When Berkshire buys a business for a premium over the GAAP net worth of the acquiree-as will usually

be the case, since most companies we'd want to buy don't come at a discount-that premium has to be entered on the asset side of our balance sheet. There are loads of rules about just how a company should record the premium. But to simplify this discussion, we will focus on "Goodwill," the asset item to which almost all of Berkshire's acquisition premiums have been allocated. For example, when we recently acquired the half of GElCO we didn't previously own, we recorded goodwill of about $1.6 billion. GAAP requires Goodwill to be amortized-that is, written off-over a period no longer than 40 years. Therefore, to extinguish our $1.6 billion in GEICO Goodwill, we will annually take charges of about $40 million against our earnings. This amount is not deductible for tax purposes, so it reduces both our pre-tax and after-tax earnings by $40 million. In an accounting sense, consequently, our GElCO Goodwill will disappear gradually in even-sized bites. But the one thing I can guarantee you is that the economic Goodwill we have purchased at GEICO will not decline in the same measured way. In fact, my best guess is that the economic goodwill assignable to GEICO will not decline at all, but rather will increase-and probably in a very substantial way. I made a similar statement in our 1983 Annual Report about the Goodwill attributed to See's Candy, when I used that company as an example in a discussion of Goodwill accounting. At that time, our balance sheet carried about $36 million of See's Goodwill. We have since been charging about $1 million against earnings every year in order to amortize the asset, and the See's Goodwill on our balance sheet is now down to about $23 million. In other words, from an accounting standpoint, See's is now presented as having lost a good deal of goodwill since 1983. The economic facts could not be more different. In 1983, See's earned about $27 million pre-tax on $11 million of net operating assets; in 1995 it earned $50 million on only $5 million of net operating assets. Clearly See's economic Goodwill has increased dramatically during the interval rather than decreased. Just as clearly, See's is worth many hundreds of millions of dollars more than its stated value on our books. We could, of course, be wrong, but we expect GEICO's gradual loss of accounting value to be paired with increases in its economic value. Certainly that has been the pattern at most of our subsidiaries, not just

See's. That is why we regularly present our operating earnings in a way that allows you to ignore all purchase accounting adjustments. In the future, also, we will adopt a similar policy for lookthrough earnings, moving to a form of presentation that rids these earnings of the major purchase-accounting adjustments of investees. We will not apply this policy to companies that have only small amounts of goodwill on their books, such as Coca-Cola or Gillette. We will extend it, however, to Wells Fargo and Disney, which have both recently made huge acquisitions and are consequently dealing with exceptionally large goodwill charges. Before leaving this subject, we should issue an important warning: Investors are often led astray by CEOs and Wall Street analysts who equate depreciation charges with the amortization charges we have just discussed. In no way are the two the same: With rare exceptions, depreciation is an economic cost every bit as real as wages, materials, or taxes. Certainly that is true at Berkshire and at virtually all the other businesses we have studied. Furthermore, we do not think so-called EBITDA (earnings before interest, taxes, depreciation and amortization) is a meaningful measure of performance. Managements that dismiss the importance of depreciation-and emphasize "cash flow" or EBITD are apt to make faulty decisions, and you should keep that in mind as you make your own investment decisions.