Against All Odds: Warren Buffett Teaming Up with Private Equity Firm


March 27, 2015

One of the world’s most iconic investors, Warren Buffett, is teaming up with private equity firm 3G Capital Partners. Buffett’s firm, Berkshire Hathaway is combining efforts to merge the iconic Heinz and Kraft food companies in one of the biggest deals of the year. The joint venture comes despite the investor being a vocal critic of the private equity industry. Considering this isn’t the first deal Buffett makes with 3G Capital Partners, what makes him do deals with the private equity firm?


Background of the Deal
The Wall Street Journal reported earlier this week that the private equity firm 3G Capital Partners is in advanced talks to buy Kraft Food Group. The acquisition would be made through 3G’s H.J. Heinz unit and the deal would most likely be worth at least $40 billion.


The Brazilian private equity firm would be working together with Berkshire Hathaway – just like it did in 2013 when it bought Heinz. The companies responded to the rumours on Wednesday, when they released a joint statement and announced the deal is going ahead.


The mega deal will give birth to the 3rd largest food and beverage company in North America and the 5th largest in the world. The name of the new company will be The Kraft Heinz Company, with headquarters in Chicago. According to the deal, current shareholders of Kraft will receive a special cash dividend of $16.50 per share upon closing stock, representing 49% of the company.


The private equity firm together with Berkshire Hathaway will invest an additional $10 billion into the company. The current shareholders of Heinz will therefore own 51% of the new company. Heinz’ CEO, Bernardo Hees, said in the statement, “We are thrilled about the unique opportunities this merger will create for our consumers worldwide, as well as our employees and business partners.”


3G’s Commitment to Change the Food Industry
The private equity firm has been extremely active in recent years in the food industry and it is obvious it is committed to changing the sector. The firm had previously announced it’s looking for new targets after it managed to raise $5 billion exclusively for deal making. Many industry analysts believe its buyout of Heinz in 2013 for $23 billion was a shakeup call to the whole industry. The firm is known for going after assets it considers to be bloated and slashing the spending in these companies.


Heinz has been going through tough spending cuts, with a number of employees losing their jobs. The firm has been keen to expand Heinz’ operations and the new deal gives the firm more tools to achieve growth.


Warren Buffett’s Criticism of Private Equity
Although Buffett’s firm has dealt with 3G in previous occasions, many are still surprised to see the investor team up with private equity – after all it is a sector Buffett has criticised openly in the past.


Just recently, in his letter to Berkshire Hathaway’s shareholders, the investor guru said that investors in the sector aren’t in love with equity, but rather debt. According to Australia Financial Review, Buffett believes private equity firms have a short-term investment mentality, which is against his own long-term approach.

Furthermore, the investor has criticised the remuneration private equity managers use and called for the US government to “close the “carried interest” tax loophole that allows individual private equity managers to pay low tax on their earnings”. This even led to President Obama to instigate the “Warren Buffett tax rule”.


The current climate is not making things any better for Buffett. In his letter, the investor guru said, “Because debt is currently so inexpensive, these buyers can frequently pay top dollar. Later, the business will be resold, often to another leveraged buyer. In effect, the business becomes a piece of merchandise.”


Why is 3G Different?
Since Buffett has been vocal in the past about his dislike of private equity, the media asked questions regarding the latest deal. Buffett immediately told reporters that the deal is different. According to Business insider, Buffett sees 3G’s operations different to other private equity firms “because the firm isn’t just buying things to sell them”. Therefore, the company isn’t falling into the merchandise trap, as the private equity firm is investing in it because it wants the business to grow and create long-term profit.


Buffett has a long relationship with the firm. The two firms have been operating together on a number of deals in the past few years, which has undoubtedly helped ease some of Buffett’s worries in regards the private equity sector.


He said in the official statement that he is “delighted to play a part in bringing these two winning companies and their iconic brands together”. Buffett went on to state the deal is his “kind of transaction, uniting two world-class organizations and delivering shareholder value”.


Changing the Game
It isn’t just Buffett that believes the private equity firm operates differently. A Wall Street Journal analysis looked into what separates the firm from the rest and the reasons it has been so successful shaking up the food industry. The analysis identified a few key reasons.


First, the firm has a very narrow and clear focus on the food industry as an investment field. It also takes advantage of zero-based budgeting, which means companies must justify their budgets for each year by starting from zero. In addition to cutting costs, the firm focuses on lowering tax burdens of the companies it invests in.


Wall Street Journal also says that owning rich friends help. Not only has the firm close ties with Warren Buffett, but also its entire fundraising structure is based on a network of friends raising funds for specific targets.


Overall, the markets in the US are currently ripe for deals like this. Bob Doll, chief equity strategist at Nuveen Asset Management, told the Australia Financial Review, “While financing is cheap, we’re going to get a bunch more deals like this”. The US-targeted mergers and acquisitions have already hit the highest levels on record last year and this could be another big year for the industry.

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