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Heinz And Kraft Agree To Merge With Warren Buffett's Help

The Brazilian private equity firm 3G, which bought Heinz in 2013, will add cheese, coffee, and Jell-O to its pantry.

Posted on March 25, 2015, at 7:30 a.m. ET

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Kraft Foods Group's short history as an independent company is to come to a close after it agreed Wednesday morning merge with Heinz, which itself was bought by Brazilian private equity firm 3G two years ago.

Heinz's shareholders, Warren Buffett's Berkshire Hathaway and 3G, will own 51% of the company, which will trade publicly, and Kraft shareholders will get 49% of the company. Kraft shareholders will also get a $16.50-per-share — about $10 billion — special dividend to Kraft shareholders, funded by 3G and Berkshire Hathaway.

Kraft's brands include its eponymous cheese, Oscar Meyer, Maxwell House, Capri Sun, and Jell-O.

Combined, the companies said, the Pittsburgh-and-Chicago-suburbs-based food behemoths will have $28 billion in annual revenues. It will be the world's fifth-largest food and beverage company in the world and the third largest in the United States. The food giant would be worth around $100 billion when including the companies' debt.

"I am delighted to play a part in bringing these two winning companies and their iconic brands together," Buffett, the chair of Berkshire Hathaway, said in a statement. "This is my kind of transaction, uniting two world-class organizations and delivering shareholder value. I'm excited by the opportunities for what this new combined organization will achieve."

Kraft had $18 billion in revenue this past year, about flat from the year before, and just over $1 billion in profits. Before deal talks were reported by the Wall Street Journal Tuesday evening, Kraft's market capitalization was about $37 billion at a price of $61.33. In pre-market trading, Kraft's stock is trading up to $81.55, bumping up its value to $48 billion.

The deal adds another massive consumer brand to the portfolio of 3G Capital, the private equity firm founded by Brazilian billionaire and former professional tennis player Jorge Paulo Lemann, once again with funding from his friend Buffett. 3G bought Heinz with Buffett's assistance in 2013, the firm also acquired Burger King for $4 billion in 2010.

Burger King — run by former 3G partner Daniel Schwartz and 70% owned by the firm — itself acquired Canadian coffee-and-donuts company Tim Hortons last year. Lemann and his partners also own a controlling stake of Anheuser-Busch InBev after the $52 billion merger of Inbev and Anheuser-Busch.

"We expect to partner with 3G in more activities. Sometimes our participation will only involve a financing role, as was the case in the recent acquisition of Tim Hortons by Burger King," Buffett said in his annual letter to shareholders published earlier this month. "Our favored arrangement, however, will usually be to link up as a permanent equity partner (who, in some cases, contributes to the financing of the deal as well). Whatever the structure, we feel good when working with Jorge Paulo."

Kraft CEO John Cahill took over from Tony Vernon at the end of last year. Cahill, previously a partner at the private equity fund Ripplewood, will become vice chair of the new company. Heinz CEO Bernando Hees will be chief executive. Kraft will maintain its quarterly dividend, which is right now at $.55 per share and the companies said it is expected to continue to rise.

Cahill said on a call with analyst that Alex Behring, Heinz's chairman and a partner at 3G Capital, first approached him "at the very end of January," and that the discussions "picked up steam in second half of February."

Hees came from Burger King, another iconic American food company bought by 3G, and instituted an extensive cost-cutting program that has become the private equity firm's signature. A round of "zero-based budgeting" — where all costs are assumed to be at zero and have to be rejustified — will probably be implemented at Kraft. The companies said that they expect $1.5 billion in annual cost savings by the end of 2017.

Cahill said that Kraft will have a "much leaner organization" and "much better decision making" as Heinz managers come into Kraft. Cahill said Kraft had its own plan to ramp up revenues and hold down costs, but "we have a transaction now that brings in management that can make this happen deeper and faster."

"With transformational changes enacted over the last two years, Heinz is now the most profitable company in the food industry," Alex Behring, the chairman of Heinz and a managing partner at 3G, said in a call with analysts to discuss the deal. Behring will be the chair of the combined company.

"Our combined brands and businesses mean increased scale and relevance both in the U.S. and internationally," Behring said in a statement. "We have the utmost respect for the Kraft business and its employees, and greatly look forward to working together as we integrate the two companies."

"I'm not embarrassed to admit that Heinz is run far better under Alex Behring, Chairman, and Bernardo Hees, CEO, than would be the case if I were in charge," Buffett said in his letter. "They hold themselves to extraordinarily high performance standards and are never satisfied, even when their results far exceed those of competitors. We expect to partner with 3G in more activities."

Kraft itself is the product of decades of buyouts and spin-offs. Its parent company was bought by tobacco company Phillip Morris in 1988 for $13 billion and combined with General Foods, which had Oscar Meyer, Jell-O, and Kool-Aid. Kraft was then combined again with another food conglomerate when Phillip Morris bought what was remaining of Nabisco (which went through its own tobacco buyout and spin-off) in 2000.

In 2001, Phillip Morris sold some of what was now Kraft Foods to the public, then spun it off entirely in 2007. Kraft split off again in 2012, forming Kraft Foods and renaming the legacy company Mondelez International, which hung onto brands such as Ritz, Oreos, Triscuit, Wheat Thins, and Trident.