Besides Kellogg, What Other Food Companies Could Be Buffett’s Next Target?

There has been much talk about Kellogg being a potential acquisition target for Berkshire Hathaway, but maybe some other food companies would make better sense for Berkshire.

Jun 6, 2014 at 9:00AM

There have been rumors swirling that Kellogg (NYSE:K) is a potential acquisition target for Warren Buffett and his holding company Berkshire Hathaway (NYSE:BRK-A) (NYSE:BRK-B) .

Buffett looks for companies with strong returns on equity and capital, abundant cash flows, low debt, and well-known brands that own a piece of the consumer's mind. He also likes to pay a fair price for those criteria. Kellogg certainly has sold returns on equity and capital, strong cash flows, and recognized brands, but is its current price in line with paying for those desired qualities?

Maybe some of Kellogg's competitors in the food sector such as Kraft Foods Group (NASDAQ:KRFT), ConAgra Foods (NYSE:CAG), or General Mills (NYSE:GIS) would make better investment sense for Buffett. Kellogg's peers in the food industry also have good returns on equity and capital, strong cash flows, and acclaimed brands. In this article, I will evaluate these companies against Kellogg to discern which company best fits the investment strategy of Buffett and Berkshire Hathaway.

 

ROE (5-yr. avg.)

ROC (5-yr. avg.)

Debt/Equity

FCF positive (5 yrs.)

Kellogg

58.2

17.6

1.54

Yes

Kraft

29.78*

14.71*

1.88

Yes*

ConAgra

15.5

9.6

1.56

No

General Mills

27.1

10.9

1.14

Yes

Data Source: MSN Money & Morningstar (ROE & ROC in %)

*Kraft separated into Kraft Foods Group & Mondelez, so only three fiscal years are available for Kraft as a separate company.

All four companies have good returns on equity over the last five years. ConAgra has the lowest ROE on average over the last five years at 15.5%, but that average is nothing to snark at and most companies would love to have such an average over the last five years. Still, Kellogg's ROE over the last five years is truly startling at 58.2%. Considering this, it is easy to see why Buffett would be interested in acquiring Kellogg and adding this rate of return to Berkshire's portfolio.

All four food producers have more debt on their balance sheets than equity as displayed in their debt/equity ratios, but all of them also generate substantial returns on capital to cover their interest costs. ConAgra has the lowest average ROC over the last five years at 9.6%, but that average is still decent and does not put the company into any immediate trouble. Nonetheless, like ROE, Kellogg comes out on top with an average ROC of 17.6% over the last five years. This is a great ROC and shows Kellogg's ability to generate strong earnings to cover its capital costs.

Buffett is looking for companies with strong cash flow, not just strong earnings. All of the companies fit that bill except for ConAgra. ConAgra was free cash flow negative in 2008 and 2009, but has recovered and has generated positive free cash flow in every fiscal year since 2010. Therefore, ConAgra could still be a potential target for acquisition, but less so than Kellogg, Kraft, or General Mills as those three companies have not had any hiccups in their ability to generate free cash flow over the last five years.

Buffett wants to pay a fair price

 

P/E

Forward P/E

5-yr. PEG

P/CF

EV/EBITDA

Kellogg

13.2

16.3

2.85

14.5

8.4

Kraft

13

17.3

2.45

17.3

8.4

ConAgra

16.8

13.6

2.23

8.8

9.9

General Mills

20

17.7

2.79

14.3

12

Data Source: Yahoo Finance & Morningstar

All of the companies trade at discounts to the S&P 500 on a trailing earnings basis, save General Mills. The S&P 500 trades at a current P/E of 18 and Kellogg and Kraft have P/E values at or a little above 13, while ConAgra has a P/E of about 17. On a forward earnings basis, ConAgra looks the most attractive with a forward P/E of 13.6 and a five-year PEG of 2.23 – both the lowest among the four companies. Kellogg, surprisingly, has the highest PEG out of the four companies. Still, the forward P/E and PEG consider analyst estimates, and Buffett is more interested in past ability to generate earnings and cash flow and an ability to sustain that in the future.

Interestingly, ConAgra looks the cheapest considering its ability to generate cash flow from its operations with a P/CF of 8.8. The S&P 500 has a current P/CF of 11, so ConAgra trades at a discount and the other three companies trade at premiums to the market on this basis. However, ConAgra is more expensive than Kellogg or Kraft considering their enterprise values. ConAgra's EV/EBITDA ratio of 9.9 is ahead of Kellogg's and Kraft's equal ratio of 8.4. General Mills' EV/EBITDA is the most expensive out of the four companies at 12.

Which company should Buffett buy?
Kellogg is definitely impressive in its ability to generate returns on equity and capital. Moreover, Kellogg perennially generates positive free cash flow and generates its returns even with a substantial amount of debt. The other companies are also impressive but less so than Kellogg with respect to ROE and ROC. Furthermore, only ConAgra has failed to generate positive free cash flow in every year over the past five years.

On a valuation basis, a consensus company for Buffett to buy is not reached through evaluating the metrics here. ConAgra actually looks attractive on some valuation multiples, but is less attractive than the other companies in its ability to generate investment returns and cash flow. Kellogg's current P/E is low compared to the S&P 500's, but its current P/CF is a little pricey compared to the S&P 500's.

Although Kellogg is not a screaming buy with the valuations considered here, its ROE, ROC, and cash flow generation all meet Buffett's and Berkshire Hathaway's investment rubric.

Warren Buffett did buy nearly 9 million shares of this company
Imagine a company that rents a very specific and valuable piece of machinery for $41,000 per hour (That's almost as much as the average American makes in a year!). And Warren Buffett is so confident in this company's can't-live-without-it business model, he just loaded up on 8.8 million shares. An exclusive, brand-new Motley Fool report details this company that already has over 50% market share. Just click HERE to discover more about this industry-leading stock... and join Buffett in his quest for a veritable landslide of profits!

Andrew Sebastian has no position in any stocks mentioned. The Motley Fool recommends Berkshire Hathaway. The Motley Fool owns shares of Berkshire Hathaway. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Money to your ears - A great FREE investing resource for you

The best way to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as “binge-worthy finance.”

Feb 1, 2016 at 5:03PM

Whether we're in the midst of earnings season or riding out the market's lulls, you want to know the best strategies for your money.

And you'll want to go beyond the hype of screaming TV personalities, fear-mongering ads, and "analysis" from people who might have your email address ... but no track record of success.

In short, you want a voice of reason you can count on.

A 2015 Business Insider article titled, "11 websites to bookmark if you want to get rich," rated The Motley Fool as the #1 place online to get smarter about investing.

And one of the easiest, most enjoyable, most valuable ways to get your regular dose of market and money insights is our suite of free podcasts ... what we like to think of as "binge-worthy finance."

Whether you make it part of your daily commute or you save up and listen to a handful of episodes for your 50-mile bike rides or long soaks in a bubble bath (or both!), the podcasts make sense of your money.

And unlike so many who want to make the subjects of personal finance and investing complicated and scary, our podcasts are clear, insightful, and (yes, it's true) fun.

Our free suite of podcasts

Motley Fool Money features a team of our analysts discussing the week's top business and investing stories, interviews, and an inside look at the stocks on our radar. The show is also heard weekly on dozens of radio stations across the country.

The hosts of Motley Fool Answers challenge the conventional wisdom on life's biggest financial issues to reveal what you really need to know to make smart money moves.

David Gardner, co-founder of The Motley Fool, is among the most respected and trusted sources on investing. And he's the host of Rule Breaker Investing, in which he shares his insights into today's most innovative and disruptive companies ... and how to profit from them.

Market Foolery is our daily look at stocks in the news, as well as the top business and investing stories.

And Industry Focus offers a deeper dive into a specific industry and the stories making headlines. Healthcare, technology, energy, consumer goods, and other industries take turns in the spotlight.

They're all informative, entertaining, and eminently listenable. Rule Breaker Investing and Answers are timeless, so it's worth going back to and listening from the very start; the other three are focused more on today's events, so listen to the most recent first.

All are available for free at www.fool.com/podcasts.

If you're looking for a friendly voice ... with great advice on how to make the most of your money ... from a business with a lengthy track record of success ... in clear, compelling language ... I encourage you to give a listen to our free podcasts.

Head to www.fool.com/podcasts, give them a spin, and you can subscribe there (at iTunes, Stitcher, or our other partners) if you want to receive them regularly.

It's money to your ears.

 


Compare Brokers