December 16, 2019

Deal Professor: Buffett, With His Magic Touch, May Be Irreplaceable

Harry Campbell

Acquisitions usually come with a nice premium for the seller. But when Warren E. Buffett is the buyer, there is typically something of a discount.

The ability to make acquisitions on favorable terms is a testament to Mr. Buffett’s personality and skills as a deal maker. It also highlights an almost unsolvable problem for his company, Berkshire Hathaway, and its shareholders. When its 82-year-old chief executive is gone, who will negotiate such sweet deals?

A case in point is the $28 billion buyout of the H.J. Heinz Company by Berkshire Hathaway and a partner, the investment firm 3G Capital. The deal, announced in February, is expected to be completed by the end of the summer.

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Heinz had three investment bankers to advise it: Centerview Partners, Bank of America Merrill Lynch and Moelis Company. Going through Heinz’s disclosure of the bankers’ analysis, it is pretty clear that Berkshire and 3G did not pay top dollar.

Berkshire Hathaway and 3G are paying a 19.1 percent premium over the closing price of Heinz shares the day before the acquisition was announced. This is below the average premium of 31 percent in the industry that Heinz’s own investment banking firm Centerview Partners used to determine the fairness of the transaction.

The two buyers are also paying a multiple of 11.9 times the last 12 months of Heinz’s earnings before interest, taxes, depreciation and amortization, or Ebitda. This compares with a range of 8.8 to 15.6 times, the ratio paid in comparable acquisitions of food companies disclosed by Bank of America Merrill Lynch.

The bottom line is that the bankers’ disclosure shows that the amount that 3G and Berkshire paid was below that of many other deals in the food industry.

The two buyers did not pay top dollar, but they did pay a fair price for Heinz and are certainly not paying as low a multiple as in other deals, like Kohlberg Kravis Roberts’s $5.3 billion acquisition of Del Monte Foods in 2010, which had a multiple of almost nine times.

Where it gets really tasty, though, are the terms that Berkshire negotiated for its own investment. In addition to putting up half the equity with 3G, or $4.12 billion each, Berkshire made an $8 billion investment for preferred stock.

And boy, is that preferred stock investment on good terms. It pays 9 percent interest, and has a redemption feature at “at a significant premium price,” according to Mr. Buffett.

This gives real downside protection to Berkshire for the investment. Not only that, but in exchange for the preferred investment, Berkshire was also issued warrants to buy 5 percent of Heinz for a “nominal” price, or in other words, pennies.

Mr. Buffett is getting 55 percent of Heinz plus an interest payment of $700 million a year. This is an extraordinarily good deal.

To see why, you need only to look at the terms of the rest of the financing. Heinz is taking on $14.1 billion in additional debt to help finance this deal. The debt takes several forms, and one part of it is $3.1 billion of high-yield notes at a 4.25 percent interest rate.

This yield is extraordinarily low, given that high-yield debt is ordinarily in the double digits. But this is no ordinary time, and despite the low yield, the issue was more than three times oversubscribed.

In this light, the relatively high 9 percent payment on the preferred stock investment plus its bonus features seem out of whack. 3G could have found cheaper financing by a few percentage points lower than it will pay on the preferred investment, even though Heinz will be laden with debt. The higher rate on the preferred investment will translate into a couple hundred million dollars more each year for Berkshire Hathaway.

As for Berkshire, it just sold five-year debt yielding a measly 1.3 percent. Basically, Berkshire’s financing costs for its preferred investment are most likely around 1 percent, meaning that it is earning in the double digits on the preferred investment. Then there is the upside on the $4 billion equity investment.

The Heinz deal aptly illustrates the huge issue looming for Berkshire shareholders. Simply put, Mr. Buffett negotiated a deal almost no one else on the planet could have received.

If this deal was better for Berkshire than 3G, you may ask why 3G would agree to it. I suspect that it is really paying to be associated with the Oracle of Omaha and his magic. Mr. Buffett has a unique ability to not only score a low acquisition price, but he can scare off competitors and attract other investors. Boards of target companies also appear to run into his grasp.

Heinz is again a good example. According to Heinz, 3G and Berkshire Hathaway made a first bid at $70 a share and then after one round of bargaining raised their bid to a best and final offer of $72.50 a share. That was it. Heinz accepted the bid without speaking to any other parties.

The reason that Heinz gave for failing to look for other bidders was that its investment bankers informed the Heinz board that “strategic acquirers” were unlikely.

Moreover, these bankers also told the board that if Heinz did solicit “alternative acquisition proposals,” 3G and Berkshire Hathaway were likely to withdraw their proposal.

In other words, Heinz’s board decided to deal only with Berkshire. And when Heinz requested the chance to solicit other bidders after announcement of the deal, through a so-called go-shop period, Berkshire and 3G said no.

Heinz and 3G declined to comment on the deal. Berkshire did not respond to a request for comment.

The Heinz board’s quick acquiescence is not unusual for Buffett deals. In Berkshire’s $9 billion acquisition of Lubrizol and $26.5 billion acquisition of Burlington Northern, neither board appeared to negotiate particularly hard. In Lubrizol’s case, its board accepted Mr. Buffett’s first bid of $135 a share. In Burlington Northern’s case, the board accepted Mr. Buffett’s first bid of $100 a share after he said that was all he could pay. The Heinz shareholders are lucky their board held out for at least one raise.

When it comes to Mr. Buffett, boards roll over. According to a draft paper by Shane Corwin, Matt Cain and myself, the median number of bidding rounds in public deals from 2006 to 2011 was four, and only 16 percent of bidders made a best and final offer.

Mr. Buffett is thus an outlier in that he will not raise a bid significantly from his first or contemplate target companies speaking to other possible buyers. But unlike other bidders, boards do not push back with Mr. Buffett.

Only someone with his magic touch could do this. Boards, buyers and everyone else want to be associated with Mr. Buffett. This is perhaps why he was also able to work his magic on 3G, getting a financing co-partner deal that others couldn’t.

As for competing bidders, they too appear to be unwilling to challenge him. In Heinz’s case, Mr. Buffett not only got a better deal with his partner, he may have saved a few dollars a share in the total price paid. It all adds up over time.

Heinz’s shareholders don’t appear to be complaining about the possible loss of a few dollars a share. Happy to get a premium, they approved the deal, a transaction recommended by the proxy advisory services.

The question really is what happens once Mr. Buffett isn’t around. Berkshire will still be a gigantic company with a lot of cash, but there are other companies out there of the same ilk. It all means that unless Berkshire can find another Warren Buffett, it may find its returns just aren’t as good.

Even though Mr. Buffett has hired and groomed other executives, he is a true star, and he cannot just create or transmit those qualities, which are the very ones that get those great deals. Unfortunately, there is only one Oracle of Omaha.


Article source: http://dealbook.nytimes.com/2013/05/21/buffett-with-his-magic-touch-may-be-irreplaceable/?partner=rss&emc=rss

Alan Abelson, Barron’s Columnist and Editor, Dies at 87

The cause was a heart attack, his daughter, Reed Abelson, a business reporter for The New York Times, said.

No subject was sacred to Mr. Abelson, including the celebrated investor Warren Buffett, whom he chided in his column, “Up Down Wall Street,” for being overly optimistic in the 1996 annual report of his company, Berkshire Hathaway. Mr. Abelson suggested that Mr. Buffett should have added the words “just kidding.”

In the 1990s, he was consistently scathing in his criticism of the run-up in technology stocks, a stance that was proved right when the tech bubble burst. In December 1992, he pointed out that the $28 billion I.B.M. investors had lost that year exceeded the $16 billion estimated cost of cleaning up after Hurricane Andrew. “The case for an official designation of I.B.M. as a disaster area seems unanswerably compelling,” he wrote.

His sarcasm about government economic promises was biting. “We’ll get a second-half recovery,” he once wrote, “it just won’t be the second half of this year.”

Mr. Abelson was one of those rare journalists who come to personify their publications. Barron’s, a weekly tabloid that is more technical than most popular financial magazines, comes out on Saturdays. In the days before global markets, readers of Mr. Abelson’s tips and analyses on Barron’s front page could ponder their moves on Sunday, a day before the markets opened. Barron’s, which has a circulation of about 300,000, has been published by Dow Jones Company since 1921. Dow Jones has been owned by the News Corporation since 2007.

Mr. Abelson’s power prompted executives worried about negative articles to threaten to punch him in the nose early in his career and to sue him in later, gentler times. “Go right ahead” was his brisk rejoinder to those threatening to sue. Many did, but none won.

The losers included Business Week magazine, which in 1975 reported that some investors sometimes found out the contents of Mr. Abelson’s column in advance. He responded with a libel suit demanding that McGraw-Hill, Business Week’s owner, admit that it had no reason to believe he had leaked information on purpose or acted unethically. McGraw-Hill made the admission, and Mr. Abelson dropped his suit.

Alan Howard Abelson was born in New York City on Oct. 12, 1925, grew up in Queens and attended Townsend Harris High School. He entered the City College of New York at 15, studied chemistry and English, and graduated in 1946. The next year, he earned a master’s degree in creative writing from the University of Iowa, and went to work as a freelance journalist.

He became a copy boy at The New York Journal-American in 1950 and was promoted to reporter and then, with a $5-a-week raise, to stock market columnist.

Mr. Abelson joined Barron’s as a reporter in 1956 and was named managing editor in 1965. He started his column in January 1966 as a piecing together of odds and ends about the stock market. His last column, three months ago, sardonically defined a Wall Street expert as anyone who can spell Mr. Buffett’s name.

In 1981, Mr. Abelson was appointed Barron’s top editor. Dow Jones asked him to resign in 1992 after circulation fell, but allowed him to continue writing his column. “I’m a terrible manager,” he told Manhattan Inc.

Mr. Abelson’s wife, the former Virginia Eloise Peterson, who owned a bookstore in Croton-on-Hudson, N.Y., died in 1999. In addition to his daughter, he is survived by his son, Justin, editorial page editor of The Recorder of Greenfield, Mass., and five grandchildren.

In 1998, the G. R. Loeb Foundation gave Mr. Abelson its lifetime achievement award. “Few journalists have been as influential as Alan Abelson,” the foundation said. “For 41 years he has given us his insights, wisdom and a moral view of a world in which ethics and straight dealings are often rare commodities.”

What many readers and investors most valued in him was his insistent contrarianism in the face of boosters proclaiming the wonders of a particular stock. “He never promises false hope,” The Street.com said in 2001. “Rather no hope. For that, his readers love him.”

Article source: http://www.nytimes.com/2013/05/11/business/media/alan-abelson-barrons-columnist-and-editor-dies-at-87.html?partner=rss&emc=rss

DealBook: Buffett’s Annual Letter Plays Up Newspapers’ Value

Warren Buffett, the billionaire investor and chief of Berkshire Hathaway.Cliff Owen/Associated PressWarren Buffett, the billionaire investor and chief of Berkshire Hathaway.

Over the last half-century, Warren E. Buffett has built a reputation as a contrarian investor, betting against the crowd to amass a fortune estimated at $54 billion.

Mr. Buffett underscored that contrarian instinct in his annual letter to shareholders published on Friday. In a year when Mr. Buffett did not make any large acquisitions, he bought dozens of newspapers, a business others have shunned. His company, Berkshire Hathaway, has bought 28 dailies in the last 15 months.

“There is no substitute for a local newspaper that is doing its job,” he wrote.

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Those purchases, which cost Mr. Buffett a total of $344 million, are relatively minor deals for Berkshire, and just a small part of the giant conglomerate. And Mr. Buffett has begun this year with a bang, announcing last month his takeover, along with a Brazilian investment group, of the ketchup maker H. J. Heinz for $23.6 billion.

Despite the Heinz acquisition, Mr. Buffett bemoaned his inability to do a major deal in 2012. “I pursued a couple of elephants, but came up empty-handed,” he said, adding that “our luck, however, changed early this year” with the Heinz purchase.

Written in accessible prose largely free of financial jargon, Berkshire’s annual letter holds appeal far beyond Wall Street. This year’s dispatch contained plenty of Mr. Buffett’s folksy observations about investing and business that his devotees relish.

“More than 50 years ago, Charlie told me that it was far better to buy a wonderful business at a fair price than to buy a fair business at a wonderful price,” Mr. Buffett wrote, referring to his longtime partner at Berkshire, Charlie Munger.

Mr. Buffett also struck a patriotic tone, directly appealing to his fellow chief executives “that opportunities abound in America.” He noted that the United States gross domestic product, on an inflation-adjusted basis, had more than quadrupled over the last six decades.

“Throughout that period, every tomorrow has been uncertain,” he wrote. “America’s destiny, however, has always been clear: ever-increasing abundance.”

The letter provides more than entertainment value and patriotic stirrings, delivering to Berkshire shareholders an update on the company’s vast collection of businesses. With a market capitalization of $250 billion, Berkshire ranks among the largest companies in the United States.

Its holdings vary, with big companies like the railroad operator Burlington Northern Santa Fe and the electric utility MidAmerican Energy, and smaller ones like the running-shoe outfit Brooks Sports and the chocolatier See’s Candies. All told, Berkshire employs about 288,000 people.

The letter, once again, did not answer a question that has vexed Berkshire shareholders and Buffett-ologists: Who will succeed Mr. Buffett, who is 82, as chief executive?

Last year, he acknowledged that he had chosen a successor, but he did not name the candidate.

He has said that upon his death, Berkshire will split his job in three, naming a chief executive, a nonexecutive chairman and several investment managers of its publicly traded holdings.

In 2010, he said that his son, Howard Buffett, would succeed him as nonexecutive chairman.

Berkshire’s share price recently traded at a record high, surpassing its prefinancial crisis peak reached in 2007 and rising about 22 percent over the last year.

The company reported net income last year of about $14.8 billion, up about 45 percent from 2011. Yet the company’s book value, or net worth — Mr. Buffett’s preferred performance measure — lagged the broader stock market, increasing 14.4 percent, compared with the market’s 16 percent return.

Mr. Buffett lamented that 2012 was only the ninth time in 48 years that Berkshire’s book value increase was less than the gain of the Standard Poor’s 500-stock index. But he pointed out that in eight of those nine years, the S. P. had a gain of 15 percent or more, suggesting that Berkshire proved to be a most valuable investment during bad market periods.

“We do better when the wind is in our face,” he wrote.

For Berkshire’s largest collection of assets, its insurance operations, the wind has been at its back. We “shot the lights out last year” in insurance, Mr. Buffett said.

He lavished praise on the auto insurer Geico, giving a special shout-out to the company’s mascot, the Gecko lizard.

Investors also keep a keen eye on changes in Berkshire’s roughly $87 billion stock portfolio. Its holdings include large positions in iconic companies like International Business Machines, Coca-Cola, American Express and Wells Fargo. He said Berkshire’s investment in each of those was likely to increase in the future.

Mae West had it right: ‘Too much of a good thing can be wonderful,’ ” Mr. Buffett wrote.

He also heaped praise on two relatively new hires, Todd Combs and Ted Weschler, who now each manage about $5 billion in stock portfolios for Berkshire. Both men ran unheralded, modest-size money management firms before Mr. Buffett plucked them out of obscurity and moved them to Omaha to work for him.

He called the men “a perfect cultural fit” and indicated that the two would manage Berkshire’s entire stock portfolio once he steps aside. “We hit the jackpot with these two,” Mr. Buffett said, noting that last year, each outperformed the S. P. by double-digit margins.

Then, sheepishly, employing supertiny type, he wrote: “They left me in the dust as well.”

A former paperboy and member of the Newspaper Association of America’s carrier hall of fame, Mr. Buffett devoted nearly three out of 24 pages of his annual report to newspapers.

While Mr. Buffett has been a longtime owner of The Buffalo News and a stakeholder in The Washington Post Company, he told shareholders four years ago that he wouldn’t buy a newspaper at any price.

But his latest note reflects how much his opinion has turned. His buying spree started in November 2011, when he struck a deal to buy The Omaha World-Herald Company, this hometown paper, for a reported $200 million. By May 2012, he bought out the chain of newspapers owned by Media General, except for The Tampa Tribune. In recent months, he continued to express his interest in buying more papers “at appropriate prices — and that means a very low multiple of current earnings.”

“Papers delivering comprehensive and reliable information to tightly bound communities and having a sensible Internet strategy will remain viable for a long time,” wrote Mr. Buffett.

Mr. Buffett said in a telephone interview last month that he would consider buying The Morning Call of Allentown, Pa., a paper that the Tribune Company is considering selling. But Mr. Buffett said he had not contacted Tribune executives.

“It’s solely a question of the specifics of it and the price,” he said about the Allentown paper. “But it’s similar to the kinds of communities that we bought papers in.”

Mr. Buffett has plenty of cash to make more newspaper acquisitions. To cover his portion of the Heinz purchase, Mr. Buffett will deploy about $12 billion of Berkshire’s $42 billion cash hoard. That leaves a lot of money for Mr. Buffett to continue his shopping spree for newspapers — and more major acquisitions like Heinz.

“Charlie and I have again donned our safari outfits,” Mr. Buffett wrote, “and resumed our search for elephants.”

Article source: http://dealbook.nytimes.com/2013/03/01/buffett%E2%80%99s-annual-letter-plays-up-newspapers%E2%80%99-value/?partner=rss&emc=rss

Common Sense: Mindful of Bubbles as Deal-Making Boom Begins

Mr. Buffett is hardly the only buyer pursuing deals now that the stock market is hitting levels last seen in 2007. The Wilshire 5000 index recently set a record, and the Dow Jones industrial average has pierced 14,000 several times in the last three weeks.

Thomson Reuters reports that during the first two months of 2013 there have been over a thousand deals valued at almost $163 billion in total. That’s more than double the amount for the same months in 2012. If this blistering pace continues, merger and buyout deals could surpass $2 trillion in 2013, far more than the $1.57 trillion in 2007.

We all know what happened after that. From its peak in October 2007, the Standard Poor’s 500-stock index plunged 56 percent.

“Buy low and sell high” is probably the most common adage in investing. So why do so many highly paid chief executives of acquiring companies persist in doing the opposite?

Mr. Buffett, it should be said, may be the exception that proves the rule, since he’s been among the few willing to make big deals when stocks are cheap.

His company, Berkshire Hathaway, completed a $34 billion purchase of Burlington Northern in November 2009, when the S. P. 500 hit an 11-year low. It surely ranks as one of the best deals ever, since stocks generally, and railroad stocks in particular, have surged since then.

Mr. Buffett kept busy throughout the downturn, buying profitable stakes in Goldman Sachs and General Electric in the depths of 2008 while also bolstering investor confidence.

But even Mr. Buffett can get swept up in a deal-making frenzy. He called his 2007 investment in the Texas utility TXU bonds a “huge mistake” and “unforced error.” The $45 billion TXU buyout, led by Kohlberg Kravis Roberts, a veteran deal maker and buyout firm, still ranks as the biggest leveraged buyout ever — and may turn out to be one of the worst.

“You always see a lot of M. A. activity when the market is overvalued,” Matthew Rhodes-Kropf, an associate professor at Harvard Business School who has studied the phenomenon and also advises private equity and venture capital firms. “Of course, you only know a market peak with benefit of hindsight. But when you look back, you’ll see a lot of M. A. activity.”

One reason is that there has to be two sides to every deal, and, “When prices are low, sellers don’t want to sell,” Professor Rhodes-Kropf said. “They know their stock will go up with even modest growth. All they have to do is hang on.”

The same thing happened after the recent real estate crash, when owners withdrew their homes from the market rather than sell at fire-sale prices, and the number of transactions plunged.

Conversely, as stock prices rise, some executives start to worry about their ability to meet investors’ growth expectations and whether their stocks are getting overvalued, Professor Rhodes-Kropf said. A merger or buyout may provide an attractive option, both for the seller, who can cash in at a premium, and the buyer, who gets immediate revenue gains and may benefit from the growth prospects at the newly acquired company.

Professor Rhodes-Kropf’s research suggests that mergers and buyouts occur disproportionally in overvalued industries and overvalued companies.

Still, that doesn’t explain why so many mergers and buyouts occur when the stock market is as overvalued as it turned out to be in both 2000 and 2007. You’d expect sellers to be plentiful, but not buyers.

Stephen A. Schwarzman, chairman and chief executive of Blackstone Group, one of Wall Street’s best-known and most successful deal makers, told me this week that early in the merger cycle: “You typically buy companies that are in the same industry or where there’s a fit. Those deals tend to be smart, pretty reasonable, and they usually work.”

Article source: http://www.nytimes.com/2013/02/23/business/mindful-of-bubbles-as-deal-making-boom-begins.html?partner=rss&emc=rss

DealBook: Confidence on Upswing, Mergers Make Comeback

William Johnson, left, the chief of H.J. Heinz, and Alex Behring, a managing partner at 3G Capital.Keith Srakocic/Associated PressWilliam Johnson, left, the chief of H.J. Heinz, and Alex Behring, a managing partner at 3G Capital.

The mega-merger is back.

For the corporate takeover business, the last half-decade was a fallow period. Wall Street deal makers and chief executives, brought low by the global financial crisis, lacked the confidence to strike the audacious multibillion-dollar acquisitions that had defined previous market booms.

Cycles, however, turn, and in the opening weeks of 2013, merger activity has suddenly roared back to life. On Thursday, Berkshire Hathaway, the conglomerate run by Warren E. Buffett, said it had teamed up with Brazilian investors to buy the ketchup maker H. J. Heinz for about $23 billion. And American Airlines and US Airways agreed to merge in a deal valued at $11 billion.

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Those transactions come a week after a planned $24 billion buyout of the computer company Dell by its founder, Michael S. Dell, and private equity backers. And Liberty Global, the company controlled by the billionaire media magnate John C. Malone, struck a $16 billion deal to buy the British cable business Virgin Media.

“Since the crisis, one by one, the stars came into alignment, and it was only a matter of time before you had a week like we just had,” said James B. Lee Jr., the vice chairman of JPMorgan Chase.

Still, bankers and lawyers remain circumspect, warning that it is still too early to declare a mergers-and-acquisitions boom like those during the junk bond craze of 1989, the dot-com bubble of 1999 and the leveraged buyout bonanza of 2007. They also say that it is important to pay heed to the excesses that developed during these moments of merger mania, which all ended badly.

A confluence of factors has driven the recent deals. Most visibly, the stock market has been on a tear, with the Standard Poor’s 500-stock index this week briefly hitting its highest levels since November 2007. Higher share prices have buoyed the confidence of chief executives, who now, instead of retrenching, are looking for ways to expand their businesses.

A number of clouds that hovered over the markets last year have also been removed, eliminating the uncertainty that hampered deal making. Mergers and acquisitions activity in 2012 remained tepid as companies took a wait-and-see approach over the outcome of the presidential election and negotiations over the fiscal cliff. The problems in Europe, which began in earnest in 2011, shut down a lot of potential transactions, but the region has since stabilized.

“When we talk to our corporate clients as well as the bankers, we keep hearing them talk about increased confidence,” said John A. Bick, a partner at the law firm Davis Polk Wardwell, who advised Heinz on its acquisition by Mr. Buffett and his partners.

Mr. Bick said that mega-mergers had a psychological component, meaning that once transactions start happening, chief executives do not want to be left behind. “In the same way that success breeds success, deals breed more deals,” he said.

A central reason for the return of big transactions is the mountain of cash on corporate balance sheets. After the financial crisis, companies hunkered down, laying off employees and cutting costs. As a result, they generated savings. Today, corporations in the S. P. 500 are sitting on more than $1 trillion in cash. With interest rates near zero, that money is earning very little in bank accounts, so executives are looking to put it to work by acquiring businesses.

The private equity deal-making machine is also revving up again. The world’s largest buyout firms have hundreds of billions of dollars of “dry powder” — money allotted to deals in Wall Street parlance — and they are on the hunt. The proposed leveraged buyout of Dell, led by Mr. Dell and the investment firm Silver Lake Partners, was the largest private equity transaction since July 2007, when the Blackstone Group acquired the hotel chain Hilton Worldwide for $26 billion just as the credit markets were seizing up.

But perhaps the single biggest factor driving the return of corporate takeovers is the banking system’s renewed health. Corporations often rely on bank loans for financing acquisitions, and the ability of private equity firms to strike multibillion-dollar transactions depends on the willingness of banks to lend them money.

For years, banks, saddled by the toxic mortgage assets weighing on their balance sheets, turned off the lending spigot. But with the housing crisis in the rearview mirror and economic conditions slowly improving, banks are again lining up to provide corporate loans at record-low interest rates to finance acquisitions.

The banks, of course, are major beneficiaries of megadeals, earning big fees from both advising on the transactions and lending money to finance them. Mergers and acquisitions in the United States total $158.7 billion so far this year, according to Thomson Reuters data, more than double the amount in the same period last year. JPMorgan, for example, has benefited from the surge, advising on four big deals in recent weeks, including the Dell bid and Comcast’s $16.7 billion offer for the rest of NBCUniversal that it did not already own.

Mr. Buffett, in a television interview last month, declared that the banks had repaired their businesses and no longer posed a threat to the economy. “The capital ratios are huge, the excesses on the asset aside have been largely cleared out,” said Mr. Buffett, whose acquisition of Heinz will be his second-largest acquisition, behind his $35.9 billion purchase of a majority stake in the railroad company Burlington Northern Santa Fe in 2009.

While Wall Street has an air of giddiness over the year’s start, most deal makers temper their comments about the current environment with warnings about undisciplined behavior like overpaying for deals and borrowing too much to pay for them.

Though private equity firms were battered by the financial crisis, they made it through the downturn on relatively solid ground. Many of their megadeals, like Hilton, looked destined for bankruptcy after the markets collapsed, but they have since recovered. The deals have benefited from an improving economy, as well as robust lending markets that allowed companies to push back the large amounts of debt that were to have come due in the next few years.

But there are still plenty of cautionary tales about the consequences of overpriced, overleveraged takeovers. Consider Energy Future Holdings, the biggest private equity deal in history. Struck at the peak of the merger boom in October 2007, the company has suffered from low natural gas prices and too much debt, and could be forced to restructure this year. Its owners, a group led by Kohlberg Kravis Roberts and TPG, are likely to lose billions.

Even Mr. Buffett made a mistake on Energy Future Holdings, having invested $2 billion in the company’s bonds. He admitted to shareholders last year that the investment was a blunder and would most likely be wiped out.

“In tennis parlance,” Mr. Buffett wrote, “this was a major unforced error.”

Michael J. de la Merced contributed reporting.

Article source: http://dealbook.nytimes.com/2013/02/14/confidence-on-upswing-mergers-make-comeback/?partner=rss&emc=rss

DealBook: Behind an Estimated $30 Trillion Drain on Banks, a Lot of Hypotheticals

Warren E. Buffett, the chief of Berkshire Hathaway. In the face of new margin rules, the company said it won't be entering any big new derivatives bets.Cliff Owen/Associated PressWarren E. Buffett, the chief of Berkshire Hathaway. In the face of new margin rules, the company said it won’t be entering any big new derivatives bets.

Imagine a situation in which the world’s banks have to find as much as $30 trillion to comply with just one new regulation. That might be something of a stretch, given that the gross domestic product of the United States is only $15.8 trillion, and the world’s 10 largest banks hold only $25 trillion of assets.

Yet a banking industry group recently looked into a new rule and sketched out a possibility in which banks were forced to come up with as much as $30 trillion in cash.

The potential cash call is outlined in a letter the International Swaps and Derivatives Association sent in September to regulators. It is the latest eye-popping number that lobbying firms and banks have produced to support their view that many new regulations will be enormously expensive — and the big, scary numbers seem to be gaining traction.

Some of the concern may be warranted, especially in Europe, where certain stressed banks have had trouble borrowing regular amounts in the markets. But a deeper look at the industry association’s $30 trillion figure suggests that many of the worries might be overdone.

The gargantuan sum relates to the market for derivatives, which are financial contracts that banks and investors use to bet on interest rates, stock prices, creditworthiness of corporations and the like.

Derivatives played a central role in the 2008 financial crisis. The market for many contracts was opaque, which stoked panic when certain players started to falter.

Before the financial crisis, big participants like large Wall Street banks were often able to avoid following certain rules intended to make the market safer. One of those practices involves something called initial margin. This is the cash or easy-to-sell assets that parties have to set aside at the outset of a derivatives trade. If one side can’t pay up, the other side can make a claim on the initial margin.

Now, regulators want to tighten up the margin rules. To do so, they are introducing regulations aimed at pushing derivatives trades through entities called central clearinghouses. These organizations effectively agree to pay out if one side of the original trade cannot pay.

Because of that pledge, clearinghouses have to make sure they can pay out if one party defaults. One way they do this is to demand margin from the parties that trade through them.

But a large number of derivatives trades won’t necessarily go through clearinghouses, even after the overhaul is in place. Such trades will still be done directly between two financial firms.

Regulators have proposed rules that force firms to supply initial margin on these so-called bilateral trades, too. These rules, which won’t apply to pre-existing trades, may not come into effect until late 2013 in the United States.

The International Swaps and Derivatives Association and many others want to stop or water down those margin rules on bilateral trades. In its paper, the association argued against initial margin rules, saying they were “likely to lead to a significant liquidity drain on the market, estimated to be in the region of $15.7 trillion to $29.9 trillion.” In other words, it believes there is a possibility that the rule could cost $30 trillion.

So, how likely is such a drain? A clue can be found in the $14 trillion range in the association’s estimates.

Under its lower estimate, the industry group assumes that many banks calculate their derivatives exposures in an advantageous manner sanctioned by the proposed regulations. Specifically, the rules allow banks to offset certain trades with each other. This has the effect of reducing a bank’s overall derivatives exposure for the purposes of calculating margin.

The upshot: Less margin is needed. At one stage in its analysis, the derivatives association says using this approach might reduce by half the overall amount of derivatives in the calculation.

But why wouldn’t the reduction be far more than $14 trillion, or roughly 50 percent? After all, net exposure can be reduced quite sharply by using the offsetting method. For instance, a bank may have $50 billion on trades betting that stocks go up and $49 billion on trades betting stocks go down, leading to a $1 billion net exposure for the bank.

Steven Kennedy, a spokesman for the association, says it chose 50 percent based partly on its estimates of how many firms might have the required technology to carry out offsetting. In essence, the numbers involve a lot of hypothetical assumptions.

This weakness applies to other, lower-margin estimates from opponents of the new rules.

Last year, the Office of the Comptroller of the Currency, a federal bank regulator, estimated that initial margin rules could lead to a $2 trillion burden for banks, a smaller but still alarming figure. The number was cited in several letters and studies from lawyers and lobbyists arguing against the margin rule. The comptroller listed three factors that might lead to banks posting less than $2 trillion. But, the study added, “at present, we are unable to estimate the mitigating effects of these three factors.”

Bryan Hubbard, a spokesman for the comptroller, said the paper reflected the comptroller’s best analysis at the time. He added, “The O.C.C. is likely to update the analysis when a final rule is issued.”

Other opponents of initial margin rules have been similarly vague when gauging factors that might reduce the burden. JPMorgan Chase sent a letter last year to regulators criticizing the initial margin rule, saying it might need to collect $1.4 trillion from its trading partners if it did not use the offsetting approach. The letter did say an offsetting approach might “produce smaller initial margin amounts.” Still, it didn’t specify how much smaller.

The initial-margin rules may prompt some firms to stop doing bilateral derivatives trades. Some financial companies have even started down that path.

In the face of new margin rules, Berkshire Hathaway said this year that it would not be entering any big new derivatives bets. “We shun contracts of any type that could require the instant posting of collateral,” Warren E. Buffett, the company’s chief executive, wrote in its latest annual report.

Article source: http://dealbook.nytimes.com/2012/10/29/behind-estimated-30-trillion-drain-a-lot-of-hypothetical-assumptions/?partner=rss&emc=rss

DealBook Column: Paul Ryan and What Wall Street Should Know

Paul Ryan dislikes the Dodd-Frank Act's ability to safely dismantle failing banks, a provision Wall Street strongly favors.Ben Garvin for The New York TimesPaul Ryan dislikes the Dodd-Frank Act’s ability to safely dismantle failing banks, a provision Wall Street strongly favors.

He could be mistaken for a Wall Street banker. Or perhaps a hedge fund manager. Or even a managing director at a private equity firm, like Bain Capital.

Paul Ryan, with his clean-cut Brooks Brothers looks and wonky obsession with spreadsheets, could be just the archetype of a Wall Streeter.

Mitt Romney’s new running mate even trades stocks in his spare time. He’s a fan of the nation’s blue chips: among the stocks he owns are Apple, Exxon Mobil, General Electric, I.B.M., Procter Gamble, Wells Fargo, Google, McDonald’s, Nike and Berkshire Hathaway, according to his latest disclosure filing.

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Mr. Ryan is a disciple of Ayn Rand and Milton Friedman, two figures long associated with free markets.

And he has the support of some powerful backers in finance: his top donors include employees of Wells Fargo, UBS, Goldman Sachs and Bank of America. For his 2012 Congressional race, he raised about $179,000 from securities professionals (not a large sum, but certainly the single largest sector that donated money to his campaign).

One of the biggest contributors to his political action committee is from Paul Singer’s hedge fund, Elliott Management. And Dan Senor, recently an investment adviser to Elliott Management, was just named Mr. Romney’s new adviser. But what does Mr. Ryan think about Wall Street? His views may surprise you.

Mr. Ryan, who voted in 1999 to repeal parts of the Glass-Steagall Act, allowing commercial and investment banks to merge, now appears to be in the same change-of-heart camp as Sandy Weill, the former chief executive of Citigroup, who recently declared that the banks should be broken up.

“We should make sure you can’t get too big where you’re going to become too big to fail and trigger a bailout,” Mr. Ryan said during a meeting with constituents in May in Wisconsin. “If you’re a bank and you want to operate like some nonbank entity like a hedge fund, then don’t be a bank. Don’t let banks use their customers’ money to do anything other than traditional banking.”

With a view like that, Mr. Ryan faces a challenge winning the support of the likes of Jamie Dimon, the chairman of JPMorgan Chase and a vocal supporter of the big bank model. (Mr. Dimon, a onetime supporter of President Obama, had recently been hinting he could vote for Mr. Romney, regularly calling himself “barely a Democrat.”)

Mr. Ryan is also an ardent critic of the Dodd-Frank Act, the postcrisis Wall Street legislation. But, oddly enough, the provision he dislikes the most is the one that has the greatest support of the industry: a tool known as resolution authority, which gives the government the authority to dismantle a failing bank without wreaking havoc on the rest of the system. It was a provision that was supported by the former Republican Treasury Secretary Henry M. Paulson Jr. “We would have loved to have something like this for Lehman Brothers. There’s no doubt about it,” Mr. Paulson told me two years ago. The provision was also supported almost universally by Wall Street as a way to end the “too big to fail” problem.

Mr. Ryan’s 2013 budget proposal sought to remove the resolution authority provision saying, “While the authors of the Dodd-Frank Act went to great lengths to denounce bailouts, this law only sustains them.”

It is worth noting that Mr. Ryan voted in favor of the bank bailout in 2008, known as TARP or Troubled Asset Relief Program. Ahead of the vote, he encouraged his colleagues in the House to vote in favor of it to avoid “this Wall Street problem infecting Main Street.”

He added: “This bill offends my principles, but I’m going to vote for this bill in order to preserve my principles, in order to preserve this free enterprise system. We’re in this moment and if we fail to do the right thing, heaven help us.”

While Mr. Ryan may appear to be a friend of business, he doesn’t agree with the industry’s biggest talking point these days, the Simpson-Bowles deficit reduction plan. He was a member of the commission and voted it down, arguing that it did not go far enough in overhauling health care entitlements.

He later criticized President Obama for not supporting it. That prompted Gene Sperling, director of the National Economic Council under President Obama, to retort on CNN:

Paul Ryan, talking about walking away from a balanced plan like Bowles-Simpson is, I don’t know, somewhere between laughable and a new definition for chutzpah.”

Oddly enough, Erskine Bowles, a Democrat, praised Mr. Ryan’s proposed budget in a speech in 2011, saying, “I always thought that I was O.K. with arithmetic, but this guy can run circles around me.”

Mr. Ryan also bucked the conventional Wall Street wisdom on how to deal with the debt ceiling. Many investment managers are wringing their hands about the uncertainty that the debate over the “fiscal cliff” is creating for markets. Last year, three months before the debt ceiling debate reached a peak, Mr. Ryan said that he was prepared to let the government default on its debt for at least several days if it would force Democrats to accept deeper cuts.

“They all say, ‘Whatever you do, make sure you get real spending cuts,’ ” Mr. Ryan told CNBC about the way investors, including the hedge fund manager Stanley Druckenmiller, wanted him to vote. “Because you want to make sure that the bondholder has the confidence that the government’s going to be able to pay them. You’re putting the government in a better position to pay them.”

James Pethokoukis, a columnist for the American Enterprise Institute, which has traditionally supported Mr. Ryan, sent this Twitter message in April. “I hear what G.O.P. support there was for Obama/Bowles/Simpson debt panel plan is collapsing thanks to Ryan Plan.”

So while financiers may cheer Mr. Ryan’s pro-market policies, they may want to reassess just what those policies mean for their businesses.

A version of this article appeared in print on 08/14/2012, on page B1 of the NewYork edition with the headline: Everything Wall St. Should Know About Ryan.

Article source: http://dealbook.nytimes.com/2012/08/13/paul-ryan-and-what-wall-street-should-know/?partner=rss&emc=rss

Economix Blog: Buffett vs. Mankiw on Taxes

DAVID LEONHARDT

DAVID LEONHARDT

Thoughts on the economic scene.

By inviting Debbie Bosanek, Warren Buffett’s secretary, to sit in the first lady’s box at the State of the Union address, President Obama has signaled that he intends to talk about the tax rate on some investments. Mr. Obama and Mr. Buffett both argue that many investment managers pay too little tax, because the tax code treats their pay as an investment return — and thus taxes it at a much lower rate than ordinary income. Mr. Buffett has famously said that, as a result, his secretary pays a higher tax rate than he does.

The tax rate on many investment gains is 15 percent, while the top tax rate on ordinary income is 35 percent.

This gap goes a long way toward explaining why Mitt Romney, the Republican presidential candidate, pays a lower tax rate than many affluent Americans.

N. Gregory Mankiw, a Harvard economist and former adviser to President George W. Bush who is now advising Mr. Romney, has questioned the notion that Mr. Buffett actually pays a higher tax rate than his secretary. Writing in The New York Times in 2007, Mr. Mankiw, who is a contributor to the “Economic View” column in The Times’s Sunday Business section, argued:

Another piece of the puzzle is that Mr. Buffett’s tax burden is larger than it first appears, because he is a major shareholder in Berkshire Hathaway.

When the [Congressional Budget Office] studies the tax burden, it includes all federal taxes, including individual income taxes, payroll taxes and corporate income taxes. In its analysis, payroll taxes are borne by workers, and corporate taxes by the owners of capital. For the richest 1 percent of the population, 9.3 percentage points of their 31.1 percent tax rate comes from the taxes that corporations have paid on their behalf. The corporate tax would undoubtedly loom large if the C.B.O. were to calculate Mr. Buffett’s effective tax rate.

Mr. Mankiw’s main point is that Mr. Buffett’s true tax rate is higher than he says, because he is effectively paying corporate taxes, through his ownership stake in companies.

We invited the Center on Budget and Policy Priorities, a liberal-leaning research group in Washington, to respond to Mr. Mankiw’s argument. Chuck Marr, the center’s director of federal tax policy, wrote in an e-mail message:

Professor Mankiw identifies the best source of information on this subject: the Congressional Budget Office. Let’s take a closer look, though, at the story that the latest numbers tell. They show a country in the midst of a stunning increase in inequality, with incomes at the top rising more than ten times as fast as the incomes of middle-class Americans. At the same time, taxes have been cut dramatically for the richest people in the country – one reason why deficits have gone up in recent years. The 29.5 percent average tax rate faced by the top 1 percent used to be 37 percent in 1979.

The result is that the share of after-tax income flowing to the top 1 percent has surged from 7.5 percent in 1979 to 17 percent. This represents a shift upward of hundreds of billions of dollars each year. With huge budget deficits on the horizon and working and middle-class families struggling, it is time to reverse course and return the tax burden at the top to more reasonable levels.

Look for more discussion of this issue on both Mr. Mankiw’s blog and the center’s blog. And The Times’s Caucus blog will be following the State of the Union address all night.

Article source: http://feeds.nytimes.com/click.phdo?i=b4b27135fd5d38c24260418233346e19

Wall Street Lower Despite Buffett’s Bet

The stock market in the United States has been overwhelmed by the prospects of a global economic slowdown, a euro zone debt problem and other issues, but on Thursday there were new developments to contend with: the resignation of Steven P. Jobs as chief executive of Apple and the investment by Berkshire Hathaway, which is run by Mr. Buffett, in Bank of America.

The two surprises came as investors were trying to align their expectations for Friday’s address by the chairman of the Federal Reserve, Ben S. Bernanke, at a symposium in Jackson Hole, Wyo. Some are betting on clearer guidance, at the least, on possible stimulus measures, but there was no certainty that any would be forthcoming.

The news that Mr. Buffett had made the investment in preferred stock in the bank took place before the opening bell on Wall Street, sending futures higher. The stock reached as high as $8.80, a 27 percent gain, but the heights could not be sustained. Bank of America was trading at $7.83 by midday, and financials in general settled back to about 0.5 percent higher.

The injection from Mr. Buffett “should dampen the heightened volatility” in recent trading of the stock, said Glenn Schorr, an analyst with Nomura. He added that it was a “clear vote of confidence for the stability of Bank of America’s franchise.”

By midday, the Standard Poor’s 500-stock index and the Dow Jones industrial average were both just over 1 percent lower, with energy stocks performing the worst as crude oil prices fell.

The technology-heavy Nasdaq composite index fell 1.25 percent. Apple stock was down 1.3 percent, much less than it had fallen in overnight trading. Late Wednesday Mr. Jobs, who has been on a medical leave, announced his resignation as chief executive. “Based on the share reaction, we believe that investors had been bracing for this,” said William Kreher, senior technology analyst at Edward Jones. “In a strange way, this does create some certainty,” he said, adding that the stock had a “buy” rating.

Gold, usually a safe haven asset, continued to fall, partly because of a rise in margin requirements, which can affect trading. Comex futures were down just over 1 percent at about $1,730 an ounce. Jason D. Pride, the director of investment strategy at Glenmede, said the metal had been overpriced recently.

Yet the rush to safety seemed evident in bonds, as the 10-year Treasury price rose and its yield fell to 2.226 percent.

The outlook for the economy was somewhat soured on Thursday with a government report showing new claims for unemployment benefits in the United States rose more than expected last week, lifted mostly by striking Verizon Communications workers.

Mr. Pride said that there was enough risk of slow growth that the chances for recession were “higher than normal.”

“I think there is a lot of volatility right now because of all these uncertain factors we have,” he said. “Hopes are built in for Ben Bernanke to do something big,” he said. “If he doesn’t, it is a negative surprise to the market because enough people have factored it in.”

In Europe, markets lost ground through the afternoon, while Asia-Pacific indexes closed up more than 1 percent.

Anticipation that Mr. Bernanke could outline more stimulus measures for the ailing American economy was enough to help calm markets this week after four weeks of sharp declines.

“People are becoming a little more cautious that maybe we don’t get that big move” from the Fed, said Edmund Shing, head of European equity strategy at Barclays Capital. The Euro Stoxx 50 index was 1 percent lower Thursday and France’s CAC 40 index was down 0.7 percent.

Some banking stocks in Europe rose after Crédit Agricole, one of France’s biggest banks, reported earnings that beat analysts’ expectations. In London, shares in the commodities giant Glencore and the liquor maker Diageo rose after the companies reported higher earnings, helped by growing demand from emerging markets.

In Japan, the Nikkei 225 closed up 1.5 percent at 8,772.36 points, while the key indexes in Australia and South Korea added 1.1 percent and 0.6 percent, respectively.

The Hang Seng in Hong Kong gained 1.5 percent, while the Shanghai composite index closed 2.9 percent higher.

Julia Werdigier reported from London and Bettina Wassener contributed reporting from Hong Kong.

Article source: http://www.nytimes.com/2011/08/26/business/daily-stock-market-activity.html?partner=rss&emc=rss

Common Sense: Questioning the Dogma of Tax Rates

Warren Buffett pays a lower tax rate than his secretary and the 19 other people who work in his office. He pays a much lower rate than I do, and, I suspect, lower than nearly everyone reading this column. So, no doubt, do a long list of American billionaires, including Stephen Schwarzman of Blackstone and the hedge fund king John Paulson.

Is this fair?

The issue of tax loopholes for the rich has been simmering for months, but boiled up again this week after Mr. Buffett, the famed investor and Berkshire Hathaway chief executive, called for higher taxes for the wealthy in an Op-Ed column in The New York Times. “My friends and I have been coddled long enough by a billionaire-friendly Congress,” he wrote.

President Obama has been making a similar argument, and has made the “carried interest” exemption from ordinary income rates, which benefits hedge fund and private equity managers, the centerpiece of his tax campaign. “How can we ask a student to pay more for college before we ask hedge fund managers to stop paying taxes at a lower rate than their secretaries? It’s not fair. It’s not right,” the president said a few weeks ago.

By now it’s gospel that the carried interest exemption is a tax loophole, which suggests that those benefiting from it are somehow evading a legal obligation imposed on others in similar circumstances. For most hedge fund and private equity partnership managers, carried interest is compensation in the form of a percentage (usually 20 percent) of any gains they generate for investors. If a hedge fund manager generated $1 billion for investors by betting against mortgage-backed securities before the real estate market collapsed, the hedge fund manager is entitled to keep $200 million as compensation. The tax code treats that as a capital gain, taxed at a lower 15 percent rate. (The top rate on ordinary income is 35 percent.) The argument that this should be ordinary income rests on the notion that hedge fund managers earn these fees from their labor, just like other workers get a salary for theirs and are taxed at ordinary income rates.

This seems sensible, and the people who are laying out $45 million for Manhattan apartments and Hamptons estates and throwing themselves multimillion-dollar birthday parties make appealing targets. But like so much about the United States tax code, nothing is that simple. Carried interest is indistinguishable from nearly all other forms of compensation that are treated like capital gains, such as stock options, deferred stock grants for corporate executives and many forms of incentive compensation, which is widespread across many industries. Like all capital investments, carried interest entails risk, since there’s no way of knowing what it will be worth until long after the labor is performed, often years later.

Some argue that favorable treatment for carried interest also confers a social benefit. It aligns a manager’s financial interest with that of investors, most of whom are pension funds, endowments and other nonprofit institutions like hospitals, museums and universities.

Hedge funds and private equity managers don’t even make up the bulk of people who are compensated through carried interest. The fiercest lobbying against raising the tax on carried interest has come not from Wall Street but from the battered real estate industry, which often uses carried interest as compensation. “Why take down the entire real estate industry with the ship when the objective was to tax a different industry?” James V. Camp, chairman of legislative affairs in California for a real estate trade group, told me this week. “The real estate industry will be decimated if the carried interest taxation concept becomes law.”

This is largely why legislative efforts to eliminate the carried interest exemption have gone nowhere, not because of any special fondness in Congress for hedge fund managers. Unless Congress is willing to say baldly that hedge fund and private equity managers are a special class who deserve to pay higher taxes — a potentially dangerous effort to use the tax code to punish a group of people who are in disfavor largely because they make a lot of money — policy makers are going to have to confront a much broader and potentially far more explosive question: why are all capital gains, not just carried interest, treated more favorably than ordinary income?

The notion that low capital gains tax rates are a good thing because they promote investment, lead to job creation, encourage people to sell assets without fear of tax consequences and actually raise total tax revenue is so entrenched in both parties that the idea of equalizing capital gains and ordinary income rates is barely mentioned or, when it is, is quickly denounced. It’s become a third rail of tax policy and electoral politics. “It’s now so woven into standard thinking that it’s become a cultural norm,” a prominent hedge fund official told me this week.

Article source: http://feeds.nytimes.com/click.phdo?i=a67b1de155195b11fca4bbc68941df2a