DEALTALK-Some elephant hunting tips for Warren Buffett

May 26, 2014 by  
Filed under Wind Energy Tips


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By Luciana Lopez

NEW YORK May 25 (Reuters) – Far be it from us to offer tips
to Warren Buffett, the most celebrated stock picker of his age,
but here goes:

The Oracle of Omaha has suggested he will hunt for his next
“elephant” – his favorite word for big acquisitions — among
energy companies. That could dovetail with the bet he made in
2009 when he bought Burlington Northern Santa Fe railroad, which
has turned into an indirect play on the U.S. oil production
renaissance: BNSF moves about a third of oil-by-rail, a surging
segment of freight rail.

So, we have some ideas. Reuters screened for U.S. and
Canadian companies with relatively low debt and market
capitalizations above $5 billion, among other criteria.

First, because Buffett’s Berkshire Hathaway has
about $49 billion to spend, he’s said he’s looking at capital
intensive companies, which offer plenty of chances to put that
money to work.

He might like a hot niche like oilfield services or
pipelines: good candidates could be Baker Hughes in
drilling services or Williams Partners in oil and gas
distribution, which would also expand the scope of his recently
rebranded Berkshire Hathaway Energy unit.

Alternatively, he could opt for a safer play by scooping up
another regulated utility to add to previous purchases such as
NV Energy in Nevada and MidAmerican Energy, which serves
customers in eleven states and added about $1.47 billion to
Berkshire’s profits in 2013. While not spectacular earners,
regulated utilities tend to be steady, reliable cash generators,
a feature Buffett likes. One candidate could be Pinnacle West
Capital, though it may be a little smaller than what
he’s looking for.

None of Baker Hughes, Williams Partners and Pinnacle West
responded to requests for comment.

“Electric generation, electric transmission and long-haul
pipelines – they’re being about as blunt as they can be that
they’re going to grow” in that area, said Kevin Birzer, a senior
managing director at Tortoise Capital Advisors, which
specializes in energy investments.

PINNACLE

Check out Pinnacle West, owner of the Arizona Public Service
Company, which provides electricity to about 1.1 million
customers and trades at a discount to peers by several measures,
including price-to-cash flow and price-to-earnings. Between the
company’s $6.1 billion market cap and its $3.6 billion in net
debt, for an enterprise value of $9.7 billion, the company may
be smaller than Buffett wants.

Still, analysts from TheStreet Ratings noted Pinnacle West’s
reasonable debt and good cash flow from operations in calling
the company a buy earlier this month.

“We feel these strengths outweigh the fact that the company
has had sub-par growth in net income,” they wrote in a report
dated May 18.

BAKER HUGHES

If Buffett wants a company more closely tied to oil
production, he could opt for Baker Hughes.

With a market cap of about $30 billion and net debt of about
$3.9 billion, Baker Hughes’ enterprise value of $33.9 billion
comes in at the high end of what Buffett could spend while
leaving himself the $20 billion cash cushion he’s said he wants.

Even so, that large a deal might require him to team up with
an outside partner as when he bought H.J. Heinz, an option
Buffett has said he may pursue again.

Baker Hughes, which supplies oilfield services such as drill
bits and fuel additives and has annual revenue above $22
billion, is trading at a discount to peers on several key
metrics, including ratios measuring its enterprise value against
both sales and earnings before interest, taxes, depreciation and
amortization, or EBITDA, according to Reuters data.

Its first-quarter earnings beat expectations on a 7 percent
increase in North American revenue, with better North American
margins even as well count dropped.

The company also has significant presence overseas,
including the Middle East, Latin America and Asia, offering a
chance to broaden Berkshire’s geographic reach.

One risk may be that Baker Hughes will be too closely tied
to oil prices and the capital expenditure cycle for major
petroleum producers for Buffett’s taste.

WILLIAMS

In that case, Williams Partners could appeal.

Williams, which focuses in part on natural gas and oil
transportation, has a market cap of about $22.8 billion, but
with $8.3 billion of debt, its enterprise value is not all that
much lower than Baker Hughes, about $31.1 billion.

Also like Baker Hughes, Williams, with total revenue of
about $6.7 billion last year, scores well on a number of
relative valuation markers, trading at discounts to peers on
price-to-earnings and price-to-cash flow.

The company keeps generating cash thanks to “the combination
of a core interstate gas transmission system and a
liquids-leveraged midstream business,” according to Morningstar.

That’s an important attribute given its debt-to-equity ratio
of 0.8, which is a bit above the industry norm.

Negotiating a deal with Williams could be complicated, given
its status as a limited partnership 70 percent owned by Williams
Cos.

But the company has another advantage Buffett likes – a wide
moat, or competitive advantage, thanks to its ownership of the
Transco gas mainline, which runs from Texas to New York.

“We think of the Transco pipeline system as a classic
wide-moat asset, one that presents a highly attractive set of
organic growth opportunities,” the Morningstar analysts wrote.

So, Warren, what do you think? If you wind up picking these
companies and they work out for you, let me know! I’m at
Luciana.Lopez@ThomsonReuters.com.

(Reporting by Luciana Lopez; Editing by Dan Burns and John
Pickering)

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