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T H E W A R R E N B U F F E T T W AY
Buffett then spent f ive hours getting an education in the insurance
business from the only person working that day: Lorimer Davidson, an
investment off icer who eventually became the company’s CEO. What
he learned intrigued him.
GEICO had been founded on a couple of simple but fairly revolu-
tionary concepts: If you insure only people
with good driving records,
you’ll have fewer claims; and if you sell direct to customers, without
agents, you keep overhead costs down.
Back home in Omaha and working for his father’s brokerage firm, a
very young Warren Buffett wrote a report of GEICO for a financial
journal in which he noted, in what may be the understatement of that
decade, “There is reason to believe the major portion of growth lies
ahead.”
2
Buffett put $10,282 in the company, then sold it the next year at
50 percent profit. But he always kept track of the company.
Throughout the 1950s and 1960s, GEICO prospered. But then it
began to stumble.
For several years, the company had tried to expand its
customer base by underpricing and relaxing its eligibility requirements,
and two years in a row it seriously miscalculated the amount needed
for reserves (out of which claims are paid). The combined effect of these
mistakes was that, by the mid-1970s, the once-bright company was near
bankruptcy.
When the stock price dropped from $61 to $2 a share in 1976,
Warren Buffett started buying. Over a period of f ive years, with an un-
shakable belief that it was a strong company with its basic competitive
advantages unchanged, he invested $45.7 million in GEICO.
The
very next year, 1977, the company was profitable again. Over
the next two decades, GEICO had positive underwriting ratios—mean-
ing that it took in more in premiums than it paid out in claims—in every
year but one. In the industry, where negative ratios are the rule rather
than the exception, that kind of record is almost unheard of. And that
excess f loat gives GEICO tremendous resources for investments, bril-
liantly managed by a remarkable man named Lou Simpson.
By 1991, Berkshire owned nearly half (48 percent) of GEICO. The
insurance company’s impressive performance, and Buffett’s interest in
the company, continued to climb. In 1994, serious discussions began
about Berkshire’s buying the entire company,
and a year later the f inal
deal was announced. At that point, Berkshire owned 51 percent of
GEICO, and agreed to purchase the rest for $2.3 billion. This at a time
“ O u r M a i n B u s i n e s s I s I n s u r a n c e ”
3 3
when most of the insurance industry struggled with prof itability and
most investors stayed away in droves. By the time all the paperwork was
done, it was early 1996. At that point, GEICO off icially became a
wholly owned unit of Berkshire Hathaway, managed independently
from Berkshire’s other insurance holdings.
Despite a rough spot or two, Buffett’s trust
in the basic concept of
GEICO has been handsomely rewarded. From 1996 to 2003, the
company increased its share of market from 2.7 to 5 percent. The
biggest rough spot was the year 2000, when many policyholders
switched to other insurers, and a very large, very expensive advertis-
ing campaign ($260 million) failed to produce as much new business
as projected.
Things began to stabilize in 2001, and by 2002, GEICO was solidly
back on track, with substantial growth in market share and in profits.
That year, GEICO took in $6.9 billion in premiums, a huge jump from
the $2.9 billion booked in 1996, the year Berkshire took full ownership.
In April 2003, the company hit a major milestone when it added its
five-millionth policyholder. By year-end 2003, those five million policy-
holders had sent in premiums totaling $8.1 billion.
Because its profit margins increase the longer
policyholders stay with
the company, GEICO focuses on building long-term relationships with
customers. When Buffett took over the company in 1996, he put in a
new incentive system that rewards this focus. Half the bonuses and profit
sharing are based on policies that are at least one year old, the other half
on policyholder growth.
The average GEICO customer has more than one vehicle insured,
pays premiums of approximately $1,100 year after year, but maintains
an excellent driving record. As Buffett once pointed out, the economics
of that formula are simple: “Cash is pouring in rather than going out.”
3
From the early bargain days of $2 a share in 1976,
Buffett paid
close to $70 a share for the rest of the company in 1996. He makes no
apologies. He considers GEICO a unique company with unlimited po-
tential, something worth paying a hefty price for. In this perspective—
if you want the very best companies, you have to be willing to pay up
when they become available—Buffett’s partner, Charlie Munger, has
been a profound inf luence.
Knowing their close working relationship, it’s a fair bet that Munger
had a lot to say about Berkshire’s other big insurance decision.
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T H E W A R R E N B U F F E T T W AY
General Re Corporation
In 1996 Buffett paid $2.3 billion to buy the half of GEICO he didn’t al-
ready own. Two years later, he paid
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