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Rupert Hargreaves
Rupert Hargreaves
Articles (1261)  | Author's Website |

Buffett's Latest $10 Billion Deal Looks Great for Berkshire

A look at Buffett's spending on Dominion Energy

Warren Buffett (Trades, Portfolio) has finally decided to deploy some of his massive cash pile at Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B). Announced over the weekend, Berkshire is planning to spend up to $10 billion on gas pipelines from the utility business Dominion Energy (NYSE:D).

It is being widely reported that Buffett is spending $10 billion on this deal, but that's not strictly true. According to the terms of the deal, Berkshire will pay $4 billion for the Dominion gas assets and take on its $5.7 billion in debt. That gives an enterprise value of $9.7 billion. The assets include over 7,700 miles of natural gas transmission lines, with approximately 20.8 billion cubic feet a day of transportation capacity and 900 billion cubic feet of operated natural gas storage, which will complement Berkshire's existing network of almost 8,000 miles of natural gas transmission lines and transport capacity of almost 21 billion cubic feet a day. The deal also includes a 25% stake in Cove Point, an LNG export, import and storage facility in Maryland.

A good deal at an attractive price

This is not the best deal in the world, but it is still a good deal considering the current environment and the amount of money involved. Berkshire is earning peanuts on its $130 billion-plus cash pile right now. Pipeline assets produce stable, predictable recurring cash flows, which have bond-like qualities.

One of the biggest and best pipeline operators in the country, Kinder Morgan Inc. (NYSE:KMI), earned an annualized return on invested capital of 6.9% in the quarter ended March 2020, according to Gurufocus data. That's compared to 0.7% on the U.S. 10-year Treasury yield, and Berkshire's 0% cost of capital considering its latest Euro dominated bond issue.

Deploying nearly $10 billion at a 7% return in the current overvalued market is highly attractive. The deal also bolsters Berkshire Hathaway Energy's position in the industry. The increase of the size of its network will give the business pricing power, reduce costs and help the expansion of the energy division, which has been a critical engine of growth for the group over the past few years.

The deal also bolsters Berkshire's balance sheet. Regulators view Berkshire's defensive assets such as railroads and utilities as bond-like assets, which reinforces its balance sheet from an insurance perspective.

This is one of the reasons why the group has been able to establish such a fortress-like position in the global insurance and reinsurance markets. Not only do these assets have bond-like qualities, but they also produce higher returns, which means Berkshire can stomach losses other insurers cannot.

Analysts at J.P. Morgan said the acquired assets had Ebitda of around $1 billion. That would give the transaction an enterprise-value-to-Ebitda ratio of approximately 9. Kinder Morgan is dealing at a ratio of 11.1, while the rest of the sector is dealing at an average ratio of 8.

The bottom line

All in all, this seems to be an attractive deal that will provide Berkshire with a steady stream of cash flows as well as a defensive base of assets.

Another point to consider is that the business will provide Berkshire with some inflation protection going forward. Contract values will almost certainly be based around inflation.

Buffett might not have reacted in the market crash at the beginning of this year, but by waiting, he's been able to acquire a portfolio of defensive, high-quality assets at an attractive price.

Disclosure: The author owns shares in Berkshire Hathaway.

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About the author:

Rupert Hargreaves
Rupert is a committed value investor and regularly writes and invests following the principles set out by Benjamin Graham. He is the editor and co-owner of Hidden Value Stocks, a quarterly investment newsletter aimed at institutional investors.

Rupert holds qualifications from the Chartered Institute for Securities & Investment and the CFA Society of the UK. He covers everything value investing for ValueWalk and other sites on a freelance basis.

Visit Rupert Hargreaves's Website

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DanaBoy - 3 weeks ago    Report SPAM

I don't understand the point of your article.

Buffet buys Dominion and therefore what? It's time to load up on Berkshire-Hathaway shares?

Rupert Hargreaves
Rupert Hargreaves - 3 weeks ago    Report SPAM

Not necessarily, the deal has improved the intrinsic value of the business. If you believe the stock is dealing at a large enough discount to your estimate of intrinsic value after this deal, it could be worth buying.

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