To the Shareholders of Berkshire Hathaway Inc.: Berkshires gain in net worth during 2016 was $27.5 billion, which increased the per-share book value of both our Class A and Class B stock by 10.7%. Over the last 52 years (that is, since present management took over), per-share book value has grown from $19 to $172,108, a rate of 19% compounded annually.*

During the first half of those years, Berkshires net worth was roughly equal to the number that really counts: the intrinsic value of the business. The similarity of the two figures existed then because most of our resources were deployed in marketable securities that were regularly revalued to their quoted prices (less the tax that would be incurred if they were to be sold). In Wall Street parlance, our balance sheet was then in very large part marked to market.

By the early 1990s, however, our focus was changing to the outright ownership of businesses, a shift that materially diminished the relevance of balance sheet figures. That disconnect occurred because the accounting rules (commonly referred to as GAAP) that apply to companies we control differ in important ways from those used to value marketable securities. Specifically, the accounting for businesses we own requires that the carrying value of losers be written down when their failures become apparent. Winners, conversely, are never revalued upwards.

Weve experienced both outcomes: As is the case in marriage, business acquisitions often deliver surprises after the I dos. Ive made some dumb purchases, paying far too much for the economic goodwill of companies we acquired. That later led to goodwill write-offs and to consequent reductions in Berkshires book value. Weve also had some winners among the businesses weve purchased a few of the winners very big but have not written those up by a penny. We have no quarrel with the asymmetrical accounting that applies here. But, over time, it necessarily widens the gap between Berkshires intrinsic value and its book value. Today, the large and growing unrecorded gains at our winners produce an intrinsic value for Berkshires shares that far exceeds their book value. The overage is truly huge in our property/casualty insurance business and significant also in many other operations.

Over time, stock prices gravitate toward intrinsic value. Thats what has happened at Berkshire, a fact explaining why the companys 52-year market-price gain shown on the facing page materially exceeds its book-value gain.

Describe the methods Warren Buffett uses to measure both his own firms performance and that of the S&P 500.

Explain why he thinks Berkshires book value and intrinsic value have diverged over time.