It's never good when a company announces a $ 15.4 billion non-cash impairment charge. This is a sign that the case is not going as planned. February 21 Kraft Heinz (NASDAQ:KHC) announced such a charge, which resulted in a 27% decline in Kraft Heinz shares in a single day of trading.
If you own Kraft Heinz shares since the end of 2017 and if you keep them, your paper losses are close to 60% … a terrible feeling for any investor.
I have not written much about Kraft Heinz in recent months. Even though I knew things were not going well in the company, or in the whole processed and packaged food industry, I did not know it was so bad.
Yes, people are trying to eat better, but many still buy Oscar Mayer hot dogs and Kraft cheese macaroni dinners. A 60% haircut over 14 months seems to be an overreaction, but Mr. Market will do what he wants when he wants it. We can not do much about it.
In April 2017, I included Kraft Heinz in a listing of ten stocks to buy for the next decade. Of the ten stocks, only KHC is in negative territory after 22 months, posting an average total return of 43% with Blue Buffalo acquired in April 2018 by General Mills (NYSE:GIS), hence the number nine in the title.
This is good news.
The bad news is that an intellectual property reader saw my article at one point and chose KHC among the crowd, which prompted him to send me an e-mail containing the content of the training.
In this case, there is nothing worse than hearing about losses. You only want gains and gains. We all know that it does not always happen. I feel bad, but it's time to move on.
After careful consideration, I propose seven reasons why contrarian investors might want to buy Kraft Heinz shares.
Note: If you are not prepared for more potential losses, do not even consider an investment.
As you probably know, Berkshire Hathaway (NYSE:BRK.A, NYSE:BRK.B) is the largest shareholder of Kraft Heinz with 26.7% of its capital, slightly higher than private equity firm 3G Capital, Buffett partner in the acquisitions of Kraft Heinz, 23.9%.
Both lost billions of paper as a result of the impairment charge. Buffett admitted that they had made two mistakes with Kraft Heinz. First, they paid extra for Kraft and secondly, although he feels they did not pay too much for Heinz, they acquired 100 billion dollars tangible assets between the Heinz deal and the Kraft merger, making today's industry-changing packaged food industry much more challenging than the 2015 merger.
The good news is that Buffett said he would not go anywhere. The bad news, at least so far, is that he showed no enthusiasm for raise his stake or buy back its private equity partners.
My instinct tells me that it will change if its price falls in the $ 20.
Warren Buffett is a loyal partner. Since the news about depreciated charges, he is very appreciative of its 3G partners.
"I'm certainly happy to be Jorge Paulo's partner", Buffett m said about the co-founder of 3G Jorge Paulo Lemann. "He is a great and very intelligent human being in business."
Although Lemann may be smart in business, the craze for third-generation companies with zero-based budgeting, where every expense must be justified every year, has pushed the company to cut costs instead 39; innovate. This has made old and tired brands unable to compete with smaller, more user-friendly brands.
If 3G were to sell its stake in Berkshire and Buffett set up a new innovation-led management team, there was no reason for him not to get back into $ 40.
It will probably not happen, but it should happen.
Bernardo Hees, current CEO of Kraft Heinz, is a guy from 3G. He has worked for third generation companies since graduation and is still a partner of the private equity firm despite its day job at the helm of the company.
Trained as an economist, he is a man of numbers. Prior to becoming CEO of Heinz in 2013, he led Burger King Worldwide for four years. Previously, he ran 3G-owned businesses in Latin America.
Burger King does not do the same things as Kraft Heinz, but good CEOs can make transitions between industries and sectors. Cost reducers, not so much.
Joe Cahill, a Crain contributor to Chicago Business, wrote an interesting article in November on Kraft Heinz who needed a new CEO well before the depreciation charge. I could not agree more.
"Hees needs to strengthen product development and marketing capabilities, while reorienting the company's growth priorities after driving an absolute zeal for cost control," Cahill said. wrote. "At the same time, he has to convince Wall Street that investing in growth will not affect industry-leading profit margins that distinguish Kraft Heinz from competitors."
If an economic journalist could see the forest from the trees, as Buffett said recently, why could not Hees?
A new CEO with real packaged food experience would be a good start to transform Kraft Heinz.
Back to the average
On this one, I'm probably grabbing.
Returning to the mean means that stock prices tend to return to their historical average mean. Since the merger in 2015, KHC shares have traded between $ 70 and $ 100; 31 months before going down.
That said, the return to the mean does not always happen and, if so, it often has more to do with improving business conditions than a historical trend.
The question for aggressive investors should be: is this a change in the standard for Kraft Heinz, which means that a $ 32 course is fully justified, or is it about an abnormally low level for KHC action?
If Buffett does not buy more stock, it is possible that he thinks $ 32 is not the bottom. It is also possible that he does not want to aggravate the situation by increasing Berkshire's participation at a time when the future is unknown.
If you own KHC shares, you may want to pray for the average to return to normal.
There is only one constant with 3G companies: they usually have a big debt.
Take Restaurant Brands International (NYSE:QSR), owners of fast-food restaurants Burger King, Tim Hortons and Popeyes. 3G socket 43% voting shares of the Toronto-based company. He has $ 11.8 billion total long-term debt to only $ 913 million in cash. It's a lot of debt for a franchise business.
With the slowdown in the global economy, the winning stocks will be those with solid balance sheets. I would not qualify Restaurant Brands as such.
As for Kraft Heinz, he has $ 30.9 billion long-term debt and barely $ 1.1 billion in cash. Its debt represents 79% of its market capitalization, a relatively high level. However, as Buffett acknowledged, the Company has significant tangible assets that it could sell to other private equity firms, which would reduce the amount of its leverage on its balance sheet.
After all, if private equity could bring Hostess brands (NASDAQ:TWNK) and Twinkie to life, it is possible that some courageous people do the same with some brands of Kraft Heinz.
In early January, Kraft Heinz completed his $ 200 million purchase of Primal Kitchen, a manufacturer of condiments, sauces, salad dressings and healthy snacks. The company operates under the responsibility of the company. Springboard platform, which includes some thriving food brands that disrupt the industry.
Last October, Kraft Heinz announced the purchase of Ethical Bean, a Canadian coffee brand that meets high standards in environmental and social management. Although Ethical Bean is a company with less than $ 10 million Kraft Heinz sees in its annual turnover the opportunity to develop it.
This is the kind of stealthy acquisitions he should have made from the start.
Although these are not massive offers of the Unilever (NYSE:UNFor example, they give the company a more contemporary feel, which is essential if it wants to provide shareholder value in the future.
Do powerful acorns grow powerful oaks?
Reinvest in business
This last point is essential for the future of Kraft Heinz. It must be obvious to Buffett and 3G that cost savings are not the answer.
Between 2014 and 2017, Kraft Heinz increased its operating margin by 840 basis points to reach 23.5%, prompting most, if not all, packaged food businesses to adopt some form of cost control. However, you can not reduce your fat intake before your business starts to lose weight.
"Savings can only go so far as to increase margins", declared Dean Best, collaborator of Just-Food.com, recently. "Over time, sustainable sales growth is also needed. And Kraft Heinz has not been able (or, some would say, investing in its brands) to regularly grow its business, whether on an organic or declared basis.
Investors, worried that Kraft Heinz is not able to boost sales growth, have left the building. It will take 12 to 18 months to regain investor confidence.
If it wants to curb the price of its shares, it is essential to put in place a coordinated growth strategy in the markets before the start of the summer. If investors do not attract him by June, I could see him falling in the $ 20.
Divestments such as Maxwell House and Planters are welcome. However, if it does not include a growth plan, a better balance sheet will not save the price of its shares.
At the time of writing this article, Will Ashworth did not hold any position on any of the above titles.