Tuesday, July 8, 2014
Why Does Warren Buffet Want to Pay Billions of Dollars for a Big Old Fashioned Railroad Company like Burlington Northern
Why Does Warren Buffet Want to Pay Billions of Dollars for a Big Old Fashioned Railroad Company like Burlington Northern? There Are Few Pieces of Real Estate in 28 Different States and in Three Countries with the Same Natural Monopolistic Powers as Burlington Northern Santa Fe Lex Loeb Contributor Network . Warren Buffet's 3O plus billion dollar November 2009 surprise proposed purchase offer for Burlington Northern was really not so much of a big surprise. Buffet pretty much stated his interest in buying the company wholesale if he could do so and was committing very significant resources in buying up company shares over the last few years. Burlington Northern is not just an old fashioned antiquated railroad company as many people might perceive it to be but it has many strategic advantages, Including Real Estate in 28 different states, three countries and absolutely no rail competition on on the company's right of way tracks with exclusive rail access to many remote but productive locations that need the cheapest going most energy efficient mode of long range transcontinental transportation there is. A larger railroad company is Union Pacific and it actually competes in some locations with BNI but on the whole under present management , with the much slower appreciation of the stock over the past 20 years is not nearly as well run a company as BNI. BNI is the second biggest rail road company in the US. It is a conglomerate of different railroad companies that were merged together over many years including the Burlington Northern Line and the Santa Fe Line. The company has an absolute monopoly use of it's protected right of ways that only Amtrak is able to use without having to pay for track rights. Amtrak has been consistently paring back its routes so it has become less bothersome to the freight business as the passenger trains have the track right of way. Burlington Northern is a well run large rail company and it's management clearly sees the advantages of going private , becoming part of the Berkshire Family of companies because that will have cost and regulatory advantages. Once no longer a publicly traded corporation, BNI no longer has to comply with all the complicated SEC regulations and no longer has to send out all the costly reports and costly proxy materials that the other publicly traded rails will have to continue providing at significant cost. Public corporation railroads will be at an immediate disadvantage regarding these regulations and possibly having to pay management with the advice of the Obama pay czar. Privately held corporations do not have to report as often to shareholders, although Berkshire Hathaway does have shareholders, BNI becomes a fully owned subsidiary This move to publicly traded companies going private is likely to accelerate and is not going to be especially good for individual shareholders who wanted to own shares of publicly traded companies for the longer term benefits. The climate in Washington now is to drive a lot of corporate assets into more closely held trusts, hedge funds or conglomerates like Berkshire. This is probably just one of the first larger companies that will be moving from publicly traded to private ownership. This deal may be the model for many more to come. The effect of too much regulation in wall street can be thus very detrimental to individual owners of the era of the big American publicly traded company. Time will tell how far it goes and how cumbersome and expensive new regulations will become as the incentive/ disincentive to reformat public participation in ownership. Some of these deals will be more like one guy offering to buy up all the condominiums in one condo tower basically forcing the rest to sell at a somewhat lower price than he expects to realize later on down the line or when planning to allow renters in at rents that will be much higher than the rents that would be provided to current owners today should they rent out their spaces. Management of BNI can see the advantage of having Berkshire Hathaway become their boss instead of many thousands of individual shareholders. This is likely to reverberate though most of the publicly traded US corporations should the deal for BNI prove successful as expected. Why does Warren Buffet want an antique old fashioned company like BNI? It is not old fashioned anymore. Trains are the most efficient mode of freight transportation. The only reason trucks can compete is because the rail roads are much more limited in permeating the landscape the way trucks on the interstate highways and roads can. Fixed rail tracks are are much more inflexible than trucks hauling freight but that problem has been solved by allowing truck cargo holds to ride the rails. The same cargo boxes that ride the rails can go double decker on the train, travel pennies per ton per mile cost and also be loaded on the back of trucks for local transport or onto cargo ships for direct rail to ship international port to port freight transit. The rails have a clear cost advantage over trucks especially over the long distance routes because the new locomotives for freight trains have super efficient diesel fuel generators that run electric motors that drag the train cars on the tracks. The locomotives are actually the same sort of hybrid that has become the new in vogue cars on the road. They are more energy efficient than any other means of transportation pound for pound and per gallon of diesel fuel, Barges going up stream, cargo ships, trucks , cars , planes cannot compete in terms of miles per gallon per ton. BNI owns a huge system of private right of way tracks that connects the west coast of the US to Chicago , Canada, Mexico and the Gulf of Mexico and almost everything in between these points. As it happens The US is to itself it's largest trading partner and after that Canada is Second, The Ports on the West Coast all connect to China and Mexico is either the third or forth largest national trading partner. Union Pacific is BNI's closest competitor but it has a completely difference right of way system without the same corporate efficiencies that BNI has. There really has not been a privately owner rail road company in US history the size of this company before. Not since the earth 20 century have railroads been private family owned companies. Significant advantages will accrue to BNI after it becomes part of Berkshire Hathaway and that includes access to capital should they need it and to Berkshire subsidiary customers. In a practical way Berkshire Hathaway can discount rail costs to it's own subsidies for a "synergy" of savings while at the same time charging their subsidiaries competitors at a higher rate. Even if Berkshire charges the same rate to be on the goods side of regulators to their subsidiaries they are just paying themselves for the service verses their competitors paying the full amount to their competitor's company. This is the ultimate industry competitive advantage that accrues to BNI and the rest of the subsidiaries of Berkshire that can use freight service. Not all Berkshire owned factories are located on BNI lines. Carpet company assets may not be on the BNI line where as Gypsum board company and paint company assets might be beneficiaries of the BNI right of way transport service. The idea that the BNI deal is a bet on the American economy seems like a bit of recession propaganda after seeing the real advantages of controlling a major monopoly rail road system. Controlling 100% of it is even better. That is just the past and present. The future of the rail roads maybe more amazing. Brand new General Electric hybrid locomotives offer even more energy savings with the super horse power to pull very heavy trains very fast. Trains have suffer from the same drag effect that cars and trucks do that cause them to use more fuel at speeds over 35 miles per hour because of friction and air drag vacuums that form in motion. Trains that have been traveling at up to 70 miles per hour with heavy freight can actually go a lot faster on the same tracks and even though they use more energy at higher speed just the way cars do they are still grossly more fuel efficient per ton. The only reason a 70 mile per hour freight train with the best new locomotive and well maintained tracks cannot go faster is because of all the grade crossings throughout the country. I spoke to an Amtrak official who explained to me that their trains can just go zipping up to 150 mph if grade crossings were not the issue they are across the country. Thanks to the computers, and remote sensors and other devices and a will to try and shut down or re-route grade crossings it will not just be Amtrak trains that will be able to move a lot faster on existing tracks but the big old fashioned freight trains as well. As the grade crossing problem is getting solved with new technology and the understanding that the cost of segregating the train tracks on different levels from roads which would have been a great use for economic stimulus funding otherwise wasted, the freight train companies will possibly be tempted to bring back passenger trains that will be able to compete with Amtrak on many routes with lower cost fares than on high fuel cost airlines. At some point the rails to trails might start being converted back to rail road right of way once more fuel efficient higher speed rail starts catching on. That depends on segregating the tracks from road bed grade crossings. The expense is high but secretly embedded in the high speed rail / Amtrak plans of the US congress is that little thing about removing or mitigating the effect of all those pesky grade crossings that slow down the entire US rail system. Unfortunately the grade crossing issue could be a big blow to private property rights across the country and will end up being litigated. BNI with trains that run 35 percent or more faster is a freight service worth considerably more than it's present valuation. It probably does not mater to BNI if the growth in traffic is exports or imports but if the dollar falls significantly foreign currency earnings might make the rails even more profitable. If Oil prices are artificially limited by cap and trade legislation the rails are then the only game in town and even hybrid diesel trucks will not be able to survive the long haul against the rails. BNI as a subsidiary of Berkshire has new advantages and Berkshire subsidiaries share that advantage. New rail technology and the national high speed rail push will benefit BNI and other railroads. BNI has a interstate, international real estate foot print and exclusive use/ right of ways that it has a monopoly that cannot be beat unless air planes were to become more fuel efficient. Even if planes and trains were both nuclear or fusion powered in the future the trains still would be more energy efficient just not as flexible in getting off the tracks. Other details of why it pays to own an entire rail road like BNI. Is substantial return on equity, good cash flow, ability to set your prices rather than have the market set your prices which keeps profit margins high, Relatively low operating costs , the ability to deffer maintenance a bit longer than with other modes of transportation due to good longevity of the industrial components and as a consequence, and something Warren Buffet really likes, low future capital requirement. That is one reason the grade crossing issue is worth noting. Tracks do have to be maintained but they can last in working order longer than highway pavement can. The capital requirements to fix grade crossings can be spread out over time and with the government might foot the bill just to get Amtrak to run faster along tracks they share. The capital expenditures for BNI are significant should they want to improve the whole system at once and maximize the improvements but that is not why management has been so successful there. If the company accelerates all capital expenditures and gets it over with they can maximize cash flow without having to do so for another 25-50 years and try to gain some metric efficiency. BNI has proven it can spin off cash flow as dividends and provide capital outlays for maintenance and longer term improvements. With Berkshire in charge no dividends need be paid out and unlike private railroad companies BNI will be able to improve faster plowing dividends into to necessary efficiency capital expenses instead making Warren Buffet and company richer than he started out buying BNI. BNI with faster trains and better infrastructure/ cash flow can expand it's right of ways buying other smaller rail lines. The company also has some other non rail road assets even after spinning off timber, urban center land, and oil in the past as the rail roads can sell or rent space to bury cable lines, gas lines, water lines, fiber optic and the rails do still own the air rights over their urban train yards which do become more valuable with urban development. Some urban freight rail yards sit on prime urban acres. Downtown Chicago is famous for building platforms over rail lines to build high rises. Should the US have a new industrial resurgence the rails like BNI are in a prime area of the economy to take advantage of this in a very real way. If right of ways become faster with less grade crossings then rails like BNI Can re-enter the passenger rail business expanding business beyond freight. Other opportunties could appear in the future like a contract to haul US mail instead of the post office loosing money on their own trucking operations... There are other financial benefits Warren Buffet sees in the rails and that probably has to do with being able to loan money to those who want to rent servies form BNI. There is also the issue of insuring the industry which comes down to Berkshire's Expertise again. .