Unilever plc (LON: ULVR) and Reckitt Benckiser Group Plc (LON: RB) have similar characteristics to H.J. Heinz Company.
What's so special about Heinz (NYSE: HNZ.US), that Warren Buffett -- together with private equity group 3G -- will shell out $28bn to buy it?
The price is certainly no steal, valuing the company at 21 times forward earnings. That's a 20% premium to its all-time high share price, providing an unexpected bonus for investors who were shrewd enough to spot Heinz's value.
I think there's at least two companies on the LSE with similar characteristics: Unilever (LSE: ULVR) (NYSE: UL.US) and Reckitt Benckiser (LSE: RB). But let's first take a quick look at Heinz itself.
The power of brands
The company is synonymous with the brand name that adorns its tomato ketchup, baked beans and baby food. In fact, about 40% of turnover comes from products bearing the Heinz brand.
The power of strong consumer brands is double-barrelled: they provide safe and reliable cash flow in established markets, and they form a bridgehead to enter new markets. In 'Buffettology', brands create an economic moat that protects a company's earnings.
Though originally a dyed-in-the-wool US family firm, founded in 1869, international expansion has taken Heinz's non-US sales up to 60% of its global revenues. More recently, growth has come from emerging markets. They now account for a quarter of sales, up from 5% a decade ago.
Mr Buffett has often favoured easy-to-understand companies with strong track records and solid financials. Overall, the factors that I think makes Heinz worth 20% more to Warren Buffett than the market was valuing it at are:
- Internationally recognised consumer brands;
- Growth in emerging markets;
- Solid earnings record;
- Good cash flow;
- Sound balance sheet.
Unilever and Reckitt Benckiser share these characteristics.
Both claim sales in over 180 countries. Unilever's food, beverage, health and home businesses comprise brands such as Walls, Ben and Jerry's, Dove and Lux.
RB is focusing on health and hygiene as well as its home products, and has a non-strategic but financially important pharmaceuticals division. Its brands include names such as Dettol, Finish, Durex and Gaviscon.
Growth and safety
Unilever has the march on both Heinz and RB in its penetration of emerging markets, which generate 55% of its sales. RB is catching up with 44%, aiming to bump that up to 50% by 2015. The rise of a middle class with discretionary spending power makes for much better growth prospects in emerging markets.
RB wins on earnings record, with turnover and earnings per share rising consistently for at least the last decade. While Unilever's track record is patchier, few would doubt the solidity of its earnings power.
Both companies generate prodigious cash flow. Last year Unilever delivered €4.3bn of free cash flow from a €7bn operating profit, while RB's £2.4bn operating profit generated £1.7bn free cash flow. Net gearing at the two firms is 47% and 41% respectively, with lashings of interest cover.
Not cheap, but cheaper
Unless you're Warren Buffett, you're not going to buy the whole company. The flip side is that you don't have to pay a 20% premium to get hold of the stock.
Trading on forward earnings multiples of 18 and 17 respectively, Unilever and RB are cheaper than Mr Buffett's purchase price for Heinz. They are more expensive than the average FTSE company, but there's no doubt that, in buying Heinz, Mr Buffett was following his own maxim that it's better to buy a wonderful company at a fair price, than a fair company at a wonderful price.
Make up for a missed opportunity
Most British investors will have missed the opportunity with Heinz. But stocks that are good enough for the Sage of Omaha should be good enough for most investors. That's why it's valuable to compare the characteristics of companies on the LSE with companies that Mr Buffett buys, even if the chances of a bid premium are remote.
There is another stock on the LSE that the billionaire investor fancies. What's more, its share price is still at a level similar to that when he last bought the stock, and it's trading on just 12 times forward earnings.
You can discover all about this other Buffett purchase by reading this special report, which describes the history, the prospects -- and the useful 4% dividend income -- of the company in question. Just click here to learn more -- the report is free.
> Tony owns shares in Unilever and Reckitt Benckiser but no other shares mentioned in this article.