Tag: Special Report

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BNSF Special Report

Special Report: Passenger Service Little Known Part of BNSF

(BRK.A), (BRK.B)

With the founding of Amtrak in 1971, most people have assumed that the major class 1 railroads, which include Berkshire Hathaway’s wholly-owned BNSF, got out of the passenger rail business.

The exodus was logical, as post WWII passenger service had become a tremendous money drain with the advent of jet air travel and the building of the interstate highway system. That one-two punch sent ridership plunging.

But Not So Fast

While it is true that long distance passenger rail service is now the purview of Amtrak, BNSF still moves over 27 million passengers a year in regional passenger rail service that includes Chicago, Seattle, and Minneapolis. Chicago alone has more than 25 million passengers annually served by 106 BNSF trains.

BNSF’s role in each region is different. For example, in Minneapolis, BNSF provides the locomotives, and the Metropolitan Council, the regional governmental agency, owns the rolling stock and provides train crews.

In Chicago, BNSF operates the trains and leases the equipment under a purchase of service agreement to METRA, the commuter rail division of the Regional Transportation Authority of the Chicago metropolitan area.

In Seattle, Sounder commuter rail is operated by BNSF on behalf of Sound Transit.

In all these cities, commuter rail helps reduce congestion on local highways. A single bi-level commuter rail car can carry as many passengers as 120 automobiles, and a train produces less emissions than an equivalent number of automobiles.

Ensuring a Profitable Business Model

What all the commuter lines have in common is they are all profitable for BNSF. Commuter rail is still just a small part of BNSF’s overall business, but BNSF has laid out a list of Commuter Rail Principles that keep it profitably in the commuter rail business:

• Any commuter operation cannot degrade BNSF’s freight service, or negatively affect BNSF’s freight customers or BNSF’s ability to provide them with service.

• BNSF must be compensated for any and all costs incurred in providing commuter service and must make a reasonable return for providing the service.

• Capital investments necessary for commuter service are the responsibility of the public, including investments for future capacity.

• BNSF will not incur any liability for commuter operations that it would not have but for those operations. These operations are provided by BNSF primarily as a public service.

• Studies of how commuter service might be provided must take into account not only the current freight traffic levels, but also projected freight traffic growth.

•Investments made for commuter projects must not result in BNSF incurring a higher tax burden.

• BNSF must retain operating control of rail facilities used for commuter service. All dispatching, maintenance and construction must be done under the control of BNSF.

• Studies must reflect BNSF’s actual operating conditions and cost structures.

• BNSF will limit commuter operations to the commuter schedules initially agreed upon. Future expansions will have to undergo the same analysis and provide any required capital improvements.

•Improvements must include grade-crossing protection and intertrack fencing as required to minimize the risk of accidents.

Commuter rail is not BNSF’s only connection to passenger service. In addition to the passenger service provided directly by BNSF, some 64 Amtrak trains operate daily on over 6,500 miles of BNSF host track.

© 2015 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.

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Nebraska Furniture Mart Special Report

Special Report: Can Berkshire’s Nebraska Furniture Mart go for $2 billion with Dallas store?

(BRK.A), (BRK.B)

A furniture chain that produces over a billion dollars in annual revenue is a big deal, and it’s an even bigger deal when the chain has only three stores.

This is the case with Berkshire Hathaway’s Nebraska Furniture Mart (NFM), which with only 3 stores located in Omaha, Nebraska; Kansas City, Kansas; and Des Moines, Iowa, generates almost $1.04 billion in annual revenue.

That’s enough business to land NFM on the National retail federation’s “Hot 100” for 2014 despite its limited number of outlets.

The big question is whether NFM can reach $2 billion in annual sales when it opens its fourth store in the spring of 2015 at The Colony of Dallas-Fort Worth, Texas. Dallas-Fort Worth is the 4th largest metropolitan area in the United States.

Bigger is Best

NFM is known for its mega-sized stores, which include its flagship 420,000 square-feet facility in Omaha.

The new Dallas-Fort Worth store will up the ante, boasting a 1.9 million-square-foot facility featuring a 560,000-square-foot showroom that is expected to generate over $600 million in revenue annually.

A New Real Estate Play

Flying in the face of the adage that the era of the mall is dead, with retail migrating more and more to the internet, NFM is crafting a powerful regional draw that takes up lots of actual physical space rather than just cyberspace.

NFM stores have traditionally been stand-alone facilities, but with the new Dallas store NFM is developing a 400+ acres, 3.9 million square-feet mix of retail, entertainment, dining and attractions that is going by the name of Grandscape.

In addition to retail, the facility will include a hotel and amphitheater, office space, and ±300 multi-family units. NFM is betting that 18 million visitors will come to Grandscape each year, with 8 million of those visitors hopefully shopping at Nebraska Furniture Mart.

Excitement is running high even among the retailers that will be outside of the actual Grandscape footprint, and some are planning to build duplicate stores on either side of the highway to take advantage of Grandscape’s anticipated drawing power.

Average household income in the 12 county area is $57,431 with a total population in North Texas of 6.5 million. In addition, NFM believes it can draw from a huge four-state area with people traveling from as far as 300 miles away.

Revenue Projections

Is $2 billion in annual revenue realistic for four stores? Even four mega-stores? NFM is projecting that sales will grow 7% annually for the first decade with 3% growth thereafter. While 7% annual growth sounds optimistic, it is less than half of NFM’s 15.4% growth in sales in 2014.

Perhaps the bigger question is who says you have to stop at four stores?

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results

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Forest River Special Report

Special Report: Working for Berkshire Hathaway: “I don’t want to work for a big corporation!”

(BRK.A), (BRK.B)

“I don’t want to work for a big corporation!” It’s popular sentiment among those with an entrepreneurial bent. What was surprising to me was those words were being spoken by one of the managers at Forest River Inc., a leading manufacturer of recreational vehicles, pontoon boats and buses that is owned by Berkshire Hathaway.

Corporate bureaucracy

Scott Adams, creator of the Dilbert cartoon strip, told USAToday, “Corporate bureaucracy ‘would be top on the list of sucking the life force out of [workers], making them feel helpless.”

Back to the manager I was speaking with. He had sold his company to Forest River a number of years back and at that time had several options. He could start another company, and face all the challenges of a new start-up; he could go to work for another corporation; or he could join Forest River as the manager of the division that had purchased his company. He chose the third option and became a general manager at Forest River, and by doing so he became one of the 335,245 employees of Berkshire Hathaway.

How big is a company that has 335,245 employees? By comparison, Exxon Mobil Corp. has only 75,000 employees.

About Forest River

Forest River itself is no small company. It has close to 6,000 employees that work at 71 manufacturing facilities. Its RV product lines include Forest River RV, Coachman RV, and Shasta RV; its boat division includes Berkshire Pontoons and Southbay Pontoons; and its bus division includes Glaval Bus, Elkhart Coach, and Starcraft Bus. In addition to RVs, boat and buses, the company also manufactures mobile offices, manufactured housing, park trailers and cargo trailers.

All combined, Forest River produced $3.3 billion in revenues in 2013, which was up 24% from 2012.

Back again to the manager who didn’t want to work for a big corporation. Over the time I have known him he has consistently described the operating climate at Forest River as anything but bureaucratic. It has more the entrepreneurial spirit of a smaller company. It’s a spirit that comes from the company head Peter Liegl.

Warren Buffett on Peter Liegl

Peter Liegl founded Forest River in 1996 and stayed on as its president when Berkshire Hathaway acquired it in 2005. In Berkshire’s 2005 Annual Report, Warren Buffett described Liegl.

“Pete is a remarkable entrepreneur. Some years back, he sold his business, then far smaller than today, to an LBO operator who promptly began telling him how to run the place. Before long, Pete left, and the business soon sunk into bankruptcy. Pete then repurchased it. You can be sure that I won’t be telling Pete how to manage his operation.”

Buffett has lived up to his word, keeping a hands-off approach to Forest River. At the 2014 annual meeting he noted that he had only called Liegl “three or four times over the past decade.”

Hands-Off Approach

Buffett’s hands-off approach is what has separated Berkshire Hathaway from the typical conglomerate’s top-down management structure. It is what has enabled Peter Leigel to grow Forest River through an entrepreneurial style that values and retains top managers.

And it is what has enabled one of Forest River’s managers to say proudly “I don’t want to work for a big corporation!”

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results

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See's Candies Special Report

Special Report: See’s Candies: Eastward Ho!

(BRK.A), (BRK.B)

If you are reading this on July 20th, it is National Lollypop Day and you can get a free lollypop at your local See’s Candies store.

If you are a Berkshire Hathaway shareholder, you can get something sweet every day from See’s Candies, as the wholly owned Berkshire Hathaway company continues to sweeten Berkshire’s bottom line with a steady stream of profits.

Acquired in 1972 for only $25 million, See’s Candies today has over $400 million in annual revenues with just under a quarter of that as profit. That means it annually produces four times its acquisition cost in profit. Pretty sweet.

See’s Candies was founded in 1921 in Los Angeles by Charles and Florence See, using the recipes of Charles’s mother, Mary See. Over almost a century, the porcelain-white stores with the white-and-black checkerboard floors grew to be West Coast candy icons.

Today, the company produces 26 million pounds of candy annually and employs over 6,000 people.

Recent annual revenue growth has been around 4%, and the company is adding 10-12 new stores per year.

Growing Eastward

Currently there are more than 200 company-owned shops in the western half of the U.S., and limited distribution in department stores, along with a handful internationally in Hong Kong, Macau, Taipei, and Tokyo, and pop-up stores for the holidays all across the country. But until recently, the place you couldn’t find a full-fledged store was east of the Mississippi River.

No wonder generations of Easterners have brought home See’s chocolates from their trips to California.

All of that has begun to change as See’s has looked eastward, opening stores in Ohio (in Cincinnati and Columbus) and two stores in Pittsburgh, Pennsylvania in 2013.

Supersizing

The other big change for See’s is in the size of its stores. See’s shops have long been under 1,500 square-feet and have featured a single candy counter. This works fine most of the year, but as some 50 percent of See’s business is during the end-of-year holiday rush (when customers grow impatient with waiting in line), the company is experimenting with supersizing some of its new stores.

November 2013 saw the debut of a double-sized, 3,000-square-foot store in Orange County, California, that featured two candy counters and four cash registers instead of the usual two.

Buffett’s Crystal Ball

The evolution of See’s was long anticipated by Warren Buffett, who believes that a solid business evolves over time even if it is meeting the same need.

In his 1996 Annual Letter he wrote:

“Today, See’s is different in many ways from what it was in 1972 when we bought it: It offers a different assortment of candy, employs different machinery and sells through different distribution channels. But the reasons why people today buy boxed chocolates, and why they buy them from us rather than from someone else, are virtually unchanged from what they were in the 1920s when the See family was building the business. Moreover, these motivations are not likely to change over the next 20 years, or even 50.”

Almost two decades later it’s clear that Buffett was right about the “next 20 years.”

Now it’s on to the next 30.

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.

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BNSF Special Report

Special Report: Will Natural Gas Fuel BNSF’s Future?

(BRK.A), (BRK.B)

The diesel locomotive is one of the most efficient transporters of freight, with decided cost advantages over moving similar goods by truck. According to CSX, moving goods by train is three times more fuel efficient than truck transport, and the Association of American Railroads (AAR) estimates that freight railroads move a ton of freight an average of 476 miles on just one gallon of fuel. Still, despite this advantage, BNSF and other long-haul freight railroads are looking for even greater efficiency and cost savings with the development of locomotives that run not on diesel but on liquefied natural gas.

A Game Changer

The switch to liquefied natural gas would be the biggest change since railroads shifted from steam-powered locomotives to diesel-powered back in the 1950s.

According to the U.S. Department of Transportation, Class 1 railroads, which include BNSF, used a combined 3.6 billion gallons of diesel fuel in 2012. In total the seven Class 1 railroads accounted for 7% of all diesel consumed in the U.S. during 2012.

Of those railroads, Berkshire Hathaway’s BNSF was the single largest consumer, using 1,335,417,552 gallons of diesel at a cost of $4,273,779,000. This almost $4.3 billion in fuel cost was one of BNSF’s primary expenses, representing 29% of BNSF’s total operating expense.

Here Comes Natural Gas

Using liquefied natural gas to power locomotives is hardly a new concept. Burlington Northern tested it in the 1980s, and Union Pacific looked at it again in the 1990s. The difference today is the tremendous domestic natural gas boom that has driven down natural gas prices even as oil prices have neared all-time highs.

In addition, pollution and global warming concerns make liquefied natural gas all the more attractive. Natural gas is the cleanest burning of all fossil fuels, and would not only help railroads meet the EPA’s Tier 4 air emission regulatory standards, but would also significantly reduce CO2 emissions.

Burning natural gas creates far lower amounts of sulfur dioxide and nitrous oxides than burning diesel fuel, and natural gas produces only 117 pounds of CO2 emitted per million BTUs of energy, as compared to a far heftier 161.3 pounds of CO2 for diesel.

Potential for Enormous Savings

While the environmental benefits are compelling, it is the cost savings that has railroads most excited. Natural gas production is booming and prices have dropped to roughly one-third of their 2005 price levels. Goldman Sachs estimates that for the next two decades natural gas will trade in the range of $4 to $5 per million BTUs, down from over $15 in 2005.

In 2012, energy equivalent pricing of Brent Crude oil, which is the global price benchmark for Atlantic basin crude oil, was roughly seven times the Henry Hub natural gas spot price, which is the pricing point for natural gas futures on the New York Mercantile Exchange. And the U.S. Energy Information Administration (EIA) is currently projecting that a substantial gap will continue to exist between oil and natural gas prices through year 2040 and perhaps beyond.

This isn’t about pennies, it’s about dollars. Lots of dollars. At current price levels, BNSF could save as much as $3 billion per year.

Fuel Supply Security

Liquefied natural gas also gives railroads and the U.S. fuel supply security, as it is a purely domestic product unaffected by Middle-East conflict. Currently, two-thirds of diesel fuel is imported. And, while Middle-East oil supplies dwindle, domestic natural gas production is growing.

For example, the 104,000 square-mile Marcellus field, which includes Pennsylvania, West Virginia and southeast Ohio, has seen its output grow by a whopping 10-times in just the past five years.

Cost of Conversion

Diesel locomotives cost roughly $2 million each and the cost of converting a locomotive to liquefied natural gas is approximately an additional $1 million. This cost may drop if liquefied natural gas becomes the standard rather than the exception, but even at current costs the average 20-year lifespan of a locomotive means substantial operating cost savings. BNSF has 6,700 locomotives, so some of Berkshire’s tens of billions in cash could be invested in-house to produce a mountain of cash over the next century.

Additional Hurdles

Besides conversion costs, the two other big hurdles are government regulations and upgrades to fuel delivery infrastructure.

The government has been moving slowly. The Federal Railroad Administration (FRA) is still developing the regulations for liquefied natural gas locomotives, with a particular focus on tender-car safety.

The other hurdle is the need for a new fuel delivery infrastructure to provide liquefied natural gas to train depots.

Neither of these hurdles looks to be prohibitive, as important environmental benefits provide the incentive to craft workable regulations, and railroads previously converted their infrastructures from handling coal to diesel fuel without much problem.

The big question is whether natural gas powered locomotives can really do the work of a diesel locomotive under all conditions. BNSF is working hard to find out. Four natural gas powered locomotives are being tested in high-stress environments, including the California dessert and the cold weather of the northern tier.

Summary

Despite higher initial capital costs, the long-term operating cost savings and environmental benefits of liquefied natural gas locomotives make them the likely kings of the rails well into the next century. BNSF should reap billions in cost saving over that period, which would make Berkshire Hathaway and its shareholders very happy.

(This article has been updated with new information.)

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.

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Dairy Queen Special Report

Special Report: Inside Dairy Queen, Berkshire’s Queen of the Quick-Service Restaurants

(BRK.A), (BRK.B)

For much of the company’s 75-year history, Dairy Queen was a sleepy also-ran that missed out on the explosion of fast food restaurants that began in the 1950s, and became ubiquitous by the 1970s. By that time, McDonald’s and Burger King had become the dominant food purveyors in the Quick-Service Restaurant category (QSR).

In contrast, Dairy Queen served its signature soft-serve ice cream, but it didn’t always place much emphasis on food. It certainly didn’t put a priority on the national promotion of its menu items.

On the plus side, Dairy Queen was one of the first in the QSR category to embrace smoothies, with its 1987 purchase of Orange Julius, and they also own fading popcorn retailer Karmelkorn.

Along Came Berkshire Hathaway

In 1998, Berkshire Hathaway acquired Dairy Queen for $585 million in cash and stock. At the time there were 5,790 locations in the U.S. and internationally.

Today the formerly sleepy ice cream purveyor has found renewed energy and direction. There are more than 6,700 locations in the U.S and Canada, and 28 other countries. 1,495 of the stores are outside the U.S. and Canada, and of the 271 Dairy Queen locations that opened during 2011, some 131 of them were in China. The chain is particularly popular in southern states, with 600+ stores in Texas alone.

Total system wide sales were just under $3 billion in 2014.

McDonald’s, with its 35,000 restaurants in 100 countries, is still the king of the QSR category. According to QSR Magazine, Dairy Queen is ranked #19 on the QSR 50. That puts it behind #18 Little Caesars and ahead of #20 Papa John’s. And, its global sales has it ranked #16, according to Franchise Times. While it may be from the same era as the root beer chain A&W, Dairy Queen’s 6,600 locations make it roughly 6 times larger than A&W’s 1,100 US and international locations.

Dairy Queen’s popularity is more than just a hankering for a taste of nostalgia. It received the #2 ranking in Huffington Post’s “2012 America’s Favorite Fast Food Chains,” while the website declared McDonald’s to be “America’s least favorite.”

A New Strategy

While Dairy Queen’s strength is the heritage of the frozen treat business, the famed “Cone With The Curl On Top,” it now has an increased emphasis on selling food. Dairy Queen wants customers to stay and eat, rather than just get dessert, and a recent national ad campaign touted its $5 Buck Lunch in order to get customers to try its burgers, hot dogs and chicken strips. Upgrades to food quality have been ongoing, and include freshly baked buttered buns and grilling the burgers to order.

There also has been a focus on expanding and updating the menu to reflect changing tastes, and to convince customers it’s not just a seasonal eatery that focuses on summer treats for hot summer nights.

In 2015, Dairy Queen began putting ovens in its stores and debuted its DQ Bakes! menu, which featured nine products across three categories: Hot Desserts à la Mode, Artisan-style Sandwiches and Snack Melts.

The company is also trying to lure customers in at a traditionally slow time of day through a new campaign that focuses on the period between lunch and dinner.

The afternoon-snack daypart is seen by Quick-Service Restaurant experts as one of the major growth opportunities in the category, after competition has heated up for breakfast and late-night business.

DQ’s Efforts are Paying Off

It looks like Dairy Queen’s efforts are paying off. YouGov.com, an internet-based marketing firm that polls thousands of members on a wide variety of issues, is reporting that its YouGov BrandIndex’s is showing positive news for Dairy Queen.

The BrandIndex is billed as a key measurement of potential revenue, and it’s showing an uptick in interest in eating at Dairy Queen for the month of December 2015, as compared to December 2014.

According to their polling, “31% of adults 18 and over who were aware of the brand considered Dairy Queen when making their next fast food purchase. The percentage is now up to 33%.”

The 6% increase in shows that the company is making progress, and what’s more, the 33% is a healthy one, with the “average Purchase Consideration score for the fast food dining sector overall is 22%.”

Dairy Queen Grill & Chill

Dairy Queen has had a number of branding efforts over the decades to give the chain a consistent look and customer experience. In the 1970s, the company launched the Dairy Queen Braziers motif. Today the emphasis is the DQ Grill & Chill concept, which features separate “grill” and “chill” areas, warm lighting, HD televisions, and free Wi-Fi, and it is working with its franchisees to not only build DQ Grill & Chills, but to convert the older Brazier restaurants to DQ Grill & Chills.

There are currently 500 U.S. remodels in the works, with upgrade commitments from 1,100 more. In addition to stand alone stores, Dairy Queen is also proving a good fit for the gas station convenience store business where it serves to draw in customers that otherwise just pay at the pump and skip higher profit margin in-store purchases.

A Dozen Target Markets Nationwide

Dairy Queen has announced that it would be opening hundreds of new locations in Louisiana, Massachusetts and South Carolina, as well as several hundred in Northern California. The company will also be adding 30-35 locations in Chicago.

“We have about a dozen targeted markets throughout the United States. Louisiana is one of the primary ones because of the demand for the combination of the food menu and the treat menu items,” said Jim Kerr, International Dairy Queen Inc.’s VP of Franchise Development.

It’s About Making Money

Why should a potential operator choose to go with the Dairy Queen system? “Because he’s going to make money!” explains Dairy Queen’s president and CEO John Gainor says with a smile.

Dairy Queen is a popular franchise in the QSR category. Its franchise fee and liquid cash requirements are both significantly lower than McDonald’s. To build a prototypical Core 72 location runs $1,030,000 to $1,430,000 for construction and equipment. Most importantly, Dairy Queen’s low SBA loan-failure rate made it one of CNN Money’s 10 Great Franchise Bets for 2011. It was one of only two restaurant chains that made the top ten list, the other being Little Caesars Pizza. Dairy Queen was also ranked #1 in Entrepreneur Magazine’s 2012 Top 500 Ice Cream & Frozen Dessert Category.

Overseas Growth

While U.S. and Canada locations have remained stable, it is overseas where growth is exploding. Between 2011 and 2015 the number of locations expanded over 66-percent from 871 locations to 1,495 locations.

The focus is on emerging market countries, and you can find a Dairy Queen in Gabon, Guyana, Cambodia, Laos, and South Korea, Vietnam, among others.

South Korea is an important growth area for Dairy Queen, with its first Grill & Chill debuting in in Seoul’s theater neighborhood of Daehangnoat at the end of 2017. Over the next five years, Dairy Queen is planning to open 50 locations, including in Hongdae, Gangnam and Itaewon.

In Europe the focus is on Poland and nearby countries. It is avoiding France and other developed European markets where the competition is greater.

“This move is strategic. We are entering the Eastern European market at a time when Western brands are being embraced by a consumer base that is well informed on the importance of global brands,” Dairy Queen’s Jean Champagne, Chief Operations Officer — International Groups explains. “We look forward to working with a strong franchise partner in Poland. We see this as a launching pad for other contiguous countries in the region.”

Caribbean Growth is also in the works. Dairy Queen has announced it will open a total of 24 locations within the next five years in five countries in the Caribbean.

Plans call for the development of DQ Grill & Chill locations in Trinidad and Tobago, DQ Grill & Chill and DQ Treat locations in Jamaica, and DQ Treat locations in St. Lucia, Grenada and St. Maarten.

Currently, there are eight DQ Treat locations in Trinidad, the first of which opened in 2012.

A Hot Brand in The Middle East

The largest DQ Grill & Chill restaurant in the world is in Saudi Arabia, and its quickly becoming a familiar brand throughout the Middle East, including Bahrain, Brunei, Dubai, Egypt, Oman, Qatar, and Saudi Arabia. Jordan, Kuwait, and the United Arab Emirates were added in 2015.

Dairy Queen doesn’t want to do this expansion piece meal, and is looking for franchisees with the strength to take on whole countries.

The China market for Dairy Queen began in 1991, with the first location in Beijing. In 2012, Dairy Queen reached its 500th restaurant in China, and today it has over 600 locations.

I’ll Take Manhattan

U.S. growth is mostly focused on the South and South-East. However, in May 2014 the company launched the first two-story DQ Grill & Chill in the U. S. on 14th Street in Manhattan. The opening generated a wave of press aimed at New Yorkers nostalgic for its popular mix-in treat known as the Blizzard, and additional DQ Grill & Chills are now open in Queens, the Bronx, and at the Staten Island Ferry Terminal on Staten Island. Other 2014 expansion included stores in Phoenix and Tucson, Arizona; Levittown and Watertown, New York; Houston and Fort Worth, Texas; and former NFL quarterback Jeff George opened a store in Westfield, Indiana.

Expanding Advertising

With an increased emphasis on promoting its food, Dairy Queen is looking to expand its national advertising, which has been running March through October. Now, the company want to advertise year-round.

Texas, with its over 600 locations, even has its own stand-alone marketing campaign that is run by the Texas Dairy Queen Operators Council. The Council runs its own TV spots and ad campaigns that brand the DQ logo as the “Texas Stop Sign,” and support marketing of special Texas-only menu items such as the Jalitos Ranch Hunger-Buster.

Dairy Queen’s also upgrading its national advertising, and in May of 2015 it launched its first movie tie-in in 20 years with a cross-promotional campaign tied to the blockbuster Jurassic World.

Revamping the Menu, Getting Healthier

In keeping with its increasing emphasis on food, on June 22, 2015, Dairy Queen’s actual 75th anniversary, the company introduced its DQ Bakes!™ menu with nine products across three categories: Hot Desserts à la Mode, Artisan-style Sandwiches and Snack Melts. DQ locations across the U.S (excluding Texas) installed ovens to make the new menu items.

The company introduced funnel cakes, a fried batter staple of fairs and carnivals, into the menu in 2016.

Gainor points out that the funnel cakes fit right in with the “fan food” customer experience that Dairy Queen is known for. It’s a loyalty that gave the company 10,472,082 likes on Facebook.

“A lot of our consumer research focuses on the emotional connection that you take out of the store,” Gainor explains.

Dairy Queen also set a date of September 2015 for getting soda out of its children’s menu, which already offers a choice of a carbonated beverage, Arctic Rush slushy drink, or milk.

The move comes as quick-serve restaurants are under increasing pressure to reduce the fat and sugar content of menu items marketed to children.

On the plus side (not the plus-size), Dairy Queen already offers the choice of a banana or applesauce in place of French fries, and it already markets a Kids Live Well Menu that features a chicken wrap, a banana, and a bottle of water. The meal omits a frozen dessert.

The Kids Live Well program is an initiative of the Nation Restaurant Association, and is a voluntary industry program that now has over 42,000 participating restaurant locations committed to “providing families with a growing selection of healthful children’s menu choices when dining out.”

Billions for Berkshire

Dairy Queen’s U.S. revenues in 2014 were $2.985 billion, according to QSR Magazine. The company produces this huge revenue stream almost entirely from franchises.

Each franchise pays a $35,000 franchise fee, a royalty fee of 4%, and a marketing fee of 5% – 6%. In the aggregate the franchises net Berkshire hundreds of millions a year on its investment of only $585 million.

Low Capital Costs

This huge revenue generator for Berkshire comes without the capital costs of a chain such as Chipotle Mexican Grill, which owns all of its 1,600+ stores. In contrast, Dairy Queen operates only 3 company-owned restaurants, as compared to the roughly 20% of McDonald’s locations that are company-owned.

Reducing the number of corporate owned locations was a big part of Burger King’s turnaround when 3G Capital’s partner Daniel Schwartz took the helm as the Chief Executive Officer and a Director of the company. He quickly put the Burger Kings where they belonged, in the hands of more motivated franchisees.

McDonald’s is planning to sell off half of its company owned locations, and Wendy’s also announced plans to sell 640 restaurants in the U.S. and Canada to franchisees in a move that would “significantly reduce future capital expenditure requirements.”

Fortunately for Berkshire Hathaway’s Dairy Queen System, they already knew that franchisees are highly motivated, hard-working people motivated by the ultimate incentive, ownership.

76 Years and Growing

According to Gainor, Dairy Queen’s internal strategic plan, DQ 2020, focuses squarely on its customers, which it refers to as “fans,” due to their high brand loyalty. He notes that it is Dairy Queen’s “great value and product that creates the demand.”

With its high consumer loyalty and brand awareness, (they boast 95% consumer brand recognition and 4.3 million loyal Blizzard fan club members), Dairy Queen has proved to be a versatile fit for airports, highway travel plazas, military bases and university campuses, in addition to stand-alone locations.

Last but not least, Dairy Queen has long been known for stability. While other restaurants have come and gone, (anyone been to a Chi-Chi’s or ShowBiz Pizza Place lately?), Dairy Queen has a tried-and-true formula that works. Franchisees seek it out, and lenders feel more confident knowing that Berkshire Hathaway is behind scenes.

(Portions of this report have been revised with new information.)

© 2014-2016 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.

Categories
Acquisitions Marmon Group Special Report

Special Report: Cornelius Acquisition Makes Berkshire Hathaway the World Leader in Beverage Dispensing

(BRK.A), (BRK.B)

Berkshire Hathaway has leapt to the forefront of the beverage dispensing business with the acquisition of Cornelius, Inc.

Cornelius manufactures a complete line of beverage dispensers that are used by leading food service and retail companies, including PepsiCo, Coca Cola, McDonald’s, Yum, Starbucks, and Burger King.

On January 2, 2014, Berkshire Hathaway’s wholly owned Marmon Group closed on the $1.1 billion acquisition of Cornelius, acquiring the company from Birmingham, England-based IMI plc (LON: IMI).

Founded by Richard Cornelius in 1931 in the basement of his Minneapolis home, Cornelius began by making the first diaphragm- type compressor for dispensing beer. Today, the company is headquartered in Osseo, Minnesota, and is the world’s leading supplier of beverage dispensing and cooling equipment.

Cornelius has 4,500 employees, with manufacturing facilities in seven countries, spanning North America, Europe, and China.

Berkshire and Marmon

In 2007, Berkshire Hathaway acquired 60% of Marmon Group for $4.5 billion from the Pritzker Family of Chicago. At the time, Marmon was made up of 125 manufacturing and service businesses that all operated independently within diverse business sectors.

Berkshire has gradually increased its stake in Marmon even as Marmon has grown, and in 2013 it bought the remaining 20% share owned by the Pritzker Family.

Today, Marmon Group has 160 independent manufacturing and service businesses and employs 17,000 people worldwide.

Marmon’s Revenue Growth

According to the 2013 Berkshire Hathaway Annual Report, “Marmon’s consolidated revenues in 2012 were $7.2 billion, an increase of 3.6% over 2011. Consolidated pre-tax earnings were $1.1 billion in 2012, an increase of 14.6% over 2011. In 2012 pre-tax earnings as a percentage of revenues were 15.9% compared to 14.3% in 2011.”

What does the future hold?

The acquisition of Cornelius is all part of the Marmon Group’s continued growth of its Marmon Food Service Equipment businesses, which include Prince Castle, a manufacturer of hot food holding bins, and Silver King, a maker of cold food storage units.

Berkshire and Food Service

One thing is clear, if you are in the fast food business, you are likely dealing with at least one Berkshire holding.

As IMI chief executive Martin Lamb told Bloomberg News “Marmon are in this space, they are buying it to build it, rather than make cuts.”

That buy-hold-build strategy is the heart of the Berkshire Hathaway philosophy.

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.

Categories
BH Media Special Report

Special Report: Berkshire Hathaway’s BH Media Finds Multiples Success

(BRK.A), (BRK.B)

Before the dawn of the Internet, newspapers were media cash-cows that produced strong, reliable revenue streams from display advertising and classified advertising. They became hot items, and throughout the 1990s they sold at high multiples. For example, the 1993 sale of the Boston Globe to the New York Times Company went for $1.1 billion.

In more recent years, newspapers have been known for declining readerships, and being burdened with high levels of debt.

When the cash-strapped New York Times decided to unload the Boston Globe, it sold for only $70 million–a 93% loss.

Going in the Exit

While everyone has been declaring the death of the American newspaper and running for the exits, one company, Berkshire Hathaway, has been running in the door.

Berkshire’s BH Media Group has assembled a growing empire of 69 newspapers and other publications located in the states of Virginia, North Carolina, South Carolina, Alabama, Florida, Texas, Iowa, Nebraska, Oklahoma and New Jersey.

Warren Buffett has long been a fan of newspapers, all the way back to his 1977 purchase of the Evening News, which serves Buffalo, New York. And, Berkshire had long owned a major share of the Washington Post.

But that was then. Are they still good business today?

EBITDA Comes Down to Earth

The magic word in the newspaper acquisition business is “multiple.” The multiple under consideration is the multiple of annual earnings before interest, taxes, depreciation, and amortization (EBITDA).

In BH Media Group’s case, the great news is that it’s paying reasonable multiples that are within the 4-5 EBITDA range.

Just under a decade ago in 2005, Lee Enterprises bought Pulitzer Inc. for 13 times EBITDA in a deal worth $1.46 billion. In contrast, Berkshire Hathaway spent a mere $143 million in acquiring 60 newspapers from Media General. And, unlike the newspaper empires of the 1990s, BH Media Group’s papers have no debt.

BH Media Group’s Evolving Strategy

BH Media Group originally set its sights on small markets, believing they presented the opportunity for a still healthy business model presenting local interest news that is hard to get from other sources. However, it has seen that larger markets have held up well in both circulation and advertising revenue.

For example, The Richmond Times-Dispatch in Richmond, Virginia, has a daily circulation of 102,258 and serves a population in the Metropolitan Statistical Area (MSA) of 1,231,980. Similarly, the Tulsa World in Tulsa, Oklahoma, has a daily circulation of 88,601 and serves an MSA population of 951,880. Papers in even smaller markets like Winston-Salem, North Carolina, and Roanoke, Virginia still reach sizable populations. The Roanoke Times, for example, has a daily circulation of 64,631, and serves an MSA population of over 312,000.

While print circulation may be fading, digital platforms are playing an ever larger role. For example, the Winston-Salem Journal, which has a daily circulation of 50,090 and serves an MSA population of 647,697, has 3 million page views per month.

Capturing Digital Revenues

Digital revenues come from a combination of online subscribers and online advertising. All the BH Media Group publications use a limited free access paywall system. Readers have proven willing to pay to get unlimited access to in-depth information about their local market. Some articles are available for free, but the number of free articles available per month varies by market depending on competition. BH Media Group is able to reduce the number of free articles in markets where the publications have no competitors.

Sharing Reporting Resources

BH Media Group doesn’t have a national news gathering operation, preferring to use the Associated Press. It knows that today’s reader is gathering national and international news from myriad outlets. Instead, it focuses on in its strength–local and regional reporting–where its reporters can gather far more stories than the local TV or radio stations.

In a market such as Winston-Salem, the Winston-Salem Journal has a newsgathering staff of 50, as compared to the 9 reporters at a local TV station. It’s in regional reporting that BH Media Group finds additional synergies. For example, its 30 print media properties in Virginia all have access to articles created by the collective BH Media Group publications, and can share reportage on state government and other state-wide issues.

Eliminating Crushing Debt Pressure

Over the past decade, newspapers have spent much of their time on debt relief, much of it through cost cutting through staffing cuts that have diminished their newsgathering ability. With Berkshire Hathaway’s deep pockets, BH Media Group’s papers all operate debt free, freeing them up to concentrate on being the most effective media outlets in their markets.

Growth Strategies

As for the future, BH Media Group continues to look aggressively for additional print media properties. It shuns the major markets, with Buffett having shown no interest in bidding for the Washington Post, which went to Amazon’s Jeff Bezos for $250 million in the fall of 2013. Instead, BH Media Group prefers to pick off the smaller markets that collectively having millions of readers and millions in revenues.

Warren Buffett is known for his patience. He is also known for growing his positions over time, and it wouldn’t be surprising if in another decade BH Media Group is the king of regional print media all over the U.S.

All purchased at reasonable multiples.

© 2014 David Mazor

Disclosure: David Mazor is a freelance writer focusing on Berkshire Hathaway. The author is long in Berkshire Hathaway, and this article is not a recommendation on whether to buy or sell the stock. The information contained in this article should not be construed as personalized or individualized investment advice. Past performance is no guarantee of future results.