Thursday, March 3, 2011
Warren Buffett created a bit of a stir last week when he acknowledged in his folksy annual letter to shareholders that the company he built, Berkshire Hathaway, does not purchase directors and officers insurance for its directors.
D&O insurance protects top management in case of negligent acts or or misleading statements that cause the company to be sued. (I.I.I. explores the basics of D&O here.)
In the letter, the Sage of Omaha said the lack of insurance helped “the directors who represent you think and act like owners.”
They receive token compensation: no options, no restricted stock and, for that matter, virtually no cash.Â .Â .Â . If they mess up with your money, they will lose their money as well.Â .Â .Â . Our directors, therefore, monitor Berkshireâ€™s actions and results with keen interest and an ownerâ€™s eye.
The insurance trade press perked up, with both Business Insurance and Insurance Journal headlining the fact that Berkshire’s directors “go bare.” That’s in no small part because Berkshire is a significant player in insurance (GEICO) and reinsurance (National Indemnity and General Re). Nearly 40 percent of $19 billion in before-tax income last year came from insurance.
At D&O Diary, though, Kevin LaCroix was less impressed:
Though Buffett highlights this approach to D&O insurance as a corporate strength, donâ€™t expect this practice to catch on widely. No other company can offer an indemnification commitment as substantial as Berkshireâ€™s. Nor could any insurer make an insurance commitment as financially substantial as Berkshireâ€™s indemnification undertaking. Buffettâ€™s views on D&O insurance reflect a unique set of circumstances.
I asked Kevin about this, so he explained further in an email:
D&O insurance provides companies a way to finance their indemnification obligations and to meet those obligations if the company becomes insolvent. Berkshire is certainly not going to become insolvent, and it has no need to resort to third party financing of its indemnification obligations. Moreover, any third party to which it might resort to finance that obligation would be less well capitalized that Berkshire, so the transaction wouldn’t even make economic sense.
In other words, Berkshire is big enough to self-insure any D&O claims that may come its way.
The Wall Street Journal wraps up reaction to Warren’s letter.