Will Berkshire's Bets on Wind Power Pay Off?

Berkshire Hathaway's (NYSE: BRK-B  ) MidAmerican Energy subsidiary just bought over 1 gigawatt (GW) of wind turbine capacity from Siemens (NASDAQOTH: SIEGY  ) . Construction sites across Iowa are linked to MidAmerican's expansion and reconductoring of its transmission system.

MidAmerican Energy bought 448 turbines for an undisclosed price. Current installed capacity cost for wind turbines is about $2,000 per kilowatt (kW.) The total price tag could exceed $2 billion, and this is reputedly the largest wind turbine order to date.

MidAmerican Energy provides electric service to 734,000 electricity customers in Iowa, Illinois, Nebraska, and South Dakota.

What a deal
Everyone seems to gain from this deal. Iowans can get enough power to service the equivalent of over 300,000 households at about $0.05 per kilowatt-hour (kWh.) New York City residents pay over $0.20 per kWh.

Siemens will employ over 800 employees in Iowa and Kansas to manufacture the wind turbines.

MidAmerican Energy earns production tax credits for Berkshire Hathaway and estimates that it will generate over $300 million in tax revenues for Iowa. By the end of 2015, MidAmerican will have over 3.3 GW of wind energy on-line.

What is the cost of wind?
For wind, it is all about location: where the wind velocity is sufficient, where the transmission line is best loaded, and where land can be obtained. Wind turbine technology currently can capture up to 40% of the energy in the wind itself, though this is all contingent on wind speed.

Sizing of a wind turbine's capacity depends on the area swept by a turbine blade. If a blade is the standard 35 meters long, the blade can sweep about 1,000 meters of area. For each square meter of area swept, at an average wind speed of seven meters per second, a turbine can produce 1,100 kWh. A 35-meter blade can then produce 1.1 MWh.

The National Renewable Energy Laboratory (NREL) surveys markets and models of wind turbines for land and offshore facilities. The NREL states that that land facilities' installed capacity costs have dropped from $2,098/kW to $1,750/kW in 2012. Improvements in design and controls can increase efficiency and lower the cost to $62/MWh from $72/MWh.

The capital cost of $2,098/kW for onshore wind versus the cost of installing a natural gas peaker plant for $1,000/kW has to be weighed against a lifetime of fuel and associated maintenance costs for the gas peaker. A better comparison is a lifetime investment wind cost of $72/MWh versus an all-in peak cost of $106/MWh for gas.

Together, wind and gas work vey well together. When wind dies down, gas can be turned up to follow load on base production (typically hydro and coal). Wind helps reduce carbon emissions as well. Wind also provides a demonstrable hedge for otherwise volatile fossil fuel costs.

How do you reap the wind?
Wind farms must be connected to a high-voltage grid to be viable. In 2011, the Midwest Independent Transmission System Operator (MISO) approved MidAmerican's proposed transmission plan to build 241 miles of 345 kilovolt (kV) lines through 12 Iowan counties. These counties site the wind farms.

MISO manages the electric grid in all or most of North Dakota, South Dakota, Nebraska, Minnesota, Iowa, Wisconsin, Illinois, Indiana, Michigan, and parts of Montana, Missouri, Kentucky, and Ohio. MISO estimates its interregional projects, all of which could contribute to wind power investment, would cost about $0.77 per month per residential customer.

MidAmerican Energy and Berkshire's Pacificorp subsidiary are also invested in the Gateway Transmission project that links MISO with the California Independent System Operator (CalISO) and through Idaho Power to the Canadian Alberta Electric Inter-Connection.

Wind can also be used to partially fill in for coal plant retirements. MISO estimates that up to 16 GW of base load coal generation plant will be retired by 2020. MidAmerican's wind investment will help meet regional portfolio standards for energy diversification and carbon footprint mandates. The NREL estimates that an advanced coal plant has a lifetime levelized cost of $123/MWh.

Where's the cash?
Given its extensive utility holdings, it is interesting to compare Berkshire Hathaway's cash return on investment with other utilities. Here are Exelon (NYSE: EXC  ) , Southern Company (NYSE: SO  ) , and Con Edison  (NYSE: ED  ) as they stack up to Berkshire Hathaway:

BRK.B Cash Return on Capital Invested (CROCI) (TTM) Chart

BRK.B Cash Return on Capital Invested (CROCI) (TTM) data by YCharts

Berkshire Hathaway offers a consistent 3% per year cash return, while the pure-play utilities generate near zero cash flow but do pay consistent dividends. Berkshire Hathaway's strategy to invest in wind and transmission is already paying off by plowing earnings back into the business and generating consistent cash flow and forward stock value.

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