Inside job

(Fortune Magazine) -- On Jan. 18, 2007, the Financial Times reported "talk in the market" that "a consortium of private equity groups are working on a breakup bid" for Dow Chemical. Dow's share price was spiking; its shareholders, employees, and joint venture partners were demanding more information; yet its CEO, Andrew Liveris, was totally in the dark about what, if anything, lay behind the rumor.

The next morning he e-mailed Dow director and former chief financial officer J. Pedro Reinhard, whom he knew to be plugged in to the financial community. "Can you sniff around your contacts?" he asked. "Let me know if this has any basis?"

About two hours later Reinhard replied dismissively, "This rumor was in the market for about over six months."

"Anything new?" pressed Liveris.

"Not that I am aware," Reinhard responded.

Reinhard was not being candid with his CEO. A few hours before tapping out his responses, he had been meeting in London's plush Carlton Tower Hotel with two advisors working for an Omani sovereign wealth fund. The fund was trying to form a consortium with U.S. private equity firms to launch a leveraged buyout of Dow. According to later statements by the advisors, Reinhard and one of Dow's highest-ranking executives, Romeo Kreinberg - then responsible for about half of Dow's global operations - had been in a hotel room flipping through a 100-page booklet prepared by a London affiliate of J.P. Morgan Chase outlining how the Omani-led LBO would proceed. They were also discussing the compensation Reinhard and Kreinberg might expect if the deal went through as planned - Reinhard would be chairman of the new entity and Kreinberg chief executive.On April 12, 2007, Dow (DOW, Fortune 500) fired the two executives, two days after learning from J.P. Morgan CEO Jamie Dimon that his bank had been advising the Omanis on the bid and that Dow's Reinhard and Kreinberg had participated in the discussions. Dow invoked punitive clauses in their contracts, cutting off roughly $45 million in vested equity and other compensation. Reinhard and Kreinberg responded with outraged protestations of innocence and filed defamation suits against Dow for $25 million and $100 million, respectively.

The bitter litigation came to a morally unsatisfying conclusion last month. On the one hand, Reinhard and Kreinberg admitted that, well, yes, they had in fact participated in unauthorized LBO discussions, and yes, Dow's board had been fully within its rights in imposing the draconian penalties on them. At the same time, however, Dow made major financial concessions. Though the settlement terms are confidential, it's clear that the former officers will have restored to them much of the lucre that Dow tried to yank. In other words, the bogus defamation suits had just been a cynical negotiating tool, and in the end, a shrewd one.

Still, the lawsuits will have one lasting adverse consequence for the plaintiffs: articles like this one. During the course of the litigation, thousands of e-mails and other documents surfaced, as did several key deposition transcripts. From them it is possible to piece together much of what happened, and what emerges is that Kreinberg and Reinhard - the latter still a director in good standing at Colgate-Palmolive (CL, Fortune 500), Royal Bank of Canada, and Sigma-Aldrich - were actually engaging in conduct that was even worse than Dow realized when it fired them.

Kreinberg and Reinhard declined through their attorneys to be interviewed for this story. From the day they were fired, each adopted a maddeningly peekaboo stance, in which their attorneys asserted that their accusers were mistaken or incredible, but their clients refused to come forward with their own account.

The documents obtained by Fortune, however, provide the most complete picture to date of an extraordinary business drama - a rare, riveting look inside the world of private equity dealmaking intrigue at the height of its frenzy. There are cameo appearances by Henry Kravis of KKR, David Bonderman of TPG (formerly Texas Pacific Group), Chinh Chu of the Blackstone Group, and a walk-on by the richest, youngest industrialist you may never have heard of: 51-year-old Russian immigrant, U.S. citizen, and multibillionaire Len Blavatnik.

Though the story of the abortive Dow LBO inevitably evokes comparisons to Barbarians at the Gate, it actually teaches very different lessons from that archetypal narrative of 1980s deal intoxication. Notwithstanding that a Dow LBO valued at $50 billion to $60 billion would probably have been the largest ever, in this tale glory and ego ultimately took a back seat to reason and pragmatism. To the chagrin of the coup plotters, the moneymen were loath to go hostile and coldly skeptical about whether the numbers made sense. Dow's fate was determined neither by a self-dealing CEO nor by swashbuckling corporate raiders, but rather by a board that was majority-controlled by independent directors. Alas, there may be no movie in this one.

As their ethnically hybrid names suggest, Pedro Reinhard and Romeo (accent on the second syllable) Kreinberg are truly worldly men. Reinhard, 62, grew up in Brazil and was schooled in Germany and the U.S. Kreinberg, 57, was born in Croatia and raised in Argentina, has lived in nine countries, and speaks six languages. Each spent his 30-plus-year career at Dow crisscrossing the globe, from Germany to Italy to Switzerland to the U.S., with frequent excursions to the Middle East. Stellar performers, each was once a leading contender for the CEO spot: Reinhard in 2000 (when Michael Parker got the nod) and Kreinberg in 2004 (when Liveris prevailed).

Reinhard was respected for his keen financial acumen and vast knowledge of the chemical industry. At the same time, independent Dow director James Ringler testified in November that Reinhard's "emotionalism at times would about drive you nuts," and that "he had ... a delivery ... that would irritate the Pope."

NEXT: Inside job (pg. 2)

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