Meet Warren Buffet's Worst Investment: Kraft-Heinz

Summary

Kraft-Heinz, a prominent food brand known for condiments and ready-made meals, has been facing challenges including fluctuating profits, an accounting scandal, and a 50% stock decline since 2017. Despite being one of Warren Buffett's least successful investments, he retains a significant 26% stake, influenced by liquidity concerns. The company's struggles stem from competition with generic brands, market saturation, and a shift in consumer preference towards healthier options. Internal issues like the merger's poor execution, leadership changes, and SEC investigations have further hindered growth. While recent profitability recovery might offer some optimism, Kraft-Heinz's future growth remains uncertain.

Takeaways

• 📉 Kraft-Heinz, a prominent food brand, has been facing challenges with fluctuating profits, an accounting scandal, and a significant drop in stock value.
• 🧐 Warren Buffett, a major investor, acknowledges overpaying for Kraft but remains invested due to the large stake and liquidity issues.
• 👨‍🍳 The company's roots date back over a century, with Heinz starting as a ketchup producer and Kraft as a cheese business.
• 🛒 The rise of in-house generic brands by retailers like Walmart has intensified competition, affecting Kraft-Heinz's profitability.
• 💲 Despite operational scale, Kraft-Heinz struggles with shrinking profit margins due to the pressure to compete on price.
• 📊 The company's revenue has remained stagnant around $25 to $26 billion for the past six years, indicating a lack of growth.
• 🌿 There's a growing consumer trend towards healthier food options, which Kraft-Heinz's traditionally processed products do not align with.
• 🔄 The merger between Kraft and Heinz aimed for cost reduction but may have been unnecessary and problematic.
• 💼 Internal issues, including leadership changes and an SEC investigation into accounting practices, have further complicated Kraft-Heinz's situation.
• 💡 Despite setbacks, Buffett remains hopeful about the company's potential, although he wouldn't invest at current prices.

Q & A

What is the current financial performance of Kraft-Heinz?

Kraft-Heinz has experienced fluctuating profits in recent quarters, an accounting scandal, and their stock has declined over 50% from its 2017 highs.

Why has Warren Buffett's investment in Kraft-Heinz been considered one of his worst?

Buffett admitted to overpaying for the Kraft portion of the business, and despite the company's struggles, he has no plans to sell his 26% stake, which may be due to a lack of liquidity rather than optimism for the company's future.

What was the historical significance of the merger between Kraft and Heinz?

The merger aimed to create a food giant by combining two companies with histories dating back over a century, but it resulted in a 'food disaster' instead.

How have generic brands impacted Kraft-Heinz's market position?

The rise of super retailers with their own generic brands has led to increased competition, forcing Kraft-Heinz to lower prices and reducing their profit margins.

What is the current market saturation level for Kraft-Heinz's core products like cheese and ketchup?

Kraft-Heinz has reached market saturation with their core products, as they are already widely available and cheap, leading to flatlined revenue for the past six years.

How has the trend towards healthier food options affected Kraft-Heinz?

The trend towards healthier food options has not favored Kraft-Heinz, as their products are often seen as processed and they have been slow to adapt to consumer preferences for less processed foods.

What was the outcome of the SEC investigation into Kraft-Heinz's accounting practices?

The SEC investigation found Kraft-Heinz engaged in accounting misconduct, leading to a $62 million fine and the need to correct $208 million worth of bogus cost savings.

What was the impact of the leadership changes at Kraft-Heinz on the company's performance?

The departure of CEO Bernardo Hees during challenging times and his legacy of cost-cutting measures, including thousands of layoffs, have contributed to internal struggles at Kraft-Heinz.

What is Warren Buffett's current stance on Kraft-Heinz, and does he plan to hold or sell his shares?

Buffett still believes in the underlying business of Kraft-Heinz but acknowledges overpayment for Kraft. He plans to hold due to the difficulty of liquidating such a large stake rather than a current investment preference.

What are the potential future prospects for Kraft-Heinz's stock, and what factors could influence its recovery?

Kraft-Heinz's stock may recover as profits regain and the PE ratio decreases, potentially attracting more investors. However, underlying issues suggest growth beyond past highs could be challenging.

How has the pandemic influenced Kraft-Heinz's profitability?

The pandemic has allowed Kraft-Heinz to regain some profitability, but their profits remain low, resulting in a high PE ratio.

Outlines

00:00

📉 The Struggles of Kraft-Heinz

Kraft-Heinz, a prominent food brand known for its condiments, cheese, and ready-made meals, is facing challenges despite its supermarket dominance. The company has experienced inconsistent profits, an accounting scandal, and a significant drop in stock value. Surprisingly, Warren Buffett, a major investor, has admitted to overpaying for his stake but has no plans to sell. His 26% ownership suggests a lack of liquidity as a reason for holding onto the investment. The video raises questions about Kraft-Heinz's past, present, and future, hinting at the company's historical resilience and current market saturation.

05:01

🛒 The Impact of Generic Brands on Kraft-Heinz

The rise of super retailers with their own generic brands has significantly impacted Kraft-Heinz. These retailers offer similar products at lower prices due to their economies of scale, forcing legacy brands like Kraft-Heinz to compete on price, which erodes profit margins. While Kraft-Heinz can withstand this competition due to its large operations, their growth potential is limited as they are known primarily for cheese and ketchup, sectors where they've reached market saturation. The company's revenue has remained stagnant for six years, indicating a lack of growth despite market stability.

10:02

🌿 Kraft-Heinz's Response to Health Trends

Kraft-Heinz has attempted to adapt to the growing consumer preference for healthier food options, but their efforts have been largely unsuccessful. The company's products are perceived as highly processed, which contradicts the current trend towards natural and less processed foods. Despite introducing newer products with fewer artificial additives, Kraft-Heinz has been unable to shake its association with processed foods. The company's acquisitions, including the merger with Heinz, have not yielded the expected benefits, and internal issues such as leadership changes and accounting scandals have further complicated their situation.

🧐 Warren Buffett's Stance and Kraft-Heinz's Future

Despite the numerous challenges, Warren Buffett remains optimistic about Kraft-Heinz, attributing the company's struggles to overpayment during the merger. However, his comments suggest that he would not invest in the company at its current state. The video suggests that while Kraft-Heinz has managed to regain some profitability during the pandemic, its high P/E ratio and the need for significant growth and dividend increases to attract investors indicate a difficult path ahead. The company's future growth seems limited by the underlying issues discussed throughout the video.

Keywords

💡Kraft-Heinz

Kraft-Heinz is a major food company known for its wide range of condiments, cheese, and ready-made meals. The company's history is central to the video's theme, illustrating its evolution from small family businesses to a dominant force in the food industry. The video discusses the company's challenges, including profit fluctuations, an accounting scandal, and a significant drop in stock value, which are all critical to understanding its current situation.

💡Warren Buffett

Warren Buffett is a renowned investor and CEO of Berkshire Hathaway. In the context of the video, Buffett is highlighted as one of Kraft-Heinz's largest investors, despite the company's struggles. His decision to hold onto his stake, even acknowledging an overpayment for Kraft, reflects the video's exploration of investment strategies and the complexities of divesting from large investments.

💡Generic Brands

Generic brands are store brands offered by retailers at lower prices than name brands, often with similar quality. The video discusses how the rise of generic brands in supermarkets has impacted Kraft-Heinz's profitability. These brands, like Walmart's Great Value, compete directly with Kraft-Heinz products, forcing the company to contend with shrinking profit margins and revenue loss.

💡Market Saturation

Market saturation refers to a state where a product has reached its maximum potential in terms of market share and growth. The video uses this concept to explain Kraft-Heinz's stagnant revenue, suggesting that their core products like cheese and ketchup have reached a point of saturation, making it difficult to achieve further growth in the market.

💡Healthy Trends

Healthy trends in the food industry involve consumer preferences shifting towards products with fewer preservatives and more natural ingredients. The video points out that Kraft-Heinz has struggled to adapt to these trends, which has affected their market position. The company's attempts to introduce healthier options have been less successful due to their established association with processed foods.

💡Accounting Scandal

An accounting scandal refers to illegal or unethical practices in financial reporting. The video mentions that Kraft-Heinz was involved in an accounting scandal where they recognized unearned discounts and maintained false supplier contracts to inflate profits. This scandal led to a significant fine and a loss of investor confidence, impacting the company's reputation and financial health.

💡Merger

A merger is the consolidation of two companies to become a single entity. The video discusses the merger between Kraft and Heinz, which was intended to create a food giant but instead led to operational and strategic challenges. The merger's failure to deliver expected synergies and the subsequent write-off of Kraft and Oscar Mayer as a loss are key points in the narrative of Kraft-Heinz's decline.

💡Dividend Reduction

A dividend reduction is a decrease in the amount of money a company pays out to shareholders as dividends. In the video, Kraft-Heinz's dividend reduction by 36% is highlighted as a significant financial move that reflects the company's financial struggles and the impact on its investors' returns.

💡SEC Investigation

An SEC investigation refers to an inquiry conducted by the U.S. Securities and Exchange Commission into potential violations of securities laws. The video mentions that Kraft-Heinz was under investigation by the SEC for its accounting practices, which led to the discovery of misconduct and fines, further damaging the company's credibility.

💡Bagholding

Bagholding in investing terms refers to holding onto a stock despite its poor performance, often due to the hope of future recovery. The video uses this term to describe Warren Buffett's strategy with Kraft-Heinz, where he continues to hold a significant stake despite the company's challenges, reflecting the complexities of large-scale investment decisions.

Highlights

Kraft-Heinz's recent financial struggles despite being a dominant food brand.

Warren Buffett's significant investment in Kraft-Heinz, despite it being one of his worst investments.

Buffett's admission of overpaying for Kraft and his decision not to sell his stake.

The historical origins of Kraft-Heinz, dating back to the late 1800s with Heinz and early 1900s with Kraft.

The impact of the Great Depression on Heinz's growth and its establishment as a grocery staple.

Kraft's early years as a cheese business and its innovation in cheese pasteurization.

The merger of Kraft and Heinz in 2015 and the subsequent challenges faced.

The rise of generic brands in retail and their impact on legacy food brands like Kraft-Heinz.

Kraft-Heinz's struggle with market saturation and the difficulty of expanding beyond their core products.

The flatlining of Kraft-Heinz's revenue and the lack of growth volatility.

The growing trend towards healthier food options and its impact on Kraft-Heinz's product offerings.

Kraft-Heinz's attempts to adapt to health trends and the challenges they face.

The failed merger of Kraft and Heinz and its consequences on the company's strategy.

Accounting scandals at Kraft-Heinz and the SEC investigation into their practices.

Leadership issues at Kraft-Heinz, including the departure of CEO Bernardo Hees.

Warren Buffett's perspective on Kraft-Heinz's future and his reasons for holding onto the investment.

Potential recovery paths for Kraft-Heinz, including profit recovery and dividend adjustments.

The challenges Kraft-Heinz faces in achieving significant growth beyond their current position.

Transcripts

INTRO: We all know Kraft-Heinz as the legacy food

brand in supermarkets.

From their various condiments to their cheese and ready made meals, Kraft-Heinz is one of

the biggest names in food.

Yet, despite their dominant status amongst the grocery aisles, Kraft-Heinz isn’t actually

doing that well.

Their last few quarters have been hit or miss in terms of profit, they were recently exposed

for an accounting scandal, and their stock is down over 50% from their 2017 highs.

You would think that the top investors would stay miles away from this company, but ironically,

one of the biggest investors in Kraft-Heinz is Warren Buffett.

As you would guess, Kraft-Heinz has been one of Buffett's worst investments of all time.

Buffett has admitted that he did overpay for the Kraft portion of the business, but he

has no plans of selling.

It should be noted though that Buffett owns 26% of Kraft-Heinz, so he really has no easy

way out in terms of selling that large of a stake.

So, his decision to hold may have more to do with a lack of liquidity than an optimistic

outlook for Kraft-Heinz.

This brings up the question, what even happened to Kraft-Heinz and can they actually recover

like Buffett is hoping?

THE COMING OF KRAFT-HEINZ: Taking a look back at the history of Kraft-Heinz,

the company’s story actually dates back over a 100 years to 1876 to a man named Henry

John Heinz.

Henry was born to German immigrants and was determined to achieve the American Dream.

So, at age 33, he began a small food business with his cousin and brother.

Just like today, Heinz was basically synonymous with ketchup in the late 1800s given that

this was their first product.

While the company performed well under Henry’s leadership, it never became a food behemoth

or anything.

It wasn’t until Henry’s son, Howard, took over and the great depression hit that Heinz

really took off.

You see, when money was extremely tight, Heinz’s ready to eat meals and cheap condiments were

an indispensable part of the average American's diet.

By the time America recovered from the Great Depression, Heinz had become a staple amongst

grocery stores, and it was just a matter of scaling and maintaining their dominance.

In terms of Kraft’s side of the business, their history also dates back 100 years to

1909.

Like Heinz, Kraft was also a family business started by a Canadian immigrant.

James L. Kraft and his brothers started off as door to door cheese salesmen.

Not only were they good salesmen, but they were also phenomenal cheese producers.

In 1916, they figured out a new method to pasteurize cheese that gave their cheese a

significantly longer shelf life.

They went ahead and patented this technique which gave them an edge over the competition,

but when they received an acquisition offer that was too good to refuse, they went ahead

and sold their company to National Dairy Products Corporation in 1930.

The Kraft brand was mainly just a subsidiary for the next 39 years until National Dairy

decided to revive the brand by renaming the parent company Kraftco corporation in 1969.

19 years after this, in 1988, General Mills would acquire the Kraft Brand and they would

hold onto it for the next 19 more years.

It wasn’t till 2007 that General Mills started to sell off Kraft on the public markets which

finally made it an independent company once again.

8 years later, in 2015, the boards of both Kraft and Heinz approved a merger in an attempt

to create a food giant.

But, they ended up creating a food disaster, so what went wrong?

GENERIC BRANDS: Likely one of the biggest factors holding

back Kraft-Heinz is the boom of super retailers like Walmart, Sam's Club, and Costco.

As these guys grow larger, they have started to directly compete with suppliers.

For example, Walmart has Great Value, Sam’s Club has Member’s Mark, and Costco has Kirkland.

If you’re not familiar with these brands, they’re comparable to generic brand medicine.

They basically go out and copy all of the most popular products within their stores.

And, given that such retailers have insane economies of scale and in house production

capacity, they can usually offer the same products for substantially less.

For instance, here’s the official Oreos and Great Value’s Oreos side by side.

While these are basically the same product, Great Value’s offerings are almost half

the cost.

A 19.1 oz packet of Oreos clocks in at $3.98 while a 19.1 oz packet of Great Value Oreos

costs $2.08.

Now of course, many people including myself will always just go with the legacy brand,

but a good portion of people won’t really care.

Not only does this drive revenue away from legacy food brands, but it forces these brands

to be more competitive with price which shrinks their profit margins.

Now, this is great news for consumers, but for name brands who already have meager profit

margins, such competition can easily push them into unprofitability.

Fortunately, Kraft-Heinz themselves have pretty large operations meaning that they can put

up a good fight against generic brands.

But, with that being said, such competition has shrunk their net margins down to the single

digits.

Aside from diminishing margins, the truth is that Kraft-Heinz doesn’t actually have

that much room to grow.

While the company has made several acquisitions to try to continue growth, this hasn’t been

exactly successful.

At the end of the day, Kraft and Heinz are still only known for the two products that

they were founded on cheese and ketchup.

And the problem is that they’ve basically reached market saturation within these sectors.

After all, their products are already dirt cheap and available everywhere in the US,

so anyone who wants these products can easily get them.

Considering this, I don’t think you’d be surprised to hear that their revenue has

flatlined at $25 to $26 billion for the past 6 years.

Their revenue also has basically 0 volatility.

Their best and worst 12 month periods within the past 6 years are within 7% of each other.

And while this may be great for stability, it’s absolutely garbage for growth.

HEALTHY TRENDS: Now, you might be thinking, with the introduction

of in house generic brands, it’s basically impossible to break into the food industry.

And while this is partially true given that the food industry is extremely brutal and

cutthroat, one sector of the industry has been growing rapidly, and that’s healthier

options.

Usually within any market, you have your bougie sector.

With cars, you have Mercedes and Audi.

With smartphones, you have Apple and Samsung.

And with food, you have organic options and Whole Foods.

While this portion of the market is substantially more profitable, the size of this market is

generally much smaller.

If you want to grow the biggest business possible, it’s usually better to target the rest of

the market, and that’s exactly what Kraft and Heinz have both been doing for over a

100 years.

But the problem is that this strategy only works up until a certain point.

Once you’re under a price point which consumers deem fair, they start to make their buying

decision based on other factors like health.

Now, this isn’t to say that the average person is all of sudden strictly buying organic

foods from Whole Foods.

But, the average person has trended towards buying foods with less preservatives, less

processing, and more natural ingredients.

And Kraft-Heinz’s offerings are basically the antithesis to this trend.

In fact, if anything, their products have historically become more processed as they

try to keep up with the prices of generic brands.

Over the past few years, they have shifted their focus onto the health trend.

For example, their newer mac and cheese boxes proudly state that they have no artificial

preservatives, no artificial flavors, and no artificial dyes.

However, this hasn’t been all that successful.

First of all, Kraft-Heinz was late to this trend which gave consumers ample time to find

alternatives.

And secondly, Kraft-Heinz can’t just change their association with processed foods which

has been ingrained in consumers’ minds for literally a century with a simple marketing

campaign.

Likely the best option for Kraft-Heinz was acquiring up and coming brands that aren’t

held back by this association, but they’ve screwed this up pretty badly as well.

INTERNAL AFFAIRS: The first acquisition that didn’t particularly

help the company was the merger of Kraft and Heinz itself.

Not only did Heinz likely overpay for Kraft like Warren Buffett suggested, but there was

really no reason to complete the merger in the first place.

The idea was that Kraft and Heinz could share manufacturing facilities and marketing efforts

in order to lower costs and reach an even larger audience.

But as we just discussed, lower prices aren’t exactly what consumers even want.

So, all this merger did was lock in Kraft-Heinz on a cost reduction journey that didn’t

need to take place.

And to make things worse, given how interconnected the two companies are now, it’s even harder

for them to switch paths compared to if they were just independent companies.

Also, it’s not just me who thinks that this acquisition was not the best.

Kraft-Heinz themselves admit that this was a poor merger which is evident in how they

wrote off Kraft and Oscar Mayer as a $15 billion loss.

This write off was followed by a dividend reduction of 36%, And just when you think

things can’t get worse, Kraft also announced that they were under investigation by the

SEC for their accounting practices.

Unfortunately, this investigation would result in evidence that Kraft-Heinz was indeed engaging

in accounting misconduct.

Between 2015 and 2018, Kraft had recognized unearned discounts from suppliers and maintained

false and misleading supplier contracts.

This allowed them to understate their expenses and overstate their profit.

By the end of the investigation, Kraft had to correct a total of $208 million worth of

bogus cost savings and they were fined a total of $62 million.

During such tough times, you would hope that the leadership at the company was strong and

had a game plan.

But this wasn’t the case either.

In April of 2019, the CEO, Bernardo Hees left the company at the peak of their troubles.

It should also be mentioned that his time as CEO wasn’t that great either.

His legacy at Kraft is literally firing thousands of employees in an effort to cut costs.

So, clearly, Kraft–Heinz hasn’t been doing that great internally or externally for several

years.

BAGHOLDING: Despite all these shortfalls, Warren Buffett

still believes that both Kraft and Heinz are wonderful businesses, and that their main

mistake was simply overpaying for Kraft.

With that being said though, the only reason he still has a position in the company is

because it’s not easy to get out.

Buffett said quote, “We can't as a practical matter move around tens of billions of dollars

that easily.

But beyond that I mean, if we're working with a million dollars or $10 million, would I

have a position in it?

No.”

And I think this tells us everything we need to know about what Buffett really thinks about

the future of the company.

He wouldn’t invest in it right now, but since he already has a position, he’s hoping

to see it through which is quite possible.

It’s been some time since the merger happened and the pandemic started which has allowed

Kraft-Heinz to regain profitability.

Their profits are still low compared to what they used to be which is leading to a high

PE ratio of 67.

But, as their profits continue to recover, this number should only go down.

Also, Kraft-Heinz may be able to bump up their dividend again which could attract a lot more

interest into the stock.

All of these factors could help Kraft-Heinz stock return to their all time highs and potentially

even beat their highs.

But, given all of the underlying issues that we’ve discussed so far, I think Kraft-Heinz

will have a difficult time growing much further than that.

But that’s just what I think.

Why do you guys think Kraft-Heinz is performing so badly?

Comment that down below.

Also, drop a like if you’ve ever had their ketchup or their mac and cheese.

And of course, consider checking out our international channels to watch our videos in other languages

and consider subscribing to see more questions logically answered.