How Warren Buffett is Making Money These Days: H.J. Heinz Company (HNZ), Wells Fargo & Company(WFC)

Page 1 of 2

Warren BuffettThe recently announced acquisition of H.J. Heinz Company (NYSE:HNZ) by Berkshire Hathaway Inc. (NYSE:BRK.B) and 3G Capital raised some eyebrows at first, mostly because the premium of nearly 20% doesn’t make the deal look particularly cheap in terms valuation. Heinz is being valued at more than 20 times earnings estimates for the next year — this doesn’t seem excessive for a profitable company with high-quality brands, but hardly a bargain either.

Upon further examination, however, it looks like Buffett made a great deal once again.

The Deal

Berkshire and 3G are putting down $4 billion each, and they are both getting a 50% equity stake in the company. Berkshire will also invest $8 billion in preferred equity yielding a juicy 9%, and Buffett is getting warrants too, but the conditions regarding those warrants have not been disclosed. JPMorgan Chase & Co. (NYSE:JPM) and Wells Fargo & Company (NYSE:WFC) will be in charge of raising around $7 billion in extra debt for a total of nearly $23 billion.

Heinz will be a more leveraged corporation after the acquisition, and 3G will be in charge of running the company. 3G has a solid reputation when it comes to managing consumer companies, and Heinz owns very valuable brands, so the company should do well over the next years. International expansion and adding more products to the distribution network are two obvious growth avenues for the company in the middle term. Buffett likely won’t want to be associated with harsh cost cuttings, but 3G should make sure to keep costs under strict control.

Is this a leveraged buyout? It depends on how you see it. Buffett is not planning to flip the company for a profit in the future, and that’s an important difference versus traditional LBOs. On the other hand, the new Heinz will be a highly leveraged corporation, and that additional debt is one of the ways in which equity investors expect to see increased returns, so leverage is an important component of the agreement.

The Rationale

To begin with, the 9% that Buffett is getting on his preferred shares is a spectacular yield, especially in times of ultra-low interest rates. Heinz has generated between $800 million and $1 billion in free cash flows per year in recent years, and the preferred dividends should amount to something like $720 million – 9% of $8 billion – so Buffet is getting a big chunk of the annual cash flows generated by Heinz.

This is not only relevant in terms of the yield that Buffett is getting, it’s also very important when it comes to incentives. 3G will need to make sure that Heinz produces growing cash flows over the coming years if common shareholders are going to benefit from this deal.

When it comes to upside potential, we still don’t know the details about those warrants that Buffett is getting, but if history is any guide, investors in Berkshire have reason to feel optimistic about that part of the deal.

Page 1 of 2
Comments
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months. Our beta is only 1.2 (don't click this link if beating the market isn't important to you).

Lists

The 10 Most Expensive iPhone Apps

The 9 Most Expensive Designer Shoes in the World

The 10 Most Expensive Cigarette Brands

The 10 Most Expensive Law Schools in the US

The 10 Best Wall Street Movies

The 10 Most Expensive Golf Clubs Ever Sold

The 10 Most Expensive Golf Memberships

The 10 Best Disney Characters Ever Created

The 8 Best Foods for Gaining Weight

The 10 Most Expensive Colleges in the World

The 7 Most Memorable Ad Campaigns of All Time

The 7 Most Expensive High Schools in the World

The 10 Electric Vehicles with the Longest Range

The 10 Cities with the Worst Drivers in the World

The 10 Most Expensive Dresses Ever Created

10 Islands to Visit Before You Die

10 Famous Celebrities Who Needed Rehab

The 15 Countries with the Largest Oil Reserves

The 10 Most Overused Excuses in the World

The 5 Best iOS Apps You Can’t Get on Android

5 Companies Damaged By Social Media Blunders

The 10 Most Legendary Blues Songs

The 10 Most Lawless Places in the World

4 Reasons China is a Threat to the US

The 17 Most Sugary Drinks in the World

The 10 Most Ruthless Rulers in History

The 10 Greatest Generals in History

Top 8 Travel Destinations for 2015

The 10 Safest Dog Breeds for Children

The 10 Most Stolen Vehicles in the US

The 7 Most Expensive Celebrity Weddings

The 10 Best LoL Teams in the World

Top 10 Worst Marketing Campaigns Ever Produced

Top 5 Diets that Help You Lose Weight

The 10 Best Ways to Stay Awake

7 Artists That Switched Musical Genres

The 10 Most Expensive Cities to Live in New Jersey

The 10 Best High Schools in New York

The 10 Countries With the Least Gender Inequality

The 6 Biggest Musician-Manager Feuds

The 10 Countries with the Cheapest Gas Prices

The 7 Most Theatrical Bands of All Time

The 8 Worst Band Breakups of All Time

The 10 Most Important South American Leaders

The 7 Most Successful Casting Show Winners

The 10 Most Peaceful Countries in the World

5 Big Reasons Communism Failed

The 15 Most Famous Carl Icahn Quotes

10 Scary Animals that are Actually Harmless

The 8 Most Famous Singer-Actors in Entertainment

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!