Warren Buffett, the inimitable Jesus of Investing, got it wrong, he admits. Investing in the highly leveraged buyout of Texas utility TXU by Kohlberg Kravis Roberts and Goldman Sachs was a bad bet, plain and simple, he told his shareholders in a letter Saturday. And if things at the former TXU (now Energy Future Holdings) don't turn around, the most revered investor in the world warns there's a good chance his entire $2 billion investment will be "wiped out."
Moody's never liked the deal to begin with. Private equity and the single biggest purveyor of electricity in Texas -- which is a "commodity" we can't do without -- made for extremely awkward bedfellows, the investors service pointed out. Not to mention the fact that they bet on the high price of an historically volatile commodity in natural gas. In Texas's deregulated market, it happens to set the marginal price of electricity.
When it was soaring high at $13 per million British Thermal Units, TXU's fleet of coal-fired power plants could generate electricity at a cost that was a fraction of the wholesale price. A honey of an investment, for sure, until gas prices tanked shortly after the purchase, and the renamed generation (Luminant), transmission (Oncor) and retail (TXU Energy) arms of Energy Future Holdings struggled to service a mountain of merger debt.
Now, in his jocular, sporting parlance, Buffett's mea culpa comes at a time when investors' held stock in Energy Future has negative equity in the billions. "We wrote down our investment by $1 billion in 2010 and by an additional $390 million last year," Buffett wrote. You read that right. He wrote down his $2 billion investment by that much.
"If gas prices remain at present levels, we will likely face a further loss," he continued, "perhaps in an amount that will virtually wipe out our current carrying value. ...However things turn out, I totally miscalculated the gain/loss probabilities when I purchased the bonds. In tennis parlance, this was a major unforced error by your chairman."
Of course, Buffett's Berkshire Hathaway will survive. Two billion isn't pocket change, but it won't break him either. Energy Future Holdings -- the biggest generator of electricity in Texas -- on the other hand, needs a miracle. They've pushed the maturities on a substantial amount of their merger debt, but unless natural gas prices rise (and soon) it may only be a matter of time before they default. What happens after that is anyone's guess.