no particular concern to me.
More importantly, Berkshire's book value, a more significant measure of performance, only increased .5%. To appreciate the significance of this, over the last 35 years, including 1999, book value per share has risen at the as- tonishing rate of 24% compounded annually.
Warren, in his usual fashion, took all the blame. He said: "Even Inspector Clouseau could find the guilty party - your Chairman."

It is certainly to the credit of our Senior Partner (Warren Buffet) that he makes no excuses - unlike the squirming around while attempting to place blame somewhere else so characteristic of too many of the CEOs of some of our major corporations.

While it may be easy to just accept the "mea culpa" of Warren, the facts present a little different picture. First of all, Berkshire holds major interests in a number of the world's best companies - companies like Coke, Gillette, American Express, and the Washington Post. Warren expressively refers to Coke and Gillette as the "inevitables".

The stock market, over which even Warren has no control, has placed values on these companies in the recent past which were extremely high in relation to their earnings as measured by any historical standard. It was clear to me, and I am sure to Warren, that these prices were not sus- tainable over the long term. Sure enough, they weren't.

Last year, the prices of these companies dropped drastically.

Since these interests are carried on Berkshire's books at market value, this price drop adversely affected Berk- shire's book value. This does not mean, however, that the bright financial future of these companies has become any less "inevitable."

The second issue is a little more complex. One of the major fmancial events of last year was the purchase of General Re, a huge company dealing in re-insurance. General Re experienced a large underwriting loss last year. This
adversely affected the bottom line of Berkshire in a major way. Insurance companies are like that. The ride tends to be bumpy.

Like Warren, I believe that this loss was aberrational. General Re has an exceptionally good record in the busi- ness, and its acquisition by Berkshire doubled the huge float already available to Warren for investing. This is a fact which will have, I believe, very pleasant financial consequences in the future. However, re-allocating such an immense amount of capital profitably will take no small amount of time.

As you probably know, Berkshire now owns all of Geico. (Insurance) It is Warren's and Geico's strategy to significantly increase Geico's market share in auto insurance. To do so, marketing expenditures have been markedly increased - perhaps to over one half a billion dollars in 2000.

The short-term effect of the above strategy means less profit now in return for more profit later. Fortunately for the shareholders, Warren's outlook has never been short term. Even better, accounting considerations, especially

those which may make short-term results look better, are considered irrelevant and unimportant. What counts are real economic results over the long term.

So, the long-term outlook for Berkshire appears to be as good as ever. In case you have any doubt, in his annual
letter to the shareholders, Warren said that Berkshire considered buying back shares when the A shares fell below $45,000. However, he decided that it would be fairer to the shareholders to wait until the annual letter was out to make that offer.

Never before has Warren made such an offer. That is as close to a statement that Warren feels that BERKSHIRE IS GROSSLY UNDERVALUED AT THOSE PRICES as we will ever see. Mea culpa indeed!

So much for all the annual report stuff. I was far more excited about what came in the mail shortly after the annual report. Evidently, Warren's invitation list was not properly updated from last year, and I received an invitation to the annual Sunday Brunch. This is a brunch which Warren puts on for a few hundred people each year the weekend of the annual meeting. I consider this a wonderful opportunity and an undeserved honor.
I RSVP'd forthwith.

On April 28th, I was all packed and ready for the annual Gathering of the Faithful in Omaha. I picked up my free tickets, courtesy of Alaska Airlines' current mileage per dollar on their Visa card plan, boarded the plane, and settled uncomfortably in my cramped seat in the steerage section conveniently located next to the rather fragrant lavatory. On the bright side, I was thankful that it was not a 737 with its still questionable rudder problems. Then I looked at the safety card and found that this was a MD 80 -just like the one which crashed recently... apparently after some especially vital parts fell off the vertical stabilizer.

Since the plane was already moving away from the gate, it was too late to consider other forms of transport, like walking. I decided to think about other things to keep my mind busy. The current craziness in certain sectors of the stock market naturally came to mind.

Charlie Munger (Buffett's Partner) has said that the world is in need of a good book on "Why Smart People Do Dumb Things." Why do people buy internet Dot Com stocks at prices which not only are not connected in any discemable way to current or future earnings, but also reach levels which defy gravity? Sandy, my wife, saw a headline in the local rag which sums it all up. It said: "Amazon.com stock jumps 20% on news that the company will probably lose less money next year."

I do have several theories about causes of this irrational 'behavior. They are:

Theory No. One - The "investors" who buy these stocks at these prices have the financial acumen of shrubs.

Now that I have no doubt made lots of new enemies, I can move on to:

Theory No. Two - "The why do teenaged boys wear baseball caps backwards" theory. Contrary to popular opinion of older folk, these boys are probably not actually brain damaged. Boys see lots of other boys wearing their baseball hats backwards. They think that these kids look kind of stupid, but since so many of them are doing it, it must be cool. Ditto for the Dot Com and tech stock frenzy. Dr. Robert Cialdini in his book, "Influence", refers to this phenomenon as "Social Proof "
Powerful stuff, Social Proof.

Theory No. Three - There is a very strong human tendency to think that trends will continue, in other words, what is going up will continue to go up. People who subscribe to this theory are sometimes referred to as "Momentum Investors." This is a really great idea. In fact, there is just one thing wrong with this idea. It is wrong.

Theory No. Four - I really do have a Theory No. Four. In fact, I have Nos. Five, Six, and maybe No. Seven, too. However, I probably have irritated enough people with the first three, so I will leave these other theories for later.

As I watched the clouds go by out the window of the plane, I remembered a college class I took on the stock market. The entire premise of the class was that short- term market fluctuations are a "random walk". This was an 8 in the morning class, which was not exactly my favorite time of day to go to class. The professor just could have said that short-term market fluctuations are a "random walk', and then let us go home to sleep in for the rest of the semester. But no such luck. He went on and
on for almost two months saying the same thing in different ways each day.

The final exam could have been one multiple choice question:

Are short-term market price fluctuations a random walk?

a. yes
b. no
c. maybe
d. what is a "random walk?"

Just the other day, I was scanning the radio looking for some intellectually stimulating classical music when I
heard someone say:

"Stocks represent ownership interests in real businesses. The value of those stocks is equated to the discounted present value, using a discount
rate appropriate for the risk inherent in that busi- ness, of the future cash flows that business will produce."

Wow! For a minute there, I thought Warren was on talk radio. I listened for a little while longer and heard more of the same but it wasn't Warren. You would never guess who it was.
It was G. Gordon Liddy! I told you that you would never guess.

That little sound bite made my day. Maybe there is hope.

Suddenly my attention was brought back to the present when the Captain came up on the intercom and said we would be on the ground very soon. I didn't want to be on the ground "very soon" - that phrase implies an all too abrupt arrival. I would much rather arrive more gradually. My thoughts were interrupted with the rumble of the tires on the runway.

I had arrived safely in Omaha after all.

I grabbed my sub-compact rental car and headed off to my hotel. Since my good buddy and retired airline captain friend Wayne was not attending the meeting this year, no discounts applied. I actually had to pay real money for the room. I badly missed Wayne and Alice.

I was really hungry after I checked in, so I drove on down to Old Market, which is a really neat part of downtown where the streets are blocked to cars. People walking and horse-drawn carriages are everywhere. It is also the place where the French Cafe is located. I was so hungry that I forgot how much dinner there had cost me a couple of years ago.

I walked in and naturally they were booked solid until about 1 in the morning. I saw a small room off the bar which had some wooden tables in it. I told the receptionist that I didn't really care where I sat, and would it be possi- ble to sit at one of those little tables? She said sure, and pretty soon, there I was, all alone in this nice little room, being served a wonderful dinner right away. They do stuff like that in Omaha.

With stomach full and wallet empty, I headed back to my room to sack out.

The Annual Meeting

After about what seemed like 15 minutes sleep, I was up and off to try and find a parking place somewhere near the convention center so I could get there in time for the meeting. I am truly not fond of jet lag.

This year, the meeting would be held at the downtown Civic Auditorium - where the number of seats available inside is inversely proportional to the parking outside.

The city fathers, in their wisdom, are closing down the Aksarben Stadium with its great location and plentitude of parking. They are going to turn the site into something useful, like a centrally located urban cow pasture.

The students of the University of Nebraska, at least those not on the Football Team, have always hated the name of the stadium. Aksarben is Nebraska spelled backwards. They are understandably a little embarrassed by this. However, the Football Team is oblivious of the whole issue as spelling is not a highly valued skill in 'The Game.' But, boy, can they play football! Paul Allen (owner of the Seattle Seahawkks and former partner of Bill Gates... Ed.) should send the Seahawks to Omaha for a few tips.

Another thing that really bothers the student intelligencia is the unfounded rumor that the undergraduates think that the "N" on the helmets of the Football Team stands for Knowledge. After all, most of them know that is just not true.

Anyway, before those of you in Seattle start feeling too superior, remember the all too recent Destruction of the Kingdome. You remember the Kingdome - where we had this very large, solidly built, and mostly paid for, stadium which was used for baseball games, football gwnes, exhibitions, boat shows, and tractor pulls. This is the stadium where about three years ago, we just finished spending
$ 100,000,000 (no, there are not too many zeros here) fixing the interior of the roof so parts stopped falling on and generally annoying spectators.

In 15 seconds of nationally televised spectacular explosions and really impressive clouds of dust, the Kingdome iinploded and collapsed into a pile of concrete rubble.
Did I mention that we (meaning us, the taxpayers) still owed $20,000,000 against this now huge pile of rubble? To replace this building, we now have a separate convention/exhibition center, which, as far as I can tell, is useless for tractor pulls and still has expensive and bad food. We also have a brand new baseball stadium complete with a huge sliding roof. The roof only occasionally gets stuck in the open or some in-between position.

 Having an opening roof is especially useful in Seattle where it rains all the time.

To add insult to fmancial injury, the new stadium looks like it was designed by a six-year-old whose specialty was erector sets.

In their wisdom, our Bureaucrats decided to make this brand new stadium single purpose. In other words, only baseball games are played there. We now are building a separate stadium, at even more cost, next door for the football team. This also will
be a single purpose stadium, and will be
used at least 10 times a year for home
games for the Seattle Seahawks, provided they don't move to some other city in the meantime.

It gets even better. This stadium was designed without a roof over the playing field at all. And this in Seattle where web feet are the norrn.

Perhaps the Seattle Bureaucrats exist primarily to make Omaha Bureaucrats look better.

I was in line about 6:15 or so - which
was about 4:15 Seattle time, waiting in a cool wind for the doors to open at 7. My gloomy mood due to sleep deprivation improved tremendously as several friends from previous years' meetings joined me in line.

The doors promptly opened at 7, and the stampede began. It was like a group of soccer fans except they were better dressed but only slightly better behaved in the rush to get in the door. The local paper later said that there were over 10,000 shareholders at the meeting. Janet and Austin Lowe, Peter
Bevelin, and Roy and Jacki'e Walker and I managed to get
seats together fairly close to the front of the auditorium.

Berkshire always puts on a continental breakfast for the shareholders, and has booths for many of the businesses it owns including See's Candy, Geico, etc., etc., etc. We reserved our seats by piling stuff on them, and off we went.

I was especially interested in seeing if I could find Ajit Jain. Ajit is the miracle man of Berkshire's reinsurance operations. Sure enough, I found him hanging around one

 of the insurance company booths. I introduced myself, and proceeded to ask him how in the world he priced Berkshire's super cat policies. He told me a little about it, but he might as well have been talking to a chimpanzee. He said, in all sincerity, that it was really easy. And fun too. Yeah, right!

Pretty soon, Tony Nicely, the head of Geico Insurance, walked up happily munching on a Dairy Queen Dilly Bar.
Here was walking proof of the synergy at Berkshire.

Tony has worked for Geico since he was 18 years old. Warren said that he has never, ever heard Tony say something that didn't make sense. He, like Ajit, are among the best in the world at what they do.

After he finished talking to Ajit, I asked Tony if I could ask him a question about Geico. He said sure. I asked him, since they were going to spend around half a billion dollars on advertising this year, what venues gave the most bang for the buck?

His answer was interesting. He said ca- ble TV gave the best return for advertis- ing dollar spent, and print media gave the worst. Later on, during the meeting, Warren and Charlie commented on how different the newspaper business was likely to be 5 years from now. Tony's comment certainly tied in with that.

Warren always puts on a series of funny skits on the big video screens to entertain the Faithful until the meeting starts. Somewhere in there was the comment that Bill Gates is the only billionaire that does windows.

The meeting started promptly at 9:30, and was over at 9:35. We then got on to the reason we were all there - to hear Warren and Charlie answer questions for the next six hours.

After the first question or two, Warren got off on the subject of investment books. He said that the first one was by Aesop written about 600 BC. He is reputed to have said that a bird in the hand is worth two in the bush. Warren said that if Aesop had gone just a little bit further, he
could have defmed investment theory for the next 2,500 years. But then, it was 600 BC after all.

Warren said that he left out:

1. When can you get those two birds in the bush? (time value of money)
2. What were the prevailing interest rates at the time?

Naturally, the subject of excess in the stock market came up. Warren has said: "It's a phenomenon that really does feed on itself. It will intensify unless something happens to interrupt it, and there will be something that interrupts it."

Charlie said that he prefers to refer to this excess as "wretched excess" because the ultimate consequences are going to be so wretched. He was referring to companies selling at sky high prices and having no or negative earnings. "When you mix reason with turds," he said, "you still have turds."

When the laugher died down, Warren said: "Now you know why I write the annual reports."
Another fellow was unfortunate enough to ask Charlie what he thought of the valuation methods presented in a book which I shall leave un-named. Charlie leaned forward and laconically said that stuff was "so much twaddle and bullshit."

Charlie can be kind of "earthy" at times. I like that in a guy-

There were several questions the gist of which revolved around Warren's and Charlie's non-involvement in high-
tech companies. Warren pointed out for what must be the Billionth time that they only invest in businesses they can understand and where they can reasonably predict the future of those businesses with a fair degree of confidence.

Charlie piped up and said: "There are worse things in life than to be left behind with a bunch of ugly money sitting around. Just because someone else next door is making lots of money doing something you do not understand should not make you miserable."

One lady said that she had been a long time shareholder, and asked Warren at what point she should turn her shares into gold coin. Not every question, it should be said, showed a good grasp of the subject. But Warren rose to
the occasion, and said that he had never understood the intrinsic value of gold. It was, after all, just a commodity. He would much rather have his money invested in a good business which had a excellent probability of continuing to earn lots of money in the future.

Charlie then, tongue in cheek, put in his two cents worth. He said that she should be considering silver, not gold.

The audience reacted with much laughter. It was a bit of an "in" joke. You see, several years ago, Warren and Charlie decided, perhaps after imbibing too much cherry coke, (also an "in" joke since they own a great deal of Coca Cola stock... Ed.) to buy up most of the world's silver production. Berkshire still owns the stuff, and Warren has a really huge pile of silver ingots stashed away in a warehouse somewhere. So far, amazing profits have not materialized.

 Another theme which occurs throughout Charlie's and Warren's talks and writings is that they do not try to make macroeconomic predictions. By that, I mean attempting to predict future interest rate levels, inflation rates, GDP rates of growth, and the like. Warren says that he has occasionally made a few predictions, but he personally makes it a point to be sure that he ignores them. Instead, they are totally focused on the current health and future of individual businesses.

There is a lot of acquisition activity going on in the business world including acquisitions by Berkshire. Many CEOs hire investment bankers to value the businesses, write really long reports, and charge huge fees. Berkshire does not do that.

Warren said that if you hired some investment banker and asked him whether or not you should buy a particular business, anybody with any common sense at all is going already know to the probable answer. If the banker says no, he gets paid very little. If he says yes, he gets paid a lot.

Warren said that if you can't value the company yourself,

you have no business buying it in the first place.

Warren also said that there are definitely more banks than there are bankers. But then, I already knew that.

Bill Gates and Warren have been friends for quite some time. One question that was asked was what Warren and Charlie thought about the possible breaking up of Microsoft. Warren and Charlie both feel strongly that the government is wrong. "Twenty years ago," Warren said, "the United States was depressed because Japan, Germany and other countries seemed to be passing us by. But when the information age arrived, U.S. companies such as Mi- crosoft became world leaders."

Now the government's antitrust lawsuit is threatening one of the cornerstones of our turnaround. Charlie said: "Somebody that draws a salary from the govennnent gets to drastically weaken the one place where we are winning big?"

There were several questions about the Internet, and its effect on businesses. Warren said that there is no question that it will have a huge effect, obviously more on some businesses than others. For one thing, it is going to drastically lower the barriers to competition. Warren summarized by saying that for society, the Internet is going to be a positive thing. However, for business in general, due to the ability of the Internet to increase competition and lower margins, the effect will probably be net negative.

Warren talked a little about how Berkshire Hathaway got started. It was a New England textile mill that Warren bought because it was so cheap. "it was kind of like a cigar butt," Warren said, "short, soggy, and unappetizing, but it was free." As he has said before, buying Berkshire Hathaway was a mistake. In fact, the textile mill business no longer exits.

Warren said: "Wrong decisions are a part of life. Being able to make them work out anyway is one of the abilities of those who are successful."

I remember a skilled woodworker who was helping me build a boat who told me what the difference between a really skilled woodworker and an average woodworker was. "Both make mistakes," he said, "but the really skilled woodworker makes them look intentional."

Insurance has become the primary business of Berkshire, and a number of questions came from the shareholders about insurance. Warren said: "In the insurance business, all surprises tend to be unpleasant ones." General Re's huge underwriting loss last year was certainly one of them. Warren said: "He would love to write only fire insurance

 on concrete bridges that are underwater. But real life is -not like that."

Around noon, Warren and Charlie took a break for lunch. Actually, I doubt they had room for lunch as they had been eating peanut brittle on stage continuously since 9:30 and washing it down with cherry coke. Around 11:00, a Barbie Doll dressed as a real live girl came out on stage with a huge box of See's Candy and a kiss for each of them. They then promptly started out in on some serious sampling of its contents. There was some discussion within our little group sitting together as to whether they were actually going to last until 3:30 or keel over from an overdose of sugar before then. After the break, they moved on to Dairy Queen Dilly Bars. These guys are tough!!

I didn't bother with lunch, and instead took the opportunity to walk around and say hello to people I had met at previous meetings. Bill Child waved, and I went over to say hello to him and his wife, Pat. As you know from past newsletters, Bill is the CEO of RC Willey, and has managed to achieve a 50% market share of all the furniture sold in the state of Utah. He and his family are truly wonderful people, and I consider myself lucky to have gotten to know them.

T'his year, Warren singled out Bill for some exceptional things he had done in connection with the opening of a new store in Boise. You should read Warren's annual letter and read about this if you haven't already. Warren said: "You can understand why the opportunity to partner with people like Bill Child causes me to tap dance to work every morning."

Bill told me about how excited he was about their projected move into the Las Vegas market. In case you didn't know this, Las Vegas is the fastest growing city in the United States. They were going to sign the papers on the closing on Monday. Bill thinks that Las Vegas will support three stores, and I bet he is right. When we were there for a week or so a year ago, a pall of brown dust lay over the city during the week. The dust was gone on the weekend. It was dust from all the construction activity going on.

One shareholder asked Warren about the immense severance package Doug Ivester of Coca Cola received when he was removed from his position after only about two years in office. Warren, since he is on the board of Coke, is intimately familiar with the issue.

Warren first pointed out that since he owns about 35% of Berkshire, and since Berkshire owns about 10% of Coke, he personally has probably paid the largest severance pay

ever paid by an individual in history.
I think that I am on fairly safe ground in saying that Warren would not have gone along with this had he not thought it in Coke's best long-term interest to do so. He also took pains to point out Doug has worked for Coke for a very long time, and that his contributions to the company over all that time have been immense. He was just the wrong guy for that time in Coke's history.

Warren then launched on a short discussion of executive compensation in general. I personally have thought for a long time that the compensation paid the heads of most of our large corporations has gotten out of hand, but I really did not understand why.

Warren first said that, more and more, boards feel that they have to better the competitors' compensation packages to attract the best talent. To make matters worse, CEOs have pretty large egos. Do you think that they would be happy being in the lower 50% of top executives' compensation?

Many of these guys actually show up with attorneys and agents for their interviews. It's getting to be worse than Hollywood. It is a kind of "Catch 22". The Boards feel they have to pay more, and the potential CEOs demand more. As a result, pay packages keep going up.

Worst of all, Warren said he sees no end in sight. The only real way to put on the brakes is a concerted effort on the part of the shareholders. And the shareholders do not seem to care enough. The Institutional Investors, who really could have an effect if they worked in concert, don't seem to care either. Witness the average mutual fund manager who moves in an out of companies like they are paying musical chairs or something.

Warren said that he has been on 19 major corporate boards, not including the various subsidiaries of Berkshire, and has been on a number of compensation committees of those boards. He has often expressed his views, but has not been very effective. Most of the directors do not want to hear this stuff. He said: "When you come to dinner, you can only belch so many times at the table before you don't get invited back."

A few years ago, Warren said in one of the annual meet- ings that, given the choice, he would much rather own
100% of a great company than just a part of it through common stock ownership. Since then, Berkshire has made some truly major acquisitions - like General Re, all the rest of Geico, and International Dairy Queen. This represents a major change in the composition of Berkshire over the last few years.

Currently, about 70% of Berkshire's assets are in 100% owned subsidiaries as opposed to ownership of large blocks of stock of companies like Coke, Gillette, Ameri- can Express, Wells Fargo, and The Washington Post. Warren stated that as an approximate goal, he would like to see about 90% of Berkshire in 100% owned subsidiaries.

This is a very important point, and I have given some thought as to why he is probably moving in this direction. First of all, I think that the overall issue is control. If the company is 100% owned, Warren has 100% say in how it should be run. Many of the problems of corporate governance that Warren and Charlie feel so strongly about can be eliminated, and the businesses can be run better, more efficiently, and benefit the bottom line and the (Berkshire) shareholders more.

I think that the following list of what Warren and Charlie regard as serious corporate governance abuses explain, at least in part, this change in the composition of Berkshire. Warren and Charlie, at one time or another, have mentioned all of the following issues, but I think that they are so important that they are worth summarizing.

Stock Options - Warren does not believe that the all too common practice of giving stock options in lieu of cash compensation makes sense. Corporations do this for many reasons, not the least of which is that the options do not show as an expense in the year they are granted. As Charlie said this year: "Options subtract value from the moment they are issued." Warren has rhetorically asked: "If options are not an expense, what are they? And if they are not shown on the Income Statement, where should they be shown?" If the true expense of stock options were considered, the PE ratio of the Standard and Poors 500, already high, would be much higher.

Stock Buybacks - Stock buybacks are valid uses of retained earnings only if the current stock price is, in the opinion of management, significantly below the intrinsic value of the stock. Today, we see stock buybacks being made for all kinds of the wrong reasons - such as offsetting the exercise of all those stock options granted earlier - usually at a price higher than what the management knows the intrinsic value of the stock is. And this high price is, after all, the reason the options are being exercised in the first place. Guess who gets the short end of that deal.

Executive Compensation - Warren feels that executives should be compensated fairly and well. However, he feels that compensation should be in the form of cash, and that compensation should be tied to a meaningful, for that business, measure of performance.