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  The story began in the summer of 1972 when a broker offered Buffett and Munger a block of Wesco Financial, the parent company of Pasadenabased Mutual Savings and Loan Association. Wesco's stock was trading in the low teens, less than half its book value. Buffett and Munger agreed that it was a bargain, and through Blue Chip, acquired 8 percent of Wesco's shares. Even that early in its history, a $2 million stake was a relatively minor investment for Blue Chip.

  Then in January 1973, Wesco's management announced plans to merge with another savings and loan, Financial Corp. of Santa Barbara. Buffett and Munger felt that Wesco was selling itself at a fire sale price. The deal called for Wesco shareholders to swap their undervalued shares for those of overvalued Financial Corp. Munger and Buffett didn't think the deal was a good one for shareholders on the Wesco side.

  Said Buffett: "I read these terms, and I didn't believe them. And I told Munger the terms and he couldn't believe it either. But it was there in black and white on the Dow Jones tape."

  Munger wanted to buy more Wesco stock to fight off the merger, but Buffett did not. Charlie prevailed, and for six weeks, Blue Chip bought every Wesco share it could find, accumulating about 17 percent of the company. They couldn't buy more than 20 percent without regulatory approval and that would take a long time to obtain.

  Munger called on Louis R. Vincenti, Wesco's president, to inquire about his reaction to the existence of a large unhappy shareholder. Without being acrimonious, Vincenti said that Blue Chip was free to vote against the merger if it wished and to solicit other shareholders to do the same, but the outcome would be determined by shareholders, not Vincenti. This was the kind of straight talk Munger liked. He immediately developed an admiration for Vincenti, and Buffett soon did the same.

  For shareholders to vote the merger down, Munger and Buffett would have to persuade Elizabeth Peters, a San Francisco heiress who owned a Napa Valley vineyard, and her brothers, to go along with them. Peters' father had founded the S&L and took it public in the 1950s and the Peters still owned a large block of shares. Elizabeth Peters hoped that the Financial Corp. merger would inflate Wesco's flagging share price. Donald Koeppel, Blue Chip's president, tried to persuade Betty Peters to change her mind, and when he failed, Buffett gave it a try.

  "I flew out and talked to her-out and back in one day-we talked in the American Airlines lounge at the San Francisco airport," said Buffett.

  Peters insisted that something had to be done to improve the S&L's performance, and Buffett said he'd like to try it himself. She was impressed with his self-confidence, but asked a question that would be posed again and again as Berkshire grew.

  "Mr. Buffett, if I buy you, what happens if you get hit by a truck at the intersection? Who would save Wesco then?" Buffett assured her that Charlie Munger was waiting in the wings.'

  Warren persuaded Peters to vote against the merger and to ride along with her family's Wesco shares, remaining as a Wesco director on a board that Munger would join. This turned out well for Peters, since Financial Corp. went bust and Wesco prospered mightily with the help of Buffett and Munger aboard.

  After squelching the merger, Munger and Buffett could legally buy only another 3 percent of Wesco's outstanding stock and they set out to do so. They had been paying about $17 per share right up to the time the merger was cancelled. They knew that Wesco stock was sure to decline in the short term. Nonetheless, they offered $17 per share, thinking it only fair since it was they who had interrupted the merger. "We decided in some quixotic moment that it was the right way to behave," said Munger.'

  After some period of time passed and the regulatory hurdles were leaped, Blue Chip made several subsequent tender offers, and eventually raised its Wesco stake to 24.9 percent. By mid-1974, Blue Chip owned the majority of Wesco shares. Munger and Buffett would have acquired more Wesco shares, but stopped at 80 percent at the request of Peters, who remains a large minority shareholder.3 Buffett lets Peters set Wesco's divided policy and she increases the payout slightly every year.

  All through this, however, the SEC for some reason had been tracking the activities of Buffett and Munger and had some questions about the Wesco deal.

  "I've always suspected that someone who wanted the Financial Corp. merger to go through complained to the SEC," said Munger. And yet, he admitted, the convoluted ownership at Blue Chip did appear suspicious.

  "When the SEC started looking, there were all these criss-crossed ownerships. That happened by accident. But it was complicated and because so many people create complications to hide fraud, the SEC delved and delved and finally fixed its attention on something-how we got Wesco. People assume if what you're doing is enormously complicated, you're probably doing something wrong."

  Indeed, Buffett, Munger, and to some extent Guerin, owned stakes in an incredibly intertwined bundle of companies. The three men's investments had grown this way and that, taking whatever structure seemed logical and fair at the time. The organization was a little too disorganized for the tastes of the SEC. But there also was a legal question.

  The SEC's concern was whether Blue Chip had unlawfully manipulated the stock of Wesco in some way. The SEC rightly concluded that Munger and Buffett bought shares at an obviously higher-than-necessary price, and suspected sonic sort of preemptive motive, rather than a benevolent one. Buffett responded to the inquiries by shipping three cartons of documents, memos, stock transfer documents, and so on to Washington. Buffett reacted calmly: Munger, on the other hand, was impatient.

  The SEC investigation became an impediment to Blue Chip's everyday business, and in the fall of 1974, Munger wrote to his attorney, Chuck Rickershauser, "I hope the foregoing will satisfy everyone at the SEC and that, if not, you can arrange that I receive the promptest possible response, preferably by direct telephone calls to me, so that we can clear up any problems and get our merger consummated.""

  Instead, the SEC opened a full-scale investigation of Buffett's investment practices: In the Matter of Blue Chip Stamps, Berkshire Hathaway Inc., Warren Buffet [sic], HQ-784.

  "Blue Chip, Berkshire, Buffet [sic], singly or in concert with others ... may have engaged in acts which may have directly or indirectly operated as a device, scheme, or artifice to defraud; or included in an untrue state of material of fact or omitted .....

  In the meantime, the Washington DC rumor mill churned with the news that Munger's former law partner, Rod Hills, had been offered the job of SEC chairman. Rickershauser, who also was acting as Buffett's lawyer, called Hills and asked him to reject the job offer, claiming that if he took the post, the SEC might feel compelled treat the Blue Chip case more harshly just to make sure there was no suggestion of favoritism. According to some reports, Munger called Hills several times and berated him for not standing by his friends, but Hills said that Munger never called him about the matter. They never discussed it at the time or later. At any rate, Hills dismissed Rickershauser's request as inappropriate and accepted the job anyway.

  The SEC did not stop its probe with Wesco. It extended the investigation to Source Capital, and when Buffett and Munger realized that their financial relationship had become so complex that it was difficult to explain it to the SEC, they decided to restructure their holdings and simplify matters. Charlie already had closed down Wheeler, Munger and assumed the chairmanship of Blue Chip at a salary of $50,000 per year. Buffett had closed his partnership and had turned his attention to Berkshire Hathaway.

  In 1975, Munger testified before the SEC about the Blue Chip case, doing his best to convince regulators that he and Buffett only intended to play fair when they offered the higher-than-necessary share price after the Financial Corp. merger blew up. The SEC countered that it was a corporate investor's job to make a profit for its shareholders, not favor anonymous sellers on a stock exchange. Munger explained, with little effect, that he and Buffett hoped that conduct demonstrating fairness would enhance Blue Chip's reputation and this ultimately would benefit all shareholders. Munger and Buffett particularly
hoped to make a good impression on Lou Vincenti, whom they wanted to stay on at his old job as CEO, which he did for many years. Such considerations got no favorable reaction from the SEC.

  Following a standard practice, the SEC filed and concurrently settled a lawsuit against Blue Chip, charging that the company had purchased Wesco not just as an investment, but to defeat the merger. It also asserted that Blue Chip artificially propped up Wesco's share price for several weeks after the merger collapsed. Without admitting or denying guilt, Buffett and Munger agreed not to make the same mistake again. Blue Chip was required to give more than $115,000 to Wesco shareholders whom the SEC decided had been damaged by the business practices.

  It was a stressful time, but as a result. Berkshire Hathaway became a larger, simpler company. In the reorganization that followed, Blue Chip Stamps sold its interest in Source Capital, which by then had doubled in value. Wesco, for tax purposes, was consolidated with Blue Chip Stamps as its ownership proportion reached 80 percent. Both Diversified Retailing and Blue (:hip were merged into Berkshire, finally giving Munger a formal position at Berkshire. Munger got 2 percent of the stock of Berkshire and was named vice chairman, keeping his old salary of $50,000.

  Bob Denham, who worked on some of these legal maneuvers, said the organization of the company under a single corporation eliminated almost all appearance of conflict of interest. Before they were merged, Blue Chip and Berkshire had different shareholders, and when a true bargain investment came along, the possibility might exist that Buffett would allocate the bargain to one group of shareholders at the expense of the other. That could no longer happen.

  Until the merger, Blue Chip shareholders were sent their own annual report with a message written by Munger. When the merger took place, Buffett and Munger together wrote a letter to shareholders: "It will he somewhat simpler for us to run a combined enterprise, reducing sonic costs. Also, simplicity has a way of improving performance through enabling us better to understand what we are doing."

  By the time Berkshire and Blue Chip merged, Berkshire held 60 percent of Blue Chip stock. On July 28, 1983, Berkshire acquired the 40 percent interest that it did not already own. Each outstanding Blue Chip Stamps share was exchanged for .077 of a share of Berkshire.

  The combined assets of the merged companies amounted to $1.6 billion. Shareholders met at Omaha's former Red Lion Inn to approve the new corporate structure. Warren and Susan Buffett held enough shares to enact the merger on their own, but told other shareholders they would vote for the merger only if it were approved by a majority of the remaining shareholders."

  Years later, Munger said the merger was the right thing to do. "It is so much less complicated now. Since then we have one of the simplest structures there is. At a high level, it's one big company, Berkshire Hathaway. But way down in the organization, there is still some complexity. Some of our companies are owned 100 percent, some 80 percent, and some positions merely involve big blocks of stock."

  What Charlie finds interesting when thinking back about all this progress is how few big business decisions were involved in creating billions of dollars out of less than $40 million, fewer than one every three years. "1 think the record shows the advantage of a peculiar mind-set-not seeking action for its own sake, but instead combining extreme patience with extreme decisiveness."

  Munger's stepson Hal Borthwick gives Charlie enormous credit for helping to work out Blue Chips' various problems. "Charlie made really tough calls in the early days. Those guys were still cigar butt investors. They were, you know, looking for assets on the cheap. And Charlie helped solve those problems."

  "WE MEGAN TILE 1970s wrru a single business, trading stamps, which was destined to decline to a small fraction of its former size, and a portfolio of securities, offsetting stamp redemption liabilities, which had been selected by previous owners and would have led to a disastrous result if held through to the present time," Munger wrote to shareholders in 1981.

  As for the original business of Blue Chip Stamps: "I presided over a reduction in trading stamp sales from over $120 million down to less than $100,000. So I presided over a failure of 99.99 percent," said Munger. "Even so, the company did wonderfully with the capital we invested elsewhere. But in terms of the trading stamp company, I laid an egg. So did everyone else. There is no big trading stamp company left in the United States."9

  "But we had no expectation that the trading stamp business was a big winner-as it turned out it went bloo-ey. Meantime, we bought Sees, Buffalo News, and Wesco and made successful investments in marketable securities with the float and other capital. The money compounded like crazy," said Munger.

  In 1972, Blue Chip's balance sheet net worth was about $46 million; By the end of 1981, net worth had increased to about $169 million, up 267 percent in 10 years. Return on shareholders investment in the company for the 10 years was 15 percent per year.

  Later, the gains were larger, according to Munger. If Blue Chip had remained a separate company, it would be it powerhouse today. Its former operating subsidiaries now earn over $150 million pretax. Moreover, Wesco has more than $2 billion in marketable securities, and by now Blue Chip, on its own, would have owned much more.

  Though it is buried deep in the filing cabinets of Berkshire Hathaway, Blue Chip remains an intact company. When people dig into the back of their kitchen drawers or open their deceased mother's trunk and find books of Blue Chip Stamps, they can be redeemed.

  "Most trading stamp companies just disappeared. Blue Chip still exists, a minuscule stamp business-redeeming stamps issued in 1961 and 1962," explained Buffett. "The numbers say they were issued 30-odd years ago. We keep this little redemption company. We've got a good looking catalog. We offer the same value we did 25 years ago."

  He and Munger are determined that the Blue Chip office will remain open as long as they believe that some significant number of unredeemed stamps are going to turn up. It also tickles them that Berkshire Hathaway became a great investment for the small retailers who fought for a piece of the company.

  "Years ago, before Warren and I bought our stock, Blue Chip Stamps mailed minor amounts of Blue Chip stock out to filling station operators as a litigation settlement in the antitrust case brought against the founders by small merchants," said Munger. "My wife told the guy who owns the automobile repair shop where she takes her car to hold onto it. Well, the other day when she stepped out of her car he hugged and kissed her. So maybe we should buy into another dying business.""'

  THE SECURrrIE.S ANI) EXCHANGE. COMMISSION was finally placated, but Berkshire's problems with Blue Chip were not yet fully resolved. The remaining issue involved some of those filling station and other small business owners who were issued shares in the 1970s. Some 20 years later, a tiny group of shareholders who had forgotten about or lost track of their stock realized they'd missed out on an important event.

  The shareholders claimed that their stocks were lost in transfer agent records and that they were unaware that they were now holders of Berkshire shares. Under state laws, after a certain amount of time such shares are escheated, or turned over to the state for care taking, which Berkshire's transfer agent did. In some cases, the states were still holding the shares, which in the meantime had increased in value almost a hundredfold. In other cases, the states sold the Berkshire shares and held the money in the name of the original Blue Chip shareholder.

  In 1993, legislation was passed in California permitting the state to save escheating costs by selling the stock it held as unclaimed property. The state then placed the funds in numbered accounts to hold in trust for future claimants. In November 1995, the State of California sold all Berkshire stock it held at $31,177.77 per share. By the time the misplaced Blue Chip shareholders learned what happened (with the help of a bounty hunter) and filed suit, Berkshire was selling at $37,950 per share."

  The New York and San Diego law firm of Milberg, Weiss, Bershad, Hynes & Lerach, which is well known for handling shareholder class action lawsuit
s, sued Berkshire for failing to make enough effort to find 400 early Blue Chip Stamps shareholders to let them know that they now owned Berkshire shares. They wanted shareholders to be compensated for the growth they'd missed out on after the state sold their shares.

  "The issue is, they should've dropped me a note and let me know," said plaintiff John E. DeWitt, 61, who owned gasoline stations and delivered petroleum products in South El Monte, California. "We've been located in the same spot since 1972."'2

  Although they were not listed as defendants, Munger, along with Warren Buffett and his wife Susan, were named in the complaint.

  "There is no truth to the stories that little retailers were taken advantage of," said Buffett, claiming that in some cases the shareholders simply ignored their mail. In the end, "People got their money. They are just mad because the state sold the Berkshire shares. We've found Berkshire holders from the 1930s. They are millionaires now."

  The court threw out the shareholders suit, saying that the statute of limitations had expired on their action. If the suit had run its full course, Berkshire may have had no liability anyway. Some stocks were "lost" long before Berkshire bought Blue Chip, and at any rate, due process had been followed for unclaimed shares.']

  "Some shareholders are always going to get 'lost,' meaning out of contact with the corporate transfer agent. The inevitability of that outcome is why all advanced commercial nations have escheat laws," says Munger. "And Berkshire works harder than most corporations in pushing transfer agents to find lost shareholders."

  As IMPLIED EARI.IER,THE RELATIONSHIP between Buffett, Munger, and Vincenti, chief executive officer of Wesco, worked out just as Buffett and Munger had hoped. Vincenti, one of Pasadena's best business lawyers, had become CEO of his best client. "He was brilliant, principled, decisive, and parsimonious," said Munger. "And he stayed on as CEO for many years, loving the business. Finally he got Alzheimer's disease. By that time we liked him so much that we kept him coming in as CEO until he could no longer function. Betty Peters cheerfully joined in this unusual decision."