Why did Warren Buffett buy Duracell? Berkshire Hathaway (NYSE:BRK) announced in November 2014 that Berkshire will buy global battery manufacturer Duracell from Procter and Gamble (NYSE:PG) in exchange for the $4.7 billion of P&G shares held by Berkshire.
On the surface, this seems like a fair valuation for a stabilized company with limited growth prospects. Berkshire’s $4.7 billion price tag is equivalent to 10-11x 2014 EBITDA.
If we dig deeper, however, we see that this deal makes enormous sense for Berkshire shareholders financially. We need to make two adjustments to the $4.7 billion price tag:
- As part of the transaction, P&G will recapitalise Duracell with $1.8 billion in cash – this implies that Berkshire’s net price is really $4.7 billion less $1.8 billion or $2.9 billion
- Berkshire has a large deferred tax liability relating to its stake in P&G. With a cost basis on only $336 million, at a $4.7 billion valuation Berkshire’s deferred tax liability on just the P&G stake is roughly 35% * ($4.7 billion – $336 million) = $1.5 billion. Such a trade will effectively remove the deferred tax liability from Berkshire’s books, increasing net asset value by $1.5 billion
If we make both adjustments to the $4.7 billion headline number, Warren Buffett’s purchase price for Duracell is really closer to $4.7 billion – $1.8 billion – $1.5 billion = $1.4 billion (or only 3-4x EBITDA!!). Warren Buffett got Duracell at a steal.
Duracell is also a wide-moat business with significant brand value. According to P&G’s annual report, Duracell maintains an impressive 25% market share in the global battery market. This is not an easy industry to get into given the economies of scale needed to operate profitably. It is also relatively stable, albeit potentially in decline given the advent of rechargeable electronic devices. There is some uncertainty as to the future prospects of the industry, but at least Berkshire shareholders only need 3-4 years to get their money back.