Kraft Foods and H.J. Heinz, two processed foods giants, recently welcomed a merger backed by 3G, a Brazilian private equity firm, and Warren Buffet’s Berkshire Hathaway, in the largest deal of 2015 thus far. By acquiring Kraft, worth $36 billion before the deal, 3G Capital adds yet another company to a recent line of acquisitions of North American food companies including Heinz, Budweiser, Burger King and Tim Hortons.
The enlarged Kraft Heinz Company, will be one the fifth largest food and beverage conglomerates on the world, with nearly $28 billion in annual sales and an expected market value over $80 billion. Headquarters will be in Pittsburgh and the Chicago area. In the United States, this new entity will be the third largest company in this category, behind PepsiCo, Inc. and Nestle USA – it is estimated that 98 percent of American households buy at least one product from either Kraft or Heinz! The Kraft Heinz Company will have a total of eight brands valued at more than $1 billion and five brands valued between $500 million and $1 billion. Kraft’s stock went up by 35%, rising to $83.17, following the public announcement on Wednesday. Heinz will control 51 percent of the combined company, and Kraft shareholders, will own the rest – they will additionally receive a special cash dividend of $16.50 a share (a 27 percent premium on Kraft’s $36 billion market value before the deal).
The new owners are seeing this deal as a promising opportunity to use Heinz’s significant international sales to expand the global awareness and demand for Kraft, which sells almost all of its products in the United States. As stated by Alex Behring, managing partner of 3G and future chairman of Kraft Heinz, “Heinz currently benefits from a truly global platform, which we will leverage to expand the reach of Kraft’s brands to consumers across the globe.”
Could there be significant antitrust issues to this deal? Anthony Sabino, a professor of Law at St. John’s University said there were definitely some antitrust issues to this deal, but not the kind “that would stop this transaction from going through.” Richard Dagen, partner at Axinn, Veltrop & Harkrider, and former Federal Trade Commission official, mentioned that the products offered by the two food giants are “more complementary” (giving the example of Heinz’s mustard and Kraft Foods’s hot dog line, two products he highly recommend pairing together) and even if there are some problematic overlaps, Heinz Kraft Company could divest those lines. Pickles could be one of those problematic products – both Heinz and Kraft possess a pickle line. Adam Sarhan, founder and CEO of Sarhan Capital, agreed the product lines complement rather than compete with each other. Heinz agreed to take all steps to clear the transaction with antitrust authorities (including divestitures) – but not to the point of a “material adverse effect” on the newly formed entity. Thus Heinz is required to take some steps, but not every step, to satisfy authorities. The merger agreement does not specify the contours of a “material adverse effect.” Legal precedent hints at the possibility of billions in divestitures before the company is materially harmed. It is for that reason that it is unlikely this deal with be blocked on antitrust issues.
Experts are more divided about whether consumers will also benefit from this deal. While it is true that these kinds of mergers ultimately allow companies to save on costs (here, the combined company expects to be able to save $1.5 billion in annual costs through cost reductions and efficiencies of scale by the end of 2017), which can be relayed to customers in the form of price reductions, the new giants are also placed in a position with enhanced leverage over their distributors, which can result in price increases. Lisl Dunlop, a partner at Manatt, Phelps & Phillips, LLP in New York City, expressed views siding with the latter proposition. On the other side, Ben Gomes-Casseres, a professor at the Brandeis International Business School in Boston stated, “I don’t expect the price of ketchup to go up.”
Even if it is undeniable that processed food companies’ sales are slowing down (Kraft saw profits plunge by more than $1 billion last year and analysts are currently expecting its profits to increase by just four percent a year over the next five years) as consumers, especially, become more and more health conscious – analysts seem to agree that packaged products like the ones Kraft and Heinz sell will remain big in the food industry for years. Darren Seifer, a food and beverage industry analyst at NPD Group, said on that topic “[this move to fresh] is going to take a while.” It is also possible that the new company’s brands will decide to introduce new, healthier options. Kraft has already decided to remove artificial coloring from some of its cheeses – so “ingredients” like Yellow No. 2 and Yellow No. 5 will soon stop appearing on the ingredient list of Kraft products. Gary Stibel, CEO of the New England Consulting Group, suggested “there must be less marketing of better-for-you claims and more manufacturing of better-for-you foods.”
It is undeniable that a deal of this magnitude will have important consequences across the market. Financial analysts will likely be paying close attention to Kraft’s stock valuation fluctuation for the coming weeks and months.