Buffett

by Roger Lowenstein

  Bell, who spent a lot of time with Buffett in preparation, was astounded by his inside knowledge of Washington. He thought him far more complicated than his Rousseauian image:

  He’s genial. He’s not outwardly crusty. But I had the impression that Buffett was an old New England Yankee—the eighteenth-century ethic that success in business was a sign of God’s grace. There was no equivocation in morals. No room for sentimentality. He does what he wants, very logical. He has no problem with the word “no.” There is not a lot of pretense in the SOB. There are contradictions, but those are different. He’s all of a piece—but it’s a very complex piece.

  A hearing, like a trial, has a carnival spontaneity. Whatever happens, there is no second chance. Even before the doors opened on the sweltering afternoon of September 4, a crowd had formed in the hallway of the Rayburn House Office Building. Then reporters, lobbyists, onlookers burst into Room 2123. They filled the seats and stood in the aisles—the same hearing room where a glowering Michael Milken had pleaded the Fifth. The front was filled with the technical paraphernalia of journalism—television cameras with their blinding spotlights, tape recorders, photographic equipment. The audience picked out Buffett, in a dark suit, seated at the witness table, and Katharine Graham, sitting in front. Now, in their preambles, the congressmen ascended to spasms of telegenic outrage. An arrogant disdain … the American people … ripped off by a few aggressive traders … Ivan Boesky … Michael Milken … our financial culture … these disgraceful episodes …23

  Rep. Jim Slattery addressed the witness. Mr. Buffett, you have an opportunity to provide a great service for the taxpayers of this country.… And I am pleased that you have moved quickly to fire [sic] the upper managers that appear to be responsible.… And I only hope that we won’t learn in the future about any sweetheart deals with these managers that are being fired now.… And as far as I am concerned, those responsible deserve absolutely nothing from Salomon Brothers, not a dime in severance pay, not a dime in remuneration of any kind, and not a dime to pay for their defense, either … nothing but a swift kick in the butt out of Salomon Brothers and onto the street.…

  Having hanged the old regime, they rushed to praise the new. Mr. Buffett, I want to congratulate you.… Mr. Buffett, you are a man of unquestioned integrity.… Mr. Buffett … who has followed the path of the straight and true.…

  Rep. Peter Hoagland, of Omaha, rose to introduce his neighbor. A man who is typical of the people we grow and nurture in the Midwest.

  … He continues to live in a quiet, tree-lined street in Omaha.… He files his own tax returns.…

  Buffett loped his way to the dais, trailed by a score of photographers and cameramen. He shook hands with chairman Markey, and there was a click-click-clicking like a swarm of summer cicadas. His profile was filled out now, slightly paunchy. His eyebrows danced above his eyeglass frames, and his hair was a mop of pepper and salt. He spoke in a tremulous voice, shadowed by a nervous laugh.

  Norma Jean Thurston (a.k.a. “Peroxide”), seeing Buffett, on camera, for the first time since high school, instantly recognized his mannerisms and wit. Harry Beja, his friend at Wharton, saw the testimony live, in Mexico, where Beja had become a successful businessman. Beja recognized Buffett’s “brightness of spirit,” but thinking of his friend’s shyness, Beja winced.

  Buffett sat in the witness chair, facing the members. As he began to speak, his left arm swung in a decisive arc:

  I would like to start by apologizing for the acts that have brought us here. The Nation has a right to expect its rules and laws will be obeyed. At Salomon, certain of these were broken.

  The baldness of his apology would outlive all that followed. Captains of Wall Street had been appearing in Congress since J. P. Morgan, Sr.’s, defiant performance in the Pujo hearings of 1912. Until now, none had ever said he was sorry.

  A dozen shutters click-click-clicked. Buffett made a pitch for Salomon’s eight thousand employees, most of whom were “hardworking, able, and honest.” He promised new measures to ensure compliance with the law. But in the end, he recognized, “the spirit of compliance is as important, or more so, as the words.” Speaking of his vision for the new Salomon, Buffett reached for one of those vivid images that seemed to spring from the lectern into America’s living rooms:

  I want employees to ask themselves whether they are willing to have any contemplated act appear on the front page of their local paper the next day, to be read by their spouses, children and friends.… If they follow this test, they need not fear my other message to them: Lose money for the firm and I will be understanding; lose a shred of reputation for the firm, and I will be ruthless.

  Buffett’s emphasis on reputation was oddly reminiscent of Morgan’s testimony that character—not money—was the basis of credit. There the similarity ended. Morgan, whatever else, epitomized Wall Street. Buffett, who had made a fortune in the stock market, was hailed as a Main Street antidote to Wall Street’s excesses. It is doubtful that Salomon could have found another living American who represented both these extremes.

  The hearing, and also the follow-up in the Senate, was remarkably gentle. The subcommittees saved their powder for the regulators. So the Fed knew all along what was going on? Is that correct, Mr. Corrigan?… As Buffett left the House committee room he was pursued by a mob of reporters. But he ducked into a limousine, bound for the Washington Post.24

  Salomon’s “fired managers” had not been kicked onto the street. Gutfreund and Strauss had been fixed up with an office and a secretary on an otherwise empty floor of Salomon’s former headquarters. The company had been paying their legal bills.

  Buffett had called Gutfreund a few times since taking over. An associate of Gutfreund’s said, “I think he was being kind—telling John he didn’t consider him to be scum.” But the day before the House hearing, Gutfreund, in the interest of propriety, suggested that the two stop speaking.

  The day after the hearing, Salomon’s directors met in New York. Buffett raised the topic of benefits for Gutfreund and the other former managers. With Rep. Slattery’s bombast ringing in their ears, the board cut off severances, bonuses, legal fees, office space, secretaries, and health benefits—the works. Gutfreund stoically told friends that he understood that Buffett was trying to save the firm. When a colleague called to see how he was doing, Gutfreund said, “You have to distance yourself from me—you and the firm.”25

  Buffett, meanwhile, was working in Gutfreund’s office and being waited on by his former secretary. He had his friend’s olive-wood Italian desk and his sweeping view of the Hudson and East rivers. But he found it all unfamiliar and stressful.26

  On Friday afternoons he could barely wait to board the Indefensible, knowing that when he landed in Omaha, Astrid and his family would be waiting for him at Gorats.27 Then, in the comfort of his steakhouse, where the organist had been playing forever and where the people knew nothing of finance, he would unwind by telling stories of his week on Wall Street.

  The most nerve-racking aspect of Salomon was that Buffett had to contend with so many outside forces. He had to reassure bankers, credit agencies, investors, the press. He could not control events at Salomon, as he did at Berkshire. “It’s like waiting for the other shoe to drop—on a centipede,” he quipped to a friend.28 For one of the few times, Buffett was having trouble sleeping.29

  His intimates worried about him, knowing that he had always been so careful to stick to his knitting and avoid the unfamiliar. Save for the time when Buffett’s wife had undergone surgery, Munger had never seen him so distressed. Rick Guerin, who had saved Buffett’s life during the boating mishap, said, “People don’t understand the enormity of his gift to Salomon Brothers.” Another chum, less charitably, said, “Warren is great at peace. We’ll see if he’s good in wartime.”

  Buffett was a reluctant warrior, but he had certain qualities of generalship, such as confidence, perspective, an unsurpassed ability to focus on his object, and a gift for communicating
all this to the troops. Now he needed these qualities in spades.

  The SEC wanted Salomon to turn over Wachtell Lipton’s report, the most damning evidence in the case. Like any attorney-client communication, the report was immune from subpoena power.

  Salomon’s outside lawyers urged Buffett to refuse. That is what any lawyer in America would advise. According to Bell, the lawyers said, “We’re going to have liability. We can’t admit to this. It’ll be a nightmare.”

  “I don’t want to hear that stuff,” Buffett retorted. He didn’t care about the civil liability—the money could be earned back. In his mind, the legalistic details were far less important than that he uphold his promise to the Feds.

  “This is our position,” Buffett went on. “We did wrong. We’re going to show how we did wrong. We’ve signed the charge sheet.”

  Then he turned to Bell. He wanted him to fire Salomon’s paid political consultants.

  “Can we talk about that?”

  “Yeah, sure.”

  Bell explained that the consultants were Beltway insiders with a keen grasp of politics. Salomon could use their expertise.

  “You have a point,” Buffett said. “But this is what we’re going to do.”

  The consultants were gone. Buffett hated these professional hand-holders. They would obscure the grand message which, like a lone horseman, he was intent on delivering personally.

  This, and, indeed, Buffett’s every move was aimed at winning forbearance. He ordered Salomon to stop trading with Marc Rich, the fugitive oil trader. He ended political gift-giving, to avoid the appearance that Salomon was buying favors. He sacked Wachtell Lipton, which was linked to Gutfreund.

  He repeatedly warned Salomon’s traders that they had to operate “way, way away from the line”—another of Buffett’s simple but potent images. Within weeks, a half-dozen of Salomon’s traders had gone to Buffett to see if a planned stratagem met his definition of “the center of the court.”30

  Eric Rosenfeld, the bespectacled trader and former Harvard professor who had replaced Mozer, proposed a trading strategy to profit from discrepancies in tax laws. Rosenfeld had been working on the idea for months, had gotten it blessed by lawyers, and felt it would be highly lucrative.

  Buffett said, “Eric, I’m not comfortable with it.” He said it was probably legal but “too close to the line.”31

  By repeating such moralistic exhortations, Buffett was subtly trying to lift the employees’ self-image. Thomas Hanley, the firm’s banking analyst, had never seen Salomon pull so much in unison. He felt that Buffett was “brilliant.”32

  But Buffett couldn’t get the story off the front page. Salomon kept disclosing new details of Mozer’s wrongdoing, and the government kept announcing new, or expanded, investigations (five federal agencies and various states got into the act). The press kept speculating that other, unrelated sins at Salomon were soon to be exposed; Salomon was hit by dozens of civil suits; its bank lines were cut. The basic story didn’t change, but the surface impression was of an ever-widening scandal.

  Alarmingly, fear was spreading among Salomon’s customers, who were loath to give business to a firm that might be indicted on the morrow. British Telecommunications sacked it from a major underwriting. Bond-trading customers defected.33 Trying to reassure the CEO of a big corporate customer, Buffett had to literally put his hand across his heart and swear, “There are no more bombshells coming.”34

  After five weeks, when the crisis seemed to be stabilizing, Robert E. Allen, chairman of American Telephone & Telegraph, one of America’s most respected CEOs, landed a blow from left field, publicly denouncing Salomon’s moral laxity as “unforgivable.”35 Salomon was like the proverbial dog with a can tied to its tail: it raised a ruckus wherever it ran. The next day, September 24, the stock hit a low, 20¾.

  Two days later, Buffett took off to meet with the Graham group, which had mushroomed to fifty-odd of his friends and spouses, including the young Bill Gates, in Victoria, British Columbia. The others were surprised that Buffett took the time, but for him the trip was a tonic. He stayed at the inn while they toured Victoria’s lush, beautiful gardens—but Buffett would have skipped the gardens anyway. He did attend the seminar. The topic, assigned just before the scandal broke, was “The Dumbest Thing I Have Done in Investments or Business.”

  In New York, the scandal was taking a toll on morale. A manager complained, “It’s tough to come in in the morning and open the paper. You just wonder when it is going to stop.”36 Rosenfeld, the able new chief of the government desk, went to a restaurant frequented by young professionals on the Upper East Side. He overheard people talking about Salomon—“Isn’t it disgusting?” one said knowingly—as if the firm were shot through with crooks.

  Early in October, Buffett held a pep talk with the staff. He asserted unequivocally that he was feeling good about their prospects, The employees, most of them, were living through a crisis for the first time. Buffett had been there before.

  I have seen a couple of companies taken into the emergency ward.… American Express in 1963 and GEICO in 1976…. At GEICO a few people made mistakes. It went from being an organization with enormous pride to an organization that was in doubt. Policyholders were leaving by the tens of thousands. I have to tell you that the period did last for some time. Jack Byrne had to wrestle with one alligator after another.37

  GEICO’s stock, he noted dryly, had risen since then from 2 to about 194. As in buying a stock in a falling market, he told the employees, they had to look beyond the passions of the moment to a future for Salomon that he insisted would be bright.

  On Wall Street, the betting now was that Salomon would survive, but as a shrunken firm—as Business Week put it, “smaller, less profitable, less powerful.”38 It was feared that Buffett, while cleansing Salomon, had emasculated it. He had overseen a sell-off of $50 billion in assets, easing its credit worries, but reducing its ability to make the big, blustery bets that had been its trademark. Larry Tisch pointedly asked Buffett, “Who’s going to be the risk-taker in the Gutfreund sense of the word?” Buffett did not have an answer.39

  Buffett was not a physical presence at Salomon. He occasionally wolfed down a ham sandwich in the executive dining room, where the others dined on veal paillard, but there was none of Gutfreund’s stalking the aisles. And, as the case dragged on, Buffett spent more of his time in Omaha.

  He had close contact with only a handful of employees: Rosenfeld, the whiz-kid trader, who was surprised by Buffett’s detailed knowledge of arbitrage, and the treasurer, the chief financial officer, general counsel Denham, and Maughan, who relied on Buffett as a corporate encyclopedia.

  The executives initially mistook Buffett’s gracious exterior for softness. But they discovered that Buffett was tougher than his image (a reversal of their experience with Gutfreund). “It’s a perfect contrast with John,” said William Jennings, a senior vice president. “Warren is not easy to convince. John had trouble saying no.”

  But Buffett refused to manage Salomon. He admonished Maughan, “I don’t want to disappoint you, but I didn’t grow up wanting to run an investment bank.”40 In effect, Buffett re-created the same role for himself—a concerned but distant overseer—that he played at See’s Candy.

  Unlike most CEOs, he did not identify with the other executives. He was less a manager than an investor with a ringside seat. And as an investor he was profoundly unhappy. In October, Buffett told Maughan, “You may be a wonderful company, but you’re a lousy stock.” That was a tipoff. Over the previous five years, the return on Salomon’s shares had ranked a miserable 445th among the S&P 500. But now, Buffett’s focus was slowly shifting—from the scandal to the stock.

  III—Agony

  Viewing Salomon as a long-term owner, Buffett saw a picture that was anything but pretty. Its assets had ballooned, yet its return on capital had vastly diminished. It had consistently profitable areas, such as the Tokyo branch, arbitrage and bond trading, and underwriting. But its we
ll-paid investment bankers had been losing money for years. In equities, it was a profit one year, a loss the next.41 On balance, a huge engine had been assembled, capital employed, labor expended, all for an enterprise that yielded a pittance.

  Buffett was convinced that the problem was rooted in Salomon’s extravagant bonuses. Gutfreund had let the executives take home nearly three-quarters of the firm’s profits—as if he had never sold the business and the executives had still been partners in it.42 The real partners—the shareholders—had been left out. This failure to hold managers accountable had sent a distorted signal, just as Buffett had once feared that too much allowance would distort the message to his kids. With their bonuses rising, managers had allowed entire divisions to run with “inadequate or nonexistent returns.”43

  To break this pattern, Buffett decided to act boldly. On October 29 he took out a remarkable two-page ad in the New York Times, the Wall Street Journal, the Washington Post, and the Financial Times, reproducing Salomon’s third-quarter report. The heart of it was a letter from Buffett denouncing the company’s pay scale. He emphasized that he had no problem with extraordinary pay for extraordinary performance. But Salomon’s “share-the-wealth” system was subsidizing all—even the mediocre—at the shareholders’ expense.

  Having said this, Buffett dropped a bomb. He was lopping off $110 million from the pool set aside for bonuses for 1991. As a result, although profits that year (earned before the scandal) were double those of 1990, bonuses would be slightly less than in 1990. Those who didn’t like it could walk.

  Our pay-for-performance philosophy will undoubtedly cause some managers to leave.… In the end we must have people to match our principles, not the reverse.44

  A quarter century earlier, standing in the shadows of the Hathaway mill, Buffett had told Ken Chace that he wanted employees who thought like owners. Now, in the glass-and-steel splendor of Wall Street, he told Maughan that he was quite prepared to lose large numbers of staff. Maughan wondered how many. Buffett said, “Deryck, we can’t buy loyalty.”45