General Re Corp and GEICO
Aug 16th, 2007 by Martin Lee
Berkshire Annual Letter 1998 (Part 2)
General Re
On December 21 1998, Berkshire completed the $22 billion acquisition of General Re Corp. This ownership will allow General Re to operate in whatever manner that will maximise its value without worrying about market perception.
For instance, a publicly held reinsurer by the very nature of its role, has very volatile earnings. This volatility can hurt it’s credit ratings and p/e ratios. As a result, an reinsurer might sometimes do things to smoothen the earnings that is actually costly to its core business.
With the capital support of Berkshire (premier credit ratings), General Re can take on any business as long as it brings increased profits over time without worrying about earnings volatility.
GEICO
GEICO works on a direct-to-customer marketing model without any agents or brokers between the insurer and the policyholder.
This direct writing of insurance involves a substantial front-end investment, therefore new first year businesses are usually unprofitable in a major way. Subsequent years are highly profitable.
Companies concerned about quarterly or annual earnings might shy from making such investments. Warren Buffett’s view is simple. As long as a dollar spent can create more than a dollar of value, it is money that he will happily spend.
To make sure associates will aggressively pursue new business, their compensation formulas are tied to earnings excluding the first year.