It appears to be just another case of Warren Buffett acting in
character, but I believe there is more to the buyout of
H.J. Heinz (NYSE: HNZ
) than meets the eye.
First, let me confess that I've been a beneficiary of
Berkshire Hathaway's (NYSE: BRK.a)
buyout of the ketchup king. No, I don't own Heinz stock, but I
believe Buffett's interest in Heinz has raised the profile of
other food stocks, including
High Yield Wealth
McCormick & Co (
For the record, I do own Berkshire Hathaway shares as well.)
Heinz is a dominant, well-branded food company. So is
. Not long after the Heinz buyout was announced, McCormick shares
began to climb, and they've been climbing ever since. In fact,
they recently hit an all-time high, lifting their total return to
High Yield Wealth
portfolio above 42%.
But McCormick might be rising on an atypical deal. Upon closer
inspection, it appears the Heinz buyout is somewhat out of Mr.
It's unusual in that Berkshire is splitting ownership of Heinz
with 3G Capital, with each company putting in $4 billion in cash.
Berkshire is contributing an additional $8 billion to receive
preferred shares, which will
, or $720 million, to Berkshire annually.
The remainder of the buyout is financed with debt, which will
double Heinz's debt load to more than $12 billion. It isn't
surprising, then, that Fitch Ratings downgraded Heinz's debt to
junk-bond territory, citing the heavier debt load.
In short, Mr. Buffett has just done a leveraged buyout, which
he has a history of railing against.
The fact that an outside firm, 3G Capital, will run operations
is also out of character. 3G has a reputation for cost-cutting
and layoffs - the bailiwick of most leveraged buyout firms. 3G's
most notable leverage buyout - that of
Burger King (NYSE: BKC) -
turned a tidy profit.
But 3G's success was mostly the result of financial
engineering - going private, and then going public at an
opportune time - and the aforementioned cost cutting. Burger King
is worth no more today than it was a few years ago.
3G Capital took fees and
out of Burger King, and Berkshire will do the same with
Heinz. This makes me wonder if we should expect to see
Heinz re-emerge in the public markets a couple years hence in an
IPO, with Berkshire and 3G as the chief beneficiaries.
If an IPO is on the distant horizon, it would certainly be out
of character for Mr. Buffett, who has always preached investing
for the long term.
But Mr. Buffett is in a unique, if not enviable, quandary.
Berkshire generates copious amounts of cash that continually
swell its coffers, even when Mr. Buffett tries to empty the
coffers with new investments. Berkshire's latest reported cash
balance still topped $47 billion. The Heinz deal will put only a
small dent in that balance.
Sitting on a huge pile of capital makes it difficult to
generate high returns on capital. Berkshire reports 7.84% return
on equity, which isn't particularly impressive. Then again, it is
operating from a very large equity base.
As much as I respect Mr. Buffett's investing acumen, I think
he's reached a point where he's making investments simply to soak
up liquidity. There is nothing particularly inspiring or
insightful in his most recent investments: Heinz,
Archer Daniels Midland (
IBM (NYSE: IBM
General Motors (
Mr. Buffett might conjure a unique reason for making the
investment, but there is
about the investment itself.
These investments simply add to the menagerie: Berkshire is
already involved in insurance, banking, clothing, retailing,
flight services, building products, utilities, railroads,
utilities, and energy production. It's everywhere.
My suggestion, as immodest as it might be, is for Berkshire to
start paying dividends. Dividends would remove excess cash, raise
return on equity, and reduce reinvestment risk.
Dividends would also give Berkshire investors something
tangible to spend or invest. After all, every investment is
fundamentally valued on expected cash flow to investors. A
company has to pay a dividend sometime.
A dividend would also mean Berkshire investors would be
investing like Mr. Buffett
and not with Mr. Buffett
. There's a difference. You'll notice that Mr. Buffett
always invests for cash flow (and I do the same at
High Yield Wealth
). He gets direct use of the cash, not the investors.
Perhaps it's time Berkshire shareholders start investing for
cash flow, too.