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(Exact name of Registrant as specified in its charter)
Delaware
47-0813844
State or other jurisdiction of
(I.R.S. Employer
incorporation or organization
Identification Number)
1440 Kiewit Plaza, Omaha, Nebraska
68131
(Address of principal executive office)
(Zip Code)
Registrant’s telephone number, including area code (402) 346-1400
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Name of each exchange on which registered
Class A Common Stock, $5.00 Par Value
New York Stock Exchange
Class B Common Stock, $0.1667 Par Value
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of
the Securities Act. Yes þ No o
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or
Section 15(d) of the Act. Yes o No þ
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2)
has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K
(§229.405 of this chapter) is not contained herein, and will not be contained, to the best of
Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in
Part III of this Form 10-K or any amendment to this Form 10-K. [ ]
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in
Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer þ
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
(Do not checkk if a smaller reporting company)
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No þ
State the aggregate market value of the voting stock held by non-affiliates of the Registrant as of
June 30, 2007 $112,953,710,000*
Indicate number of shares outstanding of each of the Registrant’s classes of common stock:
* This aggregate value is computed at the last sale price of the common stock on June 30, 2007. It
does not include the value of Class A Common Stock (393,058 shares) and Class B Common Stock
(3,591,394 shares) held by Directors and Executive Officers of the Registrant and members of their
immediate families, some of whom may not constitute “affiliates” for purpose of the Securities
Exchange Act of 1934.
Berkshire Hathaway Inc. (“Berkshire,”“Company” or “Registrant”) is a holding company owning
subsidiaries engaged in a number of diverse business activities. The most important of these are
insurance businesses conducted on both a primary basis and a reinsurance basis. Berkshire also
owns and operates a large number of other businesses engaged in a variety of activities, as
identified herein. Berkshire is domiciled in the state of Delaware, and its corporate headquarters
is located in Omaha, Nebraska.
Berkshire’s operating businesses are managed on an unusually decentralized basis. There are
essentially no centralized or integrated business functions (such as sales, marketing, purchasing,
legal or human resources) and there is minimal involvement by Berkshire’s corporate headquarters in
the day-to-day business activities of the operating businesses. Berkshire’s corporate office
management participates in and is ultimately responsible for significant capital allocation
decisions, investment activities and the selection of the Chief Executive to head each of the
operating businesses.
Insurance and Reinsurance Businesses
Berkshire’s insurance and reinsurance business activities are conducted through approximately
60 domestic and foreign-based insurance entities. Berkshire’s insurance businesses provide
insurance and reinsurance of property and casualty risks world-wide and also reinsure life,
accident and health risks world-wide.
In primary (or direct) insurance activities, the insurer assumes the risk of loss from persons
or organizations that are directly subject to the risks. Such risks may relate to property,
casualty (or liability), life, accident, health, financial or other perils that may arise from an
insurable event. In reinsurance activities, the reinsurer assumes defined portions of risks that
other primary insurers or reinsurers have assumed in their own insuring activities.
Reinsurance contracts are normally classified as treaty or facultative contracts. Treaty
reinsurance refers to reinsurance coverage for all or a portion of a specified class of risks ceded
by the primary insurer, while facultative reinsurance involves coverage of specific individual
risks. Reinsurance contracts are generally classified as quota-share or excess. Under quota-share
(proportional or pro-rata) reinsurance, the reinsurer shares proportionally in the original
premiums, losses and expenses of the primary insurer or reinsurer. Excess (or non-proportional)
reinsurance provides for the indemnification of the primary insurer or reinsurer for all or a
portion of the loss in excess of an agreed upon amount or “retention.” Both quota-share and excess
reinsurance may provide for aggregate limits of indemnification.
Except for regulatory considerations, there are virtually no barriers to entry into the
insurance and reinsurance industry. Competitors may be domestic or foreign, as well as licensed or
unlicensed. The number of competitors within the industry is not known. Insurers and reinsurers
compete on the basis of reliability, financial strength and stability, ratings, underwriting
consistency, service, business ethics, price, performance, capacity, policy terms and coverage
conditions.
Insurers and reinsurers based in the United States are subject to regulation by their states
of domicile and by those states in which they are licensed or write policies on a non-admitted
basis. The primary focus of regulation is to assure that insurers are financially solvent and that
policyholder interests are otherwise protected. States establish minimum capital levels for
insurance companies and establish guidelines for permissible business and investment activities.
States have the authority to suspend or revoke a company’s authority to do business, as conditions
warrant. States regulate the payment of dividends by insurance companies to their shareholders.
Dividends and capital distributions of extraordinary amounts are subject to prior regulatory
approval.
Insurers may market, sell and service insurance policies in the states that they are licensed.
These insurers are referred to as admitted insurers. Admitted insurers are generally required to
obtain regulatory approval of their policy forms and premium rates. Non-admitted insurance markets
have developed to provide insurance that is otherwise unavailable from the admitted insurance
markets of a state. Non-admitted insurance, often referred to as “excess and surplus” lines, is
procured by either state-licensed surplus lines brokers who place risks with insurers not licensed
in that state or by insureds’ direct procurement from non-admitted insurers. Non-admitted
insurance is subject to considerably less regulation with respect to policy rates and forms.
Reinsurers are normally not required to obtain regulatory approval of premium rates and policy forms.
The insurance regulators of every state participate in the National Association of Insurance
Commissioners (“NAIC”). The NAIC adopts forms, instructions and accounting procedures for use by
U.S. insurers and reinsurers in preparing and filing annual statutory financial statements.
However, an insurer’s state of domicile has ultimate authority over these matters. In addition to
its activities relating to the annual statement, the NAIC develops or adopts statutory accounting
principles, model laws, regulations and programs for use by its members. Such matters deal with
regulatory oversight of solvency, compliance with financial regulation standards and risk-based
capital reporting requirements.
Berkshire’s insurance companies maintain capital strength at exceptionally high levels. This
strength differentiates Berkshire’s insurance companies from their competitors. Collectively, the
aggregate statutory surplus of Berkshire’s U.S. based insurers was approximately $62 billion at
December 31, 2007. All of Berkshire’s major insurance subsidiaries are rated AAA by Standard &
Poor’s Corporation, the highest Financial Strength Rating assigned by Standard & Poor’s, and nearly
all are rated A++ (superior) by A.M. Best with respect to their financial condition and operating
performance.
The insurance industry experienced severe losses from the September 11, 2001 terrorist attack.
On November 26, 2002, President Bush signed into law the Terrorism Risk Insurance Act of 2002,
which established within the Department of the Treasury a Terrorism Insurance Program (“Program”)
for commercial property and casualty insurers by providing Federal reinsurance of insured terrorism
losses. In December 2005, the Program was extended to December 31, 2007 through the passage of the
Terrorism Risk Insurance Extension Act of 2005. In December 2007, the Program was extended to
December 31, 2014 through the passage of the Terrorism Risk Insurance Program Reauthorization Act
of 2007. Hereinafter the 2002, 2005 and 2007 Acts are collectively referred to as TRIA. Under
TRIA, the Department of the Treasury is charged with certifying “acts of terrorism” as having been
a terrorist act undertaken on behalf of a foreign person or interest which resulted in an insured
loss in excess of $5 million. TRIA currently establishes that the industry insured loss for a
certified event must exceed $100 million. To be eligible for Federal reinsurance, insurers must
make available insurance coverage for acts of terrorism, by providing policyholders with clear and
conspicuous notice of the amount of premium that will be charged for this coverage and of the
Federal share of any insured losses resulting from any act of terrorism. Assumed reinsurance is
specifically excluded from TRIA participation. Beginning in 2006, TRIA also excluded certain forms
of direct insurance (such as commercial auto, burglary, theft, surety and certain professional
liability lines). Terrorism exclusions that were contained within reinsurance contracts remain in
effect. Reinsurers are not required to offer terrorism coverage and are not eligible for Federal
reinsurance of terrorism losses.
In the event of a certified act of terrorism, the Federal government will reimburse insurers
(conditioned on their satisfaction of policyholder notification requirements) for 85% of their
insured losses in excess of a company deductible. Under the December 2007 Program extension, the
deductible is 20% of the aggregate direct subject earned premium for relevant commercial lines
business in the immediately preceding calendar year. Berkshire’s aggregate deductible in 2008 will
be approximately $525 million. There is also an aggregate limit of $100 billion on the amount of
the Federal government coverage for each TRIA year.
For many years, the insurance industry has been subject to claims arising from the manufacture
of asbestos and its use in products. The magnitude of such losses has caused many manufacturers to
file for protection under the U.S. Bankruptcy Code. In recent years, increasing numbers of claims
have been filed against users of such products, including claims based upon exposure to asbestos,
even though no related illness has been identified. Consequently, the U.S. Congress has
periodically introduced legislation to assure that resources are available to indemnify claimants
suffering from asbestos-related illnesses and to manage the overall cost of those claims. To date,
no legislation has passed. It is highly uncertain as to whether or not any legislation will be
enacted and, if enacted, how the provisions of such laws will affect Berkshire.
Regulation of the insurance industry outside of the United States is subject to the differing
laws and regulations of each country in which the insurer has operations or writes premiums. Some
jurisdictions impose complex regulatory requirements on insurance businesses while other
jurisdictions impose fewer requirements. In certain foreign countries, reinsurers are required to
be licensed by governmental authorities. These licenses may be subject to modification, suspension
or revocation dependent on such factors as amount and types of reserves and minimum capital and
solvency tests. The violation of regulatory requirements may result in fines, censures and/or
criminal sanctions in various jurisdictions. Berkshire subsidiaries have historically provided
insuring capacity to several syndicates at Lloyd’s of London. Such capacity entitles Berkshire to
a share of the risks and rewards of the activities of the syndicates in proportion to the amount of
capacity provided. This business is subject to regulation by the U.K.’s Financial Services
Authority which maintains comprehensive rules and regulations covering the legal, financial and
operating activities of managing agents and syndicates.
Berkshire’s insurance underwriting operations are comprised of the following sub-groups: (1)
GEICO and its subsidiaries, (2) General Re and its subsidiaries, (3) Berkshire Hathaway Reinsurance
Group and (4) Berkshire Hathaway Primary Group. Except for certain reinsurance products that
generate a significant amount of up-front premiums along with estimated claims expected to be paid
over very long periods of time, Berkshire expects to achieve a net underwriting profit over time
and to reject inadequately priced risks. Additional information related to each of these four
underwriting groups follows.
GEICO — Berkshire acquired GEICO in January 1996. GEICO is headquartered in Chevy Chase,
Maryland and its principal insurance subsidiaries include: Government Employees Insurance Company,
GEICO General Insurance Company, GEICO Indemnity Company and GEICO Casualty Company. These
companies primarily offer private passenger automobile insurance to individuals in 49 states and
the District of Columbia. In addition, GEICO insures motorcycles, all-terrain vehicles and
recreational vehicles and acts as an agent for other insurers who offer homeowners, boat and life
insurance to individuals. GEICO markets its policies primarily through direct response methods in
which applications for insurance are submitted directly to the companies via the Internet, by
telephone or through the mail.
GEICO competes for private passenger auto insurance customers with other companies that sell
directly to the customer as well as with companies that use a traditional agency sales force.
Private passenger automobile insurance business is highly competitive in the areas of price and
service. Some insurance companies exacerbate price competition by selling their products for a
period of time at less than adequate rates. This arises as a result of underestimating ultimate
claim costs and/or overestimating the amount of investment income expected to be earned from the
cash flow generated as a result of premiums being received before claims are paid. GEICO will not
knowingly follow that strategy.
As a result of an aggressive advertising campaign and competitive rates, new business sales
and voluntary policies-in-force increased each year from 2003 through 2007. Voluntary auto
policies-in-force have increased about 65% over the past five years. GEICO is currently the fourth
largest auto insurer, in terms of premium volume, in the United States. According to A.M. Best
data for 2006, the five largest automobile insurers have a combined 48.2% market share, with
GEICO’s share being 6.9%. Seasonal variations in GEICO’s insurance business are not significant.
However, extraordinary weather conditions or other factors may have a significant effect upon the
frequency or severity of automobile claims.
Private passenger auto insurance is stringently regulated by state insurance departments. As
a result, it is difficult for insurance companies to differentiate their products. Competition for
preferred-risk private passenger automobile insurance, which is substantial, tends to focus on
price and level of customer service provided, whereas price tends to be the primary focus for other
risks. GEICO places great emphasis on customer satisfaction. GEICO’s cost-efficient direct
response marketing methods and emphasis on customer satisfaction enable it to offer competitive
rates and value to customers. GEICO primarily uses its own claims staff to manage and settle
claims.
Management believes that the name and reputation of GEICO is a material asset and protects its
name and other service marks through appropriate registrations.
General Re — Berkshire acquired General Re Corporation (“General Re”) in December 1998.
General Re was established in 1980 to serve as the holding company of General Reinsurance
Corporation and its affiliates. General Re affiliates also include Kölnische Rückversicherungs –
Gesellschaft AG (“Cologne Re”), a major international reinsurer based in Germany. General Re
currently holds a 95% ownership interest in Cologne Re and in 2006 initiated a plan to acquire the
remaining outstanding shares. General Re subsidiaries currently conduct business activities
globally in 56 cities and provide insurance and reinsurance coverages world-wide. General Re
operates property/casualty insurance and reinsurance, life/health reinsurance and other reinsurance
intermediary and risk management, underwriting management and investment management services
businesses. General Re is one of the largest reinsurers in the world based on premium volume and
shareholder capital.
Property/Casualty Reinsurance
General Re’s property/casualty reinsurance business in North America is conducted through
General Reinsurance Corporation, domiciled in Delaware and licensed in the District of Columbia and
all states but Hawaii where it is an accredited reinsurer. Property/casualty operations in North
America are headquartered in Stamford, Connecticut, and are also conducted through 16 branch
offices in the U.S. and Canada. Reinsurance activities are marketed directly to clients without
involving a broker or intermediary where coverages are written primarily on an excess basis and
under treaty and facultative contracts. In 2007, approximately 30% of net written premiums in
North America related to casualty reinsurance coverages and 49% related to property reinsurance
coverages.
General Re’s property/casualty business in North America also includes a few smaller specialty
insurers, primarily the General Star and Genesis companies (domiciled in Connecticut, North Dakota
and Ohio). These specialty insurers underwrite primarily liability and workers’ compensation
coverages on an excess and surplus basis and excess insurance for self-insured programs. In 2007,
the specialty insurers represented approximately 21% of General Re’s property/casualty net premiums
written in North America.
General Re’s property/casualty reinsurance business operations are conducted through
internationally-based subsidiaries on a direct basis (via Cologne Re as well as several other
General Re subsidiaries in 25 countries) and through brokers (primarily via Faraday, which owns the
managing agent of Syndicate 435 at Lloyd’s of London and provides capacity and participates in the
results of Syndicate 435). Through Faraday, General Re participates in 100% of the results of
Lloyd’s Syndicate 435. Coverages are written on both a quota-share and excess basis for multiple
lines of property, aviation and casualty reinsurance coverage world-wide. In 2007,
international-based property/casualty operations principally wrote direct reinsurance in the form
of treaties with lesser amounts written on a facultative basis.
Life/Health Reinsurance
Through a subsidiary of Cologne Re, life, health, long-term care and disability reinsurance
coverages are written on an individual and group basis. Most of this business is written on a
proportional treaty basis, with the exception of U.S. group health and disability business which is
predominately written on an excess treaty basis. Lesser amounts of life and disability business
are written on a facultative basis. The life/health business is marketed on a direct basis. In
2007, approximately 44% of life/health net premiums were written in the United States, 28% were
written in Western Europe and the remaining 28% were written throughout the rest of the world.
Berkshire Hathaway Reinsurance Group — The Berkshire Hathaway Reinsurance Group (“BHRG”)
operates from offices located in Stamford, Connecticut. Business activities are conducted through
a group of subsidiary companies, led by National Indemnity Company (“NICO”) and Columbia Insurance
Company (“Columbia”). BHRG provides principally excess and quota-share reinsurance to other
property and casualty insurers and reinsurers. The level of BHRG’s underwriting activities often
fluctuates significantly from year to year depending on the perceived level of price adequacy in
specific insurance and reinsurance markets.
For many years BHRG has written catastrophe excess of loss treaty reinsurance contracts. BHRG
also writes individual policies for primarily excess property risks on both a primary and
facultative reinsurance basis, referred to as “individual risk,” which includes policies covering
terrorism, natural catastrophe and aviation risks. A catastrophe excess policy provides protection
to the counterparty from the accumulation of primarily property losses arising from a single loss
event or series of events. Catastrophe and individual risk policies may provide significant
amounts of indemnification per contract and a single loss event may produce losses under a number
of contracts.
BHRG generally does not cede risks assumed under catastrophe excess reinsurance contracts or
individual risk contracts to third parties due to, in part, to perceived uncertainties in
recovering amounts from other reinsurers that are financially weaker. As a result, catastrophe and
individual risk business produces extremely volatile periodic underwriting results. The
extraordinary financial strength of NICO and Columbia are believed to be the primary reasons why
BHRG has become a major provider of such coverages.
BHRG has entered into several retroactive reinsurance contracts over the past five years.
Retroactive reinsurance contracts afford protection to ceding companies against the adverse
development of claims arising under policies issued in prior years. Coverage under such contracts
is usually provided on an excess basis and is normally subject to a large aggregate limit of
indemnification. Significant amounts of environmental and latent injury claims may arise under the
contracts. In March 2007, an agreement became effective between NICO and Equitas, a London based
entity established to reinsure and manage the 1992 and prior years’ non-life liabilities of the
Names or Underwriters at Lloyd’s of London. Under the agreement, NICO is providing up to $7
billion of new excess reinsurance to Equitas.
In BHRG’s retroactive reinsurance business, the concept of time-value-of-money is an important
element in establishing prices and contract terms, since the payment of losses under the insurance
contracts are often expected to occur over lengthy periods of time. Losses payable under the
contracts are normally expected to exceed premiums and therefore, produce underwriting losses.
This business is accepted, in part, because of the large amounts of policyholder funds (“float”)
generated for investment, the economic benefit of which will be reflected through investment income
in future periods.
BHRG also underwrites traditional non catastrophe insurance and reinsurance coverages,
referred to as multi-line business. The type and volume of such business conducted is dependent on
changes in market conditions, including changes in prevailing premium rates and coverage terms as
perceived by management, and therefore can change rapidly. In 2004 and 2005, BHRG increased its
overall volume of aviation and workers’ compensation business. In 2006 and in 2007, volume from
the aviation and workers’ compensation programs declined but was largely offset by increases from
property business written on a quota-share basis and new property program business. In January
2008, BHRG will begin assuming a 20% quota-share of property and casualty business underwritten by
Swiss Reinsurance Company and its subsidiaries continuing for the next five years. In December
2006, NICO acquired the North American property and casualty insurance subsidiaries of Converium
Holdings AG, which have been in run off since 2004.
Berkshire Hathaway Primary Group — The Berkshire Hathaway Primary Group is a collection of
primary insurance operations that provide a wide variety of insurance coverages to insureds located
principally in the United States. NICO and certain affiliates underwrite motor vehicle and general
liability insurance to commercial enterprises on both an admitted and excess and surplus basis.
This business is written nationwide primarily through insurance agents and brokers and is based in
Omaha, Nebraska.
In 2000, Berkshire acquired U.S. Investment Corporation (“USIC”). USIC, through its three
subsidiaries led by U.S. Liability Insurance Company, is a specialty insurer that underwrites
commercial, professional and personal lines of insurance on an admitted and excess and surplus
basis. Policies are marketed in all 50 states and the District of Columbia through wholesale
insurance agents. USIC companies underwrite and market approximately 95 distinct specialty
property and casualty insurance products.
In 2005, Berkshire
acquired Medical Protective Corporation (“MedPro”) which is based in Fort Wayne, Indiana.
Through its subsidiary, the Medical Protective Company, MedPro is a national leader
in primary medical professional liability coverage and risk solutions to physicians, dentists,
professional corporations and healthcare facilities. As one of the nation’s first providers of
medical professional liability insurance, MedPro has provided insurance coverage to healthcare
providers for over 100 years. MedPro’s insurance policies are distributed through a nationwide
network of employee market managers and appointed agents.
In 2006, Berkshire
acquired Applied Underwriters, Inc. (“Applied”), a leading provider of payroll and
insurance services to small and
medium-sized employers, based in Omaha, Nebraska.
Applied, through its subsidiaries, including two workers’ compensation insurance companies,
principally markets SolutionOne®, a product that bundles a variety of related insurance coverages
and business services into a seamless package that is designed to reduce the risks and remove the
burden of administrative and regulatory requirements faced by small
to medium-sized employers. The
buyer of SolutionOne® receives an integrated product that is higher in quality and more cost
effective than traditional multi-provider solutions.
In 2007, Berkshire acquired Boat America Corporation, which owns Seaworthy Insurance Company
and controls the Boat Owners Association of the United States (collectively “BoatU.S.”). BoatU.S.
provides insurance, safety and other services to recreational watercraft owners and enthusiasts.
Other insurance operations include several companies referred to as the “Homestate Companies,”
based in California, Colorado and Nebraska and with branch offices in several other states. These
companies market various commercial coverages for standard risks to insureds in their state of
domicile and an increasing number of other states. Also included is Central States Indemnity
Company of Omaha (“CSI”) located in Omaha, Nebraska, which provides credit and income protection
insurance and related services marketed primarily to credit and debit card holders nationwide. The
Kansas Bankers Surety Company is an insurer of primarily crime, fidelity, errors and omissions,
officers’ and directors’ liability and related insurance coverages directed toward small and
medium-sized banks throughout the Midwest United States.
Berkshire’s
property and casualty insurance companies establish reserves for the estimated
unpaid losses and loss adjustment expenses with respect to claims occurring on or before the balance sheet
date. Such estimates include provisions for reported claims or case estimates, provisions for
incurred-but-not-reported (“IBNR”) claims and legal and administrative costs to settle claims. The
estimates of unpaid losses and amounts recoverable under reinsurance are established and
continually reviewed by using a variety of actuarial, statistical and analytical techniques.
Reference is made to “Critical Accounting Policies,” included in Item 7 of this Report.
The table on the following page presents the development of Berkshire’s consolidated net
unpaid losses for property/casualty contracts from 1997 through 2007. Data in the table related to
acquisitions is included from the acquisition date forward.
The first section of the table reconciles the estimated liability for unpaid losses and loss
adjustment expenses recorded at the balance sheet date for each of the indicated years. The net
liability represents the estimated amount of claims and claim expenses, including IBNR, outstanding
as of the balance sheet date, reduced by estimates of amounts recoverable under ceded reinsurance,
deferred charges on retroactive reinsurance contracts and reserve discounts.
Certain workers’ compensation loss reserves are discounted for both statutory and GAAP
reporting purposes at an interest rate of 4.5% per annum for claims occurring before 2003 and at 1%
per annum for claims occurring after 2002. The discount accretion is included as a component of
insurance losses and loss adjustment expenses.
In addition, incurred losses from property and casualty reinsurance include amortization of
deferred charges established on retroactive reinsurance contracts. At inception of these
contracts, unpaid losses are recorded at the estimated ultimate payment amount. However, a
deferred charge asset is also recorded at the inception of the contract. The deferred charges are
subsequently amortized over the expected claim payment period, with such charges recorded as a
component of insurance losses and loss adjustment expenses.
The second section of the table shows the re-estimated amount of the previously recorded net
liability based on experience as of the end of each succeeding year. The estimate is increased or
decreased as losses are paid and more information becomes known about the frequency and severity of
unpaid claims. The line labeled “cumulative deficiency (redundancy)” represents the aggregate
increase (decrease) in the initial estimates from the original balance sheet date through December31, 2007. These amounts have been reported in earnings over time as a component of losses and loss
adjustment expenses and include accumulated reserve discount accruals and deferred charge
amortization.
The redundancies or deficiencies shown in each column should be viewed independently of the
other columns because such adjustments made in earlier years may also be included as a component of
adjustments in the more recent years. Liabilities assumed under retroactive reinsurance contracts
are treated as occurrences in the year the contract was entered into, as opposed to when the
underlying losses actually occurred, which is prior to the contract date. Due to the significance
of the deferred charges and reserve discounts, the cumulative changes in such balances which are
included in the cumulative deficiency/redundancy amounts are also provided.
The third part of the table shows the cumulative amount of net losses and loss adjustment
expenses paid with respect to recorded net liabilities as of the end of each succeeding year.
While the information in the table provides a historical perspective on the adequacy of unpaid
losses and loss adjustment expenses established in previous years, readers are cautioned against
extrapolating redundancies or deficiencies of the past on current unpaid loss balances.
Berkshire management believes that the reserves established as of December 31, 2007 are reasonable
and adequate. However, due to the inherent uncertainties in the reserving process, it cannot be
assured that such balances will ultimately prove to be adequate. Dollar amounts are in millions.
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
Unpaid losses per
Consolidated Balance Sheet
$
6,637
$
22,804
$
26,600
$
32,868
$
40,562
$
43,771
$
45,393
$
45,219
$
48,034
$
47,612
$
56,002
Reserve discounts
—
1,666
1,663
1,675
2,022
2,405
2,435
2,611
2,798
2,793
2,732
Unpaid losses before discounts
6,637
24,470
28,263
34,543
42,584
46,176
47,828
47,830
50,832
50,405
58,734
Ceded reserves
(274
)
(2,167
)
(2,331
)
(2,997
)
(2,957
)
(2,623
)
(2,597
)
(2,405
)
(2,812
)
(2,869
)
(3,139
)
Net unpaid losses
6,363
22,303
25,932
31,546
39,627
43,553
45,231
45,425
48,020
47,536
55,595
Reserve discounts
—
(1,666
)
(1,663
)
(1,675
)
(2,022
)
(2,405
)
(2,435
)
(2,611
)
(2,798
)
(2,793
)
(2,732
)
Deferred charges
(480
)
(560
)
(1,518
)
(2,593
)
(3,232
)
(3,379
)
(3,087
)
(2,727
)
(2,388
)
(1,964
)
(3,987
)
Net unpaid losses, net of
discounts/deferred charges
$
5,883
$
20,077
$
22,751
$
27,278
$
34,373
$
37,769
$
39,709
$
40,087
$
42,834
$
42,779
$
48,876
Liability re-estimated: 1 year later
$
5,673
$
19,663
$
22,239
$
28,569
$
36,289
$
39,206
$
40,618
$
39,002
$
42,723
$
41,811
2 years later
5,540
18,132
22,829
30,667
38,069
40,663
39,723
39,456
42,468
3 years later
5,386
18,464
24,079
32,156
40,023
40,517
40,916
39,608
4 years later
5,293
19,750
25,158
33,532
40,061
41,810
41,418
5 years later
5,304
20,581
26,894
34,096
41,448
42,501
6 years later
5,246
21,172
26,676
35,566
42,229
7 years later
5,311
21,244
27,925
36,410
8 years later
5,268
22,170
28,762
9 years later
5,276
22,859
10 years later
5,287
Cumulative deficiency (redundancy)
(596
)
2,782
6,011
9,132
7,856
4,732
1,709
(479
)
(366
)
(968
)
Cumulative foreign exchange effect*
—
(1,200
)
(1,564
)
(2,768
)
(2,565
)
(1,998
)
(1,018
)
(431
)
(1,000
)
(510
)
Net deficiency (redundancy)
$
(596
)
$
1,582
$
4,447
$
6,364
$
5,291
$
2,734
$
691
$
(910
)
$
(1,366
)
$
(1,478
)
Cumulative payments: 1 year later
$
1,811
$
4,509
$
5,825
$
5,352
$
6,653
$
8,092
$
8,828
$
7,793
$
9,345
$
8,865
2 years later
2,463
7,596
8,289
8,744
11,396
14,262
13,462
12,666
15,228
3 years later
3,330
9,384
9,889
11,625
16,378
18,111
17,429
16,463
4 years later
3,507
10,436
11,513
15,608
19,658
21,446
20,494
5 years later
3,598
11,421
13,840
18,504
22,438
24,067
6 years later
3,694
12,221
15,855
20,692
24,748
7 years later
3,752
13,870
17,310
22,555
8 years later
4,254
14,565
18,293
9 years later
4,273
14,937
10 years later
4,297
Net deficiency (redundancy) above
$
(596
)
$
1,582
$
4,447
$
6,364
$
5,291
$
2,734
$
691
$
(910
)
$
(1,366
)
$
(1,478
)
Deferred charge changes and reserve discounts
446
690
1,174
1,524
1,533
1,748
1,110
879
741
282
Deficiency (redundancy) before deferred
charges and reserve discounts
$
(1,042
)
$
892
$
3,273
$
4,840
$
3,758
$
986
$
(419
)
$
(1,789
)
$
(2,107
)
$
(1,760
)
*
The amounts of re-estimated liabilities in the table above related to these operations are
based on the applicable foreign currency exchange rates as of the end of the re-estimation period.
The cumulative foreign exchange effect represents the cumulative effect of changes in foreign
exchange rates from the original balance sheet date to the end of the re-estimation period.
Investments — Invested assets of insurance businesses derive from shareholder capital as well
as funds provided from policyholders through insurance and reinsurance business (“float”). Float is
an approximation of the amount of net policyholder funds available for investment. That term
denotes the sum of unpaid losses and loss adjustment expenses, unearned premiums and other
policyholder liabilities, less the aggregate amount of premium balances receivable, losses
recoverable from reinsurance ceded, deferred policy acquisition costs, deferred charges on
reinsurance contracts and related deferred income taxes.
The amount of float has grown from approximately $7 billion at the end of 1997 to $59 billion
at the end of 2007, through internal growth as well as through business acquisitions. BHRG and
General Re accounted for approximately 80% of total float as of December 31, 2007. Equally
important as the amount of the float is its cost, represented by Berkshire’s periodic net underwriting gain
or loss. The increases in the amount of float plus the substantial
amounts of shareholder capital devoted to insurance and reinsurance activities have generated
meaningful increases in the levels of investments and investment income over the past five years.
Investment portfolios of insurance subsidiaries include ownership of equity securities of
other publicly traded companies which are concentrated in relatively few companies and large
amounts of fixed maturity securities and cash and cash equivalents. Fixed maturity investments
consist of obligations of the U.S. Government, U.S. states and municipalities, mortgage-backed
securities issued primarily by the three major U.S. Government and Government-sponsored agencies,
as well as obligations of foreign governments and corporate obligations. Investment portfolios are
primarily managed by Berkshire’s corporate office. Generally, there are no targeted investment
allocation rates established by management with respect to investment activities. Rather,
management may increase or decrease investments in response to perceived changes in opportunities
for income or price appreciation relative to risks associated with the issuers of the securities.
Utilities and Energy Businesses
Berkshire currently owns an 88.2% (87.4% diluted) voting common stock interest in MidAmerican
Energy Holdings Company (“MidAmerican”), an international energy company. Following the repeal of
the Public Utility Holding Company Act of 1935 and approval by the appropriate Federal and state
regulatory authorities, on February 9, 2006, Berkshire converted its non-voting convertible
preferred stock investment in MidAmerican to common stock. Prior to the conversion, Berkshire
owned a 9.7% voting interest and an 83.4% (80.5% diluted) economic interest in MidAmerican.
Each of MidAmerican’s businesses are managed as separate operating units. MidAmerican’s
domestic regulated energy interests are comprised of two regulated utility companies serving
approximately 3.1 million retail customers and two interstate natural gas pipeline companies with
over 17,000 miles of pipeline in operation and design capacity of 6.9 billion cubic feet of natural
gas per day. Its United Kingdom electricity distribution subsidiaries serve about 3.8
million electricity end users. In addition, MidAmerican’s interests include a diversified
portfolio of domestic independent power projects, a hydroelectric facility in the Philippines and
the second-largest residential real estate brokerage firm in the United States.
Regulated Energy Businesses
General Matters
PacifiCorp, acquired by MidAmerican in March 2006, is a public utility company headquartered
in Portland, Oregon, serving regulated retail electric customers in portions of Utah, Oregon,
Wyoming, Washington, Idaho and California. The combined service territory’s diverse regional
economy ranges from rural, agricultural and mining areas to urban, manufacturing and government
service centers. No single segment of the economy dominates the service territory, which helps
mitigate PacifiCorp’s exposure to economic fluctuations. In addition to retail sales, PacifiCorp
sells electric energy to other utilities, marketers and municipalities on a wholesale basis.
As a vertically integrated electric utility, PacifiCorp owns approximately 9,300 net megawatts
(“MW”) of generation capacity. There are seasonal variations in PacifiCorp’s business. Customer
demand is typically highest in the summer across PacifiCorp’s service territory when air
conditioning and irrigation systems are heavily used. Customer demand also peaks in the winter
months in the western portion of PacifiCorp’s service territory primarily due to heating
requirements and in the eastern portion due to other electricity demands.
MidAmerican Energy Company (“MEC”) is a public utility company headquartered in Des Moines,
Iowa, serving regulated retail electric and natural gas customers primarily in Iowa and also in
portions of Illinois, South Dakota and Nebraska. MEC has a diverse customer base consisting of
residential, agricultural and a variety of commercial and industrial customer groups. In addition
to retail sales, MEC sells regulated electric energy and natural gas to other utilities, marketers
and municipalities on a wholesale basis and sells nonregulated electric and natural gas services in
deregulated markets.
As a vertically integrated electric and gas utility, MEC owns approximately 5,700 net MW of
generation capacity. There are seasonal variations in MEC’s business that
are principally related to the use of electricity for air conditioning and natural gas for heating.
Typically, 35-40% of MEC’s regulated electric revenues are reported in the summer months while
45-55% of MEC’s regulated natural gas revenue is reported in the winter months.
Northern Natural Gas Company (“Northern Natural”) is based in Omaha, Nebraska and operates
15,700 miles of natural gas pipeline with a design capacity of 5.1 billion cubic feet of natural
gas per day making it one of the largest interstate natural gas pipeline systems in the United
States reaching from Texas to Michigan’s Upper Peninsula. Northern Natural has access to supplies
from every major mid-continent basin, as well as the Rocky Mountain and Western Canadian basins and
provides transportation services to utilities and numerous other end-use customers. Northern
Natural also operates three natural gas storage facilities and two liquefied natural gas storage
peaking units. Northern Natural’s system experiences significant seasonal swings in demand, with
the highest demand occurring during the months of November through March.
Kern River Gas Transmission Company (“Kern River”) is based in Salt Lake City, Utah and
operates approximately 1,700 miles of natural gas pipeline with a design capacity of 1.8 billion
cubic feet of natural gas per day. Kern River transports natural gas from the supply areas in the
Rocky Mountains to consuming markets in Utah, Nevada and California.
MidAmerican, through Northern
Electric Distribution Limited (“Northern Electric”) and Yorkshire Electricity
Distribution plc (“Yorkshire Electricity”), owns a substantial United Kingdom electricity distribution network that delivers
electricity to end users in the North and East of England covering almost 10,000 square miles. The
distribution companies primarily charge supply companies regulated tariffs for the use of their
electrical infrastructure.
Regulatory Matters
PacifiCorp and MEC are subject to comprehensive regulation by
Federal agencies, state utility
commissions and other state and local regulatory agencies. The Federal Energy Regulatory Commission
(“FERC”), an independent agency with broad authority to implement provisions of the Federal Power
Act and the Energy Policy Act and to assess civil penalties, regulates rates for interstate sales
at wholesale, transmission of electric power, accounting, securities issuances and other matters,
including construction and operation of hydroelectric projects. MEC is also subject to regulation
by the Nuclear Regulatory Commission pursuant to the Atomic Energy Act of 1954, as amended, with
respect to the operation of the Quad Cities Station.
Both PacifiCorp and MEC have a right to serve retail customers within their service
territories and, in turn, the obligation to provide service to those customers. Historically,
state utility commissions have established service rates on a cost-of-service basis, which is
designed to allow a utility an opportunity to recover its costs of providing services and to earn a
reasonable return on its investment. The rates of MidAmerican’s public utility subsidiaries are
generally based on the cost of providing traditional bundled service, including generation,
transmission and distribution services.
Northern Natural and Kern River are subject to regulation by various Federal and state
agencies. As owners of interstate natural gas pipelines, their rates, services and operations are
subject to regulation by the FERC. The FERC administers, most significantly, the Natural Gas Act
and the Natural Gas Policy Act of 1978 giving it jurisdiction over the construction and operation
of United States pipelines and related facilities used in the transportation, storage and sale of
natural gas in interstate commerce, including the extension, expansion or abandonment of such
facilities. The FERC also has jurisdiction over the rates, charges, terms and conditions of
service for the transportation of natural gas in interstate commerce. Additionally, interstate
pipeline companies are subject to regulation by the Pipeline & Hazardous Material Safety
Administration division of the United States Department of Transportation pursuant to the
Natural Gas Pipeline Safety Act of 1968, which establishes safety requirements in the design,
construction, operation and maintenance of interstate natural gas transmission facilities, and the
Federal Pipeline Safety Improvement Act of 2002, which implemented additional safety and pipeline
integrity regulations for high consequence areas.
Northern Electric and Yorkshire Electricity charge fees for use of their distribution systems
that are controlled by a formula prescribed by the British electricity regulatory body, the Office
of Gas and Electricity Markets, which was last reset on April 1, 2005. The distribution price
control formula is generally reviewed and reset at five-year intervals.
Environmental Matters
MidAmerican and its businesses are subject to
Federal, state, local and foreign laws and
regulations with regard to air and water quality, renewable portfolio standards, climate change,
hazardous and solid waste disposal and other environmental matters. In addition to imposing
continuing compliance obligations, these laws and regulations authorize the imposition of
substantial penalties for noncompliance including fines, injunctive relief and other sanctions.
The Federal Clean Air Act, as well as state laws and regulations impacting air emissions,
provides a framework for protecting and improving the nation’s air quality and controlling mobile
and stationary sources of air emissions. These laws and rules will likely continue to impact the
operation of MidAmerican’s generating facilities and will likely require them to make emissions
reductions at those facilities through the installation of emission controls or to comply with the
regulations through the purchase of additional emission allowances, or some combination thereof.
Renewable portfolio standards have been established by certain state governments and generally
require electricity providers to obtain a minimum percentage of their power from renewable energy
resources by a certain date. Oregon, Washington, California and Iowa have all passed renewable
portfolio standards. Most significantly, PacifiCorp must meet minimum requirements for electricity
sold to retail customers from renewable energy resources of at least 25% by 2025 in Oregon and at least 15% by 2020 in Washington.
As a result of increased attention to climate change in the United States, numerous bills have
been introduced in the United States Congress that would reduce greenhouse gas emissions in the
United States. Congressional leadership has made climate change legislation a priority and many
congressional observers expect to see the passage of climate change legislation within the next
several years. The Lieberman-Warner Climate Security Act of 2007 was passed by the United States
Senate Environment and Public Works Committee on December 5, 2007. The bill would impose an
economy-wide cap on greenhouse gas emissions to reduce emissions 70% from 2005 levels by 2050. In
addition, nongovernmental organizations have become more active in initiating citizen suits under
existing environmental and other laws.
In April 2007, a United States Supreme Court decision concluded that the Environmental
Protection Agency (“EPA”) has the authority under the Clean Air Act to regulate emissions of
greenhouse gases from motor vehicles. While debate continues at the national level over the
direction of domestic climate policy, several states have developed state-specific laws or regional
legislative initiatives to reduce greenhouse gas emissions. MidAmerican continues to add renewable
electric capacity to its generation portfolio. In addition, MidAmerican has engaged in several
voluntary programs designed to reduce and/or avoid greenhouse gas emissions. The impact of any
pending judicial proceedings and any pending or enacted Federal and state climate change
legislation and regulation cannot be determined at this time; however, adoption of stringent limits
on greenhouse gas emissions could significantly impact MidAmerican’s fossil-fueled facilities, and,
therefore, its financial results.
Non-Regulated Energy Businesses
MidAmerican has ownership interests in independent power projects including a combined
irrigation and hydroelectric power project in the Philippines; ten geothermal power projects
located in Southern California; four natural gas-fueled combined-cycle generation plants located in
New York, Illinois, Texas and Arizona; and one hydroelectric power project in Hawaii with
approximately 1,000 aggregate net MW of owned generation capacity.
Non-Energy Businesses
MidAmerican also owns HomeServices of America, Inc. (“HomeServices”), the second largest
full-service residential real estate brokerage firm in the United States. HomeServices offers
integrated real estate services, including mortgage origination, title and closing services,
property and casualty insurance, home warranties and other home-related services. It operates
under 20 residential real estate brand names with almost 19,000 agents and more than 370 broker
offices in 19 states. HomeServices’ principal sources of revenue are dependent on residential real
estate sales, which are generally lower in the first and last quarters of each year.
The Registrant’s numerous and diverse manufacturing, service and retailing businesses are
described below.
McLane Company — Berkshire acquired McLane Company, Inc. (“McLane”) in 2003 from Wal-Mart
Stores, Inc. (“Wal-Mart”). McLane provides wholesale distribution and logistics services in all 50
states and internationally in Brazil to customers that include discount retailers, convenience
stores, quick service restaurants, drug stores and movie theatre complexes. From 1990 to 2003,
McLane was an integral part of the Wal-Mart distribution network. Under Berkshire’s ownership,
McLane continues to provide wholesale distribution services to Wal-Mart which accounted for
approximately 33% of McLane’s revenues during 2007. McLane’s business model is based on a high
volume of sales, low profit margins, rapid inventory turnover and tight expense control. Operations
are divided into two business units: grocery distribution and foodservice operations.
McLane’s grocery distribution unit, based in Temple, Texas, enjoys the dominant market share
within the convenience store industry and serves most of the national convenience store chains and
major oil company retail outlets. Grocery operations provide products to more than 42,000 retail
locations nationwide, including Wal-Mart. McLane’s grocery distribution unit operates 22 facilities
in 18 states, which average approximately 390,000 square feet per facility. In addition, McLane’s
grocery operations provide third-party logistics services from four distribution facilities in Brazil
that average approximately 395,000 square feet per facility.
McLane’s foodservice operations, based in Carrollton, Texas, focus on serving the quick
service restaurant industry with high quality, timely-delivered products. Operations are conducted
through 18 facilities in 16 states which average approximately 175,000 square feet per facility.
The foodservice distribution unit is considered one of the five largest restaurant systems
suppliers in the United States, servicing more than 18,000 chain restaurants nationwide.
Shaw Industries — Berkshire acquired Shaw Industries Group, Inc. (“Shaw”) in 2001. Shaw,
headquartered in Dalton, Georgia, is the world’s largest carpet manufacturer based on both revenue
and volume of production. Shaw designs and manufactures over 3,000 styles of tufted and woven
carpet and rugs and laminate flooring for residential and commercial use under about 30 brand and
trade names and under certain private labels. Shaw’s manufacturing operations are fully integrated
from the processing of raw materials used to make fiber through the finishing of carpet. Shaw’s
carpet and laminate are sold in a broad range of prices, patterns, colors and textures. Shaw
acquired the Anderson Family of Companies (“Anderson”) in September of 2007. Anderson is a fully
integrated producer of hardwood flooring known for their quality, craftsmanship and innovation.
The Anderson business will compliment Shaw’s laminate and existing flooring business.
Shaw sells its wholesale products to over 40,000 retailers, distributors and commercial users
throughout the United States, Canada and Mexico through its own residential and commercial sales
personnel. Shaw also exports to various overseas markets. Shaw provides installation services and
sells ceramic tile and hardwood flooring. Shaw’s wholesale products are marketed domestically by
over 2,000 salaried and commissioned sales personnel directly to retailers and distributors and to
large national accounts. Shaw’s 11 carpet full-service distribution facilities, three hard
surface and four rug full-service distribution facilities and 31 redistribution centers, along with
centralized management information systems, enable it to provide prompt delivery of its products to
both its retail customers and wholesale distributors.
Substantially all carpet manufactured by Shaw is tufted carpet made from nylon, polypropylene
and polyester. In the tufting process, yarn is inserted by multiple needles into a synthetic
backing, forming loops which may be cut or left uncut, depending on the desired texture or
construction. During 2007 Shaw processed approximately 97% of its requirements for carpet yarn in
its own yarn processing facilities. The availability of raw materials continues to be good
although costs have been adversely impacted by the continued high petro-chemical and natural gas
prices. The raw material increases are periodically passed along to customers.
The floor covering industry is highly competitive with more than 100 companies engaged in the
manufacture and sale of carpet in the United States and numerous manufacturers engaged in hard
surface floor covering production and sales. According to industry estimates, carpet accounts for
approximately 60% of the total United States production of all flooring types. The principal
competitive measures within the floor covering industry are quality, style, price and service.
Manufacturing, Service and Retailing Businesses (Continued)
Other Manufacturing, Service and Retailing Businesses
Apparel Manufacturing— Berkshire’s apparel manufacturing businesses include
manufacturers of a variety of clothing and footwear. Businesses engaged in the manufacture and
distribution of clothing include Fruit of the Loom (“FOL”), Russell Corporation (“Russell”), Vanity
Fair Brands (“VFB”), Garan and Fechheimer Brothers. Berkshire’s footwear businesses include H.H.
Brown Shoe Group and Justin Brands.
Berkshire acquired FOL in 2002, Russell in August 2006 and VFB in April 2007. As a combined
business, headquartered in Bowling Green, Kentucky, FOL, Russell and VFB (“FOL Inc.”) is primarily
a vertically integrated manufacturer and distributor of basic apparel, underwear and bras.
Products, under the Fruit of the Loom®, and JERZEES®labels, are primarily sold in the mass
merchandise and wholesale markets. With the addition of VFB, FOL Inc. has expanded its intimate
apparel line that is sold under the Vanity
Fair®, Vassarette®, Bestform®, Lily of France®, and Curvation®brands. FOL Inc. also markets and
sells athletic uniforms, apparel, sports equipment and balls to team dealers; college licensed tee
shirts and fleecewear to college bookstores and mid-tier merchants; and athletic apparel, sports
equipment and balls to sporting goods retailers under the Russell Athletic®and Spalding®brands.
FOL Inc. markets and sells running footwear and apparel to specialty retailers under the Brooks®
brand. Other brands include American Athletic®, Cross Creek®, Huffy Sports®, Mossy Oak®, Moving
Comfort®, Bike®, Dudley®, Discus®, Sherrin®, Gemma®,
Lou®, Belcore®, Intima®, Variance®, and
Exquisite Form®.
In the mass merchandise segment, FOL Inc. maintains the number one market share brand of men’s
underwear and in the wholesale segment maintains the number one market share brand of fleecewear.
FOL Inc., under the Spalding®brand, is the official basketball licensee of the National Basketball
Association and is the world’s leading seller of basketballs.
For basic apparel, underwear and certain athletic products FOL Inc. performs most of its own
spinning, knitting, cloth finishing, cutting, sewing and packaging. For the North American market
which comprised more than 80% of FOL Inc.’s net sales in 2007, the majority of capital-intensive
spinning and cloth manufacturing operations are located in highly automated facilities in the
United States with a portion of cloth manufacturing performed offshore. Labor-intensive sewing and
finishing operations are located in lower labor cost facilities in Central America and the
Caribbean. For the European market, products are either outsourced to third-party contractors in
Europe or Asia or sewn in Morocco from textiles internally produced in the Caribbean. A new
textile facility under construction in Morocco is planned to replace the Caribbean textile
production facility in early 2008. FOL Inc.’s bras, athletic equipment, footwear, sporting goods
and other athletic apparel lines are generally sourced from third-party contractors located
primarily in Asia.
Cotton and polyester fibers are the main raw materials used in the manufacturing of FOL
Inc.’s products and are purchased from a limited number of third-party suppliers and manufacturers. Raw
materials are subject to price volatility caused by weather, supply conditions, government
regulations, economic climate and other unpredictable factors. Management believes there are
currently readily available alternative sources of supply. However, if relationships with
suppliers cannot be maintained or delays occur in obtaining alternative sources of supply,
production could be adversely affected, which could have a
corresponding adverse effect on results of
operations.
Berkshire
acquired Garan in 2002. Based in New York, New York, Garan designs, manufactures, and
sells apparel primarily for children and to a lesser degree for men and women. Products are sold
under private labels of its customers as well as its own trademarks, including Garanimals®.
Garan’s production facilities are primarily located in Central America. Substantially all of
Garan’s products are sold through its distribution centers in the U.S. to major national chain
stores, department stores and specialty stores. In 2007, over 90% of Garan’s sales were to
Wal-Mart.
FOL Inc.’s and Garan’s markets are highly competitive, consisting of many domestic and foreign
manufacturers and distributors. Competition is generally based upon price, product style, quality
and customer service.
Fechheimer Brothers manufactures, distributes and sells uniforms, principally for the public
service and safety markets, including police, fire, postal and military markets. Fechheimer
Brothers was acquired by Berkshire in 1986 and is based in Cincinnati, Ohio.
Manufacturing, Service and Retailing Businesses (Continued)
Justin Brands and H.H. Brown Shoe Group have been owned by Berkshire for more than the past
five years. Collectively, Berkshire’s footwear businesses purchase or manufacture and distribute
work, rugged outdoor and casual shoes and western-style footwear under a number of brand names,
including Justin, Western, Double HH Boot® and Born®. Significant portions of the shoes sold by
Berkshire’s shoe businesses are manufactured or purchased from sources outside the United States.
Products are principally sold in the United States through a variety of channels including
department stores, footwear chains, specialty stores, catalogs and the Internet, as well as through
company-owned retail stores.
Building Products Manufacturing — Berkshire entered the building products business in
2000 with the acquisition of Acme Building Brands (“Acme”). Acme, headquartered in Fort Worth,
Texas, manufactures and distributes clay bricks (Acme Brick), concrete block (Featherlite) and cut
limestone (Texas Quarries). In addition, Acme distributes a number of other building products of
other manufacturers, including glass block, floor and wall tile and other masonry products. Acme
also sells ceramic floor and wall tile, as well as marble, granite and other stones through its
subsidiary, American Tile. Products are sold primarily in the Southwest United States through
company-operated sales offices. Acme distributes products primarily to homebuilders and masonry
and general contractors.
Acme operates 23 clay brick manufacturing facilities located in six states, seven concrete
block facilities in Texas and one stone quarry fabrication facility in Texas. The demand for
Acme’s products is seasonal, with higher sales in the warmer weather months and is subject to the
level of construction which can be cyclical. Acme also owns and leases properties and mineral
rights that supply raw materials used in many of its manufactured products. Raw materials supply is
believed to be adequate into the foreseeable future.
Berkshire acquired Benjamin Moore & Co. (“Benjamin Moore”) at the end of 2000. Benjamin
Moore, headquartered in Montvale, New Jersey, is a leading formulator, manufacturer and retailer of
a broad range of architectural coatings, available principally in the United States and Canada.
Products include water-thinnable and solvent-thinnable general purpose coatings (paints, stains and
clear finishes) for use by the general public, contractors and industrial and commercial users.
Products are marketed under various registered brand names, including Regal®, Superspec®, Moorcraft
Superhide®, Moorgard® and Aura™.
Benjamin Moore relies primarily on an independent dealer network for the distribution of its
products. The network consists of over 3,600 retailers with over 4,900 storefronts in the United
States and Canada. Benjamin Moore also owns and manages several multiple-outlet stores and
stand-alone stores in various parts of the United States and Canada serving primarily contractors
and general consumers. Included in the 4,900 storefronts at December 31, 2007 were 112 Benjamin
Moore majority-owned stores. The independent retailer channel offers a broad array of products
including Benjamin Moore®brands and other competitor coatings, wallcoverings, window treatments
and sundries.
The architectural coatings industry is highly competitive and has historically been subject to
intense price competition. The architectural coatings industry represented just over 49% of the
total U.S. coatings market in 2006. The market has seen rapid global consolidation over the past
years. The top four companies in the industry, including Benjamin Moore, comprised about 60% of
the total coatings market in 2006. Benjamin Moore is positioned in the top three in the Canadian
marketplace.
Berkshire acquired Johns Manville (“JM”) in 2001. Founded in 1858, JM has been serving the
building products industry for nearly 150 years and is currently the only manufacturer of a
complete line of formaldehyde-free fiber glass building insulation products. JM also manufacturers
fiber glass insulation products for pipe and duct systems and use by original equipment
manufacturers of automotive, appliance, marine and other industrial product producers. JM is also
a leading full-line supplier of roofing systems and components for low-slope commercial and
industrial roofs in North America. In addition, JM manufactures nonwoven mats, fabrics and fibers
used as reinforcements in building and industrial applications, and high-efficiency air and liquid
filtration media. Fiber glass is the basic material in a majority of JM’s products, although JM
also manufactures a significant portion of its products with other materials to satisfy the broader
needs of its customers. The raw materials in JM’s products are readily available in sufficient
quantities from various sources to maintain and expand JM’s current production levels. JM regards
its patents and licenses as valuable, however it does not consider any of its businesses to be
materially dependent on any single patent or license. JM is headquartered in Denver, Colorado, and
operates 41 manufacturing facilities in North America, Europe and China and conducts research and
development at several other facilities.
Manufacturing, Service and Retailing Businesses (Continued)
JM sells its products through a wide variety of channels including contractors, distributors,
retailers, manufacturers and fabricators. JM has leading market positions in each of its
businesses and typically competes with a few large national competitors and several smaller,
regional competitors. JM’s products compete primarily on the basis of value, product
differentiation and customization and breadth of product line.
Berkshire acquired a 90% equity interest in MiTek Inc. (“MiTek”) in 2001. MiTek is
headquartered in Chesterfield, Missouri and is a leading provider of engineered connector products,
engineering software and services and computer-driven manufacturing machinery to the truss
fabrication segment of the building components industry. Primary customers are truss fabricators
who manufacture pre-fabricated roof and floor trusses and wall panels for the residential building
market as well as the light commercial and institutional construction industry. MiTek also
participates in the light gauge steel framing market under the Ultra-Span® name and manufactures
assembly line machinery used by the lead acid battery industry. MiTek operates on five continents
with sales into approximately 90 countries. MiTek has 24 manufacturing facilities located in ten
countries and 29 sales/engineering offices located in 14 countries.
Demand for products of Berkshire’s building products businesses is affected to varying degrees
by the level of U.S. housing construction activity. For several recent years until the second half
of 2006, U.S. housing construction was strong, resulting in strong demand for building products and
high manufacturing capacity utilization. Since the second half of 2006, housing construction
activity has declined resulting in lower demand for certain building products and decreased
manufacturing capacity utilization.
The building products businesses are subject to a variety of federal, state and local
environmental laws and regulations. These laws and regulations regulate the discharge of materials
into the air, land, and water and govern the use and disposal of hazardous substances.
Other Manufacturing Businesses
Berkshire acquired an 80% interest in ISCAR Metalworking Companies (“IMC”) on July 5, 2006.
IMC, based in Tefen, Israel, is one of the world’s three largest multinational manufacturers of
consumable precision carbide metal cutting tools for applications in a broad range of industrial
end markets under the brand names ISCAR, TaeguTec, Ingersoll, Unitac, UOP It.te.di and Outiltec.
IMC’s manufacturing facilities are located in Israel, United States, Germany, Italy, France,
Switzerland, South Korea, China, India, Japan and Brazil.
IMC has five primary product lines: milling tools, gripping tools, turning/thread tools,
drilling tools and tooling. The main products are split within each product line between consumable
cemented tungsten carbide inserts and steel tool holders. Inserts comprise the vast majority of
sales and earnings. Metal cutting inserts are used by industrial manufactures to cut metals and are
consumed during their use in cutting applications. IMC manufactures hundreds of different inserts
within each product line that are highly engineered and tailored to maximize productivity and meet
the technical requirements of customers.
IMC’s products are sold through a global sales and marketing network with representatives in
virtually every major manufacturing center around the world staffed with highly skilled engineers
and technical personnel. IMC’s customer base is very diverse, with its primary customers being
large, multinational businesses in the automotive, aerospace, engineering and machines industries.
IMC operates a regional central warehouse system with locations in Israel, United States, Belgium
and Brazil. Additional small quantities of products are maintained at local IMC offices in order to
provide on-time customer support and inventory management.
IMC competes in the metal cutting tools segment of the global metalworking tools market. The
segment includes hundreds of participants who range from small, private manufactures of specialized
products for niche applications and markets to larger, global multinationals with a wide assortment
of products and extensive distribution networks.
Berkshire acquired Albecca Inc. (“Albecca”) and CTB International Corp. (“CTB”) in 2002.
Albecca is headquartered in Norcross, Georgia, and primarily does business under the Larson-Juhl
name. Albecca designs, manufactures and distributes a complete line of high quality, branded
custom framing products, including wood and metal moulding, matboard, foamboard, glass, equipment
and other framing supplies in the U.S., Canada, and 15 countries outside of North America.
CTB, headquartered in Milford, Indiana, is a leading designer, manufacturer and marketer of systems
used in the grain industry and in the production of poultry, hogs and eggs.
Manufacturing, Service and Retailing Businesses (Continued)
Berkshire acquired Forest River, Inc. (“Forest River”) in August 2005. Forest River is a
manufacturer of recreational vehicles, utility cargo and office trailers, busses and pontoon boats
and is headquartered in Elkhart, Indiana. Its products are sold in the United States and Canada
through an independent dealer network. Forest River has manufacturing facilities in six states.
Beginning in 2007, Forest River also provides wholesale financing for its dealers, broker services
for retail financing needs of dealers and provides temporary housing to the Federal and State
governments for disaster relief efforts.
The Scott Fetzer Companies are a diversified group of 21 businesses that manufacture and
distribute a wide variety of products for residential, industrial and institutional use. The two
most significant of these businesses are Kirby home cleaning systems and Campbell Hausfeld
products.
In July 2007,
Berkshire acquired two leading jewelry
manufacturing and distribution companies (Bel-Oro International and Aurafin LLC). The two companies were combined into a newly formed company
named Richline Group Inc. (“Richline”). Richline designs, manufactures and distributes karat gold,
silver and gem set jewelry selling to mass merchandisers, large jewelry chains, department stores
and home shopping networks primarily under the Aurafin and Bel-Oro brands.
Service Businesses
Berkshire acquired FlightSafety International Inc. (“FSI”) in 1996. FSI is headquartered at
LaGuardia Airport in Flushing, New York. FSI engages primarily in the business of providing high
technology training to operators of aircraft and ships. FSI’s training activities include:
advanced pilot training in the operation of aircraft and air traffic control procedures; aircrew
training for military and other government personnel; aircraft maintenance technician training;
ab-initio (primary) pilot training to qualify individuals for private and commercial pilots’
licenses; and ship handling and related training services. FSI also develops classroom
instructional systems and materials for use in its training business and for sale to others.
A significant part of FSI’s training programs derives from the use of simulators, which
incorporate computer-based technology to replicate the operation of particular aircraft or
ocean-going vessels. Simulators reproduce, with a high degree of accuracy, certain sights,
movements and aircraft or vessel control responses experienced by the operator of the aircraft or
ship. FSI utilizes 395 training devices, including 273 civil aviation simulators. FSI’s training
businesses are conducted primarily in the United States, with facilities located in 20 states. FSI
also operates training facilities in Australia, Brazil, Canada, France and the United Kingdom. FSI
also designs and manufactures full motion flight simulators, visual displays and other training
equipment for use in its training business and for sale to others. Manufacturing facilities are
located in Oklahoma and Missouri.
Berkshire acquired NetJets Inc. (“NJ”) in 1998. NJ is the world’s leading provider of
fractional ownership programs for general aviation aircraft. At December 31, 2007, the NetJets®
program operated 13 aircraft types. The fractional ownership of aircraft concept permits customers
to acquire a specific percentage of a certain aircraft type and allows them to utilize the aircraft
for a specified number of flight hours per annum. In addition, NJ provides management, ground
support and flight operation services to customers after the sale. NJ as an owner and operator of
aircraft in the United States is subject to the rules and regulations of the Federal Aviation
Administration, which address aircraft registration and maintenance requirements, pilot
qualifications and airport operations, including flight planning and scheduling as well as security
issues. NJ also maintains an “exclusive alliance” with an independent company, Marquis Jet
Partners, Inc. (“Marquis”). Under this alliance, Marquis leases and purchases fractional interests
and management services from NJ and resells them to its customers in the form of a prepaid Marquis
Jet Card, which entitles the customer to 25 hours of flight time. This element of NJ’s business
continues to grow and currently approximates 17% of total NJ revenues.
The fractional ownership concept is designed to meet the needs of customers who cannot justify
the purchase of an entire aircraft based upon expected usage. In addition, fractional ownership
programs are available for corporate flight departments seeking to outsource their general aviation
needs or looking for additional capacity for peak periods and for others that previously chartered
aircraft. NJ places great emphasis on safety and customer service. Its programs are designed to
offer customers guaranteed availability of aircraft, lower and predictable operating costs and
increased liquidity.
Manufacturing, Service and Retailing Businesses (Continued)
NJ is currently believed to be the world’s largest purchaser of general aviation aircraft and
maintained 622 aircraft in its fleet as of December 31, 2007. The market for fractional ownership
of aircraft programs is large and growing and should contribute to NJ’s continued growth over the
foreseeable future. NJ’s executive offices are located in
Woodbridge, New Jersey, while most of its logistical
and flight operations are based at Port Columbus International Airport in Columbus, Ohio. NJ’s
European operations are based in Lisbon, Portugal.
Berkshire acquired Business Wire, headquartered in San Francisco, California, in February
2006. Business Wire’s core business is the electronic dissemination of full-text news releases
daily to the media, the Internet, online services and databases and the global investment community
in 150 countries and 45 languages. Roughly 90% of the company’s revenue comes from the core
business of news distribution.
The Pampered Chef, LTD (“TPC”) is the largest direct seller of high quality kitchen tools in
the United States. Products are researched, designed and tested by
TPC and manufactured by third-party suppliers. The Buffalo News publishes three editions on Saturday and Sunday and five
editions each weekday from its headquarters in Buffalo, New York. International Dairy Queen
services a system of about 6,000 stores operating under the names Dairy Queen, Orange Julius and
Karmelkorn that offer various dairy desserts, beverages, prepared foods, blended fruit drinks,
popcorn and other snack foods.
In March 2007, Berkshire acquired TTI, Inc., a privately held electronic component distributor
headquartered in Fort Worth, Texas. TTI, Inc. is a global specialty distributor of passive,
interconnect and electromechanical components, which are readily adaptable to a wide variety of
end-users over a broad range of industries. TTI’s customer base includes original equipment
manufacturers, contract manufacturers, military, industrial users and commercial customers. TTI’s
business model is organized between its core business of supporting high volume production business
and its catalog division which supports lower volume purchases with a broader customer base and
higher margins. TTI operates distribution centers in North America, Europe and Asia. TTI operates
from more than 50 locations throughout North America, Europe and Asia.
Retailing Businesses — Berkshire’s retailing businesses principally consist of several
independently managed home furnishings and jewelry operations. Information regarding each of these
operations follows.
The home furnishings businesses are the Nebraska Furniture Mart (“NFM”), R.C. Willey Home
Furnishings (“R.C. Willey”), Star Furniture Company (“Star”), and Jordan’s Furniture, Inc.
(“Jordan’s”). NFM is 80% owned by Berkshire, whereas R.C. Willey, Star and Jordan’s are 100% owned
by Berkshire. Berkshire has owned its interest in NFM since 1983, acquired R.C. Willey in 1995,
Star in 1997 and Jordan’s in 1999.
NFM, R.C. Willey, Star and Jordan’s each offer a wide selection of furniture, bedding and
accessories. In addition, NFM and R.C. Willey sell a full line of major household appliances,
electronics, computers and other home furnishings. NFM, R.C. Willey, Star and Jordan’s also offer
customer financing to complement their retail operations. An important feature of each of these
businesses is their ability to control costs and to produce high business volume from offering
significant value to their customers.
NFM operates its business from a very large retail complex with over 500,000 square feet of
retail space and sizable warehouse and administrative facilities in Omaha, Nebraska. NFM’s
customers are drawn from a radius around Omaha of approximately 300 miles and is the largest
furniture retailer in the area. In 2000, NFM acquired Homemakers Furniture located in Des Moines,
Iowa. Homemakers has two facilities that include approximately 225,000 square feet of retail
space. In 2003, NFM opened a new store in Kansas City, Kansas. This store, which anchors a retail
and entertainment district, includes approximately 445,000 square feet of retail space with a
sizable warehouse and draws customers from a significant radius around Kansas City.
R.C.
Willey, based in Salt Lake City, Utah, is the dominant home furnishings retailer in the
Intermountain West region of the United States. R.C. Willey operates
11 retail stores, two
retail clearance facilities and three distribution centers. These facilities include approximately
1.5 million square feet of retail space with eight stores located in Utah, one store in Idaho,
three stores in Nevada and one store in California. In June 2006, R.C. Willey opened a store in
Rocklin, California to serve the Sacramento, California market. R.C. Willey also opened a new
distribution center during 2006 in Roseville, California to serve the northern California and Reno,
Nevada markets.
Manufacturing, Service and Retailing Businesses (Continued)
Star’s
retail facilities include about 700,000 square feet of retail space
in 11
locations. Star’s retail facilities are located in Texas with eight in Houston. Star maintains a
dominant position in each of its markets. Jordan’s operates a furniture retail business from four
locations with approximately 520,000 square feet of retail space in Massachusetts and New
Hampshire. Jordan’s is believed to be the largest furniture retailer, as measured by sales, in the
Massachusetts and New Hampshire areas. Jordan’s is well known in its markets for its unique store
arrangements and advertising campaigns.
Since 1989, Berkshire has owned an interest (currently 93%) in Borsheim Jewelry Company, Inc.
(“Borsheims”). From its single store located in Omaha, Nebraska, Borsheims is a high volume
retailer of fine jewelry, watches, crystal, china, stemware, flatware, gifts and collectibles. In
1995 Berkshire acquired Helzberg’s Diamond Shops, Inc. (“Helzberg”). Helzberg, based in North
Kansas City, Missouri, operates a chain of 269 retail jewelry stores in 38 states. Most of
Helzberg’s stores are located in malls or power strip centers, and all stores operate under the
name Helzberg Diamonds. In 2000 Berkshire acquired The Ben Bridge Corporation (“Ben Bridge
Jeweler”). Ben Bridge Jeweler, based in Seattle, Washington, operates a chain of 77 upscale retail
jewelry stores in 12 states, primarily in the Western United States. Principal products include
finished jewelry and timepieces. Ben Bridge Jeweler stores are located primarily in major shopping
malls. Berkshire’s retail jewelry operations are subject to seasonality with approximately 40% of
annual revenues being earned in the fourth quarter.
Also included in Berkshire’s group of retailing businesses is See’s Candies (“See’s”), which
produces boxed chocolates and other confectionery products with an emphasis on quality and
distinctiveness in two large kitchens in Los Angeles and San
Francisco, California. See’s revenues are highly seasonal with
approximately 50% of total annual revenues being earned in the months of November and December.
Finance and Financial Products
Berkshire acquired Clayton Homes, Inc. (“Clayton”) in 2003. Clayton, headquartered near
Knoxville, Tennessee, is a vertically integrated manufactured housing company. At December 31,2007, Clayton operated 41 manufacturing plants in 14 states. Clayton’s homes are marketed in 48
states through a network of 1,687 retailers, including 452 company-owned sales centers. Financing
is offered to purchasers of Clayton’s manufactured homes as well as those purchasing homes from
selected independent retailers. Such financing is provided through its wholly owned finance
subsidiaries. Clayton is also currently developing 12 housing
subdivisions in three states. At
December 31, 2007, Clayton owned and managed 66 manufactured housing communities of which 65 were
sold in January 2008.
Clayton competes at the manufacturing, retail and finance levels on the basis of price,
service, delivery capabilities and product performance and considers the ability to make financing
available to retail purchasers a major factor affecting the market acceptance of its product.
Retail sales are facilitated by Clayton’s offering of various finance and insurance programs.
Finance programs include home note and mortgage originations at
company-owned sales centers and
select independent retailers. Underwriting guidelines have been developed and include minimum
gross income, debt to income limits and credit score requirements. A proprietary credit scoring
system is used to evaluate applicants. A majority of loans are fully verified and documented as to
income, employment and credit history. Approximately 60% of the originations are home-only loans
and the remaining 40% have land as additional collateral. The average down payment is about 20%,
which may be from cash or land equity. Each loan with land will have an independent appraisal in
order to establish the value of the land. Originations are all fixed rate and fixed term, with an
average term of about 250 months. Loans outstanding also include bulk purchases of contracts and
mortgages from banks and other lenders. Clayton also provides inventory financing to certain
independent retailers and services housing contracts and mortgages that were not purchased or
originated. The bulk contract purchases and servicing arrangements may relate to the portfolios of
other lenders or finance companies, governmental agencies, or other entities that purchase and hold
housing contracts and mortgages. Clayton also acts as agent on physical damage insurance policies,
home buyer protection plan policies and other programs.
Berkshire acquired XTRA
Corporation (“XTRA”) in 2001. XTRA, headquartered in St. Louis, Missouri, is a leading
transportation equipment lessor operating under the XTRA Lease brand name. XTRA manages a diverse
fleet of approximately 120,000 units located at 75 facilities
throughout the United States and five facilities in Canada. The fleet includes over-the-road and storage trailers, chassis, temperature
controlled vans and flatbed trailers. XTRA is one of the two largest lessors (in terms of units
available) of over-the-road trailers in North America. Transportation equipment customers lease
equipment to cover cyclical, seasonal and geographic needs and as a substitute for purchasing.
Therefore, as a provider of marginal capacity of transportation equipment, XTRA’s utilization rates
(the number of units on lease to total units available) and operating results tend to be cyclical.
In addition, transportation providers often use leasing to maximize their asset utilization and
reduce capital expenditures. By maintaining a large fleet, XTRA is able to provide customers with
a broad selection of equipment and quick response times.
CORT Business Services Corporation was acquired in 2000 by an 80.1% owned subsidiary of
Berkshire and is the leading national provider of rental furniture, accessories and related
services in the “rent-to-rent” segment of the furniture rental industry.
BH Finance invests in fixed-income financial instruments, often on a leveraged basis, pursuant
to proprietary strategies with the objective of earning above average investment returns. BH
Finance also enters into derivative contracts and assumes foreign currency, equity price and
credit default risk. Management recognizes and accepts that losses may occur due to the nature of
these activities as well as the markets in general. In addition, the level of investments and
derivative contracts will vary over time depending on the magnitude and number of strategies
employed based on management’s perception of market conditions and opportunities. This business is
conducted from Berkshire’s corporate headquarters.
Additional information with respect to Berkshire’s businesses
The amounts of revenue, earnings before taxes and identifiable assets attributable to the
aforementioned business segments are included in Note 18 to Registrant’s Consolidated Financial
Statements contained in Item 8, Financial Statements and Supplementary Data. Additional
information regarding Registrant’s investments in fixed maturity and marketable equity securities
is included in Notes 4 and 5 to Registrant’s Consolidated Financial Statements.
Berkshire Hathaway Inc. maintains a
website (http://www.berkshirehathaway.com) where its
annual reports, certain corporate governance documents, press releases, interim shareholder reports
and links to its subsidiaries’ websites can be found. Berkshire’s periodic reports filed with the
SEC, which include Form 10-K, Form 10-Q, Form 8-K and amendments thereto, may be accessed by the
public free of charge from the SEC and through Berkshire. Electronic copies of these reports can
be accessed at the SEC’s website (http://www.sec.gov) and indirectly through Berkshire’s website
(http://www.berkshirehathaway.com). Copies of these reports may also be obtained, free of charge,
upon written request to: Berkshire Hathaway Inc., 1440 Kiewit Plaza, Omaha, NE68131, Attn:
Corporate Secretary. The public may read or obtain copies of these reports from the SEC at the
SEC’s Public Reference Room at 450 Fifth Street N.W., Washington, D.C. 20549 (1-800-SEC-0330).
Berkshire is subject to certain risks in its business operations which are described below.
Careful consideration of these risks should be made before making an investment decision. The
risks and uncertainties described below are not the only ones facing Berkshire. Additional risks
and uncertainties not presently known or that are currently deemed immaterial may also impair our
business operations.
The Company’s tolerance for risk in its insurance businesses may result in a high degree of
volatility in periodic reported earnings.
Berkshire
believes it has been and continues to be willing to assume more risk than any other insurer has
knowingly assumed. Berkshire estimates it could incur a probable maximum loss of $6.5 billion from
a single loss event and does so willingly if properly paid for the risk assumed. Berkshire has
also written some coverages for losses arising from acts of terrorism. In all cases, however,
Berkshire attempts to avoid writing groups of policies from which losses might seriously aggregate.
However, it is possible that despite Berkshire’s efforts, losses may aggregate in ways that were
not anticipated. The tolerance for huge losses may in certain future periods result in such
losses, which may result in a high degree of volatility in periodic reported earnings.
The degree of estimation error inherent in the process of estimating property and casualty
insurance loss reserves may result in a high degree of volatility in periodic reported
earnings.
In the insurance business, premiums are charged today for promises to pay covered losses in
the future. The principal cost associated with premium revenue is claims. However, it will
literally take decades before all losses that have occurred as of the balance sheet date will be
reported and settled. Although Berkshire believes that loss reserve balances are adequate to cover
losses, Berkshire will not truly know whether the premiums charged for the coverages provided were
sufficient until well after the balance sheet date. Except for certain product lines, Berkshire’s
objective is to generate underwriting profits over the long-term. Estimating insurance claim costs
is inherently imprecise. Reserve estimates are large ($56 billion at December 31, 2007) so
adjustments to reserve estimates can have a material effect on periodic reported earnings.
Insurance subsidiaries’ investments are unusually concentrated.
Compared to other insurers, Berkshire’s insurance subsidiaries keep an unusually high
percentage of their assets in common stocks and diversify their portfolios far less than is
conventional. A significant decline in the general stock market or in the price of major
investments may produce a large decrease in Berkshire’s shareholders’ equity and under certain
circumstances may require the recognition of such losses in the statement of earnings. Decreases
in values of equity investments could have a material adverse effect on Berkshire’s book value per
share.
Berkshire is dependent for its investment and capital allocation decisions on a few key
people.
Investment decisions and all major capital allocation decisions are made for Berkshire’s
businesses by Warren E. Buffett, Chairman of the Board of Directors and CEO, age 77, in
consultation with Charles T. Munger, Vice Chairman of the Board of Directors, age 84. If for any
reason the services of Berkshire’s key personnel, particularly Mr. Buffett, were to become
unavailable to Berkshire, there could be a material adverse effect on the Company. However,
Berkshire’s Board of Directors has identified three current Berkshire subsidiary managers who are
capable of being CEO. Berkshire’s Board has agreed on a replacement for Mr. Buffett should a
replacement be needed currently. The Board continually monitors this matter and could alter its
current view in the future. Management believes that the Board’s succession plan, together with the
outstanding managers running Berkshire’s numerous and highly diversified operating units helps to
mitigate this risk.
The past growth rate in Berkshire stock is not an indication of future results.
In the years since Berkshire’s present management acquired control of Berkshire, its book
value per share has grown at a highly satisfactory rate. Because of the large size of Berkshire’s
capital base (shareholders’ equity of approximately $120.7 billion as of December 31, 2007),
Berkshire’s book value per share very likely will not increase in the future at a rate even close
to its past rate.
Each of Berkshire’s operating businesses faces intense competitive pressures within its
respective markets. Such competition may come from domestic operators and international operators.
While Berkshire’s businesses are managed with the objective of achieving sustainable growth over
the long-term through developing and strengthening competitive advantages, many factors, including
market and technology changes, may erode competitive advantages or prevent their strengthening.
Accordingly, future operating results will depend to some degree on whether the operating units are
successful in protecting or enhancing their competitive advantages.
Berkshire’s Class B common stock is not convertible and has a lower vote and stock price than
its Class A common stock.
Each share of Class A common stock is convertible into thirty shares of Class B common stock,
but shares of Class B common stock are not convertible into shares of Class A common stock or any
other security. Although a share of Class B common stock may sell below one-thirtieth of the
market price for a share of Class A common stock, it is unlikely that a share of Class B common
stock will sell significantly above one-thirtieth of the market price for a share of Class A common
stock because higher prices than that would cause arbitrage activity to ensue. Also, holders of
Class A common stock are entitled to one vote, but holders of Class B common stock are entitled to
only one two-hundredth of a vote for each Class B share on matters submitted to a vote of Berkshire
stockholders.
Unfavorable economic and political conditions in international markets could hurt Berkshire’s
businesses.
Historically, Berkshire has derived a relatively small amount of its revenues and earnings
from international markets. In recent years, international business was concentrated in the
insurance businesses, which are conducted primarily in Western Europe, Japan, Australia and other
regions where relatively stable political and economic conditions have prevailed. As a result of
Berkshire’s recent business acquisitions including 80% of IMC on July 5, 2006, Berkshire may be
subject to increased risks from unstable political conditions and civil unrest in international
markets. IMC’s headquarters are located in Israel and substantial business operations are
conducted in Israel and South Korea.
Unstable economic and political conditions, civil unrest and political activism, particularly
in the Middle East, could adversely impact Berkshire’s businesses, including internationally based
businesses. Further, terrorism activities deriving from unstable conditions could produce
significant losses to Berkshire’s worldwide operations, including operations based in the United
States. Business operations could be adversely affected directly through the loss of human
resources and destruction of production facilities.
Risks unique to utilities and energy businesses
For the most part, Berkshire’s utilities and energy businesses, which generate, transmit and
distribute electricity and transport and distribute natural gas, are highly regulated by numerous
federal, state and local governmental authorities in the United States, the United Kingdom and
other jurisdictions in which operations are conducted. The regulatory process determines the terms
and conditions of providing utility service, including the rates that may be charged to customers.
The results of this process may not allow recovery of all costs incurred by the utilities.
Regulations also address safety, environmental, capital structure and operational compliance.
Adverse new legislation or regulations or reinterpretations of existing regulations as well as the
nature of the regulatory process may have a significant impact on financial results.
The utilities and energy business requires significant amounts of capital to construct,
operate and maintain sufficient generation, transmission and distribution systems. Usually, large
amounts of borrowed funds are employed in the process, which may not be available at economically
favorable terms. Such systems may need to be operational for very long periods of time in order to
justify the financial investment. The risk of financial failure of capital projects is not
necessarily recoverable through rates that are charged to customers.
Governmental Investigations
Certain of Berkshire’s insurance subsidiaries, particularly General Re Corporation and some of
its subsidiaries, are subject to ongoing investigations by U.S. federal and state governmental
authorities, including the U.S. Department of Justice, the Securities and Exchange Commission, the
U.S. Attorney for the Eastern District of Virginia, the New York State Attorney General, the Office
of the Connecticut Attorney General and various state insurance departments, and by certain foreign
governmental authorities, relating to non-traditional products and in some cases to transactions
with other insurers. These investigations are described under Item 3 – Legal Proceedings.
Berkshire cannot at this time predict the outcomes of these investigations, is unable to estimate a
range of possible loss and cannot predict whether or not the outcomes will have a material adverse
effect on Berkshire’s business or results of operations for at least the quarterly period when
these matters are completed or otherwise resolved.
MidAmerican’s energy properties consist of the physical assets necessary and appropriate to
generate, transmit, store, distribute and supply energy and consist mainly of electric generation,
transmission and distribution facilities and gas distribution plants, natural gas pipelines,
storage facilities, compressor stations and meter stations, along with the related rights-of-way. A
majority of these properties are pledged or encumbered to support or otherwise provide the security
for the related project or subsidiary debt. MidAmerican or its
affiliates own or have interests in
the following types of electricity generating plants at December 31, 2007:
Facility
Net
Capacity
Net MW
Energy Source
Entity
Location
(MW)(1)
Owned(2)
Coal
PacifiCorp and MEC
Iowa, Wyoming,
Utah, Arizona,
Colorado and
Montana
14,169
9,410
Natural gas and
other
PacifiCorp, MEC
and CalEnergy
Utah, Iowa,
Illinois, Oregon,
Texas, New York,
Arizona and
Washington
4,331
3,813
Hydroelectric
PacifiCorp, MEC and
CalEnergy
Washington, Oregon,
The Philippines,
Idaho, California,
Utah, Hawaii,
Montana, Illinois
and Wyoming
1,321
1,301
Wind
PacifiCorp and MEC
Iowa, Washington,
Oregon and Wyoming
943
935
Nuclear
MEC
Illinois
1,740
435
Geothermal
PacifiCorp and
CalEnergy
California and Utah
361
198
Total
22,865
16,092
(1)
Facility Net Capacity (MW) represents either: 1) PacifiCorp – the
total capability of a generating unit as demonstrated by actual operating or test
experience, less power generated and used for auxiliaries and other station uses, and is
determined using average annual temperatures; 2) MEC – the total plant accredited net
generating capacity from the summer of 2007 (except for wind-powered generation facilities,
which are nameplate ratings) where MW may vary depending on operating conditions and plant
design; or 3) CalEnergy – the contract capacity for most facilities.
(2)
Net MW Owned indicates MidAmerican’s ownership of Facility Net Capacity (MW).
As of December 31, 2007, MidAmerican owned electric transmission and distribution systems,
including approximately 17,900 miles of transmission lines and approximately 1,300 substations, gas
distribution facilities including approximately 22,000 miles of gas mains and service pipelines and
an estimated 232 million tons of recoverable coal reserves in mines owned or leased in Wyoming,
Utah and Colorado.
Northern Natural operates approximately 15,700 miles of natural gas pipelines, consisting of
approximately 6,700 miles of mainline transmission pipelines and approximately 9,000 miles of
branch and lateral pipelines. The Northern Natural Gas system includes delivery points in the
northern end of the system (Michigan, Illinois, Iowa, Minnesota, Nebraska, Wisconsin and South
Dakota) and the natural gas supply and delivery service area at the southern end of the system
(Kansas, Oklahoma, Texas and New Mexico). Storage services are provided through the operation of
one underground storage field in Iowa, two underground storage facilities in Kansas and one
liquefied natural gas storage peaking unit each in Garner, Iowa and Wrenshall, Minnesota.
Kern River operates approximately 1,700 miles of natural gas pipelines consisting of a
mainline section and common facilities. Kern River owns the entire mainline section, which extends
from the pipeline’s point of origination near Opal, Wyoming to Daggett, California.
At December 31, 2007, Northern Electric’s and Yorkshire Electricity’s electricity distribution
network on a combined basis included approximately 29,000 kilometers of overhead lines,
approximately 63,000 kilometers of underground cables and approximately 700 major substations.
Berkshire and its subsidiaries are parties in a variety of legal actions arising out of the
normal course of business. In particular, such legal actions affect Berkshire’s insurance and
reinsurance businesses. Such litigation generally seeks to establish liability directly through
insurance contracts or indirectly through reinsurance contracts issued by Berkshire subsidiaries.
Plaintiffs occasionally seek punitive or exemplary damages. Berkshire does not believe that such
normal and routine litigation will have a material effect on its financial condition or results of
operations. Berkshire and certain of its subsidiaries are also involved in other kinds of legal
actions, some of which assert or may assert claims or seek to impose fines and penalties in
substantial amounts.
a) Governmental Investigations
Berkshire, General Re Corporation (“General Re”) and certain of Berkshire’s insurance
subsidiaries, including General Reinsurance Corporation (“General Reinsurance”) and National
Indemnity Company (“NICO”) have been continuing to cooperate fully with the U.S. Securities and
Exchange Commission (“SEC”), the U.S. Department of Justice, the U.S. Attorney for the Eastern
District of Virginia and the New York State Attorney General (“NYAG”) in their ongoing
investigations of non-traditional products. General Re originally received subpoenas from the SEC
and NYAG in January 2005. Berkshire, General Re, General Reinsurance and NICO have been providing
information to the government relating to transactions between General Reinsurance or NICO (or
their respective subsidiaries or affiliates) and other insurers in response to the January 2005
subpoenas and related requests and, in the case of General Reinsurance (or its subsidiaries or
affiliates), in response to subpoenas from other U.S. Attorneys conducting investigations relating
to certain of these transactions. In particular, Berkshire and General Re have been responding to
requests from the government for information relating to certain transactions that may have been
accounted for incorrectly by counterparties of General Reinsurance (or its subsidiaries or
affiliates). The government has interviewed a number of
current and former officers and employees of General Re and General Reinsurance as well as
Berkshire’s Chairman and CEO, Warren E. Buffett, in connection with these investigations.
In one case, a transaction initially effected with American International Group (“AIG”) in
late 2000 (the “AIG Transaction”), AIG has corrected its prior accounting for the transaction on
the grounds, as stated in AIG’s 2004 10-K, that the transaction was done to accomplish a desired
accounting result and did not entail sufficient qualifying risk transfer to support reinsurance
accounting. General Reinsurance has been named in related civil actions brought against AIG. As
part of their ongoing investigations, governmental authorities have also inquired about the
accounting by certain of Berkshire’s insurance subsidiaries for certain assumed and ceded finite
reinsurance transactions.
In June 2005, John Houldsworth, the former Chief Executive Officer of Cologne Reinsurance
Company (Dublin) Limited (“CRD”), a subsidiary of General Re, and Richard Napier, a former Senior
Vice President of General Re who had served as an account representative for the AIG account, each
pleaded guilty to a federal criminal charge of conspiring with others to misstate certain AIG
financial statements in connection with the AIG Transaction and entered into a partial settlement
agreement with the SEC with respect to such matters.
On
February 25, 2008, Ronald Ferguson, General Re’s former Chief Executive Officer, Elizabeth Monrad, General Re’s
former Chief Financial Officer, Christopher Garand, a former General Reinsurance Senior Vice
President and Robert Graham, a former General Reinsurance Senior Vice President and Assistant
General Counsel, were each convicted in a trial in the U.S. District
Court for the District of Connecticut on charges of conspiracy, mail fraud, securities fraud and
making false statements to the
SEC in connection with the AIG Transaction. These individuals have the right to appeal their convictions.
Each of these individuals, who had previously received a “Wells” notice in 2005 from the
SEC, is also the subject of an SEC enforcement action for allegedly aiding and abetting AIG’s
violations of the antifraud provisions and other provisions of the federal securities laws in
connection with the AIG Transaction. The SEC case is presently stayed. Joseph Brandon, the Chief
Executive Officer of General Re, also received a “Wells” notice from the SEC in 2005.
Berkshire understands that the government is evaluating the actions of General Re and
its subsidiaries, as well as those of their counterparties, to determine whether General Re or its
subsidiaries conspired with others to misstate counterparty financial statements or aided and
abetted such misstatements by the counterparties. Berkshire believes that government authorities are continuing to evaluate
possible legal actions against General Re and its subsidiaries.
Various state insurance departments have issued subpoenas or otherwise requested that General
Reinsurance, NICO and their affiliates provide documents and information relating to
non-traditional products. The Office of the Connecticut Attorney General has also issued a subpoena
to General Reinsurance for information relating to non-traditional products. General Reinsurance,
NICO and their affiliates have been cooperating fully with these subpoenas and requests.
Kolnische Ruckversicherungs-Gesellschaft AG (“Cologne Re”) has also cooperated fully with
requests for information and orders to produce documents from the German Federal Financial
Supervisory Authority (“BaFin”) regarding the activities of Cologne Re relating to “finite
reinsurance” and regarding transactions between Cologne Re or its subsidiaries, including CRD, and
certain counterparties. The BaFin has concluded its investigation of Cologne Re concerning these
matters.
In April 2005, the Australian Prudential Regulation Authority (“APRA”) announced an
investigation involving financial or finite reinsurance transactions by General Reinsurance
Australia Limited (“GRA”), a subsidiary of General Reinsurance. An inspector was appointed by APRA
under section 52 of the Insurance Act 1973 to conduct an investigation of GRA’s financial or finite
reinsurance business. GRA and General Reinsurance cooperated fully with this investigation. On
June 28, 2007, APRA announced that it had concluded its investigation and imposed a condition on
GRA’s license that requires it to maintain a majority of independent directors on its local board.
CRD is also providing information to and cooperating fully with the Irish Financial Services
Regulatory Authority in its inquiries regarding the activities of CRD. The Office of the Director
of Corporate Enforcement in Ireland is conducting a preliminary evaluation in relation to CRD
concerning, in particular, transactions between CRD and AIG. CRD is cooperating fully with this
preliminary evaluation.
b) Civil Litigation
Litigation Related to ROA
General Reinsurance and several current and former employees, along with numerous other
defendants, have been sued in thirteen federal lawsuits involving Reciprocal of America (“ROA”) and
related entities. ROA was a Virginia-based reciprocal insurer and reinsurer of physician, hospital
and lawyer professional liability risks. Nine are putative class actions initiated by doctors,
hospitals and lawyers that purchased insurance through ROA or certain of its Tennessee-based risk
retention groups. These complaints seek compensatory, treble, and punitive damages in an amount
plaintiffs contend is just and reasonable.
General Reinsurance is also subject to actions brought
by the Virginia Commissioner of Insurance, as Deputy Receiver of ROA, the Tennessee Commissioner of
Insurance, as Receiver for purposes of liquidating three Tennessee risk retention groups, a state
lawsuit filed by a Missouri-based hospital group that was removed to federal court and another
state lawsuit filed by an Alabama doctor that was also removed to federal court. The first of
these actions was filed in March 2003 and additional actions were filed in April 2003 through June
2006. In the action filed by the Virginia Commissioner of Insurance, the Commissioner asserts in
several of its claims that the alleged damages are believed to exceed $200 million in the aggregate
as against all defendants.
All of these cases are collectively assigned to the U.S. District Court
for the Western District of Tennessee for pretrial proceedings. General Reinsurance filed motions
to dismiss all of the claims against it in these cases and, in June 2006, the court granted General
Reinsurance’s motion to dismiss the complaints of the Virginia and Tennessee receivers. The court
granted the Tennessee receiver leave to amend her complaint, and the Tennessee receiver filed her
amended complaint on August 7, 2006. General Reinsurance has filed a motion to dismiss the amended
complaint in its entirety and that motion was granted, with the court dismissing the claim based on
an alleged violation of RICO with prejudice and dismissing the state law claims without prejudice.
One of the other defendants filed a motion for the court to reconsider the dismissal of the state
law claims, requesting that the court retain jurisdiction over them.
That motion is pending.
The
Tennessee Receiver subsequently filed three Tennessee state court
actions against General Reinsurance,
essentially asserting the same state law claims that had been dismissed without prejudice by the
Federal court. General Reinsurance removed those actions to Federal court, and the Tennessee Receiver filed a
motion to remand to state court. That motion is the subject of
briefing. General Reinsurance has filed a motion with the Judicial Panel on Multi-District
Litigation to transfer the three Tennessee state court actions now pending in the Middle
District of Tennessee to the U.S. District Court for the Western District of Tennessee.
The Virginia receiver has moved for reconsideration of the dismissal and for leave to amend
his complaint, which was opposed by General Reinsurance. The court affirmed its original ruling
but has given the Virginia receiver leave to amend. In September 2006, the court also dismissed
the complaint filed by the Missouri-based hospital group. The Missouri-based hospital group has
filed a motion for reconsideration of the dismissal and for leave to file an amended complaint.
General Reinsurance has filed its opposition to that motion and awaits a ruling by the court. The
court has also not yet ruled on General Reinsurance’s motions to dismiss the complaints of the
other plaintiffs. The parties have commenced discovery.
General Reinsurance filed a Complaint and a motion in federal court to compel the Tennessee and Virginia
receivers to arbitrate their claims against General Reinsurance. The receivers filed motions to dismiss the
Complaint. These motions are pending.
General Reinsurance is a defendant in In re American International Group Securities
Litigation, Case No. 04-CV-8141-(LTS), United States District Court, Southern District of New York,
a putative class action asserted on behalf of investors who purchased publicly-traded securities of
AIG between October 1999 and March 2005. The complaint, originally filed in April 2005, asserts
various claims against AIG and certain of its officers, directors, investment banks and other
parties, including Messrs. Ferguson, Napier and Houldsworth (whom the Complaint defines, together
with General Reinsurance, as the “General Re Defendants”). The Complaint alleges that the General
Re Defendants violated Section 10(b) of the Securities Exchange Act and Rule 10b-5 in connection
with the AIG Transaction. The Complaint seeks damages and other relief in unspecified amounts.
General Reinsurance has answered the Complaint, denying liability and asserting various affirmative
defenses. Document production has begun, but no other discovery has taken place. No trial date
has been scheduled.
A member of the putative class in the litigation described in the preceding paragraph has
asserted similar claims against General Re and Mr. Ferguson in a separate complaint, Florida State
Board of Administration v. General Re Corporation, et al., Case No. 06-CV-3967, United States
District Court, Southern District of New York. The claims against General Re and Mr. Ferguson
closely resemble those asserted in the class action. The complaint does not specify the amount of
damages sought. General Re has answered the Complaint, denying liability and asserting various
affirmative defenses. No trial date has been established. The parties are coordinating discovery
and other proceedings among this action, a similar action filed by the same plaintiff against AIG
and others, the class action described in the preceding paragraph, and the shareholder derivative
actions described in the next paragraph.
On July 27, 2005, General Reinsurance received a Summons and a Verified and Amended
Shareholder Derivative Complaint in In re American International Group, Inc. Derivative Litigation,
Case No. 04-CV-08406, United States District Court, Southern District of New York. The complaint,
brought by several alleged shareholders of AIG, seeks damages, injunctive and declaratory relief
against various officers and directors of AIG as well as a variety of individuals and entities with
whom AIG did business, relating to a wide variety of allegedly wrongful practices by AIG. The
allegations relating to General Reinsurance focus on the AIG Transaction, and the complaint
purports to assert causes of action in connection with that transaction for aiding and abetting
other defendants’ breaches of fiduciary duty and for unjust enrichment. The complaint does not
specify the amount of damages or the nature of any other relief
sought. Subsequently, the New York Derivative Litigation was stayed
by stipulation between the plaintiffs and AIG. That stay remains in
place.
In August 2005, General
Reinsurance received a Summons and First Amended Consolidated Shareholders’ Derivative Complaint in
In re American International Group, Inc. Consolidated Derivative Litigation, Case No. 769-N,
Delaware Chancery Court. In June 2007, AIG filed an Amended Complaint
in the Delaware Derivative Litigation asserting claims against two of its former officers, but not against General Reinsurance. On September 28, 2007, AIG
and the shareholder plaintiffs filed a Second Combined Amended Complaint, in which AIG asserted claims against certain of its former officers
and the shareholder plaintiffs asserted claims against a number of
other defendants, including General Reinsurance and General Re. The claims asserted in the Delaware complaint are substantially similar
to those asserted in the New York derivative complaint, except that the Delaware complaint makes
clear that the plaintiffs are asserting claims against both General Reinsurance and General Re.
General Reinsurance and General Re filed a motion to dismiss on
November 30, 2007. Various parties moved to stay discovery and/or all proceedings in the Delaware Derivative Litigation. At a
hearing held on February 12, 2008, the Court ruled that discovery would be stayed pending the
resolution of the claims asserted against AIG in the AIG Securities Litigation. The parties are
currently formulating the text of a stipulation implementing the Court’s ruling and establishing
a briefing schedule on the motions to dismiss.
FAI/HIH Matter
In December 2003, the Liquidators of both FAI Insurance Limited (“FAI”) and HIH Insurance
Limited (“HIH”) advised GRA and Cologne Re that they intended to assert claims arising from
insurance transactions GRA entered into with FAI in May and June 1998. In August 2004, the
Liquidators filed claims in the Supreme Court of New South Wales in order to avoid the expiration
of a statute of limitations for certain plaintiffs. The focus of the Liquidators’ allegations
against GRA and Cologne Re are the 1998 transactions GRA entered into with FAI (which was acquired
by HIH in 1999). The Liquidators contend, among other things, that GRA and Cologne Re engaged in
deceptive conduct that assisted FAI in improperly accounting for such transactions as reinsurance,
and that such deception led to HIH’s acquisition of FAI and caused various losses to FAI and HIH.
The Liquidator of HIH served its Complaint on GRA and Cologne Re in June 2006 and discovery is
ongoing. The FAI Liquidator dismissed his complaint against GRA and Cologne Re.
Each executive officer serves, in accordance with the by-laws of the Registrant, until the
first meeting of the Board of Directors following the next annual meeting of shareholders and until
his respective successor is chosen and qualified or until he sooner dies, resigns, is removed or
becomes disqualified. Mr. Buffett and Mr. Munger also serve as directors of the Registrant.
Part II
Item 5. Market for Registrant’s Common Stock and Related Security Holder Matters
Market Information
Berkshire’s Class A and Class B Common Stock are listed for trading on the New York Stock
Exchange, trading symbol: BRK.A and BRK.B. The following table sets forth the high and low sales
prices per share, as reported on the New York Stock Exchange Composite List during the periods
indicated:
2007
2006
Class A
Class B
Class A
Class B
High
Low
High
Low
High
Low
High
Low
First Quarter
$
110,700
$
103,800
$
3,690
$
3,460
$
90,600
$
86,200
$
3,013
$
2,860
Second Quarter
110,490
107,200
3,679
3,538
93,100
85,400
3,099
2,839
Third Quarter
120,800
108,600
4,000
3,558
97,100
89,400
3,238
2,978
Fourth Quarter
151,650
118,400
5,059
3,949
114,500
95,200
3,825
3,165
Shareholders
Berkshire had approximately 4,600 record holders of its Class A Common Stock and 13,900 record
holders of its Class B Common Stock at February 15, 2008. Record owners included nominees holding
at least 550,000 shares of Class A Common Stock and 13,800,000 shares of Class B Common Stock on
behalf of beneficial-but-not-of-record owners.
Dividends
Berkshire has not declared a cash dividend since 1967.
Securities authorized for issuance under equity plans
In connection with certain business acquisitions, Berkshire has issued Class B common stock
options to replace outstanding options held by employees of the acquired entity. The terms of the
Berkshire stock options are essentially equivalent to the terms of the options of the acquired
entity, except that exercise prices were adjusted to give effect to the common stock exchange rate
applicable to each acquisition. Berkshire has granted no other stock options. A summary of the
Registrant’s equity compensation plans under which equity securities are authorized for issuance as
of December 31, 2007 follows:
Selected Financial Data for the Past Five Years (dollars in millions except per share data)
2007
2006
2005
2004
2003
Revenues:
Insurance premiums earned (1)
$
31,783
$
23,964
$
21,997
$
21,085
$
21,493
Sales and service revenues
58,243
51,803
46,138
43,222
32,098
Revenues of utilities and energy businesses (2)
12,628
10,644
—
—
—
Interest, dividend and other investment income
4,979
4,382
3,487
2,816
3,098
Interest and other revenues of finance and financial
products businesses
5,103
5,111
4,633
3,788
3,087
Investment and derivative gains/losses (3)
5,509
2,635
5,408
3,471
4,083
Total revenues
$
118,245
$
98,539
$
81,663
$
74,382
$
63,859
Earnings:
Net earnings (3) (4)
$
13,213
$
11,015
$
8,528
$
7,308
$
8,151
Net earnings per share
$
8,548
$
7,144
$
5,538
$
4,753
$
5,309
Year-end data:
Total assets
$
273,160
$
248,437
$
198,325
$
188,874
$
180,559
Notes payable and other borrowings:
Insurance and other non-finance businesses
2,680
3,698
3,583
3,450
4,182
Utilities and energy businesses (2)
19,002
16,946
—
—
—
Finance and financial products businesses
12,144
11,961
10,868
5,387
4,937
Shareholders’ equity
120,733
108,419
91,484
85,900
77,596
Class A equivalent common shares
outstanding, in thousands
1,548
1,543
1,541
1,539
1,537
Shareholders’ equity per outstanding
Class A equivalent common share
$
78,008
$
70,281
$
59,377
$
55,824
$
50,498
(1)
Insurance premiums earned in 2007 included $7.1 billion from a single reinsurance
transaction with Equitas.
(2)
On February 9, 2006, Berkshire Hathaway converted its non-voting preferred stock
of MidAmerican Energy Holdings Company (“MidAmerican”) to common stock and upon conversion,
owned approximately 83.4% (80.5% diluted) of the voting common stock interests.
Accordingly, the Consolidated Financial Statements in 2006 and 2007 reflect the
consolidation of the accounts of MidAmerican. In each of the three years ending December 31,2005, Berkshire’s investment in MidAmerican was accounted for pursuant to the equity method.
(3)
The amount of investment and derivative gains and losses for any given period has
no predictive value, and variations in amount from period to period have no practical
analytical value in view of the unrealized appreciation in Berkshire’s investment portfolio.
After-tax investment and derivative gains were $3,579 million in 2007, $1,709 million in
2006, $3,530 million in 2005, $2,259 million in 2004 and $2,729 million in 2003. Investment
gains in 2005 include a non-cash pre-tax gain of $5.0 billion ($3.25 billion after-tax)
relating to the exchange of Gillette stock for Procter & Gamble stock.
(4)
Net earnings for the year ended December 31, 2005 includes a pre-tax underwriting
loss of $3.4 billion in connection with Hurricanes Katrina, Rita and Wilma that struck the
Gulf coast and Southeast regions of the United States. Such loss reduced net earnings by
approximately $2.2 billion and earnings per share by $1,446.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Results of Operations
Net earnings for each of the past three years are disaggregated in the table that follows.
Amounts are after deducting income taxes and minority interests and are in millions.
2007
2006
2005
Insurance – underwriting
$
2,184
$
2,485
$
27
Insurance – investment income
3,510
3,120
2,412
Utilities and energy
1,114
885
523
Manufacturing, service and retailing
2,353
2,131
1,646
Finance and financial products
632
732
514
Other
(159
)
(47
)
(124
)
Investment and derivative gains/losses
3,579
1,709
3,530
Net earnings
$
13,213
$
11,015
$
8,528
Berkshire’s operating businesses are managed on an unusually decentralized basis. There are
essentially no centralized or integrated business functions (such as sales, marketing, purchasing,
legal or human resources) and there is minimal involvement by Berkshire’s corporate headquarters in
the day-to-day business activities of the operating businesses. Berkshire’s corporate office
management participates in and is ultimately responsible for significant capital allocation
decisions, investment activities and the selection of the Chief Executive to head each of the
operating businesses. The business segment data (Note 18 to the Consolidated Financial Statements)
should be read in conjunction with this discussion.
Insurance — Underwriting
A summary follows of underwriting results from Berkshire’s insurance businesses for the past
three years. Amounts are in millions.
2007
2006
2005
Underwriting gain (loss) attributable to:
GEICO
$
1,113
$
1,314
$
1,221
General Re
555
526
(334
)
Berkshire Hathaway Reinsurance Group
1,427
1,658
(1,069
)
Berkshire Hathaway Primary Group
279
340
235
Pre-tax underwriting gain
3,374
3,838
53
Income taxes and minority interests
1,190
1,353
26
Net underwriting gain
$
2,184
$
2,485
$
27
Berkshire engages in both primary insurance and reinsurance of property and casualty risks.
Through General Re, Berkshire also reinsures life and health risks. In primary insurance
activities, Berkshire subsidiaries assume defined portions of the risks of loss from persons or
organizations that are directly subject to the risks. In reinsurance activities, Berkshire
subsidiaries assume defined portions of similar or dissimilar risks that other insurers or
reinsurers have subjected themselves to in their own insuring activities. Berkshire’s principal
insurance and reinsurance businesses are: (1) GEICO, (2) General Re, (3) Berkshire Hathaway
Reinsurance Group and (4) Berkshire Hathaway Primary Group.
Berkshire’s management views insurance businesses as possessing two distinct operations –
underwriting and investing. Underwriting decisions are the responsibility of the unit managers;
investing, with limited exceptions at GEICO and General Re’s international operations, is the
responsibility of Berkshire’s Chairman and CEO, Warren E. Buffett. Accordingly, Berkshire
evaluates performance of underwriting operations without any allocation of investment income.
Periodic underwriting results can be affected significantly by changes in estimates for unpaid
losses and loss adjustment expenses, including amounts established for occurrences in prior years.
See the Critical Accounting Policies section of this discussion for information concerning the loss
reserve estimation process. In addition, the timing and amount of catastrophe losses produce
significant volatility in periodic underwriting results. During the third quarter of 2005,
Hurricanes Katrina and Rita struck the Gulf Coast region of the United States producing the largest
catastrophe losses for any quarter in the history of the property/casualty insurance industry. In
the fourth quarter of 2005, Hurricane Wilma struck the Southeast U.S. Estimated pre-tax losses
from these events of $3.4 billion were recorded in 2005. In contrast, there were no significant
losses from major catastrophe events in 2006 or 2007.
A key marketing strategy followed by all of these businesses is the maintenance of
extraordinary capital strength. Statutory surplus of Berkshire’s insurance businesses was
approximately $62 billion at December 31, 2007. This superior capital strength creates
opportunities, especially with respect to reinsurance activities, to negotiate and enter into
insurance and reinsurance contracts specially designed to meet the unique needs of insurance and
reinsurance buyers. Additional information regarding Berkshire’s insurance and reinsurance
operations follows.
GEICO
GEICO provides primarily private passenger automobile coverages to insureds in 49 states and
the District of Columbia. GEICO policies are marketed mainly by direct response methods in which
customers apply for coverage directly to the company via the Internet, over the telephone or
through the mail. This is a significant element in GEICO’s strategy to be a low-cost insurer. In
addition, GEICO strives to provide excellent service to customers, with the goal of establishing
long-term customer relationships.
GEICO’s underwriting results for the past three years are summarized below. Dollars are in
millions.
2007
2006
2005
Amount
%
Amount
%
Amount
%
Premiums written
$
11,931
$
11,303
$
10,285
Premiums earned
$
11,806
100.0
$
11,055
100.0
$
10,101
100.0
Losses and loss adjustment expenses
8,523
72.2
7,749
70.1
7,128
70.6
Underwriting expenses
2,170
18.4
1,992
18.0
1,752
17.3
Total losses and expenses
10,693
90.6
9,741
88.1
8,880
87.9
Pre-tax underwriting gain
$
1,113
$
1,314
$
1,221
*
*
Net of losses of $200 million from Hurricanes Katrina, Rita and Wilma.
Premiums earned in 2007 and 2006 increased 6.8% and 9.4%, respectively, over the corresponding
prior year amounts. The growth in premiums earned for voluntary auto in 2007 was 6.6%, which was
less than the 8.8% increase in policies-in-force during the past year as average premiums per
policy continue to slowly decline. Average premiums per policy in
2008 are expected to be
relatively unchanged from 2007. Policies-in-force also increased over the last twelve months in
the preferred risk markets (8.4%) and in the standard and nonstandard markets (10.0%). Voluntary
auto new business sales increased 5.0% in 2007 as compared to the prior year. Voluntary auto
policies-in-force at December 31, 2007 were 656,000 higher than at December 31, 2006.
Losses and loss adjustment expenses in 2007 were $8,523 million, an increase of 10.0% over
2006. The loss ratio increased to 72.2% in 2007 compared to 70.1% in 2006 and 70.6% in 2005. The
increase in the loss ratio in 2007 in part reflects the aforementioned decline in average premiums
per policy attributable to rate decreases. In 2007, claims frequencies for physical damage
coverages increased in the two to four percent range over 2006 while frequencies for injury
coverages decreased in the three to five percent range. Physical damage severities increased in
the second half of 2007 at an annualized rate of two to four percent. Injury severities also began
to increase in the latter part of 2007 at an annualized rate of three to six percent. Incurred
losses from catastrophe events were approximately $34 million in 2007, $54 million in 2006 and $227
million in 2005 (primarily from the hurricanes in the third and fourth quarters).
Underwriting expenses in 2007 were $2,170 million, an increase of 8.9% over 2006, which
increased 13.7% over 2005. The increases in expenses in both years primarily reflected higher
advertising costs as well as increased personnel costs to service the growth of policies-in-force.
General Re
General Re conducts a reinsurance business offering property and casualty and life and health
coverages to clients worldwide. Property and casualty reinsurance is written in North America on a
direct basis through General Reinsurance Corporation and internationally through 95% owned Cologne
Re (based in Germany) and other wholly-owned affiliates. Property and casualty reinsurance is also
written through brokers with respect to Faraday in London. Life and health reinsurance is written
worldwide through Cologne Re. General Re strives to generate underwriting gains in
essentially all of its product lines. Underwriting performance is not evaluated based upon market
share and underwriters are instructed to reject inadequately priced risks. General Re’s
underwriting results are summarized for the past three years in the following table. Amounts are
in millions.
Pre-tax underwriting
Premiums written
Premiums earned
gain (loss)
2007
2006
2005
2007
2006
2005
2007
2006
2005
Property/casualty
$
3,478
$
3,581
$
3,852
$
3,614
$
3,711
$
4,140
$
475
$
373
$
(445)
*
Life/health
2,479
2,368
2,303
2,462
2,364
2,295
80
153
111
$
5,957
$
5,949
$
6,155
$
6,076
$
6,075
$
6,435
$
555
$
526
$
(334
)
*
Includes losses of $685 million from Hurricanes Katrina, Rita and Wilma.
Premiums
written in 2007 declined 2.9% from amounts written in 2006 which
declined 7.0% from amounts
written in 2005. Premiums written in 2007 included $114 million with respect to a reinsurance to
close transaction that increased General Re’s economic interest in the runoff of the Lloyd’s
Syndicate 435’s 2001 year of account from 60% to 100%. There was no similar transaction in 2006 or
2005. Excluding the effect of the reinsurance to close transaction and the effects of foreign
currency translation, premiums written declined 10.9% when compared to 2006 which decreased 5.7%
when compared to 2005. Premiums earned in 2007 declined 2.6% from amounts earned in 2006 which
declined 10.4% from amounts earned in 2005. Excluding the effects of the reinsurance to close
transaction discussed above and the effects of foreign currency translation, premiums earned
declined 10.1% in 2007 as compared to 2006 and 11.3% in 2006 as compared to 2005. The overall
comparative declines in written and earned premiums in the past three years reflected continued
underwriting discipline by rejecting transactions where pricing is deemed inadequate with respect
to the risk as well as significant decreases in finite risk business. Competition within the
industry could lead to further declines in 2008.
Pre-tax underwriting results in 2007 included $519 million in underwriting gains from property
business partially offset by $44 million in underwriting losses from casualty/workers’ compensation
business. The property business produced underwriting gains of $90 million for the 2007 accident
year and $429 million from favorable run-off of prior years’ property losses. Although the current accident
year results included $192 million of catastrophe losses, property results generally reflected
relatively low loss levels. The timing and magnitude of catastrophe and large individual losses
produces significant volatility in periodic underwriting results. The pre-tax underwriting losses
from casualty business in 2007 included $120 million of workers’ compensation accretion of discount
and deferred charge amortization, as well as legal costs associated with various ongoing finite
reinsurance investigations. These charges were largely offset by underwriting
gains in other casualty business.
Pre-tax underwriting results in 2006 included $708 million in underwriting gains from property
business partially offset by $335 million in underwriting losses from casualty/workers’
compensation business and legal and
estimated settlement costs associated with the finite reinsurance
investigations. The property business produced underwriting gains of $317
million for the 2006 accident year and $391 million from favorable run-off of prior years’ losses.
The 2006 accident year results also benefited from a lack of catastrophe losses. The underwriting
losses from casualty business in 2006 included $137 million in discount accretion and deferred
charge amortization, increases in prior years’ workers’ compensation reserves of $103 million
arising from the continuing escalation of medical utilization and cost inflation as well as
increases in asbestos and environmental reserves which were somewhat offset by net decreases in
prior years’ reserves for other casualty coverages.
The 2005 pre-tax underwriting loss of $445 million included approximately $685 million in
losses from three major hurricanes in 2005 (Katrina, Rita and Wilma). Otherwise, underwriting
results for the 2005 accident year generally benefited from re-pricing efforts and improved
coverage terms and conditions put into place over the preceding few years as well as favorable
aviation and non-catastrophe property business. Underwriting results in 2005 also included losses
attributable to prior accident years consisting of net reserve increases on workers’ compensation
of $228 million, asbestos and environmental mass tort exposures of $102 million and $136 million in
discount accretion and deferred charge amortization. Offsetting these prior years’ losses were
$527 million in gains from net reserve decreases in other casualty lines and property lines.
Life/health
Premiums earned in
2007 increased 4.1% over 2006 which increased 3.0% over 2005. Adjusting
for the effects of foreign currency translation, premiums earned were relatively unchanged in 2007
and increased 2.3% in 2006 when compared to 2005. The increase in premiums earned in 2006 was
primarily from life business in Europe.
Underwriting results for the global life/health operations produced pre-tax underwriting gains
of $80 million in 2007, $153 million in 2006 and $111 million in 2005. Results for continuing
operations were profitable in each of the past three years primarily due to favorable mortality
with respect to life business. Included in the underwriting results for 2007, 2006 and 2005 were
$105 million, $31 million and $66 million, respectively, of net losses attributable to reserve
increases on certain U.S. health coverages related to workers’ compensation and long-term-care business that has been in run-off for several years.
The Berkshire Hathaway Reinsurance Group (“BHRG”) underwrites excess-of-loss reinsurance and
quota-share coverages for insurers and reinsurers worldwide. BHRG’s business includes catastrophe
excess-of-loss reinsurance and excess direct and facultative reinsurance for large or otherwise
unusual discrete property risks referred to as individual risk. Retroactive reinsurance policies
provide indemnification of losses and loss adjustment expenses with respect to past loss events.
Other multi-line refers to other business written on both a quota-share and excess basis,
participations in and contracts with Lloyd’s syndicates as well as property, aviation and workers’
compensation programs. The timing and amount of catastrophe losses can produce extraordinary
volatility in BHRG’s periodic underwriting results. BHRG’s underwriting results are summarized
below. Amounts are in millions.
Premiums earned
Pre-tax underwriting gain (loss)
2007
2006
2005
2007
2006
2005
Catastrophe and individual risk
$
1,577
$
2,196
$
1,663
$
1,477
$
1,588
$
(1,178
)
Retroactive reinsurance
7,708
146
10
(375
)
(173
)
(214
)
Other multi-line
2,617
2,634
2,290
325
243
323
$
11,902
$
4,976
$
3,963
$
1,427
$
1,658
$
(1,069)
*
*
Includes losses of $2.5 billion from Hurricanes Katrina, Rita and Wilma.
Catastrophe and individual risk contracts may provide exceptionally large limits of
indemnification, often several hundred million dollars and occasionally in excess of $1 billion,
and cover catastrophe risks (such as hurricanes, earthquakes or other natural disasters) or other
property risks (such as aviation and aerospace, commercial multi-peril or terrorism). Premiums
earned from catastrophe and individual risk contracts in 2007 declined 28% from 2006 which
increased 32% over 2005. Catastrophe and individual risk premiums written were approximately $1.2
billion in 2007, $2.4 billion in 2006 and $1.8 billion in 2005. The decrease in written and earned
premiums in 2007 was principally attributable to increased industry capacity for catastrophe
reinsurance which has produced increased price competition and fewer opportunities to write
business. The level of catastrophe and individual risk business written in a given period will
vary significantly based upon market conditions and management’s assessment of the adequacy of
premium rates.
The underwriting results from catastrophe and individual risk business in 2007 and 2006
reflected no significant losses from catastrophe events during those years. In 2006, BHRG incurred
losses of approximately $200 million attributable to prior years’ events, primarily Hurricane Wilma
which occurred in the fourth quarter of 2005. The underwriting results in 2005 included estimated
losses of approximately $2.4 billion from Hurricanes Katrina, Rita and Wilma. The timing and
magnitude of losses produce extraordinary volatility in periodic underwriting results of BHRG’s
catastrophe and individual risk business. BHRG does not cede catastrophe and individual risks to
mitigate the volatility. Management accepts such potential volatility provided that the long-term
prospect of achieving underwriting profits is reasonable.
Retroactive policies normally provide very large, but limited, indemnification of unpaid
losses and loss adjustment expenses with respect to past loss events that are expected to be paid
over long periods of time. The underwriting losses from retroactive reinsurance are primarily
attributable to the amortization of deferred charges established on the contracts. At the
inception of the contract, deferred charges represent the difference between the premium received
and the estimated ultimate loss reserves payable. Deferred charges are amortized over the
estimated claims payment period using the interest method. The amortization charges are based on
the estimated timing and amount of loss payments and are recorded as a component of losses and loss
adjustment expenses.
Premiums earned from retroactive reinsurance in 2007 included $7.1 billion from the Equitas
reinsurance agreement which became effective on March 30, 2007. See Note 11 to the accompanying
Consolidated Financial Statements. At the inception of the Equitas contract, estimated liabilities
for losses and loss adjustment expenses of $9.3 billion and an asset for deferred charges
reinsurance assumed of $2.2 billion were recorded. At December 31, 2007, unamortized deferred
charges for all of BHRG’s retroactive contracts (including the Equitas contract) were approximately
$3.8 billion and gross unpaid losses were approximately $17.3 billion.
The underwriting loss from retroactive policies in 2007 included deferred charge amortization
of $156 million on contracts written in 2007 (primarily the Equitas contract). There were no
significant reserve changes in 2007 related to pre-2007 contracts. Underwriting losses from
retroactive reinsurance in 2006 are net of gains of approximately $145 million which primarily
derived from contracts that were commuted or amended during the last half of 2006. Underwriting
losses in 2005 from retroactive reinsurance are net of a gain of approximately $46 million related
to the commutation of a contract.
Other multi-line premiums earned in 2007 reflect significant increases in property business
and significant decreases in casualty excess reinsurance. In
addition, the management of certain workers’ compensation
business was transferred to the Berkshire Hathaway Primary Group and the
results for this business are now included in that group’s
results. Premiums earned from other multi-line business increased in 2006 as compared to 2005 due to growth
in workers’ compensation business. Multi-line business produced a pre-tax underwriting gain of
$325 million in 2007 and $243 million in 2006 reflecting relatively low loss ratios on property
business and favorable loss experience on workers’ compensation business. Underwriting results in
2005 included estimated losses of approximately $100 million from Hurricanes Katrina, Rita and
Wilma.
Effective January 1, 2008, BHRG entered into a reinsurance agreement with Swiss Reinsurance
Company and its property-casualty affiliates (“Swiss Re”). Under the agreement, BHRG will assume a
20% quota-share of the premiums and related losses and expenses on all property-casualty risks of
Swiss Re incepting over the five year period ending December 31, 2012. If recent years’ volumes
were to continue over the next five years, the annual written premium assumed under this agreement
would be in the $3 billion range, however actual premiums assumed over the five year period could
vary significantly depending on market conditions and opportunities.
Berkshire Hathaway Primary Group
Berkshire’s primary insurance group consists of a wide variety of smaller insurance businesses
that principally write liability coverages for commercial accounts. These businesses include:
National Indemnity Company’s primary group operation (“NICO Primary Group”), a writer of motor
vehicle and general liability coverages; U.S. Investment Corporation, whose subsidiaries
underwrite specialty insurance coverages; a group of companies referred to internally as
“Homestate” operations, providers of standard multi-line insurance; and Central States Indemnity
Company, a provider of credit and disability insurance to individuals nationwide through
financial institutions. Also included are Medical Protective Corporation (“MedPro”), a provider of
professional liability insurance to physicians, dentists and other healthcare providers acquired on
June 30, 2005 and Applied Underwriters, a provider of integrated workers’ compensation solutions
acquired on May 19, 2006. Underwriting results for these two businesses are included in the
Berkshire Hathaway Primary Group results beginning on their respective acquisition dates.
Collectively, Berkshire’s primary insurance businesses produced earned premiums of $1,999
million in 2007, $1,858 million in 2006 and $1,498 million
in 2005. The significant increase in premiums earned in 2006 was primarily
attributable to the impact of the MedPro and Applied Underwriters acquisitions partially offset by
a decline in volume of the NICO Primary Group. Pre-tax underwriting gains as percentages of
premiums earned were approximately 14% in 2007, 18% in 2006 and 16% in 2005. Underwriting gains
were achieved by all significant primary insurance businesses.
Insurance — Investment Income
A summary of the net investment income of Berkshire’s insurance operations for the past three
years follows. Amounts are in millions.
2007
2006
2005
Investment income before taxes
$
4,758
$
4,316
$
3,480
Income taxes and minority interests
1,248
1,196
1,068
Investment income after taxes and minority interests
$
3,510
$
3,120
$
2,412
Investment income consists of interest and dividends earned on cash equivalents and fixed
maturity and equity investments of Berkshire’s insurance businesses. Pre-tax investment income
earned in 2007 by Berkshire’s insurance businesses increased $442 million (10%) over 2006 which
increased $836 million (24%) over 2005. The increases in 2007 and 2006 over the preceding year
reflect increased invested assets, higher short-term interest rates in the United States and increased dividend
rates on certain equity investments.
A summary of cash and investments held in Berkshire’s insurance businesses follows. Amounts
are in millions.
2007
2006
2005
Cash and cash equivalents
$
28,257
$
34,590
$
38,814
Equity securities
74,681
61,168
46,412
Fixed maturity securities
27,922
25,272
27,385
$
130,860
$
121,030
$
112,611
Fixed maturity investments as of December 31, 2007 were as follows. Amounts are in millions.
Amortized
Unrealized
cost
gains/losses
Fair value
U.S. Treasury, government corporations and agencies
$
3,487
$
59
$
3,546
States, municipalities and political subdivisions
2,120
104
2,224
Foreign governments
9,529
29
9,558
Corporate bonds and redeemable preferred stocks, investment grade
4,223
64
4,287
Corporate bonds and redeemable preferred stocks, non-investment grade
3,589
1,075
4,664
Mortgage-backed securities
3,592
51
3,643
$
26,540
$
1,382
$
27,922
All U.S. government obligations are rated AAA by the major rating agencies and approximately
96% of all state, municipal and political subdivisions, foreign government obligations and
mortgage-backed securities were rated AA or higher. Non-investment grade securities represent
securities that are rated below BBB- or Baa3.
Invested assets derive from shareholder capital and reinvested earnings as well as net
liabilities assumed under insurance contracts or “float.” The major components of float are unpaid
losses, unearned premiums and other liabilities to policyholders less premiums and reinsurance
receivables, deferred charges assumed under retroactive reinsurance contracts and deferred policy
acquisition costs. Float approximated $59 billion at December 31, 2007, $51 billion at December31, 2006 and $49 billion at December 31, 2005. The increase in float in 2007 was principally due
to the Equitas reinsurance transaction. The cost of float, as represented by the ratio of underwriting gain or loss to average float, was negative for the last three years, as Berkshire’s
insurance businesses generated underwriting gains in each year.
Utilities and Energy (“MidAmerican”)
Revenues and earnings of MidAmerican for each of the past three years are summarized below.
Amounts are in millions.
Revenues
Earnings
2007
2006
2005
2007
2006
2005
MidAmerican Energy Company
$
4,325
$
3,519
$
3,200
$
412
$
348
$
288
PacifiCorp
4,319
2,971
—
692
356
—
Natural gas pipelines
1,088
972
909
473
376
309
U.K. utilities
1,114
961
921
337
338
308
Real estate brokerage
1,511
1,724
1,894
42
74
148
Other
271
497
356
130
245
124
$
12,628
$
10,644
$
7,280
Earnings before corporate interest and taxes
2,086
1,737
1,177
Interest, other than to Berkshire
(312
)
(261
)
(200
)
Interest on Berkshire junior debt
(108
)
(134
)
(157
)
Income taxes and minority
interests **
(477
)
(426
)
(257
)
Net earnings
$
1,189
$
916
$
563
Earnings applicable to Berkshire *
$
1,114
$
885
$
523
Debt owed to others at December 31
19,002
16,946
10,296
Debt owed to Berkshire at December 31
821
1,055
1,289
*
Net of minority interests and includes interest earned by Berkshire (net of related income
taxes).
**
Net of $58 million deferred income tax benefit in 2007 as a result of the reduction in the
United Kingdom corporate income tax rate from 30% to 28% which was enacted during the third
quarter of 2007 and will be effective in 2008. Includes additional income tax charges of $49
million in 2005 related to Berkshire’s accounting for MidAmerican under the equity method.
Revenues in 2007 from MidAmerican Energy Company (“MEC”) increased $806 million (23%) over
2006. MEC’s non-regulated energy sales in 2007 exceeded 2006 by $597 million primarily due to
increased electric sales volume and prices driven by improved market opportunities. MEC’s
regulated retail and wholesale electricity sales in 2007 exceeded 2006 by $155 million, which
reflected the impact of new generating assets in 2007 and improved market opportunities in
wholesale markets as well as higher unit sales attributable to warmer summer temperatures and
increases in the average number of retail customers. Earnings before corporate interest and taxes
(“EBIT”) of MEC in 2007 increased $64 million (18%), reflecting the margins on the increases in
regulated and nonregulated energy sales, partially offset by higher facilities operating and
maintenance costs.
Revenues in 2007 from PacifiCorp increased $1,348 million (45%) versus 2006. Revenues and
EBIT of PacifiCorp for 2006 in the preceding table are included beginning as of the acquisition
date (March 21, 2006). EBIT of PacifiCorp in 2007 increased $336 million (94%) versus 2006. In
2007, PacifiCorp’s revenues and EBIT were favorably impacted by regulatory-approved rate increases
and higher customer usage in retail markets, as well as increased margins on wholesale electricity
sales, partially offset by higher fuel and purchased power costs. Fuel costs increased
due to the higher volumes and because of higher average unit costs.
Revenues in 2007 from natural gas pipelines increased $116 million (12%) over 2006 due
primarily to higher demand and rates resulting from favorable market
conditions and because revenues in 2006 reflected the impact of
estimated rate case refunds to customers with respect to an
order by the Federal Energy Regulatory Commission. EBIT in 2007 from natural gas pipelines
increased $97 million (26%) over 2006 mainly due to comparatively higher revenue and lower
depreciation due to expected changes in depreciation rates in connection with a
current rate proceeding.
Revenues from U.K. utilities in 2007 increased over the comparable 2006 period primarily
attributable to the strengthening of the Pound Sterling versus the U.S. dollar as well as higher
gas production and electricity distribution revenues. EBIT from the U.K. utilities in 2007 was
essentially unchanged compared to 2006 as higher maintenance and depreciation costs and the write-off of
unsuccessful gas exploration costs offset the impact of higher revenues.
Revenues and EBIT from real estate brokerage declined 12% and 43%, respectively, compared to
2006, primarily due to significantly lower transaction volume as a result of the slowdown in U.S.
residential real estate activity. Revenues and EBIT from other activities in 2006 included pre-tax
gains of $117 million which was primarily from the disposal of equity securities. There were no significant
securities gains in 2007.
Revenues and pre-tax earnings of the manufacturing, service and retailing businesses for each
of the past three years follows. Amounts are in millions.
Revenues
Earnings
2007
2006
2005
2007
2006
2005
McLane Company
$
28,079
$
25,693
$
24,074
$
232
$
229
$
217
Shaw Industries
5,373
5,834
5,723
436
594
485
Other manufacturing
14,459
11,988
9,260
2,037
1,756
1,335
Other service *
7,792
5,811
4,728
968
658
329
Retailing
3,397
3,334
3,111
274
289
257
$
59,100
$
52,660
$
46,896
Pre-tax earnings
$
3,947
$
3,526
$
2,623
Income taxes and minority interests
1,594
1,395
977
$
2,353
$
2,131
$
1,646
*
Management evaluates the results of NetJets using accounting standards for recognition of
revenue and planned major maintenance expenses that were generally accepted when Berkshire
acquired NetJets but are no longer acceptable due to subsequent changes in accounting
standards adopted by the FASB. Revenues and pre-tax earnings for the other services
businesses shown above reflect these prior revenue and expense recognition methods. Revenues
shown in this table are greater than the amounts reported in Berkshire’s consolidated
financial statements by $709 million in 2007, $781 million in 2006 and $704 million in 2005.
Pre-tax earnings included in this table for 2007, 2006 and 2005 exceed the amounts included in
the consolidated financial statements by $48 million, $79 million and $63 million,
respectively.
McLane Company
McLane Company, Inc., (“McLane”) is a wholesale distributor of grocery and non-food products
to retailers, convenience stores and restaurants. McLane’s business is marked by high sales volume
and very low profit margins. McLane’s revenues in 2007 increased $2,386 million (9%) as compared
to 2006 which increased $1,619 million (7%) as compared to 2005. The comparative revenue
increases reflect additional grocery and foodservice customers as well as manufacturer price
increases and state excise tax increases which are passed on to customers.
Pre-tax
earnings in 2007 increased $3 million over 2006 which increased $12 million over
2005. The increases reflect the increase in sales volume, partially offset by lower gross margins.
The gross margin rate in 2007 was 5.79% versus 5.85% in 2006 and 5.98% in 2005. In 2007, the
gross margin rate was negatively impacted by excise tax increases as well as the effects of
increased competition. The impact of the reduced gross margin rate was partially offset by a
decline in other operating expenses as a percentage of revenues. Pre-tax earnings in 2007 also
included a $10 million gain from a litigation settlement, which was offset by an asset write down
at a small novelty items distribution subsidiary. Approximately 33% of McLane’s annual revenues
are from sales to Wal-Mart. A curtailment of purchasing by Wal-Mart could have a material adverse
impact on the earnings of McLane.
Shaw Industries
Shaw Industries (“Shaw”) is the world’s largest manufacturer of tufted broadloom carpets and
is a full-service flooring company. Revenues of $5,373 million in 2007 declined $461 million (8%)
from 2006. In 2007, carpet volume decreased 10% versus 2006 due to lower sales in residential
markets, partially offset by a modest increase in commercial market volume. The continued slowdown
in new housing construction is the primary driver behind lower residential market sales. In 2007,
pre-tax earnings decreased $158 million (27%) compared to 2006. The decline reflects the
aforementioned lower sales volume and higher product costs due primarily to comparatively higher
raw material prices and lower manufacturing efficiencies as a result of decreased production.
These factors combined to produce declines in gross margin dollars in 2007 of approximately 17%
versus 2006. Selling, general and administrative costs in 2007 declined approximately 6% compared
with 2006, reflecting lower sales volume and expense control efforts. Residential housing
construction activity is expected to remain slow during 2008 and as a result, revenues and earnings
will likely decline further.
In 2006, revenues increased $111 million (2%) and pre-tax earnings of $594 million increased
$109 million (22%) as compared to 2005. The increase in revenues reflected a 7% increase in the
average square yard selling price for carpet, partially offset by a 6% reduction in square yards
sold. The comparative decline in 2006 square yards sold versus 2005 accelerated during the third
and fourth quarters which was attributable to the slowing of single-family housing construction and
the effects of accelerated customer purchases during the second half of 2005 in anticipation of
price increases. The increase in pre-tax earnings in 2006 over 2005 was primarily generated in the
first six months of the year and was mainly attributable to a reduction in manufacturing cost per
unit deriving from the integration of carpet backing and nylon-fiber manufacturing operations
acquired by Shaw in the fourth quarter of 2005.
Other manufacturing
Berkshire’s other manufacturing businesses include a wide array of businesses. Included in
this group are several manufacturers of building products (Acme Building Brands, Benjamin Moore,
Johns Manville and MiTek) and apparel (Fruit of the Loom (includes the Russell athletic apparel and
sporting goods business acquired in August 2006 and the women’s intimate apparel business acquired
from VF Corporation in April 2007), Garan, Fechheimers, Justin Brands and the H.H. Brown Shoe
Group). Also included in this group are Forest River, a leading manufacturer of leisure vehicles
and the ISCAR Metalworking
Companies (“IMC”), an industry leader in the metal cutting tools business with operations worldwide
that was acquired in July 2006. In July 2007, Berkshire acquired two leading jewelry manufacturing
and distribution companies (“Richline”) that design, manufacture and distribute karat gold, silver
and gem set jewelry to mass merchandisers, large jewelry chains, department stores and home
shopping networks. There are numerous other manufacturers of consumer and commercial products in
this diverse group.
Revenues
in 2007 from other manufacturing activities were
$14,459 million, an increase of $2,471
million (21%) over 2006. The comparative increase was primarily attributable to the
businesses acquired since mid-2006 as well as a significant increase from CTB, a manufacturer of
equipment for the livestock and agricultural industries. Revenues from the building products
businesses declined $292 million in 2007 as demand for their
products was negatively affected
by the general slowdown in housing construction activity.
Pre-tax earnings of the other manufacturing businesses were $2,037 million in 2007, an
increase of $281 million (16%) over 2006. The increases were primarily due to full-year inclusion
in 2007 of IMC and increased earnings of CTB, partially offset by a 22%
decline in earnings of the building products businesses. Revenues and earnings from the building
products businesses will likely decline further in 2008 as a result of the continued weakness in
residential housing construction. Additionally, pre-tax earnings of Fruit of the Loom declined in
2007 as a result of operating losses from the newly acquired women’s intimate apparel operations.
Revenues of the other manufacturing businesses in 2006 increased $2,728 million (29%) and
pre-tax earnings increased $421 million (32%) as compared to 2005. The acquisitions of Forest
River (acquired August 2005), IMC and Russell Corporation account for a
substantial portion of these increases. Additionally, the building products group of businesses
reported increases in revenues and pre-tax earnings in 2006 as compared to the prior year.
Other service
Berkshire’s other service businesses include NetJets, the world’s leading provider of
fractional ownership programs for general aviation aircraft and FlightSafety, a provider of high
technology training to operators of aircraft and ships. Among other businesses included in this
group are: TTI, a leading electronic components distributor (acquired March 2007); Business Wire, a
leading distributor of corporate news, multimedia and regulatory filings (acquired February 2006);
The Pampered Chef, a direct seller of high quality kitchen tools; International Dairy Queen, a
licensor and service provider to about 6,000 stores that offer prepared dairy treats and food;
The Buffalo News, a publisher of a daily and Sunday newspaper; and businesses that provide
management and other services to insurance companies.
Revenues from the other service businesses in 2007 increased $1,981 million (34%) and pre-tax
earnings increased $310 million (47%) as compared to 2006. The increase in revenues and pre-tax
earnings in 2007 versus 2006 was attributable to the impact of business acquisitions (primarily TTI
and Business Wire) as well as increased revenues and pre-tax earnings from FlightSafety and
NetJets. Both of these businesses benefited in 2007 from higher equipment (simulators and
aircraft) utilization rates and from increased customer demand.
Revenues from the other service businesses in 2006 increased $1,083 million (23%) and pre-tax
earnings increased $329 million (100%) as compared to 2005. These increases derived from
significantly improved operating results of NetJets, as well as increases in revenues and earnings
for FlightSafety and the inclusion of the results of Business Wire. NetJets’ revenues in 2006
increased $759 million as compared to 2005 and pre-tax earnings in 2006 were $143 million compared
to a pre-tax loss of $80 million in 2005. In 2006, occupied flight hours increased 19% and average
hourly rates increased as well. The improvement in operating results at NetJets also reflected a
substantial decline in the cost of subcontracted flights that were necessary to meet peak customer
demand.
Retailing
Berkshire’s retailing operations consist of several home furnishings (Nebraska Furniture Mart,
R.C. Willey, Star Furniture and Jordan’s) and jewelry (Borsheims, Helzberg and Ben Bridge)
retailers. Also included in this group is See’s Candies. Revenues of $3.4 billion in 2007
increased $63 million (2%) versus 2006. Pre-tax earnings in 2007 of the retailing businesses
decreased $15 million (5%) compared to 2006 and was primarily attributable to lower revenues and
earnings from jewelry stores.
Revenues of the retail group in 2006 were $3.3 billion, an increase of $223 million (7%)
versus 2005. Pre-tax earnings in 2006 were $289 million, an increase of $32 million (12%) over
2005. Home furnishings revenues in 2006 included sales from two new R.C. Willey stores of $77
million. In addition, same store home furnishings sales in 2006 increased approximately 6%
compared to 2005. A significant portion of the increase in pre-tax
earnings was due to a $27 million increase at See’s
Candies.
A summary of revenues and pre-tax earnings from Berkshire’s finance and financial products
businesses follows. Amounts are in millions.
Revenues
Earnings
2007
2006
2005
2007
2006
2005
Manufactured housing and finance
$
3,665
$
3,570
$
3,175
$
526
$
513
$
416
Furniture/transportation equipment leasing
810
880
856
111
182
173
Other
644
674
528
369
462
233
$
5,119
$
5,124
$
4,559
Pre-tax earnings
1,006
1,157
822
Income taxes and minority interests
374
425
308
$
632
$
732
$
514
Revenues from manufactured housing and finance activities (Clayton Homes) increased $95
million (3%) as compared to 2006. In 2007, interest income from financing activities increased $70
million (7%) over 2006 reflecting higher average installment loan balances. Installment loan
balances outstanding as of December 31, 2007 were approximately $11.1 billion compared to $9.9
billion and $9.5 billion at the end of 2006 and 2005. Pre-tax earnings of Clayton Homes increased
$13 million (3%) over 2006 reflecting a $30 million increase in net interest earned and lower
credit losses partially offset by an overall 5% decline in sales of manufactured homes.
Installment loans originated or acquired by subsidiaries of Clayton Homes are financed primarily
with proceeds from debt issued by Berkshire Hathaway Finance Corporation (“BHFC”). In September
2007 and January 2008, BHFC issued an aggregate of $2.75 billion par amount of new notes at
interest rates that are on average approximately 72 basis points higher than notes that matured in
the second half of 2007 and January 2008. Accordingly, net interest earned from financing
activities may decline in 2008.
The increase in revenues in 2006 as compared to 2005 from Clayton Homes was primarily
attributable to increased sales of manufactured homes of $302 million due to increased sales of
higher priced homes as well as an increase in total units sold. Pre-tax earnings from Clayton
Homes in 2006 increased $97 million (23%) as compared to 2005 which was due to increased interest
income from higher average installment loan balances as a result of loan portfolio acquisitions in
2005.
Revenues and pre-tax earnings from furniture/transportation equipment leasing activities for
2007 decreased $70 million (8%) and $71 million (39%), respectively, as compared to 2006. The
declines primarily reflect lower rental income driven by lower utilization rates for the
over-the-road trailer and storage units. Due to significant cost components of this business being
fixed (depreciation and facility expenses), pre-tax earnings declined disproportionately to
revenues.
Revenues of other finance business activities consist primarily of interest income earned on
short-term and other fixed maturity investments. Pre-tax earnings in 2007 reflected a charge of
approximately $67 million from the adverse effects of changes in mortality assumptions on certain
life annuity contract liabilities. In 2006, pre-tax earnings included income of $67 million from
an equity commitment fee and in 2005 pre-tax earnings included losses of $137 million from the
General Re derivatives business, which has now completed a major
portion of its run-off, and
Berkshire’s investment in Value Capital, a partnership interest that was liquidated as of June 30,2006.
Investment and Derivative Gains/Losses
A summary of investment and derivative gains and losses follows. Amounts are in millions.
Gains/losses before income taxes and minority interests
5,509
2,635
5,494
Income taxes and minority interests
1,930
926
1,964
Net gains/losses
$
3,579
$
1,709
$
3,530
Investment gains or losses are recognized upon the sales of investments or as otherwise
required under GAAP. The timing of realized gains or losses from sales can have a material effect
on periodic earnings. However, such gains or losses usually have little, if any, impact on total
shareholders’ equity because most equity and fixed maturity investments are carried at fair value,
with the unrealized gain or loss included as a component of other comprehensive income.
Other-than-temporary impairments represent the adjustment of cost to fair value when management
concludes that an investment’s decline in value below cost is other than temporary. The impairment
loss represents a non-cash charge to earnings.
Investment and Derivative Gains/Losses (Continued)
In each of the past three years, pre-tax investment gains from sales and other disposals
primarily derived from equity securities. In 2005, pre-tax investment gains from sales and other
disposals included a non-cash pre-tax gain of approximately $5 billion from Berkshire’s exchange of
common stock of The Gillette Company (“Gillette”), which Berkshire held for many years, for shares
of The Procter & Gamble Company (“PG”), which PG issued in its acquisition of Gillette.
Berkshire’s management does not regard the gain recorded, as required under GAAP, as meaningful.
The gain recognized for
financial reporting purposes is deferred for income tax purposes. The transaction essentially had
no effect on Berkshire’s consolidated shareholders’ equity because the gain was accompanied by a
corresponding reduction of unrealized investment gains included in accumulated other comprehensive
income.
Derivative gains and losses from foreign currency forward contracts arise as the value of the
U.S. dollar changes against certain foreign currencies. The notional value of open foreign
currency forward contracts was approximately $14 billion as of December 31, 2005 but has declined
to an immaterial amount at December 31, 2007. During 2005, the value of most foreign currencies
decreased relative to the U.S. dollar and these contracts produced losses.
Other derivative contracts primarily pertain to credit default risks of other U.S. entities as
well as equity price risks associated with major worldwide equity indices. Such contracts are
carried at estimated fair value and changes in estimated fair value are included in earnings in the
period of the change. The gains/losses from such contracts are principally attributable to
non-cash changes in the fair values of the related contracts and reflect changes in applicable
underlying credit standing, equity index values, interest rates, foreign currency exchange rates
and other factors. These contracts generally may not be settled before the expiration date (up to
20 years in the future with respect to equity index contracts) and therefore the amount of cash
basis gains or losses will not be known for years. Nevertheless, the fair values on any given
reporting date and the resulting gains and losses reflected in earnings will likely be volatile,
reflecting the volatility of equity and credit markets.
The estimated fair value of equity index and credit default derivative contracts at December31, 2007 was approximately $6.4 billion, an increase of approximately $3.1 billion from December31, 2006. The increase was primarily due to new contracts entered into during the year for which
Berkshire received premiums of approximately $2.9 billion. As of December 31, 2007, Berkshire’s
maximum exposure under these contracts was
approximately $40 billion, an increase of approximately $16 billion from December 31, 2006.
Financial Condition
Berkshire’s balance sheet continues to reflect significant liquidity and a strong capital
base. Consolidated shareholders’ equity at December 31, 2007 was $120.7 billion. Consolidated
cash and invested assets, excluding assets of finance and financial products businesses, was
approximately $142.4 billion at December 31, 2007 (including cash and cash equivalents of $38.9 billion) and $125.2 billion at December 31, 2006 (including cash and cash equivalents of $38.3 billion). Berkshire’s invested assets are held predominantly in its insurance businesses. A large
amount of capital is maintained in the insurance subsidiaries for strategic and marketing purposes
and in support of reserves for unpaid losses. In the United States, in particular, dividend payments by insurance companies are subject to prior approval by state
regulators. For the year ending December 31, 2007, Berkshire’s insurance subsidiaries paid
dividends of $4.9 billion.
During 2007, Berkshire made several relatively small business acquisitions for aggregate cash
consideration of $1.6 billion. Additionally, Berkshire agreed in December 2007 to acquire a 60%
interest in Marmon Holdings, Inc. (“Marmon”) for $4.5 billion. This acquisition is subject
to customary closing conditions, including regulatory approvals, and is expected to close in March
2008. See Note 2 to the Consolidated Financial Statements for more information concerning the
business acquisitions. Berkshire believes that it currently maintains
sufficient liquidity to cover its contractual obligations and provide for contingent liquidity.
Notes payable and other borrowings of the insurance and other businesses were $2.7 billion
(includes about $1.7 billion issued or guaranteed by Berkshire Hathaway Inc.) at December 31, 2007,
a decrease of $1 billion from December 31, 2006, reflecting maturities and prepayments of $644 million of parent company debt, reductions in commercial paper (principally NetJets) and repayments
of other borrowings of subsidiaries. Berkshire issued 3,715 Class A equivalent shares of common
stock during 2007 in connection with the SQUARZ warrant exercises in exchange for $333 million.
Capital expenditures
of the utilities and energy businesses were approximately $3.5 billion in
2007 and are forecasted to be approximately $3.9 billion in 2008.
MidAmerican expects to fund these capital expenditures with cash flows from operations and debt
proceeds. Certain of its borrowings are secured by certain assets of its regulated utility
subsidiaries. During 2007, MidAmerican issued $3.55 billion par amount of new term debt and repaid
$1.57 billion of previously issued debt including net repayments of short-term borrowings. Term
debt of MidAmerican maturing in 2008 is $1.97 billion with an additional $3.16 billion due before
2013. Berkshire has committed until February 28, 2011 to provide up to $3.5 billion of additional
capital to MidAmerican to permit the repayment of its debt obligations or to fund its regulated
utility subsidiaries. Berkshire has not and does not intend to guarantee the repayment of debt by
MidAmerican or any of its subsidiaries.
Assets of the finance and financial products businesses were $25.7 billion as of December 31,2007 and $24.6 billion at December 31, 2006, which consisted primarily of loans and finance
receivables, fixed maturity securities and cash and cash equivalents. Liabilities were $22.0
billion as of December 31, 2007 and $19.4 billion at December 31, 2006. As of December 31, 2007,
notes payable and other borrowings of $12.1 billion included $8.9 billion par amount of medium-term
notes issued by BHFC. In 2007, BHFC issued $750 million par amount of notes due in 2012 and repaid
$700 million par amount of notes that matured. In 2008, an additional $3.1 billion par amount of
notes will mature, including $1.25 billion that matured in January 2008. BHFC issued an additional
$2.0 billion par amount of medium-term notes in January 2008. BHFC notes are unsecured and mature
at various dates extending through 2015. The proceeds from these notes are being used to finance
originated and
acquired
loans of Clayton Homes, which as of December 31, 2007 had a carrying value of $11 billion.
Full and timely payment of principal and interest on the notes issued by BHFC is guaranteed by
Berkshire. In addition, Clayton Homes had outstanding borrowings of $1.4 billion which are secured
by portfolios of manufactured housing loans and are not guaranteed by Berkshire. These borrowings
are repaid as the underlying collateralized loans are repaid.
Contractual Obligations
Berkshire and its subsidiaries are parties to contracts associated with ongoing business and
financing activities, which will result in cash payments to counterparties in future periods.
Notes payable are reflected in the Consolidated Financial Statements along with accrued but unpaid
interest as of the balance sheet date. In addition, Berkshire is obligated to pay interest under
debt obligations for periods subsequent to the balance sheet date. Although certain principal
balances may be prepaid in advance of the maturity date, thus reducing future interest obligations,
it is assumed that no principal prepayments will occur for purposes of this disclosure. Also,
short-term borrowings and repurchase agreements are generally expected to be renewed as they
mature, however such amounts are not assumed to renew for purposes of this disclosure.
Berkshire and subsidiaries are also parties to long-term contracts to acquire goods or
services in the future, which are not currently reflected in the financial statements. Such
obligations, including future minimum rentals under operating leases, will be reflected in future
periods as the goods are delivered or services provided. Amounts due as of the balance sheet date
for purchases where the goods and services have been received and a liability incurred are not
included to the extent that such amounts are due within one year of the balance sheet date.
Contractual obligations for unpaid losses and loss adjustment expenses arising under property
and casualty insurance contracts are estimates. The timing and amount of such payments are
contingent upon the ultimate outcome of claim settlements that will occur over many years. The
amounts presented in the following table have been estimated based upon past claim settlement
activities. The timing and amount of such payments are subject to significant estimation error.
The factors affecting the ultimate amount of claims are discussed in the following section
regarding Berkshire’s critical accounting policies. In addition, certain losses and loss
adjustment expenses for property and casualty loss reserves are ceded to others under reinsurance
contracts and therefore are recoverable. Such recoverables are not reflected in the table. Accordingly, the actual timing and amount of
payments may differ materially from the amounts shown in the table.
A summary of contractual obligations as of December 31, 2007 follows. Amounts represent
estimates of gross undiscounted amounts payable over time.
Amounts are in millions.
Estimated payments due by period
Total
2008
2009-2010
2011-2012
After 2012
Notes payable and other borrowings (1)
$
56,638
$
8,953
$
6,079
$
6,899
$
34,707
Operating leases
2,496
541
808
486
661
Purchase obligations (2)
25,995
7,262
7,495
4,349
6,889
Unpaid losses and loss expenses (3)
58,734
13,264
14,038
8,349
23,083
Other long-term policyholder liabilities
4,247
190
443
96
3,518
Other (4)
22,313
5,385
1,489
3,039
12,400
Total
$
170,423
$
35,595
$
30,352
$
23,218
$
81,258
(1)
Includes interest.
(2)
Principally relates to future aircraft, coal, electricity and natural gas purchases.
(3)
Before reserve discounts of $2,732 million.
(4)
Principally annuity reserves, employee benefits and derivative contract liabilities.
Also includes $4.5 billion in 2008 related to the pending acquisition of 60% of Marmon and
estimates for the acquisition of the remaining 40% of Marmon between 2011 and 2014.
Critical Accounting Policies
Certain accounting policies require management to make estimates and judgments concerning
transactions that will be settled several years in the future. Amounts recognized in the financial
statements from such estimates are necessarily based on numerous assumptions involving varying and
potentially significant degrees of judgment and uncertainty. Accordingly, the amounts currently
reflected in the financial statements will likely increase or decrease in the future as additional
information becomes available.
Property and casualty losses
A summary of Berkshire’s consolidated liabilities for unpaid property and casualty losses is
presented in the table below. Except for certain workers’ compensation reserves, liabilities for
unpaid property and casualty losses (referred to in this section as “gross unpaid losses”) are
reflected in the Consolidated Balance Sheets without discounting for time value, regardless of the
length of the claim-tail. Amounts are in millions.
Berkshire records liabilities for unpaid losses and loss adjustment expenses under property
and casualty insurance and reinsurance contracts based upon estimates of the ultimate amounts
payable under the contracts with respect to losses occurring on or before the balance sheet date.
Depending on the type of loss, the timing and amount of loss payments are subject
to a great degree of variability and are contingent upon, among other things, the timing of claim
reporting from insureds and cedants and the determination and payment of the ultimate loss amount
through the loss adjustment process. A variety of techniques are used to establish and review the
liabilities for unpaid losses recorded as of the balance sheet date. While techniques may vary,
significant judgments and assumptions are necessary in projecting the ultimate amount payable in
the future with respect to loss events that have occurred. As a result, uncertainties are imbedded
in and permeate the actuarial loss reserving techniques and processes for all of Berkshire’s
property and casualty insurance and reinsurance businesses.
As of any balance sheet date, claims that have occurred have not all been reported and if
reported may not have been settled. Loss and loss adjustment expense reserves include provisions
for reported claims (referred to as “case reserves”) and for claims that
have not been reported, referred to as incurred but not yet reported (“IBNR”) reserves. The time
period between the occurrence date and payment date of a loss is referred to as the “claim-tail.”
Property claims usually have fairly short claim-tails and, absent litigation, are reported and
settled within no more than a few years after occurrence. Casualty losses usually have very long
claim-tails, occasionally extending for decades. Casualty claims are more susceptible to
litigation and can be significantly affected by changing contract interpretations and the legal
environment which further contributes to the extended claim-tails.
Receivables recorded with respect to insurance losses ceded to other reinsurers under
reinsurance contracts are estimated in a manner similar to liabilities for insurance losses and,
therefore, are also subject to estimation error. In addition to the factors cited above,
reinsurance recoverables may ultimately prove to be uncollectible if the reinsurer is unable to
perform under the contract. Reinsurance contracts do not relieve the ceding company of its
obligations to indemnify its own policyholders.
Each of Berkshire’s insurance businesses utilizes loss reserving techniques that are believed
to best fit its business. Additional information regarding reserves established by each of the
significant businesses (GEICO, General Re and BHRG) follows.
GEICO
GEICO’s gross unpaid losses and loss adjustment expense reserves as of December 31, 2007 were
$6,642 million. As of December 31, 2007,
gross reserves included $4,735 million of reported average, case and case development reserves and
$1,907 million of IBNR reserves.
GEICO predominantly writes private passenger auto insurance which has a relatively short
claim-tail. The key assumptions affecting GEICO’s reserves include projections of
ultimate claim counts (“frequency”) and average loss per claim (“severity”), which includes loss
adjustment expenses.
GEICO’s reserving methodologies produce reserve estimates based upon the individual claims (or
a “ground-up” approach), which in the aggregate yields a point estimate of the ultimate losses and
loss adjustment expenses. Ranges of loss estimates are not determined in the aggregate. A
detailed discussion of the process and significant factors considered in establishing reserves
follows.
Actuaries establish and evaluate unpaid loss reserves using recognized standard actuarial loss
development methods and techniques. The significant reserve components (and percentage of gross
reserves) are: (1) average reserves (20%), (2) case and case development reserves (50%) and (3)
IBNR reserves (30%). Each component of loss reserves is affected by
the expected frequencies and
average severities of claims. Such amounts are analyzed using actuarial techniques on historical
claims data and adjusted when appropriate to reflect perceived changes in loss patterns. Data is
analyzed by policy coverage, rated state, reporting date and occurrence date, among other factors.
A brief discussion of each component follows.
Average reserve amounts are established for reported auto damage claims and new liability
claims prior to the development of an individual case reserve. The average reserves are
established as a reasonable estimate for incurred claims for which claims adjusters have
insufficient time and information to make specific claim estimates
and for a large
number of minor physical damage claims that are paid within a
relatively short time after being
reported. Average reserve amounts are driven by the estimated average severity per claim and the
number of new claims opened. The average severity per claim amount is developed by projecting the
ultimate severities for each accident quarter and weighting with both reported claims and estimated
unreported claims.
Claims adjusters generally establish individual liability claim case loss and loss adjustment
expense reserve estimates as soon as the specific facts and merits of each claim can be evaluated.
Case reserves represent the amounts that in the judgment of the adjusters are reasonably expected
to be paid in the future to completely settle the claim, including expenses. Individual case
reserves are subsequently revised as more information becomes known.
For most liability coverages, case reserves alone are an insufficient measure of the ultimate
cost due in part to the longer claim-tail, the greater chance of protracted litigation and the
incompleteness of facts available at the time the case reserve is established. Therefore,
additional case development reserve estimates are established, usually as a percentage of the case
reserve. As of December 31, 2007, case development reserves averaged approximately 20% of total
established case reserves. In general, case development factors are selected by a retrospective
analysis of the overall adequacy of historical case reserves. Case development factors are
reviewed and revised periodically.
For unreported claims, IBNR reserve estimates are calculated by first projecting the ultimate
number of claims expected (reported and unreported) for each significant coverage by using
historical quarterly and monthly claim counts to develop age-to-age projections of the ultimate
counts by accident quarter. Reported claims are subtracted from the ultimate claim projections to
produce an estimate of the number of unreported claims. The number of unreported claims is
multiplied by an estimate of the average cost per unreported claim to produce the IBNR reserve
amount. Actuarial techniques are difficult to apply reliably in certain situations, such as to new
legal precedents, class action suits or recent catastrophes. Consequently, supplemental IBNR
reserves for these types of events may be established through the collaborative effort of
actuarial, claims and other management.
For each of its major coverages, GEICO tests the adequacy of the total loss reserves using one
or more actuarial projections based on claim closure models, paid loss triangles and incurred loss
triangles. Each type of projection analyzes loss occurrence data for claims occurring in a given
period and projects the ultimate cost.
In 2007, claim frequencies were generally lower than expected and severity increases were
generally not as great as originally projected during the first part of the year. Loss reserve
estimates recorded at the end of 2006 developed downward by approximately $375 million when
reevaluated at December 31, 2007 producing a corresponding increase to pre-tax earnings in 2007.
These downward reserve developments represented approximately 3% of earned premiums in 2007 and
approximately 6% of the prior year-end reserve amount. Reserving assumptions at December 31, 2007
were modified appropriately to reflect the most recent frequency and severity results. Future
reserve development will depend on whether frequency and severity turn out to be more or less than
anticipated. Within the automobile line of business the reserves with the most uncertainty are for
automobile liability, due to the longer claim-tails for most of these coverages. Approximately 90%
of GEICO’s reserves as of December 31, 2007 were for automobile liability, of which bodily injury
(“BI”) coverage accounted for nearly 60%. Management believes it is reasonably possible that the
average BI severity will change by at least one percentage point from the severity used. If actual
BI severity changes one percentage point from what was used in establishing the reserves, the
reserves would develop up or down by approximately $99 million resulting in a corresponding
decrease or increase in pre-tax earnings. Many of the same economic forces that would likely cause
BI severity to be different from expected would likely also cause severities for other injury
coverages to differ in the same direction.
GEICO’s exposure to highly uncertain losses is believed to be limited to certain commercial
excess umbrella policies written during a period from 1981 to 1984. Remaining reserves associated
with such exposure are currently a relatively insignificant component of GEICO’s total reserves
(less than 3%) and there is little apparent asbestos or environmental liability exposure. Related
claim activity over the past year was insignificant.
General Re and BHRG
General Re’s and BHRG’s property and casualty loss reserves derive primarily from assumed
reinsurance. Additional uncertainties unique to loss reserving processes for reinsurance are
described below. The nature, extent, timing and perceived reliability of information received from
ceding companies varies widely depending on the type of coverage, the contractual reporting terms
(which are affected by market conditions and practices) and other factors. Due to the lack of
standardization of the terms and conditions of reinsurance contracts, the wide variability of
coverage needs of individual clients and the tendency for those needs to change rapidly in response
to market conditions, the ongoing economic impact of such uncertainties, in and of themselves,
cannot be reliably measured.
The nature and extent of loss information provided under many facultative, per occurrence
excess contracts or retroactive contracts where company personnel either work closely with the
ceding company in settling individual claims or manage the claims themselves may not differ
significantly from the information received under a primary insurance contract. Loss information
from aggregate excess of loss contracts, including catastrophe losses and quota-share treaties, is
often less detailed. Occasionally such information is reported in summary format rather than on an
individual claim basis. Loss data is provided through periodic reports and may include the amount
of ceded losses paid where reimbursement is sought as well as case loss reserve estimates. Ceding
companies infrequently provide IBNR estimates to reinsurers.
Each of Berkshire’s reinsurance businesses has established practices to identify and gather
needed information from clients. These practices include, for example, comparison of expected
premiums to reported premiums to help identify delinquent client periodic reports and claim reviews
to facilitate loss reporting and identify inaccurate or incomplete claim reporting. These
practices are periodically evaluated and changed as conditions, risk factors and unanticipated
areas of exposures are identified.
The timing of claim reporting to reinsurers is delayed in comparison with primary insurance.
In some instances there are multiple reinsurers assuming and ceding parts of an underlying risk
causing multiple contractual intermediaries between General Re or BHRG and the primary insured. In
these instances, the delays in reporting can be compounded. The relative impact of reporting
delays on the reinsurer varies depending on the type of coverage, contractual reporting terms and
other factors. Contracts covering casualty losses on a per occurrence excess basis may experience
longer delays in reporting due to the length of the claim-tail as regards to the underlying claim.
In addition, ceding companies may not report claims to the reinsurer
until they believe it is reasonably
possible that the reinsurer will be affected, usually determined as a function of its estimate of
the claim amount as a percentage of the reinsurance contract retention. On the other hand, the
timing of reporting large per occurrence excess property losses or property catastrophe losses may
not vary significantly from primary insurance.
Under contracts where periodic premium and claims reports are required from ceding companies,
such reports are generally required at quarterly intervals which in the U.S. range from 30 to 90
days after the end of the accounting period. In continental Europe, reinsurance reporting
practices vary since fewer clients report premiums, losses and case reserves on a quarterly basis. In
certain countries, clients report on an annual basis and generally not until 90 to 180 days after
the end of the annual period. Estimates of premiums and losses are accrued based on expected
results supplemented when necessary for estimates of significant known events occurring in the
interim. To monitor the timing and receipt of information due, client reporting requirements are
tracked. When clients miss reporting deadlines, the clients are contacted.
Premium and loss data is provided through at least one intermediary (the primary insurer), so
there is a greater risk that the loss data provided is incomplete, inaccurate or outside the
coverage terms. Information provided by ceding companies is reviewed for completeness and
compliance with the contract terms. Reinsurance contracts generally allow for Berkshire’s
reinsurance subsidiaries to have access to the cedant’s books
and records with respect to the subject
business and provide them the ability to conduct audits to determine the accuracy and completeness
of information. Such audits are conducted when management deems it appropriate.
In the regular course of business, disputes with clients may arise concerning whether certain
claims are covered under the reinsurance policies. Most disputes are resolved by the claims
departments by discussing coverage aspects with the appropriate
client personnel or by independent
outside counsel review and determination. If disputes cannot be resolved, contracts generally
specify whether arbitration, litigation, or alternative dispute resolution will be invoked. There
are no coverage disputes at this time for which an adverse resolution would likely have a material
impact on Berkshire’s results of operations or financial condition.
In summary, the scope, number and potential variability of assumptions required in estimating
ultimate losses from reinsurance contracts of General Re and BHRG are more uncertain than primary
property and casualty insurers due to the factors previously discussed. Additional information
concerning General Re and BHRG follows.
General Re
General Re’s gross and net unpaid losses and loss adjustment expenses and gross reserves by
major line of business as of December 31, 2007 are summarized below. Amounts are in millions.
Type
Reported case reserves
$
10,957
IBNR reserves
8,874
Gross reserves
19,831
Ceded reserves and deferred charges
(2,180
)
Net reserves
$
17,651
Line of business
Workers’ compensation (1)
$
3,284
Professional liability (2)
1,646
Mass tort-asbestos/environmental
1,841
Auto liability
3,004
Other casualty (3)
4,099
Other general liability
3,127
Property
2,830
Total
$
19,831
(1)
Net of discounts of $2,732 million.
(2)
Includes directors and officers and errors and omissions coverage.
(3)
Includes medical malpractice and umbrella coverage.
General Re’s process of establishing loss reserve estimates is based upon a ground-up
approach, beginning with case estimates and supplemented by additional case reserves (“ACRs”) and
IBNR reserves. Critical judgments in the establishment of these loss reserves may involve the
establishment of ACRs by claim examiners, the expectation of ultimate loss ratios which drive IBNR
reserve amounts and the case reserve reporting trends compared to the expected loss reporting
patterns. Recorded reserve amounts are subject to “tail risk” where reported losses develop beyond
the maximum expected loss emergence pattern time period.
General
Re does not routinely determine loss reserve ranges because it believes that the
techniques necessary have not sufficiently developed and the myriad of assumptions required render
such resulting ranges to be unreliable. In addition, counts of claims or average amounts per claim
are not utilized because clients do not consistently provide reliable data in sufficient detail.
Upon notification of a reinsurance claim from a ceding company, claim examiners make
independent evaluations of loss amounts. In some cases, examiners’ estimates differ from amounts
reported by ceding companies. If the examiners’ estimates are significantly greater than the
ceding company’s estimates, the claims are further investigated. If deemed appropriate, ACRs are
established above the amount reported by the ceding company. As of December 31, 2007, ACRs of
$3.3 billion before discounts were concentrated in workers’ compensation and to a lesser
extent in professional liability reserves. Examiners also periodically conduct claim reviews at
client companies and case reserves are often increased as a result. In 2007, claim examiners
conducted about 400 claim reviews.
Actuaries classify all loss and premium data into segments (“reserve cells”) primarily based
on product (e.g., treaty, facultative and program) and line of business (e.g., auto liability,
property, etc.). For each reserve cell, losses are aggregated by accident year and analyzed over
time. Depending on client reporting practices, some losses and premiums are aggregated by policy
year or underwriting year. These loss aggregations are internally called loss triangles which
serve as the primary basis for IBNR reserve calculations. Over 300 reserve cells are reviewed for
North American business and approximately 900 reserve cells are reviewed with respect to
international business.
Loss triangles are used to determine the expected case loss emergence patterns for most
coverages and, in conjunction with expected loss ratios by accident year, are further used to
determine IBNR reserves. Additional calculations form the basis for estimating the expected loss
emergence pattern. The determination of the expected loss emergence pattern is not strictly a
mechanical process. In instances where the historical loss data is insufficient, estimation
formulas are used along with reliance on other loss triangles and judgment. Factors affecting loss
development triangles include but are not limited to the following:
changes in client claims
practices, changes in claim examiners’ use of ACRs or the frequency of client company claim
reviews, changes in policy terms and coverage (such as client loss retention levels and occurrence
and aggregate policy limits), changes in loss trends and changes in legal trends that result in
unanticipated losses, as well as other sources of statistical variability. These items influence
the selection of the expected loss emergence patterns.
Expected loss ratios are selected by reserve cell, by accident year, based upon reviewing
forecasted losses and indicated ultimate loss ratios predicted from aggregated pricing statistics.
Indicated ultimate loss ratios are calculated using the selected loss emergence pattern, reported
losses and earned premium. If the selected emergence pattern is not accurate, then the indicated
ultimate loss ratios will not be accurate and this can affect the selected loss ratios and hence
the IBNR reserve. As with selected loss emergence patterns, selecting expected loss ratios is not
a strictly mechanical process and judgment is used in the analysis of indicated ultimate loss
ratios and department pricing loss ratios.
IBNR reserves are estimated by reserve cell, by accident year, using the expected loss
emergence patterns and the expected loss ratios. The expected loss emergence patterns and expected
loss ratios are the critical IBNR reserving assumptions and are updated annually. Once the annual
IBNR reserves are determined, actuaries calculate expected case loss emergence for the upcoming
calendar year. This calculation does not involve new assumptions and uses the prior year-end
expected loss emergence patterns and expected loss ratios. The expected losses are then allocated
into interim estimates that are compared to actual reported losses in the subsequent year. This
comparison provides a test of the adequacy of prior year-end IBNR reserves and forms the basis for
possibly changing IBNR reserve assumptions during the course of the year.
In 2007, for prior years’ workers’ compensation losses, reported claims were less than
expected claims by about $74 million. However, further analysis of the workers’ compensation
reserve cells by segment indicated the need for additional IBNR. These developments precipitated
about $218 million of a net increase in nominal IBNR reserve estimates for unreported occurrences.
After deducting $20 million for the change in net reserve discounts during the year, workers’
compensation losses from prior years reduced pre-tax earnings in 2007 by $164 million. To
illustrate the sensitivity of changes in expected loss emergence patterns and expected loss ratios
for General Re’s significant excess of loss workers’ compensation reserve cells, an increase of ten
points in the tail of the expected emergence pattern and an increase of ten percent in the expected
loss ratios would produce a net increase in nominal IBNR reserves of approximately $587 million and
$334 million on a discounted basis as of December 31, 2007. The increase in discounted reserves
would produce a corresponding decrease in pre-tax earnings. Management believes it is reasonably
possible for the tail of the expected loss emergence patterns and expected loss ratios to increase
at these rates.
Other casualty and general liability reported losses (excluding mass tort losses) were
favorable in 2007 relative to expectations. Casualty losses tend to be long-tail and it should not
be assumed that favorable loss experience in a year means that loss reserve amounts currently
established will continue to develop favorably. For General Re’s significant other casualty and
general liability reserve cells (including medical malpractice, umbrella, auto and general
liability), an increase of five points in the tails of the expected emergence patterns and an
increase of five percent in expected loss ratios (one percent for large international proportional
reserve cells) would produce a net increase in nominal IBNR reserves and a corresponding reduction
in pre-tax earnings of approximately $720 million. Management believes it is reasonably possible
for the tail of the expected loss emergence patterns and expected loss ratios to increase at these
rates in any of the aforementioned individual reserve cells. However, given the diversification in worldwide
business, more likely outcomes are believed to be less than $720 million.
Property
losses were lower than expected in 2007 but the nature of property loss experience tends to
be more volatile because of the effect of catastrophes and large individual property losses. In
response to favorable claim developments and another year of information, estimated remaining World
Trade Center losses and estimated losses from the hurricanes in 2005 were reduced by $93 million in 2007.
In certain reserve cells within excess directors and officers and errors and omissions (“D&O
and E&O”) coverages, IBNR reserves are based on estimated ultimate losses without consideration of
expected emergence patterns. These cells often involve a spike in loss activity arising from
recent industry developments making it difficult to select an expected loss emergence pattern. For
example, the number of recent corporate scandals has caused an increase in reported losses. For
General Re’s large D&O and E&O reserve cells an increase of ten points in the tail of the expected
emergence pattern (for those cells where emergence patterns are considered) and an increase of ten
percent in the expected loss ratios would produce a net increase in nominal IBNR reserves and a
corresponding reduction in pre-tax earnings of approximately $210 million. Management believes it
is reasonably possible for the tail of the expected loss emergence patterns and expected loss
ratios to increase at these rates.
Overall industry-wide loss experience data and informed judgment are used when internal loss
data is of limited reliability, such as in setting the estimates for mass tort, asbestos and
hazardous waste (collectively, “mass tort”) claims. Unpaid mass tort reserves at December 31, 2007
were approximately $1.8 billion gross and $1.2 billion net of reinsurance. Such
reserves were approximately $1.9 billion gross and $1.2 billion net of reinsurance as of December31, 2006. Claims paid attributable to such losses were about $75 million in 2007. In 2007, IBNR
reserve estimates for asbestos and environmental claims were
increased by $48 million. In addition to the previously described methodologies,
General Re considers “survival ratios” based on net claim payments in recent years versus net
unpaid losses as a rough guide to reserve adequacy. The survival ratio was approximately thirteen
years as of December 31, 2007. The insurance industry’s comparable survival ratio for asbestos and
pollution reserves was approximately eight years. Estimating mass tort losses is very difficult
due to the changing legal environment. Although such reserves are believed to be adequate,
significant reserve increases may be required in the future if new exposures or claimants are
identified, new claims are reported or new theories of liability emerge.
BHRG
BHRG’s unpaid losses and loss adjustment expenses as of December 31, 2007 are summarized as
follows. Amounts are in millions.
Property
Casualty
Total
Reported case reserves
$
1,654
$
2,143
$
3,797
IBNR reserves
1,180
2,660
3,840
Retroactive
—
17,257
17,257
Gross reserves
$
2,834
$
22,060
24,894
Deferred charges and ceded reserves
(4,671
)
Net reserves
$
20,223
In general, the methodologies used to establish loss reserves vary widely and encompass many
of the common methodologies employed in the actuarial field today. Certain traditional
methodologies such as paid and incurred loss development techniques, incurred and paid loss
Bornhuetter-Ferguson techniques and frequency and severity techniques are utilized as well as
ground-up techniques where appropriate. Additional judgments must also be employed to consider
changes in contract conditions and terms as well as the incidence of litigation or legal and
regulatory change.
As of December 31, 2007, BHRG’s gross loss reserves related to retroactive reinsurance
policies were predominantly casualty losses. Retroactive policies include excess-of-loss
contracts, in which losses (relating to loss events occurring before a specified date on or before
the contract date) above a contractual retention are indemnified or contracts that indemnify all
losses paid by the counterparty after the policy effective date. Retroactive losses paid in 2007
were $894 million. The classification “reported case reserves” has no practical analytical value
with respect to retroactive policies since the amount is often derived from reports in bulk from
ceding companies, who may have inconsistent definitions of “case reserves.” Reserves are reviewed
and established in the aggregate by contract including provisions for IBNR reserves.
In establishing retroactive reinsurance reserves, historical aggregate loss payment patterns
are often analyzed and projected into the future under various scenarios. The claim-tail is
expected to be very long for many policies and may last several decades. Management assigns
judgmental probability factors to these aggregate loss payment scenarios and an expectancy outcome
is determined. Management monitors claim payment activity and reviews ceding company reports or
other information concerning the underlying losses. Since the claim-tail is expected to be very
long for such contracts, management reassesses expected ultimate losses as significant events
related to the underlying losses are reported or revealed during the monitoring and review process.
During 2007, retroactive reserves developed downward by approximately $37 million.
BHRG’s liabilities for environmental, asbestos, and latent injury losses and loss adjustment
expenses are presently concentrated within retroactive reinsurance contracts. Reserves for such
losses were approximately $9.7 billion at December 31, 2007
and $3.8 billion at December 31, 2006. The increase during
2007 was due to the Equitas reinsurance agreement which became
effective on March 30, 2007. See Note 11 to the
accompanying Consolidated Financial Statements. Losses paid in 2007 attributable to these exposures were approximately $500 million. BHRG, as a reinsurer, does not regularly
receive reliable information regarding numbers of asbestos, environmental and latent injury claims
from all ceding companies on a consistent basis, particularly with respect to multi-line treaty or
aggregate excess of loss policies. Periodically, a ground-up analysis of the underlying loss data
of the reinsured is conducted to make an estimate of ultimate reinsured losses. When detailed loss
information is unavailable, estimates can only be developed by applying recent industry trends and
projections to aggregate client data. Judgments in these areas necessarily include the stability
of the legal and regulatory environment under which these claims will be adjudicated. Potential
legal reform and legislation could also have a significant impact on establishing loss reserves for
mass tort claims in the future.
The maximum losses payable by BHRG under retroactive policies are not expected to exceed
approximately $24.8 billion as of December 31, 2007. Absent significant judicial or legislative
changes affecting asbestos, environmental or latent injury exposures, management currently believes
it unlikely that unpaid losses as of December 31, 2007 ($17.3 billion) will develop upward to the
maximum loss payable or downward by more than 15%.
A significant number of recent reinsurance contracts are expected to have a low frequency of
claim occurrence combined with a potential for high severity of
claims. These include property losses from
catastrophes, terrorism and aviation risks under catastrophe and individual risk contracts. Loss
reserves related to catastrophe and individual risk contracts
decreased from approximately $2.2 billion at year end 2006 to approximately $1.3 billion at year end 2007. The decrease in
reserves reflected loss payments in 2007 of approximately $900 million that were primarily
attributable to the major hurricanes that occurred in 2005.
Loss reserves for pre-2007 events declined by approximately $200 million which produced a
corresponding increase to pre-tax earnings in 2007. Reserving techniques for catastrophe and
individual risk contracts generally rely more on a per-policy assessment of the ultimate cost
associated with the individual loss event rather than with an analysis of the historical
development patterns of past losses. Catastrophe loss reserves are provided when it is probable
that an insured loss has occurred and the amount can be reasonably estimated. Absent litigation
affecting the interpretation of coverage terms, the expected claim-tail is relatively short and
thus the estimation error in the initial reserve estimates usually emerges within 24 months after
the loss event.
Other reinsurance reserve amounts are generally based upon loss estimates reported by ceding
companies and IBNR reserves that are primarily a function of reported losses from ceding companies
and anticipated loss ratios established on an individual contract basis, supplemented by
management’s judgment of the impact on each contract of major catastrophe events as they become
known. Anticipated loss ratios are based upon management’s judgment considering the type of
business covered, analysis of each ceding company’s loss history and evaluation of that portion of
the underlying contracts underwritten by each ceding company, which are in turn ceded to BHRG. A
range of reserve amounts as a result of changes in underlying assumptions is not prepared.
Other Critical Accounting Policies
Berkshire records as assets deferred charges with respect to liabilities assumed under
retroactive reinsurance contracts. At the inception of these contracts, the deferred charges
represent the difference between the consideration received and the estimated ultimate liability
for unpaid losses. Deferred charges are amortized using the interest method over an estimate of
the ultimate claim payment period with the periodic amortization reflected in earnings as a component of losses and loss
expenses. The deferred charge balances are adjusted periodically to reflect new projections of the
amount and timing of loss payments. Adjustments to these assumptions are applied retrospectively
from the inception of the contract. Unamortized deferred charges were $4.0 billion at December 31,2007. Significant changes in the estimated amount and payment timing of unpaid losses may have a
significant effect on unamortized deferred charges and the amount of periodic amortization.
Berkshire’s Consolidated Balance Sheet as of December 31, 2007 includes goodwill of acquired
businesses of approximately $32.9 billion. A significant amount of judgment is required in
performing goodwill impairment tests. Such tests include periodically determining or reviewing the
estimated fair value of Berkshire’s reporting units. There are several methods of estimating a
reporting unit’s fair value, including market quotations, asset and liability fair values and other
valuation techniques, such as discounted projected future net
earnings or net cash flows and multiples of earnings.
If the carrying amount of a reporting unit, including goodwill, exceeds the estimated fair value,
then individual assets, including identifiable intangible assets, and liabilities of the reporting
unit are estimated at fair value. The excess of the estimated fair value of the reporting unit
over the estimated fair value of net assets would establish the implied value of goodwill. The
excess of the recorded amount of goodwill over the implied value is then charged to earnings as an
impairment loss.
Berkshire’s consolidated financial position reflects very significant amounts of invested
assets. A substantial portion of these assets are carried at fair values based upon current market
quotations and, when not available, based upon fair value of similar
instruments or valuation models reflecting the present value of
estimated future cash flows. Certain of Berkshire’s
fixed maturity securities are not actively traded in the financial markets. Further, Berkshire’s
finance businesses maintain significant balances of finance receivables, which are carried at
amortized cost. Considerable judgment is required in determining the assumptions used in certain
valuation models, including interest rate, loan prepayment speed, credit risk and liquidity risk
assumptions. Significant changes in these assumptions can have a significant effect on carrying
values.
Information concerning recently issued accounting pronouncements which are not yet effective
is included in Note 1(s) to the Consolidated Financial Statements. Berkshire does not expect that
the adoption of any of the recently issued accounting pronouncements will have a material effect on
its financial condition.
Market Risk Disclosures
Berkshire’s Consolidated Balance Sheets include a substantial amount of assets and liabilities
whose fair values are subject to market risks. Berkshire’s significant market risks are primarily
associated with interest rates, equity prices, foreign currency exchange rates and commodity
prices. The following sections address the significant market risks associated with Berkshire’s
business activities.
Interest Rate Risk
Berkshire’s management prefers to invest in equity securities or to acquire entire businesses
based upon the principles discussed in the following section on equity price risk. When unable to
do so, management may alternatively invest in bonds, loans or other interest rate sensitive
instruments. Berkshire’s strategy is to acquire securities that are attractively priced in
relation to the perceived credit risk. Management recognizes and accepts that losses may occur.
Berkshire strives to maintain high credit ratings so that the cost of debt is
minimized. Berkshire utilizes derivative products, such as interest rate swaps, to manage interest
rate risks on a limited basis.
The fair values of Berkshire’s fixed maturity investments and notes payable and other
borrowings will fluctuate in response to changes in market interest rates. Increases and decreases
in prevailing interest rates generally translate into decreases and increases in fair values of
those instruments. Additionally, fair values of interest rate sensitive instruments may be
affected by the creditworthiness of the issuer, prepayment options, relative values of alternative
investments, the liquidity of the instrument and other general market conditions. Fixed interest
rate investments may be more sensitive to interest rate changes than variable rate investments.
The following table summarizes the estimated effects of hypothetical increases and decreases
in interest rates on assets and liabilities that are subject to interest rate risk. It is assumed
that the changes occur immediately and uniformly to each category of instrument containing interest
rate risk. The hypothetical changes in market interest rates do not reflect what could be deemed
best or worst case scenarios. Variations in market interest rates could produce significant
changes in the timing of repayments due to prepayment options available. For these reasons, actual
results might differ from those reflected in the table. Dollars are in millions.
Investments in fixed maturity securities
and loans and finance receivables
15,026
16,033
14,025
13,101
12,263
Notes payable and other borrowings
12,362
12,775
11,937
11,565
11,218
Utilities and energy businesses:
Notes payable and other borrowings
17,789
19,256
16,548
15,486
14,569
Equity Price Risk
Strategically, Berkshire strives to invest in businesses that possess excellent economics,
with able and honest management and at sensible prices. Berkshire’s management prefers to invest a
meaningful amount in each investee. Historically, Berkshire’s equity investments are generally
concentrated in relatively few investees. At December 31, 2007, 49% of the total fair value of
equity investments was concentrated in four investees.
Berkshire’s preferred strategy is to hold equity investments for very long periods of time.
Thus, Berkshire’s management is not troubled by short-term equity price volatility with respect to
its investments provided that the underlying business, economic and management characteristics of
the investees remain favorable. Berkshire strives to maintain above average levels of shareholder
capital to provide a margin of safety against short-term equity price volatility.
The carrying values of investments subject to equity price risk are, in almost all instances,
based on quoted market prices as of the balance sheet dates. Market prices are subject to
fluctuation and consequently the amount realized in the subsequent sale of an investment may
significantly differ from the reported market value. Fluctuation in the market price of a security
may result from perceived changes in the underlying economic characteristics of the investee, the
relative price of alternative investments and general market conditions. Furthermore, amounts
realized in the sale of a particular security may be affected by the relative quantity of the
security being sold.
The table which follows summarizes Berkshire’s equity price risk as of December 31, 2007 and
2006 and shows the effects of a hypothetical 30% increase and a 30% decrease in market prices as of
those dates. The selected hypothetical change does not reflect what could be considered the best
or worst case scenarios. Indeed, results could be far worse due both to the nature of equity
markets and the aforementioned concentrations existing in Berkshire’s equity investment portfolio.
Dollars are in millions.
Berkshire is also subject to equity price risk with respect to certain long duration equity
index option contracts. Berkshire’s maximum exposure with respect to such contracts was
approximately $35 billion and $21 billion at December 31, 2007 and 2006, respectively. These
contracts generally expire 15 to 20 years from inception and they may not be settled before their
respective expiration dates. The contracts have been written on four major equity indexes
including three that are based on foreign markets. While Berkshire’s ultimate potential loss with
respect to these contracts is directly correlated to the movement of the underlying stock index
between contract inception date and expiration, the change in fair value from current changes in
the indexes do not produce a proportional change in the estimated fair value of the contracts.
Other factors (such as interest rates, expected dividend rates and the remaining duration of the
contract as well as general market assumptions) affect the estimates of fair value reflected in
the financial statements. The carrying amount of these liabilities was $4.6 billion at December31, 2007 and $2.4 billion at December 31, 2006. If the underlying indexes declined 30%
immediately, and absent changes in other factors required to estimate fair value, Berkshire
estimates that it could incur a non-cash pre-tax loss of approximately $2.3 billion.
Foreign Currency Risk
Market risks associated with changes in foreign currency exchange rates are currently
concentrated in long duration equity index option contracts on foreign equity indexes. The
following table summarizes the outstanding derivatives contracts as of December 31, 2007 and 2006
with foreign currency risk and shows the estimated changes in values of the contracts assuming
changes in the underlying exchange rates applied immediately and uniformly across all currencies.
The changes in value do not necessarily reflect the best or worst case scenarios and actual results
may differ. Dollars are in millions.
Berkshire,
through its ownership of MidAmerican, is subject to commodity price risk. Exposures
include variations in the price of wholesale electricity that is purchased and sold, fuel costs to
generate electricity and natural gas supply for regulated retail gas customers. Electricity and
natural gas prices are subject to wide price swings as demand responds to, among many other items,
changing weather, limited storage, transmission and transportation constraints, and lack of
alternative supplies from other areas. To mitigate a portion of the risk, MidAmerican uses
derivative instruments, including forwards, futures, options, swaps and other over-the-counter
agreements, to effectively secure future supply or sell future production at fixed prices. The
settled cost of these contracts is generally recovered from customers in regulated rates.
Accordingly, the net unrealized gains and losses associated with interim price movements on such
contracts are recorded as regulatory assets or liabilities. Financial results may be negatively
impacted if the costs of wholesale electricity, fuel and or natural gas are higher than what is
permitted to be recovered in rates. MidAmerican also uses futures, options and swap agreements to
economically hedge gas and electric commodity prices for physical delivery to non-regulated
customers. MidAmerican does not engage in a material amount of proprietary trading activities.
The
table that follows summarizes Berkshire’s commodity price risk
on energy derivative contracts of MidAmerican as
of December 31, 2007 and 2006 and shows the effects of a hypothetical 10% increase and a 10%
decrease in forward market prices by the expected volumes for these contracts as of that date. The
selected hypothetical change does not reflect what could be considered the best or worst case
scenarios. Dollars are in millions.
Investors are cautioned that certain statements contained in this document, as well as some
statements by the Company in periodic press releases and some oral statements of Company officials
during presentations about the Company, are “forward-looking” statements within the meaning of the
Private Securities Litigation Reform Act of 1995 (the “Act”). Forward-looking statements include
statements which are predictive in nature, which depend upon or refer to future events or
conditions, which include words such as “expects,”“anticipates,”“intends,”“plans,”“believes,”“estimates,” or similar expressions. In addition, any statements concerning future financial
performance (including future revenues, earnings or growth rates), ongoing business strategies or
prospects, and possible future Company actions, which may be provided by management are also
forward-looking statements as defined by the Act. Forward-looking statements are based on current
expectations and projections about future events and are subject to risks, uncertainties, and
assumptions about the Company, economic and market factors and the industries in which the Company
does business, among other things. These statements are not guaranties of future performance and
the Company has no specific intention to update these statements.
Actual events and results may differ materially from those expressed or forecasted in
forward-looking statements due to a number of factors. The principal important risk factors that
could cause the Company’s actual performance and future events and actions to differ materially
from such forward-looking statements, include, but are not limited to, changes in market prices of
Berkshire’s significant equity investees, the occurrence of one or more catastrophic events, such
as an earthquake, hurricane or an act of terrorism that causes losses insured by Berkshire’s
insurance subsidiaries, changes in insurance laws or regulations, changes in Federal income tax
laws, and changes in general economic and market factors that affect the prices of securities or
the industries in which Berkshire and its affiliates do business.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
See “Market Risk Disclosures” contained in Item 7 “Management’s Discussion and Analysis of
Financial Condition and Results of Operations.”
Management’s Report on Internal Control Over Financial Reporting
Management of Berkshire Hathaway Inc. is responsible for establishing and maintaining adequate
internal control over financial reporting, as such term is defined in the Securities Exchange Act
of 1934 Rule 13a-15(f). Under the supervision and with the participation of our management,
including our principal executive officer and principal financial officer, we conducted an
evaluation of the effectiveness of the Company’s internal control over financial reporting as of
December 31, 2007 as required by the Securities Exchange Act of 1934 Rule 13a-15(c). In making
this assessment, we used the criteria set forth in the framework in Internal Control — Integrated
Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on
our evaluation under the framework in Internal Control — Integrated Framework, our management
concluded that our internal control over financial reporting was effective as of December 31, 2007.
The effectiveness of our internal control over financial reporting as of December 31, 2007 has been
audited by Deloitte & Touche LLP, an independent registered public accounting firm, as stated in
their report which appears on page 50.
Item 8. Financial Statements and Supplementary Data
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Berkshire Hathaway Inc.
We have audited the accompanying consolidated balance sheets of Berkshire Hathaway Inc. and
subsidiaries (the “Company”) as of December 31, 2007 and 2006, and the related consolidated
statements of earnings, cash flows and changes in shareholders’ equity and comprehensive income for
each of the three years in the period ended December 31, 2007. We also have audited the Company’s
internal control over financial reporting as of December 31, 2007, based on criteria established in
Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the
Treadway Commission. The Company’s management is responsible for these financial statements, for
maintaining effective internal control over financial reporting, and for its assessment of the
effectiveness of internal control over financial reporting, included in the accompanying
Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express
an opinion on these financial statements and an opinion on the effectiveness of the Company’s
internal control over financial reporting based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement and
whether effective internal control over financial reporting was maintained in all material
respects. Our audits of the financial statements included examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing the accounting
principles used and significant estimates made by management, and evaluating the overall financial
statement presentation. Our audit of internal control over financial reporting included obtaining
an understanding of internal control over financial reporting, assessing the risk that a material
weakness exists, and testing and evaluating the design and operating effectiveness of internal
control based on the assessed risk. Our audits also included performing such other procedures as
we considered necessary in the circumstances. We believe that our audits provide a reasonable
basis for our opinions.
A company’s internal control over financial reporting is a process designed by, or under the
supervision of, the company’s principal executive and principal financial officers, or persons
performing similar functions, and effected by the company’s board of directors, management, and
other personnel to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes
those policies and procedures that (1) pertain to the maintenance of records that, in reasonable
detail, accurately and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted accounting principles,
and that receipts and expenditures of the company are being made only in accordance with
authorizations of management and directors of the company; and (3) provide reasonable assurance
regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the
company’s assets that could have a material effect on the financial statements.
Because of the inherent limitations of internal control over financial reporting, including the
possibility of collusion or improper management override of controls, material misstatements due to
error or fraud may not be prevented or detected on a timely basis. Also, projections of any
evaluation of the effectiveness of the internal control over financial reporting to future periods
are subject to the risk that the controls may become inadequate because of changes in conditions,
or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, the consolidated financial statements referred to above present fairly, in all
material respects, the financial position of Berkshire Hathaway Inc. and subsidiaries as of
December 31, 2007 and 2006, and the results of their operations and their cash flows for each of
the three years in the period ended December 31, 2007, in conformity with accounting principles
generally accepted in the United States of America. Also, in our opinion, the Company maintained,
in all material respects, effective internal control over financial reporting as of December 31,2007, based on the criteria established in Internal Control — Integrated Framework issued by the
Committee of Sponsoring Organizations of the Treadway Commission.
As discussed in Note 1(r) to the consolidated financial statements, the Company changed its method
of accounting for uncertainty in income taxes in 2007 and pension and other postretirement benefit
plans in 2006.
Earnings before income taxes and equity in earnings of
MidAmerican Energy Holdings Company
20,161
16,778
12,268
Equity in earnings of MidAmerican Energy Holdings Company
—
—
523
Earnings before income taxes and minority interests
20,161
16,778
12,791
Income taxes
6,594
5,505
4,159
Minority shareholders’ interests
354
258
104
Net earnings
$
13,213
$
11,015
$
8,528
Average common shares outstanding *
1,545,751
1,541,807
1,539,775
Net earnings per common share *
$
8,548
$
7,144
$
5,538
*
Average shares outstanding include average Class A common shares and average
Class B common shares determined on an equivalent Class A common stock basis. Net
earnings per common share shown above represents net earnings per equivalent Class A
common share. Net earnings per Class B common share is equal to one-thirtieth (1/30)
of such amount or $285 per share for 2007, $238 per share for 2006 and $185 per
share for 2005.
See accompanying Notes to Consolidated Financial Statements
(a) Nature of operations and basis of consolidation
Berkshire Hathaway Inc. (“Berkshire” or “Company”) is a holding company owning
subsidiaries engaged in a number of diverse business activities, including property
and casualty insurance and reinsurance, utilities and energy, finance,
manufacturing, service and retailing. Further information regarding these
businesses and Berkshire’s reportable business segments is contained in Note 18.
Berkshire consummated a number of business acquisitions over the past three years
which are discussed in Note 2.
The accompanying Consolidated Financial Statements include the accounts of
Berkshire consolidated with the accounts of all of its subsidiaries and affiliates
in which Berkshire holds a controlling financial interest as of the financial
statement date. Normally a controlling financial interest reflects ownership of a
majority of the voting interests. Other factors considered in determining whether a
controlling financial interest is held include whether Berkshire possesses the
authority to purchase or sell assets or make other operating decisions that
significantly affect the entity’s results of operations and whether Berkshire bears
a majority of the financial risks of the entity. Intercompany accounts and
transactions have been eliminated. Certain amounts in prior year presentations have
been reclassified to conform with the current year presentation.
On February 9, 2006, Berkshire converted its investment in non-voting
preferred stock of MidAmerican Energy Holdings Company (“MidAmerican”) into common
stock and upon conversion, possessed approximately 83.4% (80.5% diluted) of the
voting rights and economic interests in MidAmerican. Accordingly, the 2006 and 2007
Consolidated Financial Statements reflect the consolidation of the accounts of
MidAmerican. In 2005, Berkshire accounted for its investment in MidAmerican
pursuant to the equity method, reflecting Berkshire’s ability to exercise
significant influence on the operations of MidAmerican. Through its investment
Berkshire possessed 9.7% of the voting rights and 83.4% (80.5% diluted) of the
economic interests in MidAmerican.
(b) Use of estimates in preparation of financial statements
The preparation of the Consolidated Financial Statements in conformity with
accounting principles generally accepted in the United States of America (“GAAP”)
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the period. In particular, estimates
of unpaid losses and loss adjustment expenses and related recoverables under
reinsurance for property and casualty insurance are subject to considerable
estimation error due to the inherent uncertainty in projecting ultimate claim
amounts that will be settled over many years. In addition, estimates and
assumptions associated with the amortization of deferred charges reinsurance
assumed, determinations of fair value of certain financial assets and liabilities
and the determinations of goodwill impairments require considerable judgment by
management. Actual results may differ from the estimates used in preparing the
Consolidated Financial Statements.
(c) Cash and cash equivalents
Cash equivalents consist of funds invested in U.S. Treasury Bills, money
market accounts and in other investments with a maturity of three months or less
when purchased. Cash and cash equivalents exclude amounts where availability is
restricted by loan agreements or other contractual provisions. Restricted amounts
are included in other assets.
(d) Investments
Berkshire’s management determines the appropriate classifications of investments in fixed
maturity and equity securities at the acquisition date and re-evaluates the
classifications at each balance sheet date. Held-to-maturity investments are
carried at amortized cost, reflecting the ability and intent to hold the securities
to maturity. Trading investments are carried at fair value and include securities
acquired with the intent to sell in the near term. All other
securities are classified as available-for-sale and are carried at fair value with
net unrealized gains or losses reported as a component of accumulated other
comprehensive income. Berkshire’s investments in fixed maturity and equity
securities are predominantly classified as available-for-sale.
Investment gains and losses arise when investments are sold (as determined on a specific
identification basis) or are other-than-temporarily impaired. If in management’s
judgment a decline in the value of an investment below cost is other than temporary,
the cost of the investment is written down to fair value with a corresponding charge
to earnings. Factors considered in judging whether an impairment is other than
temporary include: the financial condition, business prospects and creditworthiness
of the issuer, the length of time that fair value has been less than cost, the
relative amount of the decline and Berkshire’s ability and intent to hold the
investment until the fair value recovers.
Notes to Consolidated Financial Statements (Continued)
(1) Significant accounting policies and practices (Continued)
(d) Investments (Continued)
Berkshire utilizes the equity method of accounting with respect to investments where it
exercises significant influence, but not control, over the operating and financial
policies of the investee. A voting interest of more than 20% and less than 50% is
normally a prerequisite for utilizing the equity method. However, Berkshire may
apply the equity method with less than 20% voting interests based upon the facts and
circumstances. Berkshire applies the equity method to investments in common stock
and other investments when such other investments possess substantially identical
subordinated interests to common stock.
In applying the equity method, investments are recorded at cost and
subsequently increased or decreased by Berkshire’s proportionate share of the net
earnings or losses and other comprehensive income of the investee. Dividends or
other equity distributions are recorded as reductions in the carrying value of the
investment. In the event that net losses of the investee have reduced the equity
method investment to zero, additional net losses may be recorded if other
investments in the investee are at-risk, even if Berkshire has not committed to
provide financial support to the investee. Berkshire bases such additional equity
method loss amounts, if any, on the change in its claim on the investee’s book
value.
(e) Loans and finance receivables
Loans and finance receivables consist of commercial and consumer loans
originated or purchased. Loans and finance receivables are stated at amortized cost
less allowances for uncollectible accounts based on Berkshire’s ability and intent
to hold such loans and receivables to maturity. Amortized cost represents
acquisition cost, plus or minus origination and commitment costs paid or fees
received, which together with acquisition premiums or discounts are deferred and
amortized as yield adjustments over the life of the loan.
Allowances for estimated losses from uncollectible loans are recorded when it is probable
that the counterparty will be unable to pay all amounts due according to the terms
of the loan. Allowances are provided on aggregations of consumer loans with similar
characteristics and terms based upon historical loss and recovery experience,
delinquency rates and current economic conditions. Provisions for loan losses are
included in the Consolidated Statements of Earnings.
(f) Derivatives
Derivative
contracts are carried at estimated fair value and are classified as
assets or liabilities in the accompanying Consolidated Balance Sheets. Such
balances reflect reductions permitted under master netting agreements with
counterparties. The fair values of these instruments generally represent the
present value of estimated future cash flows anticipated under the contracts, which
are affected by applicable interest rates, currency rates, security values,
commodity values, counterparty creditworthiness and duration of the contracts.
Changes in these factors, or a combination thereof, may affect the fair value of these
instruments. The changes in fair value of derivative contracts that do not qualify
as hedging instruments for financial reporting purposes are included in the
Consolidated Statements of Earnings as derivative gains/losses.
Cash collateral received from or paid to counterparties to secure derivative
contract assets or liabilities is included in liabilities or assets of finance and
financial products businesses in the Consolidated Balance Sheets. Securities
received from counterparties as collateral are not recorded as assets and securities
delivered to counterparties as collateral continue to be reflected as assets in the
Consolidated Balance Sheets.
(g) Inventories
Inventories consist of manufactured goods and purchased goods acquired for resale.
Manufactured inventory costs include raw materials, direct and indirect labor and
factory overhead. Inventories are stated at the lower of cost or market. As of
December 31, 2007, approximately 45% of the total inventory cost was determined
using the last-in-first-out (“LIFO”) method, 34% using the first-in-first-out
(“FIFO”) method, with the remainder using the specific identification method and
average cost methods. With respect to inventories carried at LIFO cost, the
aggregate difference in value between LIFO cost and cost determined under FIFO
methods was $331 million and $263 million as of December 31, 2007 and 2006,
respectively.
(h) Property, plant and equipment
Property, plant and equipment additions are recorded at cost. The cost of major
additions and betterments are capitalized, while replacements, maintenance and
repairs that do not improve or extend the useful lives of the related assets are
expensed as incurred. Interest over the construction period is capitalized as a
component of cost of constructed assets. In addition, the cost of constructed
assets of certain domestic regulated utility and energy subsidiaries that are
subject to SFAS No. 71, “Accounting for the Effects of Certain Types of Regulation”
(“SFAS 71”) includes the capitalization of the estimated cost of capital in addition
to interest incurred during the construction period. Also see Note 1(n).
Depreciation is provided principally on the straight-line method over estimated useful
lives. Depreciation of assets of certain regulated utility and energy subsidiaries
is provided over recovery periods based on composite asset class lives as mandated
by regulation.
(1) Significant accounting policies and practices (Continued)
(h) Property, plant and equipment (Continued)
Property, plant and equipment assets are evaluated for impairment when events or changes
in circumstances indicate that the carrying value of such assets may not be
recoverable or the assets meet the criteria of held for sale. Upon the occurrence
of a triggering event, the asset is reviewed to assess whether the estimated
undiscounted cash flows expected from the use of the asset plus residual value from
the ultimate disposal exceeds the carrying value of the asset. If the carrying
value exceeds the estimated recoverable amounts, the asset is written down to the
estimated discounted present value of the expected future cash flows from using the
asset. Impairment losses are reflected in the Consolidated Statements of Earnings,
except with respect to impairments of assets of certain domestic regulated utility
and energy subsidiaries where losses are offset by the establishment of a regulatory
asset to the extent recovery in future rates is probable.
(i) Goodwill
Goodwill represents the difference between purchase cost and the fair value of net assets
acquired in business acquisitions. Goodwill is tested for impairment using a
variety of methods at least annually and impairments, if any, are charged to
earnings. Key assumptions used in the testing include, but are not limited to, the
use of an appropriate discount rate and estimated future cash flows. In estimating
cash flows, the Company considers current market information as well as historical
factors.
(j) Revenue recognition
Insurance premiums for prospective property/casualty insurance and reinsurance and health
reinsurance policies are earned in proportion to the level of protection provided.
In most cases, premiums are recognized as revenues ratably over the term of the
contract with unearned premiums computed on a monthly or daily pro rata basis.
Premiums for retroactive reinsurance property/casualty policies are earned at the
inception of the contracts. Premiums for life reinsurance contracts are earned when
due. Premiums earned are stated net of amounts ceded to reinsurers. Premiums are
estimated with respect to certain reinsurance contracts where reports from ceding
companies for the period are not contractually due until after the balance sheet
date. For contracts containing experience rating provisions, premiums are based
upon estimated loss experience under the contract.
Sales revenues derive from the sales of manufactured products and goods
acquired for resale. Revenues from sales are recognized upon passage of title to
the customer, which generally coincides with customer pickup, product delivery or
acceptance, depending on terms of the sales arrangement.
Service
revenues derive primarily from pilot training, flight operations and flight
management activities. Service revenues are recognized as the services are
performed. Services provided pursuant to a contract are either recognized over the
contract period or upon completion of the elements specified in the contract
depending on the terms of the contract. Revenues related to the sales of fractional
ownership interests in aircraft are recognized ratably over the term of the related
management services agreement as the transfer of ownership interest in the aircraft
is inseparable from the management services agreement.
Interest income from investments in bonds and loans is earned under the constant yield
method and includes accrual of interest due under terms of the bond or loan
agreement as well as amortization of acquisition premiums and accruable discounts.
In determining the constant yield for mortgage-backed securities, anticipated
counterparty prepayments are estimated and evaluated periodically. Dividends from
equity securities are earned on the ex-dividend date.
Operating revenue of utilities and energy businesses resulting from the distribution and
sale of natural gas and electricity to customers is recognized when the service is
rendered or the energy is delivered. Amounts recognized include unbilled as well as
billed amounts. Rates charged are generally subject to Federal and state regulation
or established under contractual arrangements. When preliminary rates are permitted
to be billed prior to final approval by the applicable regulator, certain revenue
collected may be subject to refund and a provision for estimated refunds is accrued.
(k) Losses and loss adjustment expenses
Liabilities for unpaid losses and loss adjustment expenses represent estimated claim and
claim settlement costs of property/casualty insurance and reinsurance contracts with
respect to losses that have occurred as of the balance sheet date. The liabilities
for losses and loss adjustment expenses are recorded at the estimated ultimate
payment amounts, except that amounts arising from certain workers’ compensation
reinsurance business are discounted as discussed below. Estimated ultimate payment
amounts are based upon (1) individual case estimates, (2) reports of losses from
policyholders and (3) estimates of incurred but not reported (“IBNR”) losses.
Provisions for losses and loss adjustment expenses are reported in the accompanying
Consolidated Statements of Earnings after deducting amounts recovered and estimates
of amounts recoverable under reinsurance contracts. Reinsurance contracts do not
relieve the ceding company of its obligations to indemnify policyholders with
respect to the underlying insurance and reinsurance contracts.
The estimated liabilities of workers’ compensation claims assumed under
certain reinsurance contracts are carried in the Consolidated Balance Sheets at
discounted amounts. Discounted amounts are based upon an annual discount rate of
4.5% for claims arising prior to 2003 and 1% for claims arising after 2002,
consistent with discount rates used under statutory accounting principles. The
periodic discount accretion is included in the Consolidated Statements of Earnings
as a component of losses and loss adjustment expenses.
Notes to Consolidated Financial Statements (Continued)
(1) Significant accounting policies and practices (Continued)
(l) Deferred charges reinsurance assumed
The excess of estimated liabilities for claims and claim costs over the
consideration received with respect to retroactive property and casualty reinsurance
contracts that provide for indemnification of insurance risk is established as a
deferred charge at inception of such contracts. The deferred charges are
subsequently amortized using the interest method over the expected claim settlement
periods. Changes to the expected timing and estimated amount of loss payments
produce changes in the periodic amortization charge. Such changes in estimates are
determined retrospectively and are included in insurance losses and loss adjustment
expense in the period of the change. The periodic amortization charges are
reflected in the accompanying Consolidated Statements of Earnings as losses and loss
adjustment expenses.
(m) Insurance premium acquisition costs
Costs that vary with and are related to the issuance of insurance policies are
deferred, subject to ultimate recoverability, and are charged to underwriting expenses as
the related premiums are earned. Acquisition costs consist of commissions, premium
taxes, advertising and other underwriting costs. The recoverability of premium
acquisition costs generally reflects anticipation of investment income. The
unamortized balances of deferred premium acquisition costs are included in other
assets and were $1,519 million and $1,432 million at December 31, 2007 and 2006,
respectively.
(n) Regulated utilities and energy businesses
Certain domestic energy subsidiaries prepare their financial statements in accordance
with SFAS 71, reflecting economic effects deriving from the ability to recover
certain costs from customers and the requirement to return revenues to customers in
the future through the regulated rate-setting process. Accordingly, certain costs
are deferred as regulatory assets and obligations are accrued as regulatory
liabilities which will be amortized over various future periods. At December 31,2007, the Consolidated Balance Sheet includes $1,503 million in regulatory assets
and $1,629 million in regulatory liabilities. At December 31, 2006, the
Consolidated Balance Sheet includes $1,827 million in regulatory assets and $1,839
million in regulatory liabilities. Regulatory assets and liabilities are components
of other assets and other liabilities of utilities and energy businesses.
Management continually assesses whether the regulatory assets are probable of future
recovery by considering factors such as applicable regulatory changes, recent rate
orders received by other regulated entities and the status of any pending or
potential deregulation legislation. If future recovery of costs ceases to be
probable, the amount no longer probable of recovery is charged to earnings.
(p) Foreign currency
The accounts of foreign-based subsidiaries are measured in most instances
using the local currency as the functional currency. Revenues and expenses of these
businesses are generally translated into U.S. dollars at the average exchange rate
for the period. Assets and liabilities are translated at the exchange rate as of
the end of the reporting period. Gains or losses from translating the financial
statements of foreign-based operations are included in shareholders’ equity as a
component of accumulated other comprehensive income. Unrealized gains or losses
associated with available-for-sale securities are included as a component of other
comprehensive income. Gains and losses arising from other transactions denominated
in a foreign currency are included in the Consolidated Statements of Earnings.
(q) Income taxes
Berkshire
and eligible subsidiaries currently file a consolidated Federal
income tax return in
the United States. In addition, Berkshire and subsidiaries also file income tax
returns in state, local and foreign jurisdictions as applicable. Provisions for
current income tax liabilities are calculated and accrued on income and expense
amounts expected to be included in the income tax returns for the current year.
Deferred income taxes are calculated under the liability method. Deferred income tax
assets and liabilities are based on differences between the financial statement and
tax bases of assets and liabilities at the current enacted tax rates. Changes in
deferred income tax assets and liabilities that are associated with components of
other comprehensive income (primarily unrealized investment gains and losses) are
charged or credited directly to other comprehensive income. Otherwise, changes in
deferred income tax assets and liabilities are included as a component of income tax
expense. Changes in deferred income tax assets and liabilities attributable to changes in
enacted tax rates are charged or credited to income tax expense in the period of
enactment. Valuation allowances have been established for certain deferred tax
assets where realization is not likely.
Assets and liabilities are established for uncertain tax positions taken or positions
expected to be taken in income tax returns when such positions are judged to not
meet the “more-likely-than-not” threshold based on the technical merits of the
positions. Estimated interest and penalties related to uncertain tax positions are
included as a component of income tax expense.
(r) Accounting pronouncements adopted in 2007 and 2006
Berkshire adopted FASB Interpretation No. 48 “Accounting for Uncertainty in Income
Taxes-an interpretation of FASB Statement No. 109” (“FIN 48”) as of January 1, 2007.
Under FIN 48, a tax position taken is recognized if it is determined that the
position will “more-likely-than-not” be sustained upon
examination by a taxing authority. FIN 48 also
establishes measurement guidance with respect to positions that have met the
recognition threshold. See Note 13 for additional information.
(1) Significant accounting policies and practices (Continued)
(r) Accounting pronouncements adopted in 2007 and 2006 (Continued)
Berkshire adopted FASB Staff Position No. AUG AIR-1 “Accounting for Planned Major
Maintenance Activities” (“AUG AIR-1”) as of January 1, 2007. AUG AIR-1 prohibits
the use of an accounting method where planned major maintenance costs are ratably
recognized by accruing a liability in periods before the maintenance is performed.
Upon adoption, Berkshire elected to use the direct expense method where maintenance
costs are expensed as incurred. Previously, certain maintenance costs related to
the fractional aircraft ownership business were accrued in advance. As of January1, 2007, a cumulative effect of this accounting change of $52 million was recorded
as an increase in retained earnings. Berkshire’s Consolidated Financial Statements
for prior periods have not been restated because the net impact of retrospectively
adopting AUG AIR-1 was not significant in each of the prior three years and in the
aggregate.
Berkshire adopted FASB Staff Position No. FTB 85-4-1, “Accounting for Life Settlement
Contracts by Third-Party Investors” (“FTB 85-4-1”) as of January 1, 2006. FTB
85-4-1 requires that investors in life settlement contracts account for such
contracts using the investment method or the fair value method. Berkshire elected
to use the investment method whereby the initial transaction price plus all
subsequent direct external costs paid to keep the policy in force are capitalized.
Death benefits received are applied against the capitalized costs and the difference
is recorded in earnings. Previously, life settlement contracts were valued at the
cash surrender value of the underlying insurance policy. Upon adoption, the
cumulative effect of this accounting change of $180 million was recorded as an
increase in retained earnings.
Berkshire adopted the recognition provisions of SFAS No. 158, “Employers’ Accounting for
Defined Benefit Pension and Other Postretirement Plans – an amendment of FASB
Statements No. 87, 88, 106 and 132(R)” (“SFAS 158”) as of December 31, 2006. SFAS
158 requires recognition in the statement of financial position of the over-funded
or under-funded status of a defined benefit postretirement plan and the recognition
in accumulated other comprehensive income of the actuarial gains and losses and
prior service costs and credits that arise during the period that are not recognized
as components of net periodic benefit cost. Upon adoption, Berkshire recognized a
charge to accumulated other comprehensive income of $303 million.
(s) Accounting pronouncements to be adopted in the future
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements”
(“SFAS 157”). SFAS 157 defines fair value as the price received to transfer an
asset or paid to transfer a liability in an orderly transaction between market
participants at the measurement date. SFAS 157 establishes a framework for
measuring fair value by creating a hierarchy for observable independent market
inputs and unobservable market assumptions. SFAS 157 further expands disclosures
about such fair value measurements. SFAS 157 is generally effective for fiscal
years beginning after November 15, 2007. In February 2008, the FASB delayed for one
year the effective date of adoption with respect to certain non-financial assets and
liabilities. Berkshire intends to defer the adoption of SFAS 157 with respect to
certain non-financial assets and liabilities as permitted.
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities — Including an amendment of FASB
Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to elect to measure
financial instruments and certain other items at fair value. Upon adoption of SFAS
159, an entity may elect the fair value option for eligible items that exist at the
adoption date. Subsequent to the initial adoption, the election of the fair value
option can only be made at initial recognition of the asset or liability or upon a
re-measurement event that gives rise to new-basis accounting. SFAS 159 is effective
for fiscal years beginning after November 15, 2007.
In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business
Combinations” (“SFAS 141R”). SFAS 141R changes the accounting model for business
combinations from a cost allocation standard to a standard that provides, with
limited exception, for the recognition of all identifiable assets and liabilities of
the business acquired at fair value, regardless of whether the acquirer acquires
100% or a lesser controlling interest of the business. SFAS 141R defines the
acquisition date of a business acquisition as the date on which control is achieved
(generally the closing date of the acquisition). SFAS 141R requires recognition of
assets and liabilities arising from contractual contingencies and non-contractual
contingencies meeting a “more-likely-than-not” threshold at fair value at the
acquisition date. SFAS 141R also provides for the recognition of acquisition costs
as expenses when incurred and for expanded disclosures. SFAS 141R is effective for
business acquisitions with acquisition dates on or after January 1, 2009. Early
adoption is prohibited.
In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements an amendment of ARB No. 51” (“SFAS 160”). SFAS
160 establishes accounting and reporting standards for non-controlling interests in
subsidiaries and for the deconsolidation of a subsidiary and also amends certain
consolidation procedures for consistency with SFAS 141R. Under SFAS 160,
non-controlling interests in consolidated subsidiaries (formerly known as “minority
interests”) are reported in the consolidated statement of financial position as a
separate component within shareholders’ equity. Net earnings and comprehensive
income attributable to the controlling and non-controlling interests are to be shown
separately in the consolidated statements of earnings and comprehensive income. Any
changes in ownership interests of a non-controlling interest where the parent
retains a controlling financial interest in the subsidiary are to be reported as
equity transactions. SFAS 160 is effective for fiscal years beginning on or after
December 15, 2008 with earlier adoption prohibited. When adopted, SFAS 160 is to be
applied prospectively at the beginning of the year, except that the presentation and
disclosure requirements are to be applied retrospectively for all periods presented.
Notes to Consolidated Financial Statements (Continued)
(1) Significant accounting policies and practices (Continued)
(s) Accounting pronouncements to be adopted in the future (Continued)
Berkshire is continuing to evaluate the impact that these standards will have on its
consolidated financial statements but currently does not anticipate
that the adoption of
these accounting pronouncements will have a material effect on its consolidated
financial position.
(2) Significant business acquisitions
Berkshire’s long-held acquisition strategy is to purchase businesses with consistent earning
power, good returns on equity and able and honest management at sensible prices. During the last
three years, Berkshire acquired several businesses which are described in the following paragraphs.
On June 30, 2005, Berkshire acquired Medical Protective Corporation (“MedPro”) from GE
Insurance Solutions. MedPro is one of the nation’s premier professional liability insurers for
physicians, dentists and other primary health care providers. On August 31, 2005, Berkshire
acquired Forest River, Inc., (“Forest River”) a leading manufacturer of leisure vehicles in the
U.S. Forest River manufactures a complete line of motorized and towable recreational vehicles,
utility trailers, buses, boats and manufactured houses. Consideration paid for all
business acquisitions completed during 2005, including smaller acquisitions directed by certain
Berkshire subsidiaries, was $2.4 billion.
On February 28, 2006, Berkshire acquired Business Wire, a leading global distributor of
corporate news, multimedia and regulatory filings. On March 21, 2006, PacifiCorp, a regulated
electric utility providing service to customers in six Western states, was acquired for
approximately $5.1 billion in cash. In conjunction with the acquisition of PacifiCorp, Berkshire
acquired additional common stock of MidAmerican for $3.4 billion, which increased its ownership
interest in MidAmerican from approximately 83% to approximately 88%. On May 19, 2006, Berkshire
acquired 85% of Applied Underwriters, an industry leader in integrated workers’
compensation solutions. On July 5, 2006, Berkshire acquired 80% of the Iscar Metalworking Companies
(“IMC”) for cash in a transaction that valued IMC at $5 billion. IMC, headquartered in Israel, is
an industry leader in the metal cutting tools business. IMC provides a comprehensive range of tools
for the full scope of metalworking applications. IMC’s products are manufactured through a global
network of world-class, technologically advanced manufacturing facilities and are sold worldwide.
On August 2, 2006, Berkshire acquired Russell Corporation, a leading branded athletic apparel and
sporting goods company. Consideration paid for all businesses acquired in 2006 was
approximately $10.1 billion.
On March 30, 2007, Berkshire acquired TTI, Inc., a privately held electronic components
distributor headquartered in Fort Worth, Texas. TTI, Inc. is a leading distributor specialist of
passive, interconnect and electromechanical components. Effective April 1, 2007, Berkshire
acquired the intimate apparel business of VF Corporation. During 2007, Berkshire also acquired
several other relatively smaller businesses. Consideration paid for all businesses
acquired in 2007 was approximately $1.6 billion.
The results of operations for each of these businesses are included in Berkshire’s
consolidated results from the effective date of each acquisition. The following table sets forth
certain unaudited pro forma consolidated earnings data for 2006, as if each acquisition occurring
during 2006 and 2007 was consummated on the same terms at the beginning of 2006. Pro forma
consolidated revenues and net earnings for 2007 are not materially different from the amounts
reported. Amounts are in millions, except earnings per share.
2006
Total revenues
$
103,698
Net earnings
11,159
Earnings per equivalent Class A common share
7,238
On December 25, 2007, Berkshire and Marmon Holdings, Inc (“Marmon”) announced that Berkshire
had entered into an agreement to acquire 60% of Marmon, a private company owned by trusts for the
benefit of members of the Pritzker Family of Chicago for $4.5 billion. The agreement also provides
for Berkshire to acquire the remaining 40% through staged acquisitions over a five to six year
period for consideration to be based on the future earnings of Marmon. The acquisition is subject
to customary closing conditions, including regulatory approvals, and is expected to close in the
first quarter of 2008.
Marmon consists of 125 manufacturing and service businesses that operate independently within
diverse business sectors. These sectors are Wire & Cable, serving energy related markets,
residential and non-residential construction and other industries; Transportation Services &
Engineered Products, including railroad tank cars and intermodal tank containers; Highway
Technologies, primarily serving the heavy-duty highway transportation industry; Distribution
Services for specialty pipe and tubing; Flow Products for the plumbing, HVAC/R, construction and
industrial markets; Industrial Products including metal fasteners, safety products and metal
fabrication; Construction Services, providing the leasing and operation of mobile cranes primarily
to the energy, mining and petrochemical markets; Water Treatment equipment for residential,
commercial and industrial applications; and Retail Services, providing store fixtures, food
preparation equipment and related services. Marmon has approximately 20,000 employees and operates
more than 250 manufacturing, distribution and service facilities, primarily in North America,
Europe and China. Consolidated revenues in 2007 were approximately $7 billion.
Loans and receivables of insurance and other businesses are comprised of the following (in
millions).
2007
2006
Insurance premiums receivable
$
4,215
$
4,418
Reinsurance recoverables
3,171
2,961
Trade and other receivables
6,179
5,884
Allowances for uncollectible accounts
(408
)
(382
)
$
13,157
$
12,881
Loans and finance receivables of finance and financial products businesses are comprised of
the following (in millions).
2007
2006
Consumer installment loans and finance receivables
$
11,506
$
10,325
Commercial loans and finance receivables
1,003
1,336
Allowances for uncollectible loans
(150
)
(163
)
$
12,359
$
11,498
Allowances for uncollectible loans primarily relate to consumer installment loans. Provisions
for consumer loan losses were $176 million in 2007 and $210 million in 2006. Loan charge-offs were
$197 million in 2007 and $243 million in 2006. Consumer loan amounts are net of acquisition
discounts of $452 million at December 31, 2007 and $484 million at December 31, 2006.
(4) Investments in fixed maturity securities
Investments in securities with fixed maturities as of December 31, 2007 and 2006 are shown
below (in millions).
Amortized
Unrealized
Unrealized
Fair
2007
Cost
Gains
Losses *
Value
Insurance and other:
U.S. Treasury, U.S. government corporations and agencies
$
3,487
$
59
$
—
$
3,546
States, municipalities and political subdivisions
2,120
107
(3
)
2,224
Foreign governments
9,529
76
(47
)
9,558
Corporate bonds and redeemable preferred stocks
8,400
1,187
(48
)
9,539
Mortgage-backed securities
3,597
62
(11
)
3,648
$
27,133
$
1,491
$
(109
)
$
28,515
Finance and financial products:
Corporate bonds
$
420
$
63
$
—
$
483
Mortgage-backed securities
938
52
—
990
$
1,358
$
115
$
—
$
1,473
Mortgage-backed securities, held-to-maturity
$
1,583
$
176
$
(1
)
$
1,758
Amortized
Unrealized
Unrealized
Fair
2006
Cost
Gains
Losses *
Value
Insurance and other:
U.S. Treasury, U.S. government corporations and agencies
$
4,962
$
12
$
(14
)
$
4,960
States, municipalities and political subdivisions
2,967
71
(15
)
3,023
Foreign governments
8,444
51
(79
)
8,416
Corporate bonds and redeemable preferred stocks
5,468
1,467
(17
)
6,918
Mortgage-backed securities
1,955
35
(7
)
1,983
$
23,796
$
1,636
$
(132
)
$
25,300
Finance and financial products:
Corporate bonds
$
305
$
70
$
—
$
375
Mortgage-backed securities
1,134
32
(4
)
1,162
$
1,439
$
102
$
(4
)
$
1,537
Mortgage-backed securities, held-to-maturity
$
1,475
$
153
$
(1
)
$
1,627
*
Includes gross unrealized losses of $60 million at December 31, 2007 and $69 million at
December 31, 2006 related to securities that have been in an unrealized loss position for 12
months or more.
Notes to Consolidated Financial Statements (Continued)
(4) Investments in fixed maturity securities (Continued)
The amortized cost and estimated fair values of securities with fixed maturities at December31, 2007 are summarized below by contractual maturity dates. Actual maturities will differ from
contractual maturities because issuers of certain of the securities retain early call or prepayment
rights. Amounts are in millions.
Mortgage-backed
Due 2008
Due 2009 – 2012
Due 2013 – 2017
Due after 2017
securities
Total
Amortized cost
$
7,499
$
10,496
$
3,862
$
2,099
$
6,118
$
30,074
Fair value
7,597
10,908
4,003
2,842
6,396
31,746
(5) Investments in equity securities
Investments in equity securities are summarized below. Amounts are in millions.
2007
2006
Cost
$
44,695
$
28,353
Gross unrealized gains
31,289
33,217
Gross unrealized losses *
(985
)
(37
)
Fair value
$
74,999
$
61,533
*
Gross unrealized losses at December 31, 2007 included $566 million related to individual
purchases of securities in which Berkshire had gross unrealized gains of $3.2 billion in the same
securities. Substantially all of the gross unrealized losses pertain to security positions that
have been held for less than 12 months.
(6) Investment gains (losses)
Investment gains (losses) are summarized below (in millions).
2007
2006
2005
Fixed maturity securities —
Gross gains from sales and other disposals
$
657
$
279
$
792
Gross losses from sales and other disposals
(35
)
(9
)
(23
)
Equity securities —
Gross gains from sales and other disposals
4,880
1,562
5,612
Gross losses from sales
(7
)
(44
)
(6
)
Losses from other-than-temporary impairments
—
(142
)
(114
)
Other
103
165
(65
)
$
5,598
$
1,811
$
6,196
Net gains (losses) are reflected in the Consolidated Statements of Earnings as follows.
Insurance and other
$
5,405
$
1,697
$
5,728
Finance and financial products
193
114
468
$
5,598
$
1,811
$
6,196
(7) Goodwill
A reconciliation of the change in the carrying value of goodwill for 2007 and 2006 is as
follows (in millions).
The MidAmerican goodwill represents the consolidation of Berkshire’s investment in MidAmerican
as of January 1, 2006. The increase in goodwill from business acquisitions and other during 2006
primarily relates to the acquisitions of PacifiCorp and IMC.
(8) Inventories
Inventories are comprised of the following (in millions):
Property, plant and equipment of insurance and other businesses is comprised of the following
(in millions):
Ranges of
estimated useful life
2007
2006
Land
—
$
607
$
548
Buildings and improvements
3 – 40 years
3,611
3,203
Machinery and equipment
3 – 25 years
9,507
8,470
Furniture, fixtures and other
3 – 20 years
1,670
1,702
15,395
13,923
Accumulated depreciation
(5,426
)
(4,620
)
$
9,969
$
9,303
Property, plant and equipment of utilities and energy businesses is comprised of the following
(in millions):
Ranges of
estimated useful life
2007
2006
Utility generation, distribution and
transmission system
5-85 years
$
30,369
$
27,687
Interstate pipeline assets
3-67 years
5,484
5,329
Independent power plants and other assets
3-30 years
1,330
1,770
Construction in progress
—
1,745
1,969
38,928
36,755
Accumulated depreciation and amortization
(12,707
)
(12,716
)
$
26,221
$
24,039
The utility generation and distribution system and interstate pipeline assets are the
regulated assets of public utility and natural gas pipeline subsidiaries. At December 31, 2007 and
December 31, 2006, accumulated depreciation and amortization related to regulated assets was $12.3
billion and $11.9 billion, respectively. Substantially all of the construction in progress at
December 31, 2007 and December 31, 2006 related to the construction of regulated assets.
(10) Derivatives
A summary of the fair value and gross notional value of open derivative contracts of finance
and financial products businesses follows. Amounts are in millions.
Included in other assets of finance and financial products businesses.
Berkshire utilizes derivatives in order to manage certain economic business risks as well as
to assume specified amounts of market risk from others. The contracts summarized in the preceding
table, with limited exceptions, are not designated as hedges for financial reporting purposes.
Changes in the fair values of derivative assets and derivative liabilities that do not qualify as
hedges are reported in the Consolidated Statements of Earnings as derivative gains/losses. Master
netting agreements are utilized to manage counterparty credit risk, where gains and losses are
netted across other contracts with that counterparty.
Under certain circumstances, Berkshire is contractually entitled to receive cash or securities
from counterparties as collateral on derivative contract assets. At December 31, 2007, Berkshire
held collateral with a fair value of $328 million to secure derivative contract assets. Under
certain circumstances, including a downgrade of its credit rating below specified levels, Berkshire
may be required to post collateral against derivative liabilities. However, Berkshire is not
required to post collateral with respect to most of its long-dated
credit default and equity index option
contract liabilities. At December 31, 2007, Berkshire had posted no collateral with counterparties
as security on contract liabilities.
Notes to Consolidated Financial Statements (Continued)
(10) Derivatives (Continued)
Berkshire is also exposed to variations in the market prices of natural gas and electricity as
a result of its regulated utility operations and uses derivative instruments, including forward
purchases and sales, futures, swaps and options to manage these commodity price risks. Gains and
losses under these contracts are either probable of recovery through rates and therefore are
recorded as a regulatory net asset or liability or are accounted for as cash flow hedges and
therefore are recorded as accumulated other comprehensive income.
(11) Unpaid losses and loss adjustment expenses
The balances of unpaid losses and loss adjustment expenses are based upon estimates of the
ultimate claim costs associated with property and casualty claim occurrences as of the balance
sheet dates including estimates for incurred but not reported (“IBNR”) claims. Considerable
judgment is required to evaluate claims and establish estimated claim liabilities.
Supplemental data with respect to unpaid losses and loss adjustment expenses of
property/casualty insurance subsidiaries is as follows (in millions).
2007
2006
2005
Unpaid losses and loss adjustment expenses:
Gross liabilities at beginning of year
$
47,612
$
48,034
$
45,219
Ceded losses and deferred charges at beginning of year
(4,833
)
(5,200
)
(5,132
)
Net balance at beginning of year
42,779
42,834
40,087
Incurred losses recorded during the year:
Current accident year
22,488
13,680
15,839
Prior accident years
(1,478
)
(612
)
(357
)
Total incurred losses
21,010
13,068
15,482
Payments during the year with respect to:
Current accident year
(6,594
)
(5,510
)
(5,514
)
Prior accident years
(8,865
)
(9,345
)
(7,793
)
Total payments
(15,459
)
(14,855
)
(13,307
)
Unpaid losses and loss adjustment expenses:
Net balance at end of year
48,330
41,047
42,262
Ceded losses and deferred charges at end of year
7,126
4,833
5,200
Foreign currency translation adjustment
534
608
(728
)
Acquisitions
12
1,124
1,300
Gross liabilities at end of year
$
56,002
$
47,612
$
48,034
Incurred losses “prior accident years” reflects the amount of estimation error charged or
credited to earnings in each calendar year with respect to the liabilities established as of the
beginning of that year. The beginning of the year net losses and loss
adjustment expenses liability
was reduced by $1,793 million in 2007, $1,071 million in 2006 and $743 million in 2005. In each
year, the reductions in loss estimates for occurrences in prior years were primarily due to lower
than expected frequencies and severities on reported and settled claims in the primary private
passenger and commercial auto lines and lower than expected
reinsurance losses in various property and casualty lines. Developed
frequencies were generally more favorable than originally expected, particularly for liability
coverages, and claim severity increases were generally less than originally estimated. In 2006,
prior years’ loss estimates were reduced for certain casualty reinsurance claims as a result of
lower than expected losses reported during the year. Accident year loss estimates are regularly
adjusted to consider emerging loss development patterns of prior years losses, whether favorable or
unfavorable.
Prior accident years incurred losses also include amortization of deferred charges related to
retroactive reinsurance contracts incepting prior to the beginning of the year. Amortization
charges included in prior accident years’ losses were $213 million in 2007, $358 million in 2006
and $294 million in 2005. Certain workers’ compensation loss reserves are discounted. Net
discounted liabilities at December 31, 2007 and 2006 were $2,436 million and $2,705 million,
respectively, reflecting net discounts of $2,732 million and $2,793 million, respectively. Periodic
accretions of these discounts are also a component of incurred prior
accident years losses. The accretion
of discounted liabilities related to prior years’ losses was approximately $102 million in 2007,
$101 million in 2006 and $92 million in 2005.
Berkshire’s insurance subsidiaries are exposed to environmental, asbestos and other latent
injury claims arising from insurance and reinsurance contracts. Loss reserve estimates for
environmental and asbestos exposures include case basis reserves and also reflect reserves for
legal and other loss adjustment expenses and IBNR reserves. IBNR reserves are determined based
upon Berkshire’s historic general liability exposure base and policy language, previous
environmental loss experience and the assessment of current trends of environmental law,
environmental cleanup costs, asbestos liability law and judgmental settlements of asbestos
liabilities.
The liabilities for environmental, asbestos and latent injury claims and claims expenses net
of reinsurance recoverables were approximately $11.2 billion at December 31, 2007 and $5.1 billion
at December 31, 2006. These liabilities included approximately $9.7 billion at December 31, 2007
and $3.8 billion at December 31, 2006, of liabilities assumed under retroactive reinsurance
contracts. The increase during 2007 is primarily as a result of the Equitas agreement (see
following paragraphs). Liabilities arising from retroactive contracts with exposure to claims of
this nature are generally subject to aggregate policy limits. Thus, Berkshire’s
(11) Unpaid losses and loss adjustment expenses (Continued)
exposure to environmental and latent injury claims under these contracts is, likewise, limited.
Berkshire monitors evolving case law and its effect on environmental and latent injury claims.
Changing government regulations, newly identified toxins, newly reported claims, new theories of
liability, new contract interpretations and other factors could result in significant increases in
these liabilities. Such development could be material to Berkshire’s results of operations. It is
not possible to reliably estimate the amount of additional net loss or the range of net loss that
is reasonably possible.
In November 2006, the Berkshire Hathaway Reinsurance Group’s lead insurance entity, National
Indemnity Company (“NICO”) and Equitas, a London based entity established to reinsure and manage
the 1992 and prior years’ non-life insurance and reinsurance liabilities of the Names or
Underwriters at Lloyd’s of London, entered into an agreement for NICO to initially provide up to
$5.7 billion and potentially provide up to an additional $1.3 billion of reinsurance to Equitas in
excess of its undiscounted loss and allocated loss adjustment expense reserves as of March 31,2006. The transaction became effective on March 30, 2007. The agreement requires that NICO pay
all claims and related costs that arise from the underlying insurance and reinsurance contracts of
Equitas, subject to the aforementioned excess limit of indemnification. On the effective date, the
aggregate limit of indemnification, which does not include unallocated loss adjustment expenses,
was $13.8 billion. A significant amount of loss exposure associated with Equitas is related to
asbestos, environmental and latent injury claims.
NICO received substantially all of Equitas’ assets as consideration under the arrangement.
The fair value of such consideration was $7.1 billion and included approximately $540 million in
cash and miscellaneous receivables plus a combination of fixed maturity and equity securities which
were delivered in April 2007. The cash and miscellaneous receivables received are included in the
accompanying Consolidated Statement of Cash Flows for 2007 as components of operating
cash flows. The investment securities received are reported as a non-cash investing activity.
The Equitas agreement was accounted for as reinsurance in accordance with SFAS No. 113
“Accounting for short duration and long duration reinsurance contracts.” Accordingly, premiums
earned of $7.1 billion and losses incurred of $7.1 billion are reflected in the Consolidated
Statement of Earnings. Losses incurred consisted of an estimated liability for unpaid losses and
loss adjustment expenses of $9.3 billion less an asset for unamortized deferred charges reinsurance
assumed of $2.2 billion. The deferred charge asset is being amortized over the expected remaining
loss settlement period using the interest method and the periodic amortization is being charged to
earnings as a component of losses and loss adjustment expenses incurred.
(12) Notes payable and other borrowings
Notes payable and other borrowings of Berkshire and its subsidiaries are summarized below.
Amounts are in millions.
Insurance and other:
2007
2006
Issued by Berkshire due 2025-2033
$
250
$
894
Issued by subsidiaries and guaranteed by Berkshire:
Commercial paper and other short-term borrowings
1,192
1,355
Other debt due 2009-2035
240
240
Issued by subsidiaries and not guaranteed by Berkshire due 2008-2041
998
1,209
$
2,680
$
3,698
Notes payable and other borrowings issued by Berkshire includes several individual investment
agreement borrowings under which Berkshire is required to periodically pay interest over the
contract terms. Under certain conditions, principal amounts may be redeemed without premium prior
to the contractual maturity date at the option of the counterparties. Commercial paper and other
short-term borrowings are utilized by certain subsidiaries as part of normal business operations.
Weighted average interest rates as of December 31, 2007 and 2006 were 4.6% and 5.4%, respectively.
Utilities and energy:
2007
2006
Issued by MidAmerican and its subsidiaries and not guaranteed by Berkshire:
MidAmerican senior unsecured debt due 2008-2037
$
5,471
$
4,479
Subsidiary and project debt due 2008-2037
13,227
12,014
Other
304
453
$
19,002
$
16,946
Subsidiary and project debt of utilities and energy businesses represents amounts issued by
subsidiaries of MidAmerican pursuant to separate project financing agreements. All or
substantially all of the assets of certain utility subsidiaries are or may be pledged or encumbered
to support or otherwise provide security. These borrowing arrangements generally contain various
covenants including, but not limited to, leverage ratios, interest coverage ratios and debt service
coverage ratios. As of December 31, 2007, MidAmerican and its subsidiaries were in compliance with
all applicable covenants. During 2007, MidAmerican issued $3.55 billion par amount of bonds and
senior notes with maturities ranging from 2012 to 2037. The proceeds were used to repay existing
debt or otherwise are intended to be used to repay debt maturing subsequent to December 31, 2007,
to finance planned capital expenditures or for general corporate purposes. Berkshire has made a
commitment until February 28, 2011 that allows MidAmerican to request up to $3.5 billion of capital
to pay its debt obligations or to provide funding to its regulated subsidiaries.
Notes to Consolidated Financial Statements (Continued)
(12) Notes payable and other borrowings (Continued)
Finance and financial products:
2007
2006
Issued by Berkshire Hathaway Finance Corporation (“BHFC”) and guaranteed by Berkshire:
Notes due 2007
$
—
$
700
Notes due 2008
3,100
3,098
Notes due 2010
1,996
1,994
Notes due 2012-2015
3,790
3,039
Issued by other subsidiaries and guaranteed by Berkshire due 2008-2027
804
398
Issued by other subsidiaries and not guaranteed by Berkshire due 2008-2030
2,454
2,732
$
12,144
$
11,961
BHFC, a wholly-owned subsidiary of Berkshire, issued senior notes at various times in recent
years. In the third quarter of 2007, BHFC issued $750 million
par amount of senior notes due in 2012. BHFC
issued $2 billion par amount of senior notes in January 2008, including $1.5 billion par amount of
notes due in 2011 and $500 million par amount of notes due in 2013 and repaid maturing notes of
$1.25 billion par amount. Borrowings by BHFC are used to provide financing for installment loans
issued or acquired by subsidiaries of Clayton Homes. At December 31, 2007, debt issued by other
finance subsidiaries and not guaranteed by Berkshire includes approximately $1.4 billion whereby
all principal and interest collected under certain manufactured housing loan portfolios, together
with any repurchased principal on such loans will be used to pay the principal and interest on
these borrowings. During 2007, XTRA Finance Corporation, a wholly owned subsidiary, issued $400
million par amount of senior notes due 2017, which is included in other subsidiary borrowings
guaranteed by Berkshire.
Berkshire subsidiaries in the aggregate have approximately $4.8 billion of available unused
lines of credit and commercial paper capacity to support their short-term borrowing programs and
provide additional liquidity. Generally, Berkshire’s guarantee of a subsidiary’s debt obligation
is an absolute, unconditional and irrevocable guarantee for the full and prompt payment when due of
all present and future payment obligations of the issuer.
Principal payments expected during the next five years are as follows (in millions).
2008
2009
2010
2011
2012
Insurance and other
$
1,268
$
298
$
55
$
12
$
21
Utilities and energy
2,096
422
140
1,138
1,461
Finance and financial products
3,938
198
2,165
139
1,632
$
7,302
$
918
$
2,360
$
1,289
$
3,114
(13) Income taxes
The liability for income taxes as of December 31, 2007 and 2006 as reflected in the
accompanying Consolidated Balance Sheets is as follows (in millions).
2007
2006
Payable currently
$
(182
)
$
189
Deferred
18,156
18,271
Other
851
710
$
18,825
$
19,170
The tax effects of temporary differences that give rise to significant portions of deferred
tax assets and deferred tax liabilities at December 31, 2007 and 2006 are shown below (in
millions).
2007
2006
Deferred tax liabilities:
Investments – unrealized appreciation and cost basis differences
Deferred income taxes have not been established with respect to undistributed earnings of
certain foreign subsidiaries. Earnings expected to remain reinvested indefinitely were
approximately $3,028 million as of December 31, 2007. Upon distribution as dividends or otherwise,
such amounts would be subject to taxation in the United States as well as foreign countries.
However, U.S. income tax liabilities could be offset, in whole or in part, by tax credits allowable
from taxes paid to foreign jurisdictions. Determination of the potential net tax due is
impracticable due to the complexities of hypothetical calculations involving uncertain timing and
amounts of taxable income and the effects of multiple taxing jurisdictions.
The Consolidated Statements of Earnings reflect charges for income taxes as shown below (in
millions).
2007
2006
2005
Federal
$
5,740
$
4,752
$
3,736
State
234
153
129
Foreign
620
600
294
$
6,594
$
5,505
$
4,159
Current
$
5,708
$
5,030
$
2,057
Deferred
886
475
2,102
$
6,594
$
5,505
$
4,159
Charges for income taxes are reconciled to hypothetical amounts computed at the U.S. Federal
statutory rate in the table shown below (in millions).
2007
2006
2005
Earnings before income taxes
$
20,161
$
16,778
$
12,791
Hypothetical amounts applicable to above
computed at the Federal statutory rate
$
7,056
$
5,872
$
4,477
Tax effects resulting from:
Tax-exempt interest income
(33
)
(44
)
(65
)
Dividends received deduction
(306
)
(224
)
(133
)
Net earnings of MidAmerican
—
—
(183
)
State income taxes, less Federal income tax benefit
152
99
84
Foreign tax rate differences
(36
)
(45
)
56
Effect of income tax rate changes on deferred income taxes *
(90
)
—
—
Other differences, net
(149
)
(153
)
(77
)
Total income taxes
$
6,594
$
5,505
$
4,159
*
Relates to adjustments made to deferred income tax assets and liabilities upon the enactment of
reductions to corporate income tax rates in the United Kingdom and Germany.
Berkshire and its subsidiaries’ U.S. Federal income tax returns are continuously under audit.
Berkshire’s U.S. Federal income tax return liabilities have been settled with the Internal Revenue
Service (“IRS”) through 1998. The IRS has completed its audits of 1999 through 2004 and has
proposed adjustments to increase consolidated tax liabilities in 1999 through 2004 tax periods
which remain unsettled. These proposed adjustments are predominantly related to timing of
deductions of insurance subsidiaries and the examinations are currently in the IRS’ appeals
process.
Income tax returns of Berkshire subsidiaries are also under examination in numerous state,
local and foreign jurisdictions. While it is reasonably possible that certain of the income tax
examinations will be settled within the next twelve months, management believes the impact will be
immaterial to the Consolidated Financial Statements.
Berkshire adopted FIN 48 effective January 1, 2007 and had $857 million of net unrecognized
tax benefits. The cumulative net effect of adopting FIN 48 was a reduction to retained
earnings of $24 million. At December 31, 2007, net unrecognized tax benefits were $851 million
which included $635 million that if recognized would have an impact on the effective tax rate. The
remaining unrecognized benefits relate to positions for which ultimate recognition is highly
certain but the timing of recognition is uncertain and for tax benefits related to acquired
businesses that if recognized would not be reflected in income tax expense.
Payments of dividends by insurance subsidiaries are restricted by insurance statutes and
regulations. Without prior regulatory approval, insurance subsidiaries may declare up to
approximately $6.6 billion as ordinary dividends before the end of 2008.
Combined shareholders’ equity of U.S. based property/casualty insurance subsidiaries
determined pursuant to statutory accounting rules (Statutory Surplus as Regards Policyholders) was
approximately $62 billion at December 31, 2007 and $59 billion at December 31, 2006.
Statutory surplus differs from the corresponding amount determined on the basis of GAAP. The
major differences between statutory basis accounting and GAAP are that deferred charges reinsurance
assumed, deferred policy acquisition costs, unrealized gains and losses on investments in fixed
maturity securities and related deferred income taxes are recognized under GAAP but not for
statutory reporting purposes. In addition, statutory accounting for goodwill of acquired
businesses requires amortization of goodwill over 10 years,
whereas under GAAP, goodwill is not amortized and is subject
to periodic tests for impairment.
(15) Fair values of financial instruments
The estimated fair values of Berkshire’s financial instruments as of December 31, 2007 and
2006 are as follows (in millions).
Included in Accounts payable, accruals and other liabilities
In determining fair value of financial instruments, Berkshire used quoted market prices when
available. For instruments where quoted market prices were not available, independent pricing
services or appraisals by Berkshire’s management were used. The pricing services and appraisals
reflect the estimated present values of future expected cash flows utilizing current risk adjusted
market rates of similar instruments. The carrying values of cash and cash equivalents, accounts
receivable and accounts payable, accruals and other liabilities are deemed to be reasonable
estimates of their fair values.
Considerable judgment is required in interpreting market data used to develop the estimates of
fair value. Accordingly, the estimates presented herein are not necessarily indicative of the
amounts that could be realized in a current market exchange. The use of different market
assumptions and/or estimation methodologies may have a material effect on the estimated fair value.
(16) Common stock
Changes in issued and outstanding Berkshire common stock during the three years ended December31, 2007 are shown in the table below.
Each share of Class B common stock has dividend and distribution rights equal to one-thirtieth
(1/30) of such rights of a Class A share. Accordingly, on an equivalent Class A common stock basis
there are 1,547,693 shares outstanding as of December 31, 2007 and 1,542,649 shares as of December31, 2006.
Each share of Class A common stock is convertible, at the option of the holder, into thirty
shares of Class B common stock. Class B common stock is not convertible into Class A common stock.
On July 6, 2006, Berkshire’s Chairman and CEO, Warren E. Buffett converted 124,998 shares of Class
A common stock into 3,749,940 shares of Class B common stock. Each share of Class B common stock
possesses voting rights equivalent to one-two-hundredth (1/200) of the voting rights of a share of
Class A common stock. Class A and Class B common shares vote together as a single class.
During 2007, holders of SQUARZ securities exercised the warrant component of the securities
and received Class A and Class B shares. In connection with these exercises, Berkshire received
$333 million.
(17) Pension plans
Several Berkshire subsidiaries individually sponsor defined benefit pension plans covering
certain employees. Benefits under the plans are generally based on years of service and
compensation, although benefits under certain plans are based on years of service and fixed benefit
rates. The companies generally make contributions to the plans to meet regulatory requirements
plus additional amounts as determined by management based on actuarial valuations.
The components of net periodic pension expense for each of the three years ending December 31,2007 are as follows (in millions).
2007
2006
2005
Service cost
$
202
$
199
$
113
Interest cost
439
390
190
Expected return on plan assets
(444
)
(393
)
(186
)
Net gain/loss amortization, other
65
67
9
Net pension expense
$
262
$
263
$
126
The accumulated benefit obligation is the actuarial present value of benefits earned based on
service and compensation prior to the valuation date. As of December 31, 2007 and 2006, the
accumulated benefit obligation was $6,990 million and $7,056 million, respectively. The projected
benefit obligation is the actuarial present value of benefits earned based upon service and
compensation prior to the valuation date and includes assumptions regarding future compensation
levels when benefits are based on those amounts. Information regarding the projected benefit
obligations is shown in the table that follows (in millions).
2007
2006
Projected benefit obligation, beginning of year
$
7,926
$
3,602
Service cost
202
199
Interest cost
439
390
Benefits paid
(476
)
(370
)
Consolidation of MidAmerican
—
2,237
Business acquisitions
—
1,519
Actuarial (gain) or loss and other
(408
)
349
Projected benefit obligation, end of year
$
7,683
$
7,926
Benefit obligations under qualified U.S. defined benefit plans are funded through assets held
in trusts and are not included as assets in Berkshire’s Consolidated Financial Statements. Pension
obligations under certain non-U.S. plans and non-qualified U.S. plans are unfunded. As of December31, 2007, projected benefit obligations of non-qualified U.S. plans and non-U.S. plans which are
not funded through assets held in trusts were $637 million. A reconciliation of the changes in
plan assets and a summary of plan assets held as of December 31, 2007 and 2006 is presented in the
table that follows (in millions).
2007
2006
Plan assets at fair value, beginning of year
$
6,792
$
3,101
Employer contributions
262
228
Benefits paid
(476
)
(370
)
Actual return on plan assets
447
612
Consolidation of MidAmerican
—
2,238
Business acquisitions
—
967
Other and expenses
38
16
Plan assets at fair value, end of year
$
7,063
$
6,792
Cash and equivalents
$
427
$
818
U.S. Government obligations
186
554
Mortgage-backed securities
390
602
Corporate obligations
1,005
963
Equity securities
4,169
3,440
Other
886
415
$
7,063
$
6,792
Pension plan assets are generally invested with the long-term objective of earning sufficient
amounts to cover expected benefit obligations, while assuming a prudent level of risk. There are no
target investment allocation percentages with respect to individual or categories of investments.
Allocations may change as a result of changing market conditions and investment opportunities. The
expected rates of return on plan assets reflect Berkshire’s subjective assessment of expected
invested asset returns over a period of several years. Berkshire generally does not give
significant consideration to past investment returns when establishing assumptions for expected
long-term rates of returns on plan assets. Actual experience will differ from the assumed rates.
Notes to Consolidated Financial Statements (Continued)
(17) Pension plans (Continued)
The defined benefit plans expect to pay benefits to participants over the next ten years,
reflecting expected future service as appropriate, as follows (in millions): 2008 — $418; 2009 —
$415; 2010 — $419; 2011 — $435; 2012 — $459; and 2013 to 2017 — $2,594. Sponsoring subsidiaries
expect to contribute $265 million to defined benefit pension plans in 2008.
As of December 31, 2007 and 2006, the net funded status of the plans is summarized in the
table that follows (in millions).
2007
2006
Amounts recognized in the Consolidated Balance Sheets:
Other liabilities
$
981
$
1,398
Other assets
(361
)
(264
)
Amounts recognized
$
620
$
1,134
A
reconciliation of amounts not yet recognized as components of net
periodic benefit costs for the years ending December 31, 2007 and
2006 follows (in millions).
Net amount included in accumulated other comprehensive income, beginning of year
$
(303
)
$
(392
)
Amount included in net periodic pension expense
25
45
Gains and losses current period
114
322
Adoption of SFAS 158
—
(278
)
Net amount included in accumulated other comprehensive income, end of year
$
(164
)
$
(303
)
Amount
included in accumulated other comprehensive income as of December 31,2007 and expected to be
included in net periodic pension expense next year (in millions).
$
22
Weighted average interest rate assumptions used in determining projected benefit obligations
were as follows. These rates are substantially the same as the weighted average rates used in
determining the net periodic pension expense.
2007
2006
Discount rate
6.1
5.7
Expected long-term rate of return on plan assets
6.9
6.9
Rate of compensation increase
4.4
4.4
Several Berkshire subsidiaries also sponsor defined contribution retirement plans, such as
401(k) or profit sharing plans. Employee contributions to the plans are subject to regulatory
limitations and the specific plan provisions. Several of the plans require that the subsidiary
match these contributions up to levels specified in the plans and provide for additional
discretionary contributions as determined by management. The total expenses related to employer
contributions for these plans were $506 million, $498 million and $395 million for the years ended
December 31, 2007, 2006 and 2005, respectively.
(18) Business segment data
Berkshire’s reportable business segments are organized in a manner that reflects how
management views those business activities. Certain businesses have been grouped together for
segment reporting based upon similar products or product lines, marketing, selling and distribution
characteristics, even though those business units are operated under separate local management.
The tabular information that follows shows data of reportable segments reconciled to amounts
reflected in the Consolidated Financial Statements. Intersegment transactions are not eliminated
in instances where management considers those transactions in assessing the results of the
respective segments. Furthermore, Berkshire management does not consider investment and derivative
gains/losses or amortization of purchase accounting adjustments in assessing the performance of
reporting units. Collectively, these items are included in reconciliations of segment amounts to
consolidated amounts.
Business Identity
Business Activity
GEICO
Underwriting private passenger automobile insurance
mainly by direct response methods
General Re
Underwriting excess-of-loss, quota-share and
facultative reinsurance worldwide
Berkshire Hathaway Reinsurance Group
Underwriting excess-of-loss and quota-share
reinsurance for property and casualty insurers and
reinsurers
Berkshire Hathaway Primary Group
Underwriting multiple lines of property and casualty
insurance policies for primarily commercial accounts
BH Finance, Clayton Homes, XTRA,
CORT and other financial services
(“Finance and financial products”)
Proprietary investing, manufactured housing and
related consumer financing, transportation equipment
leasing, furniture leasing, life annuities and risk
management products
McLane Company
Wholesale distribution of groceries and non-food items
MidAmerican
Regulated electric and gas utility, including power
generation and distribution activities in the U.S.
and internationally; domestic real estate brokerage
Shaw Industries
Manufacturing and distribution of carpet and floor
coverings under a variety of brand names
Other businesses not specifically identified with reportable business segments consist of a
large, diverse group of manufacturing, service and retailing businesses.
Manufacturing
Acme Building Brands, Benjamin Moore, H.H. Brown Shoe Group,
CTB, Fechheimer Brothers, Forest River, Fruit of the Loom,
Garan, IMC, Johns Manville, Justin Brands, Larson-Juhl,
MiTek, Richline, Russell and Scott Fetzer
Service
Buffalo News, Business Wire, FlightSafety, International
Dairy Queen, Pampered Chef, NetJets and TTI
Retailing
Ben Bridge Jeweler, Borsheims, Helzberg Diamond Shops,
Jordan’s Furniture, Nebraska Furniture Mart, See’s, Star
Furniture and R.C. Willey
A disaggregation of Berkshire’s consolidated data for each of the three most recent years is
presented in the tables which follow on this and the following page. Amounts are in millions.
Earnings (loss) before taxes
Revenues
and minority interests
2007
2006
2005
2007
2006
2005
Operating Businesses:
Insurance group:
Premiums earned:
GEICO
$
11,806
$
11,055
$
10,101
$
1,113
$
1,314
$
1,221
General Re
6,076
6,075
6,435
555
526
(334
)
Berkshire Hathaway Reinsurance Group
11,902
4,976
3,963
1,427
1,658
(1,069
)
Berkshire Hathaway Primary Group
1,999
1,858
1,498
279
340
235
Investment income
4,791
4,347
3,501
4,758
4,316
3,480
Total insurance group
36,574
28,311
25,498
8,132
8,154
3,533
Finance and financial products
5,119
5,124
4,559
1,006
1,157
822
McLane Company
28,079
25,693
24,074
232
229
217
MidAmerican
12,628
10,644
—
1,774
1,476
—
Shaw Industries
5,373
5,834
5,723
436
594
485
Other businesses
25,648
21,133
17,099
3,279
2,703
1,921
113,421
96,739
76,953
14,859
14,313
6,978
Reconciliation of segments to consolidated
amount:
Investment and derivative gains/losses
5,509
2,635
5,494
5,509
2,635
5,494
Equity in earnings of MidAmerican
—
—
—
—
—
523
Interest expense, not allocated to segments
—
—
—
(52
)
(76
)
(72
)
Eliminations and other
(685
)
(835
)
(784
)
(155
)
(94
)
(132
)
$
118,245
$
98,539
$
81,663
$
20,161
$
16,778
$
12,791
Depreciation
Capital expenditures *
of tangible assets
2007
2006
2005
2007
2006
2005
Operating Businesses:
Insurance group
$
52
$
65
$
60
$
69
$
64
$
62
Finance and financial products
322
334
354
226
230
221
McLane Company
175
193
125
100
94
96
MidAmerican
3,513
2,423
—
1,157
949
—
Shaw Industries
144
189
209
144
134
113
Other businesses
1,167
1,367
1,447
711
595
490
$
5,373
$
4,571
$
2,195
$
2,407
$
2,066
$
982
*
Excludes capital expenditures which were part of business acquisitions.
Notes to Consolidated Financial Statements (Continued)
(18) Business segment data (Continued)
Goodwill
Identifiable assets
at year-end
at year-end
2007
2006
2007
2006
Operating Businesses:
Insurance group:
GEICO
$
1,372
$
1,370
$
18,988
$
18,544
General Re
13,532
13,532
32,571
31,114
Berkshire Hathaway Reinsurance and Primary Groups
546
465
95,379
85,972
Total insurance group
15,450
15,367
146,938
135,630
Finance and financial products
1,013
1,012
24,733
23,599
McLane Company
149
158
3,329
2,986
MidAmerican
5,543
5,548
33,645
30,942
Shaw Industries
2,339
2,228
2,922
2,776
Other businesses
8,368
7,925
20,579
17,571
$
32,862
$
32,238
232,146
213,504
Reconciliation of segments to consolidated amount:
Corporate and other
8,152
2,695
Goodwill
32,862
32,238
$
273,160
$
248,437
Insurance premiums written by geographic region (based upon the domicile of the insured or
reinsured) are summarized below. Dollars are in millions.
Property/Casualty
Life/Health
2007
2006
2005
2007
2006
2005
United States
$
18,589
$
19,195
$
16,228
$
1,092
$
1,073
$
1,147
Western Europe
9,641
2,576
2,643
706
628
578
All other
588
638
760
681
667
578
$
28,818
$
22,409
$
19,631
$
2,479
$
2,368
$
2,303
Insurance premiums written and earned in 2007 included $7.1 billion from a single reinsurance
transaction with Equitas. See Note 11 for additional information. Amounts for Western Europe were
primarily in the United Kingdom and Germany. Consolidated sales and service revenues in 2007, 2006
and 2005 were $58.2 billion, $51.8 billion and $46.1 billion, respectively. Over 90% of such
amounts in each year were in the United States with the remainder primarily in Canada and Europe.
In 2007, consolidated sales and service revenues included $10.5 billion of sales to Wal-Mart
Stores, Inc. which were primarily related to McLane’s wholesale distribution business.
Premiums written and earned by Berkshire’s property/casualty and life/health insurance
businesses are summarized below. Dollars are in millions.
Berkshire and its subsidiaries are parties in a variety of legal actions arising out of the
normal course of business. In particular, such legal actions affect Berkshire’s insurance and
reinsurance businesses. Such litigation generally seeks to establish liability directly through
insurance contracts or indirectly through reinsurance contracts issued by Berkshire subsidiaries.
Plaintiffs occasionally seek punitive or exemplary damages. Berkshire does not believe that such
normal and routine litigation will have a material effect on its financial condition or results of
operations. Berkshire and certain of its subsidiaries are also involved in other kinds of legal
actions, some of which assert or may assert claims or seek to impose fines and penalties in
substantial amounts.
a) Governmental Investigations
Berkshire, General Re Corporation (“General Re”) and certain of Berkshire’s insurance
subsidiaries, including General Reinsurance Corporation (“General Reinsurance”) and National
Indemnity Company (“NICO”) have been continuing to cooperate fully with the U.S. Securities and
Exchange Commission (“SEC”), the U.S. Department of Justice, the U.S. Attorney for the Eastern
District of Virginia and the New York State Attorney General (“NYAG”) in their ongoing
investigations of non-traditional products. General Re originally received subpoenas from the SEC
and NYAG in January 2005. Berkshire, General Re, General Reinsurance and NICO have been providing
information to the government relating to transactions between General Reinsurance or NICO (or
their respective subsidiaries or affiliates) and other insurers in response to the January 2005
subpoenas and related requests and, in the case of General Reinsurance (or its subsidiaries or
affiliates), in response to subpoenas from other U.S. Attorneys conducting investigations relating
to certain of these transactions. In particular, Berkshire and General Re have been responding to
requests from the government for information relating to certain transactions that may have been
accounted for incorrectly by counterparties of General Reinsurance (or its subsidiaries or
affiliates). The government has interviewed a number of
current and former officers and employees of General Re and General Reinsurance as well as
Berkshire’s Chairman and CEO, Warren E. Buffett, in connection with these investigations.
In one case, a transaction initially effected with American International Group (“AIG”) in
late 2000 (the “AIG Transaction”), AIG has corrected its prior accounting for the transaction on
the grounds, as stated in AIG’s 2004 10-K, that the transaction was done to accomplish a desired
accounting result and did not entail sufficient qualifying risk transfer to support reinsurance
accounting. General Reinsurance has been named in related civil actions brought against AIG. As
part of their ongoing investigations, governmental authorities have also inquired about the
accounting by certain of Berkshire’s insurance subsidiaries for certain assumed and ceded finite
reinsurance transactions.
In June 2005, John Houldsworth, the former Chief Executive Officer of Cologne Reinsurance
Company (Dublin) Limited (“CRD”), a subsidiary of General Re, and Richard Napier, a former Senior
Vice President of General Re who had served as an account representative for the AIG account, each
pleaded guilty to a federal criminal charge of conspiring with others to misstate certain AIG
financial statements in connection with the AIG Transaction and entered into a partial settlement
agreement with the SEC with respect to such matters.
On
February 25, 2008, Ronald Ferguson, General Re’s former Chief Executive Officer, Elizabeth Monrad, General Re’s
former Chief Financial Officer, Christopher Garand, a former General Reinsurance Senior Vice
President and Robert Graham, a former General Reinsurance Senior Vice President and Assistant
General Counsel, were each convicted in a trial in the U.S. District
Court for the District of Connecticut on charges of conspiracy, mail
fraud, securities fraud and making false statements to the
SEC in connection with the AIG Transaction. These individuals have
the right to appeal their convictions. Each of these individuals, who had previously received a “Wells” notice in 2005 from the
SEC, is also the subject of an SEC enforcement action for allegedly aiding and abetting AIG’s
violations of the antifraud provisions and other provisions of the federal securities laws in
connection with the AIG Transaction. The SEC case is presently stayed. Joseph Brandon, the Chief
Executive Officer of General Re, also received a “Wells” notice from the SEC in 2005.
Berkshire understands that the government is evaluating the actions of General Re and
its subsidiaries, as well as those of their counterparties, to determine whether General Re or its
subsidiaries conspired with others to misstate counterparty financial statements or aided and
abetted such misstatements by the counterparties. Berkshire believes
that government authorities are continuing to evaluate possible legal
actions against General Re and its subsidiaries.
Various state insurance departments have issued subpoenas or otherwise requested that General
Reinsurance, NICO and their affiliates provide documents and information relating to
non-traditional products. The Office of the Connecticut Attorney General has also issued a subpoena
to General Reinsurance for information relating to non-traditional products. General Reinsurance,
NICO and their affiliates have been cooperating fully with these subpoenas and requests.
Kolnische Ruckversicherungs-Gesellschaft AG (“Cologne Re”) has also cooperated fully with
requests for information and orders to produce documents from the German Federal Financial
Supervisory Authority (“BaFin”) regarding the activities of Cologne Re relating to “finite
reinsurance” and regarding transactions between Cologne Re or its subsidiaries, including CRD, and
certain counterparties. The BaFin has concluded its investigation of Cologne Re concerning these
matters.
In April 2005, the Australian Prudential Regulation Authority (“APRA”) announced an
investigation involving financial or finite reinsurance transactions by General Reinsurance
Australia Limited (“GRA”), a subsidiary of General Reinsurance. An inspector was appointed by APRA
under section 52 of the Insurance Act 1973 to conduct an investigation of GRA’s financial or finite
reinsurance business. GRA and General Reinsurance cooperated fully with this investigation. On
June 28, 2007, APRA announced that it had concluded its investigation and imposed a condition on
GRA’s license that requires it to maintain a majority of independent directors on its local board.
CRD is also providing information to and cooperating fully with the Irish Financial Services
Regulatory Authority in its inquiries regarding the activities of CRD. The Office of the Director
of Corporate Enforcement in Ireland is conducting a preliminary evaluation in relation to CRD
concerning, in particular, transactions between CRD and AIG. CRD is cooperating fully with this
preliminary evaluation.
Notes to Consolidated Financial Statements (Continued)
(19) Contingencies and Commitments (Continued)
Berkshire cannot at this time predict the outcome of these matters and is unable to estimate a
range of possible loss and cannot predict whether or not the outcomes will have a material adverse
effect on Berkshire’s business or results of operations for at least the quarterly period when
these matters are completed or otherwise resolved.
b) Civil Litigation
Litigation Related to ROA
General Reinsurance and several current and former employees, along with numerous other
defendants, have been sued in thirteen federal lawsuits involving Reciprocal of America (“ROA”) and
related entities. ROA was a Virginia-based reciprocal insurer and reinsurer of physician, hospital
and lawyer professional liability risks. Nine are putative class actions initiated by doctors,
hospitals and lawyers that purchased insurance through ROA or certain of its Tennessee-based risk
retention groups. These complaints seek compensatory, treble, and punitive damages in an amount
plaintiffs contend is just and reasonable.
General Reinsurance is also subject to actions brought
by the Virginia Commissioner of Insurance, as Deputy Receiver of ROA, the Tennessee Commissioner of
Insurance, as Receiver for purposes of liquidating three Tennessee risk retention groups, a state
lawsuit filed by a Missouri-based hospital group that was removed to federal court and another
state lawsuit filed by an Alabama doctor that was also removed to federal court. The first of
these actions was filed in March 2003 and additional actions were filed in April 2003 through June
2006. In the action filed by the Virginia Commissioner of Insurance, the Commissioner asserts in
several of its claims that the alleged damages are believed to exceed $200 million in the aggregate
as against all defendants.
All of these cases are collectively assigned to the U.S. District Court
for the Western District of Tennessee for pretrial proceedings. General Reinsurance filed motions
to dismiss all of the claims against it in these cases and, in June 2006, the court granted General
Reinsurance’s motion to dismiss the complaints of the Virginia and Tennessee receivers. The court
granted the Tennessee receiver leave to amend her complaint, and the Tennessee receiver filed her
amended complaint on August 7, 2006. General Reinsurance has filed a motion to dismiss the amended
complaint in its entirety and that motion was granted, with the court dismissing the claim based on
an alleged violation of RICO with prejudice and dismissing the state law claims without prejudice.
One of the other defendants filed a motion for the court to reconsider the dismissal of the state
law claims, requesting that the court retain jurisdiction over them. That motion is pending.
The
Tennessee Receiver subsequently filed three Tennessee state court actions against General Reinsurance,
essentially asserting the same state law claims that had been dismissed without prejudice by the
Federal court. General Reinsurance removed those actions to Federal court, and the Tennessee Receiver filed a
motion to remand to state court. That motion is the subject of briefing.
General Reinsurance has filed a motion with the Judicial Panel on Multi-District Litigation to transfer the three
Tennessee state court actions now pending in the Middle District of Tennessee to the U.S. District Court for the
Western District of Tennessee.
The Virginia receiver has moved for reconsideration of the dismissal and for leave to amend
his complaint, which was opposed by General Reinsurance. The court affirmed its original ruling
but has given the Virginia receiver leave to amend. In September 2006, the court also dismissed
the complaint filed by the Missouri-based hospital group. The Missouri-based hospital group has
filed a motion for reconsideration of the dismissal and for leave to file an amended complaint.
General Reinsurance has filed its opposition to that motion and awaits a ruling by the court. The
court has also not yet ruled on General Reinsurance’s motions to dismiss the complaints of the
other plaintiffs. The parties have commenced discovery.
General Reinsurance filed a Complaint and a motion in federal court to compel the Tennessee and Virginia
receivers to arbitrate their claims against General Reinsurance. The receivers filed motions to dismiss the
Complaint. These motions are pending.
Actions related to AIG
General Reinsurance is a defendant in In re American International Group Securities
Litigation, Case No. 04-CV-8141-(LTS), United States District Court, Southern District of New York,
a putative class action asserted on behalf of investors who purchased publicly-traded securities of
AIG between October 1999 and March 2005. The complaint, originally filed in April 2005, asserts
various claims against AIG and certain of its officers, directors, investment banks and other
parties, including Messrs. Ferguson, Napier and Houldsworth (whom the Complaint defines, together
with General Reinsurance, as the “General Re Defendants”). The Complaint alleges that the General
Re Defendants violated Section 10(b) of the Securities Exchange Act and Rule 10b-5 in connection
with the AIG Transaction. The Complaint seeks damages and other relief in unspecified amounts.
General Reinsurance has answered the Complaint, denying liability and asserting various affirmative
defenses. Document production has begun, but no other discovery has taken place. No trial date
has been scheduled.
A member of the putative class in the litigation described in the preceding paragraph has
asserted similar claims against General Re and Mr. Ferguson in a separate complaint, Florida State
Board of Administration v. General Re Corporation, et al., Case No. 06-CV-3967, United States
District Court, Southern District of New York. The claims against General Re and Mr. Ferguson
closely resemble those asserted in the class action. The complaint does not specify the amount of
damages sought. General Re has answered the Complaint, denying liability and asserting various
affirmative defenses. No trial date has been established. The parties are coordinating discovery
and other proceedings among this action, a similar action filed by the same plaintiff against AIG
and others, the class action described in the preceding paragraph, and the shareholder derivative
actions described in the next paragraph.
On July 27, 2005, General Reinsurance received a Summons and a Verified and Amended
Shareholder Derivative Complaint in In re American International Group, Inc. Derivative Litigation,
Case No. 04-CV-08406, United States District Court, Southern District of New York. The complaint,
brought by several alleged shareholders of AIG, seeks damages, injunctive and declaratory relief
against various officers and directors of AIG as well as a variety of individuals and entities with
whom AIG did business, relating to a wide variety of allegedly wrongful practices by AIG. The
allegations relating to General Reinsurance focus on the AIG Transaction, and the complaint
purports to assert causes of action in connection with that transaction for aiding and abetting
other defendants’ breaches of fiduciary duty and for unjust enrichment. The complaint does not
specify the amount of damages or the
nature of
any other relief sought. Subsequently, the New York Derivative
Litigation was stayed by stipulation between the plaintiffs and AIG.
That stay remains in place.
In August 2005, General Reinsurance received a Summons and
First Amended Consolidated Shareholders’ Derivative Complaint in In re American International
Group, Inc. Consolidated Derivative Litigation, Case No. 769-N, Delaware Chancery Court.
In June 2007, AIG filed an Amended Complaint in the Delaware Derivative Litigation asserting claims against two of its
former officers, but not against General Reinsurance. On September 28, 2007, AIG and the shareholder plaintiffs filed a
Second Combined Amended Complaint, in which AIG asserted claims against certain of its former officers and the shareholder
plaintiffs asserted claims against a number of other defendants,
including General Reinsurance and General Re.
The
claims asserted in the Delaware complaint are substantially similar to those asserted in the New
York derivative complaint, except that the Delaware complaint makes clear that the plaintiffs are
asserting claims against both General Reinsurance and General Re.
General Reinsurance and General Re filed a motion to dismiss on November 30, 2007.
Various parties moved to stay discovery and/or all proceedings in the Delaware Derivative Litigation.
At a hearing held on February 12, 2008, the Court ruled that discovery would be stayed pending the
resolution of the claims asserted against AIG in the AIG Securities Litigation. The parties are
currently formulating the text of a stipulation implementing the Court’s ruling and establishing
a briefing schedule on the motions to dismiss.
FAI/HIH Matter
In December 2003, the Liquidators of both FAI Insurance Limited (“FAI”) and HIH Insurance
Limited (“HIH”) advised GRA and Cologne Re that they intended to assert claims arising from
insurance transactions GRA entered into with FAI in May and June 1998. In August 2004, the
Liquidators filed claims in the Supreme Court of New South Wales in order to avoid the expiration
of a statute of limitations for certain plaintiffs. The focus of the Liquidators’ allegations
against GRA and Cologne Re are the 1998 transactions GRA entered into with FAI (which was acquired
by HIH in 1999). The Liquidators contend, among other things, that GRA and Cologne Re engaged in
deceptive conduct that assisted FAI in improperly accounting for such transactions as reinsurance,
and that such deception led to HIH’s acquisition of FAI and caused various losses to FAI and HIH.
The Liquidator of HIH served its Complaint on GRA and Cologne Re in June 2006 and discovery is
ongoing. The FAI Liquidator dismissed his complaint against GRA and Cologne Re.
Berkshire has established reserves for certain of the legal proceedings discussed above where
it has concluded that the likelihood of an unfavorable outcome is probable and the amount of the
loss can be reasonably estimated. For other legal proceedings discussed above, either Berkshire
has determined that an unfavorable outcome is reasonably possible but it is unable to estimate a
range of possible losses or it is unable to predict the outcome of the matter. Management believes
that any liability to the Company that may arise as a result of current pending civil litigation,
including the matters discussed above, will not have a material effect on Berkshire’s financial
condition or results of operations.
c) Commitments
Berkshire subsidiaries lease certain manufacturing, warehouse, retail and office facilities as
well as certain equipment. Rent expense for all leases was $648 million in 2007, $578 million in
2006 and $432 million in 2005. Minimum rental payments for operating leases having initial or
remaining non-cancelable terms in excess of one year are as follows. Amounts are in millions.
After
2008
2009
2010
2011
2012
2012
Total
$
541
$
457
$
351
$
272
$
214
$
661
$
2,496
Several of Berkshire’s subsidiaries have made long-term commitments to purchase goods and
services used in their businesses. The most significant of these relate to NetJets’ commitments to
purchase up to 541 aircraft through 2015 and MidAmerican’s commitments to purchase coal,
electricity and natural gas. Commitments under all such subsidiary arrangements are approximately
$7.3 billion in 2008, $3.9 billion in 2009, $3.6 billion in 2010, $2.6 billion in 2011, $1.7
billion in 2012 and $6.9 billion after 2012.
As of December 31, 2007 Berkshire is contractually obligated to acquire 60% of Marmon
Holdings, Inc. (“Marmon”) for $4.5 billion in cash. Once the initial acquisition is completed,
Berkshire will then become obligated to acquire the remaining minority shareholders’ interests
(40%) in stages between 2011 and 2014. Based upon the initial purchase price, the cost to
Berkshire of the minority shareholders’ interest would be $3.0 billion. However, the consideration
payable for the minority shareholders’ interest is contingent upon future operating results of
Marmon and the per share cost could be greater than or less than the initial per share price. (For
additional information see Note 2).
Berkshire is also obligated under certain conditions to acquire minority ownership interests
of certain consolidated, but not wholly-owned subsidiaries, pursuant to the terms of certain
shareholder agreements with the minority shareholders. The consideration payable for such
interests is generally based on the fair value of the subsidiary. Were Berkshire to have acquired
all such outstanding minority ownership interest holdings as of December 31, 2007, the cost to
Berkshire would have been approximately $4 billion. However, the timing and the amount of any such
future payments that might be required are contingent on future actions of the minority owners and
future operating results of the related subsidiaries.
Notes to Consolidated Financial Statements (Continued)
(20) Supplemental cash flow information
A summary of supplemental cash flow information for each of the three years ending December31, 2007 is presented in the following table (in millions).
2007
2006
2005
Cash paid during the year for:
Income taxes
$
5,895
$
4,959
$
2,695
Interest of finance and financial products businesses
569
514
484
Interest of utilities and energy businesses
1,118
937
—
Interest of insurance and other businesses
182
195
149
Non-cash investing and financing activities:
Investments received in connection with the Equitas reinsurance transaction
6,529
—
—
Liabilities assumed in connection with acquisitions of businesses
612
12,727
2,163
Fixed maturity securities sold or redeemed offset by decrease in directly
related repurchase
agreements
599
460
4,693
Value of equity securities and warrants exchanged for other equity securities
258
—
5,877
(21) Quarterly data
A summary of revenues and earnings by quarter for each of the last two years is presented in
the following table. This information is unaudited. Dollars are in millions, except per share
amounts.
1st
2nd
3rd
4th
Quarter
Quarter
Quarter
Quarter
2007
Revenues
$
32,918
$
27,347
$
29,937
$
28,043
Net earnings *
2,595
3,118
4,553
2,947
Net earnings per equivalent Class A common share
1,682
2,018
2,942
1,904
2006
Revenues
$
22,763
$
24,185
$
25,360
$
26,231
Net earnings *
2,313
2,347
2,772
3,583
Net earnings per equivalent Class A common share
1,501
1,522
1,797
2,323
*
Includes investment gains/losses, which, for any given period have no predictive value and
variations in amount from period to period have no practical analytical value in view of the
unrealized appreciation in Berkshire’s investment portfolio and includes derivative contract
gains/losses, which may include significant amounts related to non-cash fair value changes to
long-term contracts arising from short-term changes in equity prices, interest rate and
foreign currency rates, among other factors. Derivative contract gains/losses therefore have
little predictive value and minimal analytical value in relation to reported earnings.
After-tax investment and derivative gains/losses for the periods presented above are as
follows (in millions):
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None
Item 9 A. Controls and Procedures
At the end of the period covered by this Annual Report on Form 10-K, the Corporation carried
out an evaluation, under the supervision and with the participation of the Corporation’s
management, including the Chairman (Chief Executive Officer) and the Vice President-Treasurer
(Chief Financial Officer), of the effectiveness of the design and operation of the Corporation’s
disclosure controls and procedures pursuant to Exchange Act Rule 13a-15. Based upon that
evaluation, the Chairman (Chief Executive Officer) and the Vice President-Treasurer (Chief
Financial Officer) concluded that the Corporation’s disclosure controls and procedures are
effective in timely alerting them to material information relating to the Corporation (including
its consolidated subsidiaries) required to be included in the Corporation’s periodic SEC filings.
The report called for by Item 308(a) of Regulation S-K is incorporated herein by reference to
Management’s Report on Internal Control Over Financial Reporting, included on page 49 of this
report. The attestation report called for by Item 308(b) of Regulation S-K is incorporated herein
by reference to Report of Independent Registered Public Accounting Firm, included on page 50 of
this report. There has been no change in the Corporation’s internal control over financial
reporting during the quarter ended December 31, 2007 that has materially affected, or is reasonably
likely to materially affect, the Corporation’s internal control over financial reporting.
Part III
Except for the information set forth under the caption “Executive Officers of the Registrant”
in Part I hereof, information required by this Part (Items 10, 11, 12, 13 and 14) is incorporated
by reference from the Registrant’s definitive proxy statement, filed pursuant to Regulation 14A,
for the Annual Meeting of Shareholders of the Registrant to be held on May 3, 2008, which meeting
will involve the election of directors.
Part IV
Item 15. Exhibits and Financial Statement Schedules
(a) 1. Financial Statements
The following Consolidated Financial Statements, as well as the Report of
Independent Registered Public Accounting Firm, are included in Part II Item 8 of
this report:
PAGE
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Earnings for the years ended
2007, 2006 and 2005
52
Consolidated Statements of Cash Flows for the years ended
2007, 2006 and 2005
53
Consolidated Statements of Changes in Shareholders’ Equity and
Comprehensive Income for the years ended 2007, 2006 and 2005
54
Notes to Consolidated Financial Statements
55-76
2.
Financial Statement Schedule
Report of Independent Registered Public Accounting Firm
79
Schedule I — Parent Company
Condensed
Balance Sheets as of December 31, 2007 and 2006 and Condensed Statements of Earnings and
Cash Flows for the years ended 2007, 2006 and 2005
80-81
Other schedules are omitted because they are not required,
information therein is not applicable, or is reflected in
the Consolidated Financial Statements or notes thereto.
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been
signed below by the following persons on behalf of the Registrant and in the capacities and on the
dates indicated.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders of
Berkshire Hathaway Inc.
Omaha, Nebraska
We have audited the consolidated financial statements of Berkshire Hathaway Inc. and subsidiaries
(the “Company”) as of December 31, 2007 and 2006, and for each of the three years in the period
ended December 31, 2007, and the Company’s internal control over financial reporting as of December31, 2007, and have issued our report thereon dated February 27, 2008 (which report expresses an
unqualified opinion and includes an explanatory paragraph relating to the change in the Company’s
accounting for uncertainty in income taxes in 2007 and pension and postretirement benefit plans in
2006); such consolidated financial statements and report are included elsewhere in this Form 10-K.
Our audits also included the financial statement schedule listed in Item 15. This financial
statement schedule is the responsibility of the Company’s management. Our responsibility is to
express an opinion based on our audits. In our opinion, such financial statement schedule, when
considered in relation to the basic consolidated financial statements taken as a whole, presents
fairly, in all material respects, the information set forth therein.
Redemptions by MidAmerican Energy Holdings Company
—
—
90
Net cash flows from investing activities
(354
)
(6,396
)
(1,013
)
Cash flows from financing activities:
Proceeds from borrowings
5
47
302
Repayments of borrowings
(649
)
(146
)
(116
)
Other
441
144
136
Net cash flows from financing activities
(203
)
45
322
Increase in cash and cash equivalents
1,715
1,132
277
Cash and cash equivalents at beginning of year
1,691
559
282
Cash and cash equivalents at end of year
$
3,406
$
1,691
$
559
Other cash flow information:
Income taxes paid
$
5,096
$
4,361
$
2,365
Interest paid
27
31
23
Note to Condensed Financial Information
In May 2007, the holders of outstanding SQUARZ securities issued in 2002 by Berkshire
exercised the warrant component of the securities and received Class A and Class B shares. In
connection with these exercises, Berkshire received $333 million. All outstanding SQUARZ notes
were repaid in November 2007. Berkshire’s other borrowings at December 31, 2007 and 2006 included
$250 million and $560 million, respectively, from investment agreements. Principal is payable
under certain conditions at par prior to maturity. Principal
outstanding as of December 31, 2007 is expected to be
paid after 2012 based on the contractual maturity dates.
Berkshire Hathaway Inc. has guaranteed certain debt obligations of its wholly owned
subsidiaries. As of December 31, 2007, the unpaid balance of subsidiary debt guaranteed by
Berkshire totaled approximately $11.1 billion. No other subsidiary of Berkshire has guaranteed the
debt. Berkshire’s guarantee of subsidiary debt is an absolute, unconditional and irrevocable
guarantee for the full and prompt payment when due of all present and future payment obligations.
Prior to 2006, Berkshire’s investment in MidAmerican Energy Holdings Company (“MidAmerican”)
was accounted for under the equity method. Effective February 9, 2006, MidAmerican became a
consolidated subsidiary of Berkshire upon Berkshire’s obtaining control upon the conversion of
non-voting preferred stock into voting common stock of MidAmerican.
Form of Indenture dated as of October 6, 2003, between Berkshire Hathaway Finance
Corporation, Berkshire Hathaway Inc. and JP Morgan Trust Company (as successor trustee to Bank One
Trust Company, N.A.)
Other instruments defining the rights of holders of long-term debt of
Registrant and its subsidiaries are not being filed since the total amount of
securities authorized by all other such instruments does not exceed 10% of
the total assets of the Registrant and its subsidiaries on a consolidated
basis as of December 31, 2007. The Registrant hereby agrees to furnish to
the Commission upon request a copy of any such debt instrument to which it is
a party.
12
Statement of computation of ratio of earnings to fixed charges