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Berkshire Exec Sokol Bails: Is Something Rotten in Omaha?

Yesterday, a top executive of Berkshire Hathaway resigned suddenly. David Sokol, believed to be an one of the heirs apparent to Warren Buffett, gave his notice, so that he could become a full-time philanthropist. The Oracle of Omaha said that the resignation was a "total surprise."

As much as I admire Mr. Buffett, this statement seems as thin as his FCIC testimony defending the business practices of ratings agencies. AP reports that "Buffett said twice before, most recently about two years ago, Sokol had spoken to him of resigning for similar reasons but Buffett and other board members convinced him to stay with the company." So how much of a surprise could this have been?

The timing of the "surprise" resignation is also suspect: it occurred a mere two weeks after Buffett learned that Sokol had been actively trading stock in chemical company Lubrizol, which Berkshire acquired for a cool $9 billion.

According to the Wall Street Journal:

Mr. Buffett said Mr. Sokol, 54 years old, had bought 96,060 shares in January, before Berkshire reached a $9 billion deal to acquire the company. Berkshire's purchase price of $135 per share meant that Mr. Sokol's stake rose $3 million in value. Mr. Buffett said he and Mr. Sokol didn't feel the Lubrizol purchases were 'in any way unlawful.'
Let's assume that Sokol found this great company and made a personal investment in it. He then goes to Buffett and sells the idea for Berkshire Hathaway. Everything is cool up to that point. But, as soon as Berkshire decided to proceed with the purchase -- and before the purchase was public -- shouldn't Sokol have sold his shares?

Here's how the SEC defines insider trading:

"Insider trading"...actually includes both legal and illegal conduct. The legal version is when corporate insiders-officers, directors, and employees-buy and sell stock in their own companies. When corporate insiders trade in their own securities, they must report their trades to the SEC.

Illegal insider trading refers generally to buying or selling a security, in breach of a fiduciary duty or other relationship of trust and confidence, while in possession of material, nonpublic information about the security.

We'll have to see whether the SEC believes that Sokol violated any of its rules, specifically the second part of the definition. As an executive of Berkshire Hathaway, the SEC will explore whether Sokol breached his fiduciary duty to Berkshire shareholders and whether Berkshire should have disclosed Sokol's purchase.

Even with disclosure of the transaction, I wonder why either Berkshire or Sokol would play in such a gray area. After all, it was Buffett himself who said, "It takes 20 years to build a reputation and five minutes to lose it." I'm left wondering whether something is rotten in Omaha...

Update to this story:
After this was published, Sokol appeared on CNBC and disputed the notion of insider trading. He said: "I didn't know anything others don't know." He also said other Berkshire executives have owned stock in companies that the firm later acquired, including Berkshire Vice Chairman Charlie Munger. Still, Sokol admitted that "knowing today what I know, what I would do differently is I just would never have mentioned it to Warren, and just made my own investment and left it alone." Enough said. And by the way, maybe Sokol's not going to be a philanthropist after all--he may just invest his family's money and build his own "mini-Berkshire." Thanks for the memories, Warren!

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Image by Flickr User TEDizen, CC 2.0
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