2018: What would cause Berkshire to sell Wells Fargo?

ANDREW ROSS SORKIN: Hi Warren. This question comes from Paul Spieker (PH) of Chicago, Illinois. I believe he may be here today.

He writes, “One of your more famous and perhaps most insightful quotes goes as follows:

″‘Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks.’

“In light of the unauthorized accounting scandal at Wells Fargo, of its admission that it charged customers for duplicate auto insurance, of its admissions that it wrongly fined mortgage holders in relation to missing deadlines caused by delays that were its own fault, of its admission that it charged some customers improper fees to lock in mortgage interest rates, of the sanction placed upon it by the Federal Reserve prohibiting it from growing its balance sheet, and of the more than recent $1 billion penalty leveled by federal regulators for the aforementioned misbehavior, if Wells Fargo company is a chronically leaking boat, at what magnitude of leakage would Berkshire consider changing vessels?”

WARREN BUFFETT: Yeah, well, Wells Fargo (Applause) —

Wells Fargo is a company that proved the efficacy of incentives, and it’s just that they had the wrong incentives. And that was bad.

But then they committed a much greater error — and I don’t know exactly how or who did it or when, but — ignoring the fact that they had a faulty incentive system which was incenting people to do things that were kind of crazy, like opening nonexistent accounts, et cetera.

And, you know, that is a cardinal sin at Berkshire. We know people are doing something wrong, right as we sit here, at Berkshire.

You can’t have 377,000 employees and expect that everyone is behaving like Ben Franklin or something out there. They — we — I don’t know whether there are ten things being done wrong as we speak, or 20, or 50.

The important thing is, we don’t want to incent any of that if we can avoid it, and if we find — when we find it’s going on, we have to do something about it. And that is absolutely the key to it.

And Wells Fargo didn’t do it, but Salomon didn’t do it. And the truth is, we’ve made a couple of our greatest investments where people have made similar errors.

We bought our American Express stock — that was the best investment I ever made in my partnership years — we bought our American Express stock in 1964 because somebody was incented to do the wrong thing in something called the American Express Field Warehousing Company. We bought —

A very substantial amount of GEICO we bought that became half the — half of GEICO, for $40 million because somebody was incented to meet Wall Street estimates of earnings and growth. And they didn’t focus on having the proper reserves.

And that caused a lot of pain at American Express in 1964. It caused a lot of pain at GEICO in 1976. It caused a layoff of a significant portion of the workforce, all kinds of things. But they cleaned it up.

They cleaned it up, and look where American Express has moved since that time. Look at where GEICO has moved since that time.

So the fact that you are going to have problems at some very large institution is not unique. In fact, almost every bank has — all the big banks have had troubles of one sort or another.

And I see no reason why Wells Fargo as a company, from both an investment standpoint and a moral standpoint going forward, is in any way inferior to the other big banks with which it competes on —

It — they made a big mistake. It cost — I mean, we still got — I mean we have a large, unrealized gain in it, but that doesn’t have anything to do with our decision-making. But the —

I like it as an investment. I like Tim Sloan as a manager, you know. He is correcting mistakes made by other people.

I tried to correct mistakes at Salomon, and I had terrific help from Deryck Maughan as well as a number of the people at Munger, Tolles. And I mean, that is going to happen. You try to minimize it.

Charlie says that, “An ounce of prevention isn’t worth a pound of cure, it’s worth about a ton of cure.” And we ought to jump on everything. He’s pushed me all my life to make sure that I attack unpleasant problems that surface. And that’s sometimes not easy to do when everything else is going fine.

And at Wells, they clearly — and I don’t know exactly what — but they did what people at every organization have sometimes done, but it got accentuated to an extreme point.

But I see no reason to think that Wells Fargo, going forward, is other than a very, very large, well-run bank that had an episode in its history it wished it didn’t have.

But GEICO came out stronger, American Express came out stronger. The question is what you do when you find the problems.

Charlie?

CHARLIE MUNGER: Well, I agree with that. I think Wells Fargo is going to be better going forward than it would have been if these leaks had never been discovered.

WARREN BUFFETT: Or happened.

CHARLIE MUNGER: Yeah, so I think it’s — it — but I think Harvey Weinstein has done a lot for improving behavior, too. (Laughter)

It was clearly an error, and they’re acutely aware of it and acutely embarrassed, and they don’t want to have it happen again.

You know, if I had to say which bank is more likely to behave the best in the future, it might be Wells Fargo, of all of them.

WARREN BUFFETT: This New York Times that I have here from March 12th, 1942, if you go toward the back of it, in the classified section, you have one big section that says, “Help Wanted Male,” and another one that says, “Help Wanted Female.”

You know, was the New York Times doing the right thing in those days? You know, I think the New York Times is a terrific paper. But people make mistakes.

And you know, the idea of classifying between — taking ads and saying, “Well, we’ll take them and divide them up between men and women, what jobs we think are appropriate,” or that the advertiser thinks is appropriate.

We do a lot of dumb things in this world. And GEICO, as I say, in the early 1970s, they just ignored — and you can do it in the setting of proper reserves, which mean they charged the wrong price to new customers because they thought their losses were less than they were.

And I’m sure some of that may have been a desire to please Wall Street or just because they didn’t want to face how things were going. But it came out incredibly stronger. You know, and now it’s got 13 percent of the households in the United States insured.

And it came out with an attention to reserves and that sort of thing that was heightened by the difficulties that they’d found themselves in where they almost went bankrupt. Forty-two —

CHARLIE MUNGER: It was a lot more stupid than Wells Fargo. It was really stupid what they did way back, right?

WARREN BUFFETT: Yeah. They had the world by the tail, and then they quit looking at the reserve development. But — and American Express was just picking up a few dollars by having the field warehousing company in 1963. And, you know, they were worried whether it was going to sink the company.

And when some guy named Tino De Angelis in, I think it was Bayonne, New Jersey —

In fact, I went to the annual meeting in 1964 of American Express after the scandal developed, and somebody asked if the auditor would step forward.

And the auditor from one of the big firms, which I won’t mention, came up to the microphone, and somebody said, “How much did we pay you last year?”

And the auditor gave his answer, and then the questioner said, “Well, how much extra would you have charged us to go over to Bayonne, which was ten miles away, and check whether there’s any oil in the tanks?” (Laughs)

So it — you know, here was something — a tiny little operation — some guy was calling him from a bar in Bayonne and telling him this phony stuff was going on, and they didn’t want to hear it. They shut their ears to it.

And then what emerged was one great company after this kind of, what they thought was a near-death experience. So it’s — we’re going to make mistakes.

I will guarantee you that we will get some unpleasant news at Berkshire. I don’t know what it’ll be, you know — the most important thing is we do something about it.

And there have been times when I procrastinated, and Charlie has been the one that jabs me into action. And so he’s performed a lot of services you don’t know about. (Laughter)