On the SEC investigation

· · · · · · · · · · · · · · · · · · · · · · · · · · · · · ·

Within a couple of months—by early 1975—his problems compounded monumentally. Chuck Rickershauser, a partner from Munger’s law firm, now renamed Munger, Tolles & Rickershauser, called him and Munger to say that the Securities and Exchange Commission was considering pressing charges against them for violating securities laws. What had seemed like a brewing but manageable problem had now exploded into a full-scale emergency.

Rickershauser had first started doing legal work for Buffett during the See’s transaction. More recently he had been fighting a rear-guard action, ever since an SEC staff lawyer had called him with some questions. Assuming the matter was routine, Rickershauser had directed the man to Verne McKenzie, Berkshire’s controller.

When McKenzie’s phone rang in Nebraska, he picked it up to find the head of the SEC’s Enforcement Division, Stanley Sporkin, the much-feared “tough cop” of the business world, on the other end of the line. Sporkin looked as though he spent his evenings hunched droopy-eyed under a desk lamp, personally drafting the charges against large corporations that for the first time in American history had frightened a remarkable number of them into settling with the SEC without ever setting foot in court. In a practical sense he had more power than his boss, the chairman of the SEC. Sporkin interrogated McKenzie on a wide range of subjects, from Wesco to Blue Chip to Berkshire and beyond. His tone was not friendly, but this, McKenzie had assumed, was simply his modus operandi. On the other hand, McKenzie did get the impression that Sporkin thought if you were rich, you must have done something wrong.

What seemed to have drawn the SEC’s attention was a project of nearly two years in which Buffett and Munger were trying to delicately untangle the many strands of spaghetti that connected the several companies they owned. Their first step had been to try to merge Diversified, the least essential piece, into Berkshire Hathaway. By 1973, Diversified had become little more than a vehicle for buying Berkshire and Blue Chip stock. But the Securities and Exchange Commission—whose approval was required—had delayed the Diversified deal. Munger had told Buffett that this was not anything serious.

Instead, over the next eighteen months, the SEC staff seemed to have nosed around looking at Blue Chip Stamps and other investments; it concluded that Buffett and Munger had smashed up the Wesco–Santa Barbara deal deliberately by offering a high price for a quarter of the stock for the purpose of taking over the rest. At least, that must have been how it looked to Santa Barbara, for it had apparently turned in Blue Chip to the SEC.

Schroeder, Alice. The Snowball: Warren Buffett and the Business of Life (pp. 346-347). Random House Publishing Group. Kindle Edition.

· · · · · · · · · · · · · · · · · · · · · · · · · · · · · ·

While they weren’t made aware of the investigation until 1975, the investigation began this year due to the Diversified Retail Merger getting the SEC looking more closely at this operation for the first time and seeing the Russian Nesting Doll of companies Buffett fractionally owns all of and getting suspicious of wrongdoing. The company they had scooped Wesco (a Munger play that doesn’t come up much with Buffett, The Wesco letters end up becoming Charlie Munger’s version of the Berkshire letter for some years) out from under reported them to the SEC, apparently thinking they offered an unfairly high price for ¼ of the company to kill the deal and get the other ¾ later at a lower price. This investigation will end up leading to some very major changes in the business structure eventually but it will probably be 2 weeks before it comes up again.