Tag Archives: buffett

What’s going on with Kraft Heinz?

I wanted to take some time to talk about the action this week in Kraft Heinz (KHC). On Thursday, the company reported earnings. Despite significant progress on the cost-cutting front, the headlines were bad. Q4 net sales were down 3.7%. Susquehanna issued a downgrade due to “slower EBITDA growth and delayed deal-making,” as was reported in this Barron’s blog post. Analysts Pablo Zuanic and Aatish Shah even went so far as to predict “little upside in the year ahead.” As a result, the stock finished down $3.82 or 4.2% on Thursday, February 16.

What a difference a day makes.

Turns out that not only is “deal-making” in the air, but the ever-acquisitive Kraft Heinz management had already approached Unilever (a list of their brands that claims 2.5 billion daily customers can be found here) about one of the biggest deals in the history of the consumer food and beverage sector. Weeks earlier.   By the end of the day on Friday, February 17, the tape showed a gain of $9.37 or 10.7%.

In what is being widely reported as a $143 billion offer for KHC to merge with Unilever but in reality may be a much richer offer due to the cash-and-stock nature of what is likely going to be a very complex deal, Kraft Heinz Unilever would instantly become the largest multinational corporation financially engineered by the folks at 3G Capital. And with their folksy financier Mr. Warren Buffet having recently been killing it in the post-election rally and the master Brazilian operator/dealmakers having just raised a massive new round of funding from the likes of Gisele Bundchen and Roger Federer, analysts should have most definitely been aware of the main driver of KHC stock. Yet they published their downgrade anyway. Slathered with a liberal dose of obscure acronyms just to make it sound like they knew what they were talking about.

Egg. Meet face.

This is what happens when analysts get spreadsheet blindness. They start tossing around acronyms and predictions about “trade spending efficiencies” and “synergy realization momentum” to make them sound smarter. But they’re lost in the woods and can’t see the narrative that is really driving the stock. They are being straitjacketed by the scaffolding minutiae they have built into their model. A slight decline in sales due to 3G refocusing on higher-margin brands, a 53rd week of shipments in 2015 that made comparisons tough in 2016, and… Poof!… Their spreadsheet spits out a $1.5 billion decline in earnings before interest, taxes, depreciation, and amortization (EBITDA) projections for 2018.

It’s not the most egregious error that spreadsheet risk has foisted upon the new world economic order. That honor will probably forever belong to Carmen Reinhart and Kenneth Rogoff and their paper that damned Europe to austerity and all its consequences. But jeez, you hope for better analysis to come out of these high-priced New York shops.

Whatever some spreadsheet model is telling you about KHC is simply not the reason to invest in Kraft Heinz. It never has been. Maybe they should have read this article I published on Seeking Alpha way back in October 2015. My thesis for making a long-term investment in KHC back then had everything to do with the blossoming partnership between Berkshire Hathaway and 3G Capital. As I wrote in a speculative post a couple years ago linking them with Coca-Cola (KO), the pair are out to catch some big acquisitions. Their recent investment bounty and successful round of funding only amplifies that sentiment.

Unilever is a big fish. Also, with nearly 60% of its sales coming from emerging markets, it is nearly a perfect fit for Kraft Heinz, which currently only nets 10% of its sales overseas. If it’s not going to be Unilever, as Business Insider has reported, it will be some other food-oriented multinational consumer staples company which, after it gets the “3G treatment” will almost certainly be accretive to earnings. Mondelez. Campbell Soup. Kellogg. General Mills. There are so many fish in the sea.

I like the opportunity so much that KHC is now the fourth-largest position in my retirement portfolio. Warren Buffett is the world’s greatest capital allocator. Jorge Lemann and his cohort have proven themselves to be the world’s greatest operators. The combination should continue to prove immensely beneficial for investors whatever their next target is going to be.

Since the offer came to light early on Friday, Unilever has vehemently and very publicly rejected it. But so did Anheuser-Busch when 3G first floated the idea of acquiring it. Despite a “fierce defense,” a $46.3 billion all-cash offer eventually became a $52 billion offer with a few concessions to the Busch family. These entrenched companies have legions of proud middle managers that refuse to believe that someone could run their business better than them. But 3G definitely can. And will. Combined with their lack of nostalgia over past traditions and good ‘ol boy hires, their love of zero-based budgeting and flat organizational structure offers nearly endless capex reductions. Each bloated bolt-on acquisition offers a new opportunity to wring out the excess.

And realize profits galore.

3G’s dance with SAB Miller was even more drawn out. After nearly a year of haggling, 3G via its suds acquisition vehicle AB-InBev (BUD) downed SAB Miller for $107 billion.

When 3G wants something, it usually gets it.

Who is Mr. Market?

Warren Buffett refers to this allegory to demonstrate the inherently temperamental nature of the stock market. Benjamin Graham’s renowned security analysis course at Columbia University used it to emphasize the importance of drowning out the market chatter. Graham was Buffet’s mentor. Buffett earned an M.S. in Economics at Columbia in 1951.

Prof. Graham asked his class to imagine a “remarkably accommodating” schizophrenic man, Mr. Market. For some reason, you find yourself a business partner of this madman. The guy is just nuts. He paces the halls throughout the day. For no reason at all and at seemingly random times, he just interjects the current prices of a wide range of securities. He doesn’t even take an hour-and-a-half break in the middle of the day like his cousin, Market Xiansheng, does in China. It’s like he’s drunk or something, kicking around the office all day yelling out numbers and pleading with just about anybody in his vicinity to buy or sell those securities he’s screaming about.

Some people buy. Others sell. Some people even do nothing. And still, old Market, every weekday from 9:30 a.m. to 4:00 p.m. runs around the office hollering and carrying on. Yet people still engage with him. They trade with him just the same. And at the insane prices, both bull and bear, that he requests.

Why?

“Mr. Market is there to serve you, not to guide you.”

Well, Mr. Market is a temperamental lot. His old age has seen him become smitten with calling out vastly different prices on different days. People at the office actually make money off of him by casually betting at work. Some days he quotes a very high price for his businesses. Some days he quotes very low prices for his businesses. Like maybe he is depressed or distracted by something else. You keep seeing your coworkers making money off him. Buying low and selling high.

“It all seems to work like a miracle,” you think as you observe the daily machinations of Mr. Market. Eventually, your thoughts turn to, “Well, maybe I ought to just get to know this guy, too.”

But it’s like the emperor has no clothes. You keep thinking to yourself, “What he’s saying is nonsense. It’s all nonsense. Why do I keep listening to this natter?”

Until finally you realize that the only way to deal with the damn fool is just to ignore him.

Don’t listen to Mr. Market.

“If you aren’t certain that you understand and can value your business far better than Mr. Market, you don’t belong in the game.”

The crazy thing is that you come to find that he doesn’t mind being ignored. Not one bit. Even for years. He just continues his banter with whomever passes by. He even does it when no one passes by.

So don’t listen to him!

Do that. Keep doing that. Just block him out.

Then one day, yes certainly one day, Mr. Market will offer you a price so tempting that you cannot refuse it. And you will have spent so much time researching the businesses themselves instead of listening to all the nonsense that Mr. Market had ever said about them that you will immediately know, upon hearing it, that the price quoted is indeed a good and valuable price for you. Sometimes it’s as a buyer. Other times it’s best to be a seller. Mr. Market is agnostic about the breed of his market animal spirit. He is equally kind and hostile to both bull and bear.

Who knows? The very next price that Mr. Market shouts out could be as tempting as the previous quote. Perhaps the one after that, too. Or nothing else could come of it for the next five years.

Be patient and listen to yourself above all the other market noise.

Take a breath. Remain calm. Listen to yourself. And ignore the madman, Mr. Market, running down the halls screaming out random numbers. Remember that guy is schizo.

You can do it.

A Cautionary Tale from Warren Buffett

In the 1987 Berkshire Hathaway Annual Report, Warren Buffett cautioned investors about the vagaries of Mister Market:

But, like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice: Mr. Market is there to serve you, not to guide you.  It is his pocketbook, not his wisdom, that you will find useful.  If he shows up some day in a particularly foolish mood, you are free to either ignore him or to take advantage of him, but it will be disastrous if you fall under his influence.  Indeed, if you aren’t certain that you understand and can value your business far better than Mr. Market, you don’t belong in the game.  As they say in poker, “If you’ve been in the game 30 minutes and you don’t know who the patsy is, you’re the patsy.”