In last week's column, I gave Warren Buffett a "B" for capital allocation in 1999, rather than the "D" he gave himself, mainly because of my bullishness about Berkshire Hathaway's (NYSE: BRK.A) majority acquisition of Des Moines, Iowa-based MidAmerican Energy Holdings Co. I'd like to explain the reasons why I feel this way.

According to a column penned by the Fool's Richard McCaffery, "MidAmerican, through its retail subsidiaries MidAmerican Energy and Northern Electric in the United Kingdom, offers electricity to 2.2 million customers and natural gas to 1.2 million. MidAmerican also owns (Nasdaq: HMSV)... one of the largest residential real estate brokerages in the U.S. with more than 140 offices in 10 Midwestern states. [MidAmerican] has $13 billion in assets, has grown earnings 26.7% over the last five years, and generates a 16.6% return on equity."

While utilities are the polar opposite of what's hot in today's momentum and technology-driven market, this company intrigues me. I don't know much about this sector, but I'm open to the possibility that in a few years this acquisition could prove to be a grand slam. Why?

The People

First, the people, beginning with Buffett himself. Despite a hiccup in the past couple years, he has demonstrated over 40 years an uncanny ability to identify value long before others -- a defining example was recognizing the immense intrinsic value of great consumer brands like Coca-Cola's. The remaining 25% of MidAmerican is owned by its chairman and CEO, David Sokol, and Omaha businessman Walter Scott Jr., a longtime Buffett friend and Berkshire Hathaway board member since 1988. I don't know what's in the water in Omaha, but it seems to produce more than its fair share of extremely successful businessmen like Buffett and Scott.

Scott is the former president (and current chairman emeritus) of Omaha-based Peter Kiewit Sons' Inc., a privately held construction firm with more than $3 billion in revenues. He is also currently the chairman of Kiewit spin-off Level 3 Communications Inc. (Nasdaq: LVLT), a cutting-edge telecommunications company that is building an international fiber optic network. Sokol was long the head of CalEnergy Inc., a company formed to exploit the electricity-generating potential of superhot underground water in California. Scott backed Sokol as part of Kiewit's purchase of a controlling stake in CalEnergy, MidAmerican's predecessor company. Buffett's comment on these two men was, "If I only had two draft picks out of American business, Walter Scott and David Sokol are the ones I would choose for this industry."

Industry Consolidation

The second reason I'm bullish on the MidAmerican acquisition is that, due to deregulation, the enormous utility industry is changing rapidly and consolidating. According to Sokol, the 150 or so energy companies in the U.S. will be whittled down to about 20. And of those 150, Sokol said MidAmerican -- with the virtually unlimited financial resources of Berkshire Hathaway -- will buy "as many as we can. The deal-making days are just beginning."

Option Value

Thirdly, deregulation is creating huge option value to expand into other businesses (for further reading on real options, I highly recommend Michael Mauboussin's paper, "Get Real: Using Real Options in Security Analysis"). These excerpts from an article in the Omaha World-Herald (11/3/99) highlight the option value of MidAmerican:

"A continuing wave of deregulation will open most markets to MidAmerican's utility operations. For consumers, that would mean one-stop shopping, as MidAmerican bundles a variety of utility, telecommunications and household services -- some owned and some marketed on behalf of other companies.

"In markets where consumers can choose from competing electricity, gas, water and phone companies, MidAmerican Chairman and CEO David Sokol said, MidAmerican will help customers find the best deals. And in states like Nebraska that are closed to competition, MidAmerican will still be able to arrange for utilities, cable and phone service to be hooked up at the same time, and it will broker such other services as trash pickup, lawn maintenance and sprinkler and security systems.

"In addition, with its real estate unit, MidAmerican can boast a turnkey operation -- brokering the sale of your current home, the purchase of your new home and arranging, if not providing, virtually every household service imaginable.

"Sokol, for one, sees great value in such packaging: 'Almost everyone has bought a home and had the frustration of waiting two or three days to get their cable TV, phone, gas, electricity, meter read, the this, the that. That situation is going to go away thanks to companies like MidAmerican.'"


I believe the utility business today offers big opportunities for companies with vision, capital, and the ability to execute, all of which MidAmerican appears to have in abundance. While there are a number of competitors in this sector, it strikes me that the ingredients that Buffett has assembled in the MidAmerican deal will be hard to beat.

-- Whitney Tilson

Whitney Tilson is Managing Partner of Tilson Capital Partners, LLC, a New York City-based money management firm. Mr. Tilson appreciates your feedback at To read his previous guest columns in the Boring Port and other writings, click here.