At the 1997 Berkshire Hathaway annual meeting, Warren Buffett was discussing criteria for judging managers at businesses that he was considering for acquisition or investment. He said that above all else, there was one paramount factor: the integrity of the individuals running company was an absolute prerequisite to any business relationship with Berkshire Hathaway. Central to this was the honesty of the people he had to deal with. He wants managers that not only will tell the truth, but also will give him the bad news. He wants someone that will discuss the problems first. Someone that runs a company with out playing games with the numbers.

Some one from the audience asked how you know if a prospect has the proper attitude. Warren smiled his wry smile and said something to the effect, "Well you can leave your lunch money on the desk and leave the office." The line got a big laugh from the shareholders as they contemplated this picture of a man worth $30 billion or so putting ten dollars at risk in order to save his investors hundreds of millions. Maybe he was serious; maybe he was not. Personally, I got the impression that he was talking somewhat metaphorically. Maybe he leaves a little money lying around or maybe he has a system of tests that he applies to conduct of managers that he uses to judge how well an individual will use his shareholders' money. This is Warren's version of due diligence—one that does not require that he spend millions of dollars feeding the lawyers and accountants.

So what are his "Lunch Money Indicators." I can only guess about his ideas, but it is not too difficult to think of corporate behavior that tells you something important about the character of the people running the business. I would like to suggest a few simple tests that we can use that will help us judge the integrity of the managers.

Anyway, I said that what got me started on this, was the Costco annual report. As I was reading, the thought occurred to me that the annual report is a good place to look for "Lunch Money Indicators." One example:

Can somebody run me a screen that will rate stocks by the number of color pictures in the annual report?

This is a test that tells you something about management. How interested are they in pumping up the price of the stock. Are they owners or option holders? And it is just possible that if management is not willing to spend shareholders' money to build a glossy image, it may mean they want the stock price to track intrinsic value.

(But then that really would be too much to hope for.)

Actually the Costco report looks as though it cost less than the Berkshire report. I would suspect that Charlie had a hand in picking out the paper, but the Wesco report used better paper. Not only is the paper cheap but most of it is filled with numbers. I am not saying that I am going to go out and by Costco because of the annual report, but does it tells us as shareholders something important about the people running the business?

Commenting on communicating with shareholders, Buffett told the SEC that "A CEO should write the management discussion and analysis as though it is a letter to one partner who's been away for a year." So when you read an annual report, ask yourself if the chief executive has met this test.

The underlying market environment continues to improve. I am not happy to see money flowing back into the tech sector because it means some speculative fever continues to linger. But the areas of overvaluation continue to narrow and there are many opportunities to buy good small- and mid-cap stocks at reasonable prices.

The Federal Reserve has started to ease, and history teaches that this means it is time to get fully invested. The first few months after the Fed starts to ease are one of very best times to make money in the stock market. The slogan of the month for February is, "Don't fight the Fed."