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I have been following with interest the saga of Warren Buffett and 3G Capital in the past few days.  In case you do not remember or know about it, Buffett teamed up with Brazilian investment firm 3G Capital a few years ago to acquire venerable consumer brands including Oscar Meyer, Kraft, Heinz and many others.  


3G Capital touted its zero-based budgeting (ZBB) approach to "fix" companies it acquired in the early 2010's.   As the name implies, ZBB is an accounting method whereby a company has to justify its operating budgets every year starting from ground zero, as opposed to using the previous year budget as guidance.  This approach involved cutting costs to the bone from these companies.  The rationale for this was that 3G Capital believed many acquisition targets were "too fat" and needed to be slimmed down.  Thus, as reported by the Wall Street Journal and other publications, the Modus Operandi of this investor is to acquire a company and immediately start cutting costs.  


Buffett and 3G Capital were initially tremendously successful in increasing profits and obtaining outstanding financial results by cutting costs and executive perks.  Some examples of this cost-cutting included making executives fly commercial instead of owning/leasing jets and concentrating in all aspects of costs.  They even demanded that copies were double-sided instead of single sided so a sheet of paper could be maximized.


During the past few years, many consumer good companies including Unilever came under pressure from investors to imitate 3g Capital's approach and some even adopted a modified form of ZBB.


This week, 3G Capital-owned Kraft Heinz Co. wrote down the value of its brands and other assets by $15.4 Billion.  Since these write-downs have to be reflected in the fiscal year, this means that its profits were impacted negatively, and its share price tumbled from a high of almost $50.00 to $32.00 today.  What this also means is that the value of the Brands, or "Goodwill," for the company has lost tremendous value and steadily eroded while 3G Capital has held it.


The reason for this is simple - Lack of Innovation.  What 3G Capital failed to realize is that companies that do not invest in innovation will sooner or later be overtaken by start-ups and companies that do.  By not investing in improvements to its product over the past few years, the company failed to hold on to its existing customers and also acquire new ones.  As consumer tastes have changed, consumers demand fresher and more varied products.  3G Capital, by concentrating only on cost-cutting and not investing in innovation, failed to come up with the new products that are the lifeblood of any consumer goods company.  Additionally, its InBev Company, which includes Budweiser, has also failed to come up with new brands and flavors.  With millennials' preference shifting to local brews, this has meant a massive hemorrhage of customers in the beer category for 3G Capital.  Combined with the fact that younger consumers prefer liquor and wine to beer, this has impacted InBev's, and by extension 3G Capital, financials negatively.


​Finally, the same has occurred in the restaurants it owns, Burger King and Tim Horton among others, a lack of investment in innovation and infrastructure means the restaurants have been losing clientele rapidly and look rundown and old-fashioned.


The bottom line is that a company or investor needs to continue to invest in innovation and infrastructure if working on a long-term strategy.  3G and Buffett have proven that using ZBB for prolonged periods only decimates brand and product value and infrastructure.  Cost-cutting to the bone without regard for the future only works for a few years.  After that, the company becomes vulnerable to competitors that innovate continuously and that have a spirit of entrepreneurship.


Buffett's firm, Berkshire Hathaway, just swung to a $25.4 Billion loss in the fourth quarter of 2018 due to the impact of its partnership with 3G Capital.  Hopefully, Warren will be able to work with 3G Capital to show them that the only way that a company can maintain long-term leadership in any industry is through innovation and judicious investment.  We'll have to wait and see....


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Please do not hesitate to call me at 1 (617) 391-0347 or e-mail me at mariocastaneda@bluesailconsulting.com to talk about this or any other subject.  I always like to hear from clients and readers.  

 

Also, please don't forget to read my interview with BostonVoyager magazine.  To read it, click here.

 

Please do not hesitate to contact us if you need help in developing a successful entrepreneurship and innovation-driven culture to drive success..

 

I look forward to seeing you here again in April.

 

​Mario

Mario's Corner - March 2019.

Warren Buffett's and 3G Capital's Failure to Invest in Innovation at Kraft, Heinz, Burger King and Budweiser Brands - And What It Cost Them.