Category Archives: railroads

In a Market Watch article title “Buffett’s Berkshire Buyback Part of Exit Plan”, it was announced that Berkshire Hathaway (BRK-A) will buy back shares of its Class-A and Class-B shares. In the article, it was also mentioned that “the plan also essentially provides for ‘an unlimited and perpetual program.’” This suggests that the shares of Berkshire Hathaway will continuously be bought under specific conditions.

We’re in perfect agreement that the current plan to repurchase Berkshire Hathaway (BRK-B) stock along with the introduction of a select team of managers is part of the strategy to phase out Warren Buffett’s involvement in the company. However, we think that the most overlooked part of Buffett’s departure plan was the purchase of Burlington Northern Santa Fe (BNI).

For a long time, Warren Buffett has been outspoken against the ownership of airline shares due to “…significant capital to engender the growth, and then earns little or no money.” Therefore, it would seem out of character to purchase a company in an industry synonymous for many of the same attributes as airlines. However, the purchase of a railroad company has two significant advantages that are not afforded to most corporations in the United States.

First, a quirk in the rules for railroads allow them to not have to liquidate in bankruptcy, if that were to occur. After Buffett is gone, whoever is in charge can bumble with some derivative instruments that, for unforeseen reasons, blow up. If the blow up were large enough, it could trigger the need to file bankruptcy to get Berkshire Hathaway’s house in order. The clause in the Interstate Commerce Commission (ICC) and Bankruptcy Act allows for railroads not to liquidate if faced with bankruptcy proceedings. This protects Berkshire Hathaway from having to sell off valuable assets while the company re-emerges out of bankruptcy.

The second significant succession strategy of a railroad has to do with what is called “compulsory mergers.” This requirement allows the ICC and a railroad that has gone bankrupt to merge with another company on terms drawn up by the ICC, the bankrupt company and the acquiring company.

Since the railroad industry, like the airline industry, is synonymous for bankruptcy, BRK gets to take advantage of the "compulsory" mergers rule under section 77 of the Bankruptcy Act. This rule gives the ICC "...control over formulating a plan for the reorganization of an insolvent railroad."

Knowing that bankruptcy is only just around the corner in the next economic purge, Berkshire Hathaway can absorb other rails with absolute impunity. Even better, "...Section 5 of the Commerce Act, which governs mergers of solvent railroads, give the merging carriers primary control over the formulation of a merger plan." Could you imagine structuring your own deal of a merging rail that is going bankrupt?

There is a lot of precedent for these laws in the structuring of many railroads.  In fact,  Chicago, Burlington and Quincy Railroad and Northern Pacific Railway (independent companies before their merger) have had their days with aspects of these rules before merging. Because railroads go bankrupt often, there are many examples of how this works. In one "merger," an acquiring railroad "bought" $1.9 million of claims against the state of Florida at a cost of $5,000 from another railroad facing bankruptcy. In our examination of the topic, we have seen assets worth even more being given away for $0.00 as part of a compulsory merger. 

Because Buffett has been outspoken against the ownership of airline shares due to the general lack of profitability and high propensity to go bankrupt, it seems out of character to purchase a company in an industry synonymous for the same attributes. We believe that Buffett’s purchase of Burlington Northern Santa Fe (BNI) was a critical piece of the succession strategy laid down for the benefit of current and future shareholders of Berkshire Hathaway.