March 29, 2024

DealBook: Buffett’s Bank of America Stake Is Viewed as a Seal of Approval

Warren Buffett’s investment has a guaranteed payout.Lucas Jackson/ReutersWarren E. Buffett’s investment has a guaranteed payout.

The financial crisis has been good to Warren E. Buffett.

The billionaire investor snatched up shares of Goldman Sachs and General Electric during some of the darkest days of 2008, injecting life and funds into the companies and turning a handsome profit later. On Goldman alone, Mr. Buffett netted $1.7 billion.

On Thursday, he sought to turn the same trick again, investing $5 billion in an institution that is still struggling to recover from the financial crisis, Bank of America. Like the Goldman deal, the Bank of America infusion comes with a rich plum: a guaranteed dividend payout of about $300 million a year, whether the stock goes up or down.

The stock shot up on Thursday as the investment allayed concerns about the bank. Its shares rose as much as 27 percent, before ending the day up 9.4 percent, at $7.65.

“He has the golden touch,” said Mitchel Penn, an analyst with Legg Mason Capital Management, one of Bank of America’s largest shareholders. “It’s a wonderful vote of confidence in Bank of America.”

The deal came together quickly. On Wednesday morning, Mr. Buffett’s assistant called the office of Brian T. Moynihan, the Bank of America chief executive, and a call was set up, said two people briefed on the matter who were not authorized to speak publicly about it.

Mr. Moynihan told the investor that the bank did not need capital. Mr. Buffett responded by saying that he was planning to invest for the long term and outlined a proposal. Interested, Mr. Moynihan suggested that the two of them meet to discuss it. No, thanks, Mr. Buffett said, his mind was made up and he didn’t need a sit-down. The call was soon over.

In the hours that followed, Mr. Moynihan, Bruce Thompson, the bank’s chief financial officer, and Charles Holliday, the chairman, met and briefed directors on Mr. Buffett’s proposal. Lawyers for both sides — Munger, Tolles Olson for Mr. Buffett’s company and Wachtell, Lipton, Rosen Katz, which represented Bank of America — hashed out the details, working straight through the night.

Robert E. Denham, a partner at Munger Tolles, said there were no major hurdles to an agreement. “It’s a very boring story,” he said laughing. “Just a very, very intense turning of the documents.”

At 7 a.m. on Thursday, the board held a conference call to approve the deal.

The investment comes at a pivotal time for Bank of America. It has set aside more than $20 billion to cover its legal exposure for mortgages made during the housing bubble, and the bank faces a nationwide investigation into its foreclosure practices. Last quarter, Bank of America reported an $8.8 billion loss, owing in large part to a settlement with mortgage investors.

Mr. Buffett is aware of the bank’s mortgage issues, but a person briefed on his thinking said that the investor felt that Bank of America was well positioned to make money over the long term and that the legal woes would diminish.

At the age of 80, Mr. Buffett can claim a global reputation as a savvy investor for his bets on railroads, insurers and famous brands like Coca-Cola. But in recent years, he has also become one of the world’s mightiest champions of the banking industry.

With the $5 billion investment by his investment company, Berkshire Hathaway, Mr. Buffett stands to eventually become the largest shareholder in Bank of America, according to Thomson Reuters data. Berkshire is already the biggest shareholder in Wells Fargo and American Express. It stands to be a large stakeholder in Goldman when shares he obtained during the financial crisis convert.

“He always likes to buy into industries he understands and he feels comfortable with banking,” said Drew Woodbury, an analyst with Morningstar.

That was not always the case. In his 1990 letter to shareholders Mr. Buffett wrote, “The banking business is no favorite of ours.”

He had good reason to be skeptical.

Just before the market crash of 1987, Berkshire bought $700 million of preferred shares in Salomon Inc.

To protect his holdings, Mr. Buffett did something unusual, stepping in to become chairman in August 1991 after he forced out Salomon’s chairman, John Gutfreund, during a Treasury auction scandal. Mr. Buffett was widely credited with saving Salomon from collapsing by quickly cleaning house and winning over angry clients, politicians and investors. Mr. Buffett stepped down as chairman of Salomon about 10 months later. It was many years before he would return to Wall Street.

During the financial crisis in September 2008, Mr. Buffett came to the rescue of Goldman, investing $5 billion in the firm. A week later, he bought $3 billion in preferred shares from General Electric, as the conglomerate’s shares were plummeting.

Each investment proved to be highly profitable for Mr. Buffett, with the preferred shares carrying a requirement that Goldman and G.E. pay a 10 percent premium to buy Berkshire out. Goldman has since bought back Mr. Buffett’s holdings, while G.E. has said that it intends to do so.

By some measures, his Bank of America investment closely resembles the earlier deals. Each contained investments of $5 billion or lower and the deals all included warrants with strike prices near the pre-deal share price. During the crisis, however, Mr. Buffett commanded a steeper price.

“It was an indication of how bad it was at the time,” said Mr. Woodbury of Morningstar.

Under the terms of the Bank of America deal, Berkshire will buy $5 billion of preferred stock that will pay a 6 percent annual dividend. Mr. Buffett also will receive warrants for 700 million shares that he can exercise over the next 10 years. Bank of America has the option to buy back the preferred shares at any time for a 5 percent premium.

The deal is expected to close on Sept. 1, according to a regulatory filing.

It was the sort of move that many industry insiders had been expecting. In May, Morgan Stanley’s chief executive, James P. Gorman, told reporters at his firm’s annual meeting that a big-name investor was bound to jump into financials, prompting “the malaise to lift.”

Jason Goldberg, an analyst with Barclays, on Thursday commended Bank of America for being the one to nab the highly coveted “Buffett seal of approval.”

In the video below, Susanne Craig discusses Warren E. Buffett’s decision to invest $5 billion in Bank of America.

Article source: http://dealbook.nytimes.com/2011/08/25/buffetts-bank-of-america-stake-viewed-as-seal-of-approval/?partner=rss&emc=rss

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