Kraft-Cadbury Conundrum: A Bridge Too Far (KFT, CBY, HSY)

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Cadbury plc (NYSE: CBY) is effectively worth almost more than ever because of the merger interest.  Kraft Foods Inc. (NYSE: KFT) has a cash and share bid worth roughly $16.4 billion already, and Cadbury wants more.  Throwing in the Hershey Co. (NYSE: HSY) bid, which  may only complicate matters.  Throw in Italy’s Ferrero and Switzerland’s Nestle, and the matter only grows further.  There are many issues to consider.  Price and antitrust regulation are just a part.

Cadbury shares were up again in London trading and in New York shares rose  on all the reports that Hershey is going to try to nibble more chocolate here.  The first issue is valuation.  Warren Buffett is not the only voice that matters in the world, but he already called the deal fully priced.  If you try to interpret Buffett, that sounds a lot like he is saying he wouldn’t buy it at that price.  And Buffett’s Berkshire Hathaway Inc. (NYSE: BRK-A) is actually the largest Kraft shareholder after looking at Buffett’s full holdings and seeing over 138 million shares (over $3.7 billion today).

Hershey is rather hard to predict as far as a company, yet there were comments last week about it wanting to be a consolidator rather than be consolidated in the inevitable consolidation in the world.  The company is effectively not controlled by common shareholders because of dual-class shares.  The market cap of almost $8.3 is almost a bit misleading as a result.

It seems that any deal outside of the Kraft deal may not be a solo-offer, meaning it would be a group bid.  Perhaps private equity would have an interest, but the old club deals have been fewer than in the peak of private equity.

The real risk of any higher bid is that Kraft will try to overstep itself and raise its offer.  This would create pressure on its finances despite a $40 billion market cap.  At the terms of today the deal can be handled.  But while the recession is not Kraft’s fault, the raw truth is that Kraft never did that great and had issues the entire decade since it came public in 2001.  It has a solid lineup of food products and poor history making any shareholders wealthy. Dead money.

Nestle is definitely in the size category that could do a competing deal, but it would seem to be a tougher sell in England and perhaps in the E.U. with regulators.  The only real issue in the Kraft deal for regulators is likely just the raw size.  Kraft is far less of a confectionary play compared to Nestle and Hershey.

The market has not overly punished Kraft for making such a large play nor for trying to get larger in the world of candy at a time that Joe Public needs to be eating less candy.  It is almost as if the starts are saying the deal should be done regardless of what it will do to the leverage inside Kraft.

To a conservative investment philosophy, it might seem that Kraft shareholders would want Kraft to fix its ship rather than to go try making itself far larger with many more brands to manage.  The $625 million in annual savings is also therefor not any guarantee, and it is also possibly not viewed a certainty that Kraft would generate 100% of its ambitions and increases in the new international markets.

Adding more data and opinion today is going to be just comparing opinion to other opinion.  Still, it is hard to ignore that the stock has held up this well.

JON C. OGG