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Buffett to Acquire Precision Castparts in $37.2 Billion Deal

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Why Buffett Wanted Precision Castparts

Warren Buffett’s Berkshire Hathaway Inc. agreed to buy Precision Castparts Corp., the maker of equipment for the aerospace and energy industries, in a deal valued at $37.2 billion, including debt.

Buffett’s firm will pay $235 a share in cash, the companies said Monday in a statement. That’s 21 percent more than Friday’s closing price for the Portland, Oregon-based company, which had dropped 17 percent in 12 months amid the slump in energy prices.

The deal is one of the largest by Buffett, who has been building his Omaha, Nebraska-based firm in recent years with the acquisition of industrial companies such as Iscar Metalworking in 2006 and chemical maker Lubrizol in 2011. It will also help work down a cash pile that climbed to more than $66 billion at Berkshire as of June 30.

“This is a business that’s multi-decade in nature,” David Rolfe, who manages about $11 billion including Berkshire shares at Wedgewood Partners Inc., said of Precision Castparts. “They have these incredibly long relationships with some of their customers. And people aren’t going to Fred’s moldings or Fred’s castings to get a little bit cheaper part on the inside of a jet engine.”

The target company uses advanced engineering technology to make metal industrial components for jet engines and power plants as well as pipes for the oil and gas industry. It employs about 30,000 people and produced $2.6 billion of pretax operating income on $10 billion of revenue in its last fiscal year.

Operating Margin

Precision Castparts said in July that it expects $10 billion to $10.4 billion of sales and an operating margin of about 27 percent in its current fiscal year, which ends in March. Last year, 70 percent of its sales were made to the aerospace industry, with another 17 percent going to the energy market. The company’s customers include General Electric Co., Boeing Co. and Airbus Group SE.

“I’ve admired PCC’s operation for a long time,” Buffett said in the statement. “It is the supplier of choice for the world’s aerospace industry, one of the largest sources of American exports.” Berkshire said the deal is expected to be completed in the first quarter of 2016, subject to regulatory approvals.

Berkshire will use about $23 billion of its cash for the deal and borrow approximately $10 billion, Buffett told CNBC. He said he plans to hold off from megadeals for about a year, because the company needs to make sure it still has plenty of cash on hand.

Newspapers, Shoes

PCC pushes Berkshire further into heavy industry and cuts reliance on insurance and stock picking, growth engines for most of Buffett’s 50 years in charge. Today’s Berkshire, with BNSF railroad and renewable energy holdings, could hardly have been imagined in the mid 1990s when the Buffalo News and shoe businesses were prominent units and the company was considered a mutual fund because of its equity holdings.

“Those days are gone,” Lawrence Cunningham, a professor at George Washington University and author of the book “Berkshire Beyond Buffett,” said in an interview. “It’s really an industrial operation now.”

Buffett has also shifted his equity portfolio, cutting back on some long-time holdings. Take the case of Procter & Gamble Co., the razor maker that has long been closely associated with the billionaire and was his third-largest position at the end of 2008. Last year, he struck a deal to trade most of the stock back to P&G in exchange for its Duracell battery business.

‘Phase Two’

Buying companies with enduring prospects is “a different sort of build-up of value” than investing in stocks, Buffett, Berkshire’s chairman and chief executive officer, told shareholders at his annual meeting last year. “We’ve moved into phase two.”

In 2010, Buffett spent $26.5 billion in cash and stock for the portion of Burlington Northern Santa Fe that Berkshire didn’t already own, valuing the railroad at about $34 billion. Berkshire also agreed to take on about $10 billion of BNSF debt.

Jeff Matthews, an investor who has written books about Buffett, said it’s unlikely that a purchase of Precision Castparts will work out as well as the railroad.

‘No Bargains’

“It’s night-and-day different from the BNSF acquisition,” which was announced at a time when there was widespread concern about the economy, he said in an e-mail. “Today there are no bargains like that,” Matthews said, adding that he was considering whether to sell his Berkshire stock. “I just don’t feel comfortable spending that kind of dough on that kind of business in this kind of market.”

Berkshire Class B shares slipped 1.4 percent to $141.60 in early trading at 8:06 a.m. in New York. The stock had dropped more than 4 percent this year through Friday’s close.

Buffett also backed the merger that created Kraft Heinz Co., and Berkshire said Friday in its second-quarter report that results for the three months ending Sept. 30 will probably include a pretax gain of about $7 billion tied to the transaction.

Insurance operations haven’t fared as well lately, posting a net underwriting loss of $38 million in the second quarter, compared with a gain of $411 million a year earlier, driven by deteriorating results at the company’s namesake reinsurance operation.

‘Fabulous Five’

The billionaire, who will turn 85 on Aug. 30, told shareholders in May that reinsurance, in which the company takes on risks from primary carriers, has “turned for the worse.” That’s because hedge funds and other investors have piled into the industry seeking to add premium revenue for investment portfolios.

Buffett for years has been highlighting his push beyond insurance, using the phrase “fabulous five” in 2012 to describe BNSF, the energy business, Iscar, Lubrizol and Marmon, which provides engineered wire and cables and motor-vehicle parts.

Adding Precision Castparts would make the group “the spectacular six,” Cunningham said. “A huge acquisition just reinforces the idea that Berkshire is an industrial conglomerate.”

Buffett doesn’t pay a dividend and rarely repurchases shares, meaning he may have to eventually pursue more megadeals, said Meyer Shields, an analyst at Keefe Bruyette & Woods.

“This is going to be a recurring phenomenon where the businesses in the aggregate are spinning off so much cash that you can go out and buy another business,” Shields said before Monday’s deal was announced.

PCC’s bank on the deal is Credit Suisse Group AG, and the legal advisers are Cravath, Swaine & Moore LLP and Stoel Rives LLP. Berkshire’s legal counsel is Munger, Tolles & Olson LLP.

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