Warren Buffett is good at seeing the long-term future of a business, but there's no way he imagined railroads would be this successful.

We all know that Warren Buffett is good at investing. Just about every financial media company out there (including The Motley Fool) writes countless articles on his business acumen and his uncanny ability to identify great deals in the market. Still, I highly doubt that even Buffett could have imagined the success of one of his most daring purchases: Burlington Northern Santa Fe. The major change that Buffett probably did not see coming since the 2009 acquisition? Crude oil via rail. Let's look at how this seemingly insignificant part of the railroad business is completely transforming the likes of Burlington Northern.

Image source: NE2 via commons.wikimedia.org.

An energy play, but not the energy play Berkshire anticipated
Back during what may be considered the bottom of the economic recession, many people thought Buffett's Berkshire Hathaway went out on a limb in November 2009 when it bought railroad company Burlington Northern Santa Fe for $34 billion. Even respected Wall Street names such as Bruce Greenwald said the business was nothing special and just a simple energy play because rising diesel costs meant moving goods via rail was less expensive than by truck. At the price Berkshire paid, Greenwald called the deal close to insane.

Rail did become an energy play, but not in the way Greenwald described. 

At about the time Berkshire bought Burlington Northern, another trend was emerging: Tight oil production from places like North Dakota and Texas was becoming commercially viable, and the boom was about to take off. Within a couple years, many of these regions' pipeline capacity was maxed out. So a couple daring oil producers tried moving oil via rail as a temporary relief until the more permanent solution -- pipelines -- could be installed.

Somewhere along the way, companies realized that rail could serve refiners on the East and West coasts, areas that pipelines simply weren't reaching. Shipping oil via rail to coastal refineries enabled the industry to displace the expensive imported crude from places such as West Africa and Saudi Arabia with a cheaper domestic source. The use of rail also gave producers the options to transition to markets in need much quicker than possible with long-term volume commitments in a pipeline. 

All of these elements have translated into a massive boom in oil transport via rail. Between 2008 and today, this has gone from a marginal 10,000 carloads per week to close to 450,000 carloads, most of which are moving oil from either the Bakken formation in North Dakota or oil sands in Canada. There is enough investment in Canadian crude by rail capacity that by 2015 shipment levels should reach 1 million barrels per day, considerably more than what would be shipped by the Keystone XL pipeline.

Landing on just the right company
This development has been huge for the entire rail industry, and Burlington Northern has one of the most extensive rail networks to service the boom in oil via rail.

Source: Commons.wikimedia.org.

With a majority of its tracks located in the North Dakota region, and control of a majority of the lines that connect the U.S. and Canada, Burlington Northern has seen its oil shipments increase more than 11-fold since 2009, to over 600,000 barrels per day. It is on track (pun intended) to increase total oil shipments to over 1 million barrels per day with an investment in over 10,000 new tank cars for that very purpose. Thanks in large part to this boom in oil transportation, revenue at Burlington Northern has increased by 60% and net income is up 88% since it was brought by Berkshire Hathaway nearly five years ago.

Since Burlington Northern is now private, we don't have a completely accurate number as to how much it is worth.  If we were to infer a valuation for the company based on the average total enterprise value-to-EBITDA ratio for the rail industry today -- about 11.3 times -- Burlington should be worth about $100 billion. That's almost triple what Buffett paid. Pretty impressive for a company that was allegedly nothing special and overpriced.

What a Fool believes
I'm certain that Buffett and Berkshire Vice Chairman Charlie Munger looked at Burlington Northern and saw an opportunity that many others didn't. However, it seems far-fetched that they foresaw the boom in oil production, the need for rail to fill the gap in transporting the material, the overall benefit that rail would provide in moving oil to underserved markets, and the exact rail company that would be at the center of that movement, years before these trends even developed. I'm guessing that Buffett and the shareholders of Berkshire Hathaway aren't complaining about the success, though, because it has made for quite an impressive return on investment.