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Warren Buffett statement -2002

1. We view the Derivatives as time bombs, both for the parties that deal in them
and the economic system.

2. Closing down a derivatives business is easier said than done. Like Hell, it is
easy to enter and almost impossible to exit.

3. In recent years, some huge-scale frauds and near-frauds have been facilitated
by Derivative trades.

4. I can assure that the marking errors in the derivatives business have not been
symmetrical. They have favoured either trader who was eyeing a multi-million
dollar bonus or the CEO who wanted to report impressive earnings or both. The
bonuses were paid and the CEO profited from his options. Only much later did
shareholders learn that the reported earnings were a sham.

5. Derivatives can exacerbate trouble that a corporation has run into for
completely unrelated reasons. This pile-on effect occurs because many derivatives
contracts require that a company suffering a credit downgrade immediately supply
collateral to counterparties.

6. Company’s derivatives instantly kick in with their requirement, imposing an


unexpected and an enormous demand for cash collateral on the company. The need to
meet this demand can then throw the company into a liquidity crisis which may
trigger for more downgrades. It finally can lead to a corporate meltdown.

7. A participant may see himself as prudent, believing his large credit exposures
to be diversified and therefore not dangerous. Under certain circumstances,
though, an exogenous event that causes the receivable from Company A to go bad
will also affect those from companies B through Z. History teaches us that a
certain problems to correlate in a manner undreamed of in more tranquil times
(Buffett warned about this in 2003).

8. In banking and insurance industries, firms that are fundamentally solid can
become trouble simply because of the travails of other firms further down the
chain. When a “Chain reaction” threat exits within an industry, it pays to
minimise links of any kind. That’s how we conduct reinsurance business, and it’s
one reason we are exiting derivatives (that is called vision).

9. Macro picture sometime carry large amount of risk. Derivatives will be


concentrated in the hands of few derivative dealers. Troubles of one could quickly
infect the others. These derivative instruments will almost certainly multiply in
variety and number until some event makes their toxicity clear. Central banks and
Governments have so far found no effective way to control, or even monitor, the
risks posed by these contracts.

10. We are apprehensive about the burgeoning quantities of long term derivatives
contracts and the massive amount of uncollateralized receivables that are growing
alongside. So, Derivatives are financial weapons of mass destruction, carrying
dangers that, while now latent, are potentially lethal.

About Directors sitting on Board:

1. Jesus Christ: “Give an account of thy stewardship; for thou no longer be


steward. (Luke 16:2)”

2. Accountability and stewardship withered in the last decade, becoming qualities


deemed of little importance by those caught up in the Great Bubble. As stock
prices went up, the behavioural norms of managers went down.

3. Most of the CEOs behaved badly at the office, fudging numbers and drawing
obscene pay for mediocre business achievements.

4. In theory, corporate boards should have prevented this deterioration of


conduct. I last wrote about the responsibilities of directors in the 1993 annual
report. Directors should behave as if there was a single absentee owner, whose
long-term interest they should try to further in all proper ways.

5. If able but greedy managers over-reach and try to dip too deeply into the
shareholder’s pockets, directors must slap their hands (He wrote this in 1993).
These days (in 2003), overreaching has become common but few hands have been
slapped.

6. Directors are obliged to represent the interests of shareholders. If they


failed to protect shareholder’s interests, they should resign from the board. It
is desirable to have directors who think and speak independently – but they must
also be business savvy, interested and shareholder-oriented.

About Stock Market investments:

1. He wrote this in 2003. Despite three years of falling stock prices, which have
significantly improved the attractiveness of common stocks, we still find very few
that even mildly interest us. That dismal fact is testimony to the insanity of
valuations reached during the Great Bubble.

Note: New investors should read this sentence carefully and note down the words
like “3 years of fall” and “insanity of valuations” etc.

2. I love stock market investments. In my 61 years of investing, 50 years offered


that kind of opportunity. There will be years like that again. With short term
money returning less than 1% after-tax, sitting out is no fun.

3. Occasionally, successful investing requires inactivity.

Note: Please read the above sentence 10 times. Sometimes, staying away from stock
market investments is equal to making money.

About auditors:

1. Audit committees can’t audit. Only a company’s outside auditor can determine
whether the earnings that a management purports to have made are suspect.

2. Far too many managers have fudged their company’s numbers in recent past, using
both accounting and operational techniques that are typically legal and materially
mislead investors.

3. Frequently, auditors knew about these deceptions. Too often, however, they
remained silent. Key job of the audit committee is simply to get the auditors to
divulge what they know.

4. Auditors worry more about misleading its numbers than about offending
management. In these days (in 2003), auditors viewed the CEO, rather than
shareholders or directors, as their client.

5. He gave so much advice to the auditors in this report. This report is a must
read for every auditor.

Advice to investors and shareholders:

1. Beware of companies displaying weak accounting. When managements take the low
road in aspects that are visible, it is likely they are following a similar path
behind the scenes.

2. Trumpeting EBITDA (earnings before interest, taxes, depreciations and


amortisation) is a pernicious practice.

3. Unintelligible footnotes usually indicate untrustworthy management. If you


can’t understand a footnote or other managerial explanation, it is usually because
the CEO doesn’t want to you to.

Note: Larsen and Toubro’s investors failed to understand the statements by Naik in
these days.

4. Be suspicious of companies that trumpet earnings projections and growth


expectations. Business seldom operates in tranquil, no-surprise environment, and
earnings simply don’t advance smoothly (except in the offering books of investment
bankers).

5. We are suspicious of those CEOs who regularly claim they do know future – and
we become downright incredulous of those CEOs who consistently reach their
targets.

6. Managers that always promise to “make the numbers” will at some point be
tempted to make up the numbers.

Source of the article: Business Standard (March 24, 2003)

Final verdict: What a man! What a vision! Financial world is now in a good state
if the young MBAs from premier business schools followed his advice.

Quote of the day: "It is important to be able to make decisions without complete
or perfect information. Things are almost never clear on wall street; when they
are, it's too late to profit from them." - Peter Lynch.

Good article: How to read a balance sheet?

RBI macro-economic review:

1. Reserve Bank downgraded India GDP growth rate to 6.8% from 7.7%. I am expecting
6-6.5% GDP growth in this financial year.

2. The global economic outlook has deteriorated sharply since September 2008... In
India too, there is evidence of a slowing down of economic activity.
3. Fall in tax collections is another problem for Government.

4. Services sector will see single digit growth after 3 years.

Q3 Results analysis:

Bartronics: Exceptional results. 90% increase in consolidated sales and 150%


increase in consolidated net profit. Bartronics India would enter into agreements
with the government agencies of India and Singapore for a potential business of Rs
5,000 crore.

Good results: NMDC, Core Projects, Everonn Systems, Educomp Solutions, Sun TV, UTV
Communications, Voltamp Transformers and Opto Circuits.

Slight Disappointment: BHEL

Negative surprise: Glenmark, Lupin and Tata Power.

Worst results: Tata Steel, Mercator Lines, KRBL, SAIL and REI Agro.

Good articles:

1. Job prospects in IT business. Must read for IT employees.

Recession news:

1. Job losses: 5.1 crore people will become jobless in 2009, according to
International Labour Organization (ILO). Global unemployment rate is around 6.1%.

2. Bloomberg on USA economy: New-home sales collapsed, durable-goods orders


slumped and a record number of Americans collected unemployment benefits.

Statistics of the day: IMF downgraded India GDP Growth rate for the next financial
year to 5.1%.

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http://m.stockmarketguide.in/

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