Warren Buffett's Berkshire Hathaway to buy into troubled Home Capital Group

Warren Buffett is interviewed in the White House Briefing Room in Washington on Monday, July 18, 2011. (AP / Pablo Martinez Monsivais)

TORONTO -- Home Capital Group hopes a deal with Warren Buffett will help it win back depositors after it was announced that the legendary investor's Berkshire Hathaway will buy a significant stake in the company for $400 million and provide a $2-billion line of credit.

The embattled mortgage lender's interim chief executive called the investment a "clear vote of confidence" in the company which had faced a run on deposits by customers after allegations by regulators that it misled investors.

"We believe this represents a turning point for Home Capital as we look to restore investor and depositor confidence in the company," Bonita Then said Thursday during a conference call with financial analysts.

Berkshire Hathaway has a history of making investments in troubled companies where it sees value. During the depths of the financial crisis it made a US$5-billion investment in Goldman Sachs that included terms favourable to Buffett, but also saw the investment bank benefit from being associated with the famed investor.

Under the deal with Home Capital, Berkshire Hathaway will receive a significant discount on the shares it is purchasing, but the alternative lender also hopes to share in some of the Buffett glow.

In announcing the deal, Buffett praised the company.

"Home Capital's strong assets, its ability to originate and underwrite well-performing mortgages, and its leading position in a growing market sector make this a very attractive investment," said Buffett, who is Berkshire Hathaway's chairman and chief executive.

The investment deal follows a move last week by Home Capital to settle both a class-action lawsuit and the Ontario Securities Commission allegations that the company misled investors in its disclosures surrounding a scandal involving falsified loan applications.

The company also said Thursday it was making progress in its search for a new chief executive and was hoping to make an announcement in July.

Shares in Home Capital, which had fallen bellow $10 per share but had been regaining ground in recent days, surged even higher on the news of Berkshire Hathaway deal.

The stock (TSX:HCG) was up $1.53 or about 10 per cent at $16.47 in trading on the Toronto Stock Exchange on Thursday afternoon.

Under the agreement, Berkshire will make an initial investment of $153.2 million for 16 million Home Capital shares at a price of $9.55, representing a 19.99 per cent stake in the company, subject to approval by the TSX.

Berkshire Hathaway has also agreed to make a second investment of $246.7 million for nearly 24 million shares at a price of $10.30, which would take its stake in Home Capital to 38.4 per cent, subject to shareholder approval.

Home Capital said more than 70 organizations reviewed its books with an eye to potential deals.

Despite the large discount that Berkshire Hathaway is receiving for its shares, Home Capital director Alan Hibben said the board believes it is in the best interests of the company and is recommending shareholders support the agreement.

"After considering numerous alternative proposals the board determined that this Berkshire Hathaway transaction provides current shareholders with the best available combination of transaction certainty and the potential for enhanced shareholder value," Hibben said.

The Berkshire Hathaway credit facility will charge a slightly lower interest rate than the 10 per cent rate charged by the Healthcare of Ontario Pension Plan. The interest rate will initially drop to 9.5 per cent and then to 9.0 per cent, after the initial investment closes.

Hibben noted that the standby fee for the new line of credit is also lower than the HOOP terms.

The Berkshire Hathaway agreement comes a day after Home Capital Group said it was selling $1.2 billion in mortgage assets to KingSett Capital, a private equity firm focused on real estate.