1991 Letter to Shareholders

To the Shareholders of Berkshire Hathaway Inc.

In 1991, Berkshire earned a record $462 million. Our book value grew 21.4%, our 26th consecutive year of outperformance versus the S&P 500.

"The risk of a business is determined by its economics, not its price history. Two identical businesses with different prices are not different risks—they are different opportunities."

Why Most Risk Measures Fail

Most investors measure risk using historical volatility. This approach is backwards. Historical volatility tells you how a stock's price has moved; it tells you nothing about whether that movement reflects business quality or market mood.

The risk of owning a business should be measured by the probability that the business will fail to earn its cost of capital over your holding period. This probability depends on business economics, not price history.

A business with a durable competitive advantage has low risk of permanent loss, regardless of how its stock price fluctuates. A business with a deteriorating competitive position has high risk, regardless of how stable its price has been.

Business Durability

In 1991, I thought carefully about which of our holdings would look best in 20 years. The businesses with the best prospects share certain characteristics:

1. Essential products or services — What they offer cannot be easily substituted
2. Pricing power — They can raise prices without losing customers
3. High returns on capital — They reinvest earnings at attractive rates
4. Honest management — They treat shareholders as partners

These characteristics describe our best holdings. American Express, Coca-Cola, and Gillette exemplify business durability.

Looking Forward

Our approach will not change:

1. We measure risk by business economics — Not by price volatility
2. We own durable businesses — They compound regardless of market conditions
3. We think in decades — Short-term noise is irrelevant
4. We maintain patience — Compounding rewards the patient

Warren E. Buffett February 1992