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Author: murdockvdk One star, 50 posts Old School Fool CAPS All Star Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 214602  
Subject: Distilling Heinz Date: 2/24/2013 12:03 PM
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Afternoon – My intention is to outline what we know about the acquisition of Heinz to highlight the unanswered questions that we should be aware of – If I have a spare moment perhaps we can also get to some rampant speculation.

Equity – both Berkshire and 3G are offering up 4.4 billion for 50% equity stakes in the new Heinz entity.

Preferred shares – Berkshire is being given 9% on 8 billion dollars in preferred shares – or 720 million dollars a year before taxes (2 million dollars a day) – I saw it posted that this would be a net 670 million after taxes.

Let’s leave aside the argument about what the total yield on the deal is with the understanding that we’re getting 670 million a year an equity kicker on our 12.4 billion dollars – 5.4% or so – given what I’m earning on my personal emergency fund money I would say that this is about a 668 million dollar a year improvement for Berkshire over what cash is paying. (Note that this is only a very slight exaggeration)

Warrants – we have no idea what the terms of the warrants will be so a big asterisk here

Debt – there is leverage being employed here and I’ve very interested to see what the interest rate of this debt ends up being (I have not seen this posted anywhere – if it has please correct me – I think Mungofitch posted that the current Heinz debt is trading at 3.6%)

Impressions – it is a lot of money to spend on ketchup but it is the only ketchup that I use – the private label ketchup I sometimes see when I’m out is dreadful

Remaining questions from above
What is 3G receiving to run the company?
When can the preferred shares be called?
What is the Tax rate that Berkshire will pay on the preferred and is there a danger of this changing? (Think tax reform or some other change)
What are the terms of the warrants?
What interest rate is the new entity forced to pay for debt financing?

Rampant speculation

I’ve been trying to figure out what the relationship between Berkshire and 3G will look like over time. Just for the sake of thinking out loud

Berkshire
1. MidAmerican – over time Buffett increased ownership as the company bolted on new operations and by bolted I mean bought giant utilities not adding on little companies to a larger parent
2. Lots of Berkshire affiliates make bolt on acquisitions – we know this
3. I find myself thinking about the Marmon deal and the somewhat novel approach to buying the company out

3G
1. They took away my Bud shares! But at the same time they created a giant company that apparently runs very efficiently. Most of what I’ve heard about volume dropping in some of their major brands seems to be the result of moving consumers into higher margin products. Bud Lite to Bud Lime etc.
2. I guess I don’t know a whole lot about 3G beyond the Beer and Burger King… some opportunity here for me to learn something

Buffett had quite the reaction to the Kraft treatment of the frozen pizza operation; it really stuck out to me. He was angry! Or at least as angry as Warren publicly gets, normally he would only praise individually and criticize generally. I wondered at the time if he would have been a buyer of the operation if he had a vehicle to attach it to. (Assuming of course that the pizza operation itself was too small to be a stand-alone company)

http://www.cnbc.com/id/34961653

I could only find some links to text but not the actual interview, the above link goes to part 3 of the CNBC interview where he deals with Kraft.

Small Quote
“And unfortunately they headlined the $3.7 billion. I don't think I've read anyplace about the fact that they're only getting $2.5 billion. And it was Nestle that pointed out that this business does $2.1 billion in sales and makes $280 million. And giving up $280 million of earnings in a business that's been growing over the years for $2.5 billion of cash, I think, is a big mistake and I think it's a bigger mistake when you're paying -- probably counting all of the costs involved including the undervaluation of the Kraft shared given, you're probably paying in the range of maybe 17 times earnings for Cadbury, I think is a big mistake.”

So with that said I wonder if the undisclosed Warrants hold the secret to the Heinz deal (a thread just above asks the question why didn’t Berkshire just buy Heinz) Perhaps (this section is labeled rampant speculation so you’ve been warned) the Warrants are structured to institutionalize the behavior we’ve witnessed in MidAmerican and that 3G has been working on creating Bud.

Bear with me

3G and Berkshire partner on Heinz and create a vehicle to acquire additional boring has heck food companies. (Mars please!) As each part is bolted on Berkshire provides a portion of the financing and its considerable reputation in return for a larger equity stake a growing pie and a fair return on its capital. 3G has a smaller equity stake at each turn but of a much larger whole.

A boy can dream.

Risks

Group project – how does this sucker blow to into a thousand pieces? You can pick either while the deal is being done or after the deed is done.

A. Maybe the rogue options trader was actually a key member of one side or another’s management team.
B. Current Heinz shareholders revolt (There is a lawsuit but there is always a lawsuit and how many people are going to complain about getting 20% above the all-time high?)
C. The trend towards private label continues and Heinz starts to lose market share leading to a loss of pricing power as management tries to cut prices to keep volume up
D. Combine C with a dramatic rise in raw material pricing (Tomato Famine! Sugar Wars!)
E. Food tastes change - http://boards.fool.com/the-ketchup-conundrum-30541952.aspx … Thanks to ratehunter for finding that New Yorker piece from way back – it’s an interesting read but I would note that it has not set the world on fire like Grey Poupon did.


Ok… thoughts?

Tom
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