How Warren Buffett Earns 11.6% Per Year

Berkshire Hathaway's "bank of energy" could be a big driving force behind its earnings power for years to come.

May 18, 2014 at 8:10AM

Buffett Pic

Warren Buffett's making big bets on energy through his recently renamed Berkshire Hathaway Energy unit. 

The strategy is an interesting diversion for Berkshire Hathaway (NYSE:BRK-A)(NYSE:BRK-B), which has a long history of avoiding capital-intensive businesses, especially utilities.

What's Buffett's play here?

What can you do with all that cash?
At the 2014 Berkshire Hathaway meeting, Warren Buffett, Charlie Munger, and Greg Abel, the CEO of Berkshire Hathaway Energy, outlined the company's future as a sponge for Berkshire Hathaway's growing cash pile.

Analysts and investors are particularly interested in the energy unit because it can swallow billions of dollars of investment capital each year.

Greg Abel laid out the economics of one major project at this years annual shareholders meeting:

"Generally we are the lowest-cost provider. We rarely have rate increases. Thus, regulators are very supportive of our projects. We are spending $1.9 billion in Iowa over the next two years, but we'll earn 11.6% return on our capital."

The bank of energy
I describe Berkshire's energy investments as a "bank" because they provide a safer place for Berkshire Hathaway to store capital and generate a return. 

Wooing the regulators might have been the reason the energy division now sports a new name, Berkshire Hathaway Energy. Buffett is cashing in on the valuable asset of his company's brand.

Energy presents a huge opportunity for Berkshire Hathaway. The company's insurance subsidiaries have a current float of $77 billion from their customers. Much of the float is fleeting -- a product of short-term insurance contracts at GEICO and its property and casualty insurers.

However, a full $37 billion of its float is longer-term, the product of its reinsurance business led by Ajit Jain. That float can, without a doubt, finance substantial investments in energy projects around the country.

And what better place to put that long-term capital to work than in a regulated project where you know what returns will be not just this year, but years down the road? An 11.6% return on energy projects easily exceeds most any other investment options for Berkshire Hathaway, especially since the returns are largely set in stone. A 30-year U.S. Treasury bond yields less than 3.5% per year, after all.

If you think about Berkshire Hathaway, and its insurance growth, Buffett's foray into capital-intensive industries isn't all that surprising. In the last 10 years, Berkshire Hathaway's reinsurance float has grown tremendously, from just over $15 billion to $37 billion. 

Buffett may be struggling to put Berkshire's growing cash piles to work, but energy presents a new opportunity Berkshire never had before. And with returns coming in at 11.6% on just one project, it's safe to say that Berkshire has plenty of opportunity earn respectable returns for years to come.

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Jordan Wathen has no position in any stocks mentioned. The Motley Fool recommends Berkshire Hathaway. The Motley Fool owns shares of Berkshire Hathaway. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

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That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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