Berkshire profit benefits from Buffett shift to rail, energy

Warren Buffett’s shift toward businesses like railroads and power production that provide steady profits is paying off for his Berkshire Hathaway Inc.

Earnings from Burlington Northern Santa Fe and MidAmerican Energy Holdings accounted for $1.46 billion, or 40%, of operating income in the third quarter, Omaha, Nebraska-based Berkshire said in a Nov. 1 regulatory filing. The two businesses have generated at least 30% of profit every year since 2010, when BNSF was acquired.

The railroad and utility are “the bond-like underpinning” of earnings, said Tom Russo, a partner at Lancaster, Pennsylvania-based Gardner Russo & Gardner who oversees more than $7 billion, including Berkshire shares.

Buffett’s deal in 1999 to purchase MidAmerican marked a shift into regulated businesses that require large amounts of capital spending. Before then, Berkshire had been dominated by insurance operations, which provided the billionaire with money for takeovers and stock picks in exchange for shouldering risks that could erase earnings in some quarters.

Underwriting profit at the insurance businesses fell 57% to $170 million in the three months ended Sept. 30 from a year earlier. Costs from hailstorms in Europe pressured results at General Re, and the frequency and severity of payouts at auto insurer Geico increased.

Derivative Bets

Berkshire’s results also have swung in the past decade because of changes in valuation on insurance-like derivatives that Buffett sold. The strategy allowed him to bet on long-term gains in stocks and the creditworthiness of borrowers.

Plunging markets in 2008 boosted liabilities on the contracts and were partly responsible for Berkshire losing its top credit grades from Moody’s Investors Service and Fitch Ratings in 2009. In the three months ended Sept. 30, equity- linked derivatives added $519 million to earnings, compared with a loss of $534 million a year earlier.

Buffett, 83, has said the fluctuations are meaningless because the contracts won’t be settled for years, don’t require collateral posting and have given Berkshire money to invest. The changes in value aren’t included in operating income.

“In our catastrophe insurance business, we are always ready to trade increased volatility in reported earnings in the short run for greater gains in net worth in the long run,” he wrote to shareholders in a 2008 letter. “That is our philosophy in derivatives as well.”

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