2004: How does Berkshire prevent workers compensation fraud?

AUDIENCE MEMBER: Good morning Mr. Buffett and Mr. Munger. My name is Steven West and I am a framed art manufacturer in Morganton, North Carolina.

I feel especially tied to Berkshire Hathaway as I am both a vendor to Nebraska Furniture Mart, Star Furniture, and RC Willey, and also a customer of Larson Jewel.

My question relates to workers’ compensation fraud being committed by workers’ compensation carriers on manufacturers such as myself, a scandal which I believe is far greater than the scandals that have been mentioned heretofore at this meeting.

As an example, in 1998, when I was trying to figure out why my experience mods were going way out of whack, I received a loss run and I believe, mistakenly, also a check run from my insurance carrier.

It was shocking. Four losses for $152,000 they claimed to the state of North Carolina actually amounted to less than $6,000. And one claim, which they claim they spent $70,072 on, they actually only spent $86.88.

Now naturally, this threw my company into the high-risk pool. It’s cost me hundreds of thousands of dollars.

And my question is, are they trying to pull the same stunt on Berkshire Hathaway companies, especially in labor intensive operations, such as Dairy Queen. Because I have not, in the intervening years, been able to get one single copy of a negotiated check out of these insurance company. They will not give it up, even under subpoena, and their behavior is entirely consistent with criminal fraud.

Now, my question relating to the Berkshire Hathaway problems — or companies — is, are your managers attuned to this and are they receiving the actual copies of the negotiated checks that the insurance companies claim that they’re spending to settle workers’ compensation injury cases? Thank you.

WARREN BUFFETT: Yup. Well, I would say that there’s plenty of fraud in various aspects of insurance.

In auto insurance, for example, I mean, obviously, we have fraud units, but I know you’re directing your question more to the insurance carriers than actually what takes place with policy holders and doctors and lawyers and various other parties.

But we find that for every dollar we spend on fraud prevention or detection, I think we get back well over $10.

In the comp field, workers comp, you know — we have lost more money in workers’ compensation insurance, I would guess — I may be wrong on this, but I would guess than just about any line.

Not necessarily as a percentage of premiums, but in terms of aggregate dollars. It’s been a very tough period.

So from the standpoint of — we have one small workers’ compensation direct operation in California called Cypress. And then Gen Re had — has written a lot of workers’ comp reinsurance and it’s been a bit of a blood bath. The rates have not covered the losses.

And I would say that there is a fair amount of fraud that enters into the losses we’ve experienced, or at least the industry’s experienced, particularly at the direct level.

But I — in terms of your dispute with an insurance company, I don’t know what company that would be, but I would say that most — many companies that have been in the workers’ compensation business, particularly in California in recent years, wish they hadn’t been in the business. I mean, they have not been making a lot of money off of defrauding policy holders that I know about.

But Charlie, do you have anything to say on that?

CHARLIE MUNGER: Well, the experience may be related. If a company gets into a lot of trouble from fraud practiced on it by lawyers, doctors, and claimants, and its own affairs are disrupted by fear and agony, that company is likely to start behaving badly with its own policy holders in order to lay the troubles off on somebody. I think that’s just human nature.

But I don’t think the main fraud in workman’s comp is by the carriers against the small businessmen. It’s by the claimants, the attorneys, and the doctors, against the whole system. (Applause)

WARREN BUFFETT: That really would be our experience.

As a sidelight, I noticed you were from Morganton, North Carolina. We have a business there, Carolina Shoe. We make work boots. And I give a talk at University of North Carolina some time ago. In fact, I think they have a tape of it still.

And afterwards — I had mentioned in the talk that we had this business in Morganton. And one of students came up to me afterwards. And there were a number of them, and I shook his hand and, making idle conversation, I said, “Where are you from?” And he said, “I’m from Morganton.”

And I said, “Oh,” I said, “Do you know Carolina Shoe?” And he thought a second, he said, “I don’t know her, but I think I know her family.” (Laughter)

Never forgotten that fellow.