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Clearing Up / Bearing Down

[March 3, 2017 / No. 1789]

The Sage of Omaha Makes Big Bet on Energy

SUMMARY: Warren Buffett's name doesn't come to mind as an influential figure in the Northwest's utility and energy sector. That's a mistake. Aside from owning one of the region's biggest utilities, Buffett's extensive holdings through Berkshire Hathaway Energy make him a hugely influential figure. So what's on his mind these days? His annual letter provides some insights.

Who would you include on a list of the most important or influential people on the Northwest utility and energy scene?

The U.S. secretary of energy and the administrator of BPA, certainly. Also mentioned would be utility executives, heads of regulatory bodies and interest groups, politicians who have taken an interest in the sector's issues, maybe even a judge or two overseeing a critical case.

Here's a seemingly outlying nomination that really isn't upon closer inspection—Warren Buffett.

Buffett doesn't live in the Northwest (there's a reason they call him the Sage of Omaha), and while his public-recognition score is high, his prominence is mostly due to his wealth and success as an investor. To the extent he's known in the Northwest, it's mainly as buddy, fellow bridge fanatic and philanthropic partner to Bill Gates.

In business terms, Buffett is associated with insurance, and with the grab-bag of companies, brands and industries controlled through Berkshire Hathaway. Some of those names would be familiar in the Northwest: Ben Bridge (a Seattle-area jewelry retailer), Precision Castparts (the Portland-based producer of metal components, principally for the airline industry) and BNSF Railway.

One of the biggest, and for our purposes most significant, doesn't appear on the BH website's listing. That would be PacifiCorp, the Portland-based utility serving 1.8 million customers in six West Coast and Rocky Mountain states. That's because it's lumped in with other utility holdings as Berkshire Hathaway Energy, along with NV Energy, the electric utility for 90 percent of the state of Nevada; MidAmerican Energy, operating in Iowa, Illinois, South Dakota and Nebraska; Northern Natural Gas, operator of the largest interstate natural gas pipeline system in the U.S., stretching across 11 states from Texas to Michigan; Kern River Gas Transmission, whose pipeline runs from the Rockies to California; BHE Renewables, with wind, solar, geothermal and hydro projects in nine states, although not in the Northwest; and other investments in the U.S., Canada and Britain.

Just the size of that portfolio—$84 billion in assets and $18 billion in operating revenue, according to 2015 figures—makes Berkshire Hathaway Energy an influential player in the utility and energy sector, and by extension Buffett an important figure worth watching for insights, policy opinions and clues to future investment decisions.

'I would rather prep for a colonoscopy than issue Berkshire shares'

And indeed, Buffett and BH are getting that attention. A lot of it is self-generated by the extensive discussion of energy in Buffett's legendary annual letter to shareholders.

Befitting someone who is decidedly unlike other corporate executives, Buffett's letter is nothing like the boilerplate that usually fronts annual reports. The latest edition is 28 pages of personal ruminations, pronouncements on investing and how he manages the company ("I would rather prep for a colonoscopy than issue Berkshire shares"), and even some promotion (the toll-free number for GEICO, a BH holding, is included along with the prodding question "Have you called yet?").

Buffett's letter lumps the utility business (90 percent owned by BH) with the railroad under the heading "Regulated Capital Intensive Businesses." While those businesses suck up a lot of capital and require a lot of debt, Buffett is comfortable with their ability to handle it.

"Two factors ensure [Berkshire Hathaway Energy's] ability to service its debt under all circumstances," Buffett writes. "The first is common to all utilities: recession-resistant earnings, which result from these companies offering an essential service for which demand is remarkably steady. The second is enjoyed by few other utilities: an ever-widening diversity of earnings streams, which shield BHE from being seriously harmed by any single regulatory body. These many sources of profit, supplemented by the inherent advantage of the company being owned by a strong parent, have allowed BHE and its utility subsidiaries to significantly lower their cost of debt. That economic fact benefits both us and our customers."

Buffett says he'll stick with investments in utilities "as long as they promise reasonable returns—and, on that front, we put a large amount of trust in future regulation.

"Our confidence is justified both by our past experience and by the knowledge that society will forever need huge investments in both transportation and energy," he continues. "It is in the self-interest of governments to treat capital providers in a manner that will ensure the continued flow of funds to essential projects. It is concomitantly in our self-interest to conduct our operations in a way that earns the approval of our regulators and the people they represent."

A "powerful way to keep these constituencies happy" is low electricity rates, he adds, citing prices charged in several Midwestern states that are below national averages. "Bargain-basement electric rates carry second-order benefits with them. Iowa has attracted large high-tech installations, both because of its low prices for electricity (which data centers use in huge quantities) and because most tech CEOs are enthusiastic about using renewable energy. When it comes to wind energy, Iowa is the Saudi Arabia of America."

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Buffett is a big backer of wind energy, and noted that "last year the megawatt-hours we generated from wind equaled 55 percent of all megawatt-hours sold to our Iowa retail customers. New wind projects that are underway will take that figure to 89 percent by 2020."

That devotion to wind power was the subject of a story in a December issue of Fortune, which raised some questions about the returns on investments on wind, and what happens when wind incentives collide with Trump administration energy policy.

The Buffett letter didn't get into those subjects, nor what would happen in Nevada if voters there again approve competitive electricity markets. PacifiCorp didn't get a mention.

But when someone like Buffett talks, whether in his annual letter or in interviews or through his investment decisions, people listen, which means people in the Northwest need to listen.

Will Buffett provide political clout for preserving wind-energy tax breaks? Will he keep investing in wind, or in utilities, if they're gone? Would he be an acquirer if a utility or energy company in the Northwest came up for sale? Buffett is known for being one of the longest of long-term investors, but is there something that would sour even him on the sector? [Bill Virgin]

Bearing Down is excerpted from Energy NewsData's Clearing Up publication. If you aren't a current subscriber, see for yourself how NewsData reporters put events in an accurate and meaningful context -- request a sample of Clearing Up.

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