Berkshire Continues To Increase Stake in BNI

[Parsad]

Berkshire's stake in Burlington Northern is now 22.4%!  How about we start a discussion on the merits of this investment on this thread.  Cheers!

[el_chieh]

I know the company only generally / conceptually and haven't done a deep dive but to me it's long-term positives are simple and clear:

 

+ reasonable price for a good company (~11x p/e, trailing)

 

+ can't duplicate company's assets / stronghold on west-east and powder basin traffic

 

+ strong cashflow hidden by capex > depreciation / BUT someday capex will moderate as there's a limit to amount of triple tracking + adjusting tunnels and bridges for higher loads + jamming more trains and running them closer to each + buying lighter cars...at some point, capacity growth will reach a limit

 

+ demand curve will slowly shift up over time and supply curve is steep...prices will rise and profits accrue to shareholders / lot's of examples of pricing power of these companies (e.g., passing on fuel costs, price increases that offset volume declines)

 

+ in inflationary environment, prices will rise but productive assets already paid for

[Guest dempster]

See here for a detailed write-up on BNI

http://www.noisefreeinvesting.com/blog/?p=697

 

 

[Guest JackRiver]

Other pluses:

 

+  Trillions of dollars in Asian dollar reserves will eventually be partly converted into consumption of American goods.  Greater demand as US / Asia trade in goods will be substantially greater 10 and 20 plus years out.  Toll Bridge with ever increasing traffic.

 

+  A healthy amount of leverage in a longer term inflationary world.  The debt service is more than manageable from operating profits.  It has been refinanced in the past few years; not only at low rates, but also, for years to come.  Everybody knows how dysfunctional the capital markets are today.

 

+  Unlike the competition, BNIs maintenance cap ex is fully up to date (if not more).  Cap ex in general should moderate in years ahead, depreciation should move up, and other than a temporary recessionary slow down (compared to what it otherwise would have been), free cash flow should grow smartly from recent numbers.  By my estimates we are looking at buying a business at soon to be 10x free cash that will be substantially larger and more dollars in earnings 5 years, 10 years, and 20 years from now.  It's a no brainer especially if the price keeps falling.

 

+  The power of a duopoly over an oligopoly or monopoly.  BNI and UP.  I believe that a duopoly is economically more powerful than the other two opolies.  I'll let others debate that. 

 

+  regulatory risk (NONE).  If they regulate more, no worries.  Guaranteed markup over cost.  I suppose it would be a concern if you were paying a 30x multiple.

 

+  Cost per new track mile

 

I could go on to talk about the economic protection from rising oil (long term, that is, for any alternative to take hold and be competitive the spread in price needs to narrow), the transport of alternative fuels to refine that can't use pipeline, or the use of technology to drive massive new efficiencies in a business historically hard to operate. 

 

Today's BNI is like the largest paper in a major city pre internet or like network TV pre cable pre Internet.  Having survived cheap oil and interstate highway networks, I'm hard pressed to think of a new innovation that will knock BNI off the rails in the next 20 or 30 years.

 

This is a great investment for the next 20 years plus if you can ignore the daily noise.  It should be among the largest holdings in any value managers portfolio.

 

Yours

Jack River

[prevalou]

ok for the pluses. But what about the minuses ? As Berkowitz likes to say: what could kill this idea?

 

For instance: they are increasing their rates while their customers suffer, it doesn't create a lot of goodwill. How long can they apply this strategy? Is their earning power somewhat superficial ?

[Guest JackRiver]

I think we were just highlighting some positive dynamics.  To your point, would we not want to first establish that Berkowitz is asking the right question, that is, "what could kill this idea?"  Surely, thinking of the undesirables and negative outcomes is part of any business understanding (usually inverse the positives or implied), but can you first establish for me that "what could kill this idea" is a useful question to ask.

 

Yours

 

Jack River

 

 

[prevalou]

I think it is a usefull question to ask, because as we like Buffett, we unconsciously find that his investments are good ideas and try to rationalize them by all sorts of good reasons. We start with the conclusion. Therefore I prefer to focus first on the minuses, it helps me to have a balanced view on the subject.

 

 

 

 

 

 

 

 

 

 

[Guest JackRiver]

Ok, but the minuses was not the question.  The question as posed was, "what could kill this idea?"  Before answering that question I was hoping someone could establish that it is a useful question to ask and not just something that sounds insightful but really isn't.

 

Yours

 

Jack River

[prevalou]

another minus: the high cost of oil was mentionned by Buffett or Munger (I don't remember) as a competitiv advantage. So the krach of oil prices signals a decrease in this competitiv advantage. How much is the intrinsec value of the business affected ?

so

1) they are increasing their fares

2) Their competitive advantage is affected by the decrease in oil prices.

How long can it last?

[Nnejad]

If you come up with a list of ways or things that could kill the company, and then while overlooking that list, you notice that some of them are not very improbable, then you have some cause for concern for investing in that security.  It is a very viable question to ask.

 

That being said, there is not many ways to kill BNI; in fact, investors have a lot of potential to look forward to, and a strong moat to protect their fair share.  That is why I'm a holder.

[Guest JackRiver]

prevalou

 

The intrinsic value is unaffected. 

 

Yours

 

Jack River

[Guest JackRiver]

I know of one way to kill a company in general (btw this applies to all companies), but I'm having a hard time understanding what is meant by, "what could kill this idea."  I take it that this statement is not the same as asking what are negatives about a business or what could cause results to differ from expectations in the negative.

 

Can one of you establish the logic in asking yourself "what could kill this idea," and maybe supply an example.

 

Yours

 

Jack River

[JAllen]

"What could kill this idea" means to me that what catastrophe risk could wipe out the potential investment I am considering and would cause me to stop considering the investment.  It seems like an idea killer is a very negative "minus". 

 

It also seems to me to be a good question to ask. 

[JAllen]

It doesn't seem like this should be in the portfolio of a value manager that is managing less than $1B.  At least it wouldn't be for me.  It seems like there are smaller companies that are going to return more to small value managers.  What is the maximum upside in percentage return for BNI over the next twenty years? 

[Guest JackRiver]

Right then, let's apply this idea to an actual company.  Can someone demonstrate "what can kill this idea" in practice?  Mind that we are not just pointing out mere negatives or the chance of negative outcomes. 

 

As I said before, there is one notion to this idea that I can think of that is applicable, but applicable to any business.  That is: too much debt.  That is to say, too much debt will kill any business and should kill any notions of investment by a prudent investor.  So excessive debt can kill an idea, but unfortunately there is nothing notable or insightful about this.  It is rather common knowledge.

 

So again, can someone provide a concrete example to demonstrate how pondering "what can kill this idea" will result in a useful answer?  I'm trying to answer this myself, but I keep coming up with general notions that would apply to any business and are mere what if this or that happens.  This leads me to suspect that the statement, "what can kill this idea," is one which, on its face, sounds sensible and astute, but alas, I fear it serves no useful purpose above and beyond what is already generally understood and generally applicable.

 

Phrasing it as such does conjure up a most slippery slope in that careful thought would lead to an answer of "anything" can kill this idea, and "anything," as an answer, really isn't a useful answer after all.  I would be truly fascinated if someone could resolve my misunderstanding.

 

Yours

 

Jack River

[Guest JackRiver]

pof4520

 

You say, "It seems like there are smaller companies that are going to return more to small value managers.  What is the maximum upside in percentage return for BNI over the next twenty years?"

 

It not only seems like, it is given as true.  Now, name the small company or companies that offer 20 years of foresight.  Easier said than done.  I wish I had a list, but I got nothing. :-\

 

Yours

 

Jack River

[ExpectedValue]

JackRiver--

 

I don't know why you're having a misunderstanding. Maybe it's because of the rhetoric involved with the term "kill". It's just a phrase. Perhaps you would prefer calling it "risk factors", all it simply means is looking for whatever types of events that can occur that would hurt the company's intrinsic value.

 

The company's 10K outlines a number of potential risks that could be in store for them-- a decline in economic activity could hurt, as there would be less of a need to transport some of their good around (especially metals/materials used in construction). But you could counter-argue that it's likely that with the stimulus package, we'll see a need for such goods.

 

Maybe you could look at their agriculture commodity transport business. After all, agricultural commodities are off their highs. Does that mean that BNI will have less to transport since farmers will now have an incentive to produce less?

 

I agree with Nick though, BNI looks like it has good long term prospects. It's tough to see much of a downside in it, but it's useful to try to ill the idea by looking at possible risk factors.

[Guest JackRiver]

TariqAli

 

You're just inverting positive possibilities to negative outcomes.  I'm not misunderstanding that.  Also and aside, I don't believe the intrinsic value would be hurt as you say. 

 

Maybe this will make clearer my problem, if Berkowitz had said, "when I buy a business I try to think about what could go wrong" or "I think about the risk" would those statements deserve attribution?  I don't believe so.  So here I am looking at this quote, "what could kill this idea" and I'm thinking it sounds nifty and new but does it actually provide any added value to that which has already been said and is well understood.  Does it deserve attribution?  If it is different than a mere "I think about the risk" then does it provide useful insight, and can someone provide an example of it (doesn't have to be with regards to BNI)?

 

Yours

 

Jack River

 

 

[prevalou]

UNP and BNI are in the same business, same zones. Why is UNP a lot less expensive ? Is there a Buffett premium ? Is BNI better managed ? But how to prove it except to say it is better managed because Buffett bought it?

 

 

[leftcoast]

Maybe this will make clearer my problem, if Berkowitz had said, "when I buy a business I try to think about what could go wrong" or "I think about the risk" would those statements deserve attribution?  I don't believe so.  So here I am looking at this quote, "what could kill this idea" and I'm thinking it sounds nifty and new but does it actually provide any added value to that which has already been said and is well understood.  Does it deserve attribution?  If it is different than a mere "I think about the risk" then does it provide useful insight, and can someone provide an example of it (doesn't have to be with regards to BNI)?

 

Jack, is your objection merely to the wording of the question? Or because the question was casually attributed to Berkowitz and you don't think it should be? I'm sure you don't actually take issue with the idea of assessing downside risk in potential investments.

 

I don't think anyone (including Berkowitz) has claimed anything "new and nifty" about his thought process. He may use different words to describe the investment approach (probably trying to explain it in "layman's terms" or in a media-friendly way), but I don't think he's ever claimed that it's unique.

 

Having said that, I personally find that re-wording a question is useful to the extent that it a.) improves comprehension, or b.) helps someone think about the question differently. In this case, asking the extreme form of the question ("what would it take to kill this company?") may prompt someone to be more creative in thinking about downside risk that just asking "what are some risks," especially when it comes to very low-probability risks that could potentially cripple even the strongest businesses. If you can't think of any way to kill a company (or kill its competitive advantage), then you probably aren't being creative or "doomsday" enough, because nothing is un-killable.

 

For example, prior to 9/11, even Buffett was overlooking the the risk of terrorism when writing and pricing Berkshire's insurance policies. Buffett has said that if 9/11 had been nuclear, Berkshire (along with the rest of the insurance industry) could easily have been bankrupted. That risk was not unforeseeable, but it was apparently unforeseen, even by Buffett.

 

So I think it's a perfectly valid question to ask, and people should use any wording or language they want to help them think about risk.

[prevalou]

another minus:

 

BNI: 9 billions dollars of debt versus 11,5 Billon dollars net worth

UNP: 7-8 Billions dollars debt versus 15,4 net worth.

 

Maybe UNP has less risk  (specialy in time of crisis) and is less expensive than BNI.

 

 

[el_chieh]

"What could kill a company"

 

It's a very important question.

 

History is littered with companies that got killed. 

 

Forget Commodore, Wang, Atari, Acclaim, Polaroid, hundreds of airlines, hundreds of car makers, etc.  How many companies in the DJIA today existed 100 years ago?  or even 30 years ago?

 

In 1950s, GM made expensive pension promises based on continued 50%+ market dominance.  If one had put some serious thought into it (like Drucker did) it was clear that not holding on to that 50% market dominance might kill GM.

 

Going forward:

 

AMAZON:  2/3 of its revenue is media (books, dvd and cd's); a shift away from physical books might kill AMZN if it is unable to follow that transition and put to use its physical infrastructure for other retail categories.

 

MSFT:  An alternative that replaces Windows and breaks MSFT's hold on to the PC would kill MSFT / if the personal computer is eventually replaced by the internet and cheap access devices that don't use MSFT software would kill MSFT

 

INTC:  chip manufacturing technology that did not depend on massive size to get past low yields would kill INTC (e.g., INTC's flash biz)

 

"The key to investing is...determining the competitive advantage of any given company and, above all, the durability of that advantage" -Buffett

 

 

 

[prevalou]

"Forget Commodore, Wang, Atari, Acclaim, Polaroid, hundreds of airlines, hundreds of car makers, etc.  How many companies in the DJIA today existed 100 years ago?  or even 30 years ago?"

 

 

Forget Penn central too in 1970

[prevalou]

"To kill an idea" is not obligatorily "to kill a company". For instance maybe BNI is just too expensive, even if it is a wonderful business, like Coca Cola in 1998.

[Guest JackRiver]

el_chieh

 

You open and close your post with two different points (quotes).  Not your intention, I think, but Buffett's quote I believe speaks to my point.  That is, I'm of the opinion that asking yourself what could kill an investment idea is an unproductive exercise.  It's a slippery slope littered with generic and general answers applicable to all businesses.

 

Take for example your examples.  These are examples of a generic variety.  Competition / Product obsolescence / innovation (or lack of) these are all generic examples of what could kill any company (they all happen to be the same concept as well).  

 

Your GM example is a question of liability and in a previous post I spoke of too much debt.  That too much debt is an example of what could kill an investment idea.  Leftcoast brought up a better example of what I was looking for when he suggest Buffett's overlooking terrorist attack (9/11 / nuclear /and so on).  So there is some meat to that, but it's still an example of too much debt albeit an open ended liability.  It's the best reply so far in my opinion, but i'm still uncomfortable with it in that it is still generic to any business and I would classify it as a version of too much debt.  

 

I'm trying to make the case that asking yourself what could kill an investment idea or company is not an important question to ask.  Other than the point of too much debt or too much liabilities, the other answers to that question are a can of worms that don't truly offer you insight into anything.  It's a game of what ifs, and I don't believe it offers an investor insight (though people will convince themselves that it does) in determining competitive advantage and the durability of that advantage if it exist (see Buffett below).

 

"The key to investing is...determining the competitive advantage of any given company and, above all, the durability of that advantage" -Buffett

 

I think the Buffett quote is useful.

 

As an aside, there are two important differences between BNI and UNP.  That is, there are two important reasons why Buffett has latched on to BNI and not UNP.  When he bought the railroads, that's what I spent my time thinking about and it doesn't have to do with debt or book value.  I do like the duopoly of BNI and UNP and believe that both will benefit from that in the future more so than if it were a monopoly or oligopoly of more than two.  Think that is a really interesting topic in general, the advantage of a duopoly.  

 

Yours

 

Jack River