Warren Buffett's Berkshire Hathaway (NYSE: BRK-A) (NYSE: BRK-B) has been on an energy buying spree over the past decade, and he shows no signs of slowing it down. Regulated utilities provide the kind of consistent returns and cash flow that Buffett loves, and with $60.4 billion in cash on Berkshire's balance sheet as of the end of the second quarter, he may think it's time to go hunting for energy companies again.
If Berkshire Hathaway does want to buy another utility, here are the three we think Buffett will look at first.
Travis Hoium (Xcel Energy): Warren Buffett is attracted to one thing about utilities: Consistent cash flow.
What makes utilities more consistent than most other companies is the fact that they're regulated monopolies. That gives them the exclusive right to sell electricity, at least in the areas where Buffett is interested in utilities. Cash flow yields may be lower than what you could find elsewhere, but knowing that he can expect decades of consistency is why Buffett is interested in the first place.
Xcel Energy (XEL 0.41%) may be on Buffett's list of utilities to buy because it operates in regulated states like Minnesota and Colorado, and generates consistent returns. Just look at the steady return on equity and the booming cash from operations over the past decade.
XEL Revenue (TTM) data by YCharts
Another thing that might please Buffett is that Xcel Energy doesn't operate in regions that are currently being disrupted by solar energy. He's having headaches in Nevada, where NV Energy shut down rooftop solar installations, much to the chagrin of homeowners and solar companies. But that shutdown won't last long, and if enough customers flood to the solar industry, it could lead to declining revenue long-term for the company. In Minnesota, where I live, the threat of going solar isn't a big concern for utilities, and a utility like Xcel Energy won't see much in the way of competition for many years to come.
Dan Caplinger (Entergy): One thing that Warren Buffett likes to see in companies is the willingness to make tough decisions, and Entergy (ETR 0.25%) has not shied away from controversial moves. Just this month, the utility company said that it expects to shut down its Pilgrim Nuclear Generating Station in Plymouth, Mass., by mid-2019, citing poor market conditions, reduced sales, and rising operational costs. This followed a similar decision to close its Vermont Yankee Nuclear Power Plant at the end of last year, as cheap natural gas is making nuclear power less cost-effective, especially in light of the costs of maintaining aging plants.
Entergy's recent moves have made it more reliant on its regulated electricity-transmission business, under which it has 2.8 million customers in Texas, Arkansas, Louisiana, and Mississippi. Yet the company still has a substantial presence in electricity generation, which includes nuclear, hydroelectric, and fossil-fuel powered plants. Given the opportunities for growth in the fast-growing Southern U.S., Entergy has high hopes for expansion in the region, and combined with its willingness to be smart about pulling the plug on unprofitable and challenging operations, the company could well appeal to Buffett in his broader utility plans.
Tyler Crowe (Pinnacle West Capital): When you look at a map of Berkshire Hathaway Energy's overall holdings, there are a couple of patterns that emerge.
Image: Berkshire Hathaway.
Of course, there are the basics of a typical Berkshire Hathaway business: They are well run companies with strong returns. However, there's one other component that has been very noticeable. Many of those electric utilities happen to be in places with high potential for utility-scale renewable energy projects, and most of them have very large interstate transmission line projects that could be used to move that renewable power to centers of demand.
That is part of the reason why I think the next utility in Berkshire Hathaway's sights is Pinnacle West Capital (PNW 1.11%), the owner of Arizona Public Services. Pinnacle West is awfully similar to NV Energy: It has a long history of profitability with an average return on equity for the past 20 years of 9.68%; it has a very strong balance sheet; the state has lots of potential as a utility-scale solar producer; and it's building out large interstate transmission lines into California.
Those last two are very intriguing traits. When you consider that California imports about 30% of its electricity from neighboring states, and it needs to import way more renewable energy it if ever plans on meeting its emission reduction targets. In fact, Berkshire Hathaway Energy and Pinnacle West have already formed a joint venture called Transcanyon, which is designed to pursue more interstate transmission lines across the Western U.S. And I'm guessing you can bet which markets those transmission lines would be designed to serve.
Pinnacle West by itself would be a prototypical Berkshire Hathaway company. But the added bonus of being in an opportune place to supply California with renewable energy should put it high on Berkshire's buy list.
