Goldman Sachs Group Inc. raised $5 billion in a stock offering, twice the amount the firm originally sought, after gaining an endorsement and a $5 billion cash infusion from billionaire investor Warren Buffett.
The New York-based bank sold 40.65 million shares of common stock at $123 apiece, the firm said in a statement today. That's a 1.6 percent discount to yesterday's closing price of $125.05. The company, which underwrote its own offering, has an option to sell an additional 6.1 million shares.
Goldman Chief Executive Officer Lloyd Blankfein turned to Buffett's Berkshire Hathaway Inc. in a plan to shore up the investment bank's capital base and restore market confidence. The bankruptcy of Lehman Brothers Holdings Inc. and emergency sale of Merrill Lynch & Co. to Bank of America Corp. on Sept. 15 fueled fears about the vulnerability of firms that rely on short-term funding from the capital markets.
``The endorsement of Warren Buffett should quickly end credit-market debate about the capitalization and liquidity position of Goldman Sachs,'' Brad Hintz, an analyst at Sanford C. Bernstein & Co. who rates Goldman stock ```market perform, said in a note to clients today.
Buffett's seal of approval came at a price. Omaha, Nebraska- based Berkshire, led by the 78-year-old billionaire, is buying $5 billion of perpetual preferred stock that pays a 10 percent dividend. The securities can be repurchased by Goldman at any time in return for a 10 percent premium. In contrast, the dividend yield on the common stock sold today, based on a $1.40 annual payout, is about 1.1 percent.
$115 Warrants
Berkshire is also getting warrants to buy $5 billion of common stock for $115 a share at any time in the next five years. Based on yesterday's closing price, Buffett reaped an instant paper profit of $437 million on the warrants.
The shares gained $3.86, or 3 percent, to $128.91 at 12:04 p.m. in New York Stock Exchange composite trading, after rising to $130.83 earlier.
The decision to seek a cash infusion marks a reversal for Goldman, which less than a year ago was posting record profits and paying record bonuses. Blankfein, 54, and his two top deputies reaped payouts totaling more than $67 million per person in 2007. The investment bank hasn't reported a quarterly loss since it went public in 1999.
The company, while suffering from a decline in trading and investment banking revenue, has booked $4.9 billion of losses on devalued assets, a fraction of the writedowns taken by rivals such as Citigroup Inc., Merrill Lynch and Morgan Stanley.
`Expensive Capital'
``We view this as expensive capital by just about any measure,'' Guy Moszkowski, an analyst at Merrill Lynch, wrote in a note to clients today about Buffett's investment. ``It's a sign of bad times and there appears no way around that.''
The Goldman warrants Buffett is buying may themselves be worth $1.8 billion, according to Scott Roth, management partner at Severn River Capital Management, a $200 million hedge fund based in Greenwich, Connecticut. Roth, who said he worked at Goldman more than a decade ago and is betting the stock won't drop, said he calculated that Buffett is buying the preferred stock for about $3.2 billion, after accounting for the warrants.
The transaction gives Buffett 62 percent of Goldman's preferred stock and will give him 8.4 percent of the common stock if he exercises all of his warrants at $115 per share, according to calculations based on public filings.
The common stock offering, assuming the firm sells the over- allotment of 6.1 million shares, will increase total common equity by 11 percent to 474.8 million shares from 428 million at the end of August.
Broken Model
Should Buffett exercise his warrants, total dilution will be about 21 percent, as the number of common shares expands to 518.2 million.
Berkshire's commitment ``is a strong validation of our client franchise and future prospects,'' Blankfein said in the statement yesterday. ``The investment will further bolster our strong capitalization and liquidity position.''
Wall Street's biggest firms lost investors' confidence this year as writedowns and losses on mortgage assets and other high- risk, high-yield loans swelled, wiping out profits and eroding shareholder equity at companies including Merrill and Lehman, both based in New York.
Bear Stearns Cos., once the fifth-biggest U.S. securities firms, was forced into a government-assisted fire sale to JPMorgan Chase & Co. in March after losing access to short-term funds in the markets. JPMorgan, the third-largest U.S. bank by assets, is based in New York.
Bernanke, Paulson
Lehman's collapse and Merrill's sudden sale this month reignited concern that Wall Street's depreciating assets and reliance on fickle bond-market funding mean the industry's ability to generate profit has diminished.
``At this point you're better safe than sorry, I think that's the moral of Lehman,'' said David Hendler, an analyst at CreditSights Inc. in New York. ``Everything's different because of the extraordinarily weak market conditions, as vividly described by our Treasury Secretary and Fed Chairman'' in congressional testimony yesterday, Hendler said.
Federal Reserve Chairman Ben S. Bernanke joined Treasury Secretary Henry Paulson in urging skeptical lawmakers yesterday to quickly pass a $700 billion rescue for financial institutions, saying the U.S. economy will shrink if markets don't begin functioning normally.
Both Goldman and Morgan Stanley said this week that they are converting to bank holding companies supervised by the Federal Reserve, a move that allows them permanent access to borrowing from the Fed and permits more flexible accounting for some assets.
The Oracle
The move transforms Goldman from the biggest U.S. securities firm to the nation's fourth-largest bank holding company.
Morgan Stanley agreed on Sept. 22 to sell as much as 20 percent of itself for about $8.4 billion to Mitsubishi UFJ Financial Group Inc., Japan's largest bank.
Known as the ``Oracle of Omaha,'' Buffett has become a cult figure among investors, drawing 31,000 people to an Omaha arena for his annual shareholders meeting this year. Mutual funds and individuals mimic his stock picks in an effort to duplicate his success, and an academic study in 2007 found that using this strategy for 31 years would have delivered annualized returns of about 25 percent, double the return of the S&P 500.
Buffett transformed Berkshire over four decades from a failing textile manufacturer into a $200 billion holding company by buying out-of-favor stocks and companies whose business and management he deemed superior. In the process, he became the second-richest man in the U.S., according to Forbes magazine.
Saving Salomon
Buffett is ``getting very attractive terms, but Goldman is getting very attractive affirmation of their value from an investor with Warren's stature,'' said Tom Russo, a partner at Gardner Russo & Gardner in Lancaster, Pennsylvania, which manages more than $3 billion, including Berkshire shares.
The last time one of the biggest U.S. securities firms received an investment from Buffett was in 1987, when New York- based Salomon Inc. turned to him for a $700 million infusion to fend off an unwanted takeover.
``As usual Mr. Buffett has struck an extremely attractive deal,'' wrote Merrill's Moszkowski. ``He is, we believe, getting a better deal than he did in 1987 when he bought a Salomon Bros. convertible with a 9 percent yield, for a company that is considerably more attractive than the '87 Salomon.''
The 10 percent dividend on Berkshire's preferred stock offers a lower yield than the current price of securities issued by Merrill Lynch in April and by Citigroup Inc. in May, Bloomberg data show.
Credit Protection
``Goldman Sachs is an exceptional institution,'' said Buffett in the statement. ``It has an unrivaled global franchise, a proven and deep management team and the intellectual and financial capital to continue its track record of outperformance.''
Buffett and Goldman have long-standing ties. Buffett has a close relationship with Byron Trott, a Goldman banker based in Chicago, and has singled him out for praise in his annual reports to shareholders.
As of yesterday's close, Goldman's stock had dropped 42 percent since the start of 2008 and 19 percent from the beginning of last week.
The cost of credit-default swaps used to insure against a default in the firm's debt rose 0.9 percentage points yesterday to 3.8 percentage points before the Buffett announcement, according to broker Phoenix Partners Group in New York. At that price, it cost $380,000 a year to protect $10 million of Goldman debt for five years. Last week the price reached a record $685,000.
Banker's Leverage
In trading today, the cost fell 0.42 percent point to 3.32 percentage points, according to data from CMA Datavision.
One concern for investors has been the firm's leverage, a measure of how much the company relies on borrowed money to hold assets on its books. Goldman owned $23.70 of assets for each dollar of shareholder equity at the end of August, making the firm dependent on raising debt in the markets to help finance $1.03 trillion of the assets on its $1.08 trillion balance sheet.
With a $10 billion infusion, the firm's ratio of assets to equity will would fall to 19.4, and with $15 billion, assuming Buffett exercised his warrants, the measure would decline to 18.1, according to David Trone, an analyst at Fox-Pitt Kelton Cochran Caronia Waller in New York.
``Management is likely hoping that the raise will reduce any doubt -- not just the market's, but also ratings agencies' -- about balance sheet risk,'' Trone wrote in a note today. ``That in turn will lower its funding costs, which should put the bears to bed.''
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