The creepy reality behind the Heinz-Kraft mega-deal

The big news in the business world this week was the merger of H.J. Heinz Co. with Kraft Foods Group Inc. The coverage was accordingly breathless: a "blockbuster" and a "mega-deal" that sent Kraft's shares "soaring" 35 percent.

Back in 2013, Berkshire Hathaway and the Brazilian private equity firm 3G Capital bought out Heinz for $23 billion. Now they’ll be effectively acquiring Kraft to create the new Kraft Heinz Co., and taking the whole thing public again. Heinz shareholders will own 51 percent of the new company and Kraft shareholders will own 49 percent. The latter group will also get a deal sweetener, to the tune of $16.50 per share, which will be paid for by a combined investment by Berkshire Hathaway and 3G of $10 billion. Bloomberg View's Matt Levine estimated the equity value of the new hybrid company at $82 billion, and its enterprise value at $110 billion.

Lord knows those are big numbers, and given the players involved you can see why it's been covered as a moment of high drama. But shares and stocks and financial markets and all that exist, supposedly, to better coordinate economic activity to the benefit of us concrete human beings. This sort of abstracted financial narrative tends to obscure that premise, as well as the creepier trends this deal is arguably an example of.

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Heinz makes products like ketchup, soup, beans, and sauces. Kraft counts Jell-O, Kool-Aid, Maxwell House, Oscar Mayer, and Velveeta among its various brands. Just how much those products contribute to the common human welfare can be debated. (Personally speaking, I will cut any health nuts that come between me and my Kraft Mac and Cheese.) But there are also thousands of workers in America and elsewhere who are involved in making those products. That's how they make their livelihood, which in turn helps support their families, gives them the resources and security to participate in their communities, and contributes to the general social fabric.

3G Capital has a reputation for aggressively acquiring companies like Burger King and slicing them down to size. After 3G and Berkshire Hathaway took Heinz private, they cut 600 jobs from the company in the United States and Canada. Globally, Heinz had reportedly cut 6,650 positions as of this month.

"We regret the impact this has on Heinz employees and their families," Heinz Spokesman Michael Mullen said back in 2013.

In addition to Heinz's 6,800 North American employees, Kraft brings roughly another 22,000. Sam Ro did some back-of-the-envelope calculations in Business Insider, based on the deal's anticipated "synergies," and estimated over 5,000 people could be let go.

Now, Heinz and Kraft are in a tough spot. They're both in the commodities business: selling goods that meet everyday needs, but are hard to differentiate from one another. You can try different recipes, branding, or marketing, but at the end of the day ketchup is pretty much ketchup. This can create what business people bitterly refer to as "commodity hell" — a circumstance in which you can't compete on anything but price. Everyone underbids each other until revenues begin to bump up against costs and profits vanish.

Kraft's profits fell 62 percent to $1 billion last year, thanks to higher commodity costs and its employee benefit plans. Meanwhile, Heinz's sales have been sliding in North America and elsewhere, and both companies have reportedly been hit by the cultural shift towards more natural or organic food products.

Faced with these challenges, you can understand companies retooling or even cutting down their size and operations. What's less understandable is seeing them do this, not for the sake of maintaining those jobs and that productive economic activity, but for the sake of rich rentiers.

"This combination offers significant cash value to our shareholders," exclaimed John Cahill, the chairman and CEO of Kraft and the future vice-chairman of Kraft Heinz Co.

Well, sure, but so what? That $10 billion Buffett and 3G pumped into the deal is a lot of money! It could create a lot of jobs and productive capacity. Alexia Howard, a U.S. food analyst at Sanford Bernstein, noted that while the deal might make sense "from a profit perspective and a shareholder value perspective," Heinz's frozen food business is still shrinking. And it did so even as 3G’s housecleaning made it more profitable — meaning those profits weren't due to new economic value creation, but just to dissolving parts of the company to create cash payouts for shareholders.

There's no indication this latest merger is actually going to respond to the real challenges Heinz and Kraft face in the economy. That $10 billion could have gone to creating a new line of product to give Kraft Heinz Co. an edge, for example.

The conventional wisdom is that this is how financial markets efficiently allocate capital in the economy. Maybe there just isn't any way to make Kraft and Heinz more productive, so parts of them should be liquidated into cash, and then reinvested in other companies with better prospects.

Except if you actually look at the financial system as a whole, that isn't what's happening. Since the rise of stock buybacks in the 1980s, shareholders have, on balance, actually been draining capital from companies. The stock market has begun to operate like a plague of locusts, consuming swaths of the American economy and digesting it into cold hard cash. Then that cash just sits at the top of the economy, going through the same cycle over and over without translating into real economic investment and growth.

There are a number of reasons this could be going on. A changed corporate culture; the rise of inequality; or changes to regulations, tax policy, and union power. It's probably an intertwined story of all three.

This tale of the capitalist class scuttling real productive creation to give itself a big payday is hardly new. But that doesn't make it any less creepy when you see a piece of the social fabric dissolve into the ether of the stock market.