VANCOUVER, BRITISH COLUMBIA – (April 28, 2011) Clearlease Reports Berkshire Hathaway said Wednesday that a former executive believed to have been in line to succeed Warren Buffett as CEO violated the company’s insider trading and ethics policies by buying stock in a chemical company Berkshire is acquiring and failing to disclose key details.
Buffett released a report that Berkshire’s audit committee produced after examining David Sokol’s $10 million investment in Lubrizol. It’s not clear whether Sokol will face any additional sanctions for his actions because the company says its policies set a higher standard than the law does.
Sokol’s lawyer, Barry Levine, issued a statement late Wednesday disputing the audit committee’s findings.
Sokol resigned from Berkshire shortly after Buffett’s Omaha company announced plans to acquire Lubrizol for $9 billion. When his resignation was announced late last month, Sokol said he was leaving to start his own firm.
The audit committee of Berkshire’s board said Sokol offered “misleadingly incomplete disclosures” about his Lubrizol trades, which were made while he was scouting acquisition candidates for Berkshire.
The audit committee said even if Sokol’s actions could somehow be justified, they would still violate the standard Buffett establishes when he periodically encourages all Berkshire managers to avoid any behaviour that even comes close to being unethical. Buffet sends a letter to his managers every two years reminding them to “zealously guard Berkshire’s reputation.”
“By engaging in such questionable conduct, Mr. Sokol threatened Berkshire Hathaway’s reputation — or would have done so had he remained with the company,” the audit committee said in the report.
Sokol did not immediately respond to a message left at a number listed for him in Omaha, and no one answered the phone at a number listed for him in Florida. He has generally declined to comment since making an initial appearance on CNBC right after his resignation was announced and stating he didn’t believe he had done anything wrong.
Levine echoed that theme in his statement Wednesday. He said Sokol had no reason to believe Buffett would want to buy Lubrizol at the time he bought stock, and he had been studying the company for months before Lubrizol came up during a meeting with Citi investment bankers last December.
“He would not, and did not, trade improperly, nor did he violate any fair reading of the Berkshire Hathaway policies,” Levine said.
Sokol’s lawyer also complained that Berkshire’s audit committee hadn’t interviewed his client for its report.
But Berkshire board member Ron Olson said in his own statement Wednesday that Sokol had been interviewed at least three times before refusing to answer additional questions.
Buffett did not immediately respond to a message left with one of his assistants Wednesday afternoon.
A spokesman for the Securities and Exchange Commission said Wednesday that he could not confirm or deny whether the agency was investigating Sokol’s trades.
The new report on Sokol’s actions was released ahead of Saturday’s Berkshire Hathaway annual shareholders meeting. Buffett and Berkshire Vice Chairman Charlie Munger are almost certain to face questions about Sokol at the meeting. Berkshire said Wednesday that it would release a transcript of any questions about the topic on its website afterward.
Andy Kilpatrick, the stockbroker-author of “Of Permanent Value, the Story of Warren Buffett,” said this new report should defuse the Sokol issue before the meeting, and it appears Berkshire wants to answer all the questions it can.
“I don’t think Berkshire did anything wrong,” said Kilpatrick, who is also a shareholder. “It’s just that they were deceived.”
Jeff Matthews, a shareholder who wrote “Secrets in Plain Sight: Business & Investing Secrets of Warren Buffett,” said the new report is a good start at answering the lingering questions about Sokol’s actions.
“It’s devastating for Sokol, and it raises a lot of issues about how Berkshire handles its operation and the leeway it gives its people,” Matthews said.
Berkshire is notoriously decentralized with just 21 employees in Omaha to oversee about 260,000 worldwide. Buffett tells shareholders that he and Munger “delegate almost to the point of abdication” and let the managers of Berkshire’s subsidiaries run their businesses.
Sokol bought nearly 100,000 Lubrizol shares in early January for about $100 a share even though he knew Lubrizol’s board had been discussing Berkshire’s possible interest in acquiring the chemical company.
About a week after Sokol bought his Lubrizol shares for about $10 million, he recommended that Berkshire buy the company. Buffett said Sokol mentioned owning Lubrizol stock in passing, but he didn’t learn the details of the transactions until shortly after the deal was announced March 14.
The committee report said it never occurred to Buffett that Sokol might have bought Lubrizol shares after meeting with Citi investment bankers about Berkshire’s possible interest in Lubrizol.
The report said Buffett only learned about the role investment bankers played in the deal after it was announced, and when questioned by Berkshire’s chief financial officer, Sokol initially omitted that he had met with the investment bankers.
Buffett has said the decision to offer $135 in cash for each share of Lubrizol was entirely his, but that the offer for the Ohio company wouldn’t have happened without Sokol’s early efforts. The deal, which includes Berkshire assuming about $700 million in Lubrizol debt, made Sokol’s shares worth roughly $13 million.
The audit committee said Berkshire’s insider-trading policy requires a higher standard of conduct than securities law, so Sokol might not face criminal charges but he forfeited any severance-related compensation when he resigned from the company.
Berkshire’s audit committee said Wednesday that the board may consider legal action against Sokol to recover his trading profits and any damage that Berkshire sustained. The committee said it hopes its report on Sokol’s action will deter anyone else from violating the company’s policies.
Before Sokol’s departure, he had been serving as chairman of Berkshire’s MidAmerican Energy, NetJets and Johns Manville units.
Berkshire owns roughly 80 subsidiaries, including clothing, furniture and jewelry firms, but its insurance and utility businesses typically account for more than half of the company’s net income. It also has major investments in such companies as Coca-Cola Co. and Wells Fargo & Co.
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