the richest man in atherstone

SOURCE: Berkshire Hathaway Shareholder Letter 1979

Business Advice
Buffett begins with a few words about changes to accounting procedure. Equities owned by insurance companies are now required to be listed on the balance sheet at market value whereas previously they were recorded as either the purchase price or the aggregate market value (whichever was lower). This has resulted in the net worth of the insurance division increasing substantially. It also means that should an insurance company and a non-insurance company purchase the same equity, they would be recorded differently on each balance sheet. Again, Buffett's inegrity and his ability to explain difficult concepts in layman's terms is highlighted. A less scrupulous chairman might use this change in procedure to make it appear as though the company has done better than it has.

Buffett explains that the previous year has bought good results, however the increased amount of capital that was available at the start of the year has not been utilised as efficiently as in previous years. This is further explained in the 'Investment Advice' section below.

Berkshire Hathaway has bought 13 new companies for cash and have started 6 others, however the outlook for equities looks less desirable than in previous years due to the current economic climate. Increases to inflation rates and taxes could wipe out any real profits.

"When this index exceeds the rate of return earned on equity by the business, the investor’s purchasing power (real capital) shrinks even though he consumes nothing at all."

Buffett is forthright enough to say that he has no solution to this problem.

Associated Retail Stores has produced fantastic results in an unpredictable sector. Berkshire Hathaway's textile businesses however, have performed poorly in comparison to capital employed despite being profitable. As in previous letters, Buffett explains that the problem is not so much the specific businesses but the industry that they're in. This is because the capital employed in property, machinery etc is high and the relative profits are low.

Berkshire Hathaway's Insurance businesses have been a mixed bag this year. Competition from other companies in the insurance sector has increased as they are prepared to sacrifice profitable underwriting for volume of premiums. Despite the tough market, some of Berkshire Hathaway's businesses have performed extraordinarily well, most notably National Indemnity and Workers Compensation. These businesses have continued to only underwrite at a profit without worrying about the volume of premiums. The managers have been singled out for praise by Buffett for their strong-mindedness. I have noticed that when he is handing out praise, Buffett is eager to name the managers, however if results are poor he only mentions the company name.

Analysts at the time have predicted the insurance industry will do poorly for a year or so before getting back on track. Buffett disagrees with this, citing that he doesn't think that insurance companies will stop issuing policies at an underwriting loss and forecasts around a five year dip. As Berkshire Hathaway's companies will not be underwriting at a loss, he predicts this time will be difficult for them and warns that performance will not be as lucrative as previous years. Buffett demonstrates that he is single-minded and will go against conventional wisdom if he believes it to be incorrect. He also shows a high level of honesty towards his shareholders again.

The Illinois National Bank has beaten its own records and outperformed its competitors again, however due to legislation (the Bank Holding Company Act 1969), Berkshire Hathaway are being forced to sell most or all of the business. Buffett hopes to find a buyer next year but highlights that price is not the only factor. He wants to ensure the staff will be treated well after providing Berkshire Hathaway with a fantastic service over the years. Buffett does not expect to be able to employ the proceeds from the sale in as profitable a business.

"You simply can’t buy high quality businesses at the sort of price/earnings multiple likely to prevail on our bank sale."

Berkshire Hathaway are listed for trading on the NASDAQ, meaning that its earnings are now quoted in the Wall Street Journal and the Dow Jones ticker solving previous issues of information dissemination.

Buffett displays a great amount of respect for Berkshire Hathaway shareholders and takes the time to discuss the format of the companies annual reporting principles. As most shareholders are long-term investors and have a significant proportion of their wealth in Berkshire Hathaway stock, Buffett does not tend to restate things he has said in previous annual reports and aims to keep them informed of all the important issues in the companies operations.

"Many of these owners are willing to spend a significant amount of time with the annual report, and we attempt to provide them with the same information we would find useful if the roles were reversed."

Due to the long-term view, explanations are kept to a minimum in quarterly reports and saved for the annual reports, which are written by Buffett himself.

He goes on to explain that Berkshire Hathaway is not all things to all people and he intends for it to stay that way so that shareholders and potential shareholders know exactly where they stand. Buffett is happy with his current shareholders as they have the same views as the management and he does not want to lose them, in favour of new ones, as a consequence of becoming more universal.

"We much prefer owners who like our service and menu and who return year after year. It would be hard to find a better group to sit in the Berkshire Hathaway shareholder “seats” than those already occupying them."

Buffet expects next year to provide increased operating earnings but decreased return on equity. He states three reasons that could reduce operating earnings:

"the outcome depends partly upon the date of disposition of the bank, partly upon the degree of slippage in insurance underwriting profitability, and partly upon the severity of earnings problems in the savings and loan industry."

Berkshire Hathaway's financial decisions are made at the very top by Buffett's own very small team with operations delegated to a small number of key managers in each company. Buffett explains that this structure both reduces costs and speeds up the decision-making process as well as attracting and retaining some very talented individuals. Buffett believes that this is one of the reasons that Berkshire Hathaway continues to produce outstanding results year after year.

Investment Advice
Buffett describes what Berkshire Hathaway considers to be the best way to measure a companies performance over a year:

"We continue to feel that the ratio of operating earnings (before securities gains or losses) to shareholders’ equity with all securities valued at cost is the most appropriate way to measure any single year’s operating performance."

He goes on to explain that if securities were recorded at their current market value, it would create wild fluctuations from one year to the next due to the nature of the market. This would not show the true picture of how a company itself is performing.

Earnings per Share for Berkshire Hathaway has increased by 20%, however Buffett does not think this represents a sound figure on which to focus as capital has been somewhat under-utilised over the previous 12 months despite the fact that more had been available than in previous years. He goes on to provide further explanation of this:

“'Earnings per share' will rise constantly on a dormant savings account or on a U.S. Savings Bond bearing a fixed rate of return simply because 'earnings' (the stated interest rate) are continuously plowed back and added to the capital base."

"The primary test of managerial economic performance is the achievement of a high earnings rate on equity capital employed (without undue leverage, accounting gimmickry, etc.) and not the achievement of consistent gains in earnings per share."

In contrast, when measuring performance over the long term, Buffett believes that equities should be represented at market value and all realised capital gains and losses should be recorded as well as any extraordinary items. In the short term however, they are not good performance indicators.

"...it is just that their impact is often extremely capricious in the short run, a characteristic that makes them inappropriate as an indicator of single year managerial performance."

Investments by Berkshire Hathaway's insurance companies has produced good performance over the last year. Buffett forecasts that over the next year, equity markets will be less profitable but he doesn't intend to adjust any of the stock portfolios to match the market for one specific year, preferring to hold with a view to the long term.

Insurance companies are required to invest a percentage of their money in fixed income bonds, however Buffett explains that due to high inflation, long-term bonds are a risky as the value of the dollar is constantly being eroded. He goes on to explain that it is ironic that some insurance companies are only offering 6 month car policies as it is difficult to forecast the future in the current economic climate yet they are still investing in 30 and 40 year bonds!

"We have severe doubts as to whether a very long-term fixed-interest bond, denominated in dollars, remains an appropriate business contract in a world where the value of dollars seems almost certain to shrink by the day."

One of the reasons for Berkshire Hathaway's outperforming competitors is that they have favoured convertible bonds (the bonds can be converted to shares) over normal bonds. Additionally, they have favoured equities over bonds.

Despite this, Buffett admits that mistakes have been made with the purchase of shorter term bonds (15 years). These were purchased knowing that bonds would probably underperform other investments and erred on the side of caution (15yr bonds instead of 40yr bonds).

"You do not adequately protect yourself by being half awake while others are sleeping."

Buffett concludes his discussion of bonds by saying that, on the positive side, new government legislation or higher interest rates could still protect bond buyers.

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Arkad

Just a quick note to mention I've changed my mortgage calculator so that both years and months can be filled in instead of just months. No more getting the calculator out to see how many months in 19 years

The Richest Man in Atherstone's Mortgage Calculator

In February, I stumbled across a website that offered incentives to buy products and services through them in exchange for cashback. I did a little checking around and found that there are quite a few such companies offering the same service with different pricing structures (to see a pretty comprehensive list of cashback websites, check out this Cashback Website Comparison Matrix).

Here's how these cashback( CB ) websites work:

1. CB makes agreements with merchants that they will recieve a commission if they refer punters to them and they go on to purchase something.
2. Punter visits the CB website and clicks on one of the links to a merchant where they purchase something.
3. Merchant pays CB company the commission.
4. CB pays some of the commission it recieves to the punter and keeps the rest for itself.
5. The merchant has sold. The CB company has made some money. The punter has got a discount. Everybody's happy.

As I said, I looked at a number of these websites and the one that seemed to offer the best value was a cooperative called Quidco. Instead of taking a percentage of all cashback earned, they just hang on to a fiver per year (admin charge, as they call it). Also, they do not ask for money up front. They simply take £5 from the first lot of cashback you earn.

Anyway, this is a good way to get discounts on things like electrical goods, CD's, insurance etc. however this was not the reason I joined up. Looking through the merchants, I discovered that a lot of online bookies were offering more in cashback than was needed to actually earn the cashback. For example, one offer was to earn £17 of cashback for making a £10 bet! £7 of free money plus whatever I win! Also, many of these websites were offering a free £10 bet for new customers, giving me more chance of winning.

I do like to have a flutter from time to time (as my World Cup Wager Experiment shows) and wanted to discover which online gambling business best suited my needs so subsequently, over the last 10 months, I've signed up to them all and earned a fair bit of money in cashback and winnings on free bets. The table below shows the companies I signed up for, the cost, the cashback and the winnings.

Total Bookies Net Earnings: £130

So, it turned out to be a nice little earner. During my "gambling spree", my wife mentioned that she would like to do a similar thing with the Bingo websites. Some of her friends had said that they enjoyed playing Bingo online and this would be an ideal strategy for her to try out a lot of these websites to find out which one she liked the best. Here are the results:

Total Bingo Net Earnings: £304

We lucked out a bit with the double jackpot winnings from Gala but even so the exercise would still have been profitable without this 'unusual item'. Crunching the numbers I get the following results:

Total Outlay: £176 (includes £5 Quidco admin fee)
Cashback Earnings: £299
Winnings: £306
Total Net Earnings (without winnings): £123
Total Net Earnings (with winnings): £429

Conclusion
This has been a very lucrative experiment for me, however even if I hadn't won anything, I'd still have earned over £100 profit. It was enjoyable too and my wife and I spent some 'quality' time together playing Bingo.

Obviously, this only works with companies that offer more cashback than you have to deposit, or at the very least, companies that offer the same amount (as Crown Bingo and Bingo Boogie above).

Although all the money came through for me, Quidco (and all other cashback websites) do not guarantee that you will get the cashback offered. Things can go wrong with the tracking or the merchant can just be awkward about it.

Quidco isn't just for gambling. My wife got a large discount on her car insurance using the service and before I buy anything, I always see if the merchant is listed on Quidco first to get a discount.

My wife is planning on opening a Quidco account now and do the same as me and a number of friends and family have also expressed an interest. This idea has got my stamp of approval, however it is essential anyone trying it todo their own homework first and be aware of the risks.

UPDATE OCTOBER 2007: As well as Quidco, there are a number of other cashback websites of a similar theme. Click the image below to compare the main features of a multitude of cashback websites with W3WAD.COM's Cashback Website Comparison Matrix. You can also download a FREE guide which explains how to make hundreds of pounds from them.

After reading a number of posts on the MoneySavingExpert forums and the popularity of my mortgage calculator, I thought it would be worthwhile to create a Regular Savings calculator.

The Richest Man in Atherstone's Regular Savings Calculator

Regular Savings accounts offer a very good interest rate (7 or 8% to 12%pa) for savers that are willing to deposit a minimum amount into it every month. There are usually several restrictions with these accounts such as penalties for making withdrawals and maximum monthly payment limits. However, if you have a few grand that you want to maximise the interest earnings on and can afford to tie it up for a year or 2 risk-free, these accounts offer the best rates available.

Well I finally got the shopping done. It took a lot longer than I thought and it isn't as easy I, rather naively, thought it would be either. My wife makes it look so easy.

It came to a few pence over my limit of £70, however I have got a few extra meals that we can use during the next shopping period, reducing the next bill. Some of those 2 for 1 and 3 for 2 offers sucked me in a treat.

I've written down a list of meals we will be having, ready for it to be vetted by my beautiful wife in the morning (this was a condition of me doing the shopping, as well as doing the cooking as well!). If it's okay, I'll order the shopping tomorrow and look forward to it coming next Tuesday.

Surfing the Internet, I found this website that gives special promotion codes for free delivery and discounts. No doubt I'll be using one of them (or more) when I buy the shopping.

I'll let you know how my fiendish plan went in a few weeks time...

My wife does the grocery shopping online every fortnight. She's always done it since we bought our house together (I'm a very lucky man) and I thought she deserved a break, so I have offered to do it for the next two-week period.

That's part of the reason, anyway.

My ulterior motive is to try and reduce our grocery expenses without anyone in the family noticing a huge difference (i.e. no living on SmartPrice beans and oats for two weeks). It also gives me a chance to get more of what I like

We spend an average of £86 per fortnight for a family of four (2 adults and 2 kids). I would like to reduce this to around £70 or even lower, if possible.

Right now, I'm constructing a meal plan for each day of the 2 weeks (including snacks) and then I'm going to search for free vouchers or promotions on the Internet before putting my order in to an online supermarket.

Watch this space for the results of my evil plan....

I got me £60 of free money today from my Morgan Stanley Cashback Credit Card today. I got the card about a year ago as it was the best deal around at the time. The great thing about cashback cards is that they are so easy to utilise. I have always paid off my balance every month (so that I don't pay interest) and the purchases I have made with the card over the last 12 months, I would have made anyway. For me, there is no downside. I did exactly as I did before but got rewarded £60 for doing so.

Spending on my Morgan Stanley card has waned recently because I found a better deal from GE Money. With GE Money's Everyday Credit Card, I get 3% cashback (that's £3 for every £100 I spend) from purchases at supermarkets and petrol stations (which is the where the lion's share of my spending goes).

Cashback credit cards are fantastic

You may remember that I opened an A+L Premier Direct account a little under 12 months ago to cash in on their referrals scheme. They sent me a letter offering £100 if I signed up, so naturally I jumped at the offer. I recieved the £100 plus another £50 as a referral, as my mum was already an account holder (A+L offer £50 each to the refer-er and refer-ee, if that's a real word). More recently, I got one of my work colleagues to open an account earning another £50.

The only slight difficulty was transferring the requisite £500 over to the account each month. This was made all the more easier by the 12 month 0% free overdraft they gave me. As soon as the account was open, I transferred the full overdraft amount (£950) to my regular Lloyds TSB current account, followed by a transfer of £450 to my savings account. Then I just bounced the £500 between my two accounts every month.

For me, this has been the best deal of the year. £200 in free money for relatively little work plus nearly 12 months interest earned on money that was borrowed at 0%.

However, all good things must come to an end and I decided to close the account as it was approaching the end of the 0% overdraft. The procedure was painless - just a phone call really - and now I plan to open another very soon (probably getting another £50 referral in the process). I am also toying with opening the Premier Current Account, which despite offering a poor interest rate, comes with a 12%AER Regular Savings account. I already have a Lloyds TSB Regular Savings Account which offers a lower interest rate (6%AER), however I can get access to my cash anytime without penalty.

Decisions, decisions...

P.S. A big thank-you to A+L

Plusnet Stock Part I, Part II, Part III, Part VI

This week, my 200 shares in Plusnet have soared from £1.50 to £2.00. It was only month ago that they were valued at around £1.00.

This is the result of the company confirming that they have recieved a "preliminary approach which may or may not lead to an offer being made for the company" .

Analysts have speculated that the approach is from BT Group and that an offer of around £2.00 would be most likely.

Unfortunately, the shares cost me around £2.50 each, so I am hoping that the share price continues to rise to at least this amount. I am considering selling now and cutting my losses, however I expect I will hold out a little longer and see how it progresses. Nevertheless, I have the weekend to think about it which should be plenty of time.

Last year, I reduced my telephone bill by around £40 by signing up to Just Dial (now owned by TalkTalk) and Call18866. The corresponding posts can be found below:

• Expense Reduction: Telephone I
• Expense Reduction: Telephone II
• Expense Reduction: Telephone III
• Expense Reduction: Telephone Results

This reduced my quarterly telephone bill to around £41 per quarter, however Call18866 have increased their tarriff over 12 months from 2p per call to 3p, 4p and now 5p per call, increasing my quarterly telephone costs to around £55 per quarter (that's £33 per quarter for line rental and a further £7 or £8 in call costs).

Therefore, I have decided to change my telephone provider to Plusnet, my existing broadband provider. Plusnet will provide my line rental as well as free calls to landlines for £15 per month, reducing my quarterly bill from £55 to £45. The tarriff for 0845 numbers is a little cheaper than other providers and calls to 0870 numbers are a little higher, however I very rarely call 0870 numbers due to the high cost (see SayNotO0870 for more details). It's still higher than what it was a year ago, however it is the best deal I have been able to find at the present time (I must add that owning Plusnet shares may have influenced my decision).

I have been investigating mortgages recently to see how much we could afford if we moved house and what the impact of a better mortgage rate would be if we stayed where we are. Part of the task involved searching the Internet for an easy method of calculating the monthly installments of a repayment mortgage based on the loan amount, term and interest rate as well as creating a table that would lay out a monthly amortisation schedule. I also wanted to know how much of the installment would be used for interest and how much was actually repaying the loan.

I searched the Internet but couldn't find exactly what I was looking for, so I created my own:

The Richest Man In Atherstone's Mortgage Calculator

I have found it very useful and think that others may find it useful too, so I have published it on my website. Hope it helps someone.