Dig In! Restaurant Brands International

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Business Description

Company: Restaurant Brands International Inc (NYSE: QSR), is the third world’s largest companies within Quick Service Restaurants totalling over 18,000 stores.  The company released an IPO in December 2014.  In addition to Burger King Worldwide, Restaurant Brands International also owns Canadian fast food and coffee chain Tim Hortons, which operates mainly in North America in 4,590 store locations.  The merger and IPO were created in order to provide financial backing for both companies, as well as promote the Tim Hortons brand within more international locations, with the main objective to obtain world wide brands recognition.  Both companies have been of service within communities for over 50 years.

Restaurant Brand International virtually 100% franchised system and zero- based budgeting contributes to industry- leading margin.

Tim Hortons: Retail sales at Company owned restaurants with premium coffee, fruit smoothies, donuts, grilled Panini and classic sandwiches, wraps and soups , distribution sales exclusive to Tim Hortons franchisees represents 22.8% of the company with 4,492 locations in Canada and the U.S. Surprisingly, Tim Hortons revenue contributes with $789.9 Million (73.4%) of the total revenue.

Burger King: Retail sales at Company owned restaurants with burgers, chicken, salads, veggies, breakfast, sides and sweets representing 77.2% of the company with 15,243 locations worldwide. Burger King Sales, only contributes with $285.8 Million (26.6%) of the total revenue, which is curious taking into account the amount of locations that Burger King owns worldwide.

 

  Highlights

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Jorge Paulo Lemann, Warren Buffett and Bill Ackman: All three successful investors have a continued footprint in the company, adding capital alongside the 84.1% of the stock held by institutions and mutual fund holders. Brazilian investor Jorge Paulo Lemann has a proven success history with companies such as AB-Inbev, Kraft-Heinz and Burger King Worldwide. The strong management of the corporation and its aggressive culture will likely lead Restaurant Brands International to further expansion in more international demographics.

Possibility of New Brands Being Added to the Portfolio: Jorge Paulo Lemann has a strong background dealing with larger mergers and acquisitions. He coordinated mergers such as Kraft with Heinz, AB-Inbev with Sab Miller and Burger King with Tim Hortons.  There are strong possibilities of future expansion within the quick service restaurant industry.

Global Expansion of Tim Hortons and Continued Market Penetration of Burger King: Tim Hortons is mainly located in North America. The acquisition will continue to give Tim Hortons access to Burger King’s strong master joint franchisees internationally and assist with its market infiltration. Burger King had tremendous growth in various countries, and a main focus of Tim Hortons is to take advantage of prosperous partnerships and continue to build abroad. Under this initiative, Restaurant Brand International has just announced that they are planning to expand to Mexico and the U.K. creating a great business opportunity – by expanding the brand worldwide—but also a threat taking in consideration the current political and social events between these two countries and the U.S.


Investment Rationale
Management Delivers on Promises:
Dan Schwartz, coming from a 3G capital background and philosophy, believes in cutting costs and international expansion within the market. QSR has continually produced a surprise earnings of 6% or more for the last four quarters while also cutting down on debt.  Recent expansions include newly announced ventures in the Philippines, Mexico and the U.K.;

Stock Valuation: Due to their successful management, likely addition of new brands into the portfolio, and potential opportunities for further international market share penetration with both brands, we estimate that Restaurant Brands International is undervalued by 8.60% with a fair value of $55.84.  The total return suggests that it is an attractive buy.

The Roland George Investments Program invested in Restaurants Brand International because of the stock’s strong financial support and backing by Jorge Paulo Lemann, 3G capital, and Warren Buffett.  The company also had a high probability of acquiring new brands to the portfolio.  Furthermore, QSR has strong growth drivers and has been highly successful in product development.  The following reasons summarize why Roland George found QSR as a positive investment:

Jorge Paulo Lemann Success: Jorge Paulo Lemann and 3G Capital had tremendous success with previous purchases of Brazilian Brewery AB Inbev, Heinz, and Burger King. Mr. Warren Buffett’s conglomerate, Berkshire Hathaway, is helped finance Burger King Worldwide’s $11.4 billion takeover of the Canadian restaurant chain Tim Hortons by buying $3 billion of preferred shares in the new company. Mr. Buffett described 3G as “marvelous partners” and said, “They’re very smart, they’re very focused. They’re very determined. They’re never satisfied.” Jorge Paul Lemann took Burger King private in 2010, buying the then slow-growing fast food chain for a modest $3.3 billion and two years later under Lemann’s control, it returned to the public markets, at a valuation of around $5 billion. Burger King’s same-store sales rose in 2013 and 2014, and its earnings per share steadily increased as it added additional restaurants. By the time it announced plans to buy Tim Hortons; the stock had doubled from its IPO.

Highly Likely Acquisitions of New Brands into Portfolio: Technically, a burger chain and coffee shop satisfy the use of the word “brands,” but the name seems to call out for more. 3G, Restaurant Brands’ controlling shareholder, has a history of building conglomerates such as Anheuser-Busch InBev, and it could be about to do so again. In December 2014, during a Bloomberg interview, when hedge fund manager Bill Ackman who is also a top Restaurant Brands shareholder, was asked by a reporter, “Is Restaurant Brands International looking to further expand is portfolio in the food industry?” Ackman replied, “Restaurant Brands International, the name itself suggests growth” noting that Restaurant Brands may be on the hunt for additional takeover targets.

Master Franchise Joint Venture Strategy will accelerate Tim Hortons International Growth: The strategy involved sharing the rights to create Burger Kings with partners in different parts of the world. The master joint venture partners control the supply chain, procurement and marketing for franchisees in their regions. Restaurant Brands International receives a meaningful minority stake in each joint venture. Such deals have allowed Burger King to expand from 102 restaurants in Brazil in 2010 to 317 in 2013. In China and Russia, the growth rate of new restaurants has been even greater. The partnership with well-capitalized and strong local management teams has expedited the international development of the brand. Burger King’s partners are willing to make substantial upfront equity commitments and agree to aggressive development targets.  The international approach will help Tim Horton’s in its quest for international development. Recent expansions within the U.K and Philippines also have been announced.

Successful Product Development: In 2014, the Burger King brand adopted a new strategy of launching fewer, more impactful products to simplify in-restaurant operations and reduce waste, focus the innovation pipeline and spend media dollars more wisely in a few high-impact areas. Burger King’s comparable sales rose 6.7%, the most in nearly a decade, helped by the launch of items such as extra-long pulled pork sandwiches and mozzarella bacon cheeseburgers as well as the re-launch of chicken fries. The customers asked for the return of chicken fries via social media and sales rose after its return. At Tim Hortons’ locations, same-store sales were up 5.55% due to success of new products like Nutella-filled donuts and an ice-cold chocolate beverage along with the continued success of its dark roast coffee.

Recent Performance

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Over the last 12 months, Restaurant Brands International has gained 63.23% compared to the S&P 500 increase of 23.72% and the industry 22.33%. As we can see, Restaurant Brand International has outperformed both indexes, S&P and Industry, giving us a positive perspective about the future of the stock, and a strong reason why we should hold to it.  The following events affected the stock’s performance over this time period.

Dividends Announced and New Products: This was the first time dividends were announced, starting at $.1. Also, the company released a strong earnings report. Same stores sales grew 6.2% due to innovated products like the fiery chicken fries and premium breakfast wraps.

Tough Times Across Industry: The earnings release in February still came out at a 19.05% surprise.

The overall market was reacting to the possibility of a recession, with the S&P 500 dropping to -4.15%.

Restaurant stocks across the sector dropped to average around -8%.  Across the market there was an extreme

amount of selling due to investor’s fearing declining economic conditions.

Surprise Earnings Returns Confidence: The end of April marked another strong earnings release for

the company with a surprise of 38.25%.  Dividends went up to $.16, increasing faith among shareholders.  This was also after the implementing of BK hot dogs, which have been a solid success among franchises.

Management’s Deliverance of Promises: The third quarter has been successful for QSR. The stock

has grown 17.49% in the third quarter alone.  Investors are pleased with management’s deliverance on

promises to cut costs and continued international expansion.  In July and August, joint ventures were announced within the Philippines and the U.K.  Both mark new emerging middle class markets, an ability that competitors continue to fall short in. On the same platform, the first two months of 2017 have followed management initiative for expansion after they released their intention of opening Tim Horton’s in Mexico, news that affected the stock performance in a positive way, helping QSR to outperform S&P and XLY by 39.51% and 40.9% respectively. On top of that, the company managed to outperform their EPS estimates on the first three quarters with the expectation that the fourth quarter follows the same path.

Financial Analysis

 Top Line Growth: In the past year, top line growth of QSR, was largely attributed to growth in same store sales due to product developments and effective marketing and also the addition of new franchisee relationships increasing the amount of restaurants within both brands. In 2015, revenue grew by 13.41% and there is still potential growth since McDonald’s has 88.11% more restaurants than Restaurant Brands. McDonald’s has an image of being saturated in the industry; on the other hand, Restaurant Brands remains novelty in many countries. The globalization efforts being prioritize will likely increase the scope and revenue of the corporation. On top of that, Restaurant Brand management is planning to invest $300,000 to $350,000 investment to remodel Burger King Restaurants in the U.S. and Canada, something that might boost sales in a 10 to 14% for each store, increasing revenues.

Bottom Line Growth: FY 14 marked a basic GAAP earnings per share that showed negative earnings

within the first two quarters after the IPO in Q4 2014 due to the large acquisition of Tim Hortons. The

repayment of debt will decrease the amount of interest payed and will lead to higher EPS growth. The

management of Restaurant Brands has an image of being diligent with costs and bottom line growth. Burger

King’s (BKW) earnings per share grew an impressive 94.12% from Fiscal Year 2012 to Fiscal Year 2013.

The increase in value and aggressive management led to the purchase of Tim Hortons. Since 3G Capital step

up in 2014, the company has engage on meaningful improvements in franchisee relations and fundamentals

across the Burger King system through a simplified menu and aggressive operating cost cuts. Restaurant

Brand is planning to apply the same franchise model to Tim Hortons, expecting to see similar improvements

as they have experienced with Burger King, leading an increase on revenues due to button line

improvements. On the down side, the current appreciation of the Dollar could directly affect the button line

growth due to an increase in operational costs.

Debt Obligations: Burger King Worldwide Inc. acquired Tim Hortons Inc. for about C$12.5 billion or $11.4 billion. With the purchase of Tim Hortons, interest is tax-deductible, so what that will mean is it will substantially reduce the profits of Tim Hortons and Burger King and therefore significantly reduce the amount of tax money being payed. Berkshire Hathaway has committed $3 billion of preferred equity financing and earns 9% annual interest on its investment. The extinguishment of debt is impacting the amount paid on interest expenses and its increasing the shareholder return. This accelerated pay off will increase cash flow in the long run and increase the ability for new takeover targets. Another possible option for a higher franchise growth would be to sell Tim Hortons’ distribution and manufacturing centers to a third party. If Restaurant Brands decide to take action with this approach, it would decrease the debt owed and interest paid along with the possibility for faster international expansion and higher franchisee returns. It would increase the profit margins due to less cost of revenue expenses. However, it is not probable that Restaurant Brand will proceed to sell Tim Hortons’ distribution and manufacturing centers to a third party, having in consideration the success that they have had with Burger King and the zero-based budgeting process, which requires total control of certain functions of the franchisees, being distribution one of them. By giving up on this, the company might become less productive, increasing their operating cost, and thus, affecting their button line cost.

Impact in Trading: The QSR Stock is also being traded in the Toronto Stock Exchange (TSX), under the ticker QSR.TO. The same corporation is being traded on two different countries trading platforms. This year the stock has moved in relatively the same pattern.  The currency exchange between the Canadian dollar and U.S. dollar has remained very stagnant over the past year with the Canadian dollar appreciating slightly from .75 to .76 per USD. The way to hedge the risk of currency movement is invest parallel in the ETF Canadian Dollar which will hedge against the FX impact. Nonetheless, Restaurant Brand International will face a new trade challenge with their intention of expanding Tim Hortons to Mexico and the U.K. Factors such as the troublesome relationship between the U.S. government and these two countries – especially with Mexico— and the recent decision of the U.S to sign off the TPP agreement could negatively affect the company and their intentions of expansion. On top of that, the appreciation of the Dollar could seriously affect the performance of the international location of the company that represents 46.55% of their total revenue. Regardless of these two factors, I predict that the company will maintain their growth because, it will take at least six months until the appreciation of the Dollar fully affect the company’s prices. Furthermore, the size of the company and its ability to use economies of scale, plus the highly productive and successful marketing campaign – price war against their main competitive—gives confidence to investors that the company will perform as well as they have been doing recently.

  Industry and Peer Group Overview

Globally, fast food generates revenue of over $570 billion, which is bigger than the gross domestic product of many countries. In the United States revenue was a $200 billion in 2015 which demonstrates a lot of growth since the 1970 revenue of $6 billion. The industry is expected to have an annual growth of 11% for the next few years. The annual growth is below the long-term average, but it is displaying a comeback from the downturn of the previous years.

There are over 200,000 fast food restaurants in the United States, and research shows that one in four people eat at one of them every single day. The industry employs over 4 million people and counting – restaurant franchises added over 200,000 jobs in 2015. While the food is often highly processed and prepared in an assembly line, these restaurants focus on consistency, affordability, and speed.

Industry Benefits

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The Quick Service Restaurant industry is a growing sector of the food industry in International Markets. The QSR segment has something that no other industry segment has, and that is a hedged risk to the economic cycle. QSR’s are partly defensive so in tough economic times; fine dining and full service restaurants take the biggest hit while QSR’s is doesn’t see as much of an effect.  Also, quick service restaurants can adapt their business model due to their low operating costs.  Tough economic times cause consumers to adjust their spending on discretionary items, including their eating-out habits. The US Government analysis showed that visits to sit-down restaurants declined during and after the 2008-09 recession, while fast food visits were little affected.

The share of the adult population purchasing fast food at a quick service restaurant on a given day stayed fairly constant over 2008-09 at around 14.5%. In contrast, the share of adults visiting a sit-down restaurant once or more on an average day showed a clear decline beginning in early 2008.  In 2008, more than 20% of adults frequented a sit-down restaurant on an average day; in late 2009, just 17.5% did. The sit-down restaurants suffered major losses because of their difficulty in adjusting operating costs due to it being of a more complex nature.

Competitive Positioning

Most Efficient and Explosive Fast Food Operator in the World: Restaurant Brands International will continue to focus on customer service and continuing to cut costs will allow QSR to continue to grow in an ever competing market.  QSR is amongst the highest operating margins in the Fast-Food Restaurant Sector.  In 3G Capital’s culture, the secret to success is zero-based budgeting. It forces operations to be lean, ultimately boosting the bottom line.  Jorge Paulo Lemann and 3G Capital had tremendous success with previous purchases of AB Inbev, Heinz and Burger King. A high operating margin from QSR has allowed for a faster repayment of debt, therefore increasing the profit margin and raising shareholder value.  The most recent data released puts QSR’s ranking up, coming in just around 2% short of key players like McDonalds and outperforming others like Chipotle and Wendy’s.

According to Bloomberg, U.S. fast-food price wars may help the largest chains (McDonald’s, Restaurant Brand International and Yum Brands) since they can source ingredients most cheaply and offer customers the lowest prices. Economies of scale are being the main reason why firms such as Restaurant Brand International has managed to outperform their competitors. Further, the inclusion of products such as the Burger King hot dogs, has increased the same stores sales, at least for the first and second quarter of the year.

 

Lower Taxes by Moving Headquarters to Canada: Even though upper management denied that tax rates were not the main driver of the acquisition, it still displays an intelligent and aggressive approach in cutting costs in order to accelerate growth. According to Bloomberg, Restaurant Brands International has one of the lowest effective tax rate amongst the North American Restaurants Valuation Peer Index. While major competitors such as McDonald’s, Yum! Brands, and Chipotle has an effective tax rate of 33.7%, 33.43% and 38.59%, respectively; Restaurant Brands has only 19.3%. The taxation dollars not spent by paying the U.S government will expedite the amount of debt repaid during the acquisition of Tim Horton’s and the growth rate of both brands. Taxes for U.S. companies can go as high as 40%, which includes federal taxes of 35% along with state and local taxes, according to International Tax Review. Corporate federal taxes in Canada can range from 11% to 15%, and provincial taxes can range from 0% to 16%, according to Deloitte. This gives a range of 11% to 31% for corporate taxes, which is still lower than what a corporate establishment would end up paying in the U.S. However, new economic and political tendencies might drastically change in the U.S. with President Trump in charge. It is well known that he is planning to lower taxes, something that could benefit Restaurant International. Some of the new policies that president Trump is trying to implement might benefit the performance of the company and the industry; in the meantime, Restaurant Brand International surely made a good decision by moving headquarters to Canada where the tax breaks are more benefitial.

Shared Costs to Boost Profitability: Having an already established relationship with various vendors proves to help out the new franchisors significantly. In addition, Restaurant Brands International provides training and guidance to their franchisees when they get into a tough position. This method has helped Restaurant Brands International, and other companies that use the same model, to increase their revenue by establishing franchises with high success rates and decreasing their risk from various market factors.

Restaurant Brands’ almost 100% franchise system requires minimal capital spending, boosting free cash flow. Its priorities for excess cash will be to increase its 16-cent- a – share regular quarterly dividend and repay debt.

Burger King boosted international units by 38% in 2012 to 2015, with an innovative structure that joins local restaurant operators with financing partner’s operators with financing partners, typically private equity, to create a master franchise joint venture.

Successful Partnerships: The leading advantage of using the franchise business model is that they partner with wealthy private equities or individuals and use their capital and time to expand their brand at a faster pace than they could on their own. The profits made from the franchise model helps to perpetuate their model by devoting the profits from the franchises to training more franchisees, marketing, and advertising the ompany’s brand. Burger King offered its U.S. franchisees reduced franchise fees and limited-time royalty and ad-fund rate reductions to encourage faster adoption, which will curb effective royalty rate until 2021. It is expected that the company follows a similar path with Tim Hortons, with the intention that overseas development could boost growth.

Same Store Sales

Outlook: The industry same store sales are positively affected by GDP growth, consumer sentiment growth,

 QSR 1 Yr. Sales

gas price growth, pent up demand, and negatively by interest rates.  We are generally positive about the overall outlook of the industry for the next few years due to healthier economic forecasts, which outweigh the low gas prices and interest rates.  Based on predictions the industry is expected to grow at around 11% over the next couple of years. The decline in the gasoline price is expected to positively benefit lower income consumers the most. Customers of QSRs in the U.S. tend to skew toward lower income; therefore, we expect Burger King to gain its fair share from such a tailwind.

The U.S. Dollar Index increased about 3.6% in 2016 and 9.3% in 2015, pressuring agricultural commodities as they’re priced in dollars. Restaurant industry sales and traffic slowed in calendar 2016. This Boost the chance that restaurant chains may choose to pass food cost savings to their customers to maintain share. The appreciation of the dollar has made that same store sales went down, especially on the last part of the year. By increasing the prices of their raw materials, same store sales have gone down as a reaction to the increase of the cost of production. However, as mentioned before, the economies of scale and the high price discounts (price wars) have minimize the effect of the appreciation of the dollar. I predict that with the renovation of several Burger King locations in the U.S. plus the expansion of Tim Hortons to Mexico and the U.K. sales will boost next year in general.                                                                                                 

Net Restaurant Growth: This approach measures how many restaurant openings subtracted by the closing to arrive at the growth. It allows investors to see how aggressive a brand is expanding in terms of building new company operated restaurants or introducing new franchisee partnerships. From Q2 2015 to Q2 2016, Burger King had a net restaurant growth of 5.9% while McDonald’s trailed behind adding only around 1%. Tim Hortons has also been successful in introducing partnerships and solidifying its growth. It grew an 3.3% over the last year just trailing behind Dunkin Donuts which grew around 4.4%.  With expansions in the works for the Philippines and U.K, restaurants are expected to grow at a larger rate.The BK business is managed in four distinct geographic segments: (1) United States and Canada (“BK – U.S. and Canada”), (2) Europe, the Middle East and Africa (“BK – EMEA”), (3) Latin America and the Caribbean (“BK – LAC”), and (4) Asia Pacific (“BK – APAC”). In each of these regions, Burger King has established several subsidiaries to develop strategic partnerships and alliances to expand into new territories. Alex Behring, 3G capital representative, has done an exceptional job at managing the different sectors. The alliances will support Tim Hortons and make its international transition faster and smoother.

The restaurants are being well accepted within the European population. Same store sales has a YTD growth of 10.7%. Current restaurant counts are 4,149 for this section. The Latin America Division lived up to the expectations within the last couple years. Since this year, same store sales grown at 15.7%.  The well acceptance and increase in traffic also led to new openings.  Finally, another prosperous region is the Asia Pacific segment. This year same stores sales rose by 18.4%. The master franchise in the APAC region, BK AsiaPac Pte Limited, created the single largest international franchise agreement in the company history, a deal to open over 1000 stores in China with a new “super”-franchise headed by the Kurdoglu family of Turkey. Plans to continue growth in the Philippines and the U.K. will yield more results for the company.

Pro Forma Analysis

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A pro-forma income statement was constructed to estimate QSR’s 2016/2017 revenues and earnings per share growth. Estimations were made based on the following:

Revenue: Estimated revenue growth was calculated using a weighted average of historical growth rates, management guidance, industry growth rates, analyst estimates, and student estimates. Revenue growth over the past six quarters has averaged 16.6% year-over-year. Company guidance estimates 2016 revenue of $4.2 billion, representing a growth rate of 4.28%. Analysts estimates from Bloomberg and Thomson Reuters average 2.19% and 5.8% respectively. I estimate revenue growth will begin to slow in 2016 and 2017, putting revenue growth for QSR of 4.27% and 2.56%.

Cost of Revenue: Cost of revenue was estimated based on management guidance and the

company’s historical average over the past six quarters. The cost of revenue has historically averaged

53.54% per quarter. Therefore, average cost of revenue for 2016 and 2017 will be approximately 54%

over the next six quarters.

 

Operating Expense: Operating expenses were estimated using company guidance and the historical

average of percentage of revenue over the past six quarters. The historical average over the past six

quarters has been 14.14% of revenue. Operating expenses tend to be higher in the first quarter, due to

many expansions in the international market as well as a slower demand from consumers.  Sales tend

to pick up around the holiday periods.

Earnings per Share Growth: Earnings per share growth was calculated using the pro forma net

income and basic weighted average shares outstanding estimates. This was done to keep estimates

consistent with those of revenue growth and expected expenses, resulting in an estimated earnings per

share growth rate of 36% for 2016 and 18.54% for 2017.

Valuations

In this section, we estimate the fair values of Restaurant Brands International’s stock.  It should be noted that all input data were derived from historical company data and pro forma estimates.

Sales Franchise Value Model: The Sales Franchise valuation is often used when dealing with companies that are able to produce significant franchise value, i.e. repeating its business model at a higher profit margin.  This model distinguishes between a company’s current profit margin and the margin that can be derived from future opportunities. I used a current sales per share of 9.1%, a current profit margin of 13%, future profit margin of 28%, required rate of return of 10.99% and sales invested capital of $10,571Million.Using this method I reach a fair value of $66.46 with an undervaluation of %25.16 (Appendix 5).

Residual Income Model values securities using a combination of a company’s current book value per share and the present value of expected future residual income. The extra return adds value to the stockholders of the company. In other words the residual income model measures the value added in excess of opportunity cost. In order to run this valuation I used a current book value per share of $4.92, required rate of return of 11%, a growth rate of 9% and an ROE of 32%. Using this valuation I reached to a fair value of $55.84 with an undervaluation of 8.60 %( Appendix 6).

Average Fair Value: Using these two valuation models – Sales Franchise Value and Residual Income Model—I averaged their fair value of $66.46 and $55.84,  to get an average fair value price of $61.15 with an under valuation of 16.88%

Investment Risk

Relationships with MFJV Flourish/Flounder: The ability of the company to grow the brand relies in good part on its ability to convince partners to invest capital to grow the brand and to drive growth and strong businesses at store level on an ongoing basis.

Cyclicality: Although the restaurant industry is consumer cyclical, the quick service industry maintains a slightly defensive position. The quick service restaurants maintain good prices and a vast menu, therefore, they benefit when the economy does well or if it does poorly. However, they also do not perform as well as other companies in their prime business cycles. When the economy is doing well, they are second to the full service restaurants, and when the economy is doing poorly they are the customer primary choice.

Additional Franchises Equal Additional Risk: Because franchises are an integral part of their business model, I expect that Restaurant Brands International will continue to grow more and more with more and more franchise openings. Even though there are programs and training for the new franchisees, there is still the risk of putting the name and brand of Restaurant Brands International into other people’s hands. By relying solely on the franchise growth, the company becomes more susceptible to owners that do not know what they are doing, and could possibly harm the company. As Burger King and Tim Hortons are growing at a rate much faster than many of its competitors, they are taking on more risk.

Market Share Losses, Cost Increases: Losses of market share, particularly in large established markets for the company like the U.S. and Canada, could be detrimental to the market’s view of the stock. However, we believe that the company can mitigate some of this risk with increased diversification.

Key Man/Investor: 3G has developed a reputation as successful investors. Should the company reduce its equity position or influence in managing QSR, it could create uncertainty for QSR’s share price. Warren Buffett/Berkshire Hathaway’s financial backing of the company via $3 billion in preferred shares and equity warrants (since converted to more than 8mm QSR shares) has, in our view, increased the confidence of investors for investing in QSR. Should Berkshire reduce or increase its position in the stock, it could affect the confidence of investors and therefore the share price.

 

Interest Rates/Market Environment Sentiment: The market appears to favor high ROE/ROIC stories in such a low interest rate environment. Furthermore, fund flows is driving interest in consumer staples and discretionary stocks. A change in sentiment could be detrimental to the valuation of a stock like QSR. Also, should interest rates rise, financing costs would increase, which would affect earnings growth and potentially capital decisions for those investing in QSR’s brand growth.

Reasons to Hold

The outstanding performance of the company over the last year is the main reason why I think we should hold this stock. As shown over the paper, Restaurant Brand International has constantly outperform both, the S&P 500 and the Industry, growing at a fast rate over the last year. When we initially purchased the company shares, the stock price was $36.11. Currently, QSR has reached a price of $51.42, being this price the highest ever recorded.

Future growth opportunities are another reason why I think holding QSR is the right thing to do. By expanding Tim Hortons to Mexico and the U.K. the company is adding a considerable value. Tim Hortons represents 77% of the company’s revenue. The expansion could increase revenue by improving their top line business. Furthermore, the zero-base competing strategy and the aggressive marketing campaign has improve the performance of the company for the last six quarters, something that has allowed QSR to outperformed competitors such as Macdonald’s, Starbucks, Subway and Dunking Donuts.

Company’s ability to adapt to the business cycle. What makes Restaurant Brand International special is that it behaves as a defensive stock when the business cycle is bearing. When the economy is doing well, the company does not perform as good as they do when the economy is doing poorly. In other words, they are second to full service restaurant when the economy is doing well, and customer primary choice when the economy is doing poorly.

Restaurant Brand International’s economies of scale are another reason why I think holding is the right thing to do. Over the last year a series of events has decreased the company’s growth. The appreciation of the dollar and a price war against McDonalds could have damaged the company greatly. However, thanks to their economies of scale in production and distribution helped QSR to keep growing and beating their competitors. As a matter of fact, QSR has managed to beat every single competitor in the fast food industry in revenues terms. In other words, Restaurant Brands International has shown up that they can be competitive and outperform their competitor even under difficult situations. That is why I think we should hold.

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