The Snowball
Page 98
The reason shareholders cared about Berkshire corporate governance was not oversight, however, but the question of who would succeed Buffett, who was now almost seventy-three. He had always said there was a “name in an envelope” crowning his successor. But he would not acquiesce to the pressure to reveal the name, because that would tie his hands to one person, and events could change. It would also effectively begin the transition, and he certainly wasn’t ready for that.
There was, of course, a guessing game about who this person could possibly be. Most of the managers of the various companies Buffett bought seemed unlikely candidates. Buffett liked managers like Mrs. B—people who shunned the spotlight, who worked as tirelessly as a human anthill—but these people did not manage capital. Where was the capital allocator who could run this thing? The right person had to be willing to sit behind a desk reading financial reports all day long, yet excel at dealing with people in order to retain a bunch of managers who wished they were still working for Warren Buffett.
“I have this complicated procedure I go through every morning,” Buffett said, “which is to look in the mirror and decide what I’m going to do. And I feel at that point, everybody’s had their say.”23 The next CEO would have to be a superb leader—and yet oversized egos need not apply for the job.
As the board meeting ended on Monday, the town emptied of shareholders, and the Buffett family headed to New York for their annual trip. Every year they traditionally attended a dinner with the East Coast members of the Buffett Group, held at Sandy and Ruth Gottesman’s house, where Susie would pile into Warren’s lap and run her fingers through his hair, and Warren would gaze enraptured at his wife. But this year it seemed obvious that Susie wasn’t feeling well. At lunch one day, dressed beautifully in a light wool skirt suit with a wraparound shawl, she ate only a tiny piece of chicken and some carrots with a glass of milk. She said she was fine but wasn’t that convincing.
Within two weeks, shortly before they were to have left for the trip to Africa that she was so excited about, she was admitted to the hospital with another bowel obstruction. There, the doctors found that she was anemic and had an esophageal ulcer. In a huge disappointment for the family—at least some in the family—the Africa trip had to be postponed by a year, to the following spring. Even Warren was dismayed, because he knew how much the trip meant to Susie. But, asked if he was worried, he said, “Oh, no, it would bother Susie if she thought I was worrying about her. She wants to worry about me, not the other way around. She’s a lot like Astrid in that sense. I’m not a worrier in general, y’know.”
Although the reason for the cancelation was regrettable, it turned out to be a good thing that Buffett was around that June. As the meeting at which the Clayton shareholders would vote on the merger approached, opposition to the deal swelled like a blister chafed by shareholders’ resistance to the price—even to the very idea of selling to Berkshire. Rumors started that another bidder would come in.24 Investors assumed that Buffett was going to make a lot of money, because with Berkshire’s hoard of capital and good credit rating, he could fund the Claytons, more or less forever, on terms more attractive than anyone except a sovereign government. It seemed almost unfair. Some of the shareholders were convinced that the Claytons had sold out to Buffett too cheap in order to keep their jobs and benefit themselves or to get access to that war chest. The potential conflict of interest when the management of a public company wanted to sell the company to Berkshire was about to set off a war.
William Gray of Orbis Investment Management, for one, thought the Claytons were heisting the company on behalf of Buffett. He filed a petition with the SEC and a lawsuit with the Chancery Court in Delaware, where Clayton was incorporated; his argument was that the Claytons were not trying to get the best deal for shareholders, because they had signed the exclusive clause preventing them from entertaining competing offers. He sought a ruling that they not be allowed to vote their shares on the deal and wanted a special shareholder meeting called to replace the Clayton board.25 After all, said one investor, “if Buffett bids for something, it must by definition be undervalued.”26
Buffett’s reputation, which had been an asset for so many years, had begun to work against him in certain other ways as well. He was such a magnet for publicity that anyone who wanted publicity for themselves or their cause could hijack his shareholder meeting or misappropriate his fame to get it. And so it happened that just before the shareholder meeting and around the time that Berkshire had announced the Clayton deal, Doris Christopher, CEO of The Pampered Chef, called him with just such a problem.
The Pampered Chef sold kitchenware at home parties through independent salespeople, mostly women. After Berkshire’s purchase of the company, members of pro-life organizations had begun boycotting their parties. Berkshire’s position was that it made no donations to pro-choice or reproductive rights groups, but only acted as a conduit for its shareholders, who through the charitable-contributions program had the right to allocate $18 per share to the charity of their choice. Of the $197 million that had been donated to nonprofit groups of all types, the largest number of recipients were schools and churches, many of them Catholic, and most of the money went to causes not related to abortion. But a significant amount of money had gone to reproductive-rights organizations.27 As it happened, Warren and Susie’s personal share of the contributions—about $9 million in 2002—went to the Buffett Foundation, where it mostly funded reproductive rights. That Berkshire’s money should be funneled this way was what was bothering the pro-life groups. The argument that the contributions were not Berkshire’s fell on deaf ears.28 In 2002, Buffett had tried to square things with one of these groups by showing them how much money went to causes other than family planning. He got a reply from the president of Life Decisions International, saying, “Even if only $1.00 went to Planned Parenthood and $1 billion was donated to pro-life organizations, the former gift would still land Berkshire Hathaway on The Boycott List.”29 If the price of filling a parking meter was enough to attract a boycott, that was a pretty clear sign that Berkshire would find little room for compromise.
Doris Christopher had tried to mediate, telling her people that while she personally did not agree with Buffett, “it is not my place to ask or to judge” how he donated money. Fewer than a thousand of the 70,000 Pampered Chef consultants were petitioning Christopher over this issue.30 Still, the boycott was affecting business and hurting the people involved. They were being intimidated by pro-life picketers who were now making appearances at the hosts’ houses during sales parties. Christopher called Buffett to tell him the disruption to her business was getting worse.
“She didn’t ask me, but I could tell she was hoping I would cancel the program. And you know, I’ll do it. I thought we could tough it through, but we can’t. It’s hurting too many people that I don’t want to hurt. It hurts Doris, and these are her flock. They’re getting injured, and they’re innocent. They’re in her office, crying.”
In late June, Buffett called Allen Greenberg, his former son-in-law and executive director of the Buffett Foundation, into his office and explained that he had talked to Charlie Munger. Rather than sell The Pampered Chef—one of the options—they had decided to shut down the charitable-contributions program. Greenberg was astounded. The year before, ninety-seven percent of shareholders had defeated a resolution by a pro-life shareholder to cancel the program. Combing his hands through his dark wavy hair, he paced back and forth, pointing out that the contributions came from individuals, not the corporation. People could still donate on their own. Shutting down the program would accomplish nothing. But Buffett had made up his mind.
Greenberg returned to his office to draft a press release that went out to the news wires right before Sun Valley, over the Fourth of July weekend. The phone rang and rang for several days; the secretaries grew weary from ferrying messages up and down the hall. Life Decisions almost instantly put out its own release dropping Berkshire from its boycott list.
But Buffett’s friends, no matter what their views on abortion, mostly reacted the same way: They were stunned. Some were angry. “I was surprised that he gave in on that,” one said. “It didn’t sound like him to back down so easily. Warren is such a principled person. Was it such a big deal that it had to be done?” asked another.31
Though other people in his position might have chosen to stand up to the right-to-lifers, Buffett said he was worried that such a stance might put The Pampered Chef consultants at risk. He didn’t say it, but implicitly, not just their livelihoods but their physical welfare was at stake. Buffett himself was a very big target, not just Sid the Dry Cleaner down on the corner whom nobody had ever heard of; taking a stand might make Berkshire Hathaway, as well as him, a symbol of pro-choice defiance, which was dangerous.32 He shrank from confrontation anyway; this was something he simply could not do.
Afterward, he never showed any sign of rancor over the criticism or the pro-life victory laps. You can always tell them to go to hell tomorrow, as Murph said. There was never any need to do it today. Over the years he had saved himself a lot of trouble by following this advice. Almost as soon as he got past The Pampered Chef sidebar, he simply stopped thinking about it.
Alas, this did not solve the other problem caused by being Warren Buffett instead of Sid the Dry Cleaner. Shareholders at Clayton Homes had begun weighing in for and against the Berkshire bid as the July 16 meeting to vote on the deal approached. Prices of peer companies had started to float upward. Lenders suddenly became more lenient. The argument about the “bottom of the cycle” gained currency. About thirteen percent of the investors, including respected money managers like Brandywine Asset Management, Schneider Capital, and CalPERS, the California Public Employees’ Retirement System, said publicly that they would oppose the deal. Kevin Clayton trotted around the country, meeting with investors and pitching the merger, while Orbis and other naysayers worked the phones and the press. By then Berkshire had lent $360 million to Clayton to finance its stopgap needs. Buffett put out a news release in which he said that he would not raise his price “now or in the future.” If the deal fell through, he would walk away. He also used the release to give an economic forecast for the industry, saying no turnaround was coming.33
Before Buffett bid, nobody had wanted Clayton. Despite a faithful following of hard-core shareholders, it was like a good-looking girl who couldn’t get a partner at the dance. Now she was on Warren Buffett’s arm, headed to the middle of the floor as the fiddlers and pickers began the schottische. The former wallflower suddenly looked prettier to others. At midnight two days before the shareholder meeting, Cerberus Capital, which had outbid Buffett on Conseco’s lending business, faxed a letter to Clayton suggesting that it was likely to make a higher bid. When it came to money, Buffett’s attitude was defiant. “Okay, let them,” he said. He was certain that Clayton without Berkshire wasn’t worth more than $12.50 a share.
And, indeed, by the day of the meeting, exactly zero other bidders had emerged for Clayton Homes. It was still a toss-up whether the Claytons had enough votes to win approval of the sale, however. Jim Clayton faced an hour-long barrage of questions from agitated shareholders who had packed the auditorium where the meeting was held. Manufactured-housing stocks had been on a tear since the deal was announced, making the $12.50 price look even worse by comparison. Some shareholders wanted Cerberus to have a chance to make its offer, even though it had had two months to prepare a bid and there was no way to be certain that Cerberus was serious about buying Clayton—as opposed to showing up as a spoiler to Buffett by coming in at the last minute.
The Claytons were caught in a terrible bind. If the vote failed, which it very well might do—for one large shareholder, Fidelity Investments, had announced its intention to change its vote from yes to no—there might be no deal, and Clayton could get sued for having signed the agreement not to consider other bids. If the vote passed and Clayton sold to Berkshire, Clayton could get sued for ignoring another, possibly higher bid.
Kevin Clayton left the meeting to call Buffett and ask him to agree to a delay on the vote, to allow Cerberus time to make a bid. Buffett said okay—if they would pay Berkshire $5 million for the delay. Clayton agreed to Buffett’s price, reconvened the meeting, and adjourned it before taking a vote.34
By now the business press was covering the story as a David and Goliath set piece in which a gang of tiny Davids—the hedge funds that were fighting the deal—tried to defeat the greedy Claytons and the colossus Buffett. Journalists are automatic skeptics of establishment figures; hedge fund managers, by and large, are anti-establishment by nature; they had learned to play the press for mutual benefit like a virtuoso with his Stradivarius. The press turned on the mighty Buffett. If he was buying something, the price must be too cheap.
The test of whether Buffett was stealing Clayton would be whether another bidder could be found. A week later, when seventy accountants, lawyers, and financial specialists from Cerberus Capital and three other firms—the Blackstone Group, Credit Suisse, and Texas Pacific Group—descended on Knoxville, Tennessee, led by the Cerberus chairman, former Vice President Dan Quayle, the clock began to tick toward the moment of truth. Clayton housed them in its fanciest mobile homes, adjoining the headquarters. Most of the team toured Clayton’s plants and pored through rooms full of documents, focusing increasingly on the huge maw of the mortgage unit and the way it sucked down capital.35 Quayle roamed the hallways shaking hands, repeating that Cerberus was a “family-friendly company.”36
While Cerberus and the other firms were deliberating, the Denver Area Meat Cutters and Employers Pension Plan filed a lawsuit against Clayton, charging it with “self-dealing, abusive control, and lack of candor.”37 Buffett felt he was being blackmailed. The Meat-Cutters’ Union’s lawsuit was orchestrated by Darren Robbins, a partner of Milberg Weiss, a law firm that specialized in representing investors in class-action lawsuits. “It’s a well-known fact that they committed a fraud,” said Robbins.38 Twenty-two plaintiff’s lawyers, assistants, and researchers descended upon Knoxville. Plaintiff’s lawyers do not stay in mobile homes. They reportedly bunkered into nine luxury condominiums downtown, ready for a six-month battle.39
After a week of their own digging, the Cerberus people returned to New York and faxed a sheet labeled “for discussion purposes only”: “Clayton Recapitalization—Sources & Uses.” The sheet was not an offer, but it contained a price: $14 a share. The Claytons’ first impression was that Cerberus had beaten Buffett’s offer by a healthy margin. However, a closer look revealed that Cerberus planned to give shareholders only $755 million in cash, whereas Buffett’s $1.7 billion was an all-cash deal. Under the Cerberus deal, the outside shareholders would get $9 a share out of the $14 total. The balance would be paid in a “recapitalized” stock.
The $9 a share, however, would actually be paid by Clayton itself. Cerberus wasn’t going to invest any money. Clayton would have to borrow $500 million and sell off $650 million of assets.40
This was a typical leveraged-buyout proposal, in which a company’s assets are sold and it takes on debt in order to finance its own sale. The recapitalized stock, nominally worth $5, would consist of a piece of a financial company that had piled additional debt on top of a shrunken capital base. Debt was the blood coursing through the veins of mobile-home makers; without it they were dead. And lenders were already shying away from the business. Why would they lend to a company whose ability to repay them had just been gutted? The Cerberus people obviously knew this; they had delivered a proposal that was the best that financial engineering could do. The Claytons called Cerberus to discuss it and, without any rancor, they agreed to go their separate ways.
But CNBC and the financial press were now portraying Buffett as a ruthless financier who had connived with the Claytons to buy the company cheap. The way that the Clayton deal was playing out in the media, and the manner in which Buffett’s reputation had compounded to the point where it work
ed against him, represented a dramatic reversal of the image of the wise, grandfatherly man who attracted legions of would-be coattail-riders. The blister had popped; the opposition to the Clayton merger showed that large investors were no longer coattail-riding, waiting for his reputation to take prices higher; they wanted to use his reputation against him, to block him.
Buffett, however, had never really specialized in buying things that other people wanted at a price that was too cheap. Instead, he bought things that other people didn’t want and thought that they were better off without. True, they had often been mistaken about that. Increasingly, since the Buffalo Evening News, however, Berkshire had bought properties that most people really were better off without. There weren’t many companies that had the balance sheet to look a union in the eye and stare them down, that had the financial wherewithal to finance Clayton’s debt, that could make decisions on deals like Long-Term Capital in an hour rather than a week. Berkshire could do all those things, and more. Many of the companies Berkshire was now buying were businesses like NetJets, built by entrepreneurs who wanted to sell to a buyer who would treat their babies well, and who trusted Berkshire to behave honestly.41 Buffett’s real brilliance was not just to spot bargains (though he certainly had done plenty of that) but in having created, over many years, a company that made bargains out of fairly priced businesses.