By Jonathan Stempel and Lilla Zuill
Operating profit fell about 12 percent from a year earlier to $1.7 billion, as most of Berkshire's businesses were "basically down," Buffett told an estimated 35,000 people at the meeting in downtown Omaha.
The decline in book value results in part from falling stock prices and higher losses on derivatives contracts, and comes on top of a 9.6 percent decline last year, the biggest drop since Buffett began running the company in 1965.
Buffett acknowledged that Berkshire will probably lose money on derivatives tied to the credit quality of junk bonds, though he still expects to make money on a much larger and longer-term derivatives bet that stock prices will rise.
Berkshire's cash stake fell to about $22.7 billion on March 31 from $25.5 billion at year end, Buffett said. Berkshire expects to report results on May 8.
The outlook punctuated a meeting that had a decidedly more serious and somber tone from years past as many investors expressed worries about the economy, Berkshire's investments, and how long the 78-year-old Buffett plans to stay on the job.
Half the questions were pre-screened by journalists, providing a tougher and more substantive dialogue with Buffett and his 85-year-old vice chairman, Charlie Munger.
Berkshire's stock has fallen 39 percent since December 2007, but Buffett said no stock buybacks are planned because Berkshire's share price is not "demonstrably below" the company's intrinsic value. Profit fell 62 percent last year.
Buffett offered a gloomy forecast for parts of the economy and Berkshire itself, saying some units are laying off workers as managers "look at the reality of the current situation."
He also said massive federal efforts to stimulate activity could pay off, at a possible cost of higher inflation.
"It has been a very extraordinary year," Buffett said. "When the American public pulls back the way they have, the government does need to step in.... It is the right thing to do, but it won't be a free ride."
Buffett said housing prices have yet to stabilize broadly, that retailers may be under pressure for a "considerable period of time," and that he would not buy most U.S. newspaper companies "at any price."
He also said that in insurance, which comprises about half of Berkshire's operations, the earnings power "was not as good last year as normal" and "won't be as good this year."
Buffett had transformed Berkshire from a failing textile maker into a company with close to 80 businesses that sell such things as Geico car insurance, paint, ice cream and underwear.
Buffett is often considered the world's greatest investor, but recent missteps have prompted speculation the world's second-richest person has lost his touch.
Berkshire still has three internal candidates to replace him as chief executive, including one the board could appoint immediately if the occasion arose.
Buffett said the four candidates to replace him as chief investment officer failed in 2008 to outperform the Standard & Poor's 500, which fell 38 percent that year.
But he said the candidates' performance has been "modestly to significantly better than average" over 10 years, and that he was confident they could repeat that in the next 10 years.
Marc Rabinov, a shareholder from Melbourne, Australia, who said he was attending his 13th meeting, called succession a "big problem." But he added: "They are very good at being able to assess character, and that's the most important thing about who replaces him."
Much of the worry about Berkshire has focused on Buffett's use of derivatives in making long-term bets on the direction of stocks and junk bonds, and which have so far resulted in billions of dollars of paper losses.
While Buffett still expects the contracts tied to equity stock indexes to make money, he said "we have run into far more bankruptcies in the last year than is normal."
He said he now expects the contracts tied to credit defaults, which mature between 2009 and 2013, will show a loss before investment income, and perhaps after as well.
Buffett distinguishes his derivatives from others, given that he collects billions of dollars of premiums upfront to invest and posts little collateral. He called other derivatives "a danger to the system. There is no question about that."
CONFIDENCE IN BANKS
Buffett expressed confidence in Wells Fargo & Co, one of Berkshire's biggest investments, saying it has "by far the best competitive position" of any large U.S. bank.
He noted that Wells Fargo shares fell below $9 earlier this year, and that at that price, "If I had (to) put all of my net worth into stock, that would be the stock." The bank's shares closed Friday at $19.61.
Buffett added that if he wanted to turn Berkshire into a bank holding company, "I would love to buy all of US Bancorp, or I would love to buy all of Wells."
He also defended Berkshire's roughly 20 percent stake in Moody's Corp, and said the credit rating agency "made a huge mistake" but was not alone in failing to foresee the housing and credit crisis. He also said "the rating agency business is probably still a good business."
Buffett also said Berkshire can weather its recent loss of its "triple-A" credit ratings from Moody's and Fitch ratings. "The 'triple-A' is not going to be material to Berkshire," he said, "but it still irritates me."
While declining to name candidates to replace him as chief executive officer and chief investment officer, Buffett said "it would be impossible" to replace Ajit Jain, who runs much of his insurance businesses and whom investors believe is a CEO contender. "We won't find a substitute for him," Buffett said.
Buffett also said that while Berkshire is less nimble than when it was smaller, "our sustainable competitive advantage is we have a culture and business model that people would find very, very difficult to copy."
Munger added that "the stupidity in the management practices of the rest of the corporate world" will likely benefit Berkshire in the future.
(Reporting by Jonathan Stempel and Lilla Zuill, editing by Vicki Allen)