As you may have noticed on the sidebar, I am currently reading You Can Be a Stock Market Genius. This book deals with special situations in the markets such as… Spin-Offs, Mergers, Bankruptcies, Restructurings, Rights Offerings, Risk Arbitrage, Merger Securities, and Recapitalizations. Having read through the "Spin-Off" chapter already, the timing of the IPO of Tim Hortons, currently owned by Wendy's, could not be better.
Founded in 1964, Tim Hortons is an extremely popular coffee chain in Canada. Based on sales, they are the largest quick-service restaurant chain in Canada. Since being acquired by Wendy's in 1995, Tim Hortons Canada has grown from 1,180 outlets to 2,597. Their sales have grown at a compounded annual rate of 17.6% during this same period. These numbers are impressive, but it is extremely important to know that growth has slowed. For fiscal 2005, the companies reported sales of $1.5 Billion, represents a year over year increase of 10.7%, significantly lower than the aforementioned 17.6% top-line growth rate. Excluding charges, the companies fiscal 2005 profit of $191 Million, represents an increase of 9.5% over the previous year. All of these figures reported Tim Hortons are in Canadian dollars.
As mentioned growth has slowed, this is a trend that I see continuing. Because of their already established position in Canada, their growth prospects are limited. Currently, there is about one Tim Hortons for every 11,500 Canadians. That is more than double the ratio of one McDonalds for every 21,700 Americans. There are nearly as many Tim Hortons per Canadian as there is McDonalds, Wendy's, or Burger King combined per American. Given these figures, the market for Tim Hortons in Canada appears to be closing in on saturation. Obviously, this does not bode well for future growth.
With growth prospects lacking in Canada at this point, Tim Hortons will need to expand into the United States. Based on past results of the company's state-side operations, significant growth in the U.S. appears unlikely. Without a strong brand name, increased competition, and higher construction costs; outlets in the states have been much less profitable and willing qualified franchisees have been hard to come by.The target price range for the IPO is currently $18-$20, which would value the company at nearly $4 Billion. Based solely on a price to sales ratio, I feel they are overvalued should their IPO come in at this range (Tim Hortons would have a P/S of about 4 when valuing them at $4 Billion, McDonalds has a P/S of 2.2 for a comparison), especially given their limited growth prospects. Given the recent success of similar IPOs, most notably Chipotle, I see this stock coming in above their target range, further overvaluing them. Chipotle has the growth prospects to warrant a 100% first day jump, Tim Hortons prospects dont warrant much of a jump at all. Based on investor sentiment in this sector though, I believe they will jump.
Taking into account their high price to sales ratio, limited growth potential, and a first day run-up that I am expecting; I would advise you to stay away from this IPO. You Can Be a Stock Market Genius suggests investing in Spin-Offs, given that they historically have outperformed the broad market by about 10%, but only after researching the company thoroughly. From the research that I have done and presented thus far, I don't see Tim Hortons yielding results reminiscient of Spin-Offs as a whole, I actually see them underperforming in the first year following their IPO. As always, put in your own due dilligence, maybe you will find something different then I have. As I see it though, I strongly advise against getting caught up in any hype that may follow Tim Hortons and its stock for the short term. I am predicting that one year from their IPO, Tim Hortons shares will be exchanging hands for less than their first day's closing price.
Originally published in The New Wall Street, a proud member of the Wall Street 2.0 Network.
