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1980 Shareholder Letter

Buffett's 1980 letter explains the iceberg theory of earnings - that conventional accounting only shows less than half of Berkshire's true earnings power, with retained earnings at non-controlled companies often exceeding reported operating earnings.

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1980 Shareholder Letter

Date: February 27, 1981 Author: Warren Buffett Company: Berkshire Hathaway

Overview

Operating earnings improved to $41.9 million in 1980 from $36.0 million in 1979, but return on beginning equity capital fell to 17.8% from 18.6%. This letter introduced Buffett's famous "iceberg theory" of earnings — the concept that conventional accounting only shows a portion of Berkshire's true earnings power, while retained earnings at non-controlled companies often exceed reported operating earnings.

Key Points

The Iceberg Theory of Earnings

Buffett explained why reported earnings understate Berkshire's true economic performance:

"The part of 'our' earnings that these companies retained last year (the part not paid to us in dividends) exceeded the total reported annual operating earnings of Berkshire Hathaway. Thus, conventional accounting only allows less than half of our earnings 'iceberg' to appear above the surface, in plain view."

Three Categories of Ownership

Buffett taught shareholders how accounting treats different ownership levels:

  1. Over 50% owned (e.g., Blue Chip Stamps): Full consolidation of all revenue and expense
  2. 20-50% owned (e.g., Wesco at 48%): One-line entry showing proportional share of net income
  3. Under 20% owned: Only dividends recognized; undistributed earnings ignored

The Value of Retained Earnings

"The value to Berkshire Hathaway of retained earnings is not determined by whether we own 100%, 50%, 20% or 1% of the businesses in which they reside. Rather, the value of those retained earnings is determined by the use to which they are put and the subsequent level of earnings produced by that usage."

Share Repurchase Philosophy

Buffett expressed enthusiasm for companies repurchasing their own shares when trading below intrinsic value:

"If a fine business is selling in the marketplace for far less than intrinsic value, what more certain or more profitable utilization of capital can there be than significant enlargement of the interests of all owners at that bargain price?"

Long-Term Performance

"In the sixteen years since present management assumed responsibility for Berkshire, book value per share with insurance-held equities valued at market has increased from $19.46 to $400.80, or 20.5% compounded annually."

Famous Quotes

"If a tree grows in a forest partially owned by us, but we don't record the growth in our financial statements, we still own part of the tree."

"We would rather have earnings for which we did not get accounting credit put to good use in a 10%-owned company by a management we did not personally hire, than have earnings for which we did get credit put into projects of more dubious potential by another management."

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