B000U5KFIC EBOK (38 page)

WHEN BITFFETT ACQUIREI> A PRIVATE JET to ease the burden of business travel,
Munger continued to take commercial flights and chided Buffett for his
extravagance. Buffett dubbed his business jet the "Indefensible," in reaction to Munger's jabs, but said he had been seriously considering naming
the plane the Charles T. Munger.

After Berkshire became the owner of the pilot-training company
FlightSafety International in 1997 for $1.5 billion in stock and cash,
Munger changed his tune. He told shareholders: "Prompted by Al Ueltschi
(the company's founder), we are changing the name of the company plane
from `the Indefensible' to `the Indispensable,'" 19

FlightSafety International, which gained notoriety in 1999 as the
school from which John F. Kennedy, Jr. took flying lessons, is Berkshire's
largest noninsurance business. The company was founded in 1951 by
Ueltschi, a pilot who mortgaged his home to start the business. Based in
Flushing, New York, FlightSafety provides high-technology training to operators of aircraft and ships, using sophisticated simulators and other
training tools. With 500 employees across the country, FlightSafety has
about 90 percent of the training market, secured by long-term contracts.
Customers generally are airlines, corporations, and the government.
Those clients include Airbus, Bell Helicopters, Boeing, British Aerospace,
Raytheon, Sikorsky, Learjet, Lockheed, Cessna, Gulfstream, and other aircraft companies. With 1997 net income of $84.4 million, FlightSafety represented 28 percent of Berkshire's after-tax earnings from businesses
other than insurance.

THE 1990s WERE A MUSCLE-BUILDING time for Berkshire, and while some of
the investments the company has made are brilliant, many of them also
seem predictable. The exception came in 1998. Buffett showed that he
was still on the prowl for undervalued assets, when it appeared that someone was making a move on the silver market. Speculation ran rampant, accusations flew, but nobody suspected that the orders for silver
were originating in Omaha.

Berkshire never discloses its investments until required to by law, but
turmoil was swirling in the silver commodities market, including threatened law suits against some silver traders and complaints to regulators that
certain traders were manipulating the market. Buffett and Munger stepped
forward and admitted that they'd been accumulating a large stash of
the precious metal. Buffett revealed that the company had purchased
129,710,000 ounces of silver between July 25, 1997, and January 12, 1998.

"Over 30 years ago," said the company press release, "Warren Buffett,
CEO of Berkshire, made his first purchase of silver in anticipation of the
metal's demonetization by the U.S. government. Since that time he has followed silver's fundamentals but no entity he manages has owned it. In recent years, widely published reports have shown that bullion inventories
have fallen very materially, because of an excess of user-demand over
mine production and reclamation. Therefore, last summer Mr. Buffett and
Mr. Munger, vice chairman of Berkshire, concluded that equilibrium between supply and demand was only likely to be established by a somewhat higher price."

At the 1998 Berkshire shareholders meeting, Munger explained that
the company's $650 million purchase of about 20 percent of the world's
supply of silver may have had an impact on the silver market, and it represented an uncharacteristic Buffett investment, but it meant very little to
Berkshire's bottom line.

"This whole episode will have about as much impact on Berkshire's
future as Warren's bridge playing. It is close to a non-event."

Munger issued his usual warning that just because Berkshire bought
silver, or convertible preferred shares of airline stock, or did anything
at all, didn't mean everyone else should do it.

"It would be a huge mistake to assume that Berkshire Hathaway is the
right model for all America. It would be an absolute disaster if every single corporation in America suddenly tried to turn itself into a clone of
Berkshire Hathaway. ,20

They paid around $4.60 to $4.80 per troy ounce for the silver in the
summer of 1997. By February 1998, the price was up to $7 per ounce, its
9-year-high, but by the end of the year it was trading at around $5 per
ounce, and the price has been relatively flat since then. Munger would
not say what Berkshire's position in silver was at that time, but said that
based on the current price, it was "perfectly obvious" that their expectations of silver price performance had not yet been realized.

MONGER AND B[UFFETT CAN STILL startle the investment world now and then,
and as he did in the past Munger sometimes goes forward with his own
ideas, even if Buffett isn't fully aboard. Such was the case with Costco,
the Issequah, Washington-based warehouse store.

"I admired this place so much that I violated my rules [against sitting
on outside boards," said Munger. "It's hard to think of people who've
done more in my lifetime to change the world of retailing for good, for
added human happiness for the customer.""

Munger contends that by selling quality merchandise very close to
cost, the stores built such a loyal customer base that it qualifies as a franchise. "If you get hooked on going to Costco with your family, you'll go
for the rest of your life," he said."

One of the reasons Munger likes Costco is because of Jim Sinegal, the
company's president, whose office has no walls separating him from
passing employees. Sinegal, chairman of Costco, studied at the feet of
Sol Price, the San Diego, California, entrepreneur who originated the
warehouse store concept. Price first opened the California-based Fedmart
stores, then sold the chain to a German company, who apparently didn't
understand the concept and couldn't keep the stores going. Price then
took the plain-wrap-shopping concept a level higher with his Price Club
warehouse stores. Price Club eventually was acquired by Costco, which
now is the second-largest warehouse store chain behind Wal-Mart's Sam's
Clubs.

Charlie absolutely crows at the story of Costco's paper towels, a story
that to Munger represents an admirable example of business ethics.
Costco produces its own line of Kirkland products, which it guarantees to
be as good or better than the top selling product in its field. When
Costco's paper towels didn't live up to the promise, they were withdrawn
until a suitable towel could be sold.

"He truly believes in our business," says Sinegal, adding that the
76-year-old Munger has never missed a board meeting. "He loves it."

Buffett was asked why he hadn't bought more Costco shares, considering that Munger owns shares and is on the board of directors.

"Yeah, you hit on a good one here," Buffett replied. "We should've
owned more Costco, and probably if Charlie had been sitting in Omaha,
we would've owned more Costco. Charlie was constantly telling me
about this terrific method of distribution, and after 10 years or so I
started catching on to what he was saying, and we bought a little of
Costco at Berkshire.

"We actually negotiated to buy more. I made the most common
mistake that I make ... We started buying it, and the price went up, and instead of following it up and continuing to buy more.... If Costco had
stayed at $15 a share or so, where we were buying it, we would've bought
a lot more. But instead it went to 15'H and who could pay 1518 when
they'd been paying $15-it wasn't quite that bad. But I have made that
mistake a lot of times, and it's very irritating."23

In February 1999, Munger made a related investment when he and
several family members bought 8 to 9 percent of San Diego-based Price
Enterprises Inc. Price Enterprises is a real estate investment trust
formed with real estate retained from the old Price Club retail empire.
It owns 31 shopping centers, some of which are anchored by Costco
stores. The Munger group holds around 2 million of Price's 23.7 million
preferred shares.2,

Buffett also makes independent investments for his own account.
Such was the case in the summer of 1999 when he bought a 5.3 percent
stake in Bell Industries, a small California electronics business. In January
2000, a month after it was disclosed that Buffett bought shares in the
company, he quietly sold for a profit of $1 million-a 50 percent return
on investment.

BUFFETT AND MUNGER HAVE WARNED that Berkshire Hathaway, like so many
other businesses, could go through a negative cycle. They've said this for
so long that shareholders and analysts alike stopped believing them. They
were, however, telling the truth. In 1998, Berkshire reported that its
earnings slipped 24 percent from 1997, as gains from investments fell by
more than half. That didn't mean Berkshire actually lost money. Net earnings were just down, $1.902 billion or $1,542 per share in 1997, compared to $2.489 billion or $2,065 per share for the previous year.25

Throughout its history, Berkshire's short-term earnings have been
volatile-partly because insurance results are notoriously bumpy and
partly because Munger and Buffett are willing to forego short-term results
for longer-term gains. At the end of the century, Gen Re was being reorganized to better fit the Berkshire philosophy, and GEICO was being
primed for a growth spurt.

Berkshire's share price declined 19.9 percent in 1999, the first time
in nearly a decade, and the price kept falling in the early part of 2000. But
so be it. Munger tells investors to conduct their financial affairs so that no
matter what crazy things happen in the markets, they can stay in the
game. He cautioned that if you can't afford for your Berkshire Hathaway
stock (or any stock, for that matter) to drop 50 percent, you probably
shouldn't own it. The share price decline could tarnish the pairs image with the public, but any wane in his and Buffett's personal popularity
might come as a welcome relief. Both men are constantly badgered to
make speeches, give personal advice, or contribute money to hundreds of
different charities.

Nevertheless, in 1999 Berkshire was still a powerful company. Operating revenues gave it a rank of 75 on the Fortune 500. When measured
by earnings, excluding investment gains, it ranked fifty-fourth. But some
investors were worried that in the last year to start with the number one,
Berkshire would have a substantial earnings decline. Net earnings were
strong, although at $1.5 billion they were less than half 1998 net earnings. Per-share book value rose only .5 percent and relative to the S&P
500, results were down 20.5 percent.

Overall and for the long-term, Munger is optimistic about the future
of Berkshire Hathaway, for very simple reasons. "Basically, we have a
wonderful hunch of businesses. We have float that keeps increasing and a
pretty good record of doing well in marketable securities. None of that
has gone away." Indeed, in the first quarter, 2000, Berkshire's net income
rose by 49 percent.

As the company has grown and taken shape, the relationship between Munger and Buffett has changed somewhat. In the 1970s and
1980s, they conferred several times every day.

"We don't talk as often," says Buffett. "We talked about more
prospective ideas 25 years ago. There was a time when we averaged well
over once a day. They were long conversations. The hospital is his main
occupation now-Harvard School and Mungerville. Those aren't things
for us to talk about. Charlie is just a fraction less involved in Berkshire
than I am, but if anything big comes along and is specific, then we talk.
He understands the business and the principles very well. Charlie doesn't
have his ego wrapped up in Berkshire the way I do, but he understands it
perfectly."2'

Though Buffett is nearly 70 years old and Munger is six and a half
years his senior, they show no signs of retiring.

"Warren likes the game," said Munger. "I like the game. And even in
periods that are thought of as a tough times for other people, it's a lot
of fun.-2-