It's Possible Berkshire Hathaway Could Help Kraft Acquire Cadbury

With word spreading that Kraft is working to secure financing for its bid to buy Cadbury, there is a possible source outside of the traditional banking arena: Berkshire Hathaway.

Warren Buffett might be interested for several reasons:

 

There may be a potential source of financing for Kraft in its attempt to acquire Cadbury. It is Warren Buffett's Berkshire Hathaway. Not only would participation in this transaction follow a pattern that has emerged in recent years but it would be faithful to the investment criteria he has followed for decades.

 

In his Chairman's Letter contained in the 1977 Berkshire Hathaway Annual Report, Mr. Buffett described the types of businesses the company would invest in or acquire outright in one simple sentence, "We want the business to be (1) one that we can understand, (2) with favorable long-term prospects, (3) operated by honest and competent people, and (4) available at a very attractive price." Participating in the Kraft's bid to acquire Cadbury meets each of these criteria.

 

This is a business that Warren understands or one that is within his circle of competence as he likes to say. Aside from BRK's long time ownership of See's Candies, it played a key role in last year's acquisition of Wrigley by Mars. It was reported as a $23 billion transaction in part funded by BRK in exchange for 10% of Wrigley. Interestingly enough the sale of Wrigley may have been triggered in large part by the aftershock of Wrigley's 2005 acquisition of the Altoid's and Life Saver confectionary business from Kraft. Wrigley over extended itself and value evaporated.

 

This is also a business he may believe has good long-term prospects. He is a strong believer in the staying power of brand names. A great deal of the intrinsic value of both Kraft and Cadbury can be found in their brand names. In the past he has described brands as consumer monopolies, having a wide moat, or as being not just a business but an economic franchise. It is why he is so heavily invested in companies like Coca Cola. Having a strong brand name and a compelling competitive differentiation are why, at the height of the economic downturn, he made a substantial investment in Harley Davidson. I know of several Harley dealers that sent their banker a copy of the news story announcing the investment in the HD financing arm. They essentially told their bankers, 'If we are good enough for Mr. Buffett, we should be good enough for you.'

 

The honest and competent people who operate the business is one of his most important criteria. You can see it in every Chairman's Letter that he writes. The best managers are routinely singled out for praise. It says a lot about a manager or management team when Mr. Buffett wants to buy your company or your stock. Irene Rosenfeld and her team at Kraft got such a vote in 2007 when BRK bought 138 million shares of Kraft stock or over 8% of the company. If she is looking for cash, Warren will probably that her call.

 

The final criteria could be the only sticking point. How attractive a deal Mr. Buffet can strike may make the difference. In the midst of the recession he was able to get some very attractive terms for his $8 billion investments in preferred shares and warrants in Goldman Sachs and General Electric. With the loosening of credit markets he may not be able to strike such lucrative terms.

 

Finally, there are other attractions beyond this simple criteria sentence. First, the attraction Cadbury holds for Kraft is, at least in part, its access to international markets. This is an attraction for Warren too. Over the last several years he has stated repeatedly that he wants more international exposure. Second, he could write a check tonight. Without cumbersome layers of approvals, he can strike a deal almost instantaneously. Such velocity might be an advantage for Kraft if it keeps other bidders from stepping forward. Time will tell.

This author consults with leading institutions through GLG