Published Sunday February 7, 2010
Warren Buffett awakened a slumbering Henry M. Paulson Jr. with an idea that helped stabilize the world’s finances, Paulson wrote in his new book, “On the Brink: Inside the Race to Stop the Collapse of the Global Financial System.”
Former Treasury Secretary Paulson is to discuss the book (Business Plus, 479 pages, $28.99) Tuesday at the Greater Omaha Chamber of Commerce’s annual meeting at the Qwest Center Omaha. He will be joined onstage by Buffett, chairman and CEO of Berkshire Hathaway Inc. of Omaha.
Paulson is now a fellow at Johns Hopkins University’s School of Advanced International Studies.
About 2,400 people have signed up for Tuesday’s event. Registration ended last week.
n March 2008, Paulson, then Treasury secretary, was talking with Lehman Brothers CEO Dick Fuld, who was trying to find a buyer or a big investor to shore up Lehman’s finances. Fuld told Paulson that he might call General Electric CEO Jeff Immelt and Buffett.
Fuld “thought Berkshire Hathaway would be a good owner,” Paulson wrote. “I told Dick that GE was unlikely to be interested but that calling Warren Buffett was worth a try.”
March 28, a Friday and Paulson’s birthday, he was watching ESPN at home when Fuld called and asked him to call Buffett and “put in a good word. I declined, but Dick persisted. Buffett, he said, was waiting for my call.”
“It was a measure of my concern for Lehman that I decided to see just how interested Warren was. I picked up the phone and called him at his office in Omaha. I considered Warren a friend, and I trusted his wisdom and invariably sound advice. On this call, however, I had to be careful about what I said.
“I pointed out that I wasn’t Lehman’s regulator and didn’t know any more than he did about the firm’s financial condition — but I did know that the light was focused on Lehman as the weakest link, and that an investment by Warren Buffett would send a strong signal to the credit markets.”
“I recognize that,” Paulson said Buffett replied. He was reading Lehman’s financial reports at the time.
“Truth is,” Paulson wrote, “he didn’t sound very interested at all. I later learned that Fuld had wanted Buffett to buy preferred stock at terms the Omaha investor considered unattractive.”
Lehman eventually raised $4 billion elsewhere, but that didn’t prevent the firm’s bankruptcy filing in September, which further rattled the world’s financial markets. Meanwhile, Congress appeared ready to pass the $700 billion Troubled Asset Relief Program (TARP) to restore order.
Later, Paulson said, one of his worries ended when Goldman Sachs “found the most credible investor in the world, Warren Buffett, who announced that he would invest $5 billion perpetual preferred shares yielding 10 percent, with warrants to buy $5 billion worth of common shares.”
“What cemented his decision was the prospect of TARP’s being passed. As he would say in an interview on CNBC the next day, ‘If I didn’t think the government was going to act, I would not be doing anything this week.’”
TARP eventually passed, and in October 2008, Paulson and President George W. Bush attended a meeting of international finance ministers and central bankers, explaining the financial situation and urging them to support the government’s efforts to improve it.
“When I got home, Wendy (Paulson’s wife) told me Warren Buffett had been trying to reach me. I intended to get back to him right after dinner, but I could barely keep my eyes open and went straight to bed afterward, falling into a deep sleep. When the phone rang later that evening, I fumbled to pick it up.
“‘Hank, this is Warren.’
“In my grogginess, the only Warren who came to my mind was my mother’s handyman Warren Hansen. Why is he waking me up? I thought, before realizing it was Warren Buffett on the other end of the line.”
Buffett had an idea: The government should charge a 5 percent or 6 percent dividend on TARP money, enough to give taxpayers a reasonable return but low enough that banks would sign up. The rate would rise later to 9 percent — a two-tiered approach.
Paulson wrote that Buffett explained: “The government would make money on it, it would be friendly to investors, and then you could step up the rate after a few years to encourage the banks to pay back the government.”
Paulson spent the next half-hour sitting on a chair in his bedroom “mulling over this idea,” realizing that Buffett had a “vested interested” in the idea because he had invested in Wells Fargo and Goldman.
“But the truth was I was looking for an approach just like his: an investor-friendly plan that would protect the taxpayer and stabilize the banking system by encouraging investments in healthy institutions.”
Paulson’s team had been considering a straight 7 percent or 8 percent dividend, but by the time he went back to sleep, “I was convinced that Warren’s was the best way to make the capital purchase program attractive to banks while giving them an incentive to pay back the government.”
The two-tiered dividend approach helped win Congress’ approval and seemed to work with the banks, which accepted the money, paid the 5 percent dividend and began paying the money back to avoid the higher interest rate.
Paulson wrote:
“This Warren turned out to be quite a handyman, too.”
All cash
Buffett probably won’t be quite as unhappy about issuing new shares of Berkshire stock this week than he would have been a month ago.
Thursday, shareholders of Burlington Northern Santa Fe Corp. are expected to approve Berkshire’s purchase of the railroad company, with the deal to close Friday. They will exchange their BNSF shares for $10.58 billion in new Berkshire stock and $16.6 billion in cash — 40 percent stock, 60 percent cash.
Buffett said recently he prefers all-cash acquisitions and likes using stock “about as much as prepping for a colonoscopy.”
That’s because issuing new shares tends to reduce the value of existing Berkshire shares. After negotiating with Burlington’s management, he agreed to issue new stock for part of the price because of the size of the deal and because that’s what Burlington’s management wanted, he has said.
Berkshire already owns 22.6 percent of the Burlington shares, which will be canceled.
Buffett’s stock-induced discomfort level will depend on the average price of Berkshire over a 10-day period, ending Wednesday.
In the most recent 10 trading days, Berkshire’s Class A shares have averaged $109,410 each. At that average, Berkshire would issue the equivalent of about 96,663 shares of A stock to BNSF shareholders.
But if the price had stuck at this year’s lowest price, $97,500 on Jan. 15, Berkshire would have had to issue 108,470 A shares — more pain for Buffett and other shareholders.
Some of the new stock will be Class B shares, which were split 50-1 last month to bring down the price so that small BNSF shareholders could get the same income tax treatment as large shareholders. The Jan. 21 split apparently helped drive up the stock price, especially after Standard & Poor’s announced Berkshire would join its index of 500 stocks.
Let’s say a BNSF shareholder owns $500,000 worth of stock. At the $109,410 average price, and because Berkshire won’t issue fractional shares, the shareholder would receive $300,000 in cash and $200,000 worth of stock — one Class A share and 1,242 Class B shares, plus $5.97 in change.
The exact number of A or B shares for each BNSF shareholder depends in part on preferences each shareholder expresses on a form.
Top manager
Bruce R. Berkowitz of Miami, who manages the $11.2 billion Fairholme Fund, reduced the fund’s holdings in Pfizer to 17.3 million shares from 76.5 million in the three months that ended Nov. 30, Bloomberg News reported.
During the same time, the fund raised its stake in Berkshire to 10.1 percent of the fund’s assets from 5.8 percent and also invested $493 million in Burlington Northern.
Chicago research firm Morningstar Inc. recently named Berkowitz as the top U.S. equity-fund manager for 2009 and for the past decade.
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