3 Companies Buffett Should Have Bought Instead of Kraft

You’ve heard the news by now. Warren Buffett’s Berkshire Hathaway (NYSE: BRK-B) and Brazilian private equity firm 3G Capital Partners have teamed up to merge Heinz (which they purchased in 2013) with Kraft Foods Group (NASDAQ: KRFT).warrenbuffett

The deal isn’t technically a buyout, since they are merging Heinz with Kraft and paying shareholders $16.50 a share. Even still, one of the big questions of the Kraft buyout is why go after a company already trading at such a rich valuation?

Shares of Kraft are trading at a price/earnings ratio of 26 based on next year’s earnings estimates. That’s at the high end of the food industry. There are a number of companies that not only trade for cheaper, but also have stronger margins, better balance sheets and are expected to have superior earnings growth in the future.

This Kraft Heinz deal is especially interesting at a time when many consumers are shifting toward healthier options and away from processed foods. More than a couple companies have identified that trend and are pivoting.

Without further ado, here are the three companies that Buffett should have bought instead of Kraft:

ConAgra Foods (NYSE: CAG)

ConAgra offers one of the top dividends in the food space, yielding 2.7%. It’s also quietly become one of the biggest players in the food industry over the last couple years. Its products can be found in grocery stores, but it also has food-service establishments and various restaurants as customers.

Key brands include Healthy Choice, Hunt’s, Marie Callender’s, Orville Redenbacher’s and Peter Pan. After buying Ralcorp in 2012, ConAgra became the largest private food (i.e., store brands) company in the U.S.

Granted, its debt load is a bit high (though still below Kraft), but it’s been aggressively paying it down and has a plan to up its dividend and put in place a new shareholder buyback program in fiscal year 2016.

Then there’s the growth angle, where Wall Street expects ConAgra to grow earnings at a rate that’s nearly double Kraft’s for the next five years. This comes as the food company has been increasing its presence in international markets like Brazil and China with joint ventures and new production facilities. On the valuation side, ConAgra is trading at a P/E of 16 based on next year’s earnings – a P/E that’s 60% of where Kraft trades.

The Hershey Company (NYSE: HSY)

Warren Buffett is known for his interesting diet, which includes drinking five cokes a day, so naturally a candy maker would fit in perfectly at Berkshire.

Hershey controls the chocolate candy market in the U.S., commanding nearly 50% of the market share. But it also has other candy brands like Breath Savers, Bubble Yum and Jolly Rancher.

Hershey pays a 2.1% dividend yield, but it’s also one of the best growth stories in the food industry. It doesn’t stop there. Hershey has one of the highest profit margins in the business, coming in at over 11% for the last 12 months. And its return on invested capital is industry tops, at 26%.

In terms of growth, Hershey’s expected annual earnings growth rate over the next five years is nearly 10%. The key? Diffusing into international markets. Right now, about 85% of its revenues are generated from within the U.S. and Canada. Toward the end of last year, Hershey took an 80% stake in Chinese chocolate maker Shanghai Golden Monkey. It plans to further expand in China.

The J.M. Smucker Company (NYSE: SJM)

Smucker is known for its peanut butter and fruit spreads, but its largest business is coffee – which includes its Folgers brand. It also has a presence in baking products and oils.

Now Smucker has its hand in the pet food market after buying Big Heart Pet Brands earlier this year. Big Heart has brands like Meow Mix and Milk-Bone.

This is an interesting diversity move for Smucker, and one that’s expected to accelerate growth – not just thanks to synergies, but also because people continue to increase spending on pets.

Buffett’s bet on Kraft is a bet that people will keep eating processed foods. While that might be true, there’s no sense in getting caught up in the Buffett euphoria with Kraft already trading at an outsized valuation. Especially when there are other companies that will give you exposure to the food industry with better growth prospects.

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Published by Wyatt Investment Research at