Kraft Heinz: Is Buffett’s Stamp of Approval Enough?

Even if its name wasn’t enough to impress, Kraft Heinz Co (NASDAQ: KHC) was always going to draw attention. After all, it came into being through a merger backed by none other than legendary investor Warren Buffett. The Oracle of Omaha owns about a quarter of the food and beverages giant through his investment company Berkshire Hathaway (NYSE: BRK.A).

Kraft Foods and H.J. Heinz were already top players in their industry before Buffett and Brazilian investment group 3G Capital hatched the merger plan. They had jointly acquired Heinz in 2013. When the deal closed in July 2015, it created the fifth biggest food and beverage company on the planet. In North America, Kraft Heinz ranks at number three.

While all of this is impressive, does it mean that dividend investors would do well to buy into this corporation?

Some more on Kraft Heinz

Kraft Heinz
Kraft Heinz

With headquarters in Pittsburgh and Chicago, Kraft Heinz has operations in more than 40 countries. Its portfolio contains more than 200 brands, among them eight with annual sales in excess of $1 billion. Besides Kraft and Heinz, the company also owns such iconic brands as Oscar Mayer, Philadelphia, Velveeta, Maxwell House, Ore-Ida, and Jell-O.

Kraft Heinz concluded 2016 with net sales of $26.5 billion and net income of $3.6 billion. It was the first full year of operation for the merged group. The company made a slow start to 2017, reporting a 3.1% year-on-year decline in first-quarter net sales. Net income and diluted earnings per share were flat at $893 million and $0.73, respectively. Despite the lackluster results, CEO Bernardo Hees said Kraft Heinz remained “on track with our key initiatives.” These include “product innovations, renovations, and geographic expansion.” The initiatives will help the company grow its organic sales for the rest of 2017 and beyond, Hees added.

Kraft Heinz currently has a market capitalization of about $100 billion.

Dividends

The companies that combined to form Kraft Heinz had gained the trust of income investors. It remains to be seen whether the merged entity will establish itself as a solid dividend play.

We should note that Kraft Heinz operates in an industry with strong competition and slow growth in general. Food products and beverages are recession-resistant goods, but even in good economic times they rarely deliver bumper sales. This means and Kraft Heinz may build a solid dividend record but its distributions are unlikely to grow at impressive rates.

Shareholders in the company are currently collecting $0.60 per share by way of a quarterly dividend. This implies an annualized payout of $2.40 per share against $2.35 in 2016. The yield now stands at 2.9%.

Valuation

You could say that Kraft Heinz is riding on the glory of its predecessor companies and the reputation of its main shareholders. Buffett needs no introduction and Berkshire Hathaway is one of the most successful investment companies in the world. As for 3G Capital, it has become well-known for driving profitability at its portfolio companies through extensive cost-cutting and carefully selected acquisitions. It’s still too early to say how well this strategy will work for Kraft Heinz.

The shares are currently trading at $82.82, quite close to their 52-week low of $79.69. The highest value in the past year was $97.77.

On the other hand, Kraft Heinz has a forward P/E ratio of 22.5 versus an average 19.9 for the S&P 500 Index. The trailing value also exceeds the industry average: 29.8 and 27.8, respectively.

Given its legacy, high-quality portfolio, and heavyweight backers, Kraft Heinz may be deserving of a premium. However, buying into the company at present has an element of risk. There is still uncertainty regarding its ability to achieve meaningful growth in free cash flow and earnings. Unless that happens, Kraft Heinz will find it highly problematic to maintain dividend growth in the longer term.

Disclosure:

I do not have a financial interest in any of the companies featured in this article, nor do I plan on having one within the next three days.

This article reflects my opinions. The company is not paying me to write it and I do not have any business relationship with any companies mentioned in it.

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