“I would say most of the big food companies are good businesses in that they earn good returns on tangible assets. (...) If you own important branded products in this country... what is Wrigley’s, your Mars or Coca-Cola Co. (KO, Financial) or a number of the The Kraft Heinz Co. (KHC, Financial) brands or Sees candy, you have good assets. It’s not easy to take on those products. Just imagine (...) taking on Coca-Cola. It will sell a billion and a half eight-ounce servings of its product around the world. (...) It’s just about impossible to my mind anyway to take on a product like that,” Warren Buffett (Trades, Portfolio) said.
So why does he consider food stocks to be a smart investment?
As one of the most successful investors of all time, the head of Berkshire Hathaway Inc. (BRK.A, Financial) (BRK.B, Financial) has an eye for great businesses. His long-term, value-focused strategy has led him to invest in a number of major food and beverage companies over the decades. Buffett understands that food brands with loyal customers, pricing power and efficient operations can make excellent long-term holdings. Here’s a closer look at why the legend believes food stocks deserve a place in investors' portfolios.
Powerful brands and pricing power
One of Buffett’s criteria for identifying “wonderful businesses” is the presence of a strong consumer brand. Companies like Coca-Cola, See’s Candies and Kraft Heinz own globally recognized brands that consumers trust and remain loyal to. This gives them tremendous pricing power.
As Buffett points out, it is incredibly difficult for competitors to challenge dominant brands that are firmly embedded in consumer minds and habits worldwide. The strengths of these brands allow companies to consistently raise prices over time without losing significant market share. He views this “moat” as a huge competitive advantage.
The trust consumers place in brands like Heinz to deliver familiar, tasty products creates tremendous customer loyalty. This leads to repeat purchases and reliable demand decade after decade, regardless of economic conditions. For example, iconic brands like Oreo, Velveeta and Heinz Ketchup maintain their appeal during recessions as consumers seek small indulgences.
Simple, understandable businesses
The Oracle of Omaha also gravitates toward companies with straightforward business models generating understandable profits. Food stocks check this box. At their core, food companies manufacture and market beloved products. The basics of their operations are easy to grasp.
Most food companies do not have to continually invest massive amounts into research and development or facilities and equipment to sustain the business. The products often remain relatively consistent for years or decades. This makes forecasting future earnings more straightforward compared to fast-changing technology companies.
Buffett prefers boring companies reliably churning out the same consumer staples year after year to high-growth companies undergoing constant change.
Consistent demand and profits
In addition to strong brands and simple operations, Buffett views demand for food products as consistent and resilient over time. People always need to eat! This steady demand creates a reliable stream of earnings.
For market leaders like Kraft Heinz, profits tend to be stable from one year to the next, with limited volatility. During times of economic uncertainty or stock market turbulence, earnings may dip slightly but rarely fall dramatically. Cash flows also tend to be consistent given the limited capital investment mature food companies require.
Buffett views this earnings stability as a key feature for long-term investors who can ride out short-term market swings.
High returns on assets
Given their brand dominance and pricing power, large food companies generate impressive returns on invested capital. They do not require huge investments in production facilities or research compared to capital-intensive industries.
Most expenditures go toward marketing to remind customers of their love for brands like Oreo, Capri Sun and Oscar Mayer. This allows companies to earn attractive returns on assets and capital. Buffett sees this efficient use of capital as a marker of a high-quality business.
While innovation and disruption eventually impact every industry, change tends to happen slowly in the food space. Powerful distribution and retailer relationships further cement competitive positions. This creates durable economic advantages or moats that allow companies to generate excess returns over decades.
See’s Candies: The perfect Buffett brand
One of Buffett’s early investments in a consumer food brand was See’s Candies, which was purchased by Berkshire Hathaway in 1972. Demonstrating his long investment horizon, the guru has called See’s “one of Berkshire Hathaway’s most prized possessions.”
At the time of purchase, See’s had earnings of just $4 million on $25 million of capital. But Buffett saw a company with loyal customers willing to pay premium prices for high-quality candy. He trusted that See’s brand name, customer affinity and ability to raise prices over time would drive growth in profits.
He was right – See’s now earns over $80 million annually without requiring additional capital. On just $40 million of tangible assets, the confectioner generates tremendous earnings. This high return on invested capital is a hallmark of See’s competitive strength. The low capital intensity of its manufacturing and distribution operations boosts its return on capital.
Decade after decade, See’s has demonstrated tremendous pricing power. It has grown earnings by raising prices, not by costly expansions. Consumers accept price hikes because they love its premium candies. Buffett understood this dynamism even in the early 1970s. See’s exemplifies why he views dominant food brands as fantastic investments.
Coca-Cola: Global icon with enduring strengths
Coca-Cola is one of Berkshire Hathaway’s largest public stock investments. It is also the world’s most recognized brand. Buffett loves Coca-Cola’s stable business model, global diversification and long runway for growth in emerging markets.
As with See’s, Buffett recognized Coca-Cola’s entrenched competitive position early on thanks to its strong brand and unrivaled distribution network. While short-term headwinds like currency fluctuations or commodity price swings impact earnings periodically, the investor focuses on long-term fundamentals.
Coca-Cola’s ability to consistently raise prices is central to Buffett’s thesis. On average, Coke has grown its prices by 4% to 5% annually for years. The guru also sees Coke’s global diversification as an advantage. It earns money in over 200 countries and territories. So regardless of any one region’s economic woes, Coca-Cola’s profits hold steady.
Buffett views Coca-Cola as a “forever” stock to hold indefinitely. He expects its dominance and pricing power to endure for decades to come as consumers globally increase soda consumption.
Lessons from Kraft Heinz
Despite Buffett’s overall bullishness on food stocks, he has acknowledged missteps. Most notably, Berkshire Hathaway and private equity firm 3G Capital overpaid for Kraft Foods to create The Kraft Heinz. Writedowns on the Kraft business caused billions in losses.
This illustrates the risks of overpaying even for strong brands. When Buffett and 3G acquired Kraft in 2015, shifting consumer preferences were already impacting sales of packaged foods. Millennials favored fresh, organic options over processed cheeses and packaged meals. Kraft was also slow to adjust to the rise of private label and store brands. These trends made the $49 billion purchase price too high regardless of Kraft’s brand equity.
The Kraft-Heinz saga reinforces that Buffett does not advocate buying food stocks or any companies at all costs. Despite the strengths of brands like Oreo and Maxwell House, prevailing market prices and business trends must justify the valuation. Buffett’s discipline to walk away and admit mistakes is crucial.
The sweet aftertaste of smart food stock investing
Buffett’s billions in profits from investments in companies like See’s Candies and Coca-Cola demonstrate his conviction in food stocks. Their pricing power, stable demand, efficient operations and excess returns on capital can reward long-term investors. However, he carefully weighs valuations and business fundamentals before investing rather than chasing overpriced stocks. By leveraging the strengths of food companies at reasonable valuations, everyday investors can benefit from Buffett’s strategy.
