Thursday, November 11, 2010

Tim Hortons Stumbles South of the Border.

Tim Horton's is not having all the success it envisioned south of the border. Over the last 20 years, Tim's has opened up 600 stores in the United States. It's primary locations are in Buffalo, Detroit, and Columbus... places where the chain feels that the market is similar to at home here in Canada. But today it is going to start closing 54 locations – 36 restaurants and 18 full-service kiosks. The closures will take place in Connecticut, Rhode Island, and Massachusetts.

The CEO admitted today that the chain "will not work everywhere," something that is clearly not the case in Canada. But in the beginning, the company even struggled to gain traction in Quebec and Western Canada, so investors should not fret.

On the bright side, the company plans to open 300 new U.S. stores over the next three years, and have them profitable in a 3-5 year span. Tim Hortons has grappled with crushing competition in New England, where Dunkin' Donuts is an entrenched brand. Elsewhere, it takes on U.S. fast-food titans McDonald's and Burger King and their frequent coffee giveaways and other promotions. This puts into question how Tims can expand in the U.S. beyond its core base.

The key to expanding in the United States will be sticking to it's core base in Michigan, Ohio, and New York, where the population is high, and the people are quite familiar with Tim Hortons already, and the population largely share a similar culture with us as well. Therefore, 70 per cent of Tim Hortons' U.S. capital investment will focus in existing markets, while the rest will be poured into nearby areas.

Profitability, however, takes time. Especially in the highly competitive U.S. marketplace. In Buffalo, it took 10 to 11 years for the chain's outlets to turn a profit. In Canada, it takes only a little over a year for the addicted Canadian consumers to give the chain enough money to turn a profit.

In its third quarter, the company recorded a $20.9-million accounting charge to reflect the impaired value of its assets. That will be followed by an additional charge of up to $30-million in the fourth quarter. In its third quarter, the company's U.S. segment had an operating loss of $17.5-million. Excluding the charge tied to the store closings, however, it would have reported a $3.4-million operating profit. A far cry from what it makes in Canada, but a profit nonetheless. And with the crowded market that they have created at home, it is essential for the chain to succeed in making it's U.S. stores work.

The question of whether or not this is a stock to own will be told by how the stores perform in the U.S. Currently, the stock is a buy at a lower price, perhaps close to $35, but nearing $40 per share, it is a tad expensive. It is priced as a growth stock, as it is trading at over 20 times earnings, but if the U.S. stores do not succeed, it is not a growth story at all. So watch for a pullback, and then wade into this one. It is a great company, but only at a reasonable price.

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