Buffett's Trailer Deal Could Get Trashed

The Sage of Omaha's Clayton Homes buyout may be in jeopardy

When Berkshire Hathaway (BRK ) Inc. struck a $1.7 billion deal last April to acquire Clayton Homes Inc. (CMH ), it was a classic move for the investment firm and its legendary chief, Warren Buffett. Clayton, a Maryville (Tenn.) maker of manufactured homes, fit Buffett's style of buying boring, brick-and-mortar businesses that appear undervalued. And the deal seemed set for clear sailing. During one easygoing conference call in April, James Clayton, Clayton's folksy chairman, began strumming his guitar while Buffett picked his ukulele over the speakerphone.

Now it appears the tune has changed. Following shareholder approval in July, Clayton management in early August declared the deal done and even stopped trading in its shares. But after dissident shareholders complained that the deal was forced through at a lowball price and with alleged proxy fraud, a Tennessee judge on Aug. 18 put the buyout on hold. With a jury trial now set to take place as early as September, the deal is in danger of falling apart.

The fraud suit, filed by a small Denver pension fund, has raised the stakes for all parties. While Berkshire isn't commenting, Clayton CEO Kevin T. Clayton -- James's son -- calls the allegations "false, reckless, and offensive." No doubt stakeholders would be quick to settle if Berkshire would boost its $12.50-a-share offer. But the Nebraska financier warned as recently as mid-July that it "will not raise its price now or in the future." Buffett, whose own actions aren't in question, has little immediate incentive to do so. If the suit fails, he'll get Clayton at the agreed-upon price. Legal experts say it's unlikely the courts will derail the deal. University of Texas law professor Henry T.C. Hu notes that courts have "historically been reluctant to unscramble" agreed-upon mergers. But if jurors find fraud and attempt to award hefty damages to shareholders or force Clayton to renegotiate the deal, analysts warn that Buffett could walk. That may cause Clayton's stock to collapse. For shareholders, "this has become high-stakes poker," warns Michael A. Perino, a securities law professor at St. John's University.

At issue is Clayton management's handling of Buffett's offer. From the outset, some institutional investors squawked in protest at Buffett's $12.50-per-share bid -- fully a third below where the company's shares traded in mid-2002 and at the low end of the $11.49 to $15.58 value that bankers gave Clayton in March. Still, it was a 12.3% premium over what shares traded for when Berkshire made its offer. Clayton management contends that its bid was fair in light of the slump in manufactured housing: Industry shipments have plunged 60% since the 1998 peak. They also hope that tapping into Berkshire's cheap funding sources could give it a leg up over rivals. But some investors still think accepting an offer in April was shortsighted. "We were in the middle of a war. [Buffett's] timing could not have been better," grumbles James J. Dorr, general counsel for Orbis Investment Management Ltd., which voted its 5.3% stake against the merger.

Dissident shareholders allege that when Clayton management realized they'd lose the shareholder vote set for mid-July, they delayed it by two weeks. Even then, it was a squeaker: Despite starting with the 28% of shares held by the founding Clayton family, management won over just one-third of the remaining shareholders -- giving them 52%, or barely the needed majority.

Even then, investors question how Clayton got to 52%. The suit contends that Clayton executives refused to stage a vote until they knew they'd win, refused to give another potential bidder time to mount a rival bid, and may have altered some ballots -- allegations that Clayton has emphatically denied.

Given Buffett's success as a value investor, could he now face resistance from investors who don't want to sell to him at a depressed price? "The fact that it's Warren Buffett who wants to buy from you should tell you that you shouldn't sell, at least not at his price," quips Dorr. If shareholders overturn his deal for Clayton, the Oracle (ORCL ) of Omaha may start singing a different tune.

By Dean Foust in Atlanta

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