If investors dunked an Oreo every time fresh news broke about packaged-foods producer Kraft (NYSE:KFT), the past few months would've left us with a lot of bulging waistlines. Yesterday, Warren Buffett weighed in on the company's protracted bid for U.K.-based confectioner Cadbury (NYSE:CBY) -- and he didn't bring a friendly glass of milk to the table.
Buffett previously characterized Kraft's bid as a "full price" offer, while also warning the American food icon not to overpay for Cadbury's chocolatey goodness. This time, however, the Oracle put his vote where his mouth is. Buffett's Berkshire Hathaway (NYSE:BRK-A), Kraft's largest shareholder, came out staunchly against the company's proposal to issue 370 million shares in support of the Cadbury deal.
Berkshire makes a few salient points here. First, Kraft requires only 366 million shares in order to meet the existing terms of its cash-and-stock bid. But let's be honest -- 4 million additional shares are no biggie, which apparently is the basis on which the company has "rounded up" the figure to 370 million in its shareholder proxy. On this note, a Berkshire release reads:
The share-issuance proposal, if enacted, will give Kraft a blank check allowing it to change its offer to Cadbury – in any way it wishes – from the transaction presented ... we worry very much that, indeed, there will be an additional change from the revision announced this morning.
Buffett, apparently, doesn't trust Kraft management to exercise buyer's restraint. Of course, the bold language could be equally meant for Cadbury's top brass, warning the maker of Dentyne, Halls, and eponymous Creme Egg products not to expect an enriched bid.
Second, Berkshire notes that Kraft stock is a "very expensive 'currency'." Shares trade at $27 today, versus $33 in 2007, when the company completed a $3.6 billion buyback. Indeed, Berkshire could have further observed that shares sit below 2001 levels, compared to modest stock gains for competitors.
Meanwhile, Kraft yesterday announced an agreement to sell its North American frozen-pizza business to global behemoth Nestle (OTC: NSRGY), in exchange for $3.7 billion in cash. Kraft intends to use the proceeds to boost the cash portion of its Cadbury tender, hoping to win over reluctant shareholders on both sides.
In the process, however, Kraft relinquished a business that had been growing by double digits in recent quarters, thanks to a strong value proposition and the rise of at-home dining. Management vowed that it suffered no loss, since its U.S.-centric DiGiorno and California Pizza Kitchen brands did not fit with the company's global expansion strategy. Frankly, I don't buy that. I believe Kraft flipped the pie because it was the only non-core business that could fetch a decent premium.
I've been cautious on Kraft, and these events only add to my tentative outlook. Investors might instead consider Nestle the better play on industry consolidation. Although the company has confirmed that it won't be making a move for Cadbury, the Kraft deal demonstrates that Nestle's management is happy to play the acquirer. Moreover, a pending sale of its Alcon (NYSE:ACL) stake is expected to haul in $28 billion. Given that pile of dough, Wall Street watercooler talk hints that Nestle might make a run at its cereal joint-venture partner General Mills (NYSE:GIS), or infant-nutrition specialist Mead Johnson.
As for Cadbury's fate, the company was doing quite well on its own. But with Nestle out of the picture, and Hershey's (NYSE:HSY) board still split on a potential bid, Cadbury shares may not revisit their 2009 highs.
As the market awaits further developments, investors who are actively buying in this space would do well to heed Buffett's advice: Don't pay more than full price.
Do you agree with the Oracle that Kraft is making a rash acquisition? Or should Buffett just relax and nibble on a chocolate egg? Sound off in our comments below.
