Buffett Testifies That He Saw Early Signs of Freddie Mac's Woes

Warren Buffett says he was worried by a Freddie Mac investment unrelated to its mission and its forecasts of mid-teens earnings growth. (Nasha Lee - Bloomberg News)

Billionaire investor Warren E. Buffett sat in front of a video camera in Omaha, spelled his name for the record and minced no words as he testified for the government yesterday in its case against former Freddie Mac chief executive Leland C. Brendsel.

Brendsel is accused of presiding over accounting manipulations and running Freddie Mac in a reckless manner. Buffett, one of the most successful and revered investors, sold a huge stake in the mortgage funding company before the manipulations came to light, and the government wanted him to explain why.

Buffett said he was troubled in part by a Freddie Mac investment that had nothing to do with its business.

"I follow the old dictum: There's never just one cockroach in the kitchen," Buffett said.

The government is trying to show that Brendsel's promises of double-digit earnings growth set Freddie Mac on a dangerous path, and Buffett said they were another key reason he sold.

Sometimes, when executives offer earnings projections and cannot make the numbers, "they start making up the numbers," he said.

Trying to deliver smoothly increasing earnings "can lead to a lot of trouble in any company," and it is "unachievable" at a company like Freddie Mac, whose business is inherently unpredictable, Buffett testified.

Under cross-examination by an attorney for Brendsel, Buffett acknowledged that many companies offered earnings projections, including two big companies where he has been a director, Coca-Cola and Gillette.

He agreed that his antipathy for the practice was a minority view among professional investors. Asked to read aloud from Freddie Mac annual reports, he showed that the McLean company had been predicting "mid-teens" earnings growth years before he began liquidating his stake.

Three weeks into Brendsel's trial on administrative charges, Buffett's testimony by video link was the most vivid, yet. The Berkshire Hathaway chairman, who is a member of the board of The Washington Post Co., sat at a table against a wrinkled gray backdrop, a Coke bottle in easy reach and looked into the lens. Brendsel and other participants in the proceeding watched Buffett on big-screen televisions in a richly paneled Washington courtroom.

Because the case involves regulatory rather than criminal charges, Brendsel is not at risk of going to prison. He is trying to avoid liabilities and penalties that could exceed $1 billion.

With a fortune estimated at $52 billion, Buffett, known by admirers as the Sage of Omaha, ranked second on Forbes magazine's latest list of the richest Americans. Buffett has pledged the vast majority of his wealth to the philanthropic foundation run by Microsoft Chairman Bill Gates, who topped the list with $59 billion, and Gates's wife Melinda, also a member of the Post Co. board.

Buffett said he bought stock in Freddie Mac in the 1980s because "it looked ridiculously cheap." He said his company became one of Freddie Mac's largest shareholders before it began liquidating its stake in the late 1990s at an eventual profit of about $2.75 billion.

Buffett said he met with Brendsel and former Freddie Mac president David W. Glenn five or six times over the years at Brendsel's request, initially at a summer house Buffett had in Laguna Beach, Calif. Brendsel requested and followed some of his recommendations on whom Freddie Mac should appoint to its board, Buffett said.

Buffet said he became troubled when Freddie Mac made an investment unrelated to its mission. He wasn't clear on the specifics but said he "didn't think that made any sense at all" and "was concerned about what they might be doing . . . that I didn't know about."

Achieving "mid-teens" earnings growth "seemed to become more and more a mantra of the organization," giving him greater cause for concern, Buffett said.

Buffett said he reviewed Freddie Mac's annual reports every year he held stock in the company. Presented with excerpts from reports for as early as 1992, he agreed with Brendsel's lead attorney, Kevin M. Downey, that he held onto his shares while Freddie Mac repeatedly affirmed its earnings goals.

Buffett said he thought he expressed his concern to Brendsel in several conversations but added that he didn't keep notes or a diary and couldn't recall details.

Downey said the specific wording about mid-teens earnings growth did not appear in a disclosure Freddie Mac filed in 2001, but Buffett rejected the implicit suggestion that Brendsel was responding appropriately to his concern.

"He may have seen the writing on the wall," Buffett said.

Downey suggested that Freddie Mac properly tempered its projections, pointing to warnings in an annual report that its earnings could be affected by various adverse developments. Buffett said the cautionary words were merely legal boilerplate.

"I would not be particularly impressed by them," he said.

Asked by the judge, William B. Moran, whether he felt his concerns were vindicated, Buffett said, "I think they were fully vindicated."