Ethical Issues at Berkshire Hathaway: Controversy Following the Lubrizol Acquisition Deal

            
 
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This case study was compiled from published sources, and is intended to be used as a basis for class discussion. It is not intended to illustrate either effective or ineffective handling of a management situation. Nor is it a primary information source.



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Case Details:

Price:

Case Code : BECG127 For delivery in electronic format: Rs. 500;
For delivery through courier (within India): Rs. 500 + Rs. 25 for Shipping & Handling Charges

Themes

Business Ethics / Corporate Governance
Case Length : 16 Pages
Period : 2010-2013
Organization : Berkshire Hathaway Inc.
Pub Date : 2013
Teaching Note : Not available
Countries : US; Global
Industry : Diversified

Abstract:

This case is about the controversy that engulfed Berkshire Hathaway in 2011 when one of its key executives resigned under the shadow of allegations that he had engaged in insider trading. Berkshire, headed by the legendary Warren Buffett (Buffett), was reputed for both the exemplary returns generated by it and for the ethical principles of operating businesses as espoused by Buffett. Shortly after the acquisition of The Lubrizol Corporation (Lubrizol) by Berkshire spearheaded by David Sokol (Sokol), Sokol resigned from his job. Sokol, in the course of negotiations with Lubrizol, had bought the latter’s shares amounting to US$10 million.

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Following the acquisition, the value of Sokol's Lubrizol shares rose by US$3 million. Buffett, in announcing Sokol's resignation, claimed that the latter’s share purchases were not illegal. He came under fire as much for defending Sokol’s dealings as for his initial oversight after first coming to know from Sokol himself about the latter’s purchase of Lubrizol shares. According to critics, Buffett erred in not referring Sokol to Berkshire’s compliance department. This, they attributed, to Buffett's trust based management style and the lack of stringent internal controls at Berkshire. Roughly a month after the announcement of Sokol’s resignation, Berkshire’s Audit Committee blamed Sokol for violating the company’s insider-trading policies. The case raises the question of whether Buffett walked the talk when he defended Sokol’s dealings. The case also raises the question of whether a trust based management style can compensate for lack of stringent internal controls.

Issues:

Understand various issues and challenges in individual and business ethics.
Understand the circumstances under which purchase of shares based on confidential information could be categorized as insider trading.
Appreciate the requirement for strict internal control and compliance mechanisms in any organization.
Discuss and debate whether Sokol had engaged in insider trading when he bought Lubrizol shares.
Discuss and debate whether Buffett actually committed a mistake when he did not initially query Sokol about his Lubrizol share purchases or whether he acted ethically by retaining faith in Sokol given the latter's contributions to Berkshire.
Explore the internal controls and compliances that Berkshire could further put in place to prevent issues such as Sokol’s from cropping up in future.

Contents:

  Page No.
Introduction 1
Background Note 1
Berkshire's Acquisition of Lubrizol 2
Sokol's Departure and the Immediate Fallout 3
The Question of Materiality 4
Were Sokol's Dealings an Act of Insider Trading? 4
Sokol's Privileged Position 5
Buffett's Handling Under the Lens 6
Potential Adverse Impact on Berkshire's Reputation 7
Lawsuit and Berkshire' s Audit Committee Report 7
Sokol Issue Symptomatic of a Deeper Malaise? 8
Lessons Learnt, if any... 9
Exhibits 10

Keywords:

Ethics; Business Ethics; Corporate Governance; Compliance; Management Control Systems; Corporate opportunities; Insider trading; Conflict of interest; Materiality; Berkshire Hathaway; Warren Buffett; Lubrizol

Introduction - Next Page>>


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