Buffett Skirts 2015’s Record-High Takeover Valuations: Real M&A

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Why Buffett Is Paying Cash for Precision Castparts

For those investors concerned that Warren Buffett has lost his touch, he hasn’t.

His $37.2 billion acquisition of Precision Castparts Corp., a maker of equipment for the aerospace and energy industries, stands out as a relatively sound price at a time when most other buyers are paying rich fares.

With merger activity headed for a record this year, U.S. targets have never been more expensive. Those larger than $1 billion carry a median valuation of 19 times earnings before interest, taxes, depreciation and amortization, according to data compiled by Bloomberg. By comparison, Buffett’s Berkshire Hathaway Inc. is paying about 13 times Precision Castparts’ Ebitda.

The purchase still isn’t bargain, and Buffett acknowledged in an interview Monday on CNBC that it’s a “very high multiple” to pay. It’s in the upper echelon of what he’s typically dished out for deals, lagging only his 2013 acquisition of ketchup giant H.J. Heinz Co.

Buffett is known for buying solid companies at reasonable prices, but it’s tough to find both characteristics these days. While a frenzied merger market continues to drive up valuations, it’s unaccompanied by an equal surge in earnings growth.

“I like Warren to show me things that are screamingly cheap,” Guy Spier, CEO of Aquamarine Capital Management, said in an interview on Bloomberg Radio Monday. “I just think it’s not the case here.”

‘Very Rare’

Buffett targets companies that are leaders in their respective industries and run by management teams he admires. Precision Castparts is the “supplier of choice” for the aerospace industry, and chief executive officers like Mark Donegan are “very, very rare,” he said. The transaction also makes use of Berkshire’s cash hoard, which had climbed to more than $66 billion as of June 30.

“It may be high relative to what Buffett has paid in the past, but it will provide significant earnings gains for 2017 and 2018,” Mario Gabelli, chairman and CEO of Gamco Investors Inc., said in a phone interview. Gamco oversees more than $45 billion and owns Precision Castparts shares. “He’s basically picking up $3 billion of cash flow,” Gabelli said, adding that Buffett has a low cost of capital and will probably be able to refinance Precision Castparts’ debt at a lower rate.

Some Berkshire investors aren’t as enthused. Jeff Matthews, who has written books about Buffett, said he doesn’t “feel comfortable spending that kind of dough on that kind of business in this kind of market.” For that reason, he’s considering whether to sell his Berkshire stock.

Shares of Precision Castparts slid almost 20 percent this year through Aug. 7, one of the worst performances among industrial stocks in the Standard & Poor’s 500 Index. Berkshire’s class A common stock was down about 4 percent over the same stretch.

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