Berkshire Hathaway 2003 Annual Meeting Audience Question # 50

Trying to buy a business out of bankruptcy is “a very awkward way to buy a business”

Warren Buffett:

Number 10.

Audience Member:

John Goss, Key West, Florida.

You mentioned last year your frustration with buying companies out of bankruptcy. Were you surprised, from your past experience, that the court would not allow a breakup fee regarding your Burlington bid?

Warren Buffett:

That’s a good question. We submitted a bid to the court. The management agreed to our offer and we submitted a bid in the bankruptcy of Burlington Industries. And our bid was 500-and-some million dollars.

And we provided a… what’s called a breakup fee. I’ll get to that in a second, but I think it was $14 million.

Now really, when we submit that bid of 500-and-some-odd million, our bid has to remain outstanding for a good many months. So in effect, by making that bid, I get back to the earlier statements I made about option value.

For $14 million, we were telling the creditors of Burlington that, for a period of maybe four months or five months, that they could sell us that business for our number or, for a considerable period, they could get more money for it.

Now that is a very low price, in my view, for a put. In fact, it’s an inadequate price, but it’s become sort of a customary percentage in terms of bankruptcy proceedings.

The court said that that was too much to charge as a breakup fee, or what I would call a put fee, and so they have set up a new procedure, which will result in Burlington getting sold some months from now to people who follow this new procedure.

I think that… I frankly think 14 million is inadequate, but it’s roughly in the range of what has been allowed in many cases.

But we would never agree to that sort of a sum for that sort of exposure, outside of bankruptcy. It just doesn’t make any sense.

The world changes too much.

If you look at the value of businesses, as measured on the New York Stock Exchange, you’ll see fluctuations of a hundred percent in a year. And for 2 or 3 percent, to commit 500-and-some million dollars at a fixed price for a business in a tough industry, I mean that’s… that does not make a lot of sense.

I did it, so… but it got rejected. We would not… we will not participate in a procedure where we’re going to bid hundreds of millions of dollars and where our bid has to remain outstanding.

And if the… you know, if there’s a twin… if there’s a World Trade Center disaster, or there’s an earthquake in California, or there’s a suspension of trading on the stock exchange, or all kinds of things, that our bid sits out there and we’ve gotten paid $5 million or something for it.

It just doesn’t make any sense to me.

So, it’s tough to buy things out of bankruptcy, although we’ve done it twice now. And both situations have worked out well.

But then we tried it a third time with Burlington, and we spent a considerable amount of time and money generating that bid.

Weeks and weeks and a good many dollars, and it wasn’t accepted.

So, you know, when I look at these experiences, I say to myself it’s a lot easier to make a deal with Walmart, where I talk with them for an hour and we shake hands and we got a deal.

Or the other deals we’ve made in the last year where we buy Northern Natural in a day or two, or where we buy Kern River Pipeline in a few days, or the various businesses we’ve bought.

And bankruptcy, I think it’s probably a necessary part of the procedure. I mean you have to comply with bankruptcy laws. But I would say it’s a very awkward way to buy a business.

And if we have to submit bids that will remain outstanding for many months when people can top us, and only have a 1 percent fee for giving that sort of a put, we will not be making many bids.

Charlie?

Charlie Munger:

Well, we know it was unreasonable, from our point of view, to have a transaction that didn’t have that modest 2 percent commitment fee in it. The court had a different view, and he thought that the figure should have been different. And who knows. We’ll see how it all works out.

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