The Party’s Over for Buffett
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By JOE NOCERA
Op-Ed Columnist
The New York Times
April 29, 2011
It’s D-Day for the World’s Greatest Investor.
Starting at around 9:30 this morning, Warren Buffett will stand on the stage of the cavernous Qwest Center in Omaha and face the music. Three journalists will ask him questions culled from thousands that have been e-mailed by shareholders of Berkshire Hathaway, Buffett’s sprawling holding company. The audience will consist of 35,000 of those shareholders who traveled to Omaha to hear him.
Buffett describes this event — a k a the Berkshire Hathaway annual meeting — as “Woodstock for capitalism.” It’s normally a festive affair, with shareholders celebrating a stock that has made many of them wealthy, while Buffett, a shameless ham, cracks wise and dispenses folksy investing wisdom.
This year, though, the tone is likely to be more somber, thanks to l’affaire Sokol, which has seriously dented Buffett’s pristine image. For someone who has said repeatedly that he would rather lose money than even a shred of reputation, his actions have been inexplicable. Thus the questions this morning are going to be unusually tough. As they should be.
David Sokol, of course, was the trusted Buffett aide who left Berkshire last month after it was revealed that he had bought $10 million worth of Lubrizol, a company he then convinced Buffett to buy — giving Sokol a nifty $3 million profit in a few weeks’ time. To his credit, Buffett is the one who revealed this information in a press release.
But in that same release, Buffett went to embarrassing lengths to absolve his former top lieutenant, even writing at one point, “Neither Dave nor I feel his Lubrizol purchases were in any way unlawful.” That is a stupefying sentence for someone who tells his executives that if they’re worried that “some action is too close to the line, just assume it is outside and forget about it.”
Since then, Buffett has been subject to criticism of a kind he has never before faced. Michael Steinhardt, the former hedge fund manager, went on CNBC and essentially denounced him as a hypocrite. Journalists have written stories that show Sokol in an extremely unflattering light; in a lawsuit last year, he was accused of ripping off minority shareholders of a venture he controlled — an accusation with which the judge, after hearing Sokol testify, wholeheartedly agreed. “It makes you question Warren’s judgment,” said Jeff Matthews, an investor and the author of the new e-book, “Secrets in Plain Sight: Business and Investing Secrets of Warren Buffett.”
Earlier this week, the Berkshire Hathaway audit committee issued a scathing report, accusing Sokol of dissembling about his Lubrizol purchase. The report seemed rather conveniently timed to take a little pressure off Buffett in advance of the annual meeting. But it shouldn’t.
Even if Sokol did lie to Buffett, as the audit committee suggests, the Sokol mess still raises a host of painful questions for both Buffett and his shareholders. For starters, the report doesn’t explain why Buffett let Sokol walk out the door with a pat on the back instead of a kick in the rear. What moved him to pre-emptively clear Sokol, who had so clearly violated Berkshire’s code of conduct, of wrongdoing? What does that tell us of possible flaws in Buffett’s character?
Just as importantly for shareholders, there are questions about his management style — questions that were once easy to ignore but no longer are. Buffett has always operated Berkshire Hathaway more or less by the seat of his pants. Although Berkshire owns more than 40 companies outright and has more than $136 billion in revenue, Buffett employs fewer than two dozen people at the holding company itself. He often buys companies with very little due diligence; he reads their financial reports, meets the owners and makes a deal. His board is made up primarily of cronies, including his son Howard. Berkshire’s compliance practices essentially consist of a letter that he sends to his top executives every two years reminding them to act ethically.
In other words, Buffett has always played by his own rules — rules that are extraordinarily lax by the standards of good corporate governance. He’s been able to get away with this because, well, he’s Warren Buffett. His track record has been so great, and his persona so impregnable, that his shareholders have been willing to give him a bye.
But after the Sokol business, Buffett’s management practices at Berkshire Hathaway deserve much tougher scrutiny. “Standards and practices have to change,” Matthews told me this week, shortly before hopping on a plane to Omaha. I can’t imagine that most Berkshire shareholders would disagree.
If they’re smart, Buffett and his shareholders will view this fiasco as a wake-up call. Buffett is 80 years old. He can’t run Berkshire forever, much as he might like to. When he finally retires, Berkshire will only succeed if it has a management structure that is not solely reliant on one man’s investing genius.
Being the World’s Greatest Investor just isn’t enough anymore. Not that it ever should have been.
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