Three Sides of Management Focus (Why Berkshire Hathaway Lost Money on Kraft Heinz)
There's more to the story than paying too much.
When Jack Welch retired in 2001, he had spent 20 years building GE into the largest company in the world. His management style, sometimes called “rank and yank”, was celebrated as genius. The strategy was to terrorize employees by relentlessly cutting the bottom 10% of performers — and everything up to entire divisions were considered expendable.1
But this success was an illusion. GE’s tremendous growth was not built by cutting. It was created by the borrowed money inside GE Capital, the financial division that imploded in 2008 and exposed the flaws of Welch’s management style.2 The slide never stopped, and GE was forced to split up in 2024.3
Cutting by default, without any regard for what is actually needed, is an inappropriate strategy for a company pursuing healthy growth, but turnaround situations often warrant dramatic changes. One of the most famous is Eddie Lampert, who took control of Sears in 2005. The story is instructive.
By the time Lampert took over, Sears was already far behind its competitors. In the 80s, it missed the transition from traditional department stores to the “big box” warehouses like Wal-Mart and Home Depot. In the 90s, it missed the move to online retail, or ecommerce, that was overwhelmed by Amazon and eBay. Some investors considered Sears to be a promising turnaround situation — a company that is having trouble keeping up with competitors, but had a good chance of surviving. Lampert was praised as the potential savior of Sears.
Similar to GE, his strategy was to cut expenses and force different divisions of the company to compete against each other. The result was a culture that could not plan for its future and a company that did not know its customers. Staff was laid off. Old stores were not updated (or, when they were updated, they were updated too cheaply).4 Managers from different stores and sales departments were incentivized to protect their own status — not to help the company. Personal relationships with manufacturers became hostile.
Lampert began aggressively closing stores and selling valuable Sears real estate. He continued stripping the company by letting quality slide and selling off the valuable Craftsman brand. Revenue declined, the stock fell more than 90%, and Sears declared bankruptcy in 2018.5
The most generous conclusion is that Lampert never intended to actually save the company. When Sears sold real estate, Lampert was the buyer. When Sears borrowed money (secured by more real estate), Lampert was the lender. That made him the largest shareholder, largest debt holder, CEO, and owner of significant real estate leased back to the company. The bankruptcy only changed the financial arrangement of these titles.
But this management style also ensured that the company could not be saved under any conditions. When employees and business units are incentivized to sabotage each other, then that is what they will do — and the company will crumble, no matter how healthy it was to begin with. And stripping away everything that made Sears valuable only served to benefit the buyers. The shareholders got bankruptcy.
3G Capital tried something similar.
When 3G partnered with Berkshire Hathaway to take over Heinz, the firm had a reputation for taking big business and making it bigger, creating monsters out of Burger King and Anheuser-Busch by cutting costs, merging with major players, and aggressively expanding.6 With that kind of record, Warren Buffett was confident that they could do the same thing with Heinz, and provided funding for a takeover in 2013. In 2015, 3G Capital followed the same strategy as other deals, and merged Heinz with Kraft Foods to create Kraft Heinz (KHC).
As the manager, 3G Capital cut expenses on everything, including brand investment, and the stock has fallen by about 70% from its all-time-high. KHC missed out on important consumer trends, such as the move to more private label brands and more health-consciousness eating. 3G sold its investment in 2023, while Berkshire Hathaway just took a big $3.8 billion write-down. KHC is now exploring a breakup.
Given such an obviously bad result, it is clear that Berkshire Hathaway made a mistake. Warren Buffett describes that mistake as “I paid too much.” This is probably true, because part of the deal was based on the reasonable assumption that 3G Capital could improve the business, and he paid extra for that potential. But I believe that the other part of this mistake also extends to using the wrong business strategy. Here’s why…
I think of management focus in three parts.7 Each one is partially related to the other:
Costs vs. investments.
Demanding vs. destructive company culture.
Customers vs. competitors.
The first one is where I see what I consider the most common management mistake. There are situations where cutting costs is an appropriate first step, such as correcting a strategic mistake or trying to salvage a desperate condition, but it’s often used as a default shortcut to short-term growth. Cutting costs is not the only way to become more efficient, especially when the business is already healthy (taking all of the oil out of an engine will not make it run better).
This is not a popular thing to say, but there are actually many cases where spending more money is the most efficient option! Investments in future returns need to be properly evaluated as investments and not just dismissed costs. Cutting some fat is OK, but cutting the muscle and bone, and refusing the feed the company, will kill it. Deficiencies compound.
Managers who take this to the extreme — who only focus on cutting costs or obsess over stock prices — tend to have blind spots that ignore the value of healthy business growth, and the dangerous end of this strategy can result in “creative” accounting. This was the result for KHC, and the company was forced to review almost 3 years of financial statements.
The second part of management focus, company culture, considers the difference between demanding and destructive. This one can be ambiguous because there is a tipping point, and it can be complex because it is not the only factor. For example, Steve Jobs and Bill Gates were both known for cruelty towards their own employees and executives, but Apple and Microsoft have become two of the largest and most successful companies in the world. Steve Jobs, at least, was fired as CEO before coming back with a more measured approach.8 You can be demanding without being abusive.
As I already mentioned above, GE and Sears followed a similar path of destructive management, but the video game industry is also commonly associated with destructive culture. Three of the most recent HR scandals were Riot Games, Ubisoft, and Activision Blizzard (and that’s just the tip of it, because they were all bad enough to become settlements or court cases). Ubisoft, the only one that is still publicly traded, has seen its stock price fall by about 90% since 2018. I don’t follow KHC closely enough to know if it has a culture problem, but it often goes along with cutting costs by neglecting other investments.
The last piece of management focus is what I consider the most important. It’s the question of whether the company is only following its competitors or seeking what its customers want. This is part of why Apple did not fail despite Steve Jobs’ early management style. Apple is famously focused on anticipating what the customers will want and moving in that direction, and there are many examples of successful companies that take the same approach. But that direction can still be taken without bullying employees.
It’s a direction that KHC did not take. And whether that changes after a breakup is too early to forecast. We’ll have to find out later.
Put it all together, and my conclusion is basic: If a business is not paying attention to what customers need, then the losses are inevitable.
Jack Welch wrote two books: “Winning” about his management style; and “Jack: Straight From the Gut” about his career. I would not recommend either book.
While GE’s fall is often attributed to Jack Welch’s successor, he was following the same model.
Axios and Investopedia both have great articles on what happened to GE. I also highlighted GE as an example of bad stock buybacks in an earlier post.
This would not have been obvious to an outsider, but a Sears customer would easily recognize the company’s neglect.
There are several different perspectives on what happened to Sears, but they all tell the same story.
“Dream Big” by Cristiane Correa is a good book about 3G’s rise to capturing Heinz.
“Managing for Results” by Peter Drucker is a great book with much broader view on management.
“Steve Jobs” by Walter Isaacson is one of the best books that I have ever read, but I’ve seen many managers learn the wrong lesson from reading this book. Their goal should not be to behave like Steve Jobs, because that actually goes against what Jobs himself would tell them to do. Their goal should be to have an authentic style that is unique to their own experience. And on the business side, it was Jobs’ attention to customers that mattered more than his style.
Excellent article, very well put indeed.
The private equity ‘cut throat’ approach is too often romanticised. If you were truly a long term ‘owner’ of a business, you wouldn’t even consider aggressive accounting or blind cost cutting.
I can’t think of any great company that has been built as a result of private equity firms selling between themselves and restructuring each time.
First assignment would be to find out how much BRK paid for its stake in Kraft Foods, how much it invested into the Heinz deal (hint: preferred shares), how much it received in dividends and interest over the years, and how much the stake is worth today. Then you could see if your claim "BRK lost money" holds...