Berkshire Hathaway and GEICO:

an M&A case study

Joseph Calandro Jr, Ranganna Dasari and Scott Lane

Joseph Calandro Jr is the t is well known that many acquisitions fail to deliver the future value anticipated at the
Enterprise Risk Manager of
a global insurance
company and a Finance
I time the deals are announced. There can be any number of reasons for M&A failures,
but two key ones likely pertain to:
professor at the University of B Practical limitations of popular valuation methodologies. For example, while Discounted
Connecticut (jtacalandro@ Cash Flow (DCF) valuation is straightforward in theory, it can be extremely difficult to
yahoo.com). apply, given the inherent difficulties of forecasting. Similarly, a valuation based on
Ranganna Dasari is a comparables analysis could be distorted if the businesses used for comparison have
Principal Consultant at been significantly overpriced.
Adaptik Corporation
(dasrang2001@
B Inadequate due diligence. Frequently, due diligence is divorced from the valuation
yahoo.com). Scott Lane is process, which often results in its being conducted simply to ‘‘get the deal done.’’
Associate Professor of In striking contrast to the problematic M&A track record of many firms, financier Warren
Accounting at the University Buffett, the Chairman and CEO of Berkshire Hathaway, has been a remarkably successful
of New Haven (slane@
acquirer. There can be many reasons for this contrast, but a key one is likely Buffett’s
newhaven.edu).
effective approach to valuation and pricing; in other words, Buffett generally does not
overpay for acquisitions[1]. As a student, Buffett received training in valuation at Columbia
University from the late Benjamin Graham and has practiced and developed Graham’s
techniques ever since.
This case shows the potential for utilizing the modern Graham and Dodd (G&D) valuation
approach in a corporate setting to improve the odds of successful M&A. G&D valuation
differs from other methodologies in that it addresses valuation through a unique construct,
the value continuum. This continuum not only focuses on assets and earnings, but also on
competitive advantage and growth. By evaluating these elements within an overall
framework the G&D method frequently produces more insightful valuations than other
methods. Furthermore, those valuations can be proactively utilized to effectively guide due
diligence.
To illustrate how modern G&D methodology works in practice, it is applied retrospectively to
Berkshire Hathaway’s 1995 acquisition of GEICO.

How GEICO twice strayed from its core strategy

In 1936, Leo and Lillian Goodwin founded the Government Employees Insurance Company
(GEICO). From the outset GEICO differentiated itself from other insurance companies
through its low cost product offerings, which it sold direct to targeted customers rather than
through traditional insurance agent channels. Additionally, GEICO chose to insure relatively
‘‘safe’’ drivers such as federal employees and non-commissioned military officers. GEICO
thrived under this strategy; for example, in 1972 its stock price reached a high of $61/share.
However, in 1973 its performance started to decline and by 1975 its stock dropped to
$7/share. In 1976, the firm announced a loss of $126 million, and was on the verge of

PAGE 34 j STRATEGY & LEADERSHIP j VOL. 35 NO. 6 2007, pp. 34-43, Q Emerald Group Publishing Limited, ISSN 1087-8572 DOI 10.1108/10878570710833741
‘‘ Warren Buffett, the Chairman and CEO of Berkshire Hathaway,
has been a remarkably successful acquirer . . . Buffett
generally does not overpay for acquisitions. ’’

bankruptcy. The cause of such poor performance was, primarily, the firm’s deviation from its
core strategy; in sum, GEICO insured drivers who were less than ‘‘safe’’ in the pursuit of
growth. In 1976, the firm took steps to reverse its fortunes by appointing turnaround expert
John J. Byrne Chief Executive Officer (CEO). Simply put, Byrne’s management both saved
GEICO and returned it to profitability.

After the turnaround was complete, Byrne left GEICO to pursue other opportunities, and in
1985 the firm appointed William B. Snyder as CEO. Snyder diversified GEICO into other lines
of insurance, and once again the firm’s move from its core was not profitable so its stock
price suffered. GEICO replaced Snyder with Olza ‘‘Tony’’ Nicely in 1993, and in 1995 the firm
completely returned to its core – selling automobile insurance to ‘‘safe’’ drivers – when it
sold its homeowners’ book of insurance business to Aetna, Inc.

On August 25, 1995 it was announced that Berkshire Hathaway was acquiring the 49.6
percent of GEICO it did not then own for $70/share (a total of $2.3 billion). That price
represented a 25.6 percent premium over the $55.75/share market price at the time, which is
an interesting statistic for the world’s foremost value-based investor (or someone known for
buying bargain assets).

Applying the four components of G&D valuation to GEICO

By utilizing the G&D methodology, we can determine if it derives a value that:
B Supports Berkshire’s $70/share price.
B Reflects a reasonable margin-of-safety.
B Provides insight into GEICO’s intrinsic value at the time of its acquisition.

Net Asset Value

Net Asset Value (NAV) is the first and most tangible level of value along the continuum and is
estimated by reconstructing the balance sheet. This process is very much dependent on
one’s competence because those performing the valuation must know which adjustments
they have the expertise to make themselves and which require the services of professional
appraisers. The significance of this point cannot be understated because the GEICO case is
in many ways a case study in competence: Buffett first became interested in GEICO in 1950
while he was student at Columbia University. Following his graduation he focused on GEICO
stock as an investor[2]. After liquidating those early investments Buffett continued following
GEICO, especially as Byrne began to turn it around in 1976, which was when he
accumulated another position in the stock. Therefore, by 1995 Buffett’s deep familiarity with
GEICO allowed him to confidently make all of the adjustments necessary to arrive at a
G&D-based valuation. (See the detailed NAV calculations for GEICO in the section ‘‘Net
Asset Value.’’)

Our valuation generated a reproduction value (in thousands) of GEICO’s assets of

$5,174,741 and liabilities of $3,687,999, the difference of which equals a NAV of $1,486,742
or $44.15/share[3]. As this figure is a long way from Berkshire’s $70/share acquisition price
we proceed along the continuum to the next level of value, Earnings Power.

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VOL. 35 NO. 6 2007 STRATEGY & LEADERSHIP PAGE 35
 Earning Power Value
Earnings Power Value (EPV) adjusts income already earned by a firm to arrive at an estimate
that is sustainable into perpetuity. By ignoring growth, analytical focus can be directed to
core earnings power, which can be reconciled with NAV. In other words, an average
performing firm – or a firm simply returning its required rate – will generate an EPV that is
relatively equal to its NAV (absent error). This validation feature is another benefit of the G&D
approach.
See the detailed EPV calculations for GEICO presented in the section, ‘‘Earnings Power
Value’’ that produce an EPV of $2,323,684 (in thousands) or $69/share, which is
approximately equal to Berkshire’s $70/share investment price. However, as this value is
substantially greater than the $44.15/share NAV, the value of GEICO’s franchise must be
validated.

Franchise Value
A franchise is a firm operating with a sustainable competitive advantage thereby generating
economic profit. This profit is reflected in the valuation by a substantial spread between EPV
and NAV, which in this case equals $24:85=share ¼ $69EPV 2 $44:15NAV. As Bruce
Greenwald and Judd Kahn observed, competitive advantages are generally local in nature;
meaning, they are found in discrete regions or market segments[4]. GEICO’s focus on
insuring ‘‘safe’’ drivers can be considered an example of this. The firm’s strategy for
protecting its niche, and the economic profit it generates, is to be the insurance industry’s
low cost provider of personal lines of automobile insurance so it can profitably compete on
price at levels its competitors likely cannot match. This combination of a niche market focus
and industry leading cost control is a potent combination.
Having determined that GEICO was a firm operating with a competitive advantage, the next
step is to determine if that advantage is sustainable. A key consideration here is an
assessment of the quality of the firm’s management and their intention to exercise discipline
in defending and perpetuating their advantage over time. As GEICO’s history reflects, its
executives have a somewhat spotty record when it comes to competitive advantage
discipline. However, as Berkshire is acquiring the firm it can be reasonably assumed that
Warren Buffett would focus on its advantage to ensure the integrity of the franchise.
Additionally, we assume that GEICO’s 1995 CEO, Tony Nicely, is committed to both
protecting and perpetrating his firm’s advantage; in other words, he has no intention of trying
to grow GEICO beyond its extremely profitable niche.
As GEICO was a sustainable franchise in 1995 we turn to the final level of value along the
continuum, Growth Value.

Growth Value
Growth is the final and most intangible level of value, but it is nevertheless an important
variable to consider in the valuation process. This may come as a surprise to those who feel
that G&D valuation and growth-based valuation are polar opposites, but Buffett himself has
characterized the two approaches as ‘‘joined at the hip’’[5]. This is significant because thus
far our valuation has not yet identified a margin-of-safety for this acquisition; therefore, it
must lie within growth as it is the final level of value. The margin-of-safety is the G&D risk

‘‘ Given the subjectivity of growth in general, and the

intangibility of valuing it in particular, it is critical that
growth-based assumptions be validated as much as possible
during the due diligence process. ’’

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PAGE 36 STRATEGY & LEADERSHIP VOL. 35 NO. 6 2007
management mechanism and Buffett has repeatedly stressed his adherence to it[6]. Risk in
this context is defined as the possibility of paying a higher price for an asset than its intrinsic
value supports[7].
The G&D method estimates growth through the use of net asset and earnings power
variables. For example, the detailed Growth Value (GV) calculations for GEICO are
presented in the section ‘‘Growth Value.’’ They produce a GV of $3,588,388 (in thousands) or
$106.55/share. With this final level of value in place GEICO’s value continuum is illustrated in
Exhibit 1.
GEICO was acquired at $1 more than our EPV of $69/share; if the margin-of-safety
was based on a GV of $106.55/share in percentage terms it equals
52:5 percent ¼ ð$106:55=$70Þ 2 100 percent[8]. Therefore, despite the 25.6 percent
premium over the stock price at the time, the GEICO acquisition at $70/share was a
significant bargain, a genuine value-based acquisition.

Post investment performance

Writing the year following this investment in Berkshire Hathaway’s annual report Buffett
indicated that GEICO management had, ‘‘pushed underwriting and loss adjustment
expenses down further to 23.6 percent of premiums, nearly one percentage point below
1994’s ratio[9].’’ To put this performance into context consider the following: a 1 percent
insurance improvement equates to $24; 762; 760 ¼ $2; 476; 276; 000 in 1994 premium *[10].
The after tax value of this improvement amounts to $20; 585; 029 ¼ $24; 762; 760*ð1 2 the
1994 effective tax rate of 16.9 percent (Exhibit 3)). Capitalizing this figure at a multiple of 8.9
(see narrative in the section ‘‘Earnings Power Value’’) equals $183,579,878 or $5.45/share,
which is roughly 8 percent of the $70/share purchase price. Needless to say, this is a
significant accomplishment but more importantly from a value perspective it was not a factor
in our valuation. Thus, this roughly 8 percent return could have been a pure economic gain
for Berkshire Hathaway shareholders.
Furthermore, subsequent to its acquisition GEICO launched what is in all likelihood the most
innovative and successful marketing campaign in the history of insurance[11]. Television
commercials featuring an animated gecko lizard, the firm’s mascot, as well as spoof
commercials all ending in the now familiar phrase, ‘‘I just saved money on my car insurance
by switching to GEICO’’ have generated substantial profit for Berkshire Hathaway, the value

Exhibit 1 GEICO’s Value Continuum (1995)

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VOL. 35 NO. 6 2007 STRATEGY & LEADERSHIP PAGE 37
 of which likely exceeds our GV of $106.55/share. In other words, GEICO’s growth has likely
created value far in excess of our estimated margin-of-safety.

Graham & Dodd and M&A

Over the past decades a significant portion of the investment community has followed
Warren Buffett’s lead and applied G&D valuation. Somewhat surprisingly, this trend does not
seem to have carried over to corporate M&A. So how can corporate managers effectively
adopt G&D valuation?
Inadequate due diligence is a frequent source of post M&A performance issues, and the
lawsuits that frequently accompany such issues. To manage the risk of inadequate due
diligence the value continuum could be used proactively as a due diligence outline or
blueprint. For example, our G&D valuation is based on a number of adjustments that could be
validated during due diligence. For instance, our NAV adjustments (see the section ‘‘Net Asset
Value’’) would be materially and substantially more accurate if based on careful and targeted
on-site appraisals/audits, which could involve the use of professional appraisers/auditors.
The due diligence process could also be made more effective by utilizing EPV and Franchise
Value as analytical guides to a target’s strategic plan. Doing so could result in pointed
questions for senior management interviews, the aim of which would be to validate the
viability and sustainability of a target’s earnings’ power, as well as the sustainability of any
competitive advantage generating economic profit. A critical element of this exercise would
be to ascertain management’s intention and commitment to sustaining and perpetuating any
advantage over time. For example, this was in many ways a key consideration in our
valuation of GEICO.

G&D valuation could also be used to put growth into context, which is particularly important
in M&A as overpaying for potential growth has led to many acquisition failures. Given the
subjectivity of growth in general, and the intangibility of valuing it in particular, it is critical that
growth-based assumptions be validated as much as possible during the due diligence
process. For example, the growth initiatives that GEICO undertook after Berkshire acquired
it flow logically from its strategy of being the low cost provider of automobile insurance to
‘‘safe’’ drivers, to the quantitative depictions of that strategy in the value continuum, to
GEICO’s highly innovative marketing campaign. If such logic is discerned and validated
pre-buyout – during due diligence – managers could have greater confidence in the
valuation, and any growth-based margin-of-safety.

Finally, the overall risk of M&A can be managed through the margin-of-safety concept. For
example, in the GEICO case a substantial margin-of-safety of 52.5 percent was achieved by
simply acquiring the firm at the full EPV of $69 or $70/share against a growth value of
$106.55/share. Significantly, the value continuum itself identified both the investment price
and the margin-of-safety, which is a dynamic that can be leveraged in the formulation of M&A
pricing and negotiating strategies.

Looking ahead
The GEICO case demonstrates how the modern G&D methodology could be utilized to
value acquisitions with a reasonable margin-of-safety. A significant benefit of G&D valuation
is that it addresses key adjustments and assumptions upfront in the valuation thereby
providing a greater level of insight into intrinsic value than cash flow forecasts generally
provide.
Managers can also use G&D methodology to perform due diligence. Because G&D
valuations are transparent they can identify assumptions that could be explored and
validated during due diligence. While the G&D methodology is certainly not a panacea it can
be utilized in a corporate setting to improve valuation practices, which should increase the
odds of successful M&A.

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 Section 1

Net Asset Value

This detailed net asset value of GEICO uses data from the firm’s 1994 10K; a parenthetical
note designates adjustments that are explained in the narrative. It is important to note that if
this were a contemporary valuation, professional appraisers could be used for certain
adjustments. Keep in mind that the general intent of G&D-based valuation is to derive an
estimate of value that is ‘‘adequate’’[12]; in other words, it may be neither possible nor
practical to value an asset with 100 percent accuracy, but it is possible to value it within an
acceptable margin of safety.
As can be seen in Exhibit 2, we list liabilities before assets in our valuation of GEICO. For
insurance companies the liability side of the balance sheet represents the goods and
services sold (the assumption of risk) and is therefore of primary importance.
Note (1A) of Exhibit 2 pertains to a P&C loss reserve adjustment composed of two parts. First,
$85.4 million in anticipated salvage and subrogation recoveries was added back to the
reserves to reflect its reproduction value[13]. Second, a subjective 15 percent adjustment was
levied on GEICO’s $100 million of commercial umbrella reserves. According to the firm’s 1994
10K:
The ultimate development of losses related to the significant risks of this long-tail business, which
includes environmental and product liability risks, is uncertain. Losses for GEICO’s commercial
umbrella business cannot be projected using traditional actuarial methods. The reserve for this
business represents management’s estimate of the ultimate liability which will emerge from a
small number of potentially large claims (Note G).

Exhibit 2 Net Asset Value

$000s
Reproduction Value Adjustment 1994

Policy liabilities
P&C loss reserve - Note G $1,805,118 $100,400 $1,704,718 (1A)
Loss adjustment expense reserve – Note G $322,986 105% $307,606 (2A)
Unearned premiums $747,342 100% $747,342
Life benefit reserves & policyholders’ funds $106,363 105% $101,298 (2A)
$2,981,809 $2,860,964
Debt - Note I
Corp and other $340,378 100% $340,378
Finance company $51,000 100% $51,000
$391,378 $391,378
Amts payable on purchase of securities $8,828 105% $8,408 (3A)
Other liabilities $305,984 105% $291,413 (3A)
Total liabilities $3,687,999 $3; 552; 163
Investments $4,102,866 100% $4,102,866
Cash $27,580 100% $27,580
Loans receivable, net - Note E $60,948 $1,500 $59,448 (4A)
Accrued investment income $67,255 100% $67,255
Premiums receivable $238,653 100% $238,653
Reinsurance receivable $127,189 100% $127,189
Prepaid reinsurance premiums $10,361 100% $10,361
Amts receivable from sales of securities $2,022 100% $2,022
Def’d policy acquisition costs – Note F $72,359 100% $72,359
Federal income taxes - Note J $88,880 0.8980 $98,975 (5A)
Property and equipment $226,950 $85,209 $141,741 (6A)
Depreciation $113,612
Other assets $49,656 100% $49,656
Goodwill $100,022 $100,022 $0 (7A)
Total assets $5,174,741 $4,998,105
Net Asset Value (NAV) $1,486,742 $1,445,942 (8A)

Source: GEICO 1994 10K, all adjustments are the authors’

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VOL. 35 NO. 6 2007 STRATEGY & LEADERSHIP PAGE 39
 ‘‘ To illustrate how modern G&D methodology works in practice,
we apply it retrospectively to Berkshire Hathaway’s 1995
acquisition of GEICO. ’’

In practice, this subjective adjustment could be based on onsite claims audits and
actuarial appraisals[14]. For our purposes here it is important to note that this adjustment –
and those that follow it below – are transparent in the valuation, not buried within a cash
flow forecast.
Notes (2A) and (3A) pertain to subjective (and minor) 5 percent adjustments to the loss
adjustment expense reserve, life benefit reserve, amounts payable on the purchase of
securities, and other liabilities. In practice, these adjustments could also be based on onsite
claims audits and actuarial appraisals.
Note (4A) adds the bad debt reserve back into loans receivable in order to derive an
estimate of the reproduction value of this line item[15].
Note (5A) discounts the deferred tax asset by our estimated cost of equity of 11.2
percent.[16,17]
The reproduction cost of property and equipment is then estimated by subjectively adding
75 percent of the total depreciation claimed to date to the listed book value (note (6A)). If this
were a live valuation this adjustment could also be based on a professional appraisal.
The final adjustment pertains to goodwill, which in this context refers to the intangible assets
a firm uses to create value such as its product portfolio, customer relationships,
organizational structure, competitive advantage, licenses, etc. In this case, the key
intangible asset we valued was GEICO’s existing customer base, which generates repeating
premiums from ‘‘safe’’ or low claim generating drivers. When valuing intangible assets such
as these the G&D approach suggests that analysts ‘‘add some multiple of the selling,
general, and administrative [SG&A] line, in most cases between one and three year’s worth,
to the reproduction cost of the assets’’[18]. Insurance companies generally do not have an
SG&A line on their income statements; rather, they record this type of expense under the
acquisition costs line entry. In 1994, GEICO claimed $200,044 in acquisition costs[19]. As
GEICO’s goodwill was operational in nature and contained no demand advantages –
personal lines automobile insurance search costs and switching costs were (and are), in
general, extremely low – we estimated its value at 50 percent of the reported acquisition
costs or $100,022 (note (7A)). This is also an adjustment that could be based on or validated
by a professional appraisal if this were a live valuation.

Section 2

Earnings Power Value

Our EPV calculations for GEICO are presented in Exhibit 3.

Note (1E) is an estimate of GEICO’s expected sustainable operating income, which was
estimated by taking the average earnings before tax (EBT) margin of the three most recent
years and then multiplying that figure by the most recent revenue: $298; 761 ¼ 11 percent
average EBT margin* revenue of $2,716,009

Note (2E) pertains to our deprecation and amortization adjustment, the mechanics of which
are shown in Exhibit 4

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PAGE 40 STRATEGY & LEADERSHIP VOL. 35 NO. 6 2007
Exhibit 3 Earnings Power Value
$000s
1994

Estimated Operating Income $298,761 (1E)

Depreciation & Amortization adjustmenta $11,979 (2E)
Interest on cash $1,023 (3E)
Pre-Tax Earnings $309,717 (4E)
Tax rate 16.9 percent (5E)
Taxes $52,252 (6E)
Earnings $257,465 (7E)
Capitalized Earnings $2,296,104 (8E)
Cash $27,580 (9E)
Earnings Power Value (EPV) $2,323,684 (10E)

Note: a Calculations reflected in Exhibit 4

Exhibit 4 Depreciation and amortization adjustment

Calculation $000s

(a) Property & Equipment $141,741

(b) 1994 revenue $2,716,009
(c) 1993 revenue $2,638,300
(d) Amortization $13,687
(e) Depreciation $22,434
(f) Capital Expenditures (CAPEX) $28,197
ðgÞ ¼ ½ðaÞ=ðbÞ
* ½ðbÞ 2 ðcÞ
Growth CAPEX $4,055
ðhÞ ¼ ðfÞ 2 ðgÞ Zero Growth CAPEX $24,142
ðiÞ ¼ ðdÞ þ ðeÞ 2 ðhÞ Depreciation and Amortization Adjustment $11,979

Note: CAPEX is capital expenditures

Source: GEICO 1994 10K, all calculations are the authors’

In traditional cash flow analysis depreciation and amortization is added back to, and CAPEX
is subtracted from, income dollar-for-dollar. As EPV pertains to estimated sustainable (or
non-growth) earnings the CAPEX attributable to growth is appropriately excluded from the
calculation.

Next, the interest earned on cash was deducted (note (3E)). As the capitalized value of
interest earned on cash is the amount stated on the balance sheet this figure will be added
back to capitalized earnings to arrive at an EPV, as will be shown below.

In the next step, note (4E), the depreciation and amortization adjustment is added to, and
interest earned on cash subtracted from, average operating income to derive Pre-Tax
Earnings. We then calculate expected taxes payable by utilizing GEICO’s 1994 effective tax
rate, note (5E), which was derived by dividing paid and deferred taxes by EBT, which equals
16:9percent ¼ ½$58; 056 þ ð$15; 677Þ
=$251; 194[20]. Multiplying this effective tax rate by
Pre-Tax Earnings of $309,717 derives a tax expense of $52,252 (note (6E)). Earnings, note
(7E), are calculated simply by subtracting the tax expense from Pre-Tax Earnings, which
equals $257,465.

Note (8E) pertains to capitalizing earnings as a non-growth perpetuity. To accomplish this we

divide one by GEICO’s estimated cost of equity of 11.2 percent, which equals a multiple of
8.9. This multiple is roughly half of the Graham and Dodd multiple threshold of 16[21], which
means it is a relatively conservative estimate. Multiplying GEICO’s estimated earnings of
$257,465 by 8.9 and then adding the amount of cash on the balance sheet, $27,580 (note
(9E)), equals an EPV of $2,323,684 (note (10E)).

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VOL. 35 NO. 6 2007 STRATEGY & LEADERSHIP PAGE 41
 Section 3

Growth Value
Financial theory is clear that growth creates value only when it is profitable, or when growth
generated profitability exceeds the opportunity cost of capital. A measure of this
phenomenon is the return on Net Asset Value (or RNAV) over the cost of equity. If this ratio is
greater than one growth will create value so multiplying it by the EPV will derive a GV. We
illustrate this process for GEICO in Exhibit 5.

Exhibit 5 Growth Value

Calculation $000s Source

(a) Earnings $257,465 Exhibit 3

(b) NAV $1,486,858 Exhibit 2
ðcÞ ¼ ðaÞ=ðbÞ RNAV 17.3 percent
(d) Cost of Equity 11.2 percent Endnote 17
ðeÞ ¼ ðcÞ=ðdÞ Growth Multiple 1.5
(f) EPV $2,323,684 Exhibit 3
ðgÞ ¼ ðeÞ* ðfÞ Growth Value (GV) $3,588,388

Notes
1. On the general tendency of overpaying for acquisitions see for example Robert Eccles, Kersten
Lanes, and Thomas Wilson, ‘‘Are you paying too much for that acquisition?’’ Harvard Business
Review. July-August 1999. pp. 136-146.
2. For example, on December 1, 1951 Buffett published an article about GEICO in The Commercial
and Financial Chronicle titled, ‘‘The security I like best,’’ which was reprinted in the 2005 Berkshire
Hathaway Annual Report, http://www.berkshirehathaway.com/letters/2005.html
3. The amount of GEICO’s outstanding shares is 33,678,400 per Robert Bruner, Warren E. Buffett,
1995, Darden School of Business Case Services. #UVA-F-1160, 1998.
4. Bruce Greenwald and Judd Kahn, ‘‘All strategy is local,’’ Harvard Business Review, September
2005. pp. 94-104.

5. Source: 1992 Berkshire Hathaway Annual Report: www.berkshirehathaway.com/letters/ 1992.html.

Furthermore, Benjamin Graham himself stated that, ‘‘The stock of a growing company, if
purchasable at a suitable price, is obviously preferable to others.’’ Source: Benjamin Graham, The
Intelligent Investor (NY: Harper Business, 1949), p. 93.
6. For example, Buffett has stated that, ‘‘we insist on a margin-of-safety in our purchase price. If we
calculate the value of a common stock to be only slightly higher than its price, we’re not interested in
buying. We believe this margin-of-safety principle, so strongly emphasized by Ben Graham, to be
the cornerstone of investment success.’’ Source: 1992 Berkshire Hathaway Annual Report, http://
www.berkshirehathaway.com/letters/1992.html
7. Benjamin Graham, The Intelligent Investor (NY: Harper & Row, 1973 [1949]), p. 61.
8. For more information on this margin-of-safety approach see Bruce Greenwald, Judd Kahn, Paul
Sonkin, and Michael van Biema, Value Investing – From Graham to Buffett and Beyond (NY: Wiley,
2001), pp. 108 and 137.
9. 9. Source: 1995 Berkshire Hathaway Annual Report. http://www.berkshirehathaway.com/letters/
1995.html.

10. The source of the premium figure is GEICO’s 1994 10K.

11. Suzanne Vranica, ‘‘How a gecko shook up insurance ads,’’ Wall Street Journal, January 2, 2007,
p. B1.

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12. Benjamin Graham and David Dodd, Security Analysis (New York: Whittlesey House, 1934), p. 22.

13. Data source: GEICO 1994 10K, dollars in thousands.

14. See Joseph Calandro, Jr and Thomas O’Brien, ‘‘A user-friendly introduction to property and casualty
claim reserving,’’ Risk Management and Insurance Review, Vol. 7, No. 2, 2004, pp. 177-187 for
information on reserve analysis.

15. A similar adjustment is made to accounts receivable. As Greenwald et al. (2001), cited above, p. 56
explain: ‘‘A firm’s accounts receivable, as reported in the financial statement, probably contains
some allowance built in for bills that will never be collected. A new firm starting out is even more
likely to get stuck by customers who for some reason or another do not pay their bills, so the cost of
reproducing an existing firm’s accounts receivables is probably more than the book amount. Many
financial statements will specify how much has been deducted to arrive at this net figure. That
amount should be added back . . . ’’

16. We evaluate GEICO on an equity rather than enterprise basis as insurance reserves can be
considered an equity equivalent. Source: Tom Copeland, Tim Koller, and Jack Murrin, Valuation:
Measuring and Managing the Value of Companies, 3rd ed. (New York: Wiley, 2000), p. 452.

17. We utilized the Dividend Growth Model to derive our 11.2 percent cost of equity; inputs are current
dividends of $1/share, stock price of $55.75/share and expected growth of 9.3 percent. A Capital
Asset Pricing Model (CAPM) derived cost of equity equaled 11 percent via a risk-free rate of 6.86
percent, a beta of 0.75, and an equity risk premium of 5.5 percent. CAPM Data Source: Bruner
(1998), cited above, p. 11. For further information, contact the lead author.

18. Greenwald et al. (2001), cited above, pp. 61-62.

19. Data source: GEICO 1994 10K, dollars in thousands.

20. Data source: GEICO 1994 10K, Note J.

21. Graham and Dodd (1934), cited above, p. 453.

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