Warren Buffett (Trades, Portfolio), chairman, president and CEO of Berkshire Hathaway (BRK.A) (BRK.B), discussed Kraft Heinz’s (KHC) proposed bid for Unilever (UL) in an appearance on CNBC last Monday. As part of that discussion, Buffett touched on an interesting component of the 3G model that is rarely discussed:
“One thing I would emphasize about 3G: They are wonders at productivity, there's no question about it. But I've been on 20 boards: I have never seen anybody any better about marketing and product development and all that. I mean, that is what we talk about at board meetings. And it's hours and hours. And I've been on other consumer goods companies’ boards, and they're nothing like the intensity they bring. They don't just bring it to productivity, they bring it to new products. I learn about what's going on in the marketing world when I'm at the meetings of Kraft Heinz because it's their game. I was at the last meeting a month ago. We spent hours and hours [discussing different channels – online retailers versus brick-and-mortar]; they really understand their business. It's so much more of an informed discussion than I've heard at most board meetings in my life; it's night and day. Every aspect of management, they excel in.”
A few months back I did a deep dive on Kraft Heinz (along with reading “Dream Big” by Cristiane Correa). My conclusion was that the picture commonly painted of 3G is incomplete. When Berkshire first became associated with 3G, many were shocked by the tie-in. Their concern was based on the presumption that 3G followed the “LBO/private equity” playbook that Buffett has ridiculed – buy a business with a sliver of equity and a boatload of debt, blindly cut costs to maximize short-term profits, and then prep the business to be sold ASAP. The problem is that this doesn’t mesh with reality: for example, 3G has been in the beer business for nearly 30 years with no intentions of exiting (as Marcel Telles noted in the early 1990s, “We have zero interest in selling [Brahma]. It’s a super long-term investment”).
This is probably closer to the truth: 3G is a performance-based culture that demands meritocracy and ownership. Its goal is to maximize productivity and create sustainable value for the owners of the business; they achieve these goals by ruthlessly cutting unnecessary expenses (“costs are like fingernails – you have to cut them continuously”) and properly incentivizing employees to think and act like owners. Management by objectives (MBO) and zero-based budgeting (ZBB) are two of the management tools used to achieve those goals (with the latter implemented at 3G after surprisingly high transportation, travel and meal expenditures were discovered at Brahma in the late 1990s). In a word, these practices mean one thing for most of 3G’s targets: change.
This different approach is succinctly captured by Jim Collins in the introduction to “Dream Big”:
“Performance, not status; achievement, not age; contribution, not position; talent, not credentials.”
Unlike some of their peers, 3G doesn’t appear constrained by “the way things have always been done”. This is one of the things they catch some flak for, even when the arguments don’t make much sense. For example, consider a recent Fortune article – "Buy. Squeeze. Repeat" – which is largely focused on the quick closure of a Kraft plant in Wisconsin after the merger with Heinz (and its impact on the employees); the odd thing about this article is the author readily admits the plant should’ve been shuttered (quoting a retired Kraft executive: “Closing it was probably the right thing to do”).
A willingness to make difficult decisions is a hallmark of the 3G way; a ruthless push for improvement is what enables 3G to run its businesses at a level rarely reached by industry peers. This is most notable when looking at post-deal margins: at Kraft Heinz, Restaurant Brands International (NYSE:QSR) and AB InBev (BUD), profit margins have expanded by more than 1,000 basis points in a few years under 3G’s leadership; in each of those three businesses, their margins are best-in-class.
Management is held to the targets communicated to shareholders (read some articles about Carlos Brito for a current example). Results are transparently presented with no attempt to bend reality (as Buffett once quipped, “At too many companies, the boss shoots the arrow of managerial performance and then hastily paints the bullseye around the spot where it lands”).
Based on what I’ve seen, my conclusion is that 3G is a refreshing change from what you find a lot of other places – both in the way they communicate with owners and how they run their businesses (to be more specific, the strategy of rationalizing SKUs and focusing on the “bold bets” makes a lot of sense for Kraft Heinz). For long-term investors, these are the type of people with whom to partner.
Kraft Heinz common is not that cheap at current levels (without building in more aggressive M&A assumptions than I'm personally comfortable with). It was moving lower after the company reported fourth-quarter results, but that quickly ended after the Unilever discussions were made public. It will probably be awhile before I have a chance to buy Kraft Heinz. In the meantime, I’ll watch from the sidelines and keep learning.
Disclsoure: Long Berkshire Hathaway (NYSE:BRK.B).
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About the author:
As it relates to portfolio construction, my goal is to make a small number of meaningful decisions. In the words of Charlie Munger, my preferred approach is "patience followed by pretty aggressive conduct." I run a concentrated portfolio, with a handful of equities accounting for the majority of my portfolio (currently two). In the eyes of a businessman, I believe this is adequate diversification.