The Return Of Wheeling And Dealing (BRK.A)(BNI)(KFT)
November 4, 2009 by Douglas A. McIntyre
Kraft (NYSE:KFT) hinted very strongly that it would open a battle with Cadbury for ownership of the British company. GM said it would keep its Opel and Vauxhall European operations about an hour later. The news of those transactions ended a day in which Berkshire Hathaway (NYSE:BRK.A) announced its largest investment ever. Mr. Buffett’s company will buy the 77.4% of Burlington Northern (NYSE:BNI) that it does not own at a tremendous premium which carries a total price tag of over $26 billion.
All of that in less than 24 hours.
Merger and buyout activity has picked up because capital for large companies is once again available at reasonable costs. That contrasts to the dearth of credit for small businesses and people, but banks are ready to take risks on the prospects of the world’s larger firms. Transactions are no longer leveraged as much as they were two years ago in the period when private equity reined in the M&A sector. Too many of those deals fell apart as the economy undermined the cash flow necessary to pay down the huge pools of debt that supported them.
The new wave of M&A is based on two premises. The first is that marriages of like companies can allow the participants to cut costs. Most CEOs of multinational companies are not comfortable with projections that the global economy will return to a period of 5% or 6% growth. Saving expenses is still critical to improved margins and may be for some time.
The other reason marriages and buy-outs are on the rise is exactly the opposite of an effort to cut costs. The Burlington Northern gamble by Warren Buffett is a bet that the economy will improve and that the railroad business will profit without expense reductions. Buffett will lose a lot of money if the US business environment does not get better very markedly and very soon.
The management of Kraft and Buffett cannot both be right. Either the economy will lift all ships or cutting expenses will be the only viable way to improve profits. That means that one large part of the M&A boom is based on a false premise. The problem is that no one knows which of the two theories is wrong
Douglas A. McIntyre
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