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Could Bill Ackman Entice Warren Buffett in Mondelez?

Is it possible that activist investors now have just too much money under their management and are simply biting off more than they can chew? This is the question that needs to be asked regarding activist investor Bill Ackman and Pershing Square taking a stake in Mondelez International Inc. (NASDAQ: MDLZ).

Perhaps another question is whether Ackman should have enticed Warren Buffett and Berkshire Hathaway Inc. (NYSE: BRK-A) in his efforts. Ackman’s Pershing Square hedge fund now has acquired what is said to be a $5.5 billion investment in Mondelez.

The Buffett tie here dates back years. Buffett was big into Kraft Foods, but two things have taken place. Kraft and Mondelez split into two companies, costing Kraft its place in the Dow Jones Industrial Average. Buffett began greatly trimming his stake due to a deal with Cadbury, which Buffett thought Kraft was overpaying for and doing the deal at the wrong time.

Berkshire Hathaway’s stake in Mondelez has been much lower than it used to be, at only about 578,000 shares. Now his stake in Kraft Heinz Co. (NYSE: KHC) is much more influential due to Berkshire Hathaway’s co-investment with 3G.

Ackman’s stake would be roughly 7.5% of the stock voting lower in Mondelez, which includes forward purchase contracts and call options rather than having just purchased all common shares outright. A formal SEC filing has not yet been seen.

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The financial media has reported that Ackman wants Mondelez to be more aggressive. It seems as though a potential sale is one avenue, but also in the cards is a move to boost revenues faster than expected and to cut costs. All these are issues that Buffett, particularly with the team at 3G, could help with — even with a potential merger.

The real question is whether Buffett really wants to get more involved than he is. His real involvement would be closer to writing a check. Still, Buffett knows Kraft and Mondelez both. It is not as though there would be a learning curve to understanding the business.

What is at issue here is that revenues at Mondelez are expected to fall 15% in 2015 to $28.8 billion, and they are expected to only recover by 2% to $29.4 billion in 2016. Still, earnings per share are expected to be $1.76 in 2015 versus the same in 2014 — with a consensus estimate of $2.04 EPS for 2016.

For Mondelez to accomplish that, there is already a focus on costs. And the $46.50 share price already values Mondelez at 23 times expected 2016 earnings. Should a slow-growth food giant be valued at 23 times next year’s earnings in a bull market that is now over six years old?

Another issue is that Mondelez is already valued at almost $76 billion now. How many companies can write a full buyout for that price plus an expected premium? Kraft Heinz is now worth over $97 billion.

Does it seem odd that Mondelez shares were up only $0.21 at $46.40 in mid-morning trading on Thursday? It does to us, even considering that shares were at a high of almost $48.50 earlier this same day. Maybe the market is just tired of Bill Ackman now.

Mondelez is not in a fast-growing segment, and it is already trading with a substantial valuation premium based on simple price-to-earnings ratios.

After Mondelez reported earnings in late July, Bank of America Merrill Lynch maintained its Buy rating and raised its target price to $50 from $43. Shares were at $45.27 then. Here is what it had to say about a premium valuation without knowing about the Ackman effort:

This is a 25% premium to its packaged food peers, which in our view is justified by its faster relative sales and profit growth. We expect sales and earnings momentum to remain positive in the near term as the company realizes the benefits of ongoing cost savings measures, increased marketing investment and significant cash returned to shareholders.

If Ackman wants to squeeze any more blood out of a stone here, maybe he should see if Buffett wants to write a check.

By Jon C. Ogg


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